EXHIBIT 13
SHENANDOAH TELECOMMUNICATIONS COMPANY AND
SUBSIDIARIES 2002 ANNUAL REPORT
Shareholder Information
OUR BUSINESS
Shenandoah Telecommunications Company is a holding company which provides
various telecommunications services through its operating subsidiaries. These
services include: wireline telephone service, primarily in Shenandoah County and
small service areas in Rockingham, Frederick, and Warren counties, all in
Virginia; cable television service in Shenandoah County; unregulated
telecommunications equipment sales and services; online information and Internet
access provided to the multi-state region surrounding the Northern Shenandoah
Valley of Virginia; financing of purchases of telecommunications facilities and
equipment; paging services in the Northern Shenandoah Valley; resale of long
distance services; operation and maintenance of an interstate fiber optic
network; and a wireless personal communications service (PCS) and a tower
network in the four-state region from Harrisonburg, Virginia to the Harrisburg
and Altoona, Pennsylvania markets.
ANNUAL MEETING
The Board of Directors extends an invitation to all shareholders to attend
the Annual Meeting of Shareholders. The meeting will be held Tuesday, April 22,
2003, at 11:00 a.m. in the Auditorium of the Company's offices at the Shentel
Center, 500 Mill Road, Edinburg, Virginia. Notice of the Annual Meeting, Proxy
Statement, and Proxy were mailed to each shareholder on or about March 21, 2003.
FORMS 10-K, 10-Q, and 8-K
The Company files periodic reports with the Securities and Exchange
Commission. The Company's Annual Report on Form 10-K, Quarterly Reports on Form
10-Q, and Current Reports on Form 8-K, along with any amendments to these
reports, are available to shareholders through the Company's website,
www.shentel.com. This website also has recent news releases and other
information potentially of interest to shareholders.
A copy of the Company's Annual Report on Form 10-K may also be obtained,
without charge, upon written request to Mr. Laurence F. Paxton, Vice President -
Finance, Shenandoah Telecommunications Company, P. O. Box 459, Edinburg, VA
22824.
MARKET AND DIVIDEND INFORMATION
The Company's stock is traded on the NASDAQ National Market under the
symbol "SHEN." Information on the high and low sales prices per share of the
common stock as reported by the NASDAQ National Market for the last two years is
presented in Note 15 to the audited consolidated financial statements appearing
elsewhere in this report. NASDAQ trading activity is also available from any
stockbroker, or from numerous Internet websites.
The Company historically has paid an annual cash dividend on or about
December 1st of each year. The cash dividend per share was $0.74 in 2002 and
$0.70 in 2001. The Company's ability to pay dividends is restricted by its
long-term loan agreements. The loan agreements are not expected to limit
dividends in amounts that the Company historically has paid.
As of March 21, 2003, there were approximately 3,958 holders of record of
the Company's common stock.
CORPORATE HEADQUARTERS INDEPENDENT AUDITOR
Shenandoah Telecommunications Company KPMG LLP
124 South Main Street 1021 East Cary Street
Edinburg, VA 22824 Richmond, VA 23219
SHAREHOLDERS' QUESTIONS AND STOCK TRANSFERS
CALL (540) 984-5200
Transfer Agent - Common Stock
Shenandoah Telecommunications Company
P.O. Box 459
Edinburg, VA 22824
This Annual Report to Shareholders contains forward-looking statements.
These statements are subject to certain risks and uncertainties that could cause
actual results to differ materially from those anticipated in the
forward-looking statements. Factors that might cause such a difference include,
but are not limited to: changes in the interest rate environment; management's
business strategy; national, regional, and local market conditions; and
legislative and regulatory conditions. Readers should not place undue reliance
on forward-looking statements which reflect management's view only as of the
date hereof. The Company undertakes no obligation to publicly revise these
forward-looking statements to reflect subsequent events or circumstances.
Letter To The Shareholders
March 21, 2003
Dear Shareholder:
The year 2002 was one of celebration of our past and continued progress
towards our future. In early June, we celebrated 100 years of service as an
organization, thankful for the customers who allowed us to provide their
services and appreciative of the combined efforts of our employees, management,
Board members, and our shareholders. During its history, the Company has
weathered many periods of poor economic conditions. Although not the worst of
those periods, the current general business environment has been very tough,
particularly for the telecommunications industry. Despite these external
factors, your Company was able to achieve continued improvement in its key
operating results, growing its revenues and operating profits, and reducing its
debt.
Last year we reported that relative to the telecommunications industry as
a whole we had an excellent year. While 2002 was also a good year, we were not
immune to the broader forces that are negatively impacting our industry. On a
positive note, our revenues reached a record $93.0 million, an increase of $24.3
million, or 35 percent, over 2001. Our operating income grew to $9.3 million
from $6.4 million, or 45 percent. In addition to improving our operating
results, we reduced our total debt from $62.6 million to $55.5 million at the
end of 2002. Negative factors during the year were the losses on our external
investments, the large increase in bad debt expense, and to a lesser degree, the
increase in costs from customer bankruptcy filings. The resulting net income for
2002 was $4.5 million, a decrease from $16.4 million reported in 2001. Excluding
the gains and losses from our external investments, net income would have been
$10.5 million in 2002 and $8.3 million in 2001.
Industry financial problems had their biggest impact on the value of our
external investments. During 2002, we incurred a loss on investments of $10.4
million, compared to a gain of $12.9 million in 2001. As reported last year, the
2001 results included a non-cash gain on exchange of investment securities
related to our holdings of VeriSign, Inc. stock. At the beginning of 2002, this
stock was worth $11.8 million, but was sold during the year for $2.8 million.
Our original investment in VeriSign's predecessor companies was approximately
$1.0 million. Total proceeds from all of our sales of stock in VeriSign and its
predecessor companies were $8.1 million, or more than eight times our original
investment.
Total net income was also negatively impacted by the uncollectible revenue
and associated write-offs in our PCS operation due to the poor payment
experience generated largely by Clear PaySM customers. PCS service revenues
written off as uncollectible during 2002 increased $2.5 million over the amount
written off in 2001. Improvements have been made to the Clear Pay offering to
reduce the negative impacts; however, it will take some time to restore our
churn and uncollectible percentages to acceptable levels. While not as big of an
impact, industry bankruptcy filings further reduced our net income, with some of
our telecommunications customers filing for corporate bankruptcy protection
during 2002. At the beginning of 2002, we were receiving approximately $303,000
in monthly revenues from three of these customers, but by the end of 2002, after
their bankruptcy filings, they were providing about $270,000 per month, an
annualized reduction of $396,000. So far in 2003, indications point to
continuing problems for our corporate customers that are overextended or having
problems meeting their business objectives.
This past November, the Company announced it had signed an agreement with
Verizon Wireless to sell them the Company's 66% general partner interest in the
Virginia 10 RSA Limited Partnership for $37 million. This sale was completed on
February 28, 2003. This partnership, managed by our Shenandoah Mobile Company
subsidiary, did business under the name of Shenandoah Cellular, and operated an
analog cellular network covering a population of approximately 198,000 people in
the northern Shenandoah Valley of Virginia. In recent years, this partnership
interest was a major contributor to our financial performance, producing after
tax earnings of $7.4 million and $6.7 million in 2002 and 2001 respectively.
While its financial contribution was large, our analog cellular operation was
not likely to continue its historical revenue and earnings growth, and at the
time of the sale its customer base had declined to about half of its peak in
early 2000. We believe our significantly larger digital PCS operation, while
currently generating unacceptable losses, has greater potential as a source of
long-term earnings growth.
As a PCS Affiliate of Sprint, we will focus our wireless efforts on
providing digital PCS service to a 2.0 million population area in our four-state
market region. The expansion of our PCS network has had a negative impact on our
net income due to the high level of capital investment and fixed operating costs
associated with its build-out. While we continue to believe in the long-term
prospects of operating as part of Sprint's nationwide digital network, the
current state of affairs for many of the PCS Affiliates Sprint is a cause for
concern. Some of the PCS Affiliates have received considerable press about high
debt levels and problems meeting their debt covenants. We do not have the same
immediate concerns, as
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we have been able to reduce our overall debt while still meeting our initial
contractual build-out obligations. We now have about 240 base stations in
service and expect capital spending in our PCS operation to decline. We still
need, however, to improve the operating economics of this business. Both Sprint
and its affiliates should benefit from increasing economies of scale, higher
margin rate plans and services, reducing churn and bad debt, and better market
focus.
Although our wireless efforts consumed a large part of our time and
resources during the year, our other operations remained significant
contributors to our financial results and provide additional growth
opportunities. With the impact of customer bankruptcies, our Telephone
subsidiary's net income increased slightly to $7.6 million from $7.2 million in
2001. Our CATV subsidiary achieved a profit in 2002, with net income of $0.3
million compared to a loss of $0.5 million in 2001. ShenTel Service Company,
which offers our Internet access services and provides online information
services, also earned $0.3 million in 2002, an improvement over its loss of $0.1
million in 2001.
ShenTel Service Company was recently awarded a one-year, $1.3 million
contract from the Virginia Department of Transportation to assist with the
continuation of the 511Virginia service. This service provides travel
information services along Virginia's Interstate 81 corridor. First started in
1998 as a trial project covering the northern portion of Interstate 81, the
511Virginia project has evolved into a showcase example of how
telecommunications technology can be applied to deliver relevant information to
those who make use of this important transportation route throughout its entire
length in Virginia.
We have continued to deploy network equipment to provide high speed,
Digital Subscriber Line (DSL) capability to our customers. At the end of the
year, DSL service was available to approximately 80 percent of our telephone
subscribers. Ongoing network enhancements will continue to increase this number,
with a long-term goal of eventually making this service available to all of our
subscribers. Other network enhancements took place during the year, most
importantly the completion of our diverse Northern Virginia fiber route,
providing increased reliability to this critical part of our extensive
interstate fiber network.
There are many employees who contribute to our ongoing efforts to provide
good service to our customers and to economically grow our business. As a
growing company, when we completed the cellular sale we were able to offer
transfers to all ten employees involved in its daily operations. Our growth also
allows some employees to build long-term careers with our Company. One such
employee is Ray Hawkins, who retired from Shenandoah Telephone Company after
more than 42 years of service. Ray was a classic "telephone man," dedicated to
putting the customer's needs first. His career started in the days when
telephone networks had cross arms and open wire, and ended in today's world of
fiber optics and wireless. He will be missed as a member of our team, but he
retires with the thanks of all of us that he has helped along the way.
The telecommunications industry is still suffering from the excesses of
the late 1990's. Our Company fortunately avoided these excesses, and our stock
price again performed well against the general market and the telecommunications
sector in 2002. The Proxy Statement provides a five-year shareholder return
graph showing that $100 invested in Shentel stock at the end of 1997 would have
been worth $281 as of the end of 2002, a compound annual growth rate of 23
percent. For the same time period, $100 invested in a fund indexed to the NASDAQ
US market would have been worth $86, an annual decline of 3 percent. Investing
in the S&P's Integrated Telecommunications Services group of stocks would have
resulted in the $100 declining to $67 by the end of 2002, an annual decline of 8
percent.
While generally avoiding the overall market and industry declines, our
stock can have large up and down movements. Recent price levels are a case in
point, as the stock has been trading in the low $30's, down from its closing
price of $48.56 at the end of 2002. Every investor may have his or her own
theory or explanation for a decline such as this. The sale of our cellular
partnership interest, problems between Sprint and its PCS Affiliates, and
ongoing financial and regulatory uncertainty for our industry, are all possible
factors. The average trading volume of Shentel shares has been increasing. It is
still not large enough, however, to easily accommodate sales of large quantities
of stock without creating a temporary oversupply of shares, and thus putting
additional downward pressure on the price.
Although drops in share price make investors uneasy, management's focus
must remain on long-term growth in the Company's earnings, and not on short-term
variations of stock prices. Over time, earnings growth should drive the value of
our stock, and therefore our shareholders' investment. Accomplishing this growth
has been, and will remain, our primary goal.
For the Board of Directors,
Christopher E. French
President
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Senior Management
(Picture)
Left to right: David K. MacDonald, VP-Engineering and Construction,
Laurence F. Paxton, VP-Finance, William L. Pirtle, VP-Personal
Communications Service, Christopher E. French, President,
David E. Ferguson, VP-Customer Service, and
Marcia J. Engle, Human Resources Manager
Comparative Highlights
(Dollar figures in thousands, except per share data.)
Increase
December 31, (Decrease)
2002 2001 Amount Percent
----------- ---------- -------- -------
Operating Revenues $ 92,957 $ 68,704 $ 24,253 35.3%
Operating Expenses 83,619 62,280 21,339 34.3%
Income Taxes (Benefit) (2,109) 5,811 (7,920) (136.3%)
Interest Expense 4,195 4,127 68 1.6%
Income (Loss) from Continuing Operations (2,893) 9,694 (12,587) (129.8%)
Discontinued Operations, net of taxes 7,412 6,678 734 11.0%
Net Income 4,519 16,372 (11,853) (72.4%)
Income (Loss) per Share from Continuing
Operations - diluted (0.77) 2.57 (3.34) (130.0%)
Income per Share from Discontinued
Operations - diluted 1.97 1.77 0.20 11.3%
Income per Share - diluted 1.20 4.34 (3.14) (72.4%)
Cash Dividend per Share 0.74 0.70 0.04 5.7%
Percent Return on Equity 5.9 21.9 (16.0) (73.1%)
Common Shares Outstanding 3,775,909 3,765,478 10,431 0.3%
No. of Shareholders 3,954 3,752 202 5.4%
No. of Employees (full-time equivalent) 268 252.5 15.5 6.1%
Wages & Salaries $ 10,051 $ 8,994 1,057 11.8%
Investment in Net Plant 132,152 124,832 7,320 5.9%
Capital Expenditures 23,015 28,543 (5,528) (19.4%)
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Shenandoah Telecommunications Celebrates its 100th Anniversary
In 2002, Shenandoah Telecommunications Company celebrated 100 years of
service to the residents of Shenandoah County, Virginia and its surrounding
areas. Numerous events were planned to recognize and show appreciation for the
role of our employees, shareholders, and customers in achieving this milestone
of service.
[PHOTO]
Display of Company memorabilia
To start the official celebration, the Company's customers were mailed an
eight-page publication depicting our rich history. Articles and anecdotes from
present and former employees were included which told of our roots as The
Farmers' Mutual Telephone System of Shenandoah County, when the local farmers
constructed and maintained the lines. The involvement of local owners
established a solid foundation for the future evolution into the state of the
art telecommunications company we are today.
