UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 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, 1996
------------------------------------
or
[ ] TRANSITION REPORT PURSUANT TO SECTION A3 OR 15(d) OF THE
SECURITIES AND EXCHANGE ACT OF 1934
For the transition period from to
COMMISSION FILE NUMBER 0-16560
VANGUARD CELLULAR SYSTEMS, INC.
(Exact name of registrant as specified in its charter)
NORTH CAROLINA 56-1549590
(State or other jurisdiction of incorporation or organization) (I.R.S.Employer Identification No.)
2002 Pisgah Church Road, Suite 300
Greensboro, North Carolina 27455-3314
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (910) 282-3690
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 ___.
The number of shares outstanding of the issuer's common stock as of October 1,
1996 was 41,339,243.
VANGUARD CELLULAR SYSTEMS, INC. AND SUBSIDIARIES
INDEX
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements (Unaudited)
Condensed Consolidated Balance Sheets - I-1
September 30, 1996 and December 31, 1995.
Condensed Consolidated Statements of Operations - I-2
Three months and nine months ended September 30, 1996
and 1995
Condensed Consolidated Statements of Cash Flows - I-3
Nine months ended September 30, 1996 and 1995
Notes to Condensed Consolidated Financial I-4
Statements
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations I-11
PART II. OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K II-1
SIGNATURES II-2
Item 1. Financial Statements
VANGUARD CELLULAR SYSTEMS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(Amounts in thousands, except per share data)
SEPTEMBER 30, DECEMBER 31,
- -------------------------------------------------------------------------------------------------------------
ASSETS 1996 1995
- -------------------------------------------------------------------------------------------------------------
(Substantially all pledged on long-term debt) (UNAUDITED) (SEE NOTE)
Current Assets:
Cash $ 5,505 $ 8,085
Accounts receivable, net of allowances for doubtful accounts of $5,422
and $5,823 30,781 31,270
Cellular telephone inventories 11,747 8,957
Prepaid expenses 1,770 1,498
- ---------------------------------------------------------------------------------------------------------
Total current assets 49,803 49,810
- ---------------------------------------------------------------------------------------------------------
Investments 339,886 306,760
Property and Equipment, net of accumulated depreciation of $113,658 and
$94,057 287,310 225,206
Other Assets, net of accumulated amortization of $6,118 and $3,390 20,279 14,801
- ---------------------------------------------------------------------------------------------------------
Total assets $ 697,278 $ 596,577
- ---------------------------------------------------------------------------------------------------------
- ---------------------------------------------------------------------------------------------------------
LIABILITIES AND SHAREHOLDERS' EQUITY
- ---------------------------------------------------------------------------------------------------------
Current Liabilities:
Accounts payable and accrued expenses $ 57,552 $ 43,147
Customer deposits 1,116 1,666
- ---------------------------------------------------------------------------------------------------------
Total current liabilities 58,668 44,813
- ---------------------------------------------------------------------------------------------------------
Long-Term Debt 592,950 522,143
- ---------------------------------------------------------------------------------------------------------
Minority Interests -- 573
- ---------------------------------------------------------------------------------------------------------
Commitments and Contingencies
Shareholders' Equity:
Preferred stock - $.01 par value, 1,000 shares authorized, no shares
issued -- --
Common stock, Class A - $.01 par value, 250,000 shares authorized,
41,339 and 41,312 shares issued and outstanding 413 413
Common stock, Class B - $.01 par value, 30,000 shares authorized,
no shares issued -- --
Additional capital in excess of par value 239,110 238,662
Net unrealized holding losses (10,512) (16,395)
Accumulated deficit (183,351) (193,632)
- ---------------------------------------------------------------------------------------------------------
Total shareholders' equity 45,660 29,048
- ---------------------------------------------------------------------------------------------------------
Total liabilities and shareholders' equity $ 697,278 $ 596,577
- ---------------------------------------------------------------------------------------------------------
THE ACCOMPANYING NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS ARE AN
INTEGRAL PART OF THESE BALANCE SHEETS.
NOTE: THE BALANCE SHEET AT DECEMBER 31, 1995 HAS BEEN DERIVED FROM THE AUDITED
FINANCIAL STATEMENTS AT THAT DATE.
I-1
VANGUARD CELLULAR SYSTEMS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(Amounts in thousands, except per share data)
VANGUARD CELLULAR SYSTEMS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(Amounts in thousands, except per share data)
THREE MONTHS ENDED SEPTEMBER 30, NINE MONTHS ENDED SEPTEMBER 30,
- ------------------------------------------------------------------------------------------------------------------------------------
1996 1995 1996 1995
- ------------------------------------------------------------------------------------------------------------------------------------
(Unaudited) (Unaudited) (Unaudited) (Unaudited)
Revenues:
Service revenue $ 75,305 $ 58,823 $ 208,068 $ 156,670
Cellular telephone equipment revenue 3,297 3,130 9,877 12,231
Other 1,021 751 3,316 2,374
- -----------------------------------------------------------------------------------------------------------------------------------
79,623 62,704 221,261 171,275
- ------------------------------------------------------------------------------------------------------------------------------------
Costs and Expenses:
Cost of service 6,425 6,150 23,837 17,652
Cost of cellular telephone equipment 6,369 4,961 16,475 21,216
General and administrative 20,529 15,824 57,073 43,309
Marketing and selling 15,747 12,375 43,047 38,978
Depreciation and amortization 12,953 9,589 34,496 26,424
- ------------------------------------------------------------------------------------------------------------------------------------
62,023 48,899 174,928 147,579
- ------------------------------------------------------------------------------------------------------------------------------------
Income From Operations 17,600 13,805 46,333 23,696
Net Gain (Loss) on Dispositions 2,426 (134) 1,796 (145)
Interest Expense (12,147) (9,853) (33,868) (27,835)
Equity in losses of unconsolidated investments (5,476) (631) (5,083) (685)
Other, net 490 114 1,072 (39)
- ------------------------------------------------------------------------------------------------------------------------------------
Income (Loss) Before Minority Interests 2,893 3,301 10,250 (5,008)
Minority Interests (5) (10) 31 (185)
- -----------------------------------------------------------------------------------------------------------------------------------
Net Income (Loss) $ 2,888 $ 3,291 $ 10,281 $ (5,193)
- ------------------------------------------------------------------------------------------------------------------------------------
Net Income (Loss) Per Share $ 0.07 $ 0.08 $ 0.25 $ (0.13)
- ------------------------------------------------------------------------------------------------------------------------------------
Weighted Average Number of Common
Shares Outstanding 41,339 41,207 41,325 41,029
- ------------------------------------------------------------------------------------------------------------------------------------
The accompanying notes to condensed consolidated financial statements are an
integral part of these statements.
