FORM 10-K/A No. 3
_______________
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
_______________
(Mark one)
/X/ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the fiscal year ended: SEPTEMBER 30, 1994
/ / TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from ____________ to ____________
Commission file number: 0-15056
COMMNET CELLULAR INC.
(Exact name of registrant as specified in its charter)
COLORADO 84-0924904
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
5990 GREENWOOD PLAZA BOULEVARD, SUITE 300, ENGLEWOOD, COLORADO 80111
(Address of principal executive offices)
(Zip Code)
303/694-3234
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, par value $.001 per share
(Title of Class)
6-3/4% Convertible Subordinated Debentures Due 2009
(Title of Class)
Preferred Stock Purchase Rights
(Title of Class)
Indicate by check mark whether the registrant (a) has filed all
reports required to be filed by Section 13 or 15(d) of the Securities Exchange
Act of 1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes X No
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Indicate by check mark if disclosure of delinquent filers pursuant to
Item 405 of Regulation S-K is not contained herein, and will not be contained,
to the best of registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [ ]
The aggregate market value of the voting stock held by nonaffiliates
of the registrant, computed by reference to the last sale price of such stock as
of the close of trading on December 14, 1994 was $231,876,164.
The number of shares of the registrant's common stock outstanding as
of December 14, 1994 was 11,725,655.
PART I
Item 1. Business.
(a) GENERAL DEVELOPMENT OF BUSINESS.
CommNet Cellular Inc. was organized under the laws of Colorado in
1983. Cellular, Inc. Financial Corporation ("CIFC") subsequently was organized
to provide financing to affiliates of the Company. Cellular Inc. Network
Corporation ("CINC") also subsequently was organized to acquire interests in
cellular licenses. CIFC and CINC are wholly-owned subsidiaries of CommNet
Cellular Inc. Unless the context indicates otherwise, the "Company" refers to
CommNet Cellular Inc. and its consolidated subsidiaries.
The Company operates, manages and finances cellular telephone systems,
primarily in the mountain and plains regions of the United States. The
Company's cellular interests currently represent approximately 3,161,000 net
Company pops in 94 markets located in 16 states. These markets consist of 84
RSA markets having a total of 6,331,000 pops and 10 MSA markets having a total
of 1,273,000 pops, of which the Company's interests represent 2,551,000 net
Company pops and 610,000 net Company pops, respectively. Systems in which the
Company holds an interest constitute the largest geographic collection of
contiguous cellular markets in the United States.
As used herein, "pops" means the estimated total 1993 population of a
Metropolitan Statistical Area ("MSA") or Rural Service Area ("RSA") as initially
licensed by the Federal Communications Commission ("FCC"), based upon Strategic
Marketing, Inc. 1993 population estimates. "Net Company pops" means an MSA's or
RSA's pops multiplied by the Company's net ownership interest in the entity
licensed by the FCC to operate a cellular telephone system in that MSA or RSA.
An MSA or RSA is referred to herein as a "market." As the five-year fill-in
period for each market expires, the manner of calculating the number of pops
will change to reflect the CGSA of each market instead of the geographic
boundaries originally established by the FCC. See "Federal Regulation--Cellular
Service Area." The radio signal from the Company's managed systems currently
covers approximately 85% of the total pops within the managed markets and the
Company intends to increase signal coverage to over 90% prior to expiration of
the five-year fill-in periods. The number of pops should not be confused with
the current number of users of cellular services and is not necessarily
indicative of the number of users of cellular services in the future. Those
corporations and partnerships through which the Company holds ownership
interests in cellular licensees and those cellular licensees in which the
Company holds a direct ownership interest are referred to herein as
"affiliates." Any reference herein to an "affiliate" does not necessarily imply
that the Company exercises, or has the power to exercise, control over the
management and policies of such entity.
The Company has concentrated its efforts on creating an integrated
network of contiguous cellular systems comprised of markets which are managed by
the Company (the "network"). Within the network, the Company provides
substantially all of the services typically offered by landline telephone
systems, including custom calling features such as call forwarding, call
waiting, three-way conference calling and, in most cases, voice mail services.
The network currently consists of 55 markets spanning eight states, comprised of
48 RSA markets and 7 MSA markets. The Company's interests in these managed
markets represent 2,706,000 net Company pops, constituting approximately 86% of
total net Company pops. As of September 30, 1994, the RSA and MSA markets
managed by the Company had 68,291 and 30,711 subscribers, respectively, or a
total of 99,002.
The Company believes that certain demographic characteristics of the
rural marketplace should further facilitate commercial exploitation of the
network. As compared to urban residents, rural residents travel greater
distances by personal vehicle and have access to fewer public telephones along
drive routes. The Company believes that these factors will sustain demand for
mobile telecommunication service in the rural marketplace. These same factors
produce "roaming" revenues that are higher as a percentage of total revenues
than would likely be the case in more densely populated urban areas. Roaming
revenues tend to produce higher margins because roaming calls on average are
priced at higher rates than local calls and because there are no associated
sales commission costs.
(b) FINANCIAL INFORMATION ABOUT INDUSTRY SEGMENTS.
The Company has only one principal industry being the management,
financing and operation of cellular telephone systems. Information concerning
revenue, operating profit or loss and identifiable assets of the Company's sole
industry segment are set forth in the consolidated financial statements and
related notes included in Part II of this Report.
(c) NARRATIVE DESCRIPTION OF BUSINESS.
THE COMPANY'S OPERATIONS
GENERAL. Information regarding the Company's interests in each
affiliate, the interest of each affiliate in a cellular licensee and the market
subject to such license as of December 9, 1994, is summarized in the following
table. The table does not reflect transactions that are pending or under
negotiation. See "Management's Discussion and Analysis of Financial Condition
and Results of Operations -- Acquisitions and Sales."
