SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d)
OF THE SECURITIES EXCHANGE ACT OF 1934
(Mark One)
[x] Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934
For the quarterly period ended September 30, 2001 or
[ ] Transition report pursuant to Section 13 or 13(d) of the Securities
Exchange Act of 1934
Commission file number: 0-32617
Horizon Telcom, Inc.
(Exact name of Registrant as specified in its charter)
Ohio 31-1449037
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
68 East Main Street
Chillicothe, Ohio 45601-0480
(Address of principal executive offices)
(740) 772-8200
(Registrant's telephone number, including area code)
APPLICABLE ONLY TO CORPORATE ISSUERS:
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months, (or for such shorter period that the
registrant was required to file such reports) and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No ___
Outstanding common stock, as of November 5, 2001:
99,726 shares of class A common stock
299,301 shares of class B common stock
HORIZON TELCOM, INC.
AND CONSOLIDATED SUBSIDIARIES
FORM 10-Q
TABLE OF CONTENTS
Item Page No.
- ----- --------
Item 1. FINANCIAL STATEMENTS 1
Condensed Consolidated Balance Sheets as of September 30, 2001 (unaudited)
and December 31, 2000 1
Condensed Consolidated Statements of Operations (unaudited) for the
three and nine months ended September 30, 2001 and September 30,
2000 3
Condensed Consolidated Statements of Other Comprehensive Income
(Loss) for the three and nine months ended September 30, 2001 and
September 30, 2000 (unaudited) 4
Condensed Consolidated Statements of Cash Flows for the nine months
ended September 30, 2001 and September 30, 2000
(unaudited) 5
Notes to the Interim Condensed Consolidated Financial Statements (unaudited) 6
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS 14
Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK 27
Item 6. EXHIBITS AND REPORTS ON FORM 8-K 29
i
PART I. FINANCIAL INFORMATION
Item 1. FINANCIAL STATEMENTS
HORIZON TELCOM, INC. AND SUBSIDIARIES
Condensed Consolidated Balance Sheets
As Of September 30, 2001 and December 31, 2000
- --------------------------------------------------------------------------------
September 30, December 31,
2001 2000
-------------------- --------------------
(unaudited)
ASSETS
CURRENT ASSETS:
Cash and cash equivalents $ 41,161,745 $ 192,011,997
Accounts receivables, less allowance for doubtful accounts of
$2,000,000 and $1,891,000 at September 30, 2001 and December
31, 2000 17,711,880 11,329,628
Inventories 6,340,685 6,756,789
Prepayments, investments and other 2,359,647 7,790,987
-------------------- --------------------
Total current assets 67,573,957 217,889,401
-------------------- --------------------
DEFERRED CHARGES AND OTHER ASSETS:
Intangibles, net 50,743,769 52,879,934
Unamortized debt expense and other assets 22,857,490 19,754,305
-------------------- --------------------
Total deferred charges and other assets 73,601,259 72,634,239
-------------------- --------------------
PROPERTY, PLANT AND EQUIPMENT:
In service 265,507,563 170,960,204
Less - accumulated depreciation (64,607,227) (49,027,055)
-------------------- --------------------
Property, plant and equipment in service, net 200,900,336 121,933,149
Construction work in progress 64,117,382 53,608,590
-------------------- --------------------
Total property, plant and equipment 265,017,718 175,541,739
-------------------- --------------------
Total assets $ 406,192,934 $ 466,065,379
==================== ====================
(Continued on next page)
1
HORIZON TELCOM, INC. AND SUBSIDIARIES
Condensed Consolidated Balance Sheets (Continued)
As Of September 30, 2001 and December 31, 2000
- --------------------------------------------------------------------------------
September 30, December 31,
2001 2000
-------------------- --------------------
(unaudited)
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
CURRENT LIABILITIES:
Lines of credit $ 18,417,337 $ 12,767,338
Current maturities of long-term debt 2,000,000 2,000,000
Accounts payable and other accrued liabilities 36,285,288 50,087,470
-------------------- --------------------
Total current liabilities 56,702,625 64,854,808
-------------------- --------------------
LONG-TERM DEBT AND OTHER LIABILITIES:
Notes payable 202,701,070 185,283,104
Senior notes 20,000,000 20,000,000
Deferred income and other liabilities 22,461,761 19,121,752
-------------------- --------------------
Total long-term debt and other liabilities 245,162,831 224,404,856
MINORITY INTEREST - 983,883
CONVERTIBLE PREFERRED STOCK 142,588,841 134,421,881
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' EQUITY (DEFICIT):
Common stock - class A, no par value, 200,000 shares authorized,
99,726 shares issued, stated at $4.25 per share 423,836 423,836
Common stock - class B, no par value, 500,000 shares authorized,
299,301 shares issued, stated at $4.25 per share 1,272,029 1,272,029
Additional paid-in capital 72,188,905 72,354,113
Accumulated other comprehensive income (loss) (679,181) -
Deferred compensation (1,181,476) (1,503,889)
Treasury stock - 36,707 and 43,947 shares at cost at September
30, 2001 and December 31, 2000, respectively (5,504,700) (6,624,962)
Retained deficit (104,780,776) (24,521,176)
-------------------- --------------------
Total stockholders' equity (deficit) (38,261,363) 41,399,951
-------------------- --------------------
Total liabilities and stockholders' equity (deficit) $ 406,192,934 $ 466,065,379
==================== ====================
The accompanying notes are an integral part of these condensed consolidated
financial statements.
2
HORIZON TELCOM, INC. AND SUBSIDIARIES
Condensed Consolidated Statements of Operations
For the Three and Nine Months Ended September 30, 2001 and September 30, 2000
(unaudited)
- --------------------------------------------------------------------------------
For the Three Months Ended For the Nine Months Ended
September 30, September 30,
--------------------------------- ----------------------------
2001 2000 2001 2000
--------------- ---------------- -------------- ----------------
OPERATING REVENUES:
Basic local, long-distance, and other landline $ 4,736,206 $ 5,139,426 $ 14,664,018 $ 15,502,943
Network access 5,449,395 4,550,250 14,489,849 13,164,107
Internet access services 800,356 905,856 2,390,087 2,742,717
Equipment systems sales, information services
and other revenues 1,207,600 754,571 3,097,524 2,562,582
Personal Communications Services revenue 33,149,798 6,790,855 74,515,536 14,622,246
PCS equipment revenues 2,020,282 649,630 4,595,019 1,744,875
--------------- ---------------- -------------- ----------------
Total operating revenues 47,363,637 18,790,588 113,752,033 50,339,470
--------------- ---------------- -------------- ----------------
OPERATING EXPENSES:
Cost of goods sold 4,306,689 2,204,844 9,168,124 5,581,223
Cost of services (exclusive of item shown
separately below) 32,157,650 11,125,506 77,800,493 26,445,365
Selling and marketing 13,578,010 4,698,035 32,268,730 10,036,174
General and administrative (exclusive of item
shown separately below) 11,155,824 7,713,494 29,740,407 18,409,934
Non-cash compensation expense 101,868 156,197 1,047,312 531,193
Depreciation and amortization 7,244,585 3,394,092 18,618,708 8,538,494
--------------- ---------------- -------------- ----------------
Total operating expenses 68,544,626 29,292,168 168,643,774 69,542,383
--------------- ---------------- -------------- ----------------
OPERATING LOSS (21,180,989) (10,501,580) (54,891,741) (19,202,913)
--------------- ---------------- -------------- ----------------
NONOPERATING INCOME (EXPENSE):
Subsidiaries preferred stock dividends (2,816,053) - (8,169,630) -
Interest income and other, net 518,943 512,739 4,949,482 1,176,875
Interest expense, net (6,534,194) (2,206,497) (20,335,066) (4,941,805)
--------------- ---------------- -------------- ----------------
Total non operating income (expense) (8,831,304) (1,693,758) (23,555,214) (3,764,930)
--------------- ---------------- -------------- ----------------
LOSS BEFORE INCOME TAX BENEFIT (EXPENSE) (30,012,293) (12,195,338) (78,446,955) (22,967,843)
INCOME TAX BENEFIT (EXPENSE) (458,383) - (1,482,351) 93,660
MINORITY INTEREST IN LOSS - 1,423,846 983,883 1,372,193
--------------- ---------------- -------------- ----------------
LOSS BEFORE EXTRAORDINARY ITEM (30,470,676) (10,771,492) (78,945,423) (21,501,990)
--------------- ---------------- -------------- ----------------
EXTRAORDINARY LOSS, NET OF TAX - (486,323) - (486,323)
--------------- ---------------- -------------- ----------------
NET LOSS $ (30,470,676) $ (11,257,815) $(78,945,423) $ (21,988,313)
=============== ================ ============== ================
Basic and diluted loss per share before
extraordinary item $ (84.10) $ (30.52) $ (219.35) $ (62.63)
Basic and diluted loss per share from extraordinary
item - (1.38) - (1.42)
--------------- ---------------- -------------- ----------------
Basic and diluted loss per share $ (84.10) $ (31.90) $ (219.35) $ (64.05)
=============== ================ ============== ================
Weighted average shares outstanding 362,320 352,959 359,904 343,290
=============== ================ ============== ================
The accompanying notes are an integral part of these condensed consolidated
financial statements.
3
HORIZON TELCOM, INC. AND SUBSIDIARIES
Condensed Consolidated Statements of Other Comprehensive Income (Loss)
For the Three and Nine Months Ended September 30, 2001 and September 30, 2000
(unaudited)
- --------------------------------------------------------------------------------
For the Three Months Ended For the Nine Months Ended
September 30, September 30,
-------------------------------------- -----------------------------------
2001 2000 2001 2000
------------------ ---------------- -------------- ----------------
Net loss available to common
stockholders $ (30,470,676) $ (11,257,815) $(78,945,423) $ (21,988,313)
Net unrealized loss on derivative
instruments (326,108) - (679,181) -
------------------ ---------------- -------------- ----------------
Total comprehensive loss $ (30,796,784) $ (11,257,815) $(79,624,604) $ (21,988,313)
================== ================ ============== ================
The accompanying notes are an integral part of these condensed consolidated
financial statements.
