================================================================================ SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-K/A (AMENDMENT NO. 1) (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, 1996 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 [NO FEE REQUIRED] FOR THE TRANSITION PERIOD FROM TO COMMISSION FILE NUMBER 0-24710 CD RADIO INC. (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) DELAWARE 52-1700207 (STATE OR OTHER JURISDICTION (I.R.S. EMPLOYER OF INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.) SIXTH FLOOR, 1001 22ND STREET, N.W. WASHINGTON, 20037 D.C. (ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (202) 296-6192 SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:
NAME OF EACH EXCHANGE TITLE OF EACH CLASS ON WHICH REGISTERED ------------------- --------------------- None None
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT: COMMON STOCK, PAR VALUE $0.001 PER SHARE (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 the 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. [X] Aggregate market value of the Registrant's Common Stock held by non-affiliate as of March 12, 1997 was approximately $39,867,376. The number of shares of the Registrant's Common Stock outstanding as of March 12, 1997, was 10,300,391. DOCUMENTS INCORPORATED BY REFERENCE None. ================================================================================ P A R T I FORWARD-LOOKING STATEMENTS Certain statements in this Annual Report on Form 10-K constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. For example, the Company's service, CD Radio, is in the planning and development stage and the descriptions set forth herein as to how the Company plans to implement, market and operate the service are forward-looking statements, and are subject to change based on future developments, the Company's experience, and involve known and unknown risks, uncertainties and other factors that may cause the actual results, performance or achievements of the Company, or developments in the Company's industry, to differ materially from the anticipated results, performance or achievements expressed or implied by such forward-looking statements. Such factors include, but are not limited to: risk of not receiving an FCC License in the scheduled auction; potential risk of delay; increased costs of construction and launch of necessary satellites; dependence on satellite construction and launch contractors; risk of launch failure; unproven market acceptance of the Company's services; the continuing losses of the Company; reliance on unproven technology; need for substantial additional financing and other risks and uncertainties described under "Business -- Risk Factors" in Part I of this Annual Report on Form 10-K. Certain of the forward-looking statements contained in this Annual Report are identified with cross references to this section and/or to specific risks identified under "Business -- Risk Factors." ITEM 1. BUSINESS The Company is a pioneer in the emerging satellite-to-car broadcasting industry ("satellite radio"). The Company is engaged in the development of a subscription based satellite radio system for the nationwide broadcast of 30 channels of commercial-free, compact disc quality music programming and up to 20 channels of all-news, all-sports, and all-talk programming. The Company's primary market is expected to be operators of cars and trucks throughout the continental United States. Government statistics indicate that there will be approximately 192 million registered vehicles in the United States in 1999, rising to approximately 200 million vehicles by 2004. The Company plans to broadcast its service, to be called CD Radio, via its own custom designed and built satellite system utilizing technology developed by the Company. CD Radio is designed to offer: (i) A programming selection of finely focused formats. In most markets radio broadcasters target their programming at broad audience segments, and even in the largest metropolitan markets, station formats are limited. (ii) Widespread signal coverage throughout the continental United States. Terrestrial radio signal availability, in contrast, is generally limited to distances of approximately 30 miles before fading and loss occur. (iii) Commercial-free music programming. Almost all radio stations are advertiser supported and contain significant amounts of commercial interruptions to programming. (iv) CD quality stereo audio. Upon commencing CD Radio service, the Company anticipates that it will offer CD Radio to subscribers for a monthly subscription fee of $10 or less, which would entitle the subscriber to receive all channels. CD Radio is designed to be broadcast via satellites over a new radio band, the S-band, which will augment the traditional AM/FM radio bands. In order to receive CD Radio, subscribers will need satellite band radios which are not currently commercially available. The Company anticipates that satellite radios will be manufactured by existing manufacturers of consumer electronics and automakers, and when manufactured in quantity will be somewhat more expensive than today's car radios. See "Forward-Looking Statements." The Company expects that satellite car radios will be similar in size and appearance to today's AM/FM car radios, and will include the AM/FM bands, as well as the satellite band. In addition, the Company expects these radios to include a digital display capable of showing the CD Radio channel number, music format, song 1 title, recording artist and album title. See "Forward-Looking Statements." Each satellite radio will require a satellite dish antenna in order to receive the satellite signal. The Company has developed what it believes is the world's smallest satellite dish, which measures approximately 1/8 inch thick and 2 inches in diameter (approximately the size and shape of a silver dollar) and can fit unobtrusively in a variety of locations on a vehicle. Although the Company does not intend to manufacture or distribute satellite radios or dish antennas, it intends to foster their development by communicating to such manufacturers the specifications needed for the reception of CD Radio. In order to provide CD Radio, the Company will need to build and launch into geosynchronous orbit two fully dedicated satellites designed to operate at special frequencies. The Company has entered into an agreement with Space Systems/Loral, pursuant to which Space Systems/Loral has agreed to construct the two satellites and, at the Company's option, a third spare satellite. The Company has reserved launches with Arianespace for its two satellites during the period extending from November 1, 1999 through April 30, 2000. The Company has applied to the FCC for a license (the "FCC License") to permit it to build, launch and operate its satellites to provide a satellite radio service. The period for filing such applications expired in December 1992 and the Company is one of four remaining applicants. The FCC is scheduled to auction two satellite radio licenses among the four applicants on April 1, 1997. There can be no assurance that the Company will be a winning bidder in the auction. Since its formation in 1990, the Company has concentrated its activities on pursuit of necessary regulatory approvals, strategic planning, technology development and market research. The Company plans to continue these activities and to work cooperatively with consumer electronics manufacturers and automakers in order to foster the development of satellite radios. Once the Company obtains its FCC License, it intends to begin construction of its satellites and currently has targeted the second half of 1999 for launch of its two satellites and commencement of operations. The Company's ability to meet that objective will depend on several factors, including the timely receipt of necessary governmental approvals, the successful financing, construction and launch into orbit of two geosynchronous satellites, the rapid creation of an organization and management of growth. See "Forward-Looking Statements." THE RADIO MARKET The potential market for CD Radio includes the owners of approximately 192 million motor vehicles expected to be registered in the United States in 1999, rising to approximately 200 million vehicles by 2004. Other potential markets include owners of portable, walkman, and home radios. Broadcasting industry sources indicate that American adults listen to an average of three hours of radio per day. In addition, such sources estimate that automobile commuters spend 97% of their drivetime listening to the radio. Music programming dominates the radio airwaves, with FM radio stations exceeding AM stations in listenership. According to broadcasting industry sources, in 1996, approximately 79% of total radio listening was to FM stations. FM stations primarily concentrate on music programming, while AM stations have an increased proportion of their programming devoted to talk and news. CD Radio will be available in automobiles only to persons who install satellite radios in their vehicles or purchase automobiles with factory installed satellite radios. Accordingly, to assess potential initial demand for CD Radio, the Company has examined data concerning consumer purchases of aftermarket and new car autosound equipment and the commitment of consumers to receiving high quality audio entertainment in their vehicles. According to industry sources, U.S. consumers spend approximately $2.3 billion on aftermarket autosound equipment for installation in their vehicles annually, which includes approximately 5 million AM/FM radios. Additionally, automotive industry sources report that over 14 million new cars and light trucks were sold in the United States in 1996, almost all of which contained radios. 2 THE CD RADIO SERVICE The Company intends to offer 30 channels of commercial-free, all-music programming and up to 20 additional channels of other formats that do not require compact disc quality audio, such as all-news, all-sports and all-talk programming. Each music channel will have a specific format, intended to cater to a finely segmented subscriber taste. It is anticipated that upon commencement of CD Radio the monthly subscription fee for the receipt of all CD Radio channels will be $10 or less. CD Radio will offer (i) multichannel "narrowcast" programming formats; (ii) widespread signal coverage; (iii) commercial-free music programming; and (iv) compact disc quality stereo audio. In most markets, radio broadcasters target their programming at broad audience segments. The Company's multichannel narrowcast programming is designed to provide focused formats generally available only in major metropolitan areas, and in many cases, unavailable even in these areas. Regardless of area, terrestrial radio reception is limited to short distances of approximately 30 miles, after which reception fades and is lost. Additionally, terrestrial radio reception is subject to a fluctuating, broad range of quality. The Company's preliminary market research indicates that the principal complaint of commuters interviewed about radio is commercials. When in the car, many listeners attempt to avoid commercial interruptions by switching stations at the outset of a string of commercials. The amount of radio advertising varies with the time of day, station format and market size, but a broadcasting industry source indicates that, on average, every hour of music programming during morning and evening commutes is interrupted by 10 to 12 minutes of commercials. While terrestrial radio stations currently do not broadcast compact disc quality stereo sound, the Company believes that FM radio stations may be in a position to do so before the time the Company's service becomes operational. Consumers would be unable to receive these new broadcasts on existing radios and would require new digital radios to do so. The Company does not believe that such a sound upgrade to digital broadcasting would affect conventional broadcasters' ability to address the other advantages of CD Radio. Programming will be managed by the Company's staff, with guidance from continuous market research. The Company intends to recruit program managers from the recording, broadcasting and entertainment industries to manage the development of daily programming for each channel. Music programming will be produced from the Company's music library and will be sourced from compact discs. It is contemplated that this music library will consist of an extremely broad range of recorded music, and will be updated as new recordings are released. See "Forward-Looking Statements" and "Risk Factors -- Music Royalty Payments." The Company believes that CD Radio represents an opportunity for the recording industry to expose, research, and promote new releases and artists to targeted listener groups nationwide. The Company plans to solicit promotional copies of new recordings, and contemplates showcasing these releases as part of a service to be developed for record companies. The Company's intends to work with the recording industry and performing artists to develop programming of mutual benefit. The Company believes that compact discs and cassettes are used in automobiles as supplements to radio rather than as substitutes, and that these media are used primarily as backup when radio reception is unavailable or unsatisfactory, or when desired programming is unavailable or unsatisfactory. Compact discs and cassettes lack the convenience of radio, as well as the spontaneity and freshness that characterizes radio programming. According to Arbitron, commuters spend 97% of their drivetime listening to radio. Accordingly, the Company does not view its service as directly competitive with these media. 3 The following channel list (which employs terminology common to the music industry) has been prepared by the Company to illustrate the manner in which the Company's narrowcast programming might be marketed. The Company intends to vary channel formats from time-to-time to reflect changing subscriber tastes. 1. Symphonic Music from the masters, Bach, Mozart and Handel. The world's greatest classical composers broadcast in brilliant CD fidelity. 2. Chamber Music Elegant music performed by small ensembles of solo instruments such as the cello, violin and woodwind. 3. Opera Experience the drama and speqctacle of the greats. Verdi, Puccini and Wagner. 4. Today's Country The down home sounds of today's country stars including Vince Gill, Alan Jackson, Wynonna Judd and Garth Brooks. 5. Traditional Country All of your favorite country & western legends are here. Stars like George Strait, Loretta Lynn, Hank Williams, Jr. and George Jones. 6. Contemporary Jazz The syncopated rhythms of today's jazz music. The cool sounds of Kenny G, The Yellowjackets and David Sanborn. 7. Classical Jazz Listen as musicians like Duke Ellington, Miles Davis and John Coltrane experiment and expand the sounds of jazz. 8. Blues The foundation of rock. B.B. King, Muddy Waters and Robert Cray. 9. Big Band/Swing Relive the memories with the sounds of Tommy Dorsey, Glenn Miller and Artie Shaw. 10. Top of the Charts Today's hits from recording artists such as Whitney Houston, Mariah Carey and Boyz II Men. 11. Classic Rock The greatest hits from the 60's and 70's -- an entire generation of great rock music. The Who, Rolling Stones and Eric Clapton. 12. 50's Oldies Tune in and experience the 50's all over again with Chuck Berry, Little Richard and Elvis Presley. 13. 60's Oldies The great pop sounds of Motown, the British Invasion and Surfer Rock. 14. Folk Rock Thoughtful, inspired melodies from performers like Joni Mitchell, James Taylor and Joan Baez. 15. Latin Ballads The romantic sounds of Latino vocalists. Julio Iglesias, Nino Bravo and Roberto Carlos. 16. Latin Rhythms Move to the music of Latino superstars such as Sergio Mendes, Juan Luis Guerra and the legendary Tito Puente. 17. Reggae Pulsating rhythm from the musically prolific island of Jamaica, from the Skatelites through Bob Marley and Shabba Ranks. 18. Hip-Hop & Rap The forefront of contemporary music. RUN-DMC, Cypress Hill and Dr. Dre. 19. Dance Music by today's hottest artists, including Madonna, Janet Jackson and George Michael. 20. Songs of Love Romantic ballads and music from some of the world's most popular artists. 21. Singers & Strings Legends like Frank Sinatra, Barbra Streisand and Nat King Cole. 22. Beautiful Instruments Memorable melodies of contemporary music orchestrated with a full, lush and easy sound. 23. Heavy Metal Driving, hard charging rock-and-roll by bands such as Guns N' Roses, Metallica and Danzig. 24. Album Rock The best songs from today's top rock artists. Pearl Jam, U2 and John Mellencamp. 25. Alternative Rock Modern rock from such diverse bands as the Red Hot Chili Peppers, Midnight Oil and Smashing Pumpkins. 26. New Age Soft and soothing acoustics. Enjoy the relaxing music of Yanni, Kitaro and Brian Eno. 27. Broadway's Best Hits from the Great White Way. Rodgers and Hammerstein, Marvin Hamlisch and Andrew Lloyd Webber. 28. Gospel Soulful gospel sounds of joy. Mahalia Jackson, Al Green and the Winans. 29. Children's Entertainment Songs and storytelling at their most magical. Disney classics and Sesame Street. 30. World Beat The Beat goes on . . all over the world. Follow the sun with the music of Lucky Dube, Mahotella Queens and Outback. 4 MARKETING STRATEGY The Company plans to engage in extensive marketing, advertising and promotional activities to increase consumer awareness of satellite radio and CD Radio programming, to promote the sale of satellite radios and to generate subscriptions to CD Radio. The Company's market research program will assist the Company in refining the design of its service, programming formats and content, and advertising and promotional programs. Initial market research efforts will focus on further defining the attitudes of different categories of consumers toward the various attributes of CD Radio. The Company plans to work closely with radio manufacturers, radio retailers, and automakers to market CD Radio. Upon satellite launch, the Company intends to commence a nationwide media campaign to advertise and promote CD Radio and to implement a cooperative media campaign with satellite radio manufacturers. Some of the Company's promotional plans include: (i) extensive use of radio commercial advertising; (ii) print advertisements; (iii) outdoor billboards; (iv) cooperative radio and print advertising; (v) CD Radio service in rental cars equipped with satellite radios; (vi) tie-ins with the recording industry targeting compact disc purchasers of niche music categories; (vii) demonstration kiosks in retail locations; and (viii) training programs and sales literature developed for retail personnel. See "Forward-Looking Statements" and "Risk Factors -- Unavailability of Satellite Radios." As was the case with cellular telephone service in its early years, the Company believes that satellite radio service will be symbolized by its antenna. The Company believes that the proliferation of satellite radio dishes on cars will create a significant amount of consumer awareness of satellite radio. THE CD RADIO DELIVERY SYSTEM The Company has designed the CD Radio delivery system to transmit an identical signal from two satellites to address the problem of signal blockage caused by variations in terrain, buildings and other obstructions. The system is designed to permit CD Radio to be received by motorists in nearly all outdoor locations where the vehicle is on an unobstructed line-of-sight with one or both of the Company's satellites. In certain areas with high concentrations of tall buildings such as Manhattan, or in tunnels, signals from both satellites will be blocked and reception will be adversely affected. In such cases, the Company may implement terrestrial repeating transmitters. See "Risk Factors -- Reliance on Unproven Technology." The CD Radio delivery system will consist of three principal components: (i) satellite radios; (ii) the satellites; and (iii) the national broadcast studio. SATELLITE RADIOS In order to receive CD Radio, subscribers will need to obtain a new generation of radios capable of receiving the satellite band. The Company anticipates that these radios will initially be manufactured by existing radio manufacturers and sold by consumer electronics outlets for automotive aftermarket installation and later will be manufactured and installed in new cars and trucks by automakers. See "Forward-Looking Statements." Although the Company will not manufacture or distribute satellite band radios or their dish antennas, it intends to communicate the required specifications to such manufacturers and automakers. The availability and pricing of satellite radios will be an important factor in determining the success of CD Radio. See "Risk Factors -- Unavailability of Satellite Radios." The Company anticipates that radios capable of receiving CD Radio will be similar to conventional AM/FM radios in size and appearance, but will have the added capability of receiving digital satellite transmissions as well as AM and FM signals. In order to accommodate subscription satellite radio services, each radio will contain a security circuit with an electronically encoded identification number. Upon verification of subscriber billing information, the Company will transmit a digital signal to activate the radio's 5 satellite band operation. This feature will enable the Company to protect against piracy of CD Radio and to discontinue the service to subscribers who are delinquent in paying the monthly subscription fee. The Company expects that these radios will include a digital display, which when tuned to the satellite band, will indicate the channel and format the listener has selected, as well as the title, recording artist and album title of the song being played. As is the case currently, a number of these radios may also incorporate cassette or compact disc players. See "Forward-Looking Statements." Because less than 10% of the U.S. vehicle fleet turns over annually, the Company expects aftermarket availability of satellite radios to be of prime importance to the Company's market penetration for the first several years following introduction of CD Radio. Representatives of the Company have held discussions with a number of major radio manufacturers that have expressed an interest in participating with the Company in planning and evaluating the Company's further market research. The Company will endeavor to synchronize the development of satellite radios with the Company's business planning so that satellite radios will be available at the time the Company commences operations. Failure of manufacturers to develop and market satellite radios at affordable prices, or to develop and market such radios in advance of the date the Company proposes to commence CD Radio service, would have a materially adverse effect on the Company's business. The Company intends to license radio manufacturers to use CD Radio design technology in their radios. The Company also plans to work with automakers to support the development of factory installed satellite radios in new cars. Representatives of the Company have held discussions with a number of major automakers that have expressed an interest in participating with the Company in planning and evaluating the Company's further market research. Each satellite radio will require a satellite dish antenna in order to receive the satellite signal. The Company has developed what it believes is the world's smallest satellite dish. The dish is approximately the size and shape of a silver dollar, measuring 2" in diameter and 1/8" thick. The Company's dish design is "non-directional" -- it does not need to be pointed directly at a satellite in order to receive a satellite signal. All that is required is that the dish be positioned upward on an unobstructed line-of-sight with the Company's satellites. In the case of factory installed satellite radios in new cars, the Company believes the dish can be integrated into the roof panel. For aftermarket installations, the dish can be attached to a vehicle's rear window in the same manner as a cellular antenna. In the event that a subscriber already has a cellular antenna on the rear window of a car, the cellular antenna could be unscrewed and the dish screwed on in its place. The dish then would serve as both a cellular and satellite radio antenna so that only the dish on the car is needed. THE SATELLITES The satellites to be used in the CD Radio system are scheduled to be built by Space Systems/Loral, one of the largest satellite manufacturers in the world. Although the satellites will be equipped with custom designed communications equipment, the Company believes that the construction and development of its satellites does not require the development of new technology. Satellite control will be performed from the Company's national broadcast studio. Uplink frequencies are currently planned to be located in X-band. Downlink frequencies are planned to be in S-band. Each satellite will broadcast a signal covering the entire continental United States from a single antenna in a single beam. The expected life of each satellite is approximately 15 years. Satellite Construction. The Company has entered into an agreement (the "Construction Contract") with Space Systems/Loral pursuant to which Space Systems/Loral has agreed to construct two satellites and, at the Company's option, a third satellite in accordance with stipulated specifications. Amendments to the Construction Contract are necessary to reflect technical changes and other developments since the contract was originally entered into in 1993. The Company has extended the Construction Contract on a monthly basis through April 30, 1997 while it negotiates with Space Systems/Loral to amend the contract's technical specifications, pricing and delivery terms. The Company may negotiate with Space Systems/Loral to extend 6 the Construction Contract further or it may permit the contract to expire. The Company believes it will be able to negotiate a favorable contract with Space Systems/Loral for the construction of the satellites, although there can be no assurance that the Company will be able to do so. Under the Construction Contract, Space Systems/Loral will not be liable for indirect or consequential damages or lost revenues or profits resulting from late delivery or other defaults. Title and risk of loss for each satellite is to pass to the Company at the time of launch. The Company has agreed to indemnify Space Systems/Loral for all costs and losses resulting from claims based upon Space System/Loral's alleged responsibility or liability for loss of, or damage to, the satellites occurring after launch, regardless of the cause. In the event of any delay in the