A full-page ad appeared in local newspapers on Thursday, June 6th, listing
the names of all 264 current employees and giving recognition to their
contributions to the success of the Company. On Thursday and Friday nights
receptions were held for employees at Edinburg, Virginia and Carlisle,
Pennsylvania. At the receptions, employees were given a gift of one share of
stock for each year of service. This grant, totaling 2,327 shares, was made from
the Stock Incentive Plan and represented the combined years of service of the
Company's 264 employees.
On Saturday, June 8, 2002, a banquet was held at the Shentel Center that
was attended by more than 100 state and local dignitaries, shareholders,
relatives of past Company leaders, and industry friends. Invited guests received
a 1902 Morgan silver dollar and a 2002 Eagle silver dollar, representing the
Company's accomplishments in the past, and our hopes for success in the future.
Judge I. Clinton Miller, Chairman of the Virginia State Corporation
Commission and former state delegate, served as master of ceremonies at the
catered affair. Warren B. French, Jr., Chairman Emeritus, spoke on the Company's
past accomplishments, and Christopher E. French, President and CEO, gave a brief
overview of current operations and an outlook for the future.
[PHOTO]
Visitors browse one of the many exhibits at the Open House.
As a gift of appreciation to the citizens of Shenandoah County, the
Directors of the Shentel Foundation announced at the banquet that the Foundation
desired to make a grant of up to $500,000 to help the County fund the
establishment of a Cultural Center for its citizens. This grant is dependent
upon the successful results of a feasibility study, which was partially funded
by the Shentel Foundation, to establish a Cultural Center at the old Edinburg
School.
To cap off the Anniversary celebration, the public was invited to an open
house on Sunday, June 9, 2002. A museum of items that played an important role
in the history of the Company's telecommunications services was on display at
the Shentel Center. During the open house, tours were also given at the Shentel
Corporate offices, the Customer Service Building, and the Newman Service
Building.
- 4 -
Travel Information Service Continues Expansion
In January 2003, the Virginia Department of Transportation (VDOT) awarded
a twelve-month, $1.3 million contract to ShenTel Service Company for the
provisioning of traveler information services along the Interstate 81 corridor.
ShenTel has been involved in providing traffic and travel information services
since 1998. Initially started as a trial project, the service evolved to become
Travel Shenandoah in 2000. In February 2002, the name was changed to 511Virginia
to reflect its expansion beyond the northern Shenandoah Valley, and to
incorporate use of the 511 code which has been reserved nationwide for travel
information services. Today 511Virginia serves 35 counties along the 325-mile
Interstate 81 corridor, which has a resident population of 1.4 million.
Traveler information is accessed by dialing the abbreviated code 511 where
currently available, and then interacting with an advanced voice-recognition
system. Where the 511 code has not yet been activated, customers may access the
service by dialing 1-800-578-4111, or through the Internet website
www.511Virginia.org. In addition to information on traffic and road conditions,
users of 511Virginia can receive information on lodging, tourist attractions,
restaurants, and shopping.
[PHOTO]
Variable message sign recently installed on Interstate 81 alerts travelers
to dial 511 for travel information.
Virginia was the first state to offer traveler services beyond traditional
transportation-related information, and the second to apply voice recognition
technology. It is currently one of twelve states making use of the 511 code to
provide access to the service. ShenTel Service Company has played a significant
role in the development of these traveler information services, and the
application of new technologies to enhance their functionality.
The original travel information effort was a public-private partnership
between ShenTel, VDOT, and the Virginia Tech Transportation Institute (VTTI).
VTTI continues to be the statistical data clearinghouse for 511Virginia,
compiling information from VDOT, the Virginia State Police, and other sources to
keep the 511Virginia data current.
The campaign to promote 511 began with VDOT placing blue 511 signs every
12 to 15 miles along Interstate 81. Variable message boards have been added
along the interstate to advise travelers to "Dial 511" in case of bad weather or
traffic incidents. Other forms of 511 marketing include rack card distribution
at rest stops, information centers, restaurants, and other locations frequented
by interstate travelers. ShenTel publishes a quarterly newsletter on 511Virginia
which focuses on the growth and use of 511 and features businesses that use 511
to market their products and services. The newsletter is distributed along the
Interstate 81 corridor to businesses, chambers of commerce, and visitor centers.
More and more people are taking advantage of the traveler information
available through 511Virginia. In its first full month of operation, the system
received approximately 750 calls. By February of 2003, the average monthly call
volume had increased to 25,000.
The Virginia Department of Transportation hopes to provide the 511Virginia
service statewide by 2005. ShenTel is in a position to play a major role in this
future expansion.
- 5 -
A Challenging Year for PCS
Our PCS operation made some notable network enhancements during 2002.
During the first half we upgraded the entire network to offer third generation
service known as 3G, and introduced PCS VisionSM from Sprint service to our
customers in August. Using the enhanced network capabilities of 3G, PCS Vision
allows customers to use their handsets to send and receive email, take pictures
and share them with friends and family, download games and ring tones, and surf
the Internet, all at average speeds of 50-70 kbps (peak speed is 144 kbps),
which rivals wireline dial-up Internet access. The same 3G hardware upgrade
significantly increased the voice handling capabilities of the network to
accommodate the continued growth in voice traffic. In 2002 we added 53 new base
stations to the network to expand our coverage area, and we upgraded several
existing base stations to accommodate continued growth in voice and data
traffic. These enhancements were quickly put to use, as by the end of 2002 the
Company had approximately 67,800 Sprint wireless customers, a 43 percent
increase from the previous year.
Marketing of new service plans within our PCS business presented far
greater challenges. In the spring of the year, the Company determined that the
Clear Pay program, designed for credit challenged customers, was not producing
the results we expected. We therefore chose to significantly scale back our
participation in this program. The addition of a large number of credit
challenged customers added towards the end of 2001 and the beginning of 2002 led
to increased cancellations of service (churn), and increased bad debt expense as
customers failed to pay their bills. Our second quarter implementation of
additional deposit requirements, combined with re-focusing the efforts of our
employees and third party retailers, helped to improve the credit quality of our
customer base. In the middle of the year churn started to return to more normal
levels and towards the end of the year bad debt associated with Sprint wireless
customers was decreasing as well. The Company will continue requiring larger
deposits from credit challenged customers who wish to use our wireless service
offerings.
With the substantial alterations to the Clear Pay program, the nature of
our retail sales was modified. In conjunction with the deposit requirement
changes, our retail sales team focused on our relationships with national retail
partners. In some instances our efforts paid immediate benefits in the form of
increased sales and improved customer care, particularly in the Quad State
region from Harrisonburg, Virginia to Chambersburg, Pennsylvania. However, in
the remainder of our market area in Central Pennsylvania, retail sales by our
own stores, as well as by third party channels, were slower to improve, and will
require continued focus and attention.
Our business sales team altered its sales approach to take advantage of
our PCS Vision network and improve our financial performance. Instead of
focusing primarily on the sale of handsets, the team shifted to showing the
value of applying Sprint wireless products and services to meet tangible
business needs. With the advanced capabilities of Sprint's enhanced nationwide
digital network, such as wireless-enabled Personal Digital Assistants and
wireless Internet access, businesses that use Sprint wireless products and
services can improve their productivity and their bottom lines.
- 6 -
DSL Service Available to Large Majority of Shentel Customers
Digital Subscriber Line (DSL) is a high-speed, broadband access technology
that works over the wireline telephone network. Subject to distance limitations,
DSL can provide data and Internet transmission rates which greatly exceed the
speeds available over a regular dial-up connection.
[PHOTO]
Mike Moton works on remote DSL equipment used
to extend the reach of the service.
While there has been considerable discussion in the press concerning the
lack of broadband access in rural areas, Shentel recognized early on the need to
make these services available to residences and businesses served by its local
network. Beginning with vendor selection and testing in 1999, Shentel undertook
a focused effort to deploy DSL equipment in all of its local serving area
exchanges. With an initial investment of $500,000, DSL services were launched in
2000. At that time, approximately 60 percent of the homes and businesses located
in Basye, Edinburg, Fort Valley, Mt. Jackson, New Market, Strasburg, Toms Brook,
and Woodstock, as well as Bergton in Rockingham County, were capable of
receiving DSL.
[PHOTO]
Josh Rhinehart performs maintenance
on DSL network equipment.
Since the initial service launch, technology enhancements have allowed
Shentel to extend the range of its DSL capabilities. By the end of 2002, the
availability of DSL had grown to approximately 80 percent of the homes and
businesses served by Shentel. In the more densely populated areas of Shenandoah
County, such as Woodstock and Strasburg, DSL availability is approaching 95
percent. During 2002 we also successfully launched DSL services in adjacent
Warren County. Through coordination with that area's local telephone company,
Shentel offers high-speed Internet access to Shentel Internet customers located
outside our Telephone subsidiary's present serving area.
As technology advancements permit, Shentel will continue its efforts to
expand DSL services into the remaining parts of our local telephone serving
area. Our ultimate goal is to make these services available to every household
and business. At the end of 2002, over 650 Shentel customers were enjoying the
benefits of DSL to obtain high-speed access to the Internet. We expect continued
growth in the future, as broadband service becomes increasingly essential to the
Internet experience. As with the introduction of many new technologies over the
Company's history, Shentel was an early provider of these advanced services, in
many cases making them available for our rural communities before they were
introduced to other more populated areas of the country.
- 7 -
Board of Directors
(PICTURE) (PICTURE) (PICTURE)
Douglas C. Arthur Ken L. Burch Harold Morrison, Jr.
Attorney-at-Law, Farmer Chairman of the
Arthur and Allamong Board, Woodstock
Garage, Inc. (an auto
sales and repair firm)
(PICTURE) (PICTURE) (PICTURE)
Noel M. Borden Christopher E. French Zane Neff
Retired President, President, Retired Manager, Hugh
H. L. Borden Lumber Shenandoah Saum Company, Inc.
Company (a retail Telecommunications (a hardware and
building materials Company and its furniture store)
firm) subsidiaries
(PICTURE) (PICTURE) (PICTURE)
Dick D. Bowman Grover M. Holler, Jr. James E. Zerkel II
President, Bowman President, Valley Vice President,
Bros., Inc. (a farm View, Inc. James E. Zerkel, Inc.
equipment dealer) (a real estate (a hardware firm)
developer)
Five-Year Summary of Selected Financial Data
(Dollar figures in thousands, except per share data.)
2002 2001 2000 1999 1998
----------- ---------- ---------- ---------- ----------
Operating Revenues $ 92,957 $ 68,704 $ 44,426 $ 29,684 $ 26,230
Operating Expenses 83,619 62,280 39,048 24,607 20,885
Income Taxes (Benefit) (2,109) 5,811 2,975 1,729 2,148
Interest Expense 4,195 4,127 2,936 1,951 1,706
Income (Loss) from Continuing
Operations $ (2,893) $ 9,694 $ 5,091 $ 2,927 $ 3,346
Discontinued Operations, net of tax 7,412 6,678 4,764 3,501 2,258
Net Income 4,519 16,372 9,855 6,428 5,604
Total Assets 164,004 167,372 152,585 133,644 94,137
Long-term Obligations 52,043 56,436 55,487 33,030 29,262
Shareholder Information
Number of Shareholders 3,954 3,752 3,726 3,683 3,654
Shares Outstanding 3,775,909 3,765,478 3,759,231 3,755,760 3,755,760
Income (Loss) per share from
Continuing Operations-diluted $ (0.77) $ 2.57 $ 1.35 $ 0.78 $ 0.89
Income per share from
Discontinued Operations-diluted 1.97 1.77 1.26 0.93 0.60
Net Income per share-diluted 1.20 4.34 2.61 1.71 1.49
Cash Dividends per share 0.74 0.70 0.66 0.56 0.51
- 8 -
SHENANDOAH TELECOMMUNICATIONS COMPANY
AND SUBSIDIARIES
2002 Financial Statements
- 9 -
INDEPENDENT AUDITORS' REPORT
[LOGO]
The Board of Directors and Shareholders
Shenandoah Telecommunications Company:
We have audited the accompanying consolidated balance sheets of Shenandoah
Telecommunications Company and subsidiaries (the Company), as of December 31,
2002 and 2001, and the related consolidated statements of income, shareholders'
equity and comprehensive income (loss), and cash flows for the years then ended.
These consolidated financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these consolidated
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 consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Shenandoah
Telecommunications Company and subsidiaries as of December 31, 2002 and 2001,
and the results of their operations and their cash flows for the years then
ended, in conformity with accounting principles generally accepted in the United
States of America.
As discussed in note 1 to the consolidated financial statements, the Company
changed its method of accounting for goodwill in 2002.
/s/ KPMG LLP
Richmond, Virginia
February 14, 2003, except as to Note 2,
which is as of February 28, 2003
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INDEPENDENT AUDITORS' REPORT
McGLADREY & PULLEN, LLP
Certified Public Accountants
[LOGO]
The Board of Directors and Shareholders
Shenandoah Telecommunications Company
Edinburg, Virginia
We have audited the accompanying consolidated balance sheet of Shenandoah
Telecommunications Company and Subsidiaries as of December 31, 2000, and the
related consolidated statement of income, shareholders' equity and comprehensive
income (loss), and cash flows for the year then ended. 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 audit.
We conducted our audit 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 audit provides a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Shenandoah
Telecommunications Company and Subsidiaries as of December 31, 2000, and the
results of its operations and its cash flows for the year then ended in
conformity with accounting principles generally accepted in the United States of
America.
/s/ McGladrey & Pullin, LLP
Richmond, Virginia
January 26, 2001
- 11 -
SHENANDOAH TELECOMMUNICATIONS COMPANY AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
December 31, 2002, 2001 and 2000
in thousands
ASSETS (Note 5) 2002 2001 2000
- -------------------------------------------------------------------------------------------------------
Current Assets
Cash and cash equivalents $ 2,209 $ 2,037 $ 2,545
Accounts receivable (Notes 1 and 8) 7,536 5,739 5,199
Income taxes receivable 12 1,205 2,052
Materials and supplies 1,787 2,934 2,627
Prepaid expenses and other 2,205 1,146 847
Deferred income taxes (Note 6) 1,197 575 292
Assets held for sale (Note 2) 5,548 2,973 2,945
----------------------------------------
Total current assets 20,494 16,609 16,507
----------------------------------------
Securities and Investments (Notes 3 and 8)
Available-for-sale securities 151 12,025 11,771
Other investments 7,272 6,438 6,996
----------------------------------------
Total securities and investments 7,423 18,463 18,767
----------------------------------------
Property, Plant and Equipment
Plant in service (Note 4) 184,069 154,345 117,178
Plant under construction 5,209 14,960 29,350
----------------------------------------
189,278 169,305 146,528
Less accumulated depreciation 57,126 44,473 38,140
----------------------------------------
Net property, plant and equipment 132,152 124,832 108,388
----------------------------------------
Other Assets
Assets held for sale (Note 2) -- 3,272 3,420
Cost in excess of net assets of business acquired 5,105 5,105 5,105
Deferred charges and other assets (Note 1) 667 1,452 909
Radio spectrum license -- -- 1,341
----------------------------------------
5,772 9,829 10,775
Less accumulated amortization 1,837 2,361 1,852
----------------------------------------
Net other assets 3,935 7,468 8,923
----------------------------------------
Total assets $164,004 $167,372 $152,585
========================================
See accompanying notes to consolidated financial statements.