Company Affiliate(s) Net
MSA or Interest in Interest in 1993 Company
RSA Code (1) State Affiliate(s) (2) Licensee (3) Population (4)(9) Pops (5)
- ------------ ------------- ---------------- ------------ ----------------- --------
MSAs:
141 Minnesota 49.00% 16.34% LP 229,336 18,362
185 Indiana 100.00% 16.67% LP 169,124 28,193
241*(6)(7) Colorado 73.99% 100.00% GP 124,638 92,220
253*(6)(7) Iowa 74.50% 100.00% GP 117,652 87,651
267*(6)(7) South Dakota 100.00% 51.00% GP 131,561 67,096
268* Montana 49.00% 90.00% GP 119,363 52,639
279 Maine 33.33% 33.33% GP 103,417 11,488
289*(6)(7) South Dakota 100.00% 100.00% GP 111,371 111,371
297*(6)(7) Montana 100.00% 100.00% GP 80,098 80,098
298*(6)(7) North Dakota 100.00% 70.00% GP 86,977 60,884
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Total MSA 1,273,537 610,002
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Company Affiliate(s) Net
MSA or Interest in Interest in 1993 Company
RSA Code (1) State Affiliate(s) (2) Licensee (3) Population (4)(9) Pops (5)
- ------------ ------------- ---------------- ------------ ----------------- --------
RSAs:
348*(7) Colorado 10.00% 100.00% GP 43,672 4,367
349*(6)(7) Colorado 58.60% 100.00% GP 61,659 36,132
351*(6)(7) Colorado 61.75% 100.00% GP 62,916 38,851
352*(6)(7) Colorado 66.00% 100.00% GP 25,783 17,017
353*(6)(7) Colorado 100.00% 75.00% GP 65,251 48,938
354*(7) Colorado 61.75% 80.00% GP 44,328 21,898
355*(7) Colorado 49.00% 100.00% GP 44,194 21,655
356*(7) Colorado 49.00% 100.00% GP 27,259 13,357
389 Idaho 49.00% 50.00% LP 64,671 15,844
390 Idaho 49.00% 33.33% LP 15,485 2,529
392*(6)(7) Idaho (B1) 100.00% 100.00% LP 134,315 134,315
393*(6)(7) Idaho 91.64% 100.00% GP 280,569 257,113
415 Iowa 49.00% 20.64% LP 155,247 15,701
416 Iowa 49.00% 78.57% LP 108,129 41,629
417*(6)(7) Iowa 100.00% 100.00% GP 152,597 152,597
419* Iowa 49.00% 91.67% GP 54,659 24,552
420*(6)(7) Iowa 100.00% 100.00% GP 63,458 63,458
424 Iowa 49.00% 30.00% LP 66,743 9,811
425* Iowa 49.00% 27.11% LP 108,426 14,403
426*(7) Iowa 52.65% 93.33% GP 84,932 41,734
427*(7) Iowa 53.64% 91.66% GP 102,773 50,530
428 Kansas 100.00% 3.07% LP 28,103 863
429 Kansas 100.00% 3.07% LP 31,121 955
430 Kansas 100.00% 3.07% LP 52,640 1,616
431 Kansas 100.00% 3.07% LP 129,852 3,986
432 Kansas 100.00% 3.07% LP 118,599 3,641
433 Kansas 100.00% 3.07% LP 20,138 618
434 Kansas 100.00% 3.07% LP 81,515 2,503
435 Kansas 100.00% 3.07% LP 126,535 3,885
436 Kansas 100.00% 3.07% LP 57,937 1,779
437 Kansas 100.00% 3.07% LP 104,942 3,222
438 Kansas 100.00% 3.07% LP 81,130 2,491
439 Kansas 100.00% 3.07% LP 42,198 1,295
440 Kansas 100.00% 3.07% LP 29,155 895
441 Kansas 100.00% 3.07% LP 171,226 5,257
442 Kansas 100.00% 3.07% LP 154,341 4,738
512 Missouri (B1) 49.00% 30.00% LP 76,061 11,181
523*(7) Montana (B1) 49.00% 100.00% GP 66,841 32,752
523*(6)(7) Montana (B2) 100.00% 98.76% GP 70,350 69,478
524*(6)(7) Montana 61.75% 100.00% GP 37,386 23,086
525*(6)(7) Montana 59.20% 100.00% GP 14,877 8,807
526*(6)(7) Montana 59.20% 100.00% GP 39,843 23,587
527*(6)(7) Montana 61.75% 100.00% GP 174,631 107,835
528*(6)(7) Montana 61.75% 100.00% GP 63,009 38,908
529*(6)(7) Montana 61.75% 100.00% GP 28,742 17,748
530*(6)(7) Montana 61.75% 100.00% GP 83,488 51,554
531*(6)(7) Montana 61.75% 100.00% GP 30,990 19,136
532*(6)(7) Montana 61.75% 100.00% GP 19,431 11,999
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Company Affiliate(s) Net
MSA or Interest in Interest in 1993 Company
RSA Code (1) State Affiliate(s) (2) Licensee (3) Population (4)(9) Pops (5)
- ------------ ------------- ---------------- ------------ ----------------- --------
533 Nebraska 57.24% 25.52% LP 90,016 13,149
534 Nebraska 57.24% 25.52% LP 31,353 4,580
535 Nebraska 57.24% 25.52% LP 115,108 16,815
536 Nebraska 57.24% 25.52% LP 35,803 5,230
537 Nebraska 57.24% 25.52% LP 142,155 20,766
538 Nebraska 57.24% 25.52% LP 105,599 15,426
539 Nebraska 57.24% 25.52% LP 89,125 13,019
540 Nebraska 57.24% 25.52% LP 58,058 8,481
541 Nebraska 57.24% 25.52% LP 81,697 11,934
542 Nebraska 57.24% 25.52% LP 85,250 12,453
553 New Mexico 49.00% 33.33% LP 245,584 40,108
555 New Mexico 49.00% 25.00% LP 76,635 9,388
557 New Mexico 49.00% 33.33% LP 55,076 8,995
580*(6)(7) North Dakota 52.14% 100.00% GP 102,513 53,450
581*(7) North Dakota 49.00% 100.00% GP 60,131 29,464
582 North Dakota 49.00% 84.59% LP 91,629 37,979
583* North Dakota 46.96% 100.00% GP 65,783 30,892
584*(6)(7) North Dakota 61.75% 100.00% GP 49,671 30,672
611 Oregon 100.00% 25.00% LP(8) 177,438 44,360
634*(6)(7) South Dakota 61.75% 100.00% GP 35,624 21,998
635*(6)(7) South Dakota 56.29% 100.00% GP 22,563 12,701
636*(6)(7) South Dakota 57.50% 100.00% GP 53,724 30,891
638*(6)(7) South Dakota(B1) 82.99% 100.00% GP 16,443 13,646
638*(6)(7) South Dakota(B2) 82.99% 100.00% GP 8,220 6,822
639*(6)(7) South Dakota(B1) 60.66% 100.00% GP 33,390 20,254
639*(6)(7) South Dakota(B2) 60.66% 100.00% GP 5,568 3,378
640*(6)(7) South Dakota 64.49% 100.00% GP 65,549 42,273
641*(6)(7) South Dakota 61.13% 100.00% GP 71,921 43,965
642*(7) South Dakota 49.00% 100.00% GP 91,706 44,936
675*(6)(7) Utah 100.00% 100.00% GP 51,727 51,727
676*(6)(7) Utah 100.00% 100.00% GP 86,612 86,612
677*(6)(7) Utah (B3) 74.50% 100.00% GP 37,966 28,285
678*(6)(7) Utah 100.00% 80.00% GP 23,840 19,072
718*(6)(7) Wyoming 66.00% 100.00% GP 46,896 30,951
719*(6)(7) Wyoming 83.00% 100.00% GP 72,795 60,420
720*(6)(7) Wyoming 100.00% 100.00% GP 145,382 145,382
---------- ---------
Total RSA 6,330,697 2,550,720
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Total MSA and RSA 7,604,234 3,160,722
---------- ---------
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__________
<FN>
(1) MSA ranking is based on population as established by the FCC. RSAs have
been numbered by the FCC alphabetically by state.
(2) Represents the composite ownership interest held by the Company in the
respective affiliate(s). Composite ownership by the Company in
affiliate(s) of greater than 50% does not necessarily represent a
controlling interest in any affiliate.
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(3) Represents the composite ownership interest of the Company's affiliate(s)
in the licensee for a cellular telephone system in the respective market.
Composite ownership by affiliate(s) in a licensee of greater than 50% does
not necessarily represent a controlling interest in such licensee. GP
indicates that at least one affiliate has a general partner or controlling
interest in the licensee; LP indicates that the affiliate(s) has a limited
partner or minority interest.
(4) Derived from the Strategic Marketing, Inc. 1993 population estimates.
(5) Net Company Pops represents Company Interest in Affiliate(s) multiplied by
Affiliate(s) Interest in Licensee multiplied by 1993 Population.
(6) The operations of these markets are reflected on a consolidated basis in
the Company's consolidated financial statements for the fiscal year ended
September 30, 1994. The operations of the other markets in which the
Company holds an interest are reflected in such financial statements on
either an equity or a cost basis.
(7) The Company's interest in these markets is held, in whole or in part,
directly in the licensee.
(8) The ownership percentages for this market are the subject of litigation.
(9) Represents population within the market area initially licensed by the
FCC. Upon expiration of the five-year fill-in period, market boundaries
and actual service areas may not be coincident.
Markets managed by the Company are denoted by an asterisk (*).
NETWORK CONSTRUCTION AND OPERATIONS. Construction of cellular
telephone systems requires substantial capital investment in land and
improvements, buildings, towers, mobile telephone switching offices ("MTSOs"),
cell site equipment, microwave equipment, engineering and installation. The
Company believes that it has achieved significant economies of scale in
constructing the network. For example, the network uses cellular switching
systems capable of serving multiple markets. As a result of the contiguous
nature of the network, only 14 MTSOs are currently required to serve all 55 of
the Company's managed markets. By consolidating and deploying high capacity
MTSOs, the Company intends to achieve further economies of scale. Economies of
scale generated by the network also have permitted the Company to use one
network operations center, to centralize services such as network design and
engineering, traffic analysis, interconnection, billing, roamer verification,
maintenance and support and to access volume discount purchasing of cellular
system equipment.
