10-Q 1 d10q.txt QUARTERLY REPORT FOR THE PERIOD ENDED 3/31/2001 ================================================================================ UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 ------------------ FORM 10-Q (Mark One) X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES AND EXCHANGE ACT OF 1934 For Three Month Period Ended March 31, 2001 OR TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES AND EXCHANGE ACT OF 1934 Commission File Number: 000-22555 ------------------ COINSTAR, INC. (Exact name of registrant as specified in its charter) Delaware 94-3156448 (State or other jurisdiction of (IRS Employer incorporation or organization) Identification No.) 1800 114th Avenue SE, Bellevue, Washington 98004 (Address of principal executive offices) (Zip Code) (425) 943-8000 (Registrant's telephone number, including area code) ------------------ 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 the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date. Class Outstanding at April 30, 2001 Common Stock, $0.001 par value 20,636,707 ================================================================================ COINSTAR, INC. AND SUBSIDIARIES FORM 10-Q Index PART I. FINANCIAL INFORMATION
Item 1. Consolidated Financial Statements: Consolidated Balance Sheets as of March 31, 2001 (unaudited) and December 31, 2000............................................................................................ Page 3 Consolidated Statements of Operations for the three month periods ended March 31, 2001 and March 31, 2000 (unaudited)...................................................................... Page 4 Consolidated Statement of Stockholders' Equity for the three month period ended March 31, 2001 (unaudited)...................................................................... Page 5 Consolidated Statements of Cash Flows for the three month periods ended March 31, 2001 and March 31, 2000 (unaudited)...................................................................... Page 6 Notes to Consolidated Financial Statements for the three month periods ended March 31, 2001 and March 31, 2000 (unaudited).................................................................. Page 7 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations...................................................................................... Page 9 Item 3. Quantitative and Qualitative Disclosures About Market Risk............................................. Page 21 PART II. OTHER INFORMATION Item 6. Exhibits and Reports on Form 8-K....................................................................... Page 22 SIGNATURE......................................................................................................... Page 23 EXHIBIT INDEX..................................................................................................... Page 24
PART I. FINANCIAL INFORMATION Item 1. Consolidated Financial Statements COINSTAR, INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS
March 31, December 31, 2001 2000 ---- ---- (Unaudited) ASSETS CURRENT ASSETS: Cash and cash equivalents ....................................................... $ 77,796,833 $ 78,674,152 Prepaid expenses and other current assets ....................................... 2,212,774 2,885,834 ------------- ------------- Total current assets ....................................................... 80,009,607 81,559,986 PROPERTY AND EQUIPMENT: Coinstar units .................................................................. 125,548,303 122,834,742 Computers ....................................................................... 7,805,273 7,516,588 Office furniture and equipment .................................................. 1,547,194 1,560,144 Leased vehicles ................................................................. 4,052,880 3,941,144 Leasehold improvements .......................................................... 599,335 527,017 ------------- ------------- 139,552,985 136,379,635 Accumulated depreciation ........................................................ (72,077,798) (66,478,763) ------------- ------------- 67,475,187 69,900,872 OTHER ASSETS ......................................................................... 5,698,765 6,326,760 ------------- ------------- TOTAL ................................................................................ $ 153,183,559 $ 157,787,618 ============= ============= LIABILITIES AND STOCKHOLDERS' EQUITY CURRENT LIABILITIES: Accounts payable ................................................................ $ 2,907,981 $ 4,882,786 Accrued liabilities ............................................................. 51,528,247 51,494,497 Current portion of long-term debt and capital lease obligations ................. 929,082 920,603 ------------- ------------- Total current liabilities .................................................. 55,365,310 57,297,886 LONG-TERM DEBT AND CAPITAL LEASE OBLIGATIONS ......................................... 61,814,482 61,815,043 ------------- ------------- Total liabilities .......................................................... 117,179,792 119,112,929 MINORITY INTEREST-CONVERTIBLE PREFERRED STOCK ........................................ 3,351,954 3,833,152 STOCKHOLDERS' EQUITY: Common stock .................................................................... 161,727,955 159,517,516 Contributed capital ............................................................. 1,460,042 1,821,647 Accumulated other comprehensive income (loss) ................................... (19,906) (17,381) Accumulated deficit ............................................................. (130,516,278) (126,480,245) -------------- ------------- Total stockholders' equity ...................................................... 32,651,813 34,841,537 ------------- ------------- TOTAL ................................................................................ $ 153,183,559 $ 157,787,618 ============= =============
See notes to consolidated financial statements. 3 COINSTAR, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS (Unaudited)
Three Month Periods Ended March 31, --------- 2001 2000 ---- ---- REVENUE........................................................ $ 27,527,643 $ 21,037,493 EXPENSES: Direct operating.......................................... 12,878,092 10,421,840 Regional sales and marketing.............................. 370,102 492,611 Product research and development.......................... 2,088,334 1,732,047 Selling, general and administrative....................... 7,145,500 5,056,543 Depreciation and amortization............................. 7,750,711 6,166,226 ------------- ------------- Loss from operations............................... (2,705,096) (2,831,774) OTHER INCOME (EXPENSE): Interest income........................................... 266,950 557,272 Interest expense.......................................... (2,079,677) (1,979,831) Other income.............................................. 592 63,724 ------------- ------------- Loss before minority interest ..................... (4,517,231) (4,190,609) Minority interest related to convertible preferred stock........................................ 481,198 250,140 ------------- ------------- NET LOSS....................................................... $ (4,036,033) $ (3,940,469) ============= ============= Net loss per share, basic and diluted.......................... $ (0.20) $ (0.20) ============= ============= Weighted average shares outstanding, basic and diluted..................................................... 20,502,366 20,193,291 ============= =============
See notes to consolidated financial statements. 4 COINSTAR, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY For the Three Month Period Ended March 31, 2001 (Unaudited)
Accumulated Common Stock Other ------------ Contributed Comprehensive Accumulated Shares Amount Capital Income (Loss) Deficit Total ------ ------ ------- ------------- -------- ----- Balance at January 1, 2001......... 20,388,705 $159,517,516 $1,821,647 $ (17,381) $ (126,480,245) $34,841,537 Issuance of shares under employee stock purchase plan............ 26,765 345,021 345,021 Exercise of stock options.......... 177,736 1,503,813 1,503,813 Net exercise of common stock warrants................. 18,963 361,605 (361,605) -- Comprehensive loss Unrealized loss on foreign currency translation....... (2,525) (2,525) ------------ Other comprehensive loss...... (2,525) Net loss........................... (4,036,033) (4,036,033) ----------- Comprehensive loss................. (4,038,558) ---------- ------------ ---------- --------- -------------- ----------- Balance at March 31, 2001.......... 20,612,169 $161,727,955 $1,460,042 $ (19,906) $ (130,516,278) $32,651,813 ========== ============ ========== ========= ============== ===========
See notes to consolidated financial statements. 5 COINSTAR, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)
