Electric Lightwave, Inc. Form 10-K
Annual Report Pursuant To Section 13 or 15(d)
of The Securities Exchange Act of 1934
For The Year Ended December 31, 2001
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
|X| ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2001
OR
| | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
Commission file number 0-23393
ELECTRIC LIGHTWAVE, INC.
(Exact name of registrant as specified in its charter)
Delaware 93-1035711
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
3 High Ridge Park
Stamford, CT 06905
(Address, zip code of principal executive offices)
Registrant's telephone number, including area code: (203) 614-5600
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock Class A, par value $.01 per share
(Title of each class)
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 twelve 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 ninety days.
Yes |X| No | |
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]
The aggregate market value of the voting stock held by nonaffiliates of the
registrant as of February 28, 2002, was $19,000,000. The number of shares
outstanding of each of the registrant's classes of common stock as of February
28, 2002 were:
Common Stock Class A: 35,417,531
Common Stock Class B: 15,881,312
DOCUMENTS INCORPORATED BY REFERENCE
The Proxy Statement for the registrant's 2001 Annual Meeting of Stockholders to
be held on May 16, 2002 which is to be filed at a later date is incorporated by
reference into Part III of this Form 10-K.
TABLE OF CONTENTS
Part I Page
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Item 1. Business
General Development of Business 2
Industry Segments 3
Description of Business 3
Products and Services 5
Regulatory Environment 7
Competition 9
Operations/Information Technology 10
Employees 10
Item 2. Description of Property 10
Item 3. Legal Proceedings 11
Item 4. Submission of Matters to a Vote of Security Holders 11
Executive Officers of the Registrant 12
Part II
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Item 5. Market for the Registrant's Common Stock and Related
Stockholder Matters 14
Item 6. Selected Financial and Operating Data 15
Item 7. Management's Discussion and Analysis of Financial Condition
and Results of Operations 16
Item 7A. Quantitative and Qualitative Disclosures About Market Risk 25
Item 8. Financial Statements and Supplementary Data 26
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure 26
Part III
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Item 10. Directors and Executive Officers of the Registrant 26
Item 11. Executive Compensation 26
Item 12. Security Ownership of Certain Beneficial Owners and Management 26
Item 13. Certain Relationships and Related Transactions 26
Part IV
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Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K 27
Signatures 29
Index to Financial Statements F
1
PART I
------
Item 1. BUSINESS
This annual report on Form 10-K contains forward-looking statements that involve
risks and uncertainties. Our actual results could differ materially from those
expressed or implied in the financial statements. Further discussion regarding
forward-looking statements, including the factors which may cause actual results
to differ from such statements, is located in Item 7, "Management's Discussion
and Analysis of Financial Condition and Results of Operations," in this report.
a. General development of business
-------------------------------
Electric Lightwave, Inc. is referred to as "we," "us," or "our" in this report.
We are a facilities-based competitive local exchange carrier (CLEC) providing a
broad range of communications services to businesses. We provide a full range of
wireline telecommunications products and services, including switched local and
long distance voice service, enhanced data communications services and dedicated
point-to-point services, in the western United States. We market our services to
retail business customers and to wholesale customers, who are also
communications carriers.
Our facilities-based network consists of optical fiber, plus voice and data
switches. We have a national internet and data network with switches and routers
in key cities, linked by leased transport facilities. At December 31, 2001, we
had 6,754 local and long-haul route miles of fiber-optic cable in service. In
addition, we have a long-haul, fiber-optic network which utilizes an optically
self-healing Synchronous Optical Network (SONET) architecture. This network
spans approximately 4,000 miles, crosses seven states and is one of the largest
OC-192 SONET systems in the western United States.
During 2001, the economy and the stock market began to highlight the overbuilt
state of the telecommunications markets, especially for long-haul services. We
and other CLECs have incurred substantial debt to build our networks for which
demand now appears to be limited. As these conditions became more evident,
competitive and financial pressures on CLECs increased. As a result of these
pressures, we expect that a restructuring of the telecommunications industry is
occurring. The nature of the restructuring of the telecommunications industry
that will take place is uncertain.
Our primary focuses in 2002 are increasing new and existing customer usage of
our installed asset base, focusing more on enterprise businesses, company end
users and government entities and diversifying our customer mix to place less
reliance on Internet Service Providers (ISPs), application service providers and
competitive local exchange companies. We expect a substantial portion of our
growth to come from increased penetration of existing on-net buildings, a focus
on sales to customers that are connected to the network and an increase in
market share in our eight major cities and surrounding areas. We anticipate
continued growth in our sales to other carriers, and will continue to market our
available dark fiber.
Citizens Communications Company (Citizens) owns approximately 85% of our common
stock. Our relationship with Citizens is governed by an Administrative Services
Agreement, a Tax Sharing Agreement, an Indemnification Agreement, a Customers
and Service Agreement and a Registration Rights Agreement entered into in
connection with our initial public offering in 1997 (IPO). We have entered into
a revolving credit facility with Citizens for $450 million with an interest rate
of 15% and a final maturity of October 30, 2005 (Citizens Credit Facility) under
which $194.5 had been borrowed at December 31, 2001. Citizens is also currently
guaranteeing our $400 million revolving bank credit facility, $325 million
five-year senior unsecured notes, $75 million capital lease and $110 million
construction agency and operating lease agreements. In January 2002, we
exercised our option to purchase the facilities at the end of the lease term
(April 2002) for the lessor's average investments in the facilities. Citizens
provides certain management and administrative services to us and certain
officers of Citizens also serve as our officers. Citizens has committed to
continue to finance our operations and cash requirements through March 31, 2003.
Absent the Citizens commitment, we do not believe there is currently a market to
further finance or refinance our indebtedness. Consequently, without the
financial support of Citizens, we could not fund our future capital requirements
or service our debt and most likely would not remain a going concern.
2
As a result of the financial conditions within the CLEC industry and with our
operations and the current price of our Class A Common Stock, we believe that
our Class A Common Stock that is currently listed for trading on Nasdaq's
National Market may be subject to delisting from Nasdaq in 2002. On April 2,
2001, we received a notice from the Nasdaq Stock Market, Inc. that our stock
would be subject to delisting from the National Market after July 2, 2001
because our Class A Common Stock failed to maintain a minimum bid price. On June
29, 2001, we filed an application for our listing to be transferred to the
Nasdaq Small Cap Market. As part of the application process, Citizens converted
approximately 25.3 million shares of Class B Common Stock into the same number
of shares of Class A Common Stock on August 27, 2001. On August 31, 2001, we
received a notice from Nasdaq indicating that we had failed to comply with the
shareholders' equity, market capitalization, market value/total assets and
revenue and minimum bid price requirements for continued listing, and that our
stock was, therefore, subject to delisting from the Nasdaq National Market. We
were granted a hearing before a Nasdaq Listing Qualifications Panel to review
the delisting. On September 27, 2001, Nasdaq implemented a moratorium on the
minimum bid price and market value of public float requirements for continued
listing on the Nasdaq Stock Market until January 2, 2002. We received a notice
from Nasdaq on that date stating that as a result of that action the hearing
scheduled regarding the delisting of our stock had been canceled and its hearing
file closed. On January 2, 2002, compliance with the minimum requirements for
listing on the Nasdaq National and Small Cap Markets started anew. If we do not
meet these requirements for 30 consecutive days, and are unable to regain
compliance within 90 days, our stock could be subject to delisting again. It is
uncertain whether we will be able to meet the applicable listing requirements.
If the requirements are not met, our Class A Common Stock may not be eligible
for trading on Nasdaq and we expect it would trade in the over-the-counter
market.
b. Industry segments
-----------------
We operate in a single industry segment, communications services. We provide
services utilizing our centrally planned, monitored and operated
telecommunications network. Operations are managed and financial performance is
evaluated based on the delivery of multiple services to customers over our
single fiber-optic network. As a result, there are many shared expenses
generated by the various revenue streams and geographic locations. Management
believes that any allocation of the expenses incurred on a single network to
multiple revenue streams would be impractical, arbitrary and inconsistent with
the way the business is currently evaluated by management. As a result, we do
not presently have systems or procedures in place to derive all the operating
costs and expenses relating to a particular product group or service area.
c. Description of business
-----------------------
We have built a fiber-optic network in the western United States and have
created an infrastructure and the systems needed to support an expanded product
portfolio and the capacity to serve a larger customer base.
We currently provide the full range of our services in eight major cities and
their surrounding areas, including:
Boise, Idaho Phoenix, Arizona
Portland, Oregon Sacramento, California
Salt Lake City, Utah Seattle, Washington
Spokane, Washington Las Vegas, Nevada
3
The major cities include a network of approximately 2,376 route miles of
fiber-optic cable installed to create a series of SONET rings, which provide a
higher degree of stability and dependability. Switched service, including local
dial tone, is provided from 8 Nortel DMS 500 switches in the primary major
cities. We also have transmission equipment collocated with switches of the
Incumbent Local Exchange Carrier (ILEC) at 56 locations.
We have broadband data points of presence in our major cities as well as other
strategic cities across the United States, including:
Atlanta, Georgia Austin, Texas
Chicago, Illinois Cleveland, Ohio
Dallas, Texas Denver, Colorado
Houston, Texas New York, New York
Los Angeles, California San Diego, California
Philadelphia, Pennsylvania Washington, D.C.
San Francisco, California
In the first half of 2002, we intend to redeploy the internet routers, frame
relay switches and ATM switches from the Atlanta, Cleveland, Denver,
Philadelphia and New York markets to other locations in our network. We intend
to cease leasing the collocation facilities and off-net circuits for the
backbone and local loops supporting the service delivery in these markets (see
further discussion in Management's Discussion and Analysis and Note 4 of Notes
to Financial Statements.
We have developed an Internet backbone network providing Internet connectivity
in each of our markets, including presence at all major network access points
and including "peering arrangements" with other Internet backbone service
providers. A peering arrangement is an agreement where Internet backbone service
providers agree to allow each other direct access to Internet data contained on
their networks. In addition, our broadband network consists of frame relay
switches, Asynchronous Transfer Mode (ATM) switches and network-to-network
interfaces. National and international coverage is provided through strategic
relationships with other communications providers.
We own or lease broadband long-haul fiber-optic network connections between our
major cities in the west and our strategic markets across the nation. To the
extent that we carry traffic on our own facilities, we are able to maximize the
utilization of our network facilities and minimize network access costs as well
as other interconnection costs. Our optically self-healing SONET ring in the
western United States connects Portland, Seattle, Sacramento, San Francisco, Los
Angeles, Las Vegas, Phoenix, Salt Lake City and Boise. The network includes
Dense Wave Division Multiplexing (DWDM) equipment and supports voice and data
traffic at speeds up to OC-192. DWDM is a technique for transmitting 16 or more
different light-wave frequencies at speeds up to OC-192 on a single fiber to
increase transmission capacity.
In the development of our long-haul facilities, we have formed strategic
relationships with utility companies that enabled us to do the following:
* utilize existing rights-of-way and fiber-optic facilities,
* utilize their construction expertise and local permitting experience and
* minimize our near-term cash requirements in order for us to extend our
network infrastructure more quickly and economically.
We entered into a fiber-swap agreement during 1999 which will exchange unused
fiber on our network for unused fiber on another carrier's network. This
exchange provides us with a fiber route from Salt Lake City to Denver and
continuing on to Dallas. Multiple disputes regarding the agreement have arisen.
During 2001, both ELI and the other carrier notified each other of potential
breaches of the agreement. If the breaches are determined to be valid and not
cured, the agreement could terminate by its terms.
4
Significant Customer
For the years ended December 31, 2001, 2000 and 1999, Qwest Communications
(Qwest) accounted for 10%, 19% and 19%, respectively, of our total revenue. As
of December 31, 2001 and 2000, Qwest accounted for 12% and 28%, respectively, of
our net trade accounts receivable. In 2001, a significant portion of the Qwest
revenue was generated from reciprocal compensation agreements. No other customer
accounted for 10% or more of our total revenue for the years ended December 31,
2001, 2000 and 1999.
Additionally, we are currently providing service to customers that have filed
for protection under Chapter 11 of the bankruptcy code. Of our largest
twenty-five customers, two customers are under Chapter 11 protection. These
customers contributed approximately $0.3 million of revenue monthly.
PRODUCTS AND SERVICES
We provide facilities-based products and services over our switched broadband
digital network platform. This network platform enables us to integrate high
revenue generating products into our existing portfolio. Our product offerings
include:
* Network services - includes dedicated service between two points for a
customer's exclusive use. We offer this in both local and long-haul
applications and collocation facilities to meet us directly in our hub.
* Local telephone services - consists of the delivery of local dial tone and
related services, and related carrier and local access revenue, as well as
Integrated Services Digital Network Primary Rate Interface (ISDN PRI). ISDN
PRI provides customers with a high-speed access connection to the public
switched telephone network for voice, video, and data applications.
* Long distance services - includes retail and wholesale long distance phone
services.
* Data services - includes a wide range of products to deliver large
quantities of data from one location to another through ATM, Frame Relay
and Internet Protocol (IP) packet technologies. These technologies group
data (voice, video, images and character-based data) into small packets of
information and transmit the packets over a network.
We also provide a "Custom T" product which is an integrated T-1 product, which
bundles certain of the voice and data products above over the same T-1. It is
designed to provide pricing advantages and efficiencies of converged
communications in a flexible and reliable offering. Custom T is designed to
assist customers in optimizing the efficiency of their communications needs by
allowing multiple services to ride on the same T-1. These services include:
Local Telephone Services, Switched 1+ Long Distance, Frame Relay, and Internet
Access.
The revenues for each of these four product categories over the last three years
are presented in Item 7, "Management's Discussion and Analysis of Financial
Condition and Results of Operations", in this report. The following discussion
summarizes the components of our product and services categories.
Network Services
The Network Services product consists of point-to-point dedicated services that
provide a private transmission channel for our customer's exclusive use between
two or more locations. This product line is offered in both local and long-haul
applications.
Local services are provided over the SONET networks that we have built in each
of our major cities. Dedicated point-to-point and multiplexed services are
provided from DS-1 to OC-192 transmission levels over protected routes to our
on-net locations. We also provide point-to-point Ethernet services in 10 Mbps,
100 Mbps, and 600 Mbps increments. Additionally, an extensive use of ILEC
collocations and leased facilities from other communications carriers allow us
to extend the reach of our products to more than just on-net locations. ILECs
are the local exchange carriers that are the dominant local telecommunications
companies that typically provide the "last mile" of service in the applicable
markets, for example Qwest is the ILEC in many of our markets.
5
Long-haul services are provided over owned or leased broadband long-haul fiber.
As an added value, we provide an end-to-end solution by providing local loop
connectivity in local markets. Long-haul services are offered in transmission
speeds ranging from DS-1 up to OC-192 and gigabit Ethernet.
Local Telephone Services
Our Local Telephone Services product line consists of the delivery of local dial
tone and related products to various business, ISPs, and wholesale customers.
Integrated Service Digital Network Primary Rate Interface (ISDN PRI) provides
customers with a high-speed, flexible digital access connection to the public
switched telephone network for voice, video and data applications. ISDN PRI
products are provided in Data Only, and Data and Voice, according to the
customer's need. For Voice and Data applications, calling features and Direct
Inward Dialing functions are provided.
We offer a selection of trunk products to medium and large businesses with their
own private branch exchange (PBX) or key system equipment. Trunk products are
provided as incoming, outgoing, or 2-way call paths to our central office and
the public switched telephone network. The primary offering in this category
provides trunks to customers in full DS-1 increments, providing for maximum use
of our transport network.
Business Lines are offered in the form of simple Basic, and PBX Interface. Basic
business lines provide an incoming, outgoing, or 2-way call path to the public
switched telephone network. Calling features are available to provide additional
user functions.
Local Number Portability (LNP) is provided in Salt Lake City, Sacramento,
Portland, Phoenix, Boise, Spokane, and Seattle for line, trunk and ISDN PRI
products. LNP provides our customers with a seamless transition from their
current provider to us by allowing customers to migrate all of their telephone
numbers from their current dial tone provider to us when we become their new
service provider, as long as they remain within the same rate center.
We offer additional calling features with our core Local Telephone Services.
These include Foreign Exchange Service to provide local service from an exchange
other than the customer's normal location; voice messaging and voice menuing;
and Custom T bundling of a range of services over a T-1 line to a customer.
Long Distance Services
Our Long Distance Services include retail and wholesale long distance phone
services.