construction of the satellites that is caused by the Company, the Construction Contract provides that the terms of the contract will be equitably adjusted. Upon delivery of the satellites to the launch site, Space Systems/Loral is required to perform inspection and verification testing to insure that no damage occurred in shipment. After such inspection and testing, the Company will provide final acceptance of the satellites. Following their launch, Space Systems/Loral will conduct in-orbit checks of both satellites. In the event that such testing shows that a satellite is operating less than satisfactorily, Space Systems/Loral and the Company will negotiate a reasonable reduction in the amount paid by the Company. See "Forward-Looking Statements." Launch Services. The Company has reserved two launch slots with Arianespace during the period extending from November 1, 1999 through April 30, 2000. If the Company's satellites are not available for launch during this period, the Company will arrange to launch the satellites on the first launch dates available after the satellites are completed. See "Forward-Looking Statements." While the Company has been able to reschedule launch dates with Arianespace in the past, there can be no assurance that it will be able to do so in the future. In order to maintain its launch slots, the Company will need to enter into a definitive agreement with Arianespace by May 31, 1997, providing for the launch of its satellites. The final terms and conditions of any launch agreement are subject to negotiations between the Company and Arianespace. Satellite launches are subject to significant risks, including satellite destruction or damage during launch or failure to achieve proper orbital placement. According to industry sources, approximately 15% of insured commercial satellite launches by all launch contractors since 1965 have resulted in total loss. Launch failure rates vary from period to period and from contractor to contractor. Arianespace is one of the world's leading commercial satellite launch service companies. Arianespace has advised the Company that as of March 18, 1997 it has successfully completed 81 of 86 launches (approximately 94%), since beginning commercial operations in 1984. See "Risk Factors -- Dependence upon Satellites and Contractors; Risk of Launch Failure." Risk Management and Insurance. Two custom-designed, fully dedicated satellites are required to broadcast CD Radio. A single satellite is incapable of delivering the service. The Company has selected a launch service supplier that has achieved the most reliable launch record in its class in the industry. Each of the company's two operational satellites will be launched separately. The Company intends to obtain launch insurance for each launch vehicle from its launch vehicle provider. The Construction Contract provides for the construction of a spare satellite, to be used in the event of loss of one of its two operational satellites. If the Company is required to launch the spare satellite due to failure of the launch of one of the operational satellites, its operational timetable would be delayed for approximately six months or more. The launch or in-orbit failure of two satellites would require the Company to arrange for additional satellites to be built and could delay the commencement or continuation of the Company's operations for three years or more. See "Risk Factors -- Dependence upon Satellites and Contractors; Risk of Launch Failure." Once properly deployed and operational, the historical risk of premature total satellite failure has been less than one percent for U.S. geosynchronous commercial satellites. Insurance against in-orbit failure is presently available and is typically purchased after the satellite is checked out in orbit and prior to the expiration of launch insurance. In recent years, annual premiums have ranged from 1.3% to 2.5% of coverage. Satellites are designed to minimize the adverse effects of transmission component failure through the incorporation of redundant components which activate automatically or by ground command upon failure. If 7 multiple component failures occur as the satellite ages, and the supply of redundant components is exhausted, the satellite generally will continue to operate at reduced capacity. In that event, signal quality may be preserved by reducing the number of channels broadcast until a replacement satellite could be launched. NATIONAL BROADCAST STUDIO The Company intends to establish its national broadcast studio to provide origination and transmission of programming; transmission of commands to activate/deactivate service of subscriber radios; and tracking, telemetry, and control of the in-orbit satellites. The facility will incorporate redundant electronics and backup power generators. TESTS AND DEMONSTRATIONS The Company conducted a series of tests and demonstrations from May through December 1994, involving the transmission of S-band signals to a prototype satellite radio installed in a car to simulate certain transmission techniques the Company intends to employ. Since there are currently no commercial satellites in orbit capable of transmitting S-band frequencies to the United States, the Company constructed a terrestrial emulation of its planned system. For this purpose, the Company selected a test range covering several kilometers in suburban Washington, D.C. which included areas shadowed by buildings, trees and overpasses. The Company placed S-band transmitters on the rooftops of a number of tall buildings in such a way as to simulate the signal power and angle of satellite transmissions to be used for its proposed service. The Company also modified the standard factory installed sound system of a Lincoln Mark VIII automobile to create a three-band radio covering AM, FM and S-band, and integrated the Company's satellite dish into the car roof. The demonstrations included the reception of 30 channels of CD quality stereo music by the prototype radio while the car was driven throughout the range. The Company believes that the results of these tests validated the technically significant portions of the CD Radio system. Prior to testing with orbiting satellites and satellite radios suitable for commercial production, however, there can be no assurance that the CD Radio system will function as intended. See "Risk Factors -- Reliance on Unproven Technology." COMPETITION The Company's satellite radio service will face competition from two principal sources: (i) terrestrial AM/FM radio broadcasting, including, when available, terrestrial digital radio broadcasting; and (ii) another satellite radio broadcaster. The AM/FM radio broadcasting industry is very competitive, and certain of the Company's competitors in this industry have substantially greater financial, management and technical resources than the Company. Unlike the Company, the radio industry has a well established market for its services and generally offers "free" reception paid for by commercial advertising rather than a subscription fee. In addition, certain AM and FM stations, such as National Public Radio, offer programming without commercial interruption. Many radio stations also offer information programming of a local nature, such as local news or traffic, which the Company will be unable to offer. CD Radio will compete with conventional radio stations on the basis of the variety and focus of its programming, its commercial-free formats, signal coverage throughout the continental United States, and digital CD stereo sound quality. Currently, radio stations broadcast by means of analog signals, as opposed to digital transmission. The Company believes, however, that prior to the commencement of CD Radio, broadcasters may be in a position to implement technology that permits simultaneous transmission of both analog and digital signals on the AM and FM bands that will permit digital AM broadcasts to achieve monaural FM sound quality, and digital FM broadcasts to approach compact disc stereo sound quality. See "Forward-Looking Statements." In order to receive these digital AM/FM broadcasts, listeners would need to purchase new digital radios which are not currently commercially available. As a result, while the development of digital broadcasting would eliminate one of the advantages of CD Radio over FM radio, the Company does not believe it would affect broadcasters' ability to address the other advantages of CD Radio. In addition, the Company views the growth of terrestrial 8 digital broadcasting as a positive force that would be likely to accelerate radio replacement and thereby facilitate the proliferation of satellite radios. Existing communications satellite operators are not capable of delivering satellite radio for reception on tiny, non-directional automobile dishes. Specially designed satellites operating at different frequencies are needed. The Company expects to compete directly with one other satellite radio broadcaster. Four applicants, including the Company, have applied for two FCC licenses to operate a national satellite radio service. See "Business -- Government Regulation." At least one of the applicants, a subsidiary of American Mobile Satellite Corporation, which is principally owned by the Hughes division of General Motors, has financial, management and technical resources that greatly exceed those of the Company. In their license applications to the FCC, two of the other applicants have stated an intention to offer a satellite radio service based, at least in part, on subscription fees and the remaining applicant intends to offer an advertiser supported "free" service. The Company believes that at present its technical and business planning is further advanced than the other applicants. There can be no assurance, however, that this will permit the Company to initiate a satellite radio service in advance of its competition. See "Risk Factors -- Competition." The original satellite radio spectrum allocation internationally agreed upon by the United States and other nations would have accommodated four satellite radio licenses in the United States. The FCC subsequently allocated only half of this spectrum specifically for satellite radio, thereby accommodating only two licenses. The other half of the allocation is scheduled to be auctioned on April 15, 1997 and may be used to provide a broad range of services, including but not limited to satellite radio. The Company believes this spectrum is unlikely to be used for satellite radio, although no assurance can be made that this will be the case. TECHNOLOGY, PATENTS AND TRADEMARKS The Company has been granted certain U.S. patents on various types of satellite radio technology. There can be no assurance, however, that any U.S. patent issued to the Company will not be circumvented or infringed by others, or that if challenged would be held to be valid. The Company has filed patent applications covering CD Radio system technology in Argentina, Australia, Brazil, Canada, China, France, Germany, India, Italy, Japan, South Korea, Mexico, the Netherlands, Spain, Switzerland and the United Kingdom. There can be no assurance that foreign patents will be awarded by all of such countries to the Company or, if any such patents are granted, that the laws of foreign countries will protect the Company's proprietary rights to its technology to the same extent as the laws of the United States. Although the Company believes that obtaining patent protection may provide benefits to the Company, the Company does not believe that its business is dependent on obtaining patent protection or successfully defending any such patents that may be obtained against infringement by others. Certain of the Company's know-how and technology are not the subject of U.S. patents. To protect its rights, the Company requires certain employees, consultants, advisors and collaborators to enter into confidentiality agreements. There can be no assurance, however, that these agreements will provide meaningful protection for the Company's trade secrets, know-how or other proprietary information in the event of any unauthorized use or disclosure. In addition, the Company's business may be adversely affected by competitors who independently develop competing technologies. The Company's proprietary technology was developed by Robert D. Briskman, the Company's Chief Technical Officer, and assigned to the Company. The Company believes that Mr. Briskman independently developed the technology covered by the Company's issued patents and that it does not violate the proprietary rights of any person. There can be no assurance, however, that third parties will not bring suit against the Company for patent infringement or for declaratory judgment to have any patents which may be issued to the Company declared invalid. If a dispute arises concerning the Company's technology, litigation might be necessary to enforce the Company's patents, to protect the Company's trade secrets or know-how or to determine the scope of the proprietary rights of others. Any such litigation could result in substantial cost to, and diversion of effort by, 9 the Company, and adverse findings in any proceeding could subject the Company to significant liabilities to third parties, require the Company to seek licenses from third parties or otherwise adversely affect the Company's ability to successfully develop and market CD Radio. In May 1994, the Company received a letter claiming that the Company's logo is confusingly similar to the registered trademark of a company engaged in the sale of pre-recorded music, and that the Company's continued use of its logo may constitute infringement of such mark. See "Business -- Legal Proceedings." GOVERNMENT REGULATION Communications Laws As a proposed operator of a privately owned satellite system, the Company is subject to the regulatory authority of the FCC under the Communications Act of 1934 (the "Communications Act"). The FCC is the government agency with primary authority in the United States over satellite radio communications. The Company is currently subject to regulation by the FCC principally with respect to (i) the licensing of its satellite system; (ii) preventing interference with other users of radio frequencies; and (iii) compliance with rules that the FCC has established specifically for United States satellites and rules that the FCC has established for providing satellite radio service. On May 18, 1990, the Company proposed that the FCC establish a satellite radio service and applied for the FCC License. This application was opposed by the National Association of Broadcasters, an industry trade group that seeks to promote the interests of the television and AM/FM broadcast industries. In the fall of 1992, the FCC called for license applications from any parties other than the Company who might be interested in being licensed to provide a satellite radio service. The cutoff date for these applications was December 15, 1992. Five other applicants filed applications by that deadline, two of which have subsequently been withdrawn, leaving the Company and three other applicants. Petitions have been filed on behalf of third parties to deny the applications filed by the Company and the three other applicants. On March 3, 1997, the FCC adopted satellite radio licensing rules (the "Licensing Rules") and implemented a spectrum plan that will accommodate only two national satellite radio licenses, both of which are scheduled to be auctioned among the Company and the other three applicants on April 1, 1997. There can be no assurance that the Company will be successful in obtaining one of the two licenses or that the cost of obtaining it would not be material to the Company's operations. See "Risk Factors -- Government Regulation; No Assurance of FCC License." Pursuant to the Licensing Rules, the auction is scheduled to be held among the four existing applicants on April 1, 1997. Prior to the commencement of the auction each applicant must deposit $3 million with the FCC. The minimum opening bid for each FCC License is $8 million. The bidding will continue until only two bidders remain. Within 10 business days following the announcement of winning bidders, each auction winner must deposit with the FCC twenty percent of its winning bid. The $3 million initial deposit will be applied toward the twenty percent down payment. The winning bidders will also be required to supplement their applications on file with the FCC within 30 days after the close of bidding. After the FCC has confirmed receipt of each winning bidder's twenty percent payment and acceptance of each winning bidder's application, the FCC will accept petitions to deny the winning bidders' applications. There can be no assurance that the FCC will dismiss these and previously filed petitions. If the FCC dismisses these petitions and previously filed petitions, the winning bidders will have 10 business days to submit payment of the balance of their winning bids. Pursuant to the Licensing Rules, the winning bidder that receives an FCC License will be required to meet certain progress milestones. Licensees would be required to begin satellite construction within one year; to launch and begin operating their first satellite within four years; and to begin operating their entire system within six years. Failure to meet those milestones could result in revocation of the FCC License. On March 27, 1997, a third party requested reconsideration of the Licensing Rules, seeking, among other things, that the time period allotted for these milestones be shortened. 10 On July 30, 1991, the Company filed a request for a Pioneer's Preference and on January 23, 1992 and June 2, 1993, filed supplements to that request. A Pioneer's Preference would have given the Company an exclusive right to an FCC License without having to bid in an auction, although the Company would still have had to pay for its license. In November 1996, an FCC appointed panel recommended that no Pioneer's Preference be granted. The Company subsequently withdrew its application for a Pioneer's Preference. Satellite orbit locations are registered internationally for each country. To the Company's knowledge, no other nations in the Western Hemisphere are seeking to use the S-band for satellite radio, and the Company does not anticipate any difficulty in obtaining international registration, or renewing or extending such registrations. See "Forward-Looking Statements." However, there can be no assurance that such registrations will be obtained. The spectrum allocated for satellite radio is used in Canada and Mexico for terrestrial microwave links, mobile telemetry, and other purposes. The United States government must coordinate United States' use of this spectrum with the Canadian and Mexican governments before any United States satellite may become operational. The Company has performed analyses which show that its proposed use will not cause undue interference to most Canadian stations and can be coordinated with others by various techniques. The Licensing Rules require that the licensees complete detailed frequency coordination with existing operations in Canada and Mexico. There can be no assurance that the United States, Canadian and Mexican governments can coordinate the use of this spectrum or will do so in a timely manner. In order to operate its satellites, the Company also will have to obtain a license from the FCC to operate its uplink facility. Normally, such approval is sought after issuance of the FCC License. Although there can be no assurances at this time, if the Company obtains the FCC License, the Company would not expect difficulties in obtaining a feeder link frequency and ground station approval in the ordinary course. The issuance by the Company of the Common Stock pursuant to the Company's initial public offering, considered together with other transactions in the stock of the Company since the cutoff date established by the FCC for satellite radio service applications, could have resulted in the ownership of 50 percent or more of the voting stock of the Company by parties who were not stockholders on the cutoff date. Consequently, such stock issuance may have required the filing of a "major amendment" to the Company's license application. As a result, the Company requested and obtained from the FCC an exemption from the previously established cutoff date, in order to avoid the assignment of a new file number and the consequent loss of entitlement to processing concurrently with the other three remaining applications that were filed on or before the cutoff date ("cut-off protection"). On June 8, 1994, the FCC released an order granting the requested exemption conditioned on the current stockholders and officers of the Company remaining in actual control of Satellite CD Radio, Inc. Additional equity financings and sales of common stock by persons who were shareholders on the cutoff date could require the Company to obtain an exemption from the FCC to permit the Company's license application to be processed concurrently with those of the other three applicants. If such an exemption were required and not granted, the Company's application would not be considered concurrently with those of the other three remaining applicants and could be dismissed. The Communications Act prohibits the issuance of a license to a foreign government or a representative thereof, and contains limitations on the ownership of common carrier, broadcast, and certain other radio licenses by non-U.S. citizens. Pursuant to the Licensing Rules, the licensees will be permitted to choose whether they wish to be classified as broadcasters, common carriers or private carriers. As a private carrier, the Company would not be subject to the current provisions of the Communications Act restricting ownership in the Company by non-U.S. private citizens or organizations. Further, as a private carrier, the Company would be free to set its own prices and serve customers according to its own business judgment, without economic regulation. The foregoing discussion reflects the application of current communications law, FCC regulations and international agreements to the Company's proposed service in the United States. Changes in law, regulations or international agreements relating to communications policy generally or to matters affecting specifically the services proposed by the Company could adversely affect the Company's ability to obtain its FCC License or 11 the manner in which its proposed service would be regulated. Further, actions of the FCC are subject to judicial review and there can be no assurance that if challenged, such actions would be upheld. Other Regulatory Matters The Company's business operations as presently contemplated may require a variety of permits, licenses and authorizations from governmental authorities other than the FCC, but the Company has not identified any such permit, license or authorization that it believes could not be obtained in the ordinary course of business. PERSONNEL As of December 31, 1996, the Company had three employees, of whom one was involved in technology development, one in business development and one in administration. In addition, the Company relies upon a number of consultants and other advisors. After receipt of the FCC License, the Company expects to increase the number of its employees to approximately twenty-five, of whom nine are expected to be involved in technical development, ten in business development and six in administration. See "Forward-Looking Statements." The extent and timing of the increase in staffing will depend on the availability of qualified personnel and other developments in the Company's business. None of the Company's employees are represented by a labor union, and the Company believes that its relationship with its employees is good. FINANCIAL CONSULTANTS Pursuant to an agreement dated October 21, 1992 (the "Agreement"), the Company retained the services of Batchelder & Partners, Inc., a financial advisory firm ("Batchelder"), to provide certain financial consulting services to the Company. The Agreement provides, among other things, for the payment in cash to Batchelder of (i) $25,000 per month during the term of the Agreement and (ii) fees equal to (A) two percent (2%) of the gross proceeds from each equity financing (other than equity financings to existing shareholders of the Company on the date of the Agreement and certain equity financings before December 15, 1992) and (B) one percent (1%) of the gross proceeds from each debt financing, during the term of the Agreement and for a period of two years following termination of the Agreement by the Company. During the three-month period ending December 31, 1994, Batchelder agreed to waive all financial consulting fees payable under the Agreement. In addition, pursuant to the Agreement, the Company has granted an option to Batchelder to purchase 260,000 shares of Common Stock at a price of $6.25 per share as follows: 60,000 shares upon execution of the Agreement and four 50,000 share increments upon the successful completion of equity and/or debt financings of certain specified amounts during the term of the Agreement and for a period of two years following termination of the Agreement by the Company. Each option expires three years from the date such option becomes exercisable. The option to purchase 60,000 shares granted to Batchelder upon execution of the Agreement expired unexercised on October 21, 1995. The Agreement is terminable by either the Company or Batchelder upon notice to the other party. Since inception of the Agreement, Batchelder has earned $1,178,063 in consulting fees. Additionally, Batchelder has earned equity financing fees of $149,400 in connection with private placements of 1,494,000 shares of Common Stock of the Company at an aggregate offering price of $7,470,000, fees of $129,194 in connection with the Company's public offering of units in 1994 and fees of $92,261 in 1996 in connection with the exercise of warrants to purchase the Company's Common Stock. No additional options to purchase shares of Common Stock became exercisable by Batchelder on the closing of the Company Offering. Batchelder purchased 200,000 shares in the Company's initial public offering at the initial public offering price. The foregoing is a summary of the principal terms of the agreement described above and does not purport to be complete. Reference is made to the copies of such agreement, which is filed as an exhibit hereto. RISK FACTORS Prospective investors should consider carefully the following factors, as well as all of the other information set forth herein, in evaluating an investment in the Company's Common Stock. 