(Continued)
- 12 -
SHENANDOAH TELECOMMUNICATIONS COMPANY AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
December 31, 2002, 2001 and 2000
in thousands
LIABILITIES AND SHAREHOLDERS' EQUITY 2002 2001 2000
- --------------------------------------------------------------------------------------------------------------
Current Liabilities
Current maturities of long-term debt (Note 5) $ 4,482 $ 4,387 $ 2,403
Revolving line of credit (Note 5) 3,503 6,200 --
Accounts payable (Note 7) 5,003 5,128 9,096
Advanced billings and customer deposits 3,538 2,652 1,294
Refundable equipment payment (Note 7) -- -- 3,871
Accrued compensation 1,268 1,084 996
Other current liabilities 1,564 1,455 1,467
Current liabilities held for sale (Note 2) 542 735 1,212
------------------------------------------
Total current liabilities 19,900 21,641 20,339
------------------------------------------
Long-term debt, less current maturities (Note 5) 47,561 52,049 53,084
------------------------------------------
Other Liabilities
Deferred income taxes (Note 6) 15,859 14,977 9,510
Pension and other (Note 9) 2,441 2,265 1,602
------------------------------------------
Total other liabilities 18,300 17,242 11,112
------------------------------------------
Minority Interests in discontinued operations 1,666 1,838 1,715
------------------------------------------
Commitments and Contingencies (Notes 2,3,5,6,7,9,12,13)
Shareholders' Equity (Notes 5 and 10)
Common stock, no par value, authorized 8,000 shares;
issued and outstanding 3,776 shares in 2002, 3,765
shares in 2001, and 3,759 shares in 2000 5,246 4,950 4,817
Retained earnings 71,335 69,610 55,873
Accumulated other comprehensive income (Note 3) (4) 42 5,645
------------------------------------------
Total shareholders' equity 76,577 74,602 66,335
------------------------------------------
Total liabilities and shareholders' equity $ 164,004 $167,372 $152,585
==========================================
See accompanying notes to consolidated financial statements.
- 13 -
SHENANDOAH TELECOMMUNICATIONS COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
Years Ended December 31, 2002, 2001 and 2000
in thousands, except per share amounts
2002 2001 2000
- --------------------------------------------------------------------------------------------------------------------
Operating revenues:
Wireless (Notes 7 and 8) $ 57,867 $ 36,133 $ 14,911
Wireline 28,738 27,468 24,480
Other 6,352 5,103 5,035
------------------------------------------
Total operating revenues 92,957 68,704 44,426
------------------------------------------
Operating expenses:
Cost of goods and services 10,485 7,392 5,743
Network operating costs (Note 8) 32,511 26,756 14,979
Depreciation and amortization 14,482 11,263 6,759
Selling, general and administrative 26,141 16,869 11,567
------------------------------------------
Total operating expenses 83,619 62,280 39,048
------------------------------------------
Operating income 9,338 6,424 5,378
------------------------------------------
Other income (expense):
Interest expense (4,195) (4,127) (2,936)
Net gain (loss) on investments (Note 3) (10,004) 12,943 5,602
Non-operating income (expense), net (141) 265 22
------------------------------------------
(14,340) 9,081 2,688
------------------------------------------
Income (loss) before income taxes and discontinued operations (5,002) 15,505 8,066
Income tax provision (benefit) (Note 6) (2,109) 5,811 2,975
------------------------------------------
Income (loss) from continuing operations (2,893) 9,694 5,091
Discontinued operations, net of income taxes (Note 2 ) 7,412 6,678 4,764
------------------------------------------
Net income $ 4,519 $ 16,372 $ 9,855
==========================================
Income (loss) per share: Basic Net income (loss) per share:
Continuing operations $ (0.77) $ 2.58 $ 1.35
Discontinued operations 1.97 1.77 1.27
------------------------------------------
$ 1.20 $ 4.35 $ 2.62
==========================================
Weighted average shares outstanding, basic 3,771 3,761 3,757
==========================================
Diluted Net income per share:
Continuing operations $ (0.77) $ 2.57 $ 1.35
Discontinued operations 1.97 1.77 1.26
------------------------------------------
$ 1.20 $ 4.34 $ 2.61
==========================================
Weighted average shares, diluted 3,771 3,774 3,771
==========================================
See accompanying notes to consolidated financial statements.
- 14 -
SHENANDOAH TELECOMMUNICATIONS COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
AND COMPREHENSIVE INCOME (LOSS)
Years Ended December 31, 2002, 2001 and 2000
in thousands, except per share amounts
Accumulated
Other
Common Retained Comprehensive
Shares Stock Earnings Income Total
- ----------------------------------------------------------------------------------------------------------------------------------
Balance, January 1, 2000 3,756 $ 4,734 $ 48,499 $ 17,042 $ 70,275
Comprehensive income:
Net income -- -- 9,855 -- 9,855
Net unrealized change in
securities available-for-sale,
net of tax of $6,974 -- -- -- (11,397) (11,397)
--------
Total comprehensive loss (1,542)
--------
Dividends declared ($0.66 per share) -- -- (2,481) -- (2,481)
Common stock issued through
exercise of incentive stock
options 3 83 -- -- 83
-----------------------------------------------------------------
Balance, December 31, 2000 3,759 4,817 55,873 5,645 66,335
Comprehensive income:
Net income -- -- 16,372 -- 16,372
Net unrealized change in
securities available-for-sale,
net of tax of $3,482 -- -- -- (5,603) (5,603)
--------
Total comprehensive income 10,769
--------
Dividends declared ($0.70 per share) -- -- (2,635) -- (2,635)
Common stock issued through
exercise of incentive stock
options 6 133 -- -- 133
-----------------------------------------------------------------
Balance, December 31, 2001 3,765 4,950 69,610 42 74,602
Comprehensive income
Net income -- -- 4,519 -- 4,519
Net unrealized change in
securities available-for-sale,
net of tax of $29 -- -- -- (46) (46)
--------
Total comprehensive income 4,473
--------
Dividends declared ($0.74 per share) -- -- (2,794) -- (2,794)
Common stock issued through
exercise of incentive stock
options and stock grants 11 296 -- -- 296
-----------------------------------------------------------------
Balance, December 31, 2002 3,776 $ 5,246 $ 71,335 $ (4) $ 76,577
=================================================================
See accompanying notes to consolidated financial statements.
- 15 -
SHENANDOAH TELECOMMUNICATIONS COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years Ended December 31, 2002, 2001 and 2000
in thousands
2002 2001 2000
- -------------------------------------------------------------------------------------------------------------
Cash Flows from Operating Activities
Income (loss) from continuing operations $ (2,893) $ 9,694 $ 5,091
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation 14,476 10,540 6,434
Amortization 6 723 325
Deferred income taxes 289 8,666 130
Loss on disposal of assets 739 506 15
Net (gain) loss on disposal of investments 9,034 (14,162) (5,178)
Net (gain) loss from patronage and equity
investments 393 789 (975)
Other 443 987 263
Changes in assets and liabilities:
(Increase) decrease in:
Accounts receivable (1,797) (864) (1,552)
Materials and supplies 1,147 (307) 1,105
Increase (decrease) in:
Accounts payable 1,067 (3,968) 6,633
Other prepaids, deferrals and accruals 120 (2,263) (2,160)
--------------------------------------
Net cash provided by operating activities 23,024 10,341 10,131
--------------------------------------
Cash Flows From Investing Activities
Purchase and construction of plant and equipment, net
of retirements (22,612) (27,972) (44,034)
Purchase of investment securities (1,775) (1,250) (2,787)
Proceeds from sale of equipment 77 482 --
Proceeds from sale of radio spectrum license -- 1,133 --
Proceeds from sale of securities (Note 3) 3,301 5,842 7,615
Other, net -- -- 154
--------------------------------------
Net cash used in investing activities (21,009) (21,765) (39,052)
--------------------------------------
(Continued)
- 16 -
SHENANDOAH TELECOMMUNICATIONS COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years Ended December 31, 2002, 2001 and 2000
in thousands
2002 2001 2000
- ---------------------------------------------------------------------------------------------------------
Cash Flows From Financing Activities
Proceeds from issuance of long-term debt $ -- $ 24,641 $ 24,120
Principal payments on long-term debt (4,393) (23,692) (1,663)
Net proceeds from lines of credit (2,697) 6,200 --
Debt issuance costs -- (175) --
Dividends paid (2,794) (2,635) (2,481)
Proceeds from exercise of incentive stock options 296 133 83
--------------------------------------
Net cash provided by (used in) financing
activities (9,588) 4,472 20,059
--------------------------------------
Net cash used in continuing operations (7,573) (6,952) (8,862)
Net cash provided by discontinued operations 7,745 6,444 6,204
--------------------------------------
Net increase (decrease) in cash and cash
equivalents 172 (508) (2,658)
Cash and cash equivalents:
Beginning 2,037 2,545 5,203
--------------------------------------
Ending $ 2,209 $ 2,037 $ 2,545
======================================
Supplemental Disclosures of Cash Flow Information
Cash payments for:
Interest, net of capitalized interest of $93 in
2002; $134 in 2001; and $301 in 2000 $ 4,274 $ 4,217 $ 3,057
======================================
Income taxes $ 1,045 $ 506 $ 8,656
======================================
Non-cash transactions:
During 2002, the Company issued 2,327 shares of Company stock to employees
valued at $0.1 million in recognition of the Company's 100th year
anniversary.
In December 2001, the Company received 310,158 shares of VeriSign Inc.
common stock in exchange for 333,504 shares of Illuminet Holdings, Inc.
stock as a result of the merger of the two entities.
The Company completed the sale of its GSM network equipment in January
2001, for approximately $6.5 million of which approximately $4.9 million
was escrowed as part of a like-kind exchange transaction. The escrowed
funds were disbursed as new equipment was received during the first six
months of 2001.
See accompanying notes to consolidated financial statements.
- 17 -
SHENANDOAH TELECOMMUNICATIONS COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 1. Summary of Significant Accounting Policies
Description of business: Shenandoah Telecommunications Company and subsidiaries
(the Company) provides telephone service, wireless personal communications
service (PCS) under the Sprint brand name, cable television, unregulated
communications equipment sales and services, Internet access, and paging
services. In addition, the Company leases towers and operates and maintains an
interstate fiber optic network. The Company's operations are located in the four
state region surrounding the Northern Shenandoah Valley of Virginia. Operations
follow the Interstate 81 corridor, through West Virginia, Maryland and into
South-Central Pennsylvania. The Company is the exclusive PCS Affiliate of Sprint
providing wireless mobility communications network products and services in the
geographic area extending from Altoona, Harrisburg and York, Pennsylvania, south
through Western Maryland, and the panhandle of West Virginia, to Harrisonburg,
Virginia. The Company is licensed to use the Sprint brand name in this
territory, and operates its network under the Sprint radio spectrum license (see
Note 7). A summary of the Company's significant accounting policies follows:
Principles of consolidation: The consolidated financial statements include the
accounts of all wholly-owned subsidiaries and other entities where effective
control is exercised. All significant intercompany balances and transactions
have been eliminated in consolidation.
Use of estimates: Management of the Company has made a number of estimates and
assumptions related to the reporting of assets and liabilities, the disclosure
of contingent assets and liabilities at the date of the consolidated financial
statements and the reported amounts of revenues and expenses during the
reporting period. Management reviews its estimates, including those related to
recoverability and useful lives of assets as well as liabilities for income
taxes and pension benefits. Changes in facts and circumstances may result in
revised estimates and actual results could differ from those reported estimates.
Cash and cash equivalents: The Company considers all temporary cash investments
purchased with a maturity of three months or less to be cash equivalents. The
Company places its temporary cash investments with high credit quality financial
institutions. At times, these investments may be in excess of FDIC insurance
limits. Cash and cash equivalents were $2.2 million, $2.0 million, and $2.5
million at December 31, 2002, 2001 and 2000, respectively.
Accounts receivable: Accounts receivable are recorded at the invoiced amount and
do not bear interest. The allowance for doubtful accounts is the Company's best
estimate of the amount of probable credit losses in the Company's existing
accounts receivable. The Company determines the allowance based on historical
write-off experience and by industry and national economic data. The Company
reviews its allowance for doubtful accounts monthly. Past due balances meeting
specific criteria are reviewed individually for collectibility. All other
balances are reviewed on a pooled basis. Account balances are charged off
against the allowance after all means of collection have been exhausted and the
potential for recovery is considered remote. Accounts receivable are
concentrated among customers within the Company's geographic service area and
large telecommunications companies. The Company's reserve for uncollectible
receivables related to continuing operations was $914 thousand, $650 thousand
and $325 thousand at December 31, 2002, 2001 and 2000, respectively.
Securities and investments: The classification of debt and equity securities is
determined by management at the date individual investments are acquired. The
appropriateness of such classification is continually reassessed. The Company
monitors the fair value of all investments, and based on factors such as market
conditions, financial information and industry conditions, the Company will
reflect impairments in values as is warranted. The classification of those
securities and the related accounting policies are as follows:
Available-for-Sale Securities: Debt and equity securities classified as
available-for-sale consist of securities which the Company intends to hold
for an indefinite period of time, but not necessarily to maturity. Any
decision to sell a security classified as available-for-sale would be
based on various factors, including changes in market conditions,
liquidity needs and similar criteria. Available-for-sale securities are
recorded at fair value as determined by quoted market prices. Unrealized
holding gains and losses, net of the related tax effect, are excluded from
earnings and are reported as a separate component of other comprehensive
income until realized. Realized gains and losses are
- 18 -
Note 1. Summary of Significant Accounting Policies (Continued)
determined on a specific identification basis. A decline in the market
value of any available-for-sale security below cost that is deemed to be
other than temporary results in a reduction in the carrying amount to fair
value. The impairment is charged to earnings and a new cost basis for the
security is established.