Retail Switched 1+ and toll-free service is offered to business customers. The
customer chooses us as its long distance/toll-free carrier and calls are routed
through our switch from the public switched network. Customers can call
intrastate, interstate or internationally.
Retail Dedicated 1+ and toll-free service is offered to high volume business
customers. The customer establishes a point-to-point circuit (i.e., DS-1 or
DS-3) from their switch/PBX to our switch. Outbound long distance and toll-free
calls are routed directly to our switch via this dedicated path. Customers can
call intrastate, interstate or internationally.
Wholesale Termination encompasses an array of services providing carriers with
LATA-wide termination services, enabling lower cost access to, or diversity
from, the ILEC's facilities. This product aggregates the termination traffic of
many carriers at our switch and terminates it at a lower cost than each of the
carriers could obtain individually.
Data Services
We offer a wide range of products to deliver large quantities of data from one
location to another. These products are marketed through both retail and
wholesale channels.
6
Dedicated Internet Services are provided in various bandwidths and
configurations to serve both ISPs and business customers. We offer internet
access through Frame Relay, dedicated DS-1, dedicated DS-3, dedicated OC-3,
dedicated Ethernet, Fast Ethernet and gigabit Ethernet. The capped DS-3 product
allows customers to scale their internet access from 3 Mbps to 45 Mbps over the
same facility. With Managed Router Service, we provide customers with premise
equipment and a fully supported hardware and access solution. Network monitoring
and performance management enhanced feature packages provide a turnkey solution
that addresses performance management at multiple levels of the customer's
network. The result is a correlated, end-to-end view of the customer's network
infrastructure, enabling them to understand and measure the effectiveness of
their IT investment.
Remote Systems Virtual Portal (RSVP) is a bundled product for ISPs looking to
outsource their dial-up access needs by purchasing dial-up ports bundled with
internet access. This product allows the ISP to expand their offering or enter
new markets, whether locally or nationally, without the costs of capital
expenditures, site selection, hardware purchase and system integration. With
RSVP, we enable the ISP to focus their efforts on increasing their customer
base.
Frame Relay is a data communications alternative to traditional point-to-point
networks for wide area network (WAN) connectivity. The service provides
multi-point, wide-area connectivity using Frame Relay packet technology that
reduces the connection costs of distributed data networks. The service offers a
choice of interface speeds with multiple virtual circuits possible at each site.
Asynchronous Transfer Mode (ATM) is a fast packet service that formats, switches
and multiplexes various types of information, including voice, video and data at
speeds ranging from T-1 to OC-3. ATM provides Quality of Services parameters
based on the type of information being carried in a statistically multiplexed
architecture to reduce network costs. Our ATM service provides interworking
between Frame Relay, transparent LAN, and native ATM locations.
Transparent LAN Services (TLS) are managed ATM solutions providing the customer
with LAN performances and bandwidths over wide area network locations. TLS
products provide native LAN protocols including Ethernet, Fast Ethernet and
Fiber Distributed Data Interface (FDDI). High-speed services are provided from
10 Mbps to 100 Mbps. Included in the transparent LAN service are point-to-point
connectivity, installed customer premise equipment, and monitoring of the
customer's network to insure connectivity.
REGULATORY ENVIRONMENT
As a common carrier, we are subject to federal, state and local regulation. The
Federal Communications Commission (FCC) exercises jurisdiction over all
interstate communications services. State commissions retain jurisdiction over
all intrastate communications services. Local governments may require us to
obtain licenses or franchises regulating the use of public rights-of-way
necessary to install and operate our network.
Federal Regulation
The FCC exercises regulatory jurisdiction over all facilities of, and services
offered by, communications common carriers to the extent those facilities are
used to provide, originate, or terminate interstate communications. The FCC has
established different levels of regulation for "dominant" carriers and
"nondominant" carriers. For domestic interstate communications services, only
the ILECs are classified as dominant carriers. All other carriers are classified
as nondominant carriers. Additionally, to the extent a Regional Bell Operating
Company (RBOC) is engaged in out-of-region long distance services it is also
classified as nondominant as to those services. Non-RBOC, ILEC-affiliated long
distance services are classified as nondominant regardless of whether conducted
inside or outside the ILEC service area. The FCC regulates many of the rates,
charges, and services of dominant carriers to a greater degree than those of
nondominant carriers.
As a nondominant carrier, we may install and operate facilities for domestic
interstate communications without prior FCC authorization. We are no longer
required to maintain tariffs for domestic interstate long distance services. As
a provider of international long distance services, we obtained FCC operating
authority and maintain an international tariff. The FCC is eliminating the
requirement for international tariffs. We are also required to submit certain
periodic reports to the FCC and pay regulatory fees.
7
Telecommunications Act of 1996
The Telecommunications Act of 1996 (1996 Act) dramatically changed the national
public policy framework for communications. A central focus of this sweeping
policy reform was to open local communications markets to competition. One
result of the 1996 Act has been the development of new companies known as CLECs
which compete for business with the existing carriers, known as ILECs. While we
provide more than just local exchange service, we are generally considered to be
a CLEC.
The 1996 Act preempts state and local laws to the extent that they prevent
competitive entry into the provision of any communications service. Under the
1996 Act, however, states retain authority to impose requirements on carriers
necessary to preserve universal communications service, protect public safety
and welfare, ensure quality of service, and protect consumers. States are also
responsible for mediating and arbitrating interconnection agreements between
CLECs and ILECs if voluntary negotiations fail.
In order to create an environment in which local competition is a practical
possibility, the 1996 Act imposes a number of access and interconnection
requirements on all local communications providers. All local carriers must
interconnect with other carriers, permit resale of their services, provide local
telephone number portability and dialing parity, provide access to poles, ducts,
conduits, and rights-of-way, and complete calls originated by competing carriers
under reciprocal compensation or mutual termination arrangements.
RBOCs had been barred from participating in the market for interLATA (Local
Access and Transport Area) services (which is primarily long-distance traffic)
in their service territories since the break up of the Bell System in 1984. The
1996 Act provides a mechanism for an RBOC and/or any successors to enter
in-region interLATA markets. Full entry by such companies into interLATA markets
will increase the level of competition faced by our long distance services.
Before an RBOC or its successor can enter an interLATA market it must first meet
specific criteria set out by section 271 of the 1996 Act. These criteria are
commonly referred to as the "14 point checklist." The checklist is meant to
ensure that these companies have opened up their local markets to competition
before they compete in the long distance markets in their regions. Verizon and
SBC Communications have both successfully filed interLATA applications with the
FCC for many of the states in which they operate. Applications for the other
states are pending at the FCC; additional applications are expected in 2002.
Interconnection
On August 8, 1996, the FCC issued rules providing guidance to the ILECs, CLECs,
long distance companies, and state public utility commissions (PUCs) on several
provisions of the 1996 Act. The rules include, among other things, FCC guidance
on:
* discounts for end-to-end resale of ILEC local exchange services;
* availability of unbundled local loops and other unbundled ILEC network
elements;
* the use of Total Element Long Run Incremental Costs in the pricing of these
unbundled network elements; and
* the ability of CLECs and other interconnecters to opt into portions of
interconnection agreements negotiated by the ILECs with other parties on
the basis of the ability to "pick and choose" among the provisions of an
existing agreement. Some of these rules are under review by the FCC, state
commissions, and various courts including the United States Supreme Court.
8
State Regulation
We have various interconnection agreements in the states in which we operate.
These agreements govern reciprocal compensation relating to the transport and
termination of traffic between the ILEC's and our networks. On April 17, 2001,
the FCC issued an order that will significantly reduce, over a three-year
period, intercarrier compensation for ISP traffic. This order became effective
June 14, 2001 and is expected to impact our future interconnection agreements.
Most state PUCs require communications providers, like us, to obtain operating
authority prior to initiating intrastate services. Most states also require the
filing of tariffs or price lists and/or customer-specific contracts. In the
states in which we currently operate, we are not subject to rate-of-return or
price regulation. We are subject, however, to state-specific quality of service,
universal service, periodic reporting and other regulatory requirements,
although, the extent of such requirements is generally less than that applicable
to ILECs.
Local Government Authorizations
We are generally required to obtain street opening and construction permits from
city and county authorities prior to installing or expanding our fiber-optic
network facilities. In most states in which we currently operate as a CLEC, we
must first obtain a franchise or license from each incorporated city and town,
and sometimes from each county, in which we wish to utilize public
rights-of-way. The franchise or license establishes the overall terms,
conditions, and fees for use of the rights-of-way in the particular jurisdiction
although most fees are based on a percentage of revenue.
The 1996 Act now provides that while local governments may continue to manage
the public rights-of-way, they may not impose conditions on companies like us
which constitute barriers to entry in the communications market. Further, the
1996 Act requires that municipal right-of-way authorizations be granted on a
nondiscriminatory basis and that any fees be reasonable.
COMPETITION
We believe we provide retail business and wholesale customers with an attractive
offering of communications services. Our broad range of communication services
enables our customers to purchase their telecommunications needs from a single
provider allowing the added convenience of a single monthly bill.
As a facilities-based telecommunications carrier, we can deliver a substantial
portion of our services on our own network resulting in higher gross margins and
quality of services than competitors who are resellers of services.
ILEC Competition
We are a competitor to the ILECs in each of our facilities-based markets. The
ILECs currently dominate the local exchange market and historically have been a
de facto monopoly provider of local switched voice services. Our primary ILEC
competitors are Qwest, SBC (PacBell) and Verizon.
The 1996 Act imposes interconnection obligations on ILECs and generally requires
that interconnection charges be cost-based and nondiscriminatory. To the extent
we interconnect with and use an ILEC's network to service our customers, we are
dependent upon the technology and capabilities of the ILEC to meet certain
communications needs of our customers and to maintain its service standards.
CLEC Competition
Facility and non-facility based operational CLEC competitors in our markets
include, among others: AT&T Local Services, Sprint Local, Time Warner Telecom,
MCI WorldCom and XO Communications. In each of the markets in which we operate,
at least one other CLEC, and in some cases several other CLECs, offer many of
the same local communications services we provide, generally at similar prices.
9
Competition From Others
Potential and actual new market entrants in the local communications services
business include RBOCs entering new geographic markets, Inter-Exchange Carriers
(IXCs), cable television companies, electric utilities, international carriers,
satellite carriers, teleports, microwave carriers, wireless telephone system
operators, and private networks built by large end users. In addition, the
current trend of business combinations and alliances in the communications
industry, including mergers between RBOCs, may increase competition for us. With
the passage of the 1996 Act and the entry of RBOCs into the long distance
market, competitors constructed their own local facilities or otherwise acquired
the right to use local facilities and/or resell the local services of our
competitors. Construction of facilities and networks contributed to
overcapacity.
Network Services
Competition for network services is based on price, quality, network
reliability, customer service, service features, and responsiveness to the
customer's needs. As a point of differentiation from the ILECs, our fiber-optic
networks provide both diverse access routing and redundant electronics, design
features not widely deployed within the ILECs' networks.
High-Speed Data Service
Our competitors for high-speed data services include major IXCs, other CLECs,
and various providers of niche services (such as Internet access providers,
router management services and systems integrators). The interconnectivity of
our markets may create additional competitive advantages over other data service
providers that must obtain local access from the ILEC or another CLEC in each
market or that cannot obtain intercity transport rates on terms as favorable as
those available to us.
Internet Services
The market for Internet access and related services in the United States is
extremely competitive with barriers to entry related to capital costs, bandwidth
capacity, and internal provisioning and operations processes. We expect that
competition will intensify as existing services and network providers and new
entrants compete for customers. In addition, new enhanced Internet services such
as managed router service and web hosting are constantly under development in
the market and we expect additional innovation in this market by a range of
competitors. Our current and future competitors include communications
companies, including the RBOCs, IXCs, CLECs and Cable Television (CATVs), and
other Internet access providers.
Many of these competitors have greater market presence and greater financial,
technical, marketing and human resources, more extensive infrastructure, and
stronger customer and strategic relationships than are available to us.
OPERATIONS/INFORMATION TECHNOLOGY
We utilize an integrated customer care system that automates our order
placement, circuit design, provisioning and billing systems. We anticipate
adding additional functionality through system enhancements as necessary. We
continue to identify opportunities for productivity improvements.
EMPLOYEES
As of December 31, 2001, we employed 823 persons. None of our employees is
represented by a union. We consider our employee relations to be good.
Item 2. DESCRIPTION OF PROPERTY
Our administrative headquarters is located at 4400 NE 77th Avenue, Vancouver,
Washington, in an office building of approximately 98,000 square feet which we
own. In addition, we have leased local office space in various markets
throughout the United States, and we also maintain a warehouse facility in
Portland, Oregon. We also lease network hub and network equipment installation
sites in various locations throughout the areas in which we provide services. We
have a purchase option on certain leased property located throughout our
network. We expect to exercise the purchase option. The leases for the office,
warehouse and other facilities expire on various dates through October 2008. We
believe that our properties are adequate and suitable for their intended
purposes. Our 6,754 miles of fiber-optic cable is installed under various
rights-of-way and leases held by us.
10
Item 3. LEGAL PROCEEDINGS
We are party to routine litigation arising in the normal course of business. We
do not expect these matters, individually or in the aggregate, to have a
material adverse effect on our financial position, results of operations or cash
flows. We are also party to various proceedings before state PUCs. These
proceedings typically relate to authority to operate in a state and regulatory
arbitration proceedings concerning our interconnection agreements. See Item 7,
"Management's Discussion and Analysis of Financial Condition and Results of
Operations - Liquidity and Capital Resources - Other Matters - Reciprocal
Compensation".
Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not applicable.
11
Executive Officers of the Registrant
Our executive officers, their respective ages and positions as of March 1, 2002
are listed below.
Name Age Title
- ---- --- -----
* Leonard Tow 73 Chairman of the Board and Director
* Robert Braden 56 Chief Executive Officer and Director
* Daniel J. McCarthy 37 President, Chief Operating Officer
* Scott N. Schneider 44 Executive Vice President and Director
* Jerry Elliott 42 Vice President and Chief Financial Officer
* Robert J. Larson 42 Vice President and Chief Accounting Officer
* Steven E. Adkins 50 Vice President - Information Technology and
Billing Operations
* Donald Armour 54 Vice President and Treasurer
* Charles Best 48 Vice President - Administration and Legal
Affairs
* Michael L. Daniel 37 Vice President - Sales
* Michael Golob 47 Vice President - Engineering and Operations
* Kerry D. Rea 43 Vice President - Revenue Assurance and Budget
There is no family relationship between any of our officers. The term of office
of each of our officers will continue until the next annual meeting of the Board
of Directors and until a successor has been elected and qualified.
* Leonard Tow, a Director and Chairman of our Board since August 1994, has
been a Director of Citizens since April 1989. He was elected Chairman of
the Board and Chief Executive Officer of Citizens in June 1990 and was
Chief Financial Officer of Citizens from October 1991 through November
1997. He is also a Director of Hungarian Telephone and Cable Corporation
and is a Director of the United States Telephone Association.
* Robert Braden joined us as President, Chief Operating Officer and Director
in January 2001 and became Chief Executive Officer and Director in December
2001. Prior to joining us, he was Vice President of Business Development at
Citizens from February 2000. Prior to joining Citizens, he was Senior Vice
President of Business Development and Senior Vice President of
International Operations at Centennial Communications. He also held the
positions of Vice President of Business Development at Century
Communications and various positions with Metromedia Paging, Omni
Communications, VMX, Inc., and Hoffman-LaRoche Inc.
* Daniel J. McCarthy joined us as President, Chief Operating Officer
effective January 2002. Mr. McCarthy joined us from Citizens Public
Services sector where he was President and Chief Operating Officer from
March 2001 to January 2002, Vice President, Citizens Arizona Energy from
April 1998 to March 2001 and Vice President, Citizens Arizona Gas from
February 1997 to April 1998. Mr. McCarthy has been associated with Citizens
since 1990.
* Scott N. Schneider, a Director and Executive Vice President since December
1999, has been associated with Citizens since October 1999. In July 2000,
he was elected Director of Citizens. He is currently Vice Chairman of the
Board and Executive Vice President of Citizens and President, Citizens
Capital Ventures, a wholly-owned subsidiary of Citizens. Prior to joining
us, he was Director (from October 1994 to October 1999), Chief Financial
Officer (from December 1996 to October 1999), Senior Vice President and
Treasurer (from June 1991 to October 1999) of Century Communications Corp.
He also served as Director, Chief Financial Officer, Senior Vice President
and Treasurer of Centennial Cellular from August 1991 to October 1999.
