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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(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, 2000
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
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Commission file number 1-8606
VERIZON COMMUNICATIONS INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 23-2259884
(STATE OF INCORPORATION) (I.R.S. EMPLOYER
IDENTIFICATION NO.)
1095 AVENUE OF THE AMERICAS 10036
NEW YORK, NEW YORK (ZIP CODE)
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES)
REGISTRANT'S TELEPHONE NUMBER (212) 395-2121
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
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At September 30, 2000, 2,699,096,564 shares of the registrant's Common Stock
were outstanding, after deducting 52,553,920 shares held in treasury.
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TABLE OF CONTENTS
ITEM NO.
PART I. FINANCIAL INFORMATION PAGE
- ----------------------------- ----
1. FINANCIAL STATEMENTS (UNAUDITED)
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
Three and nine months ended September 30, 2000 and 1999 1
CONDENSED CONSOLIDATED BALANCE SHEETS
September 30, 2000 and December 31, 1999 2
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
Nine months ended September 30, 2000 and 1999 3
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS 4
2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS 15
3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK 34
PART II. OTHER INFORMATION
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6. EXHIBITS AND REPORTS ON FORM 8-K 35
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PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
Verizon Communications Inc. and Subsidiaries
(Dollars in Millions, Except Per Share Amounts) THREE MONTHS ENDED NINE MONTHS ENDED
(Unaudited) SEPTEMBER 30, SEPTEMBER 30,
------------------------------ ------------------------------
2000 1999 2000 1999
------------ ------------ ------------ ------------
OPERATING REVENUES $ 16,557 $ 14,655 $ 47,893 $ 42,929
OPERATING EXPENSES
Operations and support 9,627 8,406 29,264 24,954
Depreciation and amortization 3,211 2,455 9,022 7,283
GAINS ON SALES OF ASSETS, NET 1,227 754 3,780 1,267
------------ ------------ ------------ ------------
OPERATING INCOME 4,946 4,548 13,387 11,959
Income from unconsolidated businesses 271 148 3,785 396
Other income and (expense), net (13) (26) 43 (39)
Interest expense 915 636 2,605 1,912
Mark-to-market adjustment for exchangeable notes 377 -- 664 --
------------ ------------ ------------ ------------
Income before provision for income taxes and
extraordinary items 4,666 4,034 15,274 10,404
Provision for income taxes 2,022 1,496 6,157 3,846
------------ ------------ ------------ ------------
INCOME BEFORE EXTRAORDINARY ITEMS 2,644 2,538 9,117 6,558
Extraordinary items, net of tax 826 -- 817 (36)
------------ ------------ ------------ ------------
NET INCOME 3,470 2,538 9,934 6,522
Redemption of subsidiary preferred stock -- -- (8) --
------------ ------------ ------------ ------------
NET INCOME AVAILABLE TO COMMON SHAREOWNERS $ 3,470 $ 2,538 $ 9,926 $ 6,522
============ ============ ============ ============
BASIC EARNINGS (LOSS) PER COMMON SHARE:
Income before extraordinary items $ .98 $ .92 $ 3.35 $ 2.39
Extraordinary items, net of tax .30 -- .30 (.01)
------------ ------------ ------------ ------------
NET INCOME $ 1.28 $ .92 $ 3.65 $ 2.38
============ ============ ============ ============
Weighted-average shares outstanding (in millions) 2,708 2,746 2,717 2,740
============ ============ ============ ============
DILUTED EARNINGS (LOSS) PER COMMON SHARE:
Income before extraordinary items $ .97 $ .91 $ 3.32 $ 2.36
Extraordinary items, net of tax .30 -- .30 (.01)
------------ ------------ ------------ ------------
NET INCOME $ 1.27 $ .91 $ 3.62 $ 2.35
============ ============ ============ ============
Weighted-average shares outstanding - diluted
(in millions) 2,722 2,786 2,742 2,778
============ ============ ============ ============
Dividends declared per common share $ .385 $ .385 $ 1.155 $ 1.155
============ ============ ============ ============
See Notes to Condensed Consolidated Financial Statements.
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CONDENSED CONSOLIDATED BALANCE SHEETS
Verizon Communications Inc. and Subsidiaries
(Dollars in Millions, Except Per Share Amounts) (Unaudited) SEPTEMBER 30, DECEMBER 31,
2000 1999
------------ ------------
ASSETS
Current Assets
Cash and cash equivalents $ 828 $ 2,033
Short-term investments 114 1,035
Accounts receivable, net of allowances of $1,412 and $1,170 14,180 11,998
Inventories 1,487 1,366
Prepaid expenses and other current assets 2,770 1,761
Net assets held for sale 715 1,802
------------ ------------
20,094 19,995
------------ ------------
Plant, Property and Equipment 154,496 142,989
Less accumulated depreciation 88,191 80,816
------------ ------------
66,305 62,173
------------ ------------
Investments in Unconsolidated Businesses 14,353 10,177
Intangible Assets 41,586 8,645
Other Assets 15,190 11,840
------------ ------------
Total Assets $ 157,528 $ 112,830
============ ============
LIABILITIES AND SHAREOWNERS' INVESTMENT
Current Liabilities
Debt maturing within one year $ 18,888 $ 15,063
Accounts payable and accrued liabilities 14,927 10,878
Other current liabilities 5,193 3,809
------------ ------------
39,008 29,750
------------ ------------
Long-term Debt 32,825 32,419
Employee Benefit Obligations 12,420 13,744
Deferred Income Taxes 15,304 7,288
Other Liabilities 1,519 1,353
Minority Interest 21,970 1,900
Shareowners' Investment
Series preferred stock ($.10 par value; none issued) -- --
Common stock ($.10 par value; 2,751,650,484 shares and
2,756,484,606 shares issued) 275 276
Contributed capital 24,323 20,134
Reinvested earnings 13,891 7,428
Accumulated other comprehensive income (loss) (1,202) 75
------------ ------------
37,287 27,913
Less common stock in treasury, at cost 2,021 640
Less deferred compensation - employee stock ownership plans 784 897
------------ ------------
34,482 26,376
------------ ------------
Total Liabilities and Shareowners' Investment $ 157,528 $ 112,830
============ ============
See Notes to Condensed Consolidated Financial Statements.
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CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
Verizon Communications Inc. and Subsidiaries
(Dollars in Millions) (Unaudited) NINE MONTHS ENDED SEPTEMBER 30,
2000 1999
-------------------------------
CASH FLOWS FROM OPERATING ACTIVITIES
Income before extraordinary items $ 9,117 $ 6,558
Adjustments to reconcile income before extraordinary items to net cash
provided by operating activities:
Depreciation and amortization 9,022 7,283
Gains on sales of assets, net (3,780) (1,267)
Income from unconsolidated businesses (3,785) (396)
Mark-to-market adjustment for exchangeable notes (664) --
Employee retirement benefits (2,585) (1,118)
Deferred income taxes, net 2,878 1,326
Provision for uncollectible accounts 945 782
Changes in current assets and liabilities, net of effects from
acquisition/disposition of businesses 283 (1,026)
Other, net 614 (335)
------------- -------------
Net cash provided by operating activities 12,045 11,807
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CASH FLOWS FROM INVESTING ACTIVITIES
Capital expenditures (11,880) (9,120)
Acquisitions (1,590) (1,521)
Proceeds from disposition of businesses 6,004 1,648
Investments in notes receivable (989) --
Net change in short-term investments 922 885
Other, net (596) (68)
------------- -------------
Net cash used in investing activities (8,129) (8,176)
------------- -------------
CASH FLOWS FROM FINANCING ACTIVITIES
Proceeds from long-term borrowings 2,630 3,500
Repayments of long-term borrowings and capital lease obligations (4,865) (1,728)
Increase in short-term obligations, excluding current maturities 2,450 795
Net dividends paid (3,389) (3,168)
Proceeds from sale of common stock 415 1,006
Purchase of common stock for treasury (2,263) (1,105)
Other, net (99) 183
------------- -------------
Net cash used in financing activities (5,121) (517)
------------- -------------
Increase (decrease) in cash and cash equivalents (1,205) 3,114
Cash and cash equivalents, beginning of period 2,033 704
------------- -------------
Cash and cash equivalents, end of period $ 828 $ 3,818
============= =============
See Notes to Condensed Consolidated Financial Statements.
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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
Verizon Communications Inc. and Subsidiaries
(Unaudited)
1. BASIS OF PRESENTATION
The accompanying unaudited condensed consolidated financial statements have been
prepared based upon Securities and Exchange Commission (SEC) rules that permit
reduced disclosure for interim periods. These financial statements give
retroactive effect to the merger of Bell Atlantic Corporation (Bell Atlantic)
and GTE Corporation (GTE) as required for business combinations using
pooling-of-interests accounting (see Note 2).
These condensed consolidated financial statements reflect all adjustments that
are necessary for a fair presentation of results of operations and financial
condition for the interim periods shown including normal recurring accruals and
other items. The results for the interim periods are not necessarily indicative
of results for the full year. To assist you in understanding the historical
financial information of the merged entity, now Verizon Communications Inc.
(Verizon), you should refer to the financial statements filed with the 1999 SEC
Form 10-Ks and the first quarter 2000 SEC Form 10-Qs of both Bell Atlantic and
GTE and Note 3 below.
In this report, Verizon is referred to as "we" or "us."
2. BELL ATLANTIC - GTE MERGER
On June 30, 2000, Bell Atlantic and GTE completed a merger under a definitive
merger agreement dated as of July 27, 1998 (the Merger). Under the terms of the
agreement, GTE became a wholly-owned subsidiary of Bell Atlantic. GTE
shareholders received 1.22 shares of Bell Atlantic common stock for each share
of GTE common stock that they owned. This resulted in the issuance of 1,176
million shares of Bell Atlantic common stock. With the closing of the Merger,
the combined company began doing business as Verizon.
The Merger qualified as a tax-free reorganization and has been accounted for as
a pooling-of-interests. Under this method of accounting, Bell Atlantic and GTE
are treated as if they had always been combined for accounting and financial
reporting purposes. As a result, we have restated our consolidated financial
statements for all dates and periods prior to the Merger.
In addition to combining the separate historical results of Bell Atlantic and
GTE, the restated combined financial statements include the adjustments
necessary to conform accounting methods and presentation, to the extent that
they were different, and to eliminate significant intercompany transactions. The
separate Bell Atlantic and GTE results of operations for interim periods prior
to the Merger were as follows:
(Dollars in Millions) NINE MONTHS ENDED
THREE MONTHS ENDED MARCH 31, SEPTEMBER 30,
2000 1999 1999
---------------- ---------------- -----------------
OPERATING REVENUES
Bell Atlantic $ 8,534 $ 7,967 $ 24,566
GTE 6,100 5,879 18,595
Conforming adjustments, reclassifications and eliminations (85) (85) (232)
---------------- ---------------- ----------------
Combined $ 14,549 $ 13,761 $ 42,929
================ ================ ================
NET INCOME
Bell Atlantic $ 731 $ 1,142 $ 3,483
GTE 807 882 3,026
Conforming adjustments, reclassifications and eliminations 19 18 13
---------------- ---------------- ----------------
Combined $ 1,557 $ 2,042 $ 6,522
================ ================ ================
Verizon is managed around four operating segments: Domestic Telecom, Domestic
Wireless, International and Information Services. For further information
concerning these operating segments, see Note 14.
In addition to the Merger, there were a number of transactions during the year
that had a significant effect on our company, including the formation of a
nationwide wireless venture with Vodafone Group plc (Vodafone) (see Note 7) and
the divestiture of a controlling interest in Genuity Inc. (Genuity) through an
initial public offering of its stock.
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Genuity
In accordance with the provisions of a Federal Communications Commission (FCC)
order in June 2000, Genuity, formerly a wholly-owned subsidiary of GTE, sold in
a public offering 174 million of its Class A common shares, representing 100% of
the issued and outstanding Class A common stock and 90.5% of the overall voting
equity in Genuity. The issuance resulted in cash proceeds to Genuity of $1.9
billion. GTE retained 100% of Genuity's Class B common stock, which represents
9.5% of the voting equity in Genuity and contains a contingent conversion
feature.
In accordance with provisions of the FCC order, the sale transferred ownership
and control of Genuity to the Class A common stockholders and, accordingly, we
have deconsolidated our investment in Genuity and are accounting for it using
the cost method.
The Class B common stock's conversion rights are dependent on the percentage of
certain of Verizon's access lines that are compliant with Section 271 of the
Telecommunications Act of 1996 (Section 271). Under the FCC order, if we
eliminate the applicable Section 271 restrictions as to at least 50% of the
former Bell Atlantic in-region access lines, we can transfer our Class B common
stock to a disposition trustee for sale to one or more third parties. If we
eliminate the applicable Section 271 restrictions as to 100% of the former Bell
Atlantic in-region access lines, we can convert our Class B common stock into
800 million shares of Genuity's Class A common stock or Class C common stock,
subject to the terms of the FCC order. This conversion feature expires if we do
not eliminate the applicable Section 271 restrictions as to 100% of the former
Bell Atlantic in-region access lines by the fifth anniversary of the Merger,
subject to extension under certain circumstances. In addition, if we eliminate
Section 271 restrictions as to 95% of the former Bell Atlantic in-region lines,
we may require Genuity to reconfigure its operations in one or more former Bell
Atlantic in-region states where we have not eliminated those restrictions in
order to bring those operations into compliance with Section 271 under certain
circumstances.
Genuity's revenues for the first six months of 2000 were $529 million and its
net loss was $281 million. As previously discussed, beginning in the third
quarter of 2000 our investment in Genuity is being accounted for under the cost
method of accounting.
Merger-Related and Severance Costs
During the second quarter of 2000, we recorded a pretax charge of $472 million
($378 million after-tax, or $.14 per diluted share) for direct, incremental
merger-related costs and $584 million ($371 million after-tax, or $.14 per
diluted share) for employee severance.
The following table summarizes the direct incremental merger costs,
substantially all of which have been paid as of September 30, 2000.
(Dollars in Millions) Charged to Expense
as of 6/30/00
------------------
Compensation $ 210
Professional services 161
Other 101
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$ 472
==================
Compensation includes retention payments to employees that were contingent on
the Merger close and payments to employees to satisfy contractual obligations
triggered by the change in control. Professional services include investment
banking, legal, accounting, consulting and other advisory fees incurred to
obtain federal and state regulatory approvals and take other actions necessary
to complete the Merger. Other includes costs incurred to obtain shareholder
approval of the Merger, register securities and communicate with shareholders,
employees and regulatory authorities regarding Merger issues.
Employee severance costs, as recorded under Statement of Financial Accounting
Standards (SFAS) No. 112, "Employers' Accounting for Postemployment Benefits,"
represent the benefit costs for the separation of approximately 5,500 management
employees who are entitled to benefits under pre-existing separation plans, as
well as an accrual of ongoing SFAS No. 112 obligations for GTE employees. Of
these employees, approximately 5,200 are located in the United States and
approximately 300 are located at various international locations. The
separations are expected to occur as a result of consolidations and process
enhancements within our operating segments. Accrued postemployment benefit
liabilities for those employees are included in our condensed consolidated
balance sheets as components of "Other current liabilities" and "Employee
Benefit Obligations." The remaining severance liability as of September 30, 2000
is $549 million.