4
HORIZON TELCOM, INC. AND SUBSIDIARIES
Condensed Consolidated Statements of Cash Flows
For the Nine Months Ended September 30, 2001 and 2000
(unaudited)
- --------------------------------------------------------------------------------
Nine Months Ended September 30,
--------------------------------------
2001 2000
------------------ ------------------
NET CASH FLOWS PROVIDED BY (USED IN) OPERATING ACTIVITIES $ (55,397,623) $ 9,854,764
------------------ ------------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures, net (101,502,116) (64,367,908)
Investment in joint venture - (1,032,000)
Proceeds from sale of fixed assets - 702,000
Cash acquired in acquisition of BPCS - 4,926,803
Proceeds from return of investments in RTFC subordinated capital
certificates 2,895,647 -
------------------ ------------------
Net cash used in investing activities (98,606,469) (59,771,105)
------------------ ------------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Notes payable - borrowing 5,650,000 178,422,280
Deferred financing fees and other (1,177,673) (14,630,843)
Convertible preferred stock of subsidiary - 126,500,000
Stock issuance costs - (7,009,822)
Treasury stock received as dividend (4,310) -
Dividends paid (1,314,177) (1,376,360)
------------------ ------------------
Net cash provided by financing activities 3,153,840 281,905,255
------------------ ------------------
NET INCREASE/(DECREASE) IN CASH AND CASH EQUIVALENTS (150,850,252) 231,988,914
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD 192,011,997 3,790,455
------------------ ------------------
CASH AND CASH EQUIVALENTS, END OF PERIOD $ 41,161,745 $ 235,779,369
================== ==================
The accompanying notes are an integral part of these condensed consolidated
financial statements.
5
HORIZON TELCOM, INC. AND SUBSIDIARES
Notes to Interim Condensed Consolidated Financial Statements
September 30, 2001
(Unaudited)
- -------------------------------------------------------------------------------
(1) General
The results of operations for the interim periods shown are not necessarily
indicative of the results to be expected for the fiscal year. In the
opinion of Management, the information contained herein reflects all
adjustments necessary to make a fair statement of the results for the three
and nine months ended September 30, 2001 and 2000. All such adjustments are
of a normal recurring nature.
(2) Organization and Business Operations
The Company provides a variety of voice and data services to commercial,
residential/small business and local market segments. The Company provides
landline telephone service, VDSL television service, and Internet access
services to the southern Ohio region, principally in and surrounding
Chillicothe, Ohio. The Company also provides PCS operations to a twelve
state region in the Midwest, including Ohio, Indiana, Virginia,
Pennsylvania, Tennessee and West Virginia, as an affiliate of Sprint PCS.
On April 26, 2000, Horizon Telcom, Inc. formed Horizon PCS, Inc. On June
27, 2000, Horizon Telcom, Inc. transferred 100% ownership of Horizon
Personal Communications, Inc. to Horizon PCS in exchange for 53,806,200
shares of stock of Horizon PCS. This transfer was accounted for as a
reorganization of companies under common control in a manner similar to a
pooling-of-interests in the consolidated financial statements. Horizon
Personal Communications, Inc. will continue to exist and conduct business
as a wholly-owned subsidiary of Horizon PCS.
The accompanying condensed consolidated financial statements reflect the
operations of Horizon Telcom, Inc. (the Company) and its subsidiaries, The
Chillicothe Telephone Company (Chillicothe Telephone), Horizon PCS, Inc.
(Horizon PCS), Horizon Services, Inc. (Services), and Horizon Technology,
Inc. (Horizon Technology). Horizon Technology, Inc. was formerly known as
United Communications, Inc. All material intercompany transactions and
balances have been eliminated in consolidation.
(3) Summary of Significant Accounting Policies
Note 1 to the Notes to the Consolidated Financial Statements in the
Company's December 31, 2000 Financial Statements, contained in the
Company's Form 10, summarizes the Company's significant accounting
policies.
Basis of Presentation
The accompanying unaudited condensed consolidated financial statements have
been prepared in accordance with the rules and regulations of the
Securities and Exchange Commission (SEC). Certain information and footnote
disclosures normally included in financial statements prepared in
accordance with accounting principles generally accepted in the United
States have been condensed or omitted pursuant to such rules and
regulations.
Net Loss per Share
The Company computes net loss per common share in accordance with SFAS No.
128, Earnings per Share and SEC Staff Accounting Bulletin No. 98. Basic and
diluted loss per share is computed by dividing loss, for each period, by
the weighted-average outstanding common shares. No conversion of common
stock equivalents (stock options granted by the Company) has been assumed
6
HORIZON TELCOM, INC. AND SUBSIDIARES
Notes to Interim Condensed Consolidated Financial Statements
September 30, 2001
(Unaudited)
- -------------------------------------------------------------------------------
in the calculations since the effect would be antidilutive. As a result,
the number of weighted-average outstanding common shares as well as the
amount of net loss per share are the same for basic and diluted net loss
per share calculations for all periods presented. Horizon PCS has issued
stock options, stock purchase warrants and convertible preferred stock,
which may impact minority interest and the related earnings or loss of the
Company.
Accounting for Rate Regulation
Chillicothe Telephone is subject to rate-regulation. SFAS No. 71,
Accounting for the Effects of Certain Types of Rate Regulation, provides
that rate-regulated utilities account for revenues and expenses and report
assets and liabilities consistent with the economic effect of the way in
which the regulators establish rates. Chillicothe Telephone follows the
accounting and reporting requirements of SFAS No. 71. As of September 30,
2001, the Company has recorded regulatory assets and liabilities of
approximately $397,000 and $1,029,000, respectively. As of December 31,
2000, regulatory assets and liabilities were approximately $600,000 and
$475,000, respectively.
Financial Instruments
The Company's policies do not permit the use of derivative financial
instruments for speculative purposes. The Company uses interest rate swaps
to manage interest rate risk. The net amount paid or received on interest
rate swaps is recognized as an adjustment to interest expense.
The Company has adopted SFAS No. 133, Accounting for Derivative Instruments
and Hedging Activities (SFAS No. 133), as amended by SFAS No. 138,
Accounting for Derivative Instruments and Certain Hedging Activities. These
statements established accounting and reporting standards for derivative
instruments and hedging activities that require an entity to recognize all
derivatives as an asset or liability measured at fair value. Depending on
the intended use of the derivative, changes in its fair value will be
reported in the period of change as either a component of earnings or a
component of other comprehensive income. Pursuant to the derivative
criteria established by SFAS No. 133, items with exposure to variability in
expected future cash flows that is attributable to a particular risk is
considered a cash flow hedge. The exposure may be associated with an
existing recognized asset or liability such as future interest payments on
variable-rate debt.
In January 2001, Horizon PCS entered into an interest rate swap with a
notional amount of $25,000,000. During the third quarter, Horizon PCS
entered into an additional interest rate swap with a nominal amount of
$25,000,000. The swaps have been designated as a hedge of a portion of the
future variable interest cash flows expected to be paid on borrowings under
its senior secured credit facilities. For the three and nine months ended
September 30, 2001, Horizon PCS recorded an unrealized loss of
approximately $326,000 and $679,000, respectively, in other comprehensive
income (loss) associated with the change in the fair value of the swap.
Horizon PCS also recognized other expense of approximately $7,000 and
$84,000 for the three and nine months ended September 30, 2001, related to
the decline in effectiveness of the hedge.
Recent Accounting Pronouncements
In July 2001, the Financial Accounting Standards Board issued SFAS No. 141,
Business Combinations and SFAS No. 142, Goodwill and Other Intangible
Assets. SFAS No. 141 addresses financial accounting and reporting for all
business combinations and requires that all business combinations entered
into subsequent to June 2001 be recorded under the purchase method. This
statement also addresses financial accounting and reporting for goodwill
and other intangible assets acquired in a business combination at
acquisition. SFAS No. 142 addresses financial accounting and reporting for
intangible assets acquired individually or with a group of other assets at
acquisition. This statement also addresses financial accounting and
reporting for goodwill and other intangible assets subsequent to their
acquisition.
7
HORIZON TELCOM, INC. AND SUBSIDIARES
Notes to Interim Condensed Consolidated Financial Statements
September 30, 2001
(Unaudited)
- -------------------------------------------------------------------------------
These statements will be adopted by the Company on January 1, 2002.
Goodwill amortization will cease as of December 31, 2001 and the Company
will be required to complete an impairment test of the remaining goodwill
balance annually (more frequently if impairment indicators arise). The
Company has not yet determined the financial impact the adoption of these
pronouncements will have on its financial position or results of
operations. As of September 30, 2001, Horizon PCS has goodwill of
approximately $7,288,000 related to the acquisition of Bright PCS in June
2000. The valuation of this goodwill would be subject to an impairment test
at the date of adoption.
In June, 2001, the Financial Accounting Standards Board issued SFAS No.
143, Accounting for Asset Retirement Obligations. This statement addresses
financial accounting and reporting for obligations associated with the
retirements of tangible long-lived assets and the associated asset
retirement costs. It applies to legal obligations associated with the
retirement of long-lived assets that result from the acquisition,
construction, development and (or) the normal operation of a long-lived
asset. The Company will adopt this statement effective January 1, 2003. The
Company has not yet determined the financial impact the adoption will have
on its financial position or results of operations.
In August, 2001 the Financial Accounting Standards Board issued SFAS No.
144, Accounting for the Impairment or Disposal of Long-Lived Assets. SFAS
No. 144 addresses financial accounting and reporting for the impairment of
long-lived assets. The statement supersedes SFAS No. 121, Accounting for
the Impairment of Long-Lived Assets and for Long-Lived Assets to Be
Disposed Of, and the accounting and reporting provisions of APB Opinion No.
30. SFAS No. 144 removes goodwill from its scope, as goodwill will be
addressed in the impairment test described above under SFAS No. 142. SFAS
No. 144 also describes the cash flow estimation approach used in
determining impairment. The Company will adopt SFAS No. 144 on January 1,
2002. The Company has not yet determined the financial impact the adoption
will have on its financial position or results of operation.
Reclassifications
Certain prior year amounts have been reclassified to conform with the 2001
presentation.
(4) Acquisitions
During 1999 Horizon PCS entered into a joint venture agreement through the
purchase of 25.6% of Bright Personal Communications Services, LLC (Bright).
The investment was accounted for under the equity method. The joint venture
was established in October 1999 to provide personal communications services
in Ohio, Indiana, and Michigan as a Sprint PCS network partner.