12 Development Stage Company; Continuing Losses The Company's proposed service, CD Radio, is in its initial stage of development. Since its inception, the Company's activities have been concentrated on applying for necessary licenses, technology development, strategic planning, and market research. The Company has incurred aggregate net losses of approximately $18,535,860, from its inception on May 17, 1990 through December 31, 1996, including net losses of approximately $2,830,595 or $0.29 per share, during the year ended December 31, 1996. The Company anticipates that it will not achieve any revenue from operations until the second half of 1999 at the earliest, and that revenue from operations, if and when achieved, will not be sufficient to cover operating expenses until the second half of 2000 at the earliest. The ability of the Company to begin to achieve profitability will depend upon a number of factors, including timely receipt of all necessary FCC authorizations, successful and timely construction and deployment of its satellite system, the development and manufacture of satellite radios by consumer electronics manufacturers and the successful marketing of CD Radio. There can be no assurance that any of the foregoing will be accomplished, that CD Radio will be placed in operation, that the Company will attain a satisfactory market share or that the Company will achieve profitability. See "Management's Discussion and Analysis of Financial Condition and Results of Operations -- Liquidity and Capital Resources." Need for Substantial Additional Financing The FCC has scheduled an auction among the four existing applicants to auction two FCC Licenses on April 1, 1997. The Company believes it has sufficient working capital to fund its planned operations through the receipt of the FCC License. From the date the FCC License is received, approximately $500 million or more will be required to complete the construction and launch of the Company's satellite system and to fund its first full year of operations, assuming the FCC License is received in the first half of 1997. See "Forward- Looking Statements." The amount does not include the amount to be paid by the Company for the FCC License in the auction. Additional funds, however, would be required in the event of delay, cost overruns, launch failure or other adverse developments. The Company anticipates funding its projected cash requirements through the completion of additional public or private equity and debt financings. The Company does not have financing commitments in place sufficient to fund the implementation of CD Radio service, and there can be no assurance that the Company will be able to obtain additional financing on favorable terms, if at all, or that it will be able to do so on a timely basis. See "Management's Discussion and Analysis of Financial Condition and Results of Operations -- Liquidity and Capital Resources." Failure to secure necessary financing on a timely basis could result in delays and increases in the cost of satellite construction or launch or other activities necessary to put CD Radio in operation, could cause the Company to default on its commitments to its satellite construction or launch contractors or others, could render the Company unable to put CD Radio in operation and could force the Company to discontinue operations or seek a purchaser. See "-- Risk of Delay; Effect of Delay on Financing Requirements." The issuance by the Company of additional equity securities could cause substantial dilution of the existing stockholders' interest in the Company. Risk of Delay; Effect of Delay on Financing Requirements The Company is currently targeting the second half of 1999 for the commencement of CD Radio. The Company's ability to meet that objective will depend on several factors, including receipt of the FCC License by the first half of 1997. There can be no assurance as to whether or at what date the FCC License will be received. A significant delay in the timely development, construction, launch and commencement of operation of CD Radio could have a material adverse effect on the Company. Delay could result from a variety of causes, including delays associated with FCC authorizations, inability to obtain necessary financing in a timely manner, delays in design, development, construction or testing of satellites, the national broadcast studio or other aspects of the CD Radio system, changes of technical specifications, delay in commercial availability of satellite radios, failure of the Company's vendors to perform as anticipated or a delayed or unsuccessful satellite launch. During any period of delay, the Company would continue to have significant cash requirements, including capital expenditures, administrative and overhead costs, contractual obligations and debt service that could materially increase the aggregate amount of funding required to complete the 13 preparations necessary to permit the Company to commence operating CD Radio. Financing may not be available on favorable terms or at all during periods of delay. Delay also could cause the Company to be placed at a competitive disadvantage in relation to competitors who succeed in beginning operations earlier than the Company, or prevent the Company from putting CD Radio into service. Government Regulation; No Assurance of FCC License The receipt of an FCC License to construct, launch and operate its satellites is a prerequisite to the Company's ability to offer CD Radio. The Company must bid in an auction for the FCC License and there is no assurance that the Company will be successful in the auction or that the cost of the FCC License will not be material. Changes in ownership of the Company's stock since the cutoff date for satellite radio license applications, including the sale of the shares of Common Stock in the Company's initial public offering, required the Company to obtain an exemption from the FCC to permit the Company's license application to be processed concurrently with those of the other three applicants. The Company applied for such an exemption on February 2, 1994, and the FCC released a ruling granting the request on June 8, 1994, conditioned on the current stockholders and officers of the Company remaining in actual control of Satellite CD Radio, Inc. Additional equity financings and sales of common stock by persons who were shareholders on the cutoff date could also result in further changes in ownership of the Company's stock and could require the Company to obtain an exemption from the FCC to permit the Company's license application to be processed concurrently with those of the other three applicants. If such an exemption were required and not granted, the Company's application would not be considered concurrently with those of the other three remaining applicants and could be dismissed. In addition to its general authority over satellite operations, the FCC regulates two types of satellite communications activities: common carriage and broadcasting. Common carriers offer their customers the ability to transmit messages of the customer's own choosing and are subject to economic regulation and alien ownership rules. Broadcasters are not subject to economic regulation, but are subject to certain content, reporting and alien ownership rules. Pursuant to the Licensing Rules, the licensees will be permitted to choose whether they wish to be classified as broadcasters, common carriers or private carriers. As a private carrier, the current provisions of the Communications Act restricting ownership in the Company by non-U.S. private citizens or organizations would not apply to the Company, and the Company would not be subject to economic regulation. Changes in law, FCC regulations or international agreements relating to communications policy generally or to matters relating specifically to the services proposed by the Company could affect the Company's ability to obtain its FCC License or the manner in which its proposed service would be regulated. See "Business -- Government Regulation." Proposed 5% Delayed Convertible Preferred Stock The Company's Board of Directors has authorized the sale of 5% Delayed Convertible Preferred Stock ("5% Preferred Stock") and the Company has received commitments to purchase a substantial amount of 5% Preferred Stock, subject to certain conditions, including conditions involving the results of the auction for the FCC license. See "Management's Discussion and Analysis of Financial Condition and Results of Operations." The terms of the 5% Preferred Stock provide that it is convertible to Common Stock at discounts from future market prices of the Common Stock, which could result in substantial dilution to holders of Common Stock. The terms of issuance of the 5% Preferred Stock also require payments in the amount of 3% of the aggregate liquidation preference per month if the Company fails within certain prescribed periods, to increase the number of authorized shares of Common Stock; to reserve a number of shares of Common Stock for issuance upon conversion of the 5% Preferred Stock equal to 1.5 times the number of shares into which the 5% Preferred Stock is convertible from time to time; to obtain any governmental approvals necessary for the conversion of 5% Preferred Stock; or to maintain an effective registration statement under the Securities Act of 1933 with respect to the resale of Common Stock issuable upon conversion of the 5% Preferred Stock. The 14 terms of the 5% Preferred Stock also require the Company to repurchase some or all of the 5% Preferred Stock upon the occurrence of certain specified events. If payment or repurchase obligations were to arise under the terms of the 5% Preferred Stock, the Company's financial condition could be materially adversely affected. Reliance on Unproven Technology The CD Radio system is designed to use two satellites in geosynchronous orbit that transmit identical signals to a new generation of satellite radios in cars and trucks. The Company has conducted satellite simulation testing and demonstrations of CD Radio with a prototype satellite receiver installed in an automobile. The satellite system and other aspects of the CD Radio service, however, will use certain technology that has yet to be tested using orbiting satellites or a satellite radio suitable for commercial production. While management believes that the technology developed by the Company will allow the service to operate as planned, there can be no assurance that the CD Radio system will function as currently contemplated. See "Business -- Satellite Radios" "Business -- The Satellites" and "Business -- Technology Trademarks and Patents." Dependence upon Satellites and Contractors; Risk of Launch Failure The Company's business will depend upon the successful construction and launch of its satellites which will be used to transmit CD Radio. The Company will rely upon its satellite vendor, Space Systems/Loral, for the timely delivery of its satellites. Failure of Space Systems/Loral to deliver functioning satellites in a timely manner could materially adversely affect the Company's business. The Company is also dependent on its satellite launch vendor, Arianespace, for the construction of launch vehicles and the successful launch of its satellites. Satellite launches are subject to significant risks, including satellite destruction or damage during launch or failure to achieve proper orbital placement. According to an insurance industry source, approximately 15% of insured commercial satellite launches by all launch contractors since 1965 have resulted in total loss. Launch failure rates vary from period to period and from contractor to contractor. While past experience is not necessarily indicative of future performance, Arianespace has advised the Company that as of March 18, 1997 it has successfully completed 81 of 86 launches (approximately 94%) since beginning commercial operations in 1984. See "Business -- The Satellites." Satellites also could be defective or could be damaged or fail in orbit. As part of its risk management program, the Company plans to construct a third (back-up) satellite and to obtain insurance covering failed launch vehicle replacement. The launch of a replacement satellite would delay the commencement or continuation of the Company's operations for not less than six months, which could have an adverse effect on the demand for the Company's services, as well as the Company's revenues and results of operations. The launch or in-orbit failure of two of the Company's satellites could delay the commencement or continuation of the Company's operations for three years or more, which would have a material adverse effect on the Company. Uncertain Market Acceptance There are currently no satellite radio services such as CD Radio in commercial operation in the United States. As a result, the extent of the potential demand for such services and the degree to which the Company's proposed service will meet that demand cannot be estimated with certainty, and there can be no assurance that there will be sufficient demand for CD Radio service to enable the Company to achieve profitable operations. The success of CD Radio in gaining market acceptance will be affected by a number of factors beyond the Company's control, including consumers' willingness to pay subscription fees to obtain satellite radio broadcasts, the cost, availability and consumer acceptance of satellite radios, marketing and pricing strategies of competitors, development of alternative technologies and general economic conditions. See "Business -- The Radio Market" and "Business -- Competition." Unavailability of Satellite Radios The Company's business strategy requires that subscribers to CD Radio purchase satellite radios to receive the service. See "Business -- Satellite Radios." Satellite radios are not currently commercially 15 available and the Company is unaware of any manufacturer currently developing such radios for commercial sale. The ultimate success of the Company's service will therefore depend in significant part on the willingness of at least one consumer electronics manufacturer to develop and manufacture these radios. Although the Company intends to foster the development of commercially available satellite radios, there can be no assurance that a manufacturer will develop such radios in a timely manner or at all, or that if commercially developed such radios will be affordable in price. The failure of one or more consumer electronics manufacturers to develop satellite radios for commercial sale in a timely manner would have a material adverse effect on the Company's business. See "Business -- Satellite Radios" and "Business -- Technology Patents and Trademarks". Music Royalty Payments In connection with its proposed music programming, the Company will be required to negotiate and enter into royalty arrangements with copyright owners of sound recordings and with performing rights societies, such as the American Society of Composers, Authors and Publishers ("ASCAP"), Broadcast Music, Inc. ("BMI"), SESAC, Inc. ("SESAC"), and with recording owners under the Digital Recordings Act of 1995. The amount of these royalties is yet to be negotiated and there can be no assurance that any royalty arrangements negotiated by the Company will be on terms favorable to the Company. See "Business -- The CD Radio Service." Development of Business and Management of Growth The Company has not yet commenced CD Radio service. To operate successfully, the Company must develop and implement systems for operational and financial management, programming, marketing, subscriber registration and management, billing and collection of subscriber fees and other functions, and must hire and train personnel to perform these functions. The Company expects to experience significant and rapid growth in the scope and complexity of its business as it proceeds with the development of its satellite radio system and the commencement of CD Radio service. Growth is likely to place a substantial strain on the Company's management, operational, financial and accounting resources. Failure to develop and implement effective systems for the performance of all of the functions necessary to the effective provision of its service and management of its subscriber base and business, and failure to manage growth effectively, would have a material adverse effect on the Company's business. Competition The Company will be seeking market acceptance of its proposed service in a new, untested market and will compete with established conventional radio stations, which do not rely on subscription fees for their operations. Many radio stations also offer information programming of a local nature such as local news or traffic which the Company will be unable to offer. The Company also expects to compete directly with one other satellite radio operator. See "Forward-Looking Statements." A total of four proposed satellite radio operators, including the Company, have applied to be licensed by the FCC. See "Business -- Government Regulation." At least one of these prospective satellite radio operators, American Mobile Satellite Corporation, which is principally owned by the Hughes division of General Motors has financial, management and technical resources which greatly exceed those of the Company. See "Business -- Competition." Dependence on Chief Executive Officer The Company is highly dependent during its development phase on the services of David Margolese, Chairman and Chief Executive Officer, who is responsible for the Company's operations and strategic planning. The loss of the services of Mr. Margolese during the development stage of the Company could have a material adverse effect upon the business and prospects of the Company. See "Business -- Government Regulation" and "Directors and Executive Officers of the Company." 16 Proposed Business Dependent Upon Regulatory Approval The Company has concentrated its efforts on the development and preparation of its proposed service, CD Radio. The timely receipt of an FCC License to construct, launch and operate its satellites is a prerequisite to the Company's ability to offer CD Radio. If the Company is not a winning bidder in the auction, the Company would be forced to identify an alternative business plan and use for any remaining capital resources. Such an alternative plan could involve a change in focus to a related or unrelated business activity, or dissolution of the Company. No consideration has been given to any alternative activity or use of funds. There can be no assurance that the Company would be able to identify or effectively pursue any such alternative in a manner that would benefit the Company or its stockholders. Uncertain Patent Protection The Company has been granted certain U.S. patents covering various types of satellite radio technology. There can be no assurance, however, that the Company's U.S. patents will not be challenged, invalidated or circumvented by others. Litigation, which could result in substantial cost to the Company, may be necessary to enforce the Company's patents or to determine the scope and validity of other parties' proprietary rights, and there can be no assurance of success in any such litigation. Although the Company believes that patent protection may provide benefits to the Company, the Company does not believe that its business is dependent on obtaining patent protection or successfully defending any such patents against infringement by others. Limited Prior Public Market; Potential Volatility of Stock Price The Company's Common Stock has been traded on the NASDAQ Small Cap Market since September 13, 1994. There can be no assurance that an active public market will continue for the Common Stock, or that the market price for the Common Stock will not decline below its current price. Such price may be influenced by many factors, including, but not limited to, investor perception of the Company and its industry and general economic and market conditions. The trading price of the Common Stock could be subject to wide fluctuations in response to announcements of business and technical developments by the Company or its competitors, quarterly variations in operating results, and other events or factors. In addition, stock markets have experienced extreme price volatility in recent years. This volatility has had a substantial effect on the market prices of development stage companies, at times for reasons unrelated to their operating performance. Such broad market fluctuations may adversely affect the price of the Common Stock. Possible Delisting of Common Stock from NASDAQ; Possible Adverse Effect on Trading Market The Common Stock is quoted on the NASDAQ Small Cap Market. There are a number of continuing requirements that must be met in order for the Common Stock to remain eligible for quotation on the NASDAQ Small Cap Market. In order to continue to be quoted on NASDAQ, a company must maintain $2 million in total assets, a $200,000 market value of the public float and $1 million in total capital and surplus. In addition, continued quotation requires two marketmakers and a minimum bid price of $1.00 per share; provided, however, that if a company falls below such a minimum bid, it will remain eligible for continued quotation on NASDAQ if the market value of the public float is at least $3 million and the company has $2 million in capital and surplus. The failure to meet these maintenance criteria in the future could result in the delisting of the Company's Common Stock from NASDAQ. In such event, trading, if any, in the Common Stock may then continue to be conducted in the non-NASDAQ over-the-counter market. As a result, an investor may find it more difficult to dispose of, or to obtain accurate quotations as to the market value of, the Company's Common Stock. In November 1996, NASDAQ approved changes to its quantitative and qualitative standards for issuers listing on NASDAQ, subject to public comment and approval by the Commission. Among the proposed changes are the elimination of the alternative test for issuers failing to meet the minimum bid price of $1.00, an increase in the quantitative standards for both the NASDAQ National Market and the NASDAQ SmallCap Market, and the corporate governance requirements applicable to the NASDAQ National Market would be applicable to the NASDAQ SmallCap Market. 17 In addition, if the Common Stock were delisted from trading on NASDAQ and the trading price of the Common Stock were less than $5.00 per share, trading in the Common Stock would also be subject to the requirements of certain rules promulgated under the Securities Exchange Act of 1934, which require additional disclosure by broker dealers in connection with any trades involving a stock defined as a penny stock (generally, any non-NASDAQ equity security that has a market price of less than $5.00 per share, subject to certain exceptions). Such rules require the delivery, prior to any penny stock transaction, of a disclosure schedule explaining the penny stock market and the risks associated therewith, and impose various sales practice requirements on broker-dealers who sell penny stocks to persons other than established customers and accredited investors (generally institutions). For these types of transactions, the broker-dealer must make a special suitability determination for the purchaser and have received the purchaser's written consent to the transaction prior to sale. The additional burdens imposed upon broker-dealers may discourage broker-dealers from effecting transactions in penny stocks, which could reduce the liquidity of the shares of Common Stock and thereby have a material adverse effect on the trading market for the securities. Possible Adverse Effect of State Blue Sky Restrictions on Secondary Trading of Common Shares The Company believes that its Common Stock is eligible for sale on a secondary market basis in most states based on various exemptions to state qualification requirements. Limitations on, or the absence of those exemptions, will under certain circumstances restrict the ability of a holder to transfer the Common Stock to non-institutional buyers in some states. This could adversely affect the liquidity of the Common Stock. Anti-takeover Provisions The Company's Board of Directors has the authority to issue up to 10,000,000 shares of Preferred Stock in one or more series and to determine the price, rights, preferences and privileges of those shares without any further vote or action by the stockholders. Any issuance of Preferred Stock with voting and conversion rights may adversely affect the voting power of the holders of Common Stock. The Company has received commitments to purchase convertible preferred stock, convertible into shares of common stock. and such issuance could have the effect of making it more difficult for a third party to acquire a majority of the outstanding voting stock of the Company. In addition, the Company may become subject to the anti-takeover provisions of Section 203 of the Delaware General Corporation Law, which could have the effect of delaying or preventing a change of control of the Company or adversely affect the market price of the Company's Common Stock. In addition, the severance provisions of employment agreements with certain members of the Company's management provide for payments that could discourage an attempted change in control of the Company. ITEM 2. PROPERTIES The Company's executive offices are located at Sixth Floor, 1001 22nd Street, N.W., Washington, D.C. 20037, and are leased pursuant to a lease agreement that will expire October 31, 1998. ITEM 3. LEGAL PROCEEDINGS The Company is not a party to any material litigation. In May 1994, the Company received a letter claiming that the Company's logo is confusingly similar to the registered trademark of a company engaged in the sale of pre-recorded music, and that the Company's continued use of its logo may constitute infringement of such mark. No claim of damages has been asserted and the Company knows of no basis for the assertion of any damages with respect to the use of its logo. At the present time, the Company does not have sufficient information to assess the likelihood of success in any action that may arise in connection with the claim. If the claim is adversely determined, the Company does not believe that the loss of its logo would have a material adverse effect on the Company. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS None. 18 PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCK MATTERS The Common Stock began trading on the NASDAQ SmallCap Market on September 13, 1994 under the symbol "CDRD" and has been trading there since that time. The following table sets forth the high and low closing bid price for the Common Stock, as reported by NASDAQ, for the periods indicated below. The prices set forth below reflect interdealer quotations, without retail markups, markdowns, fees or commissions and do not necessarily reflect actual transactions.