The network also affords the Company certain technical advantages in
the provision of enhanced services, such as call delivery and call forwarding.
Through the use of single switching facilities serving multiple markets, the
Company has implemented continuous coverage on an intrastate basis throughout
most of the network. The Company has widened the area of coverage within the
network by interconnecting MTSOs located in adjoining markets. The Company's
current objective is to provide subscribers with "seamless" coverage throughout
the network, which will permit subscribers, as they travel through the network,
to receive calls and otherwise use their cellular telephone as if they were in
their home market. This will occur once all of the MTSOs managed by the Company
and in adjoining markets within the eight-state area are networked. The Company
has achieved a high degree of network reliability through the deployment of
standardized components, and operating procedures, and the introduction of
redundancy in switching and cell site equipment, interconnect facilities and
power supply. Most of the Company's equipment is built by Northern Telecom,
Inc. ("NTI"), and interconnection between MTSOs has been achieved using NTI's
internal software and hardware.
The Company began implementing the "IS-41" technical interface during
fiscal 1994. This technical interface, developed by the cellular industry,
allows carriers that have different types of equipment to integrate their
systems with the eventual goals of establishing a national seamless network,
substantially reducing the cost of validating calls and reducing fraud exposure.
I-5
The Company also has entered into and is negotiating agreements with
other cellular carriers to enhance the range of markets and quality of service
available to cellular subscribers when traveling outside the network. Pursuant
to existing agreements with other cellular carriers, the Company's subscribers
are able to "roam" throughout most MSA and RSA markets in the United States and
Canada. "Roaming" is an industry term for calls made by cellular customers when
traveling in another carrier's cellular system.
EXPANSION. The Company is in the process of "filling in" the
"cellular geographic service area" or "CGSA" (as defined by the FCC) within its
managed markets by adding network facilities to increase the coverage of the
radio signal. The Company estimates that over the past 21 months radio signal
coverage of the total population within its managed markets has increased from
approximately 60% to approximately 85%, and the Company intends to construct
approximately 40 cell sites by the end of the third fiscal quarter of 1995 to
complete the fill in project. Further expansion of signal coverage by the
construction of 60 additional cell sites is expected to add additional
subscribers, enhance use of the systems by existing subscribers, increase roamer
traffic due to the larger geographic area covered by the radio signal and
further improve the overall efficiency of the network. Under the rules and
regulations of the FCC, expansion of signal coverage will also preserve the
Company's right to provide cellular service in potentially valuable areas within
the network which are not currently covered by the Company's radio signal.
The Company also continues to evaluate acquisitions of cellular
properties in markets that will further enhance the network. In evaluating
acquisition targets, the Company considers, among other things, demographic
factors, including population size and density, traffic patterns, cell site
coverage and required capital expenditures, including the ability of the target
market to utilize existing switching capacity. In pursuing such acquisitions,
the Company may exchange interests in nonmanaged markets for interests in
existing or new markets that serve to expand the network. Certain acquisitions
and related dispositions may be subject to rights of first refusal held by the
partners in the respective partnerships in which the Company holds an interest.
Recent and pending acquisitions are described in "Management's Discussion and
Analysis of Financial Condition and Results of Operations -- Acquisitions and
Sales."
In an effort to provide comprehensive availability of mobile
communications services to its subscribers, regardless of location throughout
North America, the Company has entered into a distribution agreement with
American Mobile Satellite Corporation ("AMSC"). AMSC holds an FCC construction
permit to build and operate a mobile satellite service which will complement the
existing terrestrial cellular system by providing mobile voice, fax and data
communications in all areas not covered by cellular service. Subscribers will
access AMSC's satellite through a cellular/satellite mobile phone which will
route calls through the cellular network in those areas covered by cellular
service and will process the call via satellite in the absence of cellular
coverage. The agreement with AMSC is essentially a roaming arrangement that may
add incremental value to certain customers in remote areas, but is not expected
to have a material impact on the Company. AMSC anticipates its service will be
available some time after a March 1995 launch date.
SERVICES AND PRODUCTS. Mobile subscribers in the Company's managed
markets have available to them substantially all of the services typically
provided by landline telephone systems, including custom-calling features such
as call forwarding, call waiting, three-way conference calling and, in most
cases, voice mail services. Several price plans are presented to prospective
customers so that they may choose the plan that will best fit their expected
calling needs. The plans provide specific charges for custom-calling features
and voice mail to offer value to the customer while enhancing airtime use and
revenues for the Company. The Company also sells cellular equipment at
discounted prices as a way to encourage use of its mobile services. The Company
provides warranty and repair services after the sale through regional equipment
service centers, which provide state-of-the-art test equipment and certified
repair technicians. An ongoing review of
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equipment and service pricing is maintained to ensure the Company's
competitiveness. Through a centralized procurement and equipment distribution
strategy, the Company obtains the benefits of favorable equipment costs through
bulk purchases. As appropriate, revisions to pricing of service plans and
equipment pricing are made to meet local marketplace demands.
The network affords the Company the opportunity to offer service over
expanded geographic territories at favorable rates. Customers that subscribe to
a stand-alone cellular system generally are charged premium roaming rates when
using a cellular system outside of their home service area. The Company's
subscribers are able to roam within the network and are afforded "home rate
follows" pricing, whereby subscribers are charged the rate applicable in their
home service area when traveling within the network. In addition, the Company's
simplified retail roaming rate structure allows the customer to roam on certain
adjacent carriers' systems at a preferred rate and minimizes confusion by
consolidating the remainder of the country into a uniform rate. Finally, the
Company offers toll-free calling across single or multiple states to its
subscribers for a nominal monthly fee, due to favorably negotiated interconnect
agreements.
Because the licensed radio spectrum available to the Company was
designed to serve densely populated metropolitan areas, demand for "traditional"
cellular service within the network is not expected to use all available
spectrum. The Company expects that this excess capacity may be adapted for data
transmission, monitoring, control transaction processing and other
nontraditional cellular uses that are well suited for agriculture, energy and
other industries that have widespread operations within the Company's rural
marketplace, such as wireless network systems for mobile office applications,
credit card verifications, telemetry and polling systems. The Company is
working with equipment manufacturers, system integrators and value added
resellers to develop and deploy these systems. The Company also is exploring
the potential uses of packet data systems, an efficient method of multi-point,
simultaneous polling of wireless monitoring devices, to expand the potential
market for nontraditional uses of cellular technology.
In 1992 the Company began investing in TVX, Inc., which holds the
distribution rights for the TVX camera systems in North, Central and South
America. The TVX system provides visual verification of the cause of an alarm
at the time of an incident to distinguish actual emergencies from false alarms.
The TVX camera takes four pictures within five seconds and transmits them to a
host computer via either the cellular or wireline networks. The Company intends
to work closely with TVX, Inc. to market cellular service in conjunction with
the TVX system for use at locations where phone lines are not available or as a
backup when phone lines have been disabled. The Company and Automated Security
Holdings, PLC ("ASH") each hold a 41% equity interest in TVX, Inc. TVX has
filed a registration statement to sell shares of its common stock to the public
in an initial public offering. TVX has asked the SEC not to act on the filing
pending changes to market conditions.
The Company is committed to providing consistently high quality
customer service. The Company maintains a comprehensive, centralized customer
assistance department which offers the advantages of expanded customer service
hours, specialized roaming and key account representatives and an automated
customer information database that allows for efficiency and accuracy, while
decreasing the time spent on each customer contact. The customer assistance
department also supports the administrative functions required to activate a
customer's phone through a high speed, call-in process and to enter the customer
into the informational databases required for customer service and billing. The
Company believes this centralized approach provides cost efficiencies while also
addressing the critical need for quality control. To ensure that it is
delivering a consistently high level of quality service, the Company monitors
customer satisfaction with its network quality, sales and customer service
support, billing and quality of roaming through regular surveys conducted by an
independent research firm.
