SECURITIES AND EXCHANGE COMMISSION
WASHINGTON D.C. 20549
FORM 10-Q
X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
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EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2003
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OR
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
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EXCHANGE ACT OF 1934
For the transition period from to
Commission file number 0-11174
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WARWICK VALLEY TELEPHONE COMPANY
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(Exact name of registrant as specified in its charter)
New York 14-1160510
- --------------------------------------------------------------------------------
(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification No.)
47 Main Street, Warwick, New York 10990
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(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (845) 986-8080
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Former name, former address and former fiscal year, if changed since last
report.
INDICATE BY CHECK 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
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Indicate by check mark if registrant is an accelerated filer (as defined
in Rule 12b-2 of the Act). YES X NO .
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Indicate the number of shares outstanding of each of the issuers' classes
of common stock, as of the latest practicable date: August 12, 2003 Common
Shares, no par value, outstanding at 1,800,359
INDEX TO FORM 10Q
PART 1 - FINANCIAL INFORMATION
1. Financial Statements
Consolidated Balance Sheets as of 6/30/03 (Unaudited) and 12/31/02 (unaudited). 3
Consolidated Statements of Income for the Three and Six Months ended 6/30/03 and 6/30/02 (Unaudited). 4
Consolidated Statements of Cash Flows for the Six Months ended 6/30/03 and 6/30/02 (Unaudited). 5
Notes to Consolidated Financial Statements (Unaudited). 6-9
2. Management's Discussion and Analysis of Financial Condition and Results of Operations 9-14
3. Quantative and Qualitative Disclosures about Market Risk. 15
4. Controls and Procedures. 15
PART 2 - OTHER INFORMATION
Item 5. Other Information 15
Item 6. Exhibits and Reports on Form 8-K. 15
Exhibits
31.1 Chief Executive Officer Certification
31.2 Chief Financial Officer Certification
32.1 Certification pursuant to 18 U.S.C. Section 1350, as
adopted pursuant to Section 906 of the Sarbanes-Oxley Act
of 2002 signed by M. Lynn Pike-principal Executive
Officer.
32.2 Certification pursuant to 18 U.S.C. Section 1350, as
adopted pursuant to Section 906 of the Sarbanes-Oxley Act
of 2002 signed by Philip A. Grybas-principal Financial
Officer.
Reports on Form 8-K -
8-K filed on June 30, 2003.
8-K filed on August 1, 2003.
2
ITEM 1. FINANCIAL STATEMENTS
WARWICK VALLEY TELEPHONE COMPANY
CONSOLIDATED BALANCE SHEETS
(Unaudited)
($ in thousands except per share amounts)
JUNE 30 DECEMBER 31
ASSETS 2003 2002
- ------ -------- --------
Current Assets:
Cash $ 1,760 $ 1,641
Accounts receivable - net of reserve for uncollectibles 3,183 3,428
Refundable income taxes 0 313
Materials and supplies 1,436 1,468
Prepaid expenses 663 544
-------- --------
Total Current Assets 7,042 7,394
Unamortized debt issuance expense 124 5
Intangible asset - pension 831 831
Other deferred charges 264 27
Investments 7,911 7,775
Property, Plant and Equipment:
Plant in service 65,729 63,358
Plant under construction 967 1,974
-------- --------
Total plant 66,696 65,332
Less: Accumulated depreciation 27,336 25,827
-------- --------
Total Property, Plant and Equipment 39,360 39,505
-------- --------
TOTAL ASSETS $ 55,532 $ 55,537
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities:
Notes payable $ 0 $ 5,000
Current maturities of long term debt 4,000 4,000
Accounts payable 1,476 2,652
Advance billing and payments 187 230
Customer deposits 119 125
Accrued taxes 205 66
Accrued interest 105 74
Pension and post retirement benefits 388 516
Other accrued expenses 692 537
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Total Current Liabilities 7,172 13,200
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Long-term Debt 3,149 0
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Deferred Credits and Other Long Term Liabilities
Deferred income taxes 4,250 3,978
Unamortized investment tax credits 16 22
Other deferred credits 20 20
Post retirement benefit obligation 3,212 2,812
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Total Deferred Credits and Other Long Term Liabilities 7,498 6,832
Stockholders' Equity
Preferred stock - 5% cumulative; $100 par value;
Authorized 7,500 shares; issued and outstanding 5,000 shares 500 500
Common stock - no par value; authorized shares 2,160,000 3,529 3,481
Issued 1,994,914 at 6/30/03 and 1,994,270 at 12/31/02
Treasury stock at cost, 194,561 (3,598) (3,598)
Minimum pension liability (269) (269)
Retained earnings 37,551 35,391
Total Stockholders' Equity 37,713 35,505
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TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 55,532 $ 55,537
======== ========
Please see the accompanying notes, which are an integral part of the
consolidated financial statements.
