| • | incur additional debt and issue preferred stock; make restricted payments, including paying dividends on, redeeming, repurchasing, or retiring our capital stock; make investments and prepay or redeem debt; enter into agreements restricting our subsidiaries’ ability to pay dividends, make loans, or transfer assets to us; | • | | create liens; | | | • | make restricted payments, including paying dividends on, redeeming, repurchasing or retiring our capital stock; | | | • | make investments and prepay or redeem debt; | | | • | enter into agreements restricting our subsidiaries’ ability to pay dividends, make loans or transfer assets to us; | | | • | create liens; |
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| | | | • | sell or otherwise dispose of assets, including capital stock of subsidiaries; | | | • | | engage in transactions with affiliates; | | | • | | engage in sale and leaseback transactions; | | | • | | make capital expenditures; | | | • | | engage in a business other than telecommunications businesses;telecommunications; and | | | • | | consolidate or merge. |
In addition, our credit agreement requires and any future credit agreements may require, us to comply with specified financial ratios, including ratios regarding interest coverage, total leverage senior secured leverage and fixed chargeinterest coverage. Our ability to comply with these ratios may be affected by events beyond our control. These restrictions:restrictions limit our ability to plan for or react to market conditions, meet capital needs, or otherwise constrain our activities or business plans. They also may adversely affect our ability to finance our operations, enter into acquisitions, or engage in other business activities that would be in our interest. | | | | • | limit our ability to plan for or react to market conditions, meet capital needs or otherwise restrict our activities or business plans; and | | | • | adversely affect our ability to finance our operations, enter into acquisitions or to engage in other business activities that would be in our interest. |
In the event of a default under the amended and restated credit agreement, the lenders could foreclose on the assets and capital stock pledged to them.
A breach of any of the covenants contained in our credit agreement, or in any future credit agreements,agreement, or our inability to comply with the financial ratios could result in an event of default, which would allow the lenders to declare all borrowings outstanding to be due and payable, which would in turn trigger an event of default under the indenture.payable. If the amounts outstanding under our credit facilities or our senior notes were to be accelerated, we cannot assure you that our assets would be sufficient to repay in full the money owed toowed. In such a situation, the lenders orcould foreclose on the assets and capital stock pledged to our other debt holders.them. 27
Because we expect to needWe may not be able to refinance our existing debt if necessary, or we face the risks of either not beingmay only be able to do so or doing so at a higher interest expense.
Our senior notes mature in 2012 and our credit facilities mature in full in 2011. We2014, and we may not be able to refinance our senior notes or renew or refinance our credit facilities, orthose loans. Alternatively, any renewal or refinancing may occur on less favorable terms. If we are unable to refinance or renew our senior notes or our credit facilities, our failure to repay all amounts due on the maturity date would cause a default under the indenture or the credit agreement. In addition, our interest expense may increase significantly ifIf we refinance our senior notes, which bear interest at 93/4% per year, or our amended and restated credit facilities which bear interest at the London interbank offered rate, or LIBOR, plus 1.75% per year, on terms that are less favorable to us than the existing terms of our senior notes or credit facilities,existing debt, our interest expense may increase significantly, which could impair our ability to use our funds for other purposes, such as to pay dividends. Risks Relating to Our Business The telecommunications industry is generally subject to substantial regulatory changes, rapid developmentconstantly changing and introduction of new technologies and intense competition that could cause us to suffer price reductions, customer losses, reduced operating margins or loss of market share.is increasing. The telecommunications industry has been, and we believe will continue to be, characterized by several trends, including including: increased competition within established markets from providers that may offer competing or alternative services; the following:blurring of traditional dividing lines between, and the bundling of, different services, such as local dial tone, long distance, wireless, cable, and data and Internet services; and an increase in mergers and strategic alliances that allow one telecommunications provider to offer increased services or access to wider geographic markets. | | | | • | substantial regulatory change due to the passage and implementation of the Telecommunications Act, which included changes designed to stimulate competition for both local and long distance telecommunications services; |
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| | | | • | rapid development and introduction of new technologies and services; | | | • | increased competition within established markets from current and new market entrants that may provide competing or alternative services; | | | • | the blurring of traditional dividing lines between, and the bundling of, different services, such as local dial tone, long distance, wireless, cable, data and Internet services; and | | | • | an increase in mergers and strategic alliances that allow one telecommunications provider to offer increased services or access to wider geographic markets. |
We expect competition to intensify as a result of new competitors and the development of new technologies, products, and services. Some or all of these risksConsequently, we may cause us to haveneed to spend significantly more in capital expenditures than we currently anticipate to keep existing customers and to attract new customers.ones. Many of our voice and data competitors, such as cable providers, Internet access providers, wireless service providers, and long distance carriers, have brand recognition and financial, personnel,technical, marketing, and other resources that are significantly greater than ours. In addition, due to consolidation and strategic alliances within the telecommunications industry, we cannot predict the number of competitors thatwe will emerge, especially as a result of existing or new federal and state regulatory or legislative actions. For example, the acquisition of AT&T, one of our largest customers, by SBC, the dominant local exchange company in the areas in which our Texas rural telephone companies operate, could increase competitive pressures for our services and impact our long distance and access revenues. Such increasedface at any given time. Increased competition from existing and new entities could lead to price reductions, loss of customers, reduced operating margins, or loss of market share. The use of new technologies by other existing companies may increase our costs and cause us to lose customers and revenues. The telecommunications industry is subject to rapid and significant changes in technology, frequent new service introductions, and evolving industry standards. Technological developments may reduce the competitiveness ofmake our services and requireless competitive. We may need to respond by making unbudgeted upgrades or significant capital expenditures, and the procurement ofor by developing additional services, thatwhich could be expensive and time consuming. New services arising out of technological developments may reduce the competitiveness of our services. If we fail to respond successfully to technological changes or obsolescence, or fail to obtain access tomake use of important new technologies, we could lose customers and revenues and be limited in our ability to attract new customers or sell new services to our existing customers. The successful development of new services, which is an element of our business strategy, is uncertain and dependent on many factors, and we may not generate anticipated revenues from such services, which would reduce our profitability. We cannot predict the effect of these changes on our competitive position, costs, or our profitability. In addition, part of our marketing strategy is based on market acceptance of DSL and DVS. Wewe expect that an increasing amount of our revenues will come from providing DSL, digital telephone and DVS.IPTV services. The market for high-speed Internet access is still developing, and we expect current competitors and new market entrants to introduce competing services and to develop new technologies. Likewise, the ability to deliver high qualityhigh-quality video service over traditional telephone lines is a new developmentrecent advance that has not yet been proven.is still developing. The markets for these services could fail to develop, grow more slowly than anticipated, or become saturated with competitors with superior pricing or services. In addition, ourfederal or state regulators may expand their control over DSL, digital telephone service and DVS offerings may become subject to newly adopted laws and regulations.IPTV offerings. We cannot predict the outcome of these regulatory developments or how they may affect our regulatory obligations or the form of competition for these services. As a result, we could have higher costs and capital expenditures, lower revenues, and greater competition than expected for DSL, digital telephone and DVSIPTV services. 3428
If we are not successful in integrating TXUCV, we may have higher costs and fail to achieve expected cost savings, among other things.
Our future success, and thus our ability to pay interest and principal on our indebtedness and dividends on our common stockWe will depend in part on our ability to integrate TXUCV into our business. Since the closing of the TXUCV acquisition, we have incurred approximately $14.4 in operating expenses associated with the integration and restructuring of TXUCV. Theseincur additional integration and restructuring costs are in addition to the additional costs associated with completing the integration of our Illinois and Texas billing systems and certain ongoing costs we expect to incur to expand certain administrative functions, such as those relating to SEC reporting and compliance and do not take into account other potential cost savings and expenses of the TXUCV acquisition. The integration of TXUCV involves numerous risks, including the following:
| | | | • | greater demands on our management and administrative resources; | | | • | difficulties and unexpected costs in integrating the operations, personnel, services, technologies and other systems of our Illinois and Texas operations; | | | • | possible unexpected loss of key employees, customers and suppliers; | | | • | unanticipated liabilities and contingencies of TXUCV and its business; | | | • | unexpected costs of integrating the management and operation of the two businesses; and | | | • | failure to achieve expected cost savings. |
These challenges and uncertainties could increase our costs and cause our management to spend less time than expected executing our business strategy. We may not be able to manage the combined operations and assets effectively or realize all or any of the anticipated benefits of the acquisition. To the extent that we make any additional acquisitions in the future, these risks would likely be exacerbated.
We may become responsible for unexpected liabilities or other contingencies that we did not discover in the course of performing due diligence in connection with the TXUCV acquisition. Under the stock purchase agreement, the parent company of TXUCV agreedcompleted North Pittsburgh merger.
We have incurred and will continue to indemnify us against certain undisclosed liabilities. We cannot assure you, however, that any indemnification will be enforceable, collectible or sufficientincur significant integration and restructuring costs in amount, scope or duration to fully offset any possible liabilities associatedconnection with the acquisition. AnyNorth Pittsburgh merger. Although we expect to realize efficiencies from the integration of these contingencies, individually orthe businesses that will offset incremental transaction, integration, and restructuring costs over time, we cannot give any assurance that we will achieve this net benefit in the aggregate, could increase our costs.near term. Our possible pursuit ofFuture acquisitions iscould be expensive and may not be successful and, even if it is successful, may be more costly than anticipated.successful.
Our acquisition strategy entails numerous risks. The pursuit of acquisition candidates iscould be expensive and may not be successful. Our ability to complete future acquisitions will depend on our ability towhether we can identify suitable acquisition candidates, negotiate acceptable terms, for their acquisition and, if necessary, finance those acquisitions,acquisitions. We may be competing in each case, before any attractive candidates are purchased bythese endeavors with other parties, some of whomwhich may have greater financial and other resources than us.we do. Whether or not any particular acquisition is closed successfully, eachthe pursuit of these activities is expensive and time consuming andan acquisition would likely require our management to spend considerable time and effort to accomplish them,from management, which would detract from their ability to run our current business. We may face unexpected challenges in receiving any required approvals from the FCC, the ICC, or other applicable state regulatory commissions,regulator(s), which could result in delay or our not being able to consummate theprevent an acquisition. Although we may spend considerable expense and effort to pursue acquisitions, we may not be successful in closing them. If we are successful in closing any acquisitions,an acquisition, we would face several risks in integrating them, including those listed above regarding the risks of integrating TXUCV. In addition, any due diligence we perform may not prove to have been accurate.acquired business. For example, we may face unexpected difficulties in entering markets in which we have little or no direct prior experience or in generating expected revenue and cash flow from the acquired companiescompany or assets. The risks identified above may make it more 35
challenging and costly to integrate TXUCV if we have not done so fully by the time of any new acquisition.
Currently, we are not pursuing any acquisitions or other strategic transactions. But, if anyAny of these risks materialize, theypotential problems could have a material adverse effect on our business and our ability to achieve sufficient cash flow, provide adequate working capital, service and repay our indebtedness, and leave sufficient funds to pay dividends.
Poor economic conditions in our service areas in Illinois and Texas could cause us to lose local access lines and revenues.
Substantially all of our customers and operations are located in Illinois and Texas. The customer base for telecommunications services in each of our rural telephone companies’ service areas in Illinois and Texas is small and geographically concentrated, particularly for residential customers. Due to our geographical concentration, the successful operation and growth of our business is primarily dependent on economic conditions in our rural telephone companies’ service areas. The economies of these areas, in turn, are dependent upon many factors, including:
| | | | • | demographic trends; | | | • | in Illinois, the strength of the agricultural markets and the light manufacturing and services industries, continued demand from universities and hospitals and the level of government spending; and | | | • | in Texas, the strength of the manufacturing, health care, waste management and retail industries and continued demand from schools and hospitals. |
Poor economic conditions and other factors beyond our control in our rural telephone companies’ service areas could cause a decline in our local access lines and revenues.
A system failure could cause delays or interruptions of service, which could cause us to lose customers. In the past, we have experienced short, localized disruptions in our service due to factors such as cable damage, inclement weather, and service failures ofby our third partythird-party service providers. To be successful, we will need to continue to provide our customers reliable service over our network. The principal risks to our network and infrastructure include:include physical damage to our central offices or local access lines, power surges or outages, software defects, and other disruptions beyond our control. | | | | • | physical damage to our central offices or local access lines; | | | • | disruptions beyond our control; | | | • | power surges or outages; and | | | • | software defects. |
Disruptions may cause interruptions in service or reduced capacity for customers, either of which could cause us to lose customers and incur unexpected expenses, and thereby adversely affect our business, revenue and cash flow.expenses. Loss of a large customer could reduce our revenues. In addition, a significant portion of our revenues from theThe State of Illinois is based ona significant customer, and our contracts thatwith the state are favorable to the government.
Our success depends in part upon the retention of our large customers such as AT&TIn 2008 and the State of Illinois. AT&T accounted for 5.0%2007, 47.4% and the State of Illinois accounted for 5.8% of our revenues during 2005, and 5.0% and 7.4% of our revenues for December 31, 2004, respectively. In general, telecommunications companies such as ours face the risk of losing customers as a result of contract expiration, merger or acquisition, business failure or the selection of another provider of voice or data services. In addition, we generate a significant portion of our operating revenues from originating and terminating long distance and international telephone calls for carriers such as AT&T and MCI, which
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have recently been acquired or experienced substantial financial difficulties. We cannot assure you that we will be able to retain long-term relationships or secure renewals of short-term relationships with our customers in the future.
In 2005 and 2004, 46.2% and 49.6%46.5%, respectively, of our Other Operations revenues were derived from our relationships with various agencies of the State of Illinois, Illinois—principally the Department of Corrections through Public Services. Our relationship with the Department of Corrections accounted for 93.0% and 92.8%, respectively,91.6% of our Public Services revenues during 20052008, and 2004.93.5% during 2007. Our predecessor’s relationship (initially through our predecessor) with the Department of Corrections has existedcontinued uninterrupted since 1990, despite changes in government administrations. Nevertheless, obtaining contracts from government agencies is challenging, and government contracts like our contracts with the State of Illinois, often include provisions that are favorable to the government in ways that are not standard in private commercial transactions. Specifically, each of our contracts with the State of Illinois:
permits the applicable state agency to terminate the contract without cause and without penalty under some circumstances; has renewal provisions that require decisions of state agencies that are subject to political influence; 29
| | | | • | includes provisions that allow the respective state agency to terminate the contract without cause and without penalty under some circumstances; | | | • | is subject to decisions of state agencies that are subject to political influence on renewal; | | | • | gives the State of Illinois the right to renew the contract at its option but does not give us the same right; and | | | • | could be cancelled if state funding becomes unavailable. |
gives the State of Illinois the right to renew the contract at its option but does not give us the same right; and could be cancelled if state funding becomes unavailable. The failure of the State of Illinois to perform under the existing agreements for any reason, or to renew the agreements when they expire, could have a material adverse effect on our revenues. For example, the State of Illinois, which represented 40.8% of the revenues of our Market Response business for 2004, awarded the renewal of the Illinois State Toll Highway Authority contract, the sole source of those revenues, to another provider. If we are unsuccessful in obtainingcannot obtain and maintainingmaintain necessaryrights-of-way rights-of-way for our network, our operations may be interrupted and we would likely face increased costs. We need to obtain and maintain the necessaryrights-of-way rights-of-way for our network from governmental and quasi-governmental entities and third parties, such as railroads, utilities, state highway authorities, local governments, and transit authorities. We may not be successful in obtaining and maintaining theserights-of-way rights-of-way or obtaining them on acceptable terms whether in existing or new service areas.terms. Some of the agreements relating to theserights-of-wayrights-of-way may be short-term or revocable at will, and we cannot be certain that we will continue to have access to existingrights-of-way rights-of-way after they have expiredthe governing agreements are terminated or terminated.expire. If any of ourrights-of-way right-of-way agreements were terminated or could not be renewed, we may be forced to remove our network facilities from under the affectedrights-of-way areas or relocate or abandon our networks. We may not be ableThis would interrupt our operations and force us to maintain all of our existingrights-of-wayfind alternative rights-of-way and permits or obtain and maintain the additionalrights-of-way and permits needed to implement our business plan.make unexpected capital expenditures. In addition, our failure to maintain the necessaryrights-of-way, rights-of-way, franchises, easements, licenses, and permits may result in an event of default under the amended and restatedour credit agreement and other credit agreements we may enter into in the future and, as a result, other agreements governing our debt. As a result of the above, our operations may be interrupted and we may need to find alternativerights-of-way and make unexpected capital expenditures.agreement. We are dependent on third partythird-party vendors for our information, billing, and billing systems. Any significant disruption in our relationship with these vendors could increase our costs and affect our operating efficiencies.network systems, as well as IPTV service. Sophisticated information and billing systems are vital to our ability to monitor and control costs, bill customers, process customer orders, provide customer service, and achieve operating efficiencies. We currently rely on internal systems and third partythird-party vendors to provide all of our information and processing systems.systems, as well as applications that support our IP services, including IPTV. Some of our billing, customer service, and management information systems have been developed 37
for us by third parties for us and may not perform as anticipated. In addition, our plans for developing and implementing our information andsystems, billing systems, network systems, and IPTV service rely primarily on the delivery of products and services by third partythird-party vendors. Our right to use these systems is dependent upon license agreements, with third party vendors. Somesome of which can be cancelled by the vendor. If a vendor cancels or refuses to renew one of these agreements, are cancelable byour operations may be impaired. If we need to switch vendors, the vendor, and the cancellation or nonrenewable nature of these agreements could impair our ability to process orders or bill our customers. Since we rely on third party vendors to provide some of these services, any switch in vendorstransition could be costly and affect operating efficiencies. The loss ofWe depend on certain key management personnel, or the inabilityand need to continue to attract and retain highly qualified management and other personnel in the future, could have a material adverse effect on our business, financial condition and results of operations.future.
Our success depends upon the talents and efforts of key management personnel, many of whom have been with our company and in our industry for decades, including Mr. Lumpkin, Robert J. Currey, Steven L. Childers, Joseph R. Dively, Steven J. Shirar, C. Robert Udell, Jr. and Christopher A. Young. There are no employment agreements with any of these senior managers.decades. The loss of any such management personnel,of these individuals, due to retirement or otherwise, and the inability to attract and retain highly qualified technical and management personnel in the future, could have a material adverse effect on our business, financial condition, and results of operations. Regulatory Risks The telecommunications industry in which we operate is subject to extensive federal, state and local regulation that could change in a manner adverse to us. Our main sources of revenues are our local telephone businesses in Illinois, Pennsylvania, and Texas. The laws and regulations governing these businesses may be, and in some cases have been, challenged in the courts, and could be changed by Congress, state legislatures, or regulators at any time.regulators. In addition, new regulations could be imposed by federal or state authorities increasingcould impose new regulations that increase our operating costs or capital requirements or that are otherwise adverse to us. We cannot predict the impact of future developments or changes to the regulatory environment or the impact such developments or changes may have on us. Adverse rulings, legislation or changes in governmental policy on issues material to us could increase our competition, cause us to lose customers to competitors and decrease our revenues, increase our costs and decrease profitability. Our rural telephone companies could lose their rural status under interconnection rules, which would increase our costs and could cause us to lose customers and the associated revenues to competitors.
The Telecommunications Act imposes a number of interconnection and other requirements on local communications providers, including incumbent telephone companies. Each of the subsidiaries through which we operate our local telephone businesses is an incumbent telephone company and is also classified as a rural telephone company under the Telecommunications Act. The Telecommunications Act exempts rural telephone companies from some of the more burdensome interconnection requirements such as unbundling of network elements and sharing information and facilities with other communications providers. These unbundling requirements and the obligation to offer unbundled network elements, or UNEs, to competitors, impose substantial costs on, and result in customer attrition for, the incumbent telephone companies that must comply with these requirements. The ICC or the PUCT can terminate the applicable rural exemption for each of our rural telephone companies if it receives a bona fide request for full interconnection from another telecommunications carrier and the state commission determines that the request is technically feasible, not unduly economically burdensome and consistent with universal service requirements. Neither the ICC nor the PUCT has yet terminated, or proposed to terminate, the rural exemption for any of our rural telephone companies. If the ICC or PUCT terminates the applicable rural exemption in whole or in part for any of our rural telephone companies, or if the applicable state commission does not allow us adequate compensation for the costs of providing the interconnection or
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UNEs, our administrative and regulatory costs could increase significantly and we could suffer a significant loss of customers and revenues to existing or new competitors.
Legislative or regulatory changes could reduce or eliminate the revenues our rural telephone companies receive from network access charges. A significant portion of our rural telephone companies’ILECs’ revenues come from network access charges paid by long distance and other carriers for originating or terminating calls in our rural telephone companies’ service areas. The amount of network access charge revenues that our rural telephone companiesILECs receive is based on interstate rates set by the FCC and intrastate rates set by the ICC and PUCT.state regulators. The FCC has reformed, and continues to reform, the federal network access charge system, and the states, including Illinois and Texas, often establish intrastate network access charges that mirror or otherwise interrelate with the federal rules.system. Traditionally, regulators have allowed network access rates to be set higher in rural areas than the actual cost of originating or terminating calls as an implicit means of subsidizing the high cost of providing local service in rural areas. In 2001, the FCC adopted rules reforming the network access charge system for rural carriers, including reductions in per-minute access charges and increases in both universal service fund subsidies and flat-rate, monthly per line charges on end-user customers. Our Illinois rural telephone company’s intrastate network access rates mirror interstate network access rates. Illinois does not provide, however, an explicit subsidy in the form of a universal service fund applicable to our Illinois rural telephone company. As a result, while subsidies from the federal universal service fund have offset Illinois Telephone Operations’ decrease in revenues resulting from the reduction in interstate network access rates, there was not a corresponding offset for the decrease in revenues from the reduction in intrastate network access rates.
The FCC is currently considering even more sweeping potential changes in network access charges. Depending on the FCC’s decisions, our current network access charge revenues could be reduced materially, and wedecline materially. We do not know whether increases in other revenues, such as federal or Texas subsidies and monthly line charges, will be sufficient toeffectively offset any such reductions.reductions in access charges. The ICC and the PUCTstate regulators also may make changes in our intrastate network access charges which may also cause reductions inthat could reduce our revenues. To the extent any of our ruralregulators permit competitive telephone companies become subject to competition and competitive telephone companies increase their operations in the areas served by our rural telephone companies, a portion of long distance and other carriers’ network access charges will be paid to ourthose competitors rather than to our companies. In addition,Finally, the compensation our companies receive from network access charges could be reduced due to competition from wireless carriers. In addition, VOIP services are increasingly being embraced by cable companies, incumbent telephone companies, competitive telephone companies and long distance carriers. The FCC is considering whether VOIP services are regulated telecommunications services or unregulated information services and is considering whether providers of VOIP services are obligated to pay access charges for calls originating or terminating on incumbentOur Pennsylvania rural telephone company facilities. We cannot predict the outcomeis an average schedule rate of the FCC’s rulemaking or the impact on the revenues of our rural telephone companies. The proliferation of VOIP, particularly to the extent such communications do not utilize our rural telephone companies’ networks, may cause significant reductions to our rural telephone companies’ network access charge revenues.
We believe telecommunications carriers, such as long distance carriers or VOIP providers, are disputing and/or avoiding their obligation to pay network access charges to rural telephone companies for use of their networks. If carriers successfully dispute or avoid the applicability of network access charges, our revenues could decrease.
In recent years, telecommunications carriers, such as long distance carriers or VOIP providers, have become more aggressive in disputingreturn company, which means its interstate access charge rates setrevenues are based upon a statistical formula developed by NECA and approved by the FCC, rather than upon its actual costs. The formulas are reviewed by NECA and the applicabilityFCC annually and there could be changes to the formulas in the future, which could have an impact on our revenues.
On October 23, 2006, Verizon Pennsylvania, Inc. and several of networkits affiliates filed a formal complaint with the PAPUC claiming that our Pennsylvania CLEC’s intrastate switched access chargesrates violate Pennsylvania law. The provision that Verizon cites in its complaint requires CLEC rates to their telecommunications traffic. be no higher than the corresponding incumbent’s rates unless the CLEC can demonstrate that higher access rates are “cost justified.” Verizon’s original claim requested a refund of $1.3 million through December 2006. We believe that these disputes have increased in part dueour CLEC’s switched access rates are permissible, and we are vigorously opposing this complaint. In an Initial Decision dated December 5, 2007, the presiding administrative law judge (“ALJ”) recommended that the PAPUC sustain Verizon’s complaint. As relief, the Administrative Law Judge directed that our Pennsylvania CLEC reduce its access rates down to advances in technology that have rendered the identity and jurisdiction of traffic more 39
difficult to ascertain and that have afforded carriers an increased opportunity to assert regulatory distinctions and claims to lower access costs for their traffic. As a resultthose of the increasing deploymentunderlying incumbent exchange carrier and provide a refund to Verizon in an amount equal to the access charges collected in excess of VOIP servicesthe new rate since November 30, 2004. We filed exceptions to the full PAPUC, which requested that Verizon and other technological changes,the Company attempt to resolve the issue through mediation. The parties had until November 29, 2008 to complete the mediation, but through mutual agreement, it has been extended to March 2009.
In the event we believeare not successful in this proceeding, our Pennsylvania CLEC’s operations could suffer material harm—both because of the refund sought by Verizon and because of the prospective decreases in access revenues resulting from the change in the CLEC’s intrastate access rates, which would apply to all carriers on a non-discriminatory basis. Preliminarily estimates suggest that these typesthe decrease in our annual revenues would be approximately $1.2 million on a static basis (keeping access minutes of disputes and claims will likely increase.use constant) if Verizon prevails completely. In addition, other interexchange carriers could file similar claims for refunds. As of December 31, 2008, we believe that there has been a general increasehave reserved $3.2 million in other liabilities on the unauthorized use of telecommunications providers’ networks without payment of appropriate access charges, or so-called “phantom traffic”, due in partbalance sheet relating to advances in technology that have made it easier to use networks without having to pay for the traffic. As a general matter, we believe that this phantom traffic is due to unintended usage and, in some cases, fraud. We cannot assure you that there will not be material claims made against us contesting the applicability of network access charges billed by our rural telephone companies or continued or increased phantom traffic that uses our network without paying us for it. If there is a successful dispute or avoidance of the applicability of network access charges, our revenues could decrease.complaint. Legislative or regulatory changes could reduce or eliminate the government subsidies we receive. The federal and Texas state systemsystems of subsidies, from which we deriveconstitute a significant portion of our revenues, are subject to modification. Our rural telephone companies receive significant federal and state subsidy payments. | | | | • | For the year ended December 31, 2005, we received an aggregate $53.9 million from the federal universal service fund and the Texas universal service fund, which comprised 16.8% of our revenues for the year. | | | • | In 2004, we received an aggregate of $51.5 million from the federal universal service fund and the Texas universal service fund, which comprised 15.9% of our revenues in 2004, after giving effect to the TXUCV acquisition. |
may be modified. During the last two years, the FCC has made modifications tomodified the federal universal service fund system that changedto change the sources of support and the method for determining the level of support recipients of federal universal service fund subsidies receive. It is unclear whether the changes in methodologythat will continue to accurately reflect the costs incurred by our rural telephone companies and whether we will continue to receive the same amount of federal universal service fund support that our rural telephone companies have received in the past.be distributed. The FCC is also currently considering a number of issues regarding the source and amount of contributionsproposals for additional changes to and eligibility for payments from, the federal universal service fund, and thesefund. These issues may also bebecome the subject of legislative amendments to the Telecommunications Act. In December 2004, Congress suspended the application of a law called the Urgent Deficiency Act to the FCC’s universal service fund until December 31, 2005. The Urgent Deficiency Act prohibits government agencies from making financial commitments in excess of their funds on hand. Currently, the universal service fund administrator makes commitments to fund recipients in advance of collecting the contributions from carriers that will pay for these commitments. The FCC has not determined whether the Urgent Deficiency Act would apply to payments to our rural telephone companies. Congress is now considering whether to extend the current temporary legislation that exempts the universal service fund from the Urgent Deficiency Act. If it does not grant this extension, however, the universal service subsidy payments to our rural telephone companies may be delayed or reduced in the future. We cannot predict the outcome of any federal or state legislative action or any FCC, PUCT or ICC rulemaking or similar proceedings. If our rural telephone companies do not continue to receive federal and state subsidies, or if these subsidies are reduced, our rural telephone companiesthese subsidiaries likely will likely have lower revenues and may not be able to operate as profitably as they have historically. In addition, if the number of local access lines that our rural telephone companies serve increases, under the rules governing the federal universal service fund, the rate at which we can recover certain federal universal service fund payments may decrease. This may have an adverse effect on our revenues and profitability.
In addition, under the Telecommunications Act, our competitors can obtain the same level of federal universal service fund subsidies as we do if the ICC or PUCT, as applicable, determines that granting these subsidies to competitors would be in the public interest and the competitors offer and advertise certain telephone services as required by the Telecommunications Act and the FCC. Under current rules,past.
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any such paymentsProposed access and universal service reforms could have an adverse impact on our revenues. The FCC was required to address the ISP remand order by November 5, 2008, to the U.S. Court of Appeals. In conjunction with the requirement, then-FCC Chairman Martin proposed to incorporate comprehensive intercarrier compensation and universal service reform. The FCC circulated an order internally and was scheduled to vote on it at the November 4, 2008, open meeting, but the vote was cancelled. Any comprehensive reform could have an adverse impact on our competitors would not affect the level of subsidies received by our rural telephone companies, but they would facilitate competitive entry into our rural telephone companies’ service areas and our rural telephone companies may not be able to compete as effectively or otherwise continue to operate as profitability.network access revenue. The high costs of regulatory compliance could make it more difficult for us to enter new markets, make acquisitions, or change our prices. Regulatory compliance results inis a significant costsexpense for us and diverts the time and effort of management and our officers away from running ourthe business. In addition, because regulations differ from state to state, we could face significant costs in obtaining information necessaryit would be expensive to compete effectively if we try to provide services, such as long distanceintroduce services in markets in different states. These information barriers could cause us to incur substantial costsstates where we do not currently operate and to encounter significant obstacles and delays in entering these markets.understand the regulatory requirements. Compliance costs and information barriers could also affect our abilitymake it difficult and time-consuming to enter new markets or to evaluate and compete for new opportunities to acquire local access lines or businesses as they arise. Our intrastate services generally are also generally subject to certification, tariff filing, and other ongoing state regulatory requirements. Challenges to our tariffs by regulators or third parties, or delays in obtaining certifications and regulatory approvals, could cause us to incur substantial legal and administrative expenses. IfMoreover, successful these challenges could adversely affect the rates that we are able to charge to customers, which would negatively affect our revenues. Some states also require advance regulatory approval of mergers, acquisitions, transfers of control, stock issuance, and certain types of debt financing, which can increase our costs and delay strategic transactions. Legislative and regulatory changes in the telecommunications industry could raise our costs by facilitating greater competition against us and reduce potential revenues. Legislative and regulatory changes in the telecommunications industry could adversely affect our business by facilitating greater competition against us, reducing our revenues or raising our costs. For example, federal or state legislatures or regulatory commissions could impose new requirements relating to standards or quality of service, credit and collection policies, or obligations to provide new or enhanced services such as high-speed access to the Internet or number portability, whereby consumers can keep their telephone number when changing carriers. Any such requirements could increase operating costs or capital requirements.
The Telecommunications Act provides for significant changes and increased competition in the telecommunications industry. This federal statute and the related regulations remain subject to judicial review and additional rulemakings of the FCC, as well as to implementing actions by state commissions.
Currently, there existsis only a small body of law and regulation applicable to access to, or commerce on, the Internet. As the significance of the Internet expands, federal, state and localbecomes more significant, governments at all levels may adopt new rules and regulations or find new ways to apply existing laws and regulations to the Internet.regulations. The FCC currently is currently reviewing the appropriate regulatory framework governing broadband consumer protections for high speed Internet access to the Internet through telephone and cable providers’ communications networks. The outcome of these proceedings may affect our regulatory obligations and costs and competition for our services, which could have a material adverse effect on our revenues. “Do not call” registries may increase our costs and limit our ability to market our services.
Our Market Response business is subject to various federal and state “do not call” list requirements. Recently, the FCC and the Federal Trade Commission, or FTC, amended their rules to provide for a national “do not call” registry. Under these new federal regulations, consumers may have their phone numbers added to the national registry and telemarketing companies, such as our Market Response business, are prohibited from calling anyone on that registry other than for limited exceptions. In September 2003, telemarketers were given access to the registry and are now required to compare their call lists against the national “do not call” registry at least once every 31 days. We are required to pay a fee to access the registry on a quarterly basis. This rule may restrict our ability to market our services
41
effectively to new customers. Furthermore, compliance with this new rule may prove difficult, and we may incur penalties for improperly conducting our marketing activities.
Because we are subject to extensive laws and regulations relating to the protection of the environment, natural resources, and worker health and safety, we may face significant liabilities or compliance costs in the future.safety.
Our operations and properties are subject to federal, state, and local laws and regulations relating to protection of the environment, natural resources, and worker health and safety, including laws and regulations governing and creating liability relating to,in connection with the management, storage, and disposal of hazardous materials, asbestos, and petroleum products and other regulated materials.products. We also are subject to environmental laws and regulations governing air emissions from our fleets of vehicles. As a result, we face several risks, includingincluding: Hazardous materials may have been released at properties we currently own or formerly owned (perhaps through our predecessors). Under certain environmental laws, we could be held liable, without regard to fault, for the following:costs of investigating and remediating any actual or threatened contamination at these properties, and for contamination associated with disposal by us or our predecessors of hazardous materials at third-party disposal sites. | | | | • | Under certain environmental laws, we could be held liable, jointly and severally and without regard to fault, for the costs of investigating and remediating any actual or threatened environmental contamination at currently and formerly owned or operated properties, and those of our predecessors, and for contamination associated with disposal by us or our predecessors of hazardous materials at third party disposal sites. Hazardous materials may have been released at certain current or formerly owned properties as a result of historic operations. | | | • | The presence of contamination can adversely affect the value of our properties and our ability to sell any such affected property or to use it as collateral. | | | • | We could be held responsible for third party property damage claims, personal injury claims or natural resource damage claims relating to any such contamination. | | | • | The cost of complying with existing environmental requirements could be significant. | | | • | Adoption of new environmental laws or regulations or changes in existing laws or regulations or their interpretations could result in significant compliance costs or as yet identified environmental liabilities. | | | • | Future acquisitions of businesses or properties subject to environmental requirements or affected by environmental contamination could require us to incur substantial costs relating to such matters. | | | • | In addition, environmental laws regulating wetlands, endangered species and other land use and natural resource issues may increase costs associated with future business or expansion opportunities, delay, alter or interfere with such plans, or otherwise adversely affect such plans. |
As a result of the above, we may face significant liabilities and compliance costs in the future.future if we acquire businesses or properties subject to environmental requirements or affected by environmental contamination. In particular, environmental laws regulating wetlands, endangered species, and other land use and natural resource issues may increase costs associated with future business or expansion opportunities or delay, alter, or interfere with such plans.
The presence of contamination can adversely affect the value of our properties and make it difficult to sell any affected property or to use it as collateral. We could be held responsible for third-party property damage claims, personal injury claims, or natural resource damage claims relating to contamination found at any of our current or past properties. The cost of complying with environmental requirements could be significant. Similarly, the adoption of new environmental laws or regulations or changes in existing laws or regulations or their interpretations could result in significant compliance costs or unanticipated environmental liabilities. 32
Item 1B.Unresolved Staff Comments None. | | Item 1B. | Unresolved Staff CommentsItem 2.Properties |
None
Our headquarters and most of the administrative offices for our Telephone Operations are located in Mattoon, Illinois. 42
The properties that weWe lease areproperties pursuant to leasesagreements that expire at various times between 20052009 and 2015. The following charts summarizechart summarizes the principal facilities owned or leased by us as of December 31, 2005.2008.
| | | | | | | | | | | | | Illinois | | | | | Owned/ | | | Approx. | | Properties | | | Primary Use | | Leased | | | Sq. Ft. | | | | | | | | | | | | | Charleston | | | Illinois Telephone Operations Communications Center and Market Response Offices(1) | | | Leased | | | | 33,987 | | | Effingham | | | Office and Illinois Telephone Operations Communications Center | | | Leased | | | | 2,500 | | | Mattoon | | | Sales and Administration Office(1) | | | Leased | | | | 30,687 | | | Mattoon | | | Corporate Headquarters(1) | | | Leased | | | | 49,054 | | | Mattoon | | | Operator Services and Operations | | | Owned | | | | 36,263 | | | Mattoon | | | Archive | | | Owned | | | | 9,097 | | | Mattoon | | | Operations and Distribution Center(1) | | | Leased | | | | 30,883 | | | Mattoon | | | Communications Center | | | Leased | | | | 5,677 | | | Mattoon | | | Market Response Order Fulfillment(2) | | | Leased | | | | 20,000 | | | Mattoon | | | Office | | | Owned | | | | 10,086 | | | Taylorville | | | Operations and Branch Distribution Center(1) | | | Leased | | | | 14,655 | | | Taylorville | | | Office and Illinois Telephone Operations Communications Center | | | Owned | | | | 15,934 | | | Taylorville | | | Operator Services Call Center(2) | | | Leased | | | | 11,500 | |
| | | | | | | | | | | Approximate | | Texas | | | | | Owned/ | | | Approx. | | Properties | Location | | Primary Use | | Owned/Leased | | | Sq. Ft. | | | Operating Segment | | Square Feet | | | | | | | | Brookshire | Gibsonia, PA | | Office | and Switching | | Owned | | Telephone & Other | | 4,400 | 111,931 | | | Conroe, | TX | | Regional Office | | Owned | | Telephone & Other | | | 51,900 | | Mattoon, IL | | Order Fullfillment | | Leased | | Other Operations | | | 50,000 | | Mattoon, IL | | Corporate Headquarters | | Leased | | Telephone & Other | | | 49,100 | | Mattoon, IL | | Operator Services and Operations | | Owned | | | | 51,875 | | | ConroeTelephone & Other | | | Warehouse36,300 | | Charleston, IL | | Communications Center and Office | | Leased | | Telephone & PlantOther | | | 34,000 | | Mattoon, IL | | Operations and Distribution Center | | Leased | | Telephone & Other | | | 30,900 | | Mattoon, IL | | Sales and Administration Office | | Leased | | Telephone & Other | | | 30,700 | | Lufkin, TX | | Office and Switching | | Owned | | Telephone & Other | | | 28,707 | | Conroe, TX | | Warehouse and Plant | | Owned | | Telephone & Other | | | 28,500 | | Terre Haute, IN | Conroe | Communications Center and Office | | Leased | | Telephone & Other | | | Office25,450 | | Lufkin, TX | | Communications Center and Office | | Owned | | | | 10,650 | | | Irving | | | Office | | | Leased | | | | 44,060 | | | Dallas | | | Current Texas Headquarters — Administration | | | Leased | | | | 5,997 | | | Katy | | | Regional Office | | | Owned | | | | 6,500 | | | Katy | | | Office (Electric Shop) | | | Owned | | | | 1,600 | | | Katy | | | Warehouse | | | Owned | | | | 13,983 | | | Katy | | | Office | | | Owned | | | | 5,733 | | | Lufkin | | | Regional Office | | | Owned | | | | 30,145 | | | Lufkin | | | Business Office | | | Owned | Telephone & Other | | | 23,190 | | | LufkinKaty, TX | | Warehouse and Office | | Owned | | Telephone & Other | | | 19,716 | | Butler, PA | | Office and Switching | | Owned | | Telephone & Other | | | 18,564 | | Taylorville, IL | | Office and Communications Center | | Owned | | Telephone & Other | | | 15,900 | | Taylorville, IL | | Operations and Distribution Center | | Leased | | Telephone & Other | | | 14,700 | | Lufkin, TX | | Warehouse | | Owned | | Telephone & Other | | | 14,200 | | Cranberry Twp, PA | | Office and Switching | | Owned | | Telephone & Other | | 14,240 | 13,110 | | | LufkinCharleston, IL | | Office and Communications Center | | Owned | | Telephone & Other | | | 12,661 | | Litchfield, IL | | Office and Switching | | Owned | | Telephone & Other | | | 12,190 | | Lufkin, TX | | Office and Data Center | | Owned | Owned | Telephone & Other | | | | 11,92011,900 | | | Lufkin | Conroe, TX | | Office | | Owned | Owned | Telephone & Other | | | | 8,00010,650 | | | Lufkin | Mattoon, IL | | Office and Parking Area | | | Owned | | | | 7,925 | | | NeedvilleTelephone & Other | | | Office | | | Owned | | | | 6,649 | | | Rosenberg | | | Storage | | | Leased | | | | 10,00010,100 | |
| | (1) | In 2002, we sold these facilities to, and leased them back from, LATEL, LLC, or LATEL, an entity affiliated with Mr. Lumpkin. | | (2) | All properties listed above other than these two properties are used by both our Telephone Operations and Other Operations. These two properties are used by our Other Operations only. |
In addition to the facilities listed above, we own or have the right to use 489approximately 713 additional properties consisting of cabinet/popequipment at point of presence sites, central offices, remote switching sites and buildings, tower sites, small 43
offices, storage sites and parking lots. Some of the facilities listed above also serve as central office locations. 33
Item 3.Legal Proceedings On April 15, 2008, Salsgiver Inc., a Pennsylvania-based telecommunications company, and certain of its affiliates filed a lawsuit against us and our subsidiaries, North Pittsburgh Telephone Company and North Pittsburgh Systems Inc., in the Court of Common Pleas of Allegheny County, Pennsylvania. The complaint alleges that we have prevented Salsgiver from connecting fiber optic cables to North Pittsburgh’s utility poles, and seeks compensatory and punitive damages for alleged lost profits, damage to Salsgiver’s business reputation, and other costs. The alleged aggregate losses are approximately $125 million, though Salsgiver does not request a specific dollar amount in damages. We expectbelieve that these claims are without merit and that the damages are completely unfounded. We intend to continuedefend against these claims vigorously. In the third quarter of 2008 we filed preliminary objections and responses to executeSalsgiver’s complaint, but the court ruled against our current strategypreliminary objections. On November 3, 2008 we responded to an amended complaint and filed a counterclaim for trespass, alleging that Salsgiver attached cables to our poles without an authorized agreement and in an unsafe manner. On October 23, 2006, Verizon Pennsylvania, Inc. and several of moving all employees into owned space,its affiliates filed a formal complaint with the exceptionPAPUC claiming that our Pennsylvania CLEC’s intrastate switched access rates violate Pennsylvania law. The provision that Verizon cites in its complaint requires CLEC rates to be no higher than the corresponding incumbent’s rates unless the CLEC can demonstrate that higher access rates are “cost justified.” As of December 31, 2008, we have reserved $3.2 million in other liabilities on the officesbalance sheet relating to this complaint. For further discussion, please see the discussion of Regulatory Risks included in Irving and the long distance switch location in Dallas, and canceling or subletting leased office space. We have recently initiated legal proceedings to terminate our office lease in Irving, Texas. We do not believe, however, that any liability that may result from such lease termination would have a material adverse effect on our results of operations or financial condition in Texas.Part I—Item 1A—“Risk Factors.” WeIn addition, we currently are, and from time to time may be, subject to claims arising in the ordinary course of business. However, weWe are not currently subject to any such claims that we believe could reasonably be expected to have a material adverse effect on our results of operations or financial condition.
Item 4.Submission of Matters to a Vote of Security Holders | | Item 4. | Submission of Matters to a Vote of Security Holders |
No matters were submitted to a vote of security holders in 2005.during the fourth quarter of 2008. PART II | | | Item 5. | | Market for Registrant’s Common Equity, Related Stockholder Matters, and Issuer Purchases of Equity Securities |
Our common stock is quoted on the NASDAQ Inc.’s NationalGlobal Select Market under the symbol “CNSL.” As of March 20, 20062, 2009, we had 1311,575 stockholders of record. Because many of our outstanding shares of existing common stock are held by brokers and other institutions on behalf of stockholders, we are unable to estimate the total number of stockholders represented by these record holders. Dividends declared and the highlow and lowhigh reported sales prices per share of our common stock are set forth in the following table for the periods indicated: | | | | | | | | | | | | | | | | | | | Dividends | | Quarter Ended | | High | | | Low | | | Declared | | | | | | | | | | | | September 30, 2005 (beginning July 27, 2005) | | $ | 15.10 | | | $ | 13.20 | | | $ | 0.41 | | December 31, 2005 | | $ | 14.14 | | | $ | 12.00 | | | $ | 0.39 | |
| | | | | | | | | | | | | | | | | | | | | | | Dividends | | Quarter Ended | | Low | | | High | | | Declared | | March 31, 2007 | | $ | 18.71 | | | $ | 23.00 | | | $ | 0.39 | | June 30, 2007 | | $ | 19.30 | | | $ | 23.71 | | | $ | 0.39 | | September 30, 2007 | | $ | 15.72 | | | $ | 23.11 | | | $ | 0.39 | | December 31, 2007 | | $ | 15.50 | | | $ | 21.45 | | | $ | 0.39 | | March 31, 2008 | | $ | 14.00 | | | $ | 19.19 | | | $ | 0.39 | | June 30, 2008 | | $ | 13.70 | | | $ | 15.71 | | | $ | 0.39 | | September 30, 2008 | | $ | 13.48 | | | $ | 15.74 | | | $ | 0.39 | | December 31, 2008 | | $ | 7.82 | | | $ | 14.65 | | | $ | 0.39 | |
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Dividend Policy and Restrictions Our board of directors has adopted a dividend policy based on numerous assumptions and considerations that were summarized in our prospectus dated July 21, 2005, that reflects its judgment that our stockholders would beare better served if we distributed to themdistribute a substantial portion of the cash generated by our business in excess of our expected cash needs rather than retaining itthe cash or using the cashit for investments, acquisitions, or other purposes, such as to make investments in our business or to make acquisitions. The expected cash needs referred to above include interest and any future principal payments on our indebtedness, capital expenditures, taxes, costs associated with compliance with Section 404 of Sarbanes-Oxley, pension and other post-retirement contributions, costs to further integrate our Illinois and Texas billing systems and certain other costs. purposes. We expect to continue to pay quarterly dividends at an annual rate of $1.5495 per share during 2006,2009, but only if and to the extent declared by our board of directors and subject to various restrictions on our ability to do so. In accordance with our dividend policy, we paid an initial dividend of $0.4089 per share (representing a pro rata portion of the expected dividend for the first year following our IPO on November 1, 2005) to stockholders of record as of October 15, 2005. On December 21, 2005, our board of directors declared a dividend of $0.38738 per share that was paid on February 1, 2006 to stockholders of record as of January 15, 2006. Prior to announcing these dividends, we had no history of paying dividends on our common stock. Dividends on our common stock are not cumulative. 44
Although it is our current intention to pay quarterly dividends at an annual ratePlease see Part I — Item 1A — “Risk Factors” of $1.5495 per share for 2006,this report, which sets forth several factors that could prevent stockholders may not receivefrom receiving dividends in the future. The “Risk Factors” section also discusses how our dividend policy could inhibit future as a resultgrowth and acquisitions.