* Jerry Elliott joined us as Vice President and Chief Financial Officer in
March 2002. Mr. Elliott is also Vice President and Chief Financial Officer
of Citizens. Prior to joining us, Mr. Elliott was Managing Director of
Morgan Stanley's Communications Investment Banking Group from July 1998.
Prior to joining Morgan Stanley, Mr. Elliott was a partner with the law
firm of Shearman & Sterling.
* Robert J. Larson, our Chief Accounting Officer and Vice President since
July 2000, has been Chief Accounting Officer and Vice President of Citizens
since July 2000. Prior to joining Electric Lightwave, Inc., he was Vice
President, Accounting and Administration of Centennial Cellular from
October 1994 to October 1999. He was also Vice President, Controller of
Century Communications Corp. from October 1994 to October 1999.
12
* Steven E. Adkins joined us as Vice President - Information Technology in
1995 and was appointed as Vice President - Information Technology and
Billing Operations in November 2000.
* Donald Armour, our Vice President and Treasurer since October 2000, has
been Vice President, Finance and Treasurer of Citizens since October 2000.
Prior to joining us, he was the Treasurer of the cable television division
of Time Warner Inc. from January 1994 to September 2000.
* Charles Best joined us as Vice President and General Counsel in May 2000
and was appointed Vice President - Administration and Legal Affairs in
November 2000. Prior to joining us, he was an attorney in private practice
from 1995 to May 2000 and Chief Counsel for U S West Communications in
Oregon from 1990 to 1995.
* Michael L. Daniel became Vice President - Retail Sales in October 1996 and
Vice President - Sales in June 2000. Mr. Daniel joined us as Portland Sales
Manager in March 1994 and he was a national account manager for MCI
Telecommunications new business development organization from 1987 to 1994.
* Michael P. Golob became Vice President - Engineering & Operations,
effective January 2002. Mr. Golob joined ELI as Manager - Project
Management in April 2000. He was promoted to Director with responsibility
for project management and long-haul operations in April 2001. Prior to
joining us, Mr. Golob was a Project Manager for TMT Development from
October 1996 to August 1997 and Director of Academic Affairs for the
University of Phoenix from October 1997 to March 2000.
* Kerry D. Rea became Vice President - Revenue Assurance and Budget in March
2001. Mr. Rea joined us as Vice President and Controller in October 1997.
Mr. Rea served as a Controller for Mattel, Inc. from March 1997 to October
1997 and its predecessor Tyco Toys, Inc. from November 1989 to March 1997.
13
PART II
Item 5. MARKET FOR THE REGISTRANT'S COMMON STOCK AND RELATED
STOCKHOLDER MATTERS
Price Range of Common Stock
Our Class A Common Stock is publicly traded on the NASDAQ National Market under
the ticker symbol ELIX. The table below shows high and low sales prices per
share of Class A Common Stock as reported by the NASDAQ National Market:
2001 2000
----------------- ------------------
High Low High Low
---- --- ---- ---
First Quarter $6.75 $2.00 $27.00 $16.63
Second Quarter 3.07 1.20 25.00 15.88
Third Quarter 1.65 .40 19.75 7.00
Fourth Quarter .84 .23 8.88 2.88
As of February 28, 2002, the approximate number of record security holders of
our Class A Common Stock was 162.
Our Class B Common Stock is not publicly traded and is 100% owned by Citizens.
Dividends
We have not paid dividends and we do not anticipate paying any dividends on our
common stock in the foreseeable future.
Recent Sales Of Unregistered Securities
None.
14
ITEM 6. SELECTED FINANCIAL AND OPERATING DATA
($ in thousands, except per share and
non-dollar denominated operating data) 2001 2000 1999 1998 1997
- ----------------------------------------------------------------------------------------------------------------------------
Statements of Operations Data (years ended December 31)
Revenues $ 226,640 $ 243,977 $ 187,008 $ 100,880 $ 61,084
Loss from operations (73,193) (59,876) (94,066) (73,783) (34,095)
Net loss before cumulative effect (1) (171,692) (136,462) (133,547) (67,200) (33,945)
Net loss (171,692) (136,462) (133,547) (70,017) (33,945)
Net loss per share before cumulative effect (1) (3.37) (2.71) (2.69) (1.35) (0.80)
Net loss per share (3.37) (2.71) (2.69) (1.41) (0.80)
- ----------------------------------------------------------------------------------------------------------------------------
Balance Sheet Data (as at December 31)
Total assets $ 902,348 $ 949,774 $ 775,234 $ 532,309 $ 359,962
Long-term debt and capital leases 649,478 866,404 624,997 302,256 70,511
Shareholders' equity (deficiency) (241,609) (70,502) 19,501 148,493 213,314
- ----------------------------------------------------------------------------------------------------------------------------
Operating Data
Adjusted EBITDA (2) $ 5,829 $ 1,787 $ (57,561) $ (56,781) $ (22,928)
Cash flows used for operating activities $ (79,747) $ (55,095) $ (98,678) $ (36,776) $ (17,189)
Cash flows used for investing activities (53,523) (108,909) (180,342) (200,791) (103,984)
Cash flows from financing activities 128,237 152,944 287,278 224,156 147,093
Gross property, plant & equipment
- owned or under capital lease $1,037,349 $ 978,327 $ 771,947 $ 528,582 $ 328,664
- under operating lease (3) 108,541 108,541 108,541 108,541 87,426
------------ ------------- ------------- ------------- -------------
Total property, plant & equipment $1,145,890 $1,086,868 $ 880,488 $ 637,123 $ 416,090
============ ============= ============= ============= =============
Route miles (4) 6,754 5,924 4,052 3,091 2,494
Fiber miles (4) 354,083 297,284 214,864 181,368 140,812
Buildings connected 859 851 824 766 610
Access line equivalents (5) 148,787 200,231 161,555 74,924 34,328
Switches and routers installed:
Voice 8 8 8 7 5
Frame Relay 33 32 32 23 20
Internet 80 65 42 24 17
ATM 23 23 23 14 8
Employees 823 1,161 1,167 1,090 573
Customers 2,243 2,246 2,147 1,644 1,165
Information presented above should be read in conjunction with our Financial
Statements and accompanying Notes.
(1) We adopted SOP 98-5, "Reporting on the Costs of Start-Up Activities",
effective January 1, 1998 (See Note 5 of Notes to Financial Statements).
(2) Adjusted EBITDA is operating loss plus depreciation and amortization.
EBITDA is a measure commonly used in the communications industry to analyze
companies on the basis of operating performance. It is not a measure of
financial performance under generally accepted accounting principles, and
may not be comparable to similarly titled measures of other companies.
(3) Facilities under an operating lease agreement under which we have the
option to purchase the facilities at the end of the lease term. (See Note
13 of Notes to Financial Statements).
(4) Route and fiber miles also include those to which we have exclusive use
pursuant to license and lease arrangements.
(5) Access line equivalents is a measure used to quantify the bandwidth of Dial
tone, ISDN PRI and RSVP capacity sold defined in terms of a standard
telephone line.
15
Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations
Statements contained in this annual report on Form 10-K that are not historical
facts are forward-looking statements made pursuant to the safe harbor provisions
of the Private Securities Reform Act of 1995. In addition, words such as
"believes," "anticipates," "expects" and similar expressions are intended to
identify forward-looking statements. These forward looking statements are
subject to the following possibilities:
* if there are changes in the nature and pace of technological advances
in our industry;
* if a restructuring occurs in the telecommunications industry generally
and its nature and effect;
* if competitive pressure in the telecommunications industry increases
in any of our markets because of the entrance of new competitors, the
combination of existing competitors and/or the more effective
provision of products and services from our competitors, including
ILECs, or other public utilities;
* if our business strategy or its execution, including financial
performance goals, is not as successful as we anticipate;
* if state or federal regulatory changes are implemented that assist our
competitors, impair our competitive position, threaten our costs or
impact our rate structures, including the ability to bill and collect
reciprocal compensation for calls terminated to ISPs;
* if we do not receive the services and support which we require from
the regional ILECs operating in our markets or cannot maintain our
current relationships with ILECs;
* if a significant number or volume of our customers, particularly ISPs,
experience financial difficulty and are unable to continue operating
in the manner which they have in the past, are unable to pay their
bills when they become due, cease operating or seek bankruptcy
protection;
* if we are not able to effectively manage our growth;
* if we are not able to correctly identify future markets or
successfully expand existing ones;
* if the mix of products and services we are able to offer in our target
markets is not appropriate to the demands of our customers;
* if we are not able to obtain additional financing from Citizens or
third-parties on favorable terms;
* if the market price for telecommunications industry stocks, generally,
and our common stock specifically, remains depressed;
* the effects of more general factors including, but not limited to,
changes in economic conditions, changes in industry conditions and
changes in accounting policies and practices adopted voluntarily or as
required by generally accepted accounting principles.
You should consider these important factors in evaluating any statement
contained in this report and/or made by us or on our behalf. These
forward-looking statements are made as of the date of this report based upon
current expectations, and we undertake no obligation to update this information.
The following information should be read in conjunction with the financial
statements and related footnotes included in this report.
16
Liquidity and Capital Resources
We drew $156.5 million from the Citizens credit facility to fund operating and
capital expenditures in the year ended December 31, 2001. The Citizens Credit
Facility provides up to $450 million with an interest rate of 15% and a final
maturity of October 30, 2005. Funds of $350 million were originally provided for
general corporate purposes are available to be drawn until December 31, 2002.
The remaining balance may be drawn to pay interest due under the Citizens Credit
Facility until maturity. As of December 31, 2001, there was $194.5 million
outstanding under the Citizens Credit Facility, of which $14.6 million was drawn
to pay interest expense and $179.9 million was drawn for general corporate
purposes. Under this facility, $255.5 million remains available to be drawn, of
which $85.4 million is available to pay interest expense and $170.1 million is
available for general corporate purposes.
We also have a $400 million bank credit facility which matures in November 2002.
Additionally, we have $325 million of five-year 6.05% senior unsecured notes
outstanding that mature on May 14, 2004. Citizens has guaranteed both the Bank
Credit Facility and our senior unsecured notes for fees of 3.25% and 4.0%,
respectively, based on the respective outstanding balances. The current portion
of our long-term obligations of $407.4 million consists of capital lease
obligations of $7.4 million and the Bank Credit Facility of $400 million.
During 2001 the economy and the stock market began to reflect the overbuilt
state of the telecommunications markets, especially for long-haul services. We
and other CLECs have incurred substantial debt to build our networks for which
demand now appears to be limited. As these conditions became more evident,
competitive and financial pressures on CLECs increased. The nature of the
restructuring of the telecommunications industry that will take place is
uncertain. We test for impairment of goodwill and plant on a quarterly basis.
The test requires that we develop a business plan that considers operating
results, capital investment and financing requirements necessary to achieve
these results. Our performance objectives assume that the Company will not be
adversely impacted by unknown external forces such as changes in the U.S.
economy, rapid and unanticipated technological changes, regulatory, tax and
other changes. We believe that the assumptions used in developing our overall
business plan are reasonable but we caution that they are subjective.
In the first half of 2002, we intend to redeploy the internet routers, frame
relay switches and ATM switches from the Atlanta, Cleveland, Denver,
Philadelphia and New York markets to other locations in our network. We intend
to cease leasing the collocation facilities and off-net circuits for the
backbone and local loops supporting the service delivery in these markets. It is
anticipated that this will lead to $4.2 million of termination fees which have
been accrued for and included in our Network Access expense for the year ended
December 31, 2001.
We anticipate that our existing cash balances and cash to be generated from
operations will not be adequate to fund operating leases, working capital
deficiencies, capital expenditures, capital lease obligations, and debt service
through 2002. The Citizens Credit Facility provides the funds necessary to
support these cash requirements through December 31, 2002. Citizens has
committed to continue to finance our cash requirements, at market terms, until
the completion of a public or private financing or March 31, 2003, which would
provide the funds necessary to support our cash requirements. Absent the
Citizens commitment, we do not believe there is currently a market to further
finance or refinance our existing indebtedness. Consequently, without the
financial support of Citizens, ELI could not fund its future capital
requirements or service its debt and most likely would not remain a going
concern.
In order to grow our customer base and revenue stream, we must continue to
invest in the installation, development and expansion of our existing
communications networks. A significant portion of these expenditures is incurred
before any revenue is realized. Our cash capital additions were approximately
$54.6 million in the year ended December 31, 2001. We also had approximately
$34.0 million in capital lease additions. These expenditures, combined with our
operating expenses, have resulted in operating losses and negative cash flows.
We expect to continue incurring operating losses and negative cash flows until
we can establish an adequate customer base necessary to generate a revenue
stream sufficient to support our operations, capital requirements and debt
service. We cannot be sure that we will achieve or sustain profitability or that
we will generate sufficient positive cash flow to fund our operating, capital
expenditure and debt service requirements.
17
Our capital additions for 2002 are estimated to be $71.6 million of cash
expenditures. We continue to evaluate opportunities to generate revenue growth
through making substantial investments in the continued development of our
existing networks. These opportunities may include acquisitions and/or joint
ventures that are consistent with our business plan of generating revenue growth
through expansion of our network and customer base. Any such acquisitions,
investments and/or strategic arrangements, if available, could require
additional financial resources and/or reallocation of our financial resources.
We have the following commitments in the forms of capital leases and a
construction agency agreement:
* We have entered into certain long-term capital leases to obtain dark fiber
to expand our network. Total future minimum cash payment commitments under
these leases amounted to $331.1 million as of December 31, 2001, including
principal and interest of $22.9 million due in 2002.
* During 1995, we entered into a $110 million construction agency agreement
and an operating lease agreement in connection with the construction of
certain network facilities. In January 2002, we exercised our option to
purchase the facilities at the end of the lease term. Payments under the
lease depend on current interest rates. Assuming continuation of current
interest rates, payments would approximate $872,000 from January 1, 2002
through April 30, 2002 and, a final payment of approximately $110 million
in April 2002. Citizens has guaranteed all of our obligations under this
operating lease. We have agreed to pay to Citizens a guarantee fee at the
rate of 3.25% per annum based on the amount of the lessor's investment in
the leased assets.
A summary of our contractual obligations and commercial commitments as of
December 31, 2001 is as follows:
Less
than 1 2-3 3-4
(in thousands) Total year years years Thereafter
- ----------------------------------- --------------- ---------------- -------------- -------------- --------------
Long-term debt $ 919,500 $ 400,000 $ 519,500 $ - $ -
Capital lease obligations 331,084 22,893 35,667 35,687 236,837
Operating leases 30,982 8,626 10,566 4,352 7,438
Minimum purchase obligations 4,900 2,500 2,400 - -
Purchase obligation 110,000 110,000 - - -
--------------- ---------------- -------------- -------------- --------------
Total commercial commitments $1,396,466 $ 544,019 $ 568,133 $ 40,039 $ 244,275
=============== ================ ============== ============== ==============
New Accounting Pronouncements
In July 2001, the Financial Accounting Standards Board (FASB) issued Statement
of Financial Accounting Standard (SFAS) No. 141, "Business Combinations." This
statement requires that all business combinations be accounted for under the
purchase method of accounting. SFAS No. 141 requires that the purchase method of
accounting be used for business combinations initiated after June 30, 2001 and
prohibits the use of the pooling-of-interests method of accounting. We adopted
SFAS No. 141 on January 1, 2002. The adoption of SFAS No. 141 did not have any
impact on our financial position or results of operations.
18
In July 2001, the FASB issued SFAS No. 142, "Goodwill and Other Intangible
Assets." SFAS 142 is effective January 1, 2002. We will be required to test for
impairment of goodwill as of January 1, 2002 and annually thereafter. Any
transitional impairment loss at January 1, 2002 will be recognized as the
cumulative effect of a change in accounting principle in our statement of
operations in the first quarter of 2002. As of the date of adoption, we have
unamortized goodwill in the amount of $39.8 million. Amortization expense
related to goodwill was $2.8 million, $0.2 million, and $0.2 million for the
years ended December 31, 2001, 2000 and 1999, respectively. Because of the
extensive effort needed to comply with adopting SFAS 142, it is not practicable
to reasonably estimate the impact of adopting this statement on our financial
statements at the date of this report, including whether we will be required to
recognize any transitional impairment losses as the cumulative effect of a
change in accounting principle. We are required to make such assessment no later
than June 30, 2002, but such assessment is "as of" January 1, 2002.