Three Month Periods Ended March 31, 2001 2000 ---- ---- OPERATING ACTIVITIES: Net loss...................................................................................... $(4,036,033) $ (3,940,469) Adjustments to reconcile net loss to net cash provided (used) by operating activities: Depreciation and amortization............................................................. 7,750,711 6,166,226 Minority interest related to convertible preferred stock.................................. (481,198) (250,140) Debt discount amortization................................................................ 31,382 46,661 Unrealized loss on short-term investments available for sale.............................. -- (3,654) Unrealized gain (loss) on foreign currency translation.................................... (2,525) 6,079 Cash provided (used) by changes in operating assets and liabilities: Investment interest receivable............................................................ -- 83,960 Prepaid expenses and other current assets................................................. 816,012 (1,343,136) Other assets.............................................................................. (73,943) 178,740 Accounts payable.......................................................................... (1,968,414) (1,033,878) Accrued liabilities....................................................................... 33,750 (5,360,402) ----------- ------------ Net cash provided (used) by operating activities.......................................... 2,069,742 (5,450,013) INVESTING ACTIVITIES: Sale of short-term investments............................................................ -- 8,176,369 Purchase of property and equipment........................................................ (4,229,683) (5,268,024) Net proceeds from the sale of property and equipment...................................... 3,010 -- Purchase of intangible assets............................................................. (306,226) (263,809) ----------- ------------ Net cash provided (used) by investing activities.......................................... (4,532,899) 2,644,536 FINANCING ACTIVITIES: Payments on long-term debt................................................................ (262,996) (179,291) Proceeds from sale of subsidiary convertible preferred stock and warrants, including minority interest related to convertible preferred stock............................... -- 5,500,000 Proceeds from exercise of stock options and issuance of shares under employee stock purchase plan......................................................................... 1,848,834 632,415 ----------- ------------ Net cash provided by financing activities................................................. 1,585,838 5,953,124 ----------- ------------ INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS.............................................. (877,319) 3,147,647 CASH AND CASH EQUIVALENTS: Beginning of period....................................................................... 78,674,152 78,736,908 ------------ ----------- End of period............................................................................. $ 77,796,833 $81,884,555 ============ =========== SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION: Cash paid during the period for interest.................................................. $ 50,022 $ 3,999,277 SUPPLEMENTAL DISCLOSURE OF NON-CASH INVESTING AND FINANCING ACTIVITIES: Purchase of vehicles financed by capital lease obligation................................. $ 291,427 $ 302,148 Net exercise of common stock warrants..................................................... $ 361,606 $ --
See notes to consolidated financial statements. 6 COINSTAR, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Three Month Periods Ended March 31, 2001 and 2000 (Unaudited) NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Basis of Presentation: The unaudited consolidated financial statements of Coinstar, Inc. and subsidiaries (the "Company") included herein reflect all adjustments, consisting only of normal recurring adjustments which, in the opinion of management, are necessary to present fairly the Company's consolidated financial position, results of operations and cash flows for the periods presented. These financial statements have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission (the "SEC") and in accordance with accounting principles generally accepted in the United States of America for interim financial information. Certain information and footnote disclosures, normally included in annual financial statements prepared in accordance with accounting principles generally accepted in the United States of America, have been omitted pursuant to such SEC rules and regulations. These financial statements should be read in conjunction with the Company's audited financial statements and the accompanying notes included in the Company's Form 10-K for the year ended December 31, 2000, filed with the SEC. The results of operations for the three month period ended March 31, 2001 are not necessarily indicative of the results to be expected for any subsequent quarter or for the entire fiscal year. Principles of Consolidation: The financial statements include the accounts of the Company. All inter-company transactions have been eliminated upon consolidation. Loss Per Share: Because the results from operations reflect a net loss for all periods presented, basic and diluted loss per share is calculated based on the same weighted average number of shares outstanding. The following warrants and options have been excluded from the calculation because they are antidilutive:
March 31, 2001 March 31, 2000 -------------- -------------- Warrants.............................................. 76,326 1,027,652 Options............................................... 2,844,352 2,571,419
Recent Accounting Pronouncement: In June 1998, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards ("SFAS") No. 133, Accounting for Derivative Instruments and Hedging Activities, which was amended by SFAS No. 138. This pronouncement, as amended, requires an entity to recognize all derivatives as either assets or liabilities in the statement of financial position and measure those instruments at fair value. The Company has adopted the provisions of SFAS 133 and SFAS 138 as of January 1, 2001. The impact of adoption was not material to the financial statements, taken as a whole. 7 NOTE 2: BUSINESS SEGMENT INFORMATION Operating segments as defined in SFAS No. 131, Disclosures about Segments of an Enterprise and Related Information, are components of an enterprise for which separate financial information is available and regularly reviewed by the chief operating decision-maker. The Company is organized into three reportable business segments; the North American core business (which includes the United States and Canada), the International business (which includes the United Kingdom), and the Meals.com business. Information about these three segments has been disclosed in the table below.
Three Month Periods ------------------- Ended March 31, --------------- 2001 2000 ---- ---- (In thousands) Revenue: North American core business..................... $ 27,130 $ 20,972 International business........................... 153 51 Meals.com business............................... 335 14 Intercompany eliminations........................ (90) -- ---------- -------- Total revenues.............................. $ 27,528 $ 21,037 ========== ======== Net income (loss): North American core business..................... $ 11 $ (1,665) International business........................... (116) (228) Meals.com business............................... (4,419) (2,297) Minority interest and eliminations............... 488 250 ---------- -------- Total net loss.............................. $ (4,036) $ (3,940) ========== ======== Total assets: North American core business..................... $ 172,036 $159,732 International business........................... 1,971 577 Meals.com business............................... 10,839 18,018 Intercompany eliminations........................ (31,662) (19,281) ---------- -------- Total assets................................ $ 153,184 $159,046 ========== ========
8 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations The following discussion and analysis should be read in conjunction with the Financial Statements and related Notes thereto included elsewhere in this Quarterly Report on Form 10-Q. Except for the historical information, the following discussion contains forward-looking statements that involve risks and uncertainties, such as our objectives, expectations and intentions. Our actual results could differ materially from results that may be anticipated by such forward-looking statements and discussed elsewhere herein. Factors that could cause or contribute to such differences include, but are not limited to, those discussed below, those discussed under the caption "Risk Factors", and those discussed elsewhere in this Quarterly Report on Form 10-Q and our Annual Report on Form 10-K for the year ended December 31, 2000. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date of this report. We undertake no obligation to revise any forward-looking statements in order to reflect events or circumstances that may subsequently arise. Readers are urged to carefully review and consider the various disclosures made in this report and in our other reports filed with the Securities and Exchange Commission that attempt to advise interested parties of the risks and factors that may affect our business, prospects and results of operations. Overview We currently derive substantially all our revenue from coin processing services generated by our installed base of Coinstar units located in supermarket chains in 46 states across the United States and the District of Columbia as well as in the United Kingdom and Canada. We generate revenue based on a processing fee charged on the total dollar amount of coins processed in a transaction. Coin processing fee revenue is recognized at the time the customers' coins are counted by the Coinstar unit. Overall revenue growth is primarily dependent on the growth in coin processing volumes of our installed base and, to a lesser degree, the rate of new installations. Our results show that coin processing volumes per unit generally increase with the length of time the unit is in operation as trial levels of the service increase, driving initial trial and repeat usage for the service. There can be no assurance, however, that unit volumes will continue to increase as a function of the time the unit is in operation. We believe that coin processing volumes