We expect to fund our expected cash needs, including dividends, with cash flow from operations. We also expect to have sufficient availability under our revolving credit facility for these purposes, but we do not intend to borrow to pay dividends. Issuer Purchases of any ofCommon Stock During the following factors: | | | | • | Nothing requires us to pay dividends. | | | • | While our current dividend policy contemplates the distribution of a substantial portion of the cash generated by our business in excess of our expected cash needs, this policy could be changed or revoked by our board of directors at any time, for example, if it were to determine that we had insufficient cash to take advantage of other opportunities with attractive rates of return. | | | • | Even if our dividend policy is not changed or revoked, the actual amount of dividends distributed under this policy, and the decision to make any distributions, is entirely at the discretion of our board of directors. | | | • | The amount of dividends distributed will be subject to covenant restrictions in the agreements governing our debt, including our indenture and our amended and restated credit agreement, and in agreements governing any future debt. | | | • | We might not have sufficient cash in the future to pay dividends in the intended amounts or at all. Our ability to generate this cash will depend on numerous factors, including the state of our business, the environment in which we operate and the various risks we face, changes in the factors, assumptions and other considerations made by our board of directors in reviewing and adopting the dividend policy, our future results of operations, financial condition, liquidity needs and capital resources and our various expected cash needs. | | | • | The amount of dividends distributed may be limited by state regulatory requirements. | | | • | The amount of dividends distributed is subject to restrictions under Delaware and Illinois law. | | | • | Our stockholders have no contractual or other legal right to receive dividends. |
| | Item 6. | Selected Financial Data |
We are a holding company with no income from operations or assets except for the capital stock of CCI and Texas Holdings. CCI was formed for the sole purpose of acquiring ICTC and related business onQuarter Ended December 31, 2002. We believe the operations of ICTC and the related businesses prior to December 31, 2002 represent the predecessor of CCI Holdings. Texas Holdings is a holding company with no income from operations or assets except for the capital stock of CCV (formerly TXUCV). Texas Holdings was formed for the sole purpose of acquiring TXUCV, which was acquired on April 14, 2004 and renamed CCV after the closing of the acquisition. Texas Holdings operates its business through, and receives all of its income from, CCV and its subsidiaries. Results for2008
During the year ended December 31, 2004 include the results2008, we acquired and cancelled 23,646 common shares surrendered to pay taxes in connection with employee vesting of operations of CCV since the daterestricted common shares issued under our stock-based compensation plan. Further detail of the TXUCV acquisition.acquired shares follows: 45
| | | | | | | | | | | | | | | | | | | | | | | | | | | Total number of | | | Maximum number | | | | | | | | | | | | shares purchased | | | of shares that may | | | | Total number of | | | Average price paid | | | as part of publically | | | yet be purchased | | Purchase period | | shares purchased | | | per share | | | announced plans | | | under the plans | | | | | | | | | | | | | | | | | | | February 20, 2008 | | | 535 | | | $ | 14.46 | | | Not applicable | | Not applicable | October 13, 2008 | | | 2,646 | | | $ | 11.55 | | | Not applicable | | Not applicable | November 10, 2008 | | | 1,622 | | | $ | 11.05 | | | Not applicable | | Not applicable | December 5, 2008 | | | 18,843 | | | $ | 10.61 | | | Not applicable | | Not applicable |
Item 6.Selected Financial Data The selected financial information set forth below have been derived from the audited consolidated financial statements of CCI Holdingsthe Company as of and for the years ended December 31, 2008, 2007, 2006, 2005, 2004 and 2003 and the audited combined financial statements of ICTC and related businesses as of and for the years ended December 31, 2002 and 2001.2004. The following selected historical financial information should be read in conjunction with Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” and the Item 8 “Financial InformationStatements and Supplementary Data.” | | | | | | | | | | | | | | | | | | | | | | | | | | CCI Holdings | | | | Predecessor | | | | | | | | | | | | Year Ended December 31, | | | | | | | | | | | | 2005 | | | 2004 | | | 2003 | | | | 2002 | | | 2001 | | | | | | | | | | | | | | | | | | | | | (In millions) | | Consolidated Statement of Operations Data: | | | | | | | | | | | | | | | | | | | | | | | Total operating revenues | | $ | 321.4 | | | $ | 269.6 | | | $ | 132.3 | | | | $ | 109.9 | | | $ | 115.6 | | | Cost of services and products (exclusive of depreciation and amortization shown separately below) | | | 101.1 | | | | 80.6 | | | | 46.3 | | | | | 35.8 | | | | 38.9 | | | Selling, general and administrative | | | 98.8 | | | | 87.9 | | | | 42.5 | | | | | 35.6 | | | | 36.0 | | | Asset impairment | | | — | | | | 11.6 | | | | — | | | | | — | | | | — | | | Depreciation and amortization(1) | | | 67.4 | | | | 54.5 | | | | 22.5 | | | | | 24.6 | | | | 31.8 | | | | | | | | | | | | | | | | | | | | Income from operations | | | 54.1 | | | | 35.0 | | | | 21.0 | | | | | 13.9 | | | | 8.9 | | | Interest expense, net(2) | | | (53.4 | ) | | | (39.6 | ) | | | (11.9 | ) | | | | (1.6 | ) | | | (1.8 | ) | | Other, net(3) | | | 5.7 | | | | 3.7 | | | | 0.1 | | | | | 0.4 | | | | 5.8 | | | | | | | | | | | | | | | | | | | | Income (loss) before income taxes | | | 6.4 | | | | (0.9 | ) | | | 9.2 | | | | | 12.7 | | | | 12.9 | | | Income tax expense | | | (10.9 | ) | | | (0.2 | ) | | | (3.7 | ) | | | | (4.7 | ) | | | (6.3 | ) | | | | | | | | | | | | | | | | | | | Net income (loss) | | | (4.5 | ) | | | (1.1 | ) | | | 5.5 | | | | $ | 8.0 | | | $ | 6.6 | | | | | | | | | | | | | | | | | | | | Dividends on redeemable preferred shares | | | (10.2 | ) | | | (15.0 | ) | | | (8.5 | ) | | | | — | | | | — | | | | | | | | | | | | | | | | | | | | Net loss applicable to common shares | | $ | (14.7 | ) | | $ | (16.1 | ) | | $ | (3.0 | ) | | | | — | | | | — | | | | | | | | | | | | | | | | | | | | Net loss per common share — basic and diluted | | $ | (0.83 | ) | | $ | (1.79 | ) | | $ | (0.33 | ) | | | | — | | | | — | | Other Financial Data: | | | | | | | | | | | | | | | | | | | | | | | Telephone Operations revenues | | $ | 282.3 | | | $ | 230.4 | | | $ | 90.3 | | | | $ | 76.7 | | | $ | 79.8 | | Other Data (as of end of period): | | | | | | | | | | | | | | | | | | | | | | | Local access lines in service | | | | | | | | | | | | | | | | | | | | | | | | Residential | | | 162,231 | | | | 168,778 | | | | 58,461 | | | | | 60,533 | | | | 62,249 | | | | Business | | | 79,793 | | | | 86,430 | | | | 32,426 | | | | | 32,475 | | | | 33,473 | | | | | | | | | | | | | | | | | | | | | Total local access lines | | | 242,024 | | | | 255,208 | | | | 90,887 | | | | | 93,008 | | | | 95,722 | | | DVS subscribers | | | 2,146 | | | | 101 | | | | — | | | | | — | | | | — | | | DSL subscribers | | | 39,192 | | | | 27,445 | | | | 7,951 | | | | | 5,761 | | | | 2,501 | | | | | | | | | | | | | | | | | | | | | Total connections | | | 283,362 | | | | 282,754 | | | | 98,838 | | | | | 98,769 | | | | 98,223 | | Consolidated Cash Flow Data: | | | | | | | | | | | | | | | | | | | | | | | Cash flows from operating activities | | $ | 79.3 | | | $ | 79.8 | | | $ | 28.9 | | | | $ | 28.5 | | | $ | 34.3 | | | Cash flows used in investing activities | | | (31.1 | ) | | | (554.1 | ) | | | (296.1 | ) | | | | (14.1 | ) | | | (13.1 | ) | | Cash flows from (used in) financing activities | | | (68.9 | ) | | | 516.3 | | | | 277.4 | | | | | (16.6 | ) | | | (18.9 | ) | | Capital expenditures | | | 31.1 | | | | 30.0 | | | | 11.3 | | | | | 14.1 | | | | 13.1 | |
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| | | | | | | | | | | | | | | | | | | | | | | | | CCI Holdings | | | | Predecessor | | | | | | | | | | | | Year Ended December 31, | | | | | | | | | | | | 2005 | | | 2004 | | | 2003 | | | | 2002 | | | 2001 | | | | | | | | | | | | | | | | | | | | | (In millions) | | Consolidated Balance Sheet Data: | | | | | | | | | | | | | | | | | | | | | | | Cash and cash equivalents | | $ | 31.4 | | | $ | 52.1 | | | $ | 10.1 | | | | $ | 1.1 | | | $ | 3.3 | | | Total current assets | | | 79.0 | | | | 98.9 | | | | 39.6 | | | | | 23.2 | | | | 26.7 | | | Net plant, property & equipment(4) | | | 335.1 | | | | 360.8 | | | | 104.6 | | | | | 105.1 | | | | 100.5 | | | Total assets | | | 946.0 | | | | 1,006.1 | | | | 317.6 | | | | | 236.4 | | | | 248.9 | | | Total long-term debt (including current portion)(5) | | | 555.0 | | | | 629.4 | | | | 180.4 | | | | | 21.0 | | | | 21.1 | | | Redeemable preferred shares | | | — | | | | 205.5 | | | | 101.5 | | | | | — | | | | — | | | Stockholders’ equity/ Members’ deficit/ Parent company investment | | | 199.2 | | | | (18.8 | ) | | | (3.5 | ) | | | | 174.5 | | | | 178.1 | |
| | | | | | | | | | | | | | | | | | | | | | | Consolidated Communications Holdings, Inc. | | | | Year Ended December 31, | | | | 2008 | | | 2007 | | | 2006 | | | 2005 | | | 2004 | | | | (dollars in millions except per share amounts) | | Consolidated Statement of Operations Data: | | | | | | | | | | | | | | | | | | | | | Telephone operations revenues | | $ | 378.0 | | | $ | 286.8 | | | $ | 280.4 | | | $ | 282.3 | | | $ | 230.4 | | Other operations revenues | | | 40.4 | | | | 42.4 | | | | 40.4 | | | | 39.1 | | | | 39.2 | | | | | | | | | | | | | | | | | | Total operating revenues | | | 418.4 | | | | 329.2 | | | | 320.8 | | | | 321.4 | | | | 269.6 | | Cost of services and products (exclusive of depreciation and amortization shown separately below) | | | 143.5 | | | | 107.3 | | | | 98.1 | | | | 101.1 | | | | 80.6 | | Selling, general and administrative | | | 108.8 | | | | 89.6 | | | | 94.7 | | | | 98.8 | | | | 87.9 | | Intangible assets impairment | | | 6.1 | | | | — | | | | 11.3 | | | | — | | | | 11.6 | | Depreciation and amortization | | | 91.7 | | | | 65.7 | | | | 67.4 | | | | 67.4 | | | | 54.5 | | | | | | | | | | | | | | | | | | Income from operations | | | 68.3 | | | | 66.6 | | | | 49.3 | | | | 54.1 | | | | 35.0 | | Interest expense, net (1) | | | (66.3 | ) | | | (46.5 | ) | | | (42.9 | ) | | | (53.4 | ) | | | (39.6 | ) | Other, net (2) | | | 9.9 | | | | (4.0 | ) | | | 7.3 | | | | 5.7 | | | | 3.7 | | | | | | | | | | | | | | | | | | Income (loss) before income taxes and extraordinary item | | | 11.9 | | | | 16.1 | | | | 13.7 | | | | 6.4 | | | | (0.9 | ) | Income tax expense | | | (6.6 | ) | | | (4.7 | ) | | | (0.4 | ) | | | (10.9 | ) | | | (0.2 | ) | | | | | | | | | | | | | | | | | Income before extraordinary item | | | 5.3 | | | | 11.4 | | | | 13.3 | | | | (4.5 | ) | | | (1.1 | ) | Extraordinary item, net of tax | | | 7.2 | | | | — | | | | — | | | | — | | | | — | | | | | | | | | | | | | | | | | | Net income (loss) | | | 12.5 | | | | 11.4 | | | | 13.3 | | | | (4.5 | ) | | | (1.1 | ) | | | | | | | | | | | | | | | | | Dividends on redeemable preferred shares | | | — | | | | — | | | | — | | | | (10.2 | ) | | | (15.0 | ) | | | | | | | | | | | | | | | | | Net income (loss) applicable to common shares | | $ | 12.5 | | | $ | 11.4 | | | $ | 13.3 | | | $ | (14.7 | ) | | $ | (16.1 | ) | | | | | | | | | | | | | | | | | Net income (loss) per common share: | | | | | | | | | | | | | | | | | | | | | Basic: | | | | | | | | | | | | | | | | | | | | | Income (loss) before extraordinary item | | $ | 0.18 | | | $ | 0.44 | | | $ | 0.48 | | | $ | (0.83 | ) | | $ | (1.79 | ) | Extraordinary item | | | 0.25 | | | | — | | | | — | | | | — | | | | — | | | | | | | | | | | | | | | | | | Net income (loss) | | $ | 0.43 | | | $ | 0.44 | | | $ | 0.48 | | | $ | (0.83 | ) | | $ | (1.79 | ) | | | | | | | | | | | | | | | | | | Diluted: | | | | | | | | | | | | | | | | | | | | | Income (loss) before extraordinary item | | $ | 0.18 | | | $ | 0.44 | | | $ | 0.48 | | | $ | (0.83 | ) | | $ | (1.79 | ) | Extraordinary item | | | 0.24 | | | | — | | | | — | | | | — | | | | — | | | | | | | | | | | | | | | | | | Net income (loss) | | $ | 0.42 | | | $ | 0.44 | | | $ | 0.48 | | | $ | (0.83 | ) | | $ | (1.79 | ) | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Consolidated Cash Flow Data: | | | | | | | | | | | | | | | | | | | | | Cash flows from operating activities | | $ | 92.4 | | | $ | 82.1 | | | $ | 84.6 | | | $ | 79.3 | | | $ | 79.8 | | Cash flows used in investing activities | | | (48.0 | ) | | | (305.3 | ) | | | (26.7 | ) | | | (31.1 | ) | | | (554.1 | ) | Cash flows from (used in) financing activities | | | (63.3 | ) | | | 230.9 | | | | (62.7 | ) | | | (68.9 | ) | | | 516.3 | | Capital expenditures | | | 48.0 | | | | 33.5 | | | | 33.4 | | | | 31.1 | | | | 30.0 | | Dividends declared per common share | | $ | 1.55 | | | $ | 1.55 | | | $ | 1.55 | | | $ | 0.80 | | | $ | — | | | | | | | | | | | | | | | | | | | | | | | Consolidated Balance Sheet Data: | | | | | | | | | | | | | | | | | | | | | Cash and cash equivalents | | $ | 15.5 | | | $ | 34.3 | | | $ | 26.7 | | | $ | 31.4 | | | $ | 52.1 | | Total current assets | | | 78.6 | | | | 99.6 | | | | 74.2 | | | | 79.0 | | | | 98.9 | | Net plant, property and equipment (3) | | | 400.3 | | | | 411.6 | | | | 314.4 | | | | 335.1 | | | | 360.8 | | Total assets | | | 1,241.6 | | | | 1,304.6 | | | | 889.6 | | | | 946.0 | | | | 1,006.1 | | Total long-term debt (including current portion) (4) (5) | | | 881.3 | | | | 892.6 | | | | 594.0 | | | | 555.0 | | | | 629.4 | | Redeemable preferred shares | | | — | | | | — | | | | — | | | | — | | | | 205.5 | | Stockholders’ equity/members’ deficit/parent company investment | | | 70.1 | | | | 155.4 | | | | 115.0 | | | | 199.2 | | | | (18.8 | ) | | | | | | | | | | | | | | | | | | | | | | Other Financial Data (unaudited): | | | | | | | | | | | | | | | | | | | | | Consolidated EBITDA (6) | | $ | 189.8 | | | $ | 143.8 | | | $ | 139.8 | | | $ | 136.8 | | | $ | 115.8 | |
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| | | | | | | | | | | | | | | | | | | | | | | Consolidated Communications Holdings, Inc. | | | | Year Ended December 31, | | | | 2008 | | | 2007 | | | 2006 | | | 2005 | | | 2004 | | | | (unaudited) | | Other Data (as of end of period) (7): | | | | | | | | | | | | | | | | | | | | | Local access lines in service: | | | | | | | | | | | | | | | | | | | | | Residential | | | 162,067 | | | | 183,070 | | | | 155,354 | | | | 162,231 | | | | 168,778 | | Business | | | 102,256 | | | | 103,116 | | | | 78,335 | | | | 79,793 | | | | 86,430 | | | | | | | | | | | | | | | | | | Total local access lines | | | 264,323 | | | | 286,186 | | | | 233,689 | | | | 242,024 | | | | 255,208 | | CLEC access line equivalents | | | 74,687 | | | | 70,063 | | | | — | | | | — | | | | — | | Digital telephone subscribers | | | 6,510 | | | | 2,494 | | | | — | | | | — | | | | — | | IPTV subscribers | | | 16,666 | | | | 12,241 | | | | 6,954 | | | | 2,146 | | | | 101 | | ILEC DSL subscribers | | | 91,817 | | | | 81,337 | | | | 52,732 | | | | 39,192 | | | | 27,445 | | | | | | | | | | | | | | | | | | Total connections | | | 454,003 | | | | 452,321 | | | | 293,375 | | | | 283,362 | | | | 282,754 | | | | | | | | | | | | | | | | | |
| | (1) | On January 1, 2002, ICTC and related businesses adopted SFAS No. 142, Goodwill and Other Intangible Assets. Pursuant to SFAS No. 142, ICTC ceased amortizing goodwill on January 1, 2002 and instead tested for goodwill impairment annually. Amortization expense for goodwill and intangible assets was $14.3 million, $11.9 million, $7.0 million, $10.1 million, and $17.6 million for the periods ended December 31, 2005, 2004, 2003, 2002 and 2001, respectively. Depreciation and amortization excludes amortization of deferred financing costs. | | (2)(1) | | Interest expense includes amortization of deferred financing costs totaling $5.5 million, $6.4 million and $0.5$1.4 million for the yearsyear ended December 31, 2008, $3.2 million for 2007, $3.3 million for 2006, $5.5 million for 2005, 2004 and 2003, respectively.$6.4 million for 2004. | | (3) (2) | In June 2005, we | We recognized $0.3 million and $2.8 million of net proceeds in other income due to the receipt ofin 2007 and 2005, respectively, because we received key-man life insurance proceeds relating to the passing of a former TXUCV employee. On September 30, 2001, ICTC sold two exchanges of approximately 2,750 access lines, received proceeds from the sale of $7.2 million and recorded a gain on the sale of assets of approximately $5.2 million.employees. | | (4)(3) | | Property, plant and equipment are recorded at cost. The cost of additions, replacements, and major improvements is capitalized, while repairs and maintenance are charged to expenses. When property, plant and equipment are retired from our regulated subsidiaries, the original cost, net of salvage, is charged against accumulated depreciation, with no gain or loss recognized in accordance with composite group life remaining methodology used for regulated telephone plant assets. | | (5)(4) | | In connection with the TXUCV acquisition on April 14, 2004, we issued $200.0 million in aggregate principal amount of senior notes and entered into credit facilities. In connection with the IPO and related financing,transactions, we retired $70.0 million of senior notes and amended and restated our credit facilities, which had $425.0 million outstanding asfacilities. In connection with the acquisition of North Pittsburgh on December 31, 2005.2007, we incurred $296.0 million new term debt, net of payoffs of existing debt. All remaining senior notes were retired on April 1, 2008. | | (5) | | In July 2006, we repurchased and retired approximately 3.8 million shares of our common stock for approximately $56.7 million, or $15.00 per share. We financed this transaction using approximately $17.7 million of cash on hand and $39.0 million of additional term-loan borrowings. | | (6) | | We present Consolidated EBITDA for three reasons: we believe it is a useful indicator of our historical debt capacity and our ability to service debt and pay dividends; it provides a measure of consistency in our financial reporting; and covenants in our credit facilities contain ratios based on Consolidated EBITDA. |
Consolidated EBITDA is defined in our current credit facility as: Consolidated Net Income (also defined in our credit facility), (a)plusthe following, to the extent deducted in arriving at Consolidated Net Income: (i) interest expense, amortization, or write-off of debt discount and non-cash expense incurred in connection with equity compensation plans; (ii) provision for income taxes; (iii) depreciation and amortization; (iv) non-cash charges for asset impairment; all charges, expenses, and other extraordinary, non-recurring, and unusual integration costs or losses related to the acquisition of North Pittsburgh, including all severance payments in connection with the acquisition, so long as such costs or losses are incurred prior to December 31, 2009, and do not exceed $12.0 million in the aggregate; (v) all non-recurring transaction fees, charges, and other amounts related to the acquisition of North Pittsburgh (excluding all amounts otherwise included in accordance with U.S. generally accepted accounting principles (“GAAP”) in determining Consolidated EBITDA), so long as such fees, charges, and other amounts do not exceed $18 million in the aggregate; 37
(b)minus(in the case of gains) orplus(in the case of losses) gain or loss on sale of assets; (c)minus(in the case of gains) orplus(in the case of losses) non-cash income or charges relating to foreign currency gains or losses; (d)plus(in the case of losses) orminus(in the case of income) non-cash minority interest income or loss; (e)plus(in the case of items deducted in arriving at Consolidated Net Income) orminus(in the case of items added in arriving at Consolidated Net Income) non-cash charges resulting from changes in accounting principles; (f)plusextraordinary losses andminusextraordinary gains as defined by GAAP; (g)plus(in the case of any period ending on December 31, 2007, and any period ending during the seven immediately succeeding fiscal quarters of the Company, to the extent not otherwise included in Consolidated EBITDA) cost savings to be realized by the Company and its subsidiaries in connection with the acquisition of North Pittsburgh that are attributable to the integration of the Company’s operations and businesses in Illinois and Texas with the acquired Pennsylvania operations, which cost savings are deemed to be the amounts set forth on a schedule to the credit agreement for each such fiscal quarter; and (h)minusinterest income. | | | (7) | | Beginning with 2007, Other data includes access lines, CLEC access line equivalents, and DSL subscribers for our North Pittsburgh operations, which were acquired on December 31, 2007. |
If our Consolidated EBITDA were to decline below certain levels, there may be violations of covenants in our credit facilities that are based on this measure, including our total net leverage and interest coverage ratios covenants. The consequences could include a default or mandatory prepayment or a prohibition on dividends. We believe that net cash provided by operating activities is the most directly comparable financial measure to Consolidated EBITDA under GAAP. Consolidated EBITDA should not be considered in isolation or as a substitute for consolidated statement of operations and cash flows data prepared in accordance with GAAP. Consolidated EBITDA is not a complete measure of profitability because it does not include costs and expenses identified above. Nor is Consolidated EBITDA a complete net cash flow measure because it does not include reductions for cash payments for an entity’s obligation to service its debt, fund its working capital, make capital expenditures, make acquisitions, or pay its income taxes and dividends. 38
The following table sets forth a reconciliation of Cash Provided by Operating Activities to Consolidated EBITDA: | | | | | | | | | | | | | | | | | | | | | | | CCI Holdings | | | | Year Ended December 31, | | | | 2008 | | | 2007 | | | 2006 | | | 2005 | | | 2004 | | | | (dollars in millions) | | | | (unaudited) | | EBITDA: | | | | | | | | | | | | | | | | | | | | | Net cash provided by operating activities | | $ | 92.4 | | | $ | 82.1 | | | $ | 84.6 | | | $ | 79.3 | | | $ | 79.8 | | Adjustments: | | | | | | | | | | | | | | | | | | | | | Compensation from restricted share plan | | | (1.9 | ) | | | (4.0 | ) | | | (2.5 | ) | | | (8.6 | ) | | | — | | Other adjustments, net (a) | | | 3.8 | | | | (9.5 | ) | | | (2.0 | ) | | | (18.0 | ) | | | (22.0 | ) | Changes in operating assets and liabilities | | | 9.9 | | | | 8.5 | | | | 0.6 | | | | 10.2 | | | | (4.4 | ) | Interest expense, net | | | 66.3 | | | | 46.5 | | | | 42.9 | | | | 53.4 | | | | 39.6 | | Income taxes | | | 6.6 | | | | 4.7 | | | | 0.4 | | | | 10.9 | | | | 0.2 | | | | | | | | | | | | | | | | | | EBITDA (b) | | | 177.1 | | | | 128.3 | | | | 124.0 | | | | 127.2 | | | | 93.2 | | | | | | | | | | | | | | | | | | | | | | | Adjustments to EBITDA (c): | | | | | | | | | | | | | | | | | | | | | Intergration, restructuring and Sarbanes-Oxley (d) | | | 4.8 | | | | 1.2 | | | | 3.7 | | | | 7.4 | | | | 7.0 | | Professional service fees (e) | | | — | | | | — | | | | — | | | | 2.9 | | | | 4.1 | | Other, net (f) | | | (19.9 | ) | | | (6.6 | ) | | | (7.1 | ) | | | (3.0 | ) | | | (3.7 | ) | Investment distributions (g) | | | 17.8 | | | | 6.6 | | | | 5.5 | | | | 1.6 | | | | 3.6 | | Pension curtailment gain (h) | | | — | | | | — | | | | — | | | | (7.9 | ) | | | — | | Loss on extinghishment of debt (i) | | | 9.2 | | | | 10.3 | | | | — | | | | — | | | | — | | Intangible assets impairment (a) | | | 6.1 | | | | — | | | | 11.2 | | | | — | | | | 11.6 | | Extraordinary item (j) | | | (7.2 | ) | | | — | | | | — | | | | — | | | | — | | Non-cash compensation (k) | | | 1.9 | | | | 4.0 | | | | 2.5 | | | | 8.6 | | | | — | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Consolidated EBITDA | | $ | 189.8 | | | $ | 143.8 | | | $ | 139.8 | | | $ | 136.8 | | | $ | 115.8 | | | | | | | | | | | | | | | | | |
| | | (a) | | Other adjustments, net includes $6.1 million, $11.2 million and $11.6 million of intangible asset impairment charges for years ended December 31, 2008, December 31, 2006, and December 31, 2004, respectively. During our annual impairment review for 2008, we determined that the projected future cash flows of the telemarketing business would not be sufficient to support the carrying value of the goodwill. In addition, based on a decline in estimated future cash flows in the telemarketing and operator services business, our 2006 annual impairment review determined that the value of the customer lists associated with these businesses was impaired. Our 2004 impairment testing determined that the goodwill of our operator services business and the tradenames of our telemarketing and mobile services businesses were impaired. Non-cash impairment charges are excluded in arriving at Consolidated EBITDA under our credit facility. | | (b) | | EBITDA is defined as net earnings (loss) before interest expense, income taxes, depreciation, and amortization on an unadjusted basis. | | (c) | | These adjustments reflect those required or permitted by the lenders under the credit facility in place at the end of each of the years included in the periods presented. | | (d) | | In connection with the TXUCV acquisition, we incurred certain expenses associated with integrating and restructuring the businesses. These expenses include severance; employee relocation expenses; Sarbanes-Oxley start-up costs; and costs to integrate our technology, administrative and customer service functions, and billing systems. In connection with the North Pittsburgh acquisition we incurred similar expenses with the exception of Sarbanes-Oxley start-up costs. | | (e) | | Represents the aggregate professional service fees paid to certain large equity investors prior to our initial public offering. Upon closing of the initial public offering, these service agreements terminated. |
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| | | (f) | | Other, net includes the equity earnings from our investments, dividend income, and certain other miscellaneous non-operating items. Key man life insurance proceeds of $0.3 million and $2.8 million received in 2007 and 2005, respectively, are not deducted to arrive at Consolidated EBITDA. | | (g) | | For purposes of calculating Consolidated EBITDA, we include all cash dividends and other cash distributions received from our investments. | | (h) | | Represents a $7.9 million curtailment gain associated with the amendment of our Texas pension plan. The gain was recorded in general and administrative expenses. However, because the gain is non-cash, it is excluded from Consolidated EBITDA. | | (i) | | Represents the redemption premium and write-off of unamortized debt issuance costs in connection with the redemption and retirement of our senior notes during 2008 and the write off of debt issuance costs in connection with retiring the obligations under our former credit facility and entering into a new credit facility contemporaneously with the North Pittsburgh acquisition. | | (j) | | Upon making the election to discontinue accounting for certain regulated property under Statement of Financial Accounting Standards No. 71, “Accounting for the Effects of Certain Types of Regulation.” Accordingly, we recognized an extraordinary non-cash gain in connection with our adoption of SFAS No. 101 “Regulated Enterprises — Accounting for the Discontinuance of Application of FASB Statement No. 71.” See the financial statements and footnotes for additional information. | | (k) | | Represents compensation expenses in connection with our Restricted Share Plan. Because of their non-cash nature, these expenses are excluded from Consolidated EBITDA. |
Item 7.Management’s Discussion and Analysis of Financial Condition and Results of Operations | | Item 7. | Management’s Discussion and Analysis of Financial Condition and Results of Operations |
We present belowThis Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”) of Consolidated Communications Holdings, Inc. and its subsidiaries on a consolidated basis. The following discussion should be read in conjunction with our historical financial statements and related notes contained elsewhere in this Report.
The following discussion gives retroactive effect to our reorganization as if it had occurred on December 31, 2004. As a result, the discussion below represents the financial results of CCI and Texas Holdings on a consolidated basis. For all periods prior to April 14, 2004, the date of the TXUCV acquisition, our financial results only include CCI and its consolidated subsidiaries, except as stated otherwise.. For all periods subsequent to April 14, 2004, our financial results include CCI and Texas Holdings on a consolidated basis.
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Overview We are an established rural local exchange company that provides communications services to residential and business customers in Illinois, Texas, and Texas. As of December 31, 2005, we estimate that we were the 17th largest local telephone company in the United States, based on publicly available information, with approximately 242,024 local access lines and approximately 39,192 digital subscriber lines, or DSL, in service.Pennsylvania. Our main sources of revenues are our local telephone businesses, in Illinois and Texas, which offer an array of services, including local dial tone,tone; digital telephone service, custom calling features,features; private line services,services; long distance,distance; dial-up and Internet access; high-speed Internet access, which we refer to as Digital Subscriber Line or DSL; inside wiring service and maintenance ,carrier access,maintenance; carrier access; billing and collection services andservices; telephone directory publishing. In addition, we launched ourpublishing; wholesale transport services on a fiber optic network in Texas; and Internet Protocol digital video service, which we refer to as DVS, in selected Illinois markets in 2005 and offer wholesale transport services on a fiber optic network in Texas.IPTV. We also operate a number of complementary businesses whichthat offer telephone services to county jails and state prisons, operator services, equipment sales, and telemarketing, and order fulfillment services. Share repurchase On July 28, 2006, we completed the repurchase of 3,782,379, or 12.7%, of the outstanding shares from Providence Equity for $56.7 million, or $15.00 per share. The repurchase was funded with $17.7 million of cash on hand and $39.0 million of new borrowings under our previous credit facility. The effect of the transaction was an annual increase of $3.0 million of cash flow due to: a reduction in our annual dividend obligation of $5.9 million; an increase in our after tax net cash interest of $2.9 million due to the increased borrowings incurred and increase in the interest rate on our credit facility of 25 basis points and a decrease in interest income resulting from reduced cash on hand. 40
Acquisition of North Pittsburgh and new credit facility On December 31, 2007, the Company began operationscompleted its acquisition of North Pittsburgh Systems, Inc (“North Pittsburgh”). At the effective time of the merger, 80% of the shares of North Pittsburgh common stock converted into the right to receive $25.00 in Illinoiscash, without interest, per share, for an approximate total of $300.1 million. Each of the remaining shares of North Pittsburgh common stock converted into the right to receive 1.1061947 shares of common stock of the Company, or an approximate total of 3.32 million shares. The total purchase price, including fees, was $347.0 million, net of cash acquired. In connection with the acquisition, the Company, through its wholly-owned subsidiaries, entered into a credit agreement with various financial institutions. The credit agreement provides for aggregate borrowings of ICTC from McLeodUSA on$950.0 million, consisting of a $760.0 million term loan facility, a $50.0 million revolving credit facility (which remains fully available as of December 31, 2002,2008), and in Texas witha $140.0 million delayed draw term loan facility. The Company borrowed $120.0 million under the delayed draw term loan facility on April 1, 2008, to redeem the outstanding senior notes. The commitment for the remaining $20 million under the delayed draw facility expired. Other borrowings under the credit facility were used to retire the Company’s previous $464.0 million credit facility and to fund the acquisition of TXUCV from TXU Corp.North Pittsburgh. Redemption of senior notes On April 1, 2008, the Company redeemed all of the outstanding 9.75% senior notes using $120.0 million borrowed under the delayed draw term loan and cash on April 14, 2004.hand. The total amount of the redemption was $136.3 million, including a redemption premium of 4.875%, or $6.3 million. We recognized a $9.2 million loss on the redemption of the notes. As a result of the foregoing,period-to-period comparisonstransaction, we expect to realize $4.0 million reduction in annualized cash interest expense. Discontinuance of the application of SFAS No. 71, “Accounting for the Effects of Certain Types of Regulation” Historically, our Illinois and Texas ILEC operations followed the accounting for regulated enterprises prescribed by Statement of Financial Accounting Standards No. 71 “Accounting for the Effects of Certain Types of Regulation” (“SFAS No. 71”). This accounting recognizes the economic effects of rate regulation by recording costs and a return on investment as such amounts are recovered through rates authorized by regulatory authorities. Recent changes to our operations, however, have impacted the dynamics of the Company’s business environment and caused us to evaluate the applicability of SFAS No. 71. In the last half of 2008, we experienced a significant increase in competition in our Illinois and Texas markets as, primarily, our traditional cable competitors started offering voice services. Also, effective July 1, 2008, we made an election to transition from rate of return to price cap regulation at the interstate level for our Illinois and Texas operations. The conversion to price caps gives us greater pricing flexibility, especially in the increasingly competitive special access segment and in launching new products. Additionally, in response to customer demand we have also launched our own VOIP product offering as an alternative to our traditional wireline services. While there has been no material changes in our bundling strategy and or in our end-user pricing, our pricing structure is transitioning from being based on the recovery of costs to a pricing structure based on market conditions. Based on the factors impacting our operations, we determined in the fourth quarter 2008, that the application of SFAS No. 71 for reporting our financial results is no longer appropriate. SFAS No. 101, “Regulated Enterprises — Accounting for the Discontinuance of Application of FASB Statement No. 71,” specifies the accounting required when an enterprise ceases to date are not necessarily meaningful and should not be relied upon as an indicationmeet the criteria for application of future performance due toSFAS No. 71. SFAS No. 101 requires the following factors: | | | | • | Revenues and expenses for the year ended December 31, 2004 include the results of CCI Texas only from April 14, 2004, the date of the TXUCV acquisition. For all periods prior to April 14, 2004, our financial results only included CCI Illinois. For all periods subsequent to April 14, 2004, our financial statements include CCI Illinois and CCI Texas on a consolidated basis. | | | • | In connection with the TXUCV acquisition, we incurred approximately $14.4 million in operating expenses associated with the integration and restructuring process in 2004 and 2005. These integration and restructuring costs were in addition to the ongoing costs we expect to incur in 2006 and 2007 to further integrate our Illinois and Texas billing systems and certain ongoing expenses we began to incur at that time to expand certain administrative functions, such as those related to SEC reporting and compliance, and do not take into account other potential cost savings and expenses of the TXUCV acquisition. | | | • | Expenses for the years ended December 31, 2005, 2004 and 2003 contain $2.9 million, $4.1 million and $2.0 million, respectively, in aggregate professional service fees paid to our existing equity investors. In connection with the acquisition of ICTC and then TXUCV, the Company and certain of its subsidiaries entered into professional service agreements with our equity investors for consulting, advisory and other professional services. These arrangements and the rights of our existing equity investors to earn these fees terminated with the closing of the IPO described below. |
On July 27, 2005, we completed our IPO. The IPO consistedelimination of the saleeffects of 6,000,000 sharesany actions of common stock newly issuedregulators that have been recognized as assets and liabilities in accordance with SFAS No. 71 but would not have been recognized as assets and liabilities by nonregulated enterprises. Depreciation rates of certain assets established by regulatory authorities for the Company and 9,666,666 sharesCompany’s telephone operations subject to SFAS No. 71 have historically included a systematic charge for removal costs in excess of common stock sold by certain of our selling stockholders. The shares of common stock were sold at an initial public offering price of $13.00 per sharethe related estimated salvage value on those assets, resulting in a net proceeds to usover depreciation of approximately $67.6those assets over their useful lives. Costs of removal were then appropriately applied against this reserve. Upon discontinuance of SFAS No. 71, we reversed the impact of recognizing removal costs in excess of the related estimated salvage value, which resulted in recording a non-cash extraordinary gain of $7.2 million, net of taxes of $4.2 million.
We used the net proceeds from the IPO, together with additional borrowings under our credit facilities and cash on hand to:
| | | | • | repay in full outstanding borrowings under our term loan A and C facilities, together with accrued but unpaid interest through the date of repayment and associated fees and expenses; |
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Factors affecting results of operations | | | | • | redeem $70.0 million of the aggregate principal amount of our senior notes and pay the associated redemption premium of $6.8 million, together with accrued but unpaid interest through the date of redemption; and | | | • | pre-fund expected integration and restructuring costs for 2005 relating to the TXUCV acquisition. |
Revenues | | | Factors Affecting Future Results of Operations
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Telephone Operations and Other Operations. To date, ourOur revenues have beenare derived primarily from the sale of voice and data communications services to residential and business customers in our rural telephone companies’ service areas. Our Telephone Operations segment added revenues for the year ended December 31, 2005, Because we operate primarily because of the inclusion of the results from our Texas Telephone Operations. In 2004, our Telephone Operations segment included revenues from our Texas Telephone Operations only for periods after the April 14, 2004 acquisition of TXUCV. Wein rural service areas, we do not anticipate significant growth in revenues in our Telephone Operations segment, due to its primarily rural service area, butexcept through acquisitions such as that of North Pittsburgh. However, we do expect relatively consistent cash flow fromyear-to-year due year to year because of stable customer demand, limited competition, and a generally supportive regulatory environment.
Our Other Operations segment increased revenues in its Public Services business for the year ended December 31, 2005 compared to the same period in 2004. Overall, revenues declined due primarily to losing the telemarketing and fulfillment contract with the Illinois Toll Highway Authority in mid-2004 as well as declines in our Mobile and Operator Services businesses. We expect the declining revenue trends in our Mobile and Operator Services businesses to continue.
Local Access Lines and Bundled Services.Local access lines are an important element of our business. and bundled services.An “access line” is the telephone line connecting a person’s home or business to the public switched telephone network. The number of local access lines in service directly affects the monthly recurring revenue we generate from end users, the amount of traffic on our network, and relatedthe access charges generatedwe receive from other carriers, the amount of federal and state subsidies we receive, and most other revenue streams are directly related to the number of local access lines in service. As illustrated in the tables below, westreams. We had 242,024264,323 local access lines in service as of December 31, 2005, which is a decrease2008, compared to 286,186 at the end of 13,184 from the 255,2082007. We had 233,689 local access lines we had on December 31, 2004.in service at the end of 2006, prior to our acquisition of North Pittsburgh.
Many rural telephone companies have experienced a loss of local access lines due to challenging economic conditions and increased competition from wireless providers, competitive local exchange carriers and, in some cases, cable television operators. We have not been immune to these conditions. Excluding the effectBoth Suddenlink and Comcast, cable competitors in Texas, as well as NewWave Communications in Illinois, launched a competing voice product this year, which caused a spike in our line loss. We estimate that cable companies are now offering voice service to all of the TXUCV acquisition, we have lost access lines in eachtheir addressable customers, covering 85% of the last two years. our entire service territory. We also believe that we lost local access lines due to the disconnection ofbecause residential customers disconnected second telephone lines by our residential customers in connection with their substitutingwhen they substituted DSL or cable modem service fordial-up Internet access, and wireless service for wireline service. Aswired. Second lines decreased from 10,685 as of December 31, 2005 and 2004, we had 9,144 and 11,115 second lines, respectively.2007, to 8,822 as of December 31, 2008. The disconnection of second lines represented 30.1%8.9% of our residential line loss in 2005.2008, and 9.6% in 2007. In addition, since we began to more aggressively promote our digital telephone service, we estimate that approximately one-half of our digital telephone subscriber additions are switching from one of our traditional access lines. We expect to continue to experience modest erosion in access lines.lines both due to market forces and through our own cannibalization. A significant portion of our line loss in 2005 is attributable to the migration of MCIMetro’s Internet service provider, or ISP, traffic from our primary rate interface, or PRI, facilities and local T-1 facilities to interconnection trunks. As a result of this migration, our Telephone Operations segment experienced a loss of approximately 5,332 lines during the 2005. In total, the MCIMetro regrooming in our territories represented 40.4% of our access line loss on ayear-to-year basis. The migration of MCIMetro’s ISP traffic is essentially complete. As of December 31, 2005, we had 48 remaining MCIMetro ISP lines that we expect to be migrated in the first quarter of 2006.
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We have mitigated the decline in local access lines with increased ARPUaverage revenue per access line by focusing on the following: aggressively promoting DSL service, including selling DSL as a stand-alone offering; bundling value-adding services, such as DSL or IPTV, with a combination of local service and custom calling features; | | | | • | aggressively promoting DSL service; | | | • | bundling value-adding services, such as DSL with a combination of local service, custom calling features, voicemail and Internet access; | | | • | maintaining excellent customer service standards, particularly as we introduce new services to existing customers;standards; and | | | • | | keeping a strong local presence in the communities we serve. |
We have implemented a number of initiatives to gain new local access lines and retain existing local access lines by enhancing the attractiveness of the bundle with newmaking bundled service offerings, includingpackages more attractive (for example, by adding unlimited long distance,distance) and promotional offersby announcing special promotions, like discounted second lines. In January 2005 we introduced DVS in selected Illinois markets. The initial roll-out was initiated in a controlled manner with little advertising or promotion. Upon completion of back-office testing, vendor interoperability between system components and final network preparation, we began aggressively marketingWe also market our “triple play” bundle, which includes local telephone service, DSL, and DVS, in our key Illinois exchanges in September 2005.IPTV. As of December 31, 2005, DVS2008, IPTV was available to approximately 19,500over 142,800 homes and we had 2,146 subscribers, which represented 11.0% of available homes. We are currently expanding DVS availability in Illinois and believe that we will pass 36,000 homes by mid-2006. We will continue to study our current results and the opportunity to introduce DVS service in our Texas markets. Our IPTV subscriber base has grown from 12,241 as of December 31, 2007, to 16,666 as of December 31, 2008. We launched IPTV in our Pennsylvania markets in April 2008. 42
In addition to our access line and video initiatives, we intend to continue to integrate best practices across our Illinois, Texas, and Pennsylvania regions. We also continue to look for ways to enhance current products and introduce new services to ensure that we remain competitive and continue to meet our customers’ needs. These initiatives include offering: hosted digital telephone service in certain Texas regions. and Pennsylvania markets to meet the needs of small- to medium-sized business customers that want robust function without having to purchase a traditional key or PBX phone system; Digital telephone service for residential customers, which is being offered to our Texas and Illinois customers and will expand to our Pennsylvania customers in 2009 both as a growth opportunity and as an alternative to the traditional phone line for customers who are considering a switch to a cable competitor; DSL service—even to users who do not have our access line—which expands our customer base and creates additional revenue-generating opportunities; | • | | a DSL product with speeds up to 10 Mbps for those customers desiring greater Internet speed; and | | | • | | High definition video service and digital video recorders in all of our IPTV markets. |
These efforts may act to mitigate the financial impact of any access line loss we may experience. Because of our promotional efforts, theThe number of DSL subscribers we serve grew substantially. The number ofsubstantially in 2008. We had 91,817 DSL subscribers we serve increased by 42.8% to approximately 39,192 lines in service as of December 31, 2005 from approximately 27,445 lines2008, compared to 81,337 as of December 31, 2004.2007, including 14,713 as a result of the acquisition of North Pittsburgh, and 52,732 as of December 31, 2006. Currently over 92%95% of our rural telephone companies’ local access lines are DSL capable. The penetration rate for DSL lines inDSL-capable.
We also utilize service was approximately 16.2% of our local access lines at December 31, 2005. We have also been successful in generating Telephone Operations revenues by bundlingbundles, which include combinations of local service, custom calling features, voicemail and Internet access. The number of these bundles, which we referaccess, to asgenerate revenue and retain customers in our Illinois, Texas and Pennsylvania markets. Our service bundles increased 20.1% to approximately 36,627 service bundlestotaled 42,054 at December 31, 2005 from approximately 30,489 service bundles2008, compared to 45,971 at December 31, 2004.
Our strategy is to continue to execute the plan we have had forend of 2007 and 43,175 at the past three years and to continue to implement the plan in Texas (where we acquired our rural telephone operations in April 2004). However, if these actions fail to mitigate access line loss, or we experience a higher degreeend of access line loss than we currently expect, it could have an adverse impact on our revenues and earnings.2006.
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The following sets forth several key metrics as of the end of the periods presented:presented. Only the information as of December 31, 2008 and 2007 include North Pittsburgh. CCI Illinois
| | | | | | | | | | | | December 31, | | | | | | | | 2005 | | | 2004 | | | | | | | | | Local access lines in service | | | | | | | | | | Residential | | | 52,469 | | | | 55,627 | | | Business | | | 29,728 | | | | 31,255 | | | | | | | | | | Total local access lines | | | 82,197 | | | | 86,882 | | DVS subscribers | | | 2,146 | | | | 101 | | DSL subscribers | | | 14,576 | | | | 10,794 | | | | | | | | | Total connections | | | 98,919 | | | | 97,777 | | | | | | | | | Long distance lines | | | 56,097 | | | | 54,345 | | Dial-up subscribers | | | 6,533 | | | | 7,851 | | Service bundles | | | 10,827 | | | | 9,175 | |
CCI Texas
| | | | | | | | | | | | December 31, | | | | | | | | 2005 | | | 2004 | | | | | | | | | Local access lines in service | | | | | | | | | | Residential | | | 109,762 | | | | 113,151 | | | Business | | | 50,065 | | | | 55,175 | | | | | | | | | | Total local access lines | | | 159,827 | | | | 168,326 | | DVS subsrcibers | | | — | | | | — | | DSL subscribers | | | 24,616 | | | | 16,651 | | | | | | | | | Total connections | | | 184,443 | | | | 184,977 | | | | | | | | | Long distance lines | | | 87,785 | | | | 84,332 | | Dial-up subscribers | | | 9,438 | | | | 13,333 | | Service bundles | | | 25,800 | | | | 21,314 | |
Total Company
| | | | | | | | | | | | December 31, | | | | | | | | 2005 | | | 2004 | | | | | | | | | Local access lines in service | | | | | | | | | | Residential | | | 162,231 | | | | 168,778 | | | Business | | | 79,793 | | | | 86,430 | | | | | | | | | | Total local access lines | | | 242,024 | | | | 255,208 | | DVS subsrcibers | | | 2,146 | | | | 101 | | DSL subscribers | | | 39,192 | | | | 27,445 | | | | | | | | | Total connections | | | 283,362 | | | | 282,754 | | | | | | | | | Long distance lines | | | 143,882 | | | | 138,677 | | Dial-up subscribers | | | 15,971 | | | | 21,184 | | Service bundles | | | 36,627 | | | | 30,489 | |
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| | | | | | | | | | | | | | | December 31, | | | December 31, | | | December 31, | | | | 2008 | | | 2007 (1) | | | 2006 | | Local access lines in service: | | | | | | | | | | | | | Residential | | | 162,067 | | | | 183,070 | | | | 155,354 | | Business | | | 102,256 | | | | 103,116 | | | | 78,335 | | | | | | | | | | | | Total local access lines | | | 264,323 | | | | 286,186 | | | | 233,689 | | | Digital telephone subscribers | | | 6,510 | | | | 2,494 | | | | — | | IPTV subscribers | | | 16,666 | | | | 12,241 | | | | 6,954 | | ILEC DSL subscribers | | | 91,817 | | | | 81,337 | | | | 52,732 | | | | | | | | | | | | Broadband Connections | | | 114,993 | | | | 96,072 | | | | 59,686 | | CLEC Access Line Equivalents (2) | | | 74,687 | | | | 70,063 | | | | — | | | | | | | | | | | | Total connections | | | 454,003 | | | | 452,321 | | | | 293,375 | | | | | | | | | | | | | Long distance lines (3) | | | 165,953 | | | | 166,599 | | | | 148,181 | | Dial-up subscribers | | | 3,957 | | | | 5,578 | | | | 11,942 | |
| | | (1) | Expenses | In connection with the acquisition of North Pittsburgh, we acquired 36,411 residential access lines, 25,988 business access lines, 14,713 DSL subscribers, 87 digital telephone subscribers, 70,063 CLEC access line equivalents and 18,223 long distance lines. | | (2) | | CLEC access line equivalents represent a combination of voice services and data circuits. The calculations represent a conversion of data circuits to an access line basis. Equivalents are calculated by converting data circuits (basic rate interface, primary rate interface, DSL, DS-1, DS-3 and Ethernet) and SONET-based (optical) services (OC-3 and OC-48) to the equivalent of an access line. | | (3) | | Reflects the inclusion of long distance service provided as part of our VOIP offering while excluding CLEC long distance subscribers. |
Expenses Our primary operating expenses consist of cost of services,services; selling, general and administrative expensesexpenses; and depreciation and amortization expenses. | | | Cost of Services and Products |
Cost of services and products.Our cost of services includes the following: operating expenses relating to plant costs, including those related to the network and general support costs, central office switching and transmission costs, and cable and wire facilities; | | | | • | operating expenses relating to plant costs, including those related to the network and general support costs, central office switching and transmission costs and cable and wire facilities; | | | • | general plant costs, such as testing, provisioning, network, administration, power and engineering; and | | | • | the cost of transport and termination of long distance and private lines outside our rural telephone companies’ service area. |
general plant costs, such as testing, provisioning, network, administration, power, and engineering; and the cost of transport and termination of long distance and private lines outside our rural telephone companies’ service area. We have agreements with various carriers to provide long distance transport and termination services. These agreements contain various commitments and expire at various times. We believe we will meet all of our commitments in these agreements and believe we will be able to procure services for future periods. We are currently procuring services for future periods and at this time, the costs and related terms under which we will purchase long distance transport and termination services have not been determined.after our current agreements expire. We do not expect however, any material adverse affectseffects from any changes in any new service contract. | | | Selling, General and Administrative Expenses |
Selling, general and administrative expenses.In general, selling, general and administrative expenses include the following:selling and marketing expenses; expenses associated with customer care; billing and other operating support systems; and corporate expenses, such as professional service fees and non-cash stock compensation. 44
| | | | • | selling and marketing expenses; | | | • | expenses associated with customer care; | | | • | billing and other operating support systems; and | | | • | corporate expenses, including professional service fees, and non-cash stock compensation. |
Our Telephone Operations segment incurs selling, marketing, and customer care expenses from its customer service centers and commissioned sales representatives. Our customer service centers are the primary sales channels for residential and business customers with one or two phone lines, whereas commissioned sales representatives provide customized proposals tosystems for larger business customers. In addition, we use customer retail centers for various communications needs, including new telephone, Internet, and paging service purchases in Illinois.IPTV purchases. Each of our Other Operations businesses primarily uses an independent sales and marketing team comprised of dedicatedcomprising field sales account managers, management teams, and service representatives to execute our sales and marketing strategy. We haveOur operating support and back office systems that are used to enter, schedule, provision, and track customer orders,orders; test services and interface with trouble management,management; and operate inventory, billing, collections, and customer care service systems for the local access lines in our operations. We have migrated most key business processes of our Illinois and Texas operations onto single company-wide systems and platforms. Our objective isWe hope to improve profitability by reducing individual company costs through centralization, standardizationcentralizing, standardizing, and sharing of best practices. ForWe converted the years ended December 31, 2005North Pittsburgh accounting and 2004 we spent $7.4 millionpayroll functions to our existing systems, and $7.0 million, respectively, onhave started to integrate many other functions. Our integration and restructuring expenses (which included projectswere $4.8 million for the year ended December 31, 2008, $1.2 million for 2007, and $2.9 million for 2006.
Depreciation and amortization expenses.Prior to integrate our support and back office systems). We expect to continue the integrationdiscontinuance of our Illinois and Texas billing systems through July 2007. 52
| | | Depreciation and Amortization Expenses |
We recognizethe accounting prescribed by SFAS No. 71 on December 31, 2008 as noted above, we recognized depreciation expenses for our regulated telephone plant using rates and lives approved by the ICC andstate regulators for regulatory reporting purposes. Upon the PUCT. discontinuance of SFAS No. 71, we revised the useful lives on a prospective basis to be similar to a non-regulated entity.
The provision for depreciation on nonregulated property and equipment is recorded using the straight-line method based upon the following useful lives: | | | | | | | Years | | | | | | Buildings | | | 15-35 | | Network and outside plant facilities | | | 5-30 | | Furniture, fixtures and equipment | | | 3-175-17 | | Capital Leases | | | 11 | |
Amortization expenses are recognized primarily for our intangible assets considered to have finite useful lives on a straight-line basis. In accordance with Statement of Financial Accounting Standards, or SFAS No. 142,Goodwill “Goodwill and Other Intangible AssetsAssets”, goodwill and intangible assets that have indefinite useful lives are not amortized but rather are tested annually for impairment. Because trade names have been determined to have indefinite lives, they are not amortized. Customer relationships are amortized over their useful life,life. The net carrying value of customer lists at December 31, 2008, is being amortized at a weighted average life of 11.7approximately 6.4 years. 45
The following summarizes our revenues and operating expenses on a consolidated basis for the years ended December 31, 2005, 20042008, 2007, and 2003:2006: | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Year Ended December 31, | | | | | | | | 2005 | | | 2004 | | | 2003 | | | | | | | | | | | | | | | | % of Total | | | | | % of Total | | | | | % of Total | | | | $ (millions) | | | Revenues | | | $ (millions) | | | Revenues | | | $ (millions) | | | Revenues | | | | | | | | | | | | | | | | | | | | | Revenues | | | | | | | | | | | | | | | | | | | | | | | | | Telephone Operations | | | | | | | | | | | | | | | | | | | | | | | | | | Local calling services | | $ | 88.2 | | | | 27.4 | % | | $ | 74.9 | | | | 27.8 | % | | $ | 34.4 | | | | 26.0 | % | | Network access services | | | 64.4 | | | | 20.0 | | | | 56.8 | | | | 21.1 | | | | 27.5 | | | | 20.8 | | | Subsidies | | | 53.9 | | | | 16.8 | | | | 40.5 | | | | 15.0 | | | | 4.7 | | | | 3.6 | | | Long distance services | | | 16.3 | | | | 5.1 | | | | 14.7 | | | | 5.5 | | | | 8.8 | | | | 6.7 | | | Data and Internet services | | | 25.8 | | | | 8.0 | | | | 20.9 | | | | 7.8 | | | | 10.8 | | | | 8.2 | | | Other services | | | 33.7 | | | | 10.5 | | | | 22.6 | | | | 8.4 | | | | 4.1 | | | | 3.1 | | | | | | | | | | | | | | | | | | | | | | | Total Telephone Operations | | | 282.3 | | | | 87.8 | | | | 230.4 | | | | 85.5 | | | | 90.3 | | | | 68.3 | | | Other Operations | | | 39.1 | | | | 12.2 | | | | 39.2 | | | | 14.5 | | | | 42.0 | | | | 31.7 | | | | | | | | | | | | | | | | | | | | | Total operating revenues | | | 321.4 | | | | 100.0 | | | | 269.6 | | | | 100.0 | | | | 132.3 | | | | 100.0 | | | | | | | | | | | | | | | | | | | | | Expenses | | | | | | | | | | | | | | | | | | | | | | | | | Operating Expenses | | | | | | | | | | | | | | | | | | | | | | | | | | Telephone Operations | | | 165.0 | | | | 51.3 | | | | 133.5 | | | | 49.5 | | | | 54.7 | | | | 41.3 | | | Other Operations | | | 34.9 | | | | 10.9 | | | | 46.6 | | | | 17.3 | | | | 34.1 | | | | 25.8 | | | Depreciation and amortization | | | 67.4 | | | | 21.0 | | | | 54.5 | | | | 20.2 | | | | 22.5 | | | | 17.0 | | | | | | | | | | | | | | | | | | | | | | | Total operating expenses | | | 267.3 | | | | 83.2 | | | | 234.6 | | | | 87.0 | | | | 111.3 | | | | 84.1 | | Income from operations | | | 54.1 | | | | 16.8 | | | | 35.0 | | | | 13.0 | | | | 21.0 | | | | 15.9 | | Interest expense, net | | | (53.4 | ) | | | (16.6 | ) | | | (39.9 | ) | | | (14.8 | ) | | | (11.9 | ) | | | (9.0 | ) | Other income, net | | | 5.7 | | | | 1.8 | | | | 4.0 | | | | 1.5 | | | | 0.1 | | | | 0.1 | | Income tax expense | | | (10.9 | ) | | | (3.4 | ) | | | (0.2 | ) | | | (0.1 | ) | | | (3.7 | ) | | | (2.8 | ) | | | | | | | | | | | | | | | | | | | | | | Net income (loss) | | $ | (4.5 | ) | | | (1.4 | )% | | $ | (1.1 | ) | | | (0.4 | )% | | $ | 5.5 | | | | 4.2 | % | | | | | | | | | | | | | | | | | | | |
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The following summarizes, for the revenues and operating expenses from continuing operations for TXUCV for the periods presented prior to the acquisition: | | | | | | | | | | | | | | | | | | | | | | | | | | | Year Ended December 31, | | | | 2008 | | | 2007 | | | 2006 | | | | | | | | % of Total | | | | | | | % of Total | | | | | | | % of Total | | | | $ (millions) | | | Revenues | | | $ (millions) | | | Revenues | | | $ (millions) | | | Revenues | | Revenues | | | | | | | | | | | | | | | | | | | | | | | | | Telephone Operations | | | | | | | | | | | | | | | | | | | | | | | | | Local calling services | | $ | 104.6 | | | | 25.0 | % | | $ | 82.8 | | | | 25.2 | % | | $ | 85.1 | | | | 26.6 | % | Network access services | | | 94.6 | | | | 22.6 | | | | 70.2 | | | | 21.3 | | | | 68.1 | | | | 21.2 | | Subsidies | | | 55.2 | | | | 13.2 | | | | 46.0 | | | | 14.0 | | | | 47.6 | | | | 14.8 | | Long distance services | | | 24.0 | | | | 5.7 | | | | 14.0 | | | | 4.2 | | | | 15.2 | | | | 4.7 | | Data and Internet services | | | 62.7 | | | | 15.0 | | | | 38.0 | | | | 11.5 | | | | 30.9 | | | | 9.6 | | Other services | | | 36.9 | | | | 8.8 | | | | 35.8 | | | | 10.9 | | | | 33.5 | | | | 10.5 | | | | | | | | | | | | | | | | | | | | | Total Telephone Operations | | | 378.0 | | | | 90.3 | | | | 286.8 | | | | 87.1 | | | | 280.4 | | | | 87.4 | | Other Operations | | | 40.4 | | | | 9.7 | | | | 42.4 | | | | 12.9 | | | | 40.4 | | | | 12.6 | | | | | | | | | | | | | | | | | | | | | Total operating revenues | | | 418.4 | | | | 100.0 | | | | 329.2 | | | | 100.0 | | | | 320.8 | | | | 100.0 | | | | | | | | | | | | | | | | | | | | | Expenses | | | | | | | | | | | | | | | | | | | | | | | | | Operating expenses | | | | | | | | | | | | | | | | | | | | | | | | | Telephone Operations | | | 213.0 | | | | 50.9 | | | | 153.4 | | | | 46.6 | | | | 152.4 | | | | 47.5 | | Other Operations | | | 45.4 | | | | 10.9 | | | | 43.5 | | | | 13.2 | | | | 51.7 | | | | 16.1 | | Depreciation and amortization | | | 91.7 | | | | 21.9 | | | | 65.7 | | | | 20.0 | | | | 67.4 | | | | 21.0 | | | | | | | | | | | | | | | | | | | | | Total operating expenses | | | 350.1 | | | | 83.7 | | | | 262.6 | | | | 79.8 | | | | 271.5 | | | | 84.6 | | | | | | | | | | | | | | | | | | | | | | Income from operations | | | 68.3 | | | | 16.3 | | | | 66.6 | | | | 20.2 | | | | 49.3 | | | | 15.4 | | | Interest expense, net | | | (66.3 | ) | | | (15.8 | ) | | | (46.5 | ) | | | (14.1 | ) | | | (42.9 | ) | | | (13.4 | ) | Other income (expense), net | | | 9.9 | | | | 2.4 | | | | (4.0 | ) | | | (1.2 | ) | | | 7.3 | | | | 2.2 | | Income tax expense | | | (6.6 | ) | | | (1.6 | ) | | | (4.7 | ) | | | (1.4 | ) | | | (0.4 | ) | | | (0.1 | ) | | | | | | | | | | | | | | | | | | | | Income before extraordinary item | | | 5.3 | | | | 1.3 | | | | 11.4 | | | | 3.5 | | | | 13.3 | | | | 4.1 | | Extraordinary item, net of tax | | | 7.2 | | | | 1.7 | | | | — | | | | — | | | | — | | | | — | | | | | | | | | | | | | | | | | | | | | Net Income | | $ | 12.5 | | | | 3.0 | % | | $ | 11.4 | | | | 3.5 | % | | $ | 13.3 | | | | 4.1 | % | | | | | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | | | | | Predecessor to CCV | | | | | | | | January 1 - April 13, | | | Year Ended December 31, | | | | 2004 | | | 2003 | | | | | | | | | | | | | % of Total | | | | | % of Total | | | | $ (millions) | | | Revenues | | | $ (millions) | | | Revenues | | | | | | | | | | | | | | | Revenues | | | | | | | | | | | | | | | | | Telephone Operations | | | | | | | | | | | | | | | | | | Local calling services | | $ | 16.9 | | | | 31.4 | % | | $ | 56.2 | | | | 28.9 | % | | Network access services | | | 10.6 | | | | 19.7 | | | | 35.2 | | | | 18.1 | | | Subsidies | | | 11.0 | | | | 20.4 | | | | 41.4 | | | | 21.3 | | | Long distance services | | | 3.5 | | | | 6.5 | | | | 13.4 | | | | 6.9 | | | Data and Internet services | | | 3.9 | | | | 7.2 | | | | 14.7 | | | | 7.5 | | | Other services | | | 8.0 | | | | 14.8 | | | | 28.0 | | | | 14.4 | | | Exited services | | | — | | | | — | | | | 5.9 | | | | — | | | | | | | | | | | | | | | Total operating revenues | | | 53.9 | | | | 100.0 | | | | 194.8 | | | | 100.0 | | | | | | | | | | | | | | | Expenses | | | | | | | | | | | | | | | | | Operating Expenses | | | 39.4 | | | | 73.1 | | | | 133.8 | | | | 68.7 | | Other charges | | | — | | | | — | | | | 13.4 | | | | 6.9 | | Depreciation and amortization | | | 8.1 | | | | 15.0 | | | | 32.9 | | | | 16.9 | | | | | | | | | | | | | | | | Total operating expenses | | | 47.5 | | | | 88.1 | | | | 180.1 | | | | 92.5 | | Income from operations | | | 6.4 | | | | 11.9 | | | | 14.7 | | | | 7.5 | | Interest expense, net | | | (3.2 | ) | | | (5.9 | ) | | | (5.4 | ) | | | (2.8 | ) | Other income, net | | | 1.1 | | | | 2.0 | | | | 0.8 | | | | 0.4 | | Income tax expense | | | (2.5 | ) | | | (4.6 | ) | | | (12.4 | ) | | | (6.4 | ) | | | | | | | | | | | | | | | Net income (loss) | | $ | 1.8 | | | | 3.4 | % | | $ | (2.3 | ) | | | (1.3 | )% | | | | | | | | | | | | | |
Segments In accordance with the reporting requirement of SFAS No. 131Disclosure “Disclosure about Segments of an Enterprise and Related InformationInformation”, the Company has two reportable business segments,segments: Telephone Operations and Other Operations. The results of operations for North Pittsburgh are included in the Telephone Operations segment for the periods following the acquisition on December 31, 2007. The results of operations discussed below reflect our consolidated results. Results of Operations | | | For the Year Ended December 31, 2005 Compared to December 31, 2004 |
Our revenues increased by 19.2%, or $51.8 million, to $321.4 million in 2005, from $269.6 million in 2004. Had our Texas Telephone Operations been included for the entire period, we would have had an additional $53.9 million of revenues for the year ended December 31, 2004, which would have resulted2008, compared to December 31, 2007
Revenues Our revenues increased by 27.1%, or $89.2 million, to $418.4 million in a $2.12008, from $329.2 million decrease in our revenues between 20042007. We explain this change in the discussion and 2005. Revenues fluctuations are discussedanalysis below. Telephone Operations Revenues | | | Telephone Operations Revenues |
Local calling servicesrevenues increased by 17.8%,26.3% or $13.3$21.8 million, to $88.2$104.6 million in 20052008 compared to $74.9$82.8 million in 2004. Had our Texas Telephone Operations been included for the entire 54
period in 2004, we would have had an additional $16.9 million of revenues, which would have resulted in a $3.6 million decrease in our local calling services revenues between 2004 and 2005.2007. The decrease would have beenincrease is primarily due to $27.5 million of new local calling revenue as a result of the acquisition of North Pittsburgh. Without the effect of North Pittsburgh, local calling revenue decreased by $5.7 million, primarily due to a decline in local access lines, as previously discussed under “—Factors Affecting Future Results of Operations.”
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Network access servicesrevenues increased by 13.4%34.8%, or $7.6$24.4 million, to $64.4$94.6 million in 20052008 compared to $56.8$70.2 million in 2004. Had our Texas Telephone Operations been included for the entire period in 2004, we would have had an additional $10.6 million of revenues, which would have resulted in a $3.0 million decrease in network access services revenues between 2004 and 2005.2007. The decrease would have beenincrease is primarily due to higher than normal revenues for 2004 due to$29.5 million of new network access revenue as a result of the recognition in 2004acquisition of $3.1North Pittsburgh. Without the effect of North Pittsburgh, network access revenue decreased by $5.1 million. In 2007 we recognized $0.7 million of non-recurring interstaterevenue from the favorable settlement of an outstanding billing claim. In 2008, the Texas Infrastructure Fund and Local Number Portability surcharges for Texas were eliminated reducing revenues approximately $1.4 million. In addition, subscriber line charge revenue decreased $1.1 million due to access line loss. As a result of declining minutes of use, our switched access revenues previously reserved during the FCC’s prior two-year monitoring period. The current regulatory rules allow recognition of revenues earned when the FCC has deemed those revenues lawful. Subsidiesrevenues increaseddecreased by 33.1%, or $13.4$3.4 million, to $53.9 million in 2005 compared to $40.5 million in 2004. Had our Texas Telephone Operations been included for the entire period in 2004, we would have had an additional $11.0 million of revenues, which would have resulted in a $2.4 million increase in subsidies revenues between 2004 and 2005. The subsidy settlement process relates to the process of separately identifying regulated assets that are used to provide interstate services and, therefore, fall under the regulatory regime of the FCC, from regulated assets in Illinois used to provide local and intrastate services, which fall under the regulatory regime of the ICC. Since our Illinois rural telephone company is regulated under a rate of return system for interstate revenues, the value of all assets in the interstate base is critical to calculating this rate of return and, therefore, the subsidies our Illinois rural telephone company will receive. In 2004, our Illinois rural telephone company analyzed its regulated assets and associated expenses and reclassified some of these assets and expenses purposes of its regulatory filings. Due to this reclassification, we received $5.1 million of incremental payments from the subsidy pool in 2005, which was partially offset by a reduction of $2.7$1.0 million increase in special access revenue.