In August 2001, the FASB issued SFAS No. 143, "Accounting for Asset Retirement
Obligations." This statement addresses the financial accounting and reporting
for obligations associated with the retirement of tangible long-lived assets and
the associated asset retirement costs. SFAS No. 143 requires that the fair value
of a liability for an asset retirement obligation be recognized in the period in
which it is incurred if a reasonable estimate of fair value can be made. The
associated asset retirement costs are capitalized as part of the carrying amount
of the long-lived asset and reported as a liability. This statement is effective
for fiscal years beginning after June 15, 2002. The adoption of SFAS No. 143 is
not anticipated to have a material impact on our financial position or results
of operations.
In October 2001, the FASB issued SFAS No. 144, "Accounting for the Impairment or
Disposal of Long-lived Assets." This statement establishes a single accounting
model, based on the framework established in SFAS No. 121, for long-lived assets
to be disposed of by sale, whether previously held and used or newly acquired,
and broadens the presentation of discontinued operations to include more
disposal transactions. This statement is effective for fiscal years beginning
after December 15, 2001. We are currently evaluating the impact of the adoption
of SFAS No. 144. We test for impairment of goodwill and plant on a quarterly
basis. The test requires that we develop a business plan that considers
operating results, capital investment and financing requirements necessary to
achieve these results. Our performance objectives assume that the Company will
not be adversely impacted by unknown external forces such as changes in the U.S.
economy, rapid and unanticipated technological changes, regulatory, tax and
other changes. We believe that the assumptions used in developing our overall
business plan are reasonable but we caution that they are subjective. We do not
anticipate, at this time, that the adoption of SFAS 144 will impact the carrying
value of our long lived assets.
Reciprocal Compensation
We have various interconnection agreements with Qwest (formerly U S WEST),
Verizon (formerly GTE) and SBC (PacBell) and Sprint, the ILECs in the states in
which we operate. These agreements govern reciprocal compensation relating to
the transport and termination of traffic between the ILEC's networks and our
network. The FCC adopted new rules concerning intercarrier compensation for
ISP-bound traffic effective June 14, 2001. The FCC set transitional rates for
reciprocal compensation that exceeds a 3:1 ratio of inbound to outbound traffic.
The rate for above ratio traffic is capped at .15 cents per minute for the first
six months after the effective date of the commission order, .10 cents per
minute for the next 18 months and .07 cents per minute after that, through June
2004. Below ratio traffic remains at the state established rate level which is
generally higher. Implementation of the FCC's transitional rates for ISP-bound
traffic is taking place via amendments to existing interconnection agreements.
The effect of implementing the FCC transitional rates resulted in a reduction of
the composite rate of .088 cents per minute, or 43%, from .203 cents per minute
for the six months ended June 30, 2001 to .115 cents per minute.
19
We recognize reciprocal compensation revenues as earned, based on the terms of
the interconnection agreements. We recognized reciprocal compensation revenues
of $21.3 million, $38.8 million and $34.7 million during 2001, 2000 and 1999,
respectively. Net trade accounts receivable relating to reciprocal compensation
totaled $2.2 million and $7.7 million at December 31, 2001 and 2000,
respectively. The Verizon interconnection agreements expired in May and June
2001 for Washington and Oregon, respectively. We are currently negotiating
agreements with PacBell and Verizon. The existing terms of the interconnection
agreements remain in place during the negotiations. As a result of recent FCC
mandates we do not anticipate that renewal of the interconnection agreements
will be at terms as favorable to us as in the past.
Currently pending before the 9th Circuit Court of Appeals is Verizon's appeal of
the US District Court decision upholding the Oregon Public Utility Commission
decision requiring Verizon to pay reciprocal compensation for ISP bound traffic
terminating to ELI and that reciprocal compensation payments to ELI should be
made at the tandem rate as opposed to the end office rate. The tandem rate is
higher than an end office rate because the traffic is serviced by a tandem
switch. A tandem switch is an intermediate switch; an end office switch is one
which carries the traffic to the end user. Verizon has paid ELI's invoices per
the terms of the approved interconnection agreement since the agreement's
effective date in June 1999.
Results of Operations
CLEC revenue is generated through the provision of local, long distance, data
and long-haul services. These services are primarily provided under a monthly
recovery fee or based on usage at agreed upon rates and is not dependent upon
significant judgements by management with the exception of a determination of a
provision for uncollected accounts. CLEC usage based revenue includes amounts
determined under reciprocal compensation agreements. While this revenue is
governed by specific contracts with the counterparty, management has deferred
recognition of portions of such revenue until realizability was obtained.
Revenue earned from long-haul contracts, included the fiber swap are recognized
ratably over the term of the related agreement.
Revenue decreased $17.3 million, or 7% in 2001 and increased $57.0 million, or
30% in 2000. The decline in revenue for 2001 is primarily due to a downturn in
economic conditions that affected internet service providers and related
businesses; a decline in data services due to the expiration of a material
contract; and a decrease in reciprocal compensation.
Revenue
2001 2000 1999
--------------------------- --------------------------- ------------
($ In thousands) Amount % Change Amount % Change Amount
------------- ------------- ------------- ------------- ------------
Network services $ 101,338 31% $ 77,437 45% $ 53,249
Local telephone services 73,291 (26%) 98,643 27% 77,591
Long distance services 12,294 (25%) 16,318 (39%) 26,698
Data services 39,717 (23%) 51,579 75% 29,470
------------- ------------- ------------
Total $ 226,640 (7%) $ 243,977 30% $ 187,008
============= ============= ============
Major Customers
For the years ended December 31, 2001, 2000 and 1999, Qwest Communications
(Qwest) accounted for 10%, 19% and 19%, respectively, of our total revenue. As
of December 31, 2001 and 2000, Qwest accounted for 12% and 28%, respectively, of
our net trade accounts receivable. In 2001, a significant portion of the Qwest
revenue was generated from reciprocal compensation agreements. No other customer
accounted for 10% or more of our total revenue for the years ended December 31,
2001, 2000 and 1999.
Included in revenue for the year ended December 31, 2001 is approximately $4.0
million of revenue representing a "net settlement" of past billing disputes
between ELI and Qwest. Additionally, we are currently providing service to
customers that have filed for protection under Chapter 11 of the bankruptcy
code. Of our largest twenty-five customers, two customers are under Chapter 11
protection. These customers contributed approximately $0.3 million of revenue
monthly.
20
Network Services
Network services revenue increased $23.9 million, or 31%, in 2001 and $24.2
million, or 45%, in 2000. Network services include Private Line Interstate (Long
Haul) and Private Line Intrastate (MAN). The increase is primarily due to
continued growth in our network and sales of additional circuits for MAN
services.
Revenue for 2001 and 2000 from our Long Haul services increased $3.9
million, 10%, and $12.0 million, or 43%, respectively.
Revenue for 2001 and 2000 from our MAN services increased $20.0 million,
54%, and $12.2 million, or 48%, respectively.
Local Telephone Services
Local telephone services revenue decreased $25.4 million, or 26% in 2001 and
increased $21.1 million, or 27% in 2000. Local telephone services include dial
tone, ISDN PRI, carrier access billings and reciprocal compensation.
2001 2000 1999
--------------------------- --------------------------- ------------
($ In thousands) Amount % Change Amount % Change Amount
------------- ------------- ------------- ------------- ------------
ISDN PRI $ 27,299 (19%) $ 33,846 53% $ 22,160
Dial tone 16,730 (13%) 19,208 40% 13,746
Carrier access billings 7,934 18% 6,714 (4%) 7,020
Reciprocal compensation 21,328 (45%) 38,875 12% 34,665
------------- ------------- ------------
Total $ 73,291 (26%) $ 98,643 27% $ 77,591
============= ============= ============
ISDN PRI revenue decreased $6.5 million, or 19% in 2001 and increased $11.7
million, or 53% in 2000. The 2001 decrease in ISDN PRI revenue is primarily
due to the bankruptcy of two customers and decreased revenue resulting from
less demand for ISDN PRI trunks servicing internet routers. In addition,
average access line equivalents decreased 19,245, or 10% in 2001 compared
to 2000. The 2000 increase in ISDN PRI revenue is a result of an increase
in the average access line equivalents of 64,206, or 46% in 2000 over 1999.
Dial tone revenue decreased $2.5 million, or 13% in 2001 and increased $5.4
million, or 40% in 2000. The 2001 decrease is primarily due to the
bankruptcy of two customers and decreased installation fees resulting from
fewer new customers. In addition, average access line equivalents decreased
19,245, or 10% in 2001 compared to 2000. The 2000 increase in dial tone
revenue is the result of an increase in the average access line equivalents
of 64,206, or 46% in 2000 over 1999.
Carrier access billings revenue increased $1.2 million, or 18% in 2001 and
decreased $0.3 million, or 4% in 2000. The increase in 2001 is primarily
due to the settlement of disputes with two major customers partially offset
by the effects of a 12% decrease in average rates per minute. The decrease
in 2000 compared to 1999 is due to an increase in average monthly minutes
processed of 15 million, or 77% offset by the effects of lower average
rates per minute primarily due to competitive pressures in the markets in
which we operate.
Reciprocal compensation revenue decreased $17.5 million, or 45% in 2001 and
increased $4.2 million, or 12% in 2000. The decrease in 2001 is primarily
due to a 19% decrease in average rates per minute and a 14% decrease in
average monthly minutes processed of 158 million. The decrease in average
minutes is primarily due to less termination-generated minutes from
ISDN-PRI. The increase for 2000 over 1999 is due to interconnection
agreements being in place with Verizon and PacBell during all of 2000 that
were not in place for all 12 months in 1999. See "Part I., Management's
Discussion and Analysis of Financial Condition and Results of Operations -
Liquidity and Capital Resources - Other Matters - Reciprocal Compensation"
for further discussion of reciprocal compensation.
21
Long Distance Services
Long distance services revenue decreased $4.0 million, or 25% in 2001 and $10.4
million, or 39% in 2000. Long distance services include retail long distance,
wholesale long distance and prepaid services.
Retail long distance decreased $0.6 million, or 7% in 2001 and increased
$2.3 million, or 35% in 2000. The 2001 decrease is primarily due to a
decrease in average rates per minute of 6%, partially offset by a 1%
increase in average monthly minutes processed. The increase in 2000 over
1999 is due to an increase of average monthly minutes processed of 3.1
million, or 47% partially offset by lower average rates per minute.
Wholesale long distance decreased $2.4 million, or 39% in 2001 and
increased $0.1 million, or 2% in 2000. The decrease in 2001 is primarily
due to a decrease in average monthly minutes processed of 4.8 million, or
28% as a result of fewer wholesale long-distance customers. We intend to
focus on higher-margin retail long-distance customers. A decrease of 16% in
the average rate per minute also contributed to the decrease in 2001. The
increase in 2000 is due to an increase of average monthly minutes processed
of 0.9 million, or 6% partially offset by lower average rates per minute.
Prepaid services revenue decreased $1.0 million, or 99% in 2001 and $12.8
million, or 93% in 2000. The decreases are attributable to our decision to exit
the prepaid services market in the third quarter of 1999.
Data Services
Data services include Internet, RSVP and other services. Data services revenue
decreased $11.9 million, or 23% in 2001 primarily due to loss of a contract with
a significant customer. Data services revenue increased $22.1 million, or 75% in
2000 primarily due to revenue from the 18-month contract.
Operating Expenses
Operating expenses decreased $4.0 million, or 1%, in 2001 and increased $22.8
million, or 8% in 2000.
2001 2000 1999
--------------------------- --------------------------- ------------
($ In thousands) Amount % Change Amount % Change Amount
------------- ------------- ------------- ------------- ------------
Network access $ 71,789 (3%) $ 74,105 (7%) $ 79,948
Operations 51,598 (2%) 52,740 28% 41,071
Selling, general and administrative 94,221 (18%) 115,139 (6%) 122,756
Severance expense 3,203 1,455% 206 (74%) 794
Depreciation and amortization 79,022 28% 61,663 69% 36,505
------------- ------------- ------------
Total $299,833 (1%) $ 303,853 8% $ 281,074
============= ============= ============
Network Access
Network access expenses include circuit and usage-based charges for carrying and
terminating traffic on another carrier's network.
Network access expenses decreased $2.3 million, or 3%, in 2001 and $5.8
million, or 7%, in 2000 primarily due to the completion of our coastal
long-haul network in 2000, which has allowed us to provide a greater
portion of our services on-net resulting in lower long-distance and local
revenues and network access expense. In 2001, this decrease was partially
offset by an increase of $4.2 million due to the anticipated termination of
certain collocation and off-net circuit agreements.
22
Operations
Operations expense consists of costs related to providing facilities based
network and enhanced communications services other than network access costs.
The primary components of these expenses are right-of-way and telecommunications
equipment leases as well as operations and engineering personnel costs.
In 2001, operations expense decreased $1.1 million, or 2%, primarily due to
staffing reductions and decreased operating rents. These decreases were
partially offset by increases in maintenance costs and related expenses, as
well as a reduction in capitalized overheads.
In 2000, operations expense increased $11.7 million, or 28%, primarily due
to increases in payroll and related expenses, operating rents and related
expenses to support the expanded delivery of services.
Selling, General and Administrative
Selling, general and administrative expenses include all direct and indirect
sales channel expenses and commissions, as well as all general and
administrative expenses.
Selling, general and administrative expenses decreased $20.9 million, or
18%, in 2001 primarily due to a reduction in personnel and related costs,
reduced advertising and property tax expenses. These decreases were
partially offset by an increase in bad debt expense related to wholesale
communications carrier customers.
Selling, general and administrative expenses decreased $7.6 million, or 6%,
in 2000 primarily due to decreases in payroll and related expenses, rent
and costs related to the decision to exit our prepaid calling card services
and the consolidation of our national retail sales efforts which resulted
in closing nine retail sales offices in the eastern United States in the
third quarter of 1999.
Severance Expense
Severance costs in 2001 represent the impact of headcount reductions, which were
made as part of our on-going effort to reduce costs throughout the business, and
resulted in a reduction of 288 employees throughout 2001.
Depreciation and Amortization
Depreciation and amortization expenses include depreciation of
telecommunications network assets including fiber-optic cable, network
electronics, network switching and network data equipment and amortization of
goodwill.
Depreciation expense increased $14.8 million, or 24%, in 2001 and $25.1
million, or 70%, in 2000. The increases were primarily due to higher plant
in service balances for newly completed communications network facilities
and electronics.
Amortization expense increased $2.6 million, or 317%, in 2001 and $0.1
million, or 9% in 2000. The increase in 2001 is due to the amortization of
goodwill resulting from the Citizens purchase of our Common Stock in 2000.
The increase in 2000 over 1999 is primarily due to amortization of
goodwill.
23
Interest Expense, Net
2001 2000 1999
--------------------------- --------------------------- ------------
($ In thousands) Amount % Change Amount % Change Amount
------------- ------------- ------------- ------------- ------------
Gross interest expense $101,728 22% $ 83,044 68% $ 49,547
Capitalized interest (4,072) (44%) (7,260) (36%) (11,304)
------------- ------------- ------------
Interest expense, net $ 97,656 29% $ 75,784 98% $ 38,243
============= ============= ============
Gross interest expense increased $18.7 million, or 22%, in 2001 and $33.5
million, or 68%, in 2000 primarily due to higher levels of outstanding long-term
debt and capital leases. We had outstanding debt and capital leases of $1,056.9
million, $895.2 million and $650.1 million at December 31, 2001, 2000 and 1999,
respectively. The higher balances at higher interest rates led to increased
interest expense and guarantee fees.
Capitalized interest decreased $3.2 million, or 44%, in 2001 and $4.0 million,
or 36%, in 2000. The decreases are a result of our efforts to reduce capital
expenditures. Our average Construction Work In Process was reduced by $38.6
million, or 59%, and $58.2 million, or 47%, in 2001 and 2000, respectively,
partially offset by higher interest rates.
24
Item 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Disclosure Of Primary Market Risk And How It Is Managed
We are exposed to market risk in the normal course of our business operations
due to ongoing funding activities. Market risk refers to the potential change in
fair value of a financial instrument as a result of fluctuations in interest
rates and equity and commodity prices. Our primary market risk exposure is
interest rate risk, which relates primarily to our long-term debt and capital
and operating lease obligations. We do not hold or issue derivative instruments
or other financial instruments for trading purposes. Financial instruments that
are held for other than trading purposes do not impose a material market risk.
As a result, we do not undertake any specific actions to cover our exposure to
interest rate risk and we are not party to any interest rate risk management
agreement.
We are exposed to interest rate risk since debt financing is needed to fund the
operating losses and capital expenditures associated with establishing and
expanding our telecommunications network. The interest rates that we will be
able to obtain on debt financing will depend on market conditions at that time,
and may differ from the rates we have secured on our current debt. Citizens has
committed to continue to finance our cash requirements, at market terms, until
the earlier of March 31, 2003 or the completion of a public or private financing
which would satisfy such needs through that date.
