Spok Holdings, Inc - Quarter Report: 2010 March (Form 10-Q)

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

 

 

Form 10-Q

 

 

 

Commission File Number 0-51027

 

 

USA MOBILITY, INC.

(Exact name of Registrant as specified in its Charter)

 

 

 

(800) 611-8488

(Registrant’s telephone number, including area code)

 

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes þ     No o

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes o     No o

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

(Do not check if a smaller reporting company)

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes o     No þ

 

Indicate by check mark whether the registrant has filed all documents and reports required to be filed by Sections 12, 13 or 15(d) of the Securities Exchange Act of 1934 subsequent to the distribution of securities under a plan confirmed by a court.  Yes þ     No o

 

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date: 22,138,222 shares of the Registrant’s Common Stock ($0.0001 par value per share) were outstanding as of April 30, 2010.

 

 

USA MOBILITY, INC.

 

QUARTERLY REPORT ON FORM 10-Q

 

Index

 

 

 

USA MOBILITY, INC.

 

CONDENSED CONSOLIDATED BALANCE SHEETS

 

 

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.

USA MOBILITY, INC.

 

CONDENSED CONSOLIDATED RESULTS OF OPERATIONS

 

 

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.

USA MOBILITY, INC.

 

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

 

 

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.

USA MOBILITY, INC.

 

UNAUDITED NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

(1) Preparation of Interim Financial Statements — The condensed consolidated financial statements of USA Mobility, Inc. and subsidiaries (“USA Mobility” or the “Company”) have been prepared in accordance with the rules and regulations of the United States Securities and Exchange Commission (the “SEC”). Amounts shown on the condensed consolidated results of operations within the operating expense categories of cost of products sold; service, rental and maintenance; selling and marketing; and general and administrative are recorded exclusive of severance and restructuring; and depreciation, amortization and accretion. These items are shown separately on the condensed consolidated results of operations within operating expenses.

 

The financial information included herein, other than the condensed consolidated balance sheet as of December 31, 2009, has been prepared without audit. The condensed consolidated balance sheet at December 31, 2009 has been derived from, but does not include all the disclosures contained in the audited consolidated financial statements for the year ended December 31, 2009. In the opinion of management, these unaudited statements include all adjustments and accruals that are necessary for a fair presentation of the results of all interim periods reported herein. All adjustments are of a normal recurring nature.

 

These condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and accompanying notes included in USA Mobility’s Annual Report on Form 10-K for the year ended December 31, 2009 (the “2009 Annual Report”). The results of operations for the interim periods presented are not necessarily indicative of the results that may be expected for a full year.

 

(2) Business — USA Mobility is a leading provider of wireless messaging in the United States. Currently, USA Mobility provides one-way and two-way messaging services. One-way messaging consists of numeric and alphanumeric messaging services. Numeric messaging services enable subscribers to receive messages that are composed entirely of numbers, such as a phone number, while alphanumeric messages may include numbers and letters which enable subscribers to receive text messages. Two-way messaging services enable subscribers to send and receive messages to and from other wireless messaging devices, including pagers, personal digital assistants and personal computers. USA Mobility also offers voice mail, personalized greeting, message storage and retrieval and equipment loss and/or maintenance protection to both one-way and two-way messaging subscribers. These services are commonly referred to as wireless messaging and information services.

 

(3) Risks and Other Important Factors — See “Item 1A. Risk Factors” of Part II of this Quarterly Report, which describes key risks associated with USA Mobility’s operations and industry, which incorporates by reference information from the 2009 Annual Report.

 

Based on current and anticipated levels of operations, USA Mobility’s management believes that the Company’s net cash provided by operating activities, together with cash on hand, should be adequate to meet its cash requirements for the foreseeable future.

 

In the event that net cash provided by operating activities and cash on hand are not sufficient to meet future cash requirements, USA Mobility may be required to reduce planned capital expenses, reduce or eliminate its cash distributions to stockholders, reduce or eliminate its common stock repurchase program, and/or sell assets or seek additional financing. USA Mobility can provide no assurance that reductions in planned capital expenses or proceeds from asset sales would be sufficient to cover shortfalls in available cash or that additional financing would be available or, if available, offered on acceptable terms.

