-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, UhWweC31fFwD5nq0Y83ZYf4ELwhqknGI9TTOGvn95tb3JHjoOTbgOtjFask/T4cY YiBv4PDD3xlDdph9Rhtudg== 0000930661-99-000566.txt : 19990330 0000930661-99-000566.hdr.sgml : 19990330 ACCESSION NUMBER: 0000930661-99-000566 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 8 CONFORMED PERIOD OF REPORT: 19981231 FILED AS OF DATE: 19990329 FILER: COMPANY DATA: COMPANY CONFORMED NAME: EVERCOM INC CENTRAL INDEX KEY: 0001030965 STANDARD INDUSTRIAL CLASSIFICATION: TELEGRAPH & OTHER MESSAGE COMMUNICATIONS [4822] IRS NUMBER: 752680266 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: SEC FILE NUMBER: 333-33639 FILM NUMBER: 99575327 BUSINESS ADDRESS: STREET 1: 8201 TRISTAR DRIVE STREET 2: SUITE 300 CITY: IRVING STATE: TX ZIP: 75063 BUSINESS PHONE: 9729883737 MAIL ADDRESS: STREET 1: 8201 TRISTAR DRIVE CITY: IRVING STATE: TX ZIP: 75063 FORMER COMPANY: FORMER CONFORMED NAME: TALTON HOLDINGS INC DATE OF NAME CHANGE: 19970812 10-K 1 FORM 10-K SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 ________________ FORM 10-K FOR ANNUAL AND TRANSITION REPORTS PURSUANT TO SECTIONS 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 (Mark One) [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended December 31, 1998 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from ____________ to ____________ Commission File Number ______ EVERCOM, INC. - -------------------------------------------------------------------------------- (Exact Name of Registrant as Specified in Its Charter) Delaware 75-2680266 - ------------------------------------------------------------------------------- (State or Other Jurisdiction of (I.R.S. Employer Incorporation or Organization) Identification Number) 8201 Tristar Drive Irving, Texas 75063 - ----------------------------------------------- ----------------------------- (Address of Principal Executive Offices) (Zip Code) Registrant's telephone number, including area code -- 972/988-3737 ------------------- Securities registered pursuant to Section 12(b) of the Act: Title of Each Class Name of Each Exchange on Which Registered - ----------------------------------- ----------------------------------------- 11 % Series B Senior Notes Not Applicable Due June 30, 2007 Securities registered pursuant to Section 12(g) of the Act: None - ------------------------------------------------------------------------------- (Title of Class) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No --- --- Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [ ] Not Applicable. 2 As of December 31, 1998, the market value for the voting and non-voting common equity held by non-affiliates of the registrant was $0. As of March 15, 1999, 15,933 shares of Class A common stock, par value $0.01 per share, were issued and outstanding, and 400 shares of Class B common stock, par value $0.01 per share, were issued and outstanding. DOCUMENTS INCORPORATED BY REFERENCE Exhibits to the following documents filed with the Securities and Exchange Commission have been incorporated by reference in Part IV of this Annual Report on Form 10-K: 1. Registration Statement on Form S-4 (File No. 333-33639); 2. Quarterly Report on Form 10-Q, dated as of August 14, 1998; 3. Quarterly Report on Form 10-Q, dated as of November 16, 1998; and 4. Quarterly Report on Form 10-Q/A, dated as of November 18, 1998. 3 EVERCOM, INC. Table of Contents Form 10-K Report December 31, 1998
Part I Page - ------ Item 1. Business...................................................................................... 5 Item 2. Properties.................................................................................... 13 Item 3. Legal Proceedings............................................................................. 13 Item 4. Submission of Matters to a Vote of Security Holders........................................... 13 Part II - ------- Item 5. Market for Registrant's Common Equity and Related Stockholder Matters......................... 14 Item 6. Selected Financial Data....................................................................... 15 Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations..................................................................... 17 Item 7A. Quantitative and Qualitative Disclosures About Market Risk.................................... 26 Item 8. Financial Statements and Supplementary Data................................................... 27 Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure...................................................................... 84 Part III - -------- Item 10. Directors and Executive Officers of the Registrant............................................ 85 Item 11. Executive Compensation........................................................................ 87 Item 12. Security Ownership of Certain Beneficial Owners and Management................................ 91 Item 13. Certain Relationships and Related Transactions................................................ 92 Part IV - -------- Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K.............................. 94 Signatures.................................................................................................. 98
4 PART I ------ ITEM 1. BUSINESS General Evercom, Inc. (the "Company") is the largest independent provider of collect, prepaid, and debit calling services to local, county, state, and private correctional facilities in the U.S. As of December 31, 1998, the Company served 2,073 correctional facilities in 43 states. The Company's inmate telecommunications business consists of owning, operating, servicing, and maintaining a system of automated operator switches and telephones located in correctional facilities. Generally, inmates may make only collect, prepaid, and debit calls from correctional facilities, which generates revenue per phone line in excess of industry averages for a typical business phone line. The Company generally enters into multi-year agreements with correctional facilities pursuant to which the Company serves as exclusive provider of telecommunications services to inmates within the facility. In exchange for the exclusive service rights, the Company pays a percentage of its revenues from each correctional facility to that facility as a commission. Typically, the Company installs and retains ownership of the telephones and related equipment. Significant costs typically associated with providing telecommunication services to correctional facilities include uncollectible accounts, network, and billing expenses. The Company has developed an integrated call management and billing system to help control these expenses. This system limits inmates to collect, prepaid, or debit calls; validates and evaluates the payment history and account status of each number dialed; confirms that the destination number has not been blocked; and processes call records for billing through a third party. To facilitate billing, the Company has entered into 29 separate agreements with regional bell operating companies ("RBOCs") and local exchange carriers ("LECs"), allowing the Company to bill directly through the RBOCs and LECs rather than utilizing third party billing services. Management believes that direct billing arrangements expedite the billing and collections process and increases collectibility. The Company uses its experience in billing, collection, and control of uncollectible accounts to offer specialized billing and collection services to other inmate telecommunications service providers. In May 1998, the Company entered into a contract with a major RBOC, under which the Company performs all of the validation, billing, and collection services for the RBOC's inmate calls, and began processing call traffic under the contract. Under the terms of the contract, the Company receives call traffic from 428 facilities. In addition, the Company offers call processing services for a major interexchange carrier ("IXC"). The Company continues to pursue additional opportunities to market these services to RBOCs, LECs, IXCs, and other inmate telecommunications providers. The Company was formed in December 1996 to consummate the acquisitions of AmeriTel Pay Phones, Inc. ("AmeriTel") and Talton Telecommunications Corporation and its subsidiary ("Talton Telecommunications"). The Company was formed by Engles Urso Follmer ("EUF") Talton, an affiliate of Engles Urso Follmer Capital Corporation ("EUFCC"), a private investment banking and consulting firm. In addition to the acquisition of its predecessors, AmeriTel and Talton Telecommunications, the Company also acquired the operations of Tri- T, Inc. ("Tataka") on April 2, 1997, Security Telecom Corporation ("STC") on June 27, 1997, Correctional Communications Corporation ("CCC") on July 31, 1997, the inmate payphone division of Communications Central, Inc. ("InVision") on October 6, 1997, the inmate payphone division of North American InTeleCom ("NAI") on December 1, 1997, the inmate payphone division of Peoples Telephone Company ("PTC") on December 18, 1997, the inmate payphone division of ILD Teleservices, Inc. ("ILD") on January 1, 1998, MOG Communications, Inc. ("MOG") on February 1, 1998, and Saratoga Telephone Co. Inc. ("Saratoga") on July 1, 1998 (collectively, the "Acquisitions"). Special Note Regarding Forward-Looking Information Certain statements in this Annual Report on Form 10-K constitute forward-looking statements. These forward-looking statements are all statements that are not statements of historical fact or that might otherwise be considered opinion, belief, or projection. These forward-looking statements involve known and unknown risks, uncertainties, and other factors that may cause the actual results, levels of activity, performance, or achievements of the Company, or industry results, to be materially different from any future results, levels of activity, performance, or achievements expressed or implied by such forward-looking statements. The risks, uncertainties, and other factors to which forward-statements are subject include, among others, those set 5 forth under the caption "Risk Factors" in the Prospectus of the Company dated September 10, 1998, which is available from the Company, from the Securities and Exchange Commission at prescribed rates, and at the web-site www.sec.gov. Such factors include, without limitation, the following: competitors with greater resources; risks associated with uncollectible accounts; risks associated with anticipated growth; risks associated with market growth stagnating or declining; risks related to potential Year 2000 problems; lack of patents and possible infringements; technological change and new services; control by principal shareholders; changes in the telecommunications industry; availability of key personnel; and changes in, or the failure to comply with, governmental regulations. All subsequent written or oral forward-looking statements attributable to the Company or persons acting on its behalf are expressly qualified in their entirety by such factors. In some cases, forward-looking statements can be identified by terminology such as "may," "will," "should," "expects," "plans," "anticipates," "believes," "estimates," "predicts," "potential," or "continue" or the negative of such terms or other comparable terminology. Although the Company believes that the assumptions and expectations reflected in such forward-looking statements are reasonable, as a result of the foregoing and other factors, no assurance can be given as to future results, levels of activity, performance, or achievements, and neither the Company nor any other person assumes responsibility for the accuracy and completeness of such forward-looking statements. All forward-looking statements included in this Annual Report on Form 10-K are based on information available to the Company on the date hereof, and the Company is under no duty to update any of the forward-looking statements after the date hereof. Industry Overview The U.S. has one of the highest incarceration rates of any country in the world. According to U.S. Department of Justice statistics, the number of inmates incarcerated in federal and state prisons and in city and county correctional facilities increased from approximately 1.1 million at June 30, 1990 to approximately 1.8 million at June 30, 1998. Of this total, approximately two-thirds were housed in state and federal prisons, with the remainder in city and county facilities. The statistics also reflect that the number of inmates incarcerated in the U.S. increased by 4.4% between June 1997 and June 1998. The inmate telecommunications industry places unique demands on telecommunications systems and service providers. Security and public safety concerns associated with inmate telephone use require that correctional facilities use call processor technology, which allows the facilities to control inmate access to certain telephone numbers and to monitor inmate telephone activity. In addition, concerns regarding fraud and the called parties' failure to pay for inmate collect calls require systems and procedures unique to this industry. Inmate telephones in the U.S. are operated by a large and diverse group of service providers. Large telecommunications companies such as RBOCs, other LECs, and IXCs such as AT&T Corp. ("AT&T"), MCI WorldCom, and Sprint Corporation provide inmate telecommunications in addition to other services. In addition, independent public pay telephone and inmate telephone companies also focus on this market segment. The Company estimates that, as of December 31, 1998, the inmate telecommunications market represented approximately $1.6 billion in gross revenues annually. Companies compete for the right to serve as the exclusive provider of inmate calling services within a particular correctional facility. Most city or county correctional facilities (typically fewer than 250 beds) award contracts on a facility-by-facility basis, while most state prison systems award contracts on a system-wide basis. Generally, contracts are awarded pursuant to a competitive bidding process. The Company targets the corrections industry by tracking when the telecommunications contracts for significant inmate facilities in the U.S. are up for bid. The Company monitors which federal, state, county, and city contracts are coming up for renewal and how much revenue is expected to be generated by each of those contracts. 6 Operations Contracts The Company has contracts to provide inmate telecommunications services on an exclusive basis to correctional facilities ranging in size from small, municipal jails to large, state-operated facilities, as well as other types of confinement facilities, including juvenile detention centers, private correctional facilities, and halfway houses. The Company's contracts have multi- year terms, and typically contain renewal options. The Company's contracts generally provide for automatic renewal unless terminated by written notice a specified period of time before the end of a contract term. Marketing and Customer Service The Company has historically focused its marketing efforts on local and county correctional facilities. Local and county facilities house inmates for shorter durations than federal and state prisons and generally have higher inmate call volumes. The Company's competitors in bidding for contracts to serve local and county correctional facilities are usually small, regionally focused independent providers. For larger local and county correctional facility contracts, the Company may also compete with the local RBOC. In August 1998, the Company, in a relationship with Public Communications Services, Inc. ("PCS"), was awarded the federal contract for 14 Immigration and Naturalization Service ("INS") facilities, representing approximately 6,640 beds. The Company seeks new contracts by participating in competitive bidding processes and by negotiating directly with correctional facilities. The Company markets its inmate telecommunications services through a sales staff largely made up of former law enforcement officials and others with experience in the corrections and telecommunications industries who understand the specialized needs of correctional facilities. The Company's marketing strategy emphasizes the knowledge, experience, and reputation of the Company in the inmate telecommunications industry, its high level of service, and the additional specialized products and services offered by the Company to its correctional facility customers. In addition to conducting in-person sales calls on the operators of correctional facilities, the Company participates in trade shows and is active in local law enforcement associations. The Company provides and installs the inmate telephone system in each correctional facility at no cost to the operator of the facility and generally performs all maintenance activities. The Company utilizes a geographically dispersed staff of field service technicians and independent telecommunications services contractors, which allows the Company to respond quickly (typically within 24 hours) to service interruptions. In addition, the Company has the ability to make some repairs remotely through electronic communication with the installed equipment without the need of an on-site service call. Products and Services The Company has developed its products and services to meet the needs of the inmate telecommunications market. The Company offers the following products and services as part of its core inmate telecommunications business: . Inmate Collect Call Services. The Company provides collect call services on an exclusive basis to its inmate facility customers during the term of the facility's contract. The majority of calls made by inmates from correctional facilities are collect calls, with the balance of the calls being prepaid and debit card calls. The Company's collect call revenues comprise a majority of the Company's total revenues. . Prepaid and Debit Card Services. The Company also provides both prepaid and debit card services to inmates and called parties. The Company sells debit cards to correctional facilities at a discount to their face value, which facilities in turn sell the cards at face value to inmates at those facilities. Prepaid call services allow the recipient of an inmate call to pay in advance for collect calls placed to the recipient, while debit card services allow inmates to pay in advance for telephone calls placed by that inmate. Both prepaid and debit card services have no associated uncollectible account expenses and minimal billing and collection costs. The Company's prepaid and debit card services revenues comprise a small percentage of the Company's revenues, but these revenues are expected to increase as a percentage of total revenue. 7 . Billing Services. The Company uses its experience in billing and collections and management of uncollectible accounts to offer specialized billing and collection services for other inmate telecommunications service providers. The Company is pursuing opportunities to market these services to RBOCs, LECs, IXCs, and other inmate telecommunications providers. In May 1998, the Company entered into a contract with a major RBOC, under which the Company performs all of the validation, billing, and collection services for the RBOC's inmate calls, and began processing call traffic under this contract. Under the terms of the agreement, the Company acquires at a discount the related accounts receivable from the RBOC for the calls that the Company processes. When the receivables are purchased, the Company accepts responsibility for all validation, uncollectible accounts, billing and collections costs, with no recourse to the RBOC. However, under the terms of the agreement, all purchased receivables must be processed and validated through the Company's call management and billing system. The Company's revenues from this service equal the difference between the face value of the receivables purchased and the amount it pays the RBOC for the discounted accounts receivable. The contract term is three years and has no minimum volume commitment. . Additional Value Added Services. The Company offers value added services on a customized, facility by facility basis. These services include the use of the Company's computer-based specialized law enforcement management system ("LEMS"), which includes jail management, victim notification, and prisoner profile software packages. LEMS is a key selling point for the Company to potential customers and will also be marketed to its existing customers. The Company also offers jail training services that include Company-sponsored training seminars for jail personnel on a variety of topics, including safety and fraud detection. Billing Arrangements The Company uses direct and third party billing agreements to bill and collect phone charges. Under direct billing agreements with LECs, the LEC includes collect call charges for the Company's services on the local telephone bill sent to the called party. The Company generally receives payment from the LEC for such calls 30 to 60 days after the end of the month in which the call is submitted to the LEC for billing. The payment received by the Company is net of a service fee, write-offs of uncollectible accounts, and an estimated reserve for future uncollectible accounts. Unlike many smaller independent service providers with lower telecommunications traffic, the Company has been able to enter into direct billing agreements in most of its markets because of the Company's high market penetration. The Company's increased telecommunications traffic has enabled the Company to enter into 29 direct billing arrangements that enabled the Company to direct bill approximately 89% of its operating revenues in December 1998. Management believes that direct billing agreements expedite the billing and collection process and increase collectibility. In the absence of a direct billing arrangement, the Company bills and collects its fees through a third-party billing and collection clearinghouse that in turn has a billing and collection agreement with the LEC. When the Company employs a third-party billing and collection clearinghouse, the account proceeds are forwarded by the various LECs to the clearinghouse, which then forwards the proceeds to the Company, less a processing fee that varies from 2% to 3% of billed revenues. The Company also has a central billing office that receives all call records and then enters them into the Company's call activity data base. The Company's specialized call management and billing system integrates its direct billing arrangements with LECs with its call blocking, validation, and customer inquiry procedures. Through the use of this system, the Company believes that it has incurred lower levels of expenses associated with uncollectible accounts than its competitors. This system has also provided the Company with the opportunity to market its billing and collection services to third parties. In May 1998 the Company entered into a contract with a major RBOC, under which the Company performs all of the validation, billing, and collection services for inmate call records supplied by the RBOC. In addition, the Company provides call processing services for a major IXC. The Company intends to pursue opportunities to market these systems to third parties such as RBOCs, LECs, IXCs, and other inmate telecommunication providers. 8 Systems The Company currently utilizes a call management and billing system that consists of purchased and internally developed software applications on specialized equipment. This system limits inmates to collect, prepay, or debit calls, validates and verifies the payment history and account status of each number dialed for billing purposes, and confirms that the destination number has not been blocked. The Company also installs its internally developed call management system ("CAM") within new facilities that require special features such as call monitoring and recording capability. The Company's database of telephone numbers and call activity provides valuable data to assist the Company in reducing unbillable and uncollectible accounts and allows the Company to provide extensive call activity reports to correctional facilities and enforcement authorities. These include reports of frequently called numbers, calls of longer than normal duration, and calls by more than one inmate to the same number, which can assist law enforcement authorities in connection with ongoing investigations. Other Operations The Company owns, operates, services, and maintains a system of microprocessor controlled public pay telephones that are ancillary to its inmate telecommunications business, and occasionally installs public pay telephones as an accommodation to, or pursuant to a contract requirement imposed by, its correctional facility customers. Competition In the inmate telecommunications business, the Company competes with numerous independent providers of inmate telephone systems, RBOCs, LECs, and IXCs. Many of the Company's competitors are larger and better capitalized with significantly greater financial resources than the Company. The Company believes that the principal competitive factors in the inmate telecommunications industry are (i) rates of commissions paid to the correctional facilities; (ii) system features and functionality; (iii) system reliability and service; (iv) the ability to customize inmate call processing systems to the specific needs of the particular correctional facility; and (v) relationships with correctional facilities. Inmate telephones in the U.S. are operated by a large and diverse group of service providers. Large telecommunications companies such as RBOCs, other LECs, and IXCs such as AT&T, MCI WorldCom, and Sprint Corporation provide inmate telecommunications in addition to other services. In addition, independent public pay telephone and inmate telephone companies also focus on this market segment. Regulation The inmate telephone industry is regulated at the federal level by the Federal Communications Commission (the "FCC") and at the state level by the public utility commissions of the various states. In addition, from time to time, legislation may be enacted by Congress or the various state legislatures that affects the telecommunications industry generally and the inmate telephone industry specifically. Court decisions interpreting applicable laws and regulations may also have a significant effect on the inmate telephone industry. Changes in existing laws and regulations, as well as the adoption of new laws and regulations applicable to the activities of the Company or other telecommunications business, could have a material adverse effect on the Company. Federal Regulation Prior to 1996, the federal government's role in the regulation of the inmate telephone industry was limited. The enactment of the Telecommunications Act of 1996 (the "Telecom Act"), however, marked a significant change in the scope of 9 federal regulation of inmate telephone service. Section 276 of the Telecom Act directed the FCC to implement rules to overhaul the regulation of the provision of pay telephone service, which Congress defined to include the provision of inmate telephone service. Before adoption of the Telecom Act, LECs generally included inmate telephone operations as part of their regulated local exchange telephone company operations. This allowed the LECs to pool revenue and expenses from their monopoly local exchange operations with revenue and expenses from their inmate telephone operations. This commingling of operations made possible the subsidization of the LECs' inmate operations through other regulated revenues. The LECs were also able to shift certain costs from their inmate operations to their local exchange monopoly accounts. In particular, the LECs were able to pool the bad debt from their inmate operations with their other bad debt. Because inmate telephone providers act as their own carrier, they bear the risk of fraudulent calling and uncollectible calls and other bad debt. Bad debt is substantially higher in the inmate telephone industry than in other segments of the telecommunications industry. The LECs' practice of pooling bad debt shifts the high costs of bad debt from inmate telephone operations to the expense accounts of other LEC operations, presenting a vehicle for the cross- subsidization of the LECs' inmate operations, which, in turn, has allowed the LECs to offer commissions to correctional facilities that are significantly higher than those that independent inmate telephone providers can offer. Section 276 directed the FCC to adopt regulations to end the LECs' subsidization of their inmate telephone operations from regulated revenues. Congress also directed the FCC to ensure that the LECs could not discriminate in favor of their own operations to the competitive detriment of independent inmate telephone providers. Finally, Congress required the FCC to ensure that all inmate telephone providers were fairly compensated for "each and every" call made from their telephones. To carry out its Congressional mandate, the FCC adopted regulations requiring all LECs to transfer their inmate telephone operations from their regulated accounts to the LECs' unregulated accounts no later than April 15, 1997. While the FCC's rules implementing Section 276 are designed to eliminate cross-subsidization and cost-shifting, there are significant questions regarding their ultimate effect. For example, it is unclear whether the FCC's rules will fully prevent the shifting of bad debt from inmate operations to the LECs' regulated accounts. Since the bad debt arises from the charges for collect calls, which have traditionally been regulated carrier activities, the FCC has not yet finally resolved exactly how the bad debt from inmate operations will be allocated between regulated and unregulated accounts. The FCC also addressed the one-time transfer of existing inmate telephone operation assets from the LECs' regulated accounts to the unregulated accounts established for inmate telephone operations. The FCC ordered the transfer of those assets at their net book value rather than at their fair market value. The inmate telecommunications industry had argued to the FCC that the transfer should be accomplished at the assets' fair market value, including the value of the contracts between the LECs' inmate operations and correctional facilities. The net book value of those assets is much lower than their fair market value. As a result of the below market valuation of the assets, the LECs' inmate telephone operations may be able to post nominally higher returns on their assets than they would otherwise be able to and hence relieve operating pressures for returns on assets. This also could result in a competitive advantage for the LECs with respect to access to capital markets compared with the Company and other independent inmate telephone providers. To eliminate discrimination, the FCC required, among other things, that the LECs' inmate telephone operations take any tariffed services from its regulated operations at the tariffed rate for the service, rather than the actual cost of the service. Before the Telecom Act, the LECs' inmate operations were able to take these services at some variant of their underlying costs without regard to the tariffed rate being charged to independent providers. Under the Telecom Act, the LECs' inmate operations must take tariffed services on an arm's length basis, at tariffed rates that are subject to regulatory approval. Further, the rates for the tariffed services offered to both the LECs' inmate telephone operations and independent inmate telephone providers must be developed on a consistent basis. The test that the FCC has mandated for the pricing of services to both independent inmate telephone providers and the LECs' own inmate operations will require a reexamination of existing rates and may lead to a rate reduction for services in some instances, while it is also possible that the rate reexamination may result in some rate increases. In either event, the requirement for a consistent methodology for developing rates should substantially reduce LEC opportunities for unfavorable rate discrimination against independent inmate telephone providers like the Company. The FCC did allow the LECs to offer certain non-tariffed services, for example, repair and installation services, to the LECs' inmate operations on a cost-sharing basis, which could result in some cost advantage to the LECs' inmate operations. The LECs are free to price these services at full market rates to independent inmate 10 telephone providers. Independent inmate telephone providers are not, however, dependent on the LEC for these services, as they are with telephone lines; independent inmate telephone providers can provide services like repair and installation with their own staff or contractors. To ensure "fair compensation" for inmate telephone providers, the FCC held that it was not required to prescribe compensation for collect calls because inmate providers act as their own carriers and collect the revenue from those calls directly from called parties. The inmate telephone industry had argued to the FCC, however, that because of state-mandated ceilings on the rates for intrastate collect calls, inmate telephone providers could not recover adequate revenue for those calls, and accordingly, had sought an "inmate system compensation charge" in addition to the charges collected for carrying the call. See "--State Regulation." Because of continuing restrictions stemming from the 1984 divestiture of the RBOCs by AT&T, the RBOCs are not able to carry long distance traffic. Prior to the Telecom Act, the RBOCs were also precluded from choosing a long distance carrier for calls originating from facilities where the RBOCs provided the inmate telephone service and receiving commission revenue from that carrier. Instead, carriers were selected by, and paid commissions directly to, the individual correctional facilities being served by RBOCs. Pursuant to the Telecom Act, the FCC decided that the RBOCs would be allowed to choose their own carrier for their traffic from a given correctional facility. As a result, the RBOCs may gain the ability to negotiate higher commission rates to be paid to them from their contracted carrier by aggregating traffic from several facilities into a single contract with the carrier. Many aspects of the FCC's rules implementing Section 276 are currently the subject of further proceedings by the FCC. In particular, two important issues are back before the FCC as the result of a court challenge in which the FCC voluntarily sought, and the court granted, a remand to the FCC for further proceedings. The first of those issues is the FCC's decision not to prescribe compensation for inmate collect calls. If the FCC ultimately decides to prescribe compensation, the Company could potentially benefit from the ability to collect additional revenue. It is not possible to predict whether the FCC will prescribe compensation and the degree to which the Company could benefit, if at all, would depend on the exact compensation scheme ultimately prescribed by the FCC for inmate collect calls. The second important issue before the FCC on remand is the FCC's decision to include only inmate telephone equipment and not the collect calling service itself in the inmate telephone services that the RBOCs must provide on a nonregulated basis. As a result of this ruling, the RBOCs have to some extent remained able to subsidize and discriminate in favor of their inmate calling operations. In particular, so long as the RBOCs can continue to define their inmate collect calling service as part of their regulated operations, they may be commingling that bad debt with bad debt from other services. It cannot be predicted how the FCC will rule on this issue on remand. However, if the FCC reverses its stance and defines nonregulated inmate calling services to include inmate collect calls, the Company could potentially benefit from a reduction in the ability of its RBOC competitors to subsidize and discriminate in favor of their inmate operations. Because of the further proceedings pending before the FCC, the ultimate effects of the rule changes mandated by the Telecom Act are uncertain. In particular, the extent to which the FCC's rules designed to eliminate subsidization and discrimination by the LECs prove to be effective will significantly affect the level of competition faced by the Company in the inmate telecommunications market. Apart from its proceedings to implement the Telecom Act, the FCC also adopted new regulations for interstate calls requiring inmate telephone service providers to announce to called parties, before the called party incurs any charges, that rate quotes may be obtained by dialing no more than two digits or remaining on the line. The Company must come into compliance with these new rules by October 1, 1999. The Company's existing systems already have the capability to perform this function. These new regulations could result in an increase in the Company's costs by slightly increasing the non-billable network hold time for interstate collect calls. Also, since the Company may comply with the new federal requirement by implementing rate disclosure on all calls, including intrastate calls, the new regulations may lead to slight increases in the costs for all inmate collect calls carried by the Company. In addition, the announcement of rate quotes may lead to called parties refusing to accept calls. The exact effect of the new regulations is difficult to predict as it will depend in large part on how frequently called parties opt to receive a rate quote. Significantly, the FCC adopted the rate disclosure option in lieu of the so-called "Billed Party Preference" proposal that had been pending before the FCC for several years. Under that plan, inmate telephone service providers would have been required to send their interstate inmate collect calls to the called party's pre-subscribed carrier, thereby bypassing the 11 opportunity for the inmate telephone service provider to receive revenue from the calls. The Company believes that the rate quote regulations adopted by the Commission are a preferable alternative to Billed Party Preference, which would potentially have had a much more adverse effect on the Company's business. State Regulation The most significant state involvement in the regulation of inmate telephone service is the limit on the maximum rates that can be charged for intrastate collect calls set by most states, referred to as "rate ceilings." Since collect calls are generally the only kind of calls that can be made by inmates in correctional facilities, the state-imposed rate ceilings on those calls can have a significant effect on the Company's business. In many states, the rate ceilings on inmate collect calls within the originating LEC's service area are tied to the rates charged by the LEC and subject to state regulatory approval. Thus, where the LEC chooses not to raise its rates, independent inmate telephone providers are precluded from raising theirs. Prior to the passage of the Telecom Act, the LECs had less incentive to raise their rates than independent inmate telephone providers because the LECs were able to subsidize their inmate telephone operations and discriminate in their favor, as described above. See "--Federal Regulation." It is possible that as a result of the FCC's new rules designed to eliminate such subsidies, some LECs may choose to file with their state commissions to raise their rates for inmate collect calls. If this occurs, the Company and other independent inmate telephone providers could also raise their rates. It is difficult to predict the extent to which the LECs will raise their rates. For calls going outside the originating LEC's service area, there may be state rate ceilings tied to the rates of the largest IXCs. In some cases, these rate ceilings can also make sufficient cost recovery difficult. In general, the cost recovery problems that arise from rate ceilings tied to IXC rates are not as severe as the difficulties created by rate ceilings tied to LEC rates. In its rulemaking implementing the Telecom Act, the FCC declined to address these state rate ceilings. The FCC ruled that inmate telephone providers must first seek relief from the state rate ceilings at the state level. The outcome of any such proceedings at the state level, if undertaken, is uncertain. Further, it is uncertain whether the FCC would intervene or if so, how, in the event a state failed to provide relief. This issue is part of the currently pending FCC remand proceeding. In addition to imposing rate caps, the states regulate other aspects of the inmate calling industry. While the degree of regulatory oversight varies significantly from state to state, state regulations generally establish minimum technical and operating standards to ensure that public interest considerations are met. Among other things, most states have established rules that govern registration requirements, notice to called parties of the identity of the service provider in the form of postings or verbal announcements, and requirements for rate quotes upon request. In some jurisdictions, in order for the Company to operate its inmate telephones and public pay telephones, it is necessary to become certificated and to file tariffs with the appropriate state regulatory authority. Tradenames The Company has two registered trademarks, Security Telecom Corporation(R) and STC(R) and has developed or acquired a number of additional unregistered tradenames that it uses in its business. Although the use of these trademarks and tradenames has created goodwill in certain markets, management does not believe that the loss of these trademarks and tradenames would have a material adverse effect on the Company's operations. The Company also has a registration application pending for the tradename Evercom and certain derivatives thereof. Environmental The Company is subject to certain federal, state, and local environmental regulations. Management does not expect environmental compliance to have a material effect on the Company's capital expenditures, earnings, or competitive position in the foreseeable future. Employees As of December 31, 1998, the Company had approximately 316 employees. 12 ITEM 2. PROPERTIES The Company's principal executive offices are located in, and a portion of its operations are conducted from, leased premises located at 8201 Tristar Drive, Irving, Texas 75063. The Company also has three additional regional facilities from which it conducts its operations located in Selma, Alabama; Louisville, Kentucky; and Lee's Summit, Missouri, all of which are leased. ITEM 3. LEGAL PROCEEDINGS The Company is from time to time a party to legal proceedings that arise in the ordinary course of business. Management does not believe that the resolution of any threatened or pending legal proceedings will have a material adverse effect on the Company. The Company was unsuccessful in obtaining a Federal Bureau of Prisons contract, and has appealed the award. There can be no assurances that the Company will be successful in appealing this award. None of the Company's internally developed call processing technology has been patented. Accordingly, such technology and intellectual property rights could infringe on other parties' intellectual property rights and could be contested or challenged. The Company has received notice from two parties that certain features of the Company's call processing technology may infringe upon such parties' patents. Should the Company's call processor or any material feature thereof be determined to violate applicable patents, the Company would be required to cease using these features or to obtain appropriate licenses for the use of such technology. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS At the Company's annual meeting held on June 24, 1998, the following matters were voted upon: 1. Name change of the Company from "Talton Holdings, Inc." to "Evercom, Inc." Votes for: 14,010 Votes Against: 0 Did Not Vote: 1,790 2. Approval of the Company's 1998 Stock Option Plan. Votes for: 14,010 Votes Against: 0 Did Not Vote: 1,790 13 PART II ------- ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS There is currently no established public trading market for the Registrant's issued and outstanding capital stock. As of December 31, 1998, there were forty-eight holders of the Company's Class A common stock (the "Common Stock") and four holders of the Company's Class B common stock (the "Class B Common Stock"). There have been no cash dividends declared on the Common Stock from the period January 1, 1996 through December 31, 1998. The Indenture (the "Indenture") governing the Company's Series A and Series B Senior Notes Due 2007 and the Company's senior credit facility, as amended and restated (the "Senior Credit Facility") contain certain restrictive covenants that are likely to materially limit the future payment of dividends on the Common Stock. See "Management's Discussion and Analysis of Financial Condition and Results of Operations." The following table sets forth information with respect to all securities sold by the Company for the Company's last fiscal year that were not registered under the Securities Act of 1933, as amended, (the "Securities Act"). All securities sold and not registered were sold in transactions not involving a public offering under Section 4(2) of the Securities Act.
