Cash Flows From Investing Activities.
TDS makes substantial investments each year to acquire, construct, operate and upgrade modern high-quality communications networks and facilities as a basis for creating long-term value for shareowners. Cash flows from investing activities required $147.5 million in the first three months of 2002 compared to $213.6 million in 2001. Cash expenditures for capital additions required $128.3 million in 2002 and $151.3 million in 2001. The primary purpose of TDS’s construction and expansion expenditures is to provide for significant customer growth, to upgrade service, and to take advantage of service-enhancing and cost-reducing technological developments in order to maintain competitive services. U.S. Cellular’s capital additions totaled $100.1 million in 2002 and $120.4 million in 2001 representing expenditures to construct cell sites, to replace retired assets, to improve business systems and to change out analog equipment for digital equipment. TDS Telecom capital expenditures for its local telephone operations totaled $19.2 million in 2002 and $12.8 million in 2001 representing expenditures for switch modernization and outside plant facilities to maintain and enhance the quality of service and offer new revenue opportunities. TDS Telecom’s capital expenditures for competitive local exchange operations totaled $9.0 million in 2002 and $18.1 million in 2001 for switching and other network facilities. Cash used for acquisitions, excluding cash acquired, totaled $17.6 million in 2002 and $60.8 million in 2001. TDS’s acquisitions include primarily the purchase of controlling interests in wireless markets and telephone properties, minority interests that increased the ownership of majority-owned markets and wireless spectrum. TDS added 2 PCS licenses in 2002 and the majority interest in one cellular market in 2001. The 2001 expenditures also include an additional deposit on certain PCS licenses. The PCS licenses were acquired on U.S. Cellular’s behalf and through joint ventures. The interests acquired through joint ventures are 100% owned by the joint ventures, and U.S. Cellular is considered to have the controlling financial interest in these joint ventures for financial reporting purposes. 10
Cash Flows From Financing Activities.
Cash flows from financing activities required $95.5 million in the first three months of 2002 and $10.3 million in 2001. TDS paid $51.0 million to retire Medium-term Notes in the first quarter of 2002 that were called at their principal face amount. Notes Payable balances decreased $31.0 million in 2002 and increased by $36.5 million in 2001. Dividends paid on Common and Preferred Shares, excluding dividends reinvested, totaled $8.6 million in 2002 and $8.1 million in 2001. During the first three months of 2001, cash required for the repurchase of TDS common shares (110,000 shares for an aggregate price of $10.3 million) and the settlement of late December 2000 repurchases totaled $13.5 million. During the first three months of 2001, U.S. Cellular paid $11.0 million to settle repurchases of U.S. Cellular Common Shares made in late December 2000. No TDS or U.S. Cellular common shares were repurchased in 2002. In 2001, U.S. Cellular retired LYONs securities with a carrying value of $15.8 million for cash totaling $10.8 million and 162,000 U.S. Cellular Common Shares. An additional $1.2 million was paid in April 2001 to settle retirements that occurred at the end of March 2001. LIQUIDITY AND CAPITAL RESOURCESSubject to the discussion under “Financing of Chicago 20 MHz Acquisition” below, management believes that internal cash flow, existing cash and cash equivalents, and funds available from line of credit arrangements provide sufficient financial resources to finance its near-term capital, business development and expansion expenditures. TDS and its subsidiaries have access to public and private capital markets to help meet its long-term financing needs. TDS and its subsidiaries anticipate accessing public and private capital markets to issue debt and equity securities only when and if capital requirements, financial market conditions and other factors warrant. However, the availability of financial resources is dependent on economic events, business developments, technological changes, financial conditions or other factors, some of which may not be in TDS’s control. If at any time financing is not available on terms acceptable to TDS, TDS might be required to reduce its business development and capital expenditure plans, which could have a materially adverse effect on its business and financial condition. TDS does not believe that any circumstances that could materially adversely affect TDS’s liquidity or capital resources are currently reasonably likely to occur, but it cannot provide assurances that such circumstances will not occur or that they will not occur rapidly. Economic downturns, changes in financial markets or other factors could rapidly change the availability of TDS’s liquidity and capital resources. At March 31, 