 

USA Mobility believes that future fluctuations in its revenues and operating results may occur due to many factors, particularly the decreased demand for its messaging services. If the rate of decline for the Company’s messaging services exceeds its expectations, revenues may be negatively impacted, and such impact could be material. USA Mobility’s plan to consolidate its networks may also negatively impact revenues as customers may experience a reduction in, and possible disruptions of, service in certain areas. Under these circumstances, USA Mobility may be unable to adjust spending in a timely manner to compensate for any future revenue shortfall. It is possible that, due to these fluctuations, USA Mobility’s revenue or operating results may not meet the expectations

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UNAUDITED NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

of investors, which could reduce the value of USA Mobility’s common stock and impact the Company’s ability to make future cash distributions to stockholders or repurchase shares of its common stock.

 

(4) Recent and New Accounting Pronouncements — On February 24, 2010, the Financial Accounting Standards Board (the “FASB”) issued FASB Accounting Standards Update (“ASU”) 2010-09, Amendments to Certain Recognition and Disclosure Requirements, which amends ASC 855. The ASU addresses certain implementation issues related to an entity’s requirement to perform and disclose subsequent event procedures. ASU 2010-09 is effective immediately. The Company adopted ASU 2010-09 in the Form 10-Q for the quarter ended March 31, 2010 and as a result of the adoption the Company no longer disclose the date through which subsequent events have been evaluated. The adoption of ASU 2010-09 did not have any impact on the Company’s financial position or results of operations.

 

On January 21, 2010, the FASB issued ASU 2010-06, Improving Disclosures About Fair Value Measurements, which amends ASC 820. The ASU adds new requirements for disclosures about transfers into and out of fair value hierarchy Levels 1 and 2, as defined in ASC 820, and separate disclosure about purchases, sales, issuances, and settlements relating to fair value hierarchy Level 3 measurements. The ASU also clarifies existing fair value disclosures about the level of disaggregation and about inputs and valuation techniques used to measure fair value. The ASU amends guidance on employers’ disclosures about postretirement benefit plan assets under ASC 715 to require that disclosures be provided by classes of assets instead of by major categories of assets. ASU 2010-06 is effective for the first reporting period (including interim periods) beginning after December 15, 2009, except for the requirement to provide the fair value hierarchy Level 3 activity mentioned above, which will be effective for fiscal years beginning after December 15, 2010 and for interim periods within those fiscal years. The Company does not anticipate that ASU 2010-06 will have any impact on the Company’s financial position or results of operations.

 

On January 5, 2010, the FASB issued ASU 2010-01, Accounting for Distributions to Shareholders with Components of Stock and Cash. The ASU provides guidance on accounting for distributions to shareholders with components of stock and cash, clarifying that in calculating earnings per share, an entity should account for the share portion of the distribution as a stock issuance and not as a stock dividend, in accordance with ASC 505 and ASC 260. ASU 2010-01 is effective for interim and annual periods ending on or after December 15, 2009, and should be applied retrospectively to all prior periods. ASU 2010-01 is not applicable to the Company.

 

Other ASUs issued during the three months ended March 31, 2010 are not applicable to the Company and are not anticipated to have an effect on the Company’s financial position or results of operations.

 

(5) Long-Lived Assets and Other Amortizable Intangible Assets — The Company did not record any impairment of long-lived assets and amortizable intangible assets for the three months ended March 31, 2010 and 2009.

 

Other intangible assets were recorded at fair value on the date of acquisition and amortized over periods generally ranging from one to five years. Aggregate amortization expense for other intangible assets for the three months ended March 31, 2010 and 2009 was $0.2 million and $2.1 million, respectively.

 

Amortizable intangible assets are comprised of the following at March 31, 2010:

 

USA MOBILITY, INC.

 

UNAUDITED NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

(6) Depreciation, Amortization and Accretion — The components of depreciation, amortization and accretion expenses related to property and equipment, amortizable intangible assets, and asset retirement obligations for the three months ended March 31, 2010 and 2009, respectively, are as follows:

 

 

(7) Prepaid Expenses and Other — Prepaid expenses and other consisted of the following for the periods stated:

 

 

In January 2010, the Company reclassified the long-term portion of prepaid rent to short-term since the underlying master lease agreement (“MLA”) will expire on December 31, 2010.

 

(8) Other Assets — Other assets consisted of the following for the periods stated:

 

 

In January 2010, the Company reclassified the long-term portion of prepaid rent to short-term since the underlying MLA will expire on December 31, 2010.

USA MOBILITY, INC.