HIGH LOW -------- ------- Year Ended December 31, 1996 First Quarter.................................................... 9 1/8 2 15/16 Second Quarter................................................... 13 3/4 7 1/8 Third Quarter.................................................... 9 5/8 6 3/4 Fourth Quarter................................................... 8 1/2 3 7/16 Year Ended December 31, 1995 First Quarter.................................................... 4 5/8 1 7/8 Second Quarter................................................... 3 15/16 2 5/8 Third Quarter.................................................... 4 5/8 2 15/16 Fourth Quarter................................................... 4 3/8 2 15/16 Year Ended December 31, 1994 Third Quarter (commencing September 13, 1994).................... 4 1/2 3 3/4 Fourth Quarter................................................... 3 7/8 1 5/8
On March 12, 1997, the closing bid price of the Company's Common Stock on NASDAQ was $6.875 per share. At March 12, 1997, there were approximately 102 record holders of the Company's Common Stock. The Company has never paid cash dividends on its capital stock. The Company currently intends to retain earnings, if any, for use in its business and does not anticipate paying any cash dividends in the foreseeable future. ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA The selected consolidated financial data for the Company set forth below with respect to the statements of operations for the years ended December 31, 1994, 1995 and 1996 and with respect to the balance sheets at December 31, 1995 and 1996 are derived from the consolidated financial statements of the Company, audited by Coopers & Lybrand L.L.P., independent accountants, included in Item 8 of this filing. The selected consolidated financial data for the Company with respect to the balance sheets at December 31, 1992, 1993, and 1994 and with respect to the statement of operations data for the years ended December 31, 1992 and 1993, are derived from audited consolidated financial statements, which are not included herein. The selected consolidated financial data should be read in conjunction with the Consolidated Financial Statements and related notes thereto included in Item 8 of this report and "Management's Discussion and Analysis of Financial Condition and Results of Operations." 19 STATEMENT OF OPERATIONS DATA (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
YEAR ENDED DECEMBER 31, --------------------------------------------------- 1992 1993 1994 1995 1996 ------- ------- ------- ------- ------- Operating revenues............................. $ -- $ -- $ -- $ -- $ -- Net loss....................................... $(1,551) $(6,568) $(4,065) $(2,107) $(2,831) Net loss per share............................. $ (.23) $ (.79) $ (.48) $ (.23) $ (.29) Weighted average common shares and common share equivalents outstanding...................... 6,715 8,284 8,398 9,224 9,642
BALANCE SHEET DATA (IN THOUSANDS)
DECEMBER 31 ------------------------------------------------------ 1992 1993 1994 1995 1996 ------- ------- -------- -------- -------- Cash and cash equivalents.................. $ 1,883 $ 777 $ 3,400 $ 1,800 $ 4,584 Working capital (deficit).................. $ 1,399 $ (250) $ 2,908 $ 1,741 $ 4,442 Total assets............................... $ 2,292 $ 1,663 $ 3,971 $ 2,334 $ 5,065 Deficit accumulated during the development stage........................ $(2,965) $(9,533) $(13,598) $(15,705) $(18,536) Stockholders' equity (deficit)(1).......... $ 1,791 $ 505 $ 3,431 $ 1,991 $ 4,898
- --------------- (1) No cash dividends were declared or paid in any of the periods presented. ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS OVERVIEW The Company was organized in May 1990 and is in its development stage. The Company's principal activities to date have included technology development, pursuing regulatory approval for CD Radio, initiation of discussions with radio manufacturers and automakers, market research, design, development, contract negotiations with satellite and launch vehicle contractors, technical efforts with respect to standards and specifications, development of a mobile demonstration program and securing adequate working capital. The Company has been unprofitable to date and expects to continue to incur substantial losses through at least the first full year of CD Radio service. Since its inception, the Company has not derived any revenues from operations and does not expect to generate any revenues from operations prior to the commencement of CD Radio, which is not expected to occur before the second half of 1999 at the earliest. In order to commence CD Radio service, the Company will require the FCC License and substantial additional funds to finance construction of its satellite system, to plan and implement its service, to provide working capital and to sustain its operations until it generates positive cash flows from operations. The FCC has scheduled an auction among the four existing applicants to auction two FCC Licenses on April 1, 1997. The Company believes it has sufficient working capital to fund its planned operations through the receipt of the FCC License. Upon receipt of the FCC License in the auction, the Company will require substantial additional financing in connection with the purchase price of the FCC License and to complete the construction and launch of its satellite system and to fund the first full year of CD Radio service. RESULTS OF OPERATIONS 1996 Compared to 1995 The Company recorded net losses of $2,831,000 ($.29 per share) and $2,107,000 ($.23 per share) for the years ended December 31, 1996 and 1995, respectively. The Company's total operating expenses were $2,930,000 in 1996 compared to $2,230,000 in 1995. Legal, consulting and regulatory fees increased in 1996 to $1,582,000 from $1,046,000 in 1995, as the result of increased efforts to obtain the FCC License. 20 Research and development costs were $117,000 in 1996, compared with $122,000 in 1995. Non-recurring costs associated with the design and development of the CD Radio demonstration system were substantially completed in 1993. Costs incurred in subsequent years relate to the operations of the demonstration system, including leasing satellite time, taking transmission measurements, and testing multipath fading. Other general and administrative expenses increased in 1996 to $1,231,000 from $1,062,000 in 1995. The increase is due to the Company requiring general administrative support for the effort to obtain the FCC License. Interest income decreased to $113,000 in 1996 from $143,000 in 1995 as a result of the Company having a higher average cash balance in 1995. Proceeds relating to the exercise of stock warrants were not received until late 1996 and therefore, did not generate a significant amount of interest income. Interest expense decreased from $20,000 in 1995 to $13,000 in 1996 as a result of the Company repaying a promissory note due to an officer of the Company in 1996. 1995 Compared to 1994 The Company recorded net loss of $2,107,000 ($.23 per share) and $4,065,000 ($.48 per share) for the years ended December 31, 1995 and 1994, respectively. The Company's total operating expenses were $2,230,000 in 1995 compared to $4,076,000 in 1994. Legal, consulting and regulatory fees decreased from $1,245,000 in 1994 to $1,046,000 in 1995 as the Company continued to reduce costs while awaiting action by the FCC on the Company's application for an FCC License. Other general and administrative expenses also decreased from $2,455,000 in 1994 to $1,062,000 in 1995 reflecting a reduction of costs such as payroll, rent and compensation expense in connection with issuance of stock options. The Company completed the majority of the research and development necessary for product development prior to FCC licensing by 1994 which was reflected in the decrease of research and development costs from $375,000 in 1994 to $122,000 in 1995. The increase in interest income from $51,000 in 1994 to $143,000 in 1995 was the result of a higher average cash balance in 1995. The cash and cash equivalents on hand were originally obtained from the Company's initial public offering in September 1994. LIQUIDITY AND CAPITAL RESOURCES At December 31, 1996, the Company had working capital of approximately $4,442,000, compared to $1,741,000 at December 31, 1995. The increase in working capital was primarily the result of proceeds approximating $4.6 million received from the exercise of common stock warrants in 1996. Should the Company receive its FCC License, the Company will require substantial additional financing to complete the construction and launch of its satellite system and to fund the first full year of CD Radio service. The Company estimates that upon receipt of the FCC License it will require cash in the aggregate amount of at least $500 million, plus the cost of the FCC License, to fund the construction and launch of the Company's satellites and the commencement of CD Radio and to provide cash reserves for the first year of service. The Company believes that its working capital is sufficient to fund planned operations through the auction for the FCC License. There can be no assurance, however, that the Company's actual cash requirements will not exceed its anticipated pre-auction cash requirements, that additional cash requirements will not arise or that additional financing will not be required prior to the receipt of the FCC License should the auction be delayed. Upon receipt of the FCC License, the Company intends to seek additional financing through further debt and equity financings. However, there can be no assurance that the Company will be able to raise additional financing on favorable terms, if at all, or that it will be able to do so on a timely basis. If such financing were not available on a timely basis, the Company would be required to delay satellite and/or launch vehicle construction in order to conserve cash to fund continued operations, which would cause delays in commencement of its operations and increased costs. 21 The Company's estimated cash requirements do not include any amounts that the Company may be required to pay to receive an FCC License in the auction. There can be no assurance that the Company will be a successful bidder in the FCC auction, and the Company is unable to predict the amount that the Company may be required to pay to receive an FCC License by being a successful bidder in an auction. The winning bidders in the FCC Auction will be required to deposit 20 percent of the amount of the winning bid within ten business days after the close of the auction, and to pay the balance of the winning bid after revised license applications are finalized and assuming petitions to deny the License are dismissed. See "Business -- Government Regulation." The Company has submitted a deposit of $3 million to the FCC, which will be applied against the 20 percent deposit requirement if it is a winning bidder, and which will be returned if it is not a winning bidder. The Company's estimates of its cash requirements are forward looking statements that involve a number of risks and uncertainties. Such estimates assume that the FCC License is received by the first half of 1997, that operation of CD Radio commences in the second half of 1999 and do not include the price that the Company will have to pay for the FCC License in the auction. The Company's actual future cash requirements will depend upon numerous factors, including the costs associated with the construction and deployment of the satellite system and the rate of growth of its business subsequent to commencing service. Additional funds would be required in the event of delay, cost overruns, launch failure, launch services or satellite system change orders, or any shortfalls in estimated levels of operating cash flow, or to meet unanticipated expenses, or to pay the cost of the FCC License in the auction. The Company anticipates funding its projected cash requirements through the completion of additional debt and equity financings. There can be no assurance that the Company will be able to obtain financing on favorable terms, if at all, or that it will be able to do so on a timely basis. The Company's Board of Directors has authorized the sale pursuant to a private placement of 5% Delayed Convertible Preferred Stock, convertible to common stock at conversion prices based on discounts to future market prices. The Company announced commitments to purchase $62.5 million in 5% Preferred Stock in October 1996, and has received additional commitments since that time. The purpose of the sale is to finance the payment of the purchase price for the FCC License and for working capital prior to the completion of subsequent financings if the Company is the winning bidder for the FCC License. There can be no assurance that the amount of the commitment will be sufficient to permit the Company to submit the winning bid for the FCC License. Closing the sale of Preferred Stock is subject to a number of conditions, including conditions relating to the Company's application for the FCC License, and the agreement contains limitations on the Company's use of proceeds and other corporate actions. There can be no assurance that the agreement for this transaction will not be amended or terminated, or that any of the Preferred Stock will be sold pursuant thereto. Failure to close the sale of the Preferred Stock could result in a default by the Company of payment obligations relating to the FCC License. The Company's Chairman and Chief Executive Officer and a principal stockholder have from time to time advanced funds to the Company for use as working capital and to enable the Company to satisfy cash requirements. As of December 31, 1995, approximately $273,000, was owed to the Company's Chairman and Chief Executive Officer for a loan made and accrued interest thereon. Such loan was repaid in 1996. 5% Delayed Convertible Preferred Stock On March 19, 1997, the Board of Directors authorized the issuance of up to 8,000,000 shares of the 5% Delayed Convertible Preferred Stock (the "5% Preferred Stock"), and the Company has received substantial commitments from investors to purchase the 5% Preferred Stock subject to the satisfaction of certain conditions, but as of March 31, 1997, none has been issued or sold. Set forth below is a brief description of the 5% Preferred Stock. Dividends. Each share of the 5% Preferred Stock is entitled to receive dividends at the rate of $1.25 per annum, payable semi-annually on April 15 and October 15 of each year, in preference to any payment made on any other shares of capital stock of the Company. Any dividend payable on the 5% Preferred Stock may be paid, at the option of the Company, either (i) in cash or (ii) by adding the amount of such dividend to the Liquidation Preference (as defined below). Each share of the 5% Preferred Stock is also entitled to a 22 liquidation preference of $25 per share, plus all accrued but unpaid dividends (the "Liquidation Preference"), in preference to any other class or series of capital stock of the Company. Other than the consent rights described below with respect to certain corporate actions, and except as otherwise provided by applicable law, holders of the 5% Preferred Stock have no voting rights. Conversion. The 5% Preferred Stock is convertible into shares of Common Stock at any time, provided that the Company is not obligated to honor any request for conversion of the 5% Preferred Stock at any time certain governmental approvals of the issuance of the Common Stock upon such conversion have not been obtained. If such approvals (other than with respect to a holder or group of holders holding more than 50% of the voting securities of the Company) are not obtained by 360 days after the First Closing date, the Company shall, at the request of any holder, repurchase the shares of the 5% Preferred Stock held by such holder at a purchase price per share equal to the sum of the Liquidation Preference plus any other cash payments due to such holder ("Cash Payments"), divided by 72.125% (the "Maximum Price"). The number of shares of Common Stock issuable upon conversion of the shares of the 5% Preferred Stock will equal the Liquidation Preference of the shares being converted plus any Cash Payments divided by the then-effective conversion price applicable to the Common Stock (the "Conversion Price"). The Conversion Price, as of any date up to and including November 15, 1997, is determined in accordance with a formula based on market prices of the Common Stock or actual prices at which the converting holder sold the Common Stock, in either case multiplied by an amount equal to 1 minus the Applicable Percentage. At any date after November 15, 1997, the Conversion Price is determined in accordance with a formula based on market prices of the Common Stock between October 15, 1997 and November 15, 1997, market prices of the Common Stock during the three consecutive trading days immediately preceding the date of conversion or actual prices at which the converting holder sold the Common Stock, in any case multiplied by 72.125%. The Applicable Percentage is as follows:
CONVERSION AFTER THE FOLLOWING DATE APPLICABLE PERCENTAGE - -------------------- --------------------- 4/15/97 14.375% 5/15/97 18.125% 6/15/97 19.875% 7/15/97 21.625% 8/15/97 23.250% 9/15/97 24.875% 10/15/97 25.000% 11/15/97 27.875%
The 5% Preferred Stock is at all times subject to adjustment for customary anti-dilution events such as stock splits, stock dividends, reorganizations and certain mergers affecting the Common Stock. Three years or more after the date of original issuance of the 5% Preferred Stock, the Company may require the holders of the 5% Preferred Stock to convert such shares into Common Stock at the then applicable Conversion Price and all Cash Payments due on a date specified in the notice of forced conversion. However, the conversion shall not occur if the Company has commenced bankruptcy proceedings, ceased operations or shall be in default for money borrowed in excess of $50 million. Required Redemption. The Company must also reserve and keep available out of its authorized but unissued shares of Common Stock, solely for the purpose of effecting the conversion of the 5% Preferred Stock, at least such number of its Common Stock that is the greater of (i) 10 million shares and (ii) 1.5 times the number as shall from time to time be sufficient to effect the conversion of all outstanding shares of the 5% Preferred Stock. The Company has agreed to take such corporate action necessary to increase its number of authorized shares of Common Stock to at least 100 million shares on or before the 90th calendar day after the First Closing. If the Company does not have sufficient shares of Common Stock reserved to effect such conversion and fails to take such corporate action necessary to authorize or reserve sufficient shares of Common Stock, then at any time at the request of any holder of shares of the 5% Preferred Stock, the Company shall purchase from such holder the number of shares of the 5% Preferred Stock equal to such holder's pro-rata share of the number of shares of the 5% Preferred Stock that would not be able to be 23 converted due to an insufficient number of shares of Common Stock reserved for such purpose at the Maximum Price. In addition, if prior to the earlier of April 21, 1998 or the closing of a Qualifying Offering (as defined below), the FCC awards more than two licenses permitting the licensee to provide satellite digital audio radio services and more than two licensees commence or announce an intention to commence satellite digital audio radio services, then upon the request of the holders of more than one-third of the outstanding shares of the 5% Preferred Stock, the Company shall purchase one-half of the shares of the 5% Preferred Stock held by each requesting shareholder at a purchase price per share equal to the sum of the Liquidation Preference plus any Cash Payments divided by 1 minus the Applicable Percentage. If a reorganization occurs, each holder of the 5% Preferred Stock may require the Company to redeem the 5% Preferred Stock at the Maximum Price. A Reorganization is defined as any reorganization or any reclassification of the Common Stock or other capital stock of the Company or any consolidation or merger of the Company with or into any other corporation or corporations or a sale of all or substantially all of the assets of the Company. If the holder chooses not to require the Company to redeem such holder's shares, the shares will be convertible into the number of shares or other property to which a holder of the number of shares of Common Stock deliverable upon conversion of such share of 5% Preferred Stock not so redeemed would have been entitled upon the reorganization. Redemption. The 5% Preferred Stock may be redeemed in whole but not in part at the Maximum Price by the Company at any time beginning on the date that is 10 months after the date of original issuance of the 5% Preferred Stock, plus one day for each day during which (x) a registration statement has not been declared effective with respect to the Common Stock issuable upon conversion of the 5% Preferred Stock by the 90th calendar day after the original issuance of the 5% Preferred Stock or (y) any such registration statement is suspended or the related prospectus is not current, complete or otherwise usable. The Company may not exercise its right of redemption unless (i) the average closing price of the Common Stock as reported in the Wall Street Journal for the 20 consecutive trading days prior to the notice of redemption shall equal or exceed $18 per share (subject to adjustments) and (ii) the shares of Common Stock issuable upon conversion of the 5% Preferred Stock are registered for resale by an effective registration under the Securities Act of 1933, as amended. The Company also may redeem the 5% Preferred Stock in whole but not in part at the Maximum Price if the Company sells Common Stock for cash in an amount not less than $100 million in a registered underwritten public offering prior to October 15, 1997 ("Qualifying Offering"). Dilution of Common Stock. The exact number of shares issuable upon conversion of all of the 5% Preferred Stock cannot currently be estimated but, generally, such issuances of Common Stock will vary inversely with the market price of the Common Stock. The holders of Common Stock ownership interest will be materially diluted by conversion of the 5% Preferred Stock, which dilution will depend on, among other things, the future market price of the Common Stock and conversion elections made by holders of the 5% Preferred Stock. The terms of the 5% Preferred Stock do not provide for any limit on the number of shares of Common Stock which the Company may be required to issue in respect thereof. Cash Payments. The private placement agreement relating to the sale of the 5% Preferred Stock specifies certain circumstances in which the Company must make a cash payment to each holder of the 5% Preferred Stock (or underlying securities issued or issuable upon conversion of the 5% Preferred Stock). The Company must make a cash payment equal to 3% of the Liquidation Preference per month to each holder if the Company fails: (i) within 90 days of the date of the First Closing to increase the number of authorized shares of Common Stock to at least 100 million shares; (ii) within 90 days of the date of the First Closing to file and cause to be declared effective a registration statement under the Securities Act of 1933 with respect to the resale of Common Stock issuable upon conversion of the 5% Preferred Stock; (iii) within 90 days of the date of the First Closing to obtain any governmental approvals necessary for the conversion of the 5% Preferred Stock; (iv) to honor any request for conversion of the 5% Preferred Stock except as permitted by the terms and conditions of the 5% Preferred Stock; or (v) to maintain the listing of the Common Stock on Nasdaq, the New York Stock Exchange or the American Stock Exchange. A similar cash payment must be made if, after effecting a registration statement with respect to the resale of Common Stock issuable upon conversion of the 5% Preferred Stock, the use of the prospectus is suspended for more than 60 cumulative days in the aggregate in any twelve month period. In addition, if the Company fails at any time to reserve a sufficient number of shares of Common Stock for issuance upon conversion of the 5% Preferred Stock, it must 24 make a cash payment equal to 3% of the Liquidation Preference (proportionately reduced by the amount of shares that are so authorized and reserved) per month to the holders of the 5% Preferred Stock. The private placement agreement also provides that prior to the completion of a Qualifying Offering, the Company may not undertake to conduct any debt or equity financing that is not pari passu or junior to the 5% Preferred Stock in seniority, structure and maturity. Consent of the holders of a majority of the 5% Preferred Stock is required before the Company may take certain corporate actions or pay dividends on Common Stock and certain other corporate actions taken in connection with a partial repurchase of 5% Preferred Stock require the consent of all holders of 5% Preferred Stock. 25 ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA. CD RADIO INC. AND SUBSIDIARY (A DEVELOPMENT STAGE ENTERPRISE) INDEX TO CONSOLIDATED FINANCIAL STATEMENTS Report of Independent Accountants..................................................... F-2 Consolidated Balance Sheets as of December 31, 1995 and 1996.......................... F-3 Consolidated Statements of Operations for each of the three years in the period ended December 31, 1996, and for the period May 17, 1990 (date of inception) to December 31, 1996................................................................ F-4 Consolidated Statements of Stockholders' Equity for the period May 17, 1990 (date of inception) to December 31, 1996................................................................ F-5 Consolidated Statements of Cash Flows for each of the three years in the period ended December 31, 1996 and for the period May 17, 1990 (date of inception) to December 31, 1996................................................................ F-7 Notes to Consolidated Financial Statements............................................ F-8