Investments Carried at Cost: Investments in common stock in which the
Company does not have a significant ownership (less than 20%) and for
which there is no ready market, are carried at cost. Information regarding
investments carried at cost is reviewed continuously for evidence of
impairment in value. Impairments are charged to earnings and a new cost
basis for the investment is established.
Equity Method Investments: Investments in partnerships and unconsolidated
corporations where the Company's ownership is 20% or more are reported
under the equity method. Under this method, the Company's equity in
earnings or losses of investees is reflected in net income. Distributions
received reduce the carrying value of these investments. The Company would
recognize a loss when there is a decline in value in the investment which
is other than a temporary decline.
Materials and supplies: New and reusable materials are carried in inventory at
the lower of average cost or market. Inventory held for sale, such as telephones
and accessories, are carried at the lower of average cost or market.
Non-reusable material is carried at estimated salvage value.
Property, plant and equipment: Property, plant and equipment is stated at cost.
The Company capitalizes all costs associated with the purchase, deployment and
installation of property, plant and equipment, including interest on major
capital projects during the period of their construction. Expenditures,
including those on leased assets, which extend the useful life or increase its
utility, are capitalized. Maintenance expense is recognized when repairs are
performed. Depreciation is calculated on the straight-line method over the
estimated useful lives of the assets. Depreciation expense for continuing
operations was approximately 8.6%, 8.3% and 6.6% of average depreciable assets
for the years 2002, 2001 and 2000, respectively. Depreciation lives are assigned
to assets based on their estimated useful lives in conjunction with industry and
regulatory guidelines, where applicable. Such lives, while similar, may exceed
the lives that would have been used if the Company did not operate certain
segments of the business in a regulated environment. The Company takes
technology changes into consideration as it assigns the estimated useful lives,
and monitors the remaining useful lives of asset groups to reasonably match the
remaining economic life with the useful life and makes adjustments where
necessary.
Cost in excess of net assets of business acquired: In June 2001, the Financial
Accounting Standards Board (FASB) issued Statements of Financial Accounting
Standards (SFAS) No.142, Goodwill and Other Intangible Assets, which eliminates
amortization of goodwill and intangible assets that have indefinite useful lives
and requires annual tests of impairment of those assets. SFAS No. 142 also
provides specific guidance about how to determine and measure goodwill and
intangible asset impairments, and requires additional disclosures of information
about goodwill and other intangible assets. The provisions of SFAS No. 142 are
required to be applied starting with fiscal years beginning after December 15,
2001 and applied to all goodwill and other intangible assets recognized in
financial statements at that date. In connection with SFAS No. 142 transitional
goodwill impairment evaluation, the Statement requires the Company to perform an
assessment of whether there is an indication that goodwill is impaired as of the
date of adoption. To accomplish this, the Company identified its reporting units
and determined the carrying value of each unit by assigning the assets and
liabilities, including the existing goodwill and intangible assets, to those
reporting units as of January 1, 2002.
Goodwill represents the excess of purchase price over fair value of tangible net
assets acquired. Prior to adoption of SFAS No. 142, goodwill was amortized on a
straight-line basis over the expected periods to be benefited, which was 15
years for the Company. SFAS No. 142 required transitional goodwill impairment
evaluation beginning January 1, 2002. Subsequent to adoption, amortization of
goodwill ceased, and the goodwill balance is reviewed annually for impairment.
No impairment of goodwill was required to be recorded in 2002. With the
implementation of SFAS No. 142, there was no goodwill amortization charged to
the operation in 2002, while expense was $360 thousand per year for 2001 and
2000, and the unamortized goodwill as of December 31, 2002 was approximately
$3.2 million.
- 19 -
Note 1. Summary of Significant Accounting Policies (Continued)
The following table reconciles previously reported net income as if the
provisions of SFAS No. 142 were in effect for the years ended December 31, 2001
and 2000:
2002 2001 2000
-------- -------- --------
(in thousands)
Reported net income $ 4,519 $ 16,372 $ 9,855
Add back goodwill amortization -- 360 360
Deduct income tax benefit -- (137) (137)
-------- -------- --------
Adjusted net income $ 4,519 $ 16,595 $ 10,078
======== ======== ========
Retirement plans: The Company maintains a noncontributory defined benefit plan
covering substantially all employees. Pension benefits are based primarily on
the employee's compensation and years of service. The Company's policy is to
fund the maximum allowable contribution calculated under federal income tax
regulations. The Company also maintains a defined contribution plan under which
substantially all employees may defer a portion of their earnings on a pretax
basis, up to the allowable federal maximum. The Company may make matching and
discretionary contributions to this plan. Neither plan holds stock of the
Company in the respective portfolios.
Income taxes: Income taxes are accounted for under the asset and liability
method. Deferred tax assets and liabilities are recognized for the future tax
consequences attributable to differences between financial statement carrying
amounts of existing assets and liabilities and their respective tax bases.
Deferred tax assets and liabilities are measured using enacted tax rates
expected to apply to taxable income in the years in which those temporary
differences are expected to be recovered or settled. The effect on deferred tax
assets and liabilities of a change in tax rates is recognized in income in the
period that includes the enactment date. The Company evaluates the
recoverability of tax assets generated on a state by state basis from net
operating losses apportioned to that state. Management uses a more likely than
not threshold to make that determination and has established a valuation
allowance against the tax assets, in case they may not be recoverable.
Revenue recognition: Revenues are recognized by the Company based on the various
types of transactions generating the revenue. For equipment sales, revenue is
recognized when the sales transaction is complete. For services, revenue is
recognized as the services are performed. Beginning in 2000, coinciding with the
inception of activation fees in its PCS segment, nonrefundable PCS activation
fees and the portion of the activation costs deemed to be direct costs of
acquiring new customers (primarily activation costs and credit analysis costs)
are deferred and recognized ratably over the estimated life of the customer
relationship, which is currently 30 months. The amounts of deferred revenue at
December 31, 2002, 2001 and 2000 were $1.5 million, $1.2 million and $0.4
million, respectively. The deferred costs at December 31, 2002, 2001 and 2000
were $0.7 million, $0.7 million and $0.3 million, respectively.
The Company records its PCS service revenue net of the 8% royalty fee that is
paid to Sprint. Sprint retains 8% of all collected service revenue from
subscribers whose service home is in the Company's territory. Additionally,
Sprint retains 8% of the roaming revenue generated by non-Sprint wireless
subscribers who use the Company's network.
Stock Option Plan: To account for its fixed plan stock options, the Company
applies the intrinsic value-based method of accounting prescribed by Accounting
Principles Board (APB) Opinion No. 25, Accounting for Stock Issued to Employees,
and related interpretations including Financial Accounting Standards Board
(FASB) Interpretation No. 44, Accounting for Certain Transactions involving
Stock Compensation, an interpretation of APB Opinion No. 25 issued in March
2000. Under this method, compensation expense is recorded on the date of the
grant only if the current market price of the underlying stock exceeded the
exercise price. SFAS No. 123, Accounting for Stock-Based Compensation,
established accounting and disclosure requirements using a fair value-based
method of accounting for stock-based employee compensation plans. As allowed by
SFAS No. 123, the Company has elected to continue to apply the intrinsic
value-based method of accounting described above, and has adopted the disclosure
requirements of SFAS No. 123, as amended by SFAS No. 148, Accounting for
Stock-Based Compensation--Transition and Disclosure--an amendment of FASB
Statement No. 123.
Grants of options under the Plan are accounted for following the APB Opinion No.
25 and related interpretations. Accordingly, no compensation expense has been
recognized under the Plan. Had compensation expense been recorded, based on fair
values of the awards at the grant date (the method prescribed in SFAS No. 123),
reported net income and earnings per share would have been reduced to the pro
forma amounts shown in the following table:
- 20 -
Note 1. Summary of Significant Accounting Policies (Continued)
2002 2001 2000
--------------------------------------
Net Income (in thousands, except per share amounts)
As reported $ 4,519 $ 16,372 $ 9,855
Pro forma 4,307 16,115 9,674
Earnings per share, basic and diluted
As reported, basic $ 1.20 $ 4.35 $ 2.62
As reported, diluted 1.20 4.34 2.61
Pro forma, basic 1.14 4.28 2.57
Pro forma, diluted 1.14 4.27 2.57
Earnings per share: Basic income (loss) per share is computed by dividing net
income (loss) by the weighted average number of common shares outstanding during
the year. Diluted income (loss) per share is computed by dividing the income
(loss) by the sum of the weighted average number of common shares outstanding
and potential dilutive common shares determined using the treasury stock method.
Because the Company reported a net loss from continuing operations in 2002, the
diluted income (loss) per share is the same as basic income (loss) per share
since including any potentially dilutive securities would be antidilutive to the
net loss per share from continuing operations. In 2001 and 2000, all options
were dilutive, except for the grants made in 2000. There were no adjustments to
net income (loss) in the computation of diluted earnings per share for any of
the years presented. The following tables show the computation of basic and
diluted earnings per share for 2002, 2001 and 2000:
2002 2001 2000
-------------------------------
Basic income (loss) per share (in thousands, except per share amounts)
Net income (loss) from continuing operations $(2,893) $ 9,694 $ 5,091
-------------------------------
Weighted average shares outstanding 3,771 3,761 3,757
-------------------------------
Basic income (loss) per share - continuing operations $ (0.77) $ 2.58 $ 1.35
===============================
Effect of stock options outstanding:
Weighted average shares outstanding 3,771 3,761 3,757
Assumed exercise of options at strike price at
beginning of year -- 52 40
Assumed repurchase of options under treasury stock
method -- (39) (26)
-------------------------------
Diluted weighted average shares 3,771 3,774 3,771
-------------------------------
Diluted income (loss) per share - continuing operations $ (0.77) $ 2.57 $ 1.35
===============================
Recently Issued Accounting Standards:
In June 2001, the FASB issued SFAS No. 143, Accounting for Asset Retirement
Obligations. SFAS No. 143 requires the Company to record the fair value of an
asset retirement obligation as a liability in the period in which it incurs a
legal obligation associated with the retirement of tangible long-lived assets
that result from acquisition, construction, development and/or normal use of the
assets. The Company also records a corresponding asset, which is depreciated
over the life of the asset. Subsequent to the initial measurement of the asset
retirement obligation, the obligation will be adjusted at the end of each period
to reflect the passage of time and changes in the estimated future cash flows
underlying the obligation. The Company is required to adopt SFAS No. 143 on
January 1, 2003. The Company is currently evaluating the effect the new standard
may have on its results of operations and financial position, which will be
reflected in the Company's filing for the first quarter of 2003.
- 21 -
Note 1. Summary of Significant Accounting Policies (Continued)
In August 2001, the FASB issued SFAS No. 144, Accounting for the Impairment or
Disposal of Long-Lived Assets. SFAS No. 144 addresses financial accounting and
reporting for the impairment or disposal of long-lived assets. This Statement
requires that long-lived assets be reviewed for impairment whenever events or
changes in circumstances indicate that the carrying amount of an asset may not
be recoverable. Recoverability of assets to be held and used is measured by a
comparison of the carrying amount of an asset to future net cash flows expected
to be generated by the asset. If the carrying amount of an asset exceeds its
estimated future cash flows, an impairment charge is recognized by the amount by
which the carrying amount of the asset exceeds the fair value of the asset. SFAS
No. 144 requires companies to separately report discontinued operations and
extends that reporting to a component of an entity that either has been disposed
of (by sale, abandonment, or in a distribution to owners) or is classified as
held for sale. Assets to be disposed of are reported at the lower of carrying
amount or fair value less costs of sale. The Company was required to adopt SFAS
No. 144 on January 1, 2002. The adoption of SFAS No. 144 resulted in the
classification of certain assets as held-for-sale, and the presentation of
discontinued operations for all periods presented (Note 2).
In November 2001, the Emerging Issues Task Force (EITF) of the FASB issued EITF
01-9 Accounting for Consideration Given by a Vendor to a Subscriber (Including a
Reseller of the Vendor's Products). EITF 01-9 provides guidance on when a sales
incentive or other consideration given should be a reduction of revenue or an
expense and the timing of such recognition. The guidance provided in EITF 01-9
is effective for financial statements for interim or annual periods beginning
after December 15, 2001. The Company occasionally offers rebates to subscribers
that purchase wireless handsets in its retail stores. The Company's historical
policy regarding the recognition of these rebates in the consolidated statement
of operations is a reduction in the revenue recognized on the sale of the
wireless handset by an estimate of the amount of rebates expected to be
redeemed. The Company's existing policy was in accordance with the guidance set
forth in EITF 01-9. Therefore, the adoption of EITF 01-9 by the Company on
January 1, 2002 did not have a material impact on the Company's financial
statements.
In April 2002, the FASB issued SFAS No. 145, Rescission of FASB Statements No.
4, 44, and 64, Amendment of FASB Statement No. 13, and Technical Corrections.
Among other things, this statement rescinds FASB Statement No. 4, Reporting
Gains and Losses from Extinguishment of Debt which required all gains and losses
from extinguishment of debt to be aggregated and, if material, classified as an
extraordinary item, net of related income tax effect. As a result, the criteria
in APB Opinion No. 30, Reporting the Results of Operations -- Reporting the
Effects of Disposal of a Segment of a Business, and Extraordinary, Unusual and
Infrequently Occurring Events and Transactions, will now be used to classify
those gains and losses. The adoption of SFAS No. 145 by the Company on January
1, 2003 is not expected to have a material impact on the Company's financial
position, results of operations or cash flows.
In July 2002, the FASB issued SFAS No. 146, Accounting for Costs Associated with
Exit or Disposal Activities. SFAS No. 146 provides new guidance on the
recognition of costs associated with exit or disposal activities. The standard
requires companies to recognize costs associated with exit or disposal
activities when they are incurred rather than at the date of commitment to an
exit or disposal plan. SFAS No. 146 supercedes previous accounting guidance
provided by EITF Issue No. 94-3 Liability Recognition for Certain Employee
Termination Benefits and Other Costs to Exit an Activity (including Certain
Costs Incurred in a Restructuring). EITF Issue No. 94-3 required recognition of
costs at the date of commitment to an exit or disposal plan. SFAS No. 146 is to
be applied prospectively to exit or disposal activities initiated after December
31, 2002. The adoption of SFAS No. 146 by the Company on January 1, 2003 is not
expected to have a material impact on the Company's financial position, results
of operations or cash flows as the Company has not recorded any significant
restructurings in past periods, but the adoption may impact the timing of
charges in future periods.
EITF 00-21, Revenue Arrangements with Multiple Deliverables was issued in
November 2002. The issue surrounds multiple revenue streams from one transaction
with multiple deliverables. The Company has this situation in its PCS operation
as it relates to the sales of handsets and providing the related phone service.