 

UNAUDITED NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

(9) Accounts Payable and Accrued Liabilities — Accounts payable and accrued liabilities consisted of the following for the periods stated:

 

 

Accrued taxes are based on the Company’s estimate of outstanding state and local taxes. This balance may be adjusted in the future as the Company settles with various taxing jurisdictions.

 

(10) Asset Retirement Obligations — The Company recognizes liabilities and corresponding assets for future obligations associated with the retirement of assets. USA Mobility has paging equipment assets, principally transmitters, which are located on leased locations. The underlying leases generally require the removal of equipment at the end of the lease term; therefore, a future obligation exists.

 

At December 31, 2009, the Company had recognized cumulative asset retirement costs of $4.8 million. During the first quarter of 2010, the Company recorded an increase of $69,000 in asset retirement costs. At March 31, 2010 cumulative asset retirement costs were $4.8 million. The asset retirement cost additions in the first quarter of 2010 increased paging equipment assets and are being depreciated over the related estimated lives of 9 and 57 months. The asset retirement costs, and the corresponding liabilities, that have been recorded to date generally relate to either current plans to consolidate networks or to the removal of assets at an estimated future terminal date.

 

The components of the changes in the asset retirement obligation liabilities were as follows:

 

 

The balances above were included with accounts payable and accrued liabilities and other long-term liabilities, respectively, at March 31, 2010.

USA MOBILITY, INC.

 

UNAUDITED NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

(11) Other Long-Term Liabilities — Other long-term liabilities consisted of the following for the periods stated:

 

 

(12) Stockholders’ Equity — The authorized capital stock of the Company consists of 75 million shares of common stock , par value $0.0001 per share, and 25 million shares of preferred stock, par value $0.0001 per share.

 

Changes in Stockholders’ Equity.  Changes in stockholders’ equity for the three months ended March 31, 2010 consisted of:

 

 

General.  At March 31, 2010 and December 31, 2009 were 22,170,899 and 22,495,398 shares of common stock outstanding, respectively, and no shares of preferred stock outstanding. For financial reporting purposes, at March 31, 2010 and December 31, 2009, 218,782 shares of common stock have been included in the Company’s reported outstanding share balance relating to shares of common stock expected to be issued under the Arch Wireless, Inc. and subsidiaries (“Arch”) plan of reorganization.

 

The Company has filed a motion with the Bankruptcy Court for a final decree closing the Arch bankruptcy case. A summary of the distributions under the Arch plan of reorganization, including the final distributions to be made under the plan, is set forth in the motion. On February 17, 2010, the Bankruptcy Court closed the Arch bankruptcy case subject to the final distribution as authorized by the Bankruptcy Court. In its final distribution under the Arch plan of reorganization, the Company will distribute 218,782 shares previously reserved for future issuance under the Arch plan of reorganization and increase the Company’s reported outstanding share balance. As of March 31, 2010, the 218,782 shares have not yet been distributed.

 

At March 31, 2010, the Company had no stock options outstanding.

 

In connection with and prior to the November 2004 merger of Arch and Metrocall Holdings, Inc. and subsidiaries, the Company established the USA Mobility, Inc. Equity Incentive Plan (the “Equity Plan”). Under the Equity Plan, the Company has the ability to issue up to 1,878,976 shares of its common stock to eligible employees and non-executive members of its Board of Directors in the form of shares of common stock, stock options, shares of restricted common stock (“restricted stock”), restricted stock units (“RSUs”) or stock grants. Restricted stock awarded under the Equity Plan entitles the stockholder to all rights of common stock ownership except that the restricted stock may not be sold, transferred, exchanged, or otherwise disposed of during the restriction period,

USA MOBILITY, INC.

 

UNAUDITED NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

which will be determined by the Compensation Committee of the Board of Directors of the Company. RSUs are generally convertible into shares of common stock pursuant to the Restricted Stock Unit Agreement when the appropriate vesting conditions have been satisfied.

 

The following table summarizes the activities under the Equity Plan from inception through March 31, 2010:

 

 

 

 

2009 Long-Term Incentive Plan (“LTIP”).  On January 6, 2009, the Company’s Board of Directors approved a long-term incentive program that included a cash component and a stock component in the form of RSUs based upon achievement of expense reduction and earnings before interest, taxes, depreciation, amortization and accretion goals during the Company’s 2012 calendar year and continued employment with the Company. RSUs were granted under the Equity Plan pursuant to a Restricted Stock Unit Agreement based upon the closing price per share of the Company’s common stock on January 15, 2009 of $12.01. The Company’s Board of Directors awarded 329,416 RSUs to certain eligible employees and also approved that future cash distributions related to the existing RSUs will be set aside and paid in cash to each eligible employee when the RSUs are converted into shares of common stock. Existing RSUs would be converted into shares of common stock on the earlier of a change in control of the

USA MOBILITY, INC.