SECURITIES SOLD DATE PERSON ACQUIRING AMOUNT CONSIDERATION USE OF PROCEEDS TERMS OF SECURITIES CONVERSION OF EXERCISE - -------------------------------------------------------------------------------------------------------------------------------- Convertible 02/18/98 former shareholders 158-1/3 shares additional consideration Acquisition $6,000.00 strike Note of MOG for asset acquisition of Business price per share Communications, Inc. - --------------------------------------------------------------------------------------------------------------------------------
14 ITEM 6. SELECTED FINANCIAL DATA - (in thousands) Effective December 1, 1996, the Company became the holding company for the operations of AmeriTel and Talton Telecommunications. The Company accounted for these acquisitions using the purchase method of accounting. Accordingly, the Company's consolidated financial statements included the operations of AmeriTel and Talton Telecommunications only for periods after December 1, 1996. The following selected consolidated financial data of the Company for each of the two years ended December 31, 1998 and the one month ended December 31, 1996, and the selected combined financial data of the Company's predecessors for the years ended December 31, 1994 and 1995 and for the eleven months ended November 30, 1996, have been derived from the Company's and its predecessors' audited financial statements. The selected financial data should be read in conjunction with "Management's Discussion and Analysis of Financial Condition and Results of Operations" and the consolidated financial statements and the notes thereto included elsewhere in this Form 10-K. 15
COMBINED PREDECESSORS THE COMPANY --------------------------------------------- ----------------------------------------- ELEVEN MONTHS ONE MONTH ENDED ENDED YEARS ENDED DECEMBER 31, NOVEMBER 30, DECEMBER 31, YEARS ENDED DECEMBER 31, ------------------------- ---------------------------- 1994 1995 1996 1996 1997 1998 ----------- ------------ -------------- ------------ ------------- ------------ Operating Data: Operating revenues $ 23,892 $ 40,326 $ 53,663 $ 5,506 $ 91,773 $ 225,293 Operating expenses: Telecommunciation costs 11,761 18,673 23,317 2,299 37,871 99,843 Facility commissions 3,901 9,595 13,962 1,455 25,724 71,206 Field operations and maintenance 1,044 1,467 1,816 219 4,543 7,817 Selling, general and administrative 2,571 4,089 3,921 372 8,540 17,661 Depreciation and impairment 965 1,359 1,538 111 2,219 6,692 Amortization of intangibles 1,392 1,605 1,746 741 14,243 26,339 Restructuring and other charges - - 684 - 400 1,743 ----------- ----------- ----------- ------------ ------------ ----------- Total operating expenses 21,634 36,788 46,984 5,197 93,540 231,301 ----------- ----------- ----------- ------------ ------------ ----------- Operating income (loss) 2,258 3,538 6,679 309 (1,767) (6,008) Other (income) expenses: Interest expense, net 745 1,360 1,469 612 11,138 19,638 Other, net (134) (52) 27 (20) (76) (236) ----------- ----------- ----------- ------------ ------------ ----------- Total other (income) expense 611 1,308 1,496 592 11,062 19,402 ----------- ----------- ----------- ------------ ------------ ----------- Income (loss) before income taxes and extraordinary loss 1,647 2,230 5,183 (283) (12,829) (25,410) Income tax (benefit) expense (11) 891 1,917 (23) (642) 476 ----------- ----------- ----------- ------------ ------------ ----------- Income (loss) before extraordinary loss 1,658 1,339 3,266 (260) (12,187) (25,886) Extraordinary loss - - 52 - 4,740 - ----------- ----------- ----------- ------------ ------------ ----------- Net income (loss) $ 1,658 $ 1,339 $ 3,214 $ (260) $ (16,927) $ (25,886) =========== =========== =========== ============ ============ =========== OTHER DATA: EBITDA (1) $ 4,749 $ 6,554 $ 9,936 $ 1,181 $ 14,771 $ 27,259 Net cash provided (used) by operating activities 3,445 4,069 7,300 (1,419) 6,048 4,258 Net cash used in investing activities (9,976) (8,022) (7,515) (47,252) (90,757) (23,384) Net cash provided (used) by financing activities 6,668 4,827 (547) 48,966 92,193 13,039 Capital expenditures (2) 3,223 4,669 2,804 269 8,063 13,592 Ratio of earnings to fixed charges (3) 3.0 2.5 4.2 -- -- -- Deficiency of earnings to fixed charges -- -- -- $ 283 $ 12,829 $ 25,410 BALANCE SHEET DATE (AT END OF PERIOD) Cash and cash equivalents $ 419 $ 1,293 $ 531 $ 294 $ 7,778 $ 1,692 Total assets 17,639 26,592 34,708 80,134 189,388 191,466 Total debt (including current maturities) 10,750 15,074 14,845 63,315 166,736 180,483 Total stockholders' equity (deficit) 2,027 4,850 9,361 6,481 (10,020) (36,113)
___________ (1) For the purpose of this Form 10-K, EBITDA means income before interest, income taxes, depreciation, and amortization. Although EBITDA is not a measure of performance calculated in accordance with generally accepted accounting principles, the Company has included information concerning EBITDA in this Form 10-K because it is commonly used by certain investors and analysts as a measure of a company's ability to service its debt obligations and is a component of the Company's debt compliance ratios. EBITDA should not be used as an alternative to, or be considered more meaningful than operating income, net income, or cash flow as an indicator of the Company's operating performance. (2) Capital expenditures include only amounts expended for purchases of property and equipment and the implementation of facilitiy contracts and excludes cash outflows for acquisitions. (3) Earnings are defined as earnings (loss) before income taxes from continuing operations and fixed charges. Fixed charges are defined as interest expense and a portion of rental expense representing the interest factor, which the Company estimates to be one-third of rental expense, and amortization of deferred financing expense. This calculation is a prescribed earnings coverage ratio intended to present the extent to which earnings are sufficient to cover fixed charges, as defined. 16 ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following discussion and analysis of the Company's financial condition and results of operations should be read in conjunction with the financial statements and the notes thereto contained elsewhere in this report. Certain information contained in the discussion and analysis set forth below includes forward-looking statements that involve risks and uncertainties. See "Special Note Regarding Forward-Looking Information." Overview The Company is the largest independent provider of collect, prepaid, and debit calling services to local, county, state, and private correctional facilities in the U.S. The Company derives substantially all of its revenues from its operation of inmate telecommunications systems located in correctional facilities in approximately 43 states. As of December 31, 1998, the Company served 2,073 correctional facilities in 43 states. The Company derives substantially all of its revenues from its operation of inmate telecommunications systems located in correctional facilities in 43 states. The Company's inmate telecommunications services consist of collect call, prepaid, and debit card services. The Company enters into multi-year agreements (generally three to five years) with the correctional facilities, pursuant to which the Company serves as the exclusive provider of telecommunications services to inmates within each facility. In exchange for the exclusive service rights, the Company pays a percentage of its revenue from each correctional facility as a commission to that facility. Typically, the Company installs and retains ownership of the telephones and related equipment and provides additional services to correctional facilities that are tailored to the specialized needs of the corrections industry and to the requirements of the individual correctional facility, such as call activity reporting and call blocking. The Company also generates revenues from public pay telephones that are ancillary to its inmate telephone business. The Company accumulates call activity data from its various installations and bills its revenues related to this call activity through LECs or through third-party billing services. In addition, the Company accrues the related telecommunications costs for validating, transmitting, billing and collection, and line and long-distance charges, along with commissions payable to the facilities, and allowances for uncollectible accounts based on historical experience. The Company's traditional inmate business consists of collect, prepaid, and debit calling services provided to correctional facilities. In May 1998, the Company began providing validation, billing, and collection services for the inmate calls of a major RBOC. Under the terms of the agreement, the Company acquires at a discount the related accounts receivable from the RBOC for the calls that the Company processes. When the receivables are purchased, the Company accepts responsibility for all validation, uncollectible accounts, and billing and collections costs, with no recourse to the RBOC. However, under the terms of the agreement, all purchased receivables must be processed and validated through the Company's call management and billing system. The Company's revenues from this service equal the difference between the face value of the receivables purchased and the amount it pays the RBOC for the discounted accounts receivable. Because the Company's revenues associated with this contract represent only a percentage of the face value of the receivables purchased, the associated uncollectible account expense and billing and collection fees represent a much higher percentage of revenue as compared to the Company's traditional inmate business. Consequently, the Company's telecommunications costs represent a higher percentage of revenue under this contract. There are minimal selling, general, and administrative ("SG&A") costs associated with this contract. The contract term is three years and has no minimum volume commitment. The Company pays no facility commissions under this agreement. The Company's principal operating expenses consist of (i) telecommunication costs; (ii) commissions paid to correctional facilities, which are typically expressed as a percentage of either gross or net revenues, fixed for the term of the agreements with the facilities, and in some cases are subject to monthly minimum amounts; (iii) field operations and maintenance costs, which consist primarily of field service on the Company's installed base of inmate telephones; and (iv) SG&A costs. Telecommunication Costs. The principal components of telecommunication costs are long distance transmission costs, local access costs, third party billing costs, and costs of uncollectible accounts. Historically, long distance costs have consisted of charges for minutes of use purchased from IXCs. The Company entered into an agreement to lease lines connecting urban areas and correctional facilities in the state of North Carolina. Given the Company's relatively high level of traffic in North Carolina, management believes that transmission via leased lines will be more economical than acquiring minutes of use. 17 Local access charges consist of monthly line and usage charges paid to RBOCs and other LECs for interconnection to the local network for local calls, which are computed on a flat monthly charge plus, for certain LECs, and on a per message or per minute usage rate based on the time and duration of the call. Third party billing charges consist of payments to LECs and other billing service providers for billing and collecting revenues from called parties. The Company believes that it experiences faster payments and lower expenses associated with uncollectible accounts when using direct billing than when using other billing service providers. Expenses associated with uncollectible accounts are a significant cost in providing inmate telecommunications services. Commissions. The Company pays a percentage of its revenue from each facility to that facility as a commission. Commissions are generally set for the duration of the Company's multi-year contract with the facility. Commission rates are the principal basis of competition for obtaining and retaining contracts. The Company's ability to offer increasingly attractive commission rates to facilities depends on its ability to control its operating expenses. Generally, contracts for larger facilities have higher commission rates, but these higher commission rates are typically offset by lower network charges, field maintenance, and SG&A expenses as a percentage of revenue. The commission rates paid by the Company have increased in each period, from 23.8% in 1995 to 31.6% in 1998. This increase is due primarily to higher facility commissions on contracts obtained by the Company through acquisitions, competition for larger facilities, and increased commission rates on renewals. Commission rates are expected to gradually increase as a percentage of revenues in the future. The overall commission percentage to total revenues of 31.5% in 1998 includes the effect of the billing and collection services provided under the Company's agreement with a major RBOC, under which no commissions are paid. Field Operations and Maintenance. Field operations and maintenance consist of maintenance costs associated with inmate phones and related equipment. These costs are relatively small and more constant components of operating expenses. Selling, General, and Administrative. SG&A expenses consist of corporate overhead and selling expense. These costs are also relatively small and more constant components of operating expenses. Restructuring Costs. The Company is currently integrating its acquired operations into its existing operations, which resulted in a restructuring charge in September 1998 of $1.4 million. The restructuring charge was lowered by $0.2 million in the fourth quarter, primarily due to the final determination of the number of employees terminated, the unanticipated subletting of certain facilities, and a refinement of expected legal and other costs. Company History. The Company became the holding company for the operations of its predecessors, AmeriTel and Talton Telecommunications, effective December 1, 1996. The Company also acquired the operations of Tataka on April 2, 1997, STC on June 27, 1997, CCC on July 31, 1997, InVision on October 6, 1997, NAI on December 1, 1997, PTC on December 18, 1997, ILD on January 1, 1998, MOG on February 1, 1998, and Saratoga on July 1, 1998. Because the Company's acquisitions of its predecessors have been accounted for using the purchase method of accounting, the Company's results of operations reflect the operations of AmeriTel and Talton Telecommunications only subsequent to December 1, 1996. In addition to the acquisitions of its predecessors, the Company has also completed the Acquisitions, which have also been accounted for using the purchase method of accounting, and the Company's results of operations therefore reflect the operations of these companies only subsequent to the effective dates of their respective acquisitions. Management believes that the growth of the Company and its predecessors, AmeriTel and Talton Telecommunications, through acquisitions makes meaningful period-to-period comparison of historical results of operations difficult. Consequently, management believes that the investor is presented with more meaningful information through discussion of the Company and its predecessors on a combined basis, for the periods discussed below. 18 Results of Operations The following table sets forth, for the periods indicated, the combined historical results of operations of the Company and AmeriTel and Talton Telecommunications, without any adjustments to historical results to reflect changes in depreciation and amortization resulting from purchase accounting evaluations, as follows: Year ended December 31, 1996........... Combined results of operations of the predecessors, AmeriTel and Talton Telecommunications, for the eleven months ended November 30, 1996 and of the Company for the one month ended December 31, 1996 Years ended December 31, 1997 and 1998.. Consolidated results of operations of the Company for the periods These above described combined results of operations include the results of operations of the acquired entities in the Company's results of operations only for the periods subsequent to their acquisition dates.`
Years Ended December 31, ------------------------------------------------------------------------------- 1996 1997 1998 ---------------------- --------------------------- -------------------------- (Dollars in thousands) Operating revenues ...................... $59,169 100.0% $ 91,773 100.0% $225,293 100.0% Operating expenses: Telecommunication costs ................ 25,616 43.3 37,871 41.3 99,843 44.3 Facility commissions ................... 15,417 26.1 25,724 28.0 71,206 31.6 Field operations and maintenance ....... 2,035 3.4 4,543 5.0 7,817 3.5 Selling, general, and administrative..... 4,293 7.3 8,540 9.3 17,661 7.8 Depreciation and impairment.............. 1,649 2.8 2,219 2.4 6,692 3.0 Amortization of intangibles ............ 2,487 4.2 14,243 15.5 26,339 11.7 Restructuring and other charges.......... 684 1.2 400 0.4 1,743 0.8 ------- ---- -------- ------ -------- ------ Total operating expenses ................ 52,181 88.3 93,540 101.9 231,301 102.7 ------- ---- -------- ------ -------- ------ Operating income (loss) ................. 6,988 11.7 (1,767) (1.9) (6,008) (2.7) Other (income) expense: Interest expense, net .................. 2,081 3.5 11,138 12.1 19,638 8.7 Other, net ............................. 7 (0.0) (76) 0.0 (236) (0.1) ------- ---- -------- ------ -------- ------ Total other expense ..................... 2,088 3.5 11,062 12.1 19,402 8.6 ------- ---- -------- ------ -------- ------ Income (loss) before income taxes and extraordinary loss ..................... 4,900 8.2 (12,829) (14.0) (25,410) (11.3) Income tax expense (benefit) ............ 1,894 3.2 (642) (0.7) 476 0.2 ------- ---- -------- ------ -------- ------ Income (loss) before extraordinary loss... 3,006 5.0 (12,187) (13.3) (25,886) (11.5) Extraordinary loss ...................... 52 0.1 4,740 5.1 -- -- ------- ---- -------- ------ -------- ------ Net income (loss) ....................... $ 2,954 4.9% $(16,927) (18.4)% $(25,886) (11.5)% ======= ==== ======== ====== ======== ====== EBITDA .................................. $11,117 18.8% $ 14,771 16.1% $ 27,259 12.1%
Year Ended December 31, 1998 (Consolidated Results of Operations of the Company) compared to year ended December 31, 1997 (Consolidated Results of Operations of the Company) Operating Revenues. The Company's operating revenues increased by $133.5 million, or 145.5%, from $91.8 million for the year ended December 31, 1997 to $225.3 million for the year ended December 31, 1998. The increase in operating revenues was primarily due to acquisitions by the Company of CCC, InVision, and PTC between July and December 1997 and of ILD, MOG and Saratoga in 1998. Since its inception, the Company has acquired contracts for 1,888 facilities through the Acquisitions and has added additional facilities by winning new contracts for county, local, and state facilities. As of December 31, 1998 the Company served 2,073 correctional facilities in 43 states. The Company's contract with the State of Alabama was not renewed, and the Company estimates that this will result in a reduction in revenue and EBITDA in fiscal year 1999 of $8.2 million and $1.5 million, respectively, when compared to fiscal year 1998. 19 Operating Expenses. Total operating expenses increased by $137.8 million, or 147.3%, from $93.5 million in 1997 to $231.3 million in 1998. Operating expenses as a percentage of operating revenues increased by 0.8% from 101.9% for the year ended December 31, 1997 to 102.7% for the year ended December 31, 1998. The increase in operating expenses as a percentage of revenues is primarily due to factors discussed below. Telecommunication costs increased by $61.9 million, from $37.9 million in 1997 to $99.8 million in 1998. Telecommunication costs represented 41.3% of operating revenues in 1997 and 44.3% of operating revenues in 1998, an increase of 3.0%. The percentage increase is due in part to higher levels of uncollectible accounts associated with the Company's acquisitions subsequent to June 30, 1997, which are located in geographic regions that exhibit higher uncollectible rates. The percentage increase is also due to the increase in competitive local exchange carrier ("CLEC") activity. These CLECs increased the Company's unbillable expense, because in most cases the CLECs are unable to bill the Company's traffic. The Company is responding to this problem by offering prepaid services to these customers. The Company's overall telecommunications costs as a percentage of revenues of 44.3% for 1998 include the effect of the Company's billing and collection services provided to a major RBOC as discussed in "General" in Item 2. These billing and collection services exhibit higher telecommunication costs as a percentage of revenue than the Company's traditional inmate business. Facility commissions increased by $45.5 million, from $25.7 million in 1997 to $71.2 million in 1998. Facility commissions represented 28.0% of operating revenues in 1997 and 31.6 % in 1998, an increase of 3.6%. This increase as a percentage of revenue is primarily due to increased facility commissions under contracts obtained by the Company through acquisitions, the competition in larger facilities, and increased commission rates on renewals. Facility commissions are expected to gradually increase as a percentage of revenue in the future. The overall commission percentage to total revenue of 31.6% in 1998 includes the effect of the billing and collection services provided to a major RBOC as discussed in "General" in Item 2. Field operations and maintenance costs increased by $3.3 million, from $4.5 million in 1997 to $7.8 million in 1998. Field operations and maintenance costs represented 5.0% of operating revenues in 1997 and 3.5% of operating revenues in 1998, a decrease of 1.5%. The dollar increase is primarily due to costs associated with servicing the acquired facilities and the new contract facilities. Field operations and maintenance costs as a percentage of revenue was 3.3% for the fourth quarter 1998 compared to 3.4% for the third quarter 1998. This decrease is due to the integration activities completed by the Company in the fourth quarter. SG&A costs increased by $9.2 million, from $8.5 million in 1997 to $17.7 million in 1998. SG&A represented 9.3% of operating revenues in 1997 and 7.8% of operating revenues in 1998, a decrease of 1.5%. The dollar increase in SG&A costs is primarily due to the increased infrastructure necessary to support the Acquisitions. SG&A costs as a percentage of revenue was 7.3% for the fourth quarter 1998 compared to 8.0% for the third quarter 1998. This percentage decrease is mainly due to the integration activities completed by the Company in the fourth quarter. Total depreciation and amortization costs increased by $16.5 million, from $16.5 million in 1997 to $33.0 million in 1998. Depreciation and amortization costs represented 17.9% of operating revenues in 1997 and 14.7% of operating revenues in 1998, a decrease of 3.2%. The dollar increase is primarily due to additional amortization expense associated with the inmate facility contracts acquired in the Acquisitions. Amortization resulting from purchase accounting of the Acquisitions is and will continue to be a substantial portion of the Company's operating expenses. The Company integrated its acquired operations into its existing operations, which resulted in a restructuring charge of $1.4 million in September 1998. The restructuring charge was lowered by $0.2 million in the fourth quarter, primarily due to the final determination of the number of employees terminated, the unanticipated subletting of certain facilities, and a refinement of expected legal and other costs. In December 1998, the Company wrote-off approximately $0.5 million related to the postponement of the Company's initial public offering. Other (Income) Expense. Other (income) expense, consisting primarily of interest expense, increased by $8.3 million from $11.1 million in 1997 to $19.4 million in 1998. The increase was primarily due to interest expense associated with the indebtedness incurred by the Company in connection with the Acquisitions. Net Loss. The Company's net loss increased by $9.0 million, from $16.9 million in 1997 to $25.9 million in 1998 as a result of the factors described above. EBITDA. Earnings before interest, income taxes, depreciation and amortization ("EBITDA") increased by $12.5 million from $14.8 million in 1997 to $27.3 million in 1998. EBITDA as a percentage of operating revenues decreased from 16.1% in 1997 to 12.1% in 1998 due to the factors described above. Although EBITDA is not a measure of performance 20 calculated in accordance with generally accepted accounting principles, the Company has included information concerning EBITDA in this Form 10-K because it is commonly used by certain investors and analysts as a measure of a company's ability to service its debt obligations and is a component of the Company's debt compliance ratios. EBITDA should not be used as an alternative to, or be considered more meaningful than, operating income, net income or cash flows as an indicator of the Company's operating income. Several of the Company's subsidiaries are subject to state income taxes. Consequently, the Company accrues income tax expense even in a loss period. Year Ended December 31, 1997 (Consolidated Results of Operations of the Company) Compared to Year Ended December 31, 1996 (Combined Results of Operations of the Company's Predecessors, AmeriTel And Talton Telecommunications, for the Eleven Months Ended November 30, 1996 and of the Company for the One Month Ended December 31, 1996) Operating Revenues. The Company's operating revenues increased by $32.6 million, or 55.1%, from $59.2 million for the year ended December 31, 1996 to $91.8 million for the year ended December 31, 1997. The increase in operating revenues was primarily due to acquisitions of the Company of STC, CCC, InVision, NAI, and PTC during 1997, and new contract installations. Specifically, the Company acquired inmate telephone contracts at 128 facilities in 14 states from STC; 23 facilities in 3 states from CCC; 568 facilities in 37 states from InVision; 57 facilities in 5 states from NAI; and 82 facilities in 10 states from PTC. Operating Expenses. Total operating expenses increased $41.3 million, from $52.2 million in 1996 to $93.5 million in 1997. Operating expenses as a percentage of operating revenues increased 13.6% from 88.3% for the year ended December 31, 1996 to 101.9% for the year ended December 31, 1997. The increase in operating expenses as a percentage of revenues is primarily due to the factors discussed below. Telecommunication costs increased by $12.3 million, from $25.6 million in 1996 to $37.9 million in 1997. Telecommunication costs represented 43.3% of operating revenues in 1996 and 41.3% of operating revenues in 1997, a decrease of 2.0%. The dollar increase is primarily due to the acquisitions by the Company of STC, CCC, InVision, NAI, and PTC during 1997, and new contract installations. The decrease as a percentage of operating revenues is primarily due to lower billing and collection costs as a result of direct billing arrangements entered into with various major LECs and lower relative costs for long distance as a result of new long distance agreements. Facility commissions increased by $10.3 million, from $15.4 million in 1996 to $25.7 million in 1997. Facility commissions represented 26.1% of operating revenues in 1996 and 28.0% of operating revenues in 1997, an increase of 1.9%. The increase is primarily due to higher commission rates for certain contracts associated with the Acquisitions, as well as higher commission percentages paid as a result of periodic increases in percentages paid to existing customers as contracts are renewed. Field operation and maintenance costs increased by $2.5 million, from $2.0 million in 1996 to $4.5 million in 1996. Field operation and maintenance costs represented 3.4% of operating revenues in 1996 and 5.0% of operating revenues in 1997, an increase of 1.6%. The dollar increase is primarily due to an increase in the costs associated with servicing acquired facilities. SG&A increased by $4.2 million, from $4.3 million in 1996 to $8.5 million in 1997. SG&A represented 7.3% of operating revenues in 1996 and 9.3% of operating revenues in 1997, an increase of 2.0%. The increase in SG&A as a percentage of operating revenues is primarily due to the increased infrastructure necessary to support the Company's acquisitions and the Company's more aggressive sales efforts. The Company's SG&A for 1997 was affected by the significant acquisition activity during the period. Total depreciation and amortization costs increased by $12.4 million, from $4.1 million in 1996 to $16.5 million in 1997. Depreciation and amortization costs represented 7.0% of operating revenues in 1996 and 17.9% of operating revenues in 1997, an increase of 10.9%. The dollar increase is primarily due to additional amortization expense associated with the acquisitions by the Company of inmate facility contracts, and the Acquisitions. The Company incurred an expense of $400,000 in 1997 related to external costs associated with the Company's application for the Federal Board of Prisons contract. The Company was unsuccessful in obtaining the contract. The contract award has been appealed, however, the Company has expensed all costs associated with the bid. 21 The Company incurred a non-recurring expense of $684,000 in 1996 related to $434,000 in bonuses paid by AmeriTel prior to its acquisition by the Company and $250,000 paid by AmeriTel to settle a lawsuit. Such expense represented 1.2% of operating revenues in 1996. Operating Income (Loss). The Company's operating income decreased by $8.8 million, from $7.0 million in 1996 to an operating loss of $1.8 million in 1997 primarily as a result of increases in depreciation and amortization due to the Acquisitions. Also, as a result of the depreciation and amortization, the Company's operating income margin decreased from 11.7% in 1996 to an operating loss of 1.9% in 1997. Other (Income) Expense. Other (income) expense, consisting primarily of interest expense, increased by $9.0 million from $2.1 million in 1996 to $11.1 million in 1997. The increase was primarily due to interest expense associated with indebtedness incurred by the Company in connection with acquisitions and completion of the June 1997 offering (the "Notes Placement") of $115,000,000 principal amount 11% Senior Notes due 2007 (the "Senior Notes"). Extraordinary Loss. The Company incurred an extraordinary loss of $4.7 million in 1997 due to the write-off of the unamortized deferred loan costs and the unamortized discount related to the senior subordinated notes originally issued by Canadian Imperial Bank of Commerce ("CIBC"), which were repaid in connection with the acquisitions of AmeriTel and Talton Telecommunications (the "Senior Subordinated Notes") with the net proceeds the Notes Placement. In 1996, one of the Company's predecessors incurred an extraordinary loss of approximately $52,000 in conjunction with the extinguishment of debt. Net Income (Loss). The Company's net income decreased by $20.0 million, from $3.0 million in 1996 to a net loss of $17.0 million in 1997 as a result of the factors described above. EBITDA. EBITDA increased by $3.7 million from $11.1 million in 1996 to $14.8 million in 1997. EBITDA as a percentage of operating revenues decreased from 18.8% in 1996 to 16.1% in 1997 due to the factors described above. Liquidity and Capital Resources The Company anticipates that its principal uses of liquidity will be to provide working capital, meet debt service requirements, and to repay principal under the Senior Credit Facility. The Company expects that its principal sources of funds will be cash flow from operations and borrowings under the Senior Credit Facility. The Company anticipates that its primary capital expenditures will be for capital items required to implement new contracts entered into by the Company and alternative network solutions, although the Company does not have material commitments for capital expenditures. Management believes that cash flow from operations (if any) and from the Senior Credit Facility will be sufficient to fund the requirements of the Company for at least the next 12 months. In March 1999 the Company raised $5 million of equity from its existing shareholders and warrant holders and/or their affiliates through the issuance of 5,000 investment units at a price of $1,000 per unit. Each unit consists of one share of newly authorized First Preferred Series A Stock and a warrant to acquire one share of Common Stock for $1,000 per share. The First Preferred Series A Stock will be entitled to receive dividends at the applicable First Preferred Series A Rate, payable quarterly commencing on April 1, 1999. Such dividends will be payable out of funds legally available therefor, are payable only when, as, and if declared by the Board of Directors, are cumulative, and, if undeclared or unpaid, shall bear interest at the applicable First Preferred Series A Rate until paid. The First Preferred Series A Rate will be 8% per annum through March 31, 2001, 10% per annum from April 1, 2001 through June 30, 2001, and thereafter will increase by 0.5% for each additional three month period up to a maximum of 16% per annum. The First Preferred Series A Stock ranks senior to all classes of the Company's common stock but ranks junior to the Senior Preferred Stock of the Company (the "Senior Preferred Stock") with respect to dividend rights and rights upon liquidation. The warrants have a strike price of $1,000 per share and will expire, if not sooner exercised, on December 31, 2007. As a result of the issuance of the First Preferred Series A Stock and warrants, the Company was required to obtain a waiver from its Senior Credit Facility group of lenders that waived the lenders' rights to the proceeds raised by the Company from the issuance. In conjunction with the March 1999 equity offering, the preferred dividend rates on the original Senior Preferred Stock were modified to mirror the preferred dividend rates on the First Preferred Series A Stock. Also in March 1999 and in conjunction with the issuance of the First Preferred Series A Stock and warrants, the Company amended and restated its Senior Credit Facility. The amendment increased the Company's borrowing capacity under the term loan facility of the Senior Credit Facility by $5.5 million, which will bear interest at similar rates to the existing 22 borrowings under the Senior Credit Facility. The Company borrowed the additional $5.5 million in March 1999 and concurrently repaid $5 million under the revolving portion of the Senior Credit Facility. As of March 26, 1999, the Company had $13.5 million of available borrowing capacity under the Senior Credit Facility. The Company intends to evaluate additional acquisitions to expand its base of installed inmate telephones and value added services and will continue to evaluate possible acquisition candidates. There can be no assurance that the Company will have sufficient available capital resources to realize its acquisition strategy. Such future acquisitions, depending on their size and the form of consideration, may require the Company to seek additional debt or equity financing, or both. Net cash provided by operating activities was $4.3 million for the year ended December 31, 1998, as compared to net cash provided by operating activities of $6.0 million for the year ended December 31, 1997. Net cash provided by operating activities was $5.9 million for the year ended December 31, 1996. Net cash provided by operating activities in 1998 declined from 1997 primarily due to working capital required to fund the Company's growth in its traditional inmate business. Cash used in investing activities was $23.4 million for the year ended December 31, 1998, as compared to $90.8 million for the year ended December 31, 1997. Cash used in investing activities in 1998 consisted primarily of $7.0 million to fund the acquisitions of ILD, MOG and Saratoga, $4.7 million in payments related to acquisitions made in 1997 and $13.6 million for new business, contract renewals and infrastructure improvements. Cash used in investing activities in 1997 consisted primarily of cash outflows for acquisitions. Cash used in investing activities was $54.8 million in 1996, consisting primarily of cash outflows for acquisitions. Cash provided by financing activities was $13.0 million for the year ended December 31, 1998, as compared to $92.2 million in 1997. Cash provided by financing activities in 1998 consisting primarily of new borrowings under the Senior Credit Facility offset by $5.5 million of repayments of the term loan portion of the Senior Credit Facility and $0.5 million of preferred dividends paid. Cash provided by financing activities in 1997 consisted primarily of the issuance of the Senior Notes, the borrowing of $50.5 million under the Senior Credit Facility and offset by the repayment of amounts borrowed under the Company's previous credit facility, the Senior Subordinated Notes, and subordinated notes issued in connection with the acquisition of Talton Telecommunications (the "Talton Notes"). Net cash provided by financing activities was $48.4 million in 1996. The Senior Credit Facility consists of (a) a $55.0 million term loan acquisition facility, (b) a $5.5 million additional term loan facility, and (c) a $25.0 million revolving loan facility (which includes a $5.0 million letter of credit facility). Scheduled principal payments under the term loan facilities may not be reborrowed. Amounts borrowed under the Senior Credit Facility bear interest, at the option of the Company, at either (i) the Base Rate (i.e., the higher of CIBC's reference rate and the overnight federal funds rate plus 0.5%) plus a margin that varies from 75 to 225 basis points, depending on the Company's Total Debt to EBITDA Ratio (as defined in the Senior Credit Facility); or (ii) the LIBO rate plus a margin that varies from 200 to 350 basis points, depending on the Company's Total Debt to EBITDA Ratio. The Senior Credit Facility requires quarterly interest payments to be made on base rate loans and periodic interest-only payments based on the applicable interest period on LIBO rate loans, at least quarterly, in each case until maturity. In addition, the Senior Credit Facility requires mandatory prepayments out of the proceeds of certain equity or debt offerings, asset dispositions, receipt of insurance proceeds not applied as provided in the Senior Credit Facility, and receipts of funds from certain escrow accounts. Scheduled principal payments on the term loan facility are approximately $9.7 million, $12.4 million, $13.8 million, and $13.8 million during the years ended 1999, 2000, 2001, and 2002, respectively. All outstanding principal and interest under the Senior Credit Facility is due December 31, 2002. The Senior Credit Facility is secured by substantially all the assets of the Company and its subsidiaries. As of December 31, 1998, the Company had approximately $180.5 million of long-term indebtedness outstanding, including (i) $115.0 million of the Senior Notes outstanding at an interest rate of 11.0%, (ii) $64.0 million of indebtedness under the Senior Credit Facility, and (iii) $1.5 million of other indebtedness consisting primarily of deferred acquisitions costs and capital leases. As of December 31, 1998, the Company had available borrowing capacity under the revolving credit portion of its Senior Credit Facility of approximately $8.5 million, subject to borrowing base limitations and certain conditions. On June 30, 1998, the Company entered into an interest rate cap agreement that has been designated as a hedge against the Company's variable interest rate exposure on its loan under the Senior Credit Facility. At December 31, 1998, the interest 23 rate cap has an aggregate notional amount of $30.0 million, which matures in June 2001, and caps interest on the LIBO rate portion of the term loan, up to the aggregate notional amount, at 7.5%, plus the applicable LIBO rate margin. As of December 31, 1998 the Company was not in compliance with one of its financial covenant ratios under the Senior Credit Facility and was consequently required to obtain a waiver of default letter from its group of lenders. This ratio, the fixed charge coverage ratio, which is a measure of the Company's debt service, capital expenditures, and income tax obligations to its free cash flow (as defined), was subsequently modified in the March 1999 amendment to the Senior Credit Facility. Based on this modification, the Company is currently in compliance with its debt covenants and would have been in compliance as of December 31, 1998. The Senior Credit Facility and the Indenture contain numerous restrictive covenants including, among others, limitations on the ability of the Company to incur additional indebtedness, to create liens and other encumbrances, to make certain payments and investments, to sell or otherwise dispose of assets, or to merge or consolidate with another entity. The Senior Credit Facility also requires the Company to meet certain financial tests on a consolidated basis, some of which may be more restrictive in future years. The Company's failure to comply with its obligations under the Senior Credit Facility, or in agreements relating to indebtedness incurred in the future, could result in an event of default under such agreements, which could permit acceleration of the related debt and acceleration of debt under other financing arrangements that may contain cross-acceleration or cross-default provisions. In addition, because interest under the Senior Credit Facility accrues at floating rates, the Company remains subject to interest rate risk with respect to a significant portion of its indebtedness. Income Taxes Since the Company's acquisitions of AmeriTel, Talton Telecommunications, MOG, and Saratoga were stock purchases, the Company was required to retain the tax bases of AmeriTel, Talton Telecommunications, MOG, and Saratoga in the assets acquired. As a result, the Company will not be entitled to a tax deduction for the amortization of goodwill or the depreciation and amortization of certain other tangible and intangible assets related to these acquisitions. The Company has provided deferred income tax liabilities for differences in the financial accounting and tax bases of its tangible and identifiable intangible assets. However, in accordance with the requirements of Statement of Financial Accounting Standards ("SFAS") No. 109, "Accounting for Income Taxes," future amortization of non-deductible goodwill will be treated as a permanent difference in the Company's financial statements. Accounting Pronouncements SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities," was issued in June 1998, and requires recognition of all derivative financial instruments as either assets or liabilities in consolidated balance sheets at fair value and determines the method(s) of gain/loss recognition. SFAS No. 133 is effective for fiscal years beginning after June 15, 1999. The Company is currently evaluating the effect that it may have on the Company's consolidated financial statements. In March 1998, the American Institute of Certified Public Accountants ("AICPA") released Statement of Position ("SOP") No. 98-1, "Accounting for the Costs of Computer Software Developed or Obtained for Internal Use." SOP 98-1 requires the capitalization of certain expenditures for software that is purchased or internally developed. SOP No. 98-1 is effective for fiscal years beginning after December 15, 1998. The Company believes that the adoption of this SOP will have no material effect on the financial position, results of operations, or cash flows of the Company. In April 1998, the AICPA released SOP 98-5, "Reporting on the Costs of Start-Up Activities." SOP 98-5 generally requires costs of start-up activities to be expensed instead of being capitalized and amortized. SOP 98-5 is effective for fiscal years beginning after December 15, 1998. The Company expects that the adoption of this SOP will have no material effect on the financial position, results of operations, or cash flows of the Company. 