Subsidiesrevenues increased by 20.0%, or $9.2 million, to $55.2 million in 2008 compared to $46.0 million in 2007. The increase is primarily due to $7.3 million of new federal and state subsidy revenue as a result of the acquisition of North Pittsburgh. Without the effect of North Pittsburgh, subsidy revenue increased by $1.9 million. In 2008, we received $1.4 million in refunds of prior period subsidy receipts.payments; however in 2007 we made payments of $2.6 million for prior periods. Exclusive of the prior period settlements, we received $28.6 million in federal universal service fund (“USF”) support and $17.9 million in Texas USF support in 2008, compared to $29.6 million in federal USF support and $19.0 million in Texas USF support in 2007. Long distance servicesrevenues increased by 10.9%71.4%, or $10.0 million, to $24.0 million in 2008 compared to $14.0 million in 2007. The increase is primarily due to $11.6 million of new long distance revenue as a result of the acquisition of North Pittsburgh. Without the effect of North Pittsburgh, long distance revenue decreased by $1.6 million to $16.3 millionas a result of a decline in 2005 compared to $14.7 million in 2004. Had our Texas Telephone Operations been included for the entire period in 2004, we would have had an additional $3.5 million of revenues, which would have resulted in a decrease of $1.9 million in our long distance revenues between 2004 and 2005. Our long distance lines increased by 3.6%, or 5,205 lines, in 2005. Despite the increase in long distance lines, our long distance revenues would have decreased due to a reduction in the average rate per minute of use. This was driven by general industry trends and the introduction of our unlimited long distance calling plans. While these plans are helpful in maintaining existing customers and attracting new customers, they have also led to some extent to a reduction in long distance services revenues as heavy users of our long distance services take advantage of the fixed pricing offered by these service plans.billable minutes. Data and Internetrevenues increased by 23.4%65.0%, or $4.9$24.7 million, to $25.8$62.7 million in 20052008 compared to $20.9$38.0 million in 2004. Had our Texas Telephone Operations been included for the entire period in 2004, we would have had an additional $3.92007. The increase is primarily due to $16.7 million of revenues, which would have resulted innew data and Internet revenue as a $1.0 million increase in ourresult of the acquisition of North Pittsburgh. Without the effect of North Pittsburgh, data and Internet revenues between 2004 and 2005. The revenue increase wasincreased by $8.0 million due to increased DSL penetration. The number of DSL lines in service increased from 27,445 as of December 31, 2004 to 39,192 as of December 31, 2005. Thean increase in DSL subscriber revenue wasand IPTV subscribers. These increases were partially offset by a portionerosion of our residential customers substituting DSL or competitive broadband services for ourdial-up Internet service as well as a decrease in revenue from dedicated lines for our business customers.base. Other Servicesservicesrevenues increased by 49.1%3.1%, or $11.1$1.1 million, to $33.7,$36.9 million in 20052008 compared to $22.6$35.8 million in 2004. Had our Texas Telephone Operations been included for the entire period2007. The acquisition of North Pittsburgh resulted in 2004, we would have had an additional $8.0$2.2 million of revenues, which would have resulted in a $3.1 million increase in ournew other services revenue between 2004 and 2005. The increase was primarilyrevenue. Without the effect of North Pittsburgh, other service revenues decreased by $1.1 million due to $1.5the recognition of $0.1 million of additional directory revenues. In addition to increased sales in our Texas markets, we generated new revenue by publishing our own directories in Illinois in 2005. We also realized $0.4 million 55
of revenue from DVSthe settlement of a billing dispute in Illinois. The remainder2007 and a decrease of the increase$1.0 million in other services revenue was primarily due to increased equipment, inside wiring and maintenance contractsrevenue in our Texas operations.2008. Other Operations Revenues Other Operations revenues decreased by 0.3%4.7%, or $0.1$2.0 million, to $39.1$40.4 million in 20052008 compared to $39.2$42.4 million in 2004. Because2007. In 2007 our telemarketing business expanded its call volume capacity. As a result of the additional sites being served andexpansion, revenue for 2008 increased usage at current sites, our Public Services unit generated increased revenueby $0.9 million compared to 2007. Partially offsetting the increase was a decline of $1.1 million for the period. However,in our operator services business as a result of decreased call attempts, a decline of $0.7 million in business system sales, and lower revenues from our Market Response business decreased by $0.7 million resulting from the loss of the Illinois State Toll Highway agreement in 2004. Decreased revenue in Operator Serviceprison systems calling and Mobile Services, which accounted for the remainder of the loss, was due to competitive pricing adjustmentsmobile and declines in customer usage.paging services. Operating Expenses Our operating expenses increased by 13.9%33.3%, or $32.7$87.5 million, to $267.3$350.1 million in 20052008 compared to $234.6$262.6 million in 2004. Had our Texas 2007. We explain this change in the discussion and analysis below. Telephone Operations operating expenses been included for the entire period in 2004, we would have had an additional $47.5 million of operating expenses, which would have resulted in a $14.8 million decrease in operating expenses for the year. As detailed below, the 2005 results are impacted by several transactions that occurred as a result of the IPO and from our integration efforts, while the 2004 results were affected by TXUCV sale related costs and an intangible asset impairment charge.Operating Expenses | | | Telephone Operations Operating Expense |
Operating expenses for Telephone Operations increased by 23.6%38.9%, or $31.5$59.6 million, to $165.0$213.0 million in 20052008 compared to $133.5$153.4 million in 2004. Had our Texas Telephone Operations’2007. The increase is primarily due to an additional $57.0 million of telephone operations operating expenses been included for the entire period in 2004, we would have had an additional $39.4 million of Telephone Operations operating expenses, which would have resulted inas a $7.9 million decrease in our operating expenses for the year. Effective April 30, 2005, our Texas pension and other post-retirement plans were amended to freeze benefit accruals for all non-union participants. These amendments resulted in a $7.9 million non-cash curtailment gain and additional savings of approximately $3.0 million for the remainder of 2005 through reduced pension and other post-retirement expense. In addition, due to the terminationresult of the professional services agreement with Mr. Lumpkin, Providence Equity and Spectrum Equity, we saved an additional $1.3 million in 2005. The 2004 results contained TXUCV sale related costsacquisition of $8.2 million for severance, transaction and other costs that did not recur in 2005. Offsetting these savings was a non-cash compensation expense of $8.4 million associated with the amendment of our restricted share plan in connection with the IPO,North Pittsburgh, as well as a $3.1$1.5 million litigation settlement.of costs incurred during the recovery from Hurricane Ike, which caused severe power outages in both Texas and Pennsylvania in 2008. 47
Other Operations Operating Expenses | | | Other Operations Operating Expenses |
Operating expenses for Other Operations decreasedincreased by 25.1%4.4%, or $11.7$1.9 million, to $34.9$45.4 million in 20052008 compared to $46.6$43.5 million in 2004. In 2004, the Operator Services and Mobile Services businesses2007. Upon completion of our annual testing, we recognized an $11.5impairment charge of $6.1 million due to a decline in the future cash flows that are projected to be generated by the telemarketing and $0.1fulfillment business. Cost of services declined by $1.8 million intangible asset impairment, respectively, which is discusseddirectly related to the decrease in more detail below under “— Valuationrevenues for the various Other Operations businesses. In addition, our operator services business experienced a $1.5 million decrease on operating expense as a result of Goodwillsalary and Tradenames”. Our 2005 results contain non-cash compensation expense of $0.2 million associated with grants under our restricted share plan.benefit reductions. Depreciation and Amortization | | | Depreciation and Amortization |
Depreciation and amortization expenses increased by $12.939.6%, or $26.0 million, to $67.4$91.7 million in 20052008 compared to $54.5$65.7 million in 2004. Had our Texas Telephone Operations’2007. In connection with the acquisition of North Pittsburgh, we acquired property, plant and equipment valued at $116.3 million, which caused an increase in depreciation and amortization expenses been included for the entire period in 2004,expense. In addition, we would have had an additional $8.1allocated $49.0 million of depreciation and amortization expenses,the purchase price to customer lists, which would have resultedare being amortized over five years. Non-Operating Income (Expense) Interest Expense, Net Interest expense, net of interest income, increased by 42.6%, or $19.8 million, to $66.3 million in a $4.82008 compared to $46.5 million in 2007. The increase is primarily due to an increase of $296.0 million in our depreciation and amortization expenses between 2004 and 2005. Aslong-term debt as a result of the purchaseacquisition of North Pittsburgh. The increase in interest expense resulting from the acquisition was partially offset by the redemption of our senior notes. On April 1, 2008, we redeemed $130.0 million of senior notes paying 9.75% interest by using cash on hand and borrowing $120.0 million at a rate of approximately 7.0%. In addition, during the third quarter of 2008, we entered into $790.0 million of basis swaps, as described in Note 14 to the financial statements. The recognition of ineffectiveness on our interest rate swaps created a non-cash charge of $0.4 million to interest expense. Other Income (Expense) Other income, net increased $13.9 million, to $9.9 million in 2008 compared to ($4.0) million in 2007. $13.1 million of income was recognized from three additional cellular partnerships acquired as part of the acquisition of North Pittsburgh, as well as additional earnings from our previously held wireless partnership investments in Texas. In connection with the 2008 redemption of our senior notes, we recognized a loss on extinguishment of debt of $9.2 million, which included a redemption premium of $6.3 million and the write off of unamortized deferred financing costs of $2.9 million. During 2007, we recognized a loss on extinguishment of debt of $10.3 million related to the debt refinancing from the acquisition of North Pittsburgh. Extraordinary Item In the fourth quarter of 2008, we determined it was no longer appropriate to continue the application of SFAS No. 71 for certain wholly-owned subsidiaries — Illinois Consolidated Telephone Company, Consolidated Communications of Texas Company, and Consolidated Communications of Fort Bend Company. The decision to discontinue the application of SFAS No. 71 was based on recent changes to our operations which have impacted the dynamics of the Company’s business environment. In the last half of 2008, we experienced a significant increase in competition in our Illinois and Texas markets as, primarily, our traditional cable competitors started offering voice services. Also, effective July 1, 2008, we made an election to transition from rate of return to price allocation,cap regulation at the interstate level for our Illinois and Texas operations. The conversion to price caps gives us greater pricing flexibility, especially in the increasingly competitive special access segment and in launching new products. Additionally, in response to customer demand we have also launched our own VOIP product offering as an alternative to our traditional wireline services. While there has been no material changes in our bundling strategy and or in end-user pricing, our pricing structure is transitioning from being based on the recovery of costs to a pricing structure based on market conditions. As required by the provisions of SFAS No. 101 “Regulated Enterprises — Accounting for the Discontinuation of Application of FASB No. 71”, the Company recorded a non-cash extraordinary gain of $7.2 million, net of tax of $4.2 million from the write off of asset removal costs in excess of the salvage value of regulatory fixed assets which had previously been charged to depreciation over the assets’ useful life. 5648
most of our tangible and intangible assets in Texas increased, which resulted in higher depreciation and amortization expense.Income Taxes | | | Non-Operating Income (Expense) |
Interest expense increased by 33.8%, or $13.5 million, to $53.4 million in 2005 compared to $39.9 million in 2004. Had the results of our Texas Telephone Operations been included for the entire period in 2004, we would have had an additional $3.2 million of interest expense, which would have resulted in a $10.3 million increase in our interest expense, net between 2004 and 2005. In connection with the redemption of $70.0 million of senior notes in 2005, we paid a redemption premium of $6.8 million and wrote off $2.5 million of deferred financing costs that had been incurred previously and were being amortized over the life of the notes. In addition, the additional debt incurred in connection with the TXUCV acquisition was included for the entire period in 2005 but only for the period after the April 14, 2004 acquisition date for 2004. The increase in 2005 interest expense was partially offset by a $4.2 million write-off of deferred financing costs in 2004 and a $1.9 million pre-payment penalty, which were incurred in connection with the acquisition in 2004.
Other income and expense increased by 42.5%, or $1.7 million, to $5.7 million in 2005 compared to $4.0 million in 2004. Had the results of our Texas Telephone Operations been included for the entire period in 2004, we would have had an additional $1.1 million of other income, which would have resulted in a $0.6 million increase in other income between 2004 and 2005. The increase was primarily due to the recognition of $2.8 million of net proceeds in other income from the receipt of key-man life insurance proceeds in June 2005 relating to the passing of a former TXUCV employee. Offsetting this gain was a $2.3 million decrease in income recognized from our investments in cellular partnerships and the East Texas Fiber Line.
Provision for income taxes increased by $10.7$1.9 million to $10.9$6.6 million in 20052008 compared to $0.2$4.7 million in 2004.2007. The effective tax rate was 55.8% for 2008 and 29.0% for 2007. The effective rate for 2008 including the extraordinary gain and corresponding tax was 46.3%. Taxes were higher during 2008 due to state income taxes owed in certain states where we were required to file on a separate legal entity basis and the rate impact of the extraordinary gain presented net of tax. In addition, Consolidated Communications Holdings, Inc. (CCHI) completed a tax free legal entity reorganization project resulting in changes to our state reporting structure. This change resulted in a net decrease in the Company’s state deferred income tax rate. This change in the state deferred income tax rate resulted in approximately $1.2 million tax benefit in 2008 due to applying a lower effective deferred income tax rate to previously recorded deferred tax liabilities. Also, during 2008 the state of Texas completed an audit of two Texas subsidiaries resulting in additional tax expense of 168.9% and$.8 million. The effective tax rate during 2007 was lower than the statutory rate due to a benefit2007 amendment to Texas tax legislation first enacted in 2006. For us, the most significant aspect of 25.6%, for 2005 and 2004, respectively. Immediately priorthis amendment was the revision to the Company’s initial public offering in July 2005, Consolidated Communications Texas Holdings, Inc.temporary credit on taxable margin to convert state loss carryforwards to a state tax credit carryforward. This new legislation effectively reduced our net deferred tax liabilities and Consolidated Communications Illinois Holdings, Inc. engaged in a tax-free reorganization, allowing the two formerly separate consolidated groups of companies to file as a single federal consolidated group. The federalcorresponding tax benefits of the reorganization which were achievedprovision by allowing the taxable income of certain subsidiaries to be offset by the taxable losses of other subsidiaries in the determination of the Company’s federal income taxes are reflected as a reduction in both cash taxes paid for the current year and current income taxes payable at December 31, 2005. Additionally, underapproximately $1.7 million. Under Illinois tax law, Consolidated Communications Texas Holdings, IncNorth Pittsburgh and its directly owned subsidiaries joined Consolidated Communications Illinois Holdings, IncInc. and its directly owned subsidiaries in the Illinois unitary tax group during 2005.for 2008. The addition of our Pennsylvania entities to our Illinois unitary group reduced the Company’s state deferred income tax rate. When applied to previously recorded deferred tax liabilities, that reduced rate lowered income tax expense by approximately $0.9 million in 2007.
Exclusive of these adjustments, our effective tax rate would have been approximately 48.1% for the year ended December 31, 2008, compared to 45.1% for the year ended December 31, 2007. For the year ended December 31, 2007, compared to December 31, 2006 Revenues Our revenues increased by 2.6%, or $8.4 million, to $329.2 million in 2007, from $320.8 million in 2006. We explain this change in the discussion and analysis below. Telephone Operations Revenues Local calling servicesrevenues decreased by 2.7% or $2.3 million, to $82.8 million in 2007 compared to $85.1 million in 2006. The decrease is primarily due to the decline in local access lines, as discussed under “—Factors Affecting Results of Operations.” Network access servicesrevenues increased by 3.1%, or $2.1 million, to $70.2 million in 2007 compared to $68.1 million in 2006. The increase was primarily driven by rate increases in Illinois and increased demand for point-to-point circuits and other network access services. Subsidiesrevenues decreased by 3.4%, or $1.6 million, to $46.0 million in 2007 compared to $47.6 million in 2006, primarily because out of period settlements increased and we received less in USF support. In 2007 we refunded $2.6 million in out of period settlements compared to $1.3 million in 2006. We received $27.0 million in federal USF support and $19.0 million in Texas USF support in 2007 compared to $28.1 million in federal USF support and $19.5 million in Texas USF support in 2006. 49
Long distance servicesrevenues decreased by 7.9%, or $1.2 million, to $14.0 million in 2007 compared to $15.2 million in 2006. This was driven by general industry trends and the adoption of our unlimited long distance calling plans. These plans are helpful in maintaining and attracting customers, but they also tend to reduce billable minutes since heavy users of long distance services take advantage of fixed pricing plans. Data and Internetrevenues increased by 23.0%, or $7.1 million, to $38.0 million in 2007 compared to $30.9 million in 2006. The revenue increase was due to increased DSL and IPTV penetration. The number of DSL lines in service In Illinois and Texas increased from 52,732 as of December 31, 2006, to 66,624 as of December 31, 2007. IPTV customers increased from 6,954 at December 31, 2006, to 12,241 at December 31, 2007. These increases were partially offset by erosion of our dial-up Internet base. Other servicesrevenues increased by 6.9%, or $2.3 million, to $35.8 million in 2007 compared to $33.5 million in 2006. The revenue increase was due to growth in our Directory and Carrier Services businesses and a full year effect of late payment fees implemented in the fourth quarter of 2006. Other Operations Revenues Other Operations revenues increased by 5.0%, or $2.0 million, to $42.4 million in 2007 compared to $40.4 million in 2006. Revenues from our telemarketing and order fulfillment business increased by $0.5 million due to increased sales to existing customers. Our prison systems unit generated increased revenue of $0.6 million for the period from increased minutes of use. The remaining $0.9 million increase was due to an increase in customer premise equipment sales. Operating Expenses Our operating expenses decreased by 3.3%, or $8.9 million, to $262.6 million in 2007 compared to $271.5 million in 2006. We explain this change in our discussion and analysis below. Telephone Operations Operating Expenses Operating expenses for Telephone Operations increased by 0.7%, or $1.0 million, to $153.4 million in 2007 compared to $152.4 million in 2006. In 2007 we incurred a $1.2 million reduction in severance costs compared to 2006. These decreases were partially offset by a $1.5 million increase in stock compensation expense and a $0.5 million increase in energy costs. Other Operations Operating Expenses Operating expenses for Other Operations decreased by 15.9%, or $8.2 million, to $43.5 million in 2007 compared to $51.7 million in 2006. In 2006, the Operator Services and Market Response businesses recognized intangible asset impairment of $10.2 million and $1.1 million, respectively. Excluding the impairment charges, operating expenses for Other Operations increased by $3.1 million. This increase primarily came from increased costs required to support the growth in our customer premise equipment sales and telemarketing revenues. Depreciation and Amortization Depreciation and amortization expenses decreased by 2.5%, or $1.7 million, to $65.7 million in 2007 compared to $67.4 million in 2006. In 2006, the Company recognized $11.0 million in impairment related to its Operator Services and Market Response customer lists. The reduced carrying value of the customer lists resulted in decreased amortization expense in 2007. 50
Non-Operating Income (Expense) Interest Expense, Net Interest expense, net of interest income, increased by 8.4%, or $3.6 million, to $46.5 million in 2007 compared to $42.9 million in 2006. The increase is primarily due to the higher average level of outstanding debt in 2007 because we borrowed an additional $39.0 million in July 2006 to complete the share repurchase. Other Income (Expense) Other income, net decreased $11.3 million, to ($4.0) million in 2007 compared to $7.3 million in 2006. During 2007, we recognized a loss on extinguishment of debt of $10.3 million related to the debt refinancing from the acquisition of North Pittsburgh. In addition, we recognized $7.0 million of investment income in 2007, compared to $7.7 million in 2006. Investment income was lower because of lower equity earnings from our cellular partnership investments. Income Taxes Provision for income taxes increased by $4.3 million to $4.7 million in 2007 compared to $0.4 million in 2006. The effective tax rate was 29.0% for 2007 and 3.0% for 2006. The effective tax rate during 2007 primarily resulted from a 2007 amendment to Texas tax legislation first enacted during 2006. The most significant impact of this amendment for us was the revision to the temporary credit on taxable margin converting state loss carryforwards to a state tax credit carryforward. This new legislation resulted in a reduction of our net deferred tax liabilities and corresponding credit to our tax provision of approximately $1.7 million. In addition, under Illinois tax law, North Pittsburgh and its directly owned subsidiaries joined Consolidated Communications Holdings, Inc. and its directly owned subsidiaries in the Illinois unitary tax group for 2008. The addition of our Pennsylvania entities to our Illinois unitary group changed the Company’s state deferred income tax rate. This change in the state deferred income tax rate resulted in approximately $3.3 million of additionala reduction in income tax expense of approximately $0.9 million in 2007 because the current year. The additional expense was recognized due to the impact of applying a higherlower effective deferred income tax rate was applied to previously recorded deferred tax liabilities. The $3.3 million charge islow effective tax rate during 2006 resulted primarily from a non-cash expense. A change in the state deferred incomeTexas tax rate applied as a resultlegislation enacted in 2006. The most significant impact of the separate company Texas filings resulted in an additional $1.3 million of non-cash expense. In addition tonew legislation for us was the deferred tax adjustment described above, the change is due to state income taxes owed in certain states where we are required to file on a separate legal entity basis as well as differences between book and tax treatment of the non-cash compensation expense of $8.6 million, life insurance proceeds of $2.8 million, and the litigation settlement of $3.1 million, including legal fees. Upon review of
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our final tax provisions, we determined that litigation settlement expenses incurred in the third quarter of 2005 and previously thought to be tax deductible are, in fact, not deductible.
| | | Year Ended December 31, 2004 Compared to December 31, 2003 |
Our revenues increased by 103.8%, or $137.3 million, to $269.6 million in 2004 from $132.3 million in 2003. Approximately $133.1 million of the increase resulted from the inclusion of the resultsmodification of our Texas Telephone Operations since the April 14, 2004 acquisition date. The balance of the increase is duefranchise tax calculation to a $7.0 million increase innew “margin tax” calculation used to derive taxable income. This new legislation reduced our Illinois Telephone Operations revenue, which was partially offset by a $2.8 million decrease in our Other Operations revenue.
| | | Telephone Operations Revenues |
Local calling servicesrevenues increased $40.5 million, to $74.9 million in 2004 from $34.4 million in 2003. The increase resulted entirely from the inclusion of our Texas Telephone Operations since the April 14, 2004 acquisition date. Excluding the impact of the TXUCV acquisition, local calling services revenues declined $0.5 million primarily due to the loss of local access lines, which was partially offset by increased sales of our service bundles.
Network access servicesrevenues increased $29.3 million, to $56.8 million in 2004 from $27.5 million in 2003. Excluding the impact of the TXUCV acquisition, network access services revenues increased 10.2%, or $2.8 million, to $30.3 million in 2004 from $27.5 million in 2003. The increase is primarily due to the recognition of interstate access revenues previously reserved during the FCC’s prior two-year monitoring period.
Subsidiesrevenues increased $35.8 million, to $40.5 million in 2004 from $4.7 million in 2003. Excluding the impact of the TXUCV acquisition, subsidies revenues increased 125.5%, or $5.9 million, to $10.6 million in 2004 from $4.7 million in 2003. The increase was primarily a result of an increase in universal service fund support due in part to normal subsidy settlement processesnet deferred tax liabilities and in part due to the FCC modificationscorresponding credit to our Illinois rural telephone company’s cost recovery mechanisms. In 2004, our Illinois rural telephone company analyzed its regulated assets and associated expenses and reclassified somestate tax provision of these assets and expenses for purposes of regulatory filings. The net effect of this reclassification was that our Illinois rural telephone company was able to recover $2.4 million of additional subsidy payments for prior years and for 2004.approximately $6.0 million.
Long distance servicesrevenues increased $5.9 million, to $14.7 million in 2004 from $8.8 million in 2003. Excluding the impact of the TXUCV acquisition, long distance services revenues decreased $1.1 million due to competitive pricing pressure and a decline in minutes used.
Data and Internetrevenues increased $10.1 million, to $20.9 million in 2004 from $10.8 million in 2003. Excluding the impact of the TXUCV acquisition, services revenues decreased 1.9%, or $0.2 million, to $10.6 million in 2004.
Other servicesrevenues increased $18.5 million, to $22.6 million in 2004 from $4.1 million in 2003. Excluding the impact of the TXUCV acquisition, other services revenues increased 2.4%, or $0.1 million, to $4.2 million in 2004.
| | | Other Operations Revenues |
Other Operations revenues decreased 6.7%, or $2.8 million, to $39.2 million in 2004 from $42.0 million in 2003. The decrease was due primarily to a $1.1 million decline in operator services revenues resulting from a general decline in the demand for these services and a $1.3 million decrease in Market Response revenue due to the loss in 2004 of the Illinois State Toll Highway Authority as a customer.
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Public Servicesrevenues increased 2.3%, or $0.4 million, to $18.1 million in 2004 from $17.7 million in 2003. The increase was primarily due to an extension of the prison contract awarded by the State of Illinois Department of Corrections in December 2002 pursuant to which the number of prisons serviced by Public Services nearly doubled. The new prison sites were implemented during the first half of 2003. As a result, we did not receive the revenue from these additional prison sites for the entire year ended December 31, 2003.
Operator Servicesrevenues decreased 12.2%, or $1.1 million, to $7.9 million in 2004 from $9.0 million in 2003. The decrease was due to a general decline in demand for these services and competitive pricing pressure.
Market Responserevenues decreased by 17.8%, or $1.3 million, to $6.0 million in 2004 from $7.3 million in 2003. The decrease is due to the non-renewal of a service agreement with the Illinois State Toll Highway Authority, which resulted in a revenue loss of $1.6 million. This decrease in revenue was partially offset by additional revenues from new customers added during 2004.
Business Systemsrevenues decreased 9.0%, or $0.6 million, to $6.1 million in 2004 from $6.7 million in 2003. The decrease was primarily due to the weakened economy and general indecision or delay in equipment purchases.
Mobile Servicesrevenues decreased 21.4%, or $0.3 million, to $1.1 million in 2004 from $1.4 million in 2003. This decrease was primarily due to a continuing erosion of the customer base for one-way paging products as competitive alternatives are increasing in popularity.
Our operating expenses increased $123.3 million to $234.6 million in 2004 from $111.3 million in 2003. Approximately $109.0 million of the increase resulted from the inclusion of our Texas Telephone Operations since April 14, 2004 acquisition date. An additional $11.6 million is the result of impairment of intangible assets in Other Operations. The remainder of the increase was partially due to expenses incurred in connection with our integration activities and increased labor costs.
| | | Telephone Operations Operating Expenses |
Operating expenses for Telephone Operations increased $78.8 million, to $133.5 million in 2004 from $54.7 million in 2003. Excluding the impact of the TXUCV acquisition, operating expenses for Telephone Operations increased 3.7%, or $2.0 million, to $56.7 million in 2004 from $54.7 million in 2003, which was primarily due to expenses incurred in connection with our integration and restructuring activities.
| | | Other Operations Operating Expenses |
Operating expenses for Other Operations increased 36.7%, or $12.5 million, to $46.6 million in 2004 from $34.1 million in 2003. In 2004, the Operator Services and Mobile Services units recognized $11.5 million and $0.1 million of intangible asset impairment, respectively. The remaining increase is due to increased costs incurred with the growth of the prison system business and increased expense in the telemarketing and fulfillment business unit.
| | | Depreciation and Amortization |
Depreciation and amortization increased $32.0 million, to $54.5 million in 2004 from $22.5 million in 2003. Excluding the impact of the TXUCV acquisition, depreciation and amortization decreased by $0.2 million to $22.3 million in 2004.
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| | | Non-Operating Income (Expense) |
Interest expense increased $28.0 million, to $39.9 million in 2004 from $11.9 million in 2003. In connection with the TXUCV acquisition, CCI Holdings refinanced its CoBank credit facility resulting in a charge of $4.2 million to write-off unamortized deferred financing costs. The remaining $23.8 million increase is primarily due to an increase in long-term debt to help fund the TXUCV acquisition. Interest bearing debt increased by $449.0 million from $180.4 million in 2003 to $629.4 million in 2004.
Other income increased $3.9 million, to $4.0 million in 2004 from $0.1 million in 2003 due primarily to $3.1 million of income received from investments in the cellular partnerships acquired in the TXUCV acquisition.
Provision for income taxes decreased $3.5 million, to $0.2 million in 2004 from $3.7 million in 2003. The effective tax rate was a benefit of 25.6% and an expense of 40.3% for 2004 and 2003, respectively. Our effective tax rate is lower primarily due to (1) the effect of the mix of earnings, losses and nondeductible impairment charges on permanent differences and derivative instruments and (2) state income taxes owed in certain states where we are required to file on a separate legal entity basis.
Critical Accounting Policies and Use of Estimates TheThis section discusses the accounting estimates and assumptions discussed in this section are those that we consider to be the most critical to an understanding of our financial statements because they inherently involve significant judgments and uncertainties. In making thesethe necessary estimates, we considered various assumptions and factors that will differ from the actual results achievedbased on our best estimates and will needall information available to be analyzedus; however, such assumptions and adjusted in future periods. These differencesfactors may prove to have been inaccurate, which could have a material impact on our financial condition, results of operations, or cash flows. These assumptions will be analyzed in future periods and adjusted if necessary. We believe that of our significant accounting policies, the following involve a higher degree ofthe most judgment and complexity.
Derivatives We regularly use derivative contracts designated as cash flow hedges to convert a portion of our anticipated future floating interest rate cash flows associated with our credit facility to a fixed rate. The change in the market value of such derivative contracts has historically been, and is expected to continue to be, highly effective at offsetting changes in interest rate movements of the hedged item. Gains and losses arising from the change in fair value of the hedging transactions are deferred in other comprehensive income, net of applicable income taxes, and recognized as a component of interest expense in the period in which the hedged item affects earnings. If it is determined that the derivative instruments used are no longer effective at offsetting changes in the price of the hedged item, then the changes in the market value of these instruments would be recorded in the statement of earnings as a component of interest expense. 51
Fair Value Measurements Our derivative instruments related to interest rate swap agreements are required to be measured at fair value. The fair values of the interest rate swaps are determined using an internal valuation model which relies on the expected LIBOR based yield curve and estimates of counterparty and the Company’s non performance risk as the most significant inputs. We evaluate the quality and reliability of the assumptions and data used to measure fair value in the three hierarchy levels, Level 1, 2 and 3, as prescribed by SFAS No. 157 (see note 15 for additional information). Certain material inputs to the interest rate swap valuations are not directly observable and cannot be corroborated by observable market data. We have categorized these interest rate derivatives as Level 3. We evaluate our risk of non-performance based on risk premiums being assigned to companies of similar size and with similar credit ratings. Counterparty non-performance risk is assigned based on observable market data. The application of non-performance risk to our determination of the value of our derivatives resulted in a reduction of the reported liability of our derivative instruments of $7.1 million for the period ending December 31, 2008. The adjustment for non-performance risk is recorded in other comprehensive income, net of taxes. The Company’s net liabilities measured at fair value on a recurring basis subject to disclosure requirements of SFAS No. 157 at December 31, 2008 were as follows: | | | | | | | | | | | | | | | | | | | | | | | Fair Value Measurements at Reporting Date Using | | | | | | | | Quoted Prices | | | Significant | | | | | | | | | | | in Active | | | Other | | | Significant | | | | | | | | Markets for | | | Observable | | | Unobservable | | | | | | | | Identical Assets | | | Inputs | | | Inputs | | Description | | December 31, 2008 | | | (Level 1) | | | (Level 2) | | | (Level 3) | | | | | | | | | | | | | | | | | | | Interest Rate Derivatives | | $ | 47,908 | | | | | | | | | | | $ | 47,908 | | | | | | | | | | | | | | | |
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The following table presents the Company’s net liabilities measured at fair value on a recurring basis using significant unobservable inputs (Level 3) as defined in SFAS No. 157 at December 31, 2008: | | | | | | | Fair Value | | | | Measurements | | | | Using Significant | | | | Unobservable | | | | Inputs (Level 3) | | | | Interest Rate | | | | Derivatives | | | Balance at December 31, 2007 | | $ | 12,769 | | Settlements | | | (10,412 | ) | Total gains or losses (realized/unrealized) | | | | | Unrealized loss included in earnings | | | 395 | | Unrealized loss included in other comprehensive income | | | 45,156 | | | | | | | | | | | Balance at December 31, 2008 | | $ | 47,908 | | | | | | | | | | | The amount of total loss for the period included in earnings for the period as a component of interest expense | | $ | 395 | | | | | |
Income taxes Our current and deferred income taxes, and associated valuation allowances, are impacted by events and transactions arising in the normal course of business as well as in connection with the adoption of new accounting standards, acquisitions of businesses and non-recurring items. Assessment of the appropriate amount and classification of income taxes is dependent on several factors, including estimates of the timing and realization of deferred income tax assets and the timing of income tax payments. Actual collections and payments may materially differ from these estimates as a result of changes in tax laws as well as unanticipated future transactions impacting related income tax balances. We account for tax benefits taken or expected to be taken in our tax returns in accordance with Financial Accounting Standards Board (“FASB”) Interpretation No. 48, “Accounting for Uncertainty in Income Taxes” (“FIN 48”), which requires the use of a two-step approach for recognizing and measuring tax benefits taken or expected to be taken in a tax return. Subsidies revenues We recognize revenues from universal service subsidies and charges to interexchange carriers for switched and special access services. In certain cases, our rural telephone companies ICTC, Consolidated Communications of Texas Company and Consolidated Communications of Fort Bend Company, participate in interstate revenue and cost sharingcost-sharing arrangements, referred to as pools, with other telephone companies. Pools are funded by charges madeimposed by participating companies toon their respective customers. The revenue we receive from our participation in pools is based on our actual cost of providing the interstate services. SuchThese costs are not precisely known until after the year-end and special jurisdictional cost studies have been completed. These cost studies are completed—generally completed during the second quarter of the following year. Detailed rules Allowance for cost studiesuncollectible accounts We use estimates and participation in the pools are established by the FCC and codified in Title 47 of the Code of Federal Regulations. | | | Allowance for Uncollectible Accounts |
Weassumptions to evaluate the collectibilitycollectability of our accounts receivable based on a combination of estimates and assumptions.receivable. When we are aware ofthat a specific customer’s inabilitycustomer is unable to meet its financial obligations, such as following a bankruptcy filing or substantial down-gradingdowngrading of credit scores, we record a specific allowance against amounts due to set the net receivable to an amount we believe is reasonable to be collected.we can collect. For all other customers, we reserve a percentage of the remaining outstanding accounts receivable balance as a general allowance based on a review of specific customer balances, trends, and our experience with prior receivables, the current economic environment, and the length of time the receivables are past due. If
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circumstances change, we review the adequacy of the allowance to determine if we should modify our estimates of the recoverability of amounts due us could be reduced by a material amount. At December 31, 2005,2008, our total allowance for uncollectible accounts for all business segments was $2.8$1.9 million. If our estimate were understated by 10%, the result would be a charge of approximately $0.3$0.2 million to our results of operations. 53
Valuation of intangible assets | | | Valuation of Goodwill and Tradenames |
We review our goodwill and tradenamesIntangible assets not being amortized are reviewed for impairment as part of our annual business planning cycle in the fourth quarter andquarter. We also review all intangible assets for impairment whenever events or circumstances make it more likely than not that impairment may have occurred. Several factors could trigger an impairment review, such as:including:
| | | | • | | a change in the use or perceived value of our tradenames; | | | • | | significant underperformance relative to expected historical or projected future operating results; | | | • | | significant regulatory changes that would impact future operating revenues; | | | • | | significant changes in our customer base; | | | • | | significant negative industry or economic trends; or | | | • | | significant changes in the overall strategy in which we employ to operate our overall business. |
We determine if impairment exists based on a method of usingthat uses discounted cash flows. This requires management to make certain assumptions regarding future income, royalty rates, and discount rates, all of which affect our impairment calculation. Upon completion of ourOur impairment review in December 2004 and as a2007 did not result of a decline in any impairment losses for the future estimated cash flowsyear ended December 31, 2007. Based on our review in our Mobile Services and Operator Services businesses,2008, we recognized an impairment losses of $0.1$6.1 million on Consolidated Market Response, our telemarketing and $11.5 million, respectively. In December 2005, we completed our annual impairment test,order fulfillment business. Pension and the test indicated no further impairment existed. The carrying value of tradenames and goodwill totaled $328.8 million at December 31, 2005.postretirement benefits | | | Pension and Postretirement Benefits |
The amounts recognized in our financial statements for pension and postretirement benefits are determined on an actuarial basis utilizing several critical assumptions. A significant assumption used in determining our pension and postretirement benefit expense is the expected long-term rate of return on plan assets. Our pension investment strategy is to maximize long-term return on invested plan assets while minimizing the risk of volatility. Accordingly, we target our allocation percentage at 50% to 60% in equity funds, with the remainder in fixed income and cash equivalents. Our assumed rate considers this investment mix as well as past trends. We used a weighted average expected long-term rate of return of 8.0% in 20052008 and 8.3% in 2004 in response to the actual returns on our portfolio in recent years being significantly below our expectations.2007. Another significant estimate is the discount rate used in the annual actuarial valuation of our pension and postretirement benefit plan obligations. In determining the appropriate discount rate, we consider the current yields on high qualityhigh-quality corporate fixed-income investments with maturities that correspond to the expected duration of our pension and postretirement benefit plan obligations. For 20052008 and 2004,2007, we used a weighted average discount rate of 5.9%6.14% and 6.0%6.25%, respectively. In 2005, we accelerated approximately $1.1 million of required future contributions in order to meet certain regulatory thresholds that we expect will provide us with future funding flexibility. In total,2008 we contributed $5.3$6.1 million to our pension plans and $1.8$2.5 million to our other post retirementpostretirement plans. In 20042007 we contributed $3.9$4.8 million to our pension plans and $1.6$1.5 million to our other post retirementpostretirement plans. In connection with the sale of TXUCV, TXU Corp. contributed $2.9 million to TXUCV’s pension plan in 2004. 6154
The following table summarizes the effect of changes in selected assumptions on our estimate of pension plansplan expense and other post retirementpostretirement benefit plansplan expense: | | | | | | | | | | | | | | | | | | | | | | | | | | December 31, | | | | | | | | 2005 Obligation | | | 2005 Expense | | | | Percentage Point | | | | | | | | Assumptions | | Change | | | Higher | | | Lower | | | Higher | | | Lower | | | | | | | | | | | | | | | | | | | | (In millions) | | Pension Plan Expense: | | | | | | | | | | | | | | | | | | | | | | Discount rate | | | + or - 0.5 pts | | | $ | (7.7 | ) | | $ | 8.6 | | | $ | (0.2 | ) | | $ | 0.2 | | | Expected return on assets | | | + or - 1.0 pts | | | $ | — | | | $ | — | | | $ | (0.9 | ) | | $ | 0.9 | | Other Postretirement Expense: | | | | | | | | | | | | | | | | | | | | | | Discount rate | | | + or - 0.5 pts | | | $ | (1.5 | ) | | $ | 1.7 | | | $ | (0.2 | ) | | $ | 0.1 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | December 31, | | | | | | | Percentage | | | 2008 Obligation | | | 2008 Expense | | Assumptions | | Point Change | | | Higher | | | Lower | | | Higher | | | Lower | | | | | | | (in millions) | | Pension Plan Expense: | | | | | | | | | | | | | | | | | | | | | Discount rate | | + or - 0.5 | pts | | $ | (10.2 | ) | | $ | 11.1 | | | $ | — | | | $ | — | | Expected return on assets | | + or - 1.0 | pts | | $ | — | | | $ | — | | | $ | (1.6 | ) | | $ | 1.6 | | | | | | | | | | | | | | | | | | | | | | | Other Postretirement Expense: | | | | | | | | | | | | | | | | | | | | | Discount rate | | + or - 0.5 | pts | | $ | (1.8 | ) | | $ | 1.9 | | | $ | — | | | $ | — | |
Liquidity and Capital Resources General Historically, our operating requirements have been funded from cash flow generated from our business and borrowings under our credit facilities. We expect to continue to rely on those sources of funds. As of December 31, 2005,2008, we had $555.0$881.3 million of debt.debt, including capital leases. Our $30.0$50.0 million revolving line of credit however, remains unused. We expect thatOn April 1, 2008, we borrowed $120.0 million of our future operating requirements will continuedelayed draw term loan facility and used those proceeds, together with cash on hand, to be funded from cash flow generated fromredeem our businesssenior secured notes. In the second quarter of 2008, we recognized a loss on redemption of the senior notes of $9.2 million, which included the redemption premium and borrowings under our revolving credit facility. the write-off of unamortized deferred financing costs associated with the senior notes. As a general matter, we expect that our liquidity needs in 20062009 will arise primarily from: (i) dividend payments of $46.1$45.7 million, reflecting quarterly dividends at an annual rate of $1.5495$1.55 per share; (ii) interest payments on our indebtedness of $37.0$58.0 million to $38.0$61.0 million; (iii) capital expenditures of approximately $31.0$42.0 million to $34.0$43.0 million; (iv) taxes; (v) incremental costs associated with being a public company, including costs associated with Section 404 of the Sarbanes-Oxley Act; (vi) other post-retirement contributions of $1.8 million; (vii) costs to further integrate our Illinois and Texas billing systems; and (viii)(v) certain other costs. These expected liquidity needs are presentedWe also expect to use cash in 2009 and beyond to make contributions to our pension plans. As of the most recent actuarial measurement, we were approximately 62% funded on our pension plans. As a format which is consistent withresult, we expect to contribute $9.0 million to $11.0 million to our prior disclosures and are a component of our total expenses as summarized above under “Factors Affecting Future Results of Operations — Expenses”. In addition,pension plans in 2009. Finally, we may use cash and incur additional debt to fund selective acquisitions. However, our ability to use cash may be limited by our other expected uses of cash, including our dividend policy, and our ability to incur additional debt will be limited by our existing and future debt agreements. We believe that cash flow from operating activities, together with our existing cash and borrowings available under our revolving credit facility, will be sufficient for approximately the next twelve months to fund our currently anticipated uses of cash. After 2006,2009, our ability to fund these expected uses of cash and to comply with the financial covenants under our debt agreements will depend on the results of future operations, performance, and cash flow. Our ability to do so will beflow, all of which are subject to prevailing economic conditions and to financial, business, regulatory, legislative, and other factors, many of which are beyond our control. We may be unable to access the cash flow of our subsidiaries since certain of our subsidiaries are, or may become, parties to credit or other borrowing agreements that restrict the payment of dividends or making intercompany loans and investments, and those subsidiaries are likely to continue to be subject to such restrictions and prohibitions for the foreseeable future. In addition, future agreements that our subsidiaries may enter into governing the terms of indebtedness may restrict our subsidiaries’ ability to pay dividends or advance cash in any other manner to us.investments. To the extent that our business plans or projections change or prove to be inaccurate, we may require additional financing or require financing sooner than we currently anticipate. Sources of additional financing may include commercial bank borrowings, other strategic debt financing, sales of nonstrategic assets, vendor financing, or the private or public sales of equity and debt securities. We cannot assure youguarantee that we will be able to generate sufficient cash flow from operations, in the future, that anticipated revenue growth will be realized, or that future borrowings or equity issuances will be available in amounts sufficient to provide adequate sources of cash toadequately fund our expected uses of cash. Failure toIf we cannot obtain adequate 62
financing, if necessary, could require uswe may need to significantly reduce our operations or level of capital expenditures, which could have a material adverse effect on our financial condition and the results of operations. 55
The following table summarizes our short-termIn recent months liquidity for the periods presented: | | | | | | | | | | | | | | | As of | | | | | | | | December 31, | | | December 31, | | | December 31, | | | | 2005 | | | 2004 | | | 2003 | | | | | | | | | | | | | | (In millions) | | Short-Term Liquidity | | | | | | | | | | | | | Current assets | | $ | 79.0 | | | $ | 98.9 | | | $ | 39.6 | | Current liabilities | | | (67.9 | ) | | | (97.6 | ) | | | (34.8 | ) | | | | | | | | | | | Net working capital | | | 11.1 | | | | 1.3 | | | | 1.3 | | | | | | | | | | | | Cash and cash equivalents | | | 31.4 | | | | 52.1 | | | | 10.1 | | Availability on revolving credit facility | | $ | 30.0 | | | $ | 30.0 | | | $ | 5.0 | |
The decrease in current assets and cash on hand between 2004 and 2005 is primarily due to the June 7, 2005 payment of a $37.5 million distribution to our former preferred stockholders, Central Illinois Telephone, Providence Equity and Spectrum Equity. The distribution was partially offset by cash generated in the course of business during the period. In connection with the amendment ofcapital markets has become scarce; many commercial banks are reluctant to lend money. As discussed below, our credit facilities, scheduled principal payments were eliminated, resulting in $41.1term loan has been fully funded at a fixed spread above LIBOR and we have $50.0 million of our debt being reclassified as long-term. In all periods presented, we had no borrowingsavailable under our revolving credit facility. Based on our discussions with banks participating in the bank group, we expect that the funds will be available under the revolving credit facility if necessary.
For more information about the possible effects of the recent economic downturn, see the “Risk Factors” section of this Report. The following table summarizes our sources and uses of cash for the periods presented: | | | | | | | | | | | | | | | Year Ended December 31, | | | | | | | | 2005 | | | 2004 | | | 2003 | | | | | | | | | | | | | | (In millions) | | Net Cash Provided (Used): | | | | | | | | | | | | | Operating activities | | $ | 79.3 | | | $ | 79.8 | | | $ | 28.9 | | Investing activities | | | (31.1 | ) | | | (554.1 | ) | | | (296.1 | ) | Financing Activities | | | (68.9 | ) | | | 516.3 | | | | 277.4 | |
| | | | | | | | | | | | | | | Year Ended December 31, | | | | 2008 | | | 2007 | | | 2006 | | | | (In millions) | | Net Cash Provided by (Used for): | | | | | | | | | | | | | Operating activities | | $ | 92.4 | | | $ | 82.1 | | | $ | 84.6 | | Investing activities | | | (48.0 | ) | | | (305.3 | ) | | | (26.7 | ) | Financing activities | | | (63.3 | ) | | | 230.9 | | | | (62.7 | ) |
Operating Activities Net income adjusted for non-cash chargesitems is our primary source of operating cash. Cash provided by operating activities was $79.3 million in 2005. NetFor the year ended December 31, 2008, net income adjusted for non-cash charges generated $82.7$107.1 million of operating cash. Partially offsettingDuring the period we paid $13.5 million for federal and state income taxes, while our tax expense was $6.6 million. In addition we made cash payments of $6.1 million to fund our pension and income restoration plans. Changes in components of working capital—primarily accrued expenses, accounts receivable, and accounts payable—in the ordinary course of business accounted for the remainder of the cash flows from operations. For 2007, net income adjusted for non-cash items generated were changes$95.3 million of operating cash. We paid $14.0 million of cash income taxes in 2007, compared to $8.2 million in 2006. In addition, accounts receivable used $4.6 million, including $4.7 million to cover our normal bad debt reserve. The timing of our accounts payable resulted in an increase of $1.3 million of available cash. For 2006, net income adjusted for non-cash items generated $90.2 million of operating cash. Changes in certain working capital components.components partially offset the cash generated. Accounts receivable increases, dueused $4.0 million, including $5.1 million to increased fourth quarter business systemcover our normal bad debt experience, offset by $1.1 million from a slight improvement in our days sales and the timing of certain network related billings,outstanding. We also used $6.2$2.8 million of cash, during the period. In addition, accrued expensesprimarily to fund increased inventory supplies and other liabilities decreased by $4.9 million primarily as a result of lower accruals associated with TXUCV integration activities in 2005 as well as the completion of our IPO and senior note exchange offer, both of which had accrued professional fees as of December 31, 2004.miscellaneous prepaid expenses. For 2004, a net loss of $1.1 million adjusted for $76.5 million of non-cash charges accounted for the majority of our $79.8 million of operating cash flows. The primary component of our non-cash charges is depreciation and amortization, which was $54.5 million in 2004. In addition, we recorded $11.6 million of intangible asset impairment charges and our provision for bad debt expense was $4.7 million. We also recorded non-cash interest expense of $2.3 million for the amortization of deferred financing costs and wrote off $4.2 million of deferred financing costs upon entering into our prior credit facilities in connection with the TXUCV acquisition.Investing Activities
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Cash used in investing activities has traditionally been for capital expenditures and acquisitions. CashFor the year ended December 31, 2008, we used in investing activities of $31.1 million in 2005, was entirely for capital expenditures. Of the $554.1 million used for investing activities in 2004, $524.1 million (net of cash acquired and including transaction costs) was for the acquisition of TXUCV. We used $30.0$48.0 million for capital expenditures, in 2004. Overwhich is an increase of $14.5 million over the three yearsyear ended December 31, 2005, we used $72.4 million in cash for capital investments. Of that total, over 90.0%,2007. The increase was fordue to increased incremental spending as a result of the expansion or upgradeacquisition of outside plant facilities and switching assets.North Pittsburgh. Because our networks, including the North Pittsburgh network, isare modern and hashave been well maintained, we do not believe we will substantially increase capital spending beyond current levels in the future. Any such increase would likely occur as a result of a planned growth or expansion, plan, if itat all.
In 2007, we used $271.8 million of cash, net of cash acquired, to acquire North Pittsburgh Systems, Inc. In addition, we used $33.5 million for capital expenditures. Cash used in investing activities of $26.7 million in 2006 consisted of capital expenditures of $33.4 million, partially offset by $6.7 million in proceeds from the sale of assets. 56
Over the three years ended December 31, 2008, we used $114.9 million in cash for capital investments. The majority of our capital spending was for the expansion or upgrade of outside plant facilities and switching assets. We expect our capital expenditures for 2006 willto be approximately $31.0between $42.0 million to $34.0and $43.0 million whichin 2009. We expect that the spending will be used primarily to maintain and upgrade our network, central offices and other facilities, and information technology for operating support and other systems. Financing Activities In 2005,2008, we borrowed $120.0 million under our delayed draw term loan and used the proceeds, along with cash on hand, to retire $130.0 million of our outstanding senior notes and to pay a redemption premium of $6.3 million. In addition, we paid $45.4 million of cash to our common stockholders as dividends. The total amount of dividends paid increased in 2008 because we issued approximately 3.32 million shares of stock in connection with the North Pittsburgh acquisition. We also paid $0.2 million of deferred financing fees in connection with finalizing our new credit facility, and $1.0 million to satisfy obligations under capital leases. In 2007, we generated $230.9 of cash from financing activities. We borrowed $760.0 million in connection with the acquisition of North Pittsburgh. In addition to funding the acquisition, we used $68.9proceeds from the borrowings and cash on hand to retire $464.0 million of term debt outstanding under our prior credit facility, to pay deferred financing costs of $8.7 million, to repay $15.4 million of North Pittsburgh’s long-term debt, and to pay $0.4 million in connection with registering shares that were issued to partially fund the acquisition. We also paid $0.3 million of deferred financing costs in connection with amending our credit facility in the first quarter of 2007. Finally, we paid $40.2 million of cash to our common stockholders as dividends. In 2006, we used $62.7 million of cash for financing activities. The IPO generated net proceeds of $67.6 million. Using these proceeds, together with additional borrowings under our credit facilities and cash on hand, we redeemed $70.0 million of our senior notes andWe paid a $6.8 million redemption premium. In addition, we had a $4.4 million net decrease in our long-term debt and capital leases during the year, incurred financing costs of $5.6 million in connection with the amendment and restatement of our credit facility and made a pre-IPO distribution of $37.5 million to our former preferred stockholders. We also paid our first dividend in the amount of $12.2$44.6 million to our common stockholders as dividends. In July 2006, we repurchased and retired approximately 3.8 million shares of our common stock from Providence Equity for approximately $56.7 million, or $15.00 per share. With this transaction, Providence Equity sold its entire position in accordance withour company, which, prior to the dividend policy adopted bytransaction, totaled approximately 12.7 percent of our boardoutstanding shares of directors in connection with the IPO. For 2004, net cash provided by financing activitiescommon stock. This was $516.3 million. In connection with the TXUCV acquisition in April 2004, we incurred $637.0a private transaction and did not decrease our publicly traded shares. We financed this repurchase using approximately $17.7 million of new long-term debt, repaid $178.2cash on hand and $39.0 million of debt and received $89.0 million in net capital contributions from our former preferred stockholders. In addition, we incurred $19.0 million of expenses to finance the TXUCV acquisition. New long-term debt of $8.8 million was also repaid after the TXUCV acquisition in 2004.additional term loan borrowings.
Debt The following table summarizes our indebtedness as of December 31, 2005:2008: IndebtednessDebt and Capital Leases as of December 31, 20052008 (In Millions)
| | | | | | | | | | | | | | | Balance | | | Maturity Date | | | Rate(1) | | | | | | | | | | | | Revolving credit facility | | | — | | | | April 14, 2010 | | | | LIBOR + 2.00 | % | Term loan D | | | 425,000 | | | | October 14, 2011 | | | | LIBOR + 1.75 | % | Senior notes | | | 130,000 | | | | April 1, 2012 | | | | 9.75 | % |
| | | | | | | | | | | | | | | Balance | | | Maturity Date | | | Rate (1) | | Capital lease | | $ | 1.3 | | | April 12, 2010 | | | | 7.40 | % | Revolving credit facility | | | — | | | December 31, 2013 | | | LIBOR + 2.50% | Term loan | | | 880.0 | | | December 31, 2014 | | | LIBOR + 2.50% |
| | | (1) | | As of December 31, 2005,2008, the90-day 1-month and 3-month LIBOR rate was 4.54%rates were 0.43625% and 1.425%, respectively. As of December 31, 2008, we were electing 1-month LIBOR on the variable portion of our debt. |
As of December 31, 2004, we had $428.2 million outstanding under our then outstanding Term Loan A and Term Loan C facilities. In connection with the IPO, we amended and restated our credit facilities to provide for a new $425.0 million term D facility, which matures on October 14, 2011, and a $30.0 million revolving credit facility, which matures on April 14, 2010. At that time, we incurred $425.0 million of borrowings under the Term Loan D facility and retired $419.3 million of debt then outstanding under the Term Loan A and C facilities.
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Credit Facilities Borrowings under our credit facilities are our senior secured obligations that are secured by substantially all of the assets of the borrowers (CCI(Consolidated Communications, Inc., Consolidated Communications Acquisition Texas, Inc., and Texas Holdings)North Pittsburgh Systems, Inc.) and the guarantors (CCHI(the Company and each of the existing subsidiaries of CCIConsolidated Communications, Inc., Consolidated Communications Ventures, and CCV, other thanNorth Pittsburgh Systems, Inc., but not ICTC and certain future subsidiaries). The credit agreement contains customary affirmative covenants, which require us andcovenants. For example, we (and our subsidiariessubsidiaries) are required to furnish specified financial information to the lenders, comply with applicable laws, and maintain our properties and assets and maintain insurance on our properties, among others, andthe related insurance. The credit agreement also contains customary negative covenants which restrict our and our subsidiaries’ ability to incurcovenants. For example, there are restrictions against incurring additional debt and issueissuing capital stock, create liens, repaystock; creating liens; repaying other debt, sell assets, makedebt; selling assets; making investments, loans, guarantees, or advances, pay dividends, repurchaseadvances; paying dividends; repurchasing equity interests or makemaking other restricted payments, engagepayments; engaging in affiliate transactions, maketransactions; making capital expenditures, engageexpenditures; engaging in mergers, acquisitions, or consolidations, enterconsolidations; entering into sale-leaseback transactions, amendtransactions; amending specified documents, enterdocuments; entering into agreements that restrict dividends from subsidiariessubsidiaries; and changechanging the business we conduct. In addition, the credit agreement requires us to comply with specified financial ratios that are summarized below under “—Covenant Compliance”.Compliance.” As of December 31, 2005, we had no borrowings under the revolving credit facility. Borrowings under our credit facilities bear interest at a rate equal to an applicable margin plus, at the borrowers’ election, either a “base rate” or LIBOR. The applicable margin is based upon the borrowers’ total leverage ratio. In November 2005, we further amended our credit facility to lower the applicable margin on the term D facility by 0.5%. As of December 31, 2005,2008, the applicable margin for interest rates was 1.75%2.50% per year for the LIBOR-based term loans and 2.00% on LIBOR based term D loan andthe revolving credit facility, respectively.facility. The applicable margin for our $880.0 million term loan is fixed for the duration of the loan. The applicable margin for alternative base rate loans was 0.75%1.50% per year for the term loan Dand the revolving credit facility. The applicable margin for borrowings on the revolving credit facility is based on a pricing grid. Based on our leverage ratio of 4.86:1 as of December 31, 2008, borrowings under the revolving credit facility will be priced at a margin of 2.75% for LIBOR-based borrowings and 1.0%1.75% for alternative base rate borrowings. The applicable borrowing margin for the revolving credit facility.facility is adjusted quarterly to reflect the leverage ratio from the prior quarter-end. At December 31, 2005,2008, the weighted average interest rate, including swaps, on our term debtcredit facilities was 5.72%6.3% per annum.
Derivative Instruments On August 22, 2005,As of December 31, 2008, we executed a $100.0had $740.0 million of notional amount of floating to fixed interest rate swap arrangements relating to a portionagreements and $740.0 million of notional amount basis swaps. Approximately 84.1% of our $425.0 millionfloating rate term loan D facility. The arrangements are for six years and became effective September 30, 2005. On September 22, 2005, a participating institution terminated $50.0 million notional amountloans were fixed through interest rate swaps prior to the original expiration datesas of December 31, 2006 and May 19, 2007. We received proceeds of $0.8 million due to2008. Under the early termination. On October 12, 2005, we executed an additional $100.0 million notional amount of floating to fixed rate swap arrangements. After giving effectagreements, we receive 3-month LIBOR-based interest payments from the swap counterparties and pay a fixed rate. Under the basis swaps we pay 3-month LIBOR-based payments less a fixed percentage to the October 12, 2005basis swap arrangements,counterparties, and receive 1-month LIBOR. Concurrent with the execution of the basis swaps, we began electing 1-month LIBOR resets on our credit facility. The swaps are in place to hedge the change in overall cash flows related to our term loan, the driver of which became effective January 3, 2006, we had $359.4is changes in the underlying variable interest rate. Our objective is to have between 75% and 85% of our variable rate debt fixed so there is some certainty to our cash flow streams. The maturity dates of these swaps are laddered to minimize any potential exposure to unfavorable rates when an individual swap expires. The swaps expire at various times through March 31, 2013, and have a weighted average fixed rate of approximately 4.43%. The current effect of the swap portfolio is to fix our cash interest payments on $740.0 million of floating rate debt at a rate of 6.93%, including our $425.0 millionborrowing margin of term debt covered by interest rate swaps and $65.6 million of variable rate term debt.2.50% over LIBOR as discussed above.
Senior Notes The senior notes areOn April 1, 2008, we redeemed our senior unsecured obligations. Thesecured notes and the related indenture contains customary covenants that restrictwas terminated.
Covenant Compliance In general, our and our restricted subsidiaries’ ability to, incur debt and issue preferred stock, engage in business other than telecommunication businesses, make restricted payments (including paying dividends on, redeeming, repurchasing or retiring our capital stock), enter into agreements restricting our subsidiaries’ ability to pay dividends, make loans, or transfer assets to us, enter into liens, enter into a change of control without making an offer to purchase the senior notes, sell or otherwise dispose of assets, including capital stock of subsidiaries, engage in transactions with affiliates, and consolidate or merge. We used a portion of the net proceeds from the IPO, together with additional borrowings under our credit facilities and cash on hand to redeem 35.0%, or $70.0 million, of our senior notes. The total cost of the redemption, including the associated redemption premium, was $76.8 million.
Our credit agreement restricts our ability to pay dividends. Fromdividends to the amount of our “Available Cash” accumulated after October 1, 2005, plus $23.7 million and minus the aggregate amount of dividends paid after July 27, 2005. The credit agreement defines Available Cash for any period as Consolidated EBITDA:
(a)minus, to the extent not deducted in the determination of Consolidated EBITDA, (i) non-cash dividend income for such period; (ii) consolidated interest expense for such period net of amortization of debt issuance costs incurred (A) in connection with or prior to the consummation of the acquisition of North Pittsburgh, or (B) in connection with the redemption of our senior notes; (iii) capital expenditures from internally generated funds; (iv) cash income taxes for such period; (v) scheduled principal payments of indebtedness, if any; 58
(vi) voluntary repayments of indebtedness, mandatory prepayments of term loans, and net increases in outstanding revolving loans during such period; (vii) the cash costs of any extraordinary or unusual losses or charges; and (viii) all cash payments made on account of losses or charges expensed prior to such period; (b)plus, to the extent not included in Consolidated EBITDA, (i) cash interest income; (ii) the cash amount realized in respect of extraordinary or unusual gains; and (iii) net decreases in revolving loans. Based on the results of operations from October 1, 2005, through December 31, 2005,2008, we would have been able to pay a quarterly dividend of $16.7$78.7 million based on the restricted payments covenant contained in our credit agreement. We are also restricted from paying 65
dividends under the indenture governing our senior notes. However, the indenture restriction is less restrictive than the restriction contained in our credit agreement. That is because the restricted payments covenant in our credit agreement allows a lower amount of dividends to be paid from the borrowers (CCI and Texas Holdings) to CCH than the comparable covenant in the indenture (referred to as thebuild-up amount) permits CCH to pay to its stockholders. However, the amount of dividends CCH will be able to make under the indenture in the future will be based, in part, on the amount of cash distributed by the borrowers under the credit agreementfacility covenant. After giving effect to CCH.the dividend of $11.4 million, which was declared in November 2008 and paid on February 1, 2009, we could pay a dividend of $67.3 million.