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MARKETING. The Company coordinates the marketing strategy for each of
its managed markets. The Company markets cellular telephone service principally
under the CommNet Cellular name. The use of a single service mark over a broad
geographic territory creates a strong brand-name awareness, allowing for
standardization of advertising programs which communicate the Company's
expertise and address the unique wireless telecommunications needs of its rural
customers. To establish name recognition and develop a customer base, the
Company employs a four-pronged marketing strategy. The first element introduces
the CommNet Cellular service to prospective customers utilizing a wide range of
mixed media including radio, print, billboards and television, as well as more
specifically targeted sales techniques, such as referral programs and direct
mail, coupled with a customer-specific pricing and service package. The second
element of the marketing strategy includes a direct communication program
utilizing sales and customer support literature, bill and on-hold messages and
newsletters. The third element is a public relations program which communicates
specific Company benefits and enhances its image both to the prospective and
current customer as well as within the industry. The final element comprises
marketing and customer retention programs based on ongoing prospective and
current customer research.
The Company believes that a key competitive advantage in marketing its
service is the large geographic area covered by the network. The seamless
coverage being developed in the network is critical to marketing, as customers
are attracted to the higher percentage of delivered calls that such coverage
provides. Furthermore, the Company's "home rate follows" pricing allows
customers to make calls from anywhere in the network without incurring
additional daily fees or surcharges which usually occur when customers roam
outside of their home market. Additionally, the Company uses the "Follow-Me-
Roaming" service provided by GTE Telecommunication Services, Inc. ("GTE") which
permits customers to receive calls in any market that is part of the Follow Me
Roaming system without having to dial complicated access codes. The Company also
offers discounted roaming prices, and expects to be able to offer enhanced
services, in certain markets as a result of arrangements to link with certain
adjacent markets managed by other carriers. See "Business -- The Company's
Operations -- Network Construction and Operations." In addition, the Company
offers toll-free calling statewide or across multiple states to its subscribers
for a nominal monthly fee. In a majority of the Company's managed RSA markets,
the Company was the first cellular system operator to provide service in the
market, thereby affording a significant competitive advantage.
In order to implement its cellular sales strategy, the Company
maintains a sales training program which is designed to train a core group of
sales representatives selected from the managed markets. The Company believes
that by using individuals familiar with the local markets, it will be able to
build its subscriber base more quickly than if sales people were newly
introduced to these markets. The program includes classroom instruction in
sales techniques specific to cellular and alternative wireless communications, a
general introduction to the technical aspects of cellular equipment and practice
on field sales calls. The Company has invested in decentralized retail sales
centers, which generate low cost customer activations from direct response
advertising, equipment accessory sales and in-field service support
capabilities.
The Company has established marketing agreements with independent
sales agents, including nationwide mass retail and automotive chains located at
various retail and wholesale distribution outlets throughout the Company's
managed markets. Such outlets include Sears, Radio Shack, Target, General
Motors, Ford and Chrysler dealerships, and Warren Supply. These independent
sales agents give the Company over 500 points of presence throughout the managed
markets and presently account for over 50% of subscriber activations. In
general, such agents earn a fixed commission which can vary depending upon the
price plan sold when a customer subscribes to the Company's cellular service and
remains a subscriber for a certain period of time. Being first to market in the
majority of the Company's managed RSA markets has also allowed the Company to
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obtain exclusive marketing agreements with the leading telecommunication
retailers in a particular market and to obtain prime locations for its sales
centers.
SUBSCRIBERS. To date, a substantial majority of the subscribers who
use cellular service in markets in which the Company holds interests have been
business users of mobile communication services. This trend is consistent with
the experience of the cellular industry generally, although given the Company's
geographic presence in the mountain and plains states, its customers have tended
to include proportionally more persons in the agricultural and energy
industries. The Company believes that certain demographic characteristics of
the rural marketplace will enhance the Company's ability to market cellular
service to its primary customer base within its managed RSA markets. On
average, rural residents spend a higher percentage of their annual household
income on transportation and travel a relatively greater distance by personal
vehicle than do urban residents. The relatively large average distance between
public telephones in the rural marketplace is an additional factor that
increases the need for mobile telecommunication services in that market.
Information regarding the number of subscribers to the RSA and MSA
cellular systems managed by the Company is summarized by the following table:
Number of Managed Quarterly
Operating Systems Number of Subscribers Subscriber Growth*
----------------- --------------------- -----------------
RSA MSA Total RSA MSA Total
--- --- ----- --- --- -----
September 30, 1991 44 5 49 11,565 6,387 17,952 24.6%
December 31, 1991 44 5 49 14,307 7,271 21,578 20.2%
March 31, 1992 44 5 49 17,352 8,370 25,722 19.2%
June 30, 1992 44 5 49 20,901 9,825 30,726 19.5%
September 30, 1992 44 5 49 24,765 11,119 35,884 16.8%
December 31, 1992 44 7 51 29,450 15,931 45,381 26.5%
March 31, 1993 44 7 51 33,112 17,387 50,499 11.3%
June 30, 1993 44 7 51 37,514 19,375 56,889 12.7%
September 30, 1993 45 6 51 42,438 17,898 60,381 11.6%
December 31, 1993 47 7 54 49,097 21,857 70,954 14.7%
March 31, 1994 47 7 54 53,729 24,767 78,496 10.6%
June 30, 1994 47 7 54 60,792 27,894 88,686 13.0%
September 30, 1994 48 7 55 68,291 30,711 99,002 11.6%
* Excluding acquisitions and dispositions.
MANAGEMENT AGREEMENTS. The Company has entered into management
agreements to operate 39 markets. The management agreements appoint the Company
as exclusive management agent of the licensee with specifically enumerated
responsibilities relating to the day-to-day business operation of the licensee,
although the licensee retains ultimate control over its cellular system.
Generally, the RSA management agreements are for an initial term of five years
and are automatically renewed for additional terms unless terminated by notice
from either party prior to expiration of the then current term. The agreements
provide for reimbursement to the Company of expenses incurred on behalf of the
affiliate or licensee.
The Company has entered into management agreements with three MSA
affiliates pursuant to which the Company has been appointed the exclusive
management agent for each such affiliate. The MSA management agreements appoint
the Company as managing agent of the respective MSA affiliate with specifically
enumerated responsibilities relating to the day-to-day business operation of the
affiliate. In cases in which the affiliate is the general partner in the
licensee, the Company acts as exclusive management agent for the licensee,
although the licensee
I-9
retains ultimate control over its cellular system. The MSA management
agreements provide for compensation to the Company in an amount equal to 10% of
the distributions to the affiliate derived from the affiliate's interest in the
licensee, although compensation to date under these agreements has not been
material. The agreements also provide for reimbursement for reasonable
administrative and overhead expenses. In cases in which the affiliate is a
general partner in the licensee, the agreements generally were for an initial
term of two years, were extended for an additional three years and are
automatically renewed for one-year terms thereafter unless terminated by notice
from either party prior to expiration of the then current term. In cases in
which the affiliate is a limited partner in the licensee, the agreements
generally were for an initial term of five years and are automatically renewed
for additional five-year terms unless terminated by notice from either party
prior to expiration of the then current term.
The Company has also entered into a management agreement with CINC,
whereby it manages all systems owned by CINC and in which CINC is the general
partner.
HISTORY. The Company initially acquired its cellular interests by
participating in the wireline licensing process conducted by the FCC. In order
to participate in that process, the Company formed affiliates which were
originally owned at least 51% by one or more independent telcos and no more than
49% by the Company. In exchange for the Company's 49% interest, the Company
provided a financing commitment to the affiliates for their capital needs, as
well as certain management services. In addition to obtaining interests in
cellular markets through participation in the FCC licensing process, the Company
also has purchased direct interests in additional markets in order to expand the
network.