per unit may also be affected by other factors such as (i) public relations, advertising and other activities that promote trials of the units, (ii) the amount of consumer traffic in the stores in which the units are located, and (iii) seasonality. We believe the seasonality affecting our coin processing volumes mirrors the seasonality patterns of our supermarket partners. We formed a subsidiary, Coinstar International, Inc., in March 1998 to explore expanding our operations internationally. We are piloting 59 Coinstar units in Canada to determine the viability of the Canadian market for our services and are piloting 27 Coinstar units in the United Kingdom. On May 1, 2001, we announced plans to rollout the Coinstar service in the United Kingdom and reached agreements with Asda Stores Ltd and Sainsbury's Supermarkets Ltd to begin installing additional machines in their stores. We also formed a subsidiary, Meals.com, Inc., in December 1998 to explore the development and deployment of e-services technology, including the in-store Shopper kiosk. Our direct operating expenses are comprised of the regional expenses associated with Coinstar coin-counting unit operations and support and consist primarily of coin pick-up and processing, field operations support and related expenses, retail operations support and the amount of our service fee that we share with our retail partners. Coin pick-up and processing costs, which represent a large portion of direct operating expenses, vary based on the level of total coin processing volume and the density of the units within a region. Field service operations and related expenses vary depending on the number of geographic regions in which Coinstar units are located and the density of the units within a region. Regional sales and marketing expenses are comprised of ongoing marketing, advertising and public relations efforts in existing market regions and startup marketing expenses incurred to launch our services in new regional markets. Product research and development expense consists of the development costs of the Coinstar unit software, network applications, Coinstar unit improvements and new product development. Product research and development expenses also consist of the development costs of network applications and new product development for our subsidiary, Meals.com. Selling, general and administrative expenses are comprised of management compensation, administrative support for field operations, the customer service center, sales and marketing support, systems and engineering support, computer network operations, finance and accounting, human resources and occupancy expenses. Depreciation and amortization consists primarily of depreciation charges on Coinstar units and amortization of internally developed software costs, and to a lesser extent, depreciation on furniture and fixtures, automobiles and computer equipment. Other income in the prior year quarter consisted of sublease rental income of unused and excess office space. Since 1995, we have devoted significant resources to building the sales and marketing organization, adding administrative personnel and developing the network systems and infrastructure to support the rapid growth of our installed base of Coinstar 9 coin-counting units. Additionally, since 2000, we have devoted significant resources and capital to develop and market the Meals.com products and services, including the Meals.com family of websites and the in-store Shopper kiosks. The cost of this expansion and the significant depreciation expense of our installed network have resulted in significant operating losses to date and an accumulated deficit of $130.5 million as of March 31, 2001. We expect to continue to evaluate new marketing and promotional programs to increase the breadth and rate of customer utilization of our service and to engage in systems and product research and development. We expect these expenses will negatively impact our operating results. We believe that our future coin counting revenue growth, operating margin gains and profitability will be dependent upon the penetration of our installed base with retail partners in existing markets, expansion and penetration of installations in new market regions and successful ongoing marketing and promotional activities to sustain the growth in unit coin volume over time. Given the unpredictability of the timing of installations with retail partners and the resulting revenues, the growth in coin processing volumes of our installed base, the limited operating history of our Meals.com subsidiary, and the continued market acceptance of our services by consumers and retail partners, our operating results for any quarter are subject to significant variation, and we believe that period-to-period comparisons of our results of operations are not necessarily meaningful and should not be relied upon as indications of future performance. Recent Developments On February 8, 2001, we announced that we engaged JPMorgan & Co. as financial advisor to assist us in exploring strategic alternatives for Coinstar and our subsidiaries, Meals.com and Coinstar International to enhance Coinstar stockholder value. In May 2001, our board of directors completed the initial phase of its strategic alternatives analysis with JPMorgan. Based on a number of factors, including our strong operating performance and the analysis provided by JPMorgan, the board has determined that the long-term interests of our stockholders are best served by continuing as an independent public company executing on our strategic plan. JPMorgan will continue to work on our behalf to consider strategic alternatives for our subsidiary, Meals.com., including assessing financing alternatives. In May 2001, Meals.com announced a corporate reorganization aimed at managing cash while the company works to achieve profitability. One result of the reorganization was a significant reduction in its workforce. Results of Operations The following table shows revenue and expense as a percent of revenue for the periods ended:
Three Month Periods Ended March 31, --------- 2001 2000 ---- ---- Revenue............................................................ 100.0 % 100.0 % Expenses: Direct operating.............................................. 46.8 49.6 Regional sales and marketing.................................. 1.3 2.3 Product research and development.............................. 7.6 8.2 Selling, general and administrative........................... 25.9 24.0 Depreciation and amortization................................. 28.2 29.3 ---- ---- Loss from operations............................................... (9.8)% (13.4)% ==== ====
Three Month Periods Ended March 31, 2001 and 2000 Revenue Revenue increased to $27.5 million for the three months ended March 31, 2001 from $21.0 million for the comparable 2000 period. The increase was due principally to the increase in the number of Coinstar units in service during the 2001 period and the increase in the volume of coins processed by the units in service during this period. The total installed base of Coinstar units increased to 8,604 at March 31, 2001 from 7,392 units at March 31, 2000. The total dollar value of coins processed worldwide increased to $305.8 million during the three month period ended March 31, 2001 from $236.3 million in the comparable period in the prior year. Direct Operating Expenses Direct operating expenses increased to $12.9 million in the three months ended March 31, 2001 from $10.4 million in the comparable prior year period. The increase in direct operating expenses was attributable primarily to the increased coin pick-up and processing costs resulting from the increased dollar volumes processed during the year, an increase in field service personnel expenses associated with the hiring and training of new field service personnel to support our growth and related expansion into 15 new regional markets, and an increase in revenue sharing with our partners that corresponded to a 28.7% increase in coin 10 processing revenue from the quarter ended March 31, 2000. Direct operating expenses as a percentage of revenue decreased to 46.8% in the three months ended March 31, 2001 from 49.6% in the same period of 2000. The decrease in direct operating expenses as a percentage of revenue resulted from (i) the realization of coin pick-up and processing cost economies attributable to regional densities and utilization of cheaper, more efficient coin pick-up methods, and (ii) a decrease in per unit field service expenses as a percentage of revenue as we increased our density in our existing markets. Regional Sales and Marketing Regional sales and marketing expenses decreased to $0.4 million in the quarter ended March 31, 2001 from $0.5 million in the comparable prior year quarter. The decrease in regional marketing expense was the result of a decreased level of newspaper advertising and other promotional activity. Regional sales and marketing as a percentage of revenue decreased to 1.3% in the three months ended March 31, 2001 from 2.3% in the same period of 2000. Product Research and Development Product research and development expenses increased to $2.1 million in the quarter ended March 31, 2001 from $1.7 million in the comparable prior year quarter. The increase in product research and development expense was due primarily to the continued expansion and growth by Meals.com resulting from its e-services initiatives. Product research and development as a percentage of revenue decreased to 7.6% in the three months ended March 31, 2001 from 8.2% in the same period of 2000. Selling, General and Administrative Selling, general and administrative expense increased to $7.1 million in the quarter ended March 31, 2001 from $5.1 million in the comparable prior year quarter. The principal component of such expenses was employee compensation; the