The Company recognizes the handset sale and providing the ongoing service to the
subscriber as two separate transactions. This approach is consistent with the
provisions of EITF 00-21, and adoption is not expected to have a material impact
on the Company's financial statements.
In December 2002, the FASB issued SFAS No. 148 Accounting for Stock-Based
Compensation-Transition and Disclosure-an amendment of FASB Statement No. 123.
SFAS No. 148 provides alternative methods of transition for a voluntary change
to the fair value based method of accounting for stock-based employee
compensation from the intrinsic value-based method of accounting prescribed by
APB Opinion No. 25, Accounting for Stock Issued to Employees. As allowed by
SFAS No. 123,
- 22 -
Note 1. Summary of Significant Accounting Policies (Continued)
the Company has elected to continue to apply the intrinsic value-based
method of accounting, and has adopted the disclosure requirements of SFAS No.
123 and SFAS No. 148.
Reclassifications: Certain amounts reported in the 2001 and 2000 financial
statements have been reclassified to conform with the 2002 presentation, with no
effect on net income or shareholders' equity.
Note 2. Discontinued Operations and Subsequent Event
In November 2002, the Company entered into an agreement to sell its 66% General
Partner interest in the Virginia 10 RSA Limited Partnership (cellular operation)
to Verizon Wireless for $37.0 million. The closing of the sale took place at the
close of business on February 28, 2003. The total proceeds received were $38.7
million, including $5.0 million held in escrow, and a $1.7 million adjustment
for estimated working capital at the time of closing. There will be a post
closing adjustment based on the actual working capital balance as of the closing
date. The $5.0 million escrow was established for any contingencies and
indemnification issues that may arise during the two year post-closing period.
The Company's net after tax gain on the total transaction will be approximately
$22 million.
Post closing, the Company will provide transition services to Verizon for a
period of approximately three months, with compensation for those services being
approximately $40 thousand per month during the transition period.
The assets and liabilities attributable to the cellular operation have been
classified as held for sale in the consolidated balance sheets and consist of
the following at December 31, 2002, 2001 and 2000:
2002 2001 2000
--------------------------
Assets (in thousands)
Accounts receivable $2,608 $2,759 $2,120
Other current assets 309 214 825
Property, plant and equipment, (net) 2,631 3,272 3,420
------ ------ ------
Total assets $5,548 $6,245 $6,365
==========================
Liabilities and minority interest
Accounts payable and accrued expenses $ 381 $ 499 $ 928
Deferred revenue and deposits 161 236 284
Minority interest 1,666 1,838 1,715
------ ------ ------
Total liabilities and minority interest $2,208 $2,573 $2,927
==========================
The operations of the cellular partnership including the minority interest hav
been reclassified as discontinued operations, net of taxes in the consolidated
statements of income for all periods presented. Operating results of
discontinued operations are summarized as follows:
2002 2001 2000
-----------------------------
(in thousands)
Revenues $20,895 $20,012 $16,053
Operating expenses 3,618 4,674 5,244
Other income 3 16 53
------- ------- -------
Income before minority interest and taxes 17,280 15,354 10,862
Minority interests 5,200 4,526 3,079
Taxes 4,668 4,150 3,019
------- ------- -------
Net income $ 7,412 $ 6,678 $ 4,764
=============================
- 23 -
Note 3. Securities and Investments
Available-for-sale securities at December 31 consist of the following:
Gross Gross
Unrealized Unrealized
Holding Holding Fair
Cost Gains Losses Value
----------------------------------------
(in thousands)
2002
- -------------------------------------------------------------------------------
Deutsche Telekom, AG $ 85 $ 20 $ -- $ 105
Other 73 -- 27 46
----------------------------------------
$ 158 $ 20 $ 27 $ 151
========================================
2001
- -------------------------------------------------------------------------------
VeriSign, Inc. $11,798 $ -- $ -- $11,798
Deutsche Telekom, AG 85 10 -- 95
Other 74 58 -- 132
----------------------------------------
$11,957 $ 68 $ -- $12,025
========================================
2000
- -------------------------------------------------------------------------------
Loral Space and Communications, LTD $ 885 $ -- $ 406 $ 479
Illuminet Holdings, Inc. 844 9,783 -- 10,627
ITC^DeltaCom, Inc. 715 -- 381 334
Other 174 157 -- 331
----------------------------------------
$ 2,618 $9,940 $ 787 $11,771
========================================
During 2001, the Company liquidated its holdings of Loral Space and
Communications, LTD and ITC^DeltaCom, Inc. for proceeds of $0.2 million and a
realized loss of $1.4 million. Additionally, the Company sold 130,000 shares of
Illuminet Holdings, Inc. (Illuminet) for proceeds of $5.3 million and a realized
gain of $5.0 million. In September 2001, the Company was notified by Illuminet
that VeriSign, Inc. (VeriSign) made an offer to acquire Illuminet. The Company
decided to accept the VeriSign stock for the Illuminet investment. The Company
received VeriSign stock valued at $13.2 million, and based on the fair value of
the new asset received, recorded a realized gain of $12.7 million on the
transaction through net gain on investments in the other income (expense)
section of the income statement. Subsequent to the close of the transaction, the
VeriSign stock declined in value and the Company recognized an impairment of
$1.5 million, as management viewed the decline to be other than temporary.
In 2002, the Company liquidated its holdings of VeriSign, Inc, for proceeds of
$2.8 million and a realized loss of $9.0 million. The VeriSign stock was valued
at $38 per share at December 31, 2001, and declined over the ensuing months to
approximately $6 per share in early July 2002. The Company liquidated all of its
holdings in the stock early in the third quarter 2002. The original investment
in VeriSign's predecessor companies was approximately $1.0 million. Total
proceeds from all sales of stock in VeriSign and its predecessor companies were
$8.1 million, or more than eight times the original investment.
There were no gross realized gains on available-for-sale securities included in
income in 2002, while there were $17.7 million for 2001, and none in 2000. Gross
realized losses included in income in 2002, 2001 and 2000 were $9.0 million,
$3.0 million, $0.7 million, respectively.
Changes in the unrealized gains (losses) on available-for-sale securities during
the years ended December 31, 2002, 2001, and 2000 reported as a separate
component of shareholders' equity are as follows:
- 24 -
Note 3. Securities and Investments (Continued)
2002 2001 2000
-----------------------------------------
(in thousands)
Beginning Balance .. $ 68 $ 9,153 $ 27,524
Unrealized holding gains (losses) during the year, net . (75) 5,615 (19,118)
Reclassification of recognized (gain) losses
during the year, net -- (14,700) 747
-----------------------------------------
(7) 68 9,153
Deferred tax effect related to net unrealized gains (3) 26 3,508
-----------------------------------------
Ending Balance $ (4) $ 42 $ 5,645
=========================================
As of December 31, other investments, comprised of equity securities which do
not have readily determinable fair values, consist of the following:
2002 2001 2000
-----------------------------------------
(in thousands)
Cost method:
Rural Telephone Bank 796 796 771
NECA Services, Inc. 500 500 500
CoBank 1,126 768 411
Concept Five Technologies -- -- 635
NTC Communications (equity method in 2002) -- 500 --
Other 241 254 283
-----------------------------------------
2,663 2,818 2,600
-----------------------------------------
Equity method:
South Atlantic Venture Fund III L.P. 263 393 749
South Atlantic Private Equity Fund IV L.P. 707 891 1,140
Dolphin Communications Parallel Fund, L.P. 273 441 844
Dolphin Communications Fund II, L.P. 1,024 518 318
Burton Partnership 988 970 1,000
NTC Communications (cost method in 2001) 1,089 -- --
Virginia Independent Telephone Alliance 248 400 326
ValleyNet 17 7 19
-----------------------------------------
4,609 3,620 4,396
-----------------------------------------
$ 7,272 $ 6,438 $ 6,996
=========================================
The Company's investment in CoBank increased $358 thousand due to the ongoing
patronage earned from the outstanding investment and loan balances the Company
has with CoBank. During 2002, the Company invested an additional $760 thousand
in NTC Communications. NTC provides telecommunications facilities and services
to student housing facilities near college and university campuses. This
incremental investment allowed the Company to gain a seat on the NTC
Communications Board of Directors. With the additional investment and the Board
seat, the Company reclassified its investment in NTC as an equity investment in
2002. Ownership in NTC Communications is approximately 18%. Profits and losses
are recorded as adjustments to the carrying balance of the investment and
reflect the original investment plus the Company's ratable portion of NTC
Communication's profits and losses. For 2002, the Company's allocated portion of
losses recorded on the NTC investment was $171 thousand.
In 2002, the Company invested $0.9 million in other equity investments,
primarily Dolphin Communications Parallel Fund, LP and Dolphin Communications
Fund II, LP. These two investments resulted in losses of approximately $1.0
million. The Company received a distribution from its Virginia Independent
Telephone Alliance of $72 thousand and also recorded a loss of $80 thousand for
the year. The Company recorded a gain from the ValleyNet partnership of $118
thousand and received distributions of $108 thousand. Other equity investments
lost an additional $0.3 million for 2002.
- 25 -
Note 3. Securities and Investments (Continued)
The Company has committed to invest an additional $3.5 million in various equity
method investees pursuant to capital calls from the fund managers. It is not
practical to estimate the fair value of the other investments due to their
limited market and restrictive nature of their transferability.
The Company's ownership interests in Virginia Independent Telephone Alliance and
ValleyNet are approximately 22% and 20%, respectively. The Company purchases
services from Virginia Independent Telephone Alliance and ValleyNet at rates
comparable with other customers. Other equity method investees are investment
limited partnerships which are approximately 2% owned each.
Note 4. Plant in Service
Plant in service consists of the following at December 31:
Estimated
Useful Lives 2002 2001 2000
-----------------------------------------------------------
(in thousands)
Land $ 792 $ 775 $ 757
Buildings and structures 15 - 40 years 28,949 20,375 18,878
Cable and wire 15 - 50 years 49,495 45,188 41,668
Equipment and software 5 - 16.6 years 104,833 88,007 55,875
------------------------------------------
$ 184,069 $ 154,345 $ 117,178
==========================================
Note 5. Long-Term Debt and Revolving Lines of Credit
Total debt consists of the following at December 31:
Weighted
Average
Interest Rate 2002 2001 2000
-----------------------------------------------------------
(in thousands)
Rural Telephone Bank (RTB) Fixed 6.74% $ 10,645 $ 11,428 $11,634
Rural Utilities Service (RUS) Fixed 4.17% 159 224 295
CoBank (term portion) Fixed 7.58% 41,039 44,584 23,637
CoBank multi-year (revolver) Variable 5.14% - 7.75% -- -- 19,721
RUS Development Loan interest free 200 200 200
-----------------------------------------
52,043 56,436 55,487
Current maturities 4,482 4,387 2,403
-----------------------------------------
Total long-term debt $ 47,561 $ 52,049 $53,084
=========================================
CoBank 1-year revolver Variable 2.79% - 5.03% $ 3,200 $ 6,200 $ --
SunTrust Bank revolver Variable 2.05% - 2.53% 303 -- --
=========================================
The RTB loans are payable $70 thousand monthly and $225 thousand quarterly,
including interest. RUS loans are payable $24 thousand monthly, including
interest. The RUS and RTB loan facilities have maturities through 2019. The
CoBank term facility requires monthly payments of $600 thousand, including
interest. The final maturity of the CoBank facility is 2013.
The CoBank revolver is a $20.0 million facility expiring November 1, 2003, with
interest due monthly. At December 31, 2002 the balance outstanding was $3.2
million, with $16.8 million available on the facility. The Company is required
to pay a commitment fee of 12.5 basis points (annual rate) multiplied by the
unused balance of the facility at each month end. The Company will evaluate its
capital needs prior to the November 1, 2003 maturity date of the CoBank
facility. The SunTrust Bank Revolver is a $2.5 million facility the Company uses
to fund short-term liquidity variations due to the timing of customer receipts
and vendor payments for services. This facility matures May 31, 2003, and the
Company plans to renew this revolver prior to its maturity date, with a facility
of similar terms.
- 26 -
Note 5. Long-Term Debt and Revolving Lines of Credit (Continued)
The aggregate maturities of long-term debt for each of the five years subsequent
to December 31, 2002 are as follows:
Year Amount
---- ----------
(in thousands)
2003 $ 4,482
2004 4,642
2005 4,816
2006 5,006
2007 5,203
Later years 27,894
----------
$ 52,043
==========
Substantially all of the Company's assets serve as collateral for the long-term
debt. The long-term debt agreements have certain financial and capital measures
that the Company must maintain. These requirements include maintenance of
defined working capital levels, restrictions on dividends and capital stock
repurchases. The covenants also require the Company to maintain certain levels
of debt service coverage to be in compliance with the loan agreements. The
Company was in compliance with all financial requirements of the loan agreements
as of December 31, 2002.
The estimated fair value of fixed rate debt instruments as of December 31, 2002
and 2001 was $51.1 million and $57.1 million, respectively, determined by
discounting the future cash flows of each instrument at rates offered for
similar debt instruments of comparable maturities as of the respective year-end
dates.
All other financial instruments presented on the consolidated balance sheets
approximate fair value. They include cash and cash equivalents, receivables,
investments, payables, and accrued liabilities.