F-1 REPORT OF INDEPENDENT ACCOUNTANTS To the Board of Directors and Stockholders CD Radio Inc. We have audited the accompanying consolidated balance sheets of CD Radio Inc. and Subsidiary (A Development Stage Enterprise) as of December 31, 1995 and 1996, and the related consolidated statements of operations, stockholders' equity and cash flows for each of the three years in the period ended December 31, 1996 and for the period May 17, 1990 (date of inception) to December 31, 1996. 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 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, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of CD Radio Inc. and Subsidiary as of December 31, 1995 and 1996, and the consolidated results of their operations and their cash flows for each of the three years in the period ended December 31, 1996 and for the period May 17, 1990 (date of inception) to December 31, 1996 in conformity with generally accepted accounting principles. /s/ COOPERS & LYBRAND L.L.P. -------------------------------------- COOPERS & LYBRAND L.L.P. Washington, D.C. March 26, 1997 F-2 CD RADIO INC. AND SUBSIDIARY (A DEVELOPMENT STAGE ENTERPRISE) CONSOLIDATED BALANCE SHEETS
DECEMBER 31, ---------------------------- 1995 1996 ------------ ------------ ASSETS Current assets: Cash and cash equivalents................................... $ 1,799,814 $ 4,583,562 Prepaid expense and other................................... 8,781 9,368 ------------ ------------ Total current assets................................... 1,808,595 4,592,930 ------------ ------------ Property and equipment, at cost: Technical equipment......................................... 254,200 254,200 Office equipment and other.................................. 89,220 89,220 Demonstration equipment..................................... 38,664 38,664 ------------ ------------ 382,084 382,084 Less accumulated depreciation............................... (160,498) (213,344) ------------ ------------ 221,586 168,740 Deposits......................................................... 303,793 303,793 ------------ ------------ Total assets........................................... $ 2,333,974 $ 5,065,463 ============ ============ LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Accounts payable and accrued expenses....................... $ 46,521 $ 131,118 Other....................................................... 20,716 20,174 ------------ ------------ Total current liabilities.............................. 67,237 151,292 Loan from officer................................................ 240,000 -- Deferred rent and other.......................................... 35,967 15,795 ------------ ------------ Total liabilities...................................... 343,204 167,087 ------------ ------------ Commitments and contingencies Stockholders' equity: Preferred stock, $0.001 par value, 10,000,000 shares authorized; 4,000,000 shares designated as 5% Delayed Convertible Preferred Stock; none issued or outstanding... -- -- Common stock, $0.001 par value; 50,000,000 shares authorized; 9,305,960 and 10,300,391 shares issued and outstanding as of December 31, 1995 and 1996, respectively.............................................. 9,306 10,300 Additional paid-in capital.................................. 18,006,729 23,423,936 Deficit accumulated during the development stage............ (15,705,265) (18,535,860) Deferred compensation on stock options granted.............. (320,000) -- ------------ ------------ Total stockholders' equity............................. 1,990,770 4,898,376 ------------ ------------ Total liabilities and stockholders' equity............. $ 2,333,974 $ 5,065,463 ============ ============
The accompanying notes are an integral part of these consolidated financial statements. F-3 CD RADIO INC. AND SUBSIDIARY (A DEVELOPMENT STAGE ENTERPRISE) CONSOLIDATED STATEMENTS OF OPERATIONS
CUMULATIVE FOR THE PERIOD MAY 16, 1986 FOR THE YEARS ENDED DECEMBER 31, (DATE OF INCEPTION) ----------------------------------------- TO DECEMBER 31, 1994 1995 1996 1996 ----------- ----------- ----------- ------------------- Revenue................................ $ -- $ -- $ -- $ -- Expenses: Legal, consulting and regulatory fees............................ 1,245,472 1,045,562 1,582,091 7,248,964 Other general and administrative.................. 2,455,393 1,062,343 1,230,748 7,532,763 Research and development.......... 374,668 122,210 117,299 1,916,355 Write-off of investment in Sky-Highway Radio Corp. ........ -- -- -- 2,000,000 ----------- ----------- ----------- ------------- Total expenses............... 4,075,533 2,230,115 2,930,138 18,698,082 ----------- ----------- ----------- ------------- Other income (expense) Interest income................... 50,921 142,549 112,811 328,672 Interest expense.................. (40,155) (19,783) (13,268) (166,450) ----------- ----------- ----------- ------------- 10,766 122,766 99,543 162,222 ----------- ----------- ----------- ------------- Net loss............................... $(4,064,767) $(2,107,349) $(2,830,595) $ (18,535,860) =========== =========== =========== ============= Net loss per common share.............. $ (0.48) $ (0.23) $ (0.29) =========== =========== =========== Weighted average common shares outstanding.......................... 8,397,668 9,224,431 9,642,048 =========== =========== ===========
The accompanying notes are an integral part of these consolidated financial statements. F-4 CD RADIO INC. AND SUBSIDIARY (A DEVELOPMENT STATE ENTERPRISE) CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
COMMON STOCK ---------------------------------------------------------------------------- CLASS A CLASS A CLASS B CLASS B SHARES AMOUNT SHARES AMOUNT SHARES AMOUNT ---------- ----------- ---------- --------- ---------- ----------- Initial Sale of no par value common stock, $5.00 per share, May 17, 1990.............. 11,080 $ 55,400 -- $ -- -- $ -- Initial issuance of common stock in satisfaction of due to related party, $5.00 per share.................................. 28,920 144,600 -- -- -- -- Conversion of no par value common stock to Class A and Class B no par value common stock...................................... (40,000) (200,000) 2,000,000 169,492 360,000 30,580 Sale of Class B common stock, $0.4165 per share...................................... -- -- -- -- 442,000 184,101 Issuance of Class B common stock in satisfaction of due to related party, $0.4165 per share.......................... -- -- -- -- 24,000 10,000 Net loss..................................... -- -- -- -- -- -- ---------- ----------- ---------- --------- ---------- ----------- Balance, December 31, 1990................... -- -- 2,000,000 169,492 826,000 224,609 Sale of Class B common stock, $0.50 per share...................................... -- -- -- -- 610,000 305,000 Issuance of Class B common stock in satisfaction of due to related party, $0.50 per share.................................. -- -- -- -- 300,000 150,000 Net Loss..................................... -- -- -- -- -- -- ---------- ----------- ---------- --------- ---------- ----------- Balance, December 31, 1991................... -- -- 2,000,000 169,492 1,736,000 679,609 Sale of Class B common stock, $0.50 per share...................................... -- -- -- -- 200,000 100,000 Issuance of Class B common stock in satisfaction of due to related party, $0.50 per share.................................. -- -- -- -- 209,580 104,790 Conversion of note payable to related party to Class B common stock, $0.4165........... -- -- -- -- 303,440 126,380 Conversion of Class A and Class B common stock to no par value common stock......... 4,449,020 1,180,271 (2,000,000) (169,492) (2,449,020) (1,010,779) Sale of no par value common stock, $1.25 per share...................................... 1,600,000 2,000,000 -- -- -- -- Conversion of no par value common stock to $.001 par value common stock............... -- (3,174,222) -- -- -- -- Sale of $.001 par value common stock, $5.00 per share.................................. 315,000 315 -- -- -- -- Net loss..................................... -- -- -- -- -- -- ---------- ----------- ---------- --------- ---------- ----------- Balance, December 31, 1992................... 6,364,020 $ 6,364 -- $ -- -- $ -- DEFICIT ACCUMULATED DEFERRED ADDITIONAL DURING THE COMPENSATION PAID-IN DEVELOPMENT ON STOCK CAPITAL STAGE OPTIONS GRANTED TOTAL ------------ ------------ --------------- --------------- Initial Sale of no par value common stock, $5.00 per share, May 17, 1990.............. $ -- $ -- $ -- $ 55,400 Initial issuance of common stock in satisfaction of due to related party, $5.00 per share.................................. -- -- -- 144,600 Conversion of no par value common stock to Class A and Class B no par value common stock...................................... -- -- -- -- Sale of Class B common stock, $0.4165 per share...................................... -- -- -- 184,101 Issuance of Class B common stock in satisfaction of due to related party, $0.4165 per share.......................... -- -- -- 10,000 Net loss..................................... -- (838,911) -- (838,911) ------------ ------------ --------------- --------------- Balance, December 31, 1990................... -- (838,911) -- (444,810) Sale of Class B common stock, $0.50 per share...................................... -- -- -- 305,000 Issuance of Class B common stock in satisfaction of due to related party, $0.50 per share.................................. -- -- -- 150,000 Net Loss..................................... -- (574,963) -- (574,963) ------------ ------------ --------------- --------------- Balance, December 31, 1991................... -- (1,413,874) -- (564,773) Sale of Class B common stock, $0.50 per share...................................... -- -- -- 100,000 Issuance of Class B common stock in satisfaction of due to related party, $0.50 per share.................................. -- -- -- 104,790 Conversion of note payable to related party to Class B common stock, $0.4165........... -- -- -- 126,380 Conversion of Class A and Class B common stock to no par value common stock......... -- -- -- -- Sale of no par value common stock, $1.25 per share...................................... -- -- -- 2,000,000 Conversion of no par value common stock to $.001 par value common stock............... 3,174,222 -- -- -- Sale of $.001 par value common stock, $5.00 per share.................................. 1,574,685 -- -- 1,575,000 Net loss..................................... -- (1,550,802) -- (1,550,802) ------------ ------------ --------------- --------------- Balance, December 31, 1992................... $ 4,748,907 $ (2,964,676) $ -- $ 1,790,595
(table continues on following page) The accompanying notes are an integral part of the consolidated statements. F-5 CD RADIO INC. AND SUBSIDIARY (A DEVELOPMENT STATE ENTERPRISE) CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY -- (CONTINUED)
COMMON STOCK ---------------------------------------------------------------------------- CLASS A CLASS A CLASS B CLASS B SHARES AMOUNT SHARES AMOUNT SHARES AMOUNT ---------- ----------- ---------- --------- ---------- ----------- Sale of $.001 par value common stock, $5.00 per share, net of commissions.............. 1,029,000 $ 1,029 -- $ -- -- $ -- Compensation expense in connection with issuance of stock options.................. -- -- -- -- -- -- Common stock issued in connection with conversion of note payable at $5.00 per share...................................... 60,000 60 -- -- -- -- Common stock issued in satisfaction of commissions payable, $5.00 per share....... 4,000 4 -- -- -- -- Net loss..................................... -- -- -- -- -- -- ---------- ----------- ---------- --------- ---------- ----------- Balance, December 31, 1993................... 7,457,020 7,457 -- -- -- -- Sales of $.001 par value common stock, $5.00 per share, net of commissions.............. 250,000 250 -- -- -- -- Initial public offering of Units, consisting of two shares of $.001 par value common stock and one warrant, $10.00 per Unit, net expenses................................... 1,491,940 1,492 -- -- -- -- Deferred compensation on stock options granted.................................... -- -- -- -- -- -- Forfeiture of stock options by Company officer.................................... -- -- -- -- -- -- Compensation expense in connection with issuance of stock options.................. -- -- -- -- -- -- Amortization of deferred compensation........ -- -- -- -- -- -- Net loss..................................... -- -- -- -- -- -- ---------- ----------- ---------- --------- ---------- ----------- Balance, December 31, 1994................... 9,198,960 9,199 -- -- -- -- Common stock issued for services rendered, between $3.028 and $3,916 per share........ 107,000 107 -- -- -- -- Amortization of deferred compensation........ -- -- -- -- -- -- Net loss..................................... -- -- -- -- -- -- ---------- ----------- ---------- --------- ---------- ----------- Balance, December 31, 1995................... 9,305,960 9,306 -- -- -- -- Exercise of stock warrants at $6.00 per share...................................... 791,931 792 -- -- -- -- Exercise of stock options by Company officers, between $1.00 and $5.00 per share...................................... 135,000 135 -- -- -- -- Common stock issued for services rendered, between $5.76 and $12.26 per share......... 67,500 67 -- -- -- -- Common stock options granted for services rendered, to purchase 60,000 shares at $4.50 a share.............................. -- -- -- -- -- -- Amortization of deferred compensation........ -- -- -- -- -- -- Net loss..................................... -- -- -- -- -- -- ---------- ----------- ---------- --------- ---------- ----------- Balance, December 31, 1996................... 10,300,391 $ 10,300 -- $ -- -- $ -- ========== =========== ========== ========= ========== =========== DEFICIT ACCUMULATED DEFERRED ADDITIONAL DURING THE COMPENSATION PAID-IN DEVELOPMENT ON STOCK CAPITAL STAGE OPTIONS GRANTED TOTAL ------------ ------------ --------------- --------------- Sale of $.001 par value common stock, $5.00 per share, net of commissions.............. $ 4,882,163 $ -- $ -- $ 4,883,192 Compensation expense in connection with issuance of stock options.................. 80,000 -- -- 80,000 Common stock issued in connection with conversion of note payable at $5.00 per share...................................... 299,940 -- -- 300,000 Common stock issued in satisfaction of commissions payable, $5.00 per share....... 19,996 -- -- 20,000 Net loss..................................... -- (6,568,473) -- (6,568,473) ------------ ------------ ----------- ------------- Balance, December 31, 1993................... 10,031,006 (9,533,149) -- 505,314 Sales of $.001 par value common stock, $5.00 per share, net of commissions.............. 1,159,125 -- -- 1,159,375 Initial public offering of Units, consisting of two shares of $.001 par value common stock and one warrant, $10.00 per Unit, net expenses................................... 4,833,922 -- -- 4,835,414 Deferred compensation on stock options granted.................................... 1,730,000 -- (1,730,000) -- Forfeiture of stock options by Company officer.................................... (207,000) -- 207,000 -- Compensation expense in connection with issuance of stock options.................. 112,500 -- -- 112,500 Amortization of deferred compensation........ -- -- 883,000 883,000 Net loss..................................... -- (4,064,767) -- (4,064,767) ------------ ------------ ----------- ------------- Balance, December 31, 1994................... 17,659,553 (13,597,916) (640,000) 3,430,836 Common stock issued for services rendered, between $3.028 and $3,916 per share........ 347,176 -- -- 347,283 Amortization of deferred compensation........ -- -- 320,000 320,000 Net loss..................................... -- (2,107,349) -- (2,107,349) ------------ ------------ ----------- ------------- Balance, December 31, 1995................... 18,006,729 (15,705,265) (320,000) 1,990,770 Exercise of stock warrants at $6.00 per share...................................... 4,588,296 -- -- 4,589,088 Exercise of stock options by Company officers, between $1.00 and $5.00 per share...................................... 154,865 -- -- 155,000 Common stock issued for services rendered, between $5.76 and $12.26 per share......... 554,226 -- -- 554,293 Common stock options granted for services rendered, to purchase 60,000 shares at $4.50 a share.............................. 119,820 -- -- 119,820 Amortization of deferred compensation........ -- -- 320,000 320,000 Net loss..................................... -- (2,830,595) -- (2,830,595) ------------ ------------ ----------- ------------- Balance, December 31, 1996................... $ 23,423,936 $(18,535,860) $ -- $ 4,898,376 ============ ============ =========== =============
The accompanying notes are an integral part of the consolidated statements. F-6 CD RADIO INC. AND SUBSIDIARY (A DEVELOPMENT STAGE ENTERPRISE) CONSOLIDATED STATEMENTS OF CASH FLOWS
CUMULATIVE FOR THE PERIOD MAY 16, 1986 FOR THE YEARS ENDED DECEMBER 31, (DATE OF INCEPTION) ----------------------------------------- TO DECEMBER 31, 1994 1995 1996 1996 ----------- ----------- ----------- ------------------- Cash flows from development stage activities: Deficit accumulated during the development stage.......................................... $(4,064,767) $(2,107,349) $(2,830,595) $ (18,535,860) Adjustments to reconcile deficit accumulated during the development stage to net cash used in development stage activities: Depreciation expense........................... 48,847 57,593 52,846 224,043 Write off of investment in Sky-Highway Radio Corp. ....................................... -- -- -- 2,000,000 Compensation expense in connection with issuance of stock options.................... 995,500 320,000 320,000 1,715,500 Common stock issued for services rendered...... -- 347,283 554,293 901,576 Common stock options granted for services rendered..................................... -- -- 119,820 119,820 Increase (decrease) in cash and cash equivalents resulting from changes in assets and liabilities: Prepaid expense and other...................... 56,806 (7,465) (587) (9,368) Due to related party........................... -- -- -- 350,531 Deposits....................................... 41,456 -- -- (303,793) Accounts payable and accrued expenses.......... (13,773) (189,755) 84,597 206,357 Accrued executive compensation................. (378,000) -- -- -- Other liabilities.............................. (266,203) (6,930) (20,714) 35,969 ----------- ----------- ----------- ------------- Net cash used in development stage activities................................. (3,580,134) (1,586,623) (1,720,340) (13,295,225) ----------- ----------- ----------- ------------- Cash flows from investing activities: Capital expenditures............................. (22,228) (13,824) -- (392,783) Acquisition of Sky-Highway Radio Corp............ -- -- -- (2,000,000) ----------- ----------- ----------- ------------- Net cash used in investing activities........ (22,228) (13,824) -- (2,392,783) ----------- ----------- ----------- ------------- Cash flows from financing activities: Proceeds from issuance of Units and common stock, net............................................ 5,434,789 -- -- 14,557,482 Proceeds from exercise of stock options by company officers............................... -- -- 155,000 155,000 Proceeds from exercise of stock warrants......... -- -- 4,589,088 4,589,088 Proceeds from issuance of promissory note........ 200,000 -- -- 200,000 Proceeds from issuance of promissory notes to related parties................................ 560,000 -- -- 2,965,000 Repayment of promissory note..................... (200,000) -- -- (200,000) Repayment of promissory notes to related parties........................................ (200,000) -- (240,000) (2,435,000) Loan from officer................................ 240,000 -- -- 440,000 Deferred offering costs.......................... 190,776 -- -- -- ----------- ----------- ----------- ------------- Net cash provided by financing activities.... 6,225,565 -- 4,504,088 20,271,570 ----------- ----------- ----------- ------------- Net increase (decrease) in cash and cash equivalents...................................... 2,623,203 (1,600,447) 2,783,748 4,583,562 Cash and cash equivalents at the beginning of period........................................... 777,058 3,400,261 1,799,814 -- ----------- ----------- ----------- ------------- Cash and cash equivalents at the end of period..... $ 3,400,261 $ 1,799,814 $ 4,583,562 $ 4,583,562 =========== =========== =========== ============= Supplemental disclosure of cash flow information: Cash paid during the period for interest......... $ 2,559 $ -- $ 42,666 $ 82,729 =========== =========== =========== ============= Supplemental disclosure of non-cash financing activities: Common stock issued in satisfaction of notes payable to related parties, including accrued interest....................................... $ 572,072 $ -- $ -- $ 998,452 =========== =========== =========== ============= Common stock issued in satisfaction of due to related parties including accrued interest..... $ -- $ -- $ -- $ 409,390 =========== =========== =========== =============