3
CONSOLIDATED STATEMENTS OF INCOME
FOR THE THREE AND SIX MONTHS ENDED JUNE 30, 2003 AND 2002
(Unaudited)
($ in thousands except per share amounts)
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
2003 2002 2003 2002
---- ---- ---- ----
OPERATING REVENUES:
Local network service $ 1,006 $ 987 $ 2,037 $ 2,092
Network access service 2,441 1,948 4,767 3,972
Long distance network service 472 502 965 1,001
Directory advertising 345 316 710 640
Long distance sales 449 475 912 953
Internet services 1,648 1,588 3,243 2,888
Other services and sales 830 822 1,702 1,678
--------------------------- ---------------------------
Total operating revenues 7,191 6,638 14,336 13,224
--------------------------- ---------------------------
OPERATING EXPENSES:
Plant specific 1,144 1,068 2,277 2,057
Plant non-specific:
Depreciation & amortization 1,237 981 2,401 1,938
Other 697 572 1,342 1,157
Customer operations 1,084 934 2,120 2,041
Corporate operations 1,203 820 2,271 1,750
Cost of services and sales 812 669 1,279 1,010
Property, sales and use and payroll taxes 326 382 715 727
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Total operating expenses 6,503 5,426 12,405 10,680
--------------------------- ---------------------------
OPERATING INCOME 688 1,212 1,931 2,544
OTHER INCOME (EXPENSES)
Interest expense & income (122) (141) (226) (269)
Income from cellular partnership 2,373 2,010 4,260 3,393
Other income (expense) 45 160 24 262
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Total other income (expense) - net 2,296 2,029 4,058 3,386
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INCOME BEFORE INCOME TAXES 2,984 3,241 5,989 5,930
FEDERAL INCOME TAXES 1,021 1,053 2,031 1,945
NET INCOME 1,963 2,188 3,958 3,985
PREFERRED DIVIDENDS 6 6 13 13
--------------------------- ---------------------------
INCOME APPLICABLE TO COMMON STOCK $ 1,957 $ 2,182 $ 3,945 $ 3,972
=========================== ===========================
BASIC AND DILUTED EARNINGS PER SHARE $ 1.09 $ 1.21 $ 2.19 $ 2.20
=========================== ===========================
WEIGHTED AVERAGE SHARES OF COMMON
STOCK OUTSTANDING 1,800,320 1,803,661 1,800,086 1,803,642
=========================== ===========================
Please see the accompanying notes, which are an integral part of the
consolidated financial statements.
4
WARWICK VALLEY TELEPHONE COMPANY
CONSOLIDATED STATEMENT OF CASH FLOWS
(Unaudited)
($ in thousands)
JUNE 30, JUNE 30,
2003 2002
-------- --------
CASH FLOW FROM OPERATING ACTIVITIES:
Net income $ 3,958 $ 3,985
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization 2,401 1,938
Deferred income tax and investment tax credit 580 107
Interest charged to construction (33) (199)
Income from partnership (4,260) (3,393)
Change in assets and liabilities:
(Increase) Decrease in accounts receivable 245 302
(Increase) Decrease in materials and supplies 32 (537)
(Increase) Decrease in prepaid expenses (119) (158)
(Increase) Decrease in deferred charges (237) 92
Increase (Decrease) in accounts payable (1,176) (537)
Increase (Decrease) in customers' deposits (6) (15)
Increase (Decrease) in advance billing and payment (43) 244
Increase (Decrease) in accrued expenses 170 28
Increase (Decrease) in post retirement benefits obligations 272 (1)
Increase (Decrease) in other liabilities 134 64
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Net cash provided by operating activities 1,918 1,920
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CASH FLOW FROM INVESTING ACTIVITIES:
Purchase of property, plant and equipment (2,250) (4,156)
Interest charged to construction 33 199
Distribution from partnership 4,125 2,250
Changes in other investments 0 (400)
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Net cash provided by (used in) investing activities 1,908 (2,107)
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CASH FLOW FROM FINANCING ACTIVITIES:
Increase (Decrease) in notes payable (5,000) 1,650
Proceeds from issuance of long term debt 3,149 0
Unamortized debt issuance (127) 0
Dividends (Common & Preferred) (1,777) (1,564)
Sale of common stock 48 5
Net cash provided by (used in) financing activities (3,707) 91
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Increase (Decrease) in cash and cash equivalents 119 (96)
Cash and cash equivalents at beginning of year 1,641 580
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Cash and cash equivalents at end of period $ 1,760 $ 484
======= =======
Please see the accompanying notes, which are an integral part of the
consolidated financial statements.
5
WARWICK VALLEY TELEPHONE COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BASIS OF PRESENTATION
The accompanying unaudited condensed consolidated financial statements
of Warwick Valley Telephone Company ("the Company") have been prepared in
accordance with generally accepted accounting principles for interim financial
information and with the instructions to Form 10-Q and Article 10 of Regulation
S-X. Accordingly, they do not include all of the information and footnotes
required by generally accepted accounting principles for complete financial
statements. In the opinion of the Company's management, all adjustments
(consisting of normal recurring accruals) considered necessary for fair
presentation have been included. Operating results for the three and six month
periods ended June 30, 2003 are not necessarily indicative of the results that
may be expected for the entire year.
The dollar amounts presented are rounded to the nearest thousand. The
consolidated financial statements include the accounts of the Company and its
wholly owned subsidiaries. All material intercompany transactions and balances
have been eliminated in the consolidated financial statements.
Our investment in the Orange County-Poughkeepsie Limited Partnership
(O-P) is accounted for under the equity method of accounting. Our other
investments, where we do not exercise significant control or receive income
distributions, are accounted for under the cost method of accounting.
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements, and the reported amounts of revenues and expenses during the
reported period. Actual results could differ from those estimates. The balance
sheet as of December 31, 2002 has been derived from the audited consolidated
financial statements at that date. The interim consolidated financial statements
should be read in conjunction with the consolidated financial statements and
notes thereto included in the Company's latest annual report on Form 10-K.
NOTE 2: REVENUE RECOGNITION
The Company earns revenue principally by providing communication
related services to its customers, which include end users who purchase local
service, toll service, Internet access, video over VDSL and interexchange
carriers who resell network access services. These revenues are recognized when
the services are provided.
NOTE 3: EARNINGS PER SHARE
Basic and diluted earnings per share are based on the weighted average
number of actual shares outstanding of 1,800,086 and 1,803,642 for the six
months period ending June 30, 2003 and 2002, and 1,800,320 and 1,803,661 for the
three month period ending June 30, 2003 and 2002.
The Company did not have any common stock equivalents as of June 30,
2003 and 2002.
NOTE 4: COMPREHENSIVE INCOME
Comprehensive income approximates net income for the three and six
months period ended June 30, 2003 and 2002, respectively.