24 Information Systems And The Year 2000 The following statements and all other statements made in this Annual Report on Form 10-K with respect to the Company's Year 2000 processing capabilities or readiness are "Year 2000 Readiness Disclosures" in conformance with with the Year 2000 Information and Readiness Disclosure Act of 1998 (Public Law 105-271, 112 Stat. 2386). Some computers, software, and other equipment include computer code in which calendar year data is abbreviated to only two digits. As a result of this design decision, some of these systems could fail to operate or fail to produce correct results if "00" is interpreted to mean 1900, rather than 2000. These problems are widely expected to increase in frequency and severity as the year 2000 approaches, and are commonly referred to as the "Year 2000 Problem." Assessment. The Year 2000 Problem affects computers, software, and other equipment used, operated, or maintained by the Company. Accordingly, the Company has organized a program team comprised of internal and external staff responsible for monitoring the assessment and remediation status of the Company's Year 2000 projects and reporting such status to the Company's Executive Committee. This project team is currently assessing the potential effect of, and costs of remediating, the Year 2000 Problem for the Company's internal systems. For reporting purposes, the Company is using a methodology involving the following six phases: Discovery, Assessment, Planning, Remediation, Testing, and Implementation. At December 31, 1998, the Discovery and Assessment phases were substantially complete for all program areas. The target completion date for priority items by remaining steps are as follows: Planning - March 1999; Remediation - May 1999; Testing - July 1999; and Implementation - August 1999. Internal Infrastructure. The Company believes that it has identified most of the major computers, software applications, and related other equipment used in connection with its internal operations that must be modified, upgraded, or replaced in order to minimize the possibility of a material disruption to its business from the Year 2000 Problem. The Company has commenced the process of modifying, upgrading, and replacing major systems that have been assessed as adversely affected, and expects to complete this process before the occurrence of any material disruption of its business. However, there can be no assurance in this regard. Systems Other than Information Technology Systems. In addition to computers and related systems, the operation of office and facilities equipment, such as fax machines, photocopiers, telephone switches, security systems, elevators, and other common devices may be affected by the Year 2000 Problem. The Company is currently assessing the potential effect of, and costs of remediating, the Year 2000 Problem on its office and facilities equipment. The Company estimates the total cost to the Company of completing any required modifications, upgrades, or replacements of these internal systems to be approximately $0.3 million, almost all of which the Company believes will be incurred during 1999. This estimate is being monitored and will be revised as additional information becomes available. Based on the activities described above, the Company does not believe that the Year 2000 Problem will have a material adverse effect on the Company's business or results of operations. In addition, the Company has not deferred any material information technology projects as a result of its Year 2000 Problem activities. Customers and Suppliers. The Company has initiated communications with its customers and third party suppliers of the major computers, software, and other equipment used, operated, or maintained by the Company to identify and, to the extent possible, resolve issues involving the Year 2000 Problem. However, the Company has limited or no control over the actions of these customers and third party suppliers. Thus, while the Company expects that it will be able to resolve any significant Year 2000 Problems with these systems, there can be no assurance that these customers and suppliers will resolve any or all Year 2000 Problems with these systems before the occurrence of a material disruption to the business of the Company or any of its clients. Any failure of these third parties to timely resolve Year 2000 Problems with their systems could have a material adverse effect on the Company's business, financial condition, and results of operations. Most Likely Consequences of Year 2000 Problem. The Company expects to identify and resolve all Year 2000 Problems that could have a material adverse affect on its business operations. However, management believes that it is not possible to determine with complete certainty that all Year 2000 Problems affecting the Company or its clients have been identified or corrected. The number of devices that could be affected and the interactions among these devices are simply too numerous. In addition, no one can accurately predict how many Year 2000 Problem-related failures will occur or the severity, duration, or 25 financial consequences of these perhaps inevitable failures. As a result, management believes that the following consequences are possible: . a significant number of operational inconveniences and inefficiencies for the Company and its clients that will divert management's time and attention and financial and human resources from ordinary business activities; . a lesser number of serious systems failures that will require significant efforts by the Company or its clients to prevent or alleviate material business disruptions; . several routine business disputes and claims for pricing adjustments or penalties by clients due to Year 2000 Problems, which will be resolved in the ordinary course of business; and . a few serious business disputes alleging that the Company failed to comply with the terms of contracts or industry standards of performance, some of which could result in litigation or contract termination. Contingency Plans. The Company is currently developing contingency plans to be implemented if its efforts to identify and correct Year 2000 Problems affecting its internal systems are not effective. The Company expects to complete its contingency plans by June 1999. Depending on the systems affected, these plans could include accelerated replacement of affected equipment or software; short- to medium-term use of backup sites, equipment, and software; increased work hours for Company personnel; use of contract personnel to correct on an accelerated schedule any Year 2000 Problems that arise or to provide manual workarounds for information systems; and other similar approaches. If the Company is required to implement any of these contingency plans, it could have a material adverse effect on the Company's financial condition and results of operations. Disclaimer. The discussion of the Company's efforts, and management's expectations, relating to Year 2000 compliance are forward-looking statements. The Company's ability to achieve Year 2000 compliance, and the level of incremental costs associated therewith, could be adversely impacted by, among other things, the availability and cost of programming and testing resources, vendors' ability to modify proprietary software, and unanticipated problems identified in the ongoing compliance review. ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK. The Company uses fixed and variable rate debt to partially finance budgeted expenditures. These agreements expose the Company to market risk associated with changes in interest rates. The Company does not hold or issues derivative financial instruments for trading purposes. On June 30, 1998, the Company entered into an interest rate cap agreement that has been designated as a hedge against the Company's variable interest rate risk exposure under the Senior Credit Facility. At December 31, 1998, the interest rate cap has an aggregate national amount of $30.0 million, which matures in June 2001 and caps interest on the LIBO rate portion of the term portion of the Senior Credit Facility at 7.5%, plus the applicable LIBO rate margin. The following table presents the carrying and fair value of the Company's debt along with average interest rates. Fair values are calculated as the net present value of the expected cash flows of the financial instrument. Expected Maturity Date............. Fair 1999 2000 2001 2002 2003 Thereafter Total Value Variable Rate Debt (1)........ $9,657,729 $12,375,000 $13,750,000 $28,250,000 $ 64,032,729 $ 64,032,729 Fixed Rate Debt............. $ 950,000 $115,000,000 $115,950,000 $110,384,000 Average Interest Rate............ 8%
_________________ (1) The average interest rate on variable debt is 9.74% 26 ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA Index to Financial Statements and Schedules Page ---- Evercom, Inc. Report of Independent Certified Public Accountants...................... 29 Consolidated Balance Sheets for December 31, 1997 and 1998.............. 30 Consolidated Statements of Operations for the one month period ended December 31, 1996 and for each of the two years ended December 31, 1998...................................... 31 Consolidated Statements of Stockholders' Equity (Deficit) for the one month period ended December 31, 1996 and for each of the two years ended December 31, 1998.................. 32 Consolidated Statements of Cash Flows for the one month period ended December 31, 1996 and for each of the two years ended December 31, 1998...................................... 33 Notes to Consolidated Financial Statements.............................. 34 Predecessors' Financial Statements AmeriTel Pay Phones, Inc. Report of Independent Certified Public Accountants...................... 55 Balance Sheet for November 30, 1996..................................... 56 Statement of Income for the eleven months ended November 30, 1996............................................................... 57 Statement of Stockholders' Equity for the eleven months ended November 30, 1996............................................ 58 Statement of Cash Flows for the eleven months ended November 30, 1996.................................................. 59 Notes to Financial Statements........................................... 60 27 Talton Telecommunications Corporation Report of Independent Certified Public Accountants .............. 71 Consolidated Balance Sheet for November 30, 1996.................. 72 Consolidated Statement of Income for the eleven months ended November 30, 1996...................................... 73 Consolidated Statement of Stockholders' Equity for the eleven months ended November 30, 1996........................ 74 Consolidated Statement of Cash Flows for the eleven months ended November 30, 1996...................................... 75 Notes to Consolidated Financial Statements........................ 76 SUPPLEMENTARY DATA: - ------------------ Consolidated Valuation and Qualifying Accounts for the one month period ended December 31, 1996 and for each of the two years ended December 31, 1998........................ 83 28 INDEPENDENT AUDITORS' REPORT To the Board of Directors and Stockholders of Evercom, Inc.: We have audited the accompanying consolidated balance sheets of Evercom, Inc. and subsidiaries (the "Company") as of December 31, 1998 and 1997, and the related consolidated statements of operations, stockholders' equity (deficit) and cash flows for each of the two years in the period ended December 31, 1998 and for the one-month period from December 1, 1996 (date of acquisition) to December 31, 1996. Our audits also included the financial statement schedule listed in the Index at Item 8. These financial statements and financial statement schedule are the responsibility of the Company's management. Our responsibility is to express an opinion on the consolidated financial statements and financial statement schedule based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, such consolidated financial statements present fairly, in all material respects, the consolidated financial position of the Company as of December 31, 1998 and 1997, and the results of their operations and their cash flows for each of the two years in the period ended December 31, 1998 and the one-month period ended December 31, 1996, in conformity with generally accepted accounting principles. Also, in our opinion, such financial statement schedule, when considered in relation to the basic consolidated financial statements taken as a whole, presents fairly in all material respects the information set forth therein. DELOITTE & TOUCHE LLP Dallas, Texas March 25, 1999 29 EVERCOM, INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS
DECEMBER 31, ---------------------------------------- ASSETS 1997 1998 ---- ---- CURRENT ASSETS: Cash and cash equivalents $ 7,777,996 $ 1,691,762 Accounts receivable 17,401,907 39,070,959 Refundable income taxes 600,388 435,593 Inventories 1,690,930 2,360,280 Prepaid expenses and other current assets 2,309,661 392,448 Deferred income tax assets 1,059,752 1,442,122 ------------- ------------- Total current assets 30,840,634 45,393,164 PROPERTY AND EQUIPMENT 24,007,039 29,485,944 INTANGIBLE AND OTHER ASSETS 134,540,767 116,586,808 ------------- ------------- TOTAL $ 189,388,440 $ 191,465,916 ============= ============= LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT) CURRENT LIABILITIES: Accounts payable $ 6,933,874 $ 21,856,484 Accrued expenses 24,678,158 23,798,055 Current portion of long-term debt 5,545,363 10,607,729 ------------- ------------- Total current liabilities 37,157,395 56,262,268 LONG-TERM DEBT 160,040,938 169,375,000 OTHER LONG-TERM LIABILITIES 1,150,000 500,000 DEFERRED INCOME TAXES 1,059,752 1,442,122 COMMITMENTS AND CONTINGENCIES (See Notes) STOCKHOLDERS' EQUITY (DEFICIT): Preferred stock, $.01 par value; 6,000 shares authorized; 5,925 shares issued and outstanding (cumulative liquidation value of $5,925,000) 59 59 Common stock, $.01 par value; 50,000 shares authorized; 16,200 shares and 16,333 shares issued and outstanding as of December 31, 1997, and December 31, 1998, respectively 162 163 Additional paid-in capital 22,036,963 21,829,562 Accumulated deficit (32,056,829) (57,943,258) ------------- ------------- Total stockholders' equity (deficit) (10,019,645) (36,113,474) ------------- ------------- TOTAL $ 189,388,440 $ 191,465,916 ============= =============
See notes to consolidated financial statements. 30 EVERCOM INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS
One Month Period Ended December 31, Years Ended December 31, ------------ ------------------------------- 1996 1997 1998 OPERATING REVENUE $ 5,506,110 $ 91,773,041 $ 225,292,986 OPERATING EXPENSES: Telecommunication costs 2,298,712 37,871,217 99,842,779 Facility commissions 1,455,375 25,723,997 71,205,505 Field operations and maintenance 218,895 4,542,757 7,817,165 Selling, general and administrative 372,341 8,540,629 17,661,406 Depreciation and impairment 110,803 2,218,694 6,691,954 Amortization of intangibles 741,032 14,243,332 26,338,961 Restructure and other charges 399,817 1,743,290 ------------- ------------- ------------- Total operating expenses 5,197,158 93,540,443 231,301,060 ------------- ------------- ------------- OPERATING INCOME (LOSS) 308,952 (1,767,402) (6,008,074) OTHER (INCOME) EXPENSE: Interest expense, net 612,071 11,137,877 19,637,507 Other (income), net (20,490) (76,392) (235,623) ------------- ------------- ------------- Total other (income) expense 591,581 11,061,485 19,401,884 ------------- ------------- ------------- LOSS BEFORE INCOME TAXES AND EXTRAORDINARY LOSS (282,629) (12,828,887) (25,409,958) INCOME TAX (BENEFIT) EXPENSE (22,502) (641,670) 476,471 ------------- ------------- ------------- LOSS BEFORE EXTRAORDINARY ITEM (260,127) (12,187,217) (25,886,429) EXTRAORDINARY LOSS ON DEBT EXTINGUISHMENT 4,739,757 ------------- ------------- ------------- NET LOSS (260,127) (16,926,974) (25,886,429) PREFERRED STOCK DIVIDENDS 474,000 474,000 ------------- ------------- ------------- NET LOSS APPLICABLE TO COMMON STOCK $ (260,127) $ (17,400,974) $ (26,360,429) ============= ============= =============
See notes to consolidated financial statements 31 EVERCOM, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)
PREFERRED STOCK COMMON STOCK ADDITIONAL -------------------- ---------------------- PAID-IN ACCUMULATED SHARES AMOUNT SHARES AMOUNT CAPITAL (DEFICIT) TOTAL ------ ------ ------ ------------- ------------- -------------- -------------- Issuance of Preferred Stock 5,925 $59 $ 5,924,941 $ 5,925,000 Issuance of Common Stock 15,300 $153 15,686,031 15,686,184 Portion of Acquisition Cash Payments to Continuing Stockholders, Treated as a Dividend $(14,869,728) (14,869,728) Net Loss (260,127) (260,127) ------ ------ ------ ------------- ----------- ------------- ------------ BALANCE, JANUARY 1, 1997 5,925 59 15,300 153 $21,610,972 (15,129,855) 6,481,329 Preferred dividends (474,000) (474,000) Issuance of common stock 900 9 899,991 900,000 Net loss (16,926,974) (16,926,974) ------ ------ ------ ------------- ------------ ------------- ------------ BALANCE, DECEMBER 31, 1997 5,925 59 16,200 162 22,036,963 (32,056,829) (10,019,645) Preferred dividends (474,000) (474,000) Issuance of common stock 133 1 266,599 266,600 (25,886,429) (25,886,429) Net loss ------ ------ ------ ------------- ------------ ------------- ------------- BALANCE, DECEMBER 31, 1998 5,925 $59 16,333 $163 $21,829,562 $(57,943,258) $(36,113,474) ====== ====== ====== ============= =========== ============= ============
See notes to consolidated financial statements. 32 EVERCOM, INCEVERCOM, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS
ONE MONTH PERIOD ENDED DECEMBER 31, YEARS ENDED DECEMBER 31, ---------------- ------------------------------- 1996 1997 1998 CASH FLOWS FROM OPERATING ACTIVITIES: Net loss $ (260,127) $(16,926,974) $(25,886,429) Adjustments to reconcile net loss to net cash(used in) provided by operating activities: Depreciation and impairment 110,803 2,218,694 6,691,954 Amortization of intangible assets, including deferred financing costs and bond discount 803,023 14,804,641 27,482,445 Extraordinary loss on debt extinguishment 4,739,757 Deferred income taxes 160,512 (1,295,508) Changes in operating assets and liabilities, net of effects of acquisitions: Accounts receivable 44,823 (6,974,425) (22,232,694) Inventories 12,013 (723,013) (606,359) Prepaid expenses and other assets (166,096) (87,536) 134,130 Accounts payable (1,010,795) 1,574,179 14,782,610 Accrued expenses (718,313) 9,694,953 3,728,009 Income taxes (394,963) (976,546) 164,795 ------------ ------------- ------------- Net cash (used in) provided by operating activities (1,419,120) 6,048,222 4,258,461 ------------ ------------- ------------- CASH FLOWS FROM INVESTING ACTIVITIES: (Increase) Decrease in restricted cash (1,919,312) 1,919,312 Capital expenditures (268,801) (8,062,724) (13,591,974) Cash outflows for acquisitions (46,983,442) (80,775,395) (11,711,061) ------------ ------------- ------------- Net cash used in investing activities (47,252,243) (90,757,431) (23,383,723) ------------ ------------- ------------- CASH FLOWS FROM FINANCING ACTIVITIES: Proceeds from the issuance of debt 59,200,000 168,709,966 19,000,000 Repayment of advances (1,001,024) Repayment of debt (15,912,706) (67,630,581) (5,553,572) Payments of deferred financing costs (3,804,121) (7,885,650) Payments of preferred dividends (474,000) Proceeds from the issuance of common and preferred stock, net of expenses 9,482,684 66,600 ------------ ------------- ------------- Net cash provided by financing activities 48,965,857 92,192,711 13,039,028 ------------ ------------- ------------- INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 294,494 7,483,502 (6,086,234) CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD 294,494 7,777,996 ------------ ------------- ------------- CASH AND CASH EQUIVALENTS, END OF PERIOD $ 294,494 $ 7,777,996 $ 1,691,762 ============ ============= ============= SUPPLEMENTAL INFORMATION: Cash paid for interest $ 640,035 $ 4,202,059 $ 25,102,184 ============ ============= ============= Cash paid for income taxes $ 211,950 $ 1,552,973 $ 311,676 ============ ============= ============= Noncash transactions: Issuance of subordinate notes, preferred stock and common stock for acquisitions $ 16,043,000 $ 900,000 $ 950,000 ============ ============= ============= Dividends payable $ $ 474,000 $ 474,000 ============ ============= ============= Amounts payable for acquisition costs $ $ 8,369,421 $ ============ ============= ============= Amounts payable for deferred financing costs $ $ 757,493 $ ============ ============= ============= Issuance of stock for forgiveness of acquisition liability $ $ $ 200,000 ============ ============= ============= Reduction of stockholders' equity to reflect accrued continuing shareholder interests $ 14,869,728 $ $ ============ ============= =============
See notes to consolidated financial statements. 33 EVERCOM, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1. BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES BUSINESS - Evercom, Inc. (the "Company") owns, operates and maintains telephone systems under contracts with correctional facilities in 43 states throughout the United States. The Company was incorporated on November 20, 1996, and effective December 1, 1996, acquired all of the outstanding equity interests of Talton Telecommunications Corporation and AmeriTel Pay Phones, Inc. The Company has grown through numerous subsequent acquisitions, as discussed in Note 2. The Company accumulates call activity from its various installations and bills its revenues related to this call activity through major local exchange carriers ("LECs") or through third-party billing services for smaller volume LECs, all of which are granted credit in the normal course of business with terms of between 30 and 60 days. The Company also provides validation, billing and collection services for the inmate calls of a major regional bell operating company. The Company performs ongoing credit evaluations of its customers and maintains allowances for unbillable and uncollectible losses based on historical experience. The Company operated in only one business segment as its operating activities are related to the operation and processing of collect, prepaid and debit calling services to local, county, state and private correctional facilities in the United States. PREPARATION OF FINANCIAL STATEMENTS - The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions, such as estimates of allowances and reserves for unbillable and uncollectible chargebacks that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. PRINCIPLES OF CONSOLIDATION - The accompanying consolidated financial statements include the accounts of the Company and its wholly owned subsidiaries, Talton Telecommunications Corporation, Talton Telecommunications of Carolina, Inc., AmeriTel Pay Phones, Inc., Talton STC Inc., Talton InVision, Inc., MOG Communications, Inc., Saratoga Telephone Company, Inc., and One Source Telecommunications, Inc. All significant intercompany balances and transactions are eliminated in consolidation. Certain amounts have been reclassified to conform with the current year presentation. CASH AND CASH EQUIVALENTS - Cash and cash equivalents include cash on hand and investments with a remaining maturity at date of purchase of three months or less. ACCOUNTS RECEIVABLE - Trade accounts receivable represent amounts billed for calls placed through the Company's telephone systems to the various LECs or third-party billing services, net of advance payments received, and an allowance for unbillable and uncollectible calls, based on historical experience, for estimated chargebacks to be made by the LECs. Under account advance agreements with various third-party billing services, advance payments equal to a percentage of the outstanding billed receivables are remitted to the Company when calls are submitted to the third-party billing service, and the Company grants a lien to the third-party billing service on the related accounts 34 receivable for the advance. The remainder of the billed receivable is paid to the Company, net of the advance amount, after the third-party billing service has collected the amounts receivable from the respective LECs. Interest is charged on the advance payment at varying rates. INVENTORIES - Inventories are stated at the lower of cost, as determined primarily using the weighted average cost method, or market. Inventory is primarily composed of equipment for installation on new contracts and supplies and parts for the telephone systems serviced by the Company. PROPERTY AND EQUIPMENT - Property and equipment are stated at cost. Depreciation and amortization is provided on a straight-line basis over the estimated useful lives of the related assets. The following is a summary of useful lives for major categories of property and equipment.
ASSET USEFUL LIFE Leasehold improvements Lesser of life or lease term Telephone system equipment 3.5 to 7.5 years Vehicles 3 years Office equipment 3 to 7 years
Maintenance and repairs are expensed when incurred and major repairs that extend an asset's useful life are capitalized. When items are retired or disposed, the related carrying value and accumulated depreciation are removed from the respective accounts, and the net difference less any amount realized from the disposition is reflected in earnings. INTANGIBLE AND OTHER ASSETS - Intangible and other assets primarily include amounts allocated to acquired facility contracts, noncompete agreements, goodwill and other intangible assets, which are stated at cost, along with the long-term portion of customer advances, and the long-term portion of recoverable Universal Service Fund fees. Amortization of intangible assets is provided on a straight-line basis over the estimated useful lives of the related assets. The following is a summary of useful lives for major categories of intangible assets:
INTANGIBLE ASSET USEFUL LIFE Acquired facility contracts Contract term Noncompete agreements Agreement term Deferred loan costs Loan term Other assets and intangibles 2 to 5 years Goodwill 20 years
Acquired facility contracts consist primarily of costs allocated to locations acquired in acquisitions of facility contract rights from other service providers, along with signing bonuses paid to the facilities under new facility installations and other incremental direct costs paid to obtain the facility contracts. Other assets and intangibles include costs incurred to obtain direct billing agreements with LECs, and licensing fees to obtain state licenses to conduct business. The Company periodically assesses the net realizable value of its intangible assets, as well as all other long-term assets, by comparing the expected future net operating 35 cash flow, undiscounted and without interest charges, to the carrying amount of the underlying assets. The Company would evaluate a potential impairment if the recorded value of these assets exceeded the associated future net operating cash flows. Any potential impairment loss would be measured as the amount by which the carrying value exceeds the fair value of the asset. Fair value of assets would be measured by market value, if an active market exists, or by a forecast of expected future net operating cash flows, discounted at a rate commensurate with the risk involved. As discussed in footnote 4, the Company recorded an impairment loss on a portion of its telephone system equipment in 1998. INCOME TAXES - The Company accounts for income taxes using the liability method in accordance with the provisions of Statement of Financial Accounting Standards ("SFAS") No. 109, "Accounting for Income Taxes." Under this method, deferred tax assets and liabilities are provided for temporary differences between the financial statement and tax bases of the assets and liabilities using current tax rates. REVENUE RECOGNITION - Revenues related to collect, prepaid and debit calling services are recognized during the period in which the calls are made. In addition, during the same period, the Company accrues the related telecommunication costs for validating, transmitting, billing and collection, and line and long-distance charges, along with commissions payable to the facilities and allowances for unbillable and uncollectible calls, based on historical experience. Revenues related to the validation, billing and collection services provided to other entities are recognized in the period in which the calls are processed through the Company's system. During the same period, the Company accrues the related telecommunications costs for validating, transmitting, and billing and collection costs, along with allowances for unbillable and uncollectible calls, based on historical experience. FACILITY COMMISSIONS - Under the terms of the Company's telephone system contracts with correctional facilities, the Company pays commissions to these facilities generally based on call volume revenues that are accrued during the period the revenues are generated. COMPREHENSIVE INCOME - SFAS No. 130, "Reporting Comprehensive Income" became effective as of the first quarter of 1998. This statement requires companies to report and display comprehensive income and its components (revenues, expenses, gains and losses). Comprehensive income includes all changes in equity during a period except those resulting from investments by owners and distributions to owners. For the Company, comprehensive income is the same as the net loss reported in the statements of consolidated operations for each of the two years in the period ended December 31, 1998 and for the one-month period ended December 31, 1996, since there were no other items of comprehensive income for the periods presented. RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS - SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities," was issued in June 1998, and requires recognition of all derivative financial instruments as either assets or liabilities in consolidated balance sheets at fair value and determines the method(s) of gain/loss recognition. SFAS No. 133 is effective for fiscal years beginning after June 15, 1999. The Company is currently evaluating the effect that the statement may have on the Company's consolidated financial statements. In March 1998, the American Institute of Certified Public Accountants ("AICPA") released Statement of Position ("SOP") No. 98-1, "Accounting for the Costs of Computer Software Developed or Obtained for Internal Use." SOP 98-1 requires the capitalization of certain expenditures for software that is purchased or internally developed. SOP No. 98-1 is effective for fiscal years beginning after 36 December 15, 1998. The Company believes that the adoption of this SOP will have no material effect on the financial position, results of operations, or cash flows of the Company. In April 1998, the AICPA released SOP 98-5, "Reporting on the Costs of Start-Up Activities." SOP 98-5 generally requires costs of start-up activities to be expensed instead of being capitalized and amortized. SOP 98-5 is effective for fiscal years beginning after December 15, 1998. The Company believes that the adoption of this SOP will have no material effect on the financial position, results of operations or cash flows of the Company. 2. ACQUISITIONS Effective December 1, 1996, the Company acquired all of the outstanding equity interests of Talton Telecommunications Corporation and AmeriTel Pay Phones, Inc. The aggregate net purchase price was approximately $47.9 million, which was funded with the net proceeds from the issuance of common and preferred stock and the proceeds from the issuance of long-term debt. Since certain of the stockholders of the Company held ownership interests in Talton Telecommunications and AmeriTel Pay Phones, Inc., their continuing ownership interest in the Company has been accounted for at their prior historical basis, which has resulted in a reduction in stockholders' deficit of approximately $14.9 million and a corresponding reduction in the fair values assigned to tangible and identifiable intangible assets, in accordance with the provisions of Emerging Issue Task Force discussion No. 88-16, "Basis in Leveraged Buyout Transactions." Effective April 4, 1997, the Company acquired substantially all of the net assets of Tri-T, Inc. (d.b.a. Tataka) for cash of $0.8 million, which was funded primarily by borrowings under the Senior Credit Facility. Effective June 27, 1997, the Company acquired substantially all of the net assets of Security Telecom Corporation for cash of $9.9 million and issuance of 900 shares of the Company's Class A common stock. The Company financed the acquisition with a portion of the proceeds from the Senior Notes (as defined). Approximately $2.5 million of the purchase price was withheld at closing, pending certain regulatory approvals and final adjustments. In conjunction with the acquisition of Security Telecom Corporation, the Company entered into an agreement with an employee of Security Telecom Corporation giving the employee the right to receive cash of $200,000 or to purchase up to 100 shares of the Company's Class A common stock for $2,000 per share. The employee exercised this right in September 1998. Effective July 31, 1997, the Company acquired all of the net assets of Correctional Communications Corporation for a cash purchase price of $10.3 million. Approximately $1.6 million of the purchase price is held in an escrow account pending resolution to certain consents and indemnities. The acquisition agreement also provides for contingent payment of up to $1.5 million if certain financial performance benchmarks are achieved in the future. The $1.5 million contingency will be accounted for as an adjustment to the purchase price when the contingency is resolved. The Company financed the acquisition with a portion of the proceeds from the Senior Notes. Effective October 6, 1997, the Company entered into an agreement to purchase substantially all of the net assets of the inmate pay phone division of Communications Central Inc. for $40 million in cash and assumption of $2.0 million in liabilities subject to various adjustments as defined in the agreement and subject to a provision for working capital of approximately $1.2 million provided to the Company 37 pursuant to the purchase agreement. The Company financed the acquisition with the remaining proceeds from the Senior Notes and borrowings under the Senior Credit Facility. Effective December 1, 1997, the Company entered into an agreement to purchase substantially all of the net assets of the inmate pay phone division of North American InTeleCom, Inc. from TSC Communications for a cash purchase price of $6.5 million in cash, a deferred payment of $1.7 million, and the assumption of certain liabilities approximating $0.7 million. The Company funded the acquisition with borrowings under the Senior Credit Facility. Effective December 19, 1997, the Company entered into an agreement to purchase substantially all of the net assets of the inmate pay phone division of Peoples Telephone Company, Inc. for $10.6 million with the assumption of certain liabilities. The acquisition agreement also provides for additional contingent payments if certain financial results are obtained in the future. The additional payments will be accounted for as an adjustment to the purchase price when the contingency is resolved. The Company funded the acquisition with borrowings under the Senior Credit Facility. Effective January 1, 1998, the Company entered into an agreement to purchase substantially all of the net assets of the inmate pay phone division of ILD Teleservices, Inc. for a cash purchase price of $2.6 million. The acquisition was funded with borrowings under the Senior Credit Facility. Effective February 1, 1998, the Company entered into an agreement to purchase MOG Communications, Inc. for a cash purchase price of $1.9 million and a note of $950,000. The acquisition was funded with borrowings under the Senior Credit Facility. Effective July 1, 1998, the Company entered into an agreement to purchase Saratoga Telephone Company for a cash purchase price of $2.0 million. The acquisition was funded with borrowings under the Senior Credit Facility. The above acquisitions were accounted for using the purchase method of accounting as of their respective acquisition dates and, accordingly, only the results of operations of the acquired companies subsequent to their respective acquisition dates are included in the consolidated financial statements of the Company. At the acquisition date, the purchase price was allocated to assets acquired, including identifiable intangibles and liabilities assumed based on their fair market values. The excess of the total purchase prices over the fair value of the net assets acquired represents goodwill. 38 In connection with the acquisitions, assets were acquired and liabilities were assumed as follows:
Purchase Prices 1997 1998 --------------- ------------ ------------ Net cash paid $ 80,775,395 $ 7,021,727 Amounts payable for acquisition costs 8,369,421 Subordinated notes, preferred stock and common stock issued to sellers, net of expenses 900,000 950,000 ------------ ----------- Total net purchase prices, including professional fees 90,044,816 7,971,727 Fair values of net assets acquired: Fair values of assets acquired 53,131,563 3,828,315 Liabilities assumed (3,297,973) (416,780) ------------ ----------- Total net assets acquired 49,833,590 3,411,535 ------------ ----------- Goodwill $ 40,211,226 $ 4,560,192 ============ ===========
The following table presents unaudited pro forma results of operations of the Company for the one month ended December 31, 1996 and for the years ended December 31, 1997 and 1998, respectively, as if the acquisitions had occurred at the beginning of each respective period:
ONE MONTH PERIOD ENDED DECEMBER 31, YEARS ENDED DECEMBER 31, ------------------ ------------------------------------- 1996 1997 1998 Operating revenues $ 15,613,199 $ 180,883,954 $ 226,779,019 Loss before extraordinary loss 2,082,154 27,304,983 26,572,457 Net loss 2,082,154 32,044,740 26,572,457
The unaudited pro forma results of operations are not necessarily indicative of what the actual results of operations of the Company would have been had the acquisitions occurred at the beginning of the periods presented, nor do they purport to be indicative of the future results of operations of the Company. 39 3. ACCOUNTS RECEIVABLE Accounts receivable consist of the following:
December 31, -------------------------------------- 1997 1998 Trade accounts receivable, net of advance payments received of $187,647 and $141,460 at December 31, 1997 and 1998, respectively $ 21,809,811 $ 42,308,582 Advance commissions receivable 272,921 2,020,020 Receivables related to acquisitions 456,875 141,044 Recoverable Universal Service Fund Fees - current portion 1,089,800 Receivables from joint venture partner 419,643 Employees and other 178,989 329,749 ------------ ------------ 22,718,596 46,308,838 Less allowance for unbillable and uncollectible chargebacks (5,316,689) (7,237,879) ------------ ------------ $ 17,401,907 $ 39,070,959 ============ ============
At December 31, 1997 and 1998, the Company had advanced commissions to certain facilities of $1,290,732 and $2,495,558, respectively, which are recoverable from such facilities as a reduction of earned commissions at specified monthly amounts. Amounts included in accounts receivable represent the estimated recoverable amounts during the next fiscal year with the remaining balance recorded in other assets. At December 31, 1998, the Company had remitted $1,511,688 more federal Universal Service Fund fees than it had collected from its telecommunications customers. Based on the Company's current recovery rate, $1,089,800 of this balance will be recovered in the next fiscal year and is included in accounts receivable with the remaining balance recorded in other assets. 40 4. PROPERTY AND EQUIPMENT Property and equipment consist of the following:
December 31, ------------------------------------ 1997 1998 Leasehold improvements $ 493,836 $ 834,051 Telephone system equipment 24,480,777 33,776,168 Vehicles 249,868 431,807 Office equipment 1,075,751 2,419,992 ------------ ------------ 26,300,232 37,462,018 Less accumulated depreciation (2,293,193) (7,976,074) ------------ ------------ $ 24,007,039 $ 29,485,944 ============ ============
DEPRECIATION AND IMPAIRMENT - Depreciation and impairment in 1997 and 1998 includes depreciation expense of $2,218,694 and $5,996,816, respectively. Also included in depreciation and impairment in 1998 is an impairment loss of $695,138, representing the net book value of telephone system equipment that was removed from service. 5. INTANGIBLE AND OTHER ASSETS Intangible and other assets consist of the following:
December 31, ------------------------------------------- 1997 1998 Intangible and other assets: Acquired telephone contracts $ 59,064,429 $ 63,835,844 Noncompete agreements 403,611 568,611 Deferred loan costs 8,299,067 8,299,067 Goodwill 79,970,642 84,530,834 Other intangibles 526,385 694,493 ------------- ------------- 148,264,134 157,928,849 Less accumulated amortization (15,157,562) (42,640,007) ------------- ------------- 133,106,572 115,288,842 Deposits 416,384 400,540 Recoverable Universal Service Fund Fees - noncurrent portion 421,888 Other assets - noncurrent portion of commission advances to facilities 1,017,811 475,538 ------------- ------------- $ 134,540,767 $ 116,586,808 ============= =============
41 6. ACCRUED EXPENSES Accrued expenses consist of the following:
December 31, --------------------------------- 1997 1998 Facility commissions $ 5,456,245 $ 8,007,248 Billing and collection fees 1,148,171 1,804,790 Uncollectible call chargebacks 990,135 5,267,345 Accrued acquisition and financing costs 8,599,778 3,941,666 Accrued interest 6,557,651 218,646 Accrued excise taxes payable 1,166,003 2,072,856 Accrued dividends on preferred stock 474,000 474,000 Accrued restructure costs 654,245 Accrued payroll and bonuses 778,633 Other 286,175 578,626 ----------- ----------- $24,678,158 $23,798,055 =========== ===========
The accrual for uncollectible call chargebacks represents a reserve for amounts collected from LECs that are expected to be charged back to the Company in future periods. The amount payable for acquisitions and financing costs includes a $2.3 million holdback of the purchase price of Security Telecom Corporation (see Note 2), which will be paid to the sellers after resolution of certain indemnifications, and an $870,000 deferred payment relating to the North American InTeleCom acquisition. 42 7. LONG-TERM DEBT The following is a summary of long-term debt:
DECEMBER 31, ------------------------------------- 1997 1998 Senior Notes $ 115,000,000 $ 115,000,000 Senior Credit Facility Revolving loan facility 2,000,000 14,500,000 Term loan facility 48,500,000 49,500,000 Note payable (see Note 2), with interest of 8.0%, due at maturity on February 19, 1999, and subordinate to borrowings of the Senior Notes and Senior Credit Facility 950,000 Other 86,301 32,729 ------------- ------------- 165,586,301 179,982,729 Less current portion of long-term debt (5,545,363) (10,607,729) ------------- ------------- $ 160,040,938 $ 169,375,000 ============= =============
SENIOR NOTES - On June 27, 1997, the Company issued $115.0 million of 11% Senior Notes due 2007 (the "Senior Notes"). A portion of the proceeds of the issuance was used to repay substantially all of the Company's previous debt outstanding and to fund the purchase of Security Telecom Corporation. As a result of the repayment of the outstanding debt, and amendment of the Company's Senior Credit Facility, the Company incurred an extraordinary loss of $4.7 million resulting from the write-off of the unamortized deferred loan costs and the unamortized discount of the original senior subordinated notes. Interest on the Senior Notes is payable semiannually. All of the Company's subsidiaries (the "Subsidiary Guarantors") are fully, unconditionally, and jointly and severally liable for the Senior Notes. The Subsidiary Guarantors are wholly owned and constitute all of the Company's direct and indirect subsidiaries. The Company has not included separate financial statements of its subsidiaries because (a) the aggregate assets, liabilities, earnings and equity of such subsidiaries are substantially equivalent to the assets, liabilities, earnings and equity of the Company on a consolidated basis and (b) the Company believes that separate financial statements and other disclosures concerning subsidiaries are not material to investors. 43 The Senior Notes are redeemable at the Company's option on or after June 30, 2002. The Senior Notes are redeemable at the redemption prices (expressed as percentages of principal amount) set forth below plus accrued and unpaid interest:
YEAR PERCENTAGE 2002 105.500% 2003 103.667% 2004 101.833% 2005 and thereafter 100.000%