 

UNAUDITED NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

Company (as defined in the Equity Plan) or on or after the third business day following the day that the Company files its 2012 Annual Report on Form 10-K (“2012 Annual Report”) with the SEC.

 

Any unvested RSUs granted under the Equity Plan and the related cash distributions are forfeited if the participant terminates employment with USA Mobility. During the first quarter of 2010, 24,214 RSUs and the related cash distributions were forfeited. As of March 31, 2010, a total of 31,785 RSUs have been forfeited resulting in an outstanding balance of 297,631 RSUs.

 

The Company used the fair-value based method of accounting for the 2009 LTIP and is amortizing the $3.4 million to expense over the 48-month vesting period. A total of $0.2 million was included in stock based compensation expense for each of the three months ended March 31, 2010 and 2009, respectively, in relation to the 2009 LTIP.

 

Also on January 6, 2009, the Company provided for long-term cash performance awards to the same certain eligible employees under the 2009 LTIP. Similar to the RSUs, the vesting period for these long-term cash performance awards is 48 months upon attainment of the established performance goals and would be paid on the earlier of a change in control of the Company (as defined in the Equity Plan); or on or after the third business day following the day that the Company files its 2012 Annual Report with the SEC. The Company will ratably amortize the $3.3 million to expense over the 48-month vesting period.

 

A total of $0.2 million was included in payroll and related expenses for each of the three months ended March 31, 2010 and 2009, respectively, for these long-term cash performance awards. Any unvested long-term cash performance awards are forfeited if the participant terminates employment with USA Mobility.

 

Board of Directors Equity Compensation.  On August 1, 2007, for periods of service beginning on July 1, 2007, the Company’s Board of Directors approved that, in lieu of RSUs, each non-executive director will be granted in arrears on the first business day following the quarter of service, restricted stock under the Equity Plan for their service on the Board of Directors and committees thereof. The restricted stock would be granted quarterly based upon the closing price per share of the Company’s common stock at the end of each quarter, such that each non-executive director would receive $40,000 per year of restricted stock ($50,000 for the Chair of the Audit Committee). The restricted stock will vest on the earlier of a change in control of the Company (as defined in the Equity Plan) or one year from the date of grant, provided, in each case, that the non-executive director maintains continuous service on the Board of Directors. Future cash distributions related to the restricted stock will be set aside and paid in cash to each non-executive director on the date the restricted stock vests. In addition to the quarterly restricted stock grants, the non-executive directors would be entitled to cash compensation of $40,000 per year ($50,000 for the Chair of the Audit Committee), also payable quarterly. These sums are payable, at the election of the non-executive director, in the form of cash, shares of common stock, or any combination thereof.

USA MOBILITY, INC.

 

UNAUDITED NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

The following table details information on the restricted stock awarded to the Company’s non-executive directors in 2009 and 2010. The shares of restricted stock vested one year from the date of grant and the related cash distributions on the vested restricted stock were paid to the Company’s non-executive directors.

 

 

 

 

These grants of shares of restricted stock will reduce the number of shares eligible for future issuance under the Equity Plan.

 

The Company used the fair-value based method of accounting for the equity awards. A total of $0.1 million was included in stock based compensation expense for each of the three months ended March 31, 2010 and 2009 in relation to the restricted stock issued to the Company’s non-executive directors.

 

The following table details information on the cash distributions declared in 2010 relating to the restricted stock issued to the Company’s non-executive directors:

 

 

Board of Directors Common Stock.  As of March 31, 2010, a cumulative total of 9,091 shares of common stock has been issued in lieu of cash payments to the non-executive directors for services performed. These shares of common stock reduced the number of shares eligible for future issuance under the Equity Plan.