We have no material future earnings or cash flow exposures from changes in
interest rates on our long-term debt and capital lease obligations, as a
majority of our obligations are fixed and most of our obligations are guaranteed
by Citizens. A hypothetical 10% adverse change in interest rates would increase
the amount that we pay on our variable obligations and could result in
fluctuations in the fair value of our fixed rate obligations.
Based upon our overall interest rate exposure at December 31, 2001, a near-term
change in interest rates would not materially affect our consolidated financial
position, results of operations or cash flows.
Sensitivity Analysis
At December 31, 2001, the fair value of our long-term debt and capital lease
obligations was estimated to be $636.0 million compared to $649.5 million
carrying value, based on our overall weighted average rate of 7.3% excluding
guarantee fees and our overall weighted maturity of 6 years. There has been no
material change in the weighted average maturity applicable to our obligations
since December 31, 2000. However, the overall weighted average interest rate has
decreased by approximately 14 basis points during the year. A hypothetical
increase of 73 basis points (10% of our overall weighted average borrowing rate)
would result in an approximate $15.6 million decrease in the fair value of our
fixed rate obligations.
Disclosure Of Limitations Of Sensitivity Analysis
Certain shortcomings are inherent in the method of analysis presented in the
computation of fair value of financial instruments. Actual values may differ
from those presented should market conditions vary from assumptions used in the
calculation of the fair value. This analysis incorporates only those exposures
that exist as of December 30, 2001. It does not consider those exposures or
positions that could arise after that date. As a result, our ultimate exposure
with respect to our interest rate risk will depend on the exposures that arise
during the period, the ratio of variable to fixed debt outstanding and the
fluctuation of interest rates.
25
Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The following documents are filed as part of this Report:
1. Financial Statements:
See Index on page F.
2. Supplementary Data:
Quarterly Financial Data is included in Note 16 to the Financial
Statements (See 1. above).
Item 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
PART III
--------
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
We intend to file a definitive proxy statement for the 2002 Annual Meeting of
Stockholders (proxy statement) pursuant to Regulation 14A not later than 120
days after December 31, 2002. The information which relates to our Directors,
and disclosure required by Items 401 and 405 of Regulation S-K is under the
captions "Election of Directors" in our proxy statement, and is incorporated
herein by reference. The information required by this item relating to our
executive officers and key employees is set forth under the caption "Executive
Officers of the Registrant" in Part I of this report.
ITEM 11. EXECUTIVE COMPENSATION
The information required by item 402 of Regulation S-K is included under the
caption "Executive Compensation" in our proxy statement and is incorporated
herein by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required by item 403 of Regulation S-K is included under the
caption "Stock Ownership of Certain Beneficial Owners, Directors and Executive
Officers" in our proxy statement and is incorporated herein by reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by item 404 of Regulation S-K is included under the
caption "Agreements with Citizens" in our proxy statement and is incorporated
herein by reference.
26
PART IV
-------
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON
FORM 8-K
a. The exhibits listed below are filed as part of this Report:
-----------------------------------------------------------
No. Description
- ------- -----------
3.1 Amended and Restated Certificate of Incorporation.
3.2 Amended By-laws.
10.4* Optical Fiber License Agreement between the Salt River Project Agricultural Improvement and Power
District and us dated September 11, 1996.
10.5 Participation Agreement between Shawmut Bank Connecticut,
National Association, the Certificate Purchasers named therein,
the Lenders named therein, BA Leasing & Capital Corporation,
Citizens Utilities Company and us dated as of April 28, 1995,
and the related operating documents.
10.6 Agreement for Lease of Dark Fiber between Citizens Utilities Company and us dated March 24, 1995.
10.7 Administrative Services Agreement between Citizens Utilities Company and us dated as of December 1,
1997.
10.8 Tax Sharing Agreement between Citizens Utilities Company and us dated as of December 1, 1997.
10.9 Indemnification Agreement between Citizens Utilities Company and us dated as of December 1, 1997.
10.10 Registration Rights Agreement between Citizens Utilities Company and us dated as of December 1,
1997.
10.11 Customers and Service Agreement between Citizens Utilities Company and us dated as of December 1,
1997.
10.12 Guaranty Fee Agreement between Citizens Utilities Company and us dated as of December 1, 1997.
10.13 Equity Incentive Plan of Electric Lightwave, Inc.
10.13.1 Second Amendment to the Equity Incentive Plan of Electric Lightwave, Inc.
10.14* Pre-Construction IRU Agreement between FTV Communications, LLC and us dated October 16, 1997.
10.14.1 Amendment Number One to the Pre-Construction IRU agreement between FTV Communications, LLC and us
dated November 14, 1997.
10.15 Bank Credit Agreement dated November 21, 1997.
10.18* Optical Fiber Installation and IRU Agreement between Pacific Gas and Electric Company and us dated
December 31, 1997.
10.18.1* First Amendment to Optical Fiber Installation and IRU Agreement
between Pacific Gas and Electric Company and us dated March 9,
1998.
10.19* Initial Optical Fiber Design and Installation Agreement between FOCAS, Inc. and us dated as of May
7, 1998.
10.20* Post-Completion Agreement between FOCAS, Inc. and us dated as of May 7, 1998.
10.22 Electric Lightwave, Inc. Employee Stock Purchase Plan.
10.23* IRU Fiber Construction and Lease Agreement between IXC Communication Services, Inc. and us dated as
of February 28, 1999.
10.24.1 Indenture from us to Citibank, N.A., dated April 15, 1999, with respect to the 6.05% Senior
Unsecured Notes due 2004.
10.24.2 First Supplemental Indenture from us, Citizens Utilities Company and Citizens Newco Company to
Citibank, N.A. dated April 15, 1999, with respect to the 6.05% Senior Unsecured Notes due 2004.
10.24.3 Form of our 6.05% Senior Unsecured Notes due 2004.
27
No. Description
--- -----------
10.24.4 Letter of Representations to the Depository Trust Company dated April 28, 1999, with respect
to the 6.05% Senior Unsecured Notes due 2004.
10.25* Settlement Agreement between the United States of America Department of Energy acting by
and through the Bonneville Power Administration and us dated May 15, 2000.
10.26* License Agreement between the United States of America Department of Energy acting by and
through the Bonneville Power Administration and us dated May 15, 2000.
10.27 Guaranty Agreement between the United States of America Department of Energy acting by and through
the Bonneville Power Administration and Citizens Utilities Company dated May 15, 2000.
10.28 Intercompany Agreement between Citizens Communications Company and us dated September 11, 2000.
10.29 Loan Agreement between Citizens Communications Company and us dated October 30, 2000.
23.1 Auditors' Consent.
Exhibits 10.13 and 10.22 are management contracts or compensatory plans or
arrangements.
Exhibits 3.1, 10.4, 10.5, 10.6 and 10.13 are incorporated by reference to the
same exhibit designations in our Registration Statement on Form S-1, (File No.
333-35227). Exhibit 10.14 is incorporated by reference to Exhibit No. 10.17 in
our Registration Statement on Form S-1 (File No. 333-35227). Exhibits 10.7,
10.8, 10.9, 10.10, 10.11, 10.12 and 10.15 are incorporated by reference to our
Current Report on Form 8-K filed on February 19, 1998 (File No. 0-23393).
Exhibits 10.14.1, 10.18 and 10.18.1 are incorporated by reference to the same
exhibit designations in our Form 10-Q for the three months ended March 31, 1998
(File No. 0-23393). Exhibits 10.19 and 10.20 are incorporated by reference to
the same exhibit designations in our Form 10-Q for the six months ended June 30,
1998 (File No. 0-23393). Exhibit 10.22 is incorporated by reference to our Proxy
Statement on Schedule 14A filed on April 28, 1998. Exhibit 10.23 is incorporated
by reference to the same exhibit designations in our Form 10-Q for the three
months ended March 31, 1999 (File No. 0-23393). Exhibits 10.24.1, 10.24.2,
10.24.3 and 10.24.4 are incorporated by reference to the same exhibit
designations in our Form 10-Q for the six months ended June 30, 1999 (File No.
0-23393). Exhibit 10.13.1 is incorporated by reference to the same exhibit
designation in our Form 10-Q for the three months ended March 31, 2000 (File No.
0-23393). Exhibits 10.25, 10.26 and 10.27 are incorporated by reference to the
same exhibit designations in our Form 10-Q for the six months ended June 30,
2000 (File No. 0-23393). Exhibit 3.2 is incorporated by reference to the same
exhibit designation in our Form 10-Q for the three months ended September 30,
2000 (File No. 0-23393).
Exhibits 10.28 and 10.29 are incorporated by reference to the same exhibit
designation in our Form 10-K for the year ended December 31, 2000.
* Material has been omitted pursuant to a previous request for confidential
treatment.
b. Reports on Form 8-K
-------------------
We filed the following reports on Form 8-K in the last quarter of 2001:
* November 13, 2001, under Item 5, "Other Events", to make available a
press release dated November 13, 2001, regarding our 2001 third
quarter financial results.
28
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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.
ELECTRIC LIGHTWAVE, INC.
(Registrant)
By: /s/ Robert Braden
---------------------------
Robert Braden
Chief Executive Officer and Director
March 7, 2002
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below by the following persons on behalf of the registrant and
in the capacities indicated on the 7th day of March 2002.
Signature Title
--------- -----
/s/ Leonard Tow Chairman of the Board, Member, Executive
-------------------------------- Committee and Director
(Leonard Tow)
/s/ Scott N. Schneider Executive Vice President and Director
--------------------------------
(Scott N. Schneider)
/s/ Daniel J. McCarthy President, Chief Operating Officer
--------------------------------
[Daniel J. McCarthy)
/s/ Robert J. Larson Vice President and Chief Accounting
-------------------------------- Officer
(Robert J. Larson)
/s/ Rudy Graf Director
--------------------------------
(Rudy Graf)
/s/ Guenther E. Greiner Director
--------------------------------
(Guenther E. Greiner)
/s/ Stanley Harfenist Director
--------------------------------
(Stanley Harfenist)
/s/ William Kraus Director
--------------------------------
(William Kraus)
/s/ Robert A. Stanger Director
--------------------------------
(Robert A. Stanger)
/s/ Maggie Wilderotter Director
--------------------------------
(Maggie Wilderotter)
29
ELECTRIC LIGHTWAVE, INC.
INDEX TO FINANCIAL STATEMENTS
Page
Independent Auditors' Report F-1
Balance Sheets at December 31, 2001 and 2000 F-2
Statements of Operations for the Years Ended December 31, 2001,
2000 and 1999 F-3
Statements of Cash Flows for the Years Ended December 31, 2001,
2000 and 1999 F-4
Statements of Changes in Shareholders' Equity (Deficiency) for the
Years Ended December 31, 2001, 2000 and 1999 F-5
Notes to Financial Statements F-6
Financial Statement Schedule:
Independent Auditors' report on Schedules F-24
Schedule II - Valuation and Qualifying Accounts F-25
All other schedules are omitted as not applicable under the
rules of Regulation S-X.
F
INDEPENDENT AUDITORS' REPORT
The Board of Directors and Shareholders
Electric Lightwave, Inc.
We have audited the accompanying balance sheets of Electric Lightwave, Inc. as
of December 31, 2001 and 2000, and the related statements of operations,
shareholders' equity (deficiency) and cash flows for each of the years in the
three-year period ended December 31, 2001. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States of America. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Electric Lightwave, Inc. as of
December 31, 2001 and 2000, and the results of its operations and its cash flows
for each of the years in the three-year period ended December 31, 2001, in
conformity with accounting principles generally accepted in the United States of
America.
KPMG LLP
New York, New York
March 6, 2002
F-1
Electric Lightwave, Inc.
Balance Sheets
(In thousands, except share data)
December 31,
-----------------------------------
2001 2000
--------------- ----------------
Assets
Current assets:
Cash $ 5,285 $ 10,318
Trade receivables, net 13,152 35,491
Other receivables 5,353 6,001
Other current assets 3,603 5,080
--------------- ----------------
Total current assets 27,393 56,890
--------------- ----------------
Property, plant and equipment, net 832,704 846,716
Goodwill, net 39,812 42,601
Other assets 2,439 3,567
--------------- ----------------
Total assets $ 902,348 $ 949,774
=============== ================
Liabilities and Shareholders' Deficiency
Current liabilities:
Current portion of Bank Credit Facility $ 400,000 $ -
Accounts payable and accrued liabilities 24,153 60,851
Current portion of capital lease obligations 7,404 28,798
Due to Citizens Communications Company 9,586 7,684
Accrued taxes, other than income taxes 15,129 16,377
Interest payable 13,769 13,244
Other current liabilities 4,288 5,718
--------------- ----------------
Total current liabilities 474,329 132,672
Deferred revenue 15,427 14,847
Deferred income taxes payable 4,212 3,058
Other long-term liabilities 511 3,295
Capital lease obligations 129,978 103,404
Long-term debt 325,000 725,000
Due to Citizens Communications Company 194,500 38,000
--------------- ----------------
Total liabilities 1,143,957 1,020,276
--------------- ----------------
Shareholders' deficiency
Common stock issued, $.01 par value
Class A, authorized 110,000,000 shares, 35,423,440 and 9,658,437
outstanding and 35,517,235 and 9,754,587 shares issued at
December 31, 2001 and 2000, respectively 354 96
Class B, authorized 60,000,000 shares, 15,881,312 shares
and 41,165,000 shares issued and outstanding at
December 31, 2001 and 2000, respectively 159 412
Additional paid-in-capital 373,510 372,930
Accumulated Deficiency (615,632) (443,940)
--------------- ----------------
Total shareholders' deficiency (241,609) (70,502)
--------------- ----------------
Total liabilities and shareholders' deficiency $ 902,348 $ 949,774
=============== ================
The accompanying Notes are an integral part of these Financial Statements.
F-2
Electric Lightwave, Inc.
Statements of Operations
(In thousands, except per-share amounts) For the years ended December 31,
-------------------------------------------------------
2001 2000 1999
---------------- ---------------- ----------------
Revenue $ 226,640 $ 243,977 $ 187,008
Operating expenses:
Network access 71,789 74,105 79,948
Operations 51,598 52,740 41,071
Selling, general and administrative 94,221 115,139 122,756
Severance expense 3,203 206 794
Depreciation and amortization 79,022 61,663 36,505
---------------- ---------------- ----------------
Total operating expenses 299,833 303,853 281,074
---------------- ---------------- ----------------
Loss from operations (73,193) (59,876) (94,066)
Interest expense, net 97,656 75,784 38,243
Loss on disposal of assets 26 1,402 1,438
Interest income and other (337) (1,000) (1,098)
---------------- ---------------- ----------------
Net loss before income taxes (170,538) (136,062) (132,649)
Income tax expense 1,154 400 898
---------------- ---------------- ----------------
Net loss $(171,692) $(136,462) $ (133,547)
================ ================ ================
Net loss per common share:
Basic $ (3.37) $ (2.71) $ (2.69)
Diluted $ (3.37) $ (2.71) $ (2.69)
Weighted average shares outstanding 50,978 50,274 49,570
The accompanying Notes are an integral part of these Financial Statements.
F-3
Electric Lightwave, Inc.
Statements of Cash Flows
(In thousands)
For the years ended December 31,
-----------------------------------------------
2001 2000 1999
--------------- -------------- --------------
Cash flows used for operating activities:
Net loss $ (171,692) $ (136,462) $ (133,547)
Adjustment to reconcile net loss to net cash used for
operating activities:
Depreciation and amortization 79,022 61,663 36,505
Deferred income taxes 1,154 400 898
Non-cash stock compensation 67 1,402 2,605
Loss on disposal of property, plant and equipment 26 1,402 1,438
Changes in operating assets and liabilities:
Receivables 22,987 5,261 (23,200)
Accounts payable and other accrued liabilities (16,073) 709 (1,994)
Other accrued taxes (1,248) 5,224 5,576
Due to Citizens Communications Company 1,902 (6,966) 9,396
Other 4,108 12,272 3,645
--------------- -------------- --------------
Net cash used for operating activities (79,747) (55,095) (98,678)
--------------- -------------- --------------
Cash flows used for investing activities:
Capital expenditures (54,589) (108,909) (180,342)
Cash proceeds from sale of fixed assets 1,066 - -
--------------- -------------- --------------
Net cash used for investing activities (53,523) (108,909) (180,342)
Cash flows from financing activities:
Long Term Funding from Citizens 156,500 38,000 -
Revolving bank credit facility proceeds (repayments) - 140,000 (24,000)
Note issuance - - 325,000
Payments of capital lease obligation (28,804) (32,071) (13,826)
Debt issuance costs - - (2,552)
Issuance of common stock, net of issuance costs 541 7,015 2,656
--------------- -------------- --------------
Net cash provided by financing activities 128,237 152,944 287,278
--------------- -------------- --------------
Net increase (decrease) in cash (5,033) (11,060) 8,258
Cash at January 1, 10,318 21,378 13,120
--------------- -------------- --------------
Cash at December 31, $ 5,285 $ 10,318 $ 21,378
=============== ============== ==============
Supplemental cash flow information:
Cash paid for interest, net of capitalized portion $ 101,204 $ 74,749 $ 46,429
Acquisition of assets under capital lease $ 33,985 $ 102,192 $ 60,321
The accompanying Notes are an integral part of these Financial Statements.