The accompanying notes are an integral part of these consolidated financial statements. F-7 CD RADIO INC. AND SUBSIDIARY (A DEVELOPMENT STAGE ENTERPRISE) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1. BUSINESS AND FINANCING Business CD Radio Inc. (the "Company") was originally incorporated in the State of Delaware on May 17, 1990, under the name Satellite CD Radio, Inc. On December 7, 1992, the Company changed its name to CD Radio Inc. The Company shortly thereafter formed a wholly-owned subsidiary, Satellite CD Radio, Inc. (SCDR) which is capitalized with nominal assets. On April 29, 1993, the Company acquired all of the outstanding shares of stock of Sky-Highway Radio Corp., a Colorado corporation ("SHRC"), and on December 23, 1994, SHRC was liquidated and dissolved. SCDR and SHRC were formed primarily to apply for certain Federal Communications Commission ("FCC") licenses. CD Radio Inc., SCDR, and SHRC are hereinafter collectively referred to as the "Company." The Company is a pioneer in the development of a service for broadcasting compact-disc-quality music programming via satellites to subscribers' motor vehicle radios, as well as to portable and home receivers. The Company intends to focus exclusively on providing a consumer service, and anticipates that the equipment required to receive its broadcasting will be manufactured by consumer electronics manufacturers and automakers. In October 1992, in response to a request from the Company, the FCC voted unanimously to propose the establishment of satellite digital audio radio service ("satellite radio"). At that time, the FCC established a December 15, 1992 cutoff date for FCC License applications. The Company has filed an application to utilize a portion of the frequency spectrum that was allocated for satellite radio by the FCC in January 1995. Subsequent to its acquisition of SHRC, the Company caused SHRC to withdraw its pending application. The Company is currently one of four remaining applicants which have the right to participate in the auction for spectrum scheduled for April 1, 1997. Auction of Spectrum On March 3, 1997, the FCC adopted satellite radio licensing rules (the "Licensing Rules") and implemented a spectrum plan that will accommodate only two national satellite radio licenses, both of which are scheduled to be auctioned to the Company and the other three applicants on April 1, 1997. There can be no assurance that the Company will be successful in obtaining one of the two licenses or that the cost of obtaining it would not be material to the Company's operations. Pursuant to the Licensing Rules, the auction is scheduled to be held among the four existing applicants on April 1, 1997. Prior to the commencement of the auction each applicant must deposit $3 million with the FCC. The minimum opening bid for each FCC License is $8 million. The bidding will continue until only two bidders remain. Within 10 business days following the announcement of winning bidders, each auction winner must deposit with the FCC twenty percent of its winning bid. The $3 million initial deposit is applied toward the twenty percent down payment. The winning bidders will also be required to supplement their applications on file with the FCC within 30 days after the close of bidding. After the FCC has confirmed receipt of each winning bidder's twenty percent payment and acceptance of each winning bidder's application, the FCC will accept petitions to deny the winning bidders' applications. If the FCC dismisses the petitions, the winning bidders will have 10 business days to submit the balance of their winning bids. Pursuant to the Licensing Rules, certain progress milestones would be required. Licensees would be required to begin satellite construction within one year; and to launch and begin operating their first satellite within four years and begin operating their entire system within six years. Failure to meet those milestones could result in revocation of the FCC License. F-8 CD RADIO INC. AND SUBSIDIARY (A DEVELOPMENT STAGE ENTERPRISE) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 1. BUSINESS AND FINANCING -- (CONTINUED) The Company is in the process of obtaining monetary commitments to allow it to be, in the opinion of management, competitive in the auction process. These commitments include subscriptions to purchase 5% Delayed Convertible Preferred Stock contingent upon the Company's success in the auction. Financing requirements In order to commence CD Radio service, the Company will require, among other things, an FCC License to construct, launch and operate its satellites (the "FCC License") and substantial funds, approximately $500 million or more, to finance construction of its satellite system, to plan and implement its service, to provide working capital and to sustain its operations until it generates positive cash flows from operations. The Company will participate in the auction for spectrum scheduled for April 1, 1997. As noted above, the minimum opening bid for each license will be $8 million. The Company has not commenced construction of its satellites and will require substantial additional financing before it is able to do so. Failure to obtain an FCC License and/or inability to attract the required long-term financing will prevent the Company from realizing its objective of providing satellite-delivered radio programming to vehicular radios. Management's plan to fund operations and capital expansion includes the additional sale of debt and equity securities through public and private sources. In absence of the FCC License, the Company believes that its working capital at December 31, 1996 is sufficient to fund planned operations through the first quarter of 1998. 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Basis of accounting The consolidated financial statements include the accounts of CD Radio Inc. and its wholly-owned subsidiaries, SCDR and SHRC (through the date of SHRC's dissolution, December 23, 1994). Intercompany transactions are eliminated in consolidation. The Company's activities to date principally have been planning and organization, the process of obtaining an FCC License, initiating research and development programs, conducting market research and securing adequate equity capital for the development of its proposed service. Accordingly, the Company's financial statements are presented as those of a development stage enterprise, as prescribed by Statement of Financial Accounting Standards No. 7, "Accounting and Reporting by Development Stage Enterprises". Use of estimates The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of expenses during the reported period. The estimates involve judgments with respect to, among other things, various future factors which are difficult to predict and are beyond the control of the Company. Therefore, actual amounts could differ from these estimates. Depreciation Depreciation of office equipment is computed on the straight-line method over three to five years based upon estimated useful lives. Depreciation of technical equipment, primarily satellite communications equipment, is computed on the straight-line method based on an estimated useful life of ten years. Depreciation of demonstration equipment, primarily an automobile used in a prototype system, is computed on the straight-line method based on an estimated useful life of four years. F-9 CD RADIO INC. AND SUBSIDIARY (A DEVELOPMENT STAGE ENTERPRISE) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES -- (CONTINUED) Cash equivalents The Company considers all highly liquid instruments purchased with an original maturity of three months or less to be cash equivalents. Concentration of credit risk The Company has invested its excess cash in a money market fund with a major bank. These investments are collateralized by the underlying assets of the fund. The fund invests in government securities or short-term interest or dividend-bearing investment-grade securities. The Company has not experienced any losses on its investments. Income taxes Deferred income taxes are recognized for the tax consequences in future years of differences between the tax bases of assets and liabilities and their financial reporting amounts at each year-end, based on enacted tax laws and statutory tax rates applicable to the periods in which the differences are expected to affect taxable income. Valuation allowances are established when necessary to reduce deferred tax assets to the amount expected to be realized. Income tax expense is the sum of tax payable for the period and the change during the period in deferred tax assets and liabilities. Net loss per share Net loss per common share is based on the weighted average number of common shares and dilutive common share equivalents outstanding during the periods. Options and warrants granted by the Company have not been included in the calculation of net loss per share because such items were anti-dilutive. In February 1997, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 128, "Earnings Per Share" (FAS 128) to improve the EPS information provided in financial statements. FAS 128 simplifies the existing computational guidelines of Accounting Principles Board Opinion No. 15, "Earnings Per Share," revises the disclosure requirements, and increases the comparability of earnings per share (EPS) data on an international basis. To simplify the EPS computations, the presentation of primary EPS is eliminated and replaced with basic EPS, with the principal difference being that common stock equivalents are not considered in computing basic EPS. In addition, FAS 128 requires dual presentation of basic and diluted EPS regardless of whether they are same. FAS 128 is effective for financial statements issued for periods ending after December 15, 1997. As long as the Company continues to experience net losses, there will be no impact to its net loss per share computation since its common stock equivalents are anti-dilutive and are already not considered in computing loss per share, as noted above. 3. CAPITAL STOCK Preferred stock The Board of Directors has the authority to issue shares of preferred stock and fix the terms thereof, without any further vote or action by the stockholders of the Company. In October 1996, in connection with the execution of the Preferred Stock Investment Agreement, the Board of Directors authorized the designation of 5% Delayed Convertible Preferred Stock (the "5% Preferred"). The rights and performance of the 5% Preferred include: (a) cumulative dividends at the rate of $1.25 per share per annum, payable semi-annually, when and as declared by the Board of Directors; (b) liquidation preference equal to issuance price F-10 CD RADIO INC. AND SUBSIDIARY (A DEVELOPMENT STAGE ENTERPRISE) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 3. CAPITAL STOCK -- (CONTINUED) plus any accrued but unpaid dividends; (c) certain redemption and lock-up rights granted to the Company; and (d) certain conversion and registration rights granted to the holders of 5% Preferred. Warrants In connection with the Company's initial public offering and the partial exercise of the underwriters' over-allotment option, the Company issued warrants to purchase 745,970 shares of the Company's Common Stock. Additionally, the Company issued to the underwriters as consideration warrants to purchase 123,560 shares of the Company's Common Stock. Each warrant originally entitled the holder to purchase one share of Common Stock at a purchase price of $5.00 per share until March 20, 1995 and at a purchase price of $6.00 per share during the six-month period thereafter. In September 1995, the Company extended the expiration date of the warrants to March 20, 1996, at a purchase price of $6.00 per share. Then, in March 1996, the Company extended the expiration date of these warrants to September 20, 1996 at a purchase price of $6.00 per share. In September 1996 the Company received proceeds of $4,589,088 relating to the exercise of 864,848 warrants. The remaining 4,682 warrants expired unexercised. Of the warrants exercised, 764,848 shares of common stock were issued in exchange for cash and 27,083 shares of common stock were issued in a cashless exercise of 100,000 warrants held by the underwriters. Stock options and bonuses Under an amended and restated employment agreement effective June 2, 1992, the Company, on July 30, 1993, granted an officer options to purchase 20,000 shares of the Company's Common Stock at $1.00 per share, exercisable for 7 years from date of grant. This officer also transferred to the Company, for nominal consideration, his rights in connection with certain patent applications. Additionally, on December 23, 1994, in accordance with this agreement, the Company granted this officer options to purchase 112,500 shares of its Common Stock under the terms of the 1994 Stock Option Plan at an exercise price of $1.00 per share, as a result of the completion of a certain specified milestone. The Company has recorded salary expense and additional paid-in-capital in the amount of $112,500, reflecting the difference between the fair market value per share of Common Stock at the measurement date and the exercise price. These options were immediately vested and exercisable. In 1996 this officer was granted options to purchase an additional 60,000 shares of Common Stock under the terms of the 1994 Stock Option Plan at an exercise price of $8.5625. The options granted in 1996 vest based on certain milestones which were not met as of December 31, 1996. If this officer is terminated for any reason other than cause, as defined in the agreement, the Company is obligated to pay to this officer an amount equal to 50% of his annual salary and, at this officer's option, to repurchase all of his shares of Common Stock at a price of $1.25 per share. In 1996, this officer exercised options to purchase 80,000 shares of the Company's Common Stock. During 1996, options to purchase 400,000 shares of common stock at $8.5625 per share were granted to the Company's Chairman and Chief Executive Officer. These options vest based on a certain milestone which was not met as of December 31, 1996. In October 1992, the Company entered into a financial consulting services agreement with a financial advisory firm. Pursuant to this agreement, the Company has granted the investment advisory firm an option to purchase 260,000 shares of the Company's Common Stock at $6.25 per share as follows -- 60,000 shares upon execution of the agreement and four 50,000 share increments upon the successful completion of equity and/or debt financing of certain specified amounts during the term of the agreement and for a period of two years following termination of the agreement by the Company. Each option expires three years from the date such option becomes exercisable. As of December 31, 1996 under this agreement, 60,000 options for shares had expired unexercised and none of the remaining options were exercisable. Additionally, the agreement provides, F-11 CD RADIO INC. AND SUBSIDIARY (A DEVELOPMENT STAGE ENTERPRISE) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 3. CAPITAL STOCK -- (CONTINUED) among other things, for the payment in cash to this firm of fees equal to (i) two percent (2%) of the gross proceeds from each equity financing after December 15, 1992 and (ii) one percent (1%) of the gross proceeds from each debt financing, during the term of the agreement and for a period of two years following termination of the agreement by the Company. In 1995, the Company adopted the 1995 Stock Compensation Plan ("Compensation Plan") from which up to 175,000 shares of the Company's Common Stock could be issued in lieu of cash compensation to employees and or consultants. During 1995 and 1996, respectively, 95,000 and 67,500 shares of the Company's Common Stock were issued pursuant to this Compensation Plan. Stock option plans In February 1994, the Company adopted its 1994 Stock Option Plan (the "1994 Plan") and its 1994 Directors' Nonqualified Stock Option Plan (the "Directors' Plan"). Options granted under the 1994 Plan generally vest over a four-year period and generally are exercisable for a period of ten years from the date of grant. In 1996, the Board of Directors voted to increase the number of shares of Common Stock available for issuance pursuant to the 1994 Plan and the Directors' Plan by 350,000 shares. As of December 31, 1996 there are an aggregate of 1,600,000 shares of Common Stock authorized for issuance. A summary of option activity under the 1994 Plan, the Directors' Plan, and of all other option activity follows:
1994 PLAN DIRECTORS' PLAN OTHER ---------------------- ---------------------- ---------------------- WEIGHTED WEIGHTED WEIGHTED AVERAGE AVERAGE AVERAGE EXERCISE EXERCISE EXERCISE OPTION PRICE PER OPTION PRICE PER OPTION PRICE PER SHARES SHARE SHARES SHARE SHARES SHARE --------- --------- --------- --------- --------- --------- Outstanding at January 1, 1994........... -- -- 410,000 $4.33 --------- --------- --------- Granted................................ 707,500 $3.81 15,000 $ 5.00 -- Exercised.............................. -- -- Cancelled.............................. (90,000) $5.00 -- -- --------- --------- --------- Outstanding at December 31, 1994......... 617,500 $3.63 15,000 $ 5.00 410,000 $4.33 --------- --------- --------- Granted................................ -- 110,000 $ 3.11 -- Exercised.............................. -- -- -- Cancelled.............................. -- -- (60,000) $6.25 --------- --------- --------- Outstanding at December 31, 1995......... 617,500 $3.63 125,000 $ 3.34 350,000 $4.00 --------- --------- --------- Granted................................ 545,000 $8.10 40,000 $ 6.875 -- Exercised.............................. (80,000) $1.00 -- (55,000) $1.36 Cancelled.............................. -- -- -- --------- --------- --------- Outstanding at December 31, 1996......... 1,082,500 $6.08 165,000 $ 4.20 295,000 $4.56 ========= ========= =========
1994 PLAN DIRECTORS' PLAN OTHER -------------- --------------- ------------ As of December 31, 1996: Range of exercise prices........................ $1.00-$8.5625 $2.125-$6.875 $1.00-$6.25 Weighted average remaining contractual life for options outstanding (years).................. 8.45 8.67 5.71
The weighted average fair value of options granted during 1995 and 1996 was $1.383 and $4.366, respectively. F-12 CD RADIO INC. AND SUBSIDIARY (A DEVELOPMENT STAGE ENTERPRISE) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 3. CAPITAL STOCK -- (CONTINUED) An aggregate of 272,500 shares of Common Stock remain available for grant pursuant to either the 1994 Plan or the Directors' Plan. The Company has reserved a total of 1,815,000 shares of Common Stock issuable upon the exercise of outstanding options and options available for issuance pursuant to the Company's stock option plans. As of December 31, 1996, 857,500 options were vested and exercisable. As a result of certain option grants in 1994 at exercise prices below fair market value, the Company recorded deferred compensation, which is reflected as a component of stockholders' equity on the balance sheets. Deferred compensation is being amortized over the vesting period of the related options. Deferred compensation related to options that were forfeited has been charged to additional paid-in capital. As of December 31, 1996 all deferred compensation relating to the 1994 issuance of stock options had been amortized. The Company has adopted the disclosure-only provisions of Statement of Financial Accounting Standards No. 123 (FAS 123) as they pertain to financial statement recognition of compensation expense attributable to option grants. If the Company had elected to recognize compensation cost for the option grants consistent with FAS 123, the Company's net loss and net loss per share on a pro-forma basis would have been.
1995 1996 ----------- ----------- Net loss -- as reported............................ $(2,107,349) $(2,830,595) Net loss -- pro-forma.............................. $(2,259,434) $(4,428,995) Net loss per share -- as reported.................. $ (0.23) $ (0.29) Net loss per share -- pro-forma.................... $ (0.24) $ (0.46)
The pro-forma expense related to the stock options is recognized over the vesting period, generally four years. The fair value of each option grant was estimated using the Black-Scholes option pricing model with the following weighted average assumptions for each year:
1995 1996 ------ ------ Risk-free interest rate...................................... 5.81% 6.00% Expected life of options -- years............................ 2.77 2.79 Expected stock price volatility.............................. 75% 75% Expected dividend yield...................................... N/A N/A
F-13 CD RADIO INC. AND SUBSIDIARY (A DEVELOPMENT STAGE ENTERPRISE) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 4. RELATED PARTIES Since inception, the Company has relied upon related parties for certain consulting, legal and management services. Total expenses incurred in transactions with related parties are as follows:
FOR THE PERIOD FOR THE YEARS ENDED MAY 17, 1990 DECEMBER 31, (DATE OF INCEPTION) -------------------------------- TO DECEMBER 31, 1994 1995 1996 1996 -------- -------- -------- ------------------- Consulting fees............... $ 47,772 $ 34,575 $187,820 $ 713,210 Legal fees.................... 171,523 74,761 70,582 727,550 Management fees............... -- -- -- 361,800 Interest expense.............. 25,361 19,783 13,268 113,474 Office space.................. -- -- -- 40,500 Patent and FCC fees........... -- -- -- 56,600 Other......................... -- -- -- 26,750 -------- -------- -------- ----------- $244,656 $129,119 $271,670 $ 2,039,884 ======== ======== ======== ===========
Of the $187,820 in consulting fee expenses for the year ended December 31, 1996, $119,820 relate to issuance of common stock options to a related party for consulting services performed for the Company. During the period May 17, 1990 (date of inception) to December 31, 1996, the Company issued Common Stock in lieu of cash in settlement of certain liabilities and expenses as follows:
FOR THE PERIOD FOR THE YEARS ENDED MAY 17, 1990 DECEMBER 31, (DATE OF INCEPTION) -------------------------------- TO DECEMBER 31, 1994 1995 1996 1996 -------- -------- -------- ------------------- Consulting fees............... $ -- $ 36,330 $ 32,550 $ 168,880 Legal fees.................... -- 310,953 521,743 1,028,227 Management fees............... -- -- -- 60,000 Interest expense.............. -- -- -- 14,259 Patent and FCC fees........... -- -- -- 39,600 -------- -------- -------- ----------- $ -- $347,283 $554,293 $ 1,310,966 ======== ======== ======== ===========
Liabilities settled through the issuance of Common Stock in lieu of cash are reflected in the statements of stockholders' equity. In April 1994, an officer loaned the Company $240,000 payable on April 1, 1995 and accruing simple interest at the rate of 8% per annum. This loan and accrued interest was repaid in 1996. If this officer is terminated for any reason other than cause, as defined in his amended employment and noncompetition agreement dated June 8, 1994, the Company is obligated to pay this officer $300,000 plus any and all amounts then owed to him by the Company. This officer waived his compensation for the fourth quarter of 1994. During the second quarter of 1994, a principal stockholder of the Company loaned the Company $560,000 payable on demand and accruing simple interest at the rate of 8% per annum. The principal balance F-14 CD RADIO INC. AND SUBSIDIARY (A DEVELOPMENT STAGE ENTERPRISE) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 4. RELATED PARTIES -- (CONTINUED) of this note and accrued interest thereon, totaling $572,000, was exchanged for 57,200 Units in connection with the Company's public offering. 5. INCOME TAXES The types of temporary differences between the tax bases of assets and liabilities and their financial reporting amounts that give rise to the deferred tax assets and deferred tax liability and are as follows:
DECEMBER 31, -------------------------- 1995 1996 ----------- ----------- Capitalized start-up costs......................... $ 4,312,000 $ 5,377,000 Net operating loss carryforwards................... 1,517,500 1,511,300 Deferred compensation.............................. 509,800 542,300 Accrual to cash adjustments........................ 38,400 60,500 ----------- ----------- 6,377,700 7,491,100 Valuation allowance................................ (6,377,700) (7,491,100) ----------- ----------- Net deferred tax asset............................. $ -- $ -- =========== ===========
Realization of the net deferred tax asset at the balance sheet date is dependent upon future earnings which are uncertain. Accordingly, a full valuation allowance was recorded against the asset. At December 31, 1996, the Company has net operating loss carryforwards of approximately $3,713,800 for federal and state income tax purposes available to offset future taxable income. The net operating loss carryforwards expire at various dates beginning 2005. There may be limitations on the annual utilization of these net operating losses as a result of certain changes in ownership that have occurred since the Company's inception. In addition, a significant portion of costs incurred have been capitalized for tax purposes as a result of the Company's status as a start-up enterprise. Once the Company begins it active trade or business, these capitalized costs will be amortized over 60 months. The total capitalized start-up costs of $5,546,000 include $169,000 which when realized would not affect financial statement income but will be recorded directly to shareholders' equity. 6. COMMITMENTS AND CONTINGENCIES Lease commitment In October 1992, the Company entered into a lease with an unaffiliated property management company for the office space that the Company previously subleased from a company controlled by a former director and executive officer of the Company. The lease term extends through October 1998. The lease provided for the abatement of rental payments for the first three months of each of the first two years of the lease term. Also, in addition to the base rental payments, the Company will pay a monthly allocation of the building's operating expenses. Minimum annual rental commitments under this lease are as follows for the year ended December 31: 1997.............................................................. $219,000 1998.............................................................. 176,000 -------- $395,000 ========
F-15 CD RADIO INC. AND SUBSIDIARY (A DEVELOPMENT STAGE ENTERPRISE) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 6. COMMITMENTS AND CONTINGENCIES -- (CONTINUED) Total rent expense for the years ended December 31, 1994, 1995 and 1996 and the period May 17, 1990 (date of inception) to December 31, 1996 was $325,798, $274,653, $301,765 and $1,205,008, respectively. Satellite construction The Company has entered into an agreement (the "Construction Contract") with Space Systems/Loral pursuant to which Space Systems/Loral has agreed to construct two satellites and, at the Company's option, a third satellite in accordance with stipulated specifications. The Company has extended the Construction Contract on a monthly basis through April 30, 1997 while it negotiates with Space Systems/Loral to amend the contract's technical specifications, pricing and delivery terms. The Company may negotiate with Space Systems/Loral to extend the Construction Contract further or it may permit the contract to expire. The Company believes it will be able to negotiate a favorable contract with Space Systems/Loral for the construction of the satellites, although there can be no assurance that the Company will be able to do so. An initial payment of $100,000 was made by the Company at the time the contract was signed, which is included in Deposits on the balance sheets as of December 31, 1995 and 1996. Launch services The Company has reserved two launch slots with Arianespace during the period extending from November 1, 1999 through April 30, 2000. If the Company's satellites are not available for launch during this period, the Company will arrange to launch the satellites on the first launch dates available after the satellites are completed. In order to maintain its launch slots, the Company will need to enter into a definitive agreement with Arianespace by May 31, 1997, providing for the launch of its satellites. The final terms and conditions of any launch agreement are subject to negotiations between the Company and Arianespace. Satellite launches are subject to significant risks, including satellite destruction or damage during launch or failure to achieve proper orbital placement. In connection with this agreement, the Company paid a non- refundable launch date reservation fee of $100,000. This amount, which is included in Deposits on the balance sheets as of December 31, 1995 and 1996 will be credited against the cost of the launch services. F-16 ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE None. PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT The following table sets forth certain information as to the executive officers and directors of the Company.
