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USMO > SEC Filings for USMO > Form 10-K on 15-Apr-2013All Recent SEC Filings

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Form 10-K for USA MOBILITY, INC


15-Apr-2013

Annual Report


ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND STATEMENT OF INCOME

The following discussion and analysis should be read in conjunction with our consolidated financial statements and related notes and the discussions under "Application of Critical Accounting Policies" (also under Item 7), which describes key estimates and assumptions we make in the preparation of our consolidated financial statements; "Item 1. Business", which describes our wireless and software operations; and "Item 1A. Risk Factors", which describes key risks associated with our operations and industries. A reference to a "Note" in this section refers to the accompanying Notes to the Consolidated Financial Statements For the Year Ended December 31, 2012.

Restatement of Consolidated Financial Statements

On March 28, 2013, management and our Audit Committee concluded that the previously issued consolidated financial statements included in our Annual Report on Form 10-K for the year ended December 31, 2011 and in our Quarterly Reports on Form 10-Q for the periods ended March 31, 2011, June 30, 2011 and September 30, 2011 contained material errors and should no longer be relied upon. The adjustments made as a result of the restatement are more fully discussed in Note 2 included in this Annual Report on Form 10-K. We have restated the previously issued interim and annual 2011 consolidated financial statements in this Annual Report on Form 10-K for the year ended December 31, 2012.

Overview

We offer our services and products in the United States and abroad primarily to three major market segments: healthcare, government and large enterprise. The key market segments for our wireless (paging) operations include healthcare, government and large enterprise, while our software operations also have a presence in hospitality, in addition to these three segments. For the wireless operations, the government business has been trending downward over the last several years as state and local governments have been struggling with budget constraints. At the same time, our wireless services tend to be a reliable and low cost communication alternative when budgets are constrained and therefore paging services can be positioned well against other communication tools. Large enterprise customers have been trending away from paging to cellular/smart phones for a number of years and we expect that trend to continue in future years. Our software operations leverage these trends with more advanced critical messaging offerings such as our Amcom Mobile Connect offering for smart phones, which enables caregivers and physicians to communicate more effectively, and other more advanced unified communication tools. The trend toward more advanced/smart communications devices has been ongoing in large enterprise and is emerging in healthcare and government.

We generate revenue by providing paging services, as well as developing, licensing, and supporting a wide range of software products and services. Our most significant expenses are related to compensating employees, site rents, telecommunications and taxes.

Wireless Operations

Our wireless operations provide one-way and advanced two-way wireless messaging services including information services throughout the United States. We also offer voice mail, personalized greeting, message storage and retrieval, and equipment loss and/or maintenance protection to both one-way and two-way messaging subscribers. We market and distribute these wireless messaging and information services through a direct sales force and a small indirect sales channel. (See Item 1. "Business" for more details.)


Table of Contents

The following table summarizes the breakdown of our direct and indirect units in service at specified dates:

                                                       As of December 31,
                                 2012                         2011                         2010
Distribution Channel    Units       % of Total       Units       % of Total       Units       % of Total
                                                      (Units in thousands)
Direct                   1,421           93.8%        1,555           93.2%        1,751           92.7%
Indirect                    94            6.2%          113            6.8%          138            7.3%

Total                    1,515          100.0%        1,668          100.0%        1,889          100.0%

As noted above in the "Overview", our key market segments are healthcare, government and large enterprise. The following table indicates the percentage of our units in service by key market segments for the periods stated and illustrates the relative significance of these market segments to our operations.

                                             As of December 31,
                 Market Segment       2012          2011          2010
                 Healthcare            67.1%         62.6%         58.3%
                 Government            10.3%         11.9%         13.5%
                 Large enterprise       8.5%          9.5%         10.1%
                 Other                  7.9%          9.2%         10.8%

                 Total Direct          93.8%         93.2%         92.7%
                 Total Indirect         6.2%          6.8%          7.3%

                 Total                100.0%        100.0%        100.0%

The following table indicates the revenue by key market segments for the periods stated and illustrates the relative significance of these market segments to our operations.