2002, TDS and its subsidiaries are in compliance with all covenants and other requirements set forth in long-term debt indentures. TDS does not have any rating downgrade triggers that would accelerate the maturity dates of its long-term debt. However, a downgrade in TDS’s credit rating could adversely affect its ability to renew existing, or obtain access to new, credit facilities in the future. TDS and its subsidiaries had cash and cash equivalents totaling $80.8 million at March 31, 2002. TDS had a $600 million revolving credit facility for general corporate purposes at March 31, 2002, all of which was unused. Borrowings bear interest at the London Interbank Borrowing Rate (“LIBOR”) plus a contractual spread based on the Company’s credit rating. The contractual spread was 30 basis points as of March 31, 2002 (for a rate of 2.18% based on the LIBOR rate at March 31, 2002). TDS also had $87 million of bank lines of credit for general corporate purposes at March 31, 2002, all of which was unused. These line of credit agreements provide for borrowings at 11
negotiated rates up to the prime rate (4.75% at March 31, 2002). U.S. Cellular’s capital additions budget for 2002 totals approximately $620-$640 million, primarily to add cell sites to expand and enhance coverage, to provide additional digital service capabilities including the initial steps toward the migration to CDMA technology, and to enhance office systems. The conversion to CDMA is expected to be completed by 2004, at an approximate cost of $400-$450 million, spread over the next three years. The estimated capital additions in 2002 include $80-$95 million related to the conversion. At March 31, 2002, the remaining amount of the capital budget approximated $520 - $540 million. U.S. Cellular plans to finance its cellular construction program using primarily internally generated cash and short-term debt. U.S. Cellular’s operating cash flow totaled $639.6 million for the twelve months ended March 31, 2002, up 14% ($78.5 million) from 2001. In addition, U.S. Cellular had a $500 million bank revolving line of credit for general corporate purposes at March 31, 2002, $267.0 million of which was unused. This line of credit provides for borrowings at LIBOR plus a contractual spread, based on U.S. Cellular’s credit rating. The contractual spread was 19.5 basis points as of March 31, 2002 (for a rate of 2.08% based on the LIBOR rate at March 31, 2002). TDS’s and U.S. Cellular’s interest cost would increase if their credit rating goes down which would increase their cost of financing, but their credit facilities would not cease to be available solely as a result of a decline in their credit rating. However, the continued availability of the revolving credit facilities requires TDS and U.S. Cellular to comply with certain negative and affirmative covenants, maintain certain financial ratios and to represent certain matters at the time of each borrowing. At March 31, 2002, TDS and U.S. Cellular were in compliance with all covenants and other requirements set forth in the credit agreements. TDS Telecom’s capital additions budget for 2002 approximates $190-$200 million. The incumbent local telephone companies are expected to spend approximately $120 million to provide for normal growth and to upgrade plant and equipment to provide enhanced services. The competitive local exchange companies are expected to spend approximately $70-$80 million to build switching and other network facilities to expand its markets. At March 31, 2002, the remaining amount of the capital budget approximated $101 million for local telephone companies and $61-$71 million for the competitive local exchange companies. TDS Telecom plans to finance its construction program using primarily internally generated cash. TDS Telecom’s operating cash flow totaled $265.5 million for the twelve months ended March 31, 2002, up slightly ($0.3 million) from 2001. TDS reviews attractive opportunities to acquire additional telecommunications companies and wireless spectrum, which add value to the business. At March 31, 2002, the Company had agreements to acquire two telephone companies serving 25,500 access lines for aggregate cash consideration of $72.3 million. On November 1, 2000, the United States Bankruptcy Court for the Western District of Wisconsin confirmed a plan of financial reorganization for Airadigm Communications, Inc., a Wisconsin-based wireless service provider. Under the terms of the plan of reorganization, TDS and an unrelated entity have committed to provide funding to meet certain obligations of Airadigm. Airadigm continues to operate as an independent company providing wireless services. Pursuant to the plan of reorganization, under certain circumstances and subject to the FCC’s rules and regulations, TDS and the unrelated entity, or their respective designees, may each acquire certain PCS licenses for areas of Wisconsin and Iowa as well as other Airadigm assets. As of March 31, 2002, TDS had provided funding of $53.9 million to Airadigm. Under the plan of reorganization, TDS’s portion of the funding and the cost of the assets to be acquired could possibly aggregate up to an additional $145 million. U.S. Cellular is a limited partner in a joint venture that was a successful bidder for 17 licenses in 13 markets in the January 2001 FCC spectrum auction. The cost for the 17 licenses totaled $283.9 million. Legally the general partner controls the joint venture; however, the Company has 12