I-2
VANGUARD CELLULAR SYSTEMS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1996 AND 1995
(Dollar amounts in thousands)
-----------------------------------------------------------------------------------------------------------------------
1996 1995
-----------------------------------------------------------------------------------------------------------------------
(Unaudited) (Unaudited)
Cash flows from operating activities:
Net income (loss) $ 10,281 $ (5,193)
Adjustments to reconcile net loss to net cash provided by
operating activities:
Depreciation and amortization 34,496 26,424
Amortization of deferred debt issuance costs 1,302 748
Equity in losses of unconsolidated investments 5,083 685
Amortization of bond investment discount (288) 0
Minority interests (31) 185
Net (gain) loss on dispositions (1,796) 145
Noncash compensation for management consulting services (2,193) (1,874)
Changes in current items:
Accounts receivable, net 489 (7,059)
Cellular telephone inventories (2,790) 4,552
Account payable and accrued expenses 7,105 (6,068)
Other, net (799) (70)
---------------------------------------------------------------------------------------------------------------------
Net cash provided by operating activities 50,859 12,475
---------------------------------------------------------------------------------------------------------------------
Cash flows from investing activities:
Purchases of property and equipment (84,701) (94,629)
Proceeds from dispositions of Cellular Interests 4,644 0
Proceeds from dispositions of property and equipment 518 95
Payments for acquisition of investments (36,718) (64,038)
Capital contributions to unconsolidated cellular entities (221) (318)
---------------------------------------------------------------------------------------------------------------------
Net cash used in investing activities (116,478) (158,890)
---------------------------------------------------------------------------------------------------------------------
Cash flows from financing activities:
Principal payments of long-term debt (193,004) (4)
Net proceeds from issuance of common stock 448 3,108
Proceeds of long-term debt 263,802 146,500
Debt issuance costs (6,909) (88)
Increase in other assets (1,298) (140)
---------------------------------------------------------------------------------------------------------------------
Net cash provided by financing activities 63,039 149,376
---------------------------------------------------------------------------------------------------------------------
Net increase (decrease) in cash (2,580) 2,961
Cash, beginning of period 8,085 5,745
---------------------------------------------------------------------------------------------------------------------
Cash, end of period $ 5,505 $ 8,706
---------------------------------------------------------------------------------------------------------------------
SUPPLEMENTAL DISCLOSURE OF INTEREST PAID $ 27,354 $ 23,058
---------------------------------------------------------------------------------------------------------------------
The accompanying notes to condensed consolidated financial statements are
an integral part of these statements.
I-3
VANGUARD CELLULAR SYSTEMS, INC. AND SUBSIDIARIES
(UNAUDITED)
NOTE 1: BASIS OF PRESENTATION
The accompanying condensed consolidated financial statements of Vanguard
Cellular Systems, Inc. and Subsidiaries (the Company) have been prepared without
audit pursuant to Rule 10-01 of Regulation S-X of the Securities and Exchange
Commission ("SEC"). Accordingly, they do not include all of the information and
footnotes required by generally accepted accounting principles for complete
financial statements. In the opinion of management, all adjustments (consisting
of normal recurring accruals) considered necessary for a fair presentation have
been included. Operating results for the nine month period ended September 30,
1996 are not necessarily indicative of the results that may be expected for the
year ending December 31, 1996. For further information, refer to the
consolidated financial statements and footnotes thereto included in the
Company's 1995 annual report on Form 10-K.
The consolidated financial statements include the accounts of the Company, its
wholly owned subsidiaries and entities in which the Company holds a majority
ownership interest. Investments in entities in which the Company exercises
significant influence but does not exercise control through majority ownership
have been accounted for using the equity method of accounting. Ownership
interests in entities in which the Company does not exercise significant
influence and does not control through majority ownership and for which there is
no readily determinable fair value have been accounted for using the cost method
of accounting. Ownership interests in entities in which the Company does not
control through majority ownership and does not exercise significant influence
and for which there is a readily determinable fair value have been accounted for
as available for sale pursuant to the requirements of Statement of Financial
Accounting Standards No. 115, "Accounting for Certain Investments in Debt and
Equity Securities". All significant intercompany accounts and transactions have
been eliminated.
I-4
NOTE 2: INVESTMENTS
September 30, 1996 December 31, 1995
INVESTMENTS IN CELLULAR ENTITIES: (unaudited) (see note)
Consolidated entities
License cost $290,019 $272,708
Accumulated amortization (34,512) (29,546)
------------- -------------
255,507 243,162
Entities carried on the equity method
Cost 10,193 10,193
Accumulated share of earnings 1,823 177
------------ --------------
12,016 10,370
------------ --------------
Entities carried on the cost method 13,996 13,853
------------ --------------
281,519 267,385
----------- -------------
INVESTMENTS IN NONCELLULAR ENTITIES:
Entities carried on the equity method
Cost 23,701 17,258
Accumulated share of losses (9,274) (2,545)
------------- ---------------
14,427 14,713
------------ -------------
Investments carrried as "Available For Sale"
Cost 37,842 35,649
Net unrealized holding losses (10,512) (16,396)
------------- ---------------
27,330 19,253
------------ --------------
Other investments, at cost 7,424 5,409
------------- ---------------
Investment in debentures
At par 18,000 --
Discount (8,814) --
-------------- -----------------
9,186 --
-------------- -----------------
58,367 39,375
------------- ----------------
$339,886 $ 306,760
============ =================
Note: The investment table at December 31, 1995 has been derived from the
audited financial statements at that date.
CELLULAR ENTITIES
The Company continues to expand its ownership of cellular markets through
strategic acquisitions. On August 12, 1996, the Company acquired the Logan, WV
RSA ("WV-6 RSA") for a cash purchase price of $16.7 million. The WV-6 RSA is
contiguous to the Company's West Virginia markets and its operations are managed
as part of its West Virginia metro- cluster.
I-5
Subsequent to September 30, 1996, the Company completed the closing of an
agreement to acquire four cellular markets contiguous to its West Virginia
Metro-Cluster. The acquisition of these four markets, OH-9 RSA, OH-10 RSA
(excluding Perry and Hocking counties), Parkersburg-Marietta, WV-OH MSA, and the
remaining county in the WV-1 RSA, is in exchange for the Company's Orange
County, NY cellular market and ownership interests in several minority owned
cellular markets. The disposition represents 324,000 of Pops in Orange County
and 71,000 of Pops in minority owned markets, and the acquisition adds 542,000
Pops to the West Virginia Metro-Cluster.
The markets discussed above are all operational cellular systems.
During the third quarter of 1996, the Company acquired the remaining portions of
the State College, PA and Williamsport, PA MSA's and the PA-10 East RSA in
exchange for $2.8 million in cash. These markets are now 100% owned by the
Company.
NONCELLULAR INVESTMENTS
GEOTEK COMMUNICATIONS, INC.
In February 1994, the Company purchased from Geotek Communications, Inc.
("Geotek") 2.5 million shares of Geotek common stock for $30.0 million and
received a series of options to purchase additional shares in Geotek in three
linked transactions. In addition, the Company entered into a management
consulting agreement to provide operational and marketing support in exchange
for 300,000 shares of Geotek common stock per year. The investment in Geotek
common shares is presented in the above table and is accounted for as "available
for sale" pursuant to SFAS 115. On September 1, 1995 the Company purchased for
$5.0 million in cash 531,463 shares of convertible preferred stock of Geotek
with a stated value of $9.408 per share (the "Geotek Preferred Stock"). The
investment in Geotek Preferred Stock is accounted for at cost and is included in
other investments in the accompanying. The stock options previously
granted to the Company by Geotek in 1994 have all expired unexercised. The
expiration of the options also resulted in termination of the management
agreement.
INTERNATIONAL WIRELESS COMMUNICATIONS, INC.
The Company owns approximately 35% of the outstanding stock of International
Wireless Communications, Inc. ("IWC") and has invested an aggregate of $13.5
million in cash. IWC is a development stage Company specializing in securing,
building and operating wireless businesses other than cellular telephone systems
primarily in Latin America and Southeast Asia.
I-6
In the third quarter of 1996, IWC completed a private offering primarily to
institutional investors of 14% Senior Secured Discount Notes Due 2001 and
warrants to purchase shares of IWC common stock. As a result of its new
financing, IWC will fund existing projects and will continue to explore other
opportunities. As existing and new projects are in the network buildout phase
the losses of IWC are expected to grow significantly. The Company will record
its proportionate share of these losses under the equity method of accounting.
INTEROACT SYSTEMS, INCORPORATED
As of September 30, 1996, the Company had invested $10.0 million in InteroAct
Systems, Incorporated ("InteroAct") for an ownership interest of approximately
26%. Intero Act is a development stage Company that provides consumer product
manufacturers and retailers (currently supermarkets) the ability to offer
targeted promotions to retail customers at the point of entry of a retail outlet
through an interactive multi-media system utilizing ATM-like terminals.
InteroAct has incurred net losses since its inception. As a result of its new
financing, InteroAct will accelerate the roll-out of its systems in retail
supermarkets and the net losses incurred by InteroAct are expected to grow
significantly. The Company will record its proportionate share of these
losses under the equity method of accounting.
In the third quarter, InteroAct completed a private offering, primarily to
institutional investors, in which the Company purchased for $12.0 million a
total of 18,000 Units consisting of $18.0 million principal amount at maturity
of 14% Senior Discount Notes Due 2003 and Warrants to purchase 132,012 shares of
common stock at $.01 per share, subject to certain adjustments. At issuance,
InteroAct placed a value of $8.9 million and $3.1 million on the debentures and
warrants purchased by the Company, respectively. The shares issuable upon the
exercise of these warrants presently represent approximately 2% of InteroAct's
outstanding common stock. In addition, an existing warrant held by the Company
was restructured whereby the Company has the right to acquire at any time
prior to May 5, 2005 an aggregate of 900,113 shares of common stock for
$23.50 per share, which shares presently represent approximately 10% of the
outstanding common stock of InteroAct.
I-7
FINANCIAL INFORMATION OF EQUITY METHOD INVESTEES
Combined financial position and operating results measures of the Company's
equity method investees, Eastern North Carolina Cellular Joint Venture, IWC and
Intero Act, for the first nine months of 1996 and the 1995 year are as follows
(in thousands):
1996 1995
------------ --------
Current assets $ 182,544 $ 30,040
Non-current assets 162,077 119,528
Current liabilities 14,193 19,318
Non-current liabilities 151,512 2,701
Redeemable
Convertible Preferred Stock 102,519 98,845
Minority Interest 5,851 335
Revenues 12,852 14,050
Gross profit 7,486 10,418
Loss from operations (21,219) (12,787)
Net loss (25,193) (15,081)
The Company has recorded as its aggregate proportionate share of its equity
method investees losses of $5.5 million, respectively, and $5.1 million for
the three months and nine months ended September 30, 1996 and expects that
losses for the fourth quarter of 1996
will be marginally higher.
NOTE 3: LONG-TERM DEBT
Long-term debt consists of the following as of September 30, 1996 and December
31, 1995 (in thousands):
September 30, December 31,
1996 1995
(Unaudited)
Borrowings under the 1994 Credit Facility:
Term Loan $ 325,000 $325,000
Revolving Loan 68,000 197,000
Senior Debentures,
net of unamortized discount of $188 199,812 --
Other Long-Term Debt 138 143
--------- ----------
$ 592,950 $522,143
=========== =========
CREDIT FACILITY. On December 23, 1994, the Company completed the closing of a
$675 million credit facility, pursuant to an Amended and Restated Loan Agreement
(the "Credit Facility"),
I-8
with various lenders led by The Toronto-Dominion Bank and The Bank of New York.
The Credit Facility consists of a "Term Loan" and a "Revolving Loan". The Term
Loan, in the amount of $325 million, was used to repay the Company's borrowings
under the Company's previously existing loan agreement. The Revolving Loan, in
the amount of up to $350 million, is available for capital expenditures, to make
acquisitions of and investments in cellular and other wireless communication
interests, and for other general corporate purposes.
SENIOR DEBENTURES. On April 10, 1996, the Company issued $200 million aggregate
principal amount of 9 3/8% Senior Debentures due 2006 (the "Debentures") through
an underwritten public offering. The Debentures were issued at a price to the
public of 99.901 for a yield of 9.384%. The net proceeds from the sale of the
Debentures of approximately $194.8 million were used to reduce borrowings under
the Revolving Loan portion of the Credit Facility and pay approximately $844,000
of expenses in connection with an amendment to the Credit Facility. The Credit
Facility was amended to permit issuance of the Debentures and require the
structural subordination of the Debentures by making a subsidiary the primary
obligor of the Credit Facility and all liabilities of the Company (other than
the Debentures) and the owner of all stock and partnership interests of the
Company's operating subsidiaries. The Debentures mature in 2006 and are
redeemable at the Company's option, in whole or in part, at any time on or after
April 15, 2001. There are no mandatory sinking fund payments for the Debentures.
Interest is payable semi-annually. Upon a Change of Control Triggering Event (as
defined in the Indenture for the Debentures), the Company will be required to
make an offer to purchase the Debentures at a purchase price equal to 101% of
the principal amount thereof plus accrued and unpaid interest, if any, to the
date of purchase.
INTEREST RATE PROTECTION. The Company maintains interest rate swap and interest
rate cap agreements which provide protection against interest rate risk on the
Credit Facility. At September 30, 1996, the Company had interest rate cap
agreements in place covering a notional amount of $150 million. The interest
rate cap agreements provide protection to the extent that LIBOR exceeds the
strike level through the expiration date as follows:
Strike Level Notional Amount Expiration Date
9.0% $50 Million December, 1996
9.0% 50 Million December, 1997
9.75% 50 Million December, 1997
-----------
$150 Million
=============
The total cost of these interest rate cap agreements of $597,000 has been
recorded in other assets in the consolidated balance sheet and is being
amortized over the lives of the agreements as a component of interest expense.
I-9
Additionally, the Company maintains interest rate swap agreements that fix the
LIBOR interest rate at 5.5% on a notional amount of $100 million through
November, 1996 and at 6.0125% on a notional amount of $50 million through July,
1997. Under these swap agreements, the Company benefits if LIBOR interest rates
increase above the fixed rates, and incurs additional interest expense if rates
remain below the fixed rates. Any amounts received or paid under these
agreements are reflected as interest expense over the period covered.
The effect of interest rate protection agreements on the operating results of
the Company was to increase interest expense in the third quarter of 1996 by
$102,000 and decrease interest expense by $124,000 in the same period in 1995,
and in the nine month period ending September 30, 1996 and 1995, interest
expense increased $477,000 and $1,000 respectively.
- -------------------------------------------------------------------------------
NOTE 4: STOCK REPURCHASE PROGRAM
On November 11, 1996, the Company's Board of Directors authorized the repurchase
of up to 2,500,000 shares of its Class A Common Stock from time to time in open
market or other transactions.
I-10
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
The following is a summary of the Company's ownership interests in cellular
markets in which the Company's ownership interests exceeded 20% at September 30,
1996 and 1995. This table does not include any ownership interests that were
contracted for at these dates.
September 30 ,
CELLULAR MARKETS 1996 1995
- ---------------- ---- ----
MID-ATLANTIC SUPERSYSTEM:
Allentown, PA/NJ 100.0% 100.0%
Wilkes-Barre/Scranton, PA 100.0 100.0
Harrisburg, PA 100.0 86.8
Lancaster, PA 100.0 100.0
York, PA 100.0 100.0
Reading, PA 100.0 100.0
Altoona, PA 100.0 100.0
State College, PA 100.0 97.0
Williamsport, PA 100.0 92.5
Union, PA (PA-8 RSA) 100.0 100.0
Chambersburg, PA (PA-10 East RSA) 100.0 91.6
Lebanon, PA (PA-12 RSA) 100.0 100.0
Mifflin, PA (PA-11 RSA) 100.0 100.0
Wayne, PA (PA-5 RSA) 100.0 100.0
Orange County, NY 100.0 100.0
Binghamton, NY 100.0 100.0
Elmira, NY 100.0 100.0
NEW ENGLAND METRO-CLUSTER:
Portland, ME 100.0 100.0
Portsmouth, NH/ME 100.0 100.0
Bar Harbor, ME (ME-4 RSA) 100.0 100.0
FLORIDA METRO-CLUSTER:
Pensacola, FL 100.0 100.0
Fort Walton Beach, FL 100.0 100.0
WEST VIRGINIA METRO-CLUSTER:
Huntington, WV/KY/OH 100.0 100.0
Charleston, WV 100.0 100.0
Ripley, WV (WV-1 East RSA) 100.0 100.0
Logan, WV (WV-6 RSA) 100.0 --
CAROLINAS METRO-CLUSTER:
Myrtle Beach, SC (SC-5 RSA) 100.0 100.0
Wilmington, NC 48.0 47.7
Jacksonville, NC 47.8 47.3
I-11
RESULTS OF OPERATIONS
The following is a discussion and analysis of the historical financial condition
and results of operations of the Company and factors affecting the Company's
financial resources. This discussion should be read in conjunction with the
Company's condensed consolidated financial statements, including the notes
thereto.
THREE MONTHS ENDED SEPTEMBER 30, 1996 AND 1995
Service revenue in the third quarter rose 28% to $75.3 million from $58.8
million in the same period in 1995. This increase was primarily the result of a
121,000 or 36% increase in the number of subscribers in majority-owned markets
to approximately 461,000 as of September 30, 1996, including 4,000 added as a
result of the acquisition of the WV-6 RSA, as compared to approximately 340,000
in the third quarter of 1995. Penetration increased to 6.3% at September 30,
1996 from 4.8% at September 30, 1995. The increase in subscribers is the result
of the growing acceptance of cellular communications and the Company's efforts
to capitalize on this increasing acceptance through an expanded sales and
distribution network. This increase was offset slightly by an increase in
"churn" in the third quarter of 1996 to 2.2% from 1.9% in the same period in
1995 due to economic concerns felt by certain segments of the Company's
subscriber base and by increased price competition at lower end rate plans.
Churn is the monthly rate of customer deactivations expressed as a percentage
of the subscriber base.
Service revenue attributable to the Company's own subscribers (local
revenue) increased 31% during the third quarter of 1996 to $60.7 million as
compared to $46.4 million in the same period in 1995. Average monthly local
revenue per subscriber declined 4% to $45 in 1996 compared to $47 in the same
period in the prior year. This decline was primarily due to increased
incremental penetration into the segment of consumers who generally use their
cellular phones less frequently. Service revenue generated by nonsubscribers
roaming into the Company's markets increased 18% to $14.6 million in the 1996
period as compared to $12.4 million in the prior year period. This increase was
the result of increased usage and was partially offset by continued reductions
in daily access and usage rates of approximately 30% initiated by the Company
and agreed to by certain other cellular providers in its Mid-Atlantic
SuperSystem beginning early in 1995. The reduced rates affect the Company both
as a provider and purchaser of roaming services. The revenue from the Company's
customers combined with roaming revenue resulted in overall average monthly
revenue per subscriber for the quarter of $56, a decline of 6% from $60 in the
prior year period.
Cellular telephone equipment revenue increased $167,000 or 5% to $3.3 million
for the third quarter of 1996 as compared to the same period in 1995. Cost of
cellular telephone equipment increased 28% to $6.4 million during the same
period. Net loss on cellular
I-12
equipment was $3.1 million, an increase of 72% from $1.8 million net loss on
cellular equipment experienced in the third quarter of 1995. The Company
continues to sell telephones at or below cost for marketing purposes in response
to competitive pressures and also continues the availability of its rental
program.
Cost of service as a percentage of service revenue decreased to 9% during the
third quarter of 1996 from 10% during the same period in 1995 primarily as a
result of the Company's continuing effort to reduce the charges associated with
roamer fraud. The Company estimates that charges associated with roamer fraud
included in cost of service decreased from approximately 3% of service revenue
in the third quarter of 1995 to less than 1% during the third quarter of 1996,
and declined from approximately 4% of service revenue in the fourth quarter of
1995. To address the industry wide increase in fraud, the Company continues its
implementation of additional technology and detection procedures such as the use
of computerized systems which trigger alarms when cellular usage conflicts with
subscriber profiles. The costs of these detection efforts are expected to be
approximately $1.0 million in 1996. Cellular fraud is expected to be a
significant industry issue for the foreseeable future.
General and administrative expenses increased 30% or $4.7 million during the
third quarter of 1996 as compared to the same period in 1995, but as a
percentage of service revenue remained constant at 27% during the third quarters
of 1996 and 1995. General and administrative expenses are expected to decline
slowly as a percentage of service revenue as the Company adds more subscribers
without commensurate increases in general and administrative overhead and
experiences higher utilization of the Company's existing personnel and systems.
Marketing and selling expenses increased 27% to $15.7 million during the third
quarter of 1996, compared to $12.4 million in 1995. As a percentage of service
revenue, these expenses remained constant at 21% during the third quarters of
1996 and 1995. During 1996, marketing and selling expenses including the net
loss on cellular equipment (Combined Marketing and Selling Expenses) increased
to $18.8 million from $14.2 million in 1995. Combined Marketing and Selling
Expenses per net subscriber addition (excluding subscribers gained through
acquisitions) increased 28% to $697 in the third quarter of 1996 from $546
during the same period in 1995. This increase was primarily due to an increase
in churn to 2.2% in the third quarter of 1996 as compared to 1.9% in the same
period last year. Combined Marketing and Selling Expenses per gross subscriber
addition (excluding subscribers gained through acquisitions) increased to $338
in the third quarter of 1996 from $325 in the same period in 1995.
Depreciation and amortization expenses increased $3.4 million or 35% during the
third quarter of 1996 as compared to 1995. Property and equipment placed in
service since
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October 1, 1995 of approximately $127.2 million accounted for substantially all
of this increase.
Interest expense increased $ 2.3 million or 23% during the third quarter of
1996. This increase primarily resulted from an increase in average borrowings of
approximately $100.5 million, and, to a lesser extent, an increase in average
interest rates charged.
The Company reported net income of $2.9 million or $0.07 per share for the third
quarter as compared to $3.3 million or $0.08 per share for 1995. Equity in
losses on unconsolidated investments increased by $4.8 million. This increase
resultsed primarily from higher operating, amortization and interest expenses
incurred by both Inter-Act and IWC as a result of expanding operations which
were made possible high yield debt financings completed by each company
aggregating approximately $200 million during the third quarter of 1996.
NINE MONTHS ENDED SEPTEMBER 30, 1996 AND 1995
Service revenue in the first nine months of 1996 rose 33% to $208.1 million from
$156.7 million in the same period in 1995 primarily as a result of a 36%
increase in the number of subscribers served in the 1996 period. Average monthly
revenue per subscriber for the nine months ended September 30, 1996 was $55, a
decline of 6% from $59 in the prior year period.
Cost of service as a percentage of service revenue remained constant at 11%
during the first nine months of 1996 as compared to the same period in 1995
primarily as a result of the Company's continued effort to reduce the charges
associated with roamer fraud as previously discussed.
General and administrative expenses increased 32% or $13.8 million during the
first nine months of 1996 as compared to the same period in 1995, but declined
slightly as a percentage of service revenue to 27% during 1996 as compared to
28% during the same period in 1995.
Marketing and selling expenses increased 10% to $43.0 million during the first
nine months of 1996, compared to $39.0 million in 1995. As a percentage of
service revenue, these expenses decreased to 21% in 1996 from 25% in the 1995
period. Combined Marketing and Selling Expenses per net subscriber addition, but
excluding the number of subscribers in acquired markets in 1995 and 1996 at the
time of acquisition, increased 17% to $653 in the first nine months of 1996 from
$558 during the same period in 1995. This increase was primarily due to an
increase in the churn rate as previously discussed. Combined Marketing and
Selling Expenses per gross subscriber addition decreased to $312 in the first
nine months of 1996 from $365 in the same period in 1995.
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Depreciation and amortization expenses increased $8.1 million or 31% during the
first nine months of 1996 as compared to 1995. Property and equipment placed in
service since October 1, 1995 of approximately $127.2 million accounted for
substantially all of this increase.
Interest expense increased $6.0 million or 22% during the 1996 period. This
increase primarily resulted from an increase in average borrowings of
approximately $112.0 million and was partially offset by a decrease in the
interest rates charged.
The Company reported net income of $10.3 million or $0.25 per share as compared
to a net loss of $5.2 million or $0.13 per share for 1995. This $15.5 million
positive change in net income is due to the rate of revenue growth exceeding the
rate of growth in related operating expenses as discussed above, partially
offset by the increase in the Company's proportionate share of losses of its
unconsolidated subsidiaries of $4.3 million.
LIQUIDITY AND CAPITAL RESOURCES
The Company requires capital to acquire, construct, operate and expand its
cellular systems. The Company also explores, on an ongoing basis, possible
acquisitions of cellular systems and properties as well as other investment
opportunities, some of which may involve significant expenditures or
commitments. In addition, although the initial buildout of its cellular system
is complete, the Company will continue to construct additional cell sites and
purchase cellular equipment to increase capacity as subscribers are added and
usage increases, to expand geographic coverage, and to provide for increased
portable usage. The Company spent approximately $69.9 million and exchanged
certain cellular assets in connection with acquisitions in 1995 and spent $129.9
million on total capital expenditures in 1995. During the three and nine months
ended September 30, 1996 the Company consummated acquisitions in exchange for
$19.5 million in cash. The Company also incurred approximately $27.2 million and
$84.7 million in capital expenditures during the three months and nine months
ended September 30, 1996, respectively.
The specific capital requirements of the Company will depend primarily on the
timing and size of any additional acquisitions and other investments as well as
property and equipment needs. EBITDA has been a growing source of internal
funding in recent years, but the Company does not expect EBITDA to grow
sufficiently to meet both its property and equipment and debt service
requirements for at least the next two years. The Company has met its capital
requirements primarily through bank financing, issuance of public debentures,
private issuances of its Class A Common Stock and internally generated funds,
and the Company intends to continue to use external financing sources in the
future.
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EBITDA does not represent and should not be considered as an alternative to net
income or operating income as determined by generally accepted accounting
principles. It should not be considered in isolation from other measures of
performance according to such principles, including operating results and cash
flows. EBITDA increased to $80.8 million during the first nine months of 1996
from $50.1 million in the same period in 1995. Net cash provided by operating
activities as shown on the Statement of Cash Flows increased to $50.9 million in
the first nine months of 1996 as compared to $12.5 million in the same period in
1995. Net cash provided by operating activities in the first nine months of 1996
reflects a $4.3 million increase in interest expense and a change in working
capital items of $12.7 million. Investing activities, primarily purchases of
property and equipment and acquisitions, used net cash of $116.5 million and
$158.9 million in the first nine months of 1996 and 1995, respectively.
Financing activities provided net cash of $63.0 million and $149.4 million in
1996 and 1995, respectively.
LONG-TERM DEBT. The Company's long-term debt consists primarily of a $675
million credit facility (the "Credit Facility") and $200 million of 9 3/8%
senior debentures (the "Debentures"). On December 23, 1994, the Company
completed the closing of its Credit Facility, pursuant to an Amended and
Restated Loan Agreement, with various lenders led by The Toronto-Dominion Bank
and The Bank of New York. The Credit Facility, which refinanced the Company's
$390 million 1993 Loan Agreement, consists of a $325 million term loan ("Term
Loan") and a $350 million revolving loan ("Revolving Loan"). The Revolving Loan
is available for capital expenditures, acquisitions of and investments in
cellular and other wireless communication interests, and for other general
corporate purposes. As of September 30, 1996, $393 million had been borrowed
under the Credit Facility, and the Company had available borrowings under the
Revolving Loan portion of the Credit Facility of approximately $202.5 million.
According to the terms of the Credit Facility, the outstanding amount of the
Term Loan as of March 30, 1998 is to be repaid in increasing quarterly
installments commencing on March 31, 1998 and terminating at maturity on
December 23, 2003. The quarterly installment payments begin at 1.875% of the
outstanding principal amount at March 30, 1998 and gradually increase to 5.625%
of the principal amount at March 31, 2003, at which time the Term Loan will be
repaid. The available borrowings under the Revolving Loan will also be reduced
on a quarterly basis commencing on March 31, 1998 and terminating on December
31, 2003. The quarterly reduction begins at 1.875% of the Revolving Loan
commitment at March 30, 1998 and gradually increases to 5.625% of the commitment
on March 31, 2003 at which time the Revolving Loan will be repaid.
The Term Loan and the Revolving Loan bear interest at a rate equal to the
Company's choice of the Prime Rate (as defined) or Eurodollar Rate (as defined)
plus an applicable margin based upon a leverage ratio for the most recent fiscal
quarter. As of September 30,
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1996, the applicable margins on the borrowings were .125% and 1.375% per annum
for the Prime Rate and Eurodollar Rate, respectively.
Among other restrictions, the Credit Facility restricts the payment of cash
dividends, limits the use of borrowings, limits the creation of additional
long-term indebtedness and requires the maintenance of certain financial ratios.
The requirements of the Credit Facility have been established in relation to the
Company's projected capital needs, projected results of operations and cash
flow. These requirements were generally designed to require continued
improvement in the Company's operating performance such that EBITDA would be
sufficient to continue servicing the debt as repayments are required. The
Indenture for the Debentures contains limitations on, among other things, (I)
the incurrence of additional indebtedness, (ii) the payment of dividends and
other distributions with respect to the capital stock of the Company, (iii) the
incurrence of certain liens, (iv) the ability of the Company to allow
restrictions on distributions by subsidiaries, (v) asset sales, (vi)
transactions with affiliates and (vii) certain consolidations, mergers and
transfers of assets. The Company is in compliance with all requirements of the
Credit Facility and the Indenture.
On April 10, 1996, the Company issued $200 million aggregate principal amount of
9 3/8% Senior Debentures due 2006 through an underwritten public offering and
entered into a related amendment to the Credit Facility. The Credit Facility was
amended to permit the issuance of the Debentures and require the structural
subordination of the Debentures by making a subsidiary the primary obligor of
the Credit Facility and all liabilities of the Company (other than the
Debentures) and the owner of all stock and partnership interests of the
Company's operating subsidiaries. The net proceeds of the sale of the Debentures
were approximately $194.8 million.
The Debentures mature in 2006 and are redeemable at the Company's option, in
whole or in part, at any time on or after April 15, 2001. There are no mandatory
sinking fund payments for the Debentures. Interest is payable semi-annually.
Upon a Change of Control Triggering Event (as defined in the Indenture for the
Debentures), the Company will be required to make an offer to purchase the
Debentures at a purchase price equal to 101% of the principal amount thereof
plus accrued and unpaid interest, if any, to the date of purchase.
Borrowings under the Credit Facility are secured by substantially all of the
tangible and intangible assets and future cash flows of the Company. The
Debentures are unsecured obligations of the Company.
ACQUISITIONS. The Company continues to expand its ownership of cellular markets
through strategic acquisitions.
I-17
On August 12, 1996, the Company acquired the Logan, WV RSA ("WV-6 RSA") for a
cash purchase price of $16.7 million. The WV-6 RSA is an operating cellular
system and is contiguous to the Company's West Virginia markets and its
operations will be managed as part of its West Virginia Metro-Cluster.
Subsequent to September 30, 1996, the Company completed the closing of an
agreement to acquire four cellular markets contiguous to its West Virginia
Metro-Cluster. The acquisition of these four markets, OH-9 RSA, OH-10 RSA
(excluding Perry and Hocking counties), Parkersburg-Marietta, WV-OH MSA, and the
remaining county in the WV-1 RSA, is in exchange for the Company's Orange
County, NY cellular market and ownership interests in several minority owned
cellular markets. The disposition represents 324,000 of Pops in Orange County
and 71,000 of Pops in minority owned markets, and the acquisition adds 542,000
Pops to the West Virginia Metro-Cluster.
The markets discussed above are all operational cellular systems.
GEOTEK COMMUNICATIONS, INC. In February 1994, the Company purchased from Geotek
Communications, Inc. ("Geotek") 2.5 million shares of Geotek common stock for
$30.0 million and received a series of options to purchase additional shares in
Geotek in three linked transactions. In addition, the Company entered into a
management consulting agreement to provide operational and marketing support in
exchange for 300,000 shares of Geotek common stock per year. The investment in
Geotek common shares is presented in the above table and is accounted for as
"available for sale" pursuant to SFAS 115. On September 1, 1995 the Company
purchased for $5.0 million in cash 531,463 shares of convertible preferred stock
of Geotek with a stated value of $9.408 per share (the "Geotek Preferred
Stock"). The investment in Geotek Preferred Stock is accounted for at cost and
is included in the accompanying table as Other equity investments. The stock
options previously granted to the Company by Geotek in 1994 have all expired
unexercised. The expiration of the options also resulted in termination of the
management agreement.
INTERNATIONAL WIRELESS COMMUNICATIONS, INC. As of September 30, 1996, the
Company had invested $13.5 million in cash in International Wireless
Communications, Inc. ("IWC") and owns approximately 35% of the outstanding
stock of IWC. IWC is a development stage Company specializing in securing,
building and operating wireless businesses generally other than
cellular telephone systems primarily in Latin America and Asia.
In the third quarter of 1996, IWC completed a private offering primarily to
institutional investors of 14% Senior Secured Discount Notes Due 2001 and
warrants to purchase shares of IWC common stock. As a result of its new
financing, IWC will fund existing
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projects and will continue to explore other opportunities. As existing and new
projects are in the network buildout phase the losses of IWC are expected to
grow significantly. The Company will record its proportionate share of these
losses under the equity method of accounting.
INTEROACT SYSTEMS, INCORPORATED. As of September 30, 1996, the Company had
invested $10.0 million in InteroAct Systems, Incorporated ("InteroAct") for an
ownership interest of approximately 26% of InteroAct's outstanding common stock.
InteroAct is a development stage Company that provides consumer products
manufacturers and retailers (currently supermarkets) the ability to offer
targeted promotions to retail customers at the point of entry of a retail outlet
through an interactive multi-media system utilizing ATM-like terminals.
In the third quarter of 1996, InteroAct completed a private offering primarily
to institutional investors in which the Company purchased for $12.0 million a
total of 18,000 Units consisting of $18.0 million principal amount at maturity
of 14% Senior Discount Notes Due 2003 and Warrants to purchase 132,012 shares of
common stock at $.01 per share, subject to certain adjustments. These shares
presently represent approximately 2% of InteroAct's outstanding common stock.
In addition, an existing warrant held by the Company was restructured whereby
the Company has the right to acquire at any time prior to May 5, 2005 an
aggregate of 900,113 shares of common stock for $23.50 per share, which shares
presently represent approximately 10% of the outstanding common stock of
InteroAct.
InteroAct has incurred net losses since its inception. As a result of its
new financing, InteroAct will accelerate the roll-out of its systems in
retail supermarkets and the net losses incurred by InteroAct are expected to
grow significantly. The Company will record its proportionate share of these
losses under the equity method of accounting.
The Company has recorded as its aggregate proportionate share of its equity
method investees losses of $5.5 million and $5.1 million for the three months
and nine months ended September 30, 1996, respectively, and expects that losses
for the fourth quarter of 1996 will be marginally higher.
CAPITAL EXPENDITURES. As of September 30, 1996, the Company had $361.8 million
of property and equipment in service. The Company historically has incurred
capital expenditures primarily based upon capacity needs in its existing markets
resulting from continued subscriber growth. During 1994, the Company initiated a
plan to double the number of cell sites in order to increase geographic coverage
and provide for additional portable usage in the Company's cellular markets. As
a result of this accelerated network buildout and the continued growth of the
Company's subscriber base, capital expenditures were approximately $27.2 million
and $36.7 million during the third quarter of 1996 and
I-19
1995, respectively, and $84.7 million and $94.6 million during the first nine
months of 1996 and 1995, respectively. Capital expenditures for 1996 are
estimated to be approximately $127 million and are expected to be funded
primarily through internally generated funds. Approximately $100 million of
those capital expenditures will be for cellular network equipment, and the
remainder will be primarily for rental telephones and computer equipment.
On November 11, 1996, the Company's Board of Directors authorized the
repurchase of up to 2,500,000 shares of its Class A Common Stock from time
to time in open market or other transactions.
Although no assurance can be given that such will be the case, the Company
believes that its internally generated funds and available borrowing capacity
under the amended Credit Facility will be sufficient during the next several
years to complete its planned network expansion, to fund debt service, to
provide flexibility to repurchase shares, to pursue shares acquisitions and
other business opportunities that might arise in the future, and to meet
working capital and general corporate needs. The Company also may issue
additional shares of Class A Common Stock.
INFLATION
The Company believes that inflation affects its business no more than it
generally affects other similar business.
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ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) The exhibits to this Form 10-Q are listed in the accompanying Index to
Exhibits.
II-1
SIGNATURES
Pursuant to the requirements of the Securities and Exchange Act of 1934, the
registrant has fully caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
VANGUARD CELLULAR SYSTEMS, INC.
Date: November 14, 1996 By: /s/ Haynes G. Griffin
-----------------------------------
Haynes G. Griffin
President
and
Chief Executive Officer
Date: November 14, 1996 By: /s/ Stephen L. Holcombe
-----------------------------------
Stephen L. Holcombe
Senior Vice President
and
Chief Financial Officer
(principal accounting and
principal financial officer)
II-2
INDEX TO EXHIBITS
EXHIBIT NO. DESCRIPTION
*4(a) Articles of Incorporation of Registrant as amended
through July 25, 1995, filed as Exhibit 1 to the
Registrant's Form 8-A/A dated July 25, 1995.
*4(b) Bylaws of Registrant (compilation of July 25, 1995),
filed as Exhibit 2 to the Registrant's Form 8-A/A dated
July 25, 1995.
*4(c) Specimen Common Stock Certificate, filed as Exhibit 2
to the Registrant's Form 8-A/A dated July 25, 1995.
*4(d)(1) Second Amended and Restated Loan Agreement between
Vanguard Cellular Operating Corp. and various lenders
led by The Bank of New York and The Toronto-Dominion
Bank as agents, dated as of April 10, 1996, filed as
Exhibit 4(d)(1) to the Registrant's Form 10-Q/A dated
March 31, 1996.
*4(d)(2) VCOC Security Agreement between Vanguard Cellular
Operating Corp. and various lenders led by The Bank of
New York and The Toronto-Dominion Bank as Secured
Party, dated as of April 10, 1996, filed as Exhibit
4(d)(2) to the Registrant's Form 10-Q/A dated March 31,
1996.
*4(d)(3) Second Amended and Restated Master Subsidiary Security
Agreement between certain subsidiaries of the
Registrant and various lenders led by The Bank of New
York and The Toronto-Dominion Bank, as Secured Party,
dated as of April 10, 1996, filed as Exhibit 4(d)(3) to
the Registrant's Form 10-Q/A dated March 31, 1996.
*4(d)(4) Assignment, Bill of Sale and Assumption Agreement by
and between Registrant and Vanguard Cellular Financial
Corp., dated as of April 10, 1996, filed as Exhibit
4(d)(4) to the Registrant's Form 10-Q/A dated March 31,
1996.
**4(d)(5) First Amendment to Second Amended and Restated Loan
Agreement between Vanguard Cellular Operating Corp.
and various lenders led by the Bank of New York and the
Toronto-Dominion Bank as agents, dated as of July 31,
1996.
**4(d)(6) Second Amendment to Second Amended and Restated Loan
Agreement between Vanguard Cellular Operating Corp. and
various lenders led by the Bank of New York and The
Toronto-Dominion Bank as agents, dated as of October
9, 1996.
*4(e)(1) Indenture dated as of April 1, 1996 between Registrant
and The Bank of New York as Trustee, filed as Exhibit
4(e)(1) to the Registrant's Form 10-Q/A dated March 31,
1996.
*4(e)(2) First Supplemental Indenture, dated as of April 1, 1996
between Registrant and The Bank of New York as Trustee,
filed as Exhibit 4(e)(2) to the Registrant's Form
10-Q/A dated March 31, 1996.
11 Calculation of fully diluted earnings per share for the
three months and nine months ended September 30, 1996
and 1995.
27 Financial Data Schedule.
- --------------------------------------------------
* Incorporated by reference to the statement or report indicated.
** To be filed under the cover of Form SE pursuant to a temporary hardship
exemption in accordance with Rule 201 of Regulation S-T.