                                                        For the Year Ended December 31,
Market Segment                2012         % of Total        2011         % of Total        2010         % of Total
                                                             (Dollars in thousands)
Healthcare                  $ 102,036           60.6%      $ 111,950           56.1%      $ 118,064           50.6%
Government                     15,228            9.0%         19,961           10.0%         25,153           10.8%
Large enterprise               20,846           12.4%         25,721           12.9%         34,423           14.8%
Other                          22,717           13.5%         31,139           15.5%         40,857           17.5%

Total Direct                  160,827           95.5%        188,771           94.5%        218,497           93.7%
Total Indirect                  7,578            4.5%         10,930            5.5%         14,757            6.3%

Total                       $ 168,405          100.0%      $ 199,701          100.0%      $ 233,254          100.0%

The following table sets forth information on our direct units in service by account size for the periods stated:

                                                                   As of December 31,
Account Size                      2012         % of Total        2011         % of Total        2010         % of Total
                                                                  (Units in thousands)
1 to 3 Units                          52             3.6%            65             4.2%            84             4.8%
4 to 10 Units                         31             2.2%            40             2.6%            52             3.0%
11 to 50 Units                        75             5.3%            92             5.9%           123             7.0%
51 to 100 Units                       49             3.5%            56             3.6%            76             4.3%
101 to 1000 Units                    334            23.5%           380            24.4%           436            24.9%
> 1000 Units                         880            61.9%           922            59.3%           980            56.0%

Total direct units in service      1,421           100.0%         1,555           100.0%         1,751           100.0%


Table of Contents

We provide wireless messaging services to subscribers for a periodic fee, as described above. In addition, subscribers either lease a messaging device from us for an additional fixed monthly fee or they own a device, having purchased it either from us or from another vendor. We also sell devices to resellers who lease or resell devices to their subscribers and then sell messaging services utilizing our networks.

We derive the majority of our revenues from fixed monthly or other periodic fees, charged to subscribers for wireless messaging services. Such fees are not generally dependent on usage. As long as a subscriber maintains service, operating results benefit from recurring payment of these fees. Revenues are generally based upon the number of units in service and the monthly charge per unit. The number of units in service changes based on subscribers added, referred to as gross placements, less subscriber cancellations, or disconnects. The net of gross placements and disconnects is commonly referred to as net gains or losses of units in service or net disconnect rate. The absolute number of gross placements as well as the number of gross placements relative to average units in service in a period, referred to as the gross placement rate, is monitored on a monthly basis. Disconnects are also monitored on a monthly basis. The ratio of units disconnected in a period to average units in service for the same period, called the disconnect rate, is an indicator of our success at retaining subscribers, which is important in order to maintain recurring revenues and to control operating expenses.

The following table sets forth our gross placements and disconnects for the periods stated:

                                                         For the Year Ended December 31,
                                    2012                               2011                               2010
                          Gross                              Gross                              Gross
Distribution Channel    Placements       Disconnects       Placements       Disconnects       Placements       Disconnects
                                                               (Units in thousands)
Direct                          193               327              209               405              239               502
Indirect                          6                25               11                36               29                59

Total                           199               352              220               441              268               561

The following table sets forth information on the direct net disconnect rate by account size for our direct customers for the periods stated:

                                            For the Year Ended December 31,
         Account Size                      2012            2011          2010
         1 to 3 Units                       (20.9%)        (22.0%)       (22.9%)
         4 to 10 Units                      (20.9%)        (23.6%)       (21.8%)
         11 to 50 Units                     (19.1%)        (25.2%)       (22.2%)
         51 to 100 Units                    (12.2%)        (26.8%)       (21.2%)
         101 to 1000 Units                  (12.1%)        (12.9%)       (15.9%)
         > 1000 Units                        (4.5%)         (5.9%)        (8.1%)

         Total direct net unit loss %        (8.6%)        (11.2%)       (13.1%)

The other factor that contributes to revenue, in addition to the number of units in service, is the monthly charge per unit. As previously discussed, the monthly charge per unit is dependent on the subscriber's service, extent of geographic coverage, whether the subscriber leases or owns the messaging device, and the number of units the customer has in the account. The ratio of revenues for a period to the average units in service, for the same period, commonly referred to as ARPU, is a key revenue measurement as it indicates whether charges for similar services and distribution channels are increasing or decreasing. ARPU by distribution channel and messaging service are monitored regularly.


Table of Contents

The following table sets forth ARPU by distribution channel for the periods stated:

                                      ARPU For the Year Ended December 31,
          Distribution Channel      2012              2011              2010
          Direct                 $      8.53       $      8.82       $      8.99
          Indirect                      6.00              6.25              6.94
          Consolidated                  8.37              8.64              8.84

While ARPU for similar services and distribution channels is indicative of changes in monthly charges and the revenue rate applicable to new subscribers, this measurement on a consolidated basis is affected by several factors, including the mix of units in service and the pricing of the various components of our services. We expect future sequential annual revenues to decline in line with recent trends. The change in ARPU in the direct distribution channel is the most significant indicator of rate-related changes in our revenues. The decrease in consolidated ARPU during the years 2010 through 2012 was due to the change in composition of our customer base as the percentage of units in service attributable to larger customers continues to increase. These larger customers benefit from lower pricing associated with their larger number of units-in-service. We believe that without further price adjustments, ARPU would trend lower for both the direct and indirect distribution channels in 2013 and that price increases could mitigate, but not completely offset, the expected declines in both ARPU and revenues.