On June 27, 2000, Horizon PCS acquired the remaining 74.4% of Bright in
exchange for approximately 8% of Horizon PCS' class B common stock
(4,678,800 shares valued at approximately $34,000,000) and approximately
40% of the Horizon Telcom, Inc. common stock owned by Horizon PCS (31,912
shares valued at $15,300,000).
This acquisition was treated as a purchase for accounting purposes. The
condensed consolidated statement of operations includes the results of
Bright from June 28, 2000.
8
HORIZON TELCOM, INC. AND SUBSIDIARES
Notes to Interim Condensed Consolidated Financial Statements
September 30, 2001
(Unaudited)
- -------------------------------------------------------------------------------
In conjunction with this transaction, Horizon PCS also acquired the Bright
management agreement with Sprint PCS and, with it, the right to operate
using Sprint PCS licenses in Bright's markets. Horizon PCS has recognized
an intangible asset totaling $33,000,000 related to this licensing
agreement which will be amortized over 20 years, the initial term of the
underlying management agreement. Amortization commenced in June 2000.
Amortization expense for the three and nine months ended September 30, 2001
is approximately $427,000 and $1,280,000; amortization expense for the
three and nine months ended September 30, 2000 is $427,000 and $441,000,
respectively.
The purchase price exceeds the fair market value of the net assets acquired
by approximately $7,778,000. The resulting goodwill will be amortized on a
straight-line basis over 20 years. Amortization commenced in June 2000.
Amortization expense for the three and nine months ended September 30, 2001
is approximately $97,000 and $292,000; amortization expense for the three
and nine months ended September 30, 2000 is $99,000 and $100,000 (see Note
3).
The purchase price allocation of the fair value of assets acquired and
liabilities assumed is summarized below:
Working capital $ 2,072,000
Property and equipment 6,328,000
Sprint PCS licenses 33,000,000
Goodwill 7,777,752
Other assets 122,000
The following unaudited pro forma summary presents the net revenues, net
loss and loss per share from the combination of the Company and Bright, as
if the acquisition had occurred at the beginning of the 2000 fiscal year.
The pro forma information is provided for information purposes only. It is
based on historical information and does not necessarily reflect the actual
results that would have occurred nor is it necessarily indicative of the
future results of operations of the combined enterprise:
Three Months Ended Nine Months Ended
September 30, 2000 September 30, 2000
--------------------------- -----------------------
Net revenue............................ $ 18,790,588 $ 49,832,353
Net loss .............................. (11,257,815) (22,790,746)
Basic and diluted loss per share....... (31.90) (66.39)
Prior to acquisition, Bright had not commenced revenue-generating
operations and was paying a management fee to its investor, Horizon PCS.
The management fee recognized by Horizon PCS in the period prior to the
acquisition date is included in net revenue in the accompanying Statement
of Operations. In the pro forma disclosure above, this management fee
revenue is fully eliminated.
(5) Segment Information
The Company is organized around the differences in products and services it
offers. Under this organizational structure, the Company operates in two
reportable business segments as defined by SFAS No. 131, Disclosures about
Segments of an Enterprise and Related Information, landline telephone
services and wireless personal communications services. The landline
telephone services segment includes four major revenue streams: basic local
service, long-distance toll, network access services, and other related
9
HORIZON TELCOM, INC. AND SUBSIDIARES
Notes to Interim Condensed Consolidated Financial Statements
September 30, 2001
(Unaudited)
- -------------------------------------------------------------------------------
telephone services. The wireless personal communications services segment
includes three major revenue streams: PCS subscriber revenues, PCS roaming
revenues and PCS equipment sales.
The Company evaluates the performance of the segments based on operating
earnings before the allocation of administrative expenses. Information
about interest income and expense, and income taxes is not provided on a
segment level. The accounting policies of the segments are the same as
described in the summary of significant accounting policies. Corporate
assets represent assets maintained by Services for the benefit of all
segments.
The following table includes revenue, intercompany revenues, operating
earnings (loss), depreciation and amortization expense and capital
expenditures for the three and nine months ended September 30, 2001 and
2000 and assets as of September 30, 2001 and December 31, 2000 for each
segment and reconciling items necessary to total to amounts reported in the
financial statements:
Net Revenues
----------------------------------------------------------------------
Three Months Ended Nine Months Ended
September 30, September 30,
-------------------------------- ---------------------------------
2001 2000 2001 2000
--------------- ------------- --------------- --------------
Landline telephone services $ 10,185,601 $ 9,689,676 $ 29,153,867 $ 28,667,050
Personal communication services 35,170,080 7,440,485 79,110,555 16,367,121
All other 2,007,956 1,660,427 5,487,611 5,305,299
--------------- ------------- --------------- --------------
Total net revenues $ 47,363,637 $18,790,588 $ 113,752,033 $ 50,339,470
=============== ============= =============== ==============
Intercompany Revenues
----------------------------------------------------------------------
Three Months Ended Nine Months Ended
September 30, September 30,
-------------------------------- ---------------------------------
2001 2000 2001 2000
--------------- ------------- ------------- --------------
Landline telephone services $ 222,560 $ 160,531 $ 669,471 $ 464,963
Personal communication services 34,024 7,875 118,616 17,027
All other 151,816 3,319 204,308 11,239
--------------- ------------- ------------- --------------
Total intercompany revenues $ 408,400 $ 171,725 $ 992,395 $ 493,229
=============== ============= ============= ==============
Operating Earnings (Loss)
----------------------------------------------------------------------
Three Months Ended Nine Months Ended
September 30, September 30,
-------------------------------- ---------------------------------
2001 2000 2001 2000
--------------- ------------- ------------- --------------
Landline telephone services $ 4,459,350 $ 3,544,865 $ 12,219,811 $ 11,291,535
Personal communication services (21,518,608) (10,663,619) (55,789,754) (22,110,767)
All other (999,155) (347,957) (2,060,806) (501,325)
Unallocated administrative expenses (3,122,576) (3,034,869) (9,260,992) (7,882,356)
--------------- ------------- ------------- --------------
Total operating earnings (loss) $ (21,180,989) $(10,501,580) $ (54,891,741) $(19,202,913)
=============== ============= ============= ==============
10
Depreciation and Amortization
----------------------------------------------------------------------
Three Months Ended Nine Months Ended
September 30, September 30,
-------------------------------- ---------------------------------
2001 2000 2001 2000
--------------- ------------- ------------- --------------
Landline telephone services $ 1,589,397 $ 1,595,880 $ 4,628,805 $ 4,726,949
Personal communication services 5,158,645 1,687,511 12,980,231 3,466,854
All other 496,543 110,701 1,009,672 344,691
--------------- ------------- ------------- --------------
Total depreciation and
amortization $ 7,244,585 $ 3,394,092 $ 18,618,708 $ 8,538,494
=============== ============= ============= ==============
Capital Expenditures
----------------------------------------------------------------------
Three Months Ended Nine Months Ended
September 30, September 30,
-------------------------------- ---------------------------------
2001 2000 2001 2000
--------------- ------------- ------------- --------------
Landline telephone services $ 3,005,081 $ 3,100,980 $ 6,508,718 $ 8,177,620
Personal communication services 24,331,396 40,001,544 90,350,650 49,809,628
All other 1,014,080 5,770,773 4,642,748 6,380,660
--------------- ------------- ------------- --------------
Total capital expenditures $ 28,350,557 $ 48,873,297 $ 101,502,116 $ 64,367,908
=============== ============= ============= ==============
11
HORIZON TELCOM, INC. AND SUBSIDIARES
Notes to Interim Condensed Consolidated Financial Statements
September 30, 2001
(Unaudited)
- -------------------------------------------------------------------------------
Assets
-------------------------------------
September 30, December 31,
2001 2000
---------------- ----------------
Landline telephone services $ 83,151,923 $ 74,160,504
Personal communication services 315,057,775 383,198,834
All other 7,983,236 8,706,041
---------------- ----------------
Total assets $ 406,192,934 $ 466,065,379
================ ================
Other business activities of the Company include Internet access services,
equipment systems sales, and other miscellaneous revenues which do not meet
the definition of a reportable segment under SFAS No. 131. Amounts related
to these business activities are included above under "All other."
Unallocated administrative expenses represent general and administrative
expenses which are incurred at a corporate level. All other assets
represent common assets not identified to an operating segment.
Net operating revenues by product and services were as follows:
Three Months Ended Nine Months Ended
September 30, September 30,
-------------------------------- --------------------------------
2001 2000 2001 2000
-------------- -------------- ------------- --------------
Basic local service $ 3,618,523 $ 3,697,454 $ 10,857,809 $ 10,869,952
Long-distance toll 297,906 645,308 1,147,635 2,011,652
Network access 5,449,395 4,550,250 14,489,849 13,164,107
All other 819,777 796,664 2,658,574 2,621,339
-------------- -------------- ------------- --------------
Total landline telephone services 10,185,601 9,689,676 29,153,867 28,667,050
-------------- -------------- ------------- --------------
PCS subscriber revenue 21,356,842 4,975,156 48,870,231 10,870,335
PCS roaming revenue 11,792,956 1,815,699 25,645,305 3,751,911
PCS equipment sales 2,020,282 649,630 4,595,019 1,744,875
-------------- -------------- ------------- --------------
Total personal communication services 35,170,080 7,440,485 79,110,555 16,367,121
-------------- -------------- ------------- --------------
Internet access services 800,356 905,856 2,390,087 2,742,717
Equipment system sales 372,911 217,907 1,081,657 957,396
All other 834,689 536,664 2,015,867 1,605,186
-------------- -------------- ------------- --------------
Total other 2,007,956 1,660,427 5,487,611 5,305,299
-------------- -------------- ------------- --------------
Total net operating revenues $ 47,363,637 $ 18,790,588 $113,752,033 $ 50,339,470
============== ============== ============= ==============
12
HORIZON TELCOM, INC. AND SUBSIDIARES
Notes to Interim Condensed Consolidated Financial Statements
September 30, 2001
(Unaudited)
- -------------------------------------------------------------------------------
(6) Commitments and Contingencies
Operating Leases
The Company leases office space and various equipment under several
operating leases. In October 1999, Horizon PCS signed a tower lease
agreement with a third party whereby it will lease the towers for
substantially all of Horizon PCS' cell sites. The leases are operating
leases with a term of five to ten years with three consecutive five-year
renewal option periods. In addition, Horizon PCS will receive a site
development fee from the tower lessor for certain tower sites which the
lessor constructs on behalf of Horizon PCS. Such fees are deferred and
amortized over the life of the related lease.