NAME AGE POSITION -------------------------------- --- ----------------------------------------------------- David Margolese................. 39 Chairman, Chief Executive Officer and Director Robert D. Briskman.............. 64 Vice President, Chief Technical Officer and Director Lawrence F. Gilberti............ 46 Director and Secretary Peter K. Pitsch................. 45 Director Jack Z. Rubinstein.............. 48 Director Ralph V. Whitworth.............. 41 Director
All directors hold office until the next annual meeting of stockholders and the election and qualification of their successors. Officers are elected by the Board of Directors and serve at the discretion of the Board. DAVID MARGOLESE. Mr. Margolese was elected Chief Executive Officer of the Company in November 1992 and Chairman in August 1993 and has served as a director since August 1991. Prior to his involvement with the Company, Mr. Margolese was a founder of Cantel Inc., Canada's national cellular telephone company, and of Canadian Telecom Inc., a radio paging company, serving as that company's President until its sale in 1987. From 1987 until August 1991, Mr. Margolese was a private investor. In 1991, Mr. Margolese founded a consortium with AT&T and Hutchison Telecommunications Ltd. to bid for Israel's national cellular telephone license and served as Chairman of this consortium until June 1993. ROBERT D. BRISKMAN. Mr. Briskman has served as a director, Vice President and Chief Technical Officer of the Company since October 1991 and as President of Satellite CD Radio, Inc., a subsidiary of the Company, since September 1994. In addition, Mr. Briskman served as Chief Executive Officer from April to November 1992. From March 1991 to June 1992, Mr. Briskman was President of Telecommunications Engineering Consultants, which provided engineering and consulting services to the Company. From March 1986 to March 1991, Mr. Briskman was Senior Vice President, Engineering and Operations at Geostar Corp., responsible for the development, design, implementation and operation of a nationwide satellite message communication service. Prior to 1986, Mr. Briskman held senior management positions at Communications Satellite Corporation ("COMSAT"), where he was employed for over 20 years. Prior to joining COMSAT, Mr. Briskman was a communications specialist with IBM and NASA. Mr. Briskman holds a bachelors degree in engineering from Princeton and a masters degree in electrical engineering from the University of Maryland. He has published over 40 technical papers, holds a number of U.S. patents, and is a Fellow of the Institute of Electrical and Electronics Engineers and the American Institute of Aeronautics and Astronautics. LAWRENCE F. GILBERTI. Mr. Gilberti was elected Secretary of the Company in November 1992 and has served as a director since September 1993. In addition, since December 1992, he has been the Secretary and sole director of, and from December 1992 to September 1994 the President of, Satellite CD Radio, Inc. From 1985 to August 1994, Mr. Gilberti was an attorney with the law firm of Goodman Phillips & Vineberg. Mr. Gilberti is a partner in the law firm of Fischbein Badillo Wagner Harding and has provided legal services to the Company since 1992. He holds a bachelors degree from Princeton University and a law degree from New York University. 26 PETER K. PITSCH. Mr. Pitsch became a director of the Company in January 1995. Since September 1989, Mr. Pitsch has been the principal of Pitsch Communications, a telecommunications law and economic consulting firm that has rendered legal services to the Company since 1991. From April 1987 to August 1989, he served as Chief of Staff at the Federal Communications Commission. From November 1981 to April 1987, he served as Chief of the Office of Plans and Policy at the Federal Communications Commission. He is an adjunct fellow at the Hudson Institute. Mr. Pitsch holds a bachelor's degree from the University of Chicago and a law degree from Georgetown University. JACK Z. RUBINSTEIN. Mr. Rubinstein became a director of the Company in January 1995. Since May 1991, Mr. Rubinstein has been the General Partner of Dica Partners, a Hartsdale, N.Y. based hedge fund. From September 1988 to October 1990, Mr. Rubinstein was a consultant to institutional clients at Morgan Stanley & Co. From February 1978 to September 1988, he was an Associate Director at Bear Stearns, Inc., responsible for corporate insider portfolio management. From December 1971 to November 1977, he was a securities analyst with Shearson Haydon Stone, Inc. covering the business services industry. Mr. Rubinstein holds a bachelor's degree from Cornell University and a Masters of Business Administration from New York University. RALPH V. WHITWORTH. Mr. Whitworth became a director of the Company in March 1994. Since 1988, he has been President of Whitworth and Associates, a Washington, D.C. based consulting firm. In January 1997, Mr. Whitworth became a partner of Batchelder & Partners, Inc., a financial advisory firm. Mr. Whitworth was President of United Shareholders Association from its founding in 1986 to 1993. From 1989 to 1992, he served as President of Development of United Thermal Corporation, the owner of the district heating systems for the cities of Baltimore, Philadelphia, Boston and St. Louis. Mr. Whitworth holds a bachelor's degree from the University of Nevada and a law degree from Georgetown University. SECTION 16(a) BENEFICIAL OWNERSHIP REPORTING COMPLIANCE. Section 16(a) of the Securities Exchange Act of 1934, as amended, requires the Company's officers, directors and 10 percent shareholders to file reports of ownership and changes in ownership with the SEC. Officers, directors and 10 percent shareholders are required by SEC regulations to furnish the Company with all Section 16(a) reports they file. Based on the Company's review of such reports the Company received and written representations from the Company's officers and directors, the Company believes that all required reports were timely filed in fiscal 1996. 27 ITEM 11. EXECUTIVE COMPENSATION The following table sets forth the compensation for services rendered during the three-year period ending December 31, 1996 for the executive officers of the Company whose 1996 salary and bonus exceeded $100,000. SUMMARY COMPENSATION TABLE
LONG-TERM COMPENSATION ANNUAL COMPENSATION AWARDS ------------------------------------- ------------ OTHER SECURITIES FISCAL ANNUAL UNDERLYING NAME AND PRINCIPAL POSITION YEAR SALARY BONUS COMPENSATION OPTIONS - ------------------------------------- ------ -------- ------- ------------ ------------ David Margolese...................... 1996 $ 95,833 $ -- $ -- 400,000 Chairman of the Board 1995 $100,000 $ -- $ -- -- and Chief Executive Officer 1994 $122,000(1) $ -- $ 26,052(2) 300,000 Robert D. Briskman................... 1996 $106,249 $20,000 $190,938 60,000 Vice President and 1995 $100,000 $ -- $ 1,340 -- Chief Technical Officer 1994 $122,000 $ -- $ -- 192,500
- --------------- (1) In October 1994, Mr. Margolese waived his base salary payable for the three month period ended December 31, 1994. (2) The Company reimbursed Mr. Margolese for the following expenses incurred in establishing residency in the United States: $18,521 for tax advice, $2,311 for moving expenses and $5,220 for real estate commissions. COMPENSATION OF DIRECTORS Commencing in 1994, directors of the Company who are not full time employees of the Company were entitled to receive a director's fee of $20,000 per year for serving on the Company's Board of Directors. In June 1994, all directors entitled to receive directors' fees agreed to forego any payments for their services as directors of the Company. Pursuant to the Company's 1994 Directors' Nonqualified Stock Option Plan (the "Directors' Plan"), each director who is not a full-time employee of the Company is entitled to an option to purchase 15,000 shares of Common Stock upon becoming a director (or upon the effective date of the plan in the case of non-employee directors who become directors prior to the effective date) and to an automatic annual grant of an option to purchase 10,000 shares of Common Stock. The exercise price for annual grants is fair market value of the Company's Common Stock on the date of grant. Prior to the implementation of the Directors' Plan, the Company from time to time granted options to certain non-employee directors. See "Management -- Employee and Director Stock Options." The Company reimburses each director for reasonable expenses incurred in attending meetings of the Board of Directors. The Company has retained Pitsch Communications to provide legal services to the Company for a monthly retainer of $5,000. The retainer may be terminated by either party at any time. The principal of Pitsch Communications, Peter K. Pitsch, is a director of the Company. The Company has retained Jack Z. Rubinstein to provide consulting services to the Company for a monthly retainer of $5,000. The retainer may be terminated by either party at any time. Jack Z. Rubinstein is a director of the Company. EMPLOYMENT AGREEMENTS The Company has entered into employment agreements with Messrs. Margolese and Briskman. Effective January 1, 1994, the Company entered into an employment agreement to employ David Margolese as Chairman and Chief Executive Officer of the Company for a term of five years. The agreement provided for an annual base salary of $300,000, subject to increase from time to time by the Board of Directors. An amendment to this agreement, dated as of June 8, 1994, provided for an annual base salary of 28 $100,000, effective June 8, 1994. Subsequently, Mr. Margolese waived his base salary payable for the three month period ended December 31, 1994. In January 1997, the Board of Directors increased Mr. Margolese's annual base salary to $150,000. Under the agreement, the Company granted to Mr. Margolese an option to purchase 300,000 shares of Common Stock at $5.00 per share, all of which are fully vested and exercisable. If Mr. Margolese is terminated without "cause," as defined in the agreement, or if Mr. Margolese resigns for "good reason," as defined in the agreement, the Company is obligated to pay to Mr. Margolese the sum of $300,000. In January 1994, Mr. Margolese was paid $162,000 for deferred salary earned in 1993 and $216,000 in recognition of his service without pay in 1992. The employment agreement restricts Mr. Margolese from engaging in any business involving the transmission of radio programming in North America for a period of two years after the termination of his employment. Effective January 1, 1994, the Company entered into an agreement to employ Robert Briskman as the Vice President and Chief Technical Officer of the Company. The agreement provided for an annual base salary of $150,000. An amendment to this agreement, dated as of June 8, 1994, provided for an annual base salary of $100,000, effective June 8, 1994. In October 1996, the Board of Directors increased Mr. Briskman's annual base salary to $150,000 and in January 1997, extended the term of the agreement until January 1, 1998. In addition, under the agreement the Company granted to Mr. Briskman an option to purchase 80,000 shares of Common Stock at $1.00 per share, all of which are fully vested and exercisable. The agreement also provides for the grant to Mr. Briskman of options to purchase 112,500 shares of Common Stock at $1.00 per share upon completion of certain milestones prior to December 31, 1994. Such options were granted to Mr. Briskman on December 23, 1994 and were fully vested and exercisable. In January 1996, Mr. Briskman exercised options to purchase 80,000 shares of the Company's Common Stock. If Mr. Briskman's employment is terminated for any reason other than "cause," as defined in the agreement, the Company is obligated to pay to Mr. Briskman a sum equal to 50% of his annual salary and, at Mr. Briskman's option, to repurchase all of the shares of Common Stock then owned by Mr. Briskman at a price of $1.25 per share. The Company has also entered into a proprietary information and non-competition agreement with Mr. Briskman. Under this agreement, Mr. Briskman may not (i) disclose any proprietary information of the Company during or after his employment with the Company or (ii) engage in any business directly competitive with any business of the Company in North America for a period of one year after termination of his employment. EMPLOYEE AND DIRECTOR STOCK OPTIONS AND STOCK GRANTS In February 1994, the Company adopted its 1994 Stock Option Plan (the "1994 Plan") and its Directors' Plan. The Director's Plan was amended by the Board of Directors in December 1994 and January 1995 and approved at the annual meeting of stockholders on June 27, 1995 to extend the exercise period of the option after termination for reason other than death or disability and to increase the initial option grants and annual option grants to non-employee directors. The 1994 Plan, as amended, provides for options to purchase Common Stock and is administered by the Plan Administrator, which may be either the Company's Board of Directors or a committee designated by the Board of Directors. In accordance with the 1994 Plan, the Plan Administrator determines the employees to whom options are granted, the number of shares subject to each option, the exercise price and the vesting schedule of each option. Options generally vest over a four-year period, but may vest over a different period at the discretion of the Plan Administrator. Under the 1994 Plan, outstanding options vest, unless they are assumed by an acquiring entity, upon the occurrence of certain transactions, including certain mergers and other business combinations involving the Company. Options granted under the 1994 Plan are exercisable for a period of 10 years from the date of grant, except that incentive stock options granted to persons who own more than 10% of the Common Stock terminate after five years. Vested options terminate 90 days after the optionee's termination of employment with the Company for any reason other than death or disability, and one year after termination upon death or disability. Unless otherwise determined by the Plan Administrator, the exercise price of options granted under the 1994 Plan must be equal to or greater than the fair market value of the Common Stock on the date of grant. Upon exercise, the aggregate exercise price may be paid to the Company (i) in cash, (ii) upon approval of the Plan Administrator, by delivering to the Company shares of 29 Common Stock previously held by such Optionee, or (iii) by complying with any other payment mechanism approved by the Plan Administrator from time to time. The Directors' Plan provides that current non-employee directors of the Company and persons who become non-employee directors of the Company shall be granted options to purchase 15,000 shares of Common Stock upon becoming directors (or upon the effective date of the Director's Plan in the case of non- employee directors who became directors prior to the effective date), and thereafter shall annually be granted options to purchase 10,000 shares of Common Stock on the first business day following the Company's annual meeting. The exercise price for annual grants fair market of the Company's Common Stock on the date of grant value. Options granted under the Directors' Plan vest immediately upon grant. Options granted under the Directors' Plan are exercisable for a period of 10 years from the date of grant. Options terminate 18 months after a director's termination as a director of the Company for any reason other than death or disability, and one year after termination upon death or disability. Upon exercise, the exercise price may be paid (i) in cash, (ii) in shares of Common Stock, or (iii) by the Company withholding that number of shares of Common Stock with a fair market value on the date of exercise equal to the aggregate exercise price of the option. In June 1995, the Company adopted its 1995 Stock Compensation Plan (the "Stock Compensation Plan"). Pursuant to the terms of the Stock Compensation Plan, all employees of the Company or a Related Company (as defined in the Stock Compensation Plan) are eligible to receive awards under the Stock Compensation Plan. Bonuses granted pursuant to the Stock Compensation Plan are made by a plan administrator. The plan administrator, in its absolute discretion, determines the employees to whom, and the time or times at which, Common Stock awards are granted, the number of shares within each award and all other terms and conditions of the awards. The terms, conditions and restrictions applicable to the awards made under the Stock Compensation Plan need not be the same for all recipients, nor for all awards. The plan administrator may grant to any officer of the Company the authority to make awards or otherwise administer the Stock Compensation Plan solely with respect to persons who are not subject to the reporting and liability provisions of Section 16 of the Exchange Act. In September 1996, the Stock Compensation Plan was amended to allow the plan to be administered by the entire Board of Directors, and if so authorized by the Board of Directors, a committee of at least two non-employee directors. Prior to this amendment, the plan permitted the administration only by a committee of the Board of Directors. The purpose of the amendment was to more readily comply with the new rules under Section 16 of the Securities Act of 1933, as amended, which changed the eligibility requirements for these committees. The new rules under Section 16 allow either the entire Board of Directors or a committee composed of two or more "non-employee" directors to act as Plan Administrator. Amending the Stock Compensation Plan provided more flexibility for the Company in the administration of the stock Compensation Plan. Awards under the Stock Compensation Plan may not exceed 175,000 shares of Common Stock in the aggregate, subject to certain adjustments. Shares awarded may be from authorized but unissued shares or from Company treasury shares of Common Stock. All shares of Common Stock received by employees pursuant to bonuses under the Stock Compensation Plan (except for shares received by executive officers or other persons who are subject to the reporting and liability provisions of Section 16 of the Exchange Act) are freely transferable. Nevertheless, the shares of Common Stock granted to recipients may be subject to such terms and conditions as the Committee, in its sole discretion, deems appropriate. During 1996, 67,500 shares of the Company's Common Stock were issued pursuant to this Compensation Plan. An aggregate of 1,600,000 shares of Common Stock were available for issuance pursuant to the 1994 Plan and the Directors' Plan. As of December 31, 1996, options to purchase an aggregate of 1,327,500 shares of Common Stock have been granted pursuant to the 1994 Plan and the Directors' Plan and there remains an aggregate of 272,500 shares of Common Stock available for grant pursuant to the 1994 Plan and the Directors Plan. As of December 31, 1996, 162,500 shares of Common Stock have been issued under the Stock Compensation Plan, and 12,500 shares of Common Stock remain available for issuance thereunder. 30 STOCK OPTION INFORMATION In April 1996, the Company granted to David Margolese pursuant to the 1994 Plan a stock option to purchase 400,000 shares of Common Stock which is exercisable upon the FCC's grant of a license to the Company. In April 1996, the Company also granted to Robert Briskman pursuant to the 1994 Plan a stock option to purchase 60,000 shares of Common Stock, 30,000 shares of which are exercisable upon the FCC's grant of a license to the Company and the remaining 30,000 shares of which are exercisable on September 18, 1997 if as of such date the FCC has granted a license to the Company and if Mr. Briskman is still employed by the Company. The following table sets forth certain information for the fiscal year ended December 31, 1996, with respect to options granted to the individuals named in the Summary Compensation table above. OPTION GRANTS IN LAST FISCAL YEAR
INDIVIDUAL GRANTS POTENTIAL REALIZABLE ------------------------------------------- VALUE AT ASSUMED ANNUAL PERCENT OF RATES OF STOCK PRICE NUMBER TOTAL APPRECIATION FOR STOCK OF OPTIONS GRANTED EXERCISE OR TERM OPTIONS TO EMPLOYEES IN BASE PRICE EXPIRATION ------------------------ NAME GRANTED FISCAL YEAR PER SHARE DATE 5% 10% - ------------------------- --------- --------------- ----------- ---------- ---------- ---------- David Margolese.......... 400,000 87% $8.5625 4/24/06 $2,398,624 $5,848,148 Robert Briskman.......... 60,000 13% $8.5625 4/24/06 $ 359,794 $ 877,222
The following table sets forth certain information with respect to the number of shares covered by both exercisable and unexercisable stock options held by the individuals named in the Summary Compensation table above as of the fiscal year ended December 31, 1996. Also reported are values for "in-the-money" stock options that represent the positive spread between the respective exercise prices of outstanding stock options and the fair market value of the Common Stock as of December 31, 1996 ($4.125 per share). AGGREGATED OPTION EXERCISES IN THE LAST FISCAL YEAR AND FISCAL YEAR-END OPTION VALUES
VALUE OF NUMBER OF UNEXERCISED SHARES UNEXERCISED OPTIONS IN-THE-MONEY OPTIONS ACQUIRED ON VALUE AT FISCAL YEAR END AT FISCAL YEAR END NAME EXERCISE REALIZED EXERCISABLE/UNEXERCISABLE EXERCISABLE/UNEXERCISABLE - ------------------------------ ----------- -------- ------------------------- ------------------------- David Margolese............... 0 $ 0 300,000/400,000 $0/$0 Robert Briskman............... 80,000 $202,500 132,500/60,000 $414,063/$0
LIABILITY AND INDEMNIFICATION OF OFFICERS AND DIRECTORS OF THE COMPANY As permitted by the Delaware General Corporation Law, the Company's Amended and Restated Certificate of Incorporation provides that directors of the Company shall not be personally liable to the Company or its stockholders for monetary damages for breach of fiduciary duty as a director, except for liability (i) for any breach of the director's duty of loyalty to the Company or its stockholders, (ii) for acts or omissions not in good faith or which involve intentional misconduct or a knowing violation of law, (iii) under Section 174 of the Delaware General Corporation Law or (iv) for any transaction from which the director derives an improper personal benefit. In addition, the Company's By-Laws provide that the Company shall indemnify all directors and officers and may indemnify employees and certain other persons to the full extent and in the manner permitted by Section 145 of the Delaware General Corporation Law, as amended from time-to-time. Insofar as indemnification for liabilities arising under the Securities Act may be permitted to directors, officers or persons controlling the Company pursuant to the foregoing provisions, the Company has been informed that, in the opinion of the Commission, such indemnification is against public policy as expressed in the Securities Act and, therefore, is unenforceable. 31 ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT The following table sets forth certain information regarding beneficial ownership of the Company's Common Stock as of March 12, 1997 of (i) each stockholder known by the Company to be the beneficial owner of more than 5% of the outstanding Common Stock, (ii) each director of the Company, (iii) each executive officer of the Company and (iv) all directors and officers as a group. Except as otherwise indicated, the Company believes that the beneficial owners of the Common Stock listed below, based on information furnished by such owners, have sole investment and voting power with respect to such shares, subject to community property laws where applicable.