At any time on or prior to June 30, 2000, the Company may redeem up to 30% of the Senior Notes originally issued at a redemption price of 111% of the principal amount, plus accrued and unpaid interest, with the proceeds of one or more Equity Offerings (as defined in the Senior Credit Facility). SENIOR CREDIT FACILITY - The Company amended and restated its Senior Credit Facility with a group of lenders in March 1999 in conjunction with the issuance of First Preferred Series A stock and warrants, as discussed in footnote 15. The amendment provides for an additional $5.5 million term loan facility that will bear interest at similar rates to borrowings under the Senior Credit Facility. The additional term loan facility matures on December 31, 2002. The Senior Credit Facility, as amended in March 1999, includes a $55 million term loan acquisition facility, a $5.5 million additional term loan facility, and a $25.0 million revolving loan facility (which includes a $5 million letter of credit facility). Scheduled principal payments under the term loan facilities cannot be reborrowed. Under the terms of the Senior Credit Facility, the term loan acquisition facility is amortized on a quarterly basis over five years beginning September 30, 1998, the additional term loan facility matures on December 31, 2002, and the revolving credit facility expires on December 31, 2002. Amounts outstanding under the Senior Credit Facility bear interest at a rate per annum equal to one of the following rates, at the Company's option: (i) a base rate equal to the higher of the Federal Funds rate plus 50 basis points or the lead bank's reference rate plus a margin that varies from 75 to 225 basis points, depending on the Company's Total Debt to EBITDA Ratio (as defined in the Senior Credit Facility) or (ii) the London Interbank Offering Rate ("LIBOR") plus a margin that varies from 200 to 350 basis points, based on the Company's Total Debt to EBITDA Ratio. The Company pays a commitment fee on unused amounts of the Senior Credit Facility at the rate of 50 basis points. The blended interest rate in effect at December 31, 1998, on the Senior Credit Facility was 9.74%. Interest is payable quarterly, and scheduled principal installments on the term loan acquisition facility is due in quarterly installments of $2,750,000 beginning September 30, 1998 through December 31, 1998, decreasing to $2,406,250 on March 31, 1999, and increasing to $3,093,750 on March 31, 2000, and $3,437,500 on March 31, 2001, with the remaining unpaid balance due on December 31, 2002. The additional term loan facility is due on December 31, 2002. Both the revolving and the term loan facilities are collateralized by substantially all of the assets of the Company. INTEREST RATE CAP AGREEMENT - On June 30, 1998, the Company entered into an interest rate cap agreement that has been designated as a hedge against the Company's variable interest rate exposure under the Company's Senior Credit Facility. At December 31, 1998, the interest rate cap has an 44 aggregate notional amount of $30.0 million, which matures in June 2001, and caps interest on the LIBOR portion of the term loan at 7.5%, plus the applicable LIBOR margin. COVENANTS AND OTHER - The Senior Notes and the Senior Credit Facility contain financial and operating covenants requiring, among other items, the maintenance of certain financial ratios, including total debt to free cash flow (as defined in the Senior Credit Facility), senior secured debt to free cash flow and various other ratios of free cash flow to specified minimums. In addition, the Senior Credit Facility contains various covenants, which, among other things, limit the Company's ability to incur additional indebtedness, restrict the Company's ability to invest in and divest of assets, and restrict the Company's ability to pay dividends. As of December 31, 1998, the Company was not in compliance with one of its financial covenant ratios under the Senior Credit Facility and was consequently required to obtain a waiver of default letter from its group of lenders. The financial covenant ratio, the fixed charge coverage ratio, which is a measure of the Company's debt service, capital expenditures, and income tax obligations to its free cash flow, was subsequently modified in the March 1999 amendment to the Senior Credit Facility. Based on this modification, the Company is in compliance with its debt covenants and would have been in compliance as of December 31, 1998. In the event the Company fails to comply with the covenants and other restrictions, as specified, it could be in default under the Senior Notes and the Senior Credit Facility and substantially all of the Company's long-term maturities could be accelerated. As a result of the issuance of the First Preferred Series A Stock and warrants discussed in Note 15, the Company was required to obtain a waiver from its Senior Credit Facility group of lenders that waives the lenders' rights to the proceeds raised by the Company from the equity offering. At December 31, 1998, the scheduled maturities of long-term debt were as follows: 1999 $ 10,607,729 2000 12,375,000 2001 13,750,000 2002 28,250,000 2003 0 Thereafter 115,000,000 ------------ $179,982,729 ============
45 8. INCOME TAXES A summary of the income tax expense (benefit) is as follows:
One-Month Period Ended December 31, Years Ended December 31, -------------------- ------------------------------- 1996 1997 1998 Current income tax provision: Federal $ (73,837) $ 228,461 $ (135,134) State (10,260) 425,377 611,605 Deferred income taxes 61,595 (1,295,508) ----------- ----------- ----------- $ (22,502) $ (641,670) $ 476,471 =========== =========== ===========
The income tax expense (benefit) differs from statutory rates primarily because of permanent differences related to a valuation allowance on deferred tax assets, nondeductible write-off of debt discount expense and nondeductible goodwill amortization. The following is a reconciliation of the income tax benefit reported in the statement of operations:
One-Month Period Ended December 31, December 31, ---------------- ------------------------------ 1996 1997 1998 Tax benefit at statutory rates $ (96,094) $ (5,973,339) $ (8,639,386) Effect of state income taxes (13,284) (301,595) (521,679) Effect of nondeductible goodwill amortization 86,876 675,910 759,953 Nondeductible write-off of debt discount 332,163 Valuation allowance on deferred tax assets 4,674,920 8,588,395 Other (49,729) 289,188 ------------- ------------ ------------ $ (22,502) $ (641,670) $ 476,471 ============= ============ ============
46 The tax effects of temporary differences giving rise to deferred income tax assets and liabilities were:
DECEMBER 31, ---------------------------------------- 1997 1998 Deferred income tax assets: Reserves for unbillable and uncollectible chargebacks $ 1,486,129 $ 3,214,286 Other reserves 166,368 689,786 Amortization of intangibles 2,210,171 8,191,148 Net operating loss carryforward 1,872,004 2,610,217 Valuation allowance (4,674,920) (13,263,315) ------------ ------------ 1,059,752 1,442,122 Deferred income tax liability: Depreciation and amortization (1,059,752) (1,442,122) ------------ ------------ Net deferred income tax asset (liability) $ - $ - ============ ============
This net deferred income tax liability is classified in the consolidated balance sheet as follows:
December 31, ------------------------------------- 1997 1997 Current asset $ 1,059,752 $ 1,442,122 Noncurrent liability (1,059,752) (1,442,122) ------------- ------------ $ - $ - ============= ============
The Company has established a valuation allowance for deferred tax assets primarily as a result of operating and extraordinary losses. The Company was unable to determine that it is more likely than not that the deferred tax assets will be realized. The Company has accumulated a federal income tax net operating loss carryforward of approximately $7.7 million through December 31, 1998 of which $317,000 and $7.4 million will expire in 2017 and 2018, respectively. 9. STOCKHOLDERS' EQUITY COMMON STOCK - The authorized common stock of the Company includes 49,600 shares of Class A common stock and 400 shares of Class B common stock. Holders of the shares of the Company's Class A and the Company's Class B common stock have identical rights and privileges except that holders of the Company's Class B common stock are entitled to four votes a share as compared to one vote per share for holders of the Company's Class A common stock. In September 1998, an employee exercised his option, received in connection with a previous acquisition, to purchase 100 shares of the Company's Class A common stock for $2,000 per share. Additionally, in November 1998, a former employee exercised options to purchase 33 shares of the Company's Class A common stock for $2,000 per share. 47 Issued and outstanding shares of Class A common stock as of December 31, 1997 and 1998, were 15,800 shares and 15,933 shares, respectively. Issued and outstanding shares of Class B common stock as of December 31, 1997 and 1998, were 400 shares. The Class B common stock is convertible into four shares of Class A common stock upon the occurrence of a major event, as defined. SENIOR PREFERRED STOCK - In connection with the acquisitions of Talton Telecommunications Corporation and AmeriTel Pay Phones, Inc. as discussed in Note 2, the Company issued 5,925 shares of senior preferred stock to former stockholders of the acquired companies. The preferred stockholders have no voting rights and are entitled to receive cumulative dividends at the rate of $80 per share per annum, payable quarterly, when declared by the Board of Directors. In the event of any liquidation, dissolution or winding up of the Company (voluntary or involuntary), the holders of the preferred stock shall be entitled to receive a preference over common stockholders in any distribution of assets of the Company, equal to $1,000 per share plus cumulative unpaid dividends. Upon the occurrence of a major event, which includes (i) a sale of all or substantially all the assets of the Company or (ii) a registered public offering of equity interests with gross proceeds of at least $20.0 million under the Securities Act of 1933, as amended, the Company is required to redeem the outstanding shares of preferred stock at a price equal to $1,000 a share plus cumulative unpaid dividends. Each holder of preferred stock is entitled to convert each preferred share into 0.08505 shares of Class A common stock, at the option of the holder, at any time after the date of issuance and on or prior to the occurrence of a major event, as defined. In addition to the senior preferred stock discussed above, the Company is authorized to issue up to 44,000 shares of junior preferred stock, of which no shares had been issued as of December 31, 1998. In March 1999, the Company issued 5,000 shares of newly authorized First Preferred Series A Stock as discussed in footnote 15. WARRANTS - At the acquisition date, the Company entered into a warrant agreement with certain of its senior subordinated note holders, which granted the note holders the right to purchase 1,085 shares of Class A common stock at an exercise price of $.01 a share, which was below the market value of the underlying shares at that date. Accordingly, as of December 31, 1996, approximately $1,085,500 of the proceeds of the senior subordinated note borrowings were allocated to these warrants and were recorded as additional paid-in capital. The $1,085,500, net of accumulated amortization, was written off in 1997 as part of the extraordinary loss on debt extinguishment upon the issuance of the Senior Notes and the related repayment of the outstanding balances under the previous Senior Credit Facility. At the acquisition date, the Company also entered into various warrant agreements with its other subordinated lenders along with its Class B common stockholders that granted such holders the right to purchase 6,230 shares of Class A common stock of the Company upon terms established by the Board of Directors. In conjunction with the issuance of the Senior Notes, 1,059 of these warrants were terminated. The remaining 5,171 warrants are exercisable in whole or part, at various dates through December 27, 2006, at warrant prices ranging from $1,000 to $3,000 a share. In March 1999, the Company issued 5,000 warrants giving the holders of each warrant the right to acquire one share of the Company's Class A common stock for $1,000 per share, as discussed in footnote 15. OPTIONS - In connection with certain employment agreements in 1997 and 1998, the Company granted 691 and 896, respectively, options to acquire common stock at an exercise price equal to the fair market 48 value of such shares at the date of grant. The options vest ratably over the term of the employment agreements and expire ten years from the date of grant. On May 26, 1998, the Company's Board of Directors approved the Evercom, Inc. 1998 Stock Option Plan (the "Plan"). The Plan provides for the grant of options to purchase shares of Class A common stock to certain officers and employees. The Company granted 56 options to employees on June 30, 1998. These options have a term of ten years, an exercise price equal to the fair market value of such shares at the date of grant and vest over five years. The following information summarize the shares subject to options:
Number of Shares Weighted Average Exercise Price Per Share 1997 1998 1997 1998 ---- ---- ---- ---- Options outstanding, beginning of year 691 $2,000 Granted 691 952 2,000 2,000 Exercised (33) 2,000 Cancelled (55) 2,000 --------- --------- Options outstanding, end of year 691 1,555 $2,000 $2,000 === ===== Options exercisable, end of year 106 291 == ===
The following table summarizes information about options outstanding at December 31, 1998:
WEIGHTED AVERAGE REMAINING WEIGHTED AVERAGE EXERCISE RANGE OF EXERCISE PRICE NUMBER OUTSTANDING CONTRACTUAL LIFE PRICE $2,000 1,555 9.92 $2,000
The Company applies the provisions of Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees," and related interpretations in accounting for its options. Accordingly, no compensation cost has been recognized for such option grants. Had compensation cost for the 49 Company's options been determined based upon the fair value at the grant dates for awards consistent with the method prescribed by the SFAS No. 123, "Accounting for Stock-Based Compensation," the Company's pro forma net loss would have been as follows:
YEARS ENDED DECEBER 31, ----------------------------------- 1997 1998 COMPENSATION COST DISCLOSURE Compensation Cost $ 207,000 $ 344,000 Net Loss: As reported (16,926,974) (25,886,429) Pro forma (17,133,974) (26,230,429) Stock option share data: Stock options granted during the period 691 952 Weighted average option fair value (a) $ 900 $ 720
________________ (a) Calculated in accordance with the Black-Scholes option pricing model, using the following assumptions: expected volitility of 0%; expected dividend yield of 0%; expected option term of ten years and risk-free rate of return of 6.09% and 4.5% for the options granted in 1997 and 1998, respectively. 10. RELATED-PARTY TRANSACTIONS One of the Company's subsidiaries leased office space from a stockholder under a month-to-month lease with monthly rentals of $3,000. This lease expired on December 31, 1996. Subsequently, the Company entered into a new lease agreement with the stockholder, with monthly payments in 1997 and 1998 of $9,083 and $9,812, respectively. The lease term extends through December 31, 2001, at which time the Company has an option to extend the lease for an additional five years. A stockholder of the Company earns a commission based on the net operating income, as defined by the commission agreement, generated from one of the Company's contracts. The Company paid $300,000 to this stockholder in accordance with this commission agreement during the year ended December 31, 1998. In conjunction with the formation of the Company in 1996 and the consummation and original financing of the acquisitions of Talton Telecommunications Corporation and AmeriTel Pay Phones, Inc., the Company paid transaction fees and expenses of $1,670,000 to three companies affiliated with certain stockholders that have been capitalized in the acquisitions. 50 The Company entered into a management services and consulting agreement with a company affiliated with certain stockholders, along with separate consulting agreements with four stockholders who are former employees of the acquired companies. These agreements require the payment of aggregate minimum annual consulting fees over the agreement life in the following amounts: 1999 $500,000 2000 200,000 2001 200,000 2002 100,000 These agreements also provide for the reimbursement of direct expenses along with future payments for transaction consulting services. One of the agreements entitles an affiliate of certain stockholders to a 1% fee based on the gross acquisition price for any asset or stock acquisitions by the Company. This agreement, which expires in December 1999, limits the cumulative acquisition fees paid to this consultant to an amount not to exceed $1,250,000 over the life of the agreement. In 1997 and 1998, the Company paid $187,000 and $666,000, respectively, under the terms of this agreement and $591,250 and $0 were recorded as a liability at December 31, 1997 and 1998, respectively. This agreement also provides for an additional payment upon the refinancing of certain senior subordinated notes outstanding. In conjunction with the offering of the Senior Notes, the Company paid $200,000 under the terms of this agreement. The management services and consulting agreement has a three-year term and is cancelable at either party's discretion, with all consulting fees under the remaining term of the agreement to be paid upon the date of termination. The remaining consulting agreements are cancelable only at the option of the consultants and expire over one- to five-year terms. In connection with these agreements, the Company paid $478,000 and $300,000 during the years ended December 31, 1997 and 1998, respectively. 11. BENEFIT PLAN The Company's subsidiaries sponsor 401(k) savings plans for the benefit of eligible full-time employees, which are qualified benefit plans in accordance with the Employee Retirement Income Security Act ("ERISA"). Employees participating in the plan can generally make contributions to the plan of up to 15% of their compensation. The plans provide for discretionary matching contributions by the Company of up to 50% of an eligible employee's contribution. Total plan expenses were $3,517 for the one-month ended December 31, 1996, and $5,115 and $5,490 for the years ended December 31, 1997 and 1998, respectively. 51 12. COMMITMENTS AND CONTINGENCIES OPERATING LEASES - The Company leases office furniture, office space and vehicles under various operating lease agreements. Rent expense under these operating lease agreements was $19,900 during the one-month ended December 31, 1996, and $496,967 and $919,085 during the year ended December 31, 1997 and 1998, respectively. Minimum future rental payments under noncancelable operating leases for each of the next five years and thereafter and in the aggregate are: Year ending December 31: 1999 $ 652,353 2000 458,571 2001 431,203 2002 329,238 2003 311,350 Thereafter 1,317,250 ------------ $ 3,499,965 ============
MINIMUM COMMISSIONS - In the normal course of business, the Company pays commissions to correctional facilities generally based on call volume revenues. In certain situations, the Company will enter into a minimum commission guarantee with the correctional facility. The minimum guarantee is developed based on, among other things, an expected base level of call traffic. The Company's three-year contract with one of its customers provides for minimum annual commissions of approximately $10 million per year. Call traffic, and therefore revenues generated from the contract in the initial period of operation were substantially below initial projections. As a result of the shortfall, the Company and its customer have agreed to review the results for the initial period of operation, review the causes for the shortfall and negotiate the guaranteed commission amount. The Company has recorded a liability for the minimum commission based on its estimate of the most likely outcome of the negotiations. The maximum potential payment required under the original minimum commission guarantee at December 31, 1998 was approximately $2.9 million. Under the terms of the contract, any minimum guarantee payment due is not required to be made until the year 2000. Management of the Company believes that the Company has adequately accrued for the commission liability as of December 31, 1998 and that the final negotiated commission payment will not have a material adverse effect on the consolidated financial position, results of operations, or cash flows of the Company. EMPLOYMENT AGREEMENTS - As of December 31, 1998, the Company had entered into employment agreements with certain key management personnel, which provided for minimum compensation levels and incentive bonuses along with provisions for termination of benefits in certain circumstances and for certain severance payments in the event of a change in control (as defined). LITIGATION - The Company is subject to various legal proceedings and claims that arise in the ordinary course of business operations. In the opinion of management, the amount of liability, if any, with respect to these actions would not materially affect the financial statements of the Company. 13. FAIR VALUE OF FINANCIAL INSTRUMENTS Pursuant to SFAS No. 107, "Disclosure About Fair Value of Financial Instruments," the Company is required to disclose an estimate of the fair value of the Company's financial instruments. The Company believes that the carrying amounts of cash and cash equivalents, accounts receivable and accounts 52 payable are a reasonable estimate of their fair value because of the short- term maturities of such instruments. In addition, because the interest rates on the amounts borrowed under the Senior Credit Facility are variable, their fair values approximate their carrying values. The fair value of the Senior Notes is based on their quoted market value. The following is a summary of the carrying value of the Company's debt instruments:
DECEMBER 31, 1997 DECEMBER 31, 1998 --------------------------------------------- ------------------------------------------ HISTORICAL HISTORICAL CARRYING VALUE FAIR VALUE CARRYING VALUE FAIR VALUE Senior Notes $115,000,000 $123,912,500 $115,000,000 $109,434,000 Senior Credit Agreement 50,500,000 50,500,000 64,000,000 64,000,000
14. RESTRUCTURING AND OTHER COSTS RESTRUCTURING COSTS - During 1998, management authorized and committed to a plan of restructure. The plan provides for the consolidation of certain operations, including the closing of a number of office locations and reducing the workforce by approximately 21 employees and certain management positions. Based on the finalization of estimates included within the plan and the actual undertaking of certain actions in accordance with the plan, management made revisions to the original estimates during the fourth quarter. The revisions primarily relate to the final determination of the number of employees terminated, which resulted in 19 terminations, the unexpected subletting of certain facilities, and a refinement of expected legal and other costs. Although certain specific actions of the plan were modified, the overall plan for restructuring the Company is expected to be completed at a total cost of approximately $200,000 less than the original provision. Original restructuring reserves were established totaling $1.4 million, of which $200,000 was reversed in the fourth quarter. Of the adjusted amount, $600,000 was reserved for severance and related costs, $200,000 for the office leases and $400,000 for legal and other costs. Major categories of the restructuring reserve and the amounts incurred are summarized below:
Amounts Charged to Amounts Earnings in Incurred in 1998 1998 ---------------- -------------- Severance and related costs $ 614,678 $252,885 Leased facilities 217,902 68,449 Legal and other costs 379,685 236,685 ---------- -------- $1,212,265 $558,019 ========== ========
OFFERING COSTS - During 1998, the Company incurred $531,025 of external costs associated with a potential offering of equity securities. Due to the postponement of the equity offering, these costs were expensed in 1998. 53 FEDERAL BID COSTS - During 1997, the Company incurred $399,817 of external costs associated with a bid for the Federal Bureau of Prisons contract. The Company was unsuccessful in obtaining the contract. The contract award has been appealed; however, the Company has expensed all costs associated with the bid. EXTRAORDINARY LOSS- During 1997, as a result of the repayment of outstanding indebtedness and amendments of the Senior Credit Facility, the Company expensed approximately $4.7 million of debt issuance, legal and other costs associated with the extinguishment of the prior credit facilities. These amounts have been classified as an extraordinary loss in accordance with the provisions of SFAS No. 4, "Reporting Gains and Losses From the Extinguishment of Debt." 15. SUBSEQUENT EVENTS In March 1999, the Company raised $5 million of equity from its existing shareholders and warrant holders and/or their affiliates through the issuance of 5,000 investment units at $1,000 per unit. Each unit consists of one share of newly authorized First Preferred Series A Stock and a warrant to acquire one share of the Company's Class A common stock for $1,000 per share. The First Preferred Series A Stock will be entitled to receive dividends at the applicable First Preferred Series A Rate, payable quarterly commencing on April 1, 1999. Such dividends will be payable out of funds legally available therefor, will be payable only when, as, and if declared by the Board of Directors, shall be cumulative, and, if undeclared or unpaid, shall bear interest at the applicable First Preferred Series A Rate until paid. The First Preferred Series A Rate will be eight percent per annum through March 31, 2001, will be ten percent per annum from April 1, 2001 through June 30, 2001 and thereafter will increase by 0.5% for each additional three month period up to a maximum of 16% per annum. The First Preferred Series A Stock ranks senior to all classes of common stock but ranks junior to the Senior Preferred Stock of the Company with respect to dividend rights and rights upon liquidation. The warrants have a strike price of $1,000 per share and will expire if not sooner exercised on December 31, 2007. In conjunction with the March 1999 equity offering, the preferred dividend rates on the original Senior Preferred Stock were modified to mirror the preferred dividend rates on the First Preferred Series A Stock. Also in March 1999, in conjunction with the issuance of the First Preferred Series A Stock and warrants, the Company amended and restated its Senior Credit Facility, as discussed further in footnote 7. The amendment increased the Company's borrowing capacity under the term loan facility of the Senior Credit Facility by $5.5 million. ****** 54 INDEPENDENT AUDITORS' REPORT To the Stockholders of AmeriTel Pay Phones, Inc.: We have audited the accompanying balance sheet of AmeriTel Pay Phones, Inc. (the "Company") as of November 30, 1996, and the related statement of income, stockholder's equity and cash flows for the eleven months then ended. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audit. We conducted our audit in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion. In our opinion, such financial statements present fairly, in all material respects, the financial position of AmeriTel Pay Phones, Inc. as of November 30, 1996, and the results of its income and its cash flows for the eleven months then ended, in conformity with generally accepted accounting principles. DELOITTE & TOUCHE LLP Dallas, Texas April 4, 1997 55 AMERITEL PAY PHONES, INC. BALANCE SHEET
NOVEMBER 30, ASSETS 1996 ---------------------- CURRENT ASSETS: Cash and cash equivalents $ 80,664 Accounts receivable 5,546,304 Stock subscriptions receivable 1,061,384 Refundable income taxes 342,986 Inventories 785,438 Prepaid expenses 34,646 Deferred tax asset 396,752 ----------- Total current assets 8,248,174 PROPERTY AND EQUIPMENT 4,521,521 INTANGIBLE AND OTHER ASSETS 14,114,958 ----------- TOTAL $26,884,653 =========== LIABILITIES AND STOCKHOLDERS' EQUITY CURRENT LIABILITIES: Accounts payable $ 1,429,916 Accrued expenses 3,289,957 Current maturities of long-term debt 1,824,907 ----------- Total current liabilities 6,544,780 LONG-TERM DEBT 13,019,811 DEFERRED INCOME TAXES 425,689 COMMITMENTS AND CONTINGENCIES STOCKHOLDERS' EQUITY: Preferred stock, $.01 par value, 500,000 shares authorized; 244,800 shares issued and outstanding (liquidation value of $1,534,157 at November 30, 1996) 2,448 Common stock, $.01 par value, 10,000,000 shares authorized; 3,519,315 shares issued and outstanding as of November 30, 1996 35,193 Additional paid-in capital 3,704,863 Retained earnings 3,151,869 ----------- Total stockholders' equity 6,894,373 ----------- TOTAL $26,884,653 ===========
See notes to financial statements. 56 AMERITEL PAY PHONES, INC. STATEMENT OF INCOME
ELEVEN MONTHS ENDED NOVEMBER 30, 1996 ------------------------ OPERATING REVENUE $29,305,641 OPERATING EXPENSES: Telecommunication costs 13,728,316 Facility commissions 6,086,469 Field operations and maintenance 1,166,063 Selling, general and administrative 2,281,177 Depreciation 536,264 Amortization of intangibles 1,624,017 Nonrecurring expenses 684,320 ----------- Total operating expenses 26,106,626 ----------- OPERATING INCOME 3,199,015 OTHER (INCOME) EXPENSE: Interest income (20,816) Interest expense 1,375,701 Other, net 38,881 ----------- Total other (income) expense 1,393,766 ----------- INCOME BEFORE INCOME TAXES AND EXTRAORDINARY LOSS 1,805,249 INCOME TAXES 693,001 ----------- INCOME BEFORE EXTRAORDINARY LOSS 1,112,248 EXTRAORDINARY LOSS FROM EARLY EXTINGUISHMENT OF DEBT 52,353 ----------- NET INCOME $ 1,059,895 ===========
See notes to financial statements. 57 AMERITEL PAY PHONES, INC. STATEMENT OF STOCKHOLDERS' EQUITY
PREFERRED COMMON STOCK ADDITIONAL ---------------------- PAID-IN RETAINED STOCK SHARES AMOUNT CAPITAL EARNINGS TOTAL --------- ------------ -------- ----------- ----------- ----------- BALANCE, JANUARY 1, 1996 $2,448 3,233,854 32,338 2,292,548 2,209,682 4,537,016 Issuance of common stock 285,461 2,855 1,412,315 1,415,170 Preferred stock dividends ($0.48 per share) (117,708) (117,708) Net income 1,059,895 1,059,895 --------- ------------ -------- ----------- ----------- ----------- BALANCE, NOVEMBER 30, 1996 $2,448 3,519,315 $35,193 $3,704,863 $3,151,869 $6,894,373 ========= ============ ======== =========== =========== ===========
See notes to financial statements. 58 AMERITEL PAY PHONES, INC. STATEMENT OF CASH FLOWS
ELEVEN MONTHS ENDED NOVEMBER 30, 1996 ---- CASH FLOWS FROM OPERATING ACTIVITIES: Net income $ 1,059,895 Adjustments to reconcile net income to net cash provided by operating activities: Extraordinary loss 52,353 Depreciation and amortization 2,160,281 Deferred income taxes (35,524) Changes in operating assets and liabilities: Accounts receivable (3,803,925) Inventory 271,286 Prepaid expenses 44,880 Accounts payable 1,092,431 Accrued expenses 1,460,005 Income taxes 266,149 ----------- Net cash provided by operating activities 2,567,831 ----------- CASH FLOWS FROM INVESTING ACTIVITIES: Capital expenditures (1,516,236) Cash outflows for acquisition of facility contracts (4,698,468) ----------- Net cash used in investing activities (6,214,704) ----------- CASH FLOWS FROM FINANCING ACTIVITIES: Proceeds from long-term debt borrowings 5,600,000 Proceeds from issuance of common stock 19,501 Payments of long-term debt (2,645,282) Dividends paid on common and preferred stock (137,708) ----------- Net cash provided by financing activities 2,836,511 ----------- DECREASE IN CASH AND CASH EQUIVALENTS (810,362) CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD 891,026 ----------- CASH AND CASH EQUIVALENTS, END OF PERIOD $ 80,664 =========== SUPPLEMENTAL INFORMATION: Cash paid for interest $ 1,489,076 =========== Cash paid for income tax $ 462,380 =========== Noncash transactions: Issuance of common stock upon exercise of stock options in exchange for stock subscriptions receivable, along with the related tax benefit $ 1,395,669 =========== Amounts payable for acquisitions $ 310,000 ===========
See notes to financial statements. 59 AMERITEL PAY PHONES, INC. NOTES TO FINANCIAL STATEMENTS 1. BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES BUSINESS - AmeriTel Pay Phones, Inc. (the "Company"), which was incorporated on June 6, 1991, owns, operates and maintains telephone systems under contracts with correctional facilities in 30 states, with the majority of its installations in Missouri, Kansas, Iowa, Indiana, Minnesota and Nebraska. The Company accumulates call activity from its various installations and bills its revenues related to this call activity through major local exchange carriers ("LECs") or through third-party billing services, all of which are granted credit in the normal course of business with terms of between 30 and 60 days. The Company performs ongoing credit evaluations of its customers and maintains allowances for unbillable and uncollectible losses based on historical experience. PREPARATION OF FINANCIAL STATEMENTS - The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions, such as estimates of allowances for unbillable and uncollectible chargebacks, that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. CASH AND CASH EQUIVALENTS - For purposes of the statement of cash flows, cash and cash equivalents include cash on hand and cash investments with a remaining maturity at the date of purchase of three months or less. ACCOUNTS RECEIVABLE - Trade accounts receivable represent amounts billed for calls placed through the Company's telephone systems to the various LECs or third-party billing services, net of advance payments received, and an allowance for unbillable and uncollectible calls based on historical experience for estimated chargebacks to be made by the LECs. Under account advance agreements with various third-party billing services, advance payments equal to a percentage of the outstanding billed receivables are remitted to the Company when calls are submitted to the third-party billing service, and the Company grants a lien to the third-party billing service on the related accounts receivable for the advance. The remainder of the billed receivable is paid to the Company, net of the advance amount, after the third-party billing service has collected the amounts receivable from the respective LECs. Interest is charged on the advance payment at varying rates. INVENTORIES - Inventories are stated at the lower of cost, as determined using the weighted average cost method, or market. Inventory is primarily composed of equipment available for installation on new contracts and supplies and parts for the telephone systems serviced by the Company. 60 PROPERTY AND EQUIPMENT - Property and equipment are stated at cost. Depreciation and amortization is provided on a straight-line basis over the estimated useful lives of the related assets. The following is a summary of useful lives for major categories of property and equipment:
ASSET USEFUL LIFE Leasehold improvements Term of lease Telephone system equipment 7.5 to 10 years Vehicles 5 years Office equipment 3 to 7 years
Maintenance and repairs are expensed when incurred, and major repairs that extend an asset's useful life are capitalized. When items are retired or disposed of, the related carrying value and accumulated depreciation are removed from the respective accounts, and the net difference less any amount realized from the disposition is reflected in earnings. INTANGIBLE AND OTHER ASSETS - Intangible and other assets primarily include amounts allocated to acquired facility contracts, noncompete agreements, goodwill and other intangible assets, which are stated at cost, along with the long-term portion of customer advances. Amortization of intangible assets is provided on a straight-line basis over the estimated useful lives of the related assets. The following is a summary of useful lives for major categories of intangible assets:
INTANGIBLE ASSET USEFUL LIFE Acquired facility contracts 7.5 years Noncompete agreements Agreement term Deferred loan costs Loan term Other intangibles 5 to 20 years Goodwill 15 years
Acquired facility contracts consist primarily of costs allocated to locations acquired in acquisitions of facility contract rights from other service providers, along with signing bonuses paid to the facilities under new facility installations and other incremental direct costs paid to obtain the facility contracts. Other intangibles include organizational costs and licensing fees to obtain state licenses to conduct business. The Company began in 1996 to periodically assess the net realizable value of its intangible assets, as well as all other assets, by comparing the expected future net operating cash flow, undiscounted and without interest charges, to the carrying amount of the underlying assets. The Company would evaluate a potential impairment if the recorded value of these assets exceeded the associated future net operating cash flows. Any potential impairment loss would be measured as the amount by which the carrying value exceeds the fair value of the asset. Fair value of assets would be measured by market value, if an active market exists, or by a forecast of expected future net operating cash flows, discounted at a rate commensurate with the risk involved. INCOME TAXES - The Company accounts for income taxes using the liability method in accordance with the provisions of Statement of Financial Accounting Standards ("SFAS") No. 109, "Accounting for Income Taxes." Under this method, deferred tax assets and liabilities are provided for temporary 61 differences between the financial statement and tax bases of the assets and liabilities using current tax rates. REVENUE RECOGNITION - Revenues are recognized during the period the calls are made. In addition, during the same period, the Company accrues the related telecommunication costs for validating, transmitting, billing and collection, and line and long distance charges, along with commissions payable to the facilities and allowances for unbillable and uncollectible calls, based on historical experience. FACILITY COMMISSIONS - Under the terms of the Company's telephone system contracts with correctional facilities, the Company pays commissions to these facilities generally based on call volume revenues, which are accrued during the period the revenues are generated. FINANCIAL INSTRUMENTS - The Company's financial instruments under SFAS No. 107, "Disclosures About Fair Value of Financial Instruments," include cash and cash equivalents, accounts receivable, accounts payable and long-term debt. The Company believes that the carrying amounts of cash and cash equivalents, accounts receivable, accounts payable and long-term debt are a reasonable estimate of their fair value because of the short-term maturities of such instruments or, in the case of the revolving credit facility borrowings, because of the floating interest rates on such borrowings. In the case of the subordinated promissory notes to related parties, which bear a fixed interest rate, the Company believes that the current interest rates on these notes approximate the rates that could be currently negotiated with such related parties. 2. ACQUISITIONS During the eleven months ended November 30, 1996, the Company acquired facility contracts and the related facility equipment from various other independent inmate phone operators for purchase prices aggregating $5.0 million. These acquisitions were each accounted for using the purchase method of accounting as of their respective acquisition dates, and accordingly, only the results of the operations of these facilities subsequent to their respective acquisition dates are included in the financial statements of the Company. At the acquisition dates, the purchase prices were allocated to the assets acquired, including telephone system equipment, facility contracts and other identifiable intangibles based on their fair market values. 62 The excess of the total purchase prices over the fair values of the assets acquired represented goodwill. In connection with the acquisitions, assets were acquired, and liabilities were assumed as follows:
ELEVEN MONTHS ENDED NOVEMBER 30, 1996 --------------- Purchase prices: Net cash paid $4,698,468 Amounts payable to sellers 310,000 ---------- Total purchase price 5,008,468 Estimated fair values of tangible and identifiable intangible assets acquired 4,121,809 ---------- Goodwill $ 886,659 ==========
The following table presents unaudited pro forma results of operations of the Company for the eleven months ended November 30, 1996, as if the 1996 acquisitions had occurred at the beginning of 1996:
1996 ---- (UNAUDITED) Net sales $31,929,045 =========== Income before extraordinary loss $ 1,308,344 =========== Net income $ 1,255,991 ===========
The unaudited pro forma results of operations are not necessarily indicative of what the actual results of operations of the Company would have been had the acquisitions occurred at the beginning of the year, nor do they purport to be indicative of the future results of operations of the Company. In connection with two of the acquisitions in 1996, the Company recorded amounts payable to the sellers of $310,000, the payment of which was contingent upon the fulfillment of certain stipulations that the Company believed were probable of being met. In the event that the stipulations were not met and the full balance was not paid by the Company, intangible assets previously recorded on these acquisitions would be reduced. 63 3. ACCOUNTS RECEIVABLE Accounts receivable consist of the following:
NOVEMBER 30, 1996 ---- Trade accounts receivable $6,895,904 Advance commissions receivable 353,378 Employees and other 50,670 ---------- 7,299,952 Less advances on receivables (719,093) Less allowance for unbillable and uncollectible chargebacks (1,034,555) ---------- $5,546,304 ==========
At November 30, 1996, the Company had advanced commissions to certain facilities of $843,378, which are recoverable from such facilities as a reduction of earned commissions at specified monthly amounts. Amounts included in accounts receivable represent the estimated recoverable amounts during the next fiscal year with the remaining balance recorded in other assets. 4. PROPERTY AND EQUIPMENT Property and equipment consist of the following:
NOVEMBER 30, 1996 ---- Leasehold improvements $ 59,145 Telephone system equipment 5,159,020 Vehicles 138,914 Office equipment 334,543 ---------- 5,691,622 Less accumulated depreciation and amortization (1,170,101) ---------- $4,521,521 ==========
Substantially all of the Company's property and equipment is collateral for the Company's long-term debt. 64 5. INTANGIBLE AND OTHER ASSETS Intangible and other assets consist of the following:
NOVEMBER 30, 1996 ---- Intangible assets: Acquired facility contracts $11,432,435 Noncompete agreements 375,000 Goodwill 5,088,960 Other intangibles 100,945 ----------- 16,997,340 Less accumulated amortization (3,372,382) ----------- Total intangible assets 13,624,958 Other assets - noncurrent portion of commission advances to facilities 490,000 ----------- $14,114,958 ===========
6. ACCRUED EXPENSES Accrued expenses consist of the following:
NOVEMBER 30, 1996 ---- Billing and collection fees $ 420,338 Facility commissions 722,769 Long-distance charges 1,399,180 Recurring and special bonuses 521,875 Other 225,795 ---------- $3,289,957 ==========
65 7. LONG-TERM DEBT Long-term debt consists of the following:
NOVEMBER 30, 1996 ----------------- Revolving credit facility advances $12,600,000 Subordinated promissory note payable to a related party, with interest at 10%, due on December 31, 2001 800,000 Subordinated promissory notes payable to a related party, with interest of 10%, payable in quarterly installments of $106,472 until maturity on March 31, 2001, collateralized by a security interest in certain facility equipment and contracts 1,244,718 Amount payable in connection with a facility contract acquisition, due in February 1999 200,000 ----------- 14,844,718 Less current maturities of long-term debt (1,824,907) ----------- $13,019,811 ===========
The revolving credit facility is a $20,000,000 revolving credit facility with United Missouri Bank, N.A. and NBD Bank, with interest at a floating rate based on either prime or LIBOR options plus applicable basis points based on the Company's applicable coverage ratios. The outstanding balance at September 30, 1996, was converted into an installment note at that date, with the remaining balance of the revolving credit facility available until September 30, 1998. The installment note is payable in quarterly installments of $378,000 in 1997, increasing on an annual basis thereafter through September 30, 2001. The Company pays a commitment and facility fee of 0.5% on the average daily unused portion of the revolving credit facility. The revolving credit facility is collateralized by substantially all assets of the Company. Scheduled principal maturities on long-term debt for the five years subsequent to December 31, 1996, are as follows: 1997 $ 1,824,907 1998 2,374,490 1999 3,194,374 2000 3,122,947 2001 4,328,000 ----------- $14,844,718 ===========
In conjunction with the sale of the Company, as discussed in Note 14, all of the outstanding debt was repaid. 66 8. INCOME TAXES The provision for income taxes for the eleven months ended November 30, 1996, is as follows:
1996 --------------- Current taxes payable: Federal $609,228 State 119,297 Deferred income taxes (35,524) -------- $693,001 ========
The provision for income taxes differs from statutory rates primarily as a result of state income taxes and permanent differences. The following is a reconciliation of income taxes reported in the statement of operations:
1996 --------------- Tax at statutory rates $613,785 Effect of state income taxes 102,487 Other (23,271) -------- $693,001 ========
The tax effects of temporary differences giving rise to deferred income tax asset and liabilities were:
ELEVEN MONTHS ENDED NOVEMBER 30, 1996 ---------------- Deferred tax asset: Allowance for unbillable and uncollectible chargebacks $ 396,752 Deferred tax liabilities: Depreciation and amortization (402,892) Other (22,797) --------- (425,689) --------- Net deferred income tax liability $ (28,937) =========
67 This net deferred income tax liability is classified in the balance sheet as follows:
ELEVEN MONTHS ENDED NOVEMBER 30, 1996 ---------------- Current asset $ 396,752 Noncurrent liability (425,689) --------- $ (28,937) =========
9. STOCKHOLDERS' EQUITY STOCK OPTIONS - On May 1, 1994, the Board of Directors of the Company adopted a stock option agreement for certain employees and consultants of the Company. On the same date, the Board of Directors granted options for 233,335 shares of common stock at $.765 per share, the then-estimated fair market value per share of common stock of the Company that were exercisable at any time for a period of up to ten years from the date of grant. On December 19, 1994, the Board of Directors of the Company adopted the 1995 Stock Option Plan (the "Plan") for the directors, officers and other key employees of the Company, effective for fiscal year 1995. The maximum number of shares that could be granted under the Plan was amended from 653,600 shares to 446,248 shares on April 28, 1995. Under the provisions of the Plan, options were to be granted at an exercise price per share not less than the fair market value at the date of grant, as determined by the Compensation Committee (the "Committee"), and were to be exercisable on the date of grant. The Committee was also assigned responsibility for determining the term of each option, which in no event could exceed ten years from the date of grant. A total of 225,492 options were granted under the Plan during 1995 at a price of $4.59 per share, the then estimated fair market value per share of common stock of the Company. During 1996, no additional stock options were granted to employees, and employees exercised all remaining unexercised options prior to the sale of the Company, as discussed in Note 14. The following is a summary of changes in stock options during 1996:
EXERCISE WEIGHTED AVERAGE NUMBER OF PRICE SHARES PER SHARE Outstanding at January 1, 1996 285,461 3.790 Exercised during 1996 (285,461) 3.790 ---------- Outstanding at November 30, 1996 - ==========
The Company applies APB Opinion No. 25 and related interpretations in accounting for its stock option plans, and accordingly, no compensation has been recognized since stock options granted under these plans were at exercise prices, which approximated market value at the grant date. Had the Company 68 implemented SFAS No. 123, "Accounting for Stock-Based Compensation" the implementation would not have affected the net income of the Company for the eleven months ending November 30, 1996, because no options were granted during the period and because options granted prior to 1996 were fully vested. In connection with the issuance of shares of the Company's common stock for exercised options in 1996, the Company recognized, as increases in common stock and additional paid-in capital, the aggregate exercise price of $1,080,885, along with the tax benefits related to such options of $334,285. At November 30, 1996, the Company had recorded stock subscriptions receivable of $1,061,384 from certain employees for unpaid exercise proceeds, which were subsequently collected by the Company in December 1996. PREFERRED STOCK - The preferred stock accrues dividends at 8% for the one- year period ending on the first anniversary of the original issue date, 10% until the second anniversary date and 12% thereafter. The preferred stock is convertible any time into 244,800 shares of common stock on an after-stock- conversion basis. During 1996, $137,708 of the cash dividends were paid on the preferred stock. In conjunction with the sale of the Company, as discussed in Note 14, all outstanding shares of preferred stock were redeemed. 10. RELATED PARTY TRANSACTIONS In addition to the related party notes payable discussed in Note 7 and the stock subscription receivables related to exercised stock options discussed in Note 9, during the eleven months ended November 30, 1996, the Company paid an affiliate of its majority stockholders a consulting fee of $37,500 and incurred certain legal costs on behalf of its stockholders, which are recorded as accounts receivable from such stockholders. 11. BENEFIT PLAN The Company sponsors a 401(k) savings plan for the benefit of eligible full- time employees; this is a qualified benefit plan in accordance with the Employee Retirement Income Security Act ("ERISA"). The employees participating in the plan can generally make contributions to the plan of up to 15% of their compensation. The plan provides for discretionary matching contributions by the Company of up to 50% of an eligible employee's contribution. No significant contributions to this plan were made by the Company during 1996. 12. OTHER COSTS NONRECURRING COSTS - During 1996, the Company incurred costs of $250,000 related to the settlement of a lawsuit related to a prior acquisition, along with special bonuses of $434,320 paid to key management at the date of the sale of the Company, as discussed in Note 14. These special bonuses were payable to key management upon the closing of the sale of the Company pursuant to a transaction bonus agreement with such employees, due and payable only upon the closing of the sale, a portion of which was attributable to the buyout of existing employment contracts with such employees. 69 EXTRAORDINARY LOSS - In connection with the sale of the Company, all outstanding long-term debt was repaid, resulting in the expensing of existing unamortized debt issue costs of $52,353 (net of income tax benefit of $32,573). This loss has been classified as an extraordinary loss in accordance with the provisions of SFAS No. 4, "Reporting Gains and Losses From the Early Extinguishment of Debt." 13. COMMITMENTS AND CONTINGENCIES OPERATING LEASE - The Company leases office space under an operating lease agreement that expires on July 31, 1999. Rent expense under this and prior operating lease agreements was $61,050 during fiscal year 1996. The total remaining future minimum lease payments for the Company under the operating lease agreement are as follows: 1997 $ 66,600 1998 66,600 1999 38,850 -------- $172,050 ========
CONTINGENCIES - The Company is subject to various legal proceedings and claims that arise in the ordinary course of business operations. In the opinion of management, the amount of liability, if any, with respect to these actions would not materially affect the financial position of the Company or its results of operations. 14. SUBSEQUENT SALE OF COMPANY On December 27, 1996, Talton Holdings, Inc. acquired all of the outstanding common stock of the Company in a purchase business combination effective December 1, 1996. In conjunction with this transaction, all of the outstanding debt of the Company was repaid and all of the outstanding preferred stock was redeemed. ****** 70 INDEPENDENT AUDITORS' REPORT To the Board of Directors and Stockholders of Talton Telecommunications Corporation: We have audited the accompanying consolidated balance sheet of Talton Telecommunications Corporation and subsidiary (the "Company") as of November 30, 1996, and the related consolidated statements of income, stockholders' equity and cash flows for the eleven months then ended. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audit. We conducted our audit in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion. In our opinion, such consolidated financial statements present fairly, in all material respects, the consolidated financial position of Talton Telecommunications Corporation and subsidiary as of November 30, 1996, and the results of their income and their cash flows for the eleven months then ended, in conformity with generally accepted accounting principles. DELOITTE & TOUCHE LLP Dallas, Texas April 4, 1997 71 TALTON TELECOMMUNICATIONS CORPORATION AND SUBSIDIARY CONSOLIDATED BALANCE SHEET
NOVEMBER 30, ASSETS 1996 ---------------- CURRENT ASSETS: Cash and cash equivalents $ 449,904 Accounts receivable 2,388,958 Refundable income taxes Inventories 168,395 Prepaid expenses 55,788 Deferred income tax asset 54,400 ---------- Total current assets 3,117,445 PROPERTY AND EQUIPMENT 4,119,147 INTANGIBLE AND OTHER ASSETS 586,656 ---------- TOTAL $7,823,248 ========== LIABILITIES AND STOCKHOLDERS' EQUITY CURRENT LIABILITIES: Accounts payable $ 950,576 Accrued expenses 3,205,027 Income taxes payable 892,000 ---------- Total current liabilities 5,047,603 DEFERRED INCOME TAXES 308,605 COMMITMENTS AND CONTINGENCIES STOCKHOLDERS' EQUITY: Common stock, $1.00 par value; 5,000 shares authorized, issued and outstanding 5,000 Retained earnings 2,462,040 ---------- Total stockholders' equity 2,467,040 ---------- TOTAL $7,823,248 ==========
See notes to consolidated financial statements. 72 TALTON TELECOMMUNICATIONS CORPORATION AND SUBSIDIARY CONSOLIDATED STATEMENT OF INCOME
ELEVEN MONTHS ENDED NOVEMBER 30, 1996 ---- OPERATING REVENUE $24,357,473 OPERATING EXPENSES: Telecommunication costs 9,588,482 Facility commissions 7,875,455 Field operations and maintenance 649,739 Selling, general and administrative 1,639,827 Depreciation 1,001,982 Amortization of intangibles 122,180 ----------- Total operating expenses 20,877,665 ----------- OPERATING INCOME 3,479,808 OTHER (INCOME) EXPENSE: Interest income (55,268) Interest expense 169,789 Other, net (12,321) ----------- Total other (income) expense 102,200 ----------- INCOME BEFORE INCOME TAXES 3,377,608 INCOME TAXES 1,223,989 ----------- NET INCOME $ 2,153,619 ===========
See notes to consolidated financial statements. 73 TALTON TELECOMMUNICATIONS CORPORATION AND SUBSIDIARY CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
COMMON STOCK ----------------- RETAINED SHARES AMOUNT EARNINGS TOTAL ------ ------- ----------- ----------- BALANCE, JANUARY 1, 1996 5,000 $5,000 $ 308,421 $ 313,421 Net income for the eleven months ended November 30, 1996 2,153,619 2,153,619 ------ ------- ---------- ---------- BALANCE, NOVEMBER 30, 1996 5,000 $5,000 $2,462,040 $2,467,040 ====== ======= ========== ==========
See notes to consolidated financial statements. 74 TALTON TELECOMMUNICATIONS CORPORATION AND SUBSIDIARY CONSOLIDATED STATEMENT OF CASH FLOWS
ELEVEN MONTHS ENDED NOVEMBER 30, 1996 ---- CASH FLOWS FROM OPERATING ACTIVITIES: Net income $ 2,153,619 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization 1,124,162 Deferred income taxes 250,989 Changes in operating assets and liabilities: Accounts receivable (180,563) Inventories 142,233 Prepaid expenses (55,788) Accounts payable 14,007 Accrued expenses (97,672) Income taxes payable 1,381,652 ----------- Net cash provided by operating activities 4,732,639 ----------- CASH FLOWS FROM INVESTING ACTIVITIES: Capital expenditures (1,287,703) Payments for intangible and other (12,975) ----------- Net cash used in investing activities (1,300,678) ----------- CASH FLOWS FROM FINANCING ACTIVITIES: Payments of long-term debt (3,383,794) ----------- Net cash used in financing activities (3,383,794) ----------- INCREASE IN CASH AND CASH EQUIVALENTS 48,167 CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD 401,737 ----------- CASH AND CASH EQUIVALENTS, END OF PERIOD $ 449,904 =========== SUPPLEMENTAL INFORMATION: Interest paid $ 172,578 =========== Income taxes refunded $ (408,652) ===========
See notes to consolidated financial statements. 75 TALTON TELECOMMUNICATIONS CORPORATION AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1. BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES BUSINESS - Talton Telecommunications Corporation (the "Company"), which was incorporated in 1973, owns, operates and maintains telephone systems under contracts with correctional facilities in Alabama, Mississippi, North Carolina and South Carolina. The Company also operates and maintains public pay telephone systems at various third-party property locations. The Company accumulates call activity from its various installations and bills its revenues related to this call activity through major local exchange carriers ("LECs") or through third-party billing services for smaller volume LECs, all of which are granted credit in the normal course of business with terms of between 30 and 60 days. The Company performs ongoing credit evaluations of its customers and maintains allowances for unbillable and uncollectible losses based on historical experience. PREPARATION OF FINANCIAL STATEMENTS - The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions, such as estimates of allowances and reserves for unbillable and uncollectible chargebacks, that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. PRINCIPLES OF CONSOLIDATION - The consolidated financial statements include the accounts of the Company and its wholly owned subsidiary, Talton Telecommunications of Carolina, Inc. All significant intercompany balances and transactions are eliminated in consolidation. CASH AND CASH EQUIVALENTS - For purposes of the statement of cash flows, cash and cash equivalents includes cash on hand and cash investments with a remaining maturity at the date of purchase of three months or less. ACCOUNTS RECEIVABLE - Trade accounts receivable represents amounts billed for calls placed through the Company's telephone systems to the various LECs or third-party billing services, net of an allowance for unbillable and uncollectible calls, based on historical experience, for estimated chargebacks to be made by the LECs. INVENTORIES - Inventories are stated at the lower of cost, as determined using the first-in, first-out ("FIFO") method of valuation or market. Inventory is primarily composed of equipment available for installation on new contracts and supplies and parts for the telephone systems serviced by the Company. 76 PROPERTY AND EQUIPMENT - Property and equipment is stated at cost. Depreciation and amortization is provided on a straight-line basis over the estimated useful lives of the related assets. The following is a summary of useful lives for major categories of property and equipment:
ASSET USEFUL LIFE Leasehold improvements 15 to 39 years Telephone system equipment 5 to 6 years Vehicles 5 years Office equipment 5 to 7 years
Maintenance and repairs are expensed when incurred, and major repairs that extend an asset's useful life are capitalized. When items are retired or disposed of, the related carrying value and accumulated depreciation are removed from the respective accounts, and the net difference less any amount realized from the disposition is reflected in earnings. INTANGIBLE AND OTHER ASSETS - Intangible and other assets include amounts allocated to acquired facility contracts, noncompete agreements, goodwill and other intangible assets, which are stated at cost. Amortization of intangible assets is provided on a straight-line basis over the estimated useful lives of the related assets. The following is a summary of useful lives for major categories of intangible assets:
INTANGIBLE ASSET USEFUL LIFE Acquired facility contracts Contract term Noncompete agreements Agreement term Goodwill 15 years
Acquired facility contracts consist primarily of costs allocated to locations acquired in acquisitions of facility contract rights from other service providers, along with other incremental direct costs paid to obtain the facility contracts. The Company periodically assesses the net realizable value of its intangible assets, as well as all other assets, by comparing the expected future net operating cash flows, undiscounted and without interest charges, to the carrying amount of the underlying assets. The Company would evaluate a potential impairment if the recorded value of these assets exceeded the associated future net operating cash flows. Any potential impairment loss would be measured as the amount by which the carrying value exceeds the fair value of the asset. Fair value of assets would be measured by market value, if an active market exists, or by a forecast of expected future net operating cash flows, discounted at a rate commensurate with the risk involved. INCOME TAXES - The Company accounts for income taxes using the liability method in accordance with the provisions of Statement of Financial Accounting Standards ("SFAS") No. 109, "Accounting for Income Taxes." Under this method, deferred tax assets and liabilities are provided for temporary differences between the financial statement and tax bases of the assets and liabilities using current tax rates. REVENUE RECOGNITION - Revenues are recognized during the period the calls are made. In addition, during the same period, the Company accrues the related telecommunication costs for validating, transmitting, billing and collection, and line and long distance charges, along with commissions payable to the facilities and allowances for unbillable and uncollectible calls, based on historical experience. 77 FACILITY COMMISSIONS - Under the terms of the Company's telephone system contracts with correctional facilities, the Company pays commissions to these facilities generally based on call volume revenues that are accrued during the period the revenues are generated. FINANCIAL INSTRUMENTS - The Company's financial instruments under SFAS No. 107, "Disclosures About Fair Value of Financial Instruments," include cash and cash equivalents, accounts receivable, accounts payable and long-term debt. The Company believes that the carrying amounts of cash and cash equivalents, accounts receivable, accounts payable and long-term debt are a reasonable estimate of their fair value because of the short-term maturities of such instruments or, in the case of long-term debt, because of the floating interest rates on such long-term debt. 2. ACCOUNTS RECEIVABLE Accounts receivable consist of the following:
NOVEMBER 30, 1996 ---------------- Trade accounts receivable $2,390,864 Amounts due from shareholders 154,894 Other 3,200 ---------- 2,548,958 Less allowance for unbillable and uncollectible chargebacks (160,000) ---------- $2,388,958 ==========
3. PROPERTY AND EQUIPMENT Property and equipment consist of the following:
NOVEMBER 30, 1996 ----------------- Leasehold improvements $ 449,116 Telephone system equipment 7,425,582 Vehicles 246,611 Office equipment 319,167 ----------- 8,440,476 Less accumulated depreciation and amortization (4,321,329) ----------- $ 4,119,147 ===========
78 4. INTANGIBLE AND OTHER ASSETS Intangible and other assets consist of the following:
NOVEMBER 30, 1996 ---------------- Acquired facility contracts $ 1,562,906 Noncompete agreement 250,000 Goodwill 455,704 Other 66,375 ----------- 2,334,985 Less accumulated amortization (1,748,329) ----------- $ 586,656 ===========
5. ACCRUED EXPENSES Accrued expenses consist of the following:
NOVEMBER 30, 1996 --------------- Facility commissions $1,317,000 Uncollectible call chargebacks 840,000 Sales and excise taxes 702,838 Payroll and benefits 145,295 Other 199,894 ---------- $3,205,027 ==========
The accrual for uncollectible call chargebacks represents a reserve for amounts collected from the various LECs or third-party billing services that are expected to be charged back to the Company in future periods. 79 6. LONG-TERM DEBT All of the outstanding debt was repaid by the Company during 1996, there are no outstanding balances at November 30, 1996. The Company has a $750,000 line of credit arrangement with The Peoples Bank and Trust Company. The line had no outstanding balance at November 30, 1996. The line of credit bears interest at the prime rate, and is personally guaranteed by the majority stockholder. 7. INCOME TAXES The provision for income taxes for the eleven months ended November 30, 1996, are as follows:
1996 --------------- Current taxes payable: Federal $ 901,000 State 72,000 Deferred income taxes 250,989 ---------- $1,223,989 ==========
The Company has provided income tax expense during the nine months ended September 30, 1996, using the effective tax rates for each of its taxing jurisdictions that have been allocated between current income taxes payable and deferred income taxes based on 1996 anticipated temporary differences. The provision for income taxes differs from statutory rates primarily as a result of state income taxes and permanent differences. The following is a reconciliation of income taxes reported in the consolidated statement of income:
NOVEMBER 30, 1996 ---------------- Tax at statutory rates $1,148,387 Effect of state income taxes 97,951 Tax penalties and other (22,349) ---------- $1,223,989 ==========
80 The tax effects of temporary differences giving rise to deferred income tax asset and liabilities were:
NOVEMBER 30, 1996 ---------------- Deferred income tax assets: Allowance for unbillable and uncollectible revenues $ 54,400 --------- 54,400 Deferred income tax liabilities: Depreciation and amortization (307,557) Other (1,048) --------- (308,605) --------- Net deferred income tax liability $(254,205) =========
This net deferred income tax liability is classified in the consolidated balance sheet as follows:
NOVEMBER 30, 1996 ---------------- Current asset $ 54,400 Noncurrent liability (308,605) --------- $(254,205) =========
8. BENEFIT PLAN The Company sponsors a 401(k) savings plan for the benefit of eligible full- time employees that is a qualified benefit plan in accordance with the Employee Retirement Income Security Act ("ERISA"). The employees participating in the plan can generally make contributions to the plan of between 5% and 10% of their compensation. The plan provides for discretionary matching contributions by the Company of up to 50% of an eligible employee's contribution. Total plan expense was $32,820 for the eleven months ended November 30, 1996. 9. COMMITMENTS AND CONTINGENCIES The Company leases certain property and equipment used in its operations under operating lease agreements. Such leases, which are primarily for office furniture, office space and vehicles, have lease terms ranging from one to four years. 81 Future minimum lease payments for years ending December 31 under noncancelable operating leases are summarized below: 1996 (one month) $ 10,848 1997 63,209 1998 30,187 1999 960 2000 720 -------- $105,924 ========
Rent expense in connection with these leases totaled $107,158 for the eleven months ended November 30, 1996. 10. RELATED PARTY TRANSACTIONS The Company's majority and president has personally guaranteed three of the Company's operating leases, which have expiration dates ranging from March 1997 to September 1998. Total payments under the guaranteed leases for the eleven months ended November 30, 1996, totaled $79,239. During 1996, the Company's stockholders incurred $154,894 of legal expenses, which were paid by the Company and are recorded as amounts due from stockholders in accounts receivable at November 30, 1996, pending reimbursement from such stockholders. 11. SUBSEQUENT SALE OF COMPANY On December 27, 1996, Talton Holdings, Inc. acquired all of the outstanding common stock of the Company in a purchase business combination effective December 1, 1996. ****** 82 EVERCOM, INC. SCHEDULE II CONSOLIDATED VALUATION AND QUALIFYING ACCOUNTS One Month Ended December 31, 1996 and Years Ended December 31, 1997 and 1998 (In thousands)
Additions Charged to Beginning Costs and Ending Description Balance Expense Deductions Balance --------------------------------------- -------------------------------------------------------------------- 1996 Allowance for doubtful accounts 1,195 653 (723) 1,125 1997 Allowance for doubtful accounts 1,125 17,257 (13,065) 5,317 1998 Allowance for doubtful accounts 5,317 35,670 (33,749) 7,238
83 ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE None. 84 PART III -------- ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT The following table sets forth the names, ages, and positions of each of the directors and officers of the Company as of December 31, 1998.
Name Age Position ---- -------- -------- Dennis L. Whipple.................................. 55 Chief Executive Officer, Chairman, and Director Donald B. Vaello................................... 52 Chief Operating Officer Jeffrey D. Cushman................................. 37 Chief Financial Officer, Vice President, Secretary, and Treasurer Keith S. Kelson.................................... 32 Vice President of Finance, Assistant Secretary, and Assistant Treasurer Todd W. Follmer (1)................................ 39 Director Gregg L. Engles.................................... 41 Director Richard H. Hochman (1)(3).......................... 53 Director Jay R. Levine (2)(3)............................... 42 Director Nina E. McLemore (2)............................... 53 Director Bruce I. Raben (1)................................. 45 Director David A. Sachs (2)................................. 39 Director Roger K. Sallee (3)................................ 50 Director Julius E. Talton, Sr. (2).......................... 70 Director Joseph P. Urso..................................... 44 Director
_______________ (1) Member of the Executive Committee. (2) Member of the Audit and Finance Committee (3) Member of the Compensation Committee Dennis L. Whipple. Mr. Whipple became Chief Executive Officer, Vice Chairman and a Director of the Company in September 1998. In November 1998, Mr. Whipple became Chairman of the Company's Board of Directors. From June 1995 until March 1998, Mr. Whipple served as President of ALLTEL Communications, Inc. Mr. Whipple served as Chief Executive Officer and President of Contel Cellular, Inc. from 1991 through June 1995. Prior to joining Contel Cellular, Inc., Mr. Whipple held various positions with GTE from 1971 through 1991, most recently as Corporate Vice President of Marketing and Business Development. Donald B. Vaello. Mr. Vaello became Chief Operating Officer of the Company in June 1998. From August 1994 until June 1998 Mr. Vaello served as Chairman and Chief Operating Officer of North American Intelcom, a public communications company that he formed in 1983 and sold in 1989 to Diamond Shamrock Refining and Marketing, Inc. After the sale to Diamond Shamrock Refining and Marketing, Inc., Mr. Vaello served in various capacities with Diamond North American Intelcom, most recently as President and Chief Operating Officer. Jeffrey D. Cushman. Mr. Cushman became Chief Financial Officer of the Company in November 1997. In addition, in December 1997 Mr. Cushman was named Vice President, Secretary, and Treasurer. From 1985 until October 1997, Mr. Cushman served in various capacities with Electronic Data Systems Corporation ("EDS"), most recently as director of Business Development for EDS' Customer Solutions Unit. Keith S. Kelson. Mr. Kelson became Vice President of Finance of the Company in April 1998 and became Assistant Secretary and Assistant Treasurer of the Company in May 1998. From January 1995 until April 1998, Mr. Kelson served in the accounting and auditing services division of Deloitte & Touche, LLP. From May 1991 until January 1995, Mr. Kelson served as Accounting Manager for Viata Corporation, a credit card processing company. Mr. Kelson is a certified public accountant. Todd W. Follmer. Mr. Follmer was elected to the Company's Board of Directors in December 1996. Mr. Follmer served as the Chairman of the Company's Board of Directors from June 1998 until November 1998, and as the Company's Chief Executive Officer and President from June 1998 until September 1998. From November 1997 until June 1998, Mr. Follmer served as Acting Chief Executive Officer, and from December 1996 until June 1998, Mr. Follmer served as Vice President, Assistant Secretary, and Assistant Treasurer. Mr. Follmer has been a principal of EUFCC since January 1996. From January 1993 until December 1995, Mr. Follmer 85 served as President of Gulf Capital Partners Inc., a merchant banking firm. Gregg L. Engles. Mr. Engles was elected to the Company's Board of Directors in December 1996. Mr. Engles has served as Chairman and has been a principal of EUFCC since January 1996. Mr. Engles has served as Chairman of the Board and Chief Executive Officer of Suiza Foods Corporation since October 1994. Mr. Engles has also served in various senior management positions with certain subsidiaries of Suiza Foods since 1988. In addition, Mr. Engles has served as President of Kaminski Engles Capital Corporation ("KECC") since May 1988 and as President of Engles Management Corporation ("EMC") since February 1993. KECC and EMC are investment banking and consulting firms. Mr. Engles is a director of Columbus Realty Trust. Richard H. Hochman. Mr. Hochman was elected to the Company's Board of Directors in December 1996. Mr. Hochman has served as the Chairman of Regent Capital Management Corp., a private investment firm, since January 1995. From 1990 to December 1994, Mr. Hochman was a Managing Director of PaineWebber, Inc., an investment banking firm. Mr. Hochman is a director of Cablevision Systems Corporation and RABCO Enterprises. Jay R. Levine. Mr. Levine was elected to the Company's Board of Directors in December 1996. Since April 1997, Mr. Levine has served as a Managing Director of CIBC Oppenheimer, an investment banking firm, and since May 1997 has managed the CIBC Oppenheimer High Yield Merchant Banking Funds. From September 1996 to May 1997, Mr. Levine served as President of PPMJ, Inc., a private consulting firm. From 1990 until June 1996, Mr. Levine served as a senior executive in the Morningside and Springfield Group, a private investment company. Mr. Levine is a director of Aircraft Service International Group, Inc., Consolidated Advisers Limited, L.L.C., Global Crossing, Ltd., and Heating Oil Partners, L.P. Nina E. McLemore. Ms. McLemore was elected to the Company's Board of Directors in December 1996. Ms. McLemore has been the President of Regent Capital Management Corp. since January 1995. From 1990 until 1993, Ms. McLemore served in various capacities with Liz Claiborne Accessories. Bruce I. Raben. Mr. Raben was elected to the Company's Board of Directors in December 1996. Since February 1996, Mr. Raben has served as a Managing Director of CIBC Wood Gundy Securities Corp., an investment banking firm. From March 1990 to February 1996, Mr. Raben served as a Managing Director of Jefferies & Co., an investment banking firm. Mr. Raben is a director of GT Parent Holdings, L.D.C., Terex Corporation, Optical Security, Inc., and Equity Marketing, Inc. David A. Sachs. Mr. Sachs was elected to the Company's Board of Directors in December 1996. Since July 1994, Mr. Sachs has been a principal of Onyx Partners, Inc., a merchant banking firm, and since October 1997 Mr. Sachs has been a Managing Director of Ares Management, L.P., an investment management firm. From October 1990 until June 1994, Mr. Sachs was employed at TMT-FW, Inc., an affiliate of Taylor & Co., a private investment management firm. Mr. Sachs is a director of Terex Corporation. Roger K. Sallee. Mr. Sallee was elected to the Company's Board of Directors in December 1996. Mr. Sallee founded AmeriTel and served as its President and Chief Executive Officer from July 1991 until December 1996. Joseph P. Urso. Mr. Urso was elected to the Company's Board of Directors in December 1996. Mr. Urso has served as President and has been a principal of EUFCC since January 1996. Since March 1996, Mr. Urso has served as Chairman of Interstate Engineering, a manufacturing firm located in California. Mr. Urso was a shareholder of Stutzman & Bromberg, P.C. from January 1992 until June 1995. Julius E. Talton, Sr. Mr. Talton was elected to the Company's Board in December 1996. From December 1996 until June 1998, Mr. Talton served as Chairman of the Board and President of the Company. Mr. Talton founded Talton Telecommunications and served as its Chairman of the Board, President, and Chief Executive Officer from 1973 until December 1996. Mr. Talton served as President of Talton Outdoor Advertising from 1976 until November 1996. Mr. Talton is a director of the People's Bank and Trust Company in Alabama. The Company's Certificate of Incorporation divides the Board of Directors into two classes, the "Class A/B Directors" and the "Class B Directors," with each class serving a one-year term. The size of the Board of Directors depends on the aggregate percentage ownership of all outstanding Common Stock held by Gregg L. Engles, Joseph P. Urso, Todd W. Follmer, 86 and their respective affiliates (the "EUF Holders") and Onyx Talton Partners, L.P. and Sachs Investment Partners and their respective affiliates (the "Onyx Holders"). The size of the Company's Board of Directors is currently eleven (11) members, with the holders of Common Stock and Class B Common Stock entitled to elect six Class A/B Directors and the holders of Class B Common Stock entitled exclusively to elect five Class B Directors. The Class A/B Directors are Richard H. Hochman, Jay R. Levine, Nina E. McLemore, Bruce I. Raben, Dennis L. Whipple, and Julius E. Talton. The Class B Directors are Gregg L. Engles, Todd W. Follmer, David A. Sachs, Roger K. Sallee, and Joseph P. Urso. Each Class A/B Director is entitled, at all times, to one vote on any matter voted on by the Board of Directors. The number of votes that each Class B Director is entitled to on any matter voted on by the Board of Directors depends on the aggregate percentage ownership of all outstanding Common Stock held by the EUF Holders and the Onyx Holders. Each Class B Director is currently entitled to a 0.6 director vote on any matter voted on by the Board of Directors, resulting in the Class B Directors having an aggregate of three (3) director votes as a class. As the EUF Holders' and the Onyx Holders' ownership of the outstanding Common Stock decreases, the number of Class B Directors that the EUF Holders have the right to designate, the aggregate number of votes held by the remaining Class B Directors, and the size of the Company's Board of Directors decrease (and the number of Class A/B Directors increases), all as set forth in the Company's Certificate of Incorporation and the Shareholders Agreement (as defined). Under the terms of the Certificate of Incorporation and the Shareholders Agreement, the total number of votes on the Board of Directors will remain at nine. ITEM 11. EXECUTIVE COMPENSATION Summary Compensation Table The following table sets forth annual cash compensation paid or accrued by the Company to the Company's Chief Executive Officer and its other Executive Officers receiving total salary and bonus in excess of $100,000 for the fiscal years ended December 31, 1998, 1997, and 1996.
LONG-TERM ANNUAL COMPENSATION COMPENSATION OTHER ANNUAL SHARES ALL OTHER COMPENSATION UNDERLYING COMPENSATION Name and Principal Position YEAR SALARY($) BONUS($) ($)(1) OPTIONS (#) ($) - --------------------------- Dennis L. Whipple (2) Chief Executive Officer............ 1998 95,577 75,000 0 500 0 1997 ___ ___ ___ ___ ___ 1996 ___ ___ ___ ___ ___ Todd W. Follmer (3)................. 1998 0 0 0 0 0 1997 0 0 0 0 0 1996 0 0 0 0 0 Donald B. Vaello (4) Chief Operating Officer............ 1998 106,153 80,000 18,749(5) 200 0 1997 ___ ___ ___ ___ ___ 1996 ___ ___ ___ ___ ___ Jeffrey D. Cushman (6) Chief Financial Officer, Vice President, Secretary, and Treasurer.......................... 1998 143,500 85,000 0 125 0 1997 17,500 35,000 0 0 0 1996 ___ ___ ___ ___ ___
87
Keith S. Kelson (7) Vice President of Finance, Assistant Treasurer, and Assistant Secretary................ 1998 68,205 40,000 0 50 0 1997 ___ ___ ___ ___ ___ 1996 ___ ___ ___ ___ ___
(1) Unless otherwise indicated, the aggregate value of perquisites and other personal benefits does not exceed the lesser of $50,000 or 10% of the total annual salary and bonus report for the named executive officer. (2) Appointed effective September 7, 1998. (3) Mr. Follmer served as Chief Executive Officer of the Company from June 1998 until September 1998. (4) Appointed effective June 26, 1998. (5) Consisted of payment of closing costs on sale of residence. (6) Appointed effective November 15, 1997. (7) Appointed effective April 27, 1998. Option Grants During 1998, options to purchase an aggregate of 1,555 shares of Common Stock at an exercise price of $2,000 per share were granted. The following table provides information regarding stock options granted during 1998 to the Named Executive Officers. Option Grants During 1998
Individual Grants % of Total Potential Realizable Number of Options Value at Assumed Securities Granted to Annual Rates of Stock Underlying Options Employees Exercise Price Appreciation for Granted (#) During Price Expiration Option Term (1) Name 1998 ($/Share) Date 5% 10% Dennis L. Whipple.............. 500 32.15% $2,000 9/10/2008 628,895 1,593,742 Donald B. Vaello............... 200 12.86% $2,000 1/1/2008 251,558 637,497 Todd W. Follmer................ 0 -- -- -- -- -- Jeffrey D. Cushman............. 125 8.04% $2,000 1/1/2008 157,224 398,436 Keith S. Kelson................ 50 3.22% $2,000 1/1/2008 62,889 159,374
_____________ (1) The 5% and 10% assumed annual rates of compounded stock price appreciation are mandated by the rules of the Securities and Exchange Commission. The actual value, if any, that an executive officer may realize will depend on the excess of the stock price over the exercise price on the date the option is exercised. There is no assurance the value realized by an executive officer will be at or near the assumed 5% or 10% levels. Aggregated Option Exercises in 1998 and Year-End Option Values During 1998, none of the Named Executive Officers exercised any options. Employment Agreements and Other Arrangements Dennis L. Whipple joined the Company as Chief Executive Officer in September 1998. The Company entered into a written employment agreement with Mr. Whipple that has an initial term expiring on December 31, 2001, with successive one-year renewals thereafter unless notice is given by either party not less than 90 days immediately preceding the commencement of the renewal period. Mr. Whipple receives an annual base salary of $300,000, and received a guaranteed bonus of $75,000 for 1998. Mr. Whipple's target annual bonus is 100% of his base salary and is earned upon the achievement of pre-determined performance objectives. This bonus may actually be in excess of such amount, up to a maximum of 200% of Mr. Whipple's base salary, in the event such objectives are exceeded. Mr. Whipple is guaranteed a bonus in 1999 of at least $150,000. In addition, Mr. Whipple received options to purchase 500 shares of Common Stock at a per share price of $2,000. If Mr. Whipple is terminated by the Company without cause, the employment agreement provides for a severance pay equal to the 88 cash compensation paid by the Company to Mr. Whipple in the year prior to the year in which his employment is terminated or not extended. The employment agreement contains non-competition provisions that cover the Company's existing markets and expansion markets and that apply during the term of the agreement and for a period of one year after the expiration or earlier termination of the agreement. Donald B. Vaello joined the Company as Chief Operating Officer in June 1998. The Company entered into a written employment agreement with Mr. Vaello that has an initial term expiring on June 30, 2001, with successive one-year renewals thereafter unless notice is given by either party not less than 90 days immediately preceding the commencement of the renewal period. Mr. Vaello receives an annual base salary of $200,000, and a one-time guaranteed bonus of $30,000, which was paid on or before December 31, 1998. Mr. Vaello is also eligible for an annual bonus generally equal to an additional amount up to 50% of his base salary based upon achieving pre-determined performance objectives. This bonus may be in excess of such amount in the event such objectives are exceeded. In addition, Mr. Vaello received options to purchase 200 shares of Common Stock at a price of $2,000 per share. The employment agreement provides for a severance payment equal to one year's base salary if Mr. Vaello is terminated by the Company without cause. The employment agreement also contains non-competition provisions that cover the Company's existing markets and expansion markets that apply during the term of the agreement and for a period of one year after the expiration or earlier termination of the agreement. Jeffrey D. Cushman joined the Company as Chief Financial Officer in November 1997. The Company entered into a written employment agreement with Mr. Cushman that was amended in November 1998. The agreement has an initial term expiring on December 31, 1999, with successive one-year renewals thereafter unless notice is given by either party not later than 90 days immediately preceding the commencement of the renewal period. Mr. Cushman receives an annual base salary of $168,000 and a one-time guaranteed bonus of $85,000, $35,000 of which was paid in June 1998, and the remaining $50,000 of which was paid in February 1999. Mr. Cushman's target annual bonus is 50% of his base salary and is earned upon the achievement of pre-determined performance objectives. This bonus may actually be in excess of such amount, up to a maximum of 100% of Mr. Cushman's base salary, in the event such objectives are exceeded. In addition, Mr. Cushman received options to purchase 125 shares of Common Stock at a price of $2,000 per share. If Mr. Cushman is terminated by the Company without cause, the employment agreement provides for a severance payment equal to the cash compensation paid by the Company to Mr. Cushman in the calendar year prior to the calendar year in which his employment is terminated or not extended. The employment agreement also contains non-competition provisions that cover the Company's existing markets and expansion markets that apply during the term of the agreement and for a period of one year after the expiration or earlier termination of the agreement, provided that the one year period shall be extended for an additional year in the event that Mr. Cushman, rather than the Company, terminates the employment agreement. Keith S. Kelson joined the Company as Vice President of Finance in April 1998. Mr. Kelson's offer letter specifies that Mr. Kelson receives a base salary of $100,000 per year. Mr. Kelson is eligible for an annual bonus generally equal to an additional amount up to 40% of his base salary based upon pre-determined performance objectives. This bonus may actually be in excess of such amount in the event such objectives are exceeded. In addition, Mr. Kelson received options to purchase 50 shares of Common Stock at an exercise price of $2,000 per share. The offer letter provides for a severance payment equal to one year's base salary if Mr. Kelson is terminated by the Company without cause. Stock Option Plans The Company's 1998 Stock Option Plan (the "Stock Option Plan") has been established to provide the officers and employees of the Company a strong incentive to contribute to the success of the Company by granting them options to acquire Common Stock. The Stock Option Plan is administered by the Compensation Committee for the Board of Directors. The Compensation Committee has the authority to determine the persons employed by the Company who are to be granted options under the Stock Option Plan, the number of shares subject to each option, the date of the grant of each option, the option exercise price, whether the option granted is to be treated as an incentive stock option or a non-statutory stock option, the vesting period, and such other determinations as may be appropriate or necessary for the administration of the Stock Option Plan. Only employees of the Company may be granted options under the Stock Option Plan. The option exercise price of each option granted under the Stock Option Plan may not be less than 100% of the fair market value of the Common Stock on the date of grant. In the event of a Change of Control (as defined in the Stock Option Plan), options issued pursuant to the Stock Option Plan become immediately exercisable for a period of 30 days following such event. Any options not exercised 89 during the 30 day period are treated as if no Change in Control had occurred and will be governed by the terms of their original grant. The Stock Option Plan may be abandoned or terminated by the Board of Directors at any time. Such abandonment or termination, however, will not alter or impair any rights under any options granted prior to termination or abandonment. Unless previously terminated, the Stock Option Plan will expire on January 1, 2008. The Company has reserved 2,000 shares of Common Stock for issuance pursuant to the Stock Option Plan. As of December 31, 1998, options to acquire 1,055 shares had been granted to the Company's employees. The option exercise price for each of these options is $2,000 per share. These options generally provide for a ratable vesting over a three to five year period commencing upon the employee's initial employment with the Company. The options generally expire, if not previously exercised, upon the earlier of ten years following their date of grant or three months following the option holder's termination of employment with the Company. If any options terminate or expire without having been exercised, the shares not purchased under such options again are available for issuance under the Stock Option Plan. Limitation of Liability and Indemnification The Company's Certificate of Incorporation provides, consistent with the provisions of the Delaware General Corporation Law ("DGCL"), that no director of the Company will be personally liable to the Company or any of its stockholders for monetary damages arising from the director's breach of fiduciary duty as a director. This does not apply, however, with respect to any action for unlawful payments of dividends, stock purchases, or redemptions, nor does it apply if the director: (i) has breached his or her duty of loyalty to the Company and its stockholders; (ii) does not act or, in failing to act, has not acted in good faith; (iii) has acted in a manner involving intentional misconduct or a knowing violation of law or, in failing to act, has acted in a manner involving intentional misconduct or a knowing violation of law; or (iv) has derived an improper personal benefit. The provisions of the Certificate of Incorporation eliminating liability of directors for monetary damages do not affect the standard of conduct to which directors must adhere, nor do such provisions affect the availability of equitable relief. In addition, such limitations on personal liability do not affect the availability of monetary damages under claims based on federal law. The Company's bylaws provide for indemnification of its officers and directors to the fullest extent permitted by the DGCL. 90 ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT The following table sets forth the beneficial ownership of the Company's capital stock as of December 31, 1998 by (i) each stockholder known by the Company to beneficially own more than 5% of any class of the Company's outstanding capital stock; (ii) each director of the Company; (iii) each executive officer named in the Summary Compensation Table; and (iv) all executive officers and directors as a group.