Legal Matters
The Company is party to legal claims arising in the normal course of
business. Although the ultimate outcome of the claims cannot be ascertained
at this time, it is the opinion of management that none of these matters,
when resolved, will have a material adverse impact on the Company's results
of operations or financial condition.
Vendor Agreements
In August 1999, Horizon PCS entered into a wholesale network services
agreement with a third-party vendor. The initial term is through June 8,
2008 with four automatic ten-year renewals. This agreement was amended in
the third quarter of 2001. Under the amended agreement, Horizon PCS is
obligated to pay fixed minimum monthly fees until December, 2003, at a
lower rate per minute than the prior agreement. Usage in excess of the
monthly minute allowance is charged at a set rate per minute. The aggregate
amount of such minimum payments at September 30, 2001 is as follows:
2001.......................................... $ 5,100,000
2002.......................................... 27,400,000
2003.......................................... 38,600,000
-----------------
Total $71,100,000
=================
Under the amendment, the vendor is obligated to make certain upgrades to
their network (3G technology) and the vendor agrees with Sprint PCS to
modify their network to cause Spring PCS to be in compliance with the FCC's
construction requirements for PCS networks. Horizon PCS is responsible for
completion of the network modification if the vendor fails to comply.
Construction Expenditures
Construction expenditures in 2001 are estimated to be $145,000,000. The
majority of the estimated expenditures are for the build-out of the PCS
Network. The Company expects to finance construction primarily through
available cash on hand at September 30, 2001 and additional external
financing.
13
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
OVERVIEW
This discussion reflects the operations of Horizon Telcom, Inc. and its
subsidiaries, The Chillicothe Telephone Company, Horizon PCS, Inc., Horizon
Services, Inc., and Horizon Technology, Inc. This discussion and analysis should
be read in conjunction with the consolidated financial statements and the
related notes.
Horizon Telcom operates primarily within two operating segments: landline
telephone services and personal communications services. See Note 5 of "Notes to
Interim Condensed Consolidated Financial Statements" for additional financial
information regarding Horizon Telcom's operating segments.
At September 30, 2001, Chillicothe Telephone serviced 36,821 access lines
in Chillicothe, Ohio and the surrounding area. Horizon Technology provided
Internet service to 14,925 customers through its bright.net Internet service.
At September 30, 2001, Horizon PCS had launched service covering
approximately 6.7 million residents, or approximately 66% of the total
population in its territory, and had 146,641 customers.
HISTORY AND BACKGROUND
Horizon Telcom is a holding company which, in addition to its 92% ownership
interest (55.3% on a fully diluted basis) in Horizon PCS, owns 100% of
Chillicothe Telephone, a local telephone company in service for 105 years.
Horizon Telcom also owns 100% of Horizon Services, which provides administrative
services to Horizon PCS and other Horizon Telcom affiliates, and 100% of Horizon
Technology, a separate long distance and Internet services business. Prior to
providing PCS service, one of Horizon PCS' subsidiaries operated a DirecTV
affiliate. We sold that business in 1996. We also launched our Internet services
business in 1995, which we transferred from Horizon PCS to Horizon Technology in
April 2000.
Horizon Telcom provides a variety of voice and data services to commercial,
residential/small business and local market segments. Horizon Telcom provides
landline telephone service, very high bit rate digital subscriber line (VDSL)
television service, and Internet access services to the southern Ohio region,
principally in and surrounding Chillicothe, Ohio. Horizon Telcom also provides
PCS operations to a twelve-state region in the Midwest, including Ohio, Indiana,
Virginia, and West Virginia, as an affiliate of Sprint PCS.
RESULTS OF OPERATIONS
The landline telephone services operating segment consists of basic local,
long-distance toll, network access services, and other telephone service
revenue.
IntraLATA, i.e., the area of southern Ohio, including Columbus originally
covered by area code 614, and basic local exchange long-distance service revenue
consists of flat rate services and measured services billed to customers
utilizing Chillicothe Telephone's telephone network. Long distance
intraLATA/interstate revenue consists of message services that terminate beyond
the basic service area of the originating wire center.
Network access revenue consists of revenue derived from the provision of
exchange access services to an interexchange carrier or to an end user beyond
the exchange carrier's network. Other revenue includes directory advertising
related to a telephone directory published annually.
The personal communications services operating segment consists primarily
of PCS subscriber revenues, Sprint PCS roaming revenues, non-Sprint PCS roaming
revenues and PCS equipment sales. PCS subscriber revenues consist primarily of
monthly service fees and other charges billed to our customers for Sprint PCS
14
service in our territory under a variety of service plans. Roaming revenues
consist of Sprint PCS roaming and travel and non-Sprint PCS roaming and travel.
We receive Sprint PCS roaming revenues at a per minute rate from Sprint PCS or
another Sprint PCS affiliate when Sprint PCS subscribers based outside of our
territory use our portion of the Sprint PCS network. Non-Sprint PCS roaming
revenues include payments from wireless service providers, other than Sprint
PCS, when those providers' subscribers roam on our network.
We record 100% of PCS subscriber revenues from our customers, Sprint PCS
roaming revenues from Sprint PCS subscribers based outside our markets and
non-Sprint PCS roaming revenues. Sprint PCS retains 8% of all collected service
revenue as a management fee. Collected service revenues include PCS subscriber
revenues and non-Sprint PCS roaming revenues, but exclude Sprint PCS roaming
revenues and revenues from sales of equipment. We report the amounts retained by
Sprint PCS as general and administrative expenses.
PCS equipment sales consist of digital handsets and accessories sold to our
customers. Certain of our equipment sales are made through independent
distributors under agreements allowing rights of return on merchandise unsold by
the distributors. We defer recognition of such sales until the merchandise is
sold by the distributors.
Other revenues include Internet access services, equipment systems sales,
and information services.
Internet access revenues for our bright.net services are monthly service
fees and other charges billed to our bright.net customers. Service fees
primarily consist of monthly recurring charges billed to customers.
Equipment system sales and other revenues consist of sales made by
Chillicothe Telephone to various businesses or other residential customers for
equipment used on the telephone system. Revenue also consists of paging services
provided by Horizon Technology until its divestiture of that business in
December, 2000.
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------------------------ ----------------------------------
2001 2000 2001 2000
---------------- ------------------ ------------------ ---------------
AMOUNT % AMOUNT % AMOUNT % AMOUNT %
----------- ---- ------------ ----- ------------ ---- ---------- ----
(Dollars in thousands, except PCS ARPU)
Landline telephone services $ 10,186 22 $ 9,690 51 $ 29,154 26 $ 28,667 57
Personal communications equipment and
service 35,170 74 7,441 40 79,111 69 16,367 32
Other revenues 2,008 4 1,660 9 5,487 5 5,305 11
----------- ------------ ------------ ----------
Total revenues $ 47,364 $ 18,791 $ 113,752 $ 50,339
=========== ============ ============ ==========
PCS ARPU (including roaming)(1) $ 88 $ 77 $ 84 $ 71
PCS ARPU (excluding roaming)(1) 57 56 55 52
- ---------------
(1) ARPU, average revenue per unit, is an industry term that measures total PCS
service revenues per month from our subscribers divided by the average
number of subscriber units for that month. ARPU, including roaming, is ARPU
with Sprint PCS roaming and travel and non-Sprint PCS roaming and travel.
ARPU excluding roaming excludes Sprint PCS roaming and travel and
non-Sprint PCS roaming and travel.
15
THREE MONTHS ENDED SEPTEMBER 30, 2001 COMPARED TO THREE MONTHS ENDED SEPTEMBER
30, 2000
Operating Revenues
Landline Telephone Services
2001 2000 $ change % change
---- ---- -------- --------
(Dollars in thousands)
Basic local, long-distance, and other landline $ 4,736 $ 5,139 $ (403) (8%)
Network access 5,449 4,550 899 20%
Long-distance service revenue decreased for the three months ended
September 30, 2001 as the Company continues to see lower usage for long-distance
service. We expect this trend to continue for the foreseeable future, as more
customers use wireless devices where long distance is included for one monthly
fee. The increase in network access was attributable to increased minutes of use
on our network and more circuits in use.
Personal Communications Equipment And Services
2001 2000 $ change % change
---- ---- -------- --------
(Dollars in thousands)
PCS service revenue $ 33,150 $ 6,791 $ 26,359 388%
PCS equipment revenue 2,020 650 1,370 211%
The growth in PCS service revenues is the result of the growth in our
customer base as well as an increase in travel and roaming revenue. Subscriber
revenues increased $16.4 million for the three months ended September 30, 2001.
We had 146,641 customers at September 30, 2001, compared to 36,007 at September
30, 2000. Our customer base has grown because we have launched additional
markets and increased our sales force.
PCS ARPU excluding roaming and travel increased for the three months ended
September 30, 2001 compared to the three months ended September 30, 2000 to $57
from $56 primarily as a result of higher monthly fees and increased minutes of
use by our customers.
Roaming revenues increased $10.0 million in the third quarter of 2001
compared to the same period in 2000. This increase primarily resulted from the
continued build-out of our network, including highways covering northwest Ohio,
northern Indiana and Pennsylvania. We expect continued volume increases in
Sprint PCS roaming revenues as we complete the remainder of our network
build-out.
On April 27, 2001, Sprint PCS and its affiliates agreed on a new roaming
rate structure, decreasing the per minute receivable and payable for roaming
usage from its previous amount of $0.20 per minute to $0.15 per minute on June
1, 2001, $0.12 per minute on October 1, 2001, and a cost return basis
(approximately $0.10 per minute) on January 1, 2002, and for the remainder of
the term of the Sprint PCS agreements. This change has not yet been documented
and may not represent the final agreements. We expect this decrease in the rate
to reduce our overall roaming revenue and expense per minute. We anticipate this
rate reduction to be offset by volume increases resulting in greater overall
roaming revenue and expense in the future.
PCS equipment revenues consist of handsets and accessories sold to
customers. Equipment revenues for the three months ended September 30, 2001 were
$2.0 million, compared to $650,000 for the three months ended September 30,
2000, an increase of $1.4 million. The increase in equipment revenues is the
result of our increase in customers. We added 40,373 customers during the three
months ended September 30, 2001 compared to 9,027 during the three months ended
September 30, 2000.