included the joint venture in its consolidated financial statements because U.S. Cellular is considered to have controlling financial interest for financial reporting purposes under GAAP. In 2001, the joint venture acquired 5 of such licenses in 4 markets for a total of $4.1 million and had deposits with the FCC totaling $56.1 million for the remaining licenses (classified as a current asset at March 31, 2002). In May 2002, the FCC refunded 85% of the deposits, or $47.6 million, and retained the remaining $8.5 million of deposits pending the outcome of the proceedings discussed below. Subject to the final outcome of such proceedings the joint venture’s portion of the funding could possibly aggregate up to an additional $271.3 million to fund the acquisition of the remaining licenses. In addition, U.S. Cellular has agreed to loan the general partner up to $20 million that could be used by the general partner to fund its investment in the licenses. With respect to the remaining 12 licenses in 9 markets, such licenses had been reauctioned by the FCC after defaults by winning bidders in a prior auction and were made subject by the FCC to the final outcome of certain legal proceedings initiated by the prior winning bidders. Following the reauction, one of the prior winning bidders obtained a court ruling that the FCC’s actions were illegal. In response to a request of the U.S. Department of Justice and the FCC, the U.S. Supreme Court has agreed to review this court ruling. In the event the prior winning bidder is successful in this litigation, the joint venture would receive a refund of its remaining deposit of $8.5 million made to the FCC for such 12 licenses. The joint venture’s financial requirements would then be limited to the 5 licenses in 4 markets that it acquired in 2001. If the FCC is successful in this litigation or the matter is otherwise resolved in a manner that will permit the joint venture to acquire the remaining licenses, the joint venture would be required to pay to the FCC the balance of the auction price for such licenses. The joint venture would then have significant financial requirements to build out such markets. The exact nature of U.S. Cellular’s financial commitment going forward will be determined as the joint venture develops its long-term business and financing plans. TDS and U.S. Cellular may continue the repurchase of their common shares, as market conditions warrant, on the open market or at negotiated prices in private transactions. The repurchase programs are intended to create value for the shareholders. The repurchases of common shares will be funded by internal cash flow, supplemented by short-term borrowings. The U.S. Cellular Board of Directors has authorized management to opportunistically repurchase LYONs in private transactions. U.S. Cellular may also purchase a limited amount of LYONs in open-market transactions from time to time. U.S. Cellular LYONs are convertible, at the option of their holders, at any time prior to maturity, redemption or purchase, into U.S. Cellular Common Shares at a conversion rate of 9.475 U.S. Cellular Common Shares per LYON. Upon conversion, U.S. Cellular has the option to deliver to holders either U.S. Cellular Common Shares or cash equal to the market value of the U.S. Cellular Common Shares into which the LYONs are convertible. U.S. Cellular may redeem the notes for cash at the issue price plus accrued original issue discount through the date of redemption. TDS holds various investments in publicly traded companies valued at $2,286.8 million as of March 31, 2002. These assets are classified for financial reporting purposes as available-for-sale securities. TDS may purchase additional shares, sell or transfer shares in public or private transactions and/or may enter into privately negotiated derivative transactions to hedge the market risk of some or all of its positions in the securities. Financing of Chicago 20MHz AcquisitionUnder the Purchase and Sale Agreement with PrimeCo, within 110 days of the date of the agreement, U.S. Cellular is required to use commercially reasonable efforts to (i) obtain senior bank financing on the terms and conditions set forth in certain letters that it has received from a group of lenders and (ii) issue and sell debt securities pursuant to an engagement letter with an investment 13