period-to-period increase primarily reflects an investment in higher staffing levels to support our rapid growth and expansion. Selling, general and administrative expense as a percentage of revenue increased to 25.9% in the quarter ended March 31, 2001 from 24.0% in the same period in the prior year. The increase in selling, general and administrative expense as a percentage of revenue was primarily the result of (i) increased staffing, particularly for our Meals.com subsidiary, which hired most of its base sales and administrative staff throughout the year 2000, and (ii) increased administrative expenses related to insurance, occupancy, legal, professional fees and other general administrative costs. Depreciation and Amortization Depreciation and amortization expense increased to $7.8 million in the quarter ended March 31, 2001 from $6.2 million in the comparable prior year quarter. The increase was due primarily to the increase in the installed base of Coinstar units and amortization of software development costs. Depreciation and amortization as a percentage of revenue decreased to 28.2% in the three months ended March 31, 2001 from 29.3% in the same period in the prior year. The decrease in depreciation and amortization as a percentage of revenue was the result of increasing coin processing volumes processed through the network. Other Income and Expense Other income generated in the three months ended March 31, 2001 was insignificant. In the quarter ended March 31, 2000, other income resulting from subleasing excess office space was $0.1 million. Interest income decreased to $0.3 million in the three months ended March 31, 2001 from $0.6 million in the comparable period in 2000. The decrease in interest income is attributed to (i) lower interest rates on 2001 investments and (ii) a lower amount of cash allocated to investments in the three months ended March 31, 2001 than the same period in the prior year. Interest expense increased slightly to $2.1 million in the three months ended March 31, 2001 from $2.0 million in the comparable prior year period. Net Loss Net loss increased to $4.0 million in the quarter ended March 31, 2001 from $3.9 million in the quarter ended March 31, 2000. The increase in the net loss was due primarily to our Meals.com subsidiary's expenditures associated with the on-going development of its infrastructure over the prior 12 month period. Of the $4.0 million consolidated net loss for the quarter ended March 31, 2001, our Meals.com subsidiary generated approximately $3.9 million of that loss, net of minority interest. Net loss from our North American and International coin processing businesses was $0.1 million. We expect that our coin processing business segments will continue to reflect improved operating leverage of the Coinstar network. In the future, we expect to 11 achieve profitability in our core business as our direct contribution margin from our large base of installed Coinstar units grows proportionately faster than the rate of growth of our expenses. Liquidity and Capital Resources As of March 31, 2001, we had cash and cash equivalents of $77.8 million and working capital of $24.6 million. Cash and cash equivalents include $40.6 million of funds in transit to our retail partners, which represent amounts owed to retail partners which is being processed by armored car carriers or residing in Coinstar units. Net cash provided by operating activities was $2.1 million for the three months ended March 31, 2001, compared to net cash used by operating activities of $5.5 million for the three months ended March 31, 2000. Net cash used by investing activities for the three months ended March 31, 2001 was $4.5 million compared to cash provided by investing activities of $2.6 million in the prior year quarter. Cash generated by investing activities for the quarter ending March 31, 2000 was due primarily to sales of marketable securities totaling $8.2 million; there were no sales of marketable securities in the current year quarter. Additionally, capital expenditures during the three months ended March 31, 2001, were $4.2 million compared with $5.3 million in the comparable period in 2000. Capital expenditures decreased due primarily to a decrease in Coinstar unit purchases during the quarter. As we continue to selectively install new units nationwide in order to optimize our Coinstar network and increase our profitability, we expect the rate of installations to slow compared to historical levels. Net cash provided by financing activities for the three months ended March 31, 2001 was $1.6 million, which was primarily the result of proceeds from the exercise of stock options and employee stock purchases of $1.8 million offset by principal payments on long-term debt. Net cash provided by financing activities for the three months ended March 31, 2000 was $6.0 million resulting from proceeds received for the sale of preferred stock of our subsidiary Meals.com of $5.5 million and proceeds from the exercise of stock options and employee stock purchases of $0.6 million offset by principal payments on long-term debt. On February 10, 2000, Meals.com sold 5.5 million shares of its Series A Convertible Preferred Stock, together with warrants to purchase 5.5 million shares of its common stock at an exercise price of $0.125 per share to an outside investor group for $5.5 million, which represented approximately an 11% interest in the subsidiary. As part of the financing, we invested $10.0 million in exchange for 10 million shares of Series A-1 Convertible Preferred Stock. The holders of Series A Convertible Preferred Stock and Series A-1 Convertible Preferred Stock generally have identical rights, except that the holders of Series A Convertible Preferred Stock are entitled to one vote per share while holders of Series A-1 Convertible Preferred Stock are entitled to five votes per share on all matters to be voted on by the Meals.com shareholders. In addition, the holders of the Series A and Series A-1 Convertible Preferred Stock have a $5.5 million and $10.0 million liquidation preference, respectively. Also in connection with the Meals.com financing, we provided a $15.6 million credit facility. Meals.com has drawn the entire amount of the credit facility and we do not anticipate increasing the credit facility to Meals.com. Interest accrues on the credit facility at Imperial Bank's prime commercial lending rate plus 300 basis points. As of March 31, 2001, we had outstanding $61.0 million of our senior subordinated discount notes. We have debt service obligations of approximately $7.9 million per year until October 2006 when the principal amount of $61.0 million plus accrued interest will be due. The indenture governing the notes contains restrictive covenants that, among other restrictions, limit our ability to pay dividends or make other restricted payments, engage in transactions with affiliates, incur additional indebtedness, effect asset dispositions, or merge or sell substantially all our assets. As of March 31, 2001, we had secured irrevocable letters of credit with two banks that totaled $6.8 million. These letters of credit, which expire at various times through August 2001, are available to collateralize certain obligations to third parties. As of March 31, 2001, no amounts were outstanding under these letters of credit agreements. On February 19, 1999, we entered into a credit agreement with Imperial Bank, for itself and as agent of Bank Austria Creditanstalt Corporate Finance, Inc. On September 26, 2000, we amended the credit agreement to release Bank Austria from its obligations under the credit agreement. The amended credit agreement provides for a credit facility of up to $13.0 million, consisting of a revolving loan of $10.0 million and a term loan of $3.0 million. The amended credit agreement expires in September 2006 and also releases us from our obligation to maintain minimum deposits with Imperial Bank. 12 In connection with the credit agreement, we issued to each of the lenders a warrant to purchase 51,326 shares of our common stock. The exercise price for the warrants, which will expire on February 19, 2009, is $12.177 per share. The value of these warrants are recorded as contributed capital and represent discounts, which are being amortized ratably over the term of the related debt. In February 2001, one of the lenders net exercised its warrant in full to purchase 18,963 shares of our common stock. We believe existing cash equivalents, short-term investments, and amounts available to us under our credit agreement with Imperial Bank will be sufficient to fund our cash requirements and capital expenditure needs for at least the next 12 months. After that time, the extent of additional financing needed will depend on the success of our business. If we significantly increase installations beyond planned levels or if unit coin processing volumes generated are lower than historical levels, our cash needs will increase. Our future capital requirements will depend on a number of factors, including the timing and number of installations, the type and scope of service enhancements, the level of market acceptance of our service, the feasibility of international expansion, and the cost of developing potential new product and service offerings and product and service enhancements. 13 Quarterly Financial Results The following table sets forth selected unaudited quarterly financial information and operating data for the last eight quarters. This information has been prepared on the same basis as our unaudited consolidated financial statements and includes, in the opinion of management, all normal and recurring adjustments that management considers necessary for a fair statement of the quarterly results for the periods. The operating results and data for any quarter are not necessarily indicative of the results for future periods.