 

Cash Distributions to Stockholders.  The following table details information on the Company’s cash distributions for the three months ended March 31, 2010. Cash distributions paid as disclosed in the statements of cash flows for the three months ended March 31, 2010 and 2009 include previously declared cash distributions on shares of vested restricted stock issued to the non-executive directors of the Company’s Board of Directors. Cash

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UNAUDITED NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

distributions on RSUs and restricted stock have been accrued and are paid when the applicable vesting conditions are met. Accrued cash distributions on forfeited RSUs and restricted stock are also forfeited

 

 

 

 

Future Cash Distributions to Stockholders.  On May 5, 2010, the Company’s Board of Directors declared a regular quarterly cash distribution of $0.25 per share of common stock, with a record date of May 20, 2010, and a payment date of June 25, 2010. A substantial portion of this cash distribution of approximately $5.5 million will be a return of capital.

 

Common Stock Repurchase Program.  On July 31, 2008, the Company’s Board of Directors approved a program for the Company to repurchase up to $50.0 million of its common stock in the open market during the twelve-month period commencing on or about August 5, 2008. Credit Suisse Securities (USA) LLC will administer such purchases. The Company expects to use available cash on hand and net cash provided by operating activities to fund the common stock repurchase program.

 

The Company’s Board of Directors approved a supplement to the common stock repurchase program effective on March 3, 2009. The supplement reset the repurchase authority to $25.0 million as of January 1, 2009 and extended the purchase period through December 31, 2009.

 

On November 30, 2009, the Company’s Board of Directors approved a further extension of the purchase period from December 31, 2009 to March 31, 2010.

 

On March 3, 2010, the Company’s Board of Directors approved a supplement effective March 3, 2010 which reset the repurchase authority to $25.0 million as of January 1, 2010 and extended the purchase period through December 31, 2010.

 

During the first quarter of 2010, the Company purchased 364,407 shares of its common stock for approximately $4.6 million (excluding commissions). From the inception of the common stock repurchase program through March 31, 2010, the Company has repurchased a total of 5,222,970 shares of its common stock under this program. There was approximately $20.4 million of common stock repurchase authority remaining under the program as of March 31, 2010. This repurchase authority allows the Company, at management’s discretion, to selectively repurchase shares of its common stock from time to time in the open market depending upon market price and other factors. All repurchased shares of common stock are returned to the status of authorized but unissued shares of the Company.

 

Repurchased shares of the Company’s common stock were accounted for as a reduction to common stock and additional paid-in-capital in the period in which the repurchase occurred.

 

Additional Paid-in Capital.  For the three months ended March 31, 2010 and 2009, additional paid-in capital decreased by $4.0 million and $17.6 million, respectively. The decrease in 2010 was due primarily to the common stock repurchase program partially offset by the amortization of stock based compensation and a net issuance of common stock under the 2009 STIP to the Company’s CEO after purchase of common stock from the executive for tax withholdings.

 

Net Income per Common Share.  Basic net income per common share is computed on the basis of the weighted average common shares outstanding. Diluted net income per common share is computed on the basis of the weighted average common shares outstanding plus the effect of all potentially dilutive common shares including

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UNAUDITED NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

outstanding restricted stock using the “treasury stock” method plus the effect of outstanding RSUs, which are treated as contingently issuable shares. During the first quarter of 2010, the Company acquired a total of 25,658 shares of the Company’s common stock from the Company’s CEO in payment of required tax withholdings for the common stock awarded in March 2010 related to the 2009 STIP. These shares of common stock acquired were retired and excluded from the Company’s reported outstanding share balance as of March 31, 2010. Also, 364,407 shares of common stock repurchased by the Company under its common stock repurchase program were retired and excluded from the Company’s reported outstanding share balance as of March 31, 2010. The components of basic and diluted net income per common share for the three months ended March 31, 2010 and 2009, respectively, were as follows:

 

 

(13) Stock Based Compensation — Compensation expense associated with common stock, RSUs and restricted stock was recognized based on the fair value of the instruments, over the instruments’ vesting period. The following table reflects the results of operations line items for stock based compensation expense for the periods stated.

 

 

Stock based compensation expense for the three months ended March 31, 2009 included $0.4 million for the fair value of common stock issued to certain members of management as part of the Additional Target Award of the 2006 LTIP.

 

(14) Income Taxes — The Company files its tax returns as prescribed by the tax laws of the jurisdictions in which it operates. During December 2009, the Internal Revenue Service (the “IRS”) informally notified the Company that it is planning to audit the Company’s 2007 and 2008 Federal income tax returns. The Company has not yet received an official notification of audits from the IRS.