FINANCING ARRANGEMENTS WITH AFFILIATES; CIFC. CIFC has entered into
loan agreements with RSA and MSA affiliates to finance or refinance the costs
related to the construction, operation and expansion of cellular telephone
systems in which such affiliates own an interest. The loans are financed with
funds borrowed by CIFC from National Bank for Cooperatives ("CoBank") and the
Company. As of September 30, 1994, CIFC had entered into loan agreements with
50 RSA affiliates, 5 MSA affiliates and CINC and had advanced $180,000,000
thereunder, including $93,492,000 to entities which are consolidated for
financial reporting purposes. All loans to affiliates from CIFC bear interest
at 1% over the average cost of CoBank borrowings and are secured by a lien upon
all assets of the entity to which funds are advanced. Loans from CIFC to
affiliates will be repaid from funds generated by operations of the licensee or
distributions to affiliates by licensees in which such affiliates own an
interest. Amounts paid to CIFC will be applied by CIFC towards payment of its
obligations to CoBank and the Company. The repayments allocated to the Company
will be retained by CIFC and used to offset future loans which would otherwise
have been made by the Company. The Company has made and will continue to make
advances to affiliates on an interim basis. Funds borrowed from CIFC by
affiliates are used to repay the Company for such interim advances. As of
September 30, 1994, the Company had outstanding interim advances of $33,170,000
to affiliates, which advances bear interest at 2% over the prime rate.
As of September 30, 1994, the Company and CIFC had advanced a total of
$184,324,000 to RSA and MSA affiliates and to finance switches. Based on its
proportionate ownership interests in these affiliates, the Company's share of
total affiliate and switch loans and advances was $129,689,000. The assets of
the affiliates in which the Company has investments or advances represent
4,464,000 pops, which include 3,161,000 net Company pops.
THE CELLULAR TELEPHONE INDUSTRY. Cellular telephone service is a form
of wireless telecommunication capable of providing high quality, high capacity
service to and from mobile, portable and fixed radio telephones. Cellular
telephone technology is based upon the division of a given market area into a
number of regions, or "cells," which in most cases are contiguous. Each cell
contains a low-power transmitter-receiver at a "base station" or "cell site"
that communicates by
I-10
radio signal with cellular telephones located in the cell. The cells are
typically designed on a grid, although terrain factors, including natural and
man-made obstructions, signal coverage patterns and capacity constraints may
result in irregularly shaped cells and overlaps or gaps in coverage. Cells
generally have radiuses ranging from two miles to more than 25 miles. Cell
boundaries are determined by the strength of the signal emitted by the cell's
transmitter-receiver. Each cell site is connected to a MTSO, which, in turn, is
connected to the local landline telephone network.
When a cellular subscriber in a particular cell dials a number, the
cellular telephone sends the call by radio signal to the cell's transmitter-
receiver, which then sends it to the MTSO. The MTSO completes the call by
connecting it with the landline telephone network or another cellular telephone
unit. Incoming calls are received by the MTSO, which instructs the appropriate
cell to complete the communications link by radio signal between the cell's
transmitter-receiver and the cellular telephone. By leaving the cellular
telephone on, a signal is emitted so the MTSO can sense in which cell the
cellular telephone is located. The MTSO also records information on system
usage and subscriber statistics.
The FCC has allocated the cellular telephone systems frequencies in
the 800 MHz band of the radio spectrum. Each of the two licensees in each
cellular market is assigned 416 frequency pairs. Each conversation on a
cellular system occurs on a pair of radio talking paths, thus providing full
duplex (I.E., simultaneous two-way) service. Two distinguishing features of
cellular telephone systems are: (i) frequency reuse, enabling the simultaneous
use of the same frequency in two adequately separated cells, and (ii) call hand-
off, occurring when a deteriorating transmission path between a cell site and a
cellular telephone is rerouted to an adjacent cell site on a different channel
to obtain a stronger signal and maintain the call. A cellular telephone
system's frequency reuse and call hand-off features result in far more efficient
use of available frequencies and enable cellular telephone systems to process
more simultaneous calls and service more users over a greater area than pre-
cellular mobile telephone systems.
Frequency reuse is one of the most significant characteristics of
cellular telephone systems. Each cell in a cellular telephone system is
assigned a specific set of frequencies for use between that cell's base station
and cellular telephones located within the cell, so that the radio signals being
used in one cell do not interfere with those being used in adjacent cells.
Because of the relatively low transmission power of the base stations and
cellular telephones, two cells sufficiently far apart can use the same
frequencies in the same market without interfering with one another.
A cellular telephone system's capacity can be increased in various
ways. Within certain limitations, increasing demand may be met by simply adding
available frequency capacity to cells as required or, by using directional
antennas, dividing a cell into discrete multiple sectors or coverage areas,
thereby facilitating frequency reuse in other cells. Furthermore, an area
within a system may be served by more than one cell through procedures which
utilize available channels in adjacent cells. When all possible channels are in
use, further growth can be accomplished through a process called "cell
splitting." Cell splitting entails dividing a single cell into a number of
smaller cells serviced by lower-power transmitters, thereby increasing the reuse
factor and the number of calls that can be handled in a given area. Expected
digital transmission technologies will provide cellular licensees with
additional capacity to handle calls on cellular frequencies. As a result of
present technology and assigned spectrum, however, there are limits to the
number of signals that can be transmitted simultaneously in a given area. In
highly populated MSAs, the level of demand for mobile and portable service is
often large in relation to the existing capacity. Because the primary objective
of the cellular licensing process is to address mobile and portable uses,
operators in highly populated MSAs may have capacity constraints which limit
their ability to provide alternate cellular service. The Company does not
anticipate that the provision of mobile and portable services within the network
will require as large a proportion of the systems' available spectrum and,
therefore, the systems will have more available spectrum with which to pursue
data
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applications, which may enhance revenues. In addition, because fixed cellular
applications do not require hand-off capability, the cell sites and switches use
less capacity in providing such service.
Call hand-off in a cellular telephone system is automatic and
virtually unnoticeable to either party to the call. The MTSO and base stations
continuously monitor the signal strength of calls in progress. The signal
strength of the transmission between the cellular telephone and the base station
declines as the caller moves away from the base station in that cell. When the
signal strength of a call declines to a predetermined threshold level, the MTSO
automatically determines if the signal strength is greater in another cell and,
if so, hands off the cellular telephone to that cell. The automatic hand-off
process within the system takes a fraction of a second. However, if the
cellular telephone leaves the reliable service areas of the cellular telephone
system, the call is disconnected unless an appropriate technical interface is
established with an adjacent system through intersystem networking arrangements.
FCC rules require that all cellular telephones be functionally
compatible with cellular telephone systems in all markets within the United
States and with all frequencies allocated for cellular use, so that a cellular
telephone may be used wherever a subscriber is located, subject to appropriate
arrangements for service charges. Changes to cellular telephone numbers or
other technical adjustments to cellular telephones by the manufacturer or local
cellular telephone service businesses may be required, however, to enable the
subscriber to change from one cellular service provider to another within a
service area.
Because cellular telephone systems are fully interconnected with the
landline telephone network and long distance networks, subscribers can receive
and originate both local and long-distance calls from their cellular telephones.
Cellular telephone systems operate under interconnection agreements
with various local exchange carriers and interexchange carriers. The
interconnection agreements establish the manner in which the cellular telephone
system integrates with other telecommunications systems. The cellular operator
and the local landline telephone company must cooperate in the interconnection
between the cellular and landline telephone systems, to permit cellular
subscribers to call landline subscribers and vice versa. The technical and
financial details of such interconnection arrangements are subject to
negotiation and vary from system to system.
While most MTSOs process information digitally, most radio
transmission of cellular telephone calls are done on an analog basis. Digital
technology offers advantages, including improved voice quality, larger system
capacity, and perhaps lower incremental costs for additional subscribers. The
conversion from analog to digital radio technology is expected to be an
industry-wide process that will take a number of years. Because of the
uncertainty surrounding the selection of an agreed-upon digital standard, the
timing and costs of such a conversion for the Company are presently unknown.
COMPETITION
GENERAL. The cellular telephone business is a regulated duopoly. The
FCC awarded only two licenses in each market, although certain markets have been
subdivided as a result of voluntary settlements. One of these licenses
initially was awarded to an entity that was majority owned by local telephone
companies or their affiliates and the other license was awarded to an entity
that did not provide such service. Each licensee has the exclusive use of a
defined frequency band within its market.
The primary competition for the Company's mobile cellular service in
any market comes from the other licensee in such market, which may have
significantly greater resources than the Company and its affiliates.