NOTE 5: FINANCIAL ACCOUNTING STATEMENT NO. 143 ADOPTION
The Company adopted SFAS No. 143, Accounting for Asset Retirement
Obligations, effective January 1, 2003. SFAS No. 143 addresses financial
accounting and reporting for obligations associated with the retirement of
tangible long-lived assets and the associated asset retirement costs. This
standard applies to legal obligations associated with the retirement of
long-lived assets that result from the acquisition, construction, development,
or normal use of the assets. SFAS No. 143 requires that a liability for an asset
retirement obligation be recognized when incurred and reasonably estimable,
recorded at fair value, and classified as a liability in the balance sheet. When
the liability is initially recorded, the entity capitalizes the cost and
increases the carrying value of the related long-lived asset. The liability is
then accreted to its present value each period, and the capitalized cost is
depreciated over the estimated useful life of the related asset. At the
settlement date, the entity will settle the obligation for its recorded amount
and recognize a gain or loss upon settlement.
6
Warwick Valley Telephone Company is a regulated telephone company and
as such follows the provisions of SFAS No. 71, "Accounting for the Effects of
Certain Types of Regulation" and therefore conforms to the accounting principles
as prescribed by the respective state public utility commissions and the Federal
Communications Commission ( FCC ), and where applicable, accounting principles
generally accepted in the United States of America. In accordance with federal
and state regulations, depreciation expense for the Company's wireline
telecommunications business has historically included an additional provision
for cost of removal. In December 2002, the Federal Communications Commission
(FCC) notified wireline carriers that they should not adopt the provisions of
SFAS No. 143 unless specifically required by the FCC in the future. As a result
of the FCC ruling, the Company will continue to record a regulatory liability
for cost of removal for its telecommunications business that follow the
accounting prescribed by SFAS No. 71. The regulatory liability for cost of
removal included in accumulated depreciation amounted to $1,104K and $981K at
June 30, 2003 and 2002, respectively.
For the Company's operations not subject to SFAS No. 71, the Company
has determined that it does not have a material legal obligation to remove
long-lived assets as prescribed by SFAS No. 143. Accordingly, the Company has
not accrued a liability for anticipated removal costs in the past and will
continue to expense the costs of removal as incurred.
NOTE 6: SEGMENTED INFORMATION
Warwick Valley Telephone Company's segments are strategic business
units that offer different products and services and are managed as telephony
and online services. We evaluate performance based upon income before taxes.
The wireline segment provides landline telecommunications services,
including local, network access, long distance services and messaging, and sells
customer premise equipment, private business exchange equipment and yellow and
white pages advertising and electronic publishing.
The Online segment provides high speed and dial up Internet services,
help desk operations, and video over VDSL.
Segmented information for the six months ended June 30, 2003 and 2002
($ in thousands):
2003 2002
-----------------------------------
Revenues
Telephone $ 12,060 $11,465
Online 3,243 2,888
Eliminations (967) (1,129)
Total revenues 14,336 13,224
Operating income
Telephone 2,164 2,230
Online (233) 314
Total operating income 1,931 2,544
Interest expense and income (226) (269)
Partnership income 4,260 3,393
Other income (expense) 24 262
Income before taxes 5,989 5,930
Assets
Telephone 58,921 53,774
Online 8,091 3,920
Eliminations (11,480) (6,219)
Total assets 55,532 51,475
Segmented information for the three months ended June 30, 2003 and 2002
($ in thousands):
2003 2002
-----------------------------------
Revenues
Telephone $ 6,032 $ 5,557
Online 1,648 1,588
Eliminations (489) (507)
Total revenues 7,191 6,638
Operating income
Telephone 1,046 901
Online (358) 311
Total operating income 688 1,212
7
2003 2002
-----------------------------------
Interest expense and income (122) (141)
Partnership income 2,373 2,010
Other income (expense) 45 160
Income before taxes 2,984 3,241
NOTE 7: INVENTORY
Inventories are carried at average cost except that specific costs are
used in the case of large individual items. As of June 30, 2003 and December 31,
2002, the Material and Supplies inventory consisted of the following:
($ in thousands)
2003 2002
--------------------------------
Inventory for outside plant $ 272 $ 330
Inventory for inside plant 677 650
Inventory for online plant 115 257
Inventory of video equipment 213 56
Inventory of equipment held for sale or lease 159 175
--------------------------------
$ 1,436 $ 1,468
--------------------------------
NOTE 8: PROPERTY, PLANT AND EQUIPMENT
Plant in service, at cost, consisted of the following as of June 30,
2003 and December 31, 2002:
($ in thousands)
2003 2002
------------------------------
Land, buildings, furniture and office equipment $ 5,628 $ 5,666
Vehicles and work equipment 1,887 2,048
Central office equipment 24,520 24,384
Customer premise equipment 1,724 1,731
Outside plant equipment 23,071 21,671
Video equipment 3,480 3,109
Internet equipment 5,419 4,749
-------------------------------
$ 65,729 $ 63,358
===============================
It is our policy to capitalize certain costs incurred in connection
with developing or obtaining internal software. Capitalized software costs are
included in Property, Plant and Equipment and are amortized using estimated
service lives of the various classes of telephone plant.
NOTE 9: INVESTMENTS
The Company is a limited partner in O-P and has a 7.5% investment
interest which is accounted for under the equity method of accounting. The
majority owner and general partner is Verizon Wireless of the East L.P.