Three month periods ended ------------------------- March 31, Dec. 31, Sept. 30, June 30, March 31, Dec. 31, Sept. 30, June 30, --------- -------- ------- 2001 2000 2000 2000 2000 1999 1999 1999 ---- ---- ---- ---- ---- ---- ---- ---- (Dollars in thousands except per unit data) Consolidated Statements of Operations: Revenue................................. $ 27,528 $ 28,630 $ 28,707 $ 24,714 $ 21,038 $ 21,960 $ 21,723 $ 18,258 Expenses: Direct operating...................... 12,878 12,984 13,045 11,733 10,422 10,938 10,783 9,176 Regional sales and marketing.......... 370 2,402 4,906 3,567 493 2,756 1,294 1,012 Product research and development...... 2,088 3,035 1,858 1,710 1,732 1,441 2,035 1,155 Selling, general and administrative... 7,146 8,748 6,911 5,502 5,057 4,135 3,877 3,628 Depreciation and amortization......... 7,751 7,638 6,852 6,409 6,166 5,934 5,698 4,580 -------- -------- -------- -------- -------- -------- -------- -------- Loss from operations.................... (2,705) (6,177) (4,865) (4,207) (2,832) (3,244) (1,964) (1,293) Other income (expense), net............. (1,812) (1,902) (1,481) (1,538) (1,359) (2,291) (1,939) (2,856) -------- -------- -------- -------- -------- -------- -------- -------- Loss before minority interest and extraordinary item.................. (4,517) (8,079) (6,346) (5,745) (4,191) (5,535) (3,903) (4,149) Minority interest related to convertible preferred stock............. 481 669 461 288 250 -- -- -- -------- -------- -------- -------- -------- -------- -------- -------- Loss before extraordinary item.......... (4,036) (7,410) (5,885) (5,457) (3,941) (5,535) (3,903) (4,149) Extraordinary item: Loss related to early retirement of debt............................. -- -- -- -- -- (2,507) (743) -- -------- -------- -------- -------- -------- -------- -------- -------- Net loss................................ $ (4,036) $ (7,410) $ (5,885) $ (5,457) $ (3,941) $ (8,042) $ (4,646) $ (4,149) ======== ======== ======== ======== ======== ======== ======== ======== North American core business: Number of new Coinstar units installed during the period................. 95 413 359 337 430 495 668 546 Installed base of Coinstar units at end of period...................... 8,577 8,482 8,069 7,710 7,373 6,934 6,448 5,780 Average age of network for the period (months)........................... 29.7 27.6 26.2 24.5 22.9 21.4 20.3 19.8 Number of regional markets.............. 123 122 118 110 106 104 102 97 Dollar value of coins processed......... $303,799 $315,715 $320,655 $276,073 $235,594 $245,703 $243,550 $204,864 Revenue................................. 27,130 28,107 28,546 24,576 20,972 21,871 21,679 18,235 Annualized revenue per average installed unit (1)...................... 12,696 13,565 14,495 13,091 11,740 13,041 14,146 13,339 Direct contribution (2)................. 14,373 15,195 15,569 12,890 10,638 10,973 10,936 9,100 Direct contribution margin (%).......... 53.0% 54.1% 54.5% 52.4% 50.7% 50.2% 50.4% 49.9% Annualized direct contribution per average installed unit (1)(2)....... $ 6,747 $ 7,333 $ 7,906 $ 6,866 $ 5,955 $ 6,543 $ 7,136 $ 6,657 Regional sales and marketing............ 377 2,402 4,906 3,567 493 2,756 1,293 1,013 Research and development................ 915 886 825 804 751 919 1,643 838 Selling, general and administrative..... 4,942 4,789 4,281 3,993 4,077 3,172 3,100 3,185 EBITDA (3).............................. 8,139 7,118 5,557 4,526 5,317 4,126 4,900 4,064 EBITDA margin (%)....................... 30% 25% 19% 18% 25% 19% 23% 22%
_______________ (1) Based on actual quarterly results annualized divided by the monthly averages of units in operation over the applicable period. (2) Direct contribution is defined as revenue less direct operating expenses. We use direct contribution as a measure of operating performance to assist in understanding our operating results. Direct contribution is not a measure of financial performance under generally accepted accounting principles (GAAP) and should not be considered in isolation or an alternative to gross margin, income (loss) from operations, net income (loss), or any other measure of performance under GAAP. (3) EBITDA represents earnings before interest expense, income taxes, depreciation, amortization and other income/expense. EBITDA does not represent and should not be considered as an alternative to net income or cash flow from operations as determined by GAAP. However, we believe that EBITDA provides useful information regarding our ability to service and/or incur indebtedness. 14 Our coin processing volumes appear to be affected by seasonality that mirrors the seasonality of our supermarket partners. There can be no assurance, however, that such seasonal trends will continue. Any projections of future seasonality are inherently uncertain due to our lack of comparable companies engaged in the coin processing business. In addition to fluctuations in revenue resulting from factors affecting customer usage, timing of unit installations will result in significant fluctuations in quarterly results. The rate of installations does not follow a regular pattern, as it depends principally on installation schedules determined by agreements between us and our retail distribution partners, variable length of partner trial periods and the planned coordination of multiple partner installations in a given geographic region. Quarterly losses from operations during the periods presented were the result of direct operating expenses associated with the significant increase in our installed base, higher depreciation and amortization expense from the expansion of the installed base and the significantly higher level of systems infrastructure and management personnel to support our accelerated growth. We expect to continue to incur substantial operating losses from our consolidated operations (i) as we continue to increase our installed base of Coinstar units internationally and (ii) as Meals.com continues investing in its operations to achieve market acceptance. Risk Factors You should carefully consider the risks described below before making an investment decision. The risks and uncertainties described below are not the only ones facing our company. Additional risks and uncertainties not presently known to us or that we currently deem immaterial also may impair our business operations. If any of the following risks actually occur, our business could be harmed. In such case, the trading price of our common stock could decline and you may lose all or part of your investment. We have a history of sustained operating losses and we expect such losses to continue. We have incurred substantial losses since inception. Our net loss was $4.0 million for the three months ended March 31, 2001, $22.7 million in fiscal 2000, $21.4 million in fiscal 1999 and $24.0 million in fiscal 1998. As of March 31, 2001, we had an accumulated deficit of $130.5 million. Our operating losses to date have resulted primarily from expenses incurred in the development, marketing and operation of the Coinstar units, expansion and maintenance of the network, administrative and occupancy expenses at our headquarters, depreciation and amortization and losses attributable to our Meals.com subsidiary. We expect to continue to incur operating losses on a consolidated basis as we continue to develop and market new products, services and enhancements, including the development of our Meals.com business and increase our installed base of Coinstar units in the United Kingdom. Our future profitability is uncertain and may be hampered by the continued consolidation of Meals.com's losses. We cannot be certain that we will install a sufficient number of our Coinstar units or maintain existing levels of customer utilization to allow us to achieve profitability, or generate sufficient cash flow to continue to meet our capital and operating expenses and debt service obligations. Our majority-owned subsidiary, Meals.com, is an early-stage infrastructure provider that connects consumers, retailers and packaged goods manufacturers. Meals.com is subject to the risks encountered by early-stage companies, particularly those in the consumer e-commerce industry. Meals.com has incurred substantial losses since its inception in 1998. Our portion of its net loss for the three months ended March 31, 2001 was $3.9 million, and was $13.6 million in fiscal 2000. As of March 31, 2001, our portion of Meals.com's accumulated deficit was $21.0 million. Our profitability, on a consolidated basis, will likely be delayed due to continuing losses of Meals.com. Meals.com's success will be dependent upon various factors, including the ability to: . raise additional funds to meet its working capital needs, . achieve market acceptance of its products and services, . achieve effective and measurable results for its supermarket and packaged goods manufacturer customers, . successfully execute on its customer contracts, and . continue to develop and update its technologies to keep pace with the growth of the Internet and changes in technology. The market that Meals.com is entering is relatively untested and as a result it is difficult to predict future performance. 