Competition is principally on the basis of coverage, services and
I-12
enhancements offered, technical quality of the system, quality and
responsiveness of customer service and price. Such competition may increase to
the extent that licenses pass from weaker stand-alone operators into the hands
of better capitalized and more experienced cellular operators who may be able to
offer consumers certain network advantages similar to those offered by the
Company. Within the network, the Company has three primary direct competitors,
in addition to a number of stand-alone operators. The Company also faces
competition from other communications technologies that now exist, such as
specialized mobile radio systems ("SMR") and paging services, and may face
competition from technologies introduced in the future.
COMPETITION FROM OTHER TECHNOLOGIES. Potential users of cellular
systems may find an increasing number of current and developing technologies
able to meet their communication needs. For example, SMRs, such as are
generally used by taxicab and tow truck services, and other communications
services, have the technical capability to handle mobile telephone calls
(including interconnection to the landline telephone network) and may provide
competition in certain markets.
Although SMRs have limitations that make their usage more appropriate
for short dispatch messages, the FCC has granted waivers of its rules to permit
the construction and operation of low powered "cellular-like" services using a
collection of SMR frequencies ("ESMR") in a number of markets in the United
States. Recent legislation permits commercial mobile service providers,
including SMR providers, to obtain upon demand physical interconnection with the
landline telephone network. Such interconnection enhances an SMR provider's
ability to compete with cellular operators, including the Company. The FCC has
encouraged ESMR activities and has amended its rules to establish an Expanded
Mobile Service Provider ("EMSP") licensing approach that would facilitate such
operations. The new rates grant a new type of 800 MHz wide-area license that
would permit channels to be aggregated for operation of systems throughout
defined geographic areas. A new rulemaking is underway to determine what
protections will be afforded to existing SMR licensees that may now be subject
to relocation.
One-way paging or beeper services that feature voice message and data-
display as well as tones may be adequate for potential cellular subscribers who
do not need to transmit back to the caller. SMR and paging systems are in
operation in many of the service areas within the network.
The FCC is now licensing commercial personal communications services
("PCS"). PCS is not a specific technology, but a variety of potential
technologies that could compete with cellular telephone systems. The FCC has
identified two categories of PCS: broadband and narrowband. In 1993, congress
enacted legislation requiring the FCC to adopt final rules for licensing
wideband and narrowband PCS by February 1994. This legislation also required
the FCC to commence issuing licenses for narrowband PCS by October 1994 and
broadband PCS by December 1994. The auctions are now being held. See "Recent
Legislation."
The FCC has adopted rules to authorize the operation of new narrowband
PCS systems in the 900 MHz band. The new services possible using this 900 MHz
band spectrum include advanced voice paging, two-way acknowledgment paging, data
messaging, electronic mail and facsimile transmissions. These services most
likely will be provided using a variety of devices, such as laptop and palmtop
computers and computerized "personal organizers" that allow receipt of office
messages, calendar planning, and document editing from remote locations.
The FCC also has adopted rules to authorize the operation of new,
wideband PCS systems in the 2 GHz band. Equipment proposed for wideband PCS
includes small, lightweight and wireless telephone handsets; computers that can
communicate over the airwaves wherever they are located; and portable facsimile
machines and other graphic devices. The regulatory plan adopted for broadband
PCS includes an allocation of spectrum, a flexible regulatory structure,
eligibility restrictions and technical and operational rules. In a related
matter in the same proceeding, the FCC revised its cellular rules to explicitly
state that cellular licensees may provide any PCS-type
I-13
services (including wireless PBX, data transmission and telepoint services) on
their 800 MHz band cellular channels without prior notification to the FCC
(other than the notification required to report the construction of new cell
sites).
The FCC has allocated 140 MHz of spectrum in the 2 GHz band for the
provision of licensed and unlicensed wideband PCS. Much of the spectrum
allocated for wideband PCS is already occupied by microwave licensees. As a
general proposition, wideband PCS licensees will be required to pay the costs
associated with relocating these existing microwave users to other portions of
the radio spectrum.
Of the 140 MHz of spectrum allocated to wideband PCS, 120 MHz has been
allocated for licensed PCS. The 120 MHz of spectrum allocated to licensed PCS
has been channelized into six channel blocks, as follows: i) two channel blocks
(Blocks A and B) have been allocated 30 MHz of spectrum each, and will be
licensed on the basis of 51 Major Trading Areas ("MTAs"), iii) three channel
blocks (Blocks D, E and F) have been allocated 10 MHz of spectrum each and will
be licensed on the basis of 493 Basic Trading Areas ("BTAs"). In a separate
proceeding dealing with spectrum auctions and consistent with a directive
contained in recently-enacted legislation, the FCC has granted licensing
preferences on the Block C and F spectrum allocations for small businesses,
rural telephone companies and minority/woman-owned businesses. The Company is
analyzing FCC rules as proposed to determine its eligibility for the Block C 30
MHz channel block and the Block F 10 MHz channel block.
Subject to a five percent cross-ownership benchmark, spectrum
aggregation will be permitted in wideband PCS, but will be limited to 40 MHz of
spectrum per service area to prevent any one person or entity from exercising
undue market power.
As a general rule, cellular licensees will be permitted to participate
in wideband PCS on the 30 MHz frequency block outside of their existing cellular
service areas or in any area where the cellular licensee serves less than ten
percent of the 1990 census population of the PCS service area. Under this
criterion, a cellular licensee will be ineligible to apply for one of the 30 MHz
spectrum blocks if the composite reliable service area contour of its cellular
system embraces ten percent or more of the 1990 census population of the PCS
service area. Generally, with respect to PCS service areas in which there is
ten percent or more cumulative 1990 census population overlap between the
cellular and PCS service areas, the cellular carrier will be eligible to hold
only one 10 MHz BTA license in addition to its cellular interest.
The ownership attribution benchmark for cellular interests has been
set at 20%. Therefore, for eligibility purposes, cellular licensees are defined
as entities which have an ownership interest of 20% or more in a cellular
system.
Wideband PCS licensees will be subject to minimum construction
requirements. Wideband PCS licenses will be awarded for a period of ten years,
with provisions for a license renewal expectancy similar to the rules that
currently apply to cellular licensees.
Of the 160 MHz of spectrum allocated for wideband PCS, the remaining
40 MHz has been allocated for unlicensed devices. These unlicensed devices will
be used in a variety of contexts, such as office environments, to provide such
services as high and low speed data links between computing devices, cordless
telephones and wireless PBXs. The unlicensed devices will be governed under
Part 15 of the FCC's rules, and will not be subject to auctions.
It is uncertain what the effect on the Company of these new personal
communications services will be. The Company believes that PCS likely will not
compete directly with cellular telephone service in the rural marketplace, but
there can be no assurance that this will be the case. Management of the Company
believes that technological advances in present cellular telephone
I-14
technology in conjunction with buildout of the present cellular systems
throughout the nation with cell splitting and microcell technology would provide
essentially the same services as the proposals described above, but there is no
assurance that this will happen. The FCC may issue operating authority for
personal communications services competitive to the Company's services in the
markets in which the Company holds interests in cellular systems. This could
result in one or more additional competitors in each of the Company's markets.
Technological advances in the communications field continue to occur
and make it difficult to predict the extent of additional future competition for
cellular systems. For example, several mobile satellite systems are planning to
initiate service in the 1995 - 1999 time frame. Although satellite service may
offer a customer worldwide coverage, the substantial investments required to
initiate service, as well as significant technical, political, and regulatory
hurdles that need to be overcome may impede the early growth of this technology.
Recent legislation may make available up to 200 MHz of spectrum for new
communications systems. See "Federal Regulation -- Recent Legislation." Each
of these systems could provide services that compete with those provided by the
Company. The FCC has also authorized Basic Exchange Telecommunications Radio
Service to make basic telephone service more accessible to rural households and
businesses.