The following summarizes O-P's income statement:
(Unaudited)
Six months ended June 30,
($ in thousands)
2003 2002
----------------------------
Net sales $ 67,973 $ 51,007
Costs & expenses
Cellular service cost 8,805 6,574
Operating expenses 2,746 3,063
-------------------------------
11,551 9,637
Net operating income 56,422 41,370
Other income $ 914 719
-------------------------------
Net income 57,336 $ 42,089
===============================
8
NOTE 10: NEW ACCOUNTING PRONOUNCEMENTS
In January 2003, the Financial Accounting Standards Board (FASB) issued
Interpretation No. 46 (FIN 46), "Consolidation of Variable Interest Entities--an
Interpretation of Accounting Research Bulletin (ARB) No. 51." FIN 46, adopted by
the Company in July 2003, requires the primary beneficiary to consolidate a
variable interest entity (VIE) if it has a variable interest that will absorb a
majority of the entity's expected losses if they occur, receive a majority of
the entity's expected residual returns if they occur, or both. FIN 46 applies
immediately to VIEs created after January 31, 2003, and to VIEs in which the
entity obtains an interest after that date. The adoption did not have a material
impact to the Company's results of operations, financial position and cash
flows.
In April 2003, the FASB issued SFAS No. 149, "Amendment of Statement
133 on Derivative Instruments and Hedging Activities." This standard amends and
clarifies the accounting for derivative instruments, including certain
derivative instruments embedded in other contracts, and hedging activities under
SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities."
This statement is effective prospectively for contracts entered into or modified
after June 30, 2003, and for hedging relationships designated after June 30,
2003. SFAS No. 149 will not have an impact upon initial adoption and is
currently not expected to have a material effect on our results of operations,
financial position and cash flows.
In May 2003, the FASB issued SFAS No. 150, "Accounting for Certain
Financial Instruments with Characteristics of both Liabilities and Equity." This
statement establishes standards for how an issuer classifies and measures
certain financial instruments with characteristics of both liabilities and
equity. It requires issuers to classify financial instruments within its scope
as liabilities (or an asset in some cases). Prior to SFAS No. 150, many of these
instruments may have been classified as equity. This Statement is effective for
financial instruments entered into or modified after May 31, 2003. For
instruments issued prior to May 31, 2003, this standard is to be implemented by
reporting the cumulative effect of a change in accounting principle as of July
1, 2003. SFAS No. 150 will not have an impact upon initial adoption and
currently is not expected to materially impact the Company's ongoing results of
operations, financial position or cash flows.
In November 2002, the Emerging Issues Task Force (EITF) reached a
consensus on EITF 00-21, "Revenue Arrangements with Multiple Deliverables,"
related to the timing of revenue recognition for arrangements in which goods or
services or both are delivered separately in a bundled sales arrangement. The
EITF requires that when the deliverables included in this type of arrangement
meet certain criteria they should be accounted for separately as separate units
of accounting. This may result in a difference in the timing of revenue
recognition but will not result in a change in the total amount of revenue
recognized in a bundled sales arrangement. The allocation of revenue to the
separate deliverables is based on the relative fair value of each item. If the
fair value is not available for the delivered items then the residual method
must be used. This method requires that the amount allocated to the undelivered
items in the arrangement is their full fair value. This would result in the
discount, if any, being allocated to the delivered items. This consensus is
effective prospectively for arrangements entered into in fiscal periods
beginning after June 15, 2003, which, for the Company, is July 1, 2003. EITF
00-21 will not have an impact upon initial adoption and currently is not
expected to have an impact to the Company's ongoing results of operations,
financial position or cash flows.
In May 2003, the EITF reached a consensus on EITF 01-8 "Determining
Whether an Arrangement Contains a Lease," relating to new requirements on
identifying leases contained in contracts or other arrangements that sell or
purchase products or services. The evaluation of whether an arrangement contains
a lease within the scope of SFAS No. 13 "Accounting for Leases," should be based
on the evaluation of whether an arrangement conveys the right to use property,
plant and equipment. This may result in a difference in the timing of revenue
recognition. The consensus requires sellers to report the revenue from the
leasing component of the arrangement as leasing or rental income rather than
revenue from product sales or services. Purchaser's arrangements which
previously would have been considered service or supply contracts, but are now
considered leases, could affect the timing of their expense recognition and the
classification of assets and liabilities on their balance sheet as well as
require footnote disclosure of lease terms and future minimum lease commitments.
This consensus is effective prospectively for contracts entered into or
significantly modified after July 1, 2003. EITF 01-8 will not have an impact
upon initial adoption and based on arrangements in place today, will not have a
material effect on our results of operations, financial position and cash flows.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
- ------- OF OPERATIONS
OVERVIEW: RESULTS OF OPERATIONS FOR THE SIX MONTHS ENDED JUNE 30, 2003 AND 2002-
----------------------------------------------------------------------
REVENUE
- -------
Operating revenues increased by $1,112K (or 8.4%) to $14,336K for the
six-month period ended June 30, 2003 as compared to a decrease of $586K (or
4.2%) to $13,224 for the corresponding period of 2002.
Local Network Service revenue was impacted as a result of access lines
decreasing 2.44% as compared to last year because of continued second line loss
which is primarily due to Internet conversions from dial up to DSL, and flat
population growth.
9
Network Access revenue increased $796K (or 20 %) compared to last year
as a result of price increases that took affect after July 1, 2002.
Long Distance revenues continue to show small year to year decreases
primarily related to intense competition from other long distance carriers as
well as wireless providers. However, the Company has recently begun a
significant marketing campaign to win back or gain new Long Distance Sales
customers.
Directory advertising revenue has increased 10.9% over the prior period
primarily due to the efficiencies gained by full incorporation of our sales
force in house and successful solicitation/retention of customers.
Internet revenues have increased $355K (or 12.3%) overall due to
increases of $435K (or 76 %) in DSL revenues (the result of an increase in DSL
subscribers of 16.56% over 2002) and additional revenues of $286K (or 493%) in
Video. Partially offsetting these increases was a revenue decrease in the amount
of $365K (or 15.8%) due to dial up customer loss.
Other services and sales revenue increased slightly, year over year,
due to sales of new broadband circuits to other companies.