Under our credit agreement, if our total net leverage ratio (as such term is defined in the credit agreement), as of the end of any fiscal quarter is greater than 4.75:5.25:1.00 until December 31, 2008, and 5.10:1.00 thereafter, we generally will be required to suspend dividends on our common stock unless otherwise permitted bystock. (There is an exception for dividends that may be paid from the portion of proceeds of any sale of equity not used to make mandatory prepayments of loans and not used to fund acquisitions, capital expenditures, or make other investments.) During any dividend suspension period, we will be required to repay debt in an amount equal to 50.0% of any increase in available cashAvailable Cash (as such term is defined in our credit agreement) during such dividend suspension period,above), among other things. In addition, we will not be permitted to pay dividends if an event of default under the credit agreement has occurred and is continuing. Among other things, it will be an event of default if: | | | | • | our senior secured leverage ratio, as of the end of any fiscal quarter is greater than 4.00 to 1.00; or | | | • | our fixed charge coverage ratio as of the end of any fiscal quarter, is not (x) after January 1, 2006 and on or prior to December 31, 2006, at least 2.00 to 1.00 and (y) after January 1, 2007, at least 1.75 to if our interest coverage ratio as of the end of any fiscal quarter is below 2.25:1.00. |
As of December 31, 2005, we were in compliance with2008, our debt covenants.total net leverage ratio was 4.86:1.00 and our interest coverage ratio was 2.85:1.00. The table below presents our ratios as of December 31, 2005:
| | | | | Total net leverage ratio | | | 3.86:1.00 | | Senior secured leverage ratio | | | 3.11:1.00 | | Fixed charge coverage ratio | | | 3.51:1.00 | |
The description of the covenants above and of our credit agreement and indenture generallythe covenants it contains in this Annual Report are summaries only. They do not contain a full description, including definitions, of the provisions summarized. As such, theseThese summaries are qualified in their entirety by thesethe actual documents, which are filed as exhibits to this report.were previously filed. | | | Effects of the IPO and the Related Transactions; Capital RequirementsDividends |
In completing the IPO, we raised $78.0 million through the sale of 6,000,000 shares of common stock. The IPO and the related transactions had the following principle effects on our results of operations, liquidity and capital resources in 2005:
| | | | • | We incurred $10.4 million in one-time fees and expenses that were related to the offering and recorded as a reduction to paid-in capital; | | | • | We redeemed $70.0 million of senior notes and incurred a $6.8 million redemption premium in doing so; and | | | • | We incurred $3.4 million of fees in connection with the amendment and restatement of our credit facility. |
In addition to the IPO and related transactions, our primary uses of cash in 2005 consisted of:
| | | | • | $49.9 million of principal and interest payments on our long-term debt; | | | • | a $37.5 million distribution to our preferred stockholders; |
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| | | | • | $31.3 million of capital expenditures; and | | | • | $7.4 million in TXUCV integration and restructuring costs. |
In 2006, we expect that capital expenditurescash flow from operations will be approximately $31.0 million to $34.0 million for network, central officesfund dividend payments and other facilities and information technology for operating systems and other systems. In the second quarter of 2006 we expect to receive a $5.9 million cash distribution due to the redemption of our holdings in Rural Telephone Bank. For purposes of our credit agreement, we will be able to use these proceeds to make capital expenditures, but these expenditures will not reduce our cash available to pay dividends and, therefore, have the effect of increasing the cumulative available cash under our credit agreement. We intend to use the proceeds to fund a portion of the capital expenditures.
The cash requirements of the expected dividend policy are in addition to our other expected cash needs, both of which we expect to be funded with cash flow from operations.needs. In addition, we expect we will have sufficient availability under our amended and restated revolving credit facility to fund dividend payments, in addition toas well as any expected fluctuations in working capital and other cash needs, although we do not intend to borrow under this facility to pay dividends.
WeFor various reasons, all of which are described in the “Risk Factors” section of this Annual Report, we believe that our dividend policy will limit, but not preclude, our ability to grow. If we continue paying dividends at the level currently anticipated under our dividend policy, we may not retain a sufficient amount of cash, and may need to seek refinancing, to fund a material expansion of our business, including any significant acquisitions or to pursue growth opportunities requiring capital expenditures significantly beyond our current expectations. In addition, because we expect a significant portion of cash available will be distributed to holders of common stock under our dividend policy, our ability to pursue any material expansion of our business will depend more than it otherwise would on our ability to obtain third-party financing.
Surety bonds In the ordinary course of business, we enter into surety, performance, and similar bonds. As of December 31, 2005,2008, we had approximately $1.8$2.0 million of these bonds outstanding. 59
Table of contractual obligations and commitments | | | Table of Contractual Obligations and Commitments |
As of December 31, 2005,2008, our material contractual obligations and commitments were: | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Payments Due by Period | | | | | | | | Total | | | 2006 | | | 2007 | | | 2008 | | | 2009 | | | 2010 | | | Thereafter | | | | | | | | | | | | | | | | | | | | | | | | | | (In thousands) | | Long-term debt(a) | | $ | 555,000 | | | $ | — | | | $ | — | | | $ | — | | | $ | — | | | $ | — | | | $ | 555,000 | | Operating leases | | | 13,839 | | | | 3,501 | | | | 2,799 | | | | 1,985 | | | | 1,732 | | | | 1,681 | | | | 2,141 | | Minimum purchase contracts(b) | | | 759 | | | | 396 | | | | 363 | | | | — | | | | — | | | | — | | | | — | | Pension and other post-retirement obligations(c) | | | 47,674 | | | | 1,770 | | | | 5,435 | | | | 5,625 | | | | 5,849 | | | | 6,134 | | | | 22,861 | | | | | | | | | | | | | | | | | | | | | | | | Total contractual cash obligations and commitments | | $ | 617,272 | | | $ | 5,667 | | | $ | 8,597 | | | $ | 7,610 | | | $ | 7,581 | | | $ | 7,815 | | | $ | 580,002 | | | | | | | | | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | Less than | | | 1 – 3 | | | 3 – 5 | | | More than | | | | Total | | | 1 Year | | | Years | | | Years | | | 5 Years | | | | (In thousands) | | Long-term debt (a) | | $ | 1,249,600 | | | $ | 61,600 | | | $ | 123,200 | | | $ | 123,200 | | | $ | 941,600 | | Capital lease (b) | | | 1,433 | | | | 1,051 | | | | 382 | | | | — | | | | — | | Operating leases | | | 10,294 | | | | 4,187 | | | | 4,661 | | | | 758 | | | | 688 | | Other agreements and commitments (c) | | | 3,062 | | | | 1,120 | | | | 1,692 | | | | 140 | | | | 110 | | Pension and other post-retirement obligations (d) | | | 107,306 | | | | 10,290 | | | | 36,858 | | | | 36,939 | | | | 23,219 | | | | | | | | | | | | | | | | | | Total contractual cash obligations and commitments | | $ | 1,371,695 | | | $ | 78,248 | | | $ | 166,793 | | | $ | 161,037 | | | $ | 965,617 | | | | | | | | | | | | | | | | | |
| | | (a) | | This item consists of loans outstandinginterest and principal payments under our credit facilities and our senior notes.facilities. The credit facilities consist of a $425.0$760.0 million term loan D facility and a $120.0 delayed draw facility, both maturing on October 14, 2011December 31, 2014, and a $30.0$50.0 million revolving credit facility, which was fully available but undrawn as of December 31, 2005.2008. | | (b) | | AsRepresents payments of December 31, 2005, the minimum purchase contract was a60-month High-Capacity Term Payment Plan agreement with Southwestern Bell, dated November 25, 2002. The agreement requires us to make monthly purchases of at least $33,000 from Southwestern Bellprincipal and interest on a take-or-pay basis. The agreement also providescapital lease entered into by North Pittsburgh for an early termination charge of 45% of the monthly minimum commitment multiplied by the number of months remaining through the expiration date of November 25, 2007. As of December 31, 2005, the potential early termination charge was approximately $0.3 million.equipment used in its operations. |
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| | | (c) | | Represents payments for two operational support systems obligations. Should we terminate either of the contracts prior to the expiration of their term, we will be liable for minimum commitment payments as defined in the contracts for the remaining term of the contracts. In addition, we have a contractual obligation for network maintenance. | | (d) | | Pension funding is an estimate of our minimum funding requirements to provide pension benefits for employees based on service through December 31, 2005.2008. Obligations relating to other post retirementpost-retirement benefits are based on estimated future benefit payments. Our estimates are based on forecasts of future benefit payments, which may change over time due to a number of factors includingsuch as life expectancy, medical costs and trends, and on the actual rate of return on the plan assets, discount rates, discretionary pension contributions, and regulatory rules. |
Under Financial Interpretation Number 48, unrecognized tax benefits of $5.7 million are excluded from the contractual obligations table because the timing of future cash outflows to settle these liabilities is highly uncertain. Recent Accounting Pronouncements In May 2005,June 2008, the Financial Accounting Standards Board, or FASB, issued SFAS 154 which replacesFASB Staff Position (“FSP”) No. EITF 03-6-1 “Determining Whether Instruments Granted in Share-Based Payment Transactions are Participating Securities”. This FSP provides that unvested share-based payment awards that contain nonforfeitable rights to dividends or dividend equivalents (whether paid or unpaid) are participating securities and should be included in the provisionscomputation of SFAS 3 with respectearnings per share pursuant to reporting accounting changes in interim financial statements. SFAS 154the two-class method. This FSP is effective for accounting changes and corrections of errors made infinancial statements issued for fiscal years beginning after December 15, 2005. Early adoption is permitted for accounting changes2008, and corrections of errors made in fiscalinterim periods within those years, beginning after June 1, 2005. Issuers that apply SFAS 154 in an interim period should provide the applicable disclosures specified in SFAS 154.with early application prohibited. We do not expect this FSP will have any material effect on future results of operations and financial condition. In December 2008, the FASB issued FSP SFAS 154No. 132(R)-1(“SFAS 132(R)-1”),“Employers’ Disclosures about Postretirement Benefit Plan Assets” which provides guidance on an employer’s disclosures about plan assets of a defined benefit pension and other postretirement plan. SFAS 132(R)-1 requires employers to disclose the fair value of each major category of plan assets as of each annual reporting date for which a statement of financial position is presented; the inputs and valuation technique used to develop fair value measurements of plan assets at the annual reporting date, including the level within the fair value hierarchy in which the fair value measurements fall as defined by SFAS No. 157; investment policies and strategies, including target allocation percentages; and significant concentrations of risk in plan assets. SFAS 132(R)-1 is effective for fiscal years ending after December 15, 2009 and will significantlynot have impact ouron future results of operations and financial condition. 60
In March 2008, the FASB issued Statement of Financial Accounting Standards No. 161(“SFAS No. 161”), “Disclosure about Derivative Instruments and Hedging Activities—an Amendment of FASB Statement No. 133”. SFAS No. 161 requires entities that utilize derivative instruments to provide qualitative disclosures about their objectives and strategies for using such instruments, as well as any details of credit-risk-related contingent features contained within derivatives. SFAS No. 161 also requires reporting entities to disclose additional information about the amounts and location of derivatives within the financial statements, how the provisions of Statement of Financial Accounting Standards No. 133, “Accounting for Derivative Instruments and Hedging Activities” have been applied, and the impact that hedges have on the entity’s financial position, financial performance, and cash flows. SFAS No. 161 is effective for fiscal years and interim periods beginning after November 15, 2008, with early adoption encouraged. We currently provide information about hedging activities and use of derivatives in our quarterly and annual filings with the SEC, and satisfy many of the SFAS No. 161 disclosure requirements. While SFAS No. 161 will have an impact on disclosures, it will not have an impact on our future results of operations and financial condition. In December 2007, the FASB issued Statement of Financial Accounting Standards No. 160 (“SFAS No. 160”), “Noncontrolling Interests in Consolidated Financial Statements—an Amendment of ARB No. 51”. SFAS No. 160 clarifies that a noncontrolling interest in a subsidiary is an ownership interest in a consolidated entity that should be reported as equity in the consolidated financial statements. It also requires consolidated net income to include the amounts attributable to both the parent and the noncontrolling interest. We have adopted SFAS No. 160 effective January 1, 2009 with regard to the minority interest held in the East Texas Fiber Line, a 63% owned subsidiary. We have included net income of $5.2 million in the mezzanine section of the balance sheet as of December 31, 2008 and recognized a charge to income of $0.9 million for earnings attributable to the minority shareholder for the year then ended. The impact of SFAS No. 160 on our future results of operations and financial condition will depend on the operating results of this subsidiary in future periods. In December 2007, the FASB issued Statement of Financial Accounting Standards No. 141 (revised 2007) (“SFAS No. 141(R)”), “Business Combinations”. SFAS No. 141(R) retains the fundamental requirements of the original pronouncement requiring that the purchase method be used for all business combinations. SFAS No. 141(R) defines the acquirer as the entity that obtains control of one or more businesses in the business combination, establishes the acquisition date as the date the acquirer achieves control, and requires the acquirer to recognize the assets acquired, liabilities assumed, and any non-controlling interest at their fair values as of the acquisition date. SFAS No. 141(R) also requires, among other things, that acquisition-related costs be recognized separately from the acquisition. We have adopted SFAS No. 141(R) effective January 1, 2009, and expect it to affect acquisitions completed thereafter, though the impact will depend upon the size and nature of the acquisition. In addition, the $5.7 million liability for unrecognized tax benefits as of December 31, 2008 relate to tax positions of acquired entities taken prior to their acquisition by the Company. Liabilities settled for lesser amounts will affect the income tax expense in the period of reversal. See Note 10 to the audited financial statements included herein. In September 2006, the FASB issued SFAS No. 157 (“SFAS No. 157”), “Fair Value Measurements”. SFAS No. 157 defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles, and expands disclosures about fair value measurements. We adopted the provisions of SFAS No. 157 as of January 1, 2008, for financial instruments that are required to be measured at fair value on a recurring basis. SFAS No. 157 establishes a three-tier fair value hierarchy, which prioritizes the inputs used in measuring fair value. These tiers include: Level 1, defined as observable inputs such as quoted prices in active markets; Level 2, defined as inputs other than quoted prices in active markets that are either directly or indirectly observable; and Level 3, defined as unobservable inputs in which little or no market data exists, therefore requiring an entity to develop its adoptionown assumptions. For additional information about the impact of SFAS No.157 on the results of operations and financial condition, please refer to Note 15 of our audited financial statements. 61
In September 2006, the FASB issued Statement of Financial Accounting Standards No. 158, (“SFAS No. 158”), “Employers’ Accounting for Defined Benefit Pension and Other Postretirement Plans—an amendment of FASB Statements No. 87, 88, 106, and 132(R)”. SFAS No. 158 requires an entity to (a) recognize in its statement of financial position an asset or an obligation for a defined benefit postretirement plan’s funded status, (b) measure a defined benefit postretirement plan’s assets and obligations that determine its funded status as of the end of the employer’s fiscal year, and (c) recognize changes in the funded status of a defined benefit postretirement plan in comprehensive income in the year in which the changes occur. We adopted the recognition and related disclosure provisions of SFAS No. 158 effective December 31, 2006. The measurement date provision was effective January 1,, 2008. After we combined the Texas and Illinois pension plans on December 31, 2007, we adopted the measurement date provisions of SFAS No. 158 effective January 1, 2008, for pension and postretirement plans with measurement dates other than December 31. Adopting the measurement date provisions resulted in an increase to opening accumulated deficit on January 1, 2006.2008, of $169,000, net of tax of $96,972. Item 7A.Quantitative and Qualitative Disclosures About Market Risk | | Item 7A. | Quantitative and Qualitative Disclosure about Market Risk |
Market risk is the potential change in the fair market value of a fixed-rate long-term debt obligation due to an adverse change in interest rates, and the potential change in interest expense on variable-rate long-term debt obligations due to a change in market interest rates. We are exposed to market risk from changes in interest rates on our long-term debt obligations. We estimate our market risk using sensitivity analysis. Market risk is defined as the potential change in the fair market value of a fixed-rate long-term debt obligation due to hypothetical adverse change in interest rates and the potential change in interest expense on variable rate long-term debt obligations due to a change in market interest rates. The fair value on long-term debt obligations is determined based on discounted cash flow analysis, using the rates and the maturities of these obligations compared to terms and rates currently available in long-term debt markets. The potential change in interest expense is determined by calculating the effect of thea hypothetical rate increase on the portion of variable ratevariable-rate debt that is not hedged through the interest swap agreements described below, and assumes no changes in our capital structure. As of December 31, 2005,2008, approximately 70.2%84.1% of our long-term debt obligations were fixedvariable-rate obligations subject to interest rate obligationsswap agreements, and approximately 29.8%15.9% were variable ratevariable-rate obligations not subject to interest rate swap agreements. As of December 31, 2005,2008, we had $425.0$880.0 million of debt outstanding under our credit facilities. Our exposure to fluctuations in interest rates was limited by interest rate swap agreements that effectively converted a portion of our variable debt to a fixed-rate basis, thusfixed rate, thereby reducing the impact of interest rate changes on future interest expenses.expense. On December 31, 2005,2008, we had interest rate swap agreements covering $259.4$740.0 million of aggregate principal amount of our variable ratevariable-rate debt at fixed LIBOR rates ranging from 3.03%3.865% to 4.57%4.888% and expiring on Decembervarious dates through March 31, 2006, May 19, 20072013. In addition, we had $740.0 million of basis swap agreements under which we make 3-month LIBOR payments less a percentage ranging from 5.4 to 9.0 basis points, and September 30, 2011. receive 1-month LIBOR. As of December 31, 2005,2008, we had $165.6$140.0 million of variable ratevariable-rate debt not covered by interest rate swap agreements. If market interest rates averagedchanged by 1.0% higher thanfrom the average rates that prevailed from January 1, 2005 through December 31, 2005,during the year, interest expense would have increased or decreased by approximately $1.9$0.9 million for the period. On October 12, 2005, the Company entered into agreements to hedge an additional $100.0 million of variable rate debt with swap agreements that were effective January 3, 2006 and terminate in September 2011. Had these swaps been effective prior to December 31, 2005, 88.2% of our long-term obligations would have been fixed rate and 11.8% would have been variable rate.period.. As of December 31, 2005,2008, the fair value of interest rate swap agreements amounted to an asseta liability of $2.5$30.2 million, net of taxes. As of December 31, 2005, we had $130.0 million in aggregate principal amount of fixed rate long-term debt obligations with an estimated fair market value of $138.5 million based on an overall weighted average interest rate of 9.75% and an overall weighted maturity of 6.25 years, compared to rates and maturities currently available in long-term debt markets. Market risk is estimated as the potential loss in fair value of our fixed rate long-term debt resulting from a hypothetical increase of 10.0% in interest rates. Such an increase in interest rates would have resulted in a decrease of $3.9 million in the fair market value of our fixed-rate long-term debt.
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Item 8.Financial Statements and Supplementary Data MANAGEMENT’S REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING Our management is responsible for establishing and maintaining adequate internal control over financial reporting. The Company’s internal control over financial reporting is a process designed to provide reasonable assurance that our financial reporting is reliable and our financial statements for external purposes are prepared in accordance with generally accepted accounting principles. The Company’s internal control over financial reporting includes those policies and procedures that: (i) | | pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the Company; | Item 8. | (ii) | Financial Statements | provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and Supplementary Datathat receipts and expenditures of the Company are being made only in accordance with authorizations of management and directors; and | | (iii) | | provide reasonable assurance that any unauthorized acquisition, use, or disposition of the Company’s assets that could have a material effect on the financial statements will be prevented or detected without delay. |
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that compliance with the policies or procedures may decline. Management assessed the effectiveness of the Company’s internal control over financial reporting based on the framework set forth inInternal Control—Integrated Framework, issued by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”). Based on management’s assessment and the COSO criteria, management believes that, as of December 31, 2008, our internal control over financial reporting is effective to provide reasonable assurance that the desired control objectives were achieved. Our independent registered public accounting firm, Ernst & Young LLP, has issued an attestation report on Consolidated Communications Holdings, Inc.’s internal control over financial reporting. That report is included on page 63 of this Annual Report. 63
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM To the Shareholders andThe Board of Directors of
and Stockholders Consolidated Communications Holdings, Inc. We have audited Consolidated Communications Holdings, Inc’s. (the Company’s) internal control over financial reporting as of December 31, 2008, based on criteria established inInternal Control — Integrated Framework, issued by the Committee of Sponsoring Organizations of the Treadway Commission (the COSO criteria). The Company’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting included in the accompanying Management’s Report on Internal Control Over Financial Reporting. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit. We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion. A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions or that the degree of compliance with the policies or procedures may deteriorate. In our opinion, Consolidated Communications Holdings, Inc. maintained, in all material respects, effective internal control over financial reporting as of December 31, 2008, based on the COSO criteria. We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheets of Consolidated Communications Holdings, Inc. (the Company) as of December 31, 20052008 and 2004,2007, and the related consolidated statements of operations, changes in stockholders’ equity, and cash flows for each of the three years in the period ended December 31, 2005.2008, and our report dated March 13, 2009, expressed an unqualified opinion thereon. /s/ Ernst & Young LLP St. Louis, Missouri March 13, 2009 64
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM The Stockholders and Board of Directors Consolidated Communications Holdings, Inc. We have audited the accompanying consolidated balance sheets of Consolidated Communications Holdings, Inc. and subsidiaries (the Company) as of December 31, 2008 and 2007, and the related consolidated statements of operations, changes in stockholders’ equity, and cash flows for each of the three years in the period ended December 31, 2008. Our audits also included the financial statement schedule listed in the Index at Item 15. These financial statements and schedule are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements and schedule based on our audits. The financial statements of GTE Mobilnet of Texas RSA #17 Limited Partnership (a partnership in which the Company has a 17.02% interest), Pennsylvania RSA 6(I) Limited Partnership (a partnership in which the Company has a 16.67% interest), and Pennsylvania RSA 6(II) Limited Partnership (a partnership in which the Company has a 23.67% interest) (collectively the Limited Partnerships) have been audited by other auditors whose reports have been furnished to us, and our opinion on the consolidated financial statements, insofar as it relates to the amounts included for the Limited Partnerships, is based solely on the reports of the other auditors. In the consolidated financial statements, the Company’s investment in the Limited Partnerships is stated at $46,659,000 and $44,410,000, respectively, at December 31, 2008 and 2007, and the Company’s equity in the net income of the Limited Partnerships is stated at $10,124,000 and $2,334,000, and $2,660,000 for each of the three years in the period ended Decemeber 31, 2008. We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). 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 and the reports of other auditors provide a reasonable basis for our opinion. In our opinion, based on our audits and the reports of other auditors, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Consolidated Communications Holdings, Inc. at December 31, 2008 and 2007, and the consolidated results of their operations and their cash flows for each of the three years in the period ended December 31, 2008, in conformity with U.S. generally accepted accounting principles. Also, in our opinion, the related financial statement schedule, when considered in relation to the basic consolidated financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein. As discussed in Notes 2 and 10 to the consolidated financial statements, on December 31, 2008, the Company adopted Statement of Financial Accounting Standards No. 101,Regulated Enterprises - Accounting for the Discontinuance of Application of FASB Statement No. 71,which specifies the accounting required when an enterprise ceases to meet the criteria for application of regulatory accounting, and on January 1, 2007, the Company adopted the provisions of FASB Interpretation No 48,Accounting for Uncertainty in Income Taxes, an Interpretation of FASB Statement No. 109, which clarified the accounting for uncertainty in income taxes. We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), Consolidated Communications Holdings, Inc.’s internal control over financial reporting as of December 31, 2008, based on the criteria established in Internal Control — Integrated Framework, issued by the Committee of Sponsoring Organizations of the Treadway Commission, and our report dated March 13, 2009 expressed an unqualified opinion thereon. /s/ ERNST & YOUNG LLP St. Louis, Missouri March 13, 2009 65
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM To the Partners of Pennsylvania RSA 6 (I) Limited Partnership: We have audited the accompanying balance sheets of Pennsylvania RSA 6 (I) Limited Partnership (the “Partnership”) as of December 31, 2008 and 2007, and the related statements of operations, changes in partners’ capital, and cash flows for each of the three years in the period ended December 31, 2008. Such financial statements are not presented separately herein. These financial statements are the responsibility of the Partnership’s management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. The Partnership is not required to have, nor were notwe engaged to perform, an audit of the Company’sits internal control over financial reporting. Our auditsaudit included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances but not for the purpose of expressing an opinion on the effectiveness of the Company’sPartnership’s internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, andas well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, thesuch financial statements referred to above present fairly, in all material respects, the consolidated financial position of Consolidated Communications Holdings, Inc. atthe Partnership as of December 31, 20052008 and 2004,2007, and the consolidated results of theirits operations and theirits cash flows for each of the three years in the period ended December 31, 2005,2008, in conformity with U.S.accounting principles generally accepted accounting principles. Also, in our opinion, the related financial statement schedule, when considered in relation to the basic financial statements taken as a whole, presents fairly in all material respects the information set forth therein. As discussed in Note 3 to the consolidated financial statements, on July 1, 2005, the Company changed its methodUnited States of accounting for share-based awards.
Chicago, Illinois
America./s/ Deloitte & Touche LLP Atlanta, GA March 13, 2006 16, 200969
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CONSOLIDATED COMMUNICATIONS HOLDINGS, INC.
CONSOLIDATED BALANCE SHEETSConsolidated Communications Holdings, Inc. Consolidated Balance Sheets
(DollarsAmounts in thousands, except share and per share amounts)
| | | | | | | | | | | | December 31, | | | | | | | | 2005 | | | 2004 | | | | | | | | | ASSETS | Current assets: | | | | | | | | | Cash and cash equivalents | | $ | 31,409 | | | $ | 52,084 | | | Accounts receivable, net of allowance of $2,825 and $2,613, respectively | | | 35,503 | | | | 33,817 | | | Inventories | | | 3,420 | | | | 3,529 | | | Deferred income taxes | | | 3,111 | | | | 3,278 | | | Prepaid expenses and other current assets | | | 5,592 | | | | 6,179 | | | | | | | | | Total current assets | | | 79,035 | | | | 98,887 | | | Property, plant and equipment, net | | | 335,088 | | | | 360,760 | | Intangibles and other assets: | | | | | | | | | | Investments | | | 44,056 | | | | 42,884 | | | Goodwill | | | 314,243 | | | | 318,481 | | | Customer lists, net | | | 135,515 | | | | 149,805 | | | Tradenames | | | 14,546 | | | | 14,546 | | | Deferred financing costs and other assets | | | 23,467 | | | | 20,736 | | | | | | | | | Total assets | | $ | 945,950 | | | $ | 1,006,099 | | | | | | | | | | LIABILITIES AND STOCKHOLDERS’ EQUITY | Current liabilities: | | | | | | | | | | Current portion of long-term debt | | $ | — | | | $ | 41,079 | | | Accounts payable | | | 11,743 | | | | 11,176 | | | Advance billings and customer deposits | | | 14,203 | | | | 11,061 | | | Dividends payable | | | 11,537 | | | | — | | | Accrued expenses | | | 30,376 | | | | 34,251 | | | | | | | | | Total current liabilities | | | 67,859 | | | | 97,567 | | Long-term debt less current maturities | | | 555,000 | | | | 588,342 | | Deferred income taxes | | | 66,228 | | | | 66,641 | | Pension and postretirement benefit obligations | | | 53,185 | | | | 61,361 | | Other liabilities | | | 1,476 | | | | 3,223 | | | | | | | | | Total liabilities | | | 743,748 | | | | 817,134 | | | | | | | | | Minority interests | | | 2,974 | | | | 2,291 | | | | | | | | | Redeemable preferred shares: | | | | | | | | | | Class A, $1.00 par value, 182,000 shares authorized, 0 and 182,000 issued and outstanding, respectively | | | — | | | | 205,469 | | | | | | | | | Stockholders’ equity | | | | | | | | | | Common stock, $0.01 par value, 100,000,000 shares, authorized, 29,775,010 and 10,000,000 issued and outstanding, respectively | | | 297 | | | | — | | | Paid in capital | | | 254,162 | | | | 58 | | | Accumulated deficit | | | (57,533 | ) | | | (19,111 | ) | | Accumulated other comprehensive income | | | 2,302 | | | | 258 | | | | | | | | | Total stockholders’ equity (deficit) | | | 199,228 | | | | (18,795 | ) | | | | | | | | Total liabilities and stockholders’ equity | | $ | 945,950 | | | $ | 1,006,099 | | | | | | | | |
| | | | | | | | | | | December 31, | | | | 2008 | | | 2007 | | | ASSETS | | | | | | | | | Current assets: | | | | | | | | | Cash and cash equivalents | | $ | 15,471 | | | $ | 34,341 | | Accounts receivable, net of allowance of $1,908 and $2,440, respectively | | | 45,092 | | | | 44,001 | | Inventories | | | 7,482 | | | | 6,364 | | Deferred income taxes | | | 3,600 | | | | 4,551 | | Prepaid expenses and other current assets | | | 6,931 | | | | 10,358 | | | | | | | | | Total current assets | | | 78,576 | | | | 99,615 | | | | | | | | | | | Property, plant and equipment, net | | | 400,286 | | | | 411,647 | | Intangibles and other assets: | | | | | | | | | Investments | | | 95,657 | | | | 94,142 | | Goodwill | | | 520,562 | | | | 526,439 | | Customer lists, net | | | 124,249 | | | | 146,411 | | Tradenames | | | 14,291 | | | | 14,291 | | Deferred financing costs and other assets | | | 8,005 | | | | 12,046 | | | | | | | | | Total assets | | $ | 1,241,626 | | | $ | 1,304,591 | | | | | | | | | | | | | | | | | | LIABILITIES AND STOCKHOLDERS’ EQUITY | | | | | | | | | Current liabilities: | | | | | | | | | Current portion of capital lease obligation | | $ | 922 | | | $ | 1,010 | | Current portion of pension and postretirement benefit obligations | | | 2,960 | | | | 8,765 | | Accounts payable | | | 12,336 | | | | 17,386 | | Advance billings and customer deposits | | | 19,102 | | | | 18,167 | | Dividends payable | | | 11,388 | | | | 11,361 | | Accrued expenses | | | 24,584 | | | �� | 28,254 | | | | | | | | | Total current liabilities | | | 71,292 | | | | 84,943 | | Capital lease obligation less current portion | | | 344 | | | | 1,636 | | Long-term debt | | | 880,000 | | | | 890,000 | | Deferred income taxes | | | 58,134 | | | | 97,289 | | Pension and postretirement benefit obligations | | | 107,741 | | | | 56,729 | | Other liabilities | | | 48,830 | | | | 14,306 | | | | | | | | | Total liabilities | | | 1,166,341 | | | | 1,144,903 | | | | | | | | | | | | | | | | | | Minority interest | | | 5,185 | | | | 4,322 | | | | | | | | | | | | | | | | | | Stockholders’ equity | | | | | | | | | Common stock, $0.01 par value, 100,000,000 shares authorized, 29,488,408 and 29,440,587 issued and outstanding in 2008 and 2007, respectively | | | 295 | | | | 294 | | Additional paid in capital | | | 129,284 | | | | 160,723 | | Retained earnings | | | — | | | | — | | Accumulated other comprehensive loss | | | (59,479 | ) | | | (5,651 | ) | | | | | | | | Total stockholders’ equity | | | 70,100 | | | | 155,366 | | | | | | | | | Total liabilities and stockholders’ equity | | $ | 1,241,626 | | | $ | 1,304,591 | | | | | | | | |
See accompanying notes 7067
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONSConsolidated Communications Holdings, Inc. Consolidated Statements of Operations
(Dollars in thousands, except per share amounts)
| | | | | | | | | | | | | | | | Year Ended December 31, | | | | | | | | 2005 | | | 2004 | | | 2003 | | | | | | | | | | | | Revenues | | $ | 321,429 | | | $ | 269,608 | | | $ | 132,330 | | Operating expenses: | | | | | | | | | | | | | | Cost of services and products (exclusive of depreciation and amortization shown separately below) | | | 101,159 | | | | 80,572 | | | | 46,305 | | | Selling, general and administrative expenses | | | 98,791 | | | | 87,955 | | | | 42,495 | | | Intangible assets impairment | | | — | | | | 11,578 | | | | — | | | Depreciation and amortization | | | 67,379 | | | | 54,522 | | | | 22,476 | | | | | | | | | | | | Income from operations | | | 54,100 | | | | 34,981 | | | | 21,054 | | Other income (expense): | | | | | | | | | | | | | | Interest income | | | 1,066 | | | | 384 | | | | 154 | | | Interest expense | | | (54,509 | ) | | | (39,935 | ) | | | (11,975 | ) | | Investment income | | | 3,215 | | | | 3,785 | | | | — | | | Minority interest | | | (683 | ) | | | (327 | ) | | | — | | | Other, net | | | 3,284 | | | | 201 | | | | (15 | ) | | | | | | | | | | | Income (loss) before income taxes | | | 6,473 | | | | (911 | ) | | | 9,218 | | Income tax expense | | | 10,935 | | | | 232 | | | | 3,717 | | | | | | | | | | | | Net income (loss) | | | (4,462 | ) | | | (1,143 | ) | | | 5,501 | | Dividends on redeemable preferred shares | | | (10,263 | ) | | | (14,965 | ) | | | (8,504 | ) | | | | | | | | | | | Net loss applicable to common stockholders | | $ | (14,725 | ) | | $ | (16,108 | ) | | $ | (3,003 | ) | | | | | | | | | | | Net loss per common share — basic and diluted | | $ | (0.83 | ) | | $ | (1.79 | ) | | $ | (0.33 | ) | | | | | | | | | | |
| | | | | | | | | | | | | | | Year Ended December 31, | | | | 2008 | | | 2007 | | | 2006 | | Revenues | | $ | 418,424 | | | $ | 329,248 | | | $ | 320,767 | | Operating expenses: | | | | | | | | | | | | | Cost of services and products (exclusive of depreciation and amortization shown separately below) | | | 143,563 | | | | 107,290 | | | | 98,093 | | Selling, general and administrative expenses | | | 108,769 | | | | 89,662 | | | | 94,693 | | Intangible assets impairment | | | 6,050 | | | | — | | | | 11,240 | | Depreciation and amortization | | | 91,678 | | | | 65,659 | | | | 67,430 | | | | | | | | | | | | Income from operations | | | 68,364 | | | | 66,637 | | | | 49,311 | | Other income (expense): | | | | | | | | | | | | | Interest income | | | 367 | | | | 893 | | | | 974 | | Interest expense | | | (66,659 | ) | | | (47,350 | ) | | | (43,873 | ) | Investment income | | | 20,495 | | | | 7,034 | | | | 7,691 | | Minority interest | | | (863 | ) | | | (627 | ) | | | (721 | ) | Loss on extinguishment of debt | | | (9,224 | ) | | | (10,323 | ) | | | — | | Other, net | | | (577 | ) | | | (167 | ) | | | 290 | | | | | | | | | | | | Income before income taxes and extraordinary item | | | 11,903 | | | | 16,097 | | | | 13,672 | | Income tax expense | | | 6,639 | | | | 4,674 | | | | 405 | | | | | | | | | | | | | | | | | | | | | | | | | Income before extraordinary item | | | 5,264 | | | | 11,423 | | | | 13,267 | | | | | | | | | | | | | | | Extraordinary item (net of income tax of $4,154) | | | 7,240 | | | | — | | | | — | | | | | | | | | | | | | | | | | | | | | | | | | Net income | | $ | 12,504 | | | $ | 11,423 | | | $ | 13,267 | | | | | | | | | | | | Net income per common share — | | | | | | | | | | | | | Basic: | | | | | | | | | | | | | Income per share before extraordinary item | | $ | 0.18 | | | $ | 0.44 | | | $ | 0.48 | | Extraordinary item per share | | | 0.25 | | | | — | | | | — | | | | | | | | | | | | Net income per share | | $ | 0.43 | | | $ | 0.44 | | | $ | 0.48 | | | | | | | | | | | | Diluted: | | | | | | | | | | | | | Income per share before extraordinary item | | $ | 0.18 | | | $ | 0.44 | | | $ | 0.47 | | Extraordinary item per share | | | 0.24 | | | | — | | | | — | | | | | | | | | | | | | | | | | | | | | | | | | Net income per share | | $ | 0.42 | | | $ | 0.44 | | | $ | 0.47 | | | | | | | | | | | | | | | | | | | | | | | | | Cash dividends per common share | | $ | 1.55 | | | $ | 1.55 | | | $ | 1.55 | | | | | | | | | | | |
See accompanying notes 7168
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC.
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY
Consolidated Communications Holdings, Inc. Consolidated Statement of Changes in Stockholders’ Equity Year Ended December 31, 2005, 20042008, 2007 and 20032006 (Dollars in thousands)thousands, except share amounts)
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Accumulated | | | | | | | | Common Stock | | | | | | | Other | | | | | | | | | | | | | Accumulated | | | Comprehensive | | | | | Comprehensive | | | | Shares | | | Amount | | | Paid in Capital | | | Deficit | | | Income | | | Total | | | Income (Loss) | | | | | | | | | | | | | | | | | | | | | | | | Balance, January 1, 2003 | | | — | | | $ | — | | | $ | — | | | $ | — | | | $ | — | | | $ | — | | | $ | — | | Net income | | | — | | | | — | | | | — | | | | 5,501 | | | | — | | | | 5,501 | | | $ | 5,501 | | Issuance of common stock | | | 9,000,000 | | | | — | | | | — | | | | — | | | | — | | | | — | | | | — | | Shares issued under employee plan | | | 975,000 | | | | — | | | | — | | | | — | | | | — | | | | — | | | | — | | Dividends on redeemable preferred shares | | | — | | | | — | | | | — | | | | (8,504 | ) | | | — | | | | (8,504 | ) | | | — | | Change in fair value of cash flow hedges, net of ($344) of tax | | | — | | | | — | | | | — | | | | — | | | | (515 | ) | | | (515 | ) | | | (515 | ) | | | | | | | | | | | | | | | | | | | | | | | Balance, December 31, 2003 | | | 9,975,000 | | | | — | | | | — | | | | (3,003 | ) | | | (515 | ) | | | (3,518 | ) | | $ | 4,986 | | | | | | | | | | | | | | | | | | | | | | | | Net loss | | | — | | | | — | | | | — | | | | (1,143 | ) | | | — | | | | (1,143 | ) | | $ | (1,143 | ) | Shares issued under employee plan | | | 25,000 | | | | — | | | | 58 | | | | — | | | | — | | | | 58 | | | | — | | Dividends on redeemable preferred shares | | | — | | | | — | | | | — | | | | (14,965 | ) | | | — | | | | (14,965 | ) | | | — | | Minimum pension liability, net of ($174) of tax | | | | | | | | | | | | | | | | | | | (283 | ) | | | (283 | ) | | | (283 | ) | Unrealized loss on marketable securities, net of ($33) of tax | | | | | | | | | | | | | | | | | | | (49 | ) | | | (49 | ) | | | (49 | ) | Change in fair value of cash flow hedges, net of $1,090 of tax | | | — | | | | — | | | | — | | | | — | | | | 1,105 | | | | 1,105 | | | | 1,105 | | | | | | | | | | | | | | | | | | | | | | | | Balance, December 31, 2004 | | | 10,000,000 | | | | — | | | | 58 | | | | (19,111 | ) | | | 258 | | | | (18,795 | ) | | $ | (370 | ) | | | | | | | | | | | | | | | | | | | | | | | Net loss | | | — | | | | — | | | | — | | | | (4,462 | ) | | | — | | | | (4,462 | ) | | $ | (4,462 | ) | Dividends on redeemable preferred shares | | | — | | | | — | | | | — | | | | (10,263 | ) | | | — | | | | (10,263 | ) | | | — | | Dividends on common stock | | | — | | | | — | | | | — | | | | (23,697 | ) | | | — | | | | (23,697 | ) | | | — | | Reorganization and conversion of redeemable preferred shares to common stock in connection with initial public offering | | | 13,692,510 | | | | 237 | | | | 177,997 | | | | — | | | | — | | | | 178,234 | | | | — | | Issuance of common stock | | | 6,000,000 | | | | 60 | | | | 67,529 | | | | — | | | | — | | | | 67,589 | | | | | | Shares issued under employee plan | | | 87,500 | | | | — | | | | — | | | | — | | | | — | | | | — | | | | — | | Non-cash stock compensation | | | — | | | | — | | | | 8,590 | | | | — | | | | — | | | | 8,590 | | | | | | Purchase and retirement of restricted shares | | | (5,000 | ) | | | — | | | | (12 | ) | | | — | | | | — | | | | (12 | ) | | | — | | Minimum pension liability, net of ($129) of tax | | | — | | | | — | | | | — | | | | — | | | | (144 | ) | | | (144 | ) | | | (144 | ) | Change in fair value of cash flow hedges, net of $1,582 of tax | | | — | | | | — | | | | — | | | | — | | | | 2,188 | | | | 2,188 | | | | 2,188 | | | | | | | | | | | | | | | | | | | | | | | | Balance, December 31, 2005 | | | 29,775,010 | | | $ | 297 | | | $ | 254,162 | | | $ | (57,533 | ) | | $ | 2,302 | | | $ | 199,228 | | | $ | (2,418 | ) | | | | | | | | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Accumulated | | | | | | | | | | | | | | | | | | | | | | | | | | | Other | | | | | | | | | | | Common Stock | | | Additional | | | Retained | | | Comprehensive | | | | | | | Comprehensive | | | | Shares | | | Amount | | | Paid in Capital | | | Earnings | | | Income (Loss) | | | Total | | | Income (Loss) | | Balance, January 1, 2006 | | | 29,775,010 | | | | 297 | | | | 202,234 | | | | (5,605 | ) | | | 2,302 | | | | 199,228 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Net income | | | — | | | | — | | | | — | | | | 13,267 | | | | — | | | | 13,267 | | | $ | 13,267 | | Dividends on common stock | | | — | | | | — | | | | (35,434 | ) | | | (7,662 | ) | | | — | | | | (43,096 | ) | | | — | | Shares issued under employee plan, net of forfeitures | | | 13,841 | | | | — | | | | — | | | | — | | | | — | | | | — | | | | — | | Non-cash stock compensation | | | — | | | | — | | | | 2,482 | | | | — | | | | — | | | | 2,482 | | | | | | Purchase and retirement of common stock | | | (3,786,979 | ) | | | (37 | ) | | | (56,786 | ) | | | — | | | | — | | | | (56,823 | ) | | | — | | Reversal of minimum pension liability upon adoption of SFAS No. 158, net of $303 of tax | | | — | | | | — | | | | — | | | | — | | | | 427 | | | | 427 | | | | — | | Recognition of funded status upon adoption of SFAS No. 158, net of ($194) of tax | | | — | | | | — | | | | — | | | | — | | | | (324 | ) | | | (324 | ) | | | — | | Unrealized gain on marketable securities, net of $34 of tax | | | — | | | | — | | | | — | | | | — | | | | 49 | | | | 49 | | | | 49 | | Change in fair value of cash flow hedges, net of ($492) of tax | | | — | | | | — | | | | — | | | | — | | | | (252 | ) | | | (252 | ) | | | (252 | ) | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Balance, December 31, 2006 | | | 26,001,872 | | | | 260 | | | | 112,496 | | | | — | | | | 2,202 | | | | 114,958 | | | $ | 13,064 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Net income | | | — | | | | — | | | | — | | | | 11,423 | | | | — | | | | 11,423 | | | $ | 11,423 | | Dividends on common stock | | | — | | | | — | | | | (30,090 | ) | | | (11,423 | ) | | | — | | | | (41,513 | ) | | | — | | Issuance of common stock | | | 3,319,142 | | | | 34 | | | | 74,376 | | | | — | | | | — | | | | 74,410 | | | | — | | Shares issued under employee plan, net of forfeitures | | | 126,834 | | | | — | | | | — | | | | — | | | | — | | | | — | | | | — | | Non-cash stock compensation | | | — | | | | — | | | | 4,034 | | | | — | | | | — | | | | 4,034 | | | | | | Purchase and retirement of common stock | | | (7,261 | ) | | | — | | | | (131 | ) | | | — | | | | — | | | | (131 | ) | | | — | | Permanent portion of tax on restricted stock vesting | | | — | | | | — | | | | 38 | | | | — | | | | — | | | | 38 | | | | — | | Recognition of funded status of pension and other post retirement benefit plans net of $1,606 of tax | | | — | | | | — | | | | — | | | | — | | | | 2,785 | | | | 2,785 | | | | 2,785 | | Change in fair value of cash flow hedges, net of ($6,139) of tax | | | — | | | | — | | | | — | | | | — | | | | (10,638 | ) | | | (10,638 | ) | | | (10,638 | ) | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Balance, December 31, 2007 | | | 29,440,587 | | | | 294 | | | | 160,723 | | | | — | | | | (5,651 | ) | | | 155,366 | | | | 3,570 | | | | | | | | | | | | | | | | | | | | | | | | | Effects of accounting change regarding postretirement plan measurement dates pursuant to SFAS No. 158: | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Service cost, interest cost, and expected return on plan assets for October 1, 2007 through December 31, 2007, net of ($88) of tax | | | — | | | | — | | | | — | | | | (154 | ) | | | — | | | | (154 | ) | | | — | | Amortization of prior service cost and net loss for October 1, 2007 through December 31, 2007, net of ($9) of tax | | | — | | | | — | | | | — | | | | (15 | ) | | | 15 | | | | — | | | | — | | | | | | | | | | | | | | | | | | | | | | | | | | | — | | | | — | | | | — | | | | (169 | ) | | | 15 | | | | (154 | ) | | | — | | | | | | | | | | | | | | | | | | | | | | | | Balance, January 1, 2008 as adjusted | | | 29,440,587 | | | | 294 | | | | 160,723 | | | | (169 | ) | | | (5,636 | ) | | | 155,212 | | | | 3,570 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Net income | | | — | | | | — | | | | — | | | | 12,504 | | | | — | | | | 12,504 | | | $ | 12,504 | | Dividends on common stock | | | — | | | | — | | | | (33,141 | ) | | | (12,335 | ) | | | — | | | | (45,476 | ) | | | — | | Shares issued under employee plan, net of forfeitures | | | 71,467 | | | | — | | | | — | | | | — | | | | — | | | | — | | | | — | | Non-cash stock compensation | | | — | | | | 1 | | | | 1,900 | | | | — | | | | — | | | | 1,901 | | | | | | Purchase and retirement of common stock | | | (23,646 | ) | | | — | | | | (257 | ) | | | — | | | | — | | | | (257 | ) | | | — | | Permanent portion of tax on restricted stock vesting | | | — | | | | — | | | | (38 | ) | | | — | | | | — | | | | (38 | ) | | | — | | Pension tax adjustment | | | — | | | | — | | | | 97 | | | | — | | | | — | | | | 97 | | | | — | | Change in prior service cost and net loss, net of ($18,730) of tax | | | — | | | | — | | | | — | | | | — | | | | (31,765 | ) | | | (31,765 | ) | | | (31,765 | ) | Change in fair value of cash flow hedges, net of ($12,666) of tax | | | — | | | | — | | | | — | | | | — | | | | (22,078 | ) | | | (22,078 | ) | | | (22,078 | ) | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Balance, December 31, 2008 | | | 29,488,408 | | | $ | 295 | | | $ | 129,284 | | | $ | — | | | $ | (59,479 | ) | | $ | 70,100 | | | $ | (37,769 | ) | | | | | | | | | | | | | | | | | | | | | | |
See accompanying notes 7269
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWSConsolidated Communications Holdings, Inc. Consolidated Statements of Cash Flows
(Dollars in thousands)
| | | | | | | | | | | | | | | | | | Year Ended December 31, | | | | | | | | 2005 | | | 2004 | | | 2003 | | | | | | | | | | | | OPERATING ACTIVITIES | | | | | | | | | | | | | | Net income (loss) | | $ | (4,462 | ) | | $ | (1,143 | ) | | $ | 5,501 | | | Adjustments to reconcile net income (loss) to cash provided by operating activities: | | | | | | | | | | | | | | | Depreciation and amortization | | | 67,379 | | | | 54,522 | | | | 22,476 | | | | Provision for bad debt losses | | | 4,480 | | | | 4,666 | | | | 3,412 | | | | Deferred income tax | | | 10,232 | | | | 201 | | | | 3,388 | | | | Asset impairment | | | — | | | | 11,578 | | | | — | | | | Pension curtailment gain | | | (7,880 | ) | | | — | | | | — | | | | Partnership income | | | (1,809 | ) | | | (1,288 | ) | | | — | | | | Non-cash stock compensation | | | 8,590 | | | | — | | | | — | | | | Minority interest in net income of subsidiary | | | 683 | | | | 327 | | | | — | | | | Penalty on early termination of debt | | | 6,825 | | | | — | | | | — | | | | Amortization of deferred financing costs | | | 5,482 | | | | 6,476 | | | | 504 | | | Changes in operating assets and liabilities: | | | | | | | | | | | | | | | Accounts receivable | | | (6,166 | ) | | | (3,499 | ) | | | (9,799 | ) | | | Inventories | | | 109 | | | | (249 | ) | | | (73 | ) | | | Other assets | | | 156 | | | | 4,401 | | | | (480 | ) | | | Accounts payable | | | 567 | | | | (2,689 | ) | | | (2,267 | ) | | | Accrued expenses and other liabilities | | | (4,886 | ) | | | 6,463 | | | | 6,227 | | | | | | | | | | | | | | | Net cash provided by operating activities | | | 79,300 | | | | 79,766 | | | | 28,889 | | | | | | | | | | | | INVESTING ACTIVITIES | | | | | | | | | | | | | | | Capital expenditures | | | (31,094 | ) | | | (30,010 | ) | | | (11,296 | ) | | | Acquisition, net of cash acquired | | | — | | | | (524,090 | ) | | | (284,836 | ) | | | | | | | | | | | | | | Net cash used in investing activities | | | (31,094 | ) | | | (554,100 | ) | | | (296,132 | ) | | | | | | | | | | | FINANCING ACTIVITIES | | | | | | | | | | | | | | | Proceeds from issuance of stock | | | 67,589 | | | | 89,058 | | | | 93,000 | | | | Proceeds from long-term obligations | | | 5,688 | | | | 637,000 | | | | 190,000 | | | | Payments made on long-term obligations including early termination penalty | | | (86,934 | ) | | | (190,826 | ) | | | (10,193 | ) | | | Payment of deferred financing costs | | | (5,552 | ) | | | (18,956 | ) | | | (4,602 | ) | | | Proceeds from sale of building | | | — | | | | — | | | | 9,180 | | | | Purchase of treasury shares | | | (12 | ) | | | — | | | | — | | | | Dividends on common stock | | | (12,160 | ) | | | — | | | | — | | | | Distribution to preferred shareholders | | | (37,500 | ) | | | — | | | | — | | | | | | | | | | | | | | | Net cash provided by (used in) financing activities | | | (68,881 | ) | | | 516,276 | | | | 277,385 | | | | | | | | | | | | Net increase (decrease) in cash and cash equivalents | | | (20,675 | ) | | | 41,942 | | | | 10,142 | | Cash and cash equivalents at beginning of year | | | 52,084 | | | | 10,142 | | | | — | | | | | | | | | | | | Cash and cash equivalents at end of year | | $ | 31,409 | | | $ | 52,084 | | | $ | 10,142 | | | | | | | | | | | | Supplemental cash flow information | | | | | | | | | | | | | | | Interest paid | | $ | 53,065 | | | $ | 27,758 | | | $ | 11,463 | | | | | | | | | | | | | | Income taxes paid (refunded) | | $ | 613 | | | $ | (509 | ) | | $ | 2,000 | | | | | | | | | | | |
| | | | | | | | | | | | | | | Year Ended December 31, | | | | 2008 | | | 2007 | | | 2006 | | OPERATING ACTIVITIES | | | | | | | | | | | | | Net income | | $ | 12,504 | | | $ | 11,423 | | | $ | 13,267 | | Adjustments to reconcile net income to cash provided by operating activities: | | | | | | | | | | | | | Depreciation and amortization | | | 91,678 | | | | 65,659 | | | | 67,430 | | Loss on extinguishment of debt | | | 9,224 | | | | 10,323 | | | | — | | Deferred income tax | | | (12,032 | ) | | | (4,271 | ) | | | (11,379 | ) | Intangible assets impairment | | | 6,050 | | | | — | | | | 11,240 | | Extraordinary item, net of income tax | | | (7,240 | ) | | | — | | | | — | | Partnership income | | | (2,056 | ) | | | (333 | ) | | | (1,883 | ) | Non-cash stock compensation | | | 1,901 | | | | 4,034 | | | | 2,482 | | Minority interest in net income of subsidiary | | | 863 | | | | 627 | | | | 721 | | Amortization of deferred financing costs | | | 1,431 | | | | 3,128 | | | | 3,260 | | Changes in operating assets and liabilities: | | | | | | | | | | | | | Accounts receivable | | | (1,091 | ) | | | 171 | | | | 1,107 | | Inventories | | | (1,118 | ) | | | (228 | ) | | | (750 | ) | Other assets | | | 5,083 | | | | 5,544 | | | | (3,089 | ) | Accounts payable | | | (5,050 | ) | | | 1,258 | | | | (739 | ) | Accrued expenses and other liabilities | | | (7,736 | ) | | | (15,266 | ) | | | 2,926 | | | | | | | | | | | | Net cash provided by operating activities | | | 92,411 | | | | 82,069 | | | | 84,593 | | | | | | | | | | | | INVESTING ACTIVITIES | | | | | | | | | | | | | Proceeds from sale of investments | | | — | | | | 10,625 | | | | 5,921 | | Proceeds from sale of assets | | | — | | | | — | | | | 815 | | Securities purchased | | | — | | | | (10,625 | ) | | | — | | Acquisition, net of cash acquired | | | — | | | | (271,780 | ) | | | — | | Capital expenditures | | | (48,027 | ) | | | (33,495 | ) | | | (33,388 | ) | | | | | | | | | | | Net cash used in investing activities | | | (48,027 | ) | | | (305,275 | ) | | | (26,652 | ) | | | | | | | | | | | FINANCING ACTIVITIES | | | | | | | | | | | | | Proceeds from issuance of stock | | | — | | | | 12 | | | | — | | Proceeds from long-term obligations | | | 120,000 | | | | 760,000 | | | | 39,000 | | Payments made on long-term obligations | | | (136,337 | ) | | | (464,000 | ) | | | — | | Repayment of North Pittsburgh long-term obligation | | | — | | | | (15,426 | ) | | | — | | Costs paid to issue common stock | | | — | | | | (400 | ) | | | — | | Payment of deferred financing costs | | | (240 | ) | | | (8,988 | ) | | | (262 | ) | Payment of capital lease obligation | | | (971 | ) | | | — | | | | — | | Purchase and retirement of common stock | | | (257 | ) | | | (131 | ) | | | (56,823 | ) | Dividends on common stock | | | (45,449 | ) | | | (40,192 | ) | | | (44,593 | ) | | | | | | | | | | | Net cash provided by (used in) financing activities | | | (63,254 | ) | | | 230,875 | | | | (62,678 | ) | | | | | | | | | | | Net increase (decrease) in cash and cash equivalents | | | (18,870 | ) | | | 7,669 | | | | (4,737 | ) | Cash and cash equivalents at beginning of the year | | | 34,341 | | | | 26,672 | | | | 31,409 | | | | | | | | | | | | Cash and cash equivalents at end of the year | | $ | 15,471 | | | $ | 34,341 | | | $ | 26,672 | | | | | | | | | | | | | | | | | | | | | | | | | Supplemental cash flow information | | | | | | | | | | | | | Interest paid | | $ | 65,061 | | | $ | 44,343 | | | $ | 44,509 | | | | | | | | | | | | Income taxes paid | | $ | 13,540 | | | $ | 13,976 | | | $ | 8,237 | | | | | | | | | | | |
See accompanying notes 7370
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in thousands, except share and per share amounts) 1. Description of Business | | 1. | Description of Business |
Consolidated Communications Holdings, Inc. and its wholly ownedwholly-owned subsidiaries (the “Company”) operatesoperate under the name Consolidated Communications. On July 27, 2005 the Company effected a reorganization pursuant to which Texas Holdings and Homebase Acquisition, LLC, our former parent company, merged with and into Illinois Holdings, and Illinois Holdings changed its name to Consolidated Communications Holdings, Inc. The Company is an established rural local exchange company (“RLEC”) providing communications services to residential and business customers in Illinois, Texas and Texas.Pennsylvania. With approximately 242,000264,323 local access lines, and approximately 39,00074,687 Competitive Local Exchange Carrier (“CLEC”) access line equivalents, 91,817 digital subscriber lines (“DSL”), Consolidated Communicationsand 16,666 digital television subscribers, the Company offers a wide range of telecommunications services, including local dial tone,and long distance service, digital telephone service, commonly known as Voice Over Internet Protocol (“VOIP”) calling, custom calling features, private line services, long distance,dial-up and high-speed Internet access, inside wiring service and maintenance,digital TV, carrier access telephoneservices, network capacity services over a regional fiber optic network, directory publishing and billing and collectionCLEC calling services. In addition, the Company launched its Internet Protocol digital video service (“DVS”) in selected Illinois markets in 2005 and offers wholesale transport services on a fiber optic network in Texas. The Company also operates a number of complementary businesses, including telemarketing and order fulfillment, telephone services to county jails and state prisons, equipment sales, operator services, equipment sales and telemarketingpaging services and order fulfillment services.has investments in several wireless partnerships. | | 2. | Initial Public Offering |
On July 27, 2005, the Company completed the initial public offering2. Summary of its common stock (the “IPO”). The IPO consistedSignificant Accounting Policies
Principles of the sale of 6,000,000 shares of common stock newly issued by the Company and 9,666,666 shares of common stock sold by certain selling stockholders. The shares of common stock were sold at an initial public offering price of $13.00 per share resulting in net proceeds, after deduction of offering costs, to the Company of $67,589. The Company did not receive any proceeds from the sale of common stock by the selling stockholders.consolidation On July 29, 2005, the underwriters notified the Company of their intention to fully exercise their option to purchase an additional 2,350,000 shares of the Company’s common stock from the selling stockholders at the initial public offering price of $13.00 per share, less the underwriters’ discount. The sale of the over-allotment shares closed on August 2, 2005. The Company did not receive any proceeds from the sale of the over-allotment shares by the selling stockholders.
| | 3. | Summary of Significant Accounting Policies |
| | | Principles of Consolidation |
The consolidated financial statements include the accounts of Consolidated Communications Holdings, Inc. and its wholly-owned subsidiaries and subsidiaries in which it has a controlling financial interest. All material intercompany balances and transactions have been eliminated in consolidation. Use of estimates The preparation of financial statements in conformity with accounting principlesUnited States generally accepted in the United Statesaccounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting periods. Actual results could differ from the estimates and assumptions used. 74
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC.Regulatory accounting
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Dollars in thousands, except shareHistorically, the Company’s Illinois and per share amounts)
Certain wholly-owned subsidiaries, Illinois Consolidated Telephone CompanyTexas Incumbent Local Exchange Carrier (“ICTC”), Consolidated Communications of Texas Company and Consolidated Communications of Fort Bend Company, are independent local exchange carriers (“ILECs”ILEC”) which followoperations followed the accounting for regulated enterprises prescribed by Statement of Financial Accounting StandardsSFAS No. 71“Accounting for the Effects of Certain Types of Regulation”Regulation" (“. This accounting recognizes the economic effects of rate regulation by recording costs and a return on investment as such amounts are recovered through rates authorized by regulatory authorities. Recent changes to our operations, however, have impacted the dynamics of the Company’s business environment and caused us to evaluate the applicability of SFAS No 71”).No. 71. In the last half of 2008, we experienced a significant increase in competition in our Illinois and Texas markets as, primarily, our traditional cable competitors started offering voice services. Also, effective July 1, 2008, we made an election to transition from rate of return to price cap regulation at the interstate level for our Illinois and Texas operations. The conversion to price caps gives us greater pricing flexibility, especially in the increasingly competitive special access segment and in launching new products. Additionally, in response to customer demand we have also launched our own VOIP product offering as an alternative to our traditional wireline services. While there has been no material changes in our bundling strategy and or in end-user pricing, our pricing structure is transitioning from being based on the recovery of costs to a pricing structure based on market conditions.