F-4
Electric Lightwave, Inc.
Statements of Shareholders' Equity (Deficiency)
(Amounts in thousands, except share data)
Class A Class B
Common Stock, Common Stock,
------------------------ ----------------------- Additional Shareholders'
$.01 per share $.01 per share Paid-in- Accumulated Equity
Shares Amount Shares Amount Capital Deficiency (Deficiency)
----------------------------------------------------------------------------------------
Balance, December 31, 1998 8,641,816 $ 86 41,165,000 $ 412 $ 321,926 $ (173,931) $ 148,493
Issuance of common stock 328,804 4 - - 2,652 - 2,656
Issuance of restricted stock 75,000 1 - - (1) - -
Forfeiture of restricted stock (13,999) - - - - - -
Common stock returned for taxes (65,345) (1) - - (705) - (706)
Amortization of restricted stock - - - - 2,559 - 2,559
Stock units payable to non-
employee director - - - - 46 - 46
Net loss - - - - - (133,547) (133,547)
----------------------------------------------------------------------------------------
Balance, December 31, 1999 8,966,276 $ 90 41,165,000 $ 412 $ 326,477 $ (307,478) $ 19,501
Issuance of common stock 715,873 7 - - 7,008 - 7,015
Issuance of restricted stock 115,000 1 - - (1) - -
Forfeiture of restricted stock (89,666) (1) - - (75) - (76)
Common stock returned for taxes (49,046) (1) - - (704) - (705)
Amortization of restricted stock - - - - 1,422 - 1,422
Stock units payable to non-
employee director - - - - 56 - 56
Acquisition by Citizens
of minority interest - - - - 38,747 - 38,747
Net loss - - - - - (136,462) (136,462)
----------------------------------------------------------------------------------------
Balance, December 31, 2000 9,658,437 $ 96 41,165,000 $ 412 $ 372,930 $ (443,940) $ (70,502)
Issuance of common stock 505,628 5 - - 536 - 541
Conversion of common stock 25,283,688 253 (25,283,688) (253) - - -
Issuance of restricted stock 50,000 1 - - (1) - -
Forfeiture of restricted stock (26,667) - - - (259) - (259)
Common stock returned for taxes (47,646) (1) - - (22) - (23)
Amortization of restricted stock - - - - 281 - 281
Stock units payable to non-
employee director - - - - 45 - 45
Net loss - - - - - (171,692) (171,692)
----------------------------------------------------------------------------------------
Balance, December 31, 2001 35,423,440 $354 15,881,312 $ 159 $ 373,510 $ (615,632) $(241,609)
========================================================================================
The accompanying Notes are an integral part of these Financial Statements.
F-5
(1) Organization and Description of Business
----------------------------------------
Electric Lightwave, Inc. is referred to as "we", "us" or "our" in this
report. We are a facilities-based competitive local exchange carrier (CLEC)
providing a broad range of communications services. We provide a full range
of wireline telecommunications products and services in the western United
States. These include switched local and long distance voice services as
well as enhanced data communications services and dedicated point-to-point
services. Enhanced broadband data services are also offered in selected
cities throughout the country. We market to retail customers who are
primarily communications-intensive businesses, and to wholesale customers
who are primarily communications providers themselves.
We incorporated in 1990. Citizens Communications Company (Citizens) owns
approximately 85% of our common stock and has provided guarantees for our
$400 million revolving bank credit facility, $325 million five-year senior
unsecured notes, $75 million capital lease and $110 million construction
agency and operating lease agreements. The $400 million credit facility and
the commitment to fund the $110 million lease are due in 2002.
We anticipate that our existing cash balances and cash to be generated from
operations will not be adequate to fund operating leases, working capital
deficiencies, capital expenditures, capital lease obligations and debt
service through 2002. Citizens has committed to continue to finance our
cash requirements, at market terms and conditions, until the completion of
a public or private financing or March 31, 2003, which would provide the
funds necessary to support our cash requirements. Absent the Citizens
commitment, we do not believe there is currently a market to further
finance or refinance our indebtedness. Consequently, without the financial
support of Citizens, we could not fund our future capital requirements or
service our debt and most likely would not remain a going concern.
We have entered into a revolving credit facility with Citizens for $450
million with an interest rate of 15% and a final maturity of October 30,
2005 (Citizens Credit Facility). Funds of $350 million for general
corporate purposes are available to be drawn until December 31, 2002. The
remaining balance may be drawn to pay interest due under the Citizens
Credit Facility until maturity. As of December 31, 2001, there was $194.5
million outstanding under the Citizens Credit Facility, of which $14.6
million was drawn to pay interest expense and $179.9 million was drawn for
general corporate purposes. Under this facility, $255.5 million remains
available to be drawn, of which $85.4 million is available to pay interest
expense and $170.1 million is available for general corporate purposes.
As a result of the financial conditions within the CLEC industry and with
our operations, and the current price of our Class A Common Stock, we
believe that our Class A Common Stock that is currently listed for trading
on Nasdaq's National Market may be subject to delisting from Nasdaq in
2002. If we do not meet these requirements for 30 consecutive days
beginning January 2, 2002, and are unable to regain compliance within 90
days, our stock could be subject to delisting again. It is uncertain
whether we will be able to meet the applicable listing requirements. If the
requirements are not met, our Class A Common Stock may not be eligible for
trading on Nasdaq and we expect it would trade in the over-the-counter
market.
F-6
(2) Summary of Significant Accounting Policies
------------------------------------------
(a) Basis of Presentation and Use of Estimates
We have prepared these financial statements in accordance with
accounting principles generally accepted in the United States (GAAP).
Preparing financial statements in conformity with GAAP requires us to
make estimates and assumptions that affect the reported amounts of
assets and liabilities at the dates of the financial statements and
the reported amounts of revenues and expenses during the reporting
periods. Actual results could differ from those estimates. We have
made certain reclassifications of balances previously reported to
conform to the current financial statement presentation.
(b) Revenue Recognition
We recognize revenues from communications services when the services
are provided. Prepaid network services revenue under long-term
agreements including Indefeasible Right to Use (IRU) and Fiber Swap
agreements are deferred and recognized on a straight-line basis over
the terms of the related agreements. Installation fees and related
costs (up to the amount of installation revenue) are deferred and
recognized over the average customer life. Installation related costs
in excess of installation fees are expensed when incurred.
We recognize reciprocal compensation revenues as earned, based on the
terms of the interconnection agreements and make subsequent
adjustments to revenue based upon management judgments as to
realizability.
(c) Trade and Other Receivables
Our trade customers are primarily communications-intensive businesses
and communications service providers that require state-of-the-art
communications and data services. Trade accounts receivables are net
of an allowance for doubtful accounts of approximately $6,129,000 and
$2,359,000 at December 31, 2001 and 2000, respectively. See Note 13
for a discussion of significant customers.
(d) Property, Plant and Equipment
Property, plant and equipment are stated at cost and include costs
which are capitalized during the installation and expansion of our
communications networks. Costs capitalized during the network
development stage include expenses associated with engineering,
construction, overhead and interest. We capitalized interest costs
related to construction of approximately $4,072,000, $7,260,000, and
$11,304,000 for the years ending December 31, 2001, 2000 and 1999,
respectively.
We use the straight-line method to compute the following:
* Depreciation of property and equipment over the estimated useful
lives of the assets
* Amortization of leasehold improvements over the shorter of the
estimated useful lives of the assets or the remaining terms of
the related leases
* Amortization of capital leases included in communications
networks over the lives of the capital leases
F-7
The estimated useful lives of owned assets are as follows:
Building 40 years
Communications networks 20-25 years
Electronics and related equipment 7 - 8 years
Office equipment and other 3 - 7 years
Technological risks, rapid market changes, new products and services
and the changing demands of our customers directly affect our
communications networks. We may have to adjust the estimated useful
lives of these assets in response to these factors.
(e) Goodwill
Goodwill has been amortized utilizing the straight-line method over
periods ranging from 15 to 25 years.
In July 2001, the FASB issued SFAS No. 142, "Goodwill and Other
Intangible Assets." SFAS 142 is effective January 1, 2002. We will be
required to test for impairment of goodwill as of January 1, 2002 and
annually thereafter. Any transitional impairment loss at January 1,
2001 will be recognized as the cumulative effect of a change in
accounting principle in our statement of operations in the first
quarter of 2002. As of the date of adoption, we have unamortized
goodwill in the amount of $39.8 million. Amortization expense related
to goodwill was $2.8 million, $0.2 million, and $0.2 million for the
years ended December 31, 2001, 2000 and 1999, respectively.
(f) Other Assets
Other assets consist primarily of note origination fees. Note
origination fees were capitalized as a result of the issuance of our
senior unsecured notes in April 1999, and are being amortized
utilizing the effective interest method over a 5-year period.
(g) Income Taxes
We are included in the consolidated federal income tax return of
Citizens. We utilize the asset and liability method of accounting for
income taxes. Under the asset and liability method, deferred income
taxes are recorded for the tax effect of temporary differences between
the financial statements and the tax bases of assets and liabilities
using tax rates expected to be in effect when the temporary
differences are expected to turn around. Citizens' policy has been to
record tax provisions, assets and liabilities at the subsidiary level
on a stand-alone basis. Citizens will reimburse us for tax benefits of
net-operating losses generated after our Initial Public Offering (IPO)
in 1997, but only to the extent that we could utilize such benefits on
a stand-alone basis.
(h) Impairment
We review for the impairment of long-lived assets and certain
identifiable intangibles in accordance with Statement of Financial
Accounting Standards (SFAS) No. 121, "Accounting for the Impairment of
Long-Lived Assets and for Long-Lived Assets to Be Disposed of." We
review for the impairment of these assets and intangibles to be held
and used whenever events or changes in circumstances indicate that we
may not be able to recover the carrying amount of the asset.
We assess the recoverability of an asset by determining whether the
amortization of the asset balance over its remaining life can be
recovered as demonstrated by projections of undiscounted future cash
flows of the related asset.
F-8
(i) Employee Stock Plans
We participated in Citizens Management Equity Incentive Plan (Citizens
MEIP) and Citizens Equity Incentive Plan (Citizens EIP) prior to our
IPO. The plans allow awards of Citizens Common Stock to eligible
officers, management employees and non-management exempt employees of
Citizens and its subsidiaries. The awards may be in the form of
incentive stock options, non-qualified stock options, stock
appreciation rights, restricted stock or other stock-based awards.
In October 1997, our Board of Directors adopted our 1997 Equity
Incentive Plan (EIP). The plan authorizes the grant of incentive stock
options, non-qualified stock options, stock appreciation rights,
restricted stock or other stock-based awards. Shareholders approved
the Employee Stock Purchase Plan (ESPP) in May 1998. As a result, we
no longer participate in Citizens' Plans.
We account for all stock option plans in accordance with SFAS No. 123,
"Accounting for Stock-Based Compensation." This allows entities to
continue to apply the provisions of Accounting Principles Board (APB)
Opinion No. 25 and its interpretations and provide pro forma net
income and pro forma earnings per share disclosures for employee stock
option grants made in 1995 and thereafter as if the fair-value-based
method, as defined in SFAS No. 123, had been applied. We have elected
to apply the provisions of APB Opinion No. 25 and provide the pro
forma disclosure required by SFAS No. 123 (See Note 11).
(j) Net Loss Per Share
We follow the provisions of SFAS No. 128, "Earnings Per Share" which
requires presentation of both basic and diluted earnings per share
(EPS) on the face of the statements of operations. Basic EPS excludes
dilution and is computed using the weighted average number of common
shares outstanding during the period. The diluted EPS calculation
assumes that all dilutive stock options or contracts to issue common
stock were exercised or converted into common stock at the beginning
of the period. We exclude certain common stock equivalents from our
diluted EPS calculation when their effect would reduce our net loss
per share. For 2001 and 2000, we had no dilutive shares. Dilutive
shares of 1,338,953 were excluded from our EPS calculation for the
year ended December 31, 1999.
(k) New Accounting Pronouncements
In June 1998, the Financial Accounting Standards Board (FASB) issued
SFAS No. 133, "Accounting for Derivative Instruments and Hedging
Activities." This statement establishes accounting and reporting
standards for derivative instruments and hedging activities and, as
amended, is effective for all fiscal quarters of fiscal years
beginning after June 15, 2000. SFAS 133 requires balance sheet
recognition of derivatives as assets or liabilities measured at fair
value. Accounting for gains and losses resulting from changes in the
values of derivatives is dependent on the use of the derivative and
whether it qualifies for hedge accounting. The adoption of SFAS 133
could increase the volatility of operating results in the future. In
general, the amount of volatility will vary with the level of
derivative activities during any period. We adopted SFAS 133 on
January 2, 2001. Based on our analysis of the statement, we have not
identified any derivative instruments subject to its provisions and
therefore, SFAS 133 did not have any impact on our financial
statements.
F-9
(3) Reciprocal Compensation
-----------------------
We have various interconnection agreements with Qwest (formerly U S WEST),
Verizon (formerly GTE) and SBC (PacBell) and Sprint, the Incumbent Local
Exchange Carriers (ILECs) in the states in which we operate. These
agreements govern reciprocal compensation relating to the transport and
termination of traffic between the ILECs' networks and our network. The FCC
adopted new rules concerning intercarrier compensation for ISP-bound
traffic effective June 14, 2001. The FCC set transitional rates for
reciprocal compensation that exceeds a 3:1 ratio of inbound to outbound
traffic. The rate for above ratio traffic is capped at .15 cents per minute
for the first six months after the effective date of the commission order,
.10 cents per minute for the next 18 months and .07 cents per minute after
that, through June 2004. Below ratio traffic remains at the state
established rate level which is generally higher. Implementation of the
FCC's transitional rates for ISP-bound traffic is taking place via
amendments to existing interconnection agreements. The effect of
implementing the FCC transitional rates resulted in a reduction of the
composite rate of .088 cents per minute, or 43%, from .203 cents per minute
for the six months ended June 30, 2001 to .115 cents per minute.
We recognized reciprocal compensation revenues of $21.3 million, $38.8
million and $34.7 million during 2001, 2000 and 1999, respectively. Net
trade accounts receivable relating to reciprocal compensation totaled $2.2
million and $7.7 million at December 31, 2001 and 2000, respectively. The
Verizon interconnection agreements expired in May and June 2001 for
Washington and Oregon, respectively. We are currently negotiating
agreements with PacBell and Verizon; the existing terms of the
interconnection agreements remain in place during the negotiations. As a
result of recent FCC mandates we do not anticipate that renewal of the
interconnection agreements will be at terms as favorable to us as in the
past.
Currently pending before the 9th Circuit Court of Appeals is Verizon's
appeal of the US District Court decision upholding the Oregon Public
Utility Commission decision requiring Verizon to pay reciprocal
compensation for ISP bound traffic terminating to ELI and that reciprocal
compensation payments to ELI should be made at the tandem rate as opposed
to the end office rate. The tandem rate is higher than the end office rate
because the traffic is serviced by a tandem switch. A tandem switch is an
intermediate switch; an end office switch is one which carries the traffic
to the end user. Verizon has paid ELI's invoices per the terms of the
approved interconnection agreement since the agreement's effective date in
June 1999.
(4) Severance Expense and Exit Costs
--------------------------------
In the third quarter 2001 and throughout the year in 2000, we announced
headcount reductions that led to approximately $3.2 million and $0.2
million, respectively, in severance expense. These decisions were made as a
part of our on-going effect to reduce cost throughout the business.