The following table sets forth information on direct ARPU by account size for the periods stated:

                                       For the Year Ended December 31,
             Account Size           2012              2011            2010
             1 to 3 Units        $     15.31       $     15.48     $    15.19
             4 to 10 Units             14.28             14.46          14.38
             11 to 50 Units            11.99             12.14          12.00
             51 to 100 Units           10.41             10.72          10.68
             101 to 1000 Units          9.00              9.03           8.96
             > 1000 Units               7.25              7.43           7.55

             Total direct ARPU   $      8.53       $      8.82     $     8.99

Software Operations

Software operations are reflected in the consolidated financial statements from March 3, 2011, the date of acquisition of Amcom. Our primary business in the software operations is the sale of software, professional services (primarily installation and training), equipment sales (to be used in conjunction with the software), and post-contract support (on-going maintenance). The software is licensed to end-users under an industry standard software license agreement.

Revenue from software operations is included in software revenue and other in the consolidated statement of income. For purposes of this discussion and analysis, we break out revenue from software operations into two primary components: operations revenue and maintenance revenue.

Operations revenue in software operations consists of software license revenue, professional services revenue, and equipment sales. In most instances, we recognize equipment revenue when it is delivered to the customer, and software license revenue and professional services revenue when the application is ready for use at the customer location and all service obligations are satisfied under such arrangements.

Maintenance revenue in software operations is for ongoing support of a software application or equipment and is recognized ratably over the period of coverage, typically one year. The maintenance renewal rates for the years ended December 31, 2012 and 2011 were 99.0% and 99.4%, respectively.


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Restated revenue from software operations for the year ended December 31, 2011 included a reduction of $6.1 million, required by purchase accounting to reflect fair value.

The breakout of revenue by component from software operations was as follows for the periods stated:

                                                   For the Year Ended
                                                      December 31,
                                                                2011(1)
          Revenue                               2012        (As  Restated)
                                                 (Dollars in thousands)
          Operations revenue                 $   25,360     $        20,219
          Maintenance revenue                    25,931              13,773

          Total software revenue and other   $   51,291     $        33,992

(1) Total software revenue and other reflects results from March 3, 2011 to December 31, 2011 and is net of a reduction to maintenance revenue of $6.1 million required by purchase accounting to reflect fair value.

Our software operations focus primarily on the healthcare and government market segments. The relative importance of these market segments to our operations is identified below. We expect to continue to focus our efforts primarily in the healthcare market segment.

                                        For the Year Ended December 31,
                                                           2011(1)
      Market Segment       2012        % of Total      (As  Restated)       % of Total
                                             (Dollars in thousands)
      Healthcare         $ 32,237           62.9%      $        20,327           59.8%
      Government            5,064            9.9%                2,944            8.7%
      Large enterprise      2,767            5.4%                1,817            5.3%
      Other(2)              2,939            5.7%                1,972            5.8%

      Total Direct         43,007           83.8%               27,060           79.6%
      Total Indirect        8,284           16.2%                6,932           20.4%

      Total              $ 51,291          100.0%      $        33,992          100.0%

(1) Revenue reflects results from March 3, 2011 (the acquisition date) to December 31, 2011 and is net of maintenance revenue reductions of $6.1 million required by purchase accounting to reflect fair value.

(2) Other includes hospitality, resort and billable travel revenue.

On a regular basis, our software operations engage in contractual arrangements with our customers to provide software licenses, professional services, and equipment sales. In addition, we enter into contractual arrangements for maintenance with our customers on new solutions or renewals on existing solutions. These contractual arrangements are reported as bookings.

The following table summarizes total bookings for the period stated:

                                             For the Year Ended
                                                December 31,
                  Bookings                   2012           2011(1)
                                           (Dollars in thousands)
                  Operations bookings    $      33,191      $ 26,213
                  Maintenance renewals          28,110        21,673

                  Total bookings         $      61,301      $ 47,886


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(1) Total bookings reflect bookings from March 3, 2011 to December 31, 2011.

Software operations reported a backlog of $40.6 million for the year ended December 31, 2012, which represented all purchase orders received from customers not yet recognized as revenue. The following table reconciles the Company's reported backlog at December 31, 2012:

  Backlog                                                 December 31, 2012
                                                        (Dollars in thousands)
  Beginning balance at January 1, 2012 (As Restated)   $                32,926
  Operations bookings for the year                                      33,191
  Maintenance renewals for the year                                     28,110

  Available backlog                                    $                94,227
  Operations revenue for the year                                      (25,360)
  Maintenance revenue for the year                                     (25,931)
  Other(1)                                                              (2,310)

  Total backlog at December 31, 2012                   $                40,626

  Increase in backlog from January 1, 2012                               23.4%

(1) Other reflects cancellations and other adjustments to backlog.