Note 6. Income Taxes
Total income taxes for the years ended December 31, 2002, 2001 and 2000 were
allocated as follows:
2002 2001 2000
--------------------------------
(in thousands)
Income tax provision (benefit) from continuing operations $ (2,109) $ 5,811 $2,975
Income taxes on discontinued operations 4,668 4,150 3,019
Accumulated other comprehensive income for unrealized
holding gains (losses) on equity securities (29) (3,482) (6,974)
--------------------------------
$ 2,530 $ 6,479 $ (980)
================================
The Company and its subsidiaries file income tax returns in several
jurisdictions. The provision for the federal and state income taxes attributable
to income (loss) from continuing operations consists of the following
components:
Years Ended December 31,
----------------------------------
2002 2001 2000
----------------------------------
(in thousands)
Current provision (benefit)
Federal taxes $(2,076) $(2,382) $2,381
State taxes (212) (514) 420
----------------------------------
Total current provision (2,288) (2,896) 2,801
Deferred provision
Federal taxes 592 7,330 144
State taxes (413) 1,377 30
----------------------------------
Total deferred provision 179 8,707 174
----------------------------------
Income tax provision $(2,109) $ 5,811 $2,975
==================================
- 27 -
Note 6. Income Taxes (Continued)
A reconciliation of income taxes determined by applying the Federal and state
tax rates to income (loss) from continuing operations is as follows:
Years Ended December 31,
--------------------------------
2002 2001 2000
--------------------------------
(in thousands)
Computed "expected" tax expense $ (1,701) $ 5,271 $ 2,742
State income taxes, net of federal tax effect (460) 575 153
Other, net 52 (35) 80
--------------------------------
Income tax provision $ (2,109) $ 5,811 $ 2,975
================================
Net deferred tax assets and liabilities consist of the following at December 31:
2002 2001 2000
--------------------------------
Deferred tax assets: (in thousands)
Allowance for doubtful accounts $ 370 $ 247 $ 124
Accrued compensation costs 181 149 126
State net operating losses 1,425 -- --
Recognized investment losses including impairments 593 -- 658
Deferred revenues 338 179 42
AMT credits 285 -- --
Accrued pension costs 395 397 367
Other, net 23 -- 59
--------------------------------
Total gross deferred tax assets 3,610 972 1,376
Less valuation allowance 704 -- --
--------------------------------
Net deferred tax assets 2,906 972 1,376
--------------------------------
Deferred tax liabilities:
Plant-in-service 17,568 11,313 7,086
Unrealized gain on investments -- 26 3,508
Gain on investments, net -- 4,035 --
--------------------------------
Total gross deferred tax liabilities 17,568 15,374 10,594
--------------------------------
Net deferred tax liabilities $ 14,662 $ 14,402 $ 9,218
================================
In assessing the ability to realize 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 generating 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. Based upon the level of
historical taxable income and projections for future taxable income over the
periods which the deferred tax assets are deductible, management believes it
more likely than not that the Company will realize the benefits of the
deductible differences that are not reserved by the valuation allowance, which
increased by $704 thousand in 2002. The Company has generated Net Operating Loss
(NOL) carry forwards of approximately $23.5 million from its PCS operations. The
carry forwards expire at varying dates beginning in 2005. The Company has
provided a valuation allowance to offset a portion of the NOL carry forwards in
2002 totaling $704 thousand.
- 28 -
Note 7. Significant Contractual Relationship
In 1999, the Company executed a Management Agreement (the Agreement) with Sprint
whereby the Company committed to construct and operate a PCS network using CDMA
air interface technology, replacing an earlier PCS network based on GSM
technology. Under this Agreement, the Company is the exclusive PCS Affiliate of
Sprint providing wireless mobility communications network products and services
in its territory which extends from Altoona, York and Harrisburg, Pennsylvania,
and south along the Interstate 81 corridor through Western Maryland, the
panhandle of West Virginia, to Harrisonburg, Virginia. The Company is authorized
to use the Sprint brand name in its territory, and operate its network under the
Sprint radio spectrum license.
As a PCS Affiliate of Sprint, the Company has the exclusive right to build, own
and maintain its portion of Sprint's nationwide PCS network, in the
aforementioned areas, to Sprint's specifications. The initial term of the
Agreement is for 20 years and is automatically renewable for three 10-year
options, unless terminated by either party under provisions outlined in the
Agreement.
The wireless market is characterized by significant risks as a result of rapid
changes in technology, increasing competition and the cost associated with the
build-out and enhancement of Sprint's nationwide digital wireless network.
Sprint provides back-office and other services including travel clearing-house
functions to the Company. There is no prescribed formula in the agreements with
Sprint for the cost of these services and Sprint may adjust these expenses at
least annually. These expenses accounted for more than 37% of the PCS operating
expenses in 2002 and 39% in 2001. The Company's PCS subsidiary is dependent upon
Sprint's ability to execute certain functions such as billing, customer care,
collections and other operating activities under the Company's agreements with
Sprint. Due to the high degree of integration within many of the Sprint systems,
and the Company's dependency on these systems, in many cases it would be
difficult for the Company to perform these services in-house or to outsource
with another provider. If Sprint was unable to perform any such service, the
change could result in increased operating expenses and have an adverse impact
on the Company's operating results and cash flow. Additionally, the Company's
ability to attract and maintain a sufficient customer base is critical to
maintaining a positive cash flow from operations and ultimately profitability
for our PCS operation. Changes in technology, increased competition, or economic
conditions, individually and/or collectively, could have an adverse effect on
the Company's financial position and results of operations.
Sprint retains 8% of all collected service revenue from subscribers with their
service home in the Company's territory, and 8% of the roaming revenue generated
by non-Sprint wireless subscribers who use the Company's network.
The Company receives and pays travel fees for inter-market usage of the network
by Sprint wireless subscribers not homed in a market in which they may use the
service. Sprint and its PCS Affiliates pay the Company for the use of its
network by their wireless subscribers, while the Company pays Sprint and its PCS
Affiliates reciprocal fees for Company subscribers using other segments of the
network not operated by the Company. The rates paid on inter-market travel were
reduced during 2001 from $0.20 per minute through April 30, 2001, $0.15 through
September 30, 2001, and $0.12 through December 31, 2001 to $0.10 per minute as
of January 1, 2002. The $0.10 rate was in effect for the full year of 2002, and
the 2003 rate was set at $0.058 cents per minute. Travel rates beyond 2003 have
yet to be determined.
As part of the Agreement executed in 1999, the Company received $3.9 million
from Sprint as an advance payment for the Company's expenditures in building the
initial CDMA network. These funds were recorded as a refundable equipment
payment to be repaid following the sale of the Company's original GSM PCS
network assets. In 2001, the Company sold its GSM network assets for $6.5
million, which equaled the carrying value of the assets. The transaction
included the GSM equipment and the radio spectrum licenses for two areas in the
western part of Virginia. As a result of the sale of the assets, and per the
Agreement, the Company refunded the $3.9 million payment to Sprint in early
2001.
Note 8. Related Party Transactions
ValleyNet, an equity method investee of the Company, resells capacity on the
Company's fiber network under an operating lease agreement. Facility lease
revenue from ValleyNet was approximately $3.5 million, $4.1 million, and $3.1
million in 2002, 2001, and 2000, respectively. At December 31, 2002, 2001 and
2000, the Company had accounts receivable from ValleyNet of approximately $0.4
million, $0.4 million and $0.8 million, respectively. The Company's PCS
operating subsidiary leases capacity through ValleyNet fiber facilities. Payment
for usage of these facilities was $1.2 million in 2002 and 2001,and $0.7 million
in 2000.
- 29 -
Note 9. Retirement Plans
The Company maintains a noncontributory defined benefit pension plan and a
separate defined contribution plan. The following table presents the defined
benefit plan's funded status and amounts recognized in the Company's
consolidated balance sheets.
2002 2001 2000
-----------------------------
Change in benefit obligation: (in thousands)
Benefit obligation, beginning $ 8,538 $ 6,847 $ 6,004
Service cost 420 313 277
Interest cost 591 507 460
Actuarial (gain) loss 252 1,054 95
Benefits paid (216) (183) (160)
Change in plan provisions -- -- 171
-----------------------------
Benefit obligation, ending 9,585 8,538 6,847
-----------------------------
Change in plan assets:
Fair value of plan assets, beginning 7,375 8,081 7,967
Actual return on plan assets (794) (523) 274
Benefits paid (216) (183) (160)
Contributions made 340 -- --
-----------------------------
Fair value of plan assets, ending 6,705 7,375 8,081
-----------------------------
Funded status (2,880) (1,163) 1,234
Unrecognized net (gain) loss 1,505 (124) (2,442)
Unrecognized prior service cost 283 315 346
Unrecognized net transition asset (38) (67) (96)
-----------------------------
Accrued benefit cost $(1,130) $(1,039) $ (958)
=============================
Components of net periodic benefit costs:
Service cost $ 420 $ 313 $ 277
Interest cost 591 507 460
Expected return on plan assets (582) (640) (632)
Amortization of prior service costs 31 31 21
Amortization of net gain -- (102) (140)
Amortization of net transition asset (29) (29) (29)
-----------------------------
Net periodic benefit cost $ 431 $ 80 $ (43)
=============================
Weighted average assumptions used by the Company in the determination of pension
plan information consisted of the following at December 31:
2002 2001 2000
---------------------
Discount rate 6.50% 7.00% 7.50%
Rate of increase in compensation levels 4.50% 5.00% 5.00%
Expected long-term rate of return on plan assets 8.00% 8.00% 8.00%
The Company's matching contributions to the defined contribution plan were
approximately $210 thousand, $182 thousand and $162 thousand for the years ended
December 31, 2002, 2001 and 2000, respectively.
- 30 -
Note 10. Stock Incentive Plan
The Company has a shareholder approved Company Stock Incentive Plan (the
"Plan"), providing for the grant of incentive compensation to employees in the
form of stock options. The Plan authorizes grants of options to purchase up to
240,000 shares of common stock over a ten-year period beginning in 1997. The
option price is the current market price at the time of the grant. Grants have
been made in which one-half of the options are exercisable on each of the first
and second anniversaries of the date of grant, with the options expiring five
years after they are granted.
The fair value of each grant is estimated at the grant date using the
Black-Scholes option-pricing model with the following weighted average
assumptions:
2002 2001 2000
-----------------------------------
Dividend rate 1.52% 1.78% 2.05%
Risk-free interest rate 4.24% 4.31% 6.81%
Expected lives of options 5 years 5 years 5 years
Price volatility 30.03% 38.29% 52.51%
A summary of the status of the Plan at December 31, 2002, 2001 and 2000 and
changes during the years ended on those dates is as follows:
Weighted
Average Grant Fair Value
Shares Price Per Share Per Share
------------------------------------
Outstanding January 1, 2000 44,057 $20.73
Granted 19,191 34.37 15.91
Cancelled (1,160) 28.74
Exercised (3,527) 21.47
------
Outstanding December 31, 2000 58,561 25.00
Granted 19,969 31.58 11.01
Cancelled (3,290) 29.72
Exercised (6,213) 21.43
------
Outstanding December 31, 2001 69,027 27.01
Granted 23,823 35.18 8.15
Cancelled (9,879) 27.90
Exercised (8,119) 22.53
------
Outstanding December 31, 2002 74,852 29.98
======
There were 45,829, 41,731 and 31,945 shares exercisable at December 31, 2002,
2001 and 2000, at weighted average exercise prices per share of $27.39, $23.43,
and $20.88, respectively. During 2002, the Company issued 2,327 shares of
Company stock to employees valued at $100 thousand in recognition of the
Company's 100th year anniversary.
The following table summarizes information about stock options outstanding at
December 31, 2002:
Exercise Shares Option Life Shares
Prices Outstanding Remaining Exercisable
------------------------------------------------------
$ 20.59 7,814 1 year 7,814
19.94 12,965 2 years 12,965
34.37 16,062 3 years 16,062
31.58 17,976 4 years 8,988
35.18 20,035 5 years --
- 31 -
Note 11. Major Customers
The Company has several major customers and relationships that are significant
sources of revenue. During 2002, the Company's relationship with Sprint
continued to increase, due to growth in the PCS business segment. Approximately
57.6% of total revenues in 2002 were generated by or through Sprint and its
customers using the Company's portion of Sprint's nationwide PCS network. This
was compared to 47.1% in 2001, and 33.4% of total revenue in 2000.
Note 12. Shareholder Rights
The Board of Directors adopted a Shareholder Rights Plan in 1998, whereby, under
certain circumstances, holders of each right (granted in 1998 at one right per
share of outstanding stock) will be entitled to purchase $80 worth of the
Company's common stock for $40. The rights are neither exercisable nor traded
separately from the Company's common stock. The rights are only exercisable if a
person or group becomes or attempts to become, the beneficial owner of 15% or
more of the Company's common stock. Under the terms of the Plan, such a person
or group is not entitled to the benefits of the rights.
Note 13. Lease Commitments
The Company leases land, buildings and tower space under various non-cancelable
agreements, which expire between 2003 and 2007 and require various minimum
annual rental payments. The leases generally contain certain renewal options for
periods ranging from 5 to 20 years.
Future minimum lease payments under non-cancelable operating leases with initial
variable lease terms in excess of one year as of December 31, 2002 are as
follows:
Year
Ending Amount
------------------------------
(in thousands)
2003 $ 2,603
2004 2,318
2005 1,863
2006 1,431
2007 987
-----------
$ 9,202
===========
The Company's total rent expense from continuing operations for each of the
previous three years was $3.4 million in 2002, $2.4 million in 2001 and $1.1
million in 2000.
As lessor, the Company has leased buildings, tower space and telecommunications
equipment to other entities under various non-cancelable agreements, which
require various minimum annual payments. The total minimum rental receipts at
December 31, 2002 are as follows:
Year
Ending Amount
------------------------------
(in thousands)
2003 $ 2,308
2004 2,217
2005 1,968
2006 911
2007 528
-----------
$ 7,932
===========
- 32 -
Note 14. Segment Reporting
The Company, as a holding company with various operating subsidiaries, has
identified ten reporting segments based on the products and services each
provides. Each segment is managed and evaluated separately because of differing
technologies and marketing strategies.
The reporting segments and the nature of their activities are as follows:
Shenandoah Telecommunications Company (Holding) Holding company which
invests in both affiliated
and non-affiliated
companies.
Shenandoah Telephone Company (Telephone) Provides both regulated and
unregulated telephone
services and leases fiber
optic facilities primarily
throughout the Northern
Shenandoah Valley.
Shenandoah Cable Television Company (CATV) Provides cable television
service in Shenandoah
County.
ShenTel Service Company (ShenTel) Sells and services
telecommunications
equipment, provides online
information services and
Internet access to customers
in the multistate region
surrounding the Northern
Shenandoah Valley.
Shenandoah Valley Leasing Company (Leasing) Finances purchases of
telecommunications equipment
to customers of other
segments.
Shenandoah Mobile Company (Mobile) Provides paging services
throughout the Northern
Shenandoah Valley, and tower
rental in the PCS territory.
Shenandoah Long Distance Company (Long Distance) Provides long distance
services.
Shenandoah Network Company (Network) Leases interstate fiber
optic facilities.
ShenTel Communications Company (Shen Comm) Provides DSL services as a
CLEC operation.
Shenandoah Personal Communications Company (PCS) As a PCS Affiliate of
Sprint, provides digital
wireless service to a
four-state area covering the
region from Harrisburg and
Altoona, Pennsylvania, to
Harrisonburg, Virginia.
The accounting policies of the segments are the same as those described in the
summary of significant accounting policies. Each segment accounts for
inter-segment sales and transfers as if the sales or transfers were to outside
parties.