15 Our future operating results remain uncertain. You should not consider prior growth rates in our revenue to be indicative of our future operating results. The timing and amount of future revenues will depend almost entirely on our ability to obtain new agreements with potential retail partners for the installation of Coinstar units, the successful deployment and operation of our coin processing network and customer utilization of our service. Our future operating results will depend upon many other factors, including: . the level of product and price competition, . the processing fee we charge consumers to use our service may change, . the amount of our processing fee that we share with our retail partners, . our success in expanding our network and managing our growth, . our ability to develop and market product enhancements and new products, such as those being developed by Meals.com, and the timing of such product enhancements, . our ability to enter into and penetrate new international markets, such as the United Kingdom, and other selected foreign markets, . activities of and acquisitions by competitors, . the ability to hire additional employees, . the timing of such hiring and the ability to control costs, and . customer utilization at existing levels. The success of our Meals.com subsidiary is uncertain. We have committed significant resources and capital to develop and market the Meals.com products and services including the Meals.com family of web-sites and the in-store Shopper kiosk. The products and services offered by Meals.com are relatively untested, and we cannot assure you that we will achieve market acceptance for any such products and services. Moreover, these and other new products and services may be subject to significant competition with offerings by potential competitors in addition to companies that compete in our coin processing business. Many of these competitors have significantly greater technological expertise and financial and other resources than we do. In the absence of significant market acceptance of Meals.com's products and services, Meals.com is not likely to generate sufficient revenues to cover its operating expenses and capital expenditures. In November 2000, our Board of Directors appointed a special committee comprised of outside directors to evaluate alternatives concerning a potential deconsolidation of Meals.com's financial results from our financial results. In February 2001, we engaged JPMorgan & Co. to advise us in exploring strategic alternatives for Coinstar and our subsidiaries, Meals.com and Coinstar International. The analysis of strategic alternatives is ongoing for Meals.com, which includes, among other things, assessing financing alternatives. At March 31, 2001, Meals.com had cash totaling $4.5 million and had drawn the entire amount of the credit facility from Coinstar. We do not anticipate increasing the credit facility to Meals.com. In May 2001, Meals.com announced a corporate reorganization aimed at managing cash usage while the company works to achieve profitability. One result of this reorganization was a significant reduction in its workforce. There can be no assurance that JPMorgan & Co. will be successful in its evaluation of strategic alternatives for Meals.com or in obtaining additional funding for Meals.com. As a result, Meals.com may be unable to successfully execute its business plan. We rely on one source of revenue. We have derived until now, and expect for the foreseeable future to derive, substantially all of our revenue from the operation of Coinstar units. Accordingly, continued market acceptance of our coin processing service is critical to our future success. If demand for our coin processing service does not continue to grow due to technological change, competition, market saturation or other factors, our business, financial condition and results of operations and ability to achieve sufficient cash flow to service our indebtedness could be seriously harmed. As a consequence, our future success may be dependent on our ability to develop and commercialize new products and services. To date, we have not derived any significant revenue from our e-services technology and do not anticipate significant revenue from this source in the near future. In addition, new products, services and enhancements may pose a variety of technical challenges and require us to enhance the capabilities of our network and attract additional qualified employees. The failure to develop and market new products, services or enhancements successfully could seriously harm our business, financial condition and results of operations and ability to achieve sufficient cash flow to service our indebtedness. We depend upon key personnel and need to hire additional personnel. Our performance is substantially dependent on the continued services of our executive officers, some of whom have employment contracts, and key employees, whom we employ on an at-will basis. Our long-term success will depend on our ability to recruit, retain and motivate highly skilled personnel. Competition for such personnel is intense. We have at times experienced difficulties in recruiting qualified personnel, and we may experience difficulties in the future. Effective November, 15, 2000, our chief executive officer, Daniel Gerrity, resigned. We have formed a search committee of the Board of Directors to recruit a new chief executive officer to fill the vacancy left by Mr. Gerrity. 16 The inability to attract and retain a new chief executive officer or other necessary technical and managerial personnel could seriously harm our business, financial condition and results of operations and our ability to achieve sufficient cash flow to service our indebtedness. Our stock price has been and may continue to be volatile. Our common stock price has fluctuated substantially since our initial public offering in July 1997. The market price of our common stock could decline from current levels or continue to fluctuate. The market price of our common stock may be significantly affected by the following factors: . operating results below market expectations, . trends and fluctuations in use of Coinstar units, . changes in, or our failure to meet financial estimates by securities analysts, . period-to-period fluctuations in our financial results, . announcements of technological innovations or new products or services by us or our competitors, . the termination of one or more retail distribution contracts, . timing of installations relative to financial reporting periods, . release of analyst reports, . industry developments, . market acceptance of the Coinstar service by retail partners and consumers, . market acceptance of Meals.com and our e-services technology, . the outcome of our investigation of strategic alternatives for Meals.com, including the potential deconsolidation of Meals.com, and . economic and other external factors. In addition, the securities markets have from time to time experienced significant price and volume fluctuations that are unrelated to the operating performance of particular companies. These market fluctuations may seriously harm the market price of our common stock. Our business is dependent on maintaining our retail partner relationships. The success of our business depends on the willingness of potential retail partners, primarily supermarkets, to agree to installation of Coinstar units in their stores and to the continued retention of those units. We must continue to demonstrate that our Coinstar units provide a benefit to our retail partners to ensure that such partners do not request deinstallation of units or develop or purchase their own coin-counting system. Our customer base is highly consolidated. We generally have separate agreements with each of our retail partners providing for our exclusive right to provide coin processing services in retail locations. Coinstar units in service in three supermarket chains, The Kroger Co., Albertson's, Inc. and Safeway accounted for approximately 28%, 11% and 11%, respectively, of our revenue in 2000. For the quarter ended March 31, 2001, these three chains accounted for approximately 26%, 13% and 11%, respectively, of our revenue. The termination of our contracts with any one or more of our retail partners could seriously harm our business, financial condition, results of operations and ability to achieve sufficient cash flow to service our indebtedness. Our quarterly operating results may fluctuate due to different usage rates of individual Coinstar units, seasonality of use and other factors. Customer utilization of our coin processing service varies substantially from unit to unit, making our revenue difficult to forecast. Customer utilization is affected by the timing and success of promotions by us and our retail partners, age of the installed unit, adverse weather conditions and other factors, many of which are not in our control. We believe that coin processing volumes are affected by seasonality. This trend mirrors the seasonality patterns of our supermarket partners. We cannot be certain, however, that such seasonal trends will continue. Any projections of future trends are inherently uncertain due to a variety of factors, including success in the timely deployment of a substantial number of additional Coinstar units, consumer 17 awareness and demand for our coin processing services, and the lack of comparable companies engaged in the coin processing business. The timing and number of installations of new Coinstar units during the quarter affect future quarterly operating results. The timing of Coinstar unit installations during a particular quarter is largely dependent on installation schedules determined by agreements with our retail partners, the variable length of trial periods of our retail partners and the planned coordination of multiple installations in a given geographic region. As a result of these and other factors, revenue for any quarter is subject to significant variation, and we believe that period-to-period comparisons of our results of operations are not necessarily meaningful and should not be relied upon as indications of future performance. Because our operating expenses are based on anticipated revenue trends and because a large percentage of our expenses are relatively fixed, revenue variability could cause significant and disproportionate variations in operating results from quarter to quarter and could result in significant losses. To the extent such expenses are not followed by increased revenue, our operating results would be seriously harmed. Control of our shares is concentrated with a relatively small number of stockholders. A significant portion of our shares is controlled by a relatively small number of stockholders. Two such stockholders each recently filed separately with the Securities and Exchange Commission a Schedule 13D. One stockholder's filing stated that the stockholder had been