Operations - Consolidated

Our operating expenses are presented in functional categories. Certain of our functional categories are especially important to overall expense control and management; these operating expenses are categorized as follows:

Cost of product sold. These are expenses associated with costs for pagers for the wireless operations and hardware, third-party software, professional services, payroll and related expenses, and various other expenses associated with the software operations.

Service, rental, and maintenance. These are expenses associated with the operation of our networks and the provision of messaging services. Expenses consist largely of site rent expenses for transmitter locations, telecommunication expenses to deliver messages over our networks, and payroll and related expenses for our engineering and pager repair functions. Expenses related to the development and maintenance of our software products are also included in this category.

Selling and marketing. These are expenses associated with our direct sales force and indirect sales channel and marketing expenses in support of those sales groups. This classification consists primarily of payroll and related expenses and commission expenses.

General and administrative. These are expenses associated with customer service, inventory management, billing, collections, bad debt, and other administrative functions. This classification consists primarily of payroll and related expenses, outside service expenses, tax, license and permit expenses, and facility rent expenses.

We review the percentages of these operating expenses to revenues on a regular basis. Even though the operating expenses are classified as described above, expense control and management are also performed by expense category. Approximately 70% of the operating expenses referred to above were incurred in payroll and related expenses, site and facility rent expenses and telecommunication expenses for the years ended December 31, 2012, 2011 and 2010, respectively. Payroll and related expenses for the year ended December 31, 2012 for software operations included a benefit of $0.3 million for forfeitures under the 2012 STIP associated with the departure of two former executives. Payroll and related expenses for the year ended December 31, 2010 for wireless operations included a benefit of $0.2 million for forfeitures related to the 2009 LTIP cash awards and $0.5 million of payroll and related expenses reclassified to intangible assets for a non-compete agreement with a former executive.


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Payroll and related expenses include wages, incentives, employee benefits and related taxes. On a monthly basis, we review the number of employees in major functional categories such as direct sales, engineering and technical staff, customer service, collections and inventory. We also review the design and physical locations of functional groups to continuously improve efficiency, to simplify organizational structures, and to minimize the number of physical locations for the wireless operations. We have reduced our wireless employee base by approximately 12.9% to 378 full-time equivalent employees ("FTEs") at December 31, 2012 from 434 FTEs at December 31, 2011. We anticipate continued staffing reductions in 2013 for wireless operations, consistent with the subscriber and revenue trends, and we have accrued post-employment benefits for these anticipated staffing reductions. We implemented a reorganization of our software operations during the first quarter of 2013 which resulted in the elimination of certain positions. We have accrued post-employment benefits for these anticipated staffing reductions. Once this reorganization is completed, we expect staffing increases associated with our software operations in 2013 to support our revenue growth. The software operations had 287 FTEs at December 31, 2012, an increase of 15.3% from 249 FTEs at December 31, 2011.

Site rent expenses for transmitter locations are largely dependent on our paging networks. We operate local, regional, and nationwide one-way and two-way paging networks. These networks each require locations on which to place transmitters, receivers, and antennae. Generally, site rent expenses are incurred for each transmitter location. Therefore, site rent expenses for transmitter locations are highly dependent on the number of transmitters, which in turn is dependent on the number of networks. In addition, these expenses generally do not vary directly with the number of subscribers or units in service, which is detrimental to our operating margins as revenues decline. In order to reduce these expenses, we have an active program to consolidate the number of networks, and thus transmitter locations, which we refer to as network rationalization. We have reduced the number of active transmitters by 4.8% to 4,749 active transmitters at December 31, 2012 from 4,991 active transmitters at December 31, 2011.

Telecommunication expenses are incurred to interconnect our paging networks and to provide telephone numbers for customer use, points of contact for customer service, and connectivity among our offices. These expenses for wireless operations are dependent on the number of units in service and the number of office and network locations that we maintain. The dependence on units in service is related to the number of telephone numbers provided to customers and the number of telephone calls made to our call centers, though this is not always a direct dependency. For example, the number or duration of telephone calls to call centers may vary from period to period based on factors other than the number of units in service, which could cause telecommunication expenses to vary regardless of the number of units in service. In addition, certain phone numbers we provide to our customers may have a usage component based on the number and duration of calls to the subscriber's messaging device. Telecommunication expenses do not necessarily vary in direct relationship to units in service. Therefore, based on the factors discussed above, efforts are . . .

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