FEDERAL REGULATION
OVERVIEW. The construction, operation and acquisition of cellular
systems in the United States are regulated by the FCC pursuant to the
Communications Act and the rules and regulations promulgated thereunder (the
"FCC rules"). The FCC rules govern applications to construct and operate
cellular systems, licensing and administrative appeals and technical standards
for the provision of cellular telephone service. The FCC also regulates
coordination of proposed frequency usage, height and power of base station
transmitting facilities and types of signals emitted by such stations. In
addition, the FCC regulates (or forbears from regulating) certain aspects of the
business operations of cellular systems. It has declined to regulate the price
and terms of offerings to the public, although states may do so to assure
development of competitive markets, provided certain conditions are met. See
"Recent Legislation."
INITIAL REGULATION. For licensing purposes, the FCC established 734
discrete geographically defined market areas comprising 306 MSAs and 428 RSAs.
In each market area, the FCC awarded only two licenses authorizing the use of
radio frequencies for cellular telephone service. The allocated cellular
frequencies were divided into two equal 25 MHz blocks. One block of
frequencies, and the associated operating license, was initially reserved for
exclusive use by an entity that was majority owned and controlled by local
landline telephone companies or their affiliates. The second block of
frequencies initially was reserved for use by entities that did not provide
landline telephone service in the market area. Upon the issuance of a
construction permit, either wireline or nonwireline, such construction permit
could be sold to any qualified buyer, regardless of telco affiliation. The FCC
generally prohibits a single entity from holding an interest in both the
wireline and the nonwireline licensee in the same market.
RSAs were divided along county lines and consist of one or more
contiguous counties within a single state. The RSAs were numbered
alphabetically by state, rather than on the basis of population. The FCC
applied a licensing policy for RSA markets similar to that utilized in the MSAs.
Applications for both the wireline and nonwireline license in each RSA were
filed simultaneously. In RSAs, the FCC allowed only wireline applicants to form
pre-lottery settlement entities. If a full market wireline settlement was not
negotiated, the FCC chose among mutually exclusive applicants for each license
through the use of a lottery.
Upon favorable review of the lottery winner or settlement entity,
designation of the tentative selectee and following a public comment period, the
FCC issued a construction permit for the cellular telephone system on each
frequency block in a specified market. An operating license
I-15
was then granted for an initial term of ten years (although a license may be
revoked during its term for cause after formal proceedings by the FCC).
LICENSE RENEWAL. The FCC has established rules and procedures to
process cellular renewal applications filed by existing carriers and the
competing applications filed by renewal challengers. Subject to one exception
discussed below, the renewal proceeding is a two-step hearing process. The
first step of the hearing process is to determine whether the existing cellular
licensee is entitled to a renewal expectancy, and otherwise remains basically
qualified to hold a cellular license. Two criteria are evaluated to determine
whether the existing licensee will receive a renewal expectancy. The first
criterion is whether the licensee has provided "substantial" service during its
past license term, defined as service which is sound, favorable and
substantially above a level of mediocre service which minimally might justify
renewal. The second criterion requires that the licensee must have
substantially complied with applicable FCC rules and policies and the
Communications Act. Under this second criterion, the FCC determines whether the
licensee has demonstrated a pattern of compliance. The second criterion does
not require a perfect record of compliance, but if a licensee has demonstrated a
pattern of noncompliance it will not receive a renewal expectancy. If the FCC
grants the licensee a renewal expectancy during the first step of the hearing
process and the licensee is basically qualified, its license renewal application
will be automatically granted and any competing applications will be denied. If
however, the FCC denies the licensee's request for renewal expectancy, the
licensee's application will be comparatively evaluated under specifically
enumerated criteria with the applications filed by competing applicants.
The exception to the two-step renewal hearing process allows a
competing applicant proposing to provide service that far exceeds the service
presently being provided by the incumbent licensee to request a waiver of the
two-step process. If the waiver request is granted, the FCC will hold only a
comparative hearing, I.E., it will not make a threshold determination in the
first instance as to whether the incumbent licensee is entitled to a renewal
expectancy.
CELLULAR SERVICE AREA. Under FCC rules, the authorized service area
for a cellular licensee in a market is referred to as the CGSA. The CGSA may be
coincident with or smaller than the related FCC-designated market. In all FCC-
designated markets, at least one cell site must have been placed into commercial
service within 18 months after the award of the construction permit. The CGSA
is defined as the area served by the cellular licensee (as computed by a
mathematical formula based on the height and power of operating cell sites).
Cellular licensees do not need to obtain FCC authority prior to increasing the
CGSA within their FCC-designated market during the five-year period after the
construction permit is initially granted for the market. However, FCC
notification of construction is still required. After the five-year exclusive
period has expired, any entity may apply to serve the unserved areas of the
market that comprises at least 50 contiguous square miles and are outside of the
licensees' CGSA (an "unserved area application"). The Company has selected
target expansion areas based upon specific financial criteria and does not plan
to expand in areas where these criteria are not projected to be met.
Unserved area applications are filed in two phases, Phase I and Phase
II. During the first half of 1993, the FCC accepted Phase I unserved area
applications for frequency blocks in all markets where: the five-year fill-in
period had already expired or would expire on or before March 15, 1993; no
applications for initial authorizations were filed; and authorizations were
surrendered, or canceled for failure to meet the 18-month construction deadline
or other reasons. For all other markets, Phase I applications are due on the
31st day following expiration of the five-year fill-in period. All Phase I
applications for a given market are deemed mutually exclusive even if their
proposed CGSAs do not overlap. Once an authorization has been granted to a
Phase I applicant, the permittee has 90 days within which to file an application
requesting FCC authority to make major modifications to the unserved area
system. The FCC will not accept applications that are mutually exclusive with
the Phase I carrier's major modification application.
I-16
Phase II unserved area applications for any remaining area may be
filed on the 121st day after the Phase I authorization has been granted (or if
no Phase I applications are filed, on the first day after Phase I applications
for that market are permitted). In the event mutually exclusive applications
are filed the authorization will be issued by auction. Phase II applications
may propose CGSAs that cover area in more than one market. Phase II
applications are deemed to be mutually exclusive only if their CGSAs overlap in
such a way that the grant of one would preclude the grant of the other.
Currently, Phase II applications are processed on a first-come, first-served
basis. Effective January 1995, the first Phase II application filed in a market
will be placed on public notice by the FCC and all interested parties will have
an opportunity to apply for the same market.
Third party unserved area applicants must propose to serve a minimum
of 50 contiguous square miles and must demonstrate their financial
qualifications to construct the proposed system and to operate it for one year
(assuming no revenues). Existing licensees proposing to expand their systems
through the filing of an unserved area application are not subject to the 50
square mile minimum coverage rule, nor are they required to make a financial
qualifications showing. Under recent legislation described below, mutually
exclusive unserved area applications are processed by lottery selection
procedures (for applications filed prior to July 26, 1993) or by auctions (for
applications filed after July 26, 1993), and existing cellular carriers receive
no preference in the lottery selection or auction process.
Unserved area cellular carriers (both Phase I and Phase II) are
accorded one year within which to complete construction of their systems.
Unserved area cellular carriers are not accorded a five-year fill-in period. If
an unserved area cellular carrier forfeits its authorization for failure to
construct, the areas which thereby revert to "unserved" status may be applied
for under Phase II procedures.
ALIEN OWNERSHIP RESTRICTIONS. The Communications Act prohibits the
issuance of a license to, or the holding of a license by, any corporation of
which any officer or director is a non-U.S. citizen or of which more than 20% of
the capital stock is owned of record or voted by non-U.S. citizens or their
representatives or by a foreign government or a representative thereof, or by
any corporation organized under the laws of a foreign country. The
Communications Act also prohibits the issuance of a license to, or the holding
of a license by, any corporation directly or indirectly controlled by any other
corporation of which any officer or more than 25% of the directors are non-U.S.
citizens or of which more than 25% of the capital stock is owned of record or
voted by non-U.S. citizens or their representatives or by a foreign government
or representative thereof, or by any corporation organized under the laws of a
foreign country, although the FCC has the power in appropriate circumstances to
waive these restrictions. The FCC has interpreted these restrictions to apply
to partnerships and other business entities as well as corporations, subject to
certain modifications. Failure to comply with these requirements may result in
denial or revocation of licenses. The Articles of Incorporation of the Company
contain prohibitions on foreign ownership or control of the Company that are
substantially similar to those contained in the Communications Act.