communicating with our Board of Directors, officers and other stockholders regarding ways to enhance stockholder value, but that such stockholder had no present plans or intentions to acquire or dispose of any of our securities other than for the purpose of investment. Another stockholder's filing stated that the stockholder had requested our Board of Directors to review our ownership of Meals.com and consider divesting Meals.com or reducing our financial position in the Meals.com business. In addition, the filing stated that such stockholder may use his influence to support divesting or reducing our financial position in the Meals.com business, but that such stockholder had no present plans or intentions of acquiring additional shares but reserved the right to make additional purchases on the open market and in private transactions. There can be no assurance that such stockholders' intentions will not change in the future, that other stockholders will not make similar filings, or that such stockholders would support our directors at our 2001 annual shareholder meeting. We have substantial indebtedness. As of March 31, 2001, we had outstanding indebtedness of $62.7 million, which included $61.0 million of our 13.0% senior subordinated discount notes due 2006 and our capital lease obligations. We paid our first semi-annual cash interest payment on the senior notes on March 31, 2000. We will have debt service obligations of approximately $7.9 million per year until October 2006, when the principal amount of $61.0 million will be due. Our ability to continue to meet our debt service requirements will depend upon continuing to achieve significant and sustained growth in our expected operating cash flow, which will be affected by our success in implementing our business strategy, prevailing economic conditions and financial, business and other factors, some of which are beyond our control. Accordingly, we cannot be certain as to whether we will continue to have sufficient resources to meet our debt service obligations. If we are unable to generate sufficient cash flow to service our indebtedness, we will have to reduce or delay planned capital expenditures, sell assets, restructure or refinance our indebtedness or seek additional equity capital. We cannot assure you that any of these strategies can be effected on satisfactory terms, if at all, particularly in light of our high levels of indebtedness. In addition, the extent to which we continue to have substantial indebtedness could have significant consequences which may materially limit or impair our ability to obtain additional financing in the future for working capital, capital expenditures, product research and development, acquisitions and other general corporate purposes. A substantial portion of our cash flow from operations may need to be dedicated to the payment of principal and interest on our indebtedness and therefore not available to finance our business, and our high degree of indebtedness may make us more vulnerable to economic downturns, limit our ability to withstand competitive pressures or reduce our flexibility in responding to changing business and economic conditions. There are many risks associated with doing business in international markets. We intend to increase our deployment of Coinstar units in select international markets. We have only recently begun to expand our business internationally in the United Kingdom and, accordingly, have limited experience in operating in international markets. We anticipate that our international operations will become increasingly significant to our business. International transactions pose a number of risks, including failure of customer acceptance, risks of regulatory delays or disapprovals with respect to our products and services, and competition from potential and current coin-counting businesses. Exposure to exchange rate risks, restrictions on the repatriation of funds, political instability, adverse changes in tax, tariff and trade regulations, difficulties with foreign distributors, difficulties in managing an organization spread over several countries, and weaker legal protection for intellectual property rights. These risks could seriously harm our business, financial condition, and results of operations and ability to achieve sufficient cash flow to service our indebtedness. 18 Our market is competitive. We compete regionally with several direct competitors that operate self-service coin processing machines. We cannot be certain that these competitors have not or will not substantially increase their installed units and expand their service nationwide. We compete indirectly with manufacturers of machines and devices that enable consumers to count or sort coins themselves, and we also compete or may compete directly or indirectly with banks and similar depository institutions for coin conversion customers. We also compete with supermarket retailers that purchase and service their own coin-counting equipment. We believe banks are the primary alternative available to consumers for converting coins into cash, and they generally do not charge a fee for accepting rolled coins. As the market for coin processing develops, banks and other businesses may decide to offer additional coin processing services, either as a customer service or on a self-service basis, and compete directly with us. In addition, we may face new competition as we seek to expand into international markets and develop new products, services and enhancements. Our ability to expand internationally may subject us to competition with banks that offer services competitive with ours and with manufacturers and other companies that have established or are seeking to establish coin-counting networks competitive with ours. Many of the competitors have greater experience than we do in operating in these international markets. Moreover, new products that we intend to develop, such as those involving the Internet, may subject us to competition from companies with significantly greater technological resources and experience. Many of our potential competitors with respect to the development of new products, services and enhancements have longer operating histories, greater name recognition, larger customer bases and significantly greater financial, technical, marketing and public relations resources than we have. These competitors may be able to undertake more extensive marketing campaigns, adopt more aggressive pricing policies and make more attractive offers to consumers and businesses. Our competitors might succeed in developing technologies, products or services that are more effective, less costly or more widely used than those that have been or are being developed by us or that would render our technologies or products obsolete or noncompetitive. We cannot be certain that we will be able to compete effectively with current or future competitors. Competitive pressures could seriously harm our business, financial condition and results of operations and our ability to achieve sufficient cash flow to service our indebtedness. We depend upon third-party manufacturers and service providers, and sole-source manufacturers. We do not conduct manufacturing operations and depend, and will continue to depend, on outside parties for the manufacture of the Coinstar unit and its key components. We intend to continue to expand our installed base, and such expansion may be limited by the manufacturing capacity of our third-party manufacturers and suppliers. Although we expect that our current contract manufacturer, SeaMed (a division of Plexus Corporation), will be able to produce sufficient units to meet projected demand, SeaMed or other manufacturers in reality may not be able to meet our manufacturing needs in a satisfactory and timely manner. If there is an unanticipated increase in demand for Coinstar unit installations, we may be unable to meet such demand due to manufacturing constraints. Although we have a contract with SeaMed, SeaMed does not have an obligation to continue manufacturing the Coinstar unit or its components. In July 1999, SeaMed merged with Plexus Corp. of Neenah, Wisconsin. SeaMed's management has assured us that the combined entity will continue to meet our manufacturing needs. However, we cannot be certain that Plexus will continue to operate in Redmond, Washington or continue to meet our manufacturing needs. In addition, we obtain some key hardware components used in the Coinstar units from sole-source suppliers. We cannot be certain that we will be able to continue to obtain an adequate supply of these components in a timely manner or, if necessary, from alternative sources. If we are unable to obtain sufficient quantities of components or to locate alternative sources of supply on a timely basis, we may experience delays in installing or maintaining Coinstar units, either of which could seriously harm our business, financial condition and results of operations and ability to achieve sufficient cash flow to service our indebtedness. We rely on third-party service providers for substantial support and service efforts that we currently do not provide directly. In particular, we contract with armored carriers and other third-party providers to arrange for pick-up, processing and deposit of coins. We generally contract with one transportation provider and coin processor to service a particular region. Many of these service providers do not have long-standing relationships with us and either party generally can terminate the contracts with advance notice ranging from 30 to 90 days. We do not currently have nor do we expect to have in the foreseeable future the internal capability to provide back up coin processing service in the event of sudden disruption in service from a commercial coin processor. Any failure by us to maintain our existing coin processing relationships or to establish new relationships on a timely basis or on acceptable terms would harm our business, financial condition and results of operations and our ability to achieve sufficient cash flow to service our indebtedness. Moreover, as with any business that handles large volumes of cash, we are susceptible to theft, counterfeit and other forms of fraud, including security breaches of our computing system that performs important accounting functions. We cannot be certain that we will be successful in developing product enhancements and new services to thwart such activities. 