EXPENSES
- --------
Total operating expenses increased $ 1,725K (or 16.2%) for the six
month period ended June 30, 2003 as compared to the same period in 2002.
Plant specific, customer operations and corporate operations expenses
were impacted by an increase of $560K (or 42.4%) primarily due to increased
pension & post retirement costs which was offset by a decrease in salaries and
wages of $105K (or 3.1%).
An increase of $ 463K (or 23.9%) in depreciation expenses was due to
network upgrades.
Corporate operations expenses were also affected by increases of $107K
(or 155.7%) in proxy expenses and $ 209K (or 76.6%) in legal fees resulted from
a complex proxy contest during 2003.
Cost of services and sales increases of $380K (or 36.2%) were primarily
the result of a settlement with a large interconnection company due to unbilled
trunkline charges in the six-month period ended June 30, 2003 versus the
comparative period in June 30, 2002, as well as increases in Video costs
amounting to $149K (or 68.4%).
The Company is taking further steps to reduce operating costs by
renegotiating trunkline contracts, pursuing organizational restructurings to
control labor costs and seeking work process efficiencies through mechanized
systems.
OPERATING INCOME
- ----------------
Operating Income declined $613K, (or 24.1%), in the first half of 2003
due primarily to significantly higher pension and postretirement costs, rising
health care costs, higher trunkline expenses and increased legal and related
expenses associated with the recent proxy contest. Depreciation increased 24% or
$463K over the prior year due to the significant capital expenditures made in
the last half of 2002. Offsetting the decline was an increase in revenue of 8.4%
which resulted from higher network access revenues as well as increased DSL and
video revenue.
OTHER INCOME AND EXPENSE
- ------------------------
Other income and expense increased by $672K (or 19.8%) from $3,386K in
the six-month period ended June 30, 2002 to $4,058K in the corresponding period
of 2003 primarily due to the increase in income from O-P. Year to date, the
partnership earnings increased 25.5 % over the comparable period last year.
Strong O-P call volume remains the primary cause of the increase.
CASH FROM OPERATING ACTIVITIES
- ------------------------------
During 2003 the Company's primary source of funds continues to be cash
generated from operations, as shown in the consolidated statements of cash
flows. For the period ending June 30, 2003 net cash from operating activities
was less than our capital expenditures due to the Company's continuing growth of
the video business.
CASH FROM INVESTING ACTIVITIES
- ------------------------------
Capital expenditures totaled $2,250K during the six month period ending
June 30, 2003 as compared to $4,156K for the corresponding period of 2002.
Capital expenditures are budgeted to be approximately 30% less in 2003 than in
2002 due to the near completion of our video business.
10
O-P is licensed to provide cellular services in both Orange and
Dutchess Counties, New York. The Company's share in the partnership's earnings
increased by approximately $867K (or 25.5%) to $4,260 during the first six
months of 2003, compared to $3,393 for the corresponding 2002 period.
Partnership earnings are distributed to the Company on a quarterly basis.
CASH FROM FINANCING ACTIVITIES
- ------------------------------
Dividends declared by the Board of Directors of the Company were $0.50
per share for the three-month period ending June 30, 2003, $0.43 for the
corresponding period in 2002. The total dividends paid for the six month period
ended June 30, 2003 on its common shares by the Company were $1,764K, compared
to $1,551K for the same period in 2002.
LIQUIDITY AND CAPITAL RESOURCES
- -------------------------------
The Company had $1,760K of cash and cash equivalents available at June
30, 2003. The Company has a $4,000K line of credit with a bank, of which the
entire amount remained unused at June 30, 2003. Interest is at a variable rate
and borrowings are on a demand basis without restrictions. In addition, on
February 18, 2003, the Company closed a commitment with CoBank, ACB with respect
to an $18,475K unsecured term credit facility at a variable rate. Under
conditions set by the New York Public Service Commission, the Company was
allowed to use a portion of the proceeds from this loan to refinance $4,000K of
existing long-term debt and repay $3,000K under an existing line of credit. The
Company may use the remaining amount available under the facility - $11,475K -
to finance capital expenditures and pay expenses and fees associated with
borrowings made under the facility. The Company may also re-borrow amounts
repaid under the facility which will remain available to the Company until
September 30, 2004. In February 2003, the Company used $3,149K of the credit
facility funds to pay off an existing $3,000K line of credit, plus accrued
interest, and closing costs associated with the facility. The Company intends to
make an additional draw to repay $4,000K in long-term debt which matures in
December 2003. The Company has no present requirements that necessitate the
immediate use of the remaining unused credit
NEW ACCOUNTING PRONOUNCEMENTS
- -----------------------------
In January 2003, the Financial Accounting Standards Board (FASB) issued
Interpretation No. 46 (FIN 46), "Consolidation of Variable Interest Entities--an
Interpretation of Accounting Research Bulletin (ARB) No. 51." FIN 46, adopted by
the Company in July 2003, requires the primary beneficiary to consolidate a
variable interest entity (VIE) if it has a variable interest that will absorb a
majority of the entity's expected losses if they occur, receive a majority of
the entity's expected residual returns if they occur, or both. FIN 46 applies
immediately to VIEs created after January 31, 2003, and to VIEs in which the
entity obtains an interest after that date. The adoption did not have a material
impact to the Company's results of operations, financial position and cash
flows.
In April 2003, the FASB issued SFAS No. 149, "Amendment of Statement
133 on Derivative Instruments and Hedging Activities." This standard amends and
clarifies the accounting for derivative instruments, including certain
derivative instruments embedded in other contracts, and hedging activities under
SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities."
This statement is effective prospectively for contracts entered into or modified
after June 30, 2003, and for hedging relationships designated after June 30,
2003. SFAS No. 149 will not have an impact upon initial adoption and currently
is not expected to have a material effect on our results of operations,
financial position and cash flows.