Income (loss) recognized from equity method nonaffiliated investees by segment
is as follows:
Consolidated
Year Holding Telephone Mobile Totals
--------------------------------------------------------------------------
(in thousands)
2002 $ (822) $ 45 $ -- $ (777)
2001 (1,218) 104 -- (1,114)
2000 554 126 87 767
- 33 -
Note 14. Segment Reporting (Continued)
Selected financial data for each segment is as follows:
Holding Telco CATV ShenTel Leasing
---------------------------------------------------------------------
(in thousands)
Operating revenues - external:
2002 $ -- $ 22,461 $ 4,341 $ 6,312 $ 20
2001 -- 21,599 3,792 5,078 25
2000 -- 19,146 3,620 5,017 18
=====================================================================
Operating revenues - internal:
2002 $ -- $ 2,888 $ 5 $ 349 $ --
2001 -- 2,532 2 362 --
2000 -- 2,362 2 220 --
=====================================================================
Depreciation and amortization:
2002 $ 196 $ 3,798 $ 718 $ 414 $ --
2001 196 3,609 1,354 472 --
2000 196 3,296 1,009 473 --
=====================================================================
Operating income (loss):
2002 $ (555) $ 11,908 $ 1,145 $ 776 $ 11
2001 (504) 12,321 54 168 10
2000 (495) 10,336 424 100 6
=====================================================================
Non-operating income less expenses:
2002 $ 4,966 $ (474) $ (23) $ (93) $ 1
2001 3,804 646 (184) (36) 1
2000 1,385 2,209 (14) (15) 3
=====================================================================
Interest expense:
2002 $ 3,540 $ 662 $ 583 $ 165 $ --
2001 2,664 1,428 690 237 --
2000 503 2,602 705 287 --
=====================================================================
Income tax expense (benefit) from continuing operations:
2002 $ (3,363) $ 3,237 $ 198 $ 191 $ 5
2001 5,117 4,373 (312) (32) 4
2000 (374) 3,523 (126) (76) (4)
=====================================================================
Income (loss) from continuing operations:
2002 $ (5,771) $ 7,536 $ 341 $ 327 $ 8
2001 8,463 7,167 (509) (73) 7
2000 (521) 6,420 (169) (127) 13
=====================================================================
Income from discontinued operations, net of taxes:
2002 $ -- $ 72 $ 2 $ -- $ --
2001 -- 72 2 -- --
2000 -- 71 2 -- --
=====================================================================
Net Income (loss)
2002 $ (5,771) $ 7,608 $ 343 $ 327 $ 8
2001 8,463 7,239 (507) (73) 7
2000 (521) 6,491 (167) (127) 13
=====================================================================
Total assets:
2002 $ 112,765 $ 59,554 $ 10,961 $ 6,255 $ 187
2001 114,280 56,090 11,480 5,373 254
2000 66,597 78,333 12,193 5,083 300
=====================================================================
- 34 -
Long Shen Combined Eliminating Consolidated
Mobile Distance Network Comm PCS Totals Entries Totals
----------------------------------------------------------------------------------------------------------------
$ 2,399 $ 1,101 $ 835 $ 20 $ 55,468 $ 92,957 $ -- $ 92,957
2,112 1,114 963 -- 34,021 68,704 -- 68,704
1,018 1,079 635 -- 13,893 44,426 -- 44,426
================================================================================================================
$ 1,661 $ 643 $ 110 $ -- $ -- $ 5,656 $ (5,656) $ --
535 679 109 -- -- 4,219 (4,219) --
892 378 192 -- 30 4,076 (4,076) --
================================================================================================================
$ 581 $ -- $ 158 $ -- $ 8,617 $ 14,482 $ -- $ 14,482
527 -- 114 -- 4,991 11,263 -- 11,263
406 -- 148 -- 1,231 6,759 -- 6,759
================================================================================================================
$ 1,224 $ 695 $ 641 $ (49) $ (5,294) $ 10,502 $ (1,164) $ 9,338
(68) 585 823 -- (5,769) 7,620 (1,196) 6,424
(403) 270 561 -- (4,554) 6,245 (867) 5,378
================================================================================================================
$ 5 $ 4 $ 10 $ 8 $ (91) $ 4,313 $ (4,454) $ (141)
92 2 -- -- 50 4,375 (4,110) 265
99 2 6 -- (670) 3,005 (2,983) 22
================================================================================================================
$ 6 $ -- $ -- $ -- $ 3,693 $ 8,649 $ (4,454) $ 4,195
87 -- -- -- 3,131 8,237 (4,110) 4,127
71 -- -- -- 1,751 5,919 (2,983) 2,936
================================================================================================================
$ 790 $ 259 $ 249 $ (15) $ (3,660) $ (2,109) $ -- $ (2,109)
(514) 223 313 -- (3,361) 5,811 -- 5,811
2,418 104 228 -- (2,718) 2,975 -- 2,975
================================================================================================================
$ (734) $ 441 $ 401 $ (26) $ (5,416) $ (2,893) $ -- $ (2,893)
(746) 364 511 -- (5,490) 9,694 -- 9,694
3,226 169 339 -- (4,259) 5,091 -- 5,091
================================================================================================================
$ 7,468 $ -- $ -- $ -- $ -- $ 7,542 $ (130) $ 7,412
6,734 -- -- -- -- 6,808 (130) 6,678
4,820 -- -- -- -- 4,893 (129) 4,764
================================================================================================================
$ 6,734 $ 441 $ 401 $ (26) $ (5,416) $ 4,649 $ (130) $ 4,519
5,988 364 511 -- (5,490) 16,502 (130) 16,372
8,046 169 339 -- (4,259) 9,984 (129) 9,855
================================================================================================================
$ 17,482 $ 343 $ 1,084 $ 115 $ 71,256 $ 280,002 $(115,998) $ 164,004
17,981 176 1,109 100 62,661 269,504 (102,132) 167,372
18,433 238 1,199 -- 45,320 227,696 (75,111) 152,585
================================================================================================================
- 35 -
Note 15. Quarterly Results (unaudited)
The following table shows selected quarterly results for the Company.
(in thousands except for per share data)
For the year ended December 31, 2002 First Second Third Fourth Total
----------------------------------------------------------------------
Revenues $ 20,691 $ 22,182 $ 24,628 $ 25,456 $ 92,957
Operating income 2,316 2,617 2,371 2,034 9,338
Income (loss) from
Continuing operations 370 (3,984) 383 338 (2,893)
Income from Discontinued
operations, net of taxes 1,786 1,870 1,841 1,915 7,412
Net income (a) $ 2,156 $ (2,114) $ 2,224 $ 2,253 $ 4,519
Income (loss) per share -
Continuing operations -diluted $ 0.10 $ (1.05) $ 0.10 $ 0.08 $ (0.77)
Discontinued operations -diluted 0.47 0.49 0.49 0.52 1.97
Net income per share - basic $ 0.57 (0.56) $ 0.59 $ 0.60 $ 1.20
Net income per share - diluted 0.57 (0.56) 0.59 0.60 1.20
Closing Stock price High $ 40.11 54.50 $ 54.50 $ 51.90
Low 33.00 39.38 45.50 43.21
For the year ended December 31, 2001 First Second Third Fourth Total
----------------------------------------------------------------------
Revenues $ 13,681 $ 16,283 $ 19,055 $ 19,685 $ 68,704
Operating income 867 1,318 2,102 2,137 6,424
Income (loss) from
Continuing operations (855) 329 270 9,950 9,694
Income from Discontinued
operations, net of taxes 1,344 1,667 1,824 1,843 6,678
Net income (b) $ 489 $ 1,996 $ 2,094 $ 11,793 $ 16,372
Income (loss) per share -
Continuing operations -diluted $ (0.23) $ 0.09 $ 0.07 $ 2.63 $ 2.57
Discontinued operations -diluted 0.36 0.44 0.48 0.49 1.77
Net income per share - basic $ 0.13 $ 0.53 $ 0.56 $ 3.13 $ 4.35
Net income per share - diluted 0.13 0.53 0.55 3.12 4.34
Closing Stock price High $ 34.50 $ 31.50 $ 40.03 $ 40.90
Low 29.88 28.00 27.50 32.70
(a) Second quarter results of 2002 include the loss of $4.9 million, net of
tax effects on the other than temporary write-down of the VeriSign stock.
(b) Fourth quarter results of 2001 include the gain of $12.7 million before
taxes on the exchange of the Illuminet stock for VeriSign stock as a
result of their merger.
Per share earnings may not add to the full year values as each per share
calculation stands on its own.
- 36 -
Management's Discussion and Analysis of Financial Condition and Results of
Operations
The statements contained in this Annual Report that are not purely historical
are forward-looking statements within the meaning of Section 27A of the
Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934,
including statements regarding our expectations, hopes, intentions, or
strategies regarding the future. These statements are subject to certain risks
and uncertainties that could cause actual results to differ materially from
those anticipated in the forward-looking statements. Factors that might cause
such a difference include, but are not limited to, changes in the interest rate
environment, management's business strategy; national, regional and local market
conditions and legislative and regulatory conditions. Readers should not place
undue reliance on forward-looking statements, which reflect management's view
only as of the date hereof. The Company undertakes no obligation to publicly
revise these forward-looking statements to reflect subsequent events or
circumstances.
General
Shenandoah Telecommunications Company and subsidiaries (the Company) is a
diversified telecommunications company providing both regulated and unregulated
telecommunications services through its nine wholly owned subsidiaries. These
subsidiaries provide local exchange telephone services, wireless personal
communications services (PCS), as well as cable television, paging, Internet
access, long distance, fiber optics facilities, and leased tower facilities. The
Company is the exclusive provider of wireless mobility communications network
products and services under the Sprint brand from Harrisonburg, Virginia to
Harrisburg, York and Altoona, Pennsylvania. The Company refers to the
Hagerstown, Maryland; Martinsburg, West Virginia; and Harrisonburg and
Winchester, Virginia markets as its Quad State region. The Company refers to the
Altoona, Harrisburg, and York, Pennsylvania markets as its Central Penn region.
Competitive local exchange carrier (CLEC) services were established on a limited
basis during 2002. In addition, the Company sells and leases equipment, mainly
related to services it provides, and also participates in emerging services and
technologies by direct investment in non-affiliated companies. Prior to February
28, 2003, the Company was the General Partner of the Virginia 10 RSA Limited
Partnership. On February 28, 2003, the Company sold its 66% interest in the
partnership for $37.0 million in cash (of which $5.0 million was placed in
escrow), and therefore, the consolidated financial statements reflect the
previously consolidated partnership operation as discontinued operations for all
periods presented.
The Company reports revenues as wireline, wireless and other revenues. These
revenue classifications are defined as follows: Wireless revenues are made up of
the Personal Communications Company (a PCS Affiliate of Sprint), and the Mobile
Company. Wireline revenues include the following subsidiary revenues in the
financial results: Telephone Company, Network Company, Cable Television Company,
and the Long Distance Company. Other revenues are comprised of the revenues of
ShenTel Service Company, the Leasing Company, ShenTel Communications Company and
the Holding Company. For additional information on the Company's business
segments, see Note 14 to audited consolidated financial statements appearing
elsewhere in this report.
Over the past five years the Company has made significant investments in
upgrading and adding equipment to provide up-to-date services to its customers
in an increasingly dynamic and competitive telecommunications industry. The
Company's gross plant investment, inclusive of plant under construction,
increased from $88.7 million at year-end 1998 to $189.3 million at the end of
2002. This increase reflects the Company's continuing expansion of its
operations from its historical roots in Shenandoah County, Virginia to portions
of West Virginia, Maryland and Pennsylvania, principally along the Interstate 81
corridor. Recent expansion has been most extensive in the wireless operations of
the business, particularly within the PCS segment. Through this expansion, the
Company has completed its initial contractual obligations regarding its
territory build-out under its Sprint affiliation.
With the expansion and growth of the Company's wireless businesses through its
PCS operations, a smaller percentage of the Company's total revenue has been
generated by its wireline operations. In 1998, 76.6% of the Company's total
revenue was generated by the wireline operations, while in 2002, those
operations contributed only 30.9% of total revenue. This is due to the
significant growth in the PCS operation over the last 5 years. The Company
continued to expand its PCS operations with additional investments in 2002,
activating 31 base stations in the Central Penn region, and activating an
additional 22 base stations in the Quad State region. As a result of the
Company's continued marketing and sales efforts, the Company experienced
continued growth in PCS revenues and customers, and a continued shift in its
historical revenue mix. Revenue sources for 2002 were as follows: $57.9 million
or 62.3% from wireless revenues, $28.7 million or 30.9% from wireline revenues,
and $6.4 million or 6.8% from other revenue.
- 37 -
The Company's strategy is to continue to expand services and geographic coverage
areas where it is economically feasible. The expanded market area of the PCS
operation increased the Company's covered population from approximately 400
thousand persons in late 1999, to over 1.0 million as of mid-February 2001, and
approached 1.6 million as of December 31, 2002. As a PCS Affiliate of Sprint,
the Company markets a nationally branded service, which is accessible to all the
customers of Sprint and its PCS Affiliates that travel in the Company's network
area.
Recent Developments
The Company experienced numerous business challenges in 2002. Market, industry,
and regulatory changes had varying degrees of impact on the operating results of
the Company. The Company experienced record revenues of nearly $93.0 million,
but also had bad debt expenses of nearly $4.4 million, or a 234% increase over
the 2001 bad debt expense of $1.3 million.
The bad debt expense was generated in two areas of the Company's operation. The
most significant portion of the increase was due to the write-off of revenues
from subscribers added through the Clear Pay program, designed to attract credit
challenged customers to the PCS service. At the end of 2001, and during the
first four months of 2002, Clear Pay was available as a no-deposit service
offering, leading to elevated subscriber additions in that time period. However,
as the payment history of certain customers materialized, it became clear there
was a low probability of being paid for this service. The Clear Pay no-deposit
service offering was suspended in mid-April 2002, when a $125 deposit was
implemented. The Clear Pay no-deposit program created three significant impacts
for the Company in 2002. The first of these is customer counts. Gross subscriber
additions for 2002 were 44,229 compared to 35,098 in 2001, a 26.0% increase in
gross activations on a year-to-year comparison. Deactivations also changed
dramatically, increasing by 14,158 or 148% to 23,752, compared to 9,594
deactivations for 2001. The second impact was in cost of goods sold for the PCS
operation, which, due principally to the expense for handsets for additional
customers, increased by $2.7 million or 49.3% to $8.3 million. The third area of
impact for the PCS operation was bad debt expense. Generally, certain Clear Pay
no-deposit customers added prior to mid-April 2002 were deactivated in the
second quarter, while the unpaid balances on their account were not charged off
until the third quarter of 2002. The lag for the write-off is due to the
collections process that an account goes through before it is deemed
uncollectible and subsequently written off. This process took approximately 120
days after the subscriber's handset was deactivated.