In the third quarter 1999, we announced two strategic decisions that led to
$1.5 million in exit costs. Of this amount $794,000 was recorded as
employee severance, and the remainder represented facility shutdown costs
that we recorded in selling, general and administrative expense in our
Statements of Operations. On August 24, 1999, we announced that we were
eliminating our prepaid calling card and videoconferencing products,
effective November 1, 1999. This initiative was taken as a result of our
decision to focus on our core business strategy. Prepaid calling cards are
a high-volume, low-margin product that we determined did not support our
strategy of accelerating our profitability. On September 1, 1999, we
announced that we were consolidating our national retail sales efforts in
Dallas and closing six retail sales offices in the eastern United States by
October 8, 1999. The retail sales offices closed included Cleveland,
Chicago, Atlanta, Washington D.C., New York and Philadelphia. We have
maintained all of our data points-of-presence and wholesale sales offices.
F-10
As a result of both of these decisions, we eliminated 63 sales and sales
support positions, and incurred charges relating to employee severance and
facility shutdown costs. As of December 31, 2000, all costs associated with
this decision were paid and no accrual remained.
Original Amount
Accrued Paid Additional Remaining
($ In thousands) Amount to Date Expense Accrual
--------------- --------------- -------------- --------------
1999 Restructuring
For the year ended December 31, 1999
Severance related costs $ 681 733 52 $ -
Network and facilities costs $ 799 665 - $ 134
For the year ended December 31, 2000
Severance related costs $ - 133 133 $ -
Network and facilities costs $ 134 360 226 $ -
2001 Restructuring $ 4,179 - - $ 4,179
In the first half of 2002, we intend to redeploy the internet routers,
frame relay switches and ATM switches from the Atlanta, Cleveland, Denver,
Philadelphia and New York markets to other locations in our network. We
intend to cease leasing the collocation facilities and off-net circuits for
the backbone and local loops supporting the service delivery in these
markets. It is anticipated that this will lead to $4.2 million of
termination fees which have been accrued for but not paid and included in
our Network Access expense for the year ended December 31, 2001.
(5) Property, Plant and Equipment
-----------------------------
The components of property, plant and equipment at December 31 are as
follows:
($ In thousands) 2001 2000
----------------- ----------------
Communications networks $ 632,222 $ 584,219
Electronics and related equipment 262,581 220,621
Facility and leasehold improvements 57,974 50,705
Office equipment and furniture 74,967 66,895
Construction work in progress 9,093 52,228
Materials and supplies 512 3,659
----------------- ----------------
Property, plant and equipment 1,037,349 978,327
Accumulated depreciation (204,645) (131,611)
----------------- ----------------
Property, plant and equipment, net $ 832,704 $ 846,716
================= ================
Depreciation expense was $75,698,000, $60,867,000, and $35,776,000 for the
years ended December 31, 2001, 2000 and 1999, respectively.
Communications networks include assets acquired under capital leases at
December 31, 2001 and 2000 amounting to $235,570,000 and $201,585,000,
respectively.
F-11
Materials and supplies consists primarily of new and reusable parts to
maintain and build fiber-optic networks.
(6) Accounts Payable and Accrued Liabilities
----------------------------------------
The components of accounts payable and accrued liabilities at December 31
are as follows:
($ In thousands) 2001 2000
--------------- ---------------
Accounts payable - trade $ 10,243 $ 10,987
Accrued network service 4,798 11,820
Accrued termination fees 4,179 -
Accrued construction work in progress 171 25,171
Accrued compensation 2,237 5,508
Cash overdraft 1,887 6,965
Other accrued liabilities 638 400
---------------- ----------------
Accounts payable and accrued liabilities $ 24,153 $ 60,851
================ ================
(7) Long-term Debt
--------------
The components of long-term debt on December 31 are as follows:
($ In thousands) 2001 2000
----------------- ----------------
Revolving bank credit facility $ 400,000 $ 400,000
Senior unsecured notes 325,000 325,000
Citizens Credit Facility 194,500 38,000
----------------- ----------------
Total Debt 919,500 763,000
Less current portion (400,000) -
----------------- ----------------
Long-term debt $ 519,500 $ 763,000
================= ================
We entered into a $400 million, 5-year revolving bank credit facility (Bank
Credit Facility), guaranteed by Citizens in November 1997 which expires in
November 2002 and has annual associated facility fees of 0.08%. The
weighted average interest rate at December 31, 2001 and 2000 was 2.85% and
6.94%, respectively. In addition, we have agreed to pay Citizens an annual
guarantee fee of 3.25% on the outstanding balance under the Bank Credit
Facility (See Note 10). Interest rates are based on the Euro dollar rate at
the time the funds are drawn and reset periodically thereafter. No
principal payment is due until the expiration date of the Bank Credit
Facility.
We issued $325 million of five-year senior unsecured notes in April 1999.
The notes have an interest rate of 6.05% and will mature on May 15, 2004.
Citizens has guaranteed the notes for an annual fee of 4.0% of the
outstanding balance for a total interest rate of 10.05%.
We have entered into a revolving credit facility with Citizens for $450
million with an interest rate of 15% and a final maturity of October 30,
2005 (Citizens Credit Facility). Funds of $350 million for general
corporate purposes are available to be drawn until December 31, 2002. The
remaining balance may be drawn to pay interest due under the Citizens
Credit Facility until maturity. As of December 31, 2001, there was $194.5
million outstanding under the Citizens Credit Facility, of which $14.6
million was drawn to pay interest expense and $179.9 million was drawn for
general corporate purposes. Under this facility, $255.5 million remains
available to be drawn, of which $85.4 million is available to pay interest
expense and $170.1 million is available for general corporate purposes.
F-12
Without the financial support of Citizens, ELI could not fund its future
capital requirements or service its debt and most likely would not remain a
going concern.
(8) Income Taxes
------------
The components of deferred income taxes at December 31 are as follows:
($ In thousands) 2001 2000
-------------- --------------
Benefit of operating loss carryforwards $ (239,791) $ (160,821)
Less valuation allowance 170,302 110,364
-------------- --------------
Net deferred tax asset (69,489) (50,457)
Deferred income tax liability, primarily
relating to property, plant and equipment 73,701 53,515
-------------- --------------
Balance end of period $ 4,212 $ 3,058
============== ==============
Citizens includes us in their consolidated federal income tax return which
uses a calendar year reporting period. The income taxes payable by
Citizens' consolidated group have been reduced as a consequence of our
losses for tax purposes in past years. If we had been a stand-alone company
for tax purposes we would be able to carry forward our tax losses to future
periods to offset taxable income. In accordance with our tax sharing
agreement, Citizens has agreed to reimburse us for the taxes we would be
required to pay in the future, if we have taxable income, to the extent
that these loss carryforwards would have otherwise remained available on a
stand-alone basis.
The following is a reconciliation of the provision for income taxes at
federal statutory rates to the effective rates:
2001 2000 1999
-------------- -------------- --------------
Tax benefit at federal statutory rate 35.0% 35.0% 35.0%
Non-deductible goodwill (0.5%) - -
Valuation allowance (35.2%) (35.3%) (35.7%)
-------------- -------------- --------------
Effective tax benefit (provision) rate (0.7%) (0.3%) (0.7%)
============== ============== ==============
The provision for income taxes consisted of deferred federal tax expense
(benefit) of approximately $1,154,000, $400,000, and $898,000 and current
tax benefits of $0 for the years ended December 31, 2001, 2000 and 1999.
In assessing the realizability of deferred tax assets, management considers
whether it is more likely than not that some portion or all of the deferred
tax assets will not be realized. The ultimate realization of deferred tax
assets is dependent upon the generation of future taxable income during the
periods in which those temporary differences become deductible. Management
considers the scheduled reversal of deferred tax liabilities, projected
future taxable income, and tax planning strategies in making this
assessment.
(9) Capital Stock
-------------
Capital Stock authorized consists of 110,000,000 Class A Common Stock $.01
par value per share, 60,000,000 Class B Common Stock $.01 par value per
share, and 10,000,000 shares of preferred stock $.01 par value per share.
F-13
We have granted 775,000 restricted stock awards to key employees in the
form of Class A Common Stock since our IPO in 1997. The restricted stock
awards may not be sold, assigned, pledged or otherwise transferred until
the restrictions lapse. For 650,000 shares, the restrictions lapse over one
through three-year periods from the date of grant. For 125,000 shares, the
restrictions lapsed in January 2001. A total of 145,332 shares were
returned and canceled due to terminations of employment. At December 31,
2001, 58,333 shares of this stock were still restricted and outstanding
while 571,335 shares are no longer restricted.
On August 27, 2001 Citizens converted 25,283,688 shares of its Class B
Common Stock into the same number of shares of Class A Common Stock.
At December 31, 2001, there were 35,423,440 shares of Class A Common Stock,
15,881,312 shares of Class B Common Stock, and no preferred shares
outstanding. Citizens owns all of the Class B Common Stock and 27,571,332
shares of the Class A Common Stock, in total representing an 85% economic
interest and a 96% voting interest in us. The table below summarizes the
activity in Class A Common Stock.
Class A Common Stock
-----------------------------------------------
Restricted Unrestricted Total
-------------- -------------- --------------
Balance at January 1, 1999 520,000 8,121,816 8,641,816
Common Stock issued under stock plans - 324,813 324,813
Common Stock issued to directors - 3,991 3,991
Restricted Common Stock issued 75,000 - 75,000
Restricted Common Stock canceled (13,999) - (13,999)
Common Stock purchased - (65,345) (65,345)
Lapse of Restrictions (258,671) 258,671 -
-------------- -------------- --------------
Balance at December 31, 1999 322,330 8,643,946 8,966,276
Common Stock issued under stock plans - 712,997 712,997
Common Stock issued to directors - 2,876 2,876
Restricted Common Stock issued 115,000 - 115,000
Restricted Common Stock canceled (89,666) - (89,666)
Common Stock purchased - (49,046) (49,046)
Lapse of Restrictions (137,664) 137,664 -
-------------- -------------- --------------
Balance at December 31, 2000 210,000 9,448,437 9,658,437
Common Stock issued under stock plans 495,375 495,375
Conversion of Common Stock 25,283,688 25,283,688
Common Stock issued to directors 10,253 10,253
Restricted Common Stock issued 50,000 50,000
Restricted Common Stock canceled (26,667) (26,667)
Common Stock purchased - (47,646) (47,646)
Lapse of Restrictions (175,000) 175,000 -
-------------- -------------- --------------
Balance at December 31, 2001 58,333 35,365,107 35,423,440
============== ============== ==============
Holders of Common Stock vote on certain issues. The holder of each share of
Class A Common Stock has one vote per share and the holder of each share of
Class B Common Stock has 10 votes per share. All other rights and
privileges of Class A and Class B Common Stock are identical. Class B
Common Stock is convertible into Class A Common Stock on a one-for-one
basis. Class A Common Stock does not have exchange rights.
F-14
In order to continue to include us as part of their consolidated tax
return, Citizens must maintain an ownership and voting interest in excess
of 80%. During 2000, as a result of the exercise of employee stock options,
Citizens' ownership interest had dropped. In order to bring their economic
ownership interest back to 85%, during 2000, Citizens acquired 2,288,000
shares of our Common Stock in open market transactions for approximately
$38,748,000. Such amount has been recorded in our accounts as Goodwill and
Additional paid-in-capital and is being amortized over a 15-year period.
(10) Related Party Transactions
--------------------------
Transactions with Citizens
On December 1, 1997, we entered into an Administrative Services Agreement
(Agreement) under which Citizens provides us with certain administrative
services including, but not limited to, financial management services,
information services, legal and contract services, planning and human
resources services. Under the terms of the Agreement, Citizens bills us for
direct costs and an allocation of indirect costs, plus an administrative
charge. The current practice of allocating indirect costs is based on four
factors: our plant assets, operating expenses, number of customers and
payroll expenses. We believe that this allocation method and the resultant
amounts are reasonable as contemplated by the Agreement. In addition, we
reimburse third party costs incurred by Citizens on our behalf. We believe
that the amounts charged by Citizens do not exceed comparable amounts that
would be charged by an unaffiliated third party. Also, we believe that the
accompanying financial statements include all of our costs of doing
business.
In 1999, we entered an agreement to lease certain capacity on our network
to Citizens over 20 years at prevailing market prices. Services under this
agreement began in June 2000. Citizens has paid us $6.5 million for this
agreement and we recognize revenue following the straight-line method over
the term of the agreement. In 1996, we agreed to lease fiber-optic cable to
Citizens for 10 years, at a monthly rental rate of $30,000.
We have transactions in the normal course of business with Citizens'
communications sector (Citizens Communications). Citizens Communications is
an ILEC in certain markets in which we provide services. Prior to the IPO
in November 1997, Citizens and the Company combined their purchasing power
with several long distance carriers in order to receive a lower unit cost.
We purchase access from Citizens Communications in order to provide
services in those markets. Citizens charges us the full-tariff rate for
those services. We recorded approximately $1,193,000, $1,750,000 and
$1,891,000 as an expense in 2001, 2000 and 1999, respectively, representing
usage-based charges for the services provided by Citizens Communications.
Citizens Communications purchases certain services and products from us at
prevailing market rates. We recognized related party revenue of
approximately $2,924,000, $2,995,000 and $2,517,000 in 2001, 2000 and 1999,
respectively. Outstanding trade accounts receivables from Citizens were
$385,000 and $751,000 at December 31, 2001 and 2000, respectively.
We have entered into a revolving credit facility with Citizens for $450
million with an interest rate of 15% and a final maturity of October 30,
2005 (Citizens Credit Facility). Funds of $350 million for general
corporate purposes are available to be drawn until December 31, 2002. The
remaining available balance may be drawn to pay interest expense due under
the Citizens Credit Facility until maturity (See Note 7).
During 2000, Citizens acquired shares of our Common Stock in open market or
negotiated transactions (See Note 9).
F-15
A summary of the activity in the amount due to Citizens at December 31 is
as follows:
($ In thousands) 2001 2000 1999
-------------- -------------- --------------
Balance beginning of period $ 7,684 $ 14,650 $ 5,254
Guarantee fees 29,575 27,790 19,792
Interest expense on Credit Facility 16,442 663 -
Deferred income taxes - - (61)
Administrative services:
Services provided by Citizens 7,985 7,413 6,689
ELI expenses paid by Citizens 6,478 6,759 18,976
Payments to Citizens (58,578) (49,591) (36,000)
-------------- -------------- --------------
Balance end of period $ 9,586 $ 7,684 $ 14,650
============== ============== ==============
The above excludes $194.5 million borrowed from Citizens (See Note 7).
See Note 8 for information regarding our tax sharing agreement with
Citizens and Note 11 for information regarding participation in Citizens'
stock plans.
(11) Stock Plans
-----------
At December 31, 2001 we had two stock-based compensation plans, the
Employee Stock Purchase Plan (ESPP) and the Equity Incentive Plan (EIP).
Prior to our IPO and approval of our own plans, employees participated in
three Citizens stock-based compensation plans, Citizens Management Equity
Incentive Plan (Citizens MEIP), Citizens Equity Incentive Plan (Citizens
EIP) and Citizens Employee Stock Purchase Plan (Citizens ESPP). We recorded
$387,000 as compensation expense in our 1999 financial statements for
options issued under the stock plans. We have not recorded compensation
expense in our 2001 or 2000 financial statements for options issued under
the stock plans since the exercise price of the options granted equaled or
exceeded the market price of the stock on the date of grant and no
transactions or modifications which would require a compensation charge
have occurred subsequent to the grant. The table below shows our pro forma
loss and loss per share had we determined compensation expense based on the
fair value of the grant at the grant date for these stock plans.
($ In thousands, except per share) 2001 2000 1999
--------------- --------------- --------------
Net loss As reported: $ (171,692) $ (136,462) $ (133,547)
Pro forma: (188,907) (151,034) (142,421)
Net loss per share As reported:
Basic $ (3.37) $ (2.71) $ (2.69)
Diluted (3.37) (2.71) (2.69)
Pro forma:
Basic $ (3.71) $ (2.99) $ (2.85)
Diluted (3.71) (2.99) (2.85)
Employee Stock Purchase Plan
----------------------------
The shareholders approved the ESPP on May 21, 1998 with an amendment solely
to increase the number of shares under the plan on May 20, 1999.
F-16
Eligible employees can subscribe to purchase shares, subject to certain
limitations, of Class A Common Stock at 85% of the average of the high and
low prices on the first day or the last day of the purchase period,
whichever is lower. In June 2001, the plan was amended to state that the
purchase price is based on the fair market value at the end of the purchase
period and stock purchased must be held for a minimum of three years before
it can be sold. An employee may cancel all or part of their subscription to
purchase at any time prior to the end of the purchase period and receive a
full cash credit.