71
Based on the factors impacting its operations, the Company determined in the fourth quarter 2008, that the application of SFAS No. 71 permits rates (tariffs)for reporting its financial results is no longer appropriate. SFAS No. 101“Regulated Enterprises — Accounting for the Discontinuance of Application of FASB Statement No. 71,” specifies the accounting required when an enterprise ceases to be set at levels intended to recover estimated costsmeet the criteria for application of providing regulated services or products, including capital costs.SFAS No. 71. SFAS No. 101 requires the elimination of the effects of any actions of regulators that have been recognized as assets and liabilities in accordance with SFAS No. 71 requiresbut would not have been recognized as assets and liabilities by nonregulated enterprises. Depreciation rates of certain assets established by regulatory authorities for the ILECsCompany’s telephone operations subject to depreciate wireline plant over the useful lives approved by the regulators, which could be different than the useful lives that would otherwise be determined by management. SFAS No. 71 also requires deferralhave historically included a component for removal costs in excess of certain costs and obligations based upon approvals received from regulators to permit recovery of such amounts in future years. Criteria that would give rise to the related estimated salvage value. Upon discontinuance of SFAS No. 71, include (1) increasing competition restricting the wireline business’ ability to establish prices to recover specificCompany reversed the impact of recognizing removal costs and (2) significant changes in excess of the manner byrelated estimated salvage value, which rates are set by regulators from cost-base regulation to another formresulted in recording a non-cash extraordinary gain of regulation.$7,240, net of taxes of $4,154. The gain was recognized in our Telephone Operations segment. Cash equivalents Cash equivalents consist of short-term, highly liquid investments with a remaining maturity of three months or less when purchased. Investments Investments in affiliated companies thatIf the Company does not control but does have the ability tocan exercise significant influence over the operations and financial policies areof an affiliated company, even without control, the investment in the affiliated company is accounted for using the equity method. Investments in equity securities (excluding those describedIf the Company does not have control and also cannot exercise significant influence, the investment in the previous sentence) that have readily determinable fair values are categorized as availableaffiliated company is accounted for sale securities and are carried at fair value. The unrealized gains or losses on securities classified as available for sale are included as a separate component of stockholders’ equity. Investments that do not have readily determinable fair values are carried at cost.using the cost method.
To determine whether an impairment of an investment exists,is impaired, the Company monitors and evaluates the financial performance of theeach business in which it invests and compares the carrying value of the investeeinvestment to quoted market prices if available(if available) or the fair value of similar investments, which ininvestments. In certain circumstance,circumstances, fair value is based on traditional valuation models utilizing a multiple of cash flows. When circumstances indicate that athere has been an other-than-temporary decline in the fair value of the investment, has occurred and the decline is other than temporary, the Company records the decline in value as a realized impairment loss and a reduction in the cost of the investment. Accounts receivable and allowance for doubtful accounts | | | Accounts Receivable and Allowance for Doubtful Accounts |
Accounts receivable consist primarily of amounts due to the Company from normal activities. AccountsA receivable areis determined to be past due when the amount is overdue based on the payment terms with the customer. In certain circumstances, the Company requires deposits from customers to mitigate potential risk associated with receivables. The Company maintains an allowance for doubtful accounts to reflect management’s best estimate of probable losses inherent in the accounts receivable balance. Management determines the allowance balancefor doubtful accounts based on known troubled accounts, historical experience, and other currently available evidence. Accounts receivable are charged to the allowance for doubtful accountswritten off when management of the Company determines that the receivablethey will not be collected. 75
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC.Inventories
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Dollars in thousands, except share and per share amounts)
Inventory consistsInventories consist mainly of copper and fiber cable that will be used for network expansion and upgrades, and materials and equipment used in the maintenanceto maintain and installation ofinstall telephone systems. Inventory isInventories are stated at the lower of cost or market using the average cost or market.method.
Goodwill and other intangible assets | | | Goodwill and Other Intangible Assets |
In accordance with Statement of Financial Accounting Standards No. 142,“Goodwill and Other Intangible Assets”Assets" (“SFAS 142”), goodwill and intangible assets that have indefinite useful lives are not amortized, but rather are tested at least annually for impairment. Tradenames have been determined to have indefinite lives; thus they are not being amortized, but are tested annually for impairment using discounted cash flows based on a relief from royalty method. The Company evaluates the carrying value of goodwill in the fourth quarter of each year. As part of the evaluation, the Companyyear and compares the carrying value for each reporting unit with theirits fair value to determine whether impairment exists. If impairment is determined to exist, any related impairment loss is calculated based upon fair value. Based upon its analysis in the fourth quarter of 2008, the Company recognized an impairment charge $6,050 on the goodwill of its telemarketing and order fulfillment business, Consolidated Communications Market Response, part of the Other Operations segment. 72
SFAS No. 142 also provides that assets whichthat have finite lives should be amortized over their useful lives. Customer lists are being amortized on a straight-line basis over their estimated useful lives (ranging from 5 to 13 years) based upon the Company’s historical experience with customer attritionattrition. In accordance with Statement of Financial Accounting Standards No. 144“Accounting for the Impairment or Disposal of Long-lived Assets", the Company evaluates the potential impairment of finite-lived acquired intangible assets when impairment indicators exist. If the carrying value is no longer recoverable based upon the undiscounted future cash flows of the asset, the amount of the impairment is the difference between the carrying amount and the recommendationfair value of an independent appraiser. The estimated lives range from 10 to 13 years.the asset. Property, plant and equipment | | | Property, Plant, and Equipment |
Property, plant and equipment are recorded at cost. The cost of additions, replacements, and major improvements is capitalized, while repairs and maintenance are charged to expense.expense as incurred. Depreciation is determined based upon the assets’ estimated useful lives using either the group or unit method. The group method is used for depreciable assets dedicated to providing regulated telecommunication services, including the majority of the network and outside plant facilities. Under the group method, a specific asset group has an average life. A depreciation rate for each asset group is developed based on the group’s average useful life for the specific asset group as approved by regulatory agencies.life. This method requires periodic revision of depreciation rates. When an individual asset is sold or retired, under the group method, the difference between the proceeds, if any, and the cost of the asset is charged or credited to accumulated depreciation, without recognition of a gain or loss. The unit method is primarily used for buildings, furniture, fixtures, and other support assets. Under the unit method, assets areEach asset is depreciated on the straight-line basis over theits estimated useful life of the individual asset.life. When an individual asset is sold or retired, under the unit method, the cost basis of the asset and related accumulated depreciation are removed from the accounts and any associated gain or loss is recognized. Estimated useful lives are as follows: | | | | | | | Years | | | | | | Buildings | | | 15-35 | | Network and outside plant facilities | | | 5-305-40 | | Furniture, fixtures, and equipment | | | 3-175-17 | | Capital lease asset | | | 11 | |
76
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC.Revenue recognition
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Dollars in thousands, except share and per share amounts)
Revenue is recognized when evidence of an arrangement exists, the earnings process is complete, the price is fixed or determinable, and collectibility is reasonably assured. The prices for regulated services are filed in tariffs with the appropriate regulatory bodies that exercise jurisdiction over the various services. Marketing incentives, including bundle discounts, are recognized as revenue reductions in the period the service is provided. Local calling services, including local dial tone, enhanced calling features, such as caller name and number identification, special access circuits, long distance flat rateflat-rate calling plans, and most data services are billed to end users in advance. Billed but unearned revenue is deferred and recorded in advance billings and customer deposits. Revenues for providing usage basedusage-based services, such as per minuteper-minute long distance service and access charges billed to other telephone carriers for originating and terminating long distance calls on the Company’s network, are billed in arrears. Revenues for these services are recognized in the period these services are rendered. Earned but unbilled usage basedusage-based services are recorded in accounts receivable. Subsidies, including Universal Serviceuniversal service revenues, are government sponsoredgovernment-sponsored support received in association with providing serviceto subsidize services in mostly rural, high costhigh-cost areas. These revenues typically are typically based on information provided by the Company and are calculated by the administering government agency responsible for administering the support program.agency. Subsidies are recognized in the period the service is provided withprovided; out of period subsidy adjustments are recognized in the period they are deemed probable and estimable. There is a reasonable possibility that out of period subsidy adjustments will be recorded in the future. Out of period subsidy adjustments were $1.1 million, ($2.6) million and ($1.3) million in 2008, 2007 and 2006, respectively. 73
OperatorRevenues from operator services, paging services, telemarketing, and order fulfillment services are recognized monthly as services are provided. Telephone equipment revenues generated from retail channels are recorded at the point of sale. Telecommunications systems and structured cabling project revenues are recognized upon completionwhen the project is completed and billing of the project.billed. Maintenance services are provided on both a contract and time and material basis and are recorded when the service is provided. Print advertising and publishing revenues are recognized ratably over the life of the related directory, generally twelve months. The Company reports taxes imposed by governmental authorities on revenue-producing transactions between the Company and our customers that are within the scope of EITF No. 06-03, “How Taxes Collected from Customers and Remitted to Governmental Authorities Should Be Presented in the Income Statement” in the consolidated financial statements on a net basis. Advertising costs The costs of advertising are charged to expense as incurred. Advertising expenses totaled $1,256, $1,521$2,308 in 2008, $1,944 in 2007, and $1,839$1,266 in 2005, 20042006. Income taxes Consolidated Communications Holdings, Inc. and 2003, respectively. The Company filesits wholly-owned subsidiaries file a consolidated federal income tax return and its majority ownedreturn. The majority-owned subsidiary, East Texas Fiber Line Incorporated (“ETFL”), files a separate federal income tax return. StateSome state income tax returns are filed on a consolidated orbasis; others are filed on a separate legal entity basis depending on the state.basis. Federal and state income tax expense or benefit is allocated to each subsidiary based on separately determined taxable income or loss.
Amounts in the financial statements related to income taxes are calculated in accordance with SFASStatement of Financial Accounting Standards No. 109“Accounting for Income Taxes". On January 1, 2007, the Company adopted FASB Interpretation No. 48“Accounting for Uncertainty in Income Taxes” (“to account for uncertainty in income taxes recognized in the Company’s financial statements in accordance with SFAS No. 109”). 109. For more information, please see Note 10. Deferred income taxes are provided for the temporary differences between assets and liabilities recognized for financial reporting purposes and such amountsassets and liabilities recognized for tax purposes, as well as for operating loss and tax credit carryforwards. Deferred income tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The Company records a valuation allowance for deferred income tax assets when, in the opinion of management, it is more likely than not that deferred tax assets will not be realized. 77
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Dollars in thousands, except share and per share amounts)
Provisions for federal and state income taxes are calculated on reported pre-tax earnings based on current tax law and also may include, in the current period, the cumulative effect of any changes in tax rates from those used previously in determiningto determine deferred tax assets and liabilities. Such provisions may differ from the amounts currently receivable or payable because certain items of income and expense are recognized in differentone time periodsperiod for financial reporting purposes thanand another for income tax purposes. Significant judgment is required in determining income tax provisions and evaluating tax positions. TheEven if the Company establishes reserves for income tax when, despite the belief thatbelieves its tax positions are fully supportable, it will establish reserves for income tax when it is more likely than not there remain certain positionsincome tax contingencies that are probable towill be challenged and possibly disallowed by various authorities.disallowed. The consolidated tax provision and related accruals include the impact of such reasonably estimated losses. To the extent that the probable tax outcomes of these matters change, those changes such changes in estimate will impactalter the income tax provision in the period in which such determination is made. Stock-based compensation The Company maintains a restricted share plan to award certain employeesthat provides for the issuance of the Company restricted common shares of the Company as an incentiveto key employees to motivate them to enhance their long-term performance as well as anand to provide incentive to join or remain with the Company. In December 2004, the Financial Accounting Standards Board (“FASB”) issuedThe Company accounts for share-based compensation under Statement of Financial Accounting Standard (“SFAS”)Standards No. 123 Revised,“Share Based Payment” (“SFAS 123R”),123(R) which replaced SFAS No. 123,“Accounting for Stock-Based Compensation” (“SFAS 123”) and superseded Accounting Principles Board (“APB”) Opinion No. 25,“Accounting for Stock Issued to Employees”. SFAS 123R requires all share-based payments to employees, including grants of employee stock options, to be recognized in the financial statements based on their fair values beginning January 1, 2006, with early adoption encouraged.values. The Company adopted SFAS 123R was adopted by the CompanyNo. 123(R) effective July 1, 2005, using the modified-prospective transition method. Under the guidelines of SFAS 123R,No. 123(R), the Company recognized non-cash stock compensation expense of $8,590 during the second half of 2005.$1,901 in 2008, $4,034 in 2007, and $2,482 in 2006. 74
Financial instruments and derivatives | | | Financial Instruments and Derivatives |
As of December 31, 2005,2008, the Company’s financial instruments consist of cash and cash equivalents, accounts receivable, accounts payable, and long-term debt obligations. At December 31, 20052008, and 20042007, the carrying value of these financial instruments approximated fair value, except for the Company’s senior notes payable.payable, which were retired in April 2008. As of December 31, 2005,2007, the carrying value and fair value of the Company’s senior notes approximated $130,000 and $138,450, respectively, based on quoted market prices.$133,900, respectively. Derivative instruments are accounted for in accordance with Statement of Financial Accounting Standards No. 133 ““Accounting for Derivative Instruments and Hedging Activity”Activity (“SFAS No. 133”)”. SFAS No. 133 provides comprehensive and consistent standards for the recognition and measurement of derivative and hedging activities. It requires that derivatives be recorded on the consolidated balance sheet at fair value and establishes criteria for hedges of changes in fair values of assets, liabilities, or firm commitments,commitments; hedges of variable cash flows of forecasted transactionstransactions; and hedges of foreign currency exposures of net investments in foreign operations. To the extent that the derivatives qualifya derivative qualifies as a cash flow hedge, the gain or loss associated with the effective portion is recorded as a component of Accumulated Other Comprehensive Income (Loss). Changes in the fair value of derivatives that do not meet the criteria for hedges are recognized in the consolidated statements of operations. Upon termination ofWhen an interest rate swap agreements,agreement terminates, any resulting gain or loss is recognized over the shorter of the remaining original term of the hedging instrument or the remaining life of the underlying debt obligation. Since the Company’s interest swap agreements are with major financial institutions, theThe Company does not anticipate any nonperformance by any counterparty. 78
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC.Reclassifications
Certain prior year amounts have been reclassified to conform to the current year’s presentation. These reclassifications had no effect on total assets, total shareholders’ equity, total revenue, income from operations or net income. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)Recent Accounting Pronouncements
(DollarsIn June 2008, FASB issued FASB Staff Position (“FSP”) No. EITF 03-6-1 “Determining Whether Instruments Granted in thousands, except shareShare-Based Payment Transactions are Participating Securities”. This FSP provides that unvested share-based payment awards that contain nonforfeitable rights to dividends or dividend equivalents (whether paid or unpaid) are participating securities and should be included in the computation of earnings per share amounts)
| | | Recent Accounting Pronouncements |
In May 2005,pursuant to the FASB issued SFAS Statement No. 154,“Accounting Changes and Error Corrections”(“SFAS 154”), a replacement of APB Opinion No. 20,���Accounting Changes”, and SFAS Statement No. 3,“Reporting Accounting Changes in Interim Financial Statements” (“SFAS 3”). SFAS 154 replaces the provisions of SFAS 3 with respect to reporting accounting changes in interim financial statements. SFAS 154two-class method. This FSP is effective for accounting changes and corrections of errors made infinancial statements issued for fiscal years beginning after December 15, 2005. Issuers that apply SFAS 154 in an2008, and interim period should provide the applicable disclosures specified in SFAS 154.periods within those years. Early application of this FSP is prohibited. The Company does not expect any material financial statement impact on future results of operations and financial condition.
In December 2008, the FASB issued FSP SFAS 154132(R)-1 (“SFAS 132(R)-1”),“Employers’ Disclosures about Postretirement Benefit Plan Assets”which provides guidance on an employer’s disclosures about plan assets of a defined benefit pension and other postretirement plan. SFAS 132(R)-1 requires employers to disclose the fair value of each major category of plan assets as of each annual reporting date for which a statement of financial position is presented; the inputs and valuation technique used to develop fair value measurements of plan assets at the annual reporting date, including the level within the fair value hierarchy in which the fair value measurements fall as defined by SFAS No. 157; investment policies and strategies, including target allocation percentages; and significant concentrations of risk in plan assets. SFAS 132(R)-1 is effective for fiscal years ending after December 15, 2009 and will significantlynot have impact itson future results of operations and financial statements upon its adoption on January 1, 2006.condition. 75
| | | Acquisition of ICTC and Related Businesses |
On December 31, 2002,In March 2008, the Company, through its wholly owned subsidiary CCI, acquired allFASB issued Statement of the outstanding common stockFinancial Accounting Standards No. 161 (“SFAS No. 161”), “Disclosure about Derivative Instruments and Hedging Activities—an Amendment of ICTC, McLeodUSA Public Services, Inc.,FASB Statement No. 133”. SFAS No. 161 requires entities that utilize derivative instruments to provide qualitative disclosures about their objectives and Consolidated Market Response, Inc,strategies for using such instruments, as well as substantially allany details of credit-risk-related contingent features contained within derivatives. SFAS No. 161 also requires reporting entities to disclose additional information about the amounts and location of derivatives within the financial statements, how the provisions of Statement of Financial Accounting Standards No. 133 “Accounting for Derivative Instruments and Hedging Activities” have been applied, and the impact that hedges have on the entity’s financial position, financial performance, and cash flows. SFAS No. 161 is effective for fiscal years and interim periods beginning after November 15, 2008, with early adoption encouraged. The Company currently provides information about its hedging activities and use of derivatives in its quarterly and annual filings with the SEC, including many of the assetsdisclosure requirements prescribed by SFAS No. 161. While SFAS No. 161 will have an impact on disclosures, it will not have an impact on the Company’s future results of three other related telecom linesoperations and financial condition.
In December 2007, the FASB issued Statement of business (or divisions) which were all owned by McLeodUSAFinancial Accounting Standards No. 160 (“SFAS No. 160”).”Noncontrolling Interests in Consolidated Financial Statements—an Amendment of ARB No. 51”. SFAS No. 160 clarifies that a noncontrolling interest in a consolidated subsidiary should be reported as equity in the consolidated financial statements. It also requires consolidated net income to include the amounts attributable to both the parent and its affiliates.the noncontrolling interest. The purchase priceCompany has adopted SFAS No. 160 effective January 1, 2009. If the Company had adopted SFAS No. 160 as of January 1, 2009, the Company would have reported a noncontrolling interest of $5,185 as a component of equity as of December 31, 2008 and additional earnings attributed to the minority interest of $863 for the businesses acquired totaled $284,834, including acquisition costs, and was funded with proceeds fromyear then ended. The actual impact of adoption will depend upon earnings attributable to minority interest in 2009. In December 2007, the issuanceFASB issued Statement of redeemable preferred stock and debt. The Company accounted forFinancial Accounting Standards No. 141 (revised 2007) (“SFAS No. 141(R)”) “Business Combinations”. SFAS No. 141(R) retains the acquisition usingfundamental requirements of the original pronouncement requiring that the purchase method be used for all business combinations. SFAS No. 141(R) defines the acquirer as the entity that obtains control of accounting; accordinglyone or more businesses in a business combination, establishes the financial statements reflectacquisition date as the allocationdate the acquirer achieves control, and requires the acquirer to recognize the assets acquired, liabilities assumed, and any non-controlling interest at their fair values as of the total purchase priceacquisition date. SFAS No. 141(R) also requires, among other things, that acquisition-related costs be recognized separately from the acquisition. The Company is required to adopt SFAS No. 141(R) effective January 1, 2009, and expects it will affect acquisitions made hereafter, though the net tangibleimpact will depend upon the size and intangible assetsnature of the acquisition. In addition, the $5,740 liability for unrecognized tax benefits discussed in Note 10, as of December 31, 2008 relate to tax positions of acquired basedentities taken prior to their acquisition by the Company. Liabilities settled for lesser amounts will affect the income tax expense in the period of reversal. In September 2006, the FASB issued SFAS No. 157 (“SFAS No. 157”), “Fair Value Measurements.” SFAS No. 157 defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles, and expands disclosures about fair value measurements. The Company has adopted the provisions of SFAS No. 157 as of January 1, 2008, for financial instruments that are required to be measured at fair value on their respectivea recurring basis. SFAS No. 157 establishes a three-tier fair values. The accompanying consolidated financial statements includevalue hierarchy, which prioritizes the inputs used in measuring fair value. These tiers include: Level 1, defined as observable inputs such as quoted prices in active markets; Level 2, defined as inputs other than quoted prices in active markets that are either directly or indirectly observable; and Level 3, defined as unobservable inputs in which little or no market data exists, therefore requiring an entity to develop its own assumptions. For additional information about the impact of SFAS No.157 on the results of operations and financial condition, please refer to Note 15. In September 2006, the FASB issued Statement of Financial Accounting Standards No. 158 “Employers’ Accounting for Defined Benefit Pension and Other Postretirement Plans—an amendment of FASB Statements No. 87, 88, 106, and 132(R)”. SFAS No. 158 requires an entity to (a) recognize in its statement of financial position an asset or an obligation for a defined benefit postretirement plan’s funded status, (b) measure a defined benefit postretirement plan’s assets and obligations that determine its funded status as of the acquired businesses from the date of acquisition. The allocationend of the purchase price toemployer’s fiscal year, and (c) recognize changes in the assets acquiredfunded status of a defined benefit postretirement plan in comprehensive income in the year in which the changes occur. The Company adopted the recognition and liabilities assumed is as follows:
| | | | | Current assets | | $ | 25,802 | | Property, plant and equipment | | | 118,057 | | Customer list | | | 59,517 | | Tradenames | | | 15,863 | | Goodwill | | | 99,554 | | Liabilities assumed | | | (33,959 | ) | | | | | Net purchase price | | $ | 284,834 | | | | | |
Goodwill represents the residual aggregate purchase price after all tangible and identified intangible assets have been valued, offset by the valuerelated disclosure provisions of liabilities assumed. The aggregate purchase price was derived from a competitive bidding process and negotiations and was influenced by our assessment of the value of the overall acquired business. The significant goodwill value reflects our view that the acquired business can generate strong cash flow and sales and earnings following acquisition. In accordance with SFAS No. 142,158 effective December 31, 2006. After combining the tradenamesTexas and goodwill acquired are not amortized but are testedIllinois pension plans on December 31, 2007, the Company adopted the measurement date provisions of SFAS No. 158 effective January 1, 2008, for impairment at least annually. The customer lists are amortized over their weighted average estimated useful livespension and postretirement plans with measurement dates other than December 31, resulting in an increase to opening accumulated deficit on January 1, 2008, of ten years. The Company made an election under the Internal Revenue Code that resulted in the$169 net of tax basis of goodwill and other intangible assets associated with this acquisition to be deductible for tax purposes ratably over a15-year period.$97.
7976
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC.3. Acquisition
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Dollars in thousands, except share and per share amounts)
On April 14, 2004,December 31, 2007, the Company through its wholly owned subsidiary Consolidated Communications Texas Acquisition, Inc. (“Texas Acquisition”), acquired all of the capital stock of TXU Communications Ventures CompanyNorth Pittsburgh Systems, Inc. (“TXUCV”) from Pinnacle One Partners L.P. (“Pinnacle One”North Pittsburgh”). By acquiring all of the capital stock of TXUCV,As a result, the Company acquired substantially allan RLEC that serves portions of the telecommunications assets of TXU Corp., including two rural local exchange carriers (“RLECs”),Allegheny, Armstrong, Butler, and Westmoreland counties in western Pennsylvania; a CLEC that together serve marketsserves small to mid-sized businesses in Conroe, KatyPittsburgh and Lufkin, Texas, a directory publishing business, a transportits surrounding suburbs as well as in Butler County; an Internet Service Provider that furnishes broadband services business that provides connectivity within Texasin western Pennsylvania; and minority interests in twothree cellular partnerships.partnerships and one competitive access provider. The results of operations for North Pittsburgh are included in the Company’s telephone operations segment for December 31, 2007, and thereafter. The Company accounted for the TXUCVNorth Pittsburgh acquisition using the purchase method of accounting. Accordingly, the financial statements reflect the allocation of the total purchase price to the net tangible and intangible assets acquired based on their respective fair values. At the time of the acquisition, 80% of the shares of North Pittsburgh converted into the right to receive $25.00 per share in cash; each of the remaining shares converted into the right to receive 1.1061947 shares of common stock of the Company, or 3,318,480 shares of stock valued at $74,398, net of issuance fees. The total purchase price, including acquisition costs and net of $9,897$32,902 of cash acquired, was allocated according to the following table, which summarizes the fair values of the North Pittsburgh assets acquired and liabilities assumedassumed: | | | | | Current assets | | $ | 17,729 | | Property, plant and equipment | | | 116,308 | | Customer list | | | 49,000 | | Goodwill | | | 214,562 | | Investments and other assets | | | 53,360 | | Liabilities assumed | | | (103,933 | ) | | | | | Net purchase price | | $ | 347,026 | | | | | |
Because of the proximity of this transaction to the prior year-end, the values of certain assets and liabilities were based on preliminary valuations and were subject to adjustment as follows:additional information was obtained. Adjustments of $173 were made to goodwill during the year ended December 31, 2008. The adjustments consist of $448 in additional acquisition costs incurred, a $333 adjustment to the capital lease liability and ($608) in liabilities assumed. | | | | | Current assets | | $ | 27,478 | | Property, plant and equipment | | | 264,576 | | Customer list | | | 108,200 | | Goodwill | | | 224,554 | | Other assets | | | 43,291 | | Liabilities assumed | | | (144,009 | ) | | | | | Net purchase price | | $ | 524,090 | | | | | |
The aggregate purchase price was derived fromthrough a competitive bidding process and negotiationsnegotiated bid and was influenced by the Company’s assessment of the value of the overall TXUCVNorth Pittsburgh business. The significant goodwill value reflects the Company’s view that the TXUCVNorth Pittsburgh business cancould generate strong cash flow and sales and earnings following the acquisition. All of the goodwill recorded as part of this acquisition is allocated to the telephone operationsTelephone Operations segment. In accordance with SFAS 142, the $224,554 in goodwill recorded as part of the TXUCV acquisition is not being amortized, but is tested for impairment at least annually. The customer list is being amortized over its estimated useful life of thirteenfive years. The goodwill and other intangibles associated with this acquisition didwere not qualify under the Internal Revenue Code as deductible for tax purposes. TheBecause the acquisition occurred on December 31, 2007, the Company’s consolidated financial statements prior to 2008 do not include the results of operations for the TXUCV acquisition since the April 14, 2004, acquisition date.North Pittsburgh. Unaudited pro forma results of operations data for the yearyears ended December 31, 20042007, and 2006, as if the acquisition had occurred at the beginning of the period presented are as follows:
| | | | | Total revenues | | $ | 323,463 | | | | | | Income from operations | | $ | 37,533 | | | | | | Proforma net loss | | $ | (2,956 | ) | | | | | Proforma net loss applicable to common shareholders | | $ | (20,146 | ) | | | | | Loss per share — basic and diluted | | $ | (2.24 | ) | | | | |
| | | | | | | | | | | December 31 | | | | 2007 | | | 2006 | | Total revenues | | $ | 424,917 | | | $ | 424,232 | | | | | | | | | Income from operations | | $ | 59,752 | | | $ | 67,696 | | | | | | | | | Proforma net income | | $ | 5,592 | | | $ | 26,888 | | | | | | | | | Income per share — basic | | $ | 0.19 | | | $ | 0.87 | | | | | | | | | Income per share — diluted | | $ | 0.19 | | | $ | 0.85 | | | | | | | | |
8077
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC.4. Prepaids and other current assets
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Dollars in thousands, except share and per share amounts)
| | 5. | Prepaids and other current assets |
Prepaids and other current assets consist of the following: | | | | | | | | | | | December 31, | | | | | | | | 2005 | | | 2004 | | | | | | | | | Deferred charges | | $ | 431 | | | $ | 1,637 | | Prepaid expenses | | | 4,385 | | | | 3,492 | | Other current assets | | | 776 | | | | 1,050 | | | | | | | | | | | $ | 5,592 | | | $ | 6,179 | | | | | | | | |
| | | | | | | | | | | December 31, | | | | 2008 | | | 2007 | | Deferred charges | | $ | 981 | | | $ | 1,334 | | Prepaid expenses | | | 5,913 | | | | 7,864 | | Other current assets | | | 37 | | | | 1,160 | | | | | | | | | | | $ | 6,931 | | | $ | 10,358 | | | | | | | | |
6.5. Property, plant and equipment
Property, plant and equipment, net consist of the following: | | | | | | | | | | | | December 31, | | | | | | | | 2005 | | | 2004 | | | | | | | | | Property, plant and equipment: | | | | | | | | | | Land and buildings | | $ | 48,015 | | | $ | 49,567 | | | Network and outside plant facilities | | | 657,308 | | | | 641,913 | | | Furniture, fixtures and equipment | | | 75,161 | | | | 68,360 | | | Work in process | | | 6,480 | | | | 7,783 | | | | | | | | | | | | 786,964 | | | | 767,623 | | | Less: accumulated depreciation | | | (451,876 | ) | | | (406,863 | ) | | | | | | | | Net property, plant and equipment | | $ | 335,088 | | | $ | 360,760 | | | | | | | | |
| | | | | | | | | | | December 31, | | | | 2008 | | | 2007 | | Property, plant and equipment: | | | | | | | | | Land and buildings | | $ | 65,840 | | | $ | 65,128 | | Network and outside plant facilities | | | 808,886 | | | | 781,684 | | Furniture, fixtures and equipment | | | 83,889 | | | | 79,944 | | Assets under capital leases | | | 5,144 | | | | 6,032 | | Work in process | | | 10,540 | | | | 10,251 | | | | | | | | | | | | 974,299 | | | | 943,039 | | Less: accumulated depreciation | | | (574,013 | ) | | | (531,392 | ) | | | | | | | | Net property, plant and equipment | | $ | 400,286 | | | $ | 411,647 | | | | | | | | |
Depreciation expense totaled $53,089, $42,652$69,516 in 2008, $52,797 in 2007, and $16,518$53,170 in 2005, 2004 and 2003, respectively.2006. 6. Investments Investments consist of the following: | | | | | | | | | | | | December 31, | | | | | | | | 2005 | | | 2004 | | | | | | | | | Cash surrender value of life insurance policies | | $ | 1,259 | | | $ | 1,708 | | Cost method investments: | | | | | | | | | | GTE Mobilnet of South Texas Limited Partnership | | | 21,450 | | | | 21,450 | | | Rural Telephone Bank stock | | | 5,921 | | | | 5,921 | | | CoBank, ACB stock | | | 2,071 | | | | 1,879 | | | Other | | | 19 | | | | 19 | | Equity method investments: | | | | | | | | | | GTE Mobilnet of Texas RSA #17 Limited Partnership (17.02% owned) | | | 13,175 | | | | 11,759 | | | Fort Bend Fibernet Limited Partnership (39.06% owned) | | | 161 | | | | 148 | | | | | | | | | | | $ | 44,056 | | | $ | 42,884 | | | | | | | | |
| | | | | | | | | | | December 31, | | | | 2008 | | | 2007 | | Cash surender value of life insurance policies | | $ | 1,779 | | | $ | 2,566 | | Cost method investments: | | | | | | | | | GTE Mobilnet of South Texas Limited Partnership | | | 21,450 | | | | 21,450 | | Pittsburgh SMSA Limited Partnership | | | 22,950 | | | | 22,950 | | CoBank, ACB stock | | | 2,651 | | | | 2,388 | | Other | | | 10 | | | | 18 | | Equity method investments: | | | | | | | | | GTE Mobilnet of Texas RSA #17 Limited Partnership (17.02% owned) | | | 17,116 | | | | 15,359 | | Pennsylvania RSA 6(I) Limited Partnership (16.6725% owned) | | | 7,276 | | | | 7,102 | | Pennsylvania RSA 6(II) Limited Partnership (23.67% owned) | | | 22,267 | | | | 21,949 | | Boulevard Communications, LLP (50% owned) | | | 158 | | | | 167 | | Fort Bend Fibernet Limited Partnership (39.06% owned) | | | — | | | | 193 | | | | | | | | | | | $ | 95,657 | | | $ | 94,142 | | | | | | | | |
8178
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC.CoBank is a cooperative bank, owned by its customers. Annually, CoBank distributes patronage in the form of cash and stock in the cooperative based on the Company’s outstanding loan balance with CoBank, who has traditionally been a significant lender in the Company’s credit facility. The investment in CoBank represents the accumulation of the equity patronage paid by CoBank to the Company. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Dollars in thousands, except share and per share amounts)
The Company has aowns 2.34% ownership of GTE Mobilnet of South Texas Limited Partnership (the “Mobilnet South Partnership”). The principal activity of the Mobilnet South Partnership is providing cellular service in the Houston, Galveston, and Beaumont, Texas metropolitan areas. The Rural Telephone Bank stock consists of 5,921 shares of $1,000 par value Class C stock which is stated at original cost plus a gain recognized at conversion of Class B to Class C. The Company anticipatesalso owns 3.60% of Pittsburgh SMSA Limited Partnership (“Pittsburgh SMSA”), which provides cellular service in and around the Pittsburgh metropolitan area. Because of its Rural Telephone Bank stock will be redeemed in 2006 atlimited influence over these partnerships, the current carrying value of $5,921.Company accounts for both under the cost method.
The Company has aowns 17.02% ownership of GTE Mobilnet of Texas RSA #17 Limited Partnership (the “Mobilnet (“RSA Partnership”17”). The principal activity of the Mobilnet RSA Partnership17 is providing cellular service to a limited rural area in Texas. The Company also owns 16.6725% of Pennsylvania RSA 6(I) Limited Partnership (“RSA 6(I)”), and 23.67% of Pennsylvania RSA 6(II) Limited Partnership (“RSA 6(II)”). These limited partnerships provide cellular service in and around the Company’s Pennsylvania service territory. In addition, the Company has a 50% ownership interest in Boulevard Communications, LLP, a competitive access provider in western Pennsylvania. The Company has some influence onover the operating and financial policies of this partnershipthese four entities, and accounts for this investment onthe investments using the equity basis.method. Summarized financial information for the Mobilnet RSA Partnership was as follows: | | | | | | | | | | | 2005 | | | 2004 | | | | | | | | | For the year ended December 31: | | | | | | | | | Total revenues | | $ | 42,032 | | | $ | 35,203 | | Income from operations | | | 10,959 | | | | 9,636 | | Income before income taxes | | | 11,260 | | | | 10,116 | | Net income | | | 11,260 | | | | 10,116 | | As of December 31: | | | | | | | | | Current assets | | | 10,140 | | | | 6,443 | | Non-current assets | | | 29,183 | | | | 22,494 | | Current liabilities | | | 2,722 | | | | 1,733 | | Non-current liabilities | | | 137 | | | | — | | Partnership equity | | | 36,464 | | | | 27,204 | |
| | | | | | | | | | | | | | | 2008 | | | 2007 | | | 2006 | | For the year ended December 31: | | | | | | | | | | | | | Total revenues | | $ | 212,498 | | | $ | 180,412 | | | $ | 49,298 | | Income from operations | | | 50,479 | | | | 41,682 | | | | 15,161 | | Income before income taxes | | | 50,479 | | | | 42,680 | | | | 15,633 | | Net income | | | 50,619 | | | | 42,680 | | | | 15,633 | | | | | | | | | | | | | | | As of December 31: | | | | | | | | | | | | | Current assets | | | 33,586 | | | | 31,049 | | | | 14,409 | | Non-current assets | | | 74,521 | | | | 64,172 | | | | 34,399 | | Current liabilities | | | 8,937 | | | | 8,869 | | | | 1,844 | | Non-current liabilities | | | 567 | | | | 468 | | | | 246 | | Partnership equity | | | 98,603 | | | | 85,885 | | | | 46,097 | |
The Company received partnership distributions totaling $379$7,892, $1,872 and $418$1,099 from its equity method investments in 20052008, 2007 and 2004,2006, respectively. 7. Minority Interest East Texas Fiber Line, Inc. (“ETFL”)ETFL is a joint venture owned 63% by the Company and 37% by Eastex Celco. ETFL provides connectivity to certain customers within Texas over a fiber optic transport network.
8. Goodwill and Other Intangible Assets | | 9. | Goodwill and Other Intangible Assets |
In accordance with SFAS No. 142, goodwill and tradenames are not amortized but are subject to an annual impairment test,testing—either annually, or to more frequent testingfrequently if circumstances indicate that they may be impaired.impairment. In December 2004,2008, the Company completed its annual impairment test relying primarily on a discounted cash flow valuation technique and determined that goodwill was impaired in one of itsthe Market Response reporting unitsunit within the Other Operations segment because of a decline in fair value due to underperformance of the Company, andbusiness. As a resulting goodwillresult, an impairment charge of $10,147$6,050 was recognized. The goodwill impairment was limited to the Company’s Operator Services reporting unit, and was due to a decline in current and projected cash flows for this reporting unit. In December 2005, the Company completed its annual impairment test, using a discounted cash flow method,2007 and the test2006, similar testing indicated no impairment of goodwill existed. 8279
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Dollars in thousands, except share and per share amounts)
The following table presents the carrying amount of goodwill by segment: | | | | | | | | | | | | | | | Telephone | | | Other | | | | | | Operations | | | Operations | | | Total | | | | | | | | | | | | Balance at January 1, 2004 | | $ | 78,443 | | | $ | 21,111 | | | $ | 99,554 | | Impairment | | | — | | | | (10,147 | ) | | | (10,147 | ) | Finalization of ICTC and related businesses purchase accounting | | | 2,292 | | | | (2,010 | ) | | | 282 | | TXUCV acquisition | | | 228,792 | | | | — | | | | 228,792 | | | | | | | | | | | | Balance at December 31, 2004 | | | 309,527 | | | | 8,954 | | | | 318,481 | | Finalization of TXUCV purchase accounting and other adjustments, net | | | (4,238 | ) | | | — | | | | (4,238 | ) | | | | | | | | | | | Balance at December 31, 2005 | | $ | 305,289 | | | $ | 8,954 | | | $ | 314,243 | | | | | | | | | | | |
| | | | | | | | | | | | | | | Telephone | | | Other | | | | | | | Operations | | | Operations | | | Total | | Balance at December 31, 2006 | | $ | 308,850 | | | $ | 7,184 | | | $ | 316,034 | | Utilization and release of NOL valuation allowance | | | (3,984 | ) | | | — | | | | (3,984 | ) | Purchase of North Pittsburgh | | | 214,389 | | | | — | | | | 214,389 | | | | | | | | | | | | Balance at December 31, 2007 | | | 519,255 | | | | 7,184 | | | | 526,439 | | Adjustment to purchase of North Pittsburgh | | | 173 | | | | — | | | | 173 | | Impairment | | | — | | | | (6,050 | ) | | | (6,050 | ) | | | | | | | | | | | Balance at December 31, 2008 | | $ | 519,428 | | | $ | 1,134 | | | $ | 520,562 | | | | | | | | | | | |
The Company’s most valuable tradename is the federally registered mark CONSOLIDATED, which is used in association with our telephone communication services and is a design of interlocking circles. The Company’s corporate branding strategy leverages a CONSOLIDATED naming structure. All business units and several product/names of products and services names incorporate the CONSOLIDATED name. These tradenames are indefinitely renewable intangibles. The carrying value of the tradenames totaled $14,291 at December 31, 2008 and 2007. In December 2004, the Company completed its annual impairment test2008 and determined that the recorded value of its tradename was impaired in two of its reporting units within the Other Operations segment of the Company, and a resulting impairment charge of $1,431 was recognized. The tradename impairment was limited to the Company’s Operator Services and Mobile Services reporting units, and was due to lower than previously anticipated revenues within these two reporting units. In December 2005,2007, the Company completed its annual impairment test using discounted cash flows based on a relief from royalty method and the test indicateddetermined that there was no impairment of the tradenames existed. The carryingCompany’s tradenames. In December 2006, similar testing indicated that the recorded value of tradenames was impaired in the Company’s tradenames totaled $14,546 at both December 31, 2005 and 2004 and was allocated to the business segments as follows: $10,046 to the Telephone Operations and $4,500 toOperator Services reporting unit within the Other Operations.Operations segment. As a result an impairment charge of $255 was recognized. The 2006 tradenames impairment was due to lower than previously anticipated revenues with the Operator Services reporting unit.
The Company’s customer lists consist of an established core base of customers that subscribe to its services. In December 2006, the Company identified a decline in current and projected cash flows from customers within two reporting units—Operator Services and Telemarketing Services—both within the Other Operations segment. The Company completed an impairment test and determined that the value of its customer list was partially impaired, and recognized an impairment charge of $10,985. The carrying amount of customer lists is as follows: | | | | | | | | | | | December 31, | | | | | | | | 2005 | | | 2004 | | | | | | | | | Gross carrying amount | | $ | 167,633 | | | $ | 167,633 | | Less: accumulated amortization | | | (32,118 | ) | | | (17,828 | ) | | | | | | | | Net carrying amount | | $ | 135,515 | | | $ | 149,805 | | | | | | | | |
| | | | | | | | | | | December 31, | | | | 2008 | | | 2007 | | Gross carrying amount | | $ | 205,648 | | | $ | 205,648 | | Less: accumulated amortization | | | (81,399 | ) | | | (59,237 | ) | | | | | | | | Net carrying amount | | $ | 124,249 | | | $ | 146,411 | | | | | | | | |
The net carrying value of the customer lists was allocated to the business segments as follows: $122,464 to Telephone Operations and $1,785 to Other Operations as of December 31, 2008 and $144,161 to Telephone Operations and $2,250 to Other Operations as of December 31, 2007. The aggregate amortization expense associated with customer lists was $22,163 for the yearsyear ended December 31, 2005, 20042008, $12,862 for 2007, and 2003 was $14,290, $11,870 and $5,958, respectively. Customer lists are$14,260 for 2006. The net carrying value at December 31, 2008 is being amortized using a weighted average life of 11.7approximately 6.4 years. The estimated annualfuture amortization expense is $14,290 for each of the next five years.follows: | | | | | Calendar 2009 | | $ | 22,163 | | Calendar 2010 | | | 22,138 | | Calendar 2011 | | | 22,138 | | Calendar 2012 | | | 22,138 | | Calendar 2013 | | | 8,323 | | Thereafter | | | 27,349 | | | | | | | | $ | 124,249 | | | | | |
| | 10. | Affiliated Transactions |
80
Prior to the IPO, the Company and certain of its subsidiaries maintained two professional services fee agreements. The agreements required the Company to pay to 9. Affiliated Transactions Richard A. Lumpkin, Chairman of the 83
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Dollars in thousands, except share and per share amounts)
Company, Providence Equity and Spectrum Equity professional services fees to be divided equally among them, for consulting, advisory and other professional services provided to the Company. The Company recognized fees totaling $2,867, $4,135 and $2,000 in 2005, 2004 and 2003, respectively, associated with these agreements. These fees are included in selling, general and administrative expenses in the Consolidated Statements of Operations. Effective July 27, 2005, in connection with the IPO, these agreements were cancelled. Agracel, Inc., or Agracel, is a real estate investment company of which Mr. Lumpkin, together with his family, beneficially owns 49.7%. In addition, of Agracel, Inc. (“Agracel”), a real estate investment company. Mr. Lumpkin also is a director of Agracel.
Agracel is the sole managing member and 50% owner of LATEL LLC.LLC (“LATEL”). Mr. Lumpkin directly owns the remaining 50% of LATEL. Effective December 31, 2002, theThe Company sold five of its buildings and associated land to LATEL, LLC for the aggregate purchase price of $9,180, and then entered into an agreement to leaseback the same facilities for generalleases certain office and warehouse functions.space from LATEL. The leases are triple net lease thatleases require the Company to continue to pay substantially all expenses associated with general maintenance and repair, utilities, insurance, and taxes.taxes associated with the leased facilities. The Company recognized operating lease expensesrent expense of $1,285, $1,251$1,387 in 2008, $1,352 in 2007, and $1,221 during 2005, 2004 and 2003, respectively,$1,320 in 2006 in connection with the LATELthese operating leases. There iswas no associated lease payable balance outstanding at December 31, 2005.2008, or 2007. The leases expire on September 11, 2011.in July 2011 but contain provisions for automatic renewal of one year terms through 2013. Agracel is the sole managing member and 66.7% owner of MACC, LLC (“MACC”). Mr. Lumpkin, together with his family, owns the remainder of MACC. In 1997, a subsidiary of theThe Company entered into a lease agreement to rentleases certain office space for a period of five years. The parties extended the lease for an additional five years beginning October 14, 2002.from MACC. The Company recognized rent expense in the amount of $139 in 2005$192, $155, and $123 in both 2004$132 during 2008, 2007 and 20032006, respectively, in connection with the MACC lease.this lease, which expires in August 2012. Mr. Lumpkin, together with members of his family, beneficially owns 100% of SKL Investment Group, LLC (“SKL”). The Company charged SKL $77$45 in both 20052008, 2007 and 2004 and $74 in 20032006, respectively, for use of office space, computers, telephone service, and for other office relatedoffice-related services. Mr. Lumpkin also has an ownership interest in First Mid-Illinois Bancshares, Inc. (“First Mid-Illinois”), which provides the Company with general banking services, including depository, disbursement, and payroll accounts and retirement plan administrative services, on terms comparable to those available to other large business accounts. The Company provides certain telecommunications products and services to First Mid-Illinois. Those services areMid-Illinois based upon standard prices for strategic business customers. Following is a summary of the transactions between the Company and First Mid-Illinois: | | | | | | | | | | | | | | | | Year Ended | | | | December 31, | | | | | | | | 2005 | | | 2004 | | | 2003 | | | | | | | | | | | | Fees charged from First Mid-Illnois for: | | | | | | | | | | | | | | Banking fees | | $ | 6 | | | $ | 5 | | | $ | 2 | | | 401K plan administration | | | 69 | | | | 77 | | | | 46 | | Interest income earned by the Company on deposits at First Mid-Illinois | | | 443 | | | | 170 | | | | 97 | | Fees charged by the Company to First Mid-Illinois for telecommunication services | | | 514 | | | | 476 | | | | 437 | |
| | | | | | | | | | | | | | | Year ended December 31, | | | | 2008 | | | 2007 | | | 2006 | | Fees charged from First Mid-Illnois for: | | | | | | | | | | | | | Banking fees | | $ | 11 | | | $ | 10 | | | $ | 10 | | 401K plan adminstration | | | 65 | | | | 81 | | | | 100 | | Interest income earned by the Company on deposits at First Mid-Illinois | | | 48 | | | | 174 | | | | 206 | | Fees charged by the Company to First Mid-Illinois for telecommunication services | | | 482 | | | | 465 | | | | 542 | |
In 2008, the Checkley Agency, a wholly-owned insurance brokerage subsidiary of First Mid-Illinois, received a $145 commission relating to insurance and risk management services provided to the Company. 8481
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC.10. Income Taxes
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Dollars in thousands, except share and per share amounts)
The components of the income tax provision are as follows: | | | | | | | | | | | | | | | | Year Ended December 31, | | | | | | | | 2005 | | | 2004 | | | 2003 | | | | | | | | | | | | Current: | | | | | | | | | | | | | | Federal | | $ | 240 | | | $ | 393 | | | $ | — | | | State | | | 1,042 | | | | 673 | | | | — | | | | | | | | | | | | | | | 1,282 | | | | 1,066 | | | | — | | | | | | | | | | | | Deferred: | | | | | | | | | | | | | | Federal | | | 4,972 | | | | (305 | ) | | | 3,252 | | | State | | | 4,681 | | | | (529 | ) | | | 465 | | | | | | | | | | | | | | | 9,653 | | | | (834 | ) | | | 3,717 | | | | | | | | | | | | Income tax expense | | $ | 10,935 | | | $ | 232 | | | $ | 3,717 | | | | | | | | | | | |
Following | | | | | | | | | | | | | | | Year Ended December 31, | | | | 2008 | | | 2007 | | | 2006 | | Current: | | | | | | | | | | | | | Federal | | $ | 12,519 | | | $ | 7,790 | | | $ | 10,152 | | State | | | 6,152 | | | | 1,155 | | | | 1,632 | | | | | | | | | | | | | | | 18,671 | | | | 8,945 | | | | 11,784 | | | | | | | | | | | | | | | Deferred: | | | | | | | | | | | | | Federal | | | (9,650 | ) | | | (1,523 | ) | | | (4,568 | ) | State | | | (2,382 | ) | | | (2,748 | ) | | | (6,811 | ) | | | | | | | | | | | | | | (12,032 | ) | | | (4,271 | ) | | | (11,379 | ) | | | | | | | | | | | Income tax expense | | $ | 6,639 | | | $ | 4,674 | | | $ | 405 | | | | | | | | | | | |
The following is a reconciliation between the statutory federal income tax rate and the Company’s overall effective tax rate: | | | | | | | | | | | | | | | Year Ended December 31, | | | | | | | | 2005 | | | 2004 | | | 2003 | | | | | | | | | | | | Statutory federal income tax rate (benefit) | | | 35.0 | % | | | (35.0 | )% | | | 35.0 | % | State income taxes, net of federal benefit | | | 5.7 | | | | 15.1 | | | | 5.0 | | Stock compensation | | | 46.4 | | | | — | | | | — | | Litigation settlement | | | 16.6 | | | | — | | | | — | | Life insurance proceeds | | | (15.0 | ) | | | — | | | | — | | Other permanent differences | | | 4.6 | | | | 28.8 | | | | — | | Derivative instruments | | | — | | | | 24.6 | | | | — | | Change in valuation allowance | | | 4.9 | | | | (5.7 | ) | | | — | | Change in deferred tax rate | | | 71.3 | | | | — | | | | — | | Other | | | (0.6 | ) | | | (2.2 | ) | | | 0.3 | | | | | | | | | | | | | | | 168.9 | % | | | 25.6 | % | | | 40.3 | % | | | | | | | | | | |
| | | | | | | | | | | | | | | Year Ended December 31, | | | | 2008 | | | 2007 | | | 2006 | | Statutory federal income tax rate | | | 35.0 | % | | | 35.0 | % | | | 35.0 | % | State income taxes, net of federal benefit | | | 27.0 | | | | 2.5 | | | | 2.1 | | Stock compensation | | | 1.7 | | | | 4.7 | | | | 6.4 | | Other permanent differences | | | 4.3 | | | | 1.9 | | | | 3.3 | | Change in tax law | | | — | | | | (10.7 | ) | | | (45.8 | ) | Change in deferred tax rate | | | (9.9 | ) | | | (5.4 | ) | | | 2.0 | | Other | | | (2.3 | ) | | | 1.0 | | | | — | | | | | | | | | | | | | | | 55.8 | % | | | 29.0 | % | | | 3.0 | % | | | | | | | | | | |
Cash paid (refunded) for federal and state income taxes was $613, $(509)$13,540 during 2008, $13,976 during 2007, and $2,000$8,237 during 2005, 2004 and 2003, respectively.2006. 8582
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC.Deferred Tax Assets
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Dollars in thousands, except share and per share amounts)
Net deferred taxes consist of the following components: | | | | | | | | | | | | December 31, | | | | | | | | 2005 | | | 2004 | | | | | | | | | Current deferred tax assets: | | | | | | | | | | Reserve for uncollectible accounts | | $ | 1,060 | | | $ | 1,020 | | | Accrued vacation pay deducted when paid | | | 1,215 | | | | 1,504 | | | Accrued expenses and deferred revenue | | | 836 | | | | 754 | | | | | | | | | | | | 3,111 | | | | 3,278 | | | | | | | | | Noncurrent deferred tax assets: | | | | | | | | | | Net operating loss carryforwards | | | 18,588 | | | | 21,866 | | | Derivative instruments | | | — | | | | — | | | Goodwill and other intangibles | | | — | | | | 846 | | | Pension and postretirement obligations | | | 21,029 | | | | 23,402 | | | Minimum tax credit carryforward | | | 1,045 | | | | 806 | | | Valuation allowance | | | (16,040 | ) | | | (17,136 | ) | | | | | | | | | | | 24,622 | | | | 29,784 | | | | | | | | | Noncurrent deferred tax liabilities: | | | | | | | | | | Goodwill and other intangibles | | | (36,862 | ) | | | — | | | Derivative instruments | | | (1,443 | ) | | | (547 | ) | | Partnership investment | | | (7,070 | ) | | | (6,898 | ) | | Property, plant and equipment | | | (43,727 | ) | | | (87,348 | ) | | Basis in investment | | | (1,748 | ) | | | (1,632 | ) | | | | | | | | | | | (90,850 | ) | | | (96,425 | ) | | | | | | | | Net non-current deferred tax liabilities | | | (66,228 | ) | | | (66,641 | ) | | | | | | | | Net deferred income tax assets (liabilities) | | $ | (63,117 | ) | | $ | (63,363 | ) | | | | | | | |
In assessing | | | | | | | | | | | Year Ended December 31, | | | | 2008 | | | 2007 | | Current deferred tax assets: | | | | | | | | | Reserve for uncollectible accounts | | $ | 862 | | | $ | 877 | | Accrued vacation pay deducted when paid | | | 1,200 | | | | 1,259 | | Accrued expenses and deferred revenue | | | 1,538 | | | | 2,415 | | | | | | | | | | | | 3,600 | | | | 4,551 | | | | | | | | | | | Noncurrent deferred tax assets: | | | | | | | | | Net operating loss carryforwards | | | 1,998 | | | | 5,968 | | Pension and postretirement obligations | | | 40,184 | | | | 25,161 | | Stock compensation | | | 251 | | | | 158 | | Derivative instruments | | | 17,321 | | | | 4,657 | | State tax credit carryforward | | | 2,450 | | | | 2,441 | | Valuation Allowance | | | — | | | | (2,871 | ) | | | | | | | | | | | 62,204 | | | | 35,514 | | | | | | | | | | | Noncurrent deferred tax liabilities: | | | | | | | | | Goodwill and other intangibles | | | (44,487 | ) | | | (50,483 | ) | Partnership investment | | | (22,203 | ) | | | (22,096 | ) | Property, plant and equipment | | | (53,648 | ) | | | (60,224 | ) | | | | | | | | | | | (120,338 | ) | | | (132,803 | ) | | | | | | | | Net non-current deferred tax liabilities | | | (58,134 | ) | | | (97,289 | ) | | | | | | | | Net deferred income tax liabilities | | $ | (54,534 | ) | | $ | (92,738 | ) | | | | | | | |
Deferred income taxes are provided for the realizabilitytemporary differences between assets and liabilities recognized for financial reporting purposes and assets and liabilities recognized for tax purposes. The ultimate realization of deferred tax assets depends upon taxable income during the future periods in which those temporary differences become deductible. To determine whether deferred tax assets can be realized, management considersassesses whether it is more likely than not that some portion or all of the deferred tax assets will not be realized. The ultimate realization of deferred tax assets is dependent upon the generation of future taxable income during the periods in which those temporary differences become deductible. Management considersrealized, taking into consideration the scheduled reversal of deferred tax liabilities, projected future taxable income, and tax planning strategies in making this assessment. In order to fully realize the gross deferred tax assets, the Company will need to generate future taxable income in increments sufficient to recognize net operating loss carryforwards prior to expiration as described below. strategies. Based upon the level of historical taxable income and projections for future taxable income over the periods that the deferred tax assets are deductible, management believes it is more likely than not that the Company will realize the benefits of these deductible differences, net oftemporary differences. However, management may reduce the existing valuation allowance at December 31, 2005. The amount of the deferred tax assets consideredit considers realizable however, could be reduced in the near term if estimates of future taxable income during the carry forwardcarryforward period are reduced. There is an annual limitation on the use of the NOL carryforwards, however theThe amount of projected future taxable income is expected to allow for the full utilization of the NOLnet operating loss (NOL) carryforwards (excluding those attributable to ETFL as described below).below. Consolidated Communications Holdings, and its wholly owned subsidiaries,Inc. which filefiles a consolidated federal income tax return estimates itwith its wholly-owned subsidiaries has availablefully utilized its NOL carryforwardsas of approximately $32,417 for federal income tax purposes and $124,769 for state income tax purposes to offset against future taxable 86
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC.December 31, 2008.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Dollars in thousands, except share and per share amounts)
income. The federal NOL carryforwards expire from 2021 to 2024 and state NOL carryforwards expire from 2006 to 2016.
East Texas Fiber Line Incorporated (“ETFL”),ETFL, a nonconsolidated subsidiary for federal income tax return purposes, estimates it has available NOL carryforwards at December 31, 2008 of approximately $7,415$3,327 for federal income tax purposes and $4,054 for state income tax purposes to offset against future taxable income. TheDuring 2008 ETFL’s NOL and related valuation allowance was reduced by $3,831 for the portion of the NOL determined not to be utilizable due to limitations as prescribed by §382 of the Internal Revenue Code. ETFL’s federal NOL carryforwards expire from 20082009 to 2024 and state NOL carryforwards expire from 2006 to 2009.2024.
The valuation allowance is primarily attributed to federal and state tax loss carryforwards andDuring 2008 the deferred tax asset related to ETFL,state income tax NOL carryforwards and related valuation allowance totaling $1,530 that was recorded as a result of the acquisition of North Pittsburgh Systems, Inc. and Subsidiaries was reduced by $633 for which no tax benefit is expectedthe portion of the NOL determined not to be utilized. If it becomes evident that sufficientutilizable due to limitations as prescribed by §382 of the Internal Revenue Code and as adopted by the state of Pennsylvania. In addition, the valuation allowance on state NOL carryforwards was reduced by $834 for the portion of the NOL determined to be fully utilizable based on taxable income will be availableprojections for the periods in which the jurisdictions where these deferred tax assets exist,are deductible. As a result of these adjustments, the 2007 NOL utilization provision to return adjustments and the 2008 projected utilization of state NOLs, the Company would release theestimates it has available state NOL carryforwards at December 31, 2008 of approximately $12,839 and related deferred tax assets of $834. The valuation allowance accordingly.
If subsequently recognized, the tax benefit attributableon state NOLs has been reduced to $15,498 and $109$0 at December 31, 2008. The release of the valuation allowance for deferred taxes would be allocatedon state income tax NOLs was recorded as an increase to goodwill and accumulated other comprehensive income, respectively. This valuation allowance relates primarilygoodwill. The state NOL carryforwards expire from 2020 topre-acquisition 2027.