banking firm on terms and conditions acceptable to U.S. Cellular in its sole discretion. The acquisition price of approximately $610 million will be financed through various sources including bank and bond financing. Additionally, U.S. Cellular plans to invest approximately $90 million in the business of Chicago 20MHz during the first year following the acquisition. This capital investment would include an upgrade and expansion of the Chicago 20MHz network as well as an increase to its marketing distribution. U.S. Cellular intends to obtain a five-year $250 million new credit facility and file a $500 million debt shelf registration statement on Form S-3, with the intent to sell various debt securities. U.S. Cellular is also contemplating other possible sources of financing. U.S. Cellular has received letters from certain lenders relating to the terms of a new credit facility, which would be in addition to its existing $500 million revolving credit facility discussed previously and would be entered into in connection with the acquisition of Chicago 20MHz. This would be a five-year facility of $250 million, with the option to increase the new credit facility by up to $100 million to a maximum amount of $350 million on a single occasion at any time on or prior to the 90th day following the effectiveness of that facility. The credit facility terminates on December 1, 2002 if the acquisition of Chicago 20MHz is not completed by that date. Such facility would permit revolving loans on terms and conditions substantially similar to U.S. Cellular’s existing revolving credit facility, except for the interest rate and certain additional provisions. The terms of the new revolving credit facility would provide for borrowings with interest at LIBOR plus a margin percentage based on U.S. Cellular’s credit rating. Based on its current credit rating, the margin percentage would be 55 basis points (for a rate as of March 31, 2002 of 2.43%). In addition, the completion of such facility will require U.S. Cellular to have received ratings on its unsecured credit facilities that are not below BBB+ by Standard and Poor’s and not below Baa1 by Moody’s after giving pro forma effect to the acquisition of Chicago 20MHz and all financing and other transactions related thereto. Also, U.S. Cellular will need to comply with the certain financial covenants. The covenants include limitations on the ratios of funded debt to capitalization, earnings before interest taxes depreciation and amortization (“EBITDA”) to interest expense, and funded debt to EBITDA. The new credit facility places other requirements on U.S. Cellular, including the sale or placement of at least $250 million of debt securities on terms reasonably satisfactory to the lenders. In connection with the acquisition of Chicago 20MHz, U.S. Cellular expects to file with the SEC a shelf registration statement on Form S-3 to register the issuance from time to time of up to $500 million of senior debt securities. After the registration statement is declared effective by the SEC, U.S. Cellular expects to seek to issue at least $250 million of senior debt securities under such registration statement. However, there can be no assurance that U.S. Cellular will be able to do so on terms and conditions that are acceptable to U.S. Cellular. If U.S. Cellular is unable to obtain sufficient financing from the foregoing or other sources on terms acceptable to U.S. Cellular within 110 days of the date of the definitive agreement with PrimeCo, either U.S. Cellular or PrimeCo may terminate such agreement and, in such event, U.S. Cellular would be required to pay PrimeCo a termination fee of $10 million. U.S. Cellular is continuing to evaluate all potential financing options related to the acquisition of Chicago 20 MHz, including debt and equity financing and the use of current marketable equity securities. 14
MARKET RISKTDS is subject to market rate risks due to fluctuations in interest rates and equity markets. The majority of TDS’s debt is in the form of long-term, fixed-rate notes, convertible debt, debentures and trust securities with original maturities ranging up to 40 years. Accordingly, fluctuations in interest rates can lead to significant fluctuations in the fair value of such instruments. As of March 31, 2002, TDS had not entered into any significant financial derivatives to reduce its exposure to interest rate risks. TDS maintains a portfolio of available-for-sale marketable equity securities. The market value of these investments aggregated $2,286.8 million at March 31, 2002 and $2,700.2 million at December 31, 2001. A hypothetical 10% decrease in the share prices of these investments at March 31, 2002 would result in a $228.7 million decline in the market value of the investments. As of March 31, 2002, the net unrealized holding loss, net of tax and minority interest, included in accumulated other comprehensive loss totaled $571.4 million following the recognition in net income of a loss related to TDS’s investment in VeriSign of $22.6 million, net of tax, as a result of management’s determination that unrealized losses with respect to this investment were “other than temporary.” As of March 31, 2002, management did not consider the remaining unrealized loss to be “other than temporary.” Management continues to review the valuation of the investments on