The ESPP reserves 1,950,000 shares of Class A Common Stock for issuance to
employees. The shareholders approved 200,000 shares May 21, 1998 and an
additional 1,750,000 shares May 20, 1999. These shares may be adjusted for
any future stock dividends or stock splits. The ESPP will terminate when
all shares reserved have been subscribed for and purchased, unless
terminated earlier or extended by the Board of Directors. The Compensation
Committee of the Board of Directors administers the ESPP. As of December
31, 2001, 1,081,187 shares of Class A Common Stock had been purchased under
the plan.
As of December 1, 2001, the ESPP was temporarily suspended for the December
1, 2001 through May 31, 2002 purchase period. Our employees were instead
allowed to participate in the Citizens Employee Stock Purchase Plan
(Citizens ESPP) for that period. Citizens ESPP has the same terms and
conditions as our ESPP. As of December 31, 2001, 42 of our employees were
enrolled and participating in the Citizens' ESPP.
For purposes of the pro forma calculation, compensation cost is recognized
for the fair value of the employees' purchase rights, which was estimated
using the Black-Scholes option-pricing model with the following assumptions
for subscription periods beginning in 2001, 2000 and 1999:
2001 2000 1999
--------------- -------------- -------------
Dividend yield - - -
Expected volatility 98% 87% 66%
Risk-free interest rate 2.70% 6.29% 5.25%
Expected life 6 months 6 months 6 months
The weighted average fair value of those purchase rights granted in 2001,
2000 and 1999 was $0.42, $4.59 and $4.97 per right, respectively.
Equity Incentive Plan
---------------------
The Board of Directors approved our EIP in October 1997. The shareholders
approved the EIP May 21, 1998 with an amendment solely to increase the
number of shares that may be issued on May 20, 1999. As of December 31,
2001, there were 6,670,600 shares reserved for issuance under the terms of
this plan.
Under the EIP, awards of Class A Common Stock may be granted to eligible
directors, officers, management employees, non-management employees and
consultants in the form of incentive stock options, non-qualified stock
options, Stock Appreciation Rights (SARs), restricted stock or other
stock-based awards. The Compensation Committee of the Board of Directors
administers the EIP.
The exercise price for awards shall not be less than 85% or more than 110%
of the average of the high and low stock prices on the date of grant. The
exercise period is generally 10 years from the date of grant.
F-17
The summary below shows share activity subject to option under the EIP:
Weighted
Shares Average
Subject to Option Price
Option Per Share
-------------- --------------
Balance at January 1, 1999 2,330,784 $ 12.14
Options granted 1,989,120 9.51
Options exercised (115,961) 9.73
Options canceled, forfeited or lapsed (680,372) 10.12
---------------
Balance at December 31, 1999 3,523,571 10.96
Options granted 2,720,092 19.08
Options exercised (455,848) 11.00
Options canceled, forfeited or lapsed (1,016,760) 13.63
---------------
Balance at December 31, 2000 4,771,055 15.05
Options granted 86,250 4.36
Options canceled, forfeited or lapsed (1,086,865) 15.38
---------------
Balance at December 31, 2001 3,770,440 14.73
===============
The table below summarizes information as of December 31, 2001 for shares
subject to options under the EIP:
Options Outstanding Options Exercisable
-------------------------------------------- ----------------------------
Weighted Weighted Weighted
Average Average Average
Number Range of Exercise Remaining Life Number Exercise
Outstanding Exercise Price Price in Years Exercisable Price
----------- -------------- -------- --------------- ----------- --------
93,133 $ 2.86 - 7.44 $ 3.66 8.84 88,135 $ 3.55
1,313,269 8.19 - 8.88 8.81 6.76 1,103,534 8.80
622,402 13.13 - 18.34 15.80 6.29 599,971 15.78
1,741,636 19.25 - 22.81 19.40 8.53 640,532 19.40
------------- ------------
3,770,440 2.86 - 22.81 14.73 7.55 2,432,172 13.13
============= ============
For purposes of the pro forma calculation, compensation cost is recognized
for the fair value of each option on the date of grant using the
Black-Scholes option-pricing model with the following weighted average
assumptions:
2001 2000 1999
------------- ------------- ------------
Dividend yield - - -
Expected volatility 98% 87% 66%
Risk-free interest rate 5.82% 7.23% 5.34%
Expected life 6 years 6 years 6 years
The weighted average fair value of those options granted in 2001, 2000 and
1999 was $2.48, $14.75 and $6.16, respectively.
We have granted 775,000 restricted stock awards to key employees in the
form of Class A Common Stock since our IPO in 1997. The restricted stock
awards may not be sold, assigned, pledged or otherwise transferred until
the restrictions lapse. A total of 145,332 shares were returned and
canceled due to terminations of employment. At December 31, 2001, 58,333
shares of this stock were still restricted and outstanding. As of December
31, 2001, 571,335 of these shares are outstanding but are no longer
restricted. Compensation expense was recorded in connection with these
grants in the amounts of $281,000, $1,422,000 and $2,559,000 for the years
ended 2001, 2000 and 1999, respectively.
F-18
Citizens Plans
--------------
The following information reflects our employees' participation in the
Citizens MEIP and Citizens EIP.
Under the Citizens MEIP and Citizens EIP, awards of Citizens Class A Common
Stock may be granted to eligible officers, management employees and
non-management exempt employees of Citizens and its subsidiaries in the
form of incentive stock options, non-qualified stock options, SARs,
restricted stock or other stock-based awards. The Compensation Committee of
Citizens Board of Directors administers the Citizens MEIP and Citizens EIP.
The exercise price of the stock options and SARs shall be equal to or
greater than the fair market value of the underlying Citizens common stock
on the date of grant. Stock options are generally not exercisable on the
date of grant but vest over a period of time.
Under the terms of the Citizens MEIP and Citizens EIP, subsequent stock
dividends and stock splits of Citizens have the effect of increasing the
option shares outstanding which correspondingly decreases the average
exercise price of outstanding options.
The summary below shows share activity for our employees subject to option
under the Citizens MEIP and Citizens EIP.
Citizens MEIP Citizens EIP
------------------------------- -------------------------------
Weighted Weighted
Shares Average Shares Average
Subject to Option Price Subject to Option Price
Option Per Share Option Per Share
------------- -------------- ---------- -----------
Balance at January 1, 1999 176,429 $ 9.75 301,681 $ 8.53
Options exercised (6,689) 7.75 (18,654) 8.53
Options canceled, forfeited or lapsed (44,550) 11.28 (7,965) 8.53
-------------- ---------------
Balance at December 31, 1999 125,190 9.31 275,062 8.53
Options exercised (78,708) 9.47 (118,285) 8.53
Options canceled, forfeited or lapsed (2,296) 7.75 (16,552) 8.53
-------------- ---------------
Balance at December 31, 2000 44,186 8.92 140,225 8.53
Options granted - - 243,500 13.72
Options exercised (28,632) 9.55 (76,421) 8.53
Options canceled, forfeited or lapsed - - (24,097) 11.97
Options transferred in 22,450 7.91 144,597 12.19
-------------- ---------------
Balance at December 31, 2001 38,004 8.08 427,804 12.53
============== ===============
The table below summarizes information as of December 31, 2001 for shares
subject to options for our employees under the Citizens MEIP and Citizens
EIP:
Options Outstanding Options Exercisable
----------------------------------------------- --------------------------
Weighted Weighted Weighted
Average Average Average
Number Range of Exercise Remaining Life Number Exercise
Outstanding Exercise Price Price in Years Exercisable Price
----------- -------------- ---------- -------------- ----------- --------
Citizens MEIP 38,004 $7.50 - 10.54 $ 8.08 5.57 33,504 $ 8.15
Citizens EIP 427,804 $7.75 - 13.75 12.53 8.60 124,639 10.31
F-19
(12) Commitments and Contingency
---------------------------
In 1995, we entered into a $110 million construction agency agreement and
an operating lease agreement in connection with the construction of certain
network facilities. We served as agent for the construction of these
projects and upon completion of each project leased the facilities for a
three year term, with one year renewals available through April 30, 2002.
At December 31, 2001 and 2000, we were leasing assets with an original cost
of approximately $108,541,000 under this agreement. In January 2002, we
exercised our option to purchase the facilities at the end of the lease
terms for the amount of the lessor's average investment in the facilities.
Payments under the lease depend on current interest rates, and assuming
continuation of current interest rates, payments would approximate $872,000
from January 1, 2002 through April 30, 2002 and a final payment of
approximately $110 million in April 2002. Citizens has guaranteed our
obligations under this operating lease and we have agreed to pay to
Citizens a guarantee fee of 3.25% per annum of the $110 million.
We have entered into various capital and operating leases for fiber-optic
cable to interconnect our local networks with long-haul fiber-optic routes.
The terms of the various agreements covering the routes described above
range from 20 to 25 years, with varying optional renewal periods. For
certain contracts, rental payments are based on a percentage of our leased
traffic, and are exclusive, subject to certain minimums. For other
contracts, certain minimum payments are required, which are reflected in
the commitment table below.
We have also entered into certain operating and capital leases in order to
develop our local networks, including an operating lease to develop a local
network in Phoenix and a capital lease in San Francisco. The operating
lease in Phoenix provides for rental payments based on a percentage of the
network's operating income for a period of 15 years. The capital lease in
San Francisco is a 30-year indefeasible and exclusive right to use
agreement for optical fibers in the San Francisco Bay Area. We are required
to make quarterly minimum payments under the agreement, which are reflected
in the commitment table below.
Future minimum rental commitments for all long-term non-cancelable leases
as of December 31, 2001 are:
($ In thousands) Lease Type
--------------------------------
Year Capital Operating
--------------- ---------------
2002 $ 22,893 $ 8,626
2003 17,831 6,258
2004 17,836 4,308
2005 17,841 2,469
2006 17,846 1,883
Thereafter 236,837 7,438
--------------- ---------------
Total 331,084 $ 30,982
===============
Less amounts representing interest (193,702)
---------------
Present value of capital lease obligations 137,382
Less current portion (7,404)
---------------
$ 129,978
===============
Total operating lease rental expense included in the Company's results of
operations for the years ended December 31, 2001, 2000 and 1999 was
$20,306,000, $19,178,000 and $17,057,000, respectively.
F-20
We are also a party to contracts with several unrelated long distance
carriers. The contracts provide for fees based on leased traffic. Annual
minimum commitments are as follows:
($ In thousands) Minimum
Year Commitment
---- ---------------
2002 $ 2,500
2003 2,400
---------------
Total $ 4,900
===============
Our capital additions for 2002 are estimated to be $71,600,000. Certain
commitments have been entered into in connection with this budget.
We are involved in various claims and legal actions arising in the ordinary
course of business. In the opinion of management, the ultimate disposition
of these matters will not have a material adverse effect on our results of
operations, financial position or liquidity.
(13) Segment Disclosures
-------------------
We operate in a single industry segment, communications services. We
provide services utilizing our centrally planned, monitored and operated
telecommunications network. Operations are managed and financial
performance is evaluated based on the delivery of multiple services to
customers over our single fiber-optic network. As a result, there are many
shared expenses generated by the various revenue streams and geographic
locations. Management believes that any allocation of the expenses incurred
on a single network to multiple revenue streams would be impractical,
arbitrary and inconsistent with the way the business is currently evaluated
by management. As a result, we do not presently have systems or procedures
in place to derive all the operating costs and expenses relating to a
particular product group or service area.
Products and Services
We group our products and services into the following categories:
* Network Services - includes point-to-point dedicated service between
two or more locations for our customers' exclusive use. We offer this
product in both local and long-haul applications.
* Local Telephone Services - includes local dial tone and related
services that provide incoming and outgoing calls over the public
switched network. This category includes reciprocal compensation
revenues.
* Long Distance Services - includes retail and wholesale long distance
phone services.
* Data Services - includes a wide range of products to deliver large
quantities of data from one location to another through Asynchronous
Transfer Mode (ATM), Frame Relay and Internet Protocol packet
technologies. These technologies group data (voice, video, images and
character-based data) into small packets of information and transmit
the packets over a network.
The revenues generated by these products and services for the years ended
December 31 were:
F-21
($ In thousands) 2001 2000 1999
--------------- --------------- ---------------
Network services $ 101,338 $ 77,437 $ 53,249
Local telephone services 73,291 98,643 77,591
Long distance services 12,294 16,318 26,698
Data services 39,717 51,579 29,470
--------------- --------------- ---------------
Total $ 226,640 $ 243,977 $ 187,008
=============== =============== ===============
We do not currently provide services outside the United States.
Major Customers
For the years ended December 31, 2001, 2000 and 1999, Qwest Communications
(Qwest) accounted for 10%, 19% and 19%, respectively, of our total revenue.
As of December 31, 2001 and 2000, Qwest accounted for 12% and 28%,
respectively, of our net trade accounts receivable. In 2001, most of the
Qwest revenue was generated from reciprocal compensation agreements. No
other customer accounted for 10% or more of our total revenue for the years
ended December 31, 2001, 2000 and 1999.
Included in revenue for the year ended December 31, 2001 is approximately
$4.0 million of revenue representing a "net settlement" of past billing
disputes between ELI and Qwest. Additionally, we are currently providing
service to customers that have filed for protection under Chapter 11 of the
bankruptcy code. Of our largest twenty-five customers, two are under
Chapter 11 protection. These customers contributed approximately $0.3
million of revenue monthly.
(14) Fair Value of Financial Instruments
-----------------------------------
The following table summarizes the carrying amounts and estimated fair
values for certain of our financial instruments at December 31, 2001 and
2000. For the other financial instruments, representing cash and cash
equivalents, receivables, accounts payable and other accrued and current
liabilities, the carrying amounts approximate fair value due to the
relatively short maturities of those instruments.
2001 2000
--------------------------------- --------------------------------
Carrying Fair Carrying Fair
($ In thousands) Amount Value Amount Value
--------------- --------------- --------------- ---------------
Senior unsecured notes $ 325,000 $ 322,511 $ 325,000 $ 276,000
Revolving bank credit facility 400,000 400,000 400,000 400,000
The fair value of the above financial instruments is based on prices of
comparable facilities that we could obtain at December 31, 2001 and 2000.
F-22
(15) Quarterly Financial Information (Unaudited)
-------------------------------------------
Selected unaudited financial information for each of the quarters in 2001
and 2000 is as follows:
($ In thousands, except per share data)
- ---------------------------------------
March 31, June 30, September 30, December 31,
--------------- --------------- --------------- ---------------
2001:
Revenue $ 62,562 $ 60,429 $ 53,330 $ 50,319
Network access expenses 16,731 17,051 17,232 20,775
Net loss (37,694) (40,275) (47,295) (46,428)
Net loss per share (0.74) (0.79) (0.93) (0.91)
2000:
Revenue $ 56,778 $ 60,620 $ 63,610 $ 62,969
Network access expenses 20,696 18,294 17,821 17,294
Net loss (35,139) (34,958) (32,592) (33,773)
Net loss per share (0.70) (0.69) (0.65) (0.67)
F-23
The Board of Directors and Shareholders
Electric Lightwave, Inc.
We have audited and reported separately herein on the balance sheets of Electric
Lightwave, Inc. as of December 31, 2001 and 2000 and the related statements of
operations, shareholders' equity (deficiency) and cash flows for each of the
years in the three-year period ended December 31, 2001.
Our audits were made for the purpose of forming an opinion on the basic
financial statements of Electric Lightwave, Inc. taken as a whole. The
supplementary information included in Schedule II is presented for purposes of
additional analysis and is not a required part of the basic financial
statements. Such information has been subjected to the auditing procedures
applied in the audit of the basic financial statements and, in our opinion, is
fairly stated in all material respects in relation to the basic financial
statements taken as a whole.
KPMG LLP
New York, New York
March 6, 2002
F-24
Schedule II
Electric Lightwave, Inc.
Valuation and Qualifying Accounts
($ In thousands)
----------------
Balance at Charged to Charge to Balance at
Beginning of Cost and Other End of
Period Expense Accounts Deductions Period
------------- ----------- --------- ---------- ----------
Allowance for doubtful accounts
1999 $ 2,092 $ 4,651 $ 55 $ (3,070) $ 3,728
2000 3,728 6,159 71 (7,599) 2,359
2001 2,359 8,140 - (4,370) 6,129
Deferred income taxes valuation allowance
1999 $ 15,137 $ 47,325 $ - $ - $ 62,462
2000 62,462 47,902 - - 110,364
2001 110,364 59,938 - - 170,302
F-25