83
Texas Legislation In 2007, Texas amended the 2006 tax operatinglegislation which modified the Texas franchise tax calculation to a new “margin tax” calculation used to derive Texas taxable income. The most significant impact of this amendment on the Company was the revision of the temporary credit on taxable margin converting state loss carryforwards to a state tax credit carryforward of $3,755 and related deferred tax assetsasset of $2,441. This new legislation effectively reduced the Company’s net deferred tax liabilities and created a corresponding credit to its tax provision of approximately $1,729 in 2007. During 2008, $86 of the Texas state tax credit carryforward was utilized. The Texas state tax credit carryforward of $3,669 and the related deferred tax asset of $2,385 is limited annually and expires in 2027. Unrecognized Tax Benefits The Company adopted FIN 48 effective January 1, 2007 with no impact on its results of operations or financial condition, and has analyzed filing positions in all of the federal and state jurisdictions where it is more likely thanrequired to file income tax returns, as well as all open tax years in these jurisdictions. FIN 48 clarifies the accounting for uncertainty in income taxes recognized in a company’s financial statements; prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return; and provides guidance on description, classification, interest and penalties, accounting in interim periods, disclosure, and transition. As of December 31, 2008, and December 31, 2007, the amount of unrecognized tax benefits was $5,740 and $6,030, respectively. The total amount of unrecognized benefits that, if recognized, would affect the effective tax rate is currently $0. Subsequent to the adoption of SFAS No. 141(R) on January 1, 2009, the total amount of unrecognized benefits that, if recognized, would affect the effective tax rate is $5,740. For the year ended December 31, 2008, there was a net decrease of $290 to the balance of unrecognized tax benefits reported at December 31, 2007. This net decrease includes a decrease of $562 due to the expiration of 2003 and 2004 federal and state statutes of limitations, of which only $236 had an effect on the effective tax rate. The above decrease was partially offset by an increase of $273 related to the 2007 income tax filing for North Pittsburgh, of which $0 had an effect on the effective tax rate. The Company is continuing its practice of recognizing interest and penalties related to income tax matters in interest expense and general and administrative expense, respectively. When it adopted FIN 48, the Company had no accrual balance for interest and penalties. For the twelve months ended December 31, 2008, the Company accrued $235 of net interest and penalties and in total has recognized a liability for interest and penalties of $633. For the twelve months ended December 31, 2007, the Company accrued $224 of net interest and penalties and in total had recognized a liability for interest and penalties of $398. The only periods subject to examination for the Company’s federal return are years 2005 through 2007. The periods subject to examination for the Company’s state returns are years 2004 through 2007. The Company is currently under examination by both federal and state tax authorities. The Company does not expect that any settlement or payment that may result from the audits will have a material effect on results of operations or cash flows. The Company does not anticipate that the benefittotal unrecognized tax benefits will not be realized. During 2005,significantly change due to the valuation allowance was reduced by $1,413 as a resultsettlements of a reduction in net deferred tax assets. This reductionaudits and the expiration of statute of limitations in the valuation allowance was credited against goodwill recorded with respectnext twelve months. There were no material changes to any of these amounts during 2008. 84
A reconciliation of the acquisition,beginning and did not impactending amount of unrecognized tax expense.benefits is as follows: | | | | | | | Liability for | | | | Unrecognized Tax | | | | Benefits | | Balance at January 1, 2008 | | $ | 6,030 | | | Additions for tax positions of acquisition | | | — | | Reductions for lapse of 2003 and 2004 federal and state statute of limitations | | | (562 | ) | Additions for tax positions of prior years | | | 272 | | Reduction for lapse of 2003 federal statute of limitations | | | — | | Reduction for lapse of 2002 state statute of limitations | | | — | | | | | | | Balance at December 31, 2008 | | $ | 5,740 | | | | | |
11. Accrued Expenses Accrued expenses consist of the following: | | | | | | | | | | | December 31, | | | | | | | | 2005 | | | 2004 | | | | | | | | | Salaries and employee benefits | | $ | 10,040 | | | $ | 9,191 | | Taxes payable | | | 7,946 | | | | 6,915 | | Accrued interest | | | 8,124 | | | | 6,490 | | Other accrued expenses | | | 4,266 | | | | 11,655 | | | | | | | | | | | $ | 30,376 | | | $ | 34,251 | | | | | | | | |
| | | | | | | | | | | December 31, | | | | 2008 | | | 2007 | | Salaries and employee benefits | | $ | 9,453 | | | $ | 10,350 | | Taxes payable | | | 6,004 | | | | 5,180 | | Accrued interest | | | 785 | | | | 3,614 | | Other accrued expenses | | | 8,342 | | | | 9,110 | | | | | | | | | | | $ | 24,584 | | | $ | 28,254 | | | | | | | | |
| | 13. | Pension Costs and Other Postretirement Benefits |
12. Pension Costs and Other Postretirement Benefits The Company has several defined benefit pension plans covering substantially all of its hourly employees and certainemployees. Certain salaried employees primarily those located in Texas.are also covered by defined benefit plans, which are now frozen. The pension plans, which generally are noncontributory, provide retirement benefits based on years of service and earnings. The pension plans are generally noncontributory. The Company’s funding policy is to contributeCompany contributes amounts sufficient to meet the minimum funding requirements as set forth in employee benefit and tax laws. The Company also has a qualified supplemental pension plan (“Restoration Plan”) covering certain former North Pittsburgh employees. The Restoration Plan restores benefits that are precluded under the pension plan by Internal Revenue Service limits on compensation and benefits applicable to qualified pension plans, and by the exclusion of bonus compensation from the pension plan’s definition of earnings. During 2008, a total of $5.9 million of benefits accrued under the Restoration Plan was paid in various lump sum distributions to all former North Pittsburgh employees except for one participant who continues to receive an annuity payment of approximately $3 annually. The cost and obligations associated with the Restoration Plan are included in the “Pension Benefits” columns on the following pages. The Company currently provides other postretirement benefits (“Other(shown as “Other Benefits”) in the tables that follow) consisting of health care and life insurance benefits for certain groups of retired employees. Retirees share in the cost of health care benefits. Retireebenefits, making contributions for health care benefitsthat are adjusted periodicallyperiodically—either based upon either collective bargaining agreements for former hourly employees and asor because total costs of the program change for former salaried employees.have changed. The Company’s funding policyCompany generally pays covered expenses for retiree health benefits is generally to pay covered expenses as they are incurred. Postretirement life insurance benefits are fully insured. TheFor 2008, the Company used a December 31 measurement date for its Illinois, Texas and Pennsylvania plans. For 2007 and 2006 the Company used a September 30 measurement date for its Illinois plans in Illinois and a December 31 measurement datedated for its plans in Texas.it Texas and Pennsylvania plans.
8785
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Dollars in thousands, except share and per share amounts)
The following tables present the benefit obligation, plan assets, and funded status of the plans: | | | | | | | | | | | | | | | | | | | | | | | | | | | Pension Benefits | | | Other Benefits | | | | | | | | | | | December 31, | | | December 31, | | | | | | | | | | | 2005 | | | 2004 | | | 2003 | | | 2005 | | | 2004 | | | 2003 | | | | | | | | | | | | | | | | | | | | | The change in benefit obligation | | | | | | | | | | | | | | | | | | | | | | | | | Projected benefit obligation, beginning of period | | $ | 117,640 | | | $ | 55,528 | | | $ | 49,637 | | | $ | 35,747 | | | $ | 8,951 | | | $ | 7,966 | | TXUCV acquisition | | | — | | | | 60,984 | | | | — | | | | — | | | | 26,629 | | | | — | | Service cost | �� | | 2,699 | | | | 2,930 | | | | 770 | | | | 910 | | | | 989 | | | | 165 | | Interest cost | | | 7,003 | | | | 5,902 | | | | 3,207 | | | | 1,638 | | | | 1,579 | | | | 557 | | Plan participant contributions | | | — | | | | — | | | | — | | | | 196 | | | | 158 | | | | 135 | | Plan amendments | | | — | | | | — | | | | — | | | | (2,851 | ) | | | (2,652 | ) | | | 454 | | Plan curtailments | | | (4,728 | ) | | | — | | | | — | | | | (7,880 | ) | | | (772 | ) | | | — | | Benefits paid | | | (6,722 | ) | | | (7,237 | ) | | | (3,403 | ) | | | (1,882 | ) | | | (1,747 | ) | | | (692 | ) | Administrative expenses paid | | | — | | | | (410 | ) | | | — | | | | (141 | ) | | | — | | | | — | | Actuarial (gain)/ loss | | | 8,442 | | | | (57 | ) | | | 5,317 | | | | 2,094 | | | | 2,612 | | | | 366 | | | | | | | | | | | | | | | | | | | | | Projected benefit obligation, end of period | | $ | 124,334 | | | $ | 117,640 | | | $ | 55,528 | | | $ | 27,831 | | | $ | 35,747 | | | $ | 8,951 | | | | | | | | | | | | | | | | | | | | | Accumulated benefit obligation | | $ | 115,630 | | | $ | 105,451 | | | $ | 51,070 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | The change in plan assets | | | | | | | | | | | | | | | | | | | | | | | | | Fair value of plan assets, beginning of period | | $ | 94,292 | | | $ | 50,704 | | | $ | 45,446 | | | $ | — | | | $ | — | | | $ | — | | TXUCV acquisition | | | — | | | | 40,633 | | | | — | | | | — | | | | — | | | | — | | Actual return on plan assets | | | 7,757 | | | | 6,715 | | | | 7,804 | | | | — | | | | — | | | | — | | Employer contributions | | | 5,372 | | | | 3,887 | | | | 857 | | | | 1,827 | | | | 1,589 | | | | 557 | | Plan participant contributions | | | — | | | | — | | | | — | | | | 196 | | | | 158 | | | | 135 | | Administrative expenses paid | | | (253 | ) | | | (410 | ) | | | — | | | | (141 | ) | | | — | | | | — | | Benefits paid | | | (6,722 | ) | | | (7,237 | ) | | | (3,403 | ) | | | (1,882 | ) | | | (1,747 | ) | | | (692 | ) | | | | | | | | | | | | | | | | | | | | Fair value of plan assets end of period | | $ | 100,446 | | | $ | 94,292 | | | $ | 50,704 | | | $ | — | | | $ | — | | | $ | — | | | | | | | | | | | | | | | | | | | | | Funded status | | | | | | | | | | | | | | | | | | | | | | | | | Funded status | | $ | (23,888 | ) | | $ | (23,348 | ) | | $ | (4,824 | ) | | $ | (27,831 | ) | | $ | (35,747 | ) | | $ | (8,951 | ) | Employer contributions after measurement date and before end of period | | | — | | | | — | | | | — | | | | 158 | | | | 275 | | | | 194 | | Unrecognized prior service (credit) cost | | | — | | | | — | | | | — | | | | (2,469 | ) | | | 918 | | | | 952 | | Unrecognized net actuarial (gain) loss | | | 3,368 | | | | (177 | ) | | | 162 | | | | 2,988 | | | | (115 | ) | | | (128 | ) | | | | | | | | | | | | | | | | | | | | Accrued benefit cost | | $ | (20,520 | ) | | $ | (23,525 | ) | | $ | (4,662 | ) | | $ | (27,154 | ) | | $ | (34,669 | ) | | $ | (7,933 | ) | | | | | | | | | | | | | | | | | | | | Amounts recognized in the consolidated balance sheet | | | | | | | | | | | | | | | | | | | | | | | | | Accrued benefit liability | | $ | (21,250 | ) | | $ | (23,982 | ) | | $ | (4,662 | ) | | $ | (27,154 | ) | | $ | (34,669 | ) | | $ | (7,933 | ) | Accumulated other comprehensive income | | | 730 | | | | 457 | | | | — | | | | — | | | | — | | | | — | | | | | | | | | | | | | | | | | | | | | Net amount recognized | | $ | (20,520 | ) | | $ | (23,525 | ) | | $ | (4,662 | ) | | $ | (27,154 | ) | | $ | (34,669 | ) | | $ | (7,933 | ) | | | | | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | Pension Benefits | | | Other Benefits | | | | December 31, | | | December 31, | | | | 2008 | | | 2007 | | | 2006 | | | 2008 | | | 2007 | | | 2006 | | The change in benefit obligation | | | | | | | | | | | | | | | | | | | | | | | | | Projected benefit obligation, beginning of year | | $ | 187,851 | | | $ | 126,910 | | | $ | 124,334 | | | $ | 40,895 | | | $ | 26,994 | | | $ | 27,831 | | Aquired with the acquisition of North Pittsburgh | | | — | | | | 61,651 | | | | — | | | | — | | | | 13,165 | | | | — | | Service cost | | | 2,120 | | | | 1,802 | | | | 2,024 | | | | 900 | | | | 809 | | | | 842 | | Interest cost | | | 11,214 | | | | 7,378 | | | | 7,012 | | | | 2,420 | | | | 1,527 | | | | 1,346 | | Service cost adjustment to retained earnings | | | 202 | | | | — | | | | — | | | | 72 | | | | — | | | | — | | Interest cost adjustment to retained earnings | | | 976 | | | | — | | | | — | | | | 163 | | | | — | | | | — | | Post-measurement date contributions | | | — | | | | — | | | | — | | | | (339 | ) | | | — | | | | — | | Plan participant contributions | | | — | | | | — | | | | — | | | | 375 | | | | 246 | | | | 109 | | Plan amendments | | | (320 | ) | | | — | | | | — | | | | (3,724 | ) | | | 916 | | | | — | | Special termination benefits and settlements | | | 51 | | | | — | | | | — | | | | 41 | | | | — | | | | — | | Benefits paid | | | (17,534 | ) | | | (7,743 | ) | | | (6,666 | ) | | | (2,873 | ) | | | (1,792 | ) | | | (1,150 | ) | Actuarial (gain) / loss | | | 3,472 | | | | (2,147 | ) | | | 206 | | | | (207 | ) | | | (970 | ) | | | (1,984 | ) | | | | | | | | | | | | | | | | | | | | Projected benefit obligation, end of year | | $ | 188,032 | | | $ | 187,851 | | | $ | 126,910 | | | $ | 37,723 | | | $ | 40,895 | | | $ | 26,994 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Accumulated benefit obligation | | $ | 180,795 | | | $ | 180,003 | | | $ | 125,377 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | The change in plan assets | | | | | | | | | | | | | | | | | | | | | | | | | Fair value of plan assets, beginning of year | | $ | 166,638 | | | $ | 103,790 | | | $ | 100,446 | | | $ | — | | | $ | — | | | $ | — | | Acquired with the acquisition of North Pittsburgh | | | — | | | | 54,912 | | | | — | | | | — | | | | — | | | | — | | Actual return on plan assets | | | (36,794 | ) | | | 10,870 | | | | 9,685 | | | | — | | | | — | | | | — | | Employer contributions | | | 6,139 | | | | 4,809 | | | | 402 | | | | 2,498 | | | | 1,546 | | | | 1,041 | | Plan participant contributions | | | — | | | | — | | | | — | | | | 375 | | | | 246 | | | | 109 | | Administrative expenses paid | | | — | | | | — | | | | (77 | ) | | | — | | | | — | | | | — | | Benefits paid | | | (17,534 | ) | | | (7,743 | ) | | | (6,666 | ) | | | (2,873 | ) | | | (1,792 | ) | | | (1,150 | ) | | | | | | | | | | | | | | | | | | | | Fair value of plan assets, end of year | | $ | 118,449 | | | $ | 166,638 | | | $ | 103,790 | | | $ | — | | | $ | — | | | $ | — | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Funded status | | | | | | | | | | | | | | | | | | | | | | | | | Projected benefit obligation | | $ | (188,032 | ) | | $ | (187,851 | ) | | $ | (126,910 | ) | | $ | (37,723 | ) | | $ | (40,895 | ) | | $ | (26,994 | ) | Fair value of plan assets | | | 118,449 | | | | 166,638 | | | | 103,790 | | | | — | | | | — | | | | — | | Employer contributions after measurement date and before end of year | | | — | | | | — | | | | — | | | | — | | | | 339 | | | | 136 | | | | | | | | | | | | | | | | | | | | | Funded status | | | (69,583 | ) | | | (21,213 | ) | | | (23,120 | ) | | | (37,723 | ) | | | (40,556 | ) | | | (26,858 | ) | Unrecognized prior service (credit) | | | (455 | ) | | | (151 | ) | | | (164 | ) | | | (3,233 | ) | | | (131 | ) | | | (1,758 | ) | Unrecognized net actuarial (gain) loss | | | 50,455 | | | | (3,640 | ) | | | 1,376 | | | | (169 | ) | | | 49 | | | | 1,064 | | | | | | | | | | | | | | | | | | | | | Net amount recognized | | $ | (19,583 | ) | | $ | (25,004 | ) | | $ | (21,908 | ) | | $ | (41,125 | ) | | $ | (40,638 | ) | | $ | (27,552 | ) | | | | | | | | | | | | | | | | | | | |
8886
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. | | | | | | | | | | | | | | | | | | | | | | | | | | | Pension Benefits | | | Other Benefits | | | | December 31, | | | December 31, | | | | 2008 | | | 2007 | | | 2006 | | | 2008 | | | 2007 | | | 2006 | | Amounts recognized in the balance sheet included in | | | | | | | | | | | | | | | | | | | | | | | | | Current liabilities | | $ | (52 | ) | | $ | (5,924 | ) | | $ | — | | | $ | (2,908 | ) | | $ | (2,841 | ) | | $ | — | | Noncurrent liabilities | | | (69,531 | ) | | | (15,289 | ) | | | (23,120 | ) | | | (34,815 | ) | | | (37,715 | ) | | | (26,858 | ) | | | | | | | | | | | | | | | | | | | | | | $ | (69,583 | ) | | $ | (21,213 | ) | | $ | (23,120 | ) | | $ | (37,723 | ) | | $ | (40,556 | ) | | $ | (26,858 | ) | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Amounts in accumulated other comprehensive income (loss): | | | | | | | | | | | | | | | | | | | | | | | | | Unrecognized prior service (credit) | | $ | (455 | ) | | $ | (151 | ) | | $ | (164 | ) | | $ | (3,233 | ) | | $ | (131 | ) | | $ | (1,758 | ) | Unrecognized net actuarial (gain) loss | | | 50,455 | | | | (3,640 | ) | | | 1,376 | | | | (169 | ) | | | 49 | | | | 1,064 | | | | | | | | | | | | | | | | | | | | | | | $ | 50,000 | | | $ | (3,791 | ) | | $ | 1,212 | | | $ | (3,402 | ) | | $ | (82 | ) | | $ | (694 | ) | | | | | | | | | | | | | | | | | | | |
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)During 2009, the Company expects to recognize amortization of prior service credits of $43 for pension benefits and $964 for other postretirement benefits, and amortization of net actuarial loss of $2,664 for pension benefits and amortization of net actuarial gain of $21 for postretirement benefits.
(Dollars in thousands, except share and per share amounts)
The Company’s pension plan weighted average asset allocations by investment category are as follows: | | | | | | | | | | | December 31, | | | | | | | | 2005 | | | 2004 | | | | | | | | | Plan assets by category | | | | | | | | | Equity securities | | | 56.6 | % | | | 54.8 | % | Debt securities | | | 39.7 | % | | | 36.8 | % | Other | | | 3.7 | % | | | 8.4 | % | | | | | | | | | | | 100.0 | % | | | 100.0 | % | | | | | | | |
| | | | | | | | | | | December 31, | | | | 2008 | | | 2007 | | Plan assets by category | | | | | | | | | Equity securities | | | 52.2 | % | | | 38.3 | % | Debt securities | | | 44.2 | % | | | 24.3 | % | Other | | | 3.6 | % | | | 37.4 | % | | | | | | | | | | | 100.0 | % | | | 100.0 | % | | | | | | | |
The Company’s investment strategy isCompany seeks to maximize long-term return on invested plan assets while minimizing the risk of market volatility. Accordingly, the Company targets itits allocation percentage at 50% to 60% in equity funds, with the remainder in fixed income funds and cash equivalents. On December 31, 2007, the Company combined its Illinois and Texas pension plans. Assets of the Texas plan were liquidated and the resulting cash was moved into the combined plan. 87
The Company expects to contribute $60approximately $9,000 to $11,000 to its pension plans and $1,710$2,968 to its other postretirement plans in 2006.2009. The Company’s expected future benefit payments to be paid during the years ended December 31 are as follows: | | | | | | | | | | | Pension | | | Other | | | | Benefits | | | Benefits | | | | | | | | | 2006 | | $ | 5,928 | | | $ | 1,710 | | 2007 | | | 6,186 | | | | 1,865 | | 2008 | | | 6,429 | | | | 1,855 | | 2009 | | | 6,799 | | | | 1,929 | | 2010 | | | 7,186 | | | | 2,014 | | 2011 through 2015 | | | 41,837 | | | | 10,621 | |
Effective as of April 30, 2005, the Company’s Board of Directors authorized amendments to several of the Company’s benefit plans. The Consolidated Communications Texas Retirement Plan was amended to freeze benefit accruals for all participants other than union participants and grandfathered participants. The rate of accrual for grandfathered participants in this plan was reduced. A grandfathered participant is defined as a participant age 50 or older with 20 or more years of service as of April 30, 2005. The Consolidated Communications Texas Retiree Medical and Life Plan was amended to freeze the Company subsidy for premium coverage as of April 30, 2005 for all existing retiree participants. This plan was also amended to limit future coverage to a select group of future retires who attain at least age 55 and 15 years of service, but with no Company subsidy. The amendments to the Retiree Medical and Life Plan resulted in a $7,880 curtailment gain that was included in general and administrative expenses during 2005.
89
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. | | | | | | | | | | | Pension | | | Other | | | | Benefits | | | Benefits | | 2009 | | $ | 12,225 | | | $ | 2,968 | | 2010 | | | 12,429 | | | | 2,968 | | 2011 | | | 12,425 | | | | 3,116 | | 2012 | | | 12,617 | | | | 3,131 | | 2013 | | | 12,699 | | | | 3,033 | | 2014 through 2018 | | | 45,320 | | | | 14,926 | |
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Dollars in thousands, except share and per share amounts)
The following table presents the components of net periodic benefit cost for the years ended December 31, 2005, 20042008, 2007, and 2003:2006: | | | | | | | | | | | | | | | | | | | | | | | | | | | Pension Benefits | | | Other Benefits | | | | | | | | | | | 2005 | | | 2004 | | | 2003 | | | 2005 | | | 2004 | | | 2003 | | | | | | | | | | | | | | | | | | | | | Service cost | | $ | 2,699 | | | $ | 2,930 | | | $ | 770 | | | $ | 910 | | | $ | 989 | | | $ | 165 | | Interest cost | | | 7,003 | | | | 5,902 | | | | 3,207 | | | | 1,638 | | | | 1,579 | | | | 557 | | Expected return on plan assets | | | (7,383 | ) | | | (6,434 | ) | | | (3,507 | ) | | | — | | | | — | | | | — | | Curtailment gain | | | — | | | | — | | | | — | | | | (7,880 | ) | | | — | | | | — | | Other, net | | | 48 | | | | (2 | ) | | | — | | | | (471 | ) | | | (19 | ) | | | (4 | ) | | | | | | | | | | | | | | | | | | | | Net periodic benefit cost (income) | | $ | 2,367 | | | $ | 2,396 | | | $ | 470 | | | $ | (5,803 | ) | | $ | 2,549 | | | $ | 718 | | | | | | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | Pension Benefits | | | Other Benefits | | | | 2008 | | | 2007 | | | 2006 | | | 2008 | | | 2007 | | | 2006 | | Service cost | | $ | 2,120 | | | $ | 1,802 | | | $ | 2,024 | | | $ | 900 | | | $ | 809 | | | $ | 842 | | Interest cost | | | 11,214 | | | | 7,378 | | | | 7,012 | | | | 2,420 | | | | 1,527 | | | | 1,346 | | Expected return on plan assets | | | (12,689 | ) | | | (8,034 | ) | | | (7,790 | ) | | | — | | | | — | | | | — | | Other, net | | | 18 | | | | 22 | | | | 544 | | | | (638 | ) | | | (667 | ) | | | (772 | ) | | | | | | | | | | | | | | | | | | | | Net periodic benefit cost | | $ | 663 | | | $ | 1,168 | | | $ | 1,790 | | | $ | 2,682 | | | $ | 1,669 | | | $ | 1,416 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Additional loss due to: | | | | | | | | | | | | | | | | | | | | | | | | | Special termination benefits and settlments | | $ | 51 | | | $ | — | | | $ | — | | | $ | 41 | | | $ | — | | | $ | — | | | | | | | | | | | | | | | | | | | | |
The weighted average assumptions used in measuring the Company’s benefit obligations for its Illinois Texas, and Pennsylvania plans as of December 31, 2005, 20042008 and 2003for the Illinois and Texas plans as of December 31, 2007, and 2006 are as follows: | | | | | | | | | | | | | | | | | | | | | | | | | | | Pension Benefits | | | Other Benefits | | | | | | | | | | | 2005 | | | 2004 | | | 2003 | | | 2005 | | | 2004 | | | 2003 | | | | | | | | | | | | | | | | | | | | | Discount rate | | | 5.9 | % | | | 6.0 | % | | | 6.0 | % | | | 5.9 | % | | | 6.0 | % | | | 6.0 | % | Compensation rate increase | | | 3.3 | % | | | 3.5 | % | | | 3.5 | % | | | — | | | | — | | | | — | | Return on plan assets | | | 8.0 | % | | | 8.3 | % | | | 8.0 | % | | | — | | | | — | | | | — | | Initial heathcare cost trend rate | | | — | | | | — | | | | — | | | | 10.5 | % | | | 10.0 | % | | | 11.0 | % | Ultimate heathcare cost rate | | | — | | | | — | | | | — | | | | 5.0 | % | | | 5.0 | % | | | 5.0 | % | Year ultimate trend rate reached | | | — | | | | — | | | | — | | | | 2011 to 2012 | | | | 2010 to 2012 | | | | 2009 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | Pension Benefits | | | Other Benefits | | | | 2008 | | | 2007 | | | 2006 | | | 2008 | | | 2007 | | | 2006 | | Discount rate | | | 6.1 | % | | | 6.3 | % | | | 6.0 | % | | | 6.1 | % | | | 6.3 | % | | | 6.0 | % | Compensation rate increase | | | 3.9 | % | | | 3.5 | % | | | 3.3 | % | | | — | | | | — | | | | — | | Return on plan assets | | | 8.0 | % | | | 8.0 | % | | | 8.0 | % | | | — | | | | — | | | | — | | Initial heathcare cost trend rate | | | — | | | | — | | | | — | | | | 10.0 | % | | | 10.0 | % | | | 10.0 | % | Ultimate heathcare cost rate | | | — | | | | — | | | | — | | | | 5.0 | % | | | 5.0 | % | | | 5.0 | % | Year ultimate trend rate reached | | | — | | | | — | | | | — | | | | 2016 | | | | 2013 | | | | 2012 | |
Weighted average actuarial assumptions used to determine the net periodic benefit cost for 2005, 20042008, 2007, and 20032006 are as follows: discount rate —rate—5.9%, 6.3%, and 6.0%, 6.0% and 6.8%,; expected long-term rate of return on plan assets — assets—8.0%, 8.3%8.0%, and 8.0%,; and rate of compensation increases —increases—3.9%, 3.5%, 3.9% and 3.5%3.3%, respectively. 88
The weighted average assumptions used in measuring the benefit obligations for the North Pittsburgh plans as of December 31, 2007, are as follows: | | | | | | | | | | | Pension | | | Other | | | | Benefits | | | Benefits | | Discount rate | | | 6.4 | % | | | 6.1 | % | Compensation rate increase | | | 4.3 | % | | | 4.3 | % | Return on plan assets | | | 8.0 | % | | | — | | Initial healthcare cost trend rate | | | — | | | | 10.0 | % | Ultimate healthcare cost rate | | | — | | | | 5.0 | % | Year ultimate trend rate reached | | | — | | | | 2013 | |
In determining the discount rate, the Company considers the current yields on high quality corporate fixed income investments with maturities corresponding to the expected duration of the benefit obligations. The expected return on plan assets assumption was based upon the categories of the assets and the past history of thehistorical return on thethose assets. The compensation rate increase is based upon past history and long-term inflationary trends. A one percentage point change in the assumed health care cost trend rate would have the following effects on the Company’s other postretirement benefits: | | | | | | | | | | | 1% Increase | | | 1% Decrease | | | | | | | | | Effect on 2005 service and interest costs | | $ | 365 | | | $ | (289 | ) | Effect on accumulated postretirement benefit obligations as of December 31, 2005 | | $ | 2,786 | | | $ | (2,304 | ) |
| | | | | | | | | | | 1% Increase | | | 1% Decrease | | Effect on 2008 service and interest costs | | $ | 339 | | | $ | (291 | ) | Effect on accumulated postretirement benefit obligations as of December 31, 2008 | | $ | 3,083 | | | $ | (2,692 | ) |
| | 14. | Employee 401k Benefit Plans and Deferred Compensation Agreements |
In September 2006, the FASB issued Statement of Financial Accounting Standards No. 158 (“SFAS No. 158”), “Employers’ Accounting for Defined Benefit Pension and Other Postretirement Plans.” SFAS No. 158 requires an employer to recognize the overfunded or underfunded status of a defined benefit postretirement plan as an asset or liability in its statement of financial position and to recognize changes in the funded status in the year in which the changes occur through comprehensive income. SFAS No. 158 also requires an employer to measure the funded status of a plan as of the date of its year-end statement of financial position. The Company was required to adopt the recognition provisions of SFAS No. 158 effective December 31, 2006; however, the requirement to measure plan assets and benefit obligations as of the date of the Company’s fiscal year end is required to be effective as of December 31, 2008. Upon combining the Texas and Illinois pension plans on December 31, 2007, the Company adopted the measurement date provisions of SFAS No. 158 effective January 1, 2008 for pension and postretirement plans with measurement dates other than December 31. The impact of the adoption of the measurement date provisions resulted in an increase to opening accumulated deficit on January 1, 2008 of $169 net of tax of $97. The Pension Protection Act of 2006 (“the Pension Protection Act”) may affect the manner in which many companies, including the Company, administer their pension plans. Effective January 1, 2008, the Pension Protection Act requires many companies to more fully fund their pension plans according to new funding targets, potentially resulting in greater annual contributions. The Company is currently assessing the impact that the Pension Protection Act will have on pension funding in future years. 13. Employee 401k Benefit Plans and Deferred Compensation Agreements 401k benefit plans The Company sponsors several 401(k) defined contribution retirement savings plans. Virtually all employees are eligible to participantparticipate in one of these plans. Each employee may electplans by electing to defer a portion of his or hertheir compensation, subject to certain limitations. The Company provides matching contributions based on qualified employee contributions. Total Company contributions to the plans were $2,077, $1,223$2,609 in 2008, $2,385 in 2007, and $496$2,277 in 2005, 2004 and 2003, respectively.2006. 90
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC.Deferred compensation agreements
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Dollars in thousands, except share and per share amounts)
| | | Deferred Compensation Agreements |
The Company has deferred compensation agreements with the former board of directors of TXUCV’s predecessor company,the Company’s subsidiary, Lufkin-Conroe Communications, and certain former employees. The benefits are payable for up to 15 years or life and may begin as early as age 65 or upon the death of the participant. These plans were frozen by TXUCV’s predecessor company prior tobefore the Company’s assumption ofCompany assumed the related liabilities and thus the participants accrue no new benefits to the existing participants.benefits. Company payments related to the deferred compensation agreements totaled approximately $564$561 in 2008, $569 in 2007, and $336$609 in 2005 and 2004, respectively.2006. The net present value of the remaining obligations totaled approximately $4,781$3,394 and $2,710$3,725 as of December 31, 20052008, and 2004,2007, respectively, and is included in pension and postretirement benefit obligations in the accompanying balance sheet.sheets. 89
The Company maintains forty life insurance policies on certain of the participating former directors and employees. In June 2005, theThe Company recognized $2,800$0 and $300 of net proceeds in other income in 2008 and 2007, respectively, due to the receipt of life insurance proceeds related to the passing of a former employee.employees. The excess of the cash surrender value of the Company’s remaining life insurance policies over the notes payable balances related to these policies is determined by an independent consultant, and totaled $1,259 and $1,708$1,779 as of December 31, 20052008, and 2004, respectively, and is$2,566 as of December 31, 2007. These amounts are included in other assets in the accompanying balance sheet.sheets. Cash principal payments for the policies and any proceeds from the policies are classified as operating activities in the statements of cash flows. The aggregate death benefit payable under these policies totaled $8,007 as of December 31, 2008, and $8,857 as of December 31, 2007. 14. Long-Term Debt Long-term debt consists of the following: | | | | | | | | | | | | December 31, | | | | | | | | 2005 | | | 2004 | | | | | | | | | Senior Secured Credit Facility | | | | | | | | | | Revolving loan | | $ | — | | | $ | — | | | Term loan A | | | — | | | | 115,333 | | | Term loan C | | | — | | | | 312,900 | | | Term loan D | | | 425,000 | | | | — | | Senior notes | | | 130,000 | | | | 200,000 | | Capital leases | | | — | | | | 1,188 | | | | | | | | | | | | 555,000 | | | | 629,421 | | Less: current portion | | | — | | | | (41,079 | ) | | | | | | | | | | $ | 555,000 | | | $ | 588,342 | | | | | | | | |
| | | | | | | | | | | December 31, | | | | 2008 | | | 2007 | | | | | | | | | | | Senior Secured Credit Facility: | | | | | | | | | Revolving loan | | $ | — | | | $ | — | | Term loan | | | 880,000 | | | | 760,000 | | Obligations under capital lease | | | 1,266 | | | | 2,646 | | Senior notes | | | — | | | | 130,000 | | | | | | | | | | | | 881,266 | | | | 892,646 | | Less: current portion | | | (922 | ) | | | (1,010 | ) | | | | | | | | | | $ | 880,344 | | | $ | 891,636 | | | | | | | | |
Future maturities of long-term debt as of December 31, 20052008, are as follows: 2011 — $425,000 and 2012 — $130,000. | | | | | 2009 | | $ | 922 | | 2010 | | | 344 | | 2011 | | | — | | 2012 | | | — | | 2013 | | | — | | Thereafter | | | 880,000 | | | | | | | | $ | 881,266 | | | | | |
| | | Senior Secured Credit Facility |
TheSenior secured credit facility
In 2007, the Company, through its wholly-owned subsidiaries, maintainsentered into a credit agreement with variousseveral financial institutions, whichinstitutions. The credit agreement provides for aggregate borrowings of $455,000$950,000, consisting of a $425,000$760,000 term loan facility, a $50,000 revolving credit facility, and a $30,000 revolving$140,000 delayed draw term loan facility (“DDTL”). The DDTL’s sole purpose was for the funding of the redemption of the Company’s outstanding senior notes plus any associated fees or redemption premium. As described below, the Company borrowed $120,000 under the DDTL on April 1, 2008, at which time the commitment for the remaining $20,000 that was originally available under the DDTL expired. Other borrowings under the credit facility.facility were used to retire the Company’s previous $464,000 credit facility and to fund the acquisition of North Pittsburgh. Borrowings under the credit facility are the Company’s senior, secured obligations that are secured by substantially all of the assets of the Company and its subsidiaries with the exception of Illinois Consolidated Telephone Company. The term loan hasand the DDTL have no interim principal maturities and thus maturesmature in full on October 14, 2011.December 31, 2014. The revolving credit facility matures on April 14, 2010.December 31, 2013. There were no borrowings under the revolving credit facility as of December 31, 2008. 9190
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Dollars in thousands, except share and per share amounts)
At the Company’s election, borrowings under the credit facilities bear interest at fluctuating interest rates based on: (a) a base rate (the highest of the administrative agent’s base rate in effect on such day, 0.5% per annum above the latest three week moving average of secondary market morning offering rates in the United States for three month certificates of deposit or 0.5% above the Federal Funds rate); or (b) the London Interbank Offered Rate, or LIBOR plus, in either case,equal to an applicable margin within the relevant range of margins (0.75% to 2.50%) provided for in the credit agreement. The applicable margin is based upon the Company’s total leverage ratio.plus either a “base rate” or LIBOR. As of December 31, 2005,2008, the applicable margin for interest rates on LIBOR basedwas 2.50% per year for the LIBOR-based term loans and the revolving credit facility. The applicable margin for our $880.0 million term loan is fixed for the duration of the loan. The applicable margin for alternative base rate loans was 1.50% per year for the term loan and the revolving credit facility. The applicable margin for borrowings on the revolving credit facility is based on a pricing grid. Based on our leverage ratio of 4.90:1 as of December 31, 2008, borrowings under the revolving credit facility will be priced at a margin of 2.75% for LIBOR-based borrowings and 1.75%. for alternative base rate borrowings. The applicable borrowing margin for the revolving credit facility is adjusted quarterly to reflect the leverage ratio from the prior quarter-end. At December 31, 20052008, and 2004,2007, the weighted average rate including swaps, of interest on the Company’s term debtcredit facilities, including the effect of interest rate swaps and the applicable margin, was 5.72%6.30% and 5.23%7.11% per annum, respectively. Interest is payable at least quarterly. The credit agreement contains various provisions and covenants, which include,including, among other items, restrictions on the ability to pay dividends, incur additional indebtedness, and issue capital stock, as well as, limitations onand commit to future capital expenditures. The Company has also agreed to maintain certain financial ratios, including interest coverage, fixed charge coverage and total net leverage ratios, all as defined in the credit agreement. As of December 31, 2008, the Company was in compliance with the credit agreement covenants. Senior notes On April 14, 2004,1, 2008, the Company through its wholly owned subsidiaries, issued $200,000 of 93/4% Senior Notes due on April 1, 2012. The senior notes are the Company’s senior, unsecured obligations and pay interest semi-annually on April 1 and October 1. During August 2005, proceeds from the IPO were used primarily to redeem $65,000redeemed all of the aggregate principaloutstanding senior notes. The total amount of the Senior Notes alongredemption was $136,337, including a call premium of $6,337. The senior note redemption and payment of accrued interest through the redemption date was funded using $120,000 of borrowing on the DDTL together with cash on hand. The Company recognized a loss on extinguishment of debt of $9,224 related to the redemption premium and the write-off of approximately $6,338. Duringunamortized deferred financing costs. Capital lease The Company has a capital lease, which expires in 2010, for certain equipment used in its operations. As of December 2005 an additional $5,00031, 2008, the present value of the aggregate principalminimum remaining lease commitments was $1,266. Of this amount, of$922 is due within the Senor Notes was redeemed along with a redemption premium of approximately $488.next year. Some or all of the remaining senior notes may be redeemed on or after April 1, 2008. The redemption price plus accrued interest will be, as a percentage of the principal amount, 104.875% in 2008, 102.438% in 2009 and 100% in 2010 and thereafter. In addition, holders may require the repurchase of the notes upon a change in control, as such term is defined in the indenture governing the senior notes. The indenture contains certain provisions and covenants, which include, among other items, restrictions on the ability to issue certain types of stock, incur additional indebtedness, make restricted payments, pay dividends and enter other lines of business.Derivative instruments
The Company maintains interest rate swap agreements that effectively convert a portion of the floating-rate debt to a fixed-rate basis, thusthereby reducing the impact of interest rate changes on future interest expense. At December 31, 2005,2008, the Company has interest rate swap agreements covering $259,356$740,000 of notional amount floating to fixed interest rate swap agreements. Approximately 84.1% of the floating rate term debt was fixed as of December 31, 2008. The swaps expire at various times from September 30, 2009 through March 13, 2013. The swaps are designated as cash flow hedges of our expected future interest payments. Under the swap agreements, the Company receives 3-month LIBOR based interest payments from the swap counterparties and pays a fixed rate. In September 2008, due to the larger than normal spread between 1-month LIBOR and 3-month LIBOR, the Company added basis swaps, under which it pays 3-month LIBOR-based payments less a fixed percentage to the basis swap counterparties, and receives 1-month LIBOR. At the same time, the Company began utilizing 1-month LIBOR resets on its credit facility. Concurrently basis swaps, in aggregate principal amountcombination with the prior swaps, were designated as cash flow hedges designed to mitigate the changes in cash flows on the Company’s credit facility. The effect of its variable ratethe swap portfolio is to fix the cash interest payments on the floating portion of $740,000 of debt at fixeda weighted average LIBOR rates ranging from 3.03% to 4.57%. The swap agreements expire on December 31, 2006, May 19, 2007, and September 30, 2011. On October 12, 2005, the Company entered into agreements to hedge an additional $100,000 of variable rate debt with swaps that will be effective as of January 3, 2006 at a blended average fixed rate of approximately 4.8% and expiration date4.43% exclusive of September 30, 2011.the applicable borrowing margin on the loans. The fair value of the Company’s derivative instruments, comprised solely ofwhich are all interest rate swaps and basis swaps, amounted to an asseta liability of $4,117 and $1,060$47,908 at December 31, 20052008, and 2004, respectively.a liability of $12,769 at December 31, 2007. The fair value is included in deferred financing and other assets. The Company recognized a net credit of $13 and a net loss of $228 in interest expense during 2005 and 2004, respectively, related to its derivative instruments.Other Liabilities on the Balance Sheets. The change in the marketfair value of derivative instruments, net of the related tax effect, is recorded in otherOther Comprehensive Loss. The Company recognized comprehensive loss of $22,078 during 2008, $10,638 during 2007, and $252 during 2006. Included in the interest expense for the year ended December 31, 2008 was a non-cash charge of $395 for the ineffective portion of the Company’s cash flow hedges. 9291
In a cash flow hedge, the effective portion of the change in the fair value of the hedging derivative is recorded in accumulated other comprehensive income and is subsequently reclassified into earnings during the same period in which the hedged item affects earnings. The change in fair value of any ineffective portion of the hedging derivative is recognized immediately in earnings. To further reduce potential future income statement impacts from hedge ineffectiveness, the Company dedesignated its original interest rate swap contracts and redesignated them, in conjunction with the basis swaps, as of September 4, 2008 as a cash flow hedge. CONSOLIDATED COMMUNICATIONS HOLDINGS, INC.15. Fair Value Measurements
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Dollars in thousands, except shareAs of December 31, 2008, the Company’s derivative instruments related to interest rate swap agreements are required to be measured at fair value on a recurring basis. The fair values of the interest rate swaps are determined using an internal valuation model which relies on the expected LIBOR based yield curve and per share amounts)
comprehensive income.estimates of counterparty and the Company’s non performance risk as the most significant inputs. Though the expected LIBOR based yield curve, an observable input, has the most significant impact of the determination of fair value, certain other material inputs to the valuations are not directly observable and cannot be corroborated by observable market data. The Company recognized comprehensive incomehas categorized these interest rate derivatives as Level 3.
The Company’s net liabilities measured at fair value on a recurring basis subject to disclosure requirements of $2,188 and $1,105 andSFAS No. 157 at December 31, 2008 were as follows: | | | | | | | | | | | | | | | | | | | | | | | Fair Value Measurements at Reporting Date Using | | | | | | | | Quoted Prices | | | Significant | | | | | | | | | | | in Active | | | Other | | | Significant | | | | | | | | Markets for | | | Observable | | | Unobservable | | | | | | | | Identical Assets | | | Inputs | | | Inputs | | Description | | December 31, 2008 | | | (Level 1) | | | (Level 2) | | | (Level 3) | | | | | | | | | | | | | | | | | | | Interest Rate Derivatives | | $ | 47,908 | | | | | | | | | | | $ | 47,908 | | | | | | | | | | | | | | | | |
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The following table presents the Company’s net liabilities measured at fair value on a comprehensive lossrecurring basis using significant unobservable inputs (Level 3) as defined in SFAS No. 157 at December 31, 2008: | | | | | | | Measurements | | | | Using Significant | | | | Unobservable | | | | Inputs (Level 3) | | | | Interest Rate | | | | Derivatives | | Balance at December 31, 2007 | | $ | 12,769 | | Settlements | | | (10,412 | ) | Total gains or losses (realized/unrealized) | | | | | Unrealized loss included in earnings | | | 395 | | Unrealized loss included in other comprehensive income | | | 45,156 | | | | | | | | | | | Balance at December 31, 2008 | | $ | 47,908 | | | | | | | | | | | The amount of total loss for the period included in earnings for the period as a component of interest expense | | $ | 395 | | | | | |
The change in fair value of $515 during 2005, 2004 and 2003, respectively.the derivatives is primarily a result of a change in market expectations for future interest rates. 16. Restricted Share Plan The Company maintains a Restricted Share Plan whichrestricted share plan that provides for the issuance of common shares to key employees and as an incentiveto motivate them to enhance their long-term performance as well as anand to provide incentive to join or remain with the Company. In connection with the IPO, theThe Company amended and restated its Restricted Share Plan. The vesting schedule of outstanding awards was modified such that an additional 25% of the outstanding restricted shares granted became vested. The amendment and restatement also removed a call provision contained within the original plan. As a result, the accounting treatment changed from a liability plan, for which expense was recognized based on a formula ($0 immediately prior to the IPO), to an equity plan for which expense is recognized based upon fair value at the IPO date under the guidelines of SFAS 123R. The amendment and restatement represented a modification to the terms of the equity awards, resulting in a new measurement date and non-cash compensation expense associated with the restricted shares of $6,391 as of July 27, 2005.$1,901, $4,034 and $2,482 during the 2008, 2007 and 2006 calendar years, respectively. The $6,391 represents the fair value of the vested shares as of the new measurement date. The fair value was determined based upon the IPO price of $13.00 per share. An additional $2,199 was recognized as non-cash compensation expense duringis included in “selling, general and administrative expenses” in the period from July 28, 2005 through December 31, 2005.accompanying statements of operations. The measurement date value of the remaining unvested shares is expected to be recognized as non-cash compensation expense over the remaining three-year vesting period, less a provision for estimated forfeitures. The following table presents the restricted stock activity by year: | | | | | | | | | | | 2005 | | | 2004 | | | | | | | | | Restricted shares outstanding, beginning of period | | | 750,000 | | | | 975,000 | | Shares granted | | | 87,500 | | | | 25,000 | | Shares vested | | | (408,662 | ) | | | (250,000 | ) | IPO conversion adjustment | | | (1,773 | ) | | | — | | Shares forfeited or retired | | | (5,000 | ) | | | — | | | | | | | | | Restricted shares outstanding, end of period | | | 422,065 | | | | 750,000 | | | | | | | | |
| | | | | | | | | | | | | | | 2008 | | | 2007 | | | 2006 | | Restricted shares outstanding, beginning of period | | | 129,302 | | | | 248,745 | | | | 422,065 | | Shares granted | | | 71,467 | | | | 136,584 | | | | 18,000 | | Shares vested | | | (95,241 | ) | | | (246,277 | ) | | | (187,000 | ) | Shares forfeited or retired | | | — | | | | (9,750 | ) | | | (4,320 | ) | | | | | | | | | | | Restricted shares outstanding, end of period | | | 105,528 | | | | 129,302 | | | | 248,745 | | | | | | | | | | | |
The shares granted under the Restricted Share Planrestricted share plan are considered outstanding at the date of grant asbecause the recipients are entitled to dividends and voting rights. As of December 31, 2005,2008, there were 422,065 of105,528 nonvested restricted shares outstanding with a weighted average measurement date fair value of $12.94$16.82 per share. As of December 31, 2007, there were 129,302 nonvested restricted shares outstanding with a weighted average measurement date fair value of $17.23 per share. The 87,500 shares granted during 20052008 include 14,750 restricted shares granted to certain key employees and directors as well as 56,717 performance based restricted shares. The performance based restricted shares were granted to key employees based upon the Company achieving certain financial and operating targets for 2007 based on a sliding scale. The 14,750 shares granted during 2008 had a weighted average measurement date fair value of $12.73$14.92 per share. In March 2008, a target of 64,447 performance based restricted shares was approved for issuance in the first quarter of 2009 based upon meeting operational and financial goals in 2008. Shares granted subsequent to the IPOgenerally vest at the rate of 25% per year on the anniversary of their grant date. The fair market value of vesting shares was $1,051, $4,693 and $3,865 for the periods ending December 31, 2008, 2007 and 2006, respectively. There was approximately $5,421$1,993 of total unrecognized compensation cost related to the 422,065 nonvested shares outstanding at December 31, 2005.2008. That cost less an estimated allowance of $54 for forfeitures, is expected to be recognized based upon future vesting as non-cash stock compensation in the following years: 2006 — $2,426, 2007 — $2,425, 2008 — $2762009—$1,234, 2010—$623, 2011—$152, and 2009 — $240.2012—$27. | | 17. | Redeemable Preferred Shares |
At December 31, 2004, the Company had authorized 182,000 class A preferred shares of which 182,000 shares were issued and outstanding. The preferred shares were redeemable to the holders with a preferred return on their capital contributions at the rate of 9.0% per annum. On June 7, 2005, the Company made a $37,500 cash distribution to holders of its redeemable preferred shares. On July 27, 2005, all of the outstanding redeemable preferred shares, with a liquidation preference totaling
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CONSOLIDATED COMMUNICATIONS HOLDINGS, INC.17. Accumulated Other Comprehensive Loss
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Dollars in thousands, except share and per share amounts)
approximately $178,200, were exchanged for 13,710,318 shares of the Company’s common stock which was computed based upon the initial offering price of $13.00 per common share.
| | 18. | Accumulated Other Comprehensive Income |
Accumulated other comprehensive income is comprised of(loss) comprises the following components: | | | | | | | | | | | December 31, | | | | | | | | 2005 | | | 2004 | | | | | | | | | Unrealized gain on cash flow hedges, net of tax | | $ | 2,778 | | | $ | 590 | | Minimum pension liability, net of tax | | | (427 | ) | | | (283 | ) | Unrealized loss on marketable securities, net of tax | | | (49 | ) | | | (49 | ) | | | | | | | | Accumulated other comprehensive income | | $ | 2,302 | | | $ | 258 | | | | | | | | |
| | | | | | | | | | | December 31, | | | | 2008 | | | 2007 | | Fair value of cash flow hedges | | $ | (47,513 | ) | | $ | (12,769 | ) | | Prior service credits and net losses on postretirement plans | | | (46,598 | ) | | | 3,873 | | | | | | | | | | | | (94,111 | ) | | | (8,896 | ) | Deferred taxes | | | 34,632 | | | | 3,245 | | | | | | | | | | Accumulated other comprehensive loss | | $ | (59,479 | ) | | $ | (5,651 | ) | | | | | | | |
| | 19. | Environmental Remediation Liabilities |
18. Environmental Remediation Liabilities Environmental remediation liabilities were $830 and $914$500 at December 31, 20052008, and 2004, respectively2007, and are included in other liabilities. These liabilities relate to anticipated remediation and monitoring costs in respect of two small vacant sites and are undiscounted. The Company believes the amount accrued is adequate to cover itsthe remaining anticipated costs of remediation. 19. Commitments and Contingencies | | 20. | Commitments and Contingencies |
Legal proceedings FromOn April 15, 2008, Salsgiver Inc., a Pennsylvania-based telecommunications company, and certain of its affiliates filed a lawsuit against the Company and its subsidiaries, North Pittsburgh Telephone Company and North Pittsburgh Systems Inc., in Allegheny County, Pennsylvania. The complaint alleges that the Company prevented Salsgiver from connecting fiber optic cables to North Pittsburgh’s utility poles, and seeks compensatory and punitive damages for alleged lost projected profits, damage to Salsgiver’s business reputation, and other costs. The alleged aggregate losses are approximately $125 million, though Salsgiver does not request a specific dollar amount in damages. The Company believes these claims are without merit and the damages are completely unfounded. On November 3, 2008 the Company responded to Salsgiver’s amended complaint and filed a counterclaim for trespass, alleging that Salsgiver attached cables to the Company’s poles without permission and in an unsafe manner.
In addition, from time to time the Company is involved in litigation and regulatory proceedings arising out of its operations. The Company isManagement does not currently a party tobelieve that an adverse outcome in any one or more legal proceedings to which the adverse outcome of which, individually or in aggregate, management believesCompany currently is a party would have a material adverse effect on the Company’s financial position or results of operations. Operating leases The Company has entered into several operating lease agreementsleases covering buildings and office space and equipment. Rent expense totaled $5,047, $4,515$4,245 in 2008, $3,810 in 2007, and $2,043$4,381 in 2005, 2004 and 2003, respectively.2006. Future minimum lease payments under existing agreements for each of the next five years and thereafter are as follows: 2006 — $3,501 2007 — $2,799, 2008 — $1,985, 2009 — $1,732, 2010 — $1,681 thereafter — $2,141.2009—$4,187, 2010—$3,021, 2011—$1,640, 2012—$471, 2013—$287, thereafter—$688. 94
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC.Other commitments
The Company has entered into two operational support systems contracts. Should we terminate either of the contracts prior to the expiration of their term, we will be liable for minimum commitment payments as defined in the contracts for the remaining term of the contracts. In addition, we have a contractual obligation for network maintenance. The total of the Company’s other commitments are due as follows: 2009—$1,120, 2010—$1,121, 2011—$571, 2012—$69, 2013—$71, thereafter—$110. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)Other contingencies
(DollarsOn October 23, 2006, Verizon Pennsylvania, Inc. and several of its affiliates filed a formal complaint with the PAPUC claiming that the Company’s Pennsylvania CLEC’s intrastate switched access rates violate Pennsylvania law. The provision that Verizon cites in thousands, except shareits complaint requires CLEC rates to be no higher than the corresponding incumbent’s rates unless the CLEC can demonstrate that the higher access rates are “cost justified.” Verizon’s original claim requested a refund of $480 from access billings through August 2006. That claim was later revised to include amounts from certain affiliates that had not been included in the original calculation. Verizon’s new complaint seeks $1,346 through December 2006.