16
Other Revenues
2001 2000 $ change % change
---- ---- -------- --------
(Dollars in thousands)
Internet access services $ 800 $ 906 $ (106) (12%)
Equipment systems sale, information services,
and other revenues 1,208 755 453 60%
Other revenues were impacted by increased VDSL revenue as we continue to
build our customer base, offset by decreased revenues from our Bright.net
internet services. Our internet service saw a decrease in customers in the third
quarter of 2001 compared to the same period in 2000.
Operating Expenses
Cost of goods sold. Cost of goods sold primarily includes the costs of
handsets and accessories sold to customers. Cost of goods sold also includes, to
a lesser extent, the cost of business system sales incurred by Chillicothe
Telephone. Cost of goods sold for the three months ended September 30, 2001 was
$4.3 million, compared to $2.2 million for the three months ended September 30,
2000, an increase of $2.1 million. The increase in the cost of goods sold is the
result of the growth in our wireless customers partially offset by the
decreasing unit cost of the handsets. We added 40,373 customers in the third
quarter of 2001 compared to 9,027 in the third quarter of 2000. For competitive
and marketing reasons, we have sold handsets to our customers below our cost and
expect to continue to sell handsets at a price below our cost for the
foreseeable future.
Cost of services. Cost of services for Chillicothe Telephone and Horizon
Technology includes the support, switching, access, and circuitry expenses
utilized for maintaining telephone service. Cost of services also includes
expenses related to Chillicothe Telephone's VDSL service. Cost of services for
Horizon PCS includes site rent, utilities, maintenance, engineering and network
personnel, interconnection expenses, Sprint PCS roaming fees, non-Sprint roaming
fees, and other expenses related to operations. Horizon PCS pays Sprint PCS
roaming fees when Horizon PCS' customers use Sprint PCS' network outside of our
territory. Horizon PCS pays non-Sprint PCS roaming fees to other wireless
service providers when our customers use their networks. Also included in cost
of services are costs incurred under Horizon PCS' network services agreement
with the Alliances. Horizon PCS recently negotiated an amendment to its
agreement with the Alliances and a related amendment to its Sprint PCS
agreements. Under this agreement, Horizon PCS is obligated to pay a fixed
minimum monthly fee for a stated minimum period. Horizon PCS expects to incur
lower overall fees under this agreement at expected usage levels. The Alliances
are also obligated to upgrade their networks to provide 3G technology. In
connection with this amendment, the Alliances agreed with Sprint PCS to modify
their networks to cause Sprint PCS to be in compliance with the FCC's
construction requirements for PCS networks. Horizon PCS would be responsible for
completion of the network modification if the Alliances fail to comply.
Under Horizon PCS' build-to-suit agreement with SBA, Horizon PCS receives
site development fees for towers SBA constructs and leases to Horizon PCS. Each
site development fee received is recorded as a deferred credit and is amortized
over the term of the lease, thereby effectively reducing our tower lease
expense.
Cost of services for the three months ended September 30, 2001 was $32.2
million, compared to $11.1 million for the three months ended September 30,
2000, an increase of $21.1 million. Of the increase, $21.2 million was related
to Horizon PCS, while Chillicothe Telephone and Horizon Technology were
essentially flat, decreasing by $100,000.
Horizon PCS' increase in cost of services reflects the increase in Sprint
PCS roaming fees, including long distance charges of $8.5 million, the increase
in costs incurred under our network services agreement with the Alliances of
$3.0 million, the increase in network operations, including tower lease expense,
circuit costs and payroll expense of $4.7 million, increased customer care,
activations, and billing expenses of $3.6 million, and the increase in other
variable expenses of $1.4 million.
17
Selling and marketing expenses. Selling and marketing expenses consist of
costs associated with operating Horizon PCS' 30 retail stores, including
marketing, advertising, payroll, and sales commissions. Selling and marketing
expense also includes salaries and commissions paid to our sales representatives
and sales support personnel, commissions paid to national and local third party
distribution channels and subsidies on handsets sold by third parties for which
we do not record revenue, and expenses related to Chillicothe Telephone and
Horizon Technology marketing and advertising programs.
Selling and marketing expenses rose to $13.6 million for the three months
ended September 30, 2001 compared to $4.7 million for the same period in 2000,
an increase of $8.9 million. Horizon PCS' increase was $8.9 million, while
Chillicothe Telephone and Horizon Technology were flat.
The Horizon PCS increase reflects the increase in the costs of operating 30
retail stores of $3.8 million, the increased subsidies on handsets sold by third
parties of $3.8 million and an increase in commissions paid to third parties of
$1.3 million.
General and administrative expenses. General and administrative costs
include the costs related to corporate support functions. These include finance
functions, billing and collections, accounting services, computer access and
administration, executive, supervisory, consulting, customer relations, human
resources and other administrative services. The Sprint management fee is also
included in general and administrative expenses.
General and administrative expenses rose by $3.5 million to $11.2 million
for the three months ended September 30, 2001 compared to the same period last
year. Horizon PCS' increase was $3.4 million which reflects an increase in the
provision of uncollectible accounts of $1.2 million, an increase in the Sprint
PCS management fee of $1.3 million and an increase in other general expenses
including property taxes of $900,000. Chillicothe Telephone and Horizon
Technology were essentially flat, increasing by $100,000.
Non-cash compensation expense. For the three months ended September 30,
2001 and 2000, we recorded stock-based compensation expense of approximately
$102,000 and $156,000, respectively. This compensation expense is the
amortization of the value of stock options granted in November 1999. All of the
compensation expense represents general and administrative expense. Stock-based
compensation expense will continue to be recognized through the conclusion of
the vesting period for these options in 2005. The annual non-cash compensation
expense expected to be recognized for these options is approximately $441,000 in
2001, $413,000 in 2002, $389,000 in 2003, $193,000 in 2004, and $71,000 in 2005.
Depreciation and amortization expense. Depreciation and amortization
expenses increased by $3.8 million to a total of $7.2 million in 2001. The
increase reflects the continuing construction of our PCS network as well as
capital additions for VDSL and other telephone services. Because our acquisition
of Bright PCS was accounted for as a purchase transaction, amortization has
increased as a result of amortizing the intangible assets.
At September 30, 2000, Horizon PCS recorded an intangible asset of $13.4
million for the value of warrants we agreed to grant to Sprint. The intangible
asset will be amortized over the remaining term of the Sprint PCS management
agreement, resulting in $752,000 of amortization expense per year. Amortization
expense for the three months ended September 30, 2001 was approximately
$188,000.
Goodwill amortization will cease as of December 31, 2001 with the adoption
of SFAS No. 142. The Company has not determined the financial impact the
adoption of SFAS No. 142 will have on its financial position or results of
operations.
Subsidiaries preferred stock dividend. Horizon PCS' convertible preferred
stock pays a stock dividend at the rate of 7.5% per annum, payable semi-annually
commencing April 30, 2001. On May 1, 2001 we issued an additional 1,163,051
shares of preferred stock in payment of the stock dividend through April 30,
2001 and on November 1, 2001, we issued 1,021,882 shares of preferred stock in
payment of the stock dividend through October 31, 2001. For the three months
ended September 30, 2001, we accrued a stock dividend of $2.8 million.
18
Interest income and other, net. Interest income and other for the three
months ended September 30, 2001 was $519,000 and consisted primarily of interest
income. Interest income was generated from the short-term investment of cash
proceeds from Horizon PCS' private equity sales, senior discount notes and
drawings under the senior secured credit facility, all completed on September
26, 2000. As capital expenditures are made to complete the build-out of our
network, decreasing cash balances will result in lower daily interest income in
the future.
Interest expense, net. Interest expense for the three months ended
September 30, 2001 was $6.5 million, compared to $2.2 million in 2000, and
consisted of interest on debt. The increase in interest expense is the result of
our additional debt outstanding during the three months ended September 30, 2001
compared to the same period in 2000.
Chillicothe Telephone's line of credit resulted in additional interest
expense of approximately $200,000 for the three months ended September 30, 2001.
Chillicothe Telephone's line of credit accrues interest on the outstanding
balance at a fluctuating rate tied to the LIBOR rate (5.2% as of September 30,
2001) and is due and payable monthly. The outstanding balance at September 30,
2001 was $18.4 million.
Horizon PCS' interest expense for the three months ended September 30, 2001
was $6.0 million. Interest on Horizon PCS' senior secured credit facility
accrues at LIBOR plus our specified margin (approximately 6.9% at September 30,
2001). Horizon PCS accrues interest at a rate of 14% per annum on the senior
discount notes through October 1, 2005 and will pay interest semi-annually in
cash thereafter. We expect our interest expense to increase in the future as we
borrow under the senior credit facility to fund the network build out and
operating losses. Interest expense also includes the amortized amount of
deferred financing fees related to the senior secured credit facility, senior
discount notes, and the amortization of the related warrants. At June 29, 2001,
we agreed to several changes in the senior credit facility including a 0.25%
increase in the annual interest rate. We expect our interest expense to increase
in the future as we borrow under the senior credit facility to fund the network
build-out and operating losses.
Income tax expense (benefit). Income tax expense was approximately $458,000
for the three months ended September 30, 2001. As a result of the sale of
Horizon PCS convertible preferred stock in September 2000, Horizon PCS will not
be able to participate in the tax sharing agreement with its parent nor will
Horizon Telcom be able to recognize any net operating loss benefits from Horizon
PCS. We expect to continue to record income tax expense as a result of this tax
deconsolidation. Horizon PCS is unable to recognize any tax benefits from its
net operating losses until it generates taxable income.
Minority interest in loss. As part of the acquisition of Bright Personal
Communication Services, LLC (Bright), the former members of Bright have a 7.974%
ownership in Horizon PCS, excluding the impact of the possible conversion of
convertible preferred stock and exercise of options and warrants. Horizon Telcom
accounts for this ownership by recording the portion of net income (loss)
attributable to the minority shareholders as minority interest in earnings
(loss) in the accompanying consolidated statement of operations. For the three
months ended September 30, 2000, $1.4 million was allocated to the minority
interest. There will not be any further allocations to minority interests until
such time as Horizon PCS becomes profitable and any unallocated losses to
minority interests are offset with income in future periods.