NUMBER OF SHARES PERCENT OF TOTAL NAMES AND ADDRESS OF BENEFICIAL OWNER(1) BENEFICIALLY OWNED BENEFICIALLY OWNED ------------------------------------------------- ------------------ ------------------ Darlene Friedland................................ 2,834,500 27.5% 110 Wolseley Road Point Piper 2027 Sydney, Australia David Margolese (2).............................. 1,900,000 17.9% c/o CD Radio Inc. Sixth Floor 1001 22nd Street, N.W. Washington, D.C. 20037 Robert D. Briskman (3)........................... 132,500 1.3% Jack Z. Rubinstein (4)........................... 227,000 2.2% Peter K. Pitsch (5).............................. 70,000 * Lawrence F. Gilberti (6)......................... 35,000 * Ralph V. Whitworth (7)........................... 35,000 * All Executive Officers and Directors as a Group (6 persons) (8)................................ 2,399,500 21.7%
- --------------- * Less than 1% (1) This table is based upon information supplied by Directors, officers and principal stockholders. Percentage of ownership is based on 10,300,391 shares of Common Stock outstanding on March 12, 1997. Unless otherwise indicated, the address of the Beneficial Owner is the Company. (2) Includes 300,000 shares issuable pursuant to stock options that are exercisable within 60 days. Does not include 400,000 shares issuable pursuant to stock options that are not exercisable within 60 days of such date. (3) Includes 132,500 shares of Common Stock issuable pursuant to stock options exercisable within 60 days. Does not include 60,000 shares issuable pursuant to stock options that are not exercisable within 60 days of such date. (4) Includes 195,000 shares of Common Stock issuable pursuant to stock options exercisable within 60 days and 7,700 shares of Common Stock held in trust for his daughters. Excludes 40,000 shares held by DICA Partners of which Mr. Rubinstein is the General Partner. (5) Includes 35,000 shares of Common Stock issuable pursuant to stock options exercisable within 60 days. (6) Includes 35,000 shares of Common Stock issuable pursuant to stock options exercisable within 60 days. (7) Includes 35,000 shares of Common Stock issuable pursuant to stock options exercisable within 60 days. (8) Includes 732,500 shares of Common Stock issuable pursuant to stock options exercisable within 60 days. Does not include 460,000 shares issuable pursuant to options that are not exercisable within 60 days of such date. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS On June 27, 1995, the Company granted to Peter K. Pitsch pursuant to the 1994 Plan a stock option to purchase 25,000 shares of Common Stock at an exercise price of $2.875 per share in consideration of legal 32 services rendered to the Company. These options are exercisable for a period of 10 years from the date of grant and terminate 18 months after the termination for any reason of Mr. Pitsch's service as a consultant to the Company. In 1996, the Company granted to Mr. Pitsch pursuant to the 1994 Plan a stock option to purchase 25,000 shares of Common Stock at an exercise price of $8.25 which would have vested upon a certain milestone. The milestone was not met and consequently this option did not vest. In March 1996, the Company granted to Mr. Rubinstein pursuant to the 1994 Plan a stock option to purchase 60,000 shares of Common Stock at an exercise price or $4.50. The option is exercisable for a period of 10 years from the date of grant and terminates 18 months after the termination for any reason of Mr. Rubinstein's service as a consultant to the Company. Pursuant to an agreement dated October 21, 1992 (the "Batchelder Agreement"), the Company retained the services of Batchelder & Partners, Inc., a financial advisory firm ("Batchelder"), to provide the Company with certain financial consulting services. On September 13, 1995, Batchelder entered into a separate agreement with Whitworth and Associates (the "Whitworth Agreement"), of which Ralph V. Whitworth is President, pursuant to which Whitworth is to provide consulting services to Batchelder for a fee equal to a percentage of the fee received by Batchelder from the Company under the Batchelder Agreement. In the fiscal year ended December 31, 1996, Whitworth and Associates received $60,000 from the Whitworth agreement. In January 1997, Mr. Whitworth became a partner in Batchelder, and the Whitworth Agreement was terminated. PART IV ITEM 14. EXHIBITS AND REPORTS ON FORM 8-K a) The following documents are filed as a part of this report: 1) Consolidated Financial Statements and Report of Independent Accountants are included under Item 8, in Part II. 2) Consolidated Financial Statement Schedules and Report of Independent Public Accountants on those schedules are included as follows: None. 3) Exhibits: The following exhibits are filed as part of this report.
EXHIBIT DESCRIPTION - --------- -------------------------------------------------------------------------------- 3.1 Amended and Restated Certificate of Incorporation. 3.2 Amended and Restated By-Laws. 4.1 Description of Capital Stock contained in the Amended and Restated Certificate of Incorporation (see Exhibit 3.1). 4.2 Description of Rights of Security Holders contained in the Amended and Restated Bylaws (see Exhibit 3.2.). 4.3 Form of Certificate for Shares of Common Stock. 4.4 Form of Common Stock Purchase Warrant Agreement between the Company and Continental Stock Transfer and Trust Company. 4.5 Form of Common Stock Purchase Warrant Certificate. 4.6 Form of Representatives' Warrant Agreement among the Company, Yorkton Securities Inc., First Marathon (U.S.A.) Inc., First Marathon Securities Limited and Continental Stock Transfer and Trust Company. 4.7 Form of Representatives' Warrant Certificate. 10.1 Option Agreement, dated January 23, 1992, between the Company and New World Sky Media.
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EXHIBIT DESCRIPTION - --------- -------------------------------------------------------------------------------- 10.2 Lease Agreement, dated October 20, 1992, between 22nd & K Street Office Building Limited Partnership and the Company. 10.3 Letter Agreement, dated November 18, 1992, between the Company and Batchelder & Partners, Inc. 10.4.1 Proprietary Information and Non-Competition Agreement, dated February 9, 1993, for Robert Briskman. 10.4.2 Amendment No. 1 to Proprietary Information and Non-Competition Agreement between the Company and Robert Briskman. +10.5.1 Satellite Construction Agreement, dated March 2, 1993, between Space Systems/Loral and the Company. +10.5.2 Amendment No. 1 to Satellite Construction Agreement, effective December 28, 1993, between Space Systems/Loral and the Company. +10.5.3 Amendment No. 2 to Satellite Construction Agreement, effective March 8, 1994, between the Space Systems/Loral and the Company. 10.5.4 Amendment No. 3 to Satellite Construction Agreement, effective February 12, 1996, between the Space Systems/Loral, Inc. and the Company. 10.5.5 Amendment No. 4 to Satellite Construction Agreement, effective June 18, 1996, between the Space Systems/Loral, Inc. and the Company. (Incorporated by reference to Exhibit 10.8.5 to the Company's Form 10-Q for the period ended September 30, 1996.) 10.5.6 Amendment No. 5 to Satellite Construction Agreement, effective August 26, 1996, between the Space Systems/Loral, Inc. and the Company. (Incorporated by reference to Exhibit 10.8.6 to the Company's Form 10-Q for the period ended September 30, 1996.) 10.5.7 Amendment No. 6 to Satellite Construction Agreement, effective August 26, 1996, between the Space Systems/Loral, Inc. and the Company. 10.5.8 Amendment No. 8 to Satellite Construction Agreement, effective January 29, 1997, between the Space Systems/Loral, Inc. and the Company. 10.5.9 Amendment No. 9 to Satellite Construction Agreement, effective February 26, 1997, between the Space Systems/Loral, Inc. and the Company. 10.5.10 Amendment No. 11 to Satellite Construction Agreement, effective March 24, 1997, between the Space Systems/Loral, Inc. and the Company. 10.6 Assignment of Technology Agreement, dated April 15, 1993, between Robert Briskman and the Company. 10.7 Demand Note and Grant of Warrant to Robert Friedland, dated April 28, 1993. *10.8 Amended and Restated Option Agreement between the Company and Robert Briskman. 10.9 Demand Note and Grant of Warrant to Robert Friedland, dated October 13, 1993. 10.10.1 Launch Reservation Agreement, dated September 20, 1993, between the Company and Arianespace. 10.10.2 Modification of Launch Reservation Agreement, dated April 1, 1994, between the Company and Arianespace. 10.10.3 Second Modification of Launch Reservation Agreement, dated August 10, 1994, between the Company and Arianespace. 10.10.4 Third Modification of Launch Reservation Agreement, dated November 8, 1995, between the Company and Arianespace (Incorporated by reference to Exhibit 14.4 to the Company's Form 10-Q for the period ended September 30, 1996). 10.10.5 Fourth Modification of Launch Reservation Agreement, dated August 30, 1996, between the Company and Arianespace (Incorporated by reference to Exhibit 14.5 to the Company's Form 10-Q for the period ended September 30, 1995). 10.10.6 Fifth Modification of Launch Reservation Agreement, dated December 10, 1996, between the Company and Arianespace. *10.11.1 Employment and Noncompetition Agreement between the Company and David Margolese. *10.11.2 First Amendment to Employment Agreement between the Company and David Margolese.
34
EXHIBIT DESCRIPTION - --------- -------------------------------------------------------------------------------- *10.12.1 Employment and Noncompetition Agreement between the Company and Robert Briskman. *10.12.2 First Amendment to Employment Agreement between the Company and Robert Briskman. *10.12.3 Second Amendment to Employment Agreement between the Company and Robert Briskman. 10.13 Registration Agreement, dated January 2, 1994, between the Company and M.A. Rothblatt and B.A. Rothblatt. *10.14 1994 Stock Option Plan. *10.15 Amended and Restated 1994 Directors' Nonqualified Stock Option Plan. 10.16 Form of Lock-Up Agreement executed by certain holders of the Company's Common Stock. 10.17 Option Agreement, dated as of October 21, 1992, between the Company and Batchelder & Partners, Inc. 10.18 Settlement Agreement, dated as of April 1, 1994, among the Company, M.A. Rothblatt, B.A. Rothblatt and Marcor, Inc. 10.19.1 Demand Note, dated April 19, 1994, in favor of David Margolese. 10.19.2 Note, dated June 30, 1994, in favor of David Margolese. 10.20 Demand Note, dated April 19, 1994, between the Company and D. Friedland. 10.21 Form of Underwriting Agreement (Incorporated by reference from Exhibit 1.1 to the Registrant's Registration Statement on Form S-1, Commission file No. 33-74782) 10.22 Letter Agreement dated January 13, 1995, between the Company and Brenner Securities. *10.23 1995 Stock Compensation Plan **10.24 Form of Preferred Stock Investment Agreement dated October 23, 1996 between the Company and certain investors. **10.24.1 Form of First Amendment to Preferred Stock Investment Agreement dated March 7, 1997 between the Company and certain investors. **10.24.2 Form of Second Amendment to Preferred Stock Investment Agreement dated March 14, 1997 between the Company and certain investors. 11.1 Statement Re Computation of Historical Net Loss Per Share. 21.1 List of the Company's Subsidiaries. **23.1 Consent of Coopers & Lybrand L.L.P. 27 Financial Data Schedule
- --------------- * This document has been identified as a management contract or compensatory plan or arrangement. ** Replaces previously filed exhibit. + Portions of these exhibits, which are incorporated by reference to Registration No. 33-74782, have been omitted pursuant to an Application for Confidential Treatment filed by the Company with the Securities and Exchange Commission pursuant to Rule 406 of the Securities Act of 1933, as amended. b) Reports on Form 8-K A report on Form 8-K was filed on October 2, 1996 with the Securities and Exchange Commission relating to the exercise of the Company's warrants. A report on Form 8-K was filed on October 16, 1996 with the Securities and Exchange Commission relating to the Company's Pioneer's Preference application. A report on Form 8-K was filed on October 30, 1996 with the Securities and Exchange Commission relating to the private placement agreement for the issuance of the 5% Delayed Convertible Preferred Stock. 35 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) 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. Date: May 8, 1997 CD RADIO INC. /s/ DAVID MARGOLESE -------------------------------------- David Margolese Chairman and Chief Executive Officer 36 CD RADIO INC. INDEX TO EXHIBITS
SEQUENTIAL EXHIBIT DESCRIPTION PAGE NO. - --------- ---------------------------------------------------------------------- ---------- *3.1 Amended and Restated Certificate of Incorporation. *3.2 Amended and Restated By-Laws. *4.1 Description of Capital Stock contained in the Amended and Restated Certificate of Incorporation (see Exhibit 3.1). *4.2 Description of Rights of Security Holders contained in the Amended and Restated Bylaws (see Exhibit 3.2.). *4.3 Form of Certificate for Shares of Common Stock. *4.4 Form of Common Stock Purchase Warrant Agreement between the Company and Continental Stock Transfer and Trust Company. *4.5 Form of Common Stock Purchase Warrant Certificate. *4.6 Form of Representatives' Warrant Agreement among the Company, Yorkton Securities Inc., First Marathon (U.S.A.) Inc., First Marathon Securities Limited and Continental Stock Transfer and Trust Company. *4.7 Form of Representatives' Warrant Certificate. *10.1 Option Agreement, dated January 23, 1992, between the Company and New World Sky Media. 10.2 Lease Agreement, dated October 20, 1992, between 22nd & K Street Office Building Limited Partnership and the Company (Incorporated by reference to Exhibit 10.3 to the Company's Registration Statement on Form S-1 (File No. 33-74782) (the "Registration Statement"). 10.3 Letter Agreement, dated November 18, 1992, between the Company and Batchelder & Partners, Inc. (Incorporated by reference to Exhibit 10.4 to the Registration Statement) 10.4.1 Proprietary Information and Non-Competition Agreement, dated February 9, 1993, for Robert Briskman (Incorporated by reference to Exhibit 10.8.1 to the Registration Statement). 10.4.2 Amendment No. 1 to Proprietary Information and Non-Competition Agreement between the Company and Robert Briskman (Incorporated by reference to Exhibit 10.8.2 to the Registration Statement). +10.5.1 Satellite Construction Agreement, dated March 2, 1993, between Space Systems/Loral and the Company (Incorporated by reference to Exhibit 10.9.1 to the Registration Statement). +10.5.2 Amendment No. 1 to Satellite Construction Agreement, effective December 28, 1993, between Space Systems/Loral and the Company (Incorporated by reference to Exhibit 10.9.2 to the Registration Statement). +10.5.3 Amendment No. 2 to Satellite Construction Agreement, effective March 8, 1994, between the Space Systems/Loral and the Company (Incorporated by reference to Exhibit 10.9.3 to the Registration Statement). 10.5.4 Amendment No. 3 to Satellite Construction Agreement, effective February 12, 1996, between the Space Systems/Loral, Inc. and the Company (Incorporated by reference to Exhibit 10.9.4 to the Company's Annual Report on Form 10-K for the year ended December 31, 1995 (the "1995 Form 10-K")) 10.5.5 Amendment No. 4 to Satellite Construction Agreement, effective June 18, 1996, between the Space Systems/Loral, Inc. and the Company. (Incorporated by reference to Exhibit 10.8.5 to the Company's Form 10-Q for the period ended September 30, 1996.) 10.5.6 Amendment No. 5 to Satellite Construction Agreement, effective August 26, 1996, between the Space Systems/Loral, Inc. and the Company. (Incorporated by reference to Exhibit 10.8.6 to the Company's Form 10-Q for the period ended September 30, 1996.) 10.5.7 Amendment No. 6 to Satellite Construction Agreement, effective August 26, 1996, between the Space Systems/Loral, Inc. and the Company.
37
SEQUENTIAL EXHIBIT DESCRIPTION PAGE NO. - --------- ---------------------------------------------------------------------- ---------- 10.5.8 Amendment No. 8 to Satellite Construction Agreement, effective January 29, 1997, between the Space Systems/Loral, Inc. and the Company. 10.5.9 Amendment No. 9 to Satellite Construction Agreement, effective February 26, 1997, between the Space Systems/Loral, Inc. and the Company. 10.5.10 Amendment No. 11 to Satellite Construction Agreement, effective March 24, 1997, between the Space Systems/Loral, Inc. and the Company. 10.6 Assignment of Technology Agreement, dated April 15, 1993, between Robert Briskman and the Company (Incorporated by reference to Exhibit 10.10 to the Registration Statement). 10.7 Demand Note and Grant of Warrant to Robert Friedland, dated April 28, 1993 (Incorporated by reference to Exhibit 10.12 to the Registration Statement). 10.8 Amended and Restated Option Agreement between the Company and Robert Briskman (Incorporated by reference to Exhibit 10.13 to the Registration Statement). 10.9 Demand Note and Grant of Warrant to Robert Friedland, dated October 13, 1993 (Incorporated by reference to Exhibit 10.14 to the Registration Statement). 10.10.1 Launch Reservation Agreement, dated September 20, 1993, between the Company and Arianespace (Incorporated by reference to Exhibit 10.15.1 to the Registration Statement). 10.10.2 Modification of Launch Reservation Agreement, dated April 1, 1994, between the Company and Arianespace (Incorporated by reference to Exhibit 10.15.2 to the Registration Statement). 10.10.3 Second Modification of Launch Reservation Agreement, dated August 10, 1994, between the Company and Arianespace (Incorporated by reference to Exhibit 10.15.3 to the Registration Statement). 10.10.4 Third Modification of Launch Reservation Agreement, dated November 8, 1995, between the Company and Arianespace (Incorporated by reference to Exhibit 10.14.4 to the Company's Form 10-Q for the period ended September 30, 1996). 10.10.5 Fourth Modification of Launch Reservation Agreement, dated August 30, 1996, between the Company and Arianespace (Incorporated by reference to Exhibit 10.14.5 to the Company's Form 10-Q for the period ended September 30, 1995). 10.10.6 Fifth Modification of Launch Reservation Agreement, dated December 10, 1996, between the Company and Arianespace. 10.11.1 Employment and Noncompetition Agreement between the Company and David Margolese (Incorporated by reference to Exhibit 10.18.1 to the Registration Statement). 10.11.2 First Amendment to Employment Agreement between the Company and David Margolese (Incorporated by reference to Exhibit 10.18.2 to the Registration Statement). 10.12.1 Employment and Noncompetition Agreement between the Company and Robert Briskman (Incorporated by reference to Exhibit 10.19.1 to the Registration Statement). 10.12.2 First Amendment to Employment Agreement between the Company and Robert Briskman (Incorporated by reference to Exhibit 10.19.2 to the Registration Statement). 10.12.3 Second Amendment to Employment Agreement between the Company and Robert Briskman. 10.13 Registration Agreement, dated January 2, 1994, between the Company and M.A. Rothblatt and B.A. Rothblatt (Incorporated by reference to Exhibit 10.20 to the Registration Statement). 10.14 1994 Stock Option Plan (Incorporated by reference to Exhibit 10.21 to the Registration Statement).
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SEQUENTIAL EXHIBIT DESCRIPTION PAGE NO. - --------- ---------------------------------------------------------------------- ---------- 10.15 Amended and Restated 1994 Directors' Nonqualified Stock Option Plan (Incorporated by reference to Exhibit 10.22 to the 1995 Form 10-K). 10.16 Form of Lock-Up Agreement executed by certain holders of the Company's Common Stock (Incorporated by reference to Exhibit 10.23 to the Registration Statement). 10.17 Option Agreement, dated as of October 21, 1992, between the Company and Batchelder & Partners, Inc. (Incorporated by reference to Exhibit 10.24 to the Registration Statement). 10.18 Settlement Agreement, dated as of April 1, 1994, among the Company, M.A. Rothblatt, B.A. Rothblatt and Marcor, Inc. (Incorporated by reference to Exhibit 10.27 to the Registration Statement). 10.19.1 Demand Note, dated April 19, 1994, in favor of David Margolese (Incorporated by reference to Exhibit 10.28.1 to the Registration Statement). 10.19.2 Note, dated June 30, 1994, in favor of David Margolese (Incorporated by reference to Exhibit 10.28.2 to the Registration Statement). 10.20 Demand Note, dated April 19, 1994, between the Company and D. Friedland (Incorporated by reference to Exhibit 10.29 to the Registration Statement). 10.21 Form of Underwriting Agreement (Incorporated by reference from Exhibit 1.1 to the Registration Statement) 10.22 Letter Agreement dated January 13, 1995, between the Company and Brenner Securities (Incorporated by reference to Exhibit 10.36 to the Company's Annual Report on Form 10-K for the year ended December 31, 1994 (the "1994 Form 10-K"). 10.23 1995 Stock Compensation Plan (Incorporated by reference to Exhibit 10.37 to the 1995 Form 10-K). **10.24 Form of Preferred Stock Investment Agreement dated October 23, 1996 between the Company and certain investors. **10.24.1 Form of First Amendment to Preferred Stock Investment Agreement dated March 7, 1997 between the Company and certain investors. **10.24.2 Form of Second Amendment to Preferred Stock Investment Agreement dated March 14, 1997 between the Company and certain investors. 11.1 Statement Re Computation of Historical Net Loss Per Share. 21.1 List of the Company's Subsidiaries (Incorporated by reference to Exhibit 21.1 to the 1994 Form 10-K). **23.1 Consent of Coopers & Lybrand L.L.P. 27 Financial Data Schedule
- --------------- * Incorporated by reference to the same exhibit number of the Company Registration Statement on Form S-1, Commission File No. 33-74782. ** Replaces previously filed exhibit. + Portions of these exhibits, which are incorporated by reference to Registration No. 33-74782, have been omitted pursuant to an Application for Confidential Treatment filed by the Company with the Securities and Exchange Commission pursuant to Rule 406 of the Securities Act of 1933, as amended. 39