In May 2003, the FASB issued SFAS No. 150, "Accounting for Certain
Financial Instruments with Characteristics of both Liabilities and Equity." This
statement establishes standards for how an issuer classifies and measures
certain financial instruments with characteristics of both liabilities and
equity. It requires issuers to classify financial instruments within its scope
as liabilities (or an asset in some cases). Prior to SFAS No. 150, many of these
instruments may have been classified as equity. This Statement is effective for
financial instruments entered into or modified after May 31, 2003. For
instruments issued prior to May 31, 2003, this standard is to be implemented by
reporting the cumulative effect of a change in accounting principle as of July
1, 2003. SFAS No. 150 will not have an impact upon initial adoption and
currently is not expected to materially impact the Company's ongoing results of
operations, financial position or cash flows.
In November 2002, the Emerging Issues Task Force (EITF) reached a
consensus on EITF 00-21, "Revenue Arrangements with Multiple Deliverables,"
related to the timing of revenue recognition for arrangements in which goods or
services or both are delivered separately in a bundled sales arrangement. The
EITF requires that when the deliverables included in this type of arrangement
meet certain criteria they should be accounted for separately as separate units
of accounting. This may result in a difference in the timing of revenue
recognition but will not result in a change in the total amount of revenue
recognized in a bundled sales arrangement. The allocation of revenue to the
separate deliverables is based on the relative fair value of each item. If the
fair value is not available for the delivered items then the residual method
must be used. This method requires that the amount allocated to the undelivered
items in the arrangement is their full fair value. This would result in the
discount, if any, being allocated to the delivered items. This consensus is
effective prospectively for arrangements entered into in fiscal periods
beginning after June 15, 2003, which, for the Company, is July 1, 2003. EITF
00-21 will not have an impact upon initial adoption and is not expected to have
an impact to the Company's ongoing results of operations, financial position or
cash flows.
11
In May 2003, the EITF reached a consensus on EITF 01-8 "Determining
Whether an Arrangement Contains a Lease," relating to new requirements on
identifying leases contained in contracts or other arrangements that sell or
purchase products or services. The evaluation of whether an arrangement contains
a lease within the scope of SFAS No. 13 "Accounting for Leases," should be based
on the evaluation of whether an arrangement conveys the right to use property,
plant and equipment. This may result in a difference in the timing of revenue
recognition. The consensus requires sellers to report the revenue from the
leasing component of the arrangement as leasing or rental income rather than
revenue from product sales or services. Purchaser's arrangements which
previously would have been considered service or supply contracts, but are now
considered leases, could affect the timing of their expense recognition and the
classification of assets and liabilities on their balance sheet as well as
require footnote disclosure of lease terms and future minimum lease commitments.
This consensus is effective prospectively for contracts entered into or
significantly modified after July 1, 2003. EITF 01-8 will not have an impact
upon initial adoption and based on arrangements in place today, will not have a
material effect on our results of operations, financial position and cash flows.
OVERVIEW: RESULTS OF OPERATIONS FOR THE THREE MONTHS ENDED JUNE 30, 2003 AND
--------------------------------------------------------------------
JUNE 30, 2002 -
---------------
REVENUE
- -------
Operating revenues increased by $553K (or 8.3%) to $7,191K for the
three-month period ended June 30, 2003 as compared to a decrease of $192K (or
2.8%) to $6,639K for the corresponding period of 2002.
Network access revenues increases of $493K (or 25.3%) were primarily
the result of price increases in both switched access and end user fees.
Long Distance revenues continue to show small decreases due primarily
to intense competition from other long distance carriers as well as wireless
providers.
Internet service revenues have increased $60K (or 3.8%) due to
increases of $223K (or 73.1%) in DSL revenues (the result of an increase in DSL
subscribers of 5.6% over 2002) and increases of $164K (or 2810.3%) in video
revenues. These increases were offset by a decrease of $327K (or 25.6%) in dial
up services due to customers migrating to DSL and other high speed Internet
connections.
Directory advertising increased 9.2% over the prior period primarily
due to efficiencies gained by full incorporation of our sales force in house and
successful solicitation/retention of customers.
EXPENSES
- --------
Total operating expenses increased $1,077K (or 19.8%) for the three
month period ended June 30, 2003 as compared to the same period in 2002.
Plant specific, customer operations and corporate operations expenses
increased by $223K (or 35.4%) primarily due to increased pension costs.
An increase of $256K (or 26.1%) in depreciation expenses was due to
network upgrades.
Corporate operations expenses were also affected by increases of $ 66K
(or 1026.8%) in proxy expenses and $67K (or 86.5%) in legal fees resulted from a
complex proxy contest during 2003.
Cost of services and sales increases of $143K (or 21.4%) were primarily
the result of a settlement with a large interconnection company due to unbilled
trunkline charges in the three month period ended June 30, 2003 versus the
comparative period in June 30, 2002, as well as increases in Video costs
amounting to $202K.
OTHER INCOME AND EXPENSE
- ------------------------
Other income and expenses increased by $267K (or 13.2%) from $2,029K in
the three-month period ended June 30, 2002 to $2,296K in the corresponding
period of 2003 primarily due to the increase in income from O-P. The
partnership's earnings increased 18.1% over the comparable period last year.
Strong O-P call volume remains the primary factor for the increase.
12
OTHER FACTORS:
COMPETITION
- -----------
The Company's residential customers can purchase telephone sets
(including cellular sets) and equipment compatible and operational with the
Company's telephone system at other retail outlets inside and outside the
Company's territory and not affiliated with the Company. Such outlets include
other telephone company telephone stores, department stores, discount stores,
mail-order services and Internet websites. Businesses in the Company's service
area are also allowed to purchase equipment compatible and operational with the
Company's system from other telephone and "interconnect" companies. The
Company's territory is surrounded by the territories of Bell Atlantic, Frontier
- - A Citizen's Communications Company, and Sprint-United Telephone, all of which
offer residential and business telephone equipment. There are also several
interconnect companies located within a 30-mile radius of Warwick, New York.