Extraordinary loss. As a result of the September 26, 2000 financings,
Horizon PCS retired long term debt payable to financial institutions. As a
result of the debt extinguishments, Horizon PCS expensed the unamortized portion
of the related financing costs, as well as fees associated with the debt
extinguishments. These fees and expenses amounted to approximately $748,000 and
are shown on the statement of operations net of a tax benefit of $262,000.
Other comprehensive income (loss). In the first quarter of 2001, Horizon
PCS entered into a two year interest rate swap effectively fixing $25.0 million
of our term loan at a rate of 9.4%. In the third quarter of 2001, Horizon PCS
entered into a two year interest rate swap effectively fixing the remaining
$25.0 million of our term loan at 7.65%. Horizon PCS does not expect the effects
of the swaps to have a material impact to interest expense for the remainder of
2001. Other comprehensive income (loss) may fluctuate based on changes in the
fair value of the swap instruments. An other comprehensive loss of $326,000 and
an other expense of $7,000 was recorded for the three months ended September 30,
2001.
19
NINE MONTHS ENDED SEPTEMBER 30, 2001 COMPARED TO NINE MONTHS ENDED SEPTEMBER 30,
2000
Operating Revenues
Landline Telephone Services
2001 2000 $ change % change
---- ---- -------- --------
(Dollars in thousands)
Basic local, long-distance, and other landline $14,664 $15,503 $ (839) (5%)
Network access 14,490 13,164 1,326 10%
The decrease in basic local and long-distance was primarily caused by lower
usage of long distance service. We expect this trend to continue in the
foreseeable future as more customers use wireless devices where long distance is
included for one monthly fee. Network access increased from the prior year due
to increased minutes of use from carriers utilizing our access lines.
Personal Communication Equipment And Services
2001 2000 $ change % change
---- ---- -------- --------
(Dollars in thousands)
PCS service revenue $74,516 $14,622 $ 59,894 410%
PCS equipment revenue 4,595 1,745 2,850 163%
The growth in PCS service revenues is the result of the growth in our
customer base as well as an increase in travel and roaming revenue. Subscriber
revenues increased $38.1 million for the nine months ended September 30, 2001.
We had 146,641 customers at September 30, 2001, compared to 36,007 at September
30, 2000. Our customer base has grown because we have launched additional
markets and increased our sales force.
PCS ARPU excluding roaming and travel increased for the nine months ended
September 30, 2001 compared to the nine months ended September 30, 2000 to $55
from $52 primarily as a result of higher monthly fees and increased minutes of
use by our customers.
Roaming revenues increased $21.8 million in the first nine months of 2001
compared to the same period in 2000. This increase primarily resulted from the
continued build-out of our network, including highways covering northwest Ohio,
northern Indiana and Pennsylvania. We expect continued volume increases in
Sprint PCS roaming revenues as we complete the remainder of our network
build-out.
On April 27, 2001, Sprint PCS and its affiliates agreed on a new roaming
rate structure, decreasing the per minute receivable and payable for roaming
usage from its previous amount of $0.20 per minute to $0.15 per minute on June
1, 2001, $0.12 per minute on October 1, 2001, and a cost return basis
(approximately $0.10 per minute) on January 1, 2002, and for the remainder of
the term of the Sprint PCS agreements. This change has not yet been documented,
and may not represent the final arrangement We expect this decrease in the rate
to reduce our overall roaming revenue and expense per minute. We anticipate this
rate reduction to be offset by volume increases resulting in greater overall
roaming revenue and expense in the future.
PCS equipment revenues consist of handsets and accessories sold to
customers. Equipment revenues for the nine months ended September 30, 2001 were
$4.6 million, compared to $1.7 million for the nine months ended September 30,
2000, an increase of $2.9 million. The increase in equipment revenues is the
result of our increase in customers.
20
Other Revenues
2001 2000 $ change % change
---- ---- -------- --------
(Dollars in thousands)
Internet access services $2,390 $ 2,743 $(353) (13%)
Equipment systems sale, information services,
and other revenues 3,098 2,563 535 21%
Other revenues were essentially flat for the nine months ending September
30, 2001 compared to the same period in 2000. A lower customer base resulted in
lower internet access revenue but was offset by increased VDSL revenues.
Operating Expenses
Cost of goods sold. Cost of goods sold for the nine months ended September
30, 2001 was $9.2 million, compared to $5.6 million for the nine months ended
September 30, 2000, an increase of $3.6 million. The increase in the cost of
goods sold is the result of the growth in our wireless customers partially
offset by the decreasing unit cost of the handsets. For competitive and
marketing reasons, we have sold handsets to our customers below our cost and
expect to continue to sell handsets at a price below our cost for the
foreseeable future.
Cost of services. Cost of services for the nine months ended September 30,
2001 was $77.8 million, compared to $26.4 million for the nine months ended
September 30, 2000, an increase of $51.4 million. Chillicothe Telephone and
Horizon Technology cost of services increased $400,000 from the nine months
ended September 30, 2000 compared to the nine months ended September 30, 2001.
This increase was a result of increased web design, Bright.net, network access
and VDSL service expenses.
Horizon PCS' increase of $51.0 million in cost of services reflects the
increase in Sprint PCS roaming fees, including long distance charges, of $20.2
million, the increase in costs incurred under our network services agreement
with the Alliances of $9.5 million, the increase in network operations,
including tower lease expense, circuit costs and payroll expenses, of $12.3
million, increased customer care, activations, and billing expense of $7.0
million, and the increase in other variable expenses, including switching and
national platform expenses of $2.0 million.
Horizon PCS recently negotiated an amendment to its agreement with the
Alliances and a related amendment to its Sprint PCS agreements. Under this
agreement, Horizon PCS is obligated to pay a fixed minimum monthly fee for a
stated minimum period. Horizon PCS expects to incur lower overall fees under
this agreement at expected usage levels. The Alliances are also obligated to
upgrade their networks to provide 3G technology. In connection with this
amendment, the Alliances agree with Sprint PCS to modify their networks to cause
Sprint PCS to be incompliance with the FCC's construction requirements for PCS
networks. Horizon PCS would be responsible for completion of the network
modification if the Alliances fail to comply.
Selling and marketing expenses. Selling and marketing expenses rose to
$32.3 million for the nine months ended September 30, 2001, compared to $10.0
million for the same period in 2000, an increase of $22.3 million. Horizon PCS'
increase was $22.7 million, while Chillicothe Telephone and Horizon Technology
decreased $400,000 for the nine months ended September 30, 2001 compared to the
same period in the prior year. Chillicothe Telephone and Horizon Technology's
decrease was a result of less advertising expenses incurred.
The Horizon PCS increase reflects the increase in costs of operating 30
retail stores, including marketing and advertising in our sales territory, of
$13.8 million, the increase in subsidies on handsets sold by third parties of
$6.6 million, and the increase in commissions paid to third parties of $2.3
million. We expect selling and marketing expense to increase in aggregate as we
expand our coverage area and add customers.
General and administrative expenses. General and administrative expense for
the nine months ended September 30, 2001 were $29.7 million compared to $18.4
million in 2001, an increase of $11.3 million. Horizon PCS' increase was $11.1
21
million, while Chillicothe Telephone and Horizon Technology were essentially
flat, increasing $200,000 for the nine months ending September 30, 2001 compared
to the same period in the prior year.
The increase of $11.1 million in Horizon PCS reflects an increase in the
provision for uncollectible accounts of $3.0 million, an increase in the Sprint
PCS management fee of $3.2 million, increased professional fees, including
non-recurring costs related to pursuing strategic business alternatives, of $1.3
million, increased headcount and professional services at Horizon Services,
needed to support our growth, of $1.6 million, and other general expenses,
including property and franchise taxes of $2.0 million.
Non-cash compensation expense. For the nine months ended September 30, 2001
and 2000, we recorded stock-based compensation expense of approximately $1.0
million and $531,000, respectively. The $1.0 million includes $725,000 related
to the distribution of 7,249 shares of Horizon Telcom stock to employees of
Horizon PCS and $322,000 for certain stock options granted in November 1999.
Approximately $100,000 of the 2000 expense related to cost of services; the
remainder of the compensation expense represents general and administrative
expense. Stock-based compensation expense will continue to be recognized through
the conclusion of the vesting period for these options in 2005. The annual
non-cash compensation expense expected to be recognized for these options is
approximately $441,000 in 2001, $413,000 in 2002, $389,000 in 2003, $193,000 in
2004, and $71,000 in 2005.
Depreciation and amortization expense. Depreciation and amortization
expenses increased by $10.1 million to a total of $18.6 million in 2001. The
increase reflects the continuing construction of our PCS network as well as
capital additions for VDSL and other telephone services. Because our acquisition
of Bright PCS was accounted for as a purchase transaction, amortization has
increased as a result of amortizing the intangible assets.
At September 30, 2000, Horizon PCS recorded an intangible asset of $13.4
million for the value of warrants we agreed to grant to Sprint. The intangible
asset will be amortized over the remaining term of the Sprint PCS management
agreement, resulting in $752,000 of amortization expense per year. Amortization
expense for the nine months ended September 30, 2001 was approximately $564,000.
Goodwill amortization will cease as of December 31, 2001 with the adoption
of SFAS No. 142. The Company has not determined the financial impact the
adoption of SFAS No. 142 will have on its financial position or results of
operations.
Subsidiaries preferred stock dividend. Horizon PCS' convertible preferred
stock pays a stock dividend at the rate of 7.5% per annum, payable semi-annually
commencing April 30, 2001. For the nine months ended September 30, 2001, we
accrued a stock dividend of $8.2 million. On May 1, 2001, Horizon PCS issued an
additional 1,163,051 shares of preferred stock in payment of the stock dividend
through April 30, 2001 and on November 1, 2001, we issued an additional
1,021,882 shares of preferred stock in payment of the stock dividends through
October 31, 2001.
Interest income and other, net. Interest income and other for the nine
months ended September 30, 2001 was $4.9 million and consisted primarily of
interest income of approximately $4.7 million and other miscellaneous income of
approximately $200,000. Interest income was generated from cash proceeds from
Horizon PCS' private equity sales, senior discount notes and drawings under the
senior secured credit facility, all completed on September 26, 2000. As capital
expenditures are made to complete the build-out of our network, decreasing cash
balances will result in lower daily interest income in the future.