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UNAUDITED NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

The Company is required to evaluate the recoverability of its deferred income tax assets on an ongoing basis. The assessment is required to determine whether based on all available evidence, it is more likely than not that all or some portion of the deferred income tax assets will be realized in future periods. The Company’s management has concluded that not all of its deferred income tax assets would be recoverable. At March 31, 2010, the Company had a valuation allowance of $212.8 million, which decreased the deferred income tax assets to their estimated recoverable amounts. There was a minimal change to the valuation allowance during the first quarter of 2010.

 

The anticipated effective income tax rate is expected to continue to differ from the Federal statutory rate of 35% primarily due to the effect of state income taxes, permanent differences between book and taxable income and certain discrete items.

 

(15) Related Party Transactions — Effective November 16, 2004, two members of the Company’s Board of Directors also served as directors for entities that lease transmission tower sites to the Company. In January 2008, one of these non-executive directors voluntarily resigned from the Company’s Board of Directors and, effective January 1, 2008, was no longer a related party. For the three months ended March 31, 2010 and 2009, the Company paid $2.7 million and $3.0 million, respectively, in site rent expenses that are included in service, rental and maintenance expenses to the remaining related party.

 

(16) Segment Reporting — USA Mobility currently has one operating segment: domestic operations.

 

(17) Commitments and Contingencies — USA Mobility, from time to time, is involved in lawsuits arising in the normal course of business. USA Mobility believes that these pending lawsuits will not have a material adverse impact on the Company’s financial results or operations.

 

There were no material changes during the quarter ended March 31, 2010 to the legal contingencies previously reported in the 2009 Annual Report.

 

On March 23, 2010, the President of the United States signed into law the Patient Protection and Affordable Care Act, and, in conjunction with this legislation, on March 30, 2010 a reconciliation measure, the Health Care and Education Affordability Reconciliation Act of 2010 was enacted (collectively “the Health Care Acts”). The Health Care Acts provide for comprehensive health care reforms that make extensive changes to the current system of health care insurance and benefits.

 

The Health Care Acts also make changes to the Internal Revenue Code impacting both individuals and businesses. The Health Care Acts immediately impact companies that provide retirees with prescription drug coverage by eliminating the tax deduction for the portion of prescription drug costs for which a company received a Federal subsidy. The Company does not provide retirees with prescription drug coverage and was not impacted by this provision of the Health Care Acts.

 

The Company is evaluating the impact of the numerous other provisions of the Health Care Acts on the Company’s operations and costs of providing health care coverage to its employees. The Company is currently unable to predict the impact of changes resulting from the Health Care Acts on its financial position or results of operations.

 

Forward-Looking Statements

 

This Quarterly Report contains forward-looking statements and information relating to USA Mobility, Inc. and its subsidiaries (“USA Mobility” or the “Company”) that are based on management’s beliefs as well as assumptions made by and information currently available to management. These statements are made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Statements that are predictive in nature, that depend upon or refer to future events or conditions, or that include words such as “anticipate”, “believe”, “estimate”, “expect”, “intend” and similar expressions, as they relate to USA Mobility, Inc. and its subsidiaries or its management are forward-looking statements. Although these statements are based upon assumptions management considers reasonable, they are subject to certain risks, uncertainties and assumptions, including but not limited to those factors set forth below and under the captions “Business,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”),” and “Part I — Item 1A — Risk Factors” in the Company’s Annual Report on Form 10-K for the year ended December 31, 2009, filed with the United States Securities and Exchange Commission (the “SEC”) on February 25, 2010 (the “2009 Annual Report”). Should one or more of these risks or uncertainties materialize, or should underlying assumptions prove incorrect, actual results or outcomes may vary materially from those described herein as anticipated, believed, estimated, expected or intended. Investors are cautioned not to place undue reliance on these forward-looking statements, which speak only as of their respective dates. The Company undertakes no obligation to update or revise any forward-looking statements. All subsequent written or oral forward-looking statements attributable to USA Mobility, Inc. and its subsidiaries or persons acting on their behalf are expressly qualified in their entirety by the discussion under “Item 1A. Risk Factors” section.

 

Overview

 

In preparing the discussion and analysis contained in this Item 2, the Company presumes that readers have read or have access to the discussion and analysis contained in the 2009 Annual Report. In addition, the following discussion and analysis should be read in conjunction with USA Mobility’s condensed consolidated financial statements and related notes and “Part I — Item 1A — Risk Factors”, which describe key risks associated with the Company’s operations and industry, and “Part II — Item 7 — Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”)” section of the 2009 Annual Report.