19 We may be unable to adequately protect or enforce our patents and proprietary rights. Our future success depends, in part, on our ability to protect our intellectual property and maintain the proprietary nature of our technology through a combination of patents, licenses and other intellectual property arrangements, without infringing the proprietary rights of third parties. We have 18 U.S. patents and 5 international patents relevant to aspects of self-service coin processing. We also have additional patents pending in the United States and several foreign jurisdictions. We cannot assure you that any of our patents will be held valid if challenged, that any pending patent applications will issue, or that other parties will not claim rights in or ownership of our patents and other proprietary rights. Moreover, patents issued to us may be circumvented or fail to provide adequate protection. Our competitors might independently develop or patent technologies that are substantially equivalent or superior to our technologies. Since patent applications in the United States are not publicly disclosed until the patent is issued, others may have filed applications, which, if issued as patents, could cover our products. We cannot be certain that others will not assert patent infringement claims or claims of misappropriation against us based on current or pending United States and/or foreign patents, copyrights or trade secrets or that such claims will not be successful. In addition, defending our company and our retail partners against these types of claims, regardless of their merits, could require us to incur substantial costs and divert the attention of key personnel. Parties making these types of claims may be able to obtain injunctive or other equitable relief which could effectively block our ability to provide our coin processing service and use our processing equipment in the United States and abroad, and could result in an award of substantial damages. In the event of a successful claim of infringement, we may need or be required to obtain one or more licenses from, as well as grant one or more licenses to, others. We cannot assure you that we could obtain necessary licenses from others at a reasonable cost or at all. We are engaged in discussions with a former supplier, ScanCoin, in an effort to clarify certain contract rights and obligations as well as ownership of certain of our intellectual property. We also rely on trade secrets to develop and maintain our competitive position. Although we protect our proprietary technology in part by confidentiality agreements with our employees, consultants and corporate partners, we cannot assure you that these agreements will not be breached, that we will have adequate remedies for any breach or that our trade secrets will not otherwise become known or be discovered independently by our competitors. The failure to protect our intellectual property rights effectively or to avoid infringing the intellectual property rights of others could seriously harm our business, financial condition and results of operations and ability to achieve sufficient cash flow to service our indebtedness. Defects in or failures of our operating system could harm our business. We collect financial and operating data, and monitor performance of Coinstar units, through a wide-area communications network connecting each of the Coinstar units with a central computing system at our headquarters. This information is used to track the flow of coins, verify coin counts and schedule the dispatch unit service and coin pick-up. The operation of Coinstar units depends on sophisticated software, computing systems and communication services that may contain undetected errors or may be subject to failures. These errors may arise particularly when new services or service enhancements are added or when the volume of services provided increases. Although each Coinstar unit is designed to store all data collected, thereby helping to ensure that critical data is not lost due to an operating systems failure, our inability to collect the data from our Coinstar units could lead to a delay in processing coins and crediting the accounts of our retail partners for vouchers already redeemed. The design of the operating systems to prevent loss of data may not operate as intended. Any loss or delay in collecting coin processing data would seriously harm our operations. We have in the past experienced limited delays and disruptions resulting from upgrading or improving our operating systems. Although such disruptions have not had a material effect on our operations, future upgrades or improvements could result in delays or disruptions that would seriously harm our operations. We rely on the long distance telecommunication network that is not owned by us and is subject to service disruptions. Further, while we have taken significant steps to protect the security of our network, any breach of security whether intentional or from a computer virus could seriously harm us. Any service disruptions, either due to errors or delays in our software or computing systems or interruptions or breaches in the communications network, or security breaches of the system, could seriously harm our business, financial condition and results of operations and ability to achieve sufficient cash flow to service our indebtedness. We must keep pace with rapid technological changes to remain competitive. The self-service coin processing market is relatively new and evolving. We anticipate that, as the market matures, it will be subject to technological change, new services and product enhancements, particularly as we expand our service offerings. Accordingly, our success may depend in part upon our ability to keep pace with continuing changes in technology and consumer preferences while remaining price competitive. Our failure to develop technological improvements or to adapt our products and services to technological change on a timely basis could, over time, seriously harm our business, financial condition and results of operations and our ability to achieve sufficient cash flow to service our indebtedness. 20 Some anti-takeover provisions may affect the price of our common stock and make it harder for a third party to acquire us without the consent of our board of directors. We have implemented anti-takeover provisions that may discourage takeover attempts and depress the market price of our stock. Provisions of our certificate of incorporation, bylaws and rights plan could make it more difficult for a third party to acquire us, even if doing so would be beneficial to our stockholders. Delaware law also imposes some restrictions on mergers and other business combinations between us and any acquirer of 15% or more of our outstanding common stock, and Washington law may impose additional restrictions on mergers and other business combinations between us and any acquirer of 10% or more of our outstanding common stock. These provisions may make it harder for a third party to acquire us without the consent of our board of directors, even if the offer from a third party may be considered beneficial by some stockholders. Item 3. Quantitative and Qualitative Disclosures About Market Risk. We are subject to the risk of fluctuating interest rates in the normal course of business, primarily as a result of our senior revolving debt and investment activities that generally bear interest at variable rates. Because the investments have maturities of three months or less, and our revolving debt is renewable annually, we believe that the risk of material loss is low, and that the carrying amount approximates fair value. The table below presents principal amounts, at book value, by year of maturity, and related weighted average interest rates. The fair value of long-term debt (including current maturities), is calculated using quoted market prices of the same or similar issues with the same remaining term to maturity.
Three Months Expected Maturity Date Liabilities Ended March 31, Year Ended December 31, March 31, 2001 --------------- ----------------------- -------------- 2001 2001 2002 2003 2004 2005 Thereafter Total Fair Value ---- ---- ---- ---- ---- ---- ---------- ----- ---------- In Thousands Fixed long-term debt........ -- -- -- -- -- -- $ 60,980 $ 60,980 $ 62,809 Average interest rate....... -- -- -- -- -- -- 13.0% 13.0% Senior revolving debt....... $ 500 $ 500 $ 500 $ 500 $ 500 $ 500 $ 500 $ 500 $ 500 Average interest rate(*).... 8.5% 8.5% 8.5% 8.5% 8.5% 8.5% 8.5% 8.5%
* Interest rate represents Imperial Bank's prime rate plus 50 basis points (8.5% at March 31, 2001). 21 PART II. OTHER INFORMATION Item 6. Exhibits and Reports on Form 8-K (a) Exhibits: Exhibit Number Description of Document ------ ----------------------- 10.1 Amendment No. 1 to Registrant's 1997 Equity Incentive Plan dated March 15, 2001. 10.2 Amendment No. 1 to Registrant's 2000 Equity Incentive Plan dated March 15, 2001. 10.3 Employment Agreement between Jens H. Molbak and the Registrant dated March 19, 2001. (b) Reports on Form 8-K: None 22 SIGNATURE Pursuant to the requirements 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. COINSTAR, INC. (registrant) By: /s/ Diane L. Renihan ---------------------------------- Diane L. Renihan Chief Financial Officer May 14, 2001 23 Exhibit Index Exhibit Number Description of Document ------- ----------------------- 10.1 Amendment No. 1 to Registrant's 1997 Equity Incentive Plan dated March 15, 2001. 10.2 Amendment No. 1 to Registrant's 2000 Equity Incentive Plan dated March 15, 2001. 10.3 Employment Agreement between Jens H. Molbak and the Registrant dated March 19, 2001. _____________ 24