Interest expense, net. Interest expense for the nine months ended September
30, 2001 was $20.3 million, compared to $4.9 million in 2000, and consisted of
interest on debt. The increase in interest expense is the result of our
additional debt outstanding during the nine months ended September 30, 2001
compared to the same period in 2000.
Chillicothe Telephone's line of credit resulted in additional interest
expense of approximately $700,000 for the nine months ended September 30, 2001.
Chillicothe Telephone's line of credit accrues interest on the outstanding
balance at a fluctuating rate tied to the LIBOR rate (5.2% as of September 30,
2001) and is due and payable monthly.
22
Horizon PCS' interest expense for the nine months ended September 30, 2001
was $18.7 million. Interest on Horizon PCS' senior secured credit facility
accrues at LIBOR plus our specified margin (approximately 6.9% at September 30,
2001). Horizon PCS accrues interest at a rate of 14% per annum on the senior
discount notes through October 1, 2005 and will pay interest semi-annually in
cash thereafter. At June 29, 2001, we agreed to several changes in the senior
credit facility including a 0.25% increase in the annual interest rate. We
expect our interest expense to increase in the future as we borrow under the
senior credit facility to fund the network build-out and operating losses.
Income tax expense (benefit). Income tax expense was approximately $1.5
million for the nine months ended September 30, 2001 compared to a benefit of
approximately $94,000 for the nine months ended September 30, 2000. We expect to
continue to record income tax expense as a result of the tax deconsolidation
that occurred in September 2000.
Minority interest in loss. As part of the acquisition of Bright Personal
Communication Services, LLC (Bright), the former members of Bright have a 7.974%
ownership in Horizon PCS, excluding the impact of the possible conversion of
convertible preferred stock and exercise of options and warrants. Horizon Telcom
accounts for this ownership by recording the portion of net income (loss)
attributable to the minority shareholders as minority interest in earnings
(loss) in the accompanying consolidated statement of operations. For the nine
months ended September 30, 2001, approximately $1.0 million of the net loss for
the year was allocated to the minority interest, reducing the minority interest
balance to zero. There will be no further allocations to minority interests
until such time as Horizon PCS becomes profitable and any unallocated losses to
minority interests are offset with income in future periods.
Extraordinary loss. As a result of the September 26, 2000 financings,
Horizon PCS retired long term debt payable to financial institutions. As a
result of the debt extinguishments, Horizon PCS expensed the unamortized portion
of the related financing costs, as well as fees associated with the debt
extinguishments. These fees and expenses amounted to approximately $748,000 and
are shown on the statement of operations net of a tax benefit of $262,000.
Other comprehensive income (loss). In the first quarter of 2001, Horizon
PCS entered into a two year interest rate swap effectively fixing $25.0 million
of our term loan at a rate of 9.4%. In the third quarter of 2001, Horizon PCS
entered into a two year interest rate swap effectively fixing the remaining
$25.0 million of our term loan at 7.65%. Horizon PCS does not expect the effects
of these swaps to have a material impact to interest expense for the remainder
of 2001. Other comprehensive income may fluctuate based on changes in the fair
value of the swap instrument. An other comprehensive loss of approximately
$679,000 was recorded for the nine months ended September 30, 2001.
LIQUIDITY AND CAPITAL RESOURCES
In 1996, Horizon Telcom was formed as part of a reorganization of
Chillicothe Telephone and several of its affiliates. Since that time, Horizon
Telcom has met its needs for capital primarily by borrowing, by selling selected
businesses and assets, and by funds generated from operations. In 2000, Horizon
Telcom also formed Horizon PCS, to which it transferred its subsidiary Horizon
Personal Communications. In June 2000, Horizon PCS acquired the remaining 74% of
Bright PCS. Horizon PCS also entered into several major financing transactions
in September 2000.
At September 30, 2001, we had cash and cash equivalents of $41.2 and
working capital of $10.9 million. At December 31, 2000, we had cash and cash
equivalents of $192.0 million and working capital of $153.0 million. The
decrease in cash and cash equivalents of $150.8 million is attributable to
funding our loss from continuing operations of $78.9 million (this loss also
includes certain non-cash charges) and funding our capital expenditures of
$101.5 million for the nine months ended September 30, 2001.
23
Net cash used in operating activities was $55.4 million for the nine months
ended September 30, 2001. This reflects the continuing use of cash for our
operations to build our Horizon PCS customer base, including but not limited to
providing service in our markets and the costs of acquiring a new customer. For
the nine months ended September 30, 2001, our cost per gross additional customer
was approximately $337 per customer. Increases to depreciation and other
non-cash charges were offset by an increase in accounts receivable and decreases
in accounts payable and other accrued liabilities.
Net cash used in investing activities was $98.6 million for the nine months
ended September 30, 2001, reflecting the continuing build-out of the Horizon PCS
network as well as the deployment of capital necessary to offer VDSL service. At
September 30, 2001, we operated approximately 529 cell sites in our PCS network.
This represents an addition of approximately 226 sites during 2001. In addition
to the sites, we have increased the number of switching stations in our
territory and have increased our number of retail stores from 16 at the end of
2000 to 30 at September 30, 2001. We expect additional capital expenditures as
we complete the build-out of our network, including adding approximately 10 more
stores, completing additional cell sites, and expanding capacity at our switches
as needed.
Net cash provided by financing activities for the nine months ended
September 30, 2001 was $3.2 million consisting primarily of borrowings of $5.7
million under Chillicothe Telephone's line of credit, offset by dividends paid
of $1.3 million and Horizon PCS deferred financing fees. With the amendment to
the senior secured credit facility on June 29, 2001, Horizon PCS paid a fee of
$875,000.
For 2001, we anticipate our annual funding needs will be approximately
$220.0 million, of which $145.0 million will be used for capital expenditures,
and the remainder will be used to fund working capital and operating losses. The
terms of their respective credit agreements prohibit or severely restrict the
ability of Chillicothe Telephone and Horizon PCS to provide funds to their
affiliates in the event the affiliate experiences a shortfall. However, we
anticipate that our cash and borrowings under existing financing agreements will
be adequate to fund our capital expenditures, anticipated operating losses and
working capital requirements over the next twelve months. The actual funds
required to build out the network and to fund operating losses, working capital
needs and other capital needs may vary materially from our estimates and
additional funds may be required because of an expansion of our territory,
unforeseen delays, cost overruns, unanticipated expenses, regulatory changes,
engineering design changes and required technological upgrades and other
technological risks. If we are unable to obtain any necessary additional funding
and we are unable to complete our network build-out, this may result in a
termination of Horizon PCS' Sprint PCS agreement. We will no longer be able to
offer Sprint PCS products and services. In this event, Sprint PCS may purchase
Horizon PCS' operating assets or capital stock for 72% of the entire business
value. Also, any delays in our build-out may result in penalties under our
Sprint PCS agreements, as amended.
SEASONALITY
Our wireless telephone business is subject to seasonality because the
wireless industry is heavily dependent on calendar fourth quarter results. Among
other things, that industry relies on significantly higher customer additions
and handset sales in the calendar fourth quarter as compared to the other three
calendar quarters. A number of factors contribute to this trend, including:
o The increasing use of retail distribution, which is more dependent
upon the year-end holiday shopping season;
o The timing of new product and service announcements and introductions;
o Competitive pricing pressures; and
o Aggressive marketing and promotions.
INFLATION
We believe that inflation has not had, and will not have, a material
adverse effect on our results of operations.
24
NEW ACCOUNTING STANDARDS
In June 1998, the FASB issued Statement of Financial Accounting Standards
No. 133 (SFAS 133), Accounting for Derivative Instruments and Hedging
Activities, as amended in June 2000 by Statement of Financial Accounting
Standards No. 138 (SFAS 138), Accounting for Certain Derivative Instruments and
Certain Hedging Activities, which requires companies to recognize all
derivatives as either assets or liabilities in the balance sheet and measure
such instruments at fair value. As amended by Statement of Financial Accounting
Standards No. 137 (SFAS 137), Accounting for Derivative Instruments and Hedging
Activities - Deferral of the Effective Date of FASB Statement No. 133, the
provisions of SFAS 133 required adoption to all fiscal quarters of all fiscal
years beginning after June 15, 2000. The adoption did not have a material effect
on Horizon PCS' consolidated results of operations, financial position, or cash
flows.
On December 3, 1999, the SEC issued Staff Accounting Bulletin No. 101 (SAB
101), Revenue Recognition in Financial Statements which required adoption during
the first quarter of fiscal 2000. The adoption did not have a material effect on
Horizon PCS' consolidated results of operations.
In July 2001, the Financial Accounting Standards Board issued SFAS No. 141,
Business Combinations and SFAS No. 142, Goodwill and Other Intangible Assets.
SFAS No. 141 addresses financial accounting and reporting for all business
combinations and requires that all business combinations entered into subsequent
to June 2001 be recorded under the purchase method. This statement also
addresses financial accounting and reporting for goodwill and other intangible
assets acquired in a business combination at acquisition. SFAS No. 142 addresses
financial accounting and reporting for intangible assets acquired individually
or with a group of other assets at acquisition. This statement also addresses
financial accounting and reporting for goodwill and other intangible assets
subsequent to their acquisition.
These statements will be adopted by the Company on January 1, 2002.
Goodwill amortization will cease as of December 31, 2001 and the Company will be
required to complete an impairment test of the remaining goodwill balance
annually (more frequently if impairment indicators arise). The Company has not
yet determined the financial impact the adoption of these pronouncements will
have on its financial position or results of operations. As of September 30,
2001, Horizon PCS has goodwill of approximately $7.3 million related to the
acquisition of Bright PCS in June 2000. The valuation of this goodwill would be
subject to an impairment test at the date of adoption.
In June, 2001, the Financial Accounting Standards Board issued SFAS No.
143, Accounting for Asset Retirement Obligations. This statement addresses
financial accounting and reporting for obligations associated with the
retirements of tangible long-lived assets and the associated asset retirement
costs. It applies to legal obligations associated with the retirement of
long-lived assets that result from the acquisition, construction, development
and (or) the normal operation of a long-lived asset. The Company will adopt this
statement effective January 1, 2003. The Company has not yet determined the
financial impact the adoption will have on its financial position or results of
operations.