RECENT LEGISLATION. The Omnibus Budget Reconciliation Act of 1993
(the "Budget Act"), among other things, generally requires the FCC to work with
the Department of Commerce to reallocate at least 200 MHz of spectrum from
federal government use to private commercial use; to issue initial licenses for
radio spectrum for which mutually exclusive applications have been filed for the
purpose of offering commercial communications services to subscribers either by
comparative hearing or competitive bidding (I.E., auctions); to treat as common
carriers PCS licensees as well as providers of commercial mobile services
(including SMR services) that previously were regulated as private carriers; to
issue final rules relating to the licensing of PCS; and to impose regulatory
fees upon virtually all FCC licensees, including cellular licensees, to help
recover the FCC's administrative costs in regulating such entities (the
"Spectrum Legislation").
I-17
In devising a methodology for auctions between mutually exclusive
applicants, the Spectrum Legislation directs the FCC, among other things, to
promote the development and rapid deployment of new technologies, products and
services to the public, including those residing in rural areas. Further, the
Spectrum Legislation prohibits the FCC from conducting lotteries to issue
initial licenses for commercial services for which mutually exclusive
applications are filed, unless one or more applications for such license were
accepted for filing prior to July 26, 1993. Thus, all future initial
applications for cellular unserved areas (if deemed to be mutually exclusive)
and all applications for PCS licenses, would be issued by a competitive bidding
process. Competitive bidding will not apply to applications for license renewal
or applications to assign or transfer control of existing licenses.
The Spectrum Legislation also preempts state rate or entry regulation
on commercial mobile services unless a particular state petitions the FCC for
authority to exercise (or continue exercising) such regulatory authority and the
FCC grants the petition. The Spectrum Legislation also directs the FCC to
assess and collect regulatory fees from virtually all FCC licensees, including
cellular carriers. Under the initial fee schedule, cellular carriers are
required to pay an annual fee of $60.00 per 1,000 subscribers.
STATE, LOCAL AND OTHER REGULATION
STATE. Following receipt of an FCC construction permit and prior to
the commencement of commercial service (prior to construction in certain
states), a cellular licensee must also obtain any necessary approvals from the
appropriate regulatory bodies in each of the states in which it will offer
cellular service. Certain states require cellular system operators to be
certified by such state to serve as common carriers. In addition, certain state
authorities regulate the rates as well as certain service practices of cellular
system operators. While such state regulations may affect the manner in which
the Company's affiliates conduct their business and could adversely affect their
profitability, they should not place the Company's affiliates at a competitive
disadvantage with other service providers in the same markets. The Company has
not experienced and does not presently contemplate any regulatory constraints,
difficulties or delays.
FAA, ZONING AND OTHER LAND USE. The location and construction of
cellular transmitter towers and antennas are subject to Federal Aviation
Administration ("FAA") regulations and may be subject to federal, state and
local environmental regulation as well as state or local zoning, land use and
other regulation. Before a system can be put into commercial operation, the
grantee of a construction permit must obtain all necessary zoning and building
permit approvals for the cell sites and MTSO locations and must secure state
certification and tariff approvals, if required. The time needed to obtain
zoning approvals and requisite state permits varies from market to market and
state to state. Likewise, variations exist in local zoning processes. There
can be no assurance that any state or local regulatory requirements currently
applicable to the systems in which the Company's affiliates have an interest
will not be changed in the future or that regulatory requirements will not be
adopted in those states and localities which currently have none.
EMPLOYEES
As of December 15, 1994, the Company had 404 full-time employees. The
Company engages the services of independent contractors on an as-needed basis.
I-18
Item 2. Properties.
In addition to the direct and attributable interests in cellular
licensees discussed in this Report, the Company leases its principal executive
offices (consisting of approximately 46,000 square feet) located in Englewood,
Colorado. The Company and its affiliates lease and own locations for inventory
storage, microwave, cell site and switching equipment and administrative
offices.
Item 3. Legal Proceedings.
Two competing applicants for the wireline cellular license to serve
the Portland, Maine, MSA filed petitions with the FCC to deny the grant of
authority to Portland Cellular Partnership (the "Portland Partnership"), in
which an affiliate of the Company is a partner. The competing applicants
alleged that the Portland Partnership had failed to demonstrate its financial
qualifications after its designation as the tentative selectee by the FCC. In
February 1989, the FCC waived compliance by the Portland Partnership with the
applicable rules on financial qualification, denied the petitions of the
competing applicants and granted the application of the Portland Partnership for
authority to establish a wireline cellular system in the Portland MSA. The
competing applicants then appealed to the United States Court of Appeals for the
District of Columbia Circuit ("Court of Appeals"). In March 1990, the Court of
Appeals held that the FCC's waiver was improper and remanded the case to the FCC
for further proceedings. On April 30, 1991, the FCC vacated the grant of
authority to the Portland Partnership and dismissed its application. The FCC
also dismissed the application of one competing applicant and designated the
remaining competing applicant as tentative selectee. The FCC also granted the
Portland Partnership interim authority to provide service until the grant of a
new construction permit. On May 31, 1991, the Company's affiliated telco filed
a Petition for Reconsideration with the FCC requesting reconsideration of the
FCC's vacation of the grant of the Portland Partnership's application and
alternatively seeking the opportunity to prosecute its own application and
requesting the FCC to name it as tentative selectee. The affiliated telco
contemporaneously filed a petition with the FCC seeking dismissal of the
application of the designated tentative selectee. The Portland Partnership
filed an appeal of the Commission's order in the Court of Appeals. The Portland
Partnership subsequently filed a petition for reconsideration and the
reinstatement of its license.
On June 4, 1993, the FCC dismissed the Portland Partnership's petition
for reconsideration and reinstatement on jurisdictional grounds and granted a
construction permit for the Portland market to the tentative selectee
("Northeast"). In its June 4 order, the FCC also continued Portland
Partnership's authority to operate the Portland system until ten days after the
date Northeast notifies the Portland Partnership that it is ready to commence
service and denied the petitions of the Company's affiliated telco to deny the
application of Northeast.
On June 25, 1993, the Portland Partnership filed with the FCC a motion
to stay the effectiveness of the June 4 order and a petition for further
reconsideration. Thereafter, the Portland Partnership filed a petition for
reconsideration of the FCC's grant of a construction permit to Northeast and the
Company's affiliated telco filed a petition for reconsideration of the FCC's
action on its April 1991 order. On August 18, 1993, the Commission denied the
motion to stay the effectiveness of the June 4 order. The Partnership
subsequently sought a stay of that order from the Court of Appeals. That
request was also denied. The FCC also denied the Partnership's petition for
further reconsideration of the FCC's revocation of the Partnership's cellular
license. The Partnership appealed that denial to the Court of Appeals, but its
appeal was dismissed by the Court as premature until the FCC rules on the
Partnership's petition for reconsideration of the FCC's grant of a license to
Northeast. That petition for reconsideration has not yet been acted on by the
FCC. The Partnership is required to cease operation of its cellular system ten
days after it receives notice that Northeast is ready to commence operation of
its system.
I-19
There are no other material, pending legal proceedings to which the
Company or any of its subsidiaries is a party or of which any of their property
is the subject which, if adversely decided, would have a material adverse effect
on the Company.
Item 4. Submission of Matters to a Vote of Security Holders.
There were no matters submitted to a vote of security holders during
the quarter ended September 30, 1994.
I-20
SIGNATURES
Pursuant to the requirements 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.
COMMNET CELLULAR INC. (Registrant)
Date: June 16, 1995 By: /s/Daniel P. Dwyer
---------------------------------------
Daniel P. Dwyer
Executive Vice President, Treasurer & Chief
Financial Officer
Date: June 16, 1995 By: /s/Andrew J. Gardner
---------------------------------------
Andrew J. Gardner
Senior Vice President and Controller
(Principal Accounting Officer)