SHARES BENEFICIALLY OWNED -------------------------------------------------------------------------------- NUMBER OF NUMBER OF NUMBER OF SHARES OF SHARES OF PERCENT SHARES OF CLASS A CLASS B OF TOTAL SENIOR COMMON PERCENT COMMON PERCENT OF VOTING REFERRED PERCENT NAME OF BENEFICIAL OWNER STOCK OF CLASS STOCK CLASS POWER(1) STOCK OF CLASS(2) - ------------------------ -------- --------- --------- ----------- ----------- --------- ----------- Dennis L. Whipple -- -- -- -- -- -- -- Julius E. Talton(3).............................. 2,062.5 12.94% -- -- % 11.8% 2,500.0 42.2% Jeffrey D. Cushman............................... -- -- -- -- -- -- -- Todd W. Follmer(4)............................... -- -- 100.0 25.0 2.3 -- -- Gregg L. Engles(4)............................... 150.0 * 100.0 25.0 3.1 -- -- Richard H. Hochman(5)............................ 2,000.0 12.6 -- -- 11.4 -- -- Jay R. Levine(6)................................. 5,935.5 -- -- -- -- -- -- Nina E. McLemore(7).............................. 2,000.0 12.6 -- -- 11.4 -- -- Bruce I. Raben(6)................................ 5,935.5 -- -- -- -- -- -- David A. Sachs(8)................................ 250.0 1.6 31.5 7.9 2.1 -- -- Roger K. Sallee.................................. 22.0 * -- -- * 61.7 1.04 Joseph P. Urso(4)................................ -- -- 100.0 25.0 2.3 -- -- CIBC (9)......................................... 5,935.5 37.2 -- -- 33.8 -- -- Regent Capital Partners, L.P.(10)................ 2,000.0 12.6 -- -- 11.4 -- -- Onyx Talton Partners, L.P.(11)................... -- -- 100.0 25.0 2.3 -- -- Richard C. Green, Jr............................. 250.0 1.6 -- -- 1.4 310.8 5.25 Robert K. Green.................................. 250.0 1.6 -- -- 1.4 310.8 5.25 William M. Ohland(12)............................ 900.0 5.6 -- -- 5.1 -- -- Donald B. Vaello................................. -- -- -- -- -- -- -- Keith S. Kelson.................................. -- -- -- -- -- -- -- All executive officers and directors as a group (14 persons).................................... 6,484.5 40.7 331.5 82.9 44.55 2,561.7 43.23
________________ * Less than 1.0% (l) In calculating the percent of total voting power, the voting power of shares of Common Stock (one vote per share) and Class B Common Stock (four votes per share) is aggregated. This calculation also assumes that no shares of Senior Preferred Stock are converted into shares of Common Stock. (2) Such percentages have been calculated in accordance with Section 13(d)(4) of the Securities Exchange Act of 1934, as amended. (3) The address for each of these stockholders is 720 Alabama Avenue, Selma, Alabama 36701. (4) The address for each of these stockholders is 3811 Turtle Creek Blvd., Suite 1300, Dallas, Texas 75219 (5) Includes 2,000 shares of Common Stock held by Regent Capital Partners. Mr. Hochman, who is the chairman of Regent Capital Management Corp., an affiliate of Regent Capital Partners, exercises voting and investment power with respect to such shares. Mr. Hochman's address is 505 Park Avenue, 17th Floor, New York, New York 10022. (6) Includes shares of Common Stock and warrants to acquire shares of Common Stock held by CIBC. Messrs. Levine and Raben are employees of an affiliate of CIBC. Such persons' address is 425 Lexington Ave., New York, New York 10017. Messrs. Levine and Raben disclaim beneficial ownership of such shares. (7) Includes 2,000 shares of Common Stock held by Regent Capital Partners. Ms. McLemore, who is the president of Regent Capital Management Corp., an affiliate of Regent Capital Partners, exercises voting and investment power with respect to such shares. Ms. McLemore's address is 505 Park Avenue, 17th Floor, New York, New York 10022. (8) Consists of 250 shares of Common Stock held by Sachs Investment Partners and 31.5 shares of Class B Common Stock held by Onyx Talton Partners, L.P. Mr. Sachs is a general partner of Sachs Investment Partners and a principal shareholder of Onyx Partners, Inc., the general partner of Onyx Talton Partners L.P. Mr. Sachs is a general partner of Sachs Partners, L.P. and exercises voting and investment power with respect to such shares. Mr. Sachs disclaims beneficial ownership of an additional 68.5 shares of Class B Common Stock held by Onyx Talton Partners, L.P. Mr. Sachs is a general partner of Sachs Investment Partners, L.P., and exercises voting and investment power with respect to such shares. Mr. Sachs disclaims beneficial ownership of an additional 68.5 shares of Class B Common Stock held by Onyx Talton Partners, L.P. Mr. Sachs address is 1999 Avenue of the Stars, Suite 1900, Los Angeles, California 90067. 91 (9) Includes 1,085.5 shares of Common Stock subject to a warrant that is exercisable within 60 days. CIBC's address is 161 Bay Street, P.P. Box 500, M51258, Toronto, Canada. Jay R. Bloom, Andrew R. Heyes, and Dean C. Kehler, employees of an affiliate of CIBC, have the power to vote and dispose of the listed securities. (10) Includes 500 shares of Common Stock held by Regent Capital Equity Partners, L.P., an affiliate of Regent Capital Partners. Regent Capital Partners' address is 505 Park Avenue, 17th Floor, New York, New York 10022. (11) Onyx Talton Partners, L.P.'s address is 9595 Wilshire Blvd., Suite 700, Beverly Hills, California 90212. (12) Consists of shares issued to STC as part of the purchase price in the STC Acquisition. Mr. Ohland owns all of the outstanding capital stock of STC. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS Certain Relationships and Related Transactions Consulting and Strategic Services Agreement In connection with the acquisitions of AmeriTel and Talton Telecommunications, the Company entered into a Consulting and Strategic Services Agreement with EUF Talton, a limited partnership controlled by Messrs. Engles, Urso, and Follmer, pursuant to which the Company will pay to EUF Talton an annual consulting fee of $300,000 for an initial term of three years ending December 27, 1999. Pursuant to this agreement, EUF Talton will provide management consulting services relating to strategic and financial matters, including acquisitions, business strategies, and financial planning. In addition, the Company has agreed to pay to EUF Talton an acquisition fee of 1% of the gross acquisition price of any acquisitions of assets or stock by the Company, up to an aggregate maximum of $1.25 million. Consulting and Employment Agreements In connection with the acquisitions of AmeriTel and Talton Telecommunications, the Company entered into the agreements described below. Each of the named persons was a former stockholder of AmeriTel or Talton Telecommunications. The consulting agreement of Julius E. Talton (the "Talton Consulting Agreement") provided that Mr. Talton would serve as a director of the Company and perform such duties related to the business conducted by the Company as the Board of Directors designated from time to time. The Talton Consulting Agreement had an initial term of two years, with successive one-year renewal periods thereafter unless earlier terminated by the Company or Mr. Talton. In addition to an aggregate of $10,000 payable in equal monthly installments to Mr. Talton over the first twelve months of the agreement, the agreement provided that Mr. Talton would receive payments of $86,000 and $96,000 for the first and second years of the initial term, respectively, and $120,000 for each year thereafter that the agreement remained in effect. The Talton Consulting Agreement contained a non-competition provision that applied during the term of the agreement and applies for a period of two years after the expiration or earlier termination of the agreement. Mr. Talton ceased working for the Company effective as of June 30, 1998 and the Talton Consulting Agreement was terminated as of that date. All fees due under the Talton Consulting Agreement were paid on a prorated basis through June 30, 1998. See "--Talton Agreement." Julius E. Talton, Jr.'s employment agreement (the "Talton Employment Agreement") provided that Mr. Talton, Jr. would serve as an executive of the Company, performing such duties and holding such positions as the Board of Directors or senior management of the Company directed. The Talton Employment Agreement had an initial term of one year, with successive one-year renewal periods thereafter unless earlier terminated by the Company or Mr. Talton, Jr. In addition to an aggregate of $25,000 payable in equal monthly installments to Mr. Talton, Jr. over the first twelve months of the agreement, the agreement provided that Mr. Talton, Jr. would receive an annual base salary of $100,000, a guaranteed bonus of $25,000 which was paid, in accordance with the agreement, upon closing of the Notes Placement, and an incentive cash bonus of up to 37.5% of base salary if certain performance goals established by the Board of Directors were achieved. The Talton Employment Agreement contained a non- competition provision that will apply until June 2000. Mr. Talton, Jr. also received an option to purchase up to 247.5 shares of Common Stock at an exercise price of $2,000 per share. Mr. Talton, Jr. ceased working for the Company effective as of June 30, 1998 and the Talton Employment Agreement was terminated as of that date. All fees due under the Talton Employment Agreement were paid on a prorated basis through June 30, 1998. See "--Talton Agreement." The consulting agreement of James E. Lumpkin (the "Lumpkin Consulting Agreement") provided that Mr. Lumpkin would serve, if requested, as a director of the Company and would perform such duties related to the business conducted by the Company as the chief executive officer or the Board of Directors designated from time to time. The Lumpkin Consulting Agreement has an initial term of two years, with successive one-year renewal periods thereafter unless earlier terminated by the 92 Company or Mr. Lumpkin. In addition to an aggregate of $10,000 payable in equal monthly installments to Mr. Lumpkin over the first twelve months of the agreement, the agreement provided that Mr. Lumpkin would receive $62,000 and $72,000 for the first and second years of the initial term, respectively. Mr. Lumpkin's consulting agreement contained a non-competition provision that will apply until June 2000. Mr. Lumpkin ceased working for the Company effective as of June 30, 1998 and the Lumpkin Consulting Agreement was terminated as of that date. All fees due under such the Lumpkin Consulting Agreement were paid on a prorated basis through June 30, 1998. See "--Talton Agreement." The consulting agreement of Roger K. Sallee provides that Mr. Sallee will serve as a director of the Company and will perform such duties related to the business conducted by the Company as the chief executive officer or the Board of Directors may designate from time to time. The consulting agreement had an initial term of one year, with successive one-year renewal periods thereafter unless earlier terminated by the Company or Mr. Sallee. In addition to a lump sum payment of $5,000 paid on the effective date of the agreement, Mr. Sallee will receive an annual consulting fee of $30,000 for each year that the agreement remains in effect. Mr. Sallee's consulting agreement contains non- competition provisions covering the Company's existing markets and expansion markets that apply during the term of the agreement and for a period of three years and two years, respectively, after the expiration or earlier termination of the agreement. Talton Agreement On July 1, 1998, the Company entered into an agreement with Julius E. Talton, Julius E. Talton, Jr. and James Lumpkin (the "Talton Agreement"). The Talton Agreement provided that each of the Talton Consulting Agreement, the Talton Employment Agreement, and the Lumpkin Consulting Agreement was terminated effective as of June 30, 1998. In accordance with the terms of the Talton Agreement, Mr. Talton, Mr. Talton, Jr., and Mr. Lumpkin will provide consulting services to the Company in relation to the Company's contract with a major RBOC. The Talton Agreement has a term of one year, ending on June 30, 1999. Under the terms of the Talton Agreement, Mr. Talton, Mr. Talton, Jr., and Mr. Lumpkin will be paid 10% of the Profits (as defined in the Talton Agreement) between July 1, 1998 and December 31, 1998 and 5% of the Profits between January 1, 1999 and June 30, 1999 from the Company's contract with a major RBOC. Lease Agreement In December 1996, Talton Telecommunications entered in a lease agreement (the "Talton Lease") with Mr. Talton for office space located in Selma, Alabama. The Talton Lease has a five-year term commencing January 1, 1997, with an option to renew for an additional five-year term. Under the Talton Lease, Talton Telecommunications will pay fixed annual rent of approximately $109,000, $112,000, $90,000, $93,000, and $96,000, respectively, for the five years of the initial term. 93 PART IV ------- ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K (a) (1) and (2) The response to this portion of Item 14 is submitted as a separate section of this report commencing on page 27. (a) (3) Exhibits.
Exhibit No. Description of Exhibit --- ---------------------- 2.1 Asset Purchase Agreement, dated as of August 21, 1997, among the Company, InVision Telecom, Inc., and Communications Central, Inc. (filed as Exhibit 2.1 to the Company's Registration Statement No. 333-33639 and incorporated herein by reference). 2.2 Contribution Agreement, dated as of December 20, 1996, among the Company, Richard C. Green, Jr., Robert K. Green, T.R. Thompson, Roger K. Sallee, and certain other stockholders, and AmeriTel Pay Phones, Inc. (filed as Exhibit 2.2 to the Company's Registration Statement No. 333-33639 and incorporated herein by reference). 2.3 Contribution Agreement, dated as of December 20, 1996, among the Company, Julius E. Talton, Julius E. Talton, Jr., and James E. Lumpkin (filed as Exhibit 2.3 to the Company's Registration Statement No. 333-33639 and incorporated herein by reference). 2.4 Stock Acquisition Agreement, dated as of December 20, 1996, among the Company, Richard C. Green, Jr., Robert K. Green, T. R. Thompson, Roger K. Sallee, and certain other stockholders, and AmeriTel Pay Phones, Inc. (filed as Exhibit 2.4 to the Company's Registration Statement No. 333-33639 and incorporated herein by reference). 2.5 Stock Acquisition Agreement, dated as of December 20, 1996, among the Company, Julius E. Talton, Julius E. Talton, Jr., James E. Lumpkin, Carrie T. Glover, Talton Telecommunications Corporation, and Talton Telecommunications of Carolina, Inc. (filed as Exhibit 2.5 to the Company's Registration Statement No. 333-33639 and incorporated herein by reference). 3.1 Certificate of Incorporation of the Company (filed as Exhibit 3.1 to the Company's Registration Statement No. 333-33639 and incorporated herein by reference). 3.2 Bylaws of the Company (filed as Exhibit 3.2 to the Company's Registration Statement No. 333-33639 and incorporated herein by reference). 3.3 Certificate of Amendment to Restated Certificate of Incorporation of the Company, dated as of July 23, 1998 (filed as Exhibit 3.3 to the Company's Quarterly Report on Form 10-Q, dated as of August 14, 1998, and incorporated herein by reference). 4.1 Indenture, dated as of June 27, 1997, between the Company and U.S. Trust Company of Texas, N.A. (filed as Exhibit 4.1 to the Company's Registration Statement No. 333-33639 and incorporated herein by reference). 4.2 Form of Note (contained in Indenture filed as Exhibit 4.2 to the Company's Registration Statement No. 333-33639 and incorporated herein by reference). 4.3 Form of Subsidiary Guaranty (contained in Indenture filed as Exhibit 4.3 to the Company's Registration Statement No. 333-33639 and incorporated herein by reference). 4.4 Registration Rights Agreement, dated as of June 27, 1997, between the Company and the Initial Purchaser (filed as Exhibit 4.4 to the Company's Registration Statement No. 333-33639 and incorporated herein by reference). 4.5 Registration Rights Agreement, dated as of December 27, 1996, by and among the Company and certain Holders named therein (filed as Exhibit 4.5 to the Company's Registration Statement No. 333-33639 and incorporated herein by reference).
94
4.6 Shareholders Agreement, dated as of December 27, 1996, by and among the Company and certain Persons named therein (filed as Exhibit 4.6 to the Company's Registration Statement No. 333-33639 and incorporated herein by reference). 4.7 Warrant Agreement, dated as of December 27, 1996, between the Company and CIBC Wood Gundy Ventures, Inc. (filed as Exhibit 4.7 to the Company's Registration Statement No. 333-33639 and incorporated herein by reference). 4.8 Warrant Agreement, dated as of December 27, 1996, between the Company and Gregg L. Engles (filed as Exhibit 4.8 to the Company's Registration Statement No. 333-33639 and incorporated herein by reference). 4.9 Warrant Agreement, dated as of December 27, 1996, between the Company and Gregg L. Engles (filed as Exhibit 4.9 to the Company's Registration Statement No. 333-33639 and incorporated herein by reference). 4.10 Warrant Agreement, dated as of December 27, 1996, between the Company and Gregg L. Engles (filed as Exhibit 4.10 to the Company's Registration Statement No. 333-33639 and incorporated herein by reference). 4.11 Warrant Agreement, dated as of December 27, 1996, between the Company and Onyx Talton Partners, L.P. (filed as Exhibit 4.11 to the Company's Registration Statement No. 333-33639 and incorporated herein by reference). 4.12 Warrant Agreement, dated as of December 27, 1996, between the Company and Onyx Talton Partners, L.P. (filed as Exhibit 4.12 to the Company's Registration Statement No. 333-33639 and incorporated herein by reference). 4.13 Warrant Agreement, dated as of December 27, 1996, between the Company and Onyx Talton Partners, L.P. (filed as Exhibit 4.13 to the Company's Registration Statement No. 333-33639 and incorporated herein by reference). 4.14 Warrant Agreement, dated as of December 27, 1996, between the Company and Joseph P. Urso (filed as Exhibit 4.14 to the Company's Registration Statement No. 333-33639 and incorporated herein by reference). 4.15 Warrant Agreement, dated as of December 27, 1996, between the Company and Joseph P. Urso (filed as Exhibit 4.15 to the Company's Registration Statement No. 333-33639 and incorporated herein by reference). 4.16 Warrant Agreement, dated as of December 27, 1996, between the Company and Joseph P. Urso (filed as Exhibit 4.16 to the Company's Registration Statement No. 333-33639 and incorporated herein by reference). 4.17 Warrant Agreement, dated as of December 27, 1996, between the Company and Todd W. Follmer (filed as Exhibit 4.17 to the Company's Registration Statement No. 333-33639 and incorporated herein by reference). 4.18 Warrant Agreement, dated as of December 27, 1996, between the Company and Todd W. Follmer (filed as Exhibit 4.18 to the Company's Registration Statement No. 333-33639 and incorporated herein by reference). 4.19 Warrant Agreement, dated as of December 27, 1996, between the Company and Todd W. Follmer (filed as Exhibit 4.19 to the Company's Registration Statement No. 333-33639 and incorporated herein by reference). 10.1 Purchase Agreement dated as of June 27, 1997, between the Company and CIBC Wood Gundy Securities Corp. (filed as Exhibit 10.1 to the Company's Registration Statement No. 333-33639 and incorporated herein by reference). 10.2 Amended and Restated Credit Agreement, dated as of July 30, 1997, among the Company, Canadian Imperial Bank of Commerce, CIBC Inc., and First Source Financial LLP (filed as Exhibit 10.2 to the Company's Registration Statement No. 333-33639 and incorporated herein by reference). 10.3 Asset Purchase Agreement, dated as of May 9, 1997, among the Company, Security Telecom Corporation, and
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William H. Ohland (filed as Exhibit 10.3 to the Company's Registration Statement No. 333-33639 and incorporated herein by reference). 10.4 First Amendment to Asset Purchase Agreement, dated as of June 21, 1997, among the Company, Security Telecom Corporation, and William H. Ohland (filed as Exhibit 10.4 to the Company's Registration Statement No. 333-33639 and incorporated herein by reference). 10.5 Consulting Agreement, dated as of December 27, 1966, between the Company and James E. Lumpkin (filed as Exhibit 10.6 to the Company's Registration Statement No. 333-33639 and incorporated herein by reference). 10.6 Consulting Agreement, dated as of December 27, 1996, between the Company and Julius E. Talton (filed as Exhibit 10.7 to the Company's Registration Statement No. 333-33639 and incorporated herein by reference). 10.7 Consulting and Strategic Services Agreement, dated as of December 27, 1996, between the Company and EUF Talton, L.P. (filed as Exhibit 10.8 to the Company's Registration Statement No. 333-33639 and incorporated herein by reference). 10.8 Employment Agreement, dated as of December 27, 1996, between the Company and Julius E. Talton, Jr. (filed as Exhibit 10.9 to the Company's Registration Statement No. 333-33639 and incorporated herein by reference). 10.9 Employment Agreement, dated as of November 17, 1997, between the Company and Jeffrey D. Cushman (filed as Exhibit 10.12 to the Company's Registration Statement No. 333-33639 and incorporated herein by reference). 10.10* Employment Agreement, dated as of June 26, 1998, between the Company and Donald B. Vaello. 10.11 Letter Agreement, dated as of April 17, 1998, between the Company and Keith S. Kelson (filed as Exhibit 10.1 to the Company's Quarterly Report on Form 10-Q for the quarter ended September 30, 1998 and incorporated herein by reference). 10.12* Employment Agreement, dated as of September 7, 1998, between the Company and Dennis L. Whipple. 10.13* First Amendment to Employment Agreement, dated as of October 21, 1998, between the Company and Jeffrey D. Cushman. 10.14 Talton Agreement, dated as of July 1, 1998, among the Company, Talton Network Services, Inc., Julius E. Talton Sr., Julius E. Talton Jr., and James E. Lumpkin (filed as Exhibit 10.2 to the Company's Quarterly Report on Form 10-Q/A for the quarter ended September 30, 1998 and incorporated herein by reference). 10.15* Agreement, dated as of April 15, 1998, between the Company (doing business as Correctional Billing Services) and [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934]. 12.1* Computation of Ratio of Earnings to Fixed Charges. 21.1* Subsidiaries of the Company. 27.1* Financial Data Schedule
96 __________________ * Filed herewith. (b) Reports on Form 8-K. (1) On December 7, 1998, the Company filed a Form 8-K (pursuant to Item 5 of Form 8-K) regarding the Company's Board of Directors naming Dennis L. Whipple as Chief Executive Officer, Director, and Chairman of the Board. (c) Exhibits -- The response to this portion of Item 14 is submitted as separate section of this report commencing on page 94. (d) Financial Statement Schedules -- The response to this portion of Item 14 is submitted as a separate section of this report on page 83. The agreements set forth above described the contents of certain exhibits thereunto that are not included. Such exhibits will be furnished to the Commission upon request. 97 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. EVERCOM, INC. By: /s/ Dennis L. Whipple ---------------------- Dennis L. Whipple Chief Executive Officer, Chairman, and Director Date: March 26, 1999 Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed by the following persons on behalf of the Registrant and in the capacities indicated.
Signature Title Date --------- ----- ---- /s/ Dennis L. Whipple Chief Executive Officer, Chairman, March 26, 1999 - --------------------------------------------------------------- and Director Dennis L. Whipple /s/ Richard H. Hochman Director March 26, 1999 - --------------------------------------------------------------- Richard H. Hochman Director - --------------------------------------------------------------- Nina E. McLemore /s/ Julius E. Talton, Sr. Director March 26, 1999 - --------------------------------------------------------------- Julius E. Talton, Sr. /s/ David A. Sachs Director March 26, 1999 - --------------------------------------------------------------- David A. Sachs /s/ Todd W. Follmer Director March 26, 1999 - --------------------------------------------------------------- Todd W. Follmer /s/ Bruce I. Raben Director March 26, 1999 - --------------------------------------------------------------- Bruce I. Raben /s/ Roger K. Sallee Director March 26, 1999 - --------------------------------------------------------------- Roger K. Sallee /s/ Joseph P. Urso Director March 26, 1999 - --------------------------------------------------------------- Joseph P. Urso /s/ Jay R. Levine Director March 26, 1999 - --------------------------------------------------------------- Jay R. Levine /s/ Gregg L. Engles Director March 26, 1999 - --------------------------------------------------------------- Gregg L. Engles /s/ Jeffrey D. Cushman Chief Financial Officer, Vice March 26, 1999 - --------------------------------------------------------------- President, Secretary and Treasurer Jeffrey D. Cushman
98 EX-10.10 2 EMPLOYMENT AGREEMENT, 6/26/1998 Exhibit 10.10 ------------- EMPLOYMENT AGREEMENT THIS EMPLOYMENT AGREEMENT (the "Agreement") is made and entered into as of June 26, 1998 (the "Effective Date"), by and between Talton Holdings, Inc., a Delaware corporation (the "Company"), and Donald B. Vaello (the "Executive"). RECITALS WHEREAS, the Company is the owner of the outstanding shares of capital stock of (i) Talton Telecommunications Corporation, an Alabama corporation ("TTC"), (ii) AmeriTel Pay Phones, Inc., a Missouri corporation ("AmeriTel"), (iii) Talton STC, Inc., a Delaware corporation ("Talton STC"), (iv) Talton Invision, Inc., a Delaware corporation ("Talton Invision"), and (v) MOG Communications, Inc., an Alabama corporation ("MOG") (the Company, TTC, AmeriTel, Talton STC, Talton Invision, MOG and their respective affiliates and subsidiaries are sometimes referred to herein individually as a "Talton Entity" and collectively as the "Talton Entities"); WHEREAS, the Company desires to employ the Executive and the Executive desires to furnish services to the Company and/or the other Talton Entities on the terms and conditions hereinafter set forth; WHEREAS, the parties desire to enter into this Agreement in order to set forth the terms and conditions of the employment relationship of the Executive with the Talton Entities; WHEREAS, the Executive and the Company each acknowledge and agree that the terms and conditions of employment set forth below are reasonable and necessary in order to protect the legitimate business interests of the Talton Entities and to compensate the Executive for information, knowledge and experience brought to or gained from the Talton Entities; NOW, THEREFORE, in consideration of the premises and the mutual agreements set forth below, the parties hereby agree as follows: 1. EMPLOYMENT. The Company hereby agrees to employ the Executive, and the Executive hereby accepts such employment, on the terms and conditions hereinafter set forth. 2. EMPLOYMENT PERIOD. The period of employment of the Executive by the Company hereunder (the "Employment Period") shall commence on the Effective Date and shall end on June 30, 2001, (unless earlier terminated in accordance with Section 5 of the Agreement). Commencing on July 1, 2001, the Employment Period shall be extended for successive one-year periods (individually, a "Renewal Period"), unless a notice not to extend this Agreement shall have been given by either party hereto to the other not later than 90 days immediately preceding the commencement of the Renewal Period (or unless earlier terminated in accordance with Section 5 of this Agreement). Unless the context otherwise requires, the Employment Period hereunder shall for purposes of this Agreement be deemed to include the current Renewal Period (if any). 3. POSITION AND DUTIES. The Executive shall, within reason, devote his full time, attention, skills and energies during the Employment Period to the business of the Talton Entities, performing such specific functions on behalf of the Talton Entities and holding such executive positions as the Board of Directors or the Chairman of the Board of the Company or any Talton Entity may direct, all of which shall be substantially consistent with the functions of an executive officer within the industry in which the Talton Entities are engaged. 4. COMPENSATION AND RELATED MATTERS. 1 (a) BASE SALARY. During the Employment Period, the Company shall pay the Executive a base salary at the rate specified in Exhibit A (the "Base Salary"), which Base Salary shall be paid in equal installments in accordance with the Company's payroll policy, subject to Section 5 below. (b) BONUS. During the Employment Period, the Executive shall be eligible for the annual bonus as specified in Exhibit A. (c) OPTIONS. The Executive shall be eligible to be awarded options to purchase the Company's common stock, as specified in Exhibit A. (d) OTHER BENEFITS. During the Employment Period, the Executive shall be entitled to and eligible for group health insurance coverage and any other fringe benefits in accordance with policies applicable generally to salaried Executives of the Company. The Executive shall also be entitled to paid vacation and other paid absences during the Employment Period in accordance with policies applicable generally to salaried Executives of the Company. (e) RELOCATION. The Executive shall be reimbursed for reasonable out- of-pocket expenses incurred in relocating to the Dallas-Ft. Worth, Texas area. 5. TERMINATION. (a) TERMINATION FOR CAUSE. Prior to the end of the Employment Period, the Company may terminate the Executive's employment under this Agreement for "Cause". For purposes of this Agreement, the Company shall have Cause to terminate the Executive's employment hereunder in the event the Executive: (i) has committed any act of willful misconduct, embezzlement or wrongful conversion of money or property belonging to any Talton Entity, or any act of fraud or dishonesty that affects the business of or relates to any of the Talton Entities; (ii) is convicted of a felony at any time hereafter; (iii) has failed to comply with any material directive of the Board of Directors or the Chairman of the Board of the Company related to his employment duties and such failure is duly recorded in the Company's corporate minutes; or (iv) has willfully and continually failed to substantially perform his duties hereunder (other than any such failure resulting from the Executive's death or disability), and such failure is duly recorded in the corporate minutes and continues for more than 10 days after written notice thereof to the Executive. If the Executive's employment is terminated by the Company for Cause, the Company shall pay the Executive any Base Salary accrued or owing to the Executive hereunder through the date of termination, less any amounts owed by the Executive to any Talton Entity, and the Company shall have no further liability or obligation to the Executive hereunder. (b) TERMINATION WITHOUT CAUSE. Prior to the end of the Employment Period, the Company may terminate the Executive's employment under this Agreement for a reason other than Cause or no reason whatsoever (i.e., without Cause). If the Company terminates the Executive's employment without Cause prior to the expiration of the Employment Period, the Company's liability to the Executive is limited to an amount equal to the Executive's annual Base Salary (the "Severance Payment"). The Company may, at its option, pay the Severance Payment in a lump sum within 30 days after the date of termination of employment, or pay the Severance Payment over a twelve month period (commencing effective as of the date of termination of employment) in equal installments in accordance with the Company's payroll policy. If the Company terminates employment of the Executive because he has become disabled such that he is unable to perform the essential functions of his job (with reasonable accommodation), any such termination shall be deemed to be a termination without Cause pursuant to this Agreement. Similarly, the Executive's employment shall terminate upon his death, and shall be deemed a termination by the Company without Cause, with payments of the Severance Payment hereunder to be made to the Executive's estate. 2 6. CONFIDENTIAL INFORMATION, REMOVAL OF DOCUMENTS, DEVELOPMENTS AND NON-COMPETITION, RELEASE. (a) CONFIDENTIAL INFORMATION. The Executive shall hold in a fiduciary capacity for the benefit of the Company and the other Talton Entities all trade secrets, confidential information, proprietary information, knowledge and data relating to the Talton Entities and/or the businesses or investments of the Talton Entities which may have been obtained by the Executive during the Executive's employment by the Company or any other Talton Entity including such information with respect to any products, improvements, formulas, designs or styles, processes, services, customers, suppliers, marketing techniques, methods, know-how, data, future plans or operating practices ("Confidential Information"). Except as may be required or appropriate in connection with his carrying out his duties under this Agreement, the Executive shall not, without the prior written consent of the Company or as may otherwise be required by law or legal process, communicate or divulge any such Confidential Information to anyone other than the Company and those designated by the Company. (b) REMOVAL OF DOCUMENTS. All records, files, drawings, letters, memoranda, reports, computer data, computer disks, electronic storage media, documents, models and the like relating to the business of the Company and/or the business of any of the other Talton Entities, which the Executive prepares, uses or comes into contact with and which contain Confidential Information shall be the exclusive property of the Company to be used by the Executive only in the performance of his duties for the Company and shall not be removed by the Executive from the premises of any Talton Entity (without the written consent of the Company) during or after the Employment Period unless such removal shall be required or appropriate in connection with his carrying out his duties under this Agreement, and, if so removed by the Executive, shall be returned to such Talton Entities immediately upon termination of the Executive's employment hereunder, or earlier request by the Company (with the Executive retaining no copies thereof nor any notes or other records relating thereto). (c) DEVELOPMENTS. The Executive will make full and prompt disclosure to the Company of all inventions, improvements, discoveries, methods, developments, software and/or works of authorship relating in any way to the business, activities or affairs of any of the Talton Entities, whether patentable or not, which are created, made, conceived or reduced to practice (in whole or in part) by the Executive or under his direction or jointly with others prior to or during the Employment Period, whether or not during normal working hours or on the premises of the Company (collectively, "Developments"). The Executive agrees to assign and does hereby assign to the Company all of his right, title and interest in and to all Developments and related patents, copyrights and applications therefor. The Executive shall do all permissible things, and take all permissible action, necessary or advisable, in the Company's sole discretion and at the Company's expense, to cause any other person related to the Executive or an entity controlled by the Executive having an interest in a Development to assign to the Company all of such person's or entity's right, title and interest in and to such Development and related patents, copyrights and applications therefor. The Executive agrees to cooperate fully with the Company, both during and after the termination of the Employment Period, with respect to the procurements, maintenance and enforcement of copyrights and patents (both in the United States and foreign countries) relating to Developments. (d) NON-COMPETITION. During (i) the Executive's employment with the Company and (ii) the one-year period immediately following the expiration or earlier termination of the Employment Period, the Executive (A) shall not engage, anywhere within the geographical areas in which any Talton Entity is then conducting its business operations, directly or indirectly, alone, in association with or as a shareholder, principal, agent, partner, officer, director, Executive or consultant of any other organization, in any Competitive Business; (B) shall not solicit or encourage any officer, Executive, independent contractor, vendor or consultant of any of the Talton Entities to leave the employ of, or otherwise cease his relationship with, any of the Talton Entities; and (C) shall not solicit, divert or take away, or attempt to divert or to take away, the business or patronage of any of the customers or accounts, or prospective customers or accounts, of any Talton Entity, which were contacted, solicited or served by any Talton Entity during the time the Executive was employed by any Talton Entity. If the Executive violates any of the provisions of this Section 6(d), following his termination of employment, the computation of the time period provided herein shall be tolled from the first date of the breach until the earlier of (i) the date judicial relief is obtained by the Company, (ii) the Company states in writing that it will seek no judicial relief for said violation, or (iii) the Executive provides satisfactory evidence to the Company that such breach has been remedied. 3 If, at any time, the provisions of this Section 6(d) shall be determined to be invalid or unenforceable, by reason of being vague or unreasonable as to area, duration or scope of activity, this Section 6(d) shall be considered divisible and shall become and be immediately amended to only such area, duration and scope of activity as shall be determined to be reasonable and enforceable by the court or other body having jurisdiction over the matter; and the Executive agrees that this Section 6(d) as so amended shall be valid and binding as though any invalid or unenforceable provision had not been included herein. For purposes of this Section 6, Executive and the Company agree that Competitive Business shall mean (i) the inmate telephone business, (ii) the pay telephone business, (iii) the business of selling, leasing or otherwise providing law enforcement management systems, jail management systems, victim notification systems and/or other tracking or record systems to inmate, jail or correctional facilities, (iv) the billing, collection and/or validation business, and/or (v) any line of business in which the Talton Entities derive 10% or more of their annual revenue and which they designate as a separate line of business for financial reporting purposes on the date of termination or expiration of the Employment Period. (e) NON-COMPETITION IN EXPANSION MARKETS. Executive acknowledges that a valuable asset of the Talton Entities is the plan of the Company and the other Talton Entities to extend and expand their business, by acquisition or otherwise, to areas of the United States of America which the Talton Entities do not yet serve as of the Effective Date. Accordingly, during (i) the Executive's employment with the Company and (ii) the one-year period immediately following the expiration or earlier termination of the Employment Period, the Executive shall not engage, anywhere in the United States of America, directly or indirectly, alone, in association with or as a shareholder, principal, agent, partner, officer, director, Executive or consultant of any other organization, in any Competitive Business. If the Executive violates any of the provisions of this Section 6(e), following his termination of employment, the computation of the time period provided herein shall be tolled from the first date of the breach until the earlier of (i) the date judicial relief is obtained by the Company, (ii) the Company states in writing that it will seek no judicial relief for said violation, or (iii) the Executive provides satisfactory evidence to the Company that such breach has been remedied. If, at any time, the provisions of this Section 6(e) shall be determined to be invalid or unenforceable, by reason of being vague or unreasonable as to area, duration or scope of activity, this Section 6(e) shall be considered divisible and shall become and be immediately amended to only such area, duration and scope of activity as shall be determined to be reasonable and enforceable by the court or other body having jurisdiction over the matter; and the Executive agrees that this Section 6(e) as so amended shall be valid and binding as though any invalid or unenforceable provision had not been included herein. (f) CONTINUING OPERATION. Any termination of the Executive's employment or of this Agreement shall have no effect on the continuing operation of this Section 6. (g) LEGITIMATE BUSINESS INTERESTS. The Executive has carefully read and considered the provisions of this Section 6 and, having done so, agrees that the restrictions set forth herein, including, without limitation, the time and geographic restrictions set forth above, are fair and reasonable and are reasonably required for the protection of the legitimate business interests and goodwill of the Company. (h) REMEDIES. The Executive acknowledges that any violation of any of the covenants and agreements contained in this Section 6 would result in irreparable and continuing harm and damage to the Company and the other Talton Entities which would be extremely difficult to quantify and for which money damages alone would not be adequate compensation. Consequently, the Executive agrees that, in the event he violates or threatens to violate any of these covenants and agreements, the Company shall be entitled to: (1) entry of an injunction enjoining such violation and/or requiring the Executive to return all materials or other proprietary information of the Company and (2) money damages insofar as they can be determined. Nothing in this Agreement shall be construed to prohibit the Company and the other Talton Entities from also pursuing any other legal or equitable remedy, the parties having agreed that all remedies are cumulative. The parties waive the right to a jury trial with respect to any controversy or claim between or among the parties hereto, including any claim arising out of or relating to this Agreement or based on or arising from an alleged tort. 7. SEVERABILITY. Whenever possible, each provision and term of this Agreement will be interpreted in a manner to be effective and valid, but if any provision or term of this Agreement is held to be 4 prohibited or invalid, then such provision or term will be ineffective only to the extent of such prohibition or invalidity, without invalidating or affecting in any manner whatsoever the remainder of such provision or term or the remaining provisions or terms of this Agreement. 8. WAIVER. The rights and remedies of the parties to this Agreement are cumulative and not alternative. Neither the failure nor any delay by any party in exercising any right, power or privilege under this Agreement will operate as a waiver of such right, power or privilege, and no single or partial exercise of any such right, power or privilege will preclude any other or further exercise of such right, power or privilege. To the maximum extent permitted by applicable law, (a) no claim or right arising out of this Agreement can be discharged by one party, in whole or in part, by a waiver or renunciation of the claim or right unless in writing signed by the other party; (b) no waiver that may be given by a party will be applicable except in the specific instance for which it is given; and (c) no notice to or demand on one party will be deemed to be a waiver of any obligation of such party or of the right of the party giving such notice or demand to take further action without notice or demand as provided in this Agreement. 9. SUCCESSORS AND ASSIGNS. This Agreement shall be binding upon and inure to the benefit of the Company and its affiliates, successors and assigns, and the Executive and his assigns, heirs and legal representatives. Each of the Talton Entities (and their respective affiliates, successors and assigns) shall be third party beneficiaries of this Agreement and may independently enforce and benefit from the terms hereof. 10. OTHER AGREEMENTS; INDEMNIFICATION. The Executive hereby represents that, except as he has disclosed in writing to the Company, the Executive is not bound by the terms of any agreement with any previous employer or other party to refrain from using or disclosing any trade secret or confidential or proprietary information in the course of the Executive's employment with the Company or to refrain from competing, directly or indirectly, with the business of such previous employer or any other party. The Executive further represents that his performance of all of the terms of this Agreement does not and will not breach any agreement to keep in confidence proprietary information, knowledge or data acquired by the Executive in confidence or in trust prior to the date of this Agreement, and the Executive will not disclose to the Company or any other Talton Entity or induce the Company or any other Talton Entities to use any confidential or proprietary information or material belonging to any previous employer or others. The Executive hereby indemnifies and agrees to defend and hold the Company and the other Talton Entities harmless from and against any and all damages, liabilities, losses, costs and expenses (including, without limitation, reasonable attorneys' fees and the costs of investigation) resulting or arising directly or indirectly from any breach of the foregoing representations or from allegations, claims, proceedings or actions by third parties relating to the confidential information belonging to them and disclosed by the Executive to the Company or any other Talton Entity. 11. WITHHOLDING. Any payments provided for in this Agreement shall be paid net of any applicable withholding of taxes required under federal, state or local law. 12. RECITALS; HEADINGS; CONSTRUCTION. The Recitals set forth in the preamble of this Agreement shall be deemed to be included and form an integral part of this Agreement. The headings of Sections in this Agreement are provided for convenience only and will not affect its construction or interpretation. All references to "Section" or "Sections" refer to the corresponding Section or Sections of this Agreement unless otherwise specified. All words used in this Agreement will be construed to be of such gender or number as the circumstances require. Unless otherwise expressly provided, the word "including" does not limit the preceding words or terms. All references herein to the word "or" shall mean "and/or." The parties, in acknowledgment that all of them have been represented by counsel and that this Agreement has been carefully negotiated, agree that the construction and interpretation of this Agreement and other documents entered into in connection herewith shall not be affected by the identity of the party or parties under whose direction or at whose expense this Agreement and such documents were prepared or drafted. 13. TIME OF ESSENCE. With regard to all dates and time periods set forth or referred to in this Agreement, time is of the essence. 5 14. GOVERNING LAW. This Agreement shall be governed by the substantive laws of the State of Delaware, without regard to its conflicts of laws principles. In particular, Delaware substantive law will govern any controversy or claim between or among the parties hereto, including any claim arising out of or relating to this Agreement or based on or arising from an alleged tort. 15. ENTIRE AGREEMENT. This Agreement constitutes the entire agreement between the parties with respect to the subject matter of this Agreement and supersedes all prior written and oral agreements and understandings between the parties with respect to the subject matter of this Agreement. This Agreement may not be amended except by a written agreement executed by both parties. 16. NOTICES. Any notice, demand or other communication which may or is required to be given under this Agreement shall be in writing and shall be: (a) personally delivered; (b) transmitted by United States postage prepaid mail, registered or certified mail, return receipt requested; (c) transmitted by reputable overnight courier service such as Federal Express; or (d) transmitted by legible facsimile (with answer back confirmation) to the parties' respective addresses as set forth opposite their signatures hereto). Except as otherwise specified herein, all notices and other communications shall be deemed to have been duly given on (i) the date of receipt if delivered personally, (ii) 2 calendar days after the date of posting if transmitted by registered or certified mail, return receipt requested, (iii) the first (1st) business day after the date of deposit if transmitted by reputable overnight courier service or (iv) the date of transmission with confirmed answer back if transmitted by facsimile, whichever shall first occur. A notice or other communication not given as herein provided shall only be deemed given if and when such notice or communication is actually received in writing by the party to whom it is required or permitted to be given. The parties may change their address for purposes hereof by notice given to the other parties in accordance with the provisions of this Section, but such notice shall not be deemed to have been duly given unless and until it is actually received by the other party. 6 17. COMMON LAW OR OTHER DUTIES. The Executive's duties obligations, and agreements hereunder are in addition to (and not in limitation of) any duties or obligations under common law or statute owed to the Company or the other Talton Entities by the Executive by reason of his position as officer, director or Executive, as applicable, of the Company or the other Talton Entities. 