The Telecommunications Act of 1996 (the "Act") created a nationwide
structure in which competition is allowed and encouraged between local exchange
carriers, interexchange carriers, competitive access providers, cable TV
companies and other entities. The markets affected first have been the regional
toll areas in both states. Regional toll competition has had the effect of
reducing the Company's revenues. Under the Act, the Company itself can provide
competitive local exchange telephone service outside its franchised territory.
The Company is currently competing with Frontier - A Citizen's
Communications Company in the Middletown, New York area as well as Sprint-United
Telephone in the Vernon, New Jersey area for local service through access lines.
The Company is reviewing plans to provide limited service in other surrounding
areas in both New York and New Jersey. There can be no assurances that the
Company will effect any such additional plans, or that other companies will not
begin providing competitive local exchange telephone service in the Company's
franchise territory.
The Company currently provides access to the national and international
calling markets as well as intrastate calling markets through all interested
inter-exchange carriers, including Warwick Valley Long Distance ("WVLD") access
to the remainder of the intrastate calling markets is provided by the Company as
well as other exchange carriers. WVLD, as an inter-exchange carrier, competes
against all such other carriers, including accelerating wireless competition,
providing full toll services to its customers at discounted rates.
Hometown Online competes both on the basis of service and price. There
are numerous competitors throughout Online's market area whose services are
available to customers. During the second quarter of 2003, the Company's DSL
product has increased its penetration level to 21.4% of establishments passed.
Conversely, Online's dial-up product has decreased 5.5% due to migration of
customers to the Company's high speed internet provider by the competition
within and outside of our service territory. Whether growth and pricing levels
can be maintained depends, in part, on the actions of existing competitors, the
possible entry into the market of new competitors, the rate of technological
change and the level of demand for services.
In addition, our digital TV product was launched in April of 2002 and
is competing successfully against entrenched cable and satellite TV companies.
Cablevision announced in June 2003 that it will begin offering a telephony
product in the Warwick area by the end of the third quarter of 2003.
REGULATION
- ----------
The Company has filed a petition with the New York State Public Service
Commission ("NYSPSC") seeking approval to reorganize its corporate structure in
order to create a holding company that would separate its regulated local
exchange operations from its deregulated operations. Under this reorganization
plan, corporate management and administrative functions would remain at Warwick
Valley Telephone Company, proposed to be renamed WVT Communications Inc., which
would become the unregulated holding company of a regulated local exchange
subsidiary (proposed to be named Warwick Valley Telephone Company) and other,
unregulated subsidiaries. Before the Company may complete this proposed
reorganization plan, it must first obtain the approval of the NYSPSC, the New
Jersey Board of Public Utilities (NJBPU) and its shareholders.
On February 19, 2003 the Company's Board of Directors resolved to
restate and amend, the Company's Certificate of Incorporation. All restatements
and amendments were approved by required percentages of the Company's
outstanding Common and Preferred Shares at the Annual Meeting of the Company's
shareholders held on April 25, 2003, including the split of the Company's Common
Shares in a ratio of three for one. A petition has been filed with the NYSPSC
seeking approval of the restated and amended Certificate of Incorporation
including the issuance of the additional shares to accommodate the split. The
petition has also been filed with the New Jersey Board of Public Utilities
regarding issuance of additional shares for the stock split. Approval is
anticipated by September of 2003, at which time the new Certificate of
Incorporation will be filed with the Secretary of State of the State of New York
and a record date will be set for the split. Until regulatory approval is
formally obtained, the stock split cannot be completed.
Based upon the Company's last New York PSC annual report, 84% of the
telephone segment's revenues remain regulated. Prices for basic services have
not increased for ten years-longer in New Jersey-and remain one of the lowest in
both New York and New Jersey. While this is good news for its customers,
increasing competition as well as choices customers now have in
telecommunication services necessitates action on the part of the Company. While
striving to maintain cutting edge products and services for its customers, the
Company must ensure that its telephone operation provides a fair return for its
investors. The Company is preparing to file major rate cases in both New York
and New Jersey however there are no guarantees that rate increases will be
awarded or conditions will not be imposed.
13
RELATIONSHIP TO O-P
- -------------------
The O-P partnership has become the focus of a few shareholders who
espouse the goal of minimizing the tax effect regarding the way the
partnership's earnings are distributed. Such shareholders have suggested that
the Company should distribute its interest in O-P to them or allow interested
shareholders to buy portions of that interest by way of a rights offering. In
spite of recent tax law changes lowering the tax on dividends, partnership
earnings distribution continues to be a subject of discussion.
The Company takes such suggestions seriously and has investigated the
impact that a distribution or rights offering would have on the Company, the
Company's stock price and ultimately the shareholder. In its Proxy Statement and
in other materials distributed in connection with its Annual Meeting of
Shareholders on April 25, 2003, the Company expressed the view that such a
distribution was impracticable for a number of reasons, including the tax
consequences to the Company, the significant possibility of restrictions or
conditions being imposed on the Company in the process of obtaining regulatory
approval, and the likelihood that the general partner of O-P could reasonably
refuse to grant the approval for such a transfer that would be required under
the O-P partnership agreement.
Discussions were held with the general partner concerning a rights
offering. The general partner informed the Company that it would vigorously
oppose any such distribution or offering by the Company and would pursue all
available legal remedies. In addition, discussions were held with expert tax
professionals - accountants and attorneys - concerning ways to avoid double
taxation of dividends. With the exception of a rights offering, current IRS
regulations, according to the tax professionals, will result in a double tax.
Were the Company to pursue a rights offering, the result would be a significant
Capital Gains tax burden that would negatively affect Company operations into
the foreseeable future. The Company would also be forced to re-evaluate the
dividend it currently pays to shareholders if Orange/Poughkeepsie funds were not
available.
Therefore, due to the potential for significant additional expenses,
the negative affect on the Company as a whole associated with a distribution or
rights offering and the strong objections raised by the General Partner, the
Company will not pursue any further effort to separate the Partnership from the
Company. The Orange County - Poughkeepsie Partnership must remain a significant
and integral part of the Company thus helping the Company to maintain and
increase the current dividend rate for shareholders as well as provide funding
for Capital expansions and new services to customers.
OTHER INFORMATION
- -----------------
As a result of the conclusion of negotiations the International
Brotherhood of Electrical Workers ("IBEW") the Company's non-management Pension
Plan is expected to change. The process of amending the plan, which is expected
to be completed in early 2004, has begun. Our actuaries have made the necessary
plan modifications and will file amendments with the IRS. Benefits will continue
to accrue until the amendments are reviewed by the IRS. The management defined
benefit pension plan has not been modified.
Should the security markets continue to decline and medical and
prescription costs increase, net pension and postretirement costs are likely to
continue to increase year over year. If actual experience differs from actuarial
assumptions, net pension and postretirement costs will be affected in future
years.
FORWARD LOOKING STATEMENTS
- --------------------------
Certain statements contained in this Form 10-Q, including, without
limitation, statements containing the words "believes," "anticipates,"
"intends," "expects" and words of similar import, constitute "forward-looking
statements" within the meaning of the Private Securities Litigation Reform Act
of 1995. Such forward-looking statements involve known and unknown risks,
uncertainties and other factors that may cause the actual results, performance
or achievements of the Company or industry results to be materially different
from any future results, performance or achievements expressed or implied by
such forward-looking statements. Such factors include, among others the
following: general economic and business conditions, both nationally and in the
geographic regions in which the Company operates; industry capacity; demographic
changes; existing governmental regulations and changes in or the failure to
comply with, governmental regulations; legislative proposals relating to the
businesses in which the Company operates; competition; or the loss of any
significant ability to attract and retain qualified personnel. Given these
uncertainties, current and prospective investors should be cautioned in their
reliance on such forward-looking statements. The Company disclaims any
obligation to update any such factors or to publicly announce the results of any
revision to any of the forward-looking statements contained herein to reflect
future events or developments.
Investors should also be aware that while the Company does, from time
to time, communicate with securities analysts, it is against the Company's
policy to disclose to them any material non-public information or other
confidential commercial information. Accordingly, investors should not assume
that the Company agrees with any statement or report issued by an analyst
irrespective of the content of the statement or report. Thus, to the extent that
reports issued by securities analysts contain any projections, forecasts or
opinions, such reports are not the Company's responsibility.
14
ITEM 3. QUANTATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK -
- ------------------------------------------------------------------
The Company does not hold or issue derivative instruments for any
purposes or other financial instruments for trading purposes. The Company's only
assets exposed to market risk are its interest bearing bank accounts, into which
the Company deposits its excess operating funds on a daily basis. The Company's
mortgage liabilities currently bear interest at a fixed rate. Refinancing of
mortgage liabilities must be done through CoBank. The Company has the option of
choosing the following rate options from CoBank: Weekly Quoted Variable Rate,
Long-Term Fixed Quote and a Libor Option.
ITEM 4. CONTROLS AND PROCEDURES -
- ---------------------------------
(a) Evaluation of disclosure controls and procedures
The term "disclosure controls and procedures" is defined in Rules 13a-15(e)
and 15d-15(e) of the Securities Exchange Act of 1934 (Exchange Act). These
rules refer to the controls and other procedures of a company that are
designed to ensure that information required to be disclosed by a company
in the reports that it files under the Exchange Act is recorded, processed,
summarized and reported within required time periods. Our Chief Executive
Officer and our Chief Financial Officer have evaluated the effectiveness of
our disclosure controls and procedures as of the end of the period covered
by this report, and they have concluded that, such controls and procedures
were effective at ensuring that required information will be disclosed on a
timely basis in our reports filed under the Exchange Act.
(b) Changes in internal controls
We maintain a system of internal accounting controls that are designed to
provide reasonable assurance that our books and records accurately reflect
our transactions and that our established policies and procedures are
followed for financial reporting purposes as they relate to disclosures and
procedures. For the quarter ended June 30, 2003, there were no changes in
our internal controls or in other factors that materially affected or were
reasonably likely to materially affect such internal controls.
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS-None
- ------------------------------
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITIES HOLDERS-None
- ------------------------------------------------------------------
ITEM 5. OTHER INFORMATION
- -------------------------
SHAREHOLDERS IN 401(k) PLAN
As of June 30, 2003 3.5% of the Company's outstanding Common Shares were
held by employees in the Company's 401(k) plan. These amounts fluctuate
quarterly.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
- ----------------------------------------
a) Exhibits -
31.1 Chief Executive Officer Certification
31.2 Chief Financial Officer Certification
32.1 Certification pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 signed
by M. Lynn Pike-Principal Executive Officer.
32.2 Certification pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 signed
by Philip A. Grybas-principal Financial Officer.
b) Reports on Form 8-K -
June 30, 2003. Item Reported: The Company reported a letter sent
to Shareholders announcing an increase of two cents per share of
Common Stock dividends for the second quarter of 2003.
August 1, 2003. Item Reported: The Company reported a change in
Registrant's Certifying Accountant announcing that the Company
had engaged PricewaterhouseCoopers LLP ("PwC") as its new
independent accountants as of May 30, 2003.
15
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
Warwick Valley Telephone Company
Registrant
Date 8/14/03 /S/ M. Lynn Pike
M. Lynn Pike, President
(Chief Executive Officer)
Date 8/14/03 /S/ Philip A. Grybas
Philip A. Grybas, Vice President, Treasurer
(Principal Financial and Chief Accounting Officer)
16