a periodic basis. If management determines in the future that the unrealized loss is other than temporary, the loss will be recognized and recorded in the income statement. In May 2002, TDS entered into a contract with a third party relating to its ownership of 2.4 million shares of VeriSign, Inc. The contract, which is known as a variable prepaid forward, provides a collar to the stock price for five years and allowed TDS to borrow approximately $19 million against the stock. This contract will be accounted for as a fair value hedge. At the expiration of the contract, TDS may settle the contract by delivering cash or VeriSign shares. TDS and U.S. Cellular continue to evaluate all potential financing options related to the acquisition of Chicago 20 MHz, including debt and equity financing and the use of their other marketable equity securities. The Company is evaluating the different options for the use of the marketable securities. Based upon the type of transactions that may be entered into considered together with the factors reviewed by management described below in Critical Accounting Policies and Estimates, a portion of the unrealized holding loss, which totaled $571.4 million net of tax and minority interest at March 31, 2002, may have to be recognized and recorded in the income statement. CRITICAL ACCOUNTING POLICIES AND ESTIMATESThe preparation of financial statements in accordance with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Management bases its estimates on historical experience and on various other assumptions and information that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities. Actual results may differ from estimates under different assumptions or conditions. Management believes the following critical accounting policies reflect its more significant judgments and estimates used in the preparation of its consolidated financial statements. The Company holds a substantial amount of marketable securities that are publicly traded and can have volatile share prices. The marketable securities are marked to market each period with the change in value of the securities reported as Other Comprehensive Income, net of income taxes and minority interest, which is included in the stockholders’ equity section of the balance sheet. If 15
management determined that the decline in value of the marketable securities was “other than temporary,” the unrealized loss included in other comprehensive income would be recognized and recorded as a loss in the income statement. Factors that management reviews in determining an other than temporary decline include whether there has been a significant change in the financial condition, operational structure or near-term prospects of the issuer; how long the security has been below historical cost; and whether TDS has the intent and ability to retain its investment in the issuer’s securities to allow the market value to return to historical cost levels. TDS is in the same industry classification as the issuers of its marketable securities enhancing the Company’s ability to evaluate the effects of any changes in industry-specific factors which may affect the determination of whether a decline in market values of its marketable securities is other than temporary. There can be no assurance that upon review of such factors at a later date a material loss will not be recognized in the income statement. See “Market Risk” for further discussions. In the first quarter of 2002, TDS determined that the decline in value of its investment in VeriSign, Inc. relative to its cost basis was other than temporary. A loss on the securities of $37.4 million was recorded in the income statement, reducing net income and earnings per diluted share by $22.6 million and $.38, respectively. TDS has substantial investments in long-lived assets, including substantial amounts of intangible assets, primarily cellular license costs and telephone franchise costs (goodwill), as a result of acquisitions of wireless markets and licenses, and telephone companies. The Company reviews long-lived assets for impairment whenever events or changes in circumstances indicate that the carrying amount may not be recoverable. The Company evaluates the asset for possible impairment based on an estimate of related undiscounted cash flows over the remaining asset life. If an impairment is identified, a loss is recognized for the difference between the fair value of the asset (less cost to sell) and the carrying value of the asset. TDS adopted SFAS No. 142, “Goodwill and Other Intangible Assets,” on January 1, 2002, and no longer amortizes cellular license costs, telephone goodwill, and goodwill for equity method investments. In connection with SFAS No. 142, TDS assessed its recorded balances of cellular license costs and goodwill for potential impairment. The Company completed its initial impairment assessments in the first quarter of 2002. The Company was not required to record an impairment charge upon the completion of the initial impairment review. An impairment review is required