The Company believes that its CLEC’s switched access rates are permissible, and per share amounts)is vigorously opposing this complaint. In an Initial Decision dated December 5, 2007, the presiding administrative law judge recommended that the Pennsylvania Public Utility Commission (“PAPUC”), sustain Verizon’s complaint. As relief, the judge directed the Company’s Pennsylvania CLEC to reduce its access rates down to those of the underlying incumbent exchange carrier and refund to Verizon an amount equal to the access charges collected in excess of the new rate since November 30, 2004. The Company filed exceptions to the full PAPUC, which requested that Verizon and the Company attempt to resolve the issue through mediation. The parties were given until November 29, 2008, to complete the mediation, but through mutual agreement, the deadline has been extended to March 2009. If the Company is not successful in this proceeding, the Pennsylvania CLEC’s operations could suffer material harm—both because of the refund sought by Verizon and because of the prospective reduction in access revenues resulting from the change in its intrastate access rates, which would apply to all carriers on a non-discriminatory basis. The Company’s preliminary estimates indicate that the decrease in annual revenues would be approximately $1,200 on a static basis (keeping access minutes of use constant) if Verizon prevails completely. In addition, other interexchange carriers could file similar claims for refunds. The Company has estimated its potential liability to Verizon and other interexchange carriers to be $3,166 and has recorded a liability that is included in other liabilities in the accompanying consolidated balance sheets. The Company believes that the amount accrued is adequate to cover its potential liabilities. 20. Share Repurchase In July 2006, the Company completed the repurchase of approximately 3.8 million shares of its common stock for approximately $56,736, or $15.00 per share. With this transaction, Providence Equity sold its entire position in the Company, which totaled approximately 12.7 percent of the Company’s outstanding shares of common stock. This was a private transaction and did not decrease the Company’s publicly traded shares. The Company financed the repurchase using approximately $17,736 of cash on hand and $39,000 of additional term-loan borrowings. | | 21. | Net Loss per Common Share |
21. Net Income per Common Share The following table sets forth the computation of net lossincome per common share: | | | | | | | | | | | | | | | December 31, | | | | | | | | 2005 | | | 2004 | | | 2003 | | | | | | | | | | | | Basic and diluted: | | | | | | | | | | | | | Net loss applicable to common stockholders | | $ | (14,725 | ) | | $ | (16,108 | ) | | $ | (3,003 | ) | Weighted average number of common shares outstanding | | | 17,821,609 | | | | 9,000,685 | | | | 9,000,000 | | | | | | | | | | | | Net loss per common share | | $ | (0.83 | ) | | $ | (1.79 | ) | | $ | (0.33 | ) | | | | | | | | | | |
Non-vested shares issued pursuant to the Restricted Share Plan (Note 16) are not considered outstanding for the computation of basic and diluted net loss per share as their effect was anti-dilutive. | | | | | | | | | | | | | | | December 31, | | | | 2008 | | | 2007 | | | 2006 | | Net income applicable to common stockholders | | $ | 12,504 | | | $ | 11,423 | | | $ | 13,267 | | | | | | | | | | | | | | | | | | | | | | | | | Basic weighted average number of common shares outstanding | | | 29,321,404 | | | | 25,764,380 | | | | 27,739,697 | | Effect of dilutive securities | | | 209,332 | | | | 358,104 | | | | 430,804 | | | | | | | | | | | | Diluted weighted average number of common shares outstanding | | | 29,530,736 | | | | 26,122,484 | | | | 28,170,501 | | | | | | | | | | | | | | | | | | | | | | | | | Basic earnings per share | | $ | 0.43 | | | $ | 0.44 | | | $ | 0.48 | | | | | | | | | | | | | | | | | | | | | | | | | Diluted earnings per share | | $ | 0.42 | | | $ | 0.44 | | | $ | 0.47 | | | | | | | | | | | |
95
22. Business Segments The Company is viewed and managed as two separate, but highly integrated, reportable business segments,segments: “Telephone Operations” and “Other Operations”.Operations.” Telephone Operations consists of a wide range of telecommunications services, including local and long distance service, digital telephone long-distanceservice, custom calling features, private line services, dial-up and networkhigh-speed Internet access, digital TV, carrier access services, telephone directoriesnetwork capacity services over a regional fiber optic network, and data and Internet products provided to both residential and business customers. All other business activitiesdirectory publishing. The Company also operates a number of complementary businesses that comprise “Other Operations”Operations,” including telemarketing and order fulfillment, telephone services to county jails and state prisons, equipment sales, operator services, products, telecommunications services to state prison facilities, equipment sales and maintenance, inbound/outbound telemarketing and fulfillment services, and pagingmobile services. Management evaluates the performance of these business segments based upon revenue, gross margins, and net operating income. | | | | | | | | | | | | | | | Year Ended December 31, | | | | 2008 | | | 2007 | | | 2006 | | Operating revenues | | | | | | | | | | | | | Telephone Operations | | $ | 377,967 | | | $ | 286,774 | | | $ | 280,334 | | Other Operations | | | 40,457 | | | | 42,474 | | | | 40,433 | | | | | | | | | | | | Total | | $ | 418,424 | | | $ | 329,248 | | | $ | 320,767 | | | | | | | | | | | | | | | | | | | | | | | | | Operating income (loss) | | | | | | | | | | | | | Telephone Operations | | $ | 74,554 | | | $ | 70,162 | | | $ | 65,939 | | Other Operations | | | (6,190 | ) | | | (3,525 | ) | | | (16,628 | ) | | | | | | | | | | | Total | | | 68,364 | | | | 66,637 | | | | 49,311 | | | | | | | Interest income | | | 367 | | | | 893 | | | | 974 | | Interest expense | | | (66,659 | ) | | | (47,350 | ) | | | (43,873 | ) | Investment income | | | 20,495 | | | | 7,034 | | | | 7,691 | | Minority interest | | | (863 | ) | | | (627 | ) | | | (721 | ) | Loss on extinguishment of debt | | | (9,224 | ) | | | (10,323 | ) | | | — | | Other, net | | | (577 | ) | | | (167 | ) | | | 290 | | | | | | | | | | | | | | | | | | | | | | | | | Income before income taxes and extraordinary item | | $ | 11,903 | | | $ | 16,097 | | | $ | 13,672 | | | | | | | | | | | | | | | | | | | | | | | | | Capital expenditures: | | | | | | | | | | | | | Telephone Operations | | $ | 47,181 | | | $ | 32,245 | | | $ | 32,698 | | Other Operations | | | 846 | | | | 1,250 | | | | 690 | | | | | | | | | | | | Total | | $ | 48,027 | | | $ | 33,495 | | | $ | 33,388 | | | | | | | | | | | |
| | | | | | | | | | | | | | | Telephone | | | Other | | | | | | | Operations | | | Operations | | | Total | | As of December 31, 2008: | | | | | | | | | | | | | Goodwill | | $ | 519,428 | | | $ | 1,134 | | | $ | 520,562 | | | | | | | | | | | | Total assets | | $ | 1,227,320 | | | $ | 14,306 | | | $ | 1,241,626 | | | | | | | | | | | | As of December 31, 2007: | | | | | | | | | | | | | Goodwill | | $ | 519,255 | | | $ | 7,184 | | | $ | 526,439 | | | | | | | | | | | | Total assets | | $ | 1,281,011 | | | $ | 23,580 | | | $ | 1,304,591 | | | | | | | | | | | |
9596
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC.23. Quarterly Financial Information (unaudited)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)Consolidated Communications Quarterly Consolidated Statements of Income
(Dollars in thousands, except share and per share amounts) | | | | | | | | | | | | | | | | | | | March 31 | | | June 30 | | | September 30 | | | December 31 | | 2008 | | | | | | | | | | | | | | | | | Revenues | | $ | 105,414 | | | $ | 106,444 | | | $ | 103,824 | | | $ | 102,742 | | Operating expenses: | | | | | | | | | | | | | | | | | Cost of services and products | | | 33,863 | | | | 36,108 | | | | 37,778 | | | | 35,814 | | Selling, general and administrative expenses | | | 28,144 | | | | 26,911 | | | | 26,162 | | | | 27,552 | | Intangible assets impairment | | | — | | | | — | | | | — | | | | 6,050 | | Depreciation and amortization | | | 22,871 | | | | 22,350 | | | | 22,841 | | | | 23,616 | | | | | | | | | | | | | | | Total operating expenses | | | 84,878 | | | | 85,369 | | | | 86,781 | | | | 93,032 | | | | | | | | | | | | | | | Income from operations | | | 20,536 | | | | 21,075 | | | | 17,043 | | | | 9,710 | | Other expenses, net | | | 13,949 | | | | 20,625 | | | | 7,810 | | | | 14,077 | | | | | | | | | | | | | | | Income (loss) before income taxes and extraordinary item | | | 6,587 | | | | 450 | | | | 9,233 | | | | (4,367 | ) | Income tax expense (benefit) | | | 2,878 | | | | 270 | | | | 4,262 | | | | (771 | ) | | | | | | | | | | | | | | Income (loss) before extraordinary item | | | 3,709 | | | | 180 | | | | 4,971 | | | | (3,596 | ) | Extraordinary item (net of income tax) | | | — | | | | — | | | | — | | | | 7,240 | | | | | | | | | | | | | | | Net income | | $ | 3,709 | | | $ | 180 | | | $ | 4,971 | | | $ | 3,644 | | | | | | | | | | | | | | | Net income per common share | | | | | | | | | | | | | | | | | Basic | | $ | 0.13 | | | $ | 0.01 | | | $ | 0.17 | | | $ | 0.12 | | | | | | | | | | | | | | | Diluted | | $ | 0.13 | | | $ | 0.01 | | | $ | 0.17 | | | $ | 0.11 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | 2007 | | | | | | | | | | | | | | | | | Revenues | | $ | 82,980 | | | $ | 80,944 | | | $ | 80,320 | | | $ | 85,004 | | Operating expenses: | | | | | | | | | | | | | | | | | Cost of services and products | | | 25,629 | | | | 25,788 | | | | 27,698 | | | | 28,175 | | Selling, general and administrative expenses | | | 22,299 | | | | 22,296 | | | | 21,800 | | | | 23,267 | | Depreciation and amortization | | | 16,629 | | | | 16,606 | | | | 16,350 | | | | 16,074 | | | | | | | | | | | | | | | Total operating expenses | | | 64,557 | | | | 64,690 | | | | 65,848 | | | | 67,516 | | | | | | | | | | | | | | | Income from operations | | | 18,423 | | | | 16,254 | | | | 14,472 | | | | 17,488 | | Other expenses, net | | | 10,117 | | | | 9,704 | | | | 10,119 | | | | 20,600 | | | | | | | | | | | | | | | Pretax income (loss) | | | 8,306 | | | | 6,550 | | | | 4,353 | | | | (3,112 | ) | Income tax expense (benefit) | | | 3,687 | | | | 1,057 | | | | 2,012 | | | | (2,082 | ) | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Net income (loss) | | $ | 4,619 | | | $ | 5,493 | | | $ | 2,341 | | | $ | (1,030 | ) | | | | | | | | | | | | | | Net income (loss) per common share basic and diluted | | $ | 0.18 | | | $ | 0.21 | | | $ | 0.09 | | | $ | (0.04 | ) | | | | | | | | | | | | | |
The business segment reporting information is as follows:
| | | | | | | | | | | | | | | Telephone | | | Other | | | | | | Operations | | | Operations | | | Total | | | | | | | | | | | | Year ended December 31, 2005: | | | | | | | | | | | | | Operating revenues | | $ | 282,285 | | | $ | 39,144 | | | $ | 321,429 | | Cost of services and products | | | 75,884 | | | | 25,275 | | | | 101,159 | | | | | | | | | | | | | | | 206,401 | | | | 13,869 | | | | 220,270 | | Operating expenses | | | 89,043 | | | | 9,748 | | | | 98,791 | | Depreciation and amortization | | | 62,254 | | | | 5,125 | | | | 67,379 | | | | | | | | | | | | Operating income (loss) | | $ | 55,104 | | | $ | (1,004 | ) | | $ | 54,100 | | | | | | | | | | | | Capital expenditures | | $ | 30,464 | | | $ | 630 | | | $ | 31,094 | | | | | | | | | | | | Year ended December 31, 2004: | | | | | | | | | | | | | Operating revenues | | $ | 230,401 | | | $ | 39,207 | | | $ | 269,608 | | Cost of services and products | | | 56,339 | | | | 24,233 | | | | 80,572 | | | | | | | | | | | | | | | 174,062 | | | | 14,974 | | | | 189,036 | | Operating expenses | | | 77,123 | | | | 10,832 | | | | 87,955 | | Intangible assets impairment | | | — | | | | 11,578 | | | | 11,578 | | Depreciation and amortization | | | 49,061 | | | | 5,461 | | | | 54,522 | | | | | | | | | | | | Operating income (loss) | | $ | 47,878 | | | $ | (12,897 | ) | | $ | 34,981 | | | | | | | | | | | | Capital expenditures | | $ | 28,779 | | | $ | 1,231 | | | $ | 30,010 | | | | | | | | | | | | Year ended December 31, 2003: | | | | | | | | | | | | | Operating revenues | | $ | 90,282 | | | $ | 42,048 | | | $ | 132,330 | | Cost of services and products | | | 21,762 | | | | 24,543 | | | | 46,305 | | | | | | | | | | | | | | | 68,520 | | | | 17,505 | | | | 86,025 | | Operating expenses | | | 32,987 | | | | 9,508 | | | | 42,495 | | Depreciation and amortization | | | 16,488 | | | | 5,988 | | | | 22,476 | | | | | | | | | | | | Operating income | | $ | 19,045 | | | $ | 2,009 | | | $ | 21,054 | | | | | | | | | | | | Capital expenditures | | $ | 9,117 | | | $ | 2,179 | | | $ | 11,296 | | | | | | | | | | | | As of December 31, 2005: | | | | | | | | | | | | | Goodwill | | $ | 305,289 | | | $ | 8,954 | | | $ | 314,243 | | | | | | | | | | | | Total assets | | $ | 903,158 | | | $ | 42,792 | | | $ | 945,950 | | | | | | | | | | | | As of December 31, 2004: | | | | | | | | | | | | | Goodwill | | $ | 309,527 | | | $ | 8,954 | | | $ | 318,481 | | | | | | | | | | | | Total assets | | $ | 936,545 | | | $ | 69,554 | | | $ | 1,006,099 | | | | | | | | | | | |
9697
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Dollars in thousands, except share and per share amounts)
| | 23. | Quarterly Financial Information (unaudited) |
| | | | | | | | | | | | | | | | | | | | | March 31 | | | June 30 | | | September 30 | | | December 31 | | | | | | | | | | | | | | | 2005 | | | | | | | | | | | | | | | | | | Revenues | | $ | 79,772 | | | $ | 78,264 | | | $ | 82,168 | | | $ | 81,225 | | | Operating expenses: | | | | | | | | | | | | | | | | | | | Cost of services and products | | | 24,417 | | | | 24,353 | | | | 25,953 | | | | 26,436 | | | | Selling, general and administrative expenses | | | 26,196 | | | | 16,902 | | | | 32,419 | | | | 23,274 | | | | Depreciation and amortization | | | 16,818 | | | | 17,114 | | | | 16,920 | | | | 16,527 | | | | | | | | | | | | | | | Total operating expenses | | | 67,431 | | | | 58,369 | | | | 75,292 | | | | 66,237 | | | | | | | | | | | | | | | Income from operations | | | 12,341 | | | | 19,895 | | | | 6,876 | | | | 14,988 | | Other expenses, net | | | 11,054 | | | | 8,351 | | | | 18,371 | | | | 9,851 | | | | | | | | | | | | | | | Pretax income (loss) | | | 1,287 | | | | 11,544 | | | | (11,495 | ) | | | 5,137 | | Income tax expense (benefit) | | | 586 | | | | 4,385 | | | | (1,270 | ) | | | 7,234 | | | | | | | | | | | | | | | Net income (loss) | | | 701 | | | | 7,159 | | | | (10,225 | ) | | | (2,097 | ) | Dividends on redeemable preferred shares | | | (4,623 | ) | | | (4,498 | ) | | | (1,142 | ) | | | — | | | | | | | | | | | | | | | Net income (loss) applicable to common shareholders | | $ | (3,922 | ) | | $ | 2,661 | | | $ | (11,367 | ) | | $ | (2,097 | ) | | | | | | | | | | | | | | Net income (loss) per common share | | $ | (0.42 | ) | | $ | 0.27 | | | $ | (0.49 | ) | | $ | (0.07 | ) | | | | | | | | | | | | | | 2004 | | | | | | | | | | | | | | | | | | Revenues | | $ | 34,067 | | | $ | 72,538 | | | $ | 84,405 | | | $ | 78,598 | | | Operating expenses: | | | | | | | | | | | | | | | | | | | Cost of services and products | | | 12,374 | | | | 22,401 | | | | 23,223 | | | | 22,574 | | | | Selling, general and administrative expenses | | | 10,589 | | | | 22,441 | | | | 27,768 | | | | 27,157 | | | | Depreciation and amortization | | | 5,366 | | | | 15,176 | | | | 16,942 | | | | 17,038 | | | | Asset impairment | | | — | | | | — | | | | — | | | | 11,578 | | | | | | | | | | | | | | | Total operating expenses | | | 28,329 | | | | 60,018 | | | | 67,933 | | | | 78,347 | | | | | | | | | | | | | | | Income from operations | | | 5,738 | | | | 12,520 | | | | 16,472 | | | | 251 | | Other expenses, net | | | 2,797 | | | | 12,984 | | | | 10,143 | | | | 9,968 | | | | | | | | | | | | | | | Pretax income (loss) | | | 2,941 | | | | (464 | ) | | | 6,329 | | | | (9,717 | ) | Income tax expense (benefit) | | | 1,177 | | | | (357 | ) | | | 2,842 | | | | (3,430 | ) | | | | | | | | | | | | | | Net income (loss) | | | 1,764 | | | | (107 | ) | | | 3,487 | | | | (6,287 | ) | Dividends on redeemable preferred shares | | | (2,274 | ) | | | (4,019 | ) | | | (4,330 | ) | | | (4,342 | ) | | | | | | | | | | | | | | Net loss applicable to common shareholders | | $ | (510 | ) | | $ | (4,126 | ) | | $ | (843 | ) | | $ | (10,629 | ) | | | | | | | | | | | | | | Net loss per common share | | $ | (0.06 | ) | | $ | (0.46 | ) | | $ | (0.09 | ) | | $ | (1.18 | ) | | | | | | | | | | | | | |
Notes:
Amendments to one of the Company’s retiree medical and life insurance plans resulted in a $7,880 curtailment gain that was included in general and administrative expenses during the quarter ended June 30, 2005.
In June 2005, the Company recognized $2,800 of net proceeds in other income due to the receipt of key man life insurance proceeds relating to the passing of a former TXUCV employee.
97
Item 9.Changes in and Disagreements With Accountants on Accounting and Financial Disclosure | | Item 9. | Changes in and Disagreements with Accountants on Accounting and Financial Controls |
None | | Item 9A. | Item 9A.Controls and Procedures |
We maintain disclosure controls and procedures that are designed to ensure that information required to be disclosed in our report under the Securities Exchange Act of 1934, as amended, is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms, and that such information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosures. Any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives. Our management,Procedures
Management, with the participation of ourthe Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of the design and operation of ourCompany’s disclosure controls and procedures (as such term is defined in Rule 13a-15(e) under the Securities Exchange Act) as of December 31, 2005. Based upon2008, the end of the Company’s fiscal year, and determined that evaluationsuch controls and subjectprocedures were effective in timely making known to management material information relating to the foregoing, our Chief Executive OfficerCompany required to be included in the Company’s periodic filings under the Exchange Act, and Chief Financial Officer concluded that the design and operation of ourthere were no material weaknesses in those disclosure controls and procedures provided reasonable assuranceprocedures. Management also indicated that during the disclosure controlsCompany’s fourth quarter of 2008 there were no changes that would have materially affected, or are reasonably likely to affect, the Company’s internal control over financial reporting. Management’s Report on Internal Control Over Financial Reporting and proceduresthe Report of Independent Registered Public Accounting Firm thereon are effective to accomplish their objectives.set forth in Part II, Item 8 of this Annual Report on Form 10-K. Item 9B.Other Information | | Item 9B. | Other Information |
None PART III Item 10.Directors, Executive Officers and Corporate Governance | | Item 10. | Directors and Executive Officers of the Registrant |
The Company has adopted a code of ethics that applies to all of its employees, officers, and directors, including its principal executive officer, principal financial officer, and principal accounting officer. The text of the Company’s code of ethics is posted on its website atwww.Consolidated.com within the Corporate Governance portion of the (select Investor Relations, section.and then Corporate Governance). Additional information required by this Item is incorporated herein by reference to our proxy statement to be issued in connection with the Annual Meeting of our Stockholders to be held on May 18, 2006,5, 2009, which proxy statement will be filed within 120 days of the end of our fiscal year.before April 30, 2009. Item 11.Executive Compensation | | Item 11. | Executive Compensation |
The information required by this Item is incorporated herein by reference to our proxy statement to be issued in connection with the Annual Meeting of our Stockholders to be held on May 18, 2006,5, 2009, which proxy statement will be filed within 120 days of the end of our fiscal year.before April 30, 2009. Item 12.Security Ownership of Certain Beneficial Owners and Management | | Item 12. | Security Ownership of Certain Beneficial Owners and Management |
The information required by this Item is incorporated herein by reference to our proxy statement to be issued in connection with the Annual Meeting of our Stockholders to be held on May 18, 2006,5, 2009, which proxy statement will be filed within 120 days of the end of our fiscal year.before April 30, 2009. Item 13.Certain Relationships and Related Transactions, and Director Independence | | Item 13. | Certain Relationships and Related Transactions |
The information required by this Item is incorporated herein by reference to our proxy statement to be issued in connection with the Annual Meeting of our Stockholders to be held on May 18, 2006,5, 2009, which proxy statement will be filed within 120 days of the end of our fiscal year.before April 30, 2009. 98
Item 14.Principal Accountant Fees and Services | | Item 14. | Principal Accounting Fees and Services |
The information required by this Item is incorporated herein by reference to our proxy statement to be issued in connection with the Annual Meeting of our Stockholders to be held on May 18, 2006,5, 2009, which proxy statement will be filed within 120 days of the end of our fiscal year.before April 30, 2009. 98
PartPART IV
Item 15.Exhibits and Financial Statement Schedules | | Item 15. | Exhibits and Financial Statement Schedules |
Exhibits See the Index to Exhibits following the signaturesSignatures page of this Report. Financial Statement Schedules The consolidated financial statements of the Registrant are set forth under Item 8 of this Report. Schedules not included have been omitted because they are not applicable or the required information is included elsewhere herein. Schedule II — II—Valuation and Qualifying AccountsReserves is set forth below. The financial statements of the Registrant’s 50% or less owned companies that are deemed to be material under Rule 3-09 of Regulation S-X, include Pennsylvania RSA 6(II) and GTE Mobilnet of Texas RSA #17, Limited Partnership are also set forth below. 99
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. SCHEDULE II — II—VALUATION AND QUALIFYING ACCOUNTSRESERVES (Dollars in thousands) | | | | | | | | | | | | | | | December 31, | | | | | | | | 2005 | | | 2004 | | | 2003 | | | | | | | | | | | | Allowance for Doubtful Accounts: | | | | | | | | | | | | | Balance at beginning of year | | $ | 2,613 | | | $ | 1,837 | | | $ | 1,850 | | TXUCV acquisition | | | — | | | | 1,316 | | | | — | | Provision charged to expense | | | 4,480 | | | | 4,666 | | | | 3,412 | | Write-offs, less recoveries | | | (4,268 | ) | | | (5,206 | ) | | | (3,425 | ) | | | | | | | | | | | Balance at end of year | | $ | 2,825 | | | $ | 2,613 | | | $ | 1,837 | | | | | | | | | | | | Inventory reserves: | | | | | | | | | | | | | Balance at beginning of year | | $ | 549 | | | $ | 143 | | | $ | 150 | | TXUCV acquisition | | | 264 | | | | 328 | | | | — | | Provision charged to expense | | | 70 | | | | 126 | | | | — | | Write-offs | | | (253 | ) | | | (48 | ) | | | (7 | ) | | | | | | | | | | | Balance at end of year | | $ | 630 | | | $ | 549 | | | $ | 143 | | | | | | | | | | | | Income tax valuation allowance: | | | | | | | | | | | | | Balance at beginning of year | | $ | 17,136 | | | $ | — | | | $ | — | | TXUCV acquisition | | | — | | | | 12,331 | | | | — | | Adjustment to goodwill | | | (1,413 | ) | | | 6,142 | | | | — | | Provision charged to expense | | | 317 | | | | (52 | ) | | | — | | Release of valuation allowance | | | — | | | | (1,285 | ) | | | — | | | | | | | | | | | | Balance at end of year | | $ | 16,040 | | | $ | 17,136 | | | $ | — | | | | | | | | | | | |
| | | | | | | | | | | | | | | 2008 | | | 2007 | | | 2006 | | Allowance for Doubtful Accounts: | | | | | | | | | | | | | Balance at beginning of year | | $ | 2,440 | | | $ | 2,110 | | | $ | 2,825 | | North Pittsburgh acquisition | | | — | | | | 471 | | | | — | | Provision charged to expense | | | 4,819 | | | | 4,734 | | | | 5,059 | | Write-offs, less recoveries | | | (5,351 | ) | | | (4,875 | ) | | | (5,774 | ) | | | | | | | | | | | Balance at end of year | | $ | 1,908 | | | $ | 2,440 | | | $ | 2,110 | | | | | | | | | | | | | | | | | | | | | | | | | Inventory reserves: | | | | | | | | | | | | | Balance at beginning of year | | $ | 400 | | | $ | 429 | | | $ | 630 | | North Pittsburgh acquisition | | | — | | | | 171 | | | | — | | Provision charged to expense | | | 597 | | | | 125 | | | | — | | Write-offs | | | (119 | ) | | | (325 | ) | | | (201 | ) | | | | | | | | | | | Balance at end of year | | $ | 878 | | | $ | 400 | | | $ | 429 | | | | | | | | | | | | | | | | | | | | | | | | | Income tax valuation allowance: | | | | | | | | | | | | | Balance at beginning of year | | $ | 2,871 | | | $ | 5,349 | | | $ | 16,040 | | North Pittsburgh acquisition | | | — | | | | 1,530 | | | | — | | North Pittsburgh ETFL adjustment to goodwill | | | (1,530 | ) | | | — | | | | — | | Reduction of related deferred tax asset | | | (1,341 | ) | | | (3,984 | ) | | | (5,021 | ) | Provision (benefit) charged to expense | | | — | | | | (24 | ) | | | (283 | ) | Release of valuation allowance | | | — | | | | — | | | | (5,387 | ) | | | | | | | | | | | Balance at end of year | | $ | — | | | $ | 2,871 | | | $ | 5,349 | | | | | | | | | | | |
100
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM To the Partners of GTE Mobilnet of
Texas #17Pennsylvania RSA 6 (II) Limited Partnership: We have audited the accompanying balance sheets of GTE Mobilnet of Texas #17Pennsylvania RSA 6 (II) Limited Partnership (the “Partnership”) as of December 31, 20052008 and 2004,2007, and the related statements of operations, changes in partners’ capital, and cash flows for each of the three years in the period ended December 31, 2005.2008. These financial statements are the responsibility of the Partnership’s management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. The Partnership is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audit included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances but not for the purpose of expressing an opinion on the effectiveness of the Partnership’s internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, such financial statements present fairly, in all material respects, the financial position of the Partnership as of December 31, 20052008 and 2004,2007, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 2005,2008, in conformity with accounting principles generally accepted in the United States of America. /s/ Deloitte & Touche LLP
Atlanta, Georgia March 16, 20062009 101
GTE MOBILNET OF TEXAS #17PENNSYLVANIA RSA 6 (II) LIMITED PARTNERSHIP
BALANCE SHEETS December DECEMBER 31, 2005 and 2004
2008 AND 2007 (Dollars in thousands)Thousands) | | | | | | | | | | | | | 2005 | | | 2004 | | | | | | | | | ASSETS | CURRENT ASSETS: | | | | | | | | | | Accounts receivable, net of allowance of $385 and $268 | | $ | 2,382 | | | $ | 2,061 | | | Unbilled revenue | | | 909 | | | | 712 | | | Due from General Partner | | | 6,835 | | | | 3,659 | | | Prepaid expenses and other current assets | | | 14 | | | | 11 | | | | | | | | | | | Total current assets | | | 10,140 | | | | 6,443 | | PROPERTY, PLANT AND EQUIPMENT — Net | | | 29,183 | | | | 22,494 | | | | | | | | | TOTAL ASSETS | | $ | 39,323 | | | $ | 28,937 | | | | | | | | | | LIABILITIES AND PARTNERS’ CAPITAL | CURRENT LIABILITIES: | | | | | | | | | | Accounts payable and accrued liabilities | | $ | 2,105 | | | $ | 1,193 | | | Advance billings and customer deposits | | | 617 | | | | 540 | | | | | | | | | | | Total current liabilities | | | 2,722 | | | | 1,733 | | | | | | | | | LONG TERM LIABILITIES | | | 137 | | | | — | | | | | | | | | | | Total liabilities | | | 2,859 | | | | 1,733 | | COMMITMENTS AND CONTINGENCIES (see Notes 6 and 7) | | | | | | | | | PARTNERS’ CAPITAL | | | 36,464 | | | | 27,204 | | | | | | | | | TOTAL LIABILITIES AND PARTNERS’ CAPITAL | | $ | 39,323 | | | $ | 28,937 | | | | | | | | |
| | | | | | | | | | | 2008 | | | 2007 | | ASSETS | | | | | | | | | | CURRENT ASSETS: | | | | | | | | | Accounts receivable, net of allowance of $225 and $154 | | $ | 7,964 | | | $ | 6,638 | | Unbilled revenue | | | 784 | | | | 727 | | Due from General Partner | | | 6,412 | | | | 6,527 | | Prepaid expenses and other current assets | | | 17 | | | | 17 | | | | | | | | | | | | | | | | | | Total current assets | | | 15,177 | | | | 13,909 | | | | | | | | | | | PROPERTY, PLANT AND EQUIPMENT—Net | | | 12,418 | | | | 12,373 | | | | | | | | | | | OTHER ASSETS | | | 140 | | | | — | | | | | | | | | | | | | | | | | | TOTAL ASSETS | | $ | 27,735 | | | $ | 26,282 | | | | | | | | | | | | | | | | | | LIABILITIES AND PARTNERS’ CAPITAL | | | | | | | | | | | | | | | | | | CURRENT LIABILITIES: | | | | | | | | | Accounts payable and accrued liabilities | | $ | 2,173 | | | $ | 2,388 | | Advance billings and customer deposits | | | 2,392 | | | | 2,097 | | | | | | | | | | | | | | | | | | Total current liabilities | | | 4,565 | | | | 4,485 | | | | | | | | | | | LONG TERM LIABILITIES | | | 187 | | | | 160 | | | | | | | | | | | | | | | | | | Total liabilities | | | 4,752 | | | | 4,645 | | | | | | | | | | | | | | | | | | COMMITMENTS AND CONTINGENCIES (see Notes 6 and 7) | | | | | | | | | | | | | | | | | | PARTNERS’ CAPITAL | | | 22,983 | | | | 21,637 | | | | | | | | | | | | | | | | | | TOTAL LIABILITIES AND PARTNERS’ CAPITAL | | $ | 27,735 | | | $ | 26,282 | | | | | | | | |
See notes to financial statements. 102
GTE MOBILNET OF TEXAS #17PENNSYLVANIA RSA 6 (II) LIMITED PARTNERSHIP
STATEMENTS OF OPERATIONS Years Ended December YEARS ENDED DECEMBER 31, 2005, 2004 and 2003
2008, 2007 AND 2006 (Dollars in thousands)Thousands) | | | | | | | | | | | | | | | | | 2005 | | | 2004 | | | 2003 | | | | | | | | | | | | OPERATING REVENUES: | | | | | | | | | | | | | | Service revenues | | $ | 38,399 | | | $ | 32,687 | | | $ | 28,324 | | | Equipment and other revenues | | | 3,633 | | | | 2,516 | | | | 2,135 | | | | | | | | | | | | | | Total operating revenues | | | 42,032 | | | | 35,203 | | | | 30,459 | | | | | | | | | | | | OPERATING COSTS AND EXPENSES: | | | | | | | | | | | | | | Cost of service (excluding depreciation and amortization related to network assets included below) | | | 12,316 | | | | 9,899 | | | | 8,316 | | | Cost of equipment | | | 3,336 | | | | 2,490 | | | | 2,284 | | | Selling, general and administrative | | | 11,417 | | | | 10,144 | | | | 9,344 | | | Depreciation and amortization | | | 4,004 | | | | 3,034 | | | | 2,886 | | | | | | | | | | | | | | Total operating costs and expenses | | | 31,073 | | | | 25,567 | | | | 22,830 | | | | | | | | | | | | OPERATING INCOME | | | 10,959 | | | | 9,636 | | | | 7,629 | | | | | | | | | | | | OTHER INCOME: | | | | | | | | | | | | | | Interest income, net | | | 301 | | | | 480 | | | | 365 | | | | | | | | | | | | | | Total other income | | | 301 | | | | 480 | | | | 365 | | | | | | | | | | | | NET INCOME | | $ | 11,260 | | | $ | 10,116 | | | $ | 7,994 | | | | | | | | | | | | Allocation of Net Income: | | | | | | | | | | | | | | Limited partners | | $ | 9,007 | | | $ | 8,093 | | | $ | 6,396 | | | General partner | | $ | 2,253 | | | $ | 2,023 | | | $ | 1,598 | |
| | | | | | | | | | | | | | | 2008 | | | 2007 | | | 2006 | | | | | | | | | | | | | | | OPERATING REVENUES | | | | | | | | | | | | | Service revenues, net | | $ | 83,807 | | | $ | 72,777 | | | $ | 69,795 | | Equipment, net and other revenues | | | 24,652 | | | | 23,332 | | | | 21,480 | | | | | | | | | | | | | | | | | | | | | | | | | Total operating revenues | | | 108,459 | | | | 96,109 | | | | 91,275 | | | | | | | | | | | | | | | | | | | | | | | | | OPERATING COSTS AND EXPENSES: | | | | | | | | | | | | | Cost of service (excluding depreciation and amortization related to network assets included below) | | | 31,276 | | | | 26,726 | | | | 31,139 | | Cost of equipment | | | 25,329 | | | | 22,718 | | | | 19,701 | | Selling, general and administrative | | | 26,566 | | | | 24,645 | | | | 21,634 | | Depreciation and amortization | | | 2,177 | | | | 2,356 | | | | 2,607 | | | | | | | | | | | | | | | | | | | | | | | | | Total operating costs and expenses | | | 85,348 | | | | 76,445 | | | | 75,081 | | | | | | | | | | | | | | | | | | | | | | | | | OPERATING INCOME | | | 23,111 | | | | 19,664 | | | | 16,194 | | | | | | | | | | | | | | | | | | | | | | | | | INTEREST INCOME, NET | | | 235 | | | | 270 | | | | 292 | | | | | | | | | | | | | | | | | | | | | | | | | NET INCOME | | $ | 23,346 | | | $ | 19,934 | | | $ | 16,486 | | | | | | | | | | | | | | | | | | | | | | | | | Allocation of Net Income: | | | | | | | | | | | | | Limited Partners | | $ | 9,417 | | | $ | 8,042 | | | $ | 6,651 | | General Partner | | $ | 13,929 | | | $ | 11,892 | | | $ | 9,835 | |
See notes to financial statements. 103
GTE MOBILNET OF TEXAS #17PENNSYLVANIA RSA 6 (II) LIMITED PARTNERSHIP
STATEMENTS OF CHANGES IN PARTNERS’ CAPITAL Years Ended December YEARS ENDED DECEMBER 31, 2005, 2004 and 2003
2008, 2007 AND 2006 (Dollars in thousands)Thousands) | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | General | | | | | | | | Partner | | | Limited Partners | | | | | | | | | | | | | | | San | | | Eastex | | | | | Consolidated | | | | | San | | | | | | Antonio | | | Telecom | | | Telecom | | | Communications | | | ALLTEL | | | Antonio | | | Total | | | | MTA, | | | Investments, | | | Supply, | | | Transport | | | Communications | | | MTA, | | | Partners’ | | | | L.P. | | | L.P. | | | Inc. | | | Company | | | Investments, Inc. | | | L.P. | | | Capital | | | | | | | | | | | | | | | | | | | | | | | | BALANCE — January 1, 2003 | | $ | 4,220 | | | $ | 3,590 | | | $ | 3,590 | | | $ | 3,590 | | | $ | 3,590 | | | $ | 2,514 | | | $ | 21,094 | | | Distributions | | | (1,402 | ) | | | (1,191 | ) | | | (1,191 | ) | | | (1,191 | ) | | | (1,191 | ) | | | (834 | ) | | | (7,000 | ) | | Net income | | | 1,598 | | | | 1,361 | | | | 1,361 | | | | 1,361 | | | | 1,361 | | | | 952 | | | | 7,994 | | | | | | | | | | | | | | | | | | | | | | | | BALANCE — December 31, 2003 | | | 4,416 | | | | 3,760 | | | | 3,760 | | | | 3,760 | | | | 3,760 | | | | 2,632 | | | | 22,088 | | | Distributions | | | (1,000 | ) | | | (851 | ) | | | (851 | ) | | | (851 | ) | | | (851 | ) | | | (596 | ) | | | (5,000 | ) | | Net income | | | 2,023 | | | | 1,722 | | | | 1,722 | | | | 1,722 | | | | 1,722 | | | | 1,205 | | | | 10,116 | | | | | | | | | | | | | | | | | | | | | | | | BALANCE — December 31, 2004 | | | 5,439 | | | | 4,631 | | | | 4,631 | | | | 4,631 | | | | 4,631 | | | | 3,241 | | | | 27,204 | | | Distributions | | | (400 | ) | | | (341 | ) | | | (341 | ) | | | (341 | ) | | | (341 | ) | | | (236 | ) | | | (2,000 | ) | | Net income | | | 2,253 | | | | 1,917 | | | | 1,917 | | | | 1,917 | | | | 1,917 | | | | 1,339 | | | | 11,260 | | | | | | | | | | | | | | | | | | | | | | | | BALANCE — December 31, 2005 | | $ | 7,292 | | | $ | 6,207 | | | $ | 6,207 | | | $ | 6,207 | | | $ | 6,207 | | | $ | 4,344 | | | $ | 36,464 | | | | | | | | | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | | | | General | | | | | | | | | | Partner | | | Limited Partners | | | | | | | | | | | Consolidated | | | Venus | | | | | | | | | | | Communications | | | Cellular | | | | | | | | | | | of Pennsylvania | | | Telephone | | | Total | | | | Cellco | | | Company | | | Services, | | | Partners’ | | | | Partnership | | | (Note 1) | | | Inc. | | | Capital | | BALANCE—January 1, 2006 | | $ | 11,018 | | | $ | 4,371 | | | $ | 3,078 | | | $ | 18,467 | | | | | | | | | | | | | | | | | | | Distributions | | | (10,291 | ) | | | (4,083 | ) | | | (2,876 | ) | | | (17,250 | ) | | | | | | | | | | | | | | | | | | Net income | | | 9,835 | | | | 3,902 | | | | 2,749 | | | | 16,486 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | BALANCE—December 31, 2006 | | | 10,562 | | | | 4,190 | | | | 2,951 | | | | 17,703 | | | | | | | | | | | | | | | | | | | Distributions | | | (9,546 | ) | | | (3,787 | ) | | | (2,667 | ) | | | (16,000 | ) | | | | | | | | | | | | | | | | | | Net income | | | 11,892 | | | | 4,719 | | | | 3,323 | | | | 19,934 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | BALANCE—December 31, 2007 | | | 12,908 | | | | 5,122 | | | | 3,607 | | | | 21,637 | | | | | | | | | | | | | | | | | | | Distributions | | | (13,125 | ) | | | (5,207 | ) | | | (3,668 | ) | | | (22,000 | ) | | | | | | | | | | | | | | | | | | Net income | | | 13,929 | | | | 5,525 | | | | 3,892 | | | | 23,346 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | BALANCE—December 31, 2008 | | $ | 13,712 | | | $ | 5,440 | | | $ | 3,831 | | | $ | 22,983 | | | | | | | | | | | | | | |
See notes to financial statements. 104
GTE MOBILNET OF TEXAS #17PENNSYLVANIA RSA 6 (II) LIMITED PARTNERSHIP
STATEMENTS OF CASH FLOWS Years Ended December YEARS ENDED DECEMBER 31, 2005, 2004 and 2003
2008, 2007 AND 2006 (Dollars in thousands)Thousands) | | | | | | | | | | | | | | | | | | | 2005 | | | 2004 | | | 2003 | | | | | | | | | | | | CASH FLOWS FROM OPERATING ACTIVITIES: | | | | | | | | | | | | | | Net income | | $ | 11,260 | | | $ | 10,116 | | | $ | 7,994 | | | Adjustments to reconcile net income to net cash provided by operating activities: | | | | | | | | | | | | | | | Depreciation and amortization | | | 4,004 | | | | 3,034 | | | | 2,886 | | | | Provision for losses on accounts receivable | | | 931 | | | | 793 | | | | 496 | | | | Changes in certain assets and liabilities: | | | | | | | | | | | | | | | | Accounts receivable | | | (1,252 | ) | | | (934 | ) | | | (253 | ) | | | | Unbilled revenue | | | (197 | ) | | | (179 | ) | | | 128 | | | | | Prepaid expenses and other current assets | | | (3 | ) | | | 2 | | | | 6 | | | | | Accounts payable and accrued liabilities | | | 283 | | | | 76 | | | | (294 | ) | | | | Advance billings and customer deposits | | | 77 | | | | 85 | | | | 178 | | | | | Long term liabilities | | | 137 | | | | — | | | | — | | | | | | | | | | | | | | | | Net cash provided by operating activities | | | 15,240 | | | | 12,993 | | | | 11,141 | | | | | | | | | | | | CASH FLOWS FROM INVESTING ACTIVITIES: | | | | | | | | | | | | | | Capital expenditures, including purchases from affiliates, net | | | (10,064 | ) | | | (11,847 | ) | | | (2,654 | ) | | Change in due from General Partner, net | | | (3,176 | ) | | | 3,854 | | | | (1,487 | ) | | | | | | | | | | | | | | | Net cash used in investing activities | | | (13,240 | ) | | | (7,993 | ) | | | (4,141 | ) | | | | | | | | | | | CASH FLOWS FROM FINANCING ACTIVITIES: | | | | | | | | | | | | | | Distributions to partners | | | (2,000 | ) | | | (5,000 | ) | | | (7,000 | ) | | | | | | | | | | | | | | | Net cash used in financing activities | | | (2,000 | ) | | | (5,000 | ) | | | (7,000 | ) | | | | | | | | | | | CHANGE IN CASH | | | — | | | | — | | | | — | | CASH — Beginning of year | | | — | | | | — | | | | — | | | | | | | | | | | | CASH — End of year | | $ | — | | | $ | — | | | $ | — | | | | | | | | | | | |
| | | | | | | | | | | | | | | 2008 | | | 2007 | | | 2006 | | CASH FLOWS FROM OPERATING ACTIVITIES: | | | | | | | | | | | | | Net income | | $ | 23,346 | | | $ | 19,934 | | | $ | 16,486 | | Adjustments to reconcile net income to net cash provided by operating activities: | | | | | | | | | | | | | Depreciation and amortization | | | 2,177 | | | | 2,356 | | | | 2,607 | | Provision for losses on accounts receivable | | | 483 | | | | 278 | | | | 230 | | Changes in certain assets and liabilities: | | | | | | | | | | | | | Accounts receivable | | | (1,809 | ) | | | (1,149 | ) | | | (798 | ) | Unbilled revenue | | | (57 | ) | | | 409 | | | | (442 | ) | Prepaid expenses and other current assets | | | — | | | | (1 | ) | | | (3 | ) | Accounts payable and accrued liabilities | | | 58 | | | | (390 | ) | | | 634 | | Advance billings and customer deposits | | | 295 | | | | 302 | | | | 156 | | Other long term liabilities | | | 27 | | | | 11 | | | | 56 | | | | | | | | | | | | | | | | | | | | | | | | | Net cash provided by operating activities | | | 24,520 | | | | 21,750 | | | | 18,926 | | | | | | | | | | | | | | | | | | | | | | | | | CASH FLOWS FROM INVESTING ACTIVITIES: | | | | | | | | | | | | | Capital expenditures, including purchases from affiliates, net | | | (2,453 | ) | | | (3,206 | ) | | | (2,115 | ) | Purchase of Customers from an affiliate | | | (182 | ) | | | — | | | | — | | Change in due from General Partner, net | | | 115 | | | | (2,544 | ) | | | 439 | | | | | | | | | | | | | | | | | | | | | | | | | Net cash used in investing activities | | | (2,520 | ) | | | (5,750 | ) | | | (1,676 | ) | | | | | | | | | | | | | | | | | | | | | | | | CASH FLOWS FROM FINANCING ACTIVITIES: | | | | | | | | | | | | | | | | | | | | | | | | | | Distributions to partners | | | (22,000 | ) | | | (16,000 | ) | | | (17,250 | ) | | | | | | | | | | | | | | | | | | | | | | | | Net cash used in financing activities | | | (22,000 | ) | | | (16,000 | ) | | | (17,250 | ) | | | | | | | | | | | | | | | | | | | | | | | | CHANGE IN CASH | | | — | | | | — | | | | — | | | | | | | | | | | | | | | CASH—Beginning of year | | | — | | | | — | | | | — | | | | | | | | | | | | | | | | | | | | | | | | | CASH—End of year | | $ | — | | | $ | — | | | $ | — | | | | | | | | | | | | | | | | | | | | | | | | | NONCASH TRANSACTIONS FROM INVESTING AND FINANCING ACTIVITIES: | | | | | | | | | | | | | Accruals for capital expenditures | | $ | 15 | | | $ | 14 | | | $ | 148 | | | | | | | | | | | |
See notes to financial statements. 105
GTE MOBILNET OF TEXAS #17PENNSYLVANIA RSA 6 (II) LIMITED PARTNERSHIP
NOTES TO FINANCIAL STATEMENTS Years Ended December YEARS ENDED DECEMBER 31, 2005, 2004 and 2003
2008, 2007 AND 2006 (Dollars in Thousands) | | 1. | Organization and Management | ORGANIZATION AND MANAGEMENT |
GTE Mobilnet of Texas #17Pennsylvania RSA 6 (II) Limited Partnership— GTE Mobilnet of Texas #17Pennsylvania RSA 6 (II) Limited Partnership (the “Partnership”) was formed on June 13, 1989.January 31, 1991. The principal activity of the Partnership is providing cellular service in the Texas #17Pennsylvania 6 (II) rural service area. Under the terms of the partnership agreement, the partnership expires on January 1, 2091.
The partners and their respective ownership percentages as of December 31, 2005, 20042008, 2007 and 20032006 are as follows: | | | | | | General Partner: | | | | | | San Antonio MTA, L.P.*Cellco Partnership* (“General Partner”) | | | 20.0000%59.66 | % | | | | | | Limited Partners: | | | | | | Eastex Telecom Investments, L.P. | | | 17.0213% | | | Telecom Supply, Inc. | | | 17.0213% | | | Consolidated Communications Transport Company | | | 17.0213% | | | ALLTEL Communications Investments, Inc. | | | 17.0213% | | | San Antonio MTA, L.P.of Pennsylvania Company** | | | 11.9148%23.67 | % | Venus Cellular Telephone Services, Inc | | | 16.67 | % |
| | * | San Antonio MTA, L.P. (“General Partner”) is a wholly-owned subsidiary of | Cellco Partnership (“Cellco”) doing business as Verizon Wireless. | | ** | | On January 1, 2008 North Pittsburgh Telephone Company changed its name to Consolidated Communications of Pennsylvania Company. |
| | 2. | Significant Accounting Policies | SIGNIFICANT ACCOUNTING POLICIES |
Use of Estimates—The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results may differ from those estimates. Estimates are used for, but not limited to, the accounting for: allocations, allowance for uncollectible accounts receivable, unbilled revenue, fair value of financial instruments, depreciation and amortization, useful lives and impairment of assets, accrued expenses, and contingencies. Estimates and assumptions are periodically reviewed and the effects of any material revisions are reflected in the financial statements in the period that they are determined to be necessary. Revenue Recognition—The Partnership earns revenue by providing access to the network (access revenue) and for usage of the network (airtime/usage revenue), which includes roaming and long distance revenue. In general, access revenue is billed one month in advance and is recognized when earned; the unearned portion is classified in advance billings. Airtime/usage revenue, roaming revenue and long distance revenue are recognized when service is rendered and included in unbilled revenue until billed. Equipment sales revenue associated with the sale of wireless handsets and accessories is recognized when the products are delivered to and accepted by the customer, as this is considered to be a separate earnings process from the sale of wireless services. In accordance with the provisions of Emerging Issues Task Force (“ETIF”) Issue No. 00-21,Accounting for Revenue Arrangements with Multiple Deliverables,the Partnership recognizes customer activation fees as part of equipment revenue. The roaming rates charged by the Partnership to Cellco do not necessarily reflect current market rates. The Partnership will continue to re-evaluate the rates on a periodic basis (see Note 5). The Partnership’s revenue recognition policies are in accordance with the Securities and Exchange Commission’s (“SEC”) Staff Accounting Bulletin (“SAB”) No. 101, “RevenueRevenue Recognition in Financial Statements”, and Statements,SAB No. 104, “Revenue Recognition”.Revenue Recognition,and EITF Issue No. 00-21. 106
The Partnership reports taxes imposed by governmental authorities on revenue-producing transactions between the Partnership and our customers, that are within the scope of EITF No. 06-3,How Taxes Collected from Customers and Remitted to Governmental Authorities Should Be Presented in the Income Statement,in the financial statements on a net basis. Cellular service revenues and expenses resulting from cell site agreements with affiliates of Cellco are recognized based upon a rate per minute of use. See note 5. Operating Costs and Expenses—Operating expenses include expenses incurred directly by the Partnership, as well as an allocation of certain administrative and operating costs incurred by Cellco or its 106
GTE MOBILNET OF TEXAS #17 LIMITED PARTNERSHIP
NOTES TO FINANCIAL STATEMENTS — (Continued)
affiliates on behalf of the Partnership. Employees of Cellco provide services performed on behalf of the Partnership. These employees are not employees of the Partnership and therefore, operating expenses include direct and allocated charges of salary and employee benefit costs for the services provided to the Partnership. The General Partner believes such allocations, principally based on the Partnership’s percentage of total customers, customer gross additions orminutes-of-use, minutes-of-use, are reasonable. The roaming rates charged to the Partnership by Cellco do not necessarily reflect current market rates. The Partnership will continue to re-evaluate the rates on a periodic basis (see Note 5). Retail Stores—The daily operations of all retail stores located within the Partnership are managed by Cellco. However, all income and expenses incurred by these retail stores are recorded in the financial statements of the Partnership. Income Taxes—The Partnership is not a taxable entity for federal and state income tax purposes. Any taxable income or loss is apportioned to the partners based on their respective partnership interests and would beis reported by them individually. Inventory—Inventory is owned by Cellco and held on consignment by the Partnership. Such consigned inventory is not recorded on the Partnership’s financial statements. Upon sale, the related cost of the inventory is transferred to the Partnership at Cellco’s cost basis and included in the accompanying Statements of Operations. Allowance for Doubtful Accounts—The Partnership maintains allowances for uncollectible accounts receivable for estimated losses resulting from the inability of customers to make required payments. Estimates are based on the aging of the accounts receivable balances and the historical write-off experience, net of recoveries. Property, Plant and Equipment—Property, plant and equipment primarily represents costs incurred to construct and expand capacity and network coverage on Mobile Telephone Switching Offices (“MTSOs”) and cell sites. The cost of property, plant and equipment is depreciated over its estimated useful life using the straight-line method of accounting. Leasehold improvements are amortized over the shorter of their estimated useful lives or the term of the related lease. Major improvements to existing plant and equipment are capitalized. Routine maintenance and repairs that do not extend the life of the plant and equipment are charged to expense as incurred. Upon the sale or retirement of property, plant and equipment, the cost and related accumulated depreciation or amortization is eliminated from the accounts and any related gain or loss is reflected in the Statements of Operations. 107
Network engineering costs incurred during the construction phase of the Partnership’s network and real estate properties under development are capitalized as part of property, plant and equipment and recorded asconstruction-in-progress construction-in-progress until the projects are completed and placed into service. Other Assets —Other assets consist of a customer list acquired in 2008. The Partnership amortizes the customer list over its expected useful life of 6 years using a method consistent with historical customer turnover rates. As of December 31, 2008, the gross carrying value is $182 and the accumulated amortization is $42. As of December 31, 2008, the scheduled amortization of the customer list for the next five years is $32 for 2009 and $27 for the years 2010 through 2013. FCC Licenses —- The Federal Communications Commission (“FCC”) issues licenses that authorize cellular carriers to provide service in specific cellular geographic service areas. The FCC grants licenses for terms of up to ten years. In 1993 the FCC adopted specific standards to apply to cellular renewals, concluding it will reward a license renewal to a cellular licensee that meets certain standards of past performance. Historically, the FCC has granted license renewals routinely. All wireless licenses issued by the FCC that authorize the Partnership to provide cellular services are recorded on the books of Cellco. The current term of the Partnership’s FCC license expires in December 2009.October 2010 and April 2017. Cellco believes it will be able to meet all requirements necessary to secure renewal of the Partnership’s cellular license. Valuation of Assets— Long-lived assets, including property, plant and equipment and intangible assets with finite lives, are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of the asset may not be recoverable. The carrying amount of a long-lived asset is not recoverable if it exceeds the sum of the undiscounted cash flows expected to result from the use and eventual disposition of the asset. The impairment loss, if determined to be necessary, would be measured as the amount by which the carrying amount of the asset exceeds the fair value of the asset. 107
GTE MOBILNET OF TEXAS #17 LIMITED PARTNERSHIP
NOTES TO FINANCIAL STATEMENTS — (Continued)
As discussed above, the FCC licenselicenses under which the Partnership operates isare recorded on the books of Cellco. Cellco does not charge the Partnership for the use of any FCC license recorded on its books (except for the annual cost of $76$30 related to the spectrum lease, as discussed in Note 5). However, Cellco believes that under the Partnership agreement it has the right to allocate, based on a reasonable methodology, any impairment loss recognized by Cellco for all licenses included in Cellco’s national footprint. Accordingly, the FCC licenses, including the license under which the Partnership operates, recorded on the books of Cellco are evaluated for impairment by Cellco, under the guidance set forth in Statement of Financial Accounting Standards (“SFAS”) No. 142, “GoodwillGoodwill and Other Intangible Assets.” The FCC licenses are treated as an indefinite life intangible asset on the books of Cellco under the provisions of SFAS No. 142 and are not amortized, but rather are tested for impairment annually or between annual dates, if events or circumstances warrant. All of the licenses in Cellco’s nationwide footprint are tested in the aggregate for impairment under SFAS No. 142. When testing the carrying value of the Cellco evaluates its wireless licenses for potential impairment annually, and more frequently if indications of impairment exist. Cellco tests its licenses on an aggregate basis, in 2004 and 2003accordance with EITF No. 02-7,Unit of Accounting for impairment, Cellco determined the fairTesting Impairment of Indefinite-Lived Intangible Assets, using a direct value of the aggregated wireless licenses by subtracting from enterprise discounted cash flows (net of debt) the fair value of all of the other net tangible and intangible assets of Cellco, including previously unrecognized intangible assets. This approach is generally referred to as the residual method. In addition, the fair value of the aggregated wireless licenses was then subjected to a reasonableness analysis using public information of comparable wireless carriers. If the fair value of the aggregated wireless licenses as determined above was less than the aggregated carrying amount of the licenses, an impairment would have been recognized by Cellco and then may have been allocated to the Partnership. During 2004 and 2003, tests for impairment were performedmethodology in accordance with no impairment recognized. On September 29, 2004, the SEC issued a Staff Announcement No. D-108, “UseUse of the Residual Method to Value Acquired Assets other than Goodwill.” This Staff Announcement requires SEC registrants to adopt aGoodwill. The direct value methodapproach determines fair value using estimates of assigningfuture cash flows associated specifically with the wireless licenses. If the fair value to intangible assets, includingof the aggregated wireless licenses acquired in a business combination under SFAS No. 141, “Business Combinations,” effective for all business combinations completed after September 29, 2004. Further, all intangible assets, includingis less than the aggregated carrying amount of the wireless licenses, valued under the residual method prior to this adoption are required to be tested foran impairment using a direct value method no later than the beginning of 2005. Any impairment of intangible assets recognized upon application of a direct value method by entities previously applying the residual method should be reported as a cumulative effect of a change in accounting principle. Under this Staff Announcement, the reclassification of recorded balances from wireless licenses to goodwill prior to the adoption of this Staff Announcement is prohibited.
recognized. Cellco evaluated its wireless licenses for potential impairment using a direct value methodology as of January 1, 2005December 15, 2008 and December 15, 20052007. These evaluations resulted in no impairment of Cellco’s wireless licenses. 108
Fair Value Measurements —SFAS No. 157,Fair Value Measurements,defines fair value, expands disclosures about fair value measurements, establishes a framework for measuring fair value in generally accepted accounting principles and establishes a hierarchy that categorizes and prioritizes the sources to be used to estimate fair value. Under SFAS No. 157, fair value is defined as an exit price, representing the amount that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. SFAS 157 also establishes a three-tier hierarchy for inputs used in measuring fair value, which prioritizes the inputs used in the valuation methodologies in measuring fair value: Level 1 — Quoted prices in active markets for identical assets or liabilities Level 2 — Observable inputs other than quoted prices in active markets for identical assets and liabilities Level 3 — No observable pricing inputs in the market On February 12, 2008, the FASB issued FSP No. FAS 157-2,Effective Date of FASB Statement No. 157,which delays the effective date of SFAS No. 157 for one year for all nonfinancial assets and nonfinancial liabilities, except those that are recognized or disclosed at fair value in the financial statements on a recurring basis. The Partnership elected a partial deferral of SFAS No. 157 under the provisions of FSP No. 157-2 related to the measurement of fair value used when evaluating wireless licenses and other long-lived assets for impairment. On October 10, 2008, the FASB issued FSP No. 157-3,Determining the Fair Value of a Financial Asset When the Market for That Asset Is Not Active, which clarifies application of SFAS No. 157 in a market that is not active. FSP No. 157-3 was effective upon issuance, including prior periods for which financial statements have not been issued. The impact of partially adopting SFAS No. 157 on January 1, 2008 and the related FSP No. 157-3 was not material to the financial statements. Effective January 1, 2009, as permitted by FSP No. 157-2, the Partnership adopted the provisions of SFAS No. 157 related to the non-recurring measurement of fair value used when evaluating certain nonfinancial assets, including wireless licenses and other long-lived assets, in the determination of impairment under SFAS No. 142 or SFAS No. 144, and when measuring the acquisition-date fair values of nonfinancial assets and nonfinancial liabilities in a business combination in accordance with SEC Staff AnnouncementSFAS No. D-108. The valuation and analyses prepared in connection with the adoption of a direct value method and subsequent revaluation resulted in no adjustment to the carrying value of Cellco’s wireless licenses and, accordingly, had no effect on its financial statements. Future tests for impairment will be performed at least annually and more often if events or circumstances warrant.141(R),Business Combinations (Revised). Concentrations—To the extent the Partnership’s customer receivables become delinquent, collection activities commence. No single customer is large enough to present a significant financial risk to the Partnership. The Partnership maintains an allowance for losses based on the expected collectibility of accounts receivable. Cellco and the Partnership rely on local and long distance telephone companies, some of whom are related parties, and other companies to provide certain communication services. Although management believes alternative telecommunications facilities could be found in a timely manner, any disruption of these services could potentially have an adverse impact on the Partnership’s operating results. 108
GTE MOBILNET OF TEXAS #17 LIMITED PARTNERSHIP
NOTES TO FINANCIAL STATEMENTS — (Continued)
Although Cellco and the General Partner attemptattempts to maintain multiple vendors for its network assets and inventory, which are important components of its operations, they are currently acquired from only a few sources. Certain of these products are in turn utilized by the Partnership and are important components of the Partnership’s operations. If the suppliers are unable to meet Cellco’s needs as it builds out its network infrastructure and sells service and equipment, delays and increased costs in the expansion of the Partnership’s network infrastructure or losses of potential customers could result, which would adversely affect operating results. Financial Instruments—The Partnership’s trade receivables and payables are short-term in nature, and accordingly, their carrying value approximates fair value. Segments — The Partnership has one reportable business segment and operates domestically, only. The Partnership’s products and services are materially comprised of wireless telecommunications services.
Due from General Partner—Due from General Partner principally represents the Partnership’s cash position. Cellco manages on behalf of the General Partner, all cash, inventory, investing and financing activities of the Partnership. As such, the change in due from General Partner is reflected as an investing activity or a financing activity in the Statements of Cash Flows depending on whether it represents a net asset or net liability for the Partnership. The Partnership reclassified the change in the amount Due from General Partner of ($3,854) and $1,487 from a financing activity to an investing activity in the 2004 and 2003 Statements of Cash Flows, respectively. 109
Additionally, administrative and operating costs incurred by Cellco, on behalf of the General Partner, as well as property, plant, and equipment transactions with affiliates, are charged to the Partnership through this account. Interest income or interest expense is based on the average monthly outstanding balance in this account and is calculated by applying the General Partner’s average cost of borrowing from Verizon Global Funding, a wholly-owned subsidiary of Verizon Communications, Inc., which was approximately 4.8%3.9%, 5.9%5.4% and 5.0%5.4% for the years ended December 31, 2005, 20042008, 2007 and 2003,2006, respectively. Included in net interest income is $308, $488interest income of $240, $273 and $365$297 for the years ended December 31, 2005, 20042008, 2007 and 2003,2006, respectively, related to the due from General Partner. Distributions — — The Partnership is requiredDistributions are made to make distributions to its partners on a quarterly basisat the discretion of the General Partner based upon the Partnership’s operating results, cash availability and financing needs as determined by the General Partner at the date of the distribution. Recently Issued Accounting Pronouncements — - In April 2008, the FASB issued FSP No. FAS 142-3,Determination of the Useful Life of Intangible Assets. FSP 142-3 removes the requirement under SFAS No. 142 to consider whether an intangible asset can be renewed without substantial cost or material modifications to the existing terms and conditions, and replaces it with a requirement that an entity consider its own historical experience in renewing similar arrangements, or a consideration of market participant assumptions in the absence of historical experience. FSP 142-3 also requires entities to disclose information that enables users of financial statements to assess the extent to which the expected future cash flows associated with the asset are affected by the entity’s intent and/or ability to renew or extend the arrangement. The Partnership is required to adopt FSP 142-3 effective January 1, 2009 on a prospective basis. The adoption of FSP 142-3 on January 1, 2009 did not have an impact on the financial statements. In March 2005,2008, the Financial Accounting Standards Board (“FASB”)FASB issued FASB InterpretationSFAS No. 47, “Accounting for Conditional Asset Retirement Obligations161,Disclosures about Derivative Instruments and Hedging Activities — an interpretationamendment of FASB Statement No. 133. This statement requires additional disclosures for derivative instruments and hedging activities that include how and why an entity uses derivatives, how these instruments and the related hedged items are accounted for under SFAS No. 133 and related interpretations, and how derivative instruments and related hedged items affect the entity’s financial position, results of operations and cash flows. SFAS No. 161 is effective for financial statements issued for fiscal years and interim periods beginning after November 15, 2008. The adoption of SFAS No. 143.” This interpretation clarifies that the term “conditional asset retirement obligation” refers to a legal obligation to perform a future asset retirement when uncertainty exists about the timing and/or method of settlement of the obligation. Uncertainty about the timing and/or method of settlement of a conditional asset retirement obligation should be factored into the measurement of the liability when sufficient information exists, as defined by the interpretation. An entity is required to recognize a liability for the fair value of the obligation if the fair value of the liability can be reasonably estimated. The Partnership adopted the interpretation161 on December 31, 2005. The adoption of this interpretationJanuary 1, 2009 did not have a materialan impact on the Partnership’s financial statements. 109110
GTE MOBILNET OF TEXAS #17 LIMITED PARTNERSHIPIn December 2007, the FASB issued SFAS No. 141(R),Business Combinations (Revised), to replace SFAS No. 141,Business Combinations. SFAS No. 141(R) requires the use of the acquisition method of accounting, defines the acquirer, establishes the acquisition date and broadens the scope to all transactions and other events in which one entity obtains control over one or more other businesses. This statement is effective for business combinations or transactions entered into for fiscal years beginning on or after December 15, 2008. The adoption of SFAS No. 141(R) on January 1, 2009 did not have an impact on the financial statements. NOTES TO FINANCIAL STATEMENTSIn December 2007, the FASB issued SFAS No. 160,Noncontrolling Interests in Consolidated Financial Statements — (Continued)an amendment of ARB No. 51. SFAS No. 160 establishes accounting and reporting standards for the noncontrolling interest in a subsidiary and for the retained interest and gain or loss when a subsidiary is deconsolidated. This statement is effective for financial statements issued for fiscal years beginning on or after December 15, 2008 prospectively, except for the presentation and disclosure requirements which will be applied retrospectively for all periods presented. The adoption of SFAS No. 160 on January 1, 2009 did not have an impact on the financial statements.