 

Sales and Marketing

 

USA Mobility markets and distributes its services through a direct sales force and a small indirect sales channel.

 

Direct.  The direct sales force rents or sells products and messaging services directly to customers ranging from small and medium-sized businesses to companies in the Fortune 1000, healthcare and related businesses and Federal, state and local government agencies. USA Mobility intends to continue to market to commercial enterprises utilizing its direct sales force as these commercial enterprises have typically disconnected service at a lower rate than individual consumers. USA Mobility sales personnel maintain a sales presence throughout the United States. In addition, the Company maintains several corporate sales groups focused on medical sales; Federal government accounts; large enterprises; advanced wireless services; systems sales applications; emergency/mass notification services and other product offerings.

 

Indirect.  Within the indirect channel, the Company contracts with and invoices an intermediary for airtime services (which includes telemetry services). The intermediary or “reseller” in turn markets, sells, and provides customer service to the end user. Generally, there is no contractual relationship that exists between USA Mobility and the end subscriber. Therefore, operating costs per unit to provide these services are lower than those required in the direct distribution channel. Indirect units in service typically have lower average revenue per unit than direct units in service. The rate at which subscribers disconnect service in the indirect distribution channel has generally been higher than the rate experienced with direct customers, and USA Mobility expects this trend to continue in the foreseeable future.

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

 

 

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

 

 

Customers may subscribe to one-way or two-way messaging services for a periodic (monthly, quarterly or annual) service fee which is generally based upon the type of service provided, the geographic area covered, the number of devices provided to the customer and the period of commitment. Voice mail, personalized greeting and equipment loss and/or maintenance protection may be added to either one-way or two-way messaging services, as applicable, for an additional monthly fee. Equipment loss protection allows subscribers who lease devices to limit their cost of replacement upon loss or destruction of a messaging device. Maintenance services are offered to subscribers who own their device.

 

A subscriber to one-way messaging services may select coverage on a local, regional or nationwide basis to best meet their messaging needs. Local coverage generally allows the subscriber to receive messages within a small geographic area, such as a city. Regional coverage allows a subscriber to receive messages in a larger area, which may include a large portion of a state or sometimes groups of states. Nationwide coverage allows a subscriber to receive messages in major markets throughout the United States. The monthly fee generally increases with coverage area. Two-way messaging is generally offered on a nationwide basis.

 

The following table summarizes the breakdown of the Company’s one-way and two-way units in service at specified dates:

 

The demand for one-way and two-way messaging services declined at each specified date and USA Mobility believes demand will continue to decline for the foreseeable future. Demand for the Company’s services has also been impacted by the weak United States economy due to increased unemployment rates nationwide. To the extent that unemployment may increase throughout 2010, the Company anticipates an unfavorable impact on the level of subscriber cancellations.

 

USA Mobility provides wireless messaging services to subscribers for a periodic fee, as described above. In addition, subscribers either lease a messaging device from the Company for an additional fixed monthly fee or they own a device, having purchased it either from the Company or from another vendor. USA Mobility also sells devices to resellers who lease or resell devices to their subscribers and then sell messaging services utilizing the Company’s networks.

 

The following table summarizes the number of units in service owned by the Company, its subscribers and indirect customers at specified dates:

 

 

USA Mobility derives the majority of its 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. 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 the Company’s success at retaining subscribers, which is important in order to maintain recurring revenues and to control operating expenses.

 

The following table sets forth the Company’s gross placements and disconnects for the periods stated:

 

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

 

 

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 average revenue per unit (“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.

 

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

 

 

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 the Company’s services. Gross revenues decreased year over year, and the Company expects future sequential annual revenues to decline in line with recent trends. The increase in consolidated ARPU for the quarter ended March 31, 2010 from the quarter ended December 31, 2009 was due primarily to the positive impact to ARPU resulting from selected price increases implemented during the first quarter of 2010, partially offset by the change in composition of the Company’s customer base as the percentage of units in service attributable to larger customers continues to increase. The change in ARPU in the direct distribution channel is the most significant indicator of rate-related changes in the Company’s revenues. In 2010, the Company implemented price increases in the indirect channel. The Company believes without further price adjustments, ARPU would trend lower for both the direct and indirect distribution channels in 2010 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 period stated:

 

 

Operations

 

USA Mobility’s operating expenses are presented in functional categories. Certain of the Company’s functional categories are especially important to overall expense control; these operating expenses are categorized as follows:

 

 

USA Mobility reviews the percentages of these operating expenses to revenues on a regular basis. Even though the operating expenses are classified as described above, expense controls are also performed by expense category. For the three months ended March 31, 2010 and 2009, approximately 80% of the operating expenses referred to above were incurred in three expense categories: payroll and related expenses, site rent expenses, and telecommunications expenses. Payroll and related expenses for the three months ended March 31, 2009 also reflected $1.6 million related to the one-time payment of the 2006 LTIP Additional Target Award

 

Payroll and related expenses include wages, incentives, employee benefits and related taxes. USA Mobility reviews the number of employees in major functional categories such as direct sales, engineering and technical staff, customer service, collections and inventory on a monthly basis. The Company also reviews the design and physical locations of functional groups to continuously improve efficiency, to simplify organizational structures and to minimize the number of physical locations. The Company has reduced its employee base by approximately 20.1% to 628 full time equivalent employees (“FTEs”) at March 31, 2010 from 786 FTEs at March 31, 2009. The Company anticipates continued staffing reductions in 2010.

 

Site rent expenses for transmitter locations are largely dependent on the Company’s paging networks. USA Mobility operates 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 the Company’s operating margin as revenues decline. In order to reduce these expenses, USA Mobility has an active program to

consolidate the number of networks and thus transmitter locations, which the Company refers to as network rationalization. The Company has reduced the number of active transmitters by 20.0% to 6,777 active transmitters at March 31, 2010 from 8,476 active transmitters at March 31, 2009.

 

Telecommunications expenses are incurred to interconnect USA Mobility’s paging networks and to provide telephone numbers for customer use, points of contact for customer service and connectivity among the Company’s offices. These expenses are dependent on the number of units in service and the number of office and network locations the Company maintains. 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 the Company’s 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 telecommunications expenses to vary regardless of the number of units in service. In addition, certain phone numbers USA Mobility provides to its customers may have a usage component based on the number and duration of calls to the subscriber’s messaging device. Telecommunications expenses do not necessarily vary in direct relationship to units in service. Therefore, based on the factors discussed above, efforts are underway to review and reduce telephone circuit inventories.

 

The total of USA Mobility’s cost of products sold; service, rental and maintenance; selling and marketing; general and administrative; and severance and restructuring expenses was $40.8 million and $51.1 million for the three months ended March 31, 2010 and 2009, respectively. Since the Company believes the demand for, and the Company’s revenues from, one-way and two-way messaging will continue to decline in future years, expense reductions will continue to be necessary in order for USA Mobility to mitigate the financial impact of such revenue declines on its cash from operating activities. However, there can be no assurance that the Company will be able to maintain margins or generate continuing net cash from operating activities.

 

Results of Operations

 

Comparison of the Results of Operations and Selected Operating Expenses for the Three Months Ended March 31, 2010 and 2009

 

 

Revenues

 

Service, rental and maintenance revenues consist primarily of recurring fees associated with the provision of messaging services and rental of leased units and is net of a provision for service credits. Product sales consist

primarily of revenues associated with the sale of devices and charges for leased devices that are not returned and are net of anticipated credits. The decrease in revenues reflected the decrease in demand for the Company’s wireless services. As indicated above, USA Mobility’s total revenues were $62.8 million and $79.7 million for the three months ended March 31, 2010 and 2009, respectively. The table below details total service, rental and maintenance revenues, net of service credits for the periods stated:

 

 

The table below sets forth units in service and service revenues, the changes in each between the three months ended March 31, 2010 and 2009 and the changes in revenues associated with differences in ARPU and the number of units in service.

 

 

 

 

As previously discussed, demand for messaging services has declined over the past several years and the Company anticipates that it will continue to decline for the foreseeable future, which would result in reductions in service, rental and maintenance revenues due to the lower number of subscribers and related units in service. The selected price increases implemented in 2010 and 2009 mitigated, but did not completely offset, the expected declines in revenues resulting from the reduction in subscribers.

Operating Expenses

 

Cost of Products Sold.  Cost of products sold consists primarily of the cost basis of devices sold to or lost by USA Mobility’s customers and costs associated with system sales. The decrease of $0.5 million for the three months ended March 31, 2010 compared to the same period in 2009 was due primarily to a decrease in sales of management systems to customers.

 

Service, Rental and Maintenance.  Service, rental and maintenance expenses consist primarily of the following significant items: