1 UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D. C. 20549 F O R M 10-Q/A (Amendment #1) ( X ) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended March 31, 1997 OR ( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from _____ to _____ Commission File Number 1-9554 TCI PACIFIC COMMUNICATIONS, INC. ------------------------------------------------------ (Exact name of Registrant as specified in its charter) State of Delaware 04-2980402 - ------------------------------------------------ ------------------------------------ (State or other jurisdiction of incorporation or (I.R.S. Employer Identification No.) organization) 5619 DTC Parkway Englewood, Colorado 80111 ---------------------------------------- ---------- (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code: (303) 267-5500 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 and (2) has been subject to such filing requirements for the past 90 days. Yes No X --- --- All of the Registrant's common stock is owned by TCI Communications, Inc. The number of shares outstanding of the Registrant's common stock as of April 30, 1997 was: Class A Common Stock - 0 shares. Class B Common Stock - 100 shares. 2 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. TCI PACIFIC COMMUNICATIONS, INC. Date: August 5, 1997 By: /s/ Stephen M. Brett ------------------------------------------ Stephen M. Brett Senior Vice President and Secretary 3 TCI PACIFIC COMMUNICATIONS, INC. AND SUBSIDIARIES (see notes 1 and 2) Consolidated Balance Sheets (unaudited) March 31, December 31, 1997 * 1996 --------------- --------------- Assets amounts in thousands - ------ Restricted cash (note 1) $ -- 33,664 Trade and other receivables, net 14,703 18,986 Prepaid expenses 3,955 6,144 Property and equipment, at cost: Land 5,807 5,795 Distribution systems 365,353 348,949 Support equipment and buildings 34,895 35,812 --------------- --------------- 406,055 390,556 Less accumulated depreciation 23,677 11,373 --------------- --------------- 382,378 379,183 --------------- --------------- Franchise costs 3,041,644 3,015,246 Less accumulated amortization 50,162 30,773 --------------- --------------- 2,991,482 2,984,473 --------------- --------------- Other assets, at cost, net of amortization 17,707 18,111 --------------- --------------- $ 3,410,225 3,440,561 =============== =============== Liabilities and Common Stockholder's Equity - -------------------------------------------- Cash overdraft $ 11,854 9,736 Accounts payable 2,905 3,490 Accrued expenses: Accrued franchise fees 5,212 8,663 Accrued property tax expense 1,624 2,549 Accrued programming expense 1,363 2,331 Other 13,669 16,465 --------------- --------------- 21,868 30,008 --------------- --------------- Subscriber advance payments 2,833 2,727 Debt (note 4) 1,042,011 1,151,884 Deferred income taxes 1,070,732 1,073,340 Other liabilities 393 380 --------------- --------------- Total liabilities 2,152,596 2,271,565 --------------- --------------- Exchangeable Preferred Stock (notes 1 and 5) 629,551 629,801 Common stockholder's equity: Class A common stock, $1 par value. Authorized 6,257,961 shares; no shares issued and outstanding -- -- Class B common stock, $.01, par value. Authorized 100 shares; issued and outstanding 100 shares -- -- Additional paid-in capital 329,286 336,921 Accumulated deficit (3,927) (2,452) --------------- --------------- 325,359 334,469 Due to TCI Communications, Inc. ("TCIC") 302,719 204,726 --------------- --------------- Total common stockholder's equity 628,078 539,195 --------------- --------------- Commitments (note 7) $ 3,410,225 3,440,561 =============== =============== *Restated - See note 2. See accompanying notes to financial statements. I-1 4 TCI PACIFIC COMMUNICATIONS, INC. AND SUBSIDIARIES (see notes 1 and 2) Statements of Operations (unaudited) Pacific VII Cable (note 2) (note 2) ------------- ------------ Three months Three months ended ended March 31, March 31, 1997 * 1996 ------------- ------------ amounts in thousands Revenue $ 124,952 | 118,321 | Operating costs and expenses: | Operating (note 6) 42,520 | 46,059 Selling, general and administrative (note 6) 27,414 | 29,855 Depreciation 12,322 | 17,319 Amortization 19,340 | 4,541 ------------- | ------------ 101,596 | 97,774 ------------- | ------------ | Operating income 23,356 | 20,547 | Other income (expense): | Interest expense (note 6) (25,307) | (11,958) Interest income 405 | -- Other, net -- | (140) ------------- | ------------ (24,902) | (12,098) ------------- | ------------ | Earnings (loss) before income taxes (1,546) | 8,449 | Income tax benefit (expense) 71 | (5,059) ------------- | ------------ | Net earnings (loss) (1,475) | 3,390 | ============ | Dividend requirement on Exchangeable Preferred Stock (7,635) | ------------- | | Net loss attributable to common stockholder $ (9,110) | ============= | * Restated - see note 2. See accompanying notes to financial statements. I-2 5 TCI PACIFIC COMMUNICATIONS, INC. AND SUBSIDIARIES (see notes 1 and 2) Statement of Common Stockholder's Equity (unaudited) Common stock Additional -------------------- paid-in Accumulated Due to Total Class A Class B capital deficit TCIC equity --------- ------- ------------ -------------- ------------ ------------ amounts in thousands Balance at January 1, 1997 $ -- -- 336,921 (2,452) 204,726 539,195 Net earnings * -- -- -- (1,475) -- (1,475) Accreted dividends on Exchangeable Preferred Stock -- -- (7,635) -- -- (7,635) Allocation of programming charges from TCIC -- -- -- -- 28,564 28,564 Allocation of expenses in connection with the Services Agreement (note 6) -- -- -- -- 4,646 4,646 Intercompany income tax allocation -- -- -- -- (2,537) (2,537) Net cash transfers from TCIC -- -- -- -- 67,320 67,320 --------- ------- ------------ -------------- ------------ ------------ Balance at March 31, 1997 * $ -- -- 329,286 (3,927) 302,719 628,078 ========= ======= ============ ============== ============ ============ * Restated - See note 2. See accompanying notes to financial statements. I-3 6 TCI PACIFIC COMMUNICATIONS, INC. AND SUBSIDIARIES (see notes 1 and 2) Statements of Cash Flows (unaudited) Pacific VII Cable (note 2) (note 2) ------------- ------------ Three months Three months ended ended March 31, March 31, 1997 * 1996 ------------- ------------ amounts in thousands (see note 3) Cash flows from operating activities: | Net earnings (loss) $ (1,475) | 3,390 Adjustments to reconcile net earnings (loss) to net cash | provided by operating activities: | Depreciation and amortization 31,662 | 21,860 Intercompany tax allocation 2,537 | -- Deferred income tax expense (benefit) (2,608) | 1,918 Other noncash credits -- | 231 Changes in operating assets and liabilities: | Change in receivables 4,283 | 2,889 Change in accruals and payables (8,619) | (1,505) Change in prepaid expenses 2,189 | 356 ------------- | ------------ | Net cash provided by operating activities 27,969 | 29,139 ------------- | ------------ | Cash flows from investing activities: | Capital expended for property and equipment (6,108) | (19,866) Cash paid for acquisitions (35,323) | -- Other investing activities 109 | (2,349) ------------- | ------------ | Net cash used in investing activities (41,322) | (22,215) ------------- | ------------ | Cash flows from financing activities: | Change in cash overdraft 2,118 | -- Repayments of debt (110,000) | -- Payment of preferred stock dividends (7,885) | -- Net cash transfers from TCIC 95,456 | -- Change in cash transfers from Viacom, Inc. -- | (27,993) Allocated charges from Viacom, Inc. -- | 22,315 ------------- | ------------ | Net cash used in financing activities (20,311) | (5,678) ------------- | ------------ | Net increase (decrease) in cash (33,664) | 1,246 | Cash at beginning of period 33,664 | 2,294 ------------- | ------------ | Cash at end of period $ -- | 3,540 ============= | ============ * Restated - see note 2. See accompanying notes to financial statements. I-4 7 TCI PACIFIC COMMUNICATIONS, INC. AND SUBSIDIARIES Notes to Financial Statements March 31, 1997 (unaudited) (1) Acquisition and Related Transactions On July 24, 1995, Viacom, Inc. ("Viacom"), Viacom International Inc. (after giving effect to the First Distribution as defined below, "VII Cable "), a wholly owned subsidiary of Viacom, and Viacom International Services Inc. ("New VII"), a wholly owned subsidiary of VII Cable, entered into certain agreements (the "Transaction Agreements") with Tele- Communications, Inc. ("TCI") and TCIC, a subsidiary of TCI, providing for, among other things, the conveyance of Viacom International Inc.'s non-cable assets and liabilities to New VII, the distribution of all of the common stock of New VII to Viacom (the "First Distribution"), the Exchange Offer (as defined below) and the issuance to TCIC of all of the Class B Common Stock of VII Cable. On June 24, 1996, Viacom commenced an exchange offer (the "Exchange Offer") pursuant to which Viacom shareholders had the option to exchange shares of Viacom Class A or Class B Common Stock ("Viacom Common Stock") for a total of 6,257,961 shares of VII Cable Class A Common Stock. The Exchange Offer expired on July 22, 1996 with a final exchange ratio of 0.4075 shares of VII Cable Class A Common Stock for each share of Viacom Common Stock accepted for exchange. Prior to the consummation of the Exchange Offer on July 31, 1996, Viacom International Inc. entered into a $1.7 billion credit agreement (the "Credit Agreement"). Proceeds from the Credit Agreement were transferred by Viacom International Inc. to New VII as part of the First Distribution. Immediately following the consummation of the Exchange Offer, on July 31, 1996, TCIC, through a capital contribution of $350 million in cash, purchased all of the shares of Class B Common Stock of VII Cable (the "Acquisition"). At that time, VII Cable was renamed TCI Pacific Communications, Inc. (together with its consolidated subsidiaries, "Pacific") and the shares of Class A Common Stock of VII Cable were converted into shares of 5% Class A Senior Cumulative Exchangeable Preferred Stock (the "Exchangeable Preferred Stock"). Proceeds from the $350 million capital contribution were used to repay a portion of the Credit Agreement. On October 13, 1995, TCIC (as buyer) and Prime Cable of Fort Bend, L.P. and Prime Cable Income Partners, L.P. (as sellers) executed asset and stock purchase and sale agreements (the "Houston Purchase Agreements") providing for the sale of certain cable television systems serving the greater Houston Metropolitan Area for a total base purchase price of $301 million, subject to adjustments. On December 18, 1995, TCIC assigned all of its rights, remedies, title and interest in, to and under the Houston Purchase Agreements to a subsidiary of InterMedia Capital Partners IV, L.P. ("IMP"). On May 8, 1996, IMP consummated the transactions contemplated by the Houston Purchase Agreements. In connection with the Acquisition, IMP exchanged its Houston cable systems plus cash amounting to $36,633,000 (the "Exchange Cash") for VII Cable's Nashville cable system. The Exchange Cash was escrowed for cable system acquisitions. In January 1997, the Company used the Exchange Cash to purchase a cable system serving approximately 20,000 subscribers in and around Boulder County, Colorado. (continued) I-5 8 TCI PACIFIC COMMUNICATIONS, INC. AND SUBSIDIARIES Notes to Financial Statements Pacific, through its subsidiaries and affiliates, is principally engaged in the construction, acquisition, ownership, and operation of cable television systems. Pacific operates its cable television systems primarily in the following five geographic markets: the San Francisco and Northern California area; Salem, Oregon; the Seattle, Washington and Greater Puget Sound area; Houston, Texas; and Dayton, Ohio. (2) Basis of Presentation In the accompanying financial statements and in the following text, references are made to VII Cable and Pacific. The period for the three months ended March 31, 1996 reflects the carve-out historical results of operations of the cable television business of Viacom and is referred to as "VII Cable". The financial statements as of December 31, 1996 and March 31, 1997 and for the three months ended March 31, 1997 reflect the consolidated results of operations and financial condition of Pacific and are referred to as "Pacific". The "Company" refers to both Pacific and its predecessor entity, VII Cable. The accompanying financial statements include the accounts of the Company and all investments of more than 50% in subsidiaries in which the Company has significant control. All significant intercompany transactions have been eliminated for all periods presented. As a result of the Acquisition, which was accounted for as a purchase, the consolidated financial information for the periods after the Acquisition is presented on a different cost basis than that for the periods before the Acquisition and therefore is not comparable. The accompanying interim financial statements are unaudited but, in the opinion of management, reflect all adjustments (consisting of normal recurring accruals) necessary for a fair presentation of the results for such periods. The results of operations for any interim period are not necessarily indicative of results for the full year. These financial statements should be read in conjunction with Pacific's combined financial statements and notes thereto for the year ended December 31, 1996. The Company has restated its consolidated financial statements to give effect to the finalization of the purchase price allocation with respect to the Acquisition. The effect of this restatement is a $5,869,000 increase to depreciation expense and a $3,672,000 decrease to net earnings for the three months ended March 31, 1997. The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates. Certain amounts have been reclassified for comparability with the 1997 presentation. (continued) I-6 9 TCI PACIFIC COMMUNICATIONS, INC. AND SUBSIDIARIES Notes to Financial Statements (3) Supplemental Disclosure to Statements of Cash Flows Cash paid for interest was $24,469,000 for the three months ended March 31, 1997. Cash paid for income taxes was not material for the three months ended March 31, 1997. Prior to the Acquisition, interest and income taxes were settled through the intercompany account. See note 6 for discussion of these charges. Significant noncash investing and financing activities are as follows: Three months Three months ended ended March 31, March 31, 1997 1996 ------------ ------------ amounts in thousands Accrued preferred stock dividends $7,635 | -- ====== | ====== (4) Debt In connection with the Transaction Agreements described in note 1, Viacom International Inc. borrowed $1.7 billion pursuant to the Credit Agreement, $350 million of which was repaid with the proceeds from the TCIC capital contribution described in note 1. At March 31, 1997, the Credit Agreement consists of a $300 million term loan (the "Term Loan") which is due December 31, 2004 and a $1.05 billion revolving commitment loan (the "Revolving Loan") that provides for semi-annual escalating commitment reductions from June 30, 1998 through September 30, 2004. The Term Loan and the Revolving Loan provide for quarterly interest payments at variable rates (7.7% and 7.3% respectively, at March 31, 1997) based upon the Company's debt to cash flow ratio (as defined in the Credit Agreement). The Credit Agreement contains restrictive covenants which require, among other things, the maintenance of specified cash flow and financial ratios and include certain limitations of indebtedness, investments, guarantees, dispositions, stock repurchases and dividend payments. In addition, the Revolving Loan requires a commitment fee ranging from 3/8% to 1/2% per annum to be paid quarterly on the average unborrowed portion of the total amount available for borrowing. At March 31, 1997, the unborrowed portion of the revolving loan was $360 million. Based on current rates available for debt of the same maturity, the Company believes that the fair value of Pacific's debt is approximately equal to its carrying value at March 31, 1997. (continued) I-7 10 TCI PACIFIC COMMUNICATIONS, INC. AND SUBSIDIARIES Notes to Financial Statements In accordance with the terms of the Credit Agreement, Pacific has entered into an interest rate exchange agreement (the "Exchange Agreement") with TCIC pursuant to which Pacific will pay a fixed interest rate of 7.5% on a notional amount of $600 million. The terms of the Exchange Agreement become effective only if the one month LIBOR rate exceeds 6.5% for five consecutive days within the two-year observation period, as defined by the Exchange Agreement (the "Trigger"). In the event the Trigger occurs, the terms of the agreement become effective until August 1, 2001. As of March 31, 1997, the terms of the Exchange Agreement have not become effective. Additionally, in connection with the Credit Agreement, TCIC incurred commitment fees of approximately $13 million which have been deferred and will be amortized over the terms of the Agreement. (5) Exchangeable Preferred Stock The Company is authorized to issue and has issued 6,257,961 shares of 5% Class A Senior Cumulative Exchangeable Preferred Stock with a stated value of $100 per share in connection with the Acquisition (see note 1). The Exchangeable Preferred Stock is exchangeable, at the option of the holder commencing after the fifth anniversary of the date of issuance, for shares of Tele-Communications, Inc. Series A TCI Group Common Stock ("Series A TCI Group Stock") at an exchange rate of 5.447 shares of Series A TCI Group Stock for each share of Exchangeable Preferred Stock exchanged. The Exchangeable Preferred Stock is subject to redemption, at the option of Pacific, on or after the fifteenth day following the fifth anniversary of the date of issuance, initially at a redemption price of $102.50 per share and thereafter at prices declining ratably annually to $100 per share on and after the eighth anniversary of the date of issuance, plus accrued and unpaid dividends to the date of redemption. The Exchangeable Preferred Stock is also subject to mandatory redemption on the tenth anniversary of the date of issuance for $100 per share plus accrued and unpaid dividends. Amounts payable by the Company in satisfaction of its dividend, optional redemption and mandatory redemption obligations with respect to the Exchangeable Preferred Stock may be made in cash or, at the election of the Company, in shares of Series A TCI Group Stock, or in any combination of the foregoing. If payments are made in shares of Series A TCI Group Stock, Pacific will discount the market value of such stock by 5% in determining the number of shares required to be issued to satisfy such payments. (6) Related Party Transactions Pacific purchases, at TCIC's cost, certain pay television and other programming through a certain indirect subsidiary of TCIC. Charges for such programming were $28,564,000 during the three months ended March 31, 1997 and are included in operating expenses in the accompanying financial statements. (continued) I-8 11 TCI PACIFIC COMMUNICATIONS, INC. AND SUBSIDIARIES Notes to Financial Statements Effective August 1, 1996, TCI provides certain facilities, services and personnel to Pacific. The scope of the facilities, personnel and services to Pacific and the respective charges payable in respect thereof are set forth in a services agreement entered into among TCI, TCIC and Pacific (the "Services Agreement"). Pursuant to the Services Agreement, TCIC provides to Pacific administrative and operational services necessary for the conduct of its business, including, but not limited to, such services as are generally performed by TCIC's accounting, finance, corporate, legal and tax departments. In addition, TCIC makes available to Pacific such general overall management services and strategic planning services as TCIC and Pacific have agreed, and provides Pacific with such access to and assistance from TCIC engineering and construction groups and TCIC's programming and technology/venture personnel at Pacific's request. The Services Agreement also provides that, for so long as TCIC continues to beneficially own shares of Pacific's common stock representing at least a majority in voting power of the outstanding shares of capital stock of Pacific entitled to vote generally in the election of directors, TCIC will continue to provide in the same manner, and on the same basis as is generally provided from time to time to other participating TCIC subsidiaries, benefits and administrative services to Pacific's employees. In this regard, Pacific is allocated that portion of TCIC's compensation expense attributable to benefits extended to employees of Pacific. Pursuant to the Services Agreement, Pacific reimburses TCIC for all direct expenses incurred by TCIC in providing such services and a pro rata share of all indirect expenses incurred by TCIC in connection with the rendering of such services, including a pro rata share of the salary and other compensation of TCIC employees performing services for Pacific and general overhead expenses. Charges for expenses incurred in connection with the Services Agreement were $4,646,000 during the three months ended March 31, 1997, and are included in selling, general and administrative expenses in the accompanying financial statements. The obligations of TCIC to provide services under the Services Agreement (other than TCIC's obligation to allow Pacific's employees to participate in TCIC's employee benefit plans) will continue in effect until terminated by any party to the Services Agreement at any time on not less than 60 days' notice. Prior to the Acquisition, Viacom provided VII Cable with certain general services, including insurance, legal, financial and other corporate functions. Charges for these services were made primarily based on the average of certain specified ratios of revenues, operating income and net assets. Management believes that the methodologies used to allocate these charges were reasonable. The charges for such services were $3,017,000 for the three months ended March 31, 1996, and are included in selling, general and administrative expenses in the accompanying financial statements. (continued) I-9 12 TCI PACIFIC COMMUNICATIONS, INC. AND SUBSIDIARIES Notes to Financial Statements Prior to the Acquisition, VII Cable, through the normal course of business, was involved in transactions with companies owned by or affiliated with Viacom. VII Cable had agreements to distribute television programs of such companies, including Showtime Networks Inc., MTV Networks, Comedy Central and USA Networks. The agreements required VII Cable to pay license fees based upon the number of customers receiving the service. Affiliate license fees incurred and paid under these agreements were $8,639,000 for the three months ended March 31, 1996. In addition, cooperative advertising expenses charged to affiliated companies were $106,000 for the three months ended March 31, 1996. Viacom allocated to VII Cable interest expense of $11,421,000 during the three months ended March 31, 1996. Such allocated interest expense is related to Viacom corporate debt and was allocated to VII Cable on the basis of a percentage of VII Cable's average net assets to Viacom's average net assets. (7) Commitments The Company leases business offices, has entered into pole rental agreements and uses certain equipment under lease arrangements. Rental expense under such arrangements amounted to $1,760,000 and $1,997,000 during the three months ended March 31, 1997 and 1996, respectively. In the ordinary course of business, VII Cable entered into long-term affiliation agreements with programming services which required that VII Cable carry and pay for programming and meet certain performance requirements. I-10 13 TCI PACIFIC COMMUNICATIONS, INC. AND SUBSIDIARIES Management's Discussion and Analysis of Financial Condition and Results of Operations The following discussion and analysis should be read in conjunction with the Company's Management's Discussion and Analysis of Financial Condition and Results of Operations included in the Company's Annual Report on Form 10-K for the year ended December 31, 1996. The following discussion focuses on material changes in the trends, risks and uncertainties affecting the Company's results of operations and financial condition. Reference should also be made to the Company's consolidated financial statements included herein. (1) Material changes in financial condition: On July 24, 1995, Viacom, VII Cable, a wholly owned subsidiary of Viacom, and New VII, a wholly owned subsidiary of VII Cable, entered into the Transaction Agreements with TCI and TCIC, providing for, among other things, the conveyance of Viacom International Inc.'s non-cable assets and liabilities to New VII, the First Distribution, the Exchange Offer and the issuance to TCIC of all of the Class B Common Stock of VII Cable. On June 24, 1996, Viacom commenced the Exchange Offer pursuant to which Viacom shareholders had the option to exchange shares of Viacom Class A or Class B Common Stock for a total of 6,257,961 shares of VII Cable Class A Common Stock. The Exchange Offer expired on July 22, 1996 with a final exchange ratio of 0.4075 shares of VII Cable Class A Common Stock for each share of Viacom Common Stock accepted for exchange. Prior to the consummation of the Exchange Offer on July 31, 1996, Viacom International Inc. entered into the Credit Agreement. Proceeds from the Credit Agreement were transferred by Viacom International Inc. to New VII as part of the First Distribution. Immediately following the consummation of the Exchange Offer, on July 31, 1996, TCIC, through a capital contribution of $350 million in cash, purchased all of the shares of Class B Common Stock of VII Cable. At that time, VII Cable was renamed TCI Pacific Communications, Inc. and the shares of Class A Common Stock of VII Cable were converted into shares of 5% Class A Senior Cumulative Exchangeable Preferred Stock. Proceeds from the $350 million capital contribution were used to repay a portion of the Credit Agreement. On October 13, 1995, TCIC (as buyer) and Prime Cable of Fort Bend, L.P. and Prime Cable Income Partners, L.P. (as sellers) executed the Houston Purchase Agreements providing for the sale of certain cable television systems serving the greater Houston Metropolitan Area for a total base purchase price of $301 million, subject to adjustments. On December 18, 1995, TCIC assigned all of its rights, remedies, title and interest in, to and under the Houston Purchase Agreements to IMP. On May 8, 1996, IMP consummated the transactions contemplated by the Houston Purchase Agreements. In connection with the Acquisition, IMP exchanged its Houston cable system plus cash amounting to $36,633,000 for VII Cable's Nashville cable system. The Exchange Cash was escrowed for cable system acquisitions. In January 1997, the Company used the Exchange Cash to purchase a cable system serving approximately 20,000 subscribers in and around Boulder County, Colorado. (continued) I-11 14 TCI PACIFIC COMMUNICATIONS, INC. AND SUBSIDIARIES (1) Material changes in financial condition (continued): The Exchangeable Preferred Stock is exchangeable, at the option of the holder commencing after the fifth anniversary of the date of issuance, for shares of Series A TCI Group Stock at an exchange rate of 5.447 shares of Series A TCI Group Stock for each share of Exchangeable Preferred Stock exchanged. The Exchangeable Preferred Stock is subject to redemption, at the option of Pacific, on or after the fifteenth day following the fifth anniversary of the date of issuance, initially at a redemption price of $102.50 per share and thereafter at prices declining ratably annually to $100 per share on and after the eighth anniversary of the date of issuance, plus accrued and unpaid dividends to the date of redemption. The Exchangeable Preferred Stock is also subject to mandatory redemption on the tenth anniversary of the date of issuance for $100 per share plus accrued and unpaid dividends. Amounts payable by the Company in satisfaction of its dividend, optional redemption and mandatory redemption obligations with respect to the Exchangeable Preferred Stock may be made in cash or, at the election of the Company, in shares of Series A TCI Group Stock, or in any combination of the foregoing. If payments are made in shares of Series A TCI Group Stock, Pacific will discount the market value of such stock by 5% in determining the number of shares required to be issued to satisfy such payments. One measure of liquidity is commonly referred to as "interest coverage". Interest coverage, which is measured by the ratio of Operating Cash Flow (operating income before depreciation and amortization) ($55,018,000 for the three months ended March 31, 1997) to interest expense ($25,307,000 for the three months ended March 31, 1997), is determined by reference to the statements of operations. The Company's interest coverage ratio was 217% for the three months ended March 31, 1997. Management of the Company believes that the foregoing interest coverage ratio is adequate in light of the relative predictability of its cable television operations and the Company's interest expense. However, the Company's current intent is to reduce its outstanding indebtedness such that its interest coverage ratio could be increased. There is no assurance that the Company will be able to achieve such objective. Operating Cash Flow is a measure of value and borrowing capacity within the cable television industry and is not intended to be a substitute for cash flows provided by operating activities, a measure of performance prepared in accordance with generally accepted accounting principles, and should not be relied upon as such. Operating Cash Flow, as defined, does not take into consideration substantial costs of doing business, such as interest expense, and should not be considered in isolation to other measures of performance. Another measure of liquidity is net cash provided by operating activities, as reflected in the accompanying consolidated statements of cash flows. Net cash provided by operating activities ($27,969,000 for the three months ended March 31, 1997) reflects net cash from the operations of the Company available for the Company's liquidity needs after taking into consideration the aforementioned additional substantial costs of doing business not reflected in Operating Cash Flow. Management believes that net cash provided by operating activities, the available credit under the Revolving Loan, and advances from TCIC, if necessary, will provide adequate sources of short-term and long-term liquidity in the future. See the Company's consolidated statements of cash flows included in the accompanying financial statements. (continued) I-12 15 TCI PACIFIC COMMUNICATIONS, INC. AND SUBSIDIARIES (2) Material changes in results of operations: Revenue On October 5, 1992, Congress enacted the Cable Television Consumer Protection and Competition Act of 1992 (the "1992 Cable Act"). In 1993 and 1994, the Federal Communications Commission ("FCC") adopted certain rate regulations required by the 1992 Cable Act and imposed a moratorium on certain rate increases. As a result of such actions, Pacific's basic and tier service rates and its equipment and installation charges (the "Regulated Services") are subject to the jurisdiction of local franchising authorities and the FCC. The regulations established benchmark rates in 1993, which were further reduced in 1994, to which the rates charged by cable operators for Regulated Services were required to conform. Pacific believes that it has complied, in all material respects, with the provisions of the 1992 Cable Act, including its rate setting provisions. However, the Company's rates for Regulated Services are subject to review by the FCC, if a complaint has been filed, or by the appropriate franchise authority, if such authority has been certified. If, as a result of the review process, a system cannot substantiate its rates, it could be required to retroactively reduce its rates to the appropriate benchmark and refund the excess portion of rates received. Any refunds of the excess portion of tier service rates would be retroactive to the date of complaint. Any refunds of the excess portion of all other Regulated Service rates would be retroactive to one year prior to the implementation of the rate reductions. On February 8, 1996, the Telecommunications Act of 1996 (the "1996 Telecom Act") was signed into law. Because the 1996 Telecom Act does not deregulate cable programming service tier rates until 1999 (and basic service tier rates will remain regulated thereafter), the Company believes that the 1993 and 1994 rate regulations have had and will continue to have a material adverse effect on its results of operations. Revenue increased approximately 6% for the three months ended March 31, 1997, as compared to the corresponding period of 1996. The increase is primarily attributable to a 10% increase in the average primary rate and a 9% increase in the average premium rate. As of March 31, 1997, Pacific served approximately 1,181,000 basic customers subscribing to approximately 889,000 premium units. Exclusive of subscribers gained in the acquisition of a cable system in and around Boulder County, Colorado, this represents a 1% and 3% decrease in basic customers and premium units, respectively, since December 31, 1996. Operating Costs and Expenses Operating expenses decreased 8% for the three months ended March 31, 1997, as compared to the corresponding period in 1996. Such decrease is due to efficiencies realized as a result of the Acquisition offset by an increase in programming costs. Selling, general and administrative ("SG&A") expenses decreased 8% for the three months ended March 31, 1997, as compared to the corresponding period in 1996. The majority of this decrease is due to lower salaries and related expenses due to a reduction in work force in December of 1996. Prior to the Acquisition, Viacom provided VII Cable with certain general services, including insurance, legal, financial and other corporate functions. Charges for these services were based on the average of certain specified ratios of revenue, operating income and net assets of VII Cable in relation to Viacom. The charges for such services were $3,017,000 for the three month period and are included in SG&A. (continued) I-13 16 TCI PACIFIC COMMUNICATIONS, INC. AND SUBSIDIARIES (2) Material changes in results of operations (continued): Effective August 1, 1996, TCI provides certain facilities, services and personnel to Pacific. The scope of the facilities, personnel and services to Pacific and the respective charges payable in respect thereof are set forth in the Services Agreement. Pursuant to the Services Agreement, TCI provides to Pacific administrative and operational services necessary for the conduct of its business, including, but not limited to, such services as are generally performed by TCI's accounting, finance, corporate, legal and tax departments. In addition, TCI makes available to Pacific such general overall management services and strategic planning services as TCI and Pacific have agreed, and provides Pacific with such access to and assistance from TCI engineering and construction groups and TCI's programming and technology/venture personnel at Pacific's request. The Services Agreement also provides that, for so long as TCI continues to beneficially own shares of Pacific's common stock representing at least a majority in voting power of the outstanding shares of capital stock of Pacific entitled to vote generally in the election of directors, TCI will continue to provide in the same manner, and on the same basis as is generally provided from time to time to other participating TCI subsidiaries, benefits and administrative services to Pacific's employees. In this regard, Pacific is allocated that portion of TCI's compensation expense attributable to benefits extended to employees of Pacific. Pursuant to the Services Agreement, Pacific reimburses TCI for all direct expenses incurred by them in providing such services and a pro rata share of all indirect expenses incurred by them in connection with the rendering of such services, including a pro rata share of the salary and other compensation of TCI employees performing services for Pacific and general overhead expenses. Charges for expenses incurred in connection with the Services Agreement were $4,646,000 during the three month period and are included in SG&A. See note 6 to the accompanying combined financial statements. Depreciation expense decreased 29% for the three months ended March 31, 1997, as compared to the corresponding period in 1996. Such decrease is attributable to the consummation of the Acquisition, in which Pacific recorded property and equipment at fair market value, which was less than VII Cable's historical cost, offset by an increase in depreciation due to capital expenditures. Depreciation expense for the 1997 period includes $2,840,000 attributable to the five-month period ended December 31, 1996. Amortization expense increased 326% for the three months ended March 31, 1997, as compared to the corresponding period in 1996. Such increase is attributable to increased franchise costs as a result of the Acquisition. Other Income and Expense and Net Loss Interest expense increased 112% for the three months ended March 31, 1997, as compared to the corresponding period in 1996. Such increase is due to interest related to the $1.7 billion Credit Agreement entered into prior to consummation of the Exchange Offer. Interest expense for periods prior to the Acquisition reflects amounts recorded by VII Cable on borrowings under a credit agreement and amounts allocated by Viacom to VII Cable based on a percentage of VII Cable's average net assets to Viacom's average net assets. VII Cable was included in the consolidated federal, state and local income tax returns filed by Viacom. However, the income tax provision was prepared on a separate return basis as though VII Cable filed stand-alone income tax returns. (continued) I-14 17 TCI PACIFIC COMMUNICATIONS, INC. AND SUBSIDIARIES (2) Material changes in results of operations (continued): Subsequent to the Acquisition, Pacific is included in the consolidated federal income tax return of TCI. Income tax expense or benefit for Pacific is based on those items in the consolidated calculation applicable to Pacific. Intercompany tax allocation represents an apportionment of tax expense or benefit (other than deferred taxes) among the subsidiaries of TCI in relation to their respective amounts of taxable earnings or losses. The payable or receivable arising from the intercompany tax allocation is recorded as an increase or decrease in amounts due to TCIC. The effective tax rates for the three month period ended March 31, 1997 and 1996, respectively, were both adversely affected by the amortization of acquisition costs which are not deductible for tax purposes. The Company's net loss (before preferred stock dividend requirements) of $1,475,000 for the three months ended March 31, 1997 represents a decrease of $4,865,000 as compared to the corresponding period of 1996. Such reduction primarily represents an increase in interest expense in 1997 partially offset by an increase in operating income and a decrease in income tax expense. I-15 18 TCI PACIFIC COMMUNICATIONS, INC. AND SUBSIDIARIES PART II -- OTHER INFORMATION Item 1. Legal Proceedings. There were no new material legal proceedings or material developments in previously reported legal proceedings during the quarter ended March 31, 1997 to which TCI Pacific Communications, Inc. or any of its consolidated subsidiaries is a party or of which any of its property is the subject. Item 6. Exhibit and Reports on Form 8-K. (a) Exhibit- (27) TCI Pacific Communications, Inc. Financial Data Schedule (b) Reports on Form 8-K filed during the quarter ended March 31, 1997: None. II-1 19 EXHIBIT INDEX The following exhibits are filed herewith or are incorporated by reference herein (according to the number assigned to them in Item 601 of Regulation S-K) as noted: (27) TCI Pacific Communications, Inc. Financial Data Schedule