In February 2007, the FASB issued SFAS No. 159,The Fair Value Option for Financial Assets and Financial Liabilities. SFAS No. 159 permits entities to choose to measure eligible items at fair value, and to report unrealized gains and losses in earnings on items for which the fair value option has been elected. The Partnership adopted SFAS No. 159 effective January 1, 2008 and the impact of adoption did not have an impact on the financial statements. 111
| | 3. | Property, Plant and Equipment | PROPERTY, PLANT AND EQUIPMENT |
Property, plant and equipment consistconsists of the following as of December 31, 20052008 and 2004:2007: | | | | | | | | | | | | | | | Useful lives | | | 2005 | | | 2004 | | | | | | | | | | | | Buildings and improvements | | | 10-40 years | | | $ | 9,991 | | | $ | 6,858 | | Cellular plant equipment | | | 3-15 years | | | | 40,320 | | | | 34,259 | | Furniture, fixtures and equipment | | | 2-5 years | | | | 65 | | | | 349 | | Leasehold improvements | | | 5 years | | | | 1,657 | | | | 226 | | | | | | | | | | | | | | | | | | | 52,033 | | | | 41,692 | | Less accumulated depreciation and amortization | | | | | | | 22,850 | | | | 19,198 | | | | | | | | | | | | Property, plant and equipment, net | | | | | | $ | 29,183 | | | $ | 22,494 | | | | | | | | | | | |
| | | | | | | | | | | | | | | Useful Lives | | | 2008 | | | 2007 | | | | | | | | | | | | | | | Buildings and improvements | | 10-40 years | | | $ | 5,915 | | | $ | 5,650 | | Cellular plant equipment | | 3-15 years | | | | 22,043 | | | | 25,770 | | Furniture, fixtures and equipment | | 2-5 years | | | | 346 | | | | 695 | | Leasehold improvements | | 5 years | | | | 1,068 | | | | 930 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | 29,372 | | | | 33,045 | | | | | | | | | | | | | | | Less accumulated depreciation and amortization | | | | | | | 16,954 | | | | 20,672 | | | | | | | | | | | | | | | | | | | | | | | | | | Property, plant and equipment, net | | | | | | $ | 12,418 | | | $ | 12,373 | | | | | | | | | | | | |
Capitalized network engineering costs of $389$126 and $257$109 were recorded during the years ended December 31, 20052008 and 2004,2007 respectively.Construction-in-progress Construction-in-progress included in certain of the classifications shown above, principally cellular plant equipment, amounted to $2,504$154 and $408$1,283 at December 31, 20052008 and 2004, respectively. Depreciation and amortization expense for the years ended December 31, 2005, 2004 and 2003 was $4,004, $3,034 and $2,886,2007 respectively. | | 4. | Accounts Payable and Accrued Liabilities | CURRENT LIABILITIES |
Accounts payable and accrued liabilities consist of the following:following as of December 31: | | | | | | | | | | | 2005 | | | 2004 | | | | | | | | | Accounts payable | | $ | 1,228 | | | $ | 481 | | Non-income based taxes and regulatory fees | | | 599 | | | | 449 | | Accrued commissions | | | 278 | | | | 263 | | | | | | | | | Accounts payable and accrued liabilities | | $ | 2,105 | | | $ | 1,193 | | | | | | | | |
| | | | | | | | | | | 2008 | | | 2007 | | | | | | | | | | | Accounts payable | | $ | 1,785 | | | $ | 2,035 | | Accrued liabilities | | | 389 | | | | 353 | | | | | | | | | Accounts payable and accrued libilities | | $ | 2,174 | | | $ | 2,388 | | | | | | | | |
Advance billings and customer deposits consist of the following as of December 31: | | | | | | | | | | | 2008 | | | 2007 | | | | | | | | | | | Advance billings | | $ | 2,220 | | | $ | 1,935 | | Customer deposits | | | 172 | | | | 162 | | | | | | | | | Advance billings and customer deposits | | $ | 2,392 | | | $ | 2,097 | | | | | | | | |
112
| | 5. | Transactions with Affiliates | TRANSACTIONS WITH AFFILIATES AND RELATED PARTIES |
Significant transactions with affiliates (Cellco and its related entities) and other related parties, including allocations and direct charges, are summarized as follows for the years ended December 31, 2005, 20042008, 2007 and 2003: | | | | | | | | | | | | | | | 2005 | | | 2004 | | | 2003 | | | | | | | | | | | | Service revenues(a) | | $ | 12,758 | | | $ | 10,243 | | | $ | 8,288 | | Equipment and other revenues(b) | | | (53 | ) | | | (234 | ) | | | (267 | ) | Cost of service(c) | | | 9,558 | | | | 7,566 | | | | 4,020 | | Cost of equipment(d) | | | 368 | | | | 349 | | | | 852 | | Selling, general and administrative(e) | | | 5,648 | | | | 5,430 | | | | 5,143 | |
| | | | | | | | | | | | | | | 2008 | | | 2007 | | | 2006 | | | | | | | | | | | | | | | Service revenues (a) | | $ | 15,720 | | | $ | 13,707 | | | $ | 18,065 | | Equipment and other revenues (b) | | | 1,066 | | | | 1,084 | | | | 1,244 | | Cost of service (c) | | | 29,439 | | | | 25,803 | | | | 30,319 | | Cost of equipment (d) | | | 1,354 | | | | 1,089 | | | | 756 | | Selling, general and administrative (e) | | | 17,040 | | | | 15,889 | | | | 13,733 | |
| | | (a) | | Service revenues include roaming revenues relating to customers of other affiliated markets, long distance, paging, data and allocated contra-revenues including revenue concessions. |
| | | (b) | | Equipment and other revenues include cell sharing revenues, sales of handsets and accessories and allocated contra-revenues including equipment concessions and coupon rebates. | | (c) | | Cost of service includes roaming costs relating to customers roaming in other affiliated markets, switch costs, cell sharing costs and allocated cost of telecom, long distance, paging, and handset applications. |
110
GTE MOBILNET OF TEXAS #17 LIMITED PARTNERSHIP
NOTES TO FINANCIAL STATEMENTS — (Continued)
| | | (d) | | Cost of equipment includes warehousing, freight, handsets, accessories, and upgrades.allocated warehousing and freight. | | (e) | | Selling, general and administrative expenses include salaries, commissions and billing, and allocated office telecom, customer care, billing, salaries, sales and marketing, advertising, and commissions. |
All affiliate transactions captured above, are based on actual amounts directly incurred by Cellco on behalf of the Partnership and/or allocations from Cellco. Revenues and expenses were allocated based on the Partnership’s percentage of total customers or gross customer additions or minutes of use, where applicable. The General Partner believes the allocations are reasonable. The affiliate transactions are not necessarily conducted at arm’s length. On January 1, 2008, the Partnership purchased 318 customers from an affiliate for $182. The Partnership had net purchases involving plant, property, and equipment from affiliates with affiliatesa net book value of $3,269, $8,050$1,234, $2,740 and $1,116$1,710 in 2005, 20042008, 2007 and 2003,2006, respectively. During 2004, the methodology to charge shared switch costs toThe Partnership is involved in several cell sharing agreements with related affiliates in which the Partnership receives revenues from an affiliateaffiliates for the use of the General Partner was revised. The methodology change resulted in an increase inPartnership’s cell sites and incurs costs for the Partnership’s switch costs in 2004. In 2004use of affiliates’ cell sites. Cell sharing revenues were $1,419, $1,447 and 2003$1,731 for the Partnership recorded switchyears ended December 31, 2008, 2007 and 2006, respectively. Cell sharing costs of $1,615were $2,240, $1,880 and $336,$2,100 for the years ended December 31, 2008, 2007 and 2006 respectively. These costs are included above in “Cost of service”. The switch rates charged to the Partnership do not necessarily reflect current market rates.
On January 1, 2005,2007, the Partnership entered into a lease agreementagreements for the right to use additional spectrum owned by Cellco. The initial term of this agreement was one year, with annual renewal terms.these agreements is ten years. The Partnership renewed the lease for the year ended December 31, 2006. The2008 and 2007 annual lease commitment of $76$30 and $29 respectively represents the costs of financing the spectrum, and does not necessarily reflect the economic value of the services received. No additional spectrum purchases or lease commitments other than the $76, have been entered into by the Partnership as of December 31, 2005.2008. 113
The General Partner, on behalf of the Partnership, and the Partnership itself have entered into operating leases for facilities, equipment and equipmentspectrum used in its operations. Lease contracts include renewal options that include rent expense adjustments based on the Consumer Price Index as well as annual andend-of-lease end-of-lease term adjustments. Rent expense is recorded on a straight-line basis. The noncancellablenoncancelable lease term used to calculate the amount of the straight-line rent expense is generally determined to be the initial lease term, including any optional renewal terms that are reasonably assured. Leasehold improvements related to these operating leases are amortized over the shorter of their estimated useful lives or the noncancellablenoncancelable lease term. For the years ended December 31, 2005, 20042008, 2007 and 2003,2006, the Partnership recognized a total of $1,575, $988$1,100, $853 and $751,$1,040, respectively, as rent expense related to payments under these operating leases, which was included in cost of service and general and administrative expenses in the accompanying Statements of Operations. Aggregate future minimum rental commitments under noncancelable operating leases, excluding renewal options that are not reasonably assured, for the years shown are as follows: | | | | | Years | | Amount | | | | | | 2006 | | $ | 1,273 | | 2007 | | | 1,237 | | 2008 | | | 1,218 | | 2009 | | | 1,174 | | 2010 | | | 248 | | 2011 and thereafter | | | 544 | | | | | | Total minimum payments | | $ | 5,694 | | | | | |
111
GTE MOBILNET OF TEXAS #17 LIMITED PARTNERSHIP | | | | | Years | | Amount | | | | | | | 2009 | | $ | 794 | | 2010 | | | 646 | | 2011 | | | 476 | | 2012 | | | 349 | | 2013 | | | 258 | | 2014 and thereafter | | | 399 | | | | | | | | | | | Total minimum payments | | $ | 2,922 | | | | | |
NOTES TO FINANCIAL STATEMENTS — (Continued)
From time to time the General Partner enters into purchase commitments, primarily for network equipment, on behalf of the Partnership. | | 7. | Contingencies | CONTINGENCIES |
Cellco is subject to various lawsuits and other claims including class actions, product liability, patent infringement, antitrust, partnership disputes, and claims involving relations with resellers and agents. Cellco is also defending lawsuits filed against itself and other participants in the wireless industry alleging various adverse effects as a result of wireless phone usage. Various consumer class action lawsuits allege that Cellco breached contracts with consumers, violated certain state consumer protection laws and other statutes and defrauded customers through concealed or misleading billing practices. Certain of these lawsuits and other claims may impact the Partnership. These litigation matters may involve indemnification obligations by third parties and/or affiliated parties covering all or part of any potential damage awards against Cellco and the Partnership and/or insurance coverage. All of the above matters are subject to many uncertainties, and outcomes are not predictable with assurance. The Partnership may be allocated a portion of the damages that may result upon adjudication of these matters if the claimants prevail in their actions. Consequently, the ultimate liability with respect to these matters at December 31, 20052008 cannot be ascertained. The potential effect, if any, on the financial statements of the Partnership, in the period in which these matters are resolved, may be material. 114
In addition to the aforementioned matters, Cellco is subject to various other legal actions and claims in the normal course of business. While Cellco’s legal counsel cannot give assurance as to the outcome of each of these matters, in management’s opinion, based on the advice of such legal counsel, the ultimate liability with respect to any of these actions, or all of them combined, will not materially affect the financial statements of the Partnership. | | 8. | Valuation and Qualifying Accounts | RECONCILIATION OF ALLOWANCE FOR DOUBTFUL ACCOUNTS |
| | | | | | | | | | | | | | | | | | | | Balance at | | | Additions | | | Write-offs | | | Balance at | | | | Beginning | | | Charged to | | | Net of | | | End of the | | | | of the Year | | | Operations | | | Recoveries | | | Year | | | | | | | | | | | | | | | Accounts Receivable Allowances: | | | | | | | | | | | | | | | | | | 2005 | | $ | 268 | | | $ | 931 | | | $ | (814 | ) | | $ | 385 | | | 2004 | | | 244 | | | | 793 | | | | (769 | ) | | | 268 | | | 2003 | | | 320 | | | | 496 | | | | (572 | ) | | | 244 | |
| | | | | | | | | | | | | | | | | | | Balance at | | | Additions | | | Write-offs | | | Balance at | | | | Beginning | | | Charged to | | | Net of | | | End | | | | of the Year | | | Operations | | | Recoveries | | | of the Year | | | | | | | | | | | | | | | | | | | Accounts Receivable Allowances: | | | | | | | | | | | | | | | | | 2008 | | $ | 154 | | | $ | 483 | | | $ | (412 | ) | | $ | 225 | | 2007 | | | 202 | | | | 278 | | | | (326 | ) | | | 154 | | 2006 | | | 105 | | | | 290 | | | | (193 | ) | | | 202 | |
****** 112115
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM To the Partners of GTE Mobilnet of Texas #17 Limited Partnership: We have audited the accompanying balance sheets of GTE Mobilnet of Texas #17 Limited Partnership (the “Partnership”) as of December 31, 2008 and 2007, and the related statements of operations, changes in partners’ capital, and cash flows for each of the three years in the period ended December 31, 2008. These financial statements are the responsibility of the Partnership’s management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. The Partnership is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audit included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances but not for the purpose of expressing an opinion on the effectiveness of the Partnership’s internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, such financial statements present fairly, in all material respects, the financial position of the Partnership as of December 31, 2008 and 2007, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 2008, in conformity with accounting principles generally accepted in the United States of America. /s/ Deloitte & Touche LLP Atlanta, GA March 16, 2009 116
GTE MOBILNET OF TEXAS #17 LIMITED PARTNERSHIP BALANCE SHEETS DECEMBER 31, 2008 AND 2007 (Dollars in Thousands) | | | | | | | | | | | 2008 | | | 2007 | | | | | | | | | | | ASSETS | | | | | | | | | | | | | | | | | | CURRENT ASSETS: | | | | | | | | | Accounts receivable, net of allowance of $385 and $373 | | $ | 3,388 | | | $ | 3,006 | | Unbilled revenue | | | 1,051 | | | | 952 | | Due from General Partner | | | 6,320 | | | | 7,403 | | Prepaid expenses and other current assets | | | 20 | | | | 8 | | | | | | | | | | | | | | | | | | Total current assets | | | 10,779 | | | | 11,369 | | | | | | | | | | | PROPERTY, PLANT AND EQUIPMENT—Net | | | 50,719 | | | | 40,062 | | | | | | | | | | | | | | | | | | TOTAL ASSETS | | $ | 61,498 | | | $ | 51,431 | | | | | | | | | | | | | | | | | | LIABILITIES AND PARTNERS’ CAPITAL | | | | | | | | | | | | | | | | | | CURRENT LIABILITIES: | | | | | | | | | Accounts payable and accrued liabilities | | $ | 1,896 | | | $ | 1,579 | | Advance billings and customer deposits | | | 940 | | | | 773 | | | | | | | | | | | | | | | | | | Total current liabilities | | | 2,836 | | | | 2,352 | | | | | | | | | | | | | | | | | | LONG TERM LIABILITIES | | | 335 | | | | 270 | | | | | | | | | | | | | | | | | | Total liabilities | | | 3,171 | | | | 2,622 | | | | | | | | | | | COMMITMENTS AND CONTINGENCIES (see Notes 6 and 7) | | | | | | | | | | | | | | | | | | PARTNERS’ CAPITAL | | | 58,327 | | | | 48,809 | | | | | | | | | | | | | | | | | | TOTAL LIABILITIES AND PARTNERS’ CAPITAL | | $ | 61,498 | | | $ | 51,431 | | | | | | | | |
See notes to financial statements. 117
GTE MOBILNET OF TEXAS #17 LIMITED PARTNERSHIP STATEMENTS OF OPERATIONS YEARS ENDED DECEMBER 31, 2008, 2007 AND 2006 (Dollars in Thousands) | | | | | | | | | | | | | | | 2008 | | | 2007 | | | 2006 | | | | | | | | | | | | | | | OPERATING REVENUES (see Note 5 for Transactions with Affiliates and Related Parties): | | | | | | | | | | | | | Service revenues | | $ | 55,376 | | | $ | 48,096 | | | $ | 45,295 | | Equipment and other revenues | | | 5,081 | | | | 4,341 | | | | 4,003 | | | | | | | | | | | | | | | | | | | | | | | | | Total operating revenues | | | 60,457 | | | | 52,437 | | | | 49,298 | | | | | | | | | | | | | | | | | | | | | | | | | OPERATING COSTS AND EXPENSES (see Note 5 for Transactions with Affiliates and Related Parties): | | | | | | | | | | | | | Cost of service (excluding depreciation and amortization related to network assets included below) | | | 17,327 | | | | 15,028 | | | | 13,536 | | Cost of equipment | | | 6,609 | | | | 5,085 | | | | 3,709 | | Selling, general and administrative | | | 16,132 | | | | 14,142 | | | | 12,401 | | Depreciation and amortization | | | 6,013 | | | | 5,020 | | | | 4,491 | | | | | | | | | | | | | | | | | | | | | | | | | Total operating costs and expenses | | | 46,081 | | | | 39,275 | | | | 34,137 | | | | | | | | | | | | | | | | | | | | | | | | | OPERATING INCOME | | | 14,376 | | | | 13,162 | | | | 15,161 | | | | | | | | | | | | | | | | | | | | | | | | | OTHER INCOME: | | | | | | | | | | | | | Interest income, net | | | 142 | | | | 550 | | | | 472 | | | | | | | | | | | | | | | | | | | | | | | | | Total other income | | | 142 | | | | 550 | | | | 472 | | | | | | | | | | | | | | | | | | | | | | | | | NET INCOME | | $ | 14,518 | | | $ | 13,712 | | | $ | 15,633 | | | | | | | | | | | | | | | | | | | | | | | | | Allocation of Net Income: | | | | | | | | | | | | | Limited partners | | $ | 11,614 | | | $ | 10,970 | | | $ | 12,504 | | General Partner | | $ | 2,904 | | | $ | 2,742 | | | $ | 3,129 | |
See notes to financial statements. 118
GTE MOBILNET OF TEXAS #17 LIMITED PARTNERSHIP STATEMENTS OF CHANGES IN PARTNERS’ CAPITAL YEARS ENDED DECEMBER 31, 2008, 2007 AND 2006 (Dollars in Thousands) | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | General | | | | �� | | | | | | Partner | | | Limited Partners | | | | | | | San | | | Eastex | | | | | | | Consolidated | | | ALLTEL | | | San | | | | | | | Antonio | | | Telecom | | | Telecom | | | Communications | | | Communications | | | Antonio | | | Total | | | | MTA, | | | Investments, | | | Supply, | | | Transport | | | Investments, | | | MTA, | | | Partners’ | | | | L.P. | | | L.P. | | | Inc. | | | Company | | | Inc. | | | L.P. | | | Capital | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | BALANCE—January 1, 2006 | | $ | 7,292 | | | $ | 6,207 | | | $ | 6,207 | | | $ | 6,207 | | | $ | 6,207 | | | $ | 4,344 | | | $ | 36,464 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Distributions | | | (1,201 | ) | | | (1,021 | ) | | | (1,021 | ) | | | (1,021 | ) | | | (1,021 | ) | | | (715 | ) | | | (6,000 | ) | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Net income | | | 3,129 | | | | 2,660 | | | | 2,660 | | | | 2,660 | | | | 2,660 | | | | 1,864 | | | | 15,633 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | BALANCE—December 31, 2006 | | | 9,220 | | | | 7,846 | | | | 7,846 | | | | 7,846 | | | | 7,846 | | | | 5,493 | | | | 46,097 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Distributions | | | (2,200 | ) | | | (1,872 | ) | | | (1,872 | ) | | | (1,872 | ) | | | (1,872 | ) | | | (1,312 | ) | | | (11,000 | ) | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Net income | | | 2,742 | | | | 2,334 | | | | 2,334 | | | | 2,334 | | | | 2,334 | | | | 1,634 | | | | 13,712 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | BALANCE—December 31, 2007 | | | 9,762 | | | | 8,308 | | | | 8,308 | | | | 8,308 | | | | 8,308 | | | | 5,815 | | | | 48,809 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Distributions | | | (1,000 | ) | | | (851 | ) | | | (851 | ) | | | (851 | ) | | | (851 | ) | | | (596 | ) | | | (5,000 | ) | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | Net income | | | 2,904 | | | | 2,471 | | | | 2,471 | | | | 2,471 | | | | 2,471 | | | | 1,730 | | | | 14,518 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | BALANCE—December 31, 2008 | | $ | 11,666 | | | $ | 9,928 | | | $ | 9,928 | | | $ | 9,928 | | | $ | 9,928 | | | $ | 6,949 | | | $ | 58,327 | | | | | | | | | | | | | | | | | | | | | | | |
See notes to financial statements. 119
GTE MOBILNET OF TEXAS #17 LIMITED PARTNERSHIP STATEMENTS OF CASH FLOWS YEARS ENDED DECEMBER 31, 2008, 2007 AND 2006 (Dollars in Thousands) | | | | | | | | | | | | | | | 2008 | | | 2007 | | | 2006 | | | | | | | | | | | | | | | CASH FLOWS FROM OPERATING ACTIVITIES: | | | | | | | | | | | | | Net income | | $ | 14,518 | | | $ | 13,712 | | | $ | 15,633 | | Adjustments to reconcile net income to net cash provided by operating activities: | | | | | | | | | | | | | Depreciation and amortization | | | 6,013 | | | | 5,020 | | | | 4,491 | | Provision for losses on accounts receivable | | | 936 | | | | 887 | | | | 717 | | Changes in certain assets and liabilities: | | | | | | | | | | | | | Accounts receivable | | | (1,318 | ) | | | (1,291 | ) | | | (937 | ) | Unbilled revenue | | | (99 | ) | | | 95 | | | | (138 | ) | Prepaid expenses and other current assets | | | (12 | ) | | | 5 | | | | 1 | | Accounts payable and accrued liabilities | | | 542 | | | | (149 | ) | | | 76 | | Advance billings and customer deposits | | | 167 | | | | 152 | | | | 4 | | Long term liabilities | | | 65 | | | | 24 | | | | 109 | | | | | | | | | | | | | | | | | | | | | | | | | Net cash provided by operating activities | | | 20,812 | | | | 18,455 | | | | 19,956 | | | | | | | | | | | | | | | | | | | | | | | | | CASH FLOWS FROM INVESTING ACTIVITIES: | | | | | | | | | | | | | Capital expenditures, including purchases from affiliates, net | | | (16,895 | ) | | | (10,799 | ) | | | (10,044 | ) | Change in due from General Partner, net | | | 1,083 | | | | 3,344 | | | | (3,912 | ) | | | | | | | | | | | Net cash used in investing activities | | | (15,812 | ) | | | (7,455 | ) | | | (13,956 | ) | | | | | | | | | | | | | | | | | | | | | | | | CASH FLOWS FROM FINANCING ACTIVITIES: | | | | | | | | | | | | | Distributions to partners | | | (5,000 | ) | | | (11,000 | ) | | | (6,000 | ) | | | | | | | | | | | Net cash used in financing activities | | | (5,000 | ) | | | (11,000 | ) | | | (6,000 | ) | | | | | | | | | | | | | | | | | | | | | | | | CHANGE IN CASH | | | — | | | | — | | | | — | | | | | | | | | | | | | | | CASH—Beginning of year | | | — | | | | — | | | | — | | | | | | | | | | | | | | | | | | | | | | | | | CASH—End of year | | $ | — | | | $ | — | | | $ | — | | | | | | | | | | | | | | | | | | | | | | | | | NONCASH TRANSACTIONS FROM INVESTING AND FINANCING ACTIVITIES: | | | | | | | | | | | | | Accruals for capital expenditures | | $ | 178 | | | $ | 242 | | | $ | 214 | |
See notes to financial statements. 120
GTE MOBILNET OF TEXAS #17 LIMITED PARTNERSHIP NOTES TO FINANCIAL STATEMENTS YEARS ENDED DECEMBER 31, 2008, 2007 AND 2006 (Dollars in Thousands) 1. | | ORGANIZATION AND MANAGEMENT |
GTE Mobilnet of Texas #17 Limited Partnership—GTE Mobilnet of Texas #17 Limited Partnership (the “Partnership”) was formed on June 13, 1989. The principal activity of the Partnership is providing cellular service in the Texas #17 rural service area. The partners and their respective ownership percentages as of December 31, 2008, 2007 and 2006 are as follows: | | | | | General Partner: | | | | | San Antonio MTA, L.P.* | | | 20.0000 | % | | | | | | Limited Partners: | | | | | Eastex Telecom Investments, L.P. | | | 17.0213 | % | Telecom Supply, Inc. | | | 17.0213 | % | Consolidated Communications Transport Company | | | 17.0213 | % | ALLTEL Communications Investments, Inc. | | | 17.0213 | % | San Antonio MTA, L.P.* | | | 11.9148 | % |
| | | * | | San Antonio MTA, L.P. (“General Partner”) is a wholly-owned subsidiary of Cellco Partnership (“Cellco”) doing business as Verizon Wireless. |
2. | | SIGNIFICANT ACCOUNTING POLICIES |
Use of Estimates—The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results may differ from those estimates. Estimates are used for, but not limited to, the accounting for: allocations, allowance for uncollectible accounts receivable, unbilled revenue, fair value of financial instruments, depreciation and amortization, useful lives and impairment of assets, accrued expenses, and contingencies. Estimates and assumptions are periodically reviewed and the effects of any material revisions are reflected in the financial statements in the period that they are determined to be necessary. Revenue Recognition—The Partnership earns revenue by providing access to the network (access revenue) and for usage of the network (airtime/usage revenue), which includes roaming and long distance revenue. In general, access revenue is billed one month in advance and is recognized when earned; the unearned portion is classified in advance billings. Airtime/usage revenue, roaming revenue and long distance revenue are recognized when service is rendered and included in unbilled revenue until billed. Equipment sales revenue associated with the sale of wireless handsets and accessories is recognized when the products are delivered to and accepted by the customer, as this is considered to be a separate earnings process from the sale of wireless services. In accordance with the provisions of Emerging Issues Task Force (“EITF”) Issue No. 00-21,Accounting for Revenue Arrangements with Multiple Deliverables, the Partnership recognizes customer activation fees as part of equipment revenue. The roaming rates charged by the Partnership to Cellco do not necessarily reflect current market rates. The Partnership will continue to re-evaluate the rates on a periodic basis (see Note 5). The Partnership’s revenue recognition policies are in accordance with the Securities and Exchange Commission’s (“SEC”) Staff Accounting Bulletin (“SAB”) No. 101Revenue Recognition in Financial Statements, SAB No. 104Revenue Recognitionand EITF Issue No. 00-21. 121
The Partnership reports taxes imposed by governmental authorities on revenue-producing transactions between the Partnership and its customers that are within the scope of EITF No. 06-3,How Taxes Collected from Customers and Remitted to Governmental Authorities Should Be Presented in the Income Statements,in the financial statements on a net basis. Operating Costs and Expenses—Operating expenses include expenses incurred directly by the Partnership, as well as an allocation of certain administrative and operating costs incurred by Cellco or its affiliates on behalf of the Partnership. Employees of Cellco provide services performed on behalf of the Partnership. These employees are not employees of the Partnership and therefore, operating expenses include direct and allocated charges of salary and employee benefit costs for the services provided to the Partnership. The General Partner believes such allocations, principally based on the Partnership’s percentage of total customers, customer gross additions or minutes-of-use, are reasonable. The roaming rates charged to the Partnership by Cellco do not necessarily reflect current market rates. The Partnership will continue to re-evaluate the rates on a periodic basis (see Note 5). Income Taxes—The Partnership is not a taxable entity for federal and state income tax purposes. Any taxable income or loss is apportioned to the partners based on their respective partnership interests and is reported by them individually. Inventory—Inventory is owned by Cellco and held on consignment by the Partnership. Such consigned inventory is not recorded on the Partnership’s financial statements. Upon sale, the related cost of the inventory is transferred to the Partnership at Cellco’s cost basis and included in the accompanying Statements of Operations. Allowance for Doubtful Accounts—The Partnership maintains allowances for uncollectible accounts receivable for estimated losses resulting from the inability of customers to make required payments. Estimates are based on the aging of the accounts receivable balances and the historical write-off experience, net of recoveries. Property, Plant and Equipment—Property, plant and equipment primarily represents costs incurred to construct and expand capacity and network coverage on Mobile Telephone Switching Offices (“MTSOs”) and cell sites. The cost of property, plant and equipment is depreciated over its estimated useful life using the straight-line method of accounting. Leasehold improvements are amortized over the shorter of their estimated useful lives or the term of the related lease. Major improvements to existing plant and equipment are capitalized. Routine maintenance and repairs that do not extend the life of the plant and equipment are charged to expense as incurred. Upon the sale or retirement of property, plant and equipment, the cost and related accumulated depreciation or amortization is eliminated from the accounts and any related gain or loss is reflected in the Statements of Operations. Network engineering costs incurred during the construction phase of the Partnership’s network and real estate properties under development are capitalized as part of property, plant and equipment and recorded as construction-in-progress until the projects are completed and placed into service. FCC Licenses— The Federal Communications Commission (“FCC”) issues licenses that authorize cellular carriers to provide service in specific cellular geographic service areas. The FCC grants licenses for terms of up to ten years. In 1993, the FCC adopted specific standards to apply to cellular renewals, concluding it will reward a license renewal to a cellular licensee that meets certain standards of past performance. Historically, the FCC has granted license renewals routinely. All wireless licenses issued by the FCC that authorize the Partnership to provide cellular services are recorded on the books of, and owned by, Cellco. The current term of the Partnership’s FCC license expires in December 2009. Cellco believes it will be able to meet all requirements necessary to secure renewal of the Partnership’s cellular license. 122
Valuation of Assets— Long-lived assets, including property, plant and equipment and intangible assets with finite lives, are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of the asset may not be recoverable. The carrying amount of a long-lived asset is not recoverable if it exceeds the sum of the undiscounted cash flows expected to result from the use and eventual disposition of the asset. The impairment loss, if determined to be necessary, would be measured as the amount by which the carrying amount of the asset exceeds the fair value of the asset. As discussed above, the FCC license under which the Partnership operates is recorded on the books of Cellco. Cellco does not charge the Partnership for the use of any FCC license recorded on its books (except for the annual cost of $76 related to the spectrum lease, as discussed in Note 5). However, Cellco believes that under the Partnership agreement it has the right to allocate, based on a reasonable methodology, any impairment loss recognized by Cellco for all licenses included in Cellco’s national footprint. Accordingly, the FCC licenses, including the license under which the Partnership operates, recorded on the books of Cellco are evaluated for impairment by Cellco, under the guidance set forth in Statement of Financial Accounting Standards (“SFAS”) No. 142,Goodwill and Other Intangible Assets. The FCC licenses are treated as an indefinite life intangible asset on the books of Cellco under the provisions of SFAS No. 142 and are not amortized, but rather are tested for impairment annually or between annual dates, if events or circumstances warrant. All of the licenses in Cellco’s nationwide footprint are tested in the aggregate for impairment under SFAS No. 142. Cellco evaluates its wireless licenses for potential impairment annually, and more frequently if indications of impairment exist. Cellco tests its licenses on an aggregate basis, in accordance with EITF No. 02-7,Unit of Accounting for Testing Impairment of Indefinite-Lived Intangible Assets, using a direct value methodology in accordance with SEC Staff Announcement No. D-108,Use of the Residual Method to Value Acquired Assets other than Goodwill. The direct value approach determines fair value using estimates of future cash flows associated specifically with the wireless licenses. If the fair value of the aggregated wireless licenses is less than the aggregated carrying amount of the wireless licenses, an impairment is recognized. Cellco evaluated its wireless licenses for potential impairment as of December 15, 2008 and December 15, 2007. These evaluations resulted in no impairment of Cellco’s wireless licenses. Fair Value Measurements —SFAS No. 157,Fair Value Measurements,defines fair value, expands disclosures about fair value measurements, establishes a framework for measuring fair value in generally accepted accounting principles and establishes a hierarchy that categorizes and prioritizes the sources to be used to estimate fair value. Under SFAS No. 157, fair value is defined as an exit price, representing the amount that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. SFAS 157 also establishes a three-tier hierarchy for inputs used in measuring fair value, which prioritizes the inputs used in the valuation methodologies in measuring fair value: Level 1 — Quoted prices in active markets for identical assets or liabilities Level 2 — Observable inputs other than quoted prices in active markets for identical assets and liabilities Level 3 — No observable pricing inputs in the market 123
On February 12, 2008, the FASB issued FSP No. FAS 157-2,Effective Date of FASB Statement No. 157,which delays the effective date of SFAS No. 157 for one year for all nonfinancial assets and nonfinancial liabilities, except those that are recognized or disclosed at fair value in the financial statements on a recurring basis. The Partnership elected a partial deferral of SFAS No. 157 under the provisions of FSP No. 157-2 related to the measurement of fair value used when evaluating wireless licenses and other long-lived assets for impairment. On October 10, 2008, the FASB issued FSP No. 157-3,Determining the Fair Value of a Financial Asset When the Market for That Asset Is Not Active, which clarifies application of SFAS No. 157 in a market that is not active. FSP No. 157-3 was effective upon issuance, including prior periods for which financial statements have not been issued. The impact of partially adopting SFAS No. 157 on January 1, 2008 and the related FSP No. 157-3 was not material to the financial statements. Effective January 1, 2009, as permitted by FSP No. 157-2, the Partnership adopted the provisions of SFAS No. 157 related to the non-recurring measurement of fair value used when evaluating certain nonfinancial assets, including wireless licenses and other long-lived assets, in the determination of impairment under SFAS No. 142 or SFAS No. 144, and when measuring the acquisition-date fair values of nonfinancial assets and nonfinancial liabilities in a business combination in accordance with SFAS No. 141(R),Business Combinations (Revised). Concentrations—To the extent the Partnership’s customer receivables become delinquent, collection activities commence. No single customer is large enough to present a significant financial risk to the Partnership. The Partnership maintains an allowance for losses based on the expected collectibility of accounts receivable. Cellco and the Partnership rely on local and long distance telephone companies, some of whom are related parties, and other companies to provide certain communication services. Although management believes alternative telecommunications facilities could be found in a timely manner, any disruption of these services could potentially have an adverse impact on the Partnership’s operating results. Although Cellco and the General Partner attempt to maintain multiple vendors for its network assets and inventory, which are important components of its operations, they are currently acquired from only a few sources. Certain of these products are in turn utilized by the Partnership and are important components of the Partnership’s operations. If the suppliers are unable to meet Cellco’s needs as it builds out its network infrastructure and sells service and equipment, delays and increased costs in the expansion of the Partnership’s network infrastructure or losses of potential customers could result, which would adversely affect operating results. Financial Instruments—The Partnership’s trade receivables and payables are short-term in nature, and accordingly, their carrying value approximates fair value. Due from General Partner—Due from General Partner principally represents the Partnership’s cash position. Cellco manages, on behalf of the General Partner, all cash, inventory, investing and financing activities of the Partnership. As such, the change in due from General Partner is reflected as an investing activity or a financing activity in the Statements of Cash Flows depending on whether it represents a net asset or net liability for the Partnership. Additionally, administrative and operating costs incurred by Cellco on behalf of the General Partner, as well as property, plant, and equipment transactions with affiliates, are charged to the Partnership through this account. Interest income or interest expense is based on the average monthly outstanding balance in this account and is calculated by applying the General Partner’s average cost of borrowing from Verizon Global Funding, a wholly-owned subsidiary of Verizon Communications, Inc., which was approximately 3.9%, 5.4% and 5.4% for the years ended December 31, 2008, 2007 and 2006, respectively. Included in net interest income is interest income of $148, $554 and $477 for the years ended December 31, 2008, 2007 and 2006, respectively, related to the due from General Partner. Distributions –The Partnership is required to make distributions to its partners on a quarterly basis based upon the Partnership’s operating results, cash availability and financing needs as determined by the General Partner at the date of the distribution. 124
Recently Issued Accounting Pronouncements–In April 2008, the FASB issued FSP No. FAS 142-3,Determination of the Useful Life of Intangible Assets. FSP 142-3 removes the requirement under SFAS No. 142 to consider whether an intangible asset can be renewed without substantial cost or material modifications to the existing terms and conditions, and replaces it with a requirement that an entity consider its own historical experience in renewing similar arrangements, or a consideration of market participant assumptions in the absence of historical experience. FSP 142-3 also requires entities to disclose information that enables users of financial statements to assess the extent to which the expected future cash flows associated with the asset are affected by the entity’s intent and/or ability to renew or extend the arrangement. The Partnership is required to adopt FSP 142-3 effective January 1, 2009 on a prospective basis. The adoption of FSP 142-3 on January 1, 2009 did not have an impact on the financial statements. In March 2008, the FASB issued SFAS No. 161,Disclosures about Derivative Instruments and Hedging Activities – an amendment of FASB Statement No. 133. This statement requires additional disclosures for derivative instruments and hedging activities that include how and why an entity uses derivatives, how these instruments and the related hedged items are accounted for under SFAS No. 133 and related interpretations, and how derivative instruments and related hedged items affect the entity’s financial position, results of operations and cash flows. SFAS No. 161 is effective for financial statements issued for fiscal years and interim periods beginning after November 15, 2008. The adoption of SFAS No. 161 on January 1, 2009 did not have an impact on the financial statements. In December 2007, the FASB issued SFAS No. 141(R),Business Combinations (Revised), to replace SFAS No. 141,Business Combinations. SFAS No. 141(R) requires the use of the acquisition method of accounting, defines the acquirer, establishes the acquisition date and broadens the scope to all transactions and other events in which one entity obtains control over one or more other businesses. This statement is effective for business combinations or transactions entered into for fiscal years beginning on or after December 15, 2008. The adoption of SFAS No. 141(R) on January 1, 2009 did not have an impact on the financial statements. In December 2007, the FASB issued SFAS No. 160,Noncontrolling Interests in Consolidated Financial Statements – an amendment of ARB No. 51. SFAS No. 160 establishes accounting and reporting standards for the noncontrolling interest in a subsidiary and for the retained interest and gain or loss when a subsidiary is deconsolidated. This statement is effective for financial statements issued for fiscal years beginning on or after December 15, 2008 prospectively, except for the presentation and disclosure requirements which will be applied retrospectively for all periods presented. The adoption of SFAS No. 160 on January 1, 2009 did not have an impact on the financial statements. In February 2007, the FASB issued SFAS No. 159,The Fair Value Option for Financial Assets and Financial Liabilities. SFAS No. 159 permits entities to choose to measure eligible items at fair value, and to report unrealized gains and losses in earnings on items for which the fair value option has been elected. The Partnership adopted SFAS No. 159 effective January 1, 2008 and the impact of adoption did not have an impact on the financial statements. 125
3. | | PROPERTY, PLANT AND EQUIPMENT |
Property, plant and equipment consists of the following as of December 31, 2008 and 2007: | | | | | | | | | | | | | | | Useful lives | | | 2008 | | | 2007 | | | | | | | | | | | | | | | Buildings and improvements | | 10-40 years | | | $ | 18,790 | | | $ | 16,290 | | Cellular plant equipment | | 3-15 years | | | | 54,396 | | | | 51,268 | | Furniture, fixtures and equipment | | 2-5 years | | | | 75 | | | | 75 | | Leasehold improvements | | 5 years | | | | 3,563 | | | | 3,118 | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | 76,824 | | | | 70,751 | | | | | | | | | | | | | | | Less accumulated depreciation and amortization | | | | | | | 26,105 | | | | 30,689 | | | | | | | | | | | | | | | | | | | | | | | | | | Property, plant and equipment, net | | | | | | $ | 50,719 | | | $ | 40,062 | | | | | | | | | | | | |
Capitalized network engineering costs of $565 and $410 were recorded during the years ended December 31, 2008 and 2007, respectively. Construction-in-progress included in certain of the classifications shown above, principally cellular plant equipment, amounted to $3,570 and $5,784 at December 31, 2008 and 2007, respectively. Accounts payable and accrued liabilities consist of the following as of December 31: | | | | | | | | | | | 2008 | | | 2007 | | | | | | | | | | | Accounts payable | | $ | 551 | | | $ | 749 | | Non-income based taxes and regulatory fees | | | 600 | | | | 618 | | Texas margin tax payable | | | 520 | | | | — | | Accrued commissions | | | 225 | | | | 212 | | | | | | | | | | | | | | | | | | Accounts payable and accrued liabilities | | $ | 1,896 | | | $ | 1,579 | | | | | | | | |
Advance billings and customer deposits consist of the following as of December 31: | | | | | | | | | | | 2008 | | | 2007 | | | | | | | | | | | Advance billings | | $ | 732 | | | $ | 595 | | Customer deposits | | | 208 | | | | 178 | | | | | | | | | | | | | | | | | | Advance billings and customer deposits | | $ | 940 | | | $ | 773 | | | | | | | | |
126
5. | | TRANSACTIONS WITH AFFILIATES AND RELATED PARTIES |
Significant transactions with affiliates (Cellco and its related entities) and other related parties, including allocations and direct charges, are summarized as follows for the years ended December 31, 2008, 2007 and 2006: | | | | | | | | | | | | | | | 2008 | | | 2007 | | | 2006 | | | | | | | | | | | | | | | Service revenues (a) | | $ | 15,459 | | | $ | 13,035 | | | $ | 15,819 | | Equipment and other revenues (b) | | | (289 | ) | | | (259 | ) | | | (278 | ) | Cost of service (c) | | | 13,517 | | | | 11,909 | | | | 10,838 | | Cost of equipment (d) | | | 1,140 | | | | 1,037 | | | | 531 | | Selling, general and administrative (e) | | | 9,180 | | | | 8,330 | | | | 6,712 | |
| | | (a) | | Service revenues include roaming revenues relating to customers of other affiliated markets, long distance, paging, data and allocated contra-revenues including revenue concessions. | | (b) | | Equipment and other revenues include sales of handsets and accessories and allocated contra-revenues including equipment concessions and coupon rebates. | | (c) | | Cost of service includes roaming costs relating to customers roaming in other affiliated markets, paging, switch usage and allocated cost of telecom, long distance and handset applications. | | (d) | | Cost of equipment includes handsets, accessories, and allocated warehousing and freight. | | (e) | | Selling, general and administrative expenses include commissions and billing, and allocated office telecom, customer care, billing, salaries, sales and marketing, advertising, and commissions. |
All affiliate transactions captured above, are based on actual amounts directly incurred by Cellco on behalf of the Partnership and/or allocations from Cellco. Revenues and expenses were allocated based on the Partnership’s percentage of total customers or gross customer additions or minutes of use, where applicable. The General Partner believes the allocations are reasonable. The affiliate transactions are not necessarily conducted at arm’s length. The Partnership had net purchases involving plant, property, and equipment with affiliates with a net book value of $5,940, $3,235 and $2,695 in 2008, 2007 and 2006, respectively. On January 1, 2005, the Partnership entered into a lease agreement for the right to use additional spectrum owned by Cellco. The initial term of this agreement was one year, with annual renewal terms. The Partnership renewed the lease through June 23, 2015. The annual lease commitment of $76 represents the costs of financing the spectrum, and does not necessarily reflect the economic value of the services received. No additional spectrum purchases or lease commitments have been entered into by the Partnership as of December 31, 2008. The General Partner, on behalf of the Partnership, and the Partnership itself have entered into operating leases for facilities, equipment and spectrum used in its operations. Lease contracts include renewal options that include rent expense adjustments based on the Consumer Price Index as well as annual and end-of-lease term adjustments. Rent expense is recorded on a straight-line basis. The noncancelable lease term used to calculate the amount of the straight-line rent expense is generally determined to be the initial lease term, including any optional renewal terms that are reasonably assured. Leasehold improvements related to these operating leases are amortized over the shorter of their estimated useful lives or the noncancelable lease term. For the years ended December 31, 2008, 2007 and 2006, the Partnership recognized a total of $2,511, $1,811 and $1,601, respectively, as rent expense related to payments under these operating leases, which was included in cost of service in the accompanying Statements of Operations. 127
Aggregate future minimum rental commitments under noncancelable operating leases, excluding renewal options that are not reasonably assured, for the years shown are as follows: | | | | | Years | | Amount | | | 2009 | | $ | 2,423 | | 2010 | | | 1,350 | | 2011 | | | 1,000 | | 2012 | | | 853 | | 2013 | | | 737 | | 2014 and thereafter | | | 1,901 | | | | | | | | | | | Total minimum payments | | $ | 8,264 | | | | | |
From time to time the General Partner enters into purchase commitments, primarily for network equipment, on behalf of the Partnership. Cellco is subject to various lawsuits and other claims including class actions, product liability, patent infringement, antitrust, partnership disputes, and claims involving relations with resellers and agents. Cellco is also defending lawsuits filed against itself and other participants in the wireless industry alleging various adverse effects as a result of wireless phone usage. Various consumer class action lawsuits allege that Cellco breached contracts with consumers, violated certain state consumer protection laws and other statutes and defrauded customers through concealed or misleading billing practices. Certain of these lawsuits and other claims may impact the Partnership. These litigation matters may involve indemnification obligations by third parties and/or affiliated parties covering all or part of any potential damage awards against Cellco and the Partnership and/or insurance coverage. All of the above matters are subject to many uncertainties, and outcomes are not predictable with assurance. The Partnership may be allocated a portion of the damages that may result upon adjudication of these matters if the claimants prevail in their actions. Consequently, the ultimate liability with respect to these matters at December 31, 2008 cannot be ascertained. The potential effect, if any, on the financial statements of the Partnership, in the period in which these matters are resolved, may be material. In addition to the aforementioned matters, Cellco is subject to various other legal actions and claims in the normal course of business. While Cellco’s legal counsel cannot give assurance as to the outcome of each of these matters, in management’s opinion, based on the advice of such legal counsel, the ultimate liability with respect to any of these actions, or all of them combined, will not materially affect the financial statements of the Partnership. 128
8. | | RECONCILIATION OF ALLOWANCE FOR DOUBTFUL ACCOUNTS |
| | | | | | | | | | | | | | | | | | | Balance at | | | Additions | | | Write-offs | | | Balance at | | | | Beginning | | | Charged to | | | Net of | | | End | | | | of the Year | | | Operations | | | Recoveries | | | of the Year | | | | | | | | | | | | | | | | | | | Accounts Receivable Allowances: | | | | | | | | | | | | | | | | | 2008 | | $ | 373 | | | $ | 936 | | | $ | (924 | ) | | $ | 385 | | 2007 | | $ | 329 | | | $ | 887 | | | $ | (843 | ) | | | 373 | | 2006 | | | 385 | | | | 717 | | | | (773 | ) | | | 329 | |
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SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. | | | | | | Consolidated Communications Holdings, Inc. (Registrant)
| | | (Registrant) |
| | | Date: March 16, 2009 | By: | /s/ Robert J. Currey |
| | | | | | Robert J. Currey | | | | President and Chief Executive Officer | | (Principal (Principal Executive Officer) | |
Date: March 27, 2006
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities indicated thereunto duly authorized as of March 27, 2006.16, 2009. | | | | | Signature | | | | Title | | | | | | /s/ Robert J. Currey
Robert J. Currey | | | | President (Principal Executive Officer,, Chief Executive Officer and Director (Principal Executive Officer) | | | | | | /s/ Steven L. Childers
Steven L. Childers | | | | Senior Vice President and Chief Financial Officer (Principal Financial and Accounting Officer) Officer | | | | | | /s/ Richard A. Lumpkin
Richard A. Lumpkin | | | | Chairman of the Board of Directors | | | | | | /s/ Jack W. Blumenstein
Jack W. Blumenstein | | | | Director | | | | | | /s/ Roger H. Moore
Roger H. Moore | | | | Director | | | | | | /s/ Maribeth S. Rahe
Maribeth S. Rahe | | | | Director |
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INDEX TO EXHIBITS | | | | | Exhibit | | | No. | | Description | | | | | 2 | .1* | | Stock Purchase Agreement, dated January 15, 2004, between Pinnacle One Partners, L.P. and Consolidated Communications Acquisitions Texas Corp. (f/k/a Homebase Acquisition Texas Corp.) | | 2 | .2** | | Reorganization Agreement, dated July 21, 2005, among Consolidated Communications Illinois Holdings, Inc., Consolidated Communications Texas Holdings, Inc., Homebase Acquisition, LLC, and the equity holders named therein | | 3 | .1* | | Form of Amended and Restated Certificate of Incorporation | | 3 | .2* | | Form of Amended and Restated Bylaws | | 4 | .1* | | Specimen Common Stock Certificate | | 4 | .2* | | Indenture, dated April 14, 2004, by and among Consolidated Communications Illinois Holdings, Inc., Consolidated Communications Texas Holdings, Inc., Homebase Acquisition, LLC and Wells Fargo Bank, N.A., as Trustee, with respect to the 93/4% Senior Notes due 2012 | | 4 | .3* | | Form of 93/4% Senior Notes due 2012 | | 10 | .1* | | Second Amended and Restated Credit Agreement, dated February 23, 2005, among Consolidated Communications Illinois Holdings, Inc., as Parent Guarantor, Consolidated Communications, Inc. and Consolidated Communications Acquisition Texas, Inc., as Co-Borrowers, the lenders referred to therein and Citicorp North America, Inc., as Administrative Agent | | 10 | .2* | | Amendment No. 1, dated April 22, 2005, to the Second Amended and Restated Credit Agreement, dated as of February 23, 2005, and Waiver under the Existing Credit Agreement among Consolidated Communications Illinois Holdings Inc., Consolidated Communications, Inc., Consolidated Communications Acquisition Texas, Inc., the lenders referred to therein and Citicorp North America, Inc. | | 10 | .3* | | Amendment No. 2, dated as of June 3, 2005, to the(i) Credit Agreement dated as of April 14, 2004, as amended and restated as of October 22, 2004 and (ii) the Second Amended and Restated Credit Agreement, dated as of February 23, 2005, as amended on April 22, 2005, among Homebase Acquisition, LLC, Consolidated Communications Illinois Holdings, Inc., Consolidated Communications Texas Holdings, Inc., Consolidated Communications, Inc., Consolidated Communications Acquisition Texas, Inc., the lenders referred to therein and Citicorp North America, Inc. | | 10 | .4 | | Amendment No. 3, dated as of November 25, 2006, to the(i) Credit Agreement dated as of April 14, 2004, as amended and restated as of October 22, 2004, (ii) the Second Amended and Restated Credit Agreement dated as of February 23, 2005, as amended on April 22, 2005 and as further amended June 3, 2005, among Consolidated Communications Holdings, Inc., Consolidated Communications, Inc., Consolidated Communications Acquisition Texas, Inc., the lenders referred to therein as Citicorp North America, Inc. | | 10 | .5* | | Form of Amended and Restated Pledge Agreement, among Consolidated Communications Holdings, Inc., Consolidated Communications, Inc., Consolidated Communications Acquisition Texas, Inc., the subsidiary guarantors named therein and Citicorp North America, Inc., as Collateral Agent | | 10 | .6* | | Form of Amended and Restated Security Agreement, among Consolidated Communications Holdings, Inc., Consolidated Communications, Inc., Consolidated Communications Acquisition Texas, Inc., the subsidiary guarantors name therein and Citicorp North America, Inc., as Collateral Agent |
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| | | | | Exhibit | | | No. | | Description | | | | | 10 | .7* | | Form of Amended and Restated Guarantee Agreement, among Consolidated Communications Holdings, Inc., Consolidated Communications Acquisition Texas, each subsidiary of each of Consolidated Communications, Inc. and Consolidated Communications Acquisition Texas, Inc. signatory thereto and Citicorp North America, Inc., as Administrative Agent | | 10 | .8* | | Lease Agreement, dated December 31, 2002, between LATEL, LLC and Consolidated Market Response, Inc. | | 10 | .9* | | Lease Agreement, dated December 31, 2002, between LATEL, LLC and Illinois Consolidated Telephone Company | | 10 | .10* | | Master Lease Agreement, dated February 25, 2002, between General Electric Capital Corporation and TXU Communications Ventures Company | | 10 | .11* | | Amendment No. 1 to Master Lease Agreement, dated February 25, 2002, between General Electric Capital Corporation and TXU Communications Ventures Company, dated March 18, 2002 | | 10 | .12* | | Amended and Restated Consolidated Communications Holdings, Inc. Restricted Share Plan | | 10 | .13* | | Form of 2005 Long-term Incentive Plan | | 21 | | | Subsidiaries of Consolidated Communications Holdings, Inc. | | 23 | .1 | | Consent of Ernst & Young LLP, Independent Registered Public Accounting Firm | | 23 | .2 | | Consent of Deloitte & Touche LLP, Independent Registered Public Accounting Firm | | 31 | .1 | | Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 | | 31 | .2 | | Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 | | 32 | .1 | | Certification of Chief Executive Officer and Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |
| | | | | Exhibit | | | Number | | Description | | * | Incorporated | | | | 2.1 | | | Agreement and Plan of Merger, dated as of July 1, 2007, by and among Consolidated Communications Holdings, Inc., North Pittsburgh Systems, Inc. and Fort Pitt Acquisition Sub Inc. (incorporated by reference from the Registration Statement on Form S-1 (File No. 333-121086). |
| | ** | Incorporated by reference from theto Exhibit 2.1 to Current Report on Form 8-K filed dated July 12, 2007). | | | | | | | 3.1 | | | Form of Amended and Restated Certificate of Incorporation (incorporated by reference to Exhibit 3.1 to Amendment No. 7 to Form S-1 dated July 19, 2005). | | | | | | | 3.2 | | | Form of Amended and Restated Bylaws, as amended (incorporated by reference to Exhibit 3.2 to Current Report on August 2, 2005.Form 8-K dated September 11, 2007). | | | | | | | 4.1 | | | Specimen Common Stock Certificate (incorporated by reference to Exhibit 4.1 to Amendment No. 7 to Form S-1 dated July 19, 2005). | | | | | | | 10.1 | | | Credit Agreement, dated December 31, 2007, among Consolidated Communications Holdings, Inc., as Parent Guarantor, Consolidated Communications, Inc., Consolidated Communications Acquisition Texas, Inc. and Fort Pitt Acquisition Sub Inc., as Co-Borrowers, the lenders referred to therein, Wachovia Bank, National Association, as administrative agent, issuing bank and swingline lender, CoBank, ACB, as syndication agent, General Electric Capital Corporation, as co-documentation agent, The Royal Bank of Scotland PLC, as co-documentation agent, and Wachovia Capital Markets, LLC, as sole lead arranger and sole bookrunner (incorporated by reference to Exhibit 10.1 to Current Report on Form 8-K dated December 31, 2007). | | | | | | | 10.2 | | | Form of Collateral Agreement, dated December 31, 2007, by and among Consolidated Communications Holdings, Inc., Consolidated Communications, Inc., Consolidated Communications Acquisition Texas, Inc., Fort Pitt Acquisition Sub Inc., certain subsidiaries of Consolidated Communications Holdings, Inc. identified on the signature pages thereto, in favor of Wachovia Bank, National Association, as Administrative Agent (incorporated by reference to Exhibit 10.2 to Form 10-K for the period ended December 31, 2007). | | | | | | | 10.3 | | | Form of Guaranty Agreement, dated December 31, 2007, made by Consolidated Communications Holdings, Inc. and certain subsidiaries of Consolidated Communications Holdings, Inc. identified on the signature pages thereto, in favor of Wachovia Bank, National Association, as Administrative Agent (incorporated by reference to Exhibit 10.3 to Form 10-K for the period ended December 31, 2007). | | | | | | | 10.4 | | | Lease Agreement, dated December 31, 2002, between LATEL, LLC and Consolidated Market Response, Inc. (incorporated by reference to Exhibit 10.11 to Form S-4 dated October 26, 2004). | | | | | | | 10.5 | | | Lease Agreement, dated December 31, 2002, between LATEL, LLC and Illinois Consolidated Telephone Company (incorporated by reference to Exhibit 10.12 to Form S-4 dated October 26, 2004). | | | | | | | 10.6 | | | Master Lease Agreement, dated February 25, 2002, between General Electric Capital Corporation and TXU Communications Ventures Company (incorporated by reference to Exhibit 10.13 to Form S-4 dated October 26, 2004). | | | | | | | 10.7 | | | Amendment No. 1 to Master Lease Agreement, dated February 25, 2002, between General Electric Capital Corporation and TXU Communications Ventures Company, dated March 18, 2002 (incorporated by reference to Exhibit 10.14 to Form S-4 dated October 26, 2004). | | | | | | | 10.8 | | | Amended and Restated Consolidated Communications Holdings, Inc. Restricted Share Plan (incorporated by reference to Exhibit 10.11 to Amendment No. 7 to Form S-1 dated July 19, 2005). |
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| | | | | Exhibit | | | Number | | Description | | | | | | | 10.9 | | | Form of 2005 Long-term Incentive Plan (incorporated by reference to Exhibit 10.12 to Amendment No. 7 to Form S-1 dated July 19, 2005). | | | | | | | 10.10 | | | Stock Repurchase Agreement, dated July 13, 2006, by and among Consolidated Communications Holdings, Inc., Providence Equity Partners IV L.P. and Providence Equity Operating Partners IV L.P. (incorporated by reference to Exhibit 10.1 to Form 8-K dated July 17, 2006). | | | | | | | 10.11 | | | Form of Employment Security Agreement with certain of the Company’s executive officers (incorporated by reference to Exhibit 10.1 to Form 8-K dated February 23, 2007). | | | | | | | 10.12 | | | Form of Employment Security Agreement with the Company’s and its subsidiaries vice president and director level employees (incorporated by reference to Exhibit 10.12 to Form 10-K for the period ended December 31, 2007). | | | | | | | 10.13 | | | Executive Long-Term Incentive Program, as revised March 12, 2007 (incorporated by reference to Exhibit 10.1 to Form 8-K dated March 12, 2007). | | | | | | | 10.14 | | | Form of 2005 Long-Term Incentive Plan Performance Stock Grant Certificate (incorporated by reference to Exhibit 10.2 to Form 8-K dated March 12, 2007). | | | | | | | 10.15 | | | Form of 2005 Long-Term Incentive Plan Restricted Stock Grant Certificate (incorporated by reference to Exhibit 10.3 to Form 8-K dated March 12, 2007). | | | | | | | 10.16 | | | Form of 2005 Long-Term Incentive Plan Restricted Stock Grant Certificate for Directors (incorporated by reference to Exhibit 10.4 to Form 8-K dated March 12, 2007). | | | | | | | 10.17 | | | Description of the Consolidated Communications Holdings, Inc. Bonus Plan (incorporated by reference to Exhibit 10.5 to Form 8-K dated March 12, 2007). | | | | | | | 10.18 | | | Letter Agreement, dated March 31, 2008, by Wachovia Bank, National Association, and agreed to and acknowledged by Consolidated Communications Holdings, Inc., Consolidated Communications, Inc., Consolidated Communications Acquisition Texas, Inc. and North Pittsburgh Systems, Inc. (formerly known as Fort Pitt Acquisition Sub Inc.) (incorporated by reference to Exhibit 10.1 to Form 8-K dated March 31, 2008). | | | | | | | 10.19 | | | Letter Agreement dated August 6, 2008 by Wachovia Bank, National Association, and agreed to and acknowledged by Consolidated Communications Holdings, Inc., Consolidated Communications, Inc., Consolidated Communications Acquisition Texas, Inc. and North Pittsburgh Systems, Inc. (formerly known as Fort Pitt Acquisition Sub Inc.) (incorporated by reference to Exhibit 10.1 to Form 10-Q for the period ended June 30, 2008). | | | | | | | 21 | | | List of Subsidiaries of Consolidated Communications Holdings, Inc. | | | | | | | 23.1 | | | Consent of Independent Registered Public Accounting Firm. | | | | | | | 23.2 | | | Consent of Independent Registered Public Accounting Firm. | | | | | | | 31.1 | | | Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. | | | | | | | 31.2 | | | Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. | | | | | | | 32.1 | | | Certification of Chief Executive Officer and Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
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