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Transition Costs
In addition to the direct merger-related and severance costs discussed above,
over the next several years, we expect to incur substantial transition costs
related to the Merger and the recently formed wireless joint venture, Verizon
Wireless (see Note 7). These costs will be incurred to integrate systems,
consolidate real estate, and relocate employees. They also include advertising
and other costs to establish the Verizon brand. During the third quarter and
first nine months of 2000, we incurred approximately $163 million and $335
million ($65 million and $112 million after taxes and minority interests, or
$.02 and $.04 per diluted share), respectively, of such transition costs.
The results for the third quarter and first nine months of 1999 included pretax
transition costs of $45 million and $97 million, respectively, related to the
Bell Atlantic-NYNEX merger.
Other related actions
During the second quarter of 2000, we also recorded $385 million ($236 million
after-tax, or $.09 per diluted share) for other actions in relation to the
Merger or other strategic decisions. The following table summarizes these
actions.
(Dollars in Millions) Charged to Expense
as of 6/30/00
------------------
Write-off of duplicate assets $ 167
Regulatory settlements 69
Contract termination fees 86
Other 63
------------------
$ 385
==================
Approximately $191 million of the pretax charge is non-cash in nature. Of the
remaining $194 million, substantially all amounts have been paid with the
exception of the regulatory settlements, which we expect will be finalized in
early 2001.
The direct merger, severance, transition and other costs discussed above are not
included in the operating segment financial results in Note 14 since they are
not considered in assessing segment performance due primarily to their
nonrecurring nature.
3. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Verizon's significant accounting policies are consistent with those described in
Bell Atlantic's 1999 Form 10-K. Where there were differences between Bell
Atlantic and GTE, the accounting policies of the businesses that were formerly
part of GTE have been conformed to those of Bell Atlantic.
All significant intercompany accounts and transactions have been eliminated.
We prepare our financial statements under generally accepted accounting
principles which require management to make estimates and assumptions that
affect the reported amounts or certain disclosures. Actual results could differ
from those estimates.
4. RECENT ACCOUNTING PRONOUNCEMENTS
Derivatives and Hedging Activities
In June 1998, the Financial Accounting Standards Board (FASB) issued SFAS No.
133, "Accounting for Derivative Instruments and Hedging Activities." This
statement requires that all derivatives be measured at fair value and recognized
as either assets or liabilities on our balance sheet. Changes in the fair values
of derivative instruments will be recognized in either earnings or comprehensive
income, depending on the designated use and effectiveness of the instruments.
In June 2000, the FASB issued SFAS No. 138, "Accounting for Certain Derivative
Instruments and Certain Hedging Activities," which amended SFAS No. 133. The
amendments in SFAS No. 138 address certain implementation issues and relate to
such matters as the normal purchases and normal sales exception, the definition
of interest rate risk, hedging recognized foreign-currency-denominated assets
and liabilities, and intercompany derivatives.
We are currently evaluating the provisions of SFAS No. 133 and SFAS No. 138,
which we will adopt on January 1, 2001. The impact of adoption will be affected
by several factors, including the specific hedging instruments in place and
their relationships to hedged items, as well as market conditions at the date of
adoption.
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Revenue Recognition
In December 1999, the SEC issued Staff Accounting Bulletin (SAB) No. 101,
"Revenue Recognition in Financial Statements," which provides additional
guidance on revenue recognition and, in certain circumstances, requires the
deferral of incremental costs. We will adopt SAB No. 101 in the fourth quarter
of 2000, retroactive to January 1, 2000. We are currently assessing the impact
of adopting SAB No. 101.
5. GAINS ON SALES OF ASSETS, NET
During the third quarter and first nine months of 2000, we recognized net gains
in operations related to sales of assets and impairments of assets held for
sale, as follows:
(Dollars in Millions) THREE MONTHS ENDED SEPTEMBER 30, NINE MONTHS ENDED SEPTEMBER 30,
2000 1999 2000 1999
---------------------------------------------- ----------------------------------------------
Pretax After-tax Pretax After-tax Pretax After-tax Pretax After-tax
------- --------- ------- --------- ------- --------- ------- ---------
Wireline properties $ 1,781 $ 1,085 $ -- $ -- $ 2,859 $ 1,740 $ -- $ --
Wireless properties -- -- -- -- 1,922 1,156 -- --
Other, net (554) (609) 754 445 (1,001) (910) 1,267 753
------- ------- ------- ------- ------- ------- ------- -------
$ 1,227 $ 476 $ 754 $ 445 $ 3,780 $ 1,986 $ 1,267 $ 753
======= ======= ======= ======= ======= ======= ======= =======
See Note 6 for gains on sales of wireless overlap properties subsequent to the
Merger.
Wireline Property Sales
During 1998, GTE committed to sell approximately 1.6 million non-strategic
domestic access lines located in Alaska, Arizona, Arkansas, California,
Illinois, Iowa, Minnesota, Missouri, Nebraska, New Mexico, Oklahoma, Texas and
Wisconsin. During 1999, definitive sales agreements were reached for the sale of
all 1.6 million lines.
During the third quarter of 2000, we sold approximately 1,049,000 access lines
of former GTE properties located in Alaska, Arkansas, Minnesota, Missouri, New
Mexico, Texas and Wisconsin for cash proceeds of $3,207 million. The pretax gain
on the sales was $1,781 million ($1,085 million after-tax, or $.40 per diluted
share).
The year-to-date net gains for asset sales include the sale of approximately
471,000 access lines of former GTE properties during June 2000 located in Iowa,
Nebraska and Oklahoma for combined cash proceeds of $1,433 million and $125
million in convertible preferred stock. The pretax gain on the sales was $1,078
million ($655 million after-tax gain, or $.24 per diluted share).
As of September 30, 2000, the remaining access lines to be sold continue to be
reported in our condensed consolidated balance sheets as "Net assets held for
sale." Although all of the remaining access lines are subject to definitive
sales agreements, their sale is contingent upon final agreements and regulatory
approvals. We expect these sales to close by the first quarter of 2001 and will
continue to operate all of the properties until sold. The remaining access lines
held for sale at September 30, 2000 represented less than 1% of the domestic
access lines that our Domestic Telecom business had in service at the time.
Given the decision to sell, no depreciation was recorded for these properties
during 1999 or 2000 in accordance with SFAS No. 121, "Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of."
Wireless Overlap
A U.S. Department of Justice consent decree issued on December 6, 1999 required
GTE Wireless, Bell Atlantic Mobile, Vodafone and PrimeCo Communications
(PrimeCo) to resolve a number of wireless market overlaps in order to complete
the wireless joint venture and the Merger. As a result, during April 2000 we
completed a transaction with ALLTEL Corporation (ALLTEL) that provided for the
exchange of several former Bell Atlantic Mobile markets in Texas, New Mexico and
Arizona for several of ALLTEL's wireless markets in Nevada and Iowa and cash. In
a separate transaction entered into by GTE, in June 2000, we exchanged several
former GTE markets in Florida, Alabama and Ohio, as well as an equity interest
in South Carolina, for several ALLTEL interests in Pennsylvania, New York,
Indiana and Illinois. These exchanges were accounted for as purchase business
combinations and resulted in combined pretax gains of $1,922 million ($1,156
million after-tax, or $.42 per diluted share). For a description of the
resolution of the remaining service area conflicts, see Note 6.
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Other Transactions
During the third quarter of 2000, we recorded charges related to the write-down
of certain impaired assets and other charges of $554 million pretax ($609
million after-tax, or $.22 per diluted share), as follows:
(Dollars in Millions) THREE MONTHS ENDED SEPTEMBER 30,
PRETAX AFTER-TAX
------------- --------------
CLEC impairment $ 334 $ 218
Real estate consolidation and other merger-related charges 220 142
Deferred taxes on contribution to the wireless joint venture -- 249
------------- --------------
$ 554 $ 609
============= ==============
The competitive local exchange carrier (CLEC) impairment primarily relates to
the revaluation of assets and the accrual of costs pertaining to certain
long-term contracts due to strategic changes in Verizon's approach to offering
bundled services both in and out of its franchise areas. The revised approach to
providing such services resulted, in part, from post-merger integration
activities and Verizon's planned acquisitions of NorthPoint Communications
Group, Inc. (NorthPoint) and OnePoint Communications Corp. (OnePoint) (see
Note 15).
The real estate consolidation and other merger-related charges relate primarily
to the revaluation of assets and the accrual of costs to exit leased facilities
that are in excess of Verizon's needs as the result of post-merger integration
activities.
The deferred tax charge is non-cash and was recorded as the result of the
contribution in July 2000 of the GTE Wireless assets to Verizon Wireless based
on the differences between the book and tax bases of assets contributed.
In connection with our decisions to exit the video business and GTE Airfone (a
company involved in air-to-ground communications), in the second quarter of 2000
we recorded an impairment charge of $566 million ($362 million after-tax, or
$.13 per diluted share) to reduce the carrying value of these investments to
their estimated net realizable value. In addition, there were other sales in the
first half of 2000 resulting in a net pretax gain of approximately $119 million
($61 million after-tax).
During the third quarter of 1999, we sold substantially all of GTE Government
Systems to General Dynamics Corporation for $1.0 billion in cash. The pretax
gain on the sale was $754 million ($445 million after-tax, or $.16 per diluted
share). The 1999 year-to-date net gains for asset sales also includes a pretax
gain of $513 million ($308 million after-tax, or $.11 per diluted share)
associated with the merger of BC TELECOM and TELUS during the first quarter of
1999.
6. EXTRAORDINARY ITEMS
In June 2000, we entered into a series of definitive sale agreements to resolve
the remaining service area conflicts prohibited by FCC regulations (see Note 5).
These agreements, which were pursuant to the consent decree, enabled both the
formation of Verizon Wireless and the closing of the Merger. Since the sales
were required pursuant to the consent decree and occurred after the Merger, the
gains on sales were recorded net of taxes as "Extraordinary items" in the
condensed consolidated statements of income.
During the third quarter of 2000, we completed the sale of the Richmond (former
PrimeCo) wireless market to CFW Communications Company in exchange for two
wireless rural service areas in Virginia. The sale resulted in a pretax gain of
$184 million ($112 million after-tax, or $.04 per diluted share). In addition,
we completed the sales of the consolidated markets in Washington and Texas and
unconsolidated interests in Texas (former GTE) to SBC Communications. The sales
resulted in a pretax gain of $886 million ($532 million after-tax, or $.19 per
diluted share). Also, we completed the sale of the San Diego (former GTE) market
to AT&T Wireless. The sale resulted in a pretax gain of $304 million ($182
million after-tax, or $.07 per diluted share).
As of September 30, 2000, the remaining wireless properties to be sold pursuant
to the consent decree are reported in our condensed consolidated balance sheets
as "Net assets held for sale." We expect these remaining sales to occur by the
first quarter of 2001. Based on the decision to sell, depreciation and
amortization has been discontinued for these properties in accordance with SFAS
No. 121.
During the first quarter of 2000, we retired $128 million of debt prior to the
stated maturity date, resulting in a one-time, pretax extraordinary charge of
$15 million ($9 million after-tax, or less than $.01 per diluted share).
During the first quarter of 1999, we repurchased $338 million of high-coupon
debt through a public tender offer prior to stated maturity, resulting in a
one-time, pretax extraordinary charge of $46 million ($30 million after-tax, or
$.01 per diluted share). During the second quarter of 1999, we recorded a
one-time, pretax extraordinary charge of $10 million ($6 million after-tax, or
less than $.01 per diluted share) associated with the early extinguishment of
debentures of our telephone subsidiaries.
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7. WIRELESS JOINT VENTURE
On April 3, 2000, we and Vodafone consummated the previously announced agreement
to combine U.S. wireless assets, including cellular, PCS and paging operations.
Vodafone contributed its U.S. wireless operations to an existing Bell Atlantic
partnership in exchange for a 65.1% economic interest in the partnership. Bell
Atlantic retained a 34.9% economic interest and control pursuant to the terms of
the partnership agreement. We accounted for this transaction as a purchase
business combination. The total purchase price for the equity of the U.S.
operations of Vodafone was approximately $30 billion, resulting in increases in
intangible assets of approximately $31 billion, minority interest of
approximately $21 billion and debt of approximately $4 billion included in the
condensed consolidated balance sheets. Since the acquisition was effected
through the issuance of partnership interests, the $4,281 million after-tax gain
on the transaction was reported as an adjustment to contributed capital in
accordance with our accounting policy for recording gains on the issuance of
subsidiary stock. The appraisal and the allocation of the purchase price to the
tangible and identifiable intangible assets is in the process of being
completed. It is our expectation that a substantial portion of the excess
purchase price over the tangible assets acquired will be identified with
wireless licenses, which we are amortizing over a period up to 40 years since
they are renewable on an indefinite basis. In connection with the recent initial
public offering filing by Verizon Wireless, the Division of Corporation Finance
of the SEC has requested additional support for our use of a 40-year life for
our wireless licenses. This matter will be resolved once the filing by Verizon
Wireless is finalized. The SEC has questioned the use of a 40-year amortization
period by other communications companies for purchased intangible assets similar
to ours. In some cases, companies have shortened their amortization periods in
response to these questions. In other cases, companies are continuing to use a
40-year life. We continue to believe that the use of a 40-year life is
appropriate.
In July 2000, following the closing of the Merger, interests in GTE's U.S.
wireless assets were contributed to Verizon Wireless in exchange for an increase
in our economic ownership interest to 55%. This transaction was accounted for as
a transfer of assets between entities under common control and, accordingly, was
recorded at the net book value of the assets contributed.
The following represents Verizon's historical results through September 30, 1999
adjusted to include the wireless joint venture on a pro forma basis, comparable
with results through September 30, 2000. No other pro forma adjustments were
made to the historical results.
(Dollars in Millions, Except Per Share Amount)
- ----------------------------------------------
Revenues $45,918
Net Income 6,407
Diluted earnings per common share $ 2.31
Under the terms of the venture formation agreement, Vodafone has the right to
require us or Verizon Wireless to purchase up to $20 billion worth of its
interest in Verizon Wireless between 2003 and 2007 at its then fair market
value.
8. MARKETABLE SECURITIES
We have investments in marketable securities, primarily common stocks and
convertible debt securities, which are considered "available-for-sale" under
SFAS No. 115, "Accounting for Certain Investments in Debt and Equity
Securities." These investments have been included in our condensed consolidated
balance sheets in "Investments in Unconsolidated Businesses" and "Other Assets."
Under SFAS No. 115, available-for-sale securities are required to be carried at
their fair value, with unrealized gains and losses (net of income taxes)
recorded in "Accumulated other comprehensive income." The fair values of our
investments in marketable securities are determined based on market quotations.
The table below shows certain summarized information related to our investments
in marketable securities.
GROSS GROSS
UNREALIZED UNREALIZED
(Dollars in Millions) COST GAINS LOSSES FAIR VALUE
- -------------------- ------------ ----------- ------------ ------------
AT SEPTEMBER 30, 2000
Investments in unconsolidated businesses $ 4,538 $ 1,043 $ (760) $ 4,821
Other assets 1,345 23 (82) 1,286
------------ ------------ ------------ ------------
$ 5,883 $ 1,066 $ (842) $ 6,107
============ ============ ============ ============
AT DECEMBER 31, 1999
Investments in unconsolidated businesses $ 367 $ 1,892 $ -- $ 2,259
Other assets 401 8 (3) 406
------------ ------------ ------------ ------------
$ 768 $ 1,900 $ (3) $ 2,665
============ ============ ============ ============
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12
Our investments in marketable securities increased from December 31, 1999 as a
result of our Metromedia Fiber Network, Inc. (MFN) investment and our exchange
of Cable & Wireless Communications plc (CWC) shares for Cable & Wireless plc
(C&W) and NTL Incorporated (NTL) shares (see Note 9).
One half of our total MFN shares are deemed to be "available for sale"
securities. Accordingly, this portion of our investment in MFN shares, which is
included in "Investments in Unconsolidated Businesses," has been adjusted from a
carrying value of $357 million to its fair value of $621 million at September
30, 2000. The unrealized holding gain of $171 million (net of income taxes of
$93 million) has been recognized in "Accumulated other comprehensive income."
The remaining half of our investment in MFN shares, which is also included in
"Investments in Unconsolidated Businesses," is being carried at cost.
Our investment in MFN's subordinated debt securities, which is included in
"Other Assets," also qualifies as "available for sale" securities and,
accordingly, this investment has been adjusted from a carrying value of $975
million to its fair value of $895 million at September 30, 2000. The unrealized
holding loss of $52 million (net of income tax benefits of $28 million) has also
been recognized in "Accumulated other comprehensive income."
9. CABLE & WIRELESS COMMUNICATIONS PLC (CWC) RESTRUCTURING
In May 2000, C&W, NTL and CWC completed a restructuring of CWC. Under the terms
of the restructuring, CWC's consumer cable telephone, television and Internet
operations were separated from its corporate, business, Internet protocol and
wholesale operations. Once separated, the consumer operations were acquired by
NTL and the other operations were acquired by C&W. In connection with the
restructuring, we, as a shareholder in CWC, received shares in the two acquiring
companies, representing approximately 9.1% of the NTL shares outstanding at the
time and approximately 4.6% of the C&W shares outstanding at the time. Based on
this level of ownership, our investments in NTL and C&W are accounted for under
the cost method. Our previous interest in CWC was accounted for using the equity
method.
Our exchange of CWC shares for C&W and NTL shares resulted in the recognition of
a non-cash pretax gain of $3,088 million ($1,941 million after-tax, or $.71 per
diluted share) and a corresponding increase in the cost basis of the shares
received. Since the shares, which are reported as "Investments in Unconsolidated
Businesses," are being accounted for as cost investments, changes in their value
since the date of the exchange have been recognized in "Accumulated other
comprehensive income." At September 30, 2000, the cumulative decrease in the
value of the shares since the date of the exchange of $460 million (net of
income taxes of $283 million) has been recognized in "Accumulated other
comprehensive income", of which $397 million (net of income taxes of $244
million) was recognized in the third quarter of 2000.
10. DEBT
Exchangeable Notes
In February 1998, our wholly-owned subsidiary Verizon Global Funding Corp.
(formerly Bell Atlantic Financial Services, Inc.) (Global Funding) issued $2,455
million of 5.75% senior exchangeable notes due on April 1, 2003 (TCNZ
exchangeable notes). The Telecom Corporation of New Zealand Limited (TCNZ)
exchangeable notes are exchangeable into 437.1 million ordinary shares of TCNZ
stock at the option of the holder, beginning on September 1, 1999. The exchange
price was established at a 20% premium to the TCNZ share price at the pricing
date of the offering. Upon exchange by investors, we retain the option to settle
in cash or by delivery of TCNZ shares. During the period from April 1, 2001 to
March 31, 2002, the TCNZ exchangeable notes are callable at our option at 102.3%
of the principal amount and, thereafter and prior to maturity at 101.15%. As of
September 30, 2000, no notes have been delivered for exchange.
In August 1998, Global Funding issued $3,180 million of 4.25% senior
exchangeable notes due on September 15, 2005 (CWC exchangeable notes). When
issued, the CWC exchangeable notes were exchangeable into 277.6 million ordinary
shares of CWC stock at the option of the holder beginning on July 1, 2002. The
exchange price was established at a 28% premium to the CWC share price at the
pricing date of the offering. The CWC exchangeable notes were issued at a
discount and at September 30, 2000 the notes had a carrying value of $3,246
million.
In connection with a restructuring of CWC described in Note 9, the CWC
exchangeable notes are now exchangeable into 128.4 million shares of C&W and
24.5 million shares of NTL. The CWC exchangeable notes are redeemable at our
option, beginning September 15, 2002, at escalating prices from 104.2% to 108.0%
of the principal amount. If the CWC exchangeable notes are not called or
exchanged prior to maturity, they will be redeemable at 108.0% of the principal
amount at that time.
10
13
The TCNZ exchangeable notes are indexed to the fair market value of the TCNZ
common stock and the CWC exchangeable notes are indexed to the fair market value
of the C&W and NTL common stock. If the price of the shares exceeds the exchange
price established at the offering date, a mark-to-market adjustment is recorded,
recognizing an increase in the carrying value of the debt obligation and a
charge to income. If the price of the shares subsequently declines, the debt
obligation is reduced (but not to less than the amortized carrying value of the
notes).
At September 30, 2000, the exchange price exceeded the combined value of the C&W
and NTL share prices, resulting in the notes recorded at their amortized
carrying value. The decrease in the debt obligation since December 31, 1999 of
$664 million was recorded as an increase to income in the first nine months of
2000 ($431 million after-tax, or $.16 per diluted share) and an increase to
income of $377 million ($245 million after-tax, or $.09 per diluted share) in
the third quarter of 2000. As of September 30, 2000, we have recorded no
mark-to-market adjustments for the TCNZ exchangeable notes.
Support Agreements
The TCNZ exchangeable notes have the benefit of a Support Agreement dated
February 1, 1998, and the CWC exchangeable notes have the benefit of a Support
Agreement dated August 26, 1998, both of which are between us and Global
Funding. In each of the Support Agreements, we guarantee the payment of
interest, premium (if any), principal and the cash value of exchange property
related to the notes should Global Funding fail to pay. Another Support
Agreement between us and Global Funding dated October 1, 1992, guarantees
payment of interest, premium (if any) and principal on Global Funding's medium
term notes (aggregating $1,314 million at September 30, 2000) should Global
Funding fail to pay. The holders of Global Funding debt do not have recourse to
the stock or assets of our operating telephone subsidiaries or TCNZ; however,
they do have recourse to dividends paid to us by any of our consolidated
subsidiaries as well as assets not covered by the exclusion. The carrying value
of the available assets reflected in our condensed consolidated financial
statements was approximately $62 billion at September 30, 2000.
11. COMMON STOCK BUYBACK PROGRAM
On March 1, 2000, our Board of Directors authorized a new two year share buyback
program through which we may repurchase up to 80 million shares of common stock
in the open market. As of September 30, 2000, we had repurchased 31,546,200
shares under this program. On March 1, 2000, the Board of Directors rescinded a
previous authorization to repurchase up to $1.4 billion in company shares.
12. COMPREHENSIVE INCOME
Comprehensive income consists of net income and other gains and losses affecting
shareowners' investment that, under generally accepted accounting principles,
are excluded from net income. For our company, such items consist primarily of
foreign currency translation gains and losses and unrealized gains and losses on
marketable equity investments.
The components of total comprehensive income for interim periods are presented
in the following table:
(Dollars in Millions) THREE MONTHS ENDED SEPTEMBER 30, NINE MONTHS ENDED SEPTEMBER 30,
2000 1999 2000 1999
------------- ------------- ------------- -------------
NET INCOME $ 3,470 $ 2,538 $ 9,934 $ 6,522
------------- ------------- ------------- -------------
OTHER COMPREHENSIVE INCOME (LOSS), net of tax
Foreign currency translation adjustments (28) 81 (191) (33)
Unrealized gains (losses) on securities (1,266) (78) (1,064) 929
Minimum pension liability adjustment -- -- (22) --
------------- ------------- ------------- -------------
(1,294) 3 (1,277) 896
------------- ------------- ------------- -------------
TOTAL COMPREHENSIVE INCOME $ 2,176 $ 2,541 $ 8,657 $ 7,418
============= ============= ============= =============
11
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13. EARNINGS PER SHARE
The following table is a reconciliation of the numerators and denominators used
in computing earnings per share.
(Dollars and Shares in Millions,
Except Per Share Amounts) THREE MONTHS ENDED SEPTEMBER 30, NINE MONTHS ENDED SEPTEMBER 30,
2000 1999 2000 1999
-------------- -------------- -------------- --------------
NET INCOME AVAILABLE TO COMMON SHAREOWNERS
Income before extraordinary items $ 2,644 $ 2,538 $ 9,117 $ 6,558
Redemption of subsidiary preferred stock -- -- (8) --
-------------- -------------- -------------- --------------
Income available to common shareowners before
extraordinary items* 2,644 2,538 9,109 6,558
Extraordinary items, net of tax 826 -- 817 (36)
-------------- -------------- -------------- --------------
Net income available to common shareowners* $ 3,470 $ 2,538 $ 9,926 $ 6,522
============== ============== ============== ==============
BASIC EARNINGS PER COMMON SHARE
Weighted-average shares outstanding 2,708 2,746 2,717 2,740
-------------- -------------- -------------- --------------
Income available to common shareowners before
extraordinary items $ .98 $ .92 $ 3.35 $ 2.39
Extraordinary items, net of tax .30 -- .30 (.01)
-------------- -------------- -------------- --------------
Net income available to common shareowners $ 1.28 $ .92 $ 3.65 $ 2.38
============== ============== ============== ==============
DILUTED EARNINGS PER COMMON SHARE
Weighted-average shares outstanding 2,708 2,746 2,717 2,740
Effect of dilutive securities 14 40 25 38
-------------- -------------- -------------- --------------
Weighted-average shares outstanding - diluted 2,722 2,786 2,742 2,778
-------------- -------------- -------------- --------------
Income available to common shareowners before
extraordinary items $ .97 $ .91 $ 3.32 $ 2.36
Extraordinary items, net of tax .30 -- .30 (.01)
-------------- -------------- -------------- --------------
Net income available to common shareowners $ 1.27 $ .91 $ 3.62 $ 2.35
============== ============== ============== ==============
*Income and Net income available to common shareowners are the same for purposes
of calculating basic and diluted earnings per share.
Stock options for 107 million shares for the three months ended September 30,
2000 and 68 million shares for the nine months ended September 30, 2000 were not
included in the computation of diluted earnings per share because the options'
exercise price was greater than the average market price of the common stock.
For the three and nine month periods ended September 30, 1999, the number of
antidilutive shares was not material.
14. SEGMENT INFORMATION
We have four reportable segments, which we operate and manage as strategic
business units and organize by products and services. Our segments include a
Domestic Telecom group which provides domestic wireline communications services;
a Domestic Wireless group which provides domestic wireless communications
services; an International group which includes our foreign wireline and
wireless communications investments; and an Information Services group which is
responsible for our domestic and international publishing businesses and
electronic commerce services.
We measure and evaluate our reportable segments based on adjusted net income,
which excludes undistributed corporate expenses and other adjustments arising
during each period. The other adjustments include transactions that management
excludes in assessing business unit performance due primarily to their
nonrecurring nature. Although such transactions are excluded from the business
segment results, they are included in reported consolidated earnings.
REPORTABLE SEGMENTS
The following table provides adjusted operating financial information for our
four reportable segments and a reconciliation of adjusted segment results to
consolidated results:
(Dollars in Millions) THREE MONTHS ENDED SEPTEMBER 30, NINE MONTHS ENDED SEPTEMBER 30,
2000 1999 2000 1999
--------------- --------------- --------------- ---------------
EXTERNAL OPERATING REVENUES
Domestic Telecom $ 10,747 $ 10,418 $ 31,966 $ 30,827
Domestic Wireless 4,047 1,949 10,175 5,454
International 512 454 1,445 1,262
Information Services 943 883 2,724 2,654
--------------- --------------- --------------- ---------------
Total segments - adjusted 16,249 13,704 46,310 40,197
Reconciling items 308 951 1,583 2,732
--------------- --------------- --------------- ---------------
Total consolidated - reported $ 16,557 $ 14,655 $ 47,893 $ 42,929
=============== =============== =============== ===============
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(Dollars in Millions) THREE MONTHS ENDED SEPTEMBER 30, NINE MONTHS ENDED SEPTEMBER 30,
----------------------------------- -----------------------------------
2000 1999 2000 1999
------------ ------------ ------------ ------------
INTERSEGMENT REVENUES
Domestic Telecom $ 181 $ 165 $ 591 $ 456
Domestic Wireless 10 5 28 14
International -- -- -- --
Information Services 27 30 81 73
------------ ------------ ------------ ------------
Total segments - reported 218 200 700 543
Reconciling items (218) (200) (700) (543)
------------ ------------ ------------ ------------
Total consolidated - reported $ -- $ -- $ -- $ --
============ ============ ============ ============
TOTAL OPERATING REVENUES
Domestic Telecom $ 10,928 $ 10,583 $ 32,557 $ 31,283
Domestic Wireless 4,057 1,954 10,203 5,468
International 512 454 1,445 1,262
Information Services 970 913 2,805 2,727
------------ ------------ ------------ ------------
Total segments - adjusted 16,467 13,904 47,010 40,740
Reconciling items 90 751 883 2,189
------------ ------------ ------------ ------------
Total consolidated - reported $ 16,557 $ 14,655 $ 47,893 $ 42,929
============ ============ ============ ============
NET INCOME
Domestic Telecom $ 1,348 $ 1,267 $ 4,028 $ 3,865
Domestic Wireless 142 172 362 513
International 198 175 546 492
Information Services 292 256 819 759
------------ ------------ ------------ ------------
Total segments - adjusted 1,980 1,870 5,755 5,629
Reconciling items 1,490 668 4,179 893
------------ ------------ ------------ ------------
Total consolidated - reported $ 3,470 $ 2,538 $ 9,934 $ 6,522
============ ============ ============ ============
(Dollars in Millions) SEPTEMBER 30, 2000 DECEMBER 31, 1999
------------------ -----------------
ASSETS
Domestic Telecom $ 71,784 $ 69,997
Domestic Wireless 53,982 16,590
International 14,807 12,543
Information Services 2,932 2,829
-------------- --------------
Total segments 143,505 101,959
Reconciling items 14,023 10,871
-------------- --------------
Total consolidated $ 157,528 $ 112,830
============== ==============
Major reconciling items between the segments and the consolidated results are as
follows:
(Dollars in Millions) THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
-------------------------- --------------------------
2000 1999 2000 1999
---------- ---------- ---------- ----------
TOTAL REVENUES
Genuity and Government Systems (see Notes 2 & 5) $ -- $ 490 $ 529 $ 1,495
Domestic Telecom operations sold (see Note 5) 91 236 595 694
QuebecTel deconsolidation -- 61 107 174
Regulatory settlements (see Note 2) -- -- (69) --
Corporate, eliminations and other (1) (36) (279) (174)
---------- ---------- ---------- ----------
$ 90 $ 751 $ 883 $ 2,189
========== ========== ========== ==========
NET INCOME
Genuity and Government Systems (see Notes 2 & 5) $ -- $ (71) $ (281) $ (190)
Domestic Telecom operations sold (see Note 5) 37 97 244 285
Direct merger, severance and other related
actions (see Note 2) -- -- (985) --
Transition costs (see Note 2) (65) (27) (112) (59)
Gains on sales of assets, net (see Note 5) 476 445 1,986 753
CWC restructuring (see Notes 9 & 10) 245 -- 2,373 --
Pension settlements -- 172 564 274
Extraordinary items (see Note 6) 826 -- 817 (36)
Corporate, eliminations and other (29) 52 (427) (134)
---------- ---------- ---------- ----------
$ 1,490 $ 668 $ 4,179 $ 893
========== ========== ========== ==========
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Pension settlement gains before tax of $911 million ($564 million after-tax) for
the nine months ended September 30, 2000, and $278 million ($172 million
after-tax) and $443 million ($274 million after-tax) for the three and nine
month periods ended September 30, 1999 were recorded in accordance with SFAS No.
88, "Employers' Accounting for Settlements and Curtailments of Defined Benefit
Pension Plans and for Termination Benefits." They relate to certain settlements
of pension obligations for former GTE employees through direct payment, the
purchase of annuities or otherwise.
Corporate, eliminations and other includes unallocated corporate expenses,
intersegment eliminations recorded in consolidation, the results of other
businesses such as lease financing, and asset impairments and expenses that are
not allocated in assessing segment performance due to their nonrecurring nature.
We generally account for intersegment sales of products and services at current
market prices.
15. PROPOSED TRANSACTIONS
During August 2000, we announced a merger with NorthPoint. Completion of the
merger is subject to regulatory approvals and the approval of the NorthPoint
shareholders. We expect the merger to close in 2001. We will account for the
transaction as a purchase business combination. Upon completion of the merger,
we will own 55% of NorthPoint and will consolidate its results. In accordance
with the merger agreement, NorthPoint's shareholders will receive approximately
$2.50 per share or $350 million in cash. The exact amount will be based on the
number of shares outstanding at the time of closing. In addition, we have agreed
to make a cash investment in NorthPoint of $450 million. Up to $350 million of
this investment will be in the form of financing prior to the closing, subject
to certain circumstances. In September 2000, we invested $150 million in
NorthPoint.
During August 2000, we announced the purchase of OnePoint. The transaction is
subject to certain conditions and regulatory approvals. We expect the
transaction to close in 2000.
16. COMMITMENTS AND CONTINGENCIES
In connection with certain state regulatory incentive plan commitments, we have
deferred revenues, which will be recognized as the commitments are met or
obligations are satisfied under the plans. In addition, several state and
federal regulatory proceedings may require our operating telephone subsidiaries
to refund a portion of the revenues collected in the current and prior periods.
There are also various legal actions pending to which we are a party and claims
which, if asserted, may lead to other legal actions. We have established
reserves for specific liabilities in connection with regulatory and legal
matters that we currently deem to be probable and estimable.
We do not expect that the ultimate resolution of pending regulatory and legal
matters in future periods will have a material effect on our financial
condition, but it could have a material effect on our results of operations.
Federal and state regulatory conditions to the Merger include certain
commitments to, among other things, promote competition and the widespread
deployment of advanced services, while helping to ensure that consumers continue
to receive high-quality, low-cost telephone services. In some cases, there are
significant penalties associated with not meeting these commitments. The cost of
satisfying these commitments could have a significant impact on net income in
future periods. As previously disclosed, the cost of satisfying these
commitments is likely to impact net income in 2000 by approximately $275-$325
million, based on preliminary estimates.
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
OVERVIEW
We completed the merger with GTE Corporation on June 30, 2000, creating one of
the world's leading providers of communications services. The merger has been
accounted for as a pooling-of-interests. Under this method of accounting, the
companies are treated as if they had always been combined for accounting and
financial reporting purposes and, therefore, we have restated our financial
information for all dates and periods prior to the merger on this basis. The
financial statements presented reflect the new presentation used by our company.
You should read Note 2 to our condensed consolidated financial statements for
additional information on the merger transaction.
CONSOLIDATED RESULTS OF OPERATIONS
In this section of the Management's Discussion and Analysis (MD&A) we discuss
our overall reported results and highlight special and nonrecurring items. In
the following section of the MD&A, we review the performance of our segments on
what we call an adjusted basis. This means we take our reported results and
adjust them for the effects of these items, which management does not consider
in assessing segment performance due primarily to their nonrecurring nature. We
believe that this presentation will assist readers in better understanding
trends from period to period.
Our reported results for the third quarter of 2000 reflect strong operating
performance marked by growth in Digital Subscriber Lines (DSL), long distance,
wireless and international services and markets. Revenues were $16,557 million
and $47,893 million for the three and nine months ended September 30, 2000,
respectively. This represented increases of 13.0% and 11.6% over the comparable
periods of the prior year. These increases were driven by the formation of
Verizon Wireless during the second quarter of 2000, including the addition of
Vodafone properties and the consolidation of PrimeCo properties that were
previously accounted for as equity investments and substantial subscriber
growth. The revenue growth was also attributable to strong DSL and long-distance
subscriber growth.
Operating income was $4,946 million and $13,387 million during the three months
and nine months ended September 30, 2000. This represented increases of 8.8% and
11.9% over the comparable periods of the prior year. These amounts include
$1,227 million and $3,780 million, respectively, of net gains on sales of assets
as described later in the MD&A. They also include merger-related and other
charges of $163 million and $1,776 million for the three and nine month periods
ended September 30, 2000 as compared to $45 million and $97 million,
respectively, during the comparable periods of the prior year. Pension
settlement gains of $911 million were also recognized for the nine months ended
September 30, 2000. This compares to pension settlement gains of $278 million
and $443 million, respectively, during the three and nine month periods ended
September 30, 1999. For the nine months ended September 30, 2000, approximately
$689 million of the pension settlement gains relate to Domestic Telecom
employees. The remainder relates primarily to employees of corporate units or
employees of discontinued businesses whose pensions were settled during the
period through direct payment, annuities or otherwise.
Net income was $3,470 million, or $1.27 diluted earnings per share, for the
three month period ended September 30, 2000, compared to $2,538 million, or $.91
diluted earnings per share, for the three month period ended September 30, 1999.
Net income for the first nine months of 2000 was $9,934 million, or $3.62
diluted earnings per share, compared to $6,522 million, or $2.35 diluted
earnings per share, for the same period in 1999. In addition to the after-tax
effect of the items impacting operating income, net income during the nine month
period ended September 30, 2000 also benefited from a $3,088 million pretax gain
($1,941 million after-tax, or $.71 per diluted share) related to the
restructuring of Cable and Wireless Communications plc (CWC), in which we held
an investment, and pretax mark-to-market adjustments related to our exchangeable
notes payable of $377 million ($245 million after-tax, or $.09 per diluted
share) and $664 million ($431 million after-tax, or $.16 per diluted share) for
the three month and nine month periods ended September 30, 2000, respectively.
During the third quarter of 2000, we also recorded extraordinary items of $1,374
million ($826 million after-tax, or $.30 per diluted share) related to gains on
the sale of wireless overlap properties to resolve several service area
conflicts prohibited by Federal Communications Commission (FCC) regulations.
The special and nonrecurring items impacting our reported results for the three
and nine month periods are discussed in detail below.
15
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MERGER-RELATED AND OTHER COSTS
During the second quarter of 2000, in connection with the Bell Atlantic-GTE
merger, we recorded a pretax charge of $472 million ($378 million after-tax, or
$.14 per diluted share) for direct, incremental merger-related costs that we
incurred during the second quarter.
The following table summarizes the direct incremental merger costs,
substantially all of which have been paid as of September 30, 2000.
(Dollars in Millions) Charged to Expense as
of 6/30/00
---------------------
Compensation $ 210
Professional services 161
Other 101
---------------------
$ 472
=====================
Compensation includes retention payments to employees that were contingent on
the merger close and payments to employees to satisfy contractual obligations
triggered by the change in control. Professional services include investment
banking, legal, accounting, consulting and other advisory fees incurred to
obtain federal and state regulatory approvals and take other actions necessary
to complete the merger. Other includes costs incurred to obtain shareholder
approval of the merger, register securities and communicate with shareholders,
employees and regulatory authorities regarding merger issues. Since these costs
were directly related to closing the merger, we have not identified them with
any specific segment.
Charges associated with employee severance of $584 million ($371 million
after-tax, or $.14 per diluted share) were also recorded during the second
quarter of 2000. Since these are merger-related costs, they are not included in
the segment results discussed below. Had these costs been included, they would
have been allocated as follows: Domestic Telecom $438 million, Domestic Wireless
$38 million, International $8 million, Information Services $57 million. The
balance would have been allocated to corporate. Employee severance costs, as
recorded under Statement of Financial Accounting Standards (SFAS) No. 112,
"Employers' Accounting for Postemployment Benefits," represent the benefit costs
for the separation of approximately 5,500 management employees who are entitled
to benefits under pre-existing separation plans, as well as an accrual of
ongoing SFAS No. 112 obligations for GTE employees. Of these employees,
approximately 5,200 are located in the United States and approximately 300 are
located at various international locations. The separations are expected to
occur as a result of consolidations and process enhancements within our
operating segments. Accrued postemployment benefit liabilities for those
employees are included in our condensed consolidated balance sheets as
components of "Other current liabilities" and "Employee Benefit Obligations."
The remaining severance liability as of September 30, 2000 is $549 million.
In addition to the direct merger-related and severance costs discussed above,
over the next several years, we expect to incur approximately $2.0 billion of
transition costs related to the merger. These costs will be incurred to
integrate systems, consolidate real estate, and relocate employees. They also
include approximately $500 million for advertising and other costs to establish
the Verizon brand. During the third quarter and first nine months of 2000, we
incurred approximately $163 million and $335 million ($65 million and $112
million after taxes and minority interests, or $.02 and $.04 per diluted share),
respectively, of such transition costs. Approximately $84 million and $110
million, respectively of these charges relate to transition activities at
Domestic Telecom and $79 million and $225 million, respectively, relate to
transition activities at Domestic Wireless. These costs are not included in the
segment results.
During the second quarter of 2000, we also recorded $385 million ($236 million
after-tax, or $.09 per diluted share) for other actions in relation to the
merger or other strategic decisions. The following table summarizes these
actions.
(Dollars in Millions) Charged to Expense
as of 6/30/00
---------------------
Write-off of duplicate assets $ 167
Regulatory settlements 69
Contract termination fees 86
Other 63
---------------------
$ 385
=====================
Approximately $191 million of the pretax charge is non-cash in nature. Of the
remaining $194 million, substantially all amounts have been paid with the
exception of the regulatory settlements, which we expect will be finalized in
early 2001.
16
19
These other merger-related costs were also excluded from the segment results
primarily due to their nonrecurring nature. Had these costs been included, they
would have been allocated as follows: Domestic Telecom $170 million, Domestic
Wireless $75 million, International $19 million, Information Services $111
million. The balance would have been allocated to corporate.
The results for the third quarter and first nine months of 1999 included pretax
transition costs of $45 million and $97 million, respectively, related to the
Bell Atlantic-NYNEX merger.
MARK-TO-MARKET ADJUSTMENT FOR EXCHANGEABLE NOTES
In the three and nine months ended September 30, 2000, we recorded a gain on a
mark-to-market adjustment of $377 million ($245 million after-tax, or $.09 per
diluted share) and $664 million ($431 million after-tax, or $.16 per diluted
share) related to our $3.2 billion of notes which are now exchangeable into
shares of Cable & Wireless plc (C&W) and NTL Incorporated (NTL). Prior to the
reorganization of Cable & Wireless Communications plc (CWC) in May 2000, these
notes were exchangeable into shares of CWC.
The mark-to-market adjustments are non-cash, nonoperational transactions that
result in either an increase or decrease in the carrying value of the debt
obligation and a charge or credit to income. The mark-to-market adjustments are
required because the carrying value of the notes is indexed to the fair market
value of C&W's and NTL's common stock. If the combined fair value of the C&W and
NTL common stocks declines, our debt obligation is reduced (but not to less than
its amortized carrying value) and income is increased.
GAINS ON SALES OF ASSETS, NET
During the third quarter and first nine months of 2000, we recognized net gains
in operations related to sales of assets and impairments of assets held for
sale, as follows:
(Dollars in Millions) THREE MONTHS ENDED SEPTEMBER 30, NINE MONTHS ENDED SEPTEMBER 30,
--------------------------------------------------- ---------------------------------------------------
2000 1999 2000 1999
------------------------ ----------------------- ------------------------ ------------------------
Pretax After-tax Pretax After-tax Pretax After-tax Pretax After-tax
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
Wireline properties $ 1,781 $ 1,085 $ -- $ -- $ 2,859 $ 1,740 $ -- $ --
Wireless properties -- -- -- -- 1,922 1,156 -- --
Other, net (554) (609) 754 445 (1,001) (910) 1,267 753
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
$ 1,227 $ 476 $ 754 $ 445 $ 3,780 $ 1,986 $ 1,267 $ 753
========== ========== ========== ========== ========== ========== ========== ==========
See "Extraordinary Items" below for gains on sales of wireless overlap
properties subsequent to the merger.
Wireline Property Sales
During 1998, GTE committed to sell approximately 1.6 million non-strategic
domestic access lines located in Alaska, Arizona, Arkansas, California,
Illinois, Iowa, Minnesota, Missouri, Nebraska, New Mexico, Oklahoma, Texas and
Wisconsin. During 1999, definitive sales agreements were reached for the sale of
all 1.6 million lines.
During the third quarter of 2000, we sold approximately 1,049,000 access lines
of former GTE properties located in Alaska, Arkansas, Minnesota, Missouri, New
Mexico, Texas and Wisconsin for cash proceeds of $3,207 million. The pretax gain
on the sales was $1,781 million ($1,085 million after-tax, or $.40 per diluted
share).
The year-to-date net gains for asset sales include the sale of approximately
471,000 access lines of former GTE properties during June 2000 located in Iowa,
Nebraska and Oklahoma for combined cash proceeds of $1,433 million and $125
million in convertible preferred stock. The pretax gain on the sales was $1,078
million ($655 million after-tax gain, or $.24 per diluted share).
As of September 30, 2000, the remaining access lines to be sold continue to be
reported in our condensed consolidated balance sheets as "Net assets held for
sale." Although all of the remaining access lines are subject to definitive
sales agreements, their sale is contingent upon final agreements and regulatory
approvals. We expect these sales to close by the first quarter of 2001 and will
continue to operate all of the properties until sold. The remaining access lines
held for sale at September 30, 2000 represented less than 1% of the domestic
access lines that our Domestic Telecom business had in service at the time.
Given the decision to sell, no depreciation was recorded for these properties
during 1999 or 2000 in accordance with SFAS No. 121, "Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of."
17
20
Wireless Overlap
A U.S. Department of Justice consent decree issued on December 6, 1999 required
GTE Wireless, Bell Atlantic Mobile, Vodafone and PrimeCo to resolve a number of
wireless market overlaps in order to complete the wireless joint venture and the
Merger. As a result, during April 2000 we completed a transaction with ALLTEL
Corporation (ALLTEL) that provided for the exchange of several former Bell
Atlantic Mobile markets in Texas, New Mexico and Arizona for several of ALLTEL's
wireless markets in Nevada and Iowa and cash. In a separate transaction entered
into by GTE, in June 2000, we exchanged several former GTE markets in Florida,
Alabama and Ohio, as well as an equity interest in South Carolina, for several
ALLTEL interests in Pennsylvania, New York, Indiana and Illinois. These
exchanges were accounted for as purchase business combinations and resulted in
combined pretax gains of $1,922 million ($1,156 million after-tax, or $.42 per
diluted share). For a description of the resolution of the remaining service
area conflicts, see "Extraordinary Items" below.
Other Transactions
During the third quarter of 2000, we recorded charges related to the write-down
of certain impaired assets and other charges of $554 million pretax ($609
million after-tax, or $.22 per diluted share), as follows:
(Dollars in Millions) THREE MONTHS ENDED SEPTEMBER 30,
PRETAX AFTER-TAX
------------ ------------
CLEC impairment $ 334 $ 218
Real estate consolidation and other merger-related charges 220 142
Deferred taxes on contribution to the wireless joint venture -- 249
------------ ------------
$ 554 $ 609
============ ============
The competitive local exchange carrier (CLEC) impairment primarily relates to
the revaluation of assets and the accrual of costs pertaining to certain
long-term contracts due to strategic changes in Verizon's approach to offering
bundled services both in and out of its franchise areas. The revised approach to
providing such services resulted, in part, from post-merger integration
activities and Verizon's planned acquisitions of NorthPoint Communications
Group, Inc. (NorthPoint) and OnePoint Communications Corp. (OnePoint).
The real estate consolidation and other merger-related charges relate primarily
to the revaluation of assets and the accrual of costs to exit leased facilities
that are in excess of Verizon's needs as the result of post-merger integration
activities.
The deferred tax charge is non-cash and was recorded as the result of the
contribution in July 2000 of the GTE Wireless assets to Verizon Wireless based
on the differences between the book and tax bases of assets contributed.
In connection with our decisions to exit the video business and GTE Airfone (a
company involved in air-to-ground communications), in the second quarter of 2000
we recorded an impairment charge of $566 million ($362 million after-tax, or
$.13 per diluted share) to reduce the carrying value of these investments to
their estimated net realizable value. In addition, there were other sales in the
first half of 2000 resulting in a net pretax gain of approximately $119 million
($61 million after-tax).
During the third quarter of 1999, we sold substantially all of GTE Government
Systems to General Dynamics Corporation for $1.0 billion in cash. The pretax
gain on the sale was $754 million ($445 million after-tax, or $.16 per diluted
share). The 1999 year-to-date net gains for asset sales also includes a pretax
gain of $513 million ($308 million after-tax, or $.11 per diluted share)
associated with the merger of BC TELECOM and TELUS during the first quarter of
1999.
EXTRAORDINARY ITEMS
In June 2000, we entered into a series of definitive sale agreements to resolve
the remaining service area conflicts prohibited by FCC regulations (see "Gains
on Sales of Assets, Net - Wireless Overlap"). These agreements, which were
pursuant to the consent decree, enabled both the formation of Verizon Wireless
and the closing of the merger. Since the sales were required pursuant to the
consent decree and occurred after the merger, the gains on sales were recorded
net of taxes as "Extraordinary items" in the condensed consolidated statements
of income.
During the third quarter of 2000, we completed the sale of the Richmond (former
PrimeCo) wireless market to CFW Communications Company in exchange for two
wireless rural service areas in Virginia. The sale resulted in a pretax gain of
$184 million ($112 million after-tax, or $.04 per diluted share). In addition,
we completed the sales of the consolidated markets in Washington and Texas and
unconsolidated interests in Texas (former GTE) to SBC Communications. The sales
resulted in a pretax gain of $886 million ($532 million after-tax, or $.19 per
diluted share). Also, we completed the sale of the San Diego (former GTE) market
to AT&T Wireless. The sale resulted in a pretax gain of $304 million ($182
million after-tax, or $.07 per diluted share).
18
21
As of September 30, 2000, the remaining wireless properties to be sold pursuant
to the consent decree are reported in our condensed consolidated balance sheets
as "Net assets held for sale." We expect these remaining sales to occur by the
first quarter of 2001. Based on the decision to sell, depreciation and
amortization has been discontinued for these properties in accordance with SFAS
No. 121.
During the first quarter of 2000, we retired $128 million of debt prior to the
stated maturity date, resulting in a one-time, pretax extraordinary charge of
$15 million ($9 million after-tax, or less than $.01 per diluted share).
During the first quarter of 1999, we repurchased $338 million of high-coupon
debt through a public tender offer prior to stated maturity, resulting in a
one-time, pretax extraordinary charge of $46 million ($30 million after-tax, or
$.01 per diluted share). During the second quarter of 1999, we recorded a
one-time, pretax extraordinary charge of $10 million ($6 million after-tax, or
less than $.01 per diluted share) associated with the early extinguishment of
debentures of our telephone subsidiaries.
SEGMENT RESULTS OF OPERATIONS
We have four reportable segments, which we operate and manage as strategic
business units and organize by products and services. Our segments are Domestic
Telecom, Domestic Wireless, International and Information Services. You can find
additional information about our segments in Note 14 to the condensed
consolidated financial statements.
We measure and evaluate our reportable segments based on adjusted net income,
which excludes undistributed corporate expenses and other adjustments arising
during each period. The other adjustments include transactions that management
excludes in assessing business unit performance due primarily to their
nonrecurring nature. Although such transactions are excluded from business
segment results, they are included in reported consolidated earnings. We
previously described the more significant of these transactions in the
"Consolidated Results of Operations" section.
DOMESTIC TELECOM
Our Domestic Telecom segment consists primarily of our 16 operating telephone
subsidiaries that provide local telephone services in over 30 states. These
services include voice and data transport, enhanced and custom calling features,
network access, directory assistance, private lines and public telephones. This
segment also provides customer premises equipment distribution, data solutions
and systems integration, billing and collections, Internet access services,
research and development and inventory management services. In addition, this
segment includes our long distance service. The Domestic Telecom segment is
organized into five marketing units (enterprise, retail, wholesale, national
operations and advanced services) in order to focus on specific markets and
better meet customer requirements.
THREE MONTHS ENDED NINE MONTHS ENDED
(Dollars in Millions) SEPTEMBER 30, SEPTEMBER 30,
-------------------------- --------------------------
2000 1999 % CHANGE 2000 1999 % CHANGE
---------- ---------- ---------- ---------- ---------- ----------
RESULTS OF OPERATIONS - ADJUSTED
BASIS
OPERATING REVENUES
Local services $ 5,341 $ 5,291 0.9% $ 16,086 $ 15,554 3.4%
Network access services 3,320 3,241 2.4 9,883 9,670 2.2
Long distance services 804 812 (1.0) 2,392 2,396 (0.2)
Other services 1,463 1,239 18.1 4,196 3,663 14.6
---------- ---------- ---------- ----------
10,928 10,583 3.3 32,557 31,283 4.1
---------- ---------- ---------- ----------
OPERATING EXPENSES
Operations and support 6,128 6,032 1.6 18,295 17,665 3.6
Depreciation and amortization 2,215 2,059 7.6 6,465 6,095 6.1
---------- ---------- ---------- ----------
8,343 8,091 3.1 24,760 23,760 4.2
---------- ---------- ---------- ----------
OPERATING INCOME $ 2,585 $ 2,492 3.7 $ 7,797 $ 7,523 3.6
========== ========== ========== ==========
ADJUSTED NET INCOME $ 1,348 $ 1,267 6.4 $ 4,028 $ 3,865 4.2
========== ========== ========== ==========
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22
DOMESTIC TELECOM - CONTINUED
The results of operations for the Domestic Telecom segment exclude revenues,
operating expenses and income taxes of the 1.5 million access lines sold during
2000 (see "Consolidated Results of Operations -- Gains on Sales of Assets,
Net").
HIGHLIGHTS
Domestic Telecom's operating revenues grew 3.3% for the third quarter of 2000
and 4.1% for the first nine months of 2000. Much of this growth was generated by
increased sales of core and advanced communications services, primarily our data
services. These revenues include our high-bandwidth, packet-switched, and
special access services, as well as our network integration business. We ended
the third quarter of 2000 with 101.2 million access line equivalents in service,
an increase of 14.2% from September 30, 1999. These include data circuits
equivalent to 38.0 million voice-grade lines, 42.3% more than the third quarter
of 1999 as more customers chose high-capacity, high-speed transport services
such as DSL, and 63.2 million voice-grade access lines, a 2.0% increase over the
prior year. Access minutes of use increased 3.5% in the third quarter of 2000
and 4.9% for the nine-month period ended September 30, 2000. Our interLATA long
distance business showed strong growth in the third quarter of 2000, fueled by
the introduction of interLATA long distance service in the State of New York at
the beginning of 2000. We ended the third quarter of 2000 with almost 1.2
million long distance subscribers in New York, and nearly 4.8 million customers
nationwide, an increase of nearly 50% from last year. Operating revenue growth
in both periods was negatively affected by federal and state regulatory rate
reductions totaling $264 million in the third quarter and $636 million
year-to-date. The effect of an 18-day work stoppage, as described below under
"Labor Agreements," adversely affected operating revenues by approximately $40
million due to the delay in the installation of new services and as a result of
customers not having full access to demand-based services such as directory
assistance.
Higher costs associated with entering new businesses such as long distance and
data services was the principal driver of increases in operating expenses of
3.1% in the third quarter of 2000 and 4.2% in the first nine months of 2000.
These entry costs include customer acquisition expenses associated with the
launch of long distance in New York and costs related to marketing, distribution
and service installation of our DSL service. The effect of the work stoppage and
cost containment measures partially offset expense increases in both periods.
Wireline Property Sales
As discussed earlier under "Consolidated Results of Operations," we have either
sold recently or committed to sell wireline properties representing
approximately 1.7% of the total Domestic Telecom access lines. The effect of
these dispositions will largely depend on the timing of the sales and the
reinvestment of the proceeds. As of September 30, 2000, we have sold 1.5 million
access lines and the remaining access lines remain under definitive sales
agreements. The operating revenues of access lines sold were approximately $91
million and $236 million for the three month periods ended September 30, 2000
and 1999, respectively, and $595 million and $694 million for the nine month
periods ended September 30, 2000 and 1999, respectively. Operating expenses of
the access lines sold were approximately $30 million and $78 million for the
three month periods ended September 30, 2000 and 1999, respectively, and $196
million and $229 million for the nine month periods ended September 30, 2000 and
1999, respectively. Net income contributed by the sold properties was
approximately $37 million and $97 million for the three month periods ended
September 30, 2000 and 1999, respectively, and $244 million and $285 million for
the nine month periods ended September 30, 2000 and 1999, respectively. For
additional information on wireline property sales, see Note 5 to the condensed
consolidated financial statements.
Labor Agreements
Associate employee wages and pension and other benefits are determined under
contracts with unions representing associate employees of the network
subsidiaries.
On August 5, 2000, collective bargaining agreements with unions representing
approximately 85,000 of our employees in the former Bell Atlantic regions
expired, and the unions initiated a work stoppage.
On August 20, 2000, we reached a tentative agreement with the Communications
Workers of America (CWA) and the International Brotherhood of Electrical Workers
(IBEW) on new three-year contracts covering more than 50,000 employees in New
York and the New England States. The contracts provide for annual wage increases
of 4%, 3% and 5%, beginning in August 2000. Customer service representatives
will receive an additional 4% wage increase effective immediately. Pension
benefits for active employees will increase by 5% on July 1, 2001, 5% on July 1,
2002 and 4% on July 1, 2003. The contracts also include team-based incentive
awards for meeting higher service, performance and other standards, increased
funding for work and family programs, improvements to health and other benefits
and certain provisions relating to overtime, access to work and employment
security. In addition, prior to year-end all union-represented employees will be
granted options to purchase 100 shares of our common stock.
20
23
DOMESTIC TELECOM - CONTINUED
On August 23, 2000, we reached a tentative agreement on a new three-year
contract with the CWA, covering more than 35,000 employees in Delaware,
Maryland, New Jersey, Pennsylvania, Virginia, Washington, D.C. and West
Virginia. The contract is substantially the same as the contracts for New York
and the New England States, but also resolves several local issues, including
overtime and work rules, which had been raised by the CWA in the Mid-Atlantic
region.
The labor agreements with the CWA and IBEW have been ratified by the union
membership.
OPERATING REVENUES
Local Services Revenues
Local services revenues are earned by our operating telephone subsidiaries from
the provision of local exchange, local private line, wire maintenance, voice
messaging and value-added services. Value-added services are a family of
services that expand the utilization of the network, including products such as
Caller ID, Call Waiting and Return Call. Local services also includes wholesale
revenues from unbundled network element (UNE) platforms, certain data transport
revenues, and wireless interconnection revenues.
Growth in local service revenues of $50 million, or 0.9%, and $532 million, or
3.4%, in the third quarter and first nine months of 2000, respectively, was
driven by higher usage of our network facilities, as reflected, in part, by
growth in access lines in service. Customer demand and usage of our data
transport and digital services generated much of this growth. Both periods also
reflect demand for our value-added services as a result of new packaging of
services, as well as growth in wireless interconnection and national directory
assistance services.
In the third quarter and first nine months of 2000, local service revenue growth
was partially offset by the effect of resold and UNE platforms, net regulatory
price reductions, and the effects of the work stoppage.
Network Access Services
Network access services revenues are earned from end-user subscribers and long
distance and other competing carriers who use our local exchange facilities to
provide usage services to their customers. Switched access revenues are derived
from fixed and usage-based charges paid by carriers for access to our local
network. Special access revenues originate from carriers and end-users that buy
dedicated local exchange capacity to support their private networks. End-user
access revenues are earned from our customers and from resellers who purchase
dial-tone services.
Our network access services revenues grew $79 million, or 2.4%, and $213
million, or 2.2%, in the third quarter and first nine months of 2000,
respectively, as compared to the same periods in 1999. This growth was mainly
attributable to higher customer demand, primarily for special access services
that grew more than 35% in both periods of 2000. This volume growth reflects a
continuing expansion of the business market, particularly for high-capacity,
high-speed services such as DSL. Growth in access minutes of use and higher
revenues received from customers for the recovery of local number portability
also contributed to network access revenue growth in both periods.
Volume-related growth was largely offset by price reductions associated with
federal and state price cap filings and other regulatory decisions, including
the implementation of the Coalition for Affordable Local and Long Distance
Service (CALLS) plan, effective July 1, 2000. For more information on federal
access rates, see "Other Factors That May Affect Future Results - Recent
Developments - FCC Regulation and Interstate Rates."
Long Distance Services
Long distance service revenues include both intraLATA toll services and
interLATA long-distance voice and data services.
Long distance service revenues declined $8 million, or 1.0%, in the third
quarter of 2000 and $4 million, or 0.2%, for the nine month period ended
September 30, 2000, as compared to the corresponding periods in 1999. Revenues
in both periods reflect higher demand for interLATA long distance services
throughout the region, including the January 2000 introduction of our interLATA
long distance service in the State of New York.
These revenue increases were offset by the competitive effects of
presubscription, which enables customers to make intraLATA toll calls using a
competing carrier without having to dial an access code. The negative effect of
presubscription was partially mitigated by increased network access services
revenues for usage of our network by alternative providers. In response to
presubscription, we have implemented customer win-back and retention initiatives
that include toll calling discount packages and product bundling offers.
21
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DOMESTIC TELECOM - CONTINUED
Other Services
Our other services include such services as billing and collections for long
distance carriers, collocation for competitive local exchange carriers, public
(coin) telephone and customer premises equipment services. Other services
revenues also include services provided by many of our non-regulated
subsidiaries such as inventory management and purchasing, Internet access, and
data solutions and systems integration businesses.
In the third quarter and the nine month period ended September 30, 2000, we
recognized higher other service revenues of $224 million, or 18.1%, and $533
million, or 14.6%, as compared to the corresponding periods last year. These
revenue increases were largely attributable to new contracts with business
customers for systems integration and data solutions and inventory management
and purchasing services. Revenue growth in both periods was partially offset by
lower demand for our billing and collection, public telephone and customer
premises equipment services.
OPERATING EXPENSES
Operations and Support
Operations and support expenses, which consist of employee costs and other
operating expenses, increased by $96 million, or 1.6%, in the third quarter of
2000 and by $630 million, or 3.6%, in the first nine months of 2000, as compared
to the same periods in 1999. These expense increases were principally due to
higher costs associated with entering new businesses such as long distance and
data services, higher interconnection payments to competitive local exchange and
other carriers to terminate calls on their networks (reciprocal compensation)
and higher costs associated with growth in our non-regulated businesses. Higher
costs at our operating telephone subsidiaries, including salary and wage
increases for management and associate employees and the effect of higher work
force levels also contributed to the cost increases in both periods.
A decline in pension and benefit costs, the effects of the work stoppage, and
lower costs associated with Year 2000 readiness partially offset expense
increases in both periods. The decline in pension and benefit costs in 2000 was
chiefly due to favorable pension plan investment returns and changes in
actuarial assumptions. These factors were partially offset by changes in certain
plan provisions, including a previously reported amendment to our management
cash balance plan and a special lump sum pension payment to management and
associate retirees.
Depreciation and Amortization
Depreciation and amortization expense increased $156 million, or 7.6%, in the
third quarter of 2000 and $370 million, or 6.1%, in the first nine months of
2000 principally due to growth in depreciable telephone plant and changes in the
mix of plant assets. The growth in telephone plant was largely attributable to
increased capital expenditures for software and hardware to support the
expansion of our network. These expense increases were partially offset in both
periods by the effect of lower rates of depreciation.
22
25
DOMESTIC WIRELESS
Our Domestic Wireless segment provides cellular, PCS and paging services and
equipment sales. This segment primarily represents the operations of Verizon
Wireless, a joint venture combining our merged wireless properties with the U.S.
properties and paging assets of Vodafone, including the consolidation of
PrimeCo. The formation of Verizon Wireless occurred in April 2000. Effective
with the contribution of the GTE Wireless assets in July 2000, Verizon owns a
55% interest in the joint venture and Vodafone owns the remaining 45%. The third
quarter 2000 information in the table below reflects the combined results of
Verizon Wireless. All periods prior to the formation of Verizon Wireless are
reported on a historical basis and, therefore, do not reflect the contribution
of the Vodafone properties and the consolidation of PrimeCo.
THREE MONTHS ENDED NINE MONTHS ENDED
(Dollars in Millions) SEPTEMBER 30, SEPTEMBER 30,
----------------------- -----------------------
2000 1999 % CHANGE 2000 1999 % CHANGE
-------- -------- -------- -------- -------- --------
RESULTS OF OPERATIONS -
ADJUSTED BASIS
OPERATING REVENUES
Wireless services $ 4,057 $ 1,954 107.6% $ 10,203 $ 5,468 86.6%
-------- -------- -------- --------
OPERATING EXPENSES
Operations and support 2,604 1,338 94.6 6,751 3,637 85.6
Depreciation and amortization 879 261 -- 2,078 773 168.8
-------- -------- -------- --------
3,483 1,599 117.8 8,829 4,410 100.2
-------- -------- -------- --------
OPERATING INCOME $ 574 $ 355 61.7 $ 1,374 $ 1,058 29.9
======== ======== ======== ========
INCOME FROM UNCONSOLIDATED
BUSINESSES $ 25 $ 9 177.8 $ 49 $ 11 --
-------- -------- -------- --------
MINORITY INTEREST $ (229) $ (17) -- $ (380) $ (50) --
-------- -------- -------- --------
ADJUSTED NET INCOME $ 142 $ 172 (17.4) $ 362 $ 513 (29.4)
======== ======== ======== ========
As discussed earlier under "Consolidated Results of Operations," we either have
recently disposed of, or committed to dispose of, certain wireless properties in
order to resolve overlap situations prohibited by the FCC. The effect of these
dispositions will largely depend on the timing of the sales and the reinvestment
of the proceeds. In some cases, these dispositions involve the exchanges of
wireless properties that will be accounted for as a purchase business
combination with a step-up in the carrying value of the assets received in the
exchange.
OPERATING REVENUES
Revenues earned from our consolidated wireless businesses grew by $2,103
million, or 107.6%, in the third quarter of 2000 and $4,735 million, or 86.6%,
in the first nine months of 2000 as compared to the same periods in 1999. By
including the revenues of the properties of the wireless joint venture on a
basis comparable with the third quarter and first nine months of 2000, revenues
were $607 million, or 17.6%, and $1,746 million, or 20.6%, higher than the
similar periods of 1999. On this comparable basis, revenue growth was largely
attributable to customer additions and stable revenue per customer per month.
Our domestic wireless customer base grew to 26.3 million customers in the third
quarter of 2000, compared to 22.9 million customers in the third quarter of
1999, an increase of nearly 15%. During the quarter, almost 400,000 customers
selected one of Verizon Wireless's new national SingleRate plans. Over 70% of
national SingleRate subscribers are taking plans at $55 a month or higher.
OPERATING EXPENSES
Operations and Support
Operations and support expenses, which represent employee costs and other
operating expenses, increased by $1,266 million, or 94.6%, in the third quarter
of 2000 and $3,114 million, or 85.6%, in the first nine months of 2000
principally as a result of the formation of the wireless joint venture in the
second quarter of 2000. By including the expenses of the properties of the
wireless joint venture on a basis comparable with the third quarter and first
nine months of 2000, operations and support expenses were $375 million, or
16.8%, and $1,282 million, or 23.4%, higher than the similar periods of 1999.
Higher costs were attributable to the significant growth in the subscriber base
described above, as well as the continuing migration of analog customers to
digital.
Depreciation and Amortization
Depreciation and amortization expense increased by $618 million, or 236.8%, in
the third quarter of 2000 and $1,305 million, or 168.8%, in the first nine
months of 2000. This increase was mainly attributable to the formation of the
wireless joint venture in the second quarter of 2000. Adjusting for the joint
venture in a manner similar to operations and support expenses above,
depreciation and amortization was $90 million, or 11.4%, and $208 million, or
11.1%, higher than the comparable periods of 1999. Capital expenditures for our
cellular network have increased in 2000 to support increased demand in all
markets.
23
26
DOMESTIC WIRELESS - CONTINUED
INCOME FROM UNCONSOLIDATED BUSINESSES
The variances in the third quarter and year-to-date results from unconsolidated
operations were principally due to the consolidation of PrimeCo in connection
with the formation of the wireless joint venture. On a comparable basis, income
from unconsolidated businesses in the third quarter 2000 was the same as the
prior year.
MINORITY INTEREST
The significant increases in minority interest in the third quarter of 2000 and
the first nine months of 2000 were principally due to the formation of the
wireless joint venture and the significant minority interest attributable to
Vodafone.
24
27
INTERNATIONAL
Our International segment includes international wireline and wireless
telecommunication operations, investments and management contracts in the
Americas, Europe, Asia and Africa. Our consolidated international investments
include Grupo Iusacell (Mexico), CODETEL (Dominican Republic) and CTI and CTI
PCS S.A. (Argentina). In most of our international investments, we have less
than a controlling interest. These investments are accounted for on either the
cost or equity method.
THREE MONTHS ENDED NINE MONTHS ENDED
(Dollars in Millions) SEPTEMBER 30, SEPTEMBER 30,
-------------------------- --------------------------
2000 1999 % CHANGE 2000 1999 % CHANGE
---------- ---------- ---------- ---------- ---------- ----------
RESULTS OF OPERATIONS -
ADJUSTED BASIS
OPERATING REVENUES
Wireline services $ 192 $ 207 (7.2)% $ 551 $ 539 2.2%
Wireless services 320 247 29.6 894 723 23.7
---------- ---------- ---------- ----------
512 454 12.8 1,445 1,262 14.5
---------- ---------- ---------- ----------
OPERATING EXPENSES
Operations and support 391 307 27.4 1,007 871 15.6
Depreciation and amortization 89 50 78.0 253 178 42.1
---------- ---------- ---------- ----------
480 357 34.5 1,260 1,049 20.1
---------- ---------- ---------- ----------
OPERATING INCOME $ 32 $ 97 (67.0) $ 185 $ 213 (13.1)
========== ========== ========== ==========
INCOME FROM UNCONSOLIDATED
BUSINESSES $ 204 $ 143 42.7 $ 504 $ 415 21.4
---------- ---------- ---------- ----------
ADJUSTED NET INCOME $ 198 $ 175 13.1 $ 546 $ 492 11.0
========== ========== ========== ==========
The revenues and operating expenses for the International segment exclude
QuebecTel, which was deconsolidated in the second quarter of 2000.
OPERATING REVENUES
Revenues earned from our international businesses grew by $58 million, or 12.8%,
in the third quarter of 2000 and $183 million, or 14.5%, in the first nine
months of 2000 as compared to the same periods in 1999. The increase in revenues
is primarily due to an increase in wireless subscribers of the consolidated
subsidiaries and the start-up of operations of CTI PCS in the second quarter of
2000, partially offset by lower revenue per customer per month of CTI.
OPERATING EXPENSES
Operations and Support
Operations and support expenses, which represent employee costs and other
operating expenses, increased by $84 million, or 27.4%, in the third quarter of
2000 and increased by $136 million, or 15.6%, in the first nine months of 2000.
The higher costs were driven primarily by customer acquisition costs associated
with wireless customer growth and the start-up of CTI PCS.
Depreciation and Amortization
Depreciation and amortization expense increased by $39 million, or 78.0%, for
the third quarter of 2000 and $75 million, or 42.1%, for the first nine months
of 2000. This increase reflects the continuing build-out of the Mexican and
Argentine wireless networks necessary to meet customer demand.
INCOME FROM UNCONSOLIDATED BUSINESSES
Income from unconsolidated businesses increased by $61 million, or 42.7%, in the
third quarter of 2000 and $89 million, or 21.4%, in the first nine months of
2000 over the same periods in 1999 due to strong subscriber growth at Taiwan
Cellular Corporation and Omnitel and a full nine months of operations at
Telecomunicaciones de Puerto Rico (TELPRI). In addition, we no longer record
equity losses from our investment in BayanTel, a Philippines-based
telecommunications company, since our investment in BayanTel has been
written-down to zero. These increases were partially offset by lower results at
CANTV driven by the weakened Venezuelan economy and delayed tariff increases as
well as equity losses from our investment in Cable & Wireless Communications plc
(CWC), an international cable television and telecommunications operation in the
United Kingdom. Due to the restructuring that occurred during May 2000, we no
longer record equity losses for CWC.
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INFORMATION SERVICES
Our Information Services segment consists of our domestic and international
publishing businesses including print and electronic directories and
Internet-based shopping guides, as well as website creation and other electronic
commerce services. This segment has operations principally in North America,
Europe, Asia and Latin America.
THREE MONTHS ENDED NINE MONTHS ENDED
(Dollars in Millions) SEPTEMBER 30, SEPTEMBER 30,
---------------------- ----------------------
2000 1999 % CHANGE 2000 1999 % CHANGE
-------- -------- -------- -------- -------- --------
RESULTS OF OPERATIONS - ADJUSTED BASIS
OPERATING REVENUES
Information services $ 970 $ 913 6.2% $ 2,805 $ 2,727 2.9%
-------- -------- -------- --------
OPERATING EXPENSES
Operations and support 473 467 1.3 1,382 1,395 (.9)
Depreciation and amortization 17 18 (5.6) 56 56 --
-------- -------- -------- --------
490 485 1.0 1,438 1,451 (.9)
-------- -------- -------- --------
OPERATING INCOME $ 480 $ 428 12.1 $ 1,367 $ 1,276 7.1
======== ======== ======== ========
ADJUSTED NET INCOME $ 292 $ 256 14.1 $ 819 $ 759 7.9
======== ======== ======== ========
OPERATING REVENUES
Operating revenues improved by $57 million, or 6.2%, in the third quarter of
2000 and $78 million, or 2.9%, in the first nine months of 2000 compared to the
same periods in 1999. These revenue increases were generated by growth in print
directory advertising revenue, expansion in the Company's Internet directory
service, SuperPages.com(R), and shifts of directory publication dates in various
markets.
OPERATING EXPENSES
Third quarter 2000 total operating expenses increased $5 million, or 1%, from
the same quarter last year. In the first nine months of 2000, operating expenses
decreased $13 million, or .9%, from the corresponding period in 1999. The
increase in operating expense for the third quarter was primarily due to the
shifts of directory publication dates mentioned above, offset by productivity
improvements. The decrease in operating expense for the first nine months of
2000 was largely attributable to the Company's ongoing effort to reduce
directory publishing expenses.
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NONOPERATING ITEMS
THREE MONTHS ENDED NINE MONTHS ENDED
(Dollars in Millions) SEPTEMBER 30, SEPTEMBER 30,
---------------------- ----------------------
2000 1999 % CHANGE 2000 1999 % CHANGE
-------- -------- -------- -------- -------- --------
INTEREST EXPENSE
Interest expense from continuing operations $ 915 $ 636 43.9% $ 2,605 $ 1,912 36.2%
Capitalized interest costs 60 35 71.4 157 83 89.2
-------- -------- -------- --------
Total interest costs on debt balances $ 975 $ 671 45.3 $ 2,762 $ 1,995 38.4
======== ======== ======== ========
The increase in interest costs for the three and nine months ended September 30,
2000 was principally attributable to higher average short-term debt levels and
interest rates. The increase in debt levels was mainly the result of the debt
associated with the formation of Verizon Wireless.
THREE MONTHS ENDED NINE MONTHS ENDED
(Dollars in Millions) SEPTEMBER 30, SEPTEMBER 30,
----------------------- -----------------------
2000 1999 % CHANGE 2000 1999 % CHANGE
-------- -------- -------- -------- -------- --------
OTHER INCOME AND (EXPENSE), NET
Foreign currency gains (losses), net $ 30 $ (2) -- $ 9 $ 17 (47.1)%
Interest income 74 23 221.7% 200 73 174.0
Minority interest (142) (50) 184.0 (177) (151) 17.2
Other, net 25 3 -- 11 22 (50.0)
-------- -------- -------- --------
Total $ (13) $ (26) (50.0) $ 43 $ (39) --
======== ======== ======== ========
The changes in other income and expense in the three and nine months ended
September 30, 2000, as compared to the same periods in 1999, were due to changes
in several components as shown in the table above. Foreign exchange gains were
affected primarily by our Iusacell subsidiary that uses the Mexican peso as its
functional currency. We expect that our earnings will continue to be affected by
foreign currency gains or losses associated with the U.S. dollar denominated
debt issued by Iusacell.
We recorded higher interest income in the third quarter and first nine months of
2000 due to higher levels of short-term investments, income from our investment
in Metromedia Fiber Network, Inc.'s (MFN's) subordinated debt securities and in
connection with the settlement of a tax-related matter.
The change in minority interest was primarily due to the impact of the wireless
joint venture with Vodafone, partially offset by the redemption in October 1999
and March 2000 of preferred securities issued by GTE Delaware, L.P., a
subsidiary of GTE, and higher operating losses at Iusacell and our operations in
Argentina.
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------ --------------------
2000 1999 2000 1999
------ ------ ------ -----
EFFECTIVE INCOME TAX RATES 43.3% 37.1% 40.3% 37.0%
The effective income tax rate is the provision for income taxes as a percentage
of income before the provision for income taxes. Our effective income tax rate
for the three month period ended September 30, 2000 was higher than the
corresponding period in 1999 principally as a result of deferred taxes recorded
in connection with the contribution of GTE Wireless assets to Verizon Wireless
in July 2000. The increase in the nine month period ended September 30, 2000 was
higher than the corresponding period in 1999 due to the above and due to the
effect of certain merger-related costs and special charges for which there were
no corresponding tax benefits.
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CONSOLIDATED FINANCIAL CONDITION
NINE MONTHS ENDED
(Dollars in Millions) SEPTEMBER 30,
-------------------------------
2000 1999 $ CHANGE
------------ ------------ ------------
CASH FLOWS FROM (USED IN)
Operating activities $ 12,045 $ 11,807 $ 238
Investing activities (8,129) (8,176) 47
Financing activities (5,121) (517) (4,604)
------------ ------------ ------------
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS $ (1,205) $ 3,114 $ (4,319)
============ ============ =============
We use the net cash generated from our operations and from external financing to
fund capital expenditures for network expansion and modernization, pay
dividends, and invest in new businesses. While current liabilities exceeded
current assets at September 30, 2000 and 1999 and December 31, 1999, our sources
of funds, primarily from operations and, to the extent necessary, from readily
available external financing arrangements, are sufficient to meet ongoing
operating and investing requirements. We expect that presently foreseeable
capital requirements will continue to be financed primarily through internally
generated funds. Additional debt or equity financing may be needed to fund
additional development activities or to maintain our capital structure to ensure
our financial flexibility.
CASH FLOWS FROM OPERATING ACTIVITIES
Our primary source of funds continues to be cash generated from operations. The
increase in cash from operations primarily reflects improved operating income
before depreciation and amortization. Favorable changes in working capital also
contributed to the increase in cash flows from operating activities.
CASH FLOWS USED IN INVESTING ACTIVITIES
Capital expenditures continue to be our primary use of capital resources. We
invested approximately $8,580 million in our Domestic Telecom business in the
first nine months of 2000, compared to $7,202 million in the first nine months
of 1999 to facilitate the introduction of new products and services, enhance
responsiveness to competitive challenges and increase the operating efficiency
and productivity of the network. We also invested approximately $2,378 million
in our Domestic Wireless business in the first nine months of 2000, compared to
$996 million in the same period of 1999 due to the inclusion of both Vodafone
and PrimeCo properties in Verizon Wireless in April 2000 as well as increased
capital spending in existing Bell Atlantic and GTE wireless properties.
Capital spending is expected to total approximately $18 billion in 2000, an
increase of approximately $4.5 billion compared to 1999. Approximately $2.0
billion of the increase is due to the inclusion of both Vodafone and PrimeCo
properties in Verizon Wireless as well as increases in existing Bell Atlantic
and GTE wireless properties' capital spending in 2000. Domestic Telecom network
expenditures on data, DSL and strong demand growth account for the remainder of
the increase.
We invested $1,590 million in acquisitions and investments in businesses during
the first nine months of 2000, including approximately $715 million in the
equity of MFN, $389 million in wireless properties and $150 million in
NorthPoint. In the first nine months of 1999, we invested $1,521 million in
acquisitions and investments including $635 million in Omnitel to increase our
ownership percentage from 19.7% to 23.1%, $200 million in PrimeCo, $366 million
for a 40% interest in TELPRI, a full-service telecommunications provider serving
the commonwealth of Puerto Rico, and $120 million for the purchase of the CTI
PCS license.
During the first nine months of 2000, we also invested $975 million in
subordinated convertible notes of MFN, in connection with our overall investment
in MFN described above.
In the first nine months of 2000, we also received cash proceeds of $6,004
million, including gross cash proceeds of $4,629 million from the sale of
non-strategic access lines and $964 million from overlap wireless properties, as
well as $144 million from the sale of CyberTrust. In the first nine months of
1999, we received cash proceeds of $1,648 million including $1,031 million from
the sale of a substantial portion of GTE Government Systems and $612 million
from the disposition of our remaining investment in Viacom.
Other, net investing activities for the first nine months of 2000 reflects
capitalized non-network software of $644 million.
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CASH FLOWS USED IN FINANCING ACTIVITIES
The net cash proceeds from increases in our total debt from December 31, 1999 of
$215 million was primarily due to the issuance of $893 million of medium term
notes, $653 million of financing transactions of cellular assets, $386 million
of long-term bank debt at Verizon Wireless and an increase in other short-term
borrowings, partially offset by repayments of long-term debt. Our debt ratio was
60.0% as of September 30, 2000, compared to 61.8% as of September 30, 1999 and
64.3% as of December 31, 1999. We expect the year-end total debt to be
moderately higher than current levels, subject to any modification of our
investment strategy.
As in prior quarters, dividend payments were a significant use of capital
resources. We determine the appropriateness of the level of our dividend
payments on a periodic basis by considering such factors as long-term growth
opportunities, internal cash requirements, and the expectations of our
shareowners. In the first, second and third quarters of 1999 and the first and
third quarters of 2000, we announced a quarterly cash dividend of $.385 per
share. In the second quarter of 2000 we announced two separate pro rata
dividends to ensure that the respective shareowners of Bell Atlantic and GTE
received dividends at an appropriate rate.
Common stock repurchases were primarily due to the two-year share buyback
program approved by the Board of Directors on March 1, 2000.
As of September 30, 2000, we had in excess of $10.3 billion of unused bank lines
of credit and $4.7 billion in bank borrowings outstanding. As of September 30,
2000, our operating telephone subsidiaries and financing subsidiaries had shelf
registrations for the issuance of up to $3.5 billion of unsecured debt
securities. The debt securities of our telephone and financing subsidiaries
continue to be accorded high ratings by primary rating agencies.
We also have a $2.0 billion Euro Medium Term Note Program, under which we may
issue notes that are not registered with the Securities and Exchange Commission.
The notes may be issued from time to time by our subsidiary, Verizon Global
Funding Corp. and will have the benefit of a support agreement between Verizon
Global Funding Corp. and us. There have been no notes issued under this program.
MARKET RISK
We are exposed to various types of market risk in the normal course of our
business, including the impact of interest rate changes, foreign currency
exchange rate fluctuations, changes in equity investment prices and changes in
corporate tax rates. We employ risk management strategies using a variety of
derivatives including interest rate swap agreements, interest rate caps and
floors, foreign currency forwards and options and basis swap agreements. We do
not hold derivatives for trading purposes.
It is our policy to enter into interest rate, foreign currency and other
derivative transactions only to the extent necessary to achieve our desired
objectives in limiting our exposures to the various market risks. Our objectives
include maintaining a mix of fixed and variable rate debt to lower borrowing
costs within reasonable risk parameters, hedging the value of certain
international investments, and protecting against earnings and cash flow
volatility resulting from changes in foreign exchange rates. We do not hedge our
market risk exposure in a manner that would completely eliminate the effect of
changes in interest rates, equity prices and foreign exchange rates on our
earnings. While we do not expect that our liquidity and cash flows will be
materially affected by these risk management strategies, our net income may be
materially affected by certain market risks associated with the exchangeable
notes discussed below.
EXCHANGEABLE NOTES
In 1998, we issued exchangeable notes as described in Note 10 to the condensed
consolidated financial statements and discussed earlier under "Mark-to-Market
Adjustment for Exchangeable Notes." These financial instruments expose us to
market risk, including:
o Equity price risk, because the notes are exchangeable into shares that are
traded on the open market and routinely fluctuate in value.
o Interest rate risk, because the notes carry fixed interest rates.
o Foreign exchange rate risk, because the notes are exchangeable into shares
that are denominated in a foreign currency.
Periodically equity price or foreign exchange rate movements may require us to
mark-to-market the exchangeable note liability to reflect the increase in the
current share price over the established exchange price, resulting in a charge
or credit to income. The following sensitivity analysis measures the effect on
earnings and financial condition due to changes in the underlying share prices
of the TCNZ, C&W and NTL stock.
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o At September 30, 2000, the exchange price for the TCNZ shares (expressed as
American Depositary Receipts) was $44.93. In May 2000, the underlying
exchange property for the $3.2 billion exchangeable notes we issued in
August 1998 changed from shares of CWC stock to shares of C&W and NTL
stock. Therefore, the value of the stocks taken together will determine the
impact on our earnings in any given period. The notes are exchangeable into
128.4 million shares of C&W stock and 24.5 million shares of NTL stock.
o For each $1 increase in the value of the TCNZ shares above the exchange
price, our earnings would be reduced by approximately $55 million. Assuming
the aggregate value of the C&W and NTL stocks exceeds the value of the debt
liability, each $1 increase in the value of the C&W shares (expressed as
American Depositary Receipts) or NTL shares would reduce our earnings by
approximately $43 million or $24 million, respectively. A subsequent
decrease in the value of these shares would correspondingly increase
earnings, but not to exceed the amount of any previous reduction in
earnings.
o Our cash flows would not be affected by mark-to-market activity relating to
the exchangeable notes.
o If we decide to deliver shares in exchange for the notes, the exchangeable
note liability (including any mark-to-market adjustments) will be
eliminated and the investment will be reduced by the fair market value of
the related number of shares delivered. Upon settlement, the excess of the
liability over the book value of the related shares delivered will be
recorded as a gain. We also have the option to settle these liabilities
with cash upon exchange.
EQUITY RISK
We also have equity price risk associated with our investments, primarily in
common stocks and convertible debt securities that are carried at fair value.
The value of these investments is subject to changes in the market prices of the
securities.
Investments recorded at fair value totaled $6,107 million at September 30, 2000
and $2,665 million at December 31, 1999. The increase from December 31, 1999 was
primarily due to our purchase of common stock and subordinated debt securities
of MFN and our exchange of CWC shares for shares of C&W and NTL. We accounted
for our investment in CWC using the equity method, while we are accounting for
our investments in C&W and NTL on the cost method and carrying them at their
fair value as required by SFAS No. 115.
A sensitivity analysis of our investments recorded at fair value indicated that
a 10% increase or decrease in the fair value of these securities would result in
a $611 million increase or decrease in the fair value of the investments. A
change in fair value, net of income taxes, would be recognized in "Accumulated
other comprehensive income" in our statement of changes in shareowners'
investment.
OTHER FACTORS THAT MAY AFFECT FUTURE RESULTS
On August 8, 2000, we filed a Current Report on Form 8-K announcing our revised
financial outlook in light of the impact of the Bell Atlantic-GTE merger
including the impact of conditions for merger approval imposed by state and FCC
regulators, the deconsolidation of Genuity Inc. (Genuity), the formation of
Verizon Wireless, including the impact of goodwill resulting from its formation,
and the newly announced combinations with NorthPoint and OnePoint.
BELL ATLANTIC - GTE MERGER
On June 30, 2000, Bell Atlantic and GTE completed a merger under a definitive
merger agreement dated as of July 27, 1998. Under the terms of the agreement,
GTE became a wholly-owned subsidiary of Bell Atlantic. GTE shareholders received
1.22 shares of Bell Atlantic common stock for each share of GTE common stock
that they owned. This resulted in the issuance of 1,176 million shares of Bell
Atlantic common stock.
The merger qualified as a tax-free reorganization and has been accounted for as
a pooling of interests. Under this method of accounting, the companies are
treated as if they had always been combined for accounting and financial
reporting purposes and, therefore, we have restated our financial information
for all dates and periods prior to the merger.
On June 27, 2000, Genuity, formerly GTE Internetworking, sold 90.5% of its
equity to the public through an initial public offering (IPO). We retained a
9.5% equity interest in Genuity, as permitted by the Telecommunications Act of
1996. Genuity operates a tier-one interLATA Internet backbone and related data
businesses. The transition of Genuity to a public company was part of a
comprehensive proposal filed with the FCC
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on January 27, 2000, to address regulatory restrictions associated with
Verizon's ability to provide long-distance and Internet-related data service
offerings that GTE had previously provided to consumers and businesses. We have
an option to increase our ownership interest to as much as 82% of the total
equity of Genuity, representing approximately 96% of Genuity's total voting
rights (before giving effect to outstanding options granted to Genuity employees
and additional shares of common stock that Genuity may issue in the future), if
we eliminate the applicable restrictions of Section 271 of the
Telecommunications Act of 1996 as to 100% of the total telephone access lines
owned by Bell Atlantic in 1999 in its region. This option expires if we do not
eliminate these restrictions within five years of the merger, subject to
extension under certain circumstances. In addition, if we eliminate Section 271
restrictions as to 95% of the former Bell Atlantic in-region lines, we may
require Genuity to reconfigure its operations in one or more former Bell
Atlantic in-region states where we have not eliminated those restrictions in
order to bring those operations into compliance with Section 271 under certain
circumstances.
The IPO transferred ownership and control of Genuity to the public shareholders
and, accordingly, we deconsolidated our investment in Genuity and, effective as
of the IPO, we account for our investment in Genuity using the cost method of
accounting.
Federal and state regulatory conditions to the merger also included certain
commitments to, among other things, promote competition and the widespread
deployment of advanced services while helping to ensure that consumers continue
to receive high-quality, low-cost telephone services. In some cases there are
significant penalties associated with not meeting these commitments. The cost of
satisfying these commitments could have a significant impact on net income in
future periods. As previously disclosed, the cost of satisfying these
commitments is likely to impact net income in 2000 by approximately $275-$325
million, based on preliminary estimates.
RECENT DEVELOPMENTS
NorthPoint Communications Group
On August 8, 2000, we and NorthPoint announced that we will merge our DSL
businesses to form a premier broadband communications company dedicated to
accelerating the delivery of high-speed data services nationwide. The merger
will combine the companies' DSL networks, products, technology, strategic
partnerships and management. The merger agreement has been approved by the
boards of directors of both companies and is subject to regulatory approvals and
the approval of NorthPoint shareholders. Shareholders representing approximately
48% of the currently outstanding shares of NorthPoint have agreed to vote their
shares in support of the merger. The companies anticipate completing the
transaction in 2001.
Upon completion of the transaction, we will own 55% of NorthPoint and
NorthPoint's existing shareholders will own 45%. As a result, we will account
for the transaction as a purchase business combination and consolidate
NorthPoint's financial results from the date of the merger close. As previously
disclosed, completion of the NorthPoint transaction in 2001 could have the
effect of lowering our year-over-year earnings per share growth in 2001 by
approximately 4-5%, based on preliminary estimates. In accordance with the
merger agreement, NorthPoint shareholders will receive $350 million in cash or
approximately $2.50 per share. The actual per share amount will be based on the
number of outstanding NorthPoint shares and warrants as of the closing date of
the transaction. NorthPoint shareholders also will receive one share in the new
NorthPoint for each share held as of the closing date. In addition, we have
agreed to make a cash investment in NorthPoint of $450 million. Up to $350
million will be provided in the form of financing prior to closing, subject to
certain conditions. In September 2000, we invested $150 million in NorthPoint.
OnePoint Communications Corp.
On August 7, 2000, we announced that we will purchase OnePoint, an acquisition
that will accelerate delivery of voice, video and high-speed Internet services
to apartment buildings, condominiums, business offices and other multi-unit
structures. The transaction, which we plan to complete by year-end 2000, is
subject to certain conditions and regulatory approvals. As previously disclosed,
completion of the OnePoint transaction by the end of 2000 could have the effect
of lowering our earnings per share growth in 2001 by approximately 1%, based on
preliminary estimates.
Verizon Wireless IPO
On October 16, 2000, we announced that Verizon Wireless will defer its planned
IPO of common stock. We and Vodafone have agreed that, despite Verizon
Wireless's strong third quarter subscriber growth, recent volatility of capital
markets has created an environment in which it is prudent to defer the offering.
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FCC REGULATION AND INTERSTATE RATES
As of September 14, 2000, Verizon formally opted to participate in the full
five-year term of the FCC-adopted industry plan to restructure access rates
known as the CALLS plan. As a result of this decision, price caps on Verizon's
interstate access charges will be set according to the terms of the CALLS plan.
Under the terms of the plan, direct end-user access charges are increased while
access charges to long distance carriers are reduced. While the plan continues
the 6.5% (less inflation) annual reductions for most interstate access charges,
it provides for a price freeze when switched access transport prices reach
$0.0055 per-minute. As a result of tariff adjustments which became effective in
August 2000, Verizon's telephone operating companies in ten states in the
former GTE territory and seven states in the former Bell Atlantic territory
reached the $0.0055 benchmark. In addition, in conjunction with provisions that
will allow carriers to deaverage their subscriber line charges by geographic
zones, the plan establishes a new $650 million universal service fund to support
interstate access rates. Of that amount, Verizon expects approximately $320
million to be used to support interstate access services in its service
territory.
Universal Service
On October 18, 2000, Verizon asked the United States Supreme Court to dismiss
its pending review of the FCC's use of a theoretical model as one factor to
determine the appropriate size of federal support for a fund for intrastate high
cost areas. The review was no longer necessary because, subsequent to Verizon's
petition to the Supreme Court, the FCC expressly disclaimed supervisory
authority over the States' universal service activities. Dismissal of this
appeal will not impact Verizon's continued opposition to the use of Total
Element Long Run Incremental Cost (TELRIC) as a rate-setting methodology.
Unbundling of Network Elements
The Court of Appeals' decision to invalidate many of the FCC's pricing
guidelines for unbundled network elements has been stayed by that court pending
potential review by the Supreme Court. The FCC and other parties have petitioned
the Supreme Court, seeking review of a number of aspects of that Order,
including the decision invalidating the pricing guidelines. At the same time,
Verizon has petitioned the Supreme Court for review of the Appeals Court
decision that the FCC may require that unbundled network elements be priced
based on a forward-looking cost model that ignores actual historical costs. The
Supreme Court is expected to decide what issues it will accept for review in the
fourth quarter.
TELECOMMUNICATIONS ACT OF 1996
In-Region Long Distance
On September 22, 2000, we filed our application with the FCC for permission to
enter the in-region long distance business in Massachusetts. This filing
followed nearly 16 months of proceedings before the Massachusetts Department of
Telecommunications and Energy (DTE) demonstrating that we have satisfied the
14-point "checklist" required under the 1996 Act for entry into the in-region
long distance business. The filing also followed an extensive 12-month
third-party test of our operations support systems (OSS) in Massachusetts
conducted by KPMG Consulting under the direction of the Massachusetts DTE. On
October 16, 2000, the Massachusetts DTE filed an evaluation fully supporting our
application. On October 27, 2000, the Department of Justice filed its evaluation
of the application. The Department of Justice stated that "although Verizon has
satisfied [the] standard in most respects, important issues remain inadequately
addressed." We expect the FCC to render a decision on our application before
year-end.
STATE REGULATION
Pennsylvania
On September 30, 1999, the Pennsylvania Public Utility Commission issued a final
decision in its "Global" proceeding on telecommunications competition matters.
The decision proposes to require our operating telephone subsidiary in
Pennsylvania, Verizon Pennsylvania, to split into separate retail and wholesale
corporations. It proposes reductions in access charges applicable to services
provided to interexchange carriers and in both unbundled network element rates
and wholesale rates applicable to services and facilities provided to
competitive local exchange carriers. It requires Verizon Pennsylvania to provide
combinations of unbundled network elements beyond those required by the FCC. It
classifies certain business services as "competitive," but restricts the pricing
freedom that that classification is supposed to give Verizon Pennsylvania. It
sets a schedule of prerequisites for state endorsement of a Verizon Pennsylvania
application to the FCC for permission to offer in-region long distance service
under Section 271 of the 1996 Act that are likely to delay that endorsement.
Verizon Pennsylvania challenged the lawfulness of this order in the Commonwealth
Court of Pennsylvania and the Federal District Court. On October 24, 2000, the
Commonwealth Court affirmed the Commission's Order and held that the Commission
had the power to order structural separation of Verizon Pennsylvania. Verizon
Pennsylvania is currently considering its appellate options. The federal
district court action is still pending.
On April 26, 2000, the Commission reinitiated its proceeding to determine the
nature and form of the separate subsidiary ordered in its "Global" proceeding.
The Commission ordered Verizon Pennsylvania to file an updated structural
separation plan and mitigation plan. In addition, in recognition of the passage
of time and the potential for changed circumstances, the Commission invited
Verizon Pennsylvania to submit alternative proposals to structurally separate
its retail and wholesale operations. On June 26, 2000, Verizon Pennsylvania
submitted a structural separation plan, estimating that the implementation
costs, including both capital and expense, for full structural separation would
be over $800 million and that the ongoing annual expenses would be over $300
million. Verizon
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Pennsylvania also submitted an alternative proposal for structural separation
that involved the establishment of a separate data affiliate. A final ruling in
this docket is not expected until early next year.
OTHER MATTERS
RECENT ACCOUNTING PRONOUNCEMENTS
Derivatives and Hedging Activities
In June 1998, the Financial Accounting Standards Board (FASB) issued SFAS No.
133, "Accounting for Derivative Instruments and Hedging Activities." This
statement requires that all derivatives be measured at fair value and recognized
as either assets or liabilities on our balance sheet. Changes in the fair values
of derivative instruments will be recognized in either earnings or comprehensive
income, depending on the designated use and effectiveness of the instruments.
In June 2000, the FASB issued SFAS No. 138, "Accounting for Certain Derivative
Instruments and Certain Hedging Activities," which amended SFAS No. 133. The
amendments in SFAS No. 138 address certain implementation issues and relate to
such matters as the normal purchases and normal sales exception, the definition
of interest rate risk, hedging recognized foreign-currency-denominated assets
and liabilities, and intercompany derivatives.
We are currently evaluating the provisions of SFAS No. 133 and SFAS No. 138,
which we will adopt on January 1, 2001. The impact of adoption will be affected
by several factors, including the specific hedging instruments in place and
their relationships to hedged items, as well as market conditions at the date of
adoption.
Revenue Recognition
In December 1999, the SEC issued Staff Accounting Bulletin (SAB) No. 101,
"Revenue Recognition in Financial Statements," which provides additional
guidance on revenue recognition and, in certain circumstances, requires the
deferral of incremental costs. We will adopt SAB No. 101 in the fourth quarter
of 2000, retroactive to January 1, 2000. We are currently assessing the
impact of adopting SAB No. 101.
CAUTIONARY STATEMENT CONCERNING FORWARD-LOOKING STATEMENTS
In this MD&A, and elsewhere in this Quarterly Report, we have made forward-
looking statements. These statements are based on our estimates and assumptions
and are subject to risks and uncertainties. Forward-looking statements include
the information concerning our possible or assumed future results of
operations. Forward-looking statements also include those preceded or followed
by the words "anticipates," "believes," "estimates," "hopes" or similar
expressions. For those statements, we claim the protection of the safe harbor
for forward-looking statements contained in the Private Securities Litigation
Reform Act of 1995.
The following important factors, along with those discussed elsewhere in this
Quarterly Report, could affect future results and could cause those results to
differ materially from those expressed in the forward-looking statements:
o materially adverse changes in economic conditions in the markets served by
us or by companies in which we have substantial investments;
o material changes in available technology;
o the final outcome of federal, state, and local regulatory initiatives and
proceedings, including arbitration proceedings, and judicial review of
those initiatives and proceedings, pertaining to, among other matters, the
terms of interconnection, access charges, universal service, and unbundled
network element and resale rates;
o the extent, timing, success, and overall effects of competition from others
in the local telephone and toll service markets;
o the timing and profitability of our entry into the in-region long distance
business;
o our ability to combine former Bell Atlantic and GTE operations, satisfy
regulatory conditions and obtain revenue enhancements and cost savings
following the merger;
o the profitability of our entry into the nationwide broadband access market,
including the impact of our transaction with NorthPoint;
o the ability of Verizon Wireless to combine operations and obtain revenue
enhancements and cost savings;
o our ability to convert our ownership interest in Genuity into a
controlling interest consistent with regulatory conditions, and Genuity's
ensuing profitability; and
o our accounting assumptions are subject to review by regulatory agencies,
including the SEC, and changes in the assumptions as required by those
agencies or any changes in the accounting rules or their application could
result in an impact on earnings.
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ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Information relating to market risk is included in Item 2, Management's
Discussion and Analysis of Financial Condition and Results of Operations, in the
Consolidated Financial Condition section under the caption "Market Risk."
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PART II - OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits:
Exhibit
Number
10a Material Contracts - Employment Agreement between Verizon
Communications Inc. and Lawrence T. Babbio.
10b Material Contracts - Employment Agreement between Verizon
Communications Inc. and Mary Beth Bardin.
10c Material Contracts - Employment Agreement between Verizon
Communications Inc. and William P. Barr.
10d Material Contracts - Employment Agreement between Verizon
Communications Inc. and Michael T. Masin.
10e Material Contracts - Employment Agreement between Verizon
Communications Inc. and Frederic V. Salerno.
10f Material Contracts - Employment Agreement between Verizon
Communications Inc. and Dennis F. Strigl.
10g Material Contracts - Employment Agreement between Verizon
Communications Inc. and Lawrence R. Whitman.
10h Material Contracts - Verizon Communications 2000 Broad-Based
Incentive Plan.
27 Financial Data Schedule.
(b) Reports on Form 8-K filed during the quarter ended September 30, 2000:
A Current Report on Form 8-K, dated July 21, 2000, was filed containing a
press release issued by Verizon Communications.
A Current Report on Form 8-K was filed on August 8, 2000, announcing our
revised financial outlook in light of the impact of the Bell Atlantic-GTE
merger, the deconsolidation of Genuity Inc., the formation of Verizon
Wireless and the newly announced combinations with NorthPoint
Communications Group, Inc. and OnePoint Communications Corp.
A Current Report on Form 8-K, dated August 20, 2000, was filed on August
29, 2000, containing three press releases issued by Verizon Communications
regarding the tentative agreements reached with the International
Brotherhood of Electrical Workers (IBEW) and the Communication Workers of
America (CWA) in the New York, New England and Mid-Atlantic regions and
"neutrality and card check recognition" agreements with the IBEW and CWA
applicable to Verizon Wireless employees in certain markets.
A Current Report on Form 8-K, dated September 7, 2000, was filed regarding
the change in registrant's certifying accountants to Ernst & Young LLP.
A Current Report on Form 8-K/A was filed on September 13, 2000, amending a
Form 8-K dated June 30, 2000, containing unaudited pro forma financial
statements prepared in connection with the June 30, 2000 merger of Bell
Atlantic and GTE.
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SIGNATURE
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.
VERIZON COMMUNICATIONS INC.
Date: November 14, 2000 By /s/ Lawrence R. Whitman
---------------------------------------
Lawrence R. Whitman
Senior Vice President - Controller
(Principal Accounting Officer)
UNLESS OTHERWISE INDICATED, ALL INFORMATION IS AS OF NOVEMBER 10, 2000.
36
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EXHIBIT INDEX
-------------
EXHIBIT
NUMBER DESCRIPTION
------ -----------
10a Material Contracts - Employment Agreement between Verizon
Communications Inc. and Lawrence T. Babbio.
10b Material Contracts - Employment Agreement between Verizon
Communications Inc. and Mary Beth Bardin.
10c Material Contracts - Employment Agreement between Verizon
Communications Inc. and William P. Barr.
10d Material Contracts - Employment Agreement between Verizon
Communications Inc. and Michael T. Masin.
10e Material Contracts - Employment Agreement between Verizon
Communications Inc. and Frederic V. Salerno.
10f Material Contracts - Employment Agreement between Verizon
Communications Inc. and Dennis F. Strigl.
10g Material Contracts - Employment Agreement between Verizon
Communications Inc. and Lawrence R. Whitman.
10h Material Contracts - Verizon Communications 2000 Broad-Based
Incentive Plan.
27 Financial Data Schedule.