18. INDEMNIFICATION. (a) To the fullest extent permitted by law, the Company shall indemnify the Executive against, and the Executive shall be entitled without further act on his part to indemnify from the Company for, all expenses ("Expenses") (including the amount of judgments and the amount of reasonable settlements made with a view to the curtailment of costs of litigation, other than amounts paid to Company itself) reasonably incurred by him in connection with or arising out of any action, suit or proceeding in which he may be involved by reason of his being or having been a director or officer of the Company and/or any other Talton Entity, whether or not he continues to be such director or officer at the time of incurring such Expenses; provided, however, that such indemnity shall not include any Expenses incurred by any such director or officer in respect of such matters as to which he shall be finally adjudged in any such action, suit or proceeding to have been derelict in the performance of his duty as such director or officer; provided, further, that in no event shall anything contained here be so construed as to protect, or to authorize the Company to indemnify the Executive against any liability to the Company or to its security holders to which he would otherwise be subject by reason of his willful misfeasance, bad faith, gross negligence or reckless disregard of the duties involved in the conduct of his office as such director or officer. The foregoing right of indemnification shall inure to the benefit of the heirs, executors or administrators of the Executive and shall be in addition to all other rights to which such director or officer may be entitled as a matter of law. (b) Expenses incurred by the Executive shall be paid by the Company in advance of the final disposition of any action, but only on condition that such advances shall be repaid by the Executive if it is ultimately determined that indemnification of such Expenses is not authorized under section (a) above. 19. COUNTERPARTS. This Agreement may be executed in one or more counterparts, each of which will be deemed to be an original copy of this Agreement and all of which, when taken together, will be deemed to constitute one and the same agreement. 7 IN WITNESS WHEREOF, the parties have executed this Agreement as of the date first above written. COMPANY: TALTON HOLDINGS, INC., a Delaware corporation By: /s/ TODD W. FOLLMER ---------------------- Name: Todd W. Follmer Title: Chief Executive Officer Address: 8201 Tristar Drive Irving, Texas 75063 Telephone: (972) 988-3737 Facsimile: (972) 988-3774 EXECUTIVE: By: /s/ DONALD B. VAELLO -------------------- Name: DONALD B. VAELLO Address: 423 Arch Bluff San Antonio, Texas 78216 Telephone: (210) 545-3344 Facsimile: (210) 545=4658 8 EXHIBIT A (a) Base Salary: $200,000 per year. (b) Bonus: Bonus program to be established whereby Executive could earn an additional amount up to 50% of Base Salary based upon achieving performance objectives to be determined and may be in excess of such amount in the event such objectives are exceeded. In addition to the foregoing bonus, the Executive will receive a special bonus for 1998 in the amount of $30,000 payable on or before December 31, 1998. (c) Options: Executive will be eligible to participate in the Company's stock option program, and subject to Board approval, will be awarded options to purchase the equivalent of 200 common shares of Company stock, having a strike price equal to the fair market value of the Company's common stock on the date of issuance of the options. Such options shall be subject to such vesting requirements as are established by the Board. 9 EX-10.12 3 EMPLOYMENT AGREEMENT, 9/7/1998 Exhibit 10.12 ------------- EMPLOYMENT AGREEMENT THIS EMPLOYMENT AGREEMENT (the "Agreement") is made and entered into as of September 7, 1998 (the "Effective Date"), by and between Evercom, Inc., a Delaware corporation, formerly known as Talton Holdings, Inc. (the "Company"), and Dennis L. Whipple (the "Executive"). RECITALS WHEREAS, the Company is the owner of the outstanding shares of capital stock of (i) Talton Telecommunications Corporation, an Alabama corporation ("TTC"), (ii) AmeriTel Pay Phones, Inc., a Missouri corporation ("AmeriTel"), (iii) Talton STC, Inc., a Delaware corporation ("Talton STC"), (iv) Talton Invision, Inc., a Delaware corporation ("Talton Invision"), (v) Saratoga Telephone Company, Inc., a Delaware corporation ("Saratoga") and (vi) MOG Communications, Inc., an Alabama corporation ("MOG") (the Company, TTC, AmeriTel, Talton STC, Talton Invision, Saratoga, MOG and their respective affiliates and subsidiaries are sometimes referred to herein individually as a "Talton Entity" and collectively as the "Talton Entities"); WHEREAS, the Company desires to employ the Executive and the Executive desires to furnish services to the Company and/or the other Talton Entities on the terms and conditions hereinafter set forth; WHEREAS, the parties desire to enter into this Agreement in order to set forth the terms and conditions of the employment relationship of the Executive with the Talton Entities; WHEREAS, the Executive and the Company each acknowledge and agree that the terms and conditions of employment set forth below are reasonable and necessary in order to protect the legitimate business interests of the Talton Entities and to compensate the Executive for information, knowledge and experience brought to or gained from the Talton Entities; NOW, THEREFORE, in consideration of the premises and the mutual agreements set forth below, the parties hereby agree as follows: 1. EMPLOYMENT. The Company hereby agrees to employ the Executive, and the Executive hereby accepts such employment, on the terms and conditions hereinafter set forth. 2. EMPLOYMENT PERIOD. The period of employment of the Executive by the Company hereunder (the "Employment Period") shall commence on the Effective Date and shall end on December 31, 2001, (unless Executive's employment hereunder is earlier terminated in accordance with Section 5 of the Agreement). Commencing on January 1, 2002, the Employment Period shall be extended for successive one- year periods (individually, a "Renewal Period"), unless a notice not to extend this Agreement shall have been given by either party hereto to the other not later than 90 days immediately preceding the commencement of the Renewal Period (or unless Executive's employment hereunder is earlier terminated in accordance with Section 5 of this Agreement). Unless the context otherwise requires, the Employment Period shall for purposes of this Agreement be deemed to include the current Renewal Period (if any), and shall automatically end upon Executive's termination of employment with the Company. 3. POSITION AND DUTIES. The Executive shall devote his full time, attention, skills and energies during the Employment Period to the business of the Talton Entities, performing such specific functions on behalf of the Talton Entities that are generally incident to and consistent with the Executive's position as the Board of Directors of the Company may direct. The Executive shall hold the position of Chief Executive Officer of the Company and shall report directly to the Board of Directors and have all powers and duties which are associated with such position in the industries in which the Company is engaged. The Executive shall also be elected as a 1 member and Chairman of the Board of Directors of the Company as soon as practicable. Notwithstanding the foregoing, the Executive shall not be prohibited from serving on the boards of directors of other companies, performing charity work or managing his own personal investments and affairs so long as such activities do not interfere with the performance of the Executive's duties hereunder. 4. COMPENSATION AND RELATED MATTERS. (a) BASE SALARY. During the Employment Period, the Company shall pay the Executive a base salary at the rate specified in Exhibit A (the "Base Salary"), which Base Salary shall be paid in equal installments in accordance with the Company's payroll policy, subject to Section 5 below. (b) BONUS. During the Employment Period, the Executive shall receive the bonuses as specified in Exhibit A. (c) OPTIONS. The Executive shall be awarded options to purchase the Company's common stock, as specified in Exhibit A. (d) OTHER BENEFITS. During the Employment Period, the Executive shall be entitled to and eligible for group health insurance coverage and any other fringe benefits in accordance with policies applicable generally to salaried employees of the Company. The Executive shall also be entitled to four (4) weeks paid vacation and other paid absences during the Employment Period in accordance with policies applicable generally to salaried employees of the Company and shall be reimbursed for reasonable expenses incurred in connection with the business of the Company and the performance of his duties hereunder in accordance with the policies established by the Company for reimbursement of such expenses. (e) RELOCATION. The Executive shall be reimbursed for reasonable out-of-pocket expenses incurred in relocating to the Dallas/Ft. Worth area, which expenses shall include, without limitation, closing costs and commissions on disposition of present residence, moving costs, up to one year of temporary lodging, air fare and other travel, and closing costs and points on replacement residence. The aggregate amount reimbursable under this Section 4(e) shall not exceed $100,000. 5. TERMINATION. (a) TERMINATION FOR CAUSE. Prior to the end of the Employment Period, the Company may terminate the Executive's employment under this Agreement for "Cause". For purposes of this Agreement, the Company shall have Cause to terminate the Executive's employment hereunder in the event the Executive: (i) has committed any act of willful misconduct, embezzlement or wrongful conversion of money or property belonging to any Talton Entity, or any act of fraud that adversely affects the business of or relates to any of the Talton Entities; (ii) is convicted of a felony at any time hereafter, which is reasonably likely to have an adverse effect on the Company or its business; (iii) has failed to comply with any material directive of the Board of Directors of the Company related to his employment duties promptly following notice to the Executive of such failure; or (iv) has willfully and continually failed to substantially perform his duties hereunder (other than any such failure resulting from the Executive's death or disability), and such failure continues for more than 10 days after written notice thereof to the Executive. The Executive will be furnished an opportunity upon reasonable notice to state his case to the Board of Directors with counsel prior to any termination for "Cause". If the Executive's employment is terminated by the Company for Cause, the Company shall pay the Executive any Base Salary accrued or owing to the Executive hereunder through the date of termination, less any amounts owed by the Executive to any Talton Entity, and the Company shall have no further liability or obligation to the Executive hereunder. (b) TERMINATION WITHOUT CAUSE AND TERMINATION FOR GOOD REASON. Prior to the end of the Employment Period, the Company may terminate the Executive's employment under this Agreement for a reason other than Cause or no reason whatsoever (i.e., without Cause). If the Company terminates the Executive's employment without Cause prior to the expiration of the Employment Period, or the Executive terminates his employment with the Company prior to the expiration of the Employment Period for "Good Reason" 2 (as defined below), or the Company elects not to extend the Employment Period as provided in Section 2, the Company shall pay to the Executive an amount equal to two times the Executive's annual cash compensation (Base Salary and Bonus) which was paid to the Executive in the year prior to the year in which his employment was terminated or not extended, provided that, for a termination in 1998 such payment shall be $1,200,000 (the "Severance Payment"). The Company may, at its option, pay the Severance Payment in a lump sum within 30 days after the date of termination of employment, or pay the Severance Payment over a twelve month period (commencing effective as of the date of termination of employment) in equal installments in accordance with the Company's payroll policy. If the Company terminates employment of the Executive because he has become disabled such that he is unable to perform the essential functions of his job (with reasonable accommodation) for a period of not less than 15 consecutive weeks, any such termination shall be deemed to be a termination without Cause pursuant to this Agreement. Similarly, the Executive's employment shall terminate upon his death, and shall be deemed a termination by the Company without Cause, with payments of the Severance Payment hereunder to be made to the Executive's estate. (c) GOOD REASON. A termination by the Executive of his employment with the Company prior to the expiration of the Employment Period shall be deemed for "Good Reason" if the Executive terminates his employment with the Company within three (3) months following the occurrence of any of the following events: (i) the Executive's duties are substantially diminished so as to be materially inconsistent with the duties of a person of the Executive's position, (ii) the Company materially breaches any of its obligations hereunder, (iii) the Company determines to relocate its headquarters to an area which is outside of a 50 mile radius from its present location, or (iv) a "Change in Control" of the Company occurs. A "Change in Control" for purposes hereof shall mean (i) without prior approval of the Board of Directors of the Company a single entity or group of affiliated entities not currently owning an interest in the Company acquires more than 50% of the voting stock of the Company issued and outstanding immediately prior to such acquisition; (ii) shareholders of the Company approve the consummation of any merger of the Company or any sale or other disposition of all or substantially all of its assets, if the shareholders of the Company immediately before such transaction own, immediately after consummation of such transaction, equity securities (other than options and other rights to acquire equity securities) possessing less than 50% of the voting power of the surviving or acquiring corporation; or (iii) a change in the majority of the Board of Directors of the Company during any 24-month period without the approval of a majority of directors in office at the beginning of such period. 6. CONFIDENTIAL INFORMATION, REMOVAL OF DOCUMENTS, DEVELOPMENTS AND NON-COMPETITION, RELEASE. (a) CONFIDENTIAL INFORMATION. The Executive shall hold in a fiduciary capacity for the benefit of the Company and the other Talton Entities all trade secrets, confidential information, proprietary information, knowledge and data relating to the Talton Entities and/or the businesses or investments of the Talton Entities which may have been obtained by the Executive during the Executive's employment by the Company or any other Talton Entity including such information with respect to any products, improvements, formulas, designs or styles, processes, services, customers, suppliers, marketing techniques, methods, know-how, data, future plans or operating practices ("Confidential Information"), provided that "Confidential Information" shall not include information that (i) is or becomes generally available to the public other than as a result of a disclosure by the Executive or (ii) is or becomes available to the Executive on a non-confidential basis from a source that is not known to the Executive to be prohibited from disclosing such information to the Executive by a legal, contractual or fiduciary obligation. Except as may be required or appropriate in connection with his carrying out his duties under this Agreement, the Executive shall not, without the prior written consent of the Company or as may otherwise be required by law or legal process, communicate or divulge any such Confidential Information to anyone other than the Company and those designated by the Company. (b) REMOVAL OF DOCUMENTS. All records, files, drawings, letters, memoranda, reports, computer data, computer disks, electronic storage media, documents, models and the like relating to the business of the Company and/or the business of any of the other Talton Entities, which the Executive prepares, uses or comes into contact with and which contain Confidential Information shall be the exclusive property of the Company to be used by the Executive only in the performance of his duties for the Company and shall not be removed by the 3 Executive from the premises of any Talton Entity (without the written consent of the Company) during or after the Employment Period unless such removal shall be required or appropriate in connection with his carrying out his duties under this Agreement, and, if so removed by the Executive, shall be returned to such Talton Entities immediately upon termination of the Executive's employment hereunder, or earlier request by the Company (with the Executive retaining no copies thereof nor any notes or other records relating thereto). (c) DEVELOPMENTS. The Executive will make full and prompt disclosure to the Company of all inventions, improvements, discoveries, methods, developments, software and/or works of authorship relating in any way to the business, activities or affairs of any of the Talton Entities, whether patentable or not, which are created, made, conceived or reduced to practice (in whole or in part) by the Executive or under his direction or jointly with others prior to or during the Employment Period, whether or not during normal working hours or on the premises of the Company (collectively, "Developments"). The Executive agrees to assign and does hereby assign to the Company all of his right, title and interest in and to all Developments and related patents, copyrights and applications therefor. The Executive shall do all permissible things, and take all permissible action, necessary or advisable, in the Company's sole discretion and at the Company's expense, to cause any other person related to the Executive or an entity controlled by the Executive having an interest in a Development to assign to the Company all of such person's or entity's right, title and interest in and to such Development and related patents, copyrights and applications therefor. The Executive agrees to cooperate fully with the Company, both during and after the termination of the Employment Period, with respect to the procurements, maintenance and enforcement of copyrights and patents (both in the United States and foreign countries) relating to Developments. (d) NON-COMPETITION. During (i) the Executive's employment with the Company and (ii) the one-year period immediately following the expiration or earlier termination of the Employment Period, the Executive (A) shall not engage, anywhere within the geographical areas in which any Talton Entity is then conducting its business operations, directly or indirectly, alone, in association with or as a shareholder, principal, agent, partner, officer, director, Executive or consultant of any other organization, in any Competitive Business; (B) shall not solicit or encourage any officer, Executive, independent contractor, vendor or consultant of any of the Talton Entities to leave the employ of, or otherwise cease his relationship with, any of the Talton Entities; and (C) shall not solicit, divert or take away, or attempt to divert or to take away, the business or patronage of any of the customers or accounts, of any Talton Entity, which were served by any Talton Entity during the time the Executive was employed by any Talton Entity. If the Executive violates any of the provisions of this Section 6(d), following his termination of employment, the computation of the time period provided herein shall be tolled from the first date of the breach until the earlier of (i) the date judicial relief is obtained by the Company, (ii) the Company states in writing that it will seek no judicial relief for said violation, or (iii) the Executive provides satisfactory evidence to the Company that such breach has been remedied. If, at any time, the provisions of this Section 6(d) shall be determined to be invalid or unenforceable, by reason of being vague or unreasonable as to area, duration or scope of activity, this Section 6(d) shall be considered divisible and shall become and be immediately amended to only such area, duration and scope of activity as shall be determined to be reasonable and enforceable by the court or other body having jurisdiction over the matter; and the Executive agrees that this Section 6(d) as so amended shall be valid and binding as though any invalid or unenforceable provision had not been included herein. For purposes of this Section 6, Executive and the Company agree that Competitive Business shall mean (i) the inmate telephone business, (ii) the business of selling, leasing or otherwise providing law enforcement management systems, jail management systems, victim notification systems and/or other tracking or record systems to inmate, jail or correctional facilities, (iii) the billing, collection and/or validation business within the inmate telephone industry, and/or (iv) any material line of business that the Talton Entities are engaged in on the date of termination, expiration or non-extension of the Employment Period. (e) NON-COMPETITION IN EXPANSION MARKETS. Executive acknowledges that a valuable asset of the Talton Entities is the plan of the Company and the other Talton Entities to extend and expand their business, by acquisition or otherwise, to areas of the United States of America which the Talton Entities do not yet serve as of the Effective Date. Accordingly, during (i) the Executive's employment with the Company and (ii) the one-year period immediately following the expiration or earlier termination of the Employment Period, the Executive shall not engage, anywhere in the United States of America, directly or indirectly, alone, in association with or as a shareholder, principal, agent, partner, officer, director, Executive or consultant of any other 4 organization, in any Competitive Business. If the Executive violates any of the provisions of this Section 6(e), following his termination of employment, the computation of the time period provided herein shall be tolled from the first date of the breach until the earlier of (i) the date judicial relief is obtained by the Company, (ii) the Company states in writing that it will seek no judicial relief for said violation, or (iii) the Executive provides satisfactory evidence to the Company that such breach has been remedied. If, at any time, the provisions of this Section 6(e) shall be determined to be invalid or unenforceable, by reason of being vague or unreasonable as to area, duration or scope of activity, this Section 6(e) shall be considered divisible and shall become and be immediately amended to only such area, duration and scope of activity as shall be determined to be reasonable and enforceable by the court or other body having jurisdiction over the matter; and the Executive agrees that this Section 6(e) as so amended shall be valid and binding as though any invalid or unenforceable provision had not been included herein. (f) CONTINUING OPERATION. Any termination of the Executive's employment or of this Agreement shall have no effect on the continuing operation of this Section 6. (g) LEGITIMATE BUSINESS INTERESTS. The Executive has carefully read and considered the provisions of this Section 6 and, having done so, agrees that the restrictions set forth herein, including, without limitation, the time and geographic restrictions set forth above, are fair and reasonable and are reasonably required for the protection of the legitimate business interests and goodwill of the Company. (h) REMEDIES. The Executive acknowledges that any violation of any of the covenants and agreements contained in this Section 6 would result in irreparable and continuing harm and damage to the Company and the other Talton Entities which would be extremely difficult to quantify and for which money damages alone would not be adequate compensation. Consequently, the Executive agrees that, in the event he violates or threatens to violate any of these covenants and agreements, the Company shall be entitled to: (1) entry of an injunction enjoining such violation and/or requiring the Executive to return all materials or other proprietary information of the Company and (2) money damages insofar as they can be determined. Nothing in this Agreement shall be construed to prohibit the Company and the other Talton Entities from also pursuing any other legal or equitable remedy, the parties having agreed that all remedies are cumulative. 7. SEVERABILITY. Whenever possible, each provision and term of this Agreement will be interpreted in a manner to be effective and valid, but if any provision or term of this Agreement is held to be prohibited or invalid, then such provision or term will be ineffective only to the extent of such prohibition or invalidity, without invalidating or affecting in any manner whatsoever the remainder of such provision or term or the remaining provisions or terms of this Agreement. 8. WAIVER. The rights and remedies of the parties to this Agreement are cumulative and not alternative. Neither the failure nor any delay by any party in exercising any right, power or privilege under this Agreement will operate as a waiver of such right, power or privilege, and no single or partial exercise of any such right, power or privilege will preclude any other or further exercise of such right, power or privilege. To the maximum extent permitted by applicable law, (a) no claim or right arising out of this Agreement can be discharged by one party, in whole or in part, by a waiver or renunciation of the claim or right unless in writing signed by the other party; (b) no waiver that may be given by a party will be applicable except in the specific instance for which it is given; and (c) no notice to or demand on one party will be deemed to be a waiver of any obligation of such party or of the right of the party giving such notice or demand to take further action without notice or demand as provided in this Agreement. 9. SUCCESSORS AND ASSIGNS. This Agreement shall be binding upon and inure to the benefit of the Company and its affiliates, successors and assigns, and the Executive and his assigns, heirs and legal representatives. Each of the Talton Entities (and their respective affiliates, successors and assigns) shall be third party beneficiaries of this Agreement and may independently enforce and benefit from the terms hereof. 10. OTHER AGREEMENTS; INDEMNIFICATION. The Executive hereby represents that, except as he has disclosed in writing to the Company, the Executive is not bound by the terms of any agreement 5 with any previous employer or other party to refrain from using or disclosing any trade secret or confidential or proprietary information in the course of the Executive's employment with the Company or to refrain from competing, directly or indirectly, with the business of such previous employer or any other party. The Executive further represents that his performance of all of the terms of this Agreement does not and will not breach any agreement to keep in confidence proprietary information, knowledge or data acquired by the Executive in confidence or in trust prior to the date of this Agreement, and the Executive will not disclose to the Company or any other Talton Entity or induce the Company or any other Talton Entities to use any confidential or proprietary information or material belonging to any previous employer or others. The Executive hereby indemnifies and agrees to defend and hold the Company and the other Talton Entities harmless from and against any and all damages, liabilities, losses, costs and expenses (including, without limitation, reasonable attorneys' fees and the costs of investigation) resulting or arising directly or indirectly from any breach of the foregoing representations or from allegations, claims, proceedings or actions by third parties relating to the confidential information belonging to them and disclosed by the Executive to the Company or any other Talton Entity. The Executive shall be indemnified and held harmless to the fullest extent permitted by applicable law, including (S) 145 of the General Corporation Law of the State of Delaware, from and against any and all damages, liabilities, losses, costs and expenses (including, without limitation, reasonable attorneys' fees and the costs of investigation) resulting or arising directly or indirectly as a consequence of the Executive's service as an officer and/or director of the Company or any of the Talton Entities. The Company shall maintain at all times during the Employment Period and for a period of no less than two (2) years thereafter, directors and officers liability insurance having terms not less favorable than the policies in effect on the date hereof. 11. WITHHOLDING. Any payments provided for in this Agreement shall be paid net of any applicable withholding of taxes required under federal, state or local law. 12. RECITALS; HEADINGS; CONSTRUCTION. The Recitals set forth in the preamble of this Agreement shall be deemed to be included and form an integral part of this Agreement. The headings of Sections in this Agreement are provided for convenience only and will not affect its construction or interpretation. All references to "Section" or "Sections" refer to the corresponding Section or Sections of this Agreement unless otherwise specified. All words used in this Agreement will be construed to be of such gender or number as the circumstances require. Unless otherwise expressly provided, the word "including" does not limit the preceding words or terms. All references herein to the word "or" shall mean "and/or." The parties, in acknowledgment that all of them have been represented by counsel and that this Agreement has been carefully negotiated, agree that the construction and interpretation of this Agreement and other documents entered into in connection herewith shall not be affected by the identity of the party or parties under whose direction or at whose expense this Agreement and such documents were prepared or drafted. 13. TIME OF ESSENCE. With regard to all dates and time periods set forth or referred to in this Agreement, time is of the essence. 14. GOVERNING LAW. This Agreement shall be governed by the substantive laws of the State of Delaware, without regard to its conflicts of laws principles. In particular, Delaware substantive law will govern any controversy or claim between or among the parties hereto, including any claim arising out of or relating to this Agreement or based on or arising from an alleged tort. 15. ENTIRE AGREEMENT. This Agreement constitutes the entire agreement between the parties with respect to the subject matter of this Agreement and supersedes all prior written and oral agreements and understandings between the parties with respect to the subject matter of this Agreement. This Agreement may not be amended except by a written agreement executed by both parties. 16. NOTICES. Any notice, demand or other communication which may or is required to be given under this Agreement shall be in writing and shall be: (a) personally delivered; (b) transmitted by United States postage prepaid mail, registered or certified mail, return receipt requested; (c) transmitted by reputable overnight courier service such as Federal Express; or (d) transmitted by legible facsimile (with answer back confirmation) to the parties' respective addresses as set forth opposite their signatures hereto). Except as otherwise specified herein, 6 all notices and other communications shall be deemed to have been duly given on (i) the date of receipt if delivered personally, (ii) 2 calendar days after the date of posting if transmitted by registered or certified mail, return receipt requested, (iii) the first (1st) business day after the date of deposit if transmitted by reputable overnight courier service or (iv) the date of transmission with confirmed answer back if transmitted by facsimile, whichever shall first occur. A notice or other communication not given as herein provided shall only be deemed given if and when such notice or communication is actually received in writing by the party to whom it is required or permitted to be given. The parties may change their address for purposes hereof by notice given to the other parties in accordance with the provisions of this Section, but such notice shall not be deemed to have been duly given unless and until it is actually received by the other party. 17. COMMON LAW OR OTHER DUTIES. The Executive's and the Company's duties obligations, and agreements hereunder are in addition to (and not in limitation of) any duties or obligations under common law or statute owed to the Company or the other Talton Entities by the Executive or by the Company to the Executive by reason of his position as officer, director or Executive, as applicable, of the Company or the other Talton Entities. 18. COUNTERPARTS. This Agreement may be executed in one or more counterparts, each of which will be deemed to be an original copy of this Agreement and all of which, when taken together, will be deemed to constitute one and the same agreement. 19. ATTORNEYS' FEES. The Executive shall be reimbursed for reasonable attorneys' fees and expenses incurred in the negotiation of this Agreement. IN WITNESS WHEREOF, the parties have executed this Agreement as of the date first above written. COMPANY: EVERCOM, INC., formerly known as TALTON HOLDINGS, INC., a Delaware corporation By: /s/JEFFREY D. CUSHMAN --------------------- Name: Jeffrey D. Cushman Title: Vice President Address: 8201 Tristar Drive Irving, Texas 75063 Telephone: (972) 988-3737 Facsimile: (972) 988-3774 EXECUTIVE: By: /s/ DENNIS L. WHIPPLE --------------------- Name: Dennis L. Whipple Address: 42 Bretagne Circle Little Rock, Arkansas 72223 Telephone: (501) 821-1444 7 EXHIBIT A (a) Base Salary: $300,000 per year, subject to annual review by the Compensation Committee for possible increase (but not decrease). (b) Bonus: The bonus for the period from the date hereof through December 31, 1998 shall be $75,000. A bonus program will be established annually beginning in 1999. The bonus program shall be based upon the Company's annual budget for each year. The Executive's target bonus shall equal 100% of Base Salary which shall be earned upon achievement of annual budget objectives, with the Executive being eligible to earn a maximum bonus equal to 200% of Base Salary. Determination of bonuses above or below target will be mutually agreed upon by the Company, acting through its Compensation Committee, and the Executive each year, provided that, in no event will the bonus for 1999 be less than $150,000. The bonus program will be established as part of the Company's budget process each year. (c) Options: The Executive will be awarded options to purchase 500 shares of Company common stock, having a strike price equal to $2,000 per share. Such options will vest 50% on the first anniversary of the date hereof, 25% on the second anniversary of the date hereof, and 25% on the third anniversary of the date hereof, provided that, if the Executive is terminated without Cause, or the Executive terminates for "Good Reason" for events described in Section 5(c)(i), (ii) or (iii), vesting shall be accelerated to the date of termination with respect to those options which would vest on the next anniversary date (e.g., if Executive is terminated after the 1st anniversary but prior to the second anniversary, 50% of the options would be vested on the 1st anniversary, 25% would be vested on termination and 25% would be forfeited) and provided further that, if the Executive terminates for "Good Reason" for events described in Section 5(c)(iv), vesting shall be accelerated as to all options. The options shall expire as follows: (A) so long as the Executive remains employed by the Company hereunder (including renewals), the options shall expire on September 7, 2008; (B) in the event the Agreement is not renewed or the Executive's employment with the Company is terminated pursuant to Section 5(b) (other than as a result of death or disability), unvested options shall expire upon termination and vested options shall expire on September 7, 2008; (C) in the event the Executive's employment with the Company is terminated (i) as a result of death or disability pursuant to Section 5(b), or (ii) as a result of the Executive's voluntary termination of employment without Good Reason or (iii) as a result of termination by the Company for Cause pursuant to Section 5(a), unvested options shall expire upon termination and vested options shall expire as follows, if such termination occurs at any time on or prior to the second anniversary of the Effective Date, the vested options shall expire on the date which is two (2) years following the date of termination of employment, and if such termination occurs at any time after the second anniversary of the Effective Date, the vested options shall expire on the earlier of September 7, 2008, or the date which is five (5) years following the date of termination of employment. In the event the Agreement is not renewed or the Executive's employment with the Company is terminated for any reason and if the Company's common stock is not Publicly Traded (hereinafter defined) at the time of non-renewal or termination, the Executive shall have the right within six (6) months following such non-renewal or termination, to require the Company upon written notice during said six month period to redeem and cash out his vested options at a price determined by taking the number of shares subject to such vested options and multiplying it by the excess of the fair market value of the Company's common stock as of the date such notice is given over the option exercise price. The fair market value of the Company's common stock shall be determined by an independent investment banking firm or appraiser mutually selected in good faith by the Company and the Executive within thirty (30) days after receipt of the aforesaid notice. If the parties cannot agree within such 30 day period, each party will select within ten (10) days thereafter, an 8 investment or merchant banking firm to act as its representative, and such representatives shall in good faith select an impartial third party firm or appraiser to determine the fair market value. Once the firm or appraiser is selected, it shall promptly determine the fair market value of the Company's stock, and shall deliver its determination of the fair market value to both the Company and the Executive. The cost for such appraisal shall be borne by the Company. The Executive shall have a period of thirty (30) days from the receipt of the determination to elect to proceed with the redemption and cash out by delivery of written notice to the Company. If the Executive fails to deliver such notice within such thirty (30) day period, the redemption and cash out rights shall terminate. If the Executive elects to proceed by delivering such written notice within such thirty (30) day period, a closing for the redemption and cash out shall occur within ninety (90) days after the date such notice to proceed is delivered to the Company. However, in the event that the cash out and redemption of the options would cause a default under the Company's senior secured credit facility and/or the Company's 11% Senior Notes, the following provisions shall apply. During the 90 day period the Company shall use commercially reasonable efforts to obtain the necessary consents to permit the cash out and redemption of all options without causing such default. At the end of the 90 day period, the Company shall cash out and redeem the maximum amount of options which may be redeemed without causing such default. As to those options which cannot be cashed out and redeemed without causing such default: (i) such options shall continue to be held by the Executive and their period for exercise shall be extended day for day (but not beyond September 7, 2008) until such options are redeemed or the Executive elects to withdraw his election to redeem as provided below; (ii) the Company shall continue to use commercially reasonable efforts to obtain necessary consents to permit the cash out without default; (iii) every six months following the 90 day period, the Company shall cash out and redeem the maximum amount of options which may be redeemed without default provided that the cash out price (i.e. fair market value previously determined less $2,000 strike price) shall increase at a per annum rate which is 1-1/2% in excess of the interest rate charged under the Company's senior secured credit facility from the expiration of the 90 day period until the option is cashed out; (iv) at any time options remain unredeemed, the Executive may withdraw his election to have such options cashed out by the Company, in which event the Company shall have no further obligation to redeem and cash out such options; and (v) at any time the determination of the fair market value of the Company's stock is more than one year old, the Executive (but not the Company) may demand a redetermination of fair market value in accordance with the procedures set forth in the preceding paragraph, in which event (A) the next scheduled cash out and redemption shall be made using such redetermined fair market value in lieu of the cash out price set forth in subsection (iii) above; (B) the closing for the next scheduled cash out and redemption shall be delayed, if necessary, in order to allow time to complete the redetermination and permit the Executive the thirty (30) day period to review it; and (C) the appraisal costs incurred with respect to the redetermination shall be borne by the Company. For purposes hereof, the Company's common stock will be considered Publicly Traded if it is listed on the New York Stock Exchange or NASDAQ National Market Issue. As soon as reasonably possible after the Company's common stock is Publicly Traded, the Company shall file a registration statement on Form S-8 with respect to the shares which are subject to the options, and shall use its reasonable efforts to keep such registration statement effective. The options will not be issued under or governed by the Company's 1998 Stock Option Plan. Options shall be subject to the terms of (and Executive and the Company shall enter into) an option agreement reflecting the foregoing terms. Such option agreement shall provide that the Company is entitled to delay filing the Form S-8 registration statement or suspend offers and sales under the Form S-8 registration statement for a reasonable period 9 (not to exceed 120 days in any year for all such postponements or suspensions) upon the good faith determination of the Board of Directors. In addition, Executive will be entitled to participate in future option programs and grants in the amounts determined by the Compensation Committee on an annual basis. 10 EX-10.13 4 FIRST AMENDMENT TO EMPLOYMENT AGREEMENT Exhibit 10.13 ------------- FIRST AMENDMENT TO EMPLOYMENT AGREEMENT THIS FIRST AMENDMENT TO EMPLOYMENT AGREEMENT (this "Amendment") is --------- made and entered into as of October 21, 1998, by and between EVERCOM, INC., a Delaware corporation, formerly known as Talton Holdings, Inc. (the "Company") ------- and JEFFREY D. CUSHMAN (the "Executive"). --------- R E C I T A L S WHEREAS, the Company and the Executive entered into that certain Employment Agreement dated as of November 15, 1997 (the "Agreement"). Unless --------- the context otherwise requires, all capitalized terms utilized herein shall have the meanings ascribed to them in the Agreement; WHEREAS, the parties desire to amend the Agreement in certain respects. NOW, THEREFORE, the parties hereby agree as follows: 1. Section 5(b) of the Agreement is hereby amended in its entirety to read as follows : "(b) TERMINATION WITHOUT CAUSE. Prior to the end of the Employment Period, the Company may terminate the Executive's employment under this Agreement for a reason other than Cause or no reason whatsoever (i.e., without Cause). If the Company terminates the Executive's employment without Cause prior to the expiration of the Employment Period, or the Company elects not to extend the Employment Period as provided in Section 2, the Company's liability to the Executive is limited to an amount equal to the cash compensation (Base Salary and Bonus) which was paid to the Executive with respect to the calendar year prior to the calendar year in which his employment was terminated or not extended, provided that, for a termination in 1998 such payment shall be $225,000 (the "Severance Payment"). The Company may, at its option, pay the Severance Payment in a lump sum within 30 days after the date of termination of employment, or pay the Severance Payment over a twelve month period (commencing effective as of the date of termination of employment) in equal installments in accordance with the Company's payroll policy. If the Company terminates employment of the Executive because he has become disabled such that he is unable to perform the essential functions of his job (with reasonable accommodation), any such termination shall be deemed to be a termination without Cause pursuant to this Agreement. Similarly, the Executive's employment shall terminate upon his death, and shall be deemed a termination by the Company without Cause, with payments of the Severance Payment hereunder to be made to the Executive's estate." 2. Sections (a) and (b) of Exhibit A of the Agreement are hereby amended in their entirety to read as follows: "(a) Base Salary: $140,000 per year through November 14, 1998. Thereafter, ----------- $168,000 per year. (b) Bonus: Guaranteed bonus for 1998 as follows: (i) $35,000 paid in ----- June of 1998, and (ii) $50,000 payable on or before January 31, 1999. A bonus program will be established annually beginning in 1999. The bonus program shall be based upon the Company's annual budget for each year. The Executive's target bonus shall equal 50% of Base Salary which shall be earned upon achievement of annual budget objectives, with the Executive being eligible to earn a maximum bonus equal to 100% of Base Salary. Determination of bonuses above or below target will be mutually agreed upon by the Company, acting through its Compensation Committee, and the Executive each year." 3. Except as amended hereby, the Agreement is hereby ratified and confirmed and shall remain in full force and effect. 1 4. This Amendment may be executed in several counterparts each of which shall be deemed an original and said counterparts shall constitute but one and the same instrument which may be sufficiently evidenced by one counterpart. 5. This Amendment shall be binding upon and inure to the benefit of the Company and its affiliates, successors and assigns, and the Executive and his assigns, heirs and legal representatives. Each of the Talton Entities (and their respective affiliates, successors and assigns) shall be third party beneficiaries of this Amendment and may independently enforce and benefit from the terms hereof. 2 IN WITNESS WHEREOF, the parties have executed this Agreement as of the date first above written. COMPANY: ------- EVERCOM, INC., a Delaware corporation By: /s/ Dennis L. Whipple ----------------------------------- Name: Dennis L. Whipple Title: Chief Executive Officer Address: 8201 Tristar Drive Irving, Texas 75063 Attn: Chief Executive Officer Telephone: (972) 988-3737 Facsimile: (972) 871-9577 EXECUTIVE: --------- By: /s/ Jeffrey D. Cushman ----------------------------------- Name: Jeffrey D. Cushman Address: 5980 Tipperary Drive Plano, Texas 75203 Attn: Chief Executive Officer Telephone: (972) 378-3726 Facsimile: (972) 378-3992 3 EX-10.15 5 AGREEMENT DATED 4/15/1998 EXHIBIT 10.15 THIS AGREEMENT (the "Agreement"), made and entered into on this the 15th day of April, 1998, by and between TALTON HOLDINGS, INC., doing business as Correctional Billing Services ("THI"), and [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934]. WITNESSETH: WHEREAS, [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] installs and operates inmate telephones at correctional facilities; and, WHEREAS, THI provides validation, billing and collection services for inmate telephone systems operated by its affiliated corporations and has agreed to perform such services for [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] pursuant to the terms and conditions of this Agreement: NOW, THEREFORE, the parties agree as follows: A. GENERAL DESCRIPTION OF SERVICES 1. THI shall provide validation, billing and collection services for inmate call records supplied by [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934]. These services shall be performed in substantially the same manner as similar inmate call services are being performed by THI on its own behalf and for its subsidiaries. 2. THI will also be responsible for validation of the call records and will be responsible for all end user inquiries in the manner set forth herein. 3. Compensation for the services to be performed shall be effected by the purchase by THI of [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] accounts receivable of end user accounts due for services and charges in the manner described herein. 4. The "eligible rate charges" that are the subject of this agreement shall consist only of collect calls. 1 B. CALL RECORD PROCEDURES 1. [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] shall be responsible for obtaining the information necessary to prepare its inmate call records, including determining appropriate tariff rate charges. Such call records shall contain complete information necessary for billing related to the calls capable of being transmitted in a format acceptable to both parties. [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] shall transmit the call records to THI on a daily basis as soon as possible after the call record date and time, normally within 72 hours thereafter, unless unusual circumstances arise that delay transmittal. 2. Upon receipt of each transmittal of daily call records, THI will return to [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] a confirmation of the calls received and the total receivables excluding any billed taxes, applicable to the call records. THI shall have the right to reject any call records which contain irregular rate amounts, are duplicates, are calls where dates are more than 60 days old, or which are subject to other similar irregularities that render the call unbillable. The confirmation shall specify any such rejections and the reasons therefor. Such rejected calls will be returned to [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] within 24 hours for correction, discard, resubmission, or other action as [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] may determine. In the event [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] disputes the rejection of the call record, the parties agree to work together in good faith to resolve the dispute within 60 days. 3. The transmittal of the call records by [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] and the return confirmation by THI shall constitute a sale from [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] to THI of the accounts receivable arising from the call records shown in the confirmation. [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] warrants that it has title to each account receivable so purchased by THI, free of any liens, encumbrances or security interests. 4. THI will process the call records and forward them to the appropriate Local Exchange Company ("LEC") for handling. It is understood that THI has billing 2 and service agreements with LECs such as [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934], and others, and will be reassigning the accounts receivable resulting from the call records to those LECs, or otherwise provide for billing and collection of such records. 5. This agreement covers those existing and future correctional facilities designated by [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] and located within the states of [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934]. This agreement will apply to facilities located outside these states at the option of THI and with the agreement of [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934], be negotiated on a case-by-case basis and attached as an addendum to this agreement. Such proposals for compensation will be submitted to [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] within 5 working days of submittal to THI. C. PAYMENT AND SETTLEMENT 1. Payment for the accounts receivable purchased shall be handled on a calendar month basis. The amounts to be paid by THI to [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] for the accounts receivable shall be based on a percentage of the total gross receivables from call records for each calendar month, less rejected calls, which percentages are set forth on Schedule A attached hereto and made a part hereof. THI shall pay to [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] the percentage of each month's gross receivables, less rejections, adjusted, if applicable, by the bonus/penalty percentage shown on Schedule A. Payment by THI to [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] for the accounts receivable purchased during a calendar month will be made on or before the 15th day of the second month following the close of each calendar month (i.e., accounts receivable resulting from call records purchased in April will be paid and settled on or before June 15th). If the 15th day of the month falls on a Saturday, Sunday, or Federal or State of Alabama holidays (a non-business day), payment shall be made on the next day which is a business day. 2. Payments due to the presubscribed interexchange carrier(s) with whom [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] has an [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] for InterLATA traffic will be made directly to that carrier. Any settlements between [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the 3 Securities Exchange Act of 1934] and the InterLATA carrier(s) are separate from this agreement. 3. Except as otherwise described herein, accounts receivable are to be purchased by THI, without recourse, it being understood that THI assumes the debt risk and costs of servicing, including validation, transport to validation, customer service and inquiry, THI and LEC billing fees, unbillables, and uncollectibles. [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934], however, shall be responsible for determining appropriate tariff rates, excluding tax rates for calls, and THI shall not be responsible for any such rate determination. In the event of any adjustments resulting from erroneous rate charges, or other erroneous billings or from otherwise ineligible call records as described herein, but excluding tax rates for calls [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934], on request, will reimburse THI for any such adjustments on the accounts receivables purchased by THI, not to exceed, however, the purchase price for such receivable. 4. THI will pay to [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] a volume bonus in the amount of [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] provided that the gross amount of accounts receivable purchased by THI from [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] in any consecutive 12 month period (adjusted by any erroneous billings, or other adjustments provided for herein) exceeds the sum of [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] million dollars. Such payment shall be made within 45 days after verification by the parties of the volume of accounts purchased during the applicable 12 month period. Once a volume bonus is paid, the months used to determine that volume bonus shall not be used for the calculation of any future volume bonus. This payment will be in addition to any other payment set forth in Schedule A. 5. Failure to perform any obligation under section C will be considered breach of agreement. 4 D. VALIDATION AND BILLING INQUIRY PROCEDURES 1. THI will furnish a tollfree number for end users to access for billing inquiries. End users will be automatically notified by THI's interactive voice response ("IVR") system when the user's balance reaches 75% of the user's defined credit limit. End users may access IVR to get balances, payment information, block status, and location information 24 hours a day, 7 days a week. The system will be modified to indicate that [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] is the payphone service provider. 2. [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] agrees to furnish updated rate and site information to THI for use in answering end user questions. 3. THI will establish block procedures and shall have the authority to block end users who exceed their credit limit or otherwise fail to comply with THI's blocking policies. THI has reviewed and agrees that [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] has the appropriate tariff in effect to block specific numbers. In the event a regulatory commission finds that blocking of specific numbers is not permitted, an amendment will be negotiated to this Agreement including an adjustment to the purchase price percentage for that State or territory. THI will be responsible for complying with [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] rules regarding billing, collection, blocking, validation and notification of customers. 4. THI will be responsible for validation. THI shall not be obligated to purchase any call records not submitted for validation by THI and, if purchased, shall be reimbursed by [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] upon request for any call records otherwise validated. THI will be responsible for providing and maintaining validation facilities and systems. [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] will be responsible for submitting call attempts information for THI validation for calls covered under this agreement. In the event of a failure in the validation facilities or systems, [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] will process the call as if validated, and THI agrees to accept these call records as if validated according to the terms of this agreement. 5. THI shall indemnify and hold harmless [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] from and against any and all liabilities, 5 causes of action, lawsuits, penalties, claims or demands (including the costs, expenses and reasonable attorneys' fees on account thereof) arising out of THI's actions under this Section D. This indemnification shall be in addition to any other provision for indemnification herein. E. TERMS OF AGREEMENT-PHASE-IN TESTING PERIOD 1. This Agreement shall be effective as of the date hereof. It is recognized, however, that there will need to be an initial phasein period for developing and testing the procedures necessary to provide the services contemplated herein and to provide THI with the opportunity to acquire the necessary personnel and systems modifications to handle the additional [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] traffic. The parties agree to cooperate in this development and phasein period and to honor the appropriate payment and settlement terms based on this Agreement during this phasein period. It is contemplated that this development and testing will be completed by June 30, 1998, but it may be extended by agreement of the parties to a future date. 2. The term of this Agreement shall continue from the end of the phasein period for a period of [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] months, but shall expire in any event on [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] unless extended as provided for in paragraph 3 of this Section E. 3. This Agreement shall be automatically renewed and extended for additional 12month periods following the original term of the Agreement, unless either party gives notice in writing to the other party of its intent not to so renew and extend the Agreement, which written notice must be given not later than 90 days prior to the end of the initial term of this Agreement. F. OTHER REPRESENTATIONS AND AGREEMENTS 1. Each party represents and agrees that it is in substantial compliance with all federal and state laws and regulations which are applicable to the subject matter of this Agreement and will remain in such compliance during the term of this Agreement. In addition, THI will comply with the provisions of the Fair Debt Collections Practice Act, Fair Credit Reporting Act and other laws governing credit, billing and collection practices to the extent applicable. THI agrees to indemnify and hold [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] harmless for any violation of such laws. 6 2. The billing inquiry services to be performed by THI under this Agreement apply to billing matters only. [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] will be responsible for all facility complaints, contacts, or other communications concerning the provision and maintenance of [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934]'s services and facilities. THI will be responsible for all complaints, including those filed with regulatory agencies, concerning its service provided in this agreement. THI will notify [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] of any such complaints and use its best efforts to resolve such complaints to the satisfaction of the regulatory agencies. G. INDEMNIFICATION 1. Each party shall defend, indemnify and hold harmless the other party, its affiliates, its respective officers, directors, shareholders, employees, agents, successors and assigns, and each of them, from and against any and all damages, losses, claims, liabilities, demands, charges, suits, penalties, costs or expenses, whether accrued, absolute, contingent or otherwise, including, but not limited to, court costs and attorneys' fees, which any of the foregoing may incur or to which any of the foregoing may be subjected, arising out of or otherwise based upon any of the following: a. Any breach or default by the other party of or under any of the provisions of this Agreement. b. Claims of any third party or entity for damages, losses, or injuries arising out of any negligent act or omission of the other party, or its agents, employees, or representatives, which arise out of or relate to this Agreement. 2. Each party shall promptly notify the other in writing of any claims or demands against the other for which it is responsible hereunder. 7 H. CONFIDENTIALITY AND PUBLICITY 1. All business-sensitive and competitive information which is marked as such and which is disclosed by either party to the other party during the negotiation of this Agreement, as well as information generated during the performance of the services contemplated herein, including but not limited to volumes, prices, and types of calls, are proprietary and confidential to the disclosing party and shall not be disclosed to a third party or an affiliate. Also, neither party shall use this information except to perform duties pursuant to this Agreement. Each party shall use the same standard of care to protect such information of the disclosing party as it uses to protect its own similar confidential and proprietary information unless such information was previously known to such party free of any obligation to keep it confidential, or has been or is subsequently made public by the disclosing party or a third party. 2. Unless otherwise required by applicable law or regulatory agency, each party agrees that it shall not, without prior written consent of the other party, make any news release, public announcement, or denial or confirmation of the whole or any part of their Agreement which names the other party, except that the parties may inform customers and entities affected by the Agreement, such as LECs, about the parties' relationship and describe the provisions set forth herein which affect such parties for their internal circulation only. 3. Both parties acknowledge that this Agreement contains confidential information which may be considered proprietary by either or both parties, and, except to the extent otherwise provided in this Agreement, agree to limit distribution of the Agreement to those individuals in their respective organizations and their attorneys, accountants, and other professionals, with a need to know the contents of this Agreement. Either party may disclose or provide copies of all or part of this Agreement to meet the requirements of a court, regulatory body or government agency having jurisdiction, but shall use its best efforts to seek commercial confidential status of the Agreement to the extent such designation can be secured, and shall provide at least five business days' written or faxed notice to the other party before such disclosed or provision of all or part of this Agreement. 4. THI agrees to submit to [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] all advertising, sales promotions, press releases, and other publicity matters relating to this Agreement or mentioning or implying the trade names, logos, trademarks or service marks (collectively called "Marks") of [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] and/or any of its affiliated companies or language from which the connection of said Marks therewith may be inferred or implied, or mentioning or implying the names of any personnel of [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] 8 and/or any of its affiliated companies. THI further agrees not to publish or use such advertising, sales promotions, press releases, or publicity matters without [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934]'s prior written consent, and agrees in no circumstance shall THI use such marks in such a way which would signify [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] or [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] endorsement of THI. I. TAXES 1. All taxes including but not limited to Federal, State, or local sales, use, excise, gross receipts or other taxes or tax-like fees (including tariff surcharges and universal service fund fees or similar surcharges) imposed on or with respect to [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934]'s services, excluding however, ad valorem property taxes, state and local privilege and license taxes based on gross revenue, taxes measured by net income, and any taxes or amounts in lieu of the foregoing excluded items, are hereinafter collectively referred to as "Taxes", unless otherwise specifically named. 2. THI shall compute, bill and collect (or cause its billing agent to compute, bill and collect) all applicable Taxes to end users. THI shall use the same tax practice and procedures (including exemption procedures) to apply Taxes on similar or comparable THI services, unless notified in writing by [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] to do otherwise. THI shall implement any legislated tax law or tax rate changes into its procedures as required by applicable tax law for telecommunications services billed by THI. 3. THI shall use the same Tax exemption status with respect to [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934]'s end users as it does for its own end users, and when requested by [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934], shall furnish copies of such information as may be in its possession regarding Tax exemptions of end users. THI shall maintain information regarding Tax exemption status of [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934]'s end users in an accurate and complete manner. Enduser status information shall be maintained by THI in the same manner as it would maintain records for its own end users. [Confidential information set forth here has been filed separately with the Securities and Exchange 9 Commission under Rule 24b-2 under the Securities Exchange Act of 1934] may review information relating to end users Tax exemption status and request that THI change Tax exempt status with respect to [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934]'s services as mutually agreed upon by the tax departments of both Companies. 4. THI is responsible for implementing any legislated Tax rate changes on Taxes currently being charged to end users on [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934]'s behalf, for implementing any new tax applicable to [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] telecommunications services, and for implementing any changes in taxable bases and any other changes required to correctly bill. 5. [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] has the right to review THI's and/or its billing agent's tax procedures and supporting documentation, and THI shall supply [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] with such documentation upon request by [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] at a mutually agreeable location. [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] can request THI to change its tax procedures with respect to applying and billing Taxes. 6. THI shall not be entitled to retain or receive any statutory fee or share of Taxes collected pursuant to this agreement to which the person collecting or remitting such Taxes may be entitled under applicable law. 7. THI agrees to pay and hold [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] harmless from and defend (at THI's expense) [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] from and against any liability or loss resulting from Taxes, penalties, interest, additions to Tax surcharges, or other charges or payable expenses (including reasonable attorney's fees) incurred by [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] as a result of THI's or its billing agent's failure to accurately calculate, bill and remit Taxes. 10 8. Notwithstanding the above, such indemnity is conditioned upon THI providing [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934], or [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] providing THI, with notice (which notice shall be given allowing the Party time to file a response, but in no event more than 10 business days after receipt of assessment) of any additional Taxes, penalties, or interest due with respect to this Agreement. THI shall receive a copy of all filings in any such proceeding, protest or legal challenge, all ruling issued in connection therewith and all correspondence between [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] and the taxing authority. 9. [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] shall have the right to seek administrative relief, a ruling, or judicial review as to the applicability of any Taxes, penalty or interest, or to protest any assessment and direct any legal challenge filed with the Internal Revenue Service or state or local taxing authority or in a court of Law for any Taxes or assessments due as a result of this agreement. 10. Any legal proceeding or any other action with respect to THI and with respect to any asserted liability or additional taxes due by THI shall be under THI's direction, but [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] shall be consulted and provided with copies of all documents [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] deems relevant. These documents should be mailed to the [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] address provided in Section M. Any legal proceeding or any other action with respect to [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] and with respect to any asserted liability of additional taxes due by [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] shall be under [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934]'s direction, but THI shall be consulted. In any event, both [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] and THI shall fully cooperate with each other as to the asserted liability. [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] 11 shall bear all the costs of any such action undertaken at its specific request. THI shall bear the costs of any such action undertaken absent such a request from [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934]. 11. [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] grants THI full authority on its behalf to authorize the LECs to apply taxes associated with telecommunications services billed under the terms and conditions of this agreement, in the same manner in which they apply these taxes to their own end users. Notwithstanding such authority of any LEC to apply taxes pursuant to this agreement, THI shall remain subject to the terms of this agreement. Additionally, THI shall cause such LEC to be subject to the terms and conditions relating to Taxes in this agreement. 12. THI, based solely on the information provided by the LECs, will file and remit applicable taxes to the appropriate taxing authority. [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] agrees that THI is acting only as [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934]'s agent with respect to the billing and collection of Taxes. THI will have no liability whatsoever to [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] for incorrect information supplied by the LECs. 13. THI shall provide no less than on a quarterly basis a list of Taxes paid on behalf of [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934]. At such time as THI billing agents can separately identify [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] revenue and Taxes. THI will remit the information necessary for [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] to file its own returns. Such information will be provided according to the format and delivery schedules mutually agreed upon. [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] may request modifications to THI reporting for Taxes. Until such time that THI can separately identify [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] Taxes, THI shall file all returns for all such Taxes with the applicable authority and [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] shall have no responsibility for payments of Taxes to the taxing authorities. 12 J. TERMINATION 1. Either party shall have the right to terminate this Agreement if the other party materially breaches or fails to perform any of its obligations or responsibilities hereunder and such breach is not cured by the other party within 30 days following its receipt of written notice of termination from the other party specifying the breach. 2. This Agreement may be terminated by either party upon 60 days written notice to the other party in the event of a material change in the laws or regulatory procedures affecting telecommunications or other activities to be performed under this Agreement if such change substantially affects the abilities of either party to perform the Agreement or substantially affects the economics of the performance of the Agreement by either party. 3. THI may cancel this Agreement upon 30 days written notice to [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] in the event [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934], as LEC (or such successor entity performing the services of the LEC), terminates its Billing Services Agreement with THI. K. RECORDS AND AUDITS 1. THI shall maintain complete and accurate records of all amounts payable to and payments made by THI under this Agreement and supporting documentation in accordance with generally accepted accounting practices. Such records shall include, but not be limited to, records of monies paid to [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] by THI hereunder, records regarding all attempts forwarded to THI for validation and call records forwarded to THI for billing and collection. THI shall retain such records for a period of three (3) years from the date of payment to [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] with regard to matters covered by this Agreement. THI shall provide to [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] reasonable supporting documentation concerning any disputed amount within thirty (30) days after [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] notifies THI of the dispute in writing. 2. In order to assess the condition of internal controls, [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] and its 13 authorized representatives shall not be limited to financial matters, but shall have the right to audit all operations and compliance matters as they relate to services provided by THI. In the event of adverse findings from an audit, [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] and THI will agree to a correction plan. 3. [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] and its authorized representatives shall have the right to audit such records of THI during the respective periods in which THI is required to maintain such records, including, without limitation, the right of access to such records on THI's premises, the right to inspect and photocopy same, and the right to retain copies of such records outside of THI's premises with appropriate safeguards, if such retention is deemed necessary by [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934], in its sole discretion. The correctness of payments shall be determined from the result of such audits. THI shall ensure that [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] shall also have such abovedescribed auditing rights with respect to THI's representatives, contractors, or subcontractors. [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934]'s audit rights shall not extend to the composition of any fixed percentages established in this Agreement, other than to verify such payments are properly calculated by THI. 4. THI shall keep and make such records readily available for such audit to determine the correctness of THI's payments to [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934]. All payments THI makes shall be subject to final adjustments as determined by such audit(s). Audit(s) to determine accuracy of records and payments shall occur no later than three (3) years after [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] presents such claim. THI shall adjust payments according to the audit results. 14 L. DISPUTE RESOLUTION 1. Both parties will maintain good faith efforts to ensure that the business arrangement is beneficial to both. The parties will attempt in good faith to resolve any controversy or claim arising out of or relating to this Agreement by negotiation. In the event that negotiations are not successful or the time period to resolve any conflicts exceeds thirty (30) days then either party may suggest mediation as a course to resolve the dispute. Such mediation shall comply with the Center for Public Resources' most current Model ADR Procedures for Mediation of Business Disputes. If such mediation procedures fail to resolve the matter within thirty (30) days of mediation procedure commencement (which either party may extend by agreement of the other), or if either party will not participate in mediation, then arbitration shall settle the controversy. Such arbitration shall comply with the Center for Public Resources Rules for NonAdministered Arbitration of Business Disputes. A sole arbitrator who is sufficiently knowledgeable in the areas of law necessary to arbitrate the controversy and is selected by the parties shall arbitrate the controversy. The United States Arbitration Act, 9 U.S.C. Section 1 et. --- seq., shall govern the arbitration, and judgment upon the award rendered by ---- the arbitrator may be entered by any court having jurisdiction thereof. The arbitrator is not empowered to award damages in excess of actual damages, including punitive damages. Each party shall be responsible for its own costs and expenses, except the parties will share equally the compensation and expenses of the mediator and/or arbitrator(s). M. QUALITY OF SERVICE 1. THI agrees at all times to maintain a level of performance satisfactory to [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] in accordance with reasonable operational standards, including, but not limited to, customer interface and call record rejection by THI, developed and agreed to by both parties. Such procedures shall be completed by July 1, 1998, and may be modified from time to time thereafter. [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] will undertake a periodic review of THI's performance, including, but not limited to, the operational standards developed pursuant to this paragraph. Failure to maintain a level of quality satisfactory to [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] may be considered a breach of this Agreement. 2. THI agrees to have Julius Talton Jr. continue to manage the billing services operation until the [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the 15 Securities Exchange Act of 1934] cut over of all designated correctional facilities to THI is implemented and complete. THI also agrees during the term of this agreement, Julius Talton Jr. will review quarterly the billing services operation for the purpose of determining the overall support for the billing services group is at a satisfactory customer level, based on Mr. Talton's knowledge of this operation. Mr. Talton Jr. will provide a written reply to [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] with his findings within 7 days of this review. N. GENERAL PROVISIONS 1. Notice. Any notice or communication herein required or permitted to be given shall be in writing and may be hand delivered, sent by telex, telegraph, or telefax, or if mailed, shall be deemed given when mailed by United States Registered or Certified Mail, postage prepaid, addressed as follows: [Confidential information set forth here THI: has been filed separately with the ---- Securities and Exchange Commission Talton Holdings, Inc. under Rule 24b-2 under the Securities 720 Alabama Avenue Exchange Act of 1934]: Selma, Alabama 36701 Each party shall have the right to specify as its proper address any other address in the United States of America by giving to the other party at least fifteen (15) days written notice thereof. 2. Entire Contract No Oral Agreements. This Agreement and any exhibits attached hereto set forth the entire understanding and agreement between the parties concerning the subject matter hereof. There are no oral agreements or understandings between the parties affecting this Agreement, and this Agreement supersedes and cancels any and all previous negotiations, arrangements, agreements and understandings, if any, between the parties hereto with respect to the subject matter hereof, and none thereof shall be used to interpret or construe this Agreement. No subsequent alteration, amendments, change or addition to this Agreement shall be binding upon either party unless reduced to writing and signed by each party. 3. Waivers. No delay or omission by any party hereto to exercise any right or power accruing upon any noncompliance or default by any party with respect to any of the terms of this Agreement shall impair any such right or power or be construed to be a waiver thereof, except as otherwise may be herein provided. A waiver by either party or any covenant, condition or agreement to be performed by the other party must be in writing and shall not be construed to be a waiver of any succeeding breach thereof or any covenant, condition, or agreement herein contained. 16 4. Binding Effect - Assignment. The terms and conditions of this Agreement shall inure to the benefit of and be binding not only upon the parties hereto, but also on their respective heirs, executors, administrators, successors and assigns. This Agreement may not be assigned by either party without the written consent of the other party, which consent shall not be unreasonably withheld. 5. Headings. The captions and headings used herein are for convenience of reference only and shall not be held to enlarge, diminish or otherwise affect the meaning of any of the terms or provisions hereof. 6. Construction. As used herein, words in the singular shall be deemed to include the plural, words in the plural shall be deemed to include the singular, and words indicating any gender shall be deemed to include all other genders, where the context would so require or permit. 7. Force Majeure. Neither party shall be held liable for any delay or failure in performance of any part of this Agreement from any cause beyond its control and without its fault or negligence, such as acts of God, acts of civil or military authority, government regulations, embargoes, epidemics, war, terrorist acts, riots, insurrections, fires, explosions, earthquakes, nuclear accident, floods, strikes, power blackouts, volcanic action, and other major environment disturbances, unusually severe weather conditions, inability to secure products or services of other persons or transportation facilities, or acts or omissions of transportation common carriers. 8. Survival. A Termination or expiration of this Agreement shall not affect the rights and responsibilities of the parties accruing prior to the date of termination or expiration and, notwithstanding that this Agreement may otherwise terminate or expire, any and all provisions regarding confidential information and indemnification shall remain in full force and effect. 9. Year 200 Complaint. THI agrees that all hardware and software used to meet the requirements of this agreement will successfully transition into the year 2000 without human intervention including leap year calculations and shall operate correctly when moving forward or backward in time across the year 2000. 10. Governing Law. This Agreement shall be construed and interpreted in accordance with the laws of the State of Alabama applicable to agreements made and entirely to be performed within such jurisdiction, and all transactions hereunder shall be governed by the domestic law of such State. 11. Conflict of Interest. THI acknowledges [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934]'s "Conflict of Interest" statement shown in Schedule B, and further stipulates no officer or employee of [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under 17 Rule 24b-2 under the Securities Exchange Act of 1934] has been employed, retained, induced, or directed by THI to solicit or secure this Agreement with [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] upon agreement, offer, understanding or implication involving any form of remuneration whatsoever. THI agrees, in the event of an allegation of substance (the determination of which will be solely made by [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934]) that there has been a violation hereof, THI will cooperate in every reasonable manner with [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] in establishing whether the allegation is true. Notwithstanding any provisions of this Agreement to the contrary, if a violation of this provision is found to have occurred and is deemed material by [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934], [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] may terminate this Agreement. 12. Nondiscrimination Compliance. THI agrees to comply with the applicable provisions of the "NONDISCRIMINATION COMPLIANCE AGREEMENT" set forth in Schedule C. 13. Incorporation by Reference. The terms and conditions contained in Schedules A through C referred to in this Agreement and attached hereto, are integral parts of this Agreement and are fully incorporated herein by this reference. IN WITNESS WHEREOF, the parties hereto have hereunto caused this instrument to be signed and sealed as of the day, month and year first hereinabove written. TALTON HOLDINGS, INC. By: /s/ Julius E. Talton -------------------------------------- [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] 18 SCHEDULE A TO THI/[Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] BILLING SERVICES AGREEMENT [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934.] 19 Schedule B CONFLICT OF INTEREST STATEMENT ------------------------------ [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] does business with a substantial number of contractors and suppliers. It is a fundamental policy of [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] that such dealings shall be conducted on a fair and impartial basis, free from improper influences, so that all participating contractors and suppliers may be considered on the basis of the quality and costs of their product or service. [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] is also committed to doing business with consumers and suppliers in an atmosphere that is in keeping with the highest standards of business ethics. Although we recognize that the exchange of gifts and entertainment is customary in some businesses, we believe this practice often raises embarrassing questions about the motives of both the giver and receiver. Therefore, this company has for some time followed a policy that its employees shall not accept from customers, suppliers of property, goods, or services, or from any other [Illegible] any gifts, benefits, or unusual hospitality that may in any way tend to influence them, or have the appearance of influencing them, in the performance of their jobs. Employees of [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] who are authorized to make purchases or negotiate contracts are aware of this policy. We believe that firm adherence to this policy will help establish better business relationships between [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] and its contractors and suppliers. We solicit your cooperation in achieving that objective. 20 Agreement between THI and [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] Schedule C Non Discrimination Compliance Agreement The term "contractor" as used herein, shall also mean, when applicable, Seller, Vendor, Supplier, Contractor or other defined term as used in the body of the Agreement. Contractors shall comply with the applicable provisions of the following: [Illegible] and 52.2199, Exec. Order No. 12138, P.L. 95507, Exec. Order No. 11246, Exec. Order No. 11625, Section 8 of the Small Business Act as amended, Railroad Revitalization and Regulatory reform Act of 1976, Exec. Order [Illegible], of the Rehabilitation Act of 1973 as amended by PL93516, Vietnam Era Veteran's Readjustment Assistance Act of 1974 and the rules, regulations and relevant Orders of the Secretary of Labor pertaining to the Executive Orders and Statutes listed above. For contracts of or which aggregate to $2,500 or more annually, the following table describes the clauses which are included in the contract: 1. Inclusion of the Equal Employment clause in all contracts and orders; 2. Certification of nonsegregated facilities; 3. Certification that an affirmative action program has been developed and is filed; 4. Certification that an annual Employers Information Report (EEO1 Standard Form 100) is being filed; 5. Inclusion of the "Utilization of Minority and Women's Business Enterprises" clause in all contracts and orders; 6. Inclusion of the "Minority and Women's Business Enterprise Subcontracting Program" clause in all contracts and orders; 7. Inclusion of the "Listing of Employment Openings" clause in all contracts and orders; 8. Inclusion of the "Employment of the Disabled Handicapped" clause in all contracts and orders; Contract Value Clause(s) Required
$ 2,500 to $10,000 8 $10,000 to $50,000 1, 2, 5, 6, 7, 8 $50,000 or more 1, 2, 3*, 4*, 5, 6, 7, 8
*Applied only for businesses with 50 or more employees 21 1. Equal Employment Opportunity Provisions In accordance with Exec. Order No. 11246, dated September 24, 1965 and Part 601 of Title 41 of the codes of Federal Regulations (Public Contracts and Property Management, Office of Federal Contract Compliance, Obligations of Contractors and Subcontractors), as may be amended from time to time, the parties incorporate herein by this reference the regulations and contract clauses required by those provisions [Illegible]. 2. Certification of Nonsegregated Facilities The contractor certifies that it does not and will not maintain any facilities it provides for its employees in a segregated manner, or permit its employees to perform their services at any location under its control where segregated facilities are maintained and that it will obtain a similar certification prior to the award of any nonexempt subcontract. 3. Certification of Affirmative Action Program The contractor affirms that it has developed and is maintaining an affirmative action plan as required by Part 602 of Title 41 of the Code of Federal Regulations. 4. Certification of Filing of Employers Information Reports The contractor agrees to file annually, on or before the 31st day of March, complete and accurate reports on Standard Form 100 (EEO1) or such forms as may be promulgated in its place. 5. Utilization of Minority and Women's Business Enterprises (a) It is the policy of the Government and [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] Corporation and its affiliates as a Government contractor, that minority and women's business enterprises shall have the maximum practicable opportunity to participate in the performance of contracts. (b) The contractor agrees to use his or her best efforts to carry out this policy in the award of his or her subcontracts to the fullest extent consistent with the efficient performance of this contract. As used in this contract, the term "minority or women's business enterprise" means a business with at least 51 percent of which is owned by minority or women group members or in case of publicly owned businesses, at least 51 percent of the stock [Illegible] is owned by minority or women group members. For purposes of this definition, minority group members are Black, Hispanics, Asians, Pacific Islanders, American Indians and Alaska Natives. Contractors may rely on written representation by subcontractors regarding their status as minority or women's business enterprises in lieu of an independent investigation. The contractor shall inform its subcontractors that any who misrepresent their status as small, minority or womenowned business enterprises in order to obtain for themselves a contract are subject to substantial penalties under law. 22 6. Minority and Women's Business Enterprise Subcontracting Program (a) The contractor agrees to establish and conduct a program which will enable minority and women's business enterprises (as defined in paragraph 5 above) to be considered fairly as subcontractors and suppliers under the contract. In this connection, the contractor shall: (1) Designate a liaison officer who will administer the contractor's minority and women's business enterprises program; (2) Provide adequate and timely consideration of the potentialities or known minority and women's business enterprises in all "make-or-buy" decisions; (3) Assure that minority and women's business enterprises will have an equitable opportunity to compete for subcontracts, particularly by arranging solicitations, time for the preparation of bids, quantities, specifications, and delivery schedules so as to facilitate the participation of minority and women's business enterprises; (4) Maintain records showing (i) procedures which have been adopted to comply with the policies set forth in this clause, including the establishment of a source list of minority and women's business enterprises, (ii) awards to minority and women business enterprises on the source list, and (iii) specific efforts to identify and award contracts to minority and women's business enterprises; (5) Include the Utilization of Minority and Women's Business Enterprises clause in subcontracts which offer substantial minority and women's business enterprises subcontracting opportunities; (6) Cooperate with the Government's Contracting Officer for [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] Corporation or its affiliates in any studies and surveys of the contractor's minority and women's business enterprises procedures and practices that the Government's Contracting Officer may from time to time conduct; (7) Submit periodic reports of subcontracting to minority and women's business enterprises with respect to the records referred to in subparagraph (4) above, in such form and manner and at such time (not more often than quarterly) as the Government's Contracting Officer for [Confidential information set forth here has been filed separately with the Securities and Exchange Commission under Rule 24b-2 under the Securities Exchange Act of 1934] Corporation or its affiliates may prescribe; (b) The contractor agrees to provide assurances that the contractor will include the clause in this contract entitled "Utilization of Small Business 23 Concerns, [Illegible] Disadvantaged Business Concerns and Women's Business Enterprises" in all subcontracts that offer further subcontracting opportunities, and that the contractor will require all subcontracts (except small business concerns) [Illegible] subcontracts in excess of $500,000 ($1,000,000 for construction of any public facility), to adopt a plan similar to the plan agreed to by the contractor. 7. List of Employment Openings for Veterans In accordance with Exec. Order No. 11701, dated January 24, 1973, and Part 60- 250 of Title 41 of the Code of Federal Regulations, as it may be amended from time to time, the parties incorporate herein by this reference the regulations and contract clauses required by those provisions to be made a part of Government contracts and subcontracts. 8. Employment of the Disabled In accordance with Exec. Order No. 11758, dated January 15, 1974, and Part 60- 741 of Title 41 of the Code of Federal Regulations as may be amended from time to time, the parties incorporate herein by this reference the regulations and contract clauses required by those provisions to be made a part of Government contracts and subcontracts. 24 EX-12.1 6 COMPUTATION OF RATIO OF EARNINGS TO FIXED CHARGES
Exhibit 12.1 Evercom, Inc. Statement Regarding Computation of Ratios Ratio of Earnings to Fixed Charges (in thousands) Combined Predecessors | The Company -------------------------------|------------------------------- Years Ended Eleven Months| One Month Years Ended December 31, Ended | Ended December 31, -------------- November 30,| December 31, -------------- 1994 1995 1996 | 1996 1997 1998 ---- ---- -------------| ------------ ---- ---- Earnings: | | Income (loss) from continuing operations before | income taxes and extraordinary loss $1,647 $2,230 $5,183 | $(283) $(12,829) $(25,410) | Interest expense 745 1,360 1,469 | 612 11,138 19,638 | Interest portion of rent expense 57 87 56 | 0 129 306 | ------ ------ ------ | ----- -------- -------- Earnings available for fixed charges $2,449 $3,677 $6,708 | $ 329 $ (1,562) $ (5,466) ====== ====== ====== | ===== ======== ======== | Fixed Charges: | | Interest expense $ 745 $1,360 $1,469 | $ 612 $ 11,138 $ 19,638 | Interest portion of rent expense 57 87 56 | 0 129 306 ------ ------ ------ | ----- -------- -------- | Total fixed charges $ 802 $1,447 $1,525 | $ 612 $ 11,267 $ 19,944 ====== ====== ====== | ===== ======== ======== | Ratio of earnings to fixed charges 3.1 2.5 4.4 | -- -- -- | Deficiency of earnings to fixed charges -- -- -- | $ 283 $ 12,829 $ 25,410
EX-21.1 7 SUBSIDIARIES OF THE COMPANY EXHIBIT 21.1 Subsidiaries of the Registrant Subsidiary State of Incorporation - ---------- ---------------------- Evercom Systems, Inc. Delaware Saratoga Telephone Company, Inc. New York EX-27.1 8 FINANCIAL DATA SCHEDULE
5 YEAR YEAR DEC-31-1997 DEC-31-1998 JAN-01-1997 JAN-01-1998 DEC-31-1997 DEC-31-1998 7,777,996 1,691,762 0 0 22,718,596 46,308,838 (5,316,689) (7,237,879) 1,690,930 2,360,280 30,840,634 45,393,164 26,300,232 37,462,018 (2,293,193) (7,976,074) 189,388,440 191,465,916 37,157,395 56,262,268 161,190,938 169,875,000 0 0 59 59 162 163 (10,019,866) (36,113,696) 189,388,440 191,465,916 91,773,041 225,292,986 91,773,041 225,292,986 93,540,443 231,301,060 93,540,443 231,301,060 (76,392) (235,623) 0 0 11,137,877 19,637,507 (12,828,887) (25,409,958) (641,670) 476,471 (12,187,217) (25,886,429) 0 0 4,739,757 0 0 0 (16,926,974) (25,886,429) 0 0 0 0
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