annually, or more frequently if events or changes in circumstances indicate that the asset might be impaired. There can be no assurance that upon reviews at a later date material impairment charges will not be required. Deferred tax assets are reduced by a valuation allowance when, in management’s opinion, it is more likely than not that some portion or all of the deferred tax assets will not be realized. TDS considers future taxable income and ongoing prudent and feasible tax planning strategies in assessing the need for the valuation allowance. If it were determined that TDS would be able to realize the deferred tax asset in excess of its net recorded amount, an adjustment to deferred tax assets would increase income. Likewise, if it were determined that TDS would not be able to realize the net deferred tax asset amount, an adjustment to deferred tax assets would reduce income. 16
PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995
SAFE HARBOR CAUTIONARY STATEMENT This Management’s Discussion and Analysis of Results of Operations and Financial Condition and other sections of this Annual Report contain statements that are not based on historical fact, including the words “believes”, “anticipates”, “intends”, “expects”, and similar words. These statements constitute “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. Such forward-looking statements involve known and unknown risks, uncertainties and other factors that may cause the actual results, events or developments to be significantly different from any future results, events or developments expressed or implied by such forward-looking statements. Such factors include the following: - Increases in the level of competition in the markets in which TDS operates could adversely affect TDS’s revenues or increase its costs to compete.
- Advances or changes in telecommunications technology could render certain technologies used by TDS obsolete.
- Changes in telecommunications regulatory environment could adversely affect TDS’s financial condition or results of operations.
- Changes in the supply or demand of the market for wireless licenses or telephone companies, increased competition, adverse developments in the TDS’s businesses or the industries in which TDS is involved and/or other factors could result in an impairment of the value of TDS’s license costs and/or goodwill, which may require TDS to record a write down in the value of such assets.
- Competition, construction delays and other challenges in executing TDS’s expansion and development of its CLEC business could result in higher than planned losses, additional financing requirements and/or the write down of the CLEC assets if TDS is unable to successfully implement its plans in this business undertaking.
- Continued depressed market values, continued declines thereof or other events evidencing an impairment in the value of TDS’s investments in available-for-sale marketable equity securities that are other than temporary may require TDS to write down the value of such securities.
- Settlement, judgments, restraints on its current manner of doing business and/or legal costs resulting from pending and future litigation could have an adverse effect on TDS’s financial condition, results of operations or ability to do business.
- Costs, integration problems or other factors associated with acquisitions/divestitures of properties and/or licenses could have an adverse effect on TDS’s financial condition or results of operations.
- Changes in growth in the number of wireless customers, average revenue per unit, penetration rates, churn rates, roaming rates and the mix of products and services offered in wireless markets could have an adverse effect on TDS’s wireless business operations.
- Changes in growth in the number of ILEC and CLEC customers, churn rates and mix of products and services offered in ILEC and CLEC markets could have an adverse effect on such TDS business segments.
- Changes in market conditions or other factors could limit or restrict the availability of financing on terms and prices acceptable to TDS, which could require TDS to reduce its construction, development and acquisition programs.
- Changes in circumstances or other events, including failure to obtain necessary financing, could result in the failure of one or more conditions to the consummation of the acquisition of Chicago 20MHz, in which event such acquisition may not be completed or, if it is completed, costs, integration problems or other factors associated with such acquisition could have an adverse effect on TDS’s financial condition or results of operations.
- Changes in general economic and business conditions, both nationally and in the regions in which TDS operates, could have an adverse effect on TDS’s businesses.
TDS undertakes no obligation to update publicly any forward-looking statements whether as a result of new information, future events or otherwise. Readers should evaluate any statements in light of these important factors. 17
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