In August, 2001, the Financial Accounting Standards Board issued SFAS No.
144, Accounting for the Impairment or Disposal of Long-Lived Assets. SFAS No.
144 addresses financial accounting and reporting for the impairment of
long-lived assets. The statement supersedes SFAS No. 121, Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of, and
the accounting and reporting provisions of APB Opinion No. 30. SFAS No. 144
removes goodwill from its scope, as goodwill will be addressed in the impairment
test described above under SFAS No. 142. SFAS No. 144 also describes the cash
flow estimation approach used in determining impairment. The Company will adopt
SFAS No. 144 on January 1, 2002. The Company has not yet determined the
financial impact the adoption will have on its financial position or results of
operations.
25
FORWARD-LOOKING STATEMENTS
The foregoing discussion contains forward-looking statements that involve
risks and uncertainties. Our actual results could differ significantly and
materially from the results anticipated in these forward-looking statements.
Risks and uncertainties that may affect our business include the risk that (i)
we may not be able to compete effectively; (ii) we may not be able to
successfully integrate new technologies or respond effectively to customer
requirements; (iii) system failure could cause delays or interruptions in
service; (iv) our back office and customer care systems maybe unable to meet the
needs of our customers; (v) the market for our services may not continue to
grow; (vi) our business is subject to significant regulatory risks; (vii)
Horizon PCS has not had any profitable years in the past five years and may not
achieve or sustain operating profitability or positive cash flow from operating
activities; (viii) Sprint PCS may terminate the Sprint PCS agreements, as for
example, if Horizon PCS fails to complete its required network build-out; (ix)
Horizon PCS has substantial debt which it may not be able to service, resulting
in a default; (x) we may not be able to manage our anticipated rapid growth;
(xi) Sprint PCS may have difficulty obtaining infrastructure equipment or
handsets; (xii) the Alliances may fail to provide their network to Horizon PCS
affecting our service to markets in Virginia and West Virginia or we may incur
significant expense to overbuild those markets; (xiii) Horizon PCS may not
receive as much Sprint PCS roaming revenue as anticipated; (xiv) we may not be
able to offer competitive roaming capability; (xv) we may need more capital than
we currently project; and (xvi) use of hand-held PCS phones may pose health
risks. See "Item 1. Business-Risk Factors" in Horizon Telcom's Form 10 filed
with the Securities and Exchange Commission. That information is incorporated
herein by reference.
26
Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
We do not engage in commodity futures trading activities and do not enter
into derivative financial instruments for trading or other speculative purposes.
We also do not engage in transactions in foreign currencies that would expose us
to market risk.
We will be subject to interest rate risk on Horizon PCS' senior secured
credit facility and any future floating rate financing requirements.
The following table presents the estimated future outstanding long-term
debt at the end of each year and future required annual principal payments for
each year then ended associated with our financing based on our projected level
of long-term indebtedness:
Years Ending December 31,
--------------------------------------------------------------------
2001 2002 2003 2004 2005 Thereafter
---- ---- ---- ---- ---- ----------
Horizon PCS: (Dollars in millions)
- ------------
Senior secured credit facility $150.0 $150.0 $150.0 $150.0 $150.0 -
Variable interest rate (1) 10.5% 10.5% 10.5% 10.5% 10.5% 10.5%
Principal payments - - - - - $150.0
Senior discount notes $162.3 $184.9 $210.8 $240.0 $283.7 -
Fixed interest rate (2) 14.0% 14.0% 14.0% 14.0% 14.0% 14.0%
Principal payments - - - - - $295.0
Years Ending December 31,
--------------------------------------------------------------------
2001 2002 2003 2004 2005 Thereafter
---- ---- ---- ---- ---- ----------
Chillicothe Telephone: (Dollars in millions)
- ----------------------
1998 Senior notes $12.0 $12.0 $12.0 $12.0 $12.0 -
Fixed interest rate 6.62% 6.62% 6.62% 6.62% 6.62% 6.62%
Principal payments - - - - - $12.0
1993 Senior notes $10.0 $8.0 $6.0 $4.0 $2.0 -
Fixed interest rate 6.72% 6.72% 6.72% 6.72% 6.72% 6.72%
Principal payments $2.0 $2.0 $2.0 $2.0 $2.0 -
- ------------------------
(1) Interest rate on the senior secured credit facility equals the London
Interbank Offered Rate ("LIBOR") plus a margin that varies from 3.75% to
4.25%. The interest rate is assumed to equal 10.5% for all periods
presented.
(2) Assumed interest rate for senior discount notes, which will be paid in full
in 2010.
Our primary market risk exposure relates to:
o the interest rate risk on long-term and short-term borrowings, and
o the impact of interest rate movements on our ability to meet interest
expense requirements and meet financial covenants.
In the normal course of business, our operations are exposed to interest
rate risk on our senior secured credit facility. Our primary interest rate risk
exposures relate to 1) the interest rate on our financing, 2) our ability to
27
refinance our senior discount notes at maturity at market rates, and 3) the
impact of interest rate movements on our ability to meet interest expense
requirements and meet financial covenants under our debt instruments.
We manage the interest rate risk on our outstanding long-term debt through
the use of fixed and variable rate debt and interest rate swaps. In the first
quarter of 2001, we entered into an interest rate swap effectively fixing $25.0
million of our term debt at a rate of 9.4%. In the third quarter of 2001, we
entered into a two year interest rate swap effectively fixing the remaining
$25.0 million of our term loan at 7.65%. While we cannot predict our ability to
refinance existing debt or the impact interest rate movements will have on our
existing debt, we continue to evaluate out interest rate risk on an ongoing
basis.
As of September 30, 2001, approximately 75% of our variable rate long term
debt has been swapped for fixed rate debt, thus reducing our exposure to
interest rate risk. Therefore, an increase in the base lending rate would have a
less significant effect on our annual earnings. However, our swap interest rates
are currently greater than the market interest rates. Thus, our results from
operations currently reflect a higher interest expense than had we not hedged
our position. If we do not renew our swaps, or, if we do not hedge incremental
borrowings under our senior secured credit facility, of which we have $200.0
million available at September 30, 2001, we will increase our interest rate risk
which could have a material impact on our future earnings. An increase of 1% in
the base lending rate on our current unhedged portion of our borrowings would
result in a decrease in annual earnings of approximately $200,000.
The carrying value of the financial instruments approximate fair value.
28
PART II - OTHER INFORMATION
Item 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
3.1* Articles of Incorporation of Horizon Telcom, Inc.
3.2* Bylaws of Incorporation of Horizon Telcom, Inc.
4.1* Form of Stock Certificate
10.3.2+ Addendum VI to Sprint PCS Management Agreement between Horizon
PCS, Inc. and Sprint PCS, Inc. (incorporated herein by reference
to the Current Report on Form 8-K filed by Horizon PCS, Inc. on
August 24, 2001).
10.19.1+ Amendment to Network Services Agreement by and among Horizon PCS,
Inc., West Virginia PCS Alliance, L.C. and Virginia PCS Alliance,
L.C. (incorporated herein by reference to the Current Report on
Form 8-K filed by Horizon PCS, Inc. on August 24, 2001).
10.40.2 Second Amendment to Credit Agreement and Assignment, dated June
29, 2001, by and among Horizon Personal Communications, Inc. and
Bright Personal Communications Services, LLC, Horizon PCS, Inc.
(the "Parent") and certain Subsidiaries of the Parent, Existing
Lenders, New Lenders, First Union National Bank, as
Administrative Agent, Westdeutsche Landesbank Girozentrale, as
Syndication Agent and Arranger, and Fortis Capital Corp., as
Documentation Agent. (Incorporated by reference to the same
exhibit number in the Form 8-K filed by Horizon PCS, Inc. on July
3, 2001).
- ------------------------------
* Incorporated by reference to the exhibit with the same number previously
filed by the Registrant on Form 10 (Reg. No. 0-32617)
+ Horizon PCS, Inc. requested confidential treatment for certain portions of
this exhibit pursuant to Rule 24b-2 of the Securities Exchange Act of 1934.
(b) Reports on Form 8-K
1. On July 3, 2001, the Company filed a Current Report on Form 8-K
with the Securities and Exchange Commission that set forth the
registrant's press release regarding the amended agreement with
the Alliances and an amendment to its Sprint PCS agreements.
29
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 officer thereunto duly authorized.
HORIZON TELCOM, INC.
By: /s/ Thomas McKell
--------------------------------------
Thomas McKell
Chief Executive Officer
Date: November 13, 2001 By: /s/ Peter M. Holland
--------------------------------------
Peter M. Holland
Chief Financial Officer
(Principal Financial and
Chief Accounting Officer)
30
EXHIBIT INDEX
3.1* Articles of Incorporation of Horizon Telcom, Inc.
3.2* Bylaws of Incorporation of Horizon Telcom, Inc.
4.1* Form of Stock Certificate
10.3.2+ Addendum VI to Sprint PCS Management Agreement between Horizon
PCS, Inc. and Sprint PCS, Inc. (incorporated herein by reference
to the Current Report on Form 8-K filed by Horizon PCS, Inc. on
August 24, 2001).
10.19.1+ Amendment to Network Services Agreement by and among Horizon PCS,
Inc., West Virginia PCS Alliance, L.C. and Virginia PCS Alliance,
L.C. (incorporated herein by reference to the Current Report on
Form 8-K filed by Horizon PCS, Inc. on August 24, 2001).
10.40.2 Second Amendment to Credit Agreement and Assignment, dated June
29, 2001, by and among Horizon Personal Communications, Inc. and
Bright Personal Communications Services, LLC, Horizon PCS, Inc.
(the "Parent") and certain Subsidiaries of the Parent, Existing
Lenders, New Lenders, First Union National Bank, as
Administrative Agent, Westdeutsche Landesbank Girozentrale, as
Syndication Agent and Arranger, and Fortis Capital Corp., as
Documentation Agent. (Incorporated by reference to the same
exhibit number in the Form 8-K filed by Horizon PCS, Inc. on July
3, 2001).
- ------------------------------
* Incorporated by reference to the exhibit with the same number previously
filed by the Registrant on Form 10 (Reg. No. 0-32617)
+ Horizon PCS, Inc. requested confidential treatment for certain portions of
this exhibit pursuant to Rule 24b-2 of the Securities Exchange Act of 1934.
1409610v3