The second source of the increase in bad debt expense was the bankruptcy filings
of several telecommunications companies that were customers of several of our
operating subsidiaries. These customers included MCI WorldCom, Global Crossing,
and Devon Communications Company. The total bad debt expense charged against
operations as a result of these companies' financial difficulties was $0.5
million. Future recoveries, if any, will be recognized as received.
During the most capital-intensive phase of the PCS network build-out, the
Company borrowed additional money to cover construction costs as well as
operating losses in the PCS subsidiary. During this time, total debt, including
current maturities of long-term debt, increased from $29.3 million at the end of
1998, to $62.6 million at the end of 2001. With the initial PCS build-out
complete, the Company's capital spending has been reduced, and total debt
decreased $7.1 million, to $55.5 million at year-end 2002.
The Company entered into an agreement with Verizon Wireless to sell the
Company's 66% ownership interest in the Virginia 10 RSA Limited partnership, of
which the Company was the General Partner. The partnership operates an analog
cellular network in the six county area of Northwestern Virginia, including
Clarke, Frederick, Page, Rappahannock, Shenandoah, and Warren counties, and the
city of Winchester. The agreement was executed on November 21, 2002 and the
closing occurred on February 28, 2003. The purchase price was $37.0 million plus
the Company's 66% share of the partnership's working capital. The Company may
use a portion of the after-tax proceeds for the repayment of existing debt and
general corporate purposes.
CRITICAL ACCOUNTING POLICIES
The Company relies on the use of estimates and makes assumptions that impact its
financial condition and results. These estimates and assumptions are based on
historical results and trends as well as the Company's forecasts as to how these
might change in the future. Several of the most critical accounting policies
that materially impact the Company's results of operations include:
- 38 -
Allowance for Doubtful Accounts
Estimates are used in determining the allowance for doubtful accounts and are
based on historical collection and write-off experience, current trends, credit
policies, and accounts receivable by aging category. In determining these
estimates, the Company compares historical write-offs in relation to the
estimated period in which the subscriber was originally billed. The Company also
looks at the average length of time that elapses between the original billing
date and the date of write-off in determining the adequacy of the allowance for
doubtful accounts. From this information, the Company assigns specific amounts
to the aging categories. The Company provides an allowance for substantially all
receivables over 90 days old.
The allowance for doubtful accounts as of December 31, 2002, 2001 and 2000 were
$0.9 million and $0.7 million, and $0.3 million, respectively. If the allowance
for doubtful accounts is not adequate, it could have a material adverse affect
on our liquidity, financial position and results of operations.
The Company also reviews current trends in the credit quality of its subscriber
base and periodically changes its credit policies. As of December 31, 2002, 39%
of the Company's PCS subscriber base consisted of sub-prime credit quality
subscribers. Sprint manages the accounts receivable function related to all our
Sprint wireless customers. The remainder of the Company's receivables are
associated with services provided on a more localized basis, and historically
there have been only limited losses generated from the localized revenue
streams.
Revenue Recognition
The Company recognizes revenues when persuasive evidence of an arrangement
exists, services have been rendered or products have been delivered, the price
to the buyer is fixed and determinable, and collectibility is reasonably
assured. The Company's revenue recognition polices are consistent with the
guidance in Staff Accounting Bulletin ("SAB") No. 101, Revenue Recognition in
Financial Statements promulgated by the Securities and Exchange Commission.
The Company records equipment revenue from the sale of handsets and accessories
to subscribers in its retail stores and to local distributors in its territories
upon delivery. The Company does not record equipment revenue on handsets and
accessories purchased from national third-party retailers, or directly from
Sprint by subscribers in its territories. The Company believes the equipment
revenue and related cost of equipment associated with the sale of wireless
handsets and accessories is a separate earnings process from the sale of
wireless services to subscribers. For competitive market reasons, the Company
sells wireless handsets at prices lower than their cost. In certain instances
the Company may offer larger handset discounts as an incentive for the customer
to agree to a multi-year service contract. The Company also sells wireless
handsets to existing customers at a loss, and accounts for these transactions
separately from agreements to provide customers wireless service.
The Company's wireless customers generally pay an activation fee to the Company
when they initiate service. The Company defers activation fee revenue over the
average life of its subscribers, which is estimated to be 30 months. The Company
recognizes service revenue from its subscribers as they use the service. The
Company provides a reduction of recorded revenue for billing adjustments and the
royalty fee of 8% that is retained by Sprint. The Company also reduces recorded
revenue for rebates and discounts given to subscribers on wireless handset sales
in accordance with Emerging Issues Task Force ("EITF") Issue No. 01-9 Accounting
for Consideration Given by a Vendor to a Subscriber (Including a Reseller of the
Vendor's Products). The Company participates in the Sprint national and regional
distribution programs in which national retailers sell Sprint wireless products
and services. In order to facilitate the sale of Sprint wireless products and
services, national retailers purchase wireless handsets from Sprint for resale
and receive compensation from Sprint for Sprint wireless products and services
sold. For industry competitive reasons, Sprint subsidizes the price of these
handsets by selling the handsets at a price below cost. Under the Company's
agreements with Sprint, when a national retailer sells a handset purchased from
Sprint to a subscriber in the Company's territories, the Company is obligated to
reimburse Sprint for the handset subsidy. The Company does not receive any
revenues from the sale of handsets and accessories by national retailers. The
Company classifies these handset subsidy charges as a cost of goods expense.
Sprint retains 8% of collected service revenues from subscribers based in the
Company's markets and from non-Sprint subscribers who roam onto the Company's
network. The amount of affiliation fees retained by Sprint is recorded as an
offset to the revenues recorded. Revenues derived from the sale of handsets and
accessories by the Company and from certain roaming services (outbound roaming
and roaming revenues from Sprint and its PCS Affiliate subscribers) are not
subject to the 8% affiliation fee from Sprint.
- 39 -
The Company defers direct subscriber activation costs when incurred and
amortizes these costs using the straight-line method over 30 months, which is
the estimated average life of a subscriber. Direct subscriber activation costs
also include credit check fees and loyalty welcome call fees charged to the
Company by Sprint to operate a subscriber activation center.
Income Taxes
Income taxes are accounted for under the asset and liability method. Deferred
tax assets and liabilities are recognized for the future tax consequences
attributable to differences between financial statement carrying amounts of
existing assets and liabilities and their respective tax bases. Deferred tax
assets and liabilities are measured using enacted tax rates expected to apply to
taxable income in the years in which those temporary differences are expected to
be recovered or settled. The effect on deferred tax assets and liabilities of a
change in tax rates is recognized in income in the period that includes the
enactment date. The Company evaluates the recoverability of tax assets generated
on a state by state basis from net operating losses apportioned to that state.
Management uses a more likely than not threshold to make that determination and
has established a valuation allowance against the tax assets, in case they are
not recoverable. For 2002, the Company established a valuation allowance of $0.7
million due to the uncertainty of the recoverability of the net operating loss
carry-forwards in certain states. Management will evaluate the effective rate of
taxes based on apportionment factors, the Company's operating results, and the
various state income tax rates. Currently, management anticipates the normalized
effective income tax rate to be approximately 40%.
Other
The Company does not have any unrecorded off-balance sheet transactions or
arrangements.
Results of Continuing Operations
2002 compared to 2001
Total revenue was $93.0 million in 2002, an increase of $24.3 million or 35.3%.
Total revenues included $57.9 million of wireless revenues, an increase of $21.7
million or 60.2%; wireline revenues of $28.7 million, an increase of $1.3
million or 4.6%; and other revenues of $6.4 million, an increase of $1.2 million
or 24.5%.
Within wireless revenues, the PCS operation contributed $55.5 million, an
increase of $21.4 million, or 63.0%. PCS service revenues were $37.4 million, an
increase of $18.3 million or 95.7%. The increased subscriber base, which totaled
67,842 at December 31, 2002, an increase of 20,524 or 43%, compared to 47,318
subscribers at year-end 2001, drove the service revenue growth. The subscriber
increase, although lower than the 2001 year, is attributed to the ongoing sales
and marketing efforts in the Central Penn market, as well as continued strong
demand for services in the Quad State markets. Competition in the wireless
industry continues to have a significant impact on the results of the Company's
PCS operation. The Company has limited influence on the service offerings,
pricing or promotions advertised by Sprint.
PCS travel revenue, which is compensation between Sprint and its PCS Affiliates
for use of the other party's network, was $16.5 million, an increase of $2.9
million or 21.3%. Travel revenue is impacted by the geographic size of the
Company's network service area, the overall number of Sprint wireless customers,
and the travel exchange rate. The rate received on travel was $0.10 per minute
in 2002. The rates in 2001 were $0.20 per minute from January 1, 2001 through
April 30, 2001; $0.15 through September 30, 2001; $0.12 through December 31,
2001. Sprint set the travel rate for 2003 at $0.058 per minute and it will apply
for the full year, with future travel rates yet to be determined.
PCS equipment sales were $1.6 million, an increase of $0.3 million or 19.6%. The
equipment sales are net of $0.3 million of rebates and discounts given at the
time of sale, which became more pronounced during the year to meet industry
competition for subscriber additions and subscriber retention.
In accordance with Sprint's requirements, the Company launched third generation
(3G 1X) service in August 2002. 3G 1X is the first of a four-stage migration
path that will enable additional voice capacity and increased data speeds for
subscribers. The network upgrades completed in 2002 were software changes,
channel card upgrades, and some new network elements for packet data. The
Company's base stations were outfitted with network card enhancements, thereby
allowing the Company to provide 3G 1X service without wholesale change-outs of
base stations. 3G 1X is backwards compatible with the existing 2G network,
thereby allowing continued use of current customer handsets. The impact of 3G
1X-network enhancements on revenues was not significant in 2002, and the
contribution to future revenues cannot be estimated at this time. There are no
- 40 -
significant additions to the Company's coverage area planned during 2003,
although investments will continue to be made for capacity and service
improvements.
Tower leases added $2.1 million to wireless revenues, an increase of $0.4
million or 24.5%. The increase was the result of other wireless carriers
executing additional leases to use space on the Company's portfolio of towers.
Of the 82 towers and poles owned by the Company as of December 31, 2002, 46 have
tower space leased to other carriers.
Wireless revenues from the Company's paging operation were $0.3 million, a
decrease of $0.1 million as the local customer base increasingly chose
alternative digital wireless services. Paging service subscribers declined by
7.8% in 2002 from 3,190 subscribers to 2,940 subscribers.
Within wireline revenues, the Telephone operation contributed $22.5 million, an
increase of $0.9 million, or 4.0%. Telephone access revenues were $10.9 million,
an increase of $1.4 million or 14.8%. The growth in access revenues was driven
by a 38.4% increase in access minutes of use on the Company's network and an
increased percentage of minutes in the intrastate jurisdiction, where rates are
higher than the interstate jurisdiction. On January 1, 2002 the Federal
subscriber line charge (SLC) for residential customers increased from $3.50 to
$5.00 per month. The SLC also increased again on July 1, 2002 to $6.50, and
comparable rate increases also impacted business subscribers. Tied to the SLC
rate increases were declines in rates charged to interexchange carriers for
interstate minutes of use. The 2002 results reflect a significantly larger
increase in network usage, which more than offset the decline in rates.
Facility lease revenue contributed $5.7 million to wireline revenues, a decrease
of $0.7 million or 9.7%. The decrease was primarily the result of declining
lease rates associated with competitive pricing pressure, and the economic
downturn in the telecommunications industry. During 2002 the Company completed a
second, diverse fiber route to its existing interconnection point in the Dulles
airport area of Northern Virginia. This fiber route provides increased
reliability for customers in the event of fiber cuts or breaks, and extends the
availability of the Company's fiber network to additional market locations.
Billing and collection services contributed $0.4 million to wireline revenues,
which was the same as 2001 results. Revenues from this service had declined in
recent years, with inter-exchange carriers now issuing a greater proportion of
their bills directly to their customers.
Wireline revenues from cable television services were $4.3 million, an increase
of $0.5 million or 14.5%. In December 2001, the Company increased its basic
service charge by $6.00 per month, which produced $0.3 million of the increase
in cable television revenue. The remaining $0.2 million was generated by an
increased penetration of digital services and increased pay per view sales.
Within other revenues, Internet and 511Virginia service revenues were $5.1
million in 2002, an increase of $1.2 million or 30.6%. The Company had 18,696
Internet subscribers at December 31, 2002 compared to 17,423 at the end of the
previous year. Total Internet service revenue was $4.2 million, an increase of
$0.6 million or 14.7%. Services provided to the 511Virginia program contributed
$0.9 million to other revenues, an increase of $0.6 million or 220%.
Telecommunications equipment sales, services and lease revenues were $1.2
million, which reflects only a nominal increase over 2001 results.
Total operating expenses were $83.6 million, an increase of $21.3 million or
34.3%. The continued growth in the PCS operation was principally responsible for
the change.
Cost of goods and services was $10.5 million, an increase of $3.1 million or
41.8%. The PCS cost of goods sold was $8.3 million, an increase of $2.7 million
or 49.3%. This change is due primarily to higher volumes of handsets sold
through Company owned stores and PCS handset subsidies paid to third-party
retailers. As the PCS operation matures, the proportion of cost of goods sold
for handset sales to existing customers is expected to increase. The cable
television programming (cost of service) expense was $1.4 million, an increase
of $0.1 million or 5.3%. The cost of goods sold for telecommunications system
equipment was $0.5 million, an increase of $0.1 million or 18.2%, while other
cost of goods sold increased by $0.2 million.
Network operating costs were $32.5 million, an increase of $5.8 million or
21.5%. Line and switching costs were $9.7 million, an increase of $2.6 million
or 37.4%, due principally to the impact of the expanded PCS network. Travel
expense, generated by the Company's PCS subscribers' use of minutes on other
providers' portions of the Sprint wireless network, was $10.7 million, an
increase of $0.9 million or 8.4%, the growth in usage more than offset the
travel rate decrease mentioned above in travel revenue. Due in large part to
operation and maintenance of the additional plant placed in service
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in recent years, plant specific costs were $9.6 million, an increase of $2.3
million or 30.7%. Tower, building, and land rentals, as well as PCS equipment
maintenance, were major contributors to the plant specific expense growth. Other
network costs such as power, network administration, and engineering, were $2.7
million, the same as in 2001.
Depreciation and amortization expense was $14.5 million, an increase of $3.2
million or 28.6%. The PCS operation had depreciation expense of $8.6 million, an
increase of $3.6 million or 72.7%. The PCS operation added 53 additional base
stations during 2002, to contribute to the higher depreciation expense in 2002.
There was no amortization of goodwill in 2002, compared to $360 thousand
expensed in 2001.
Selling, general and administrative expenses were $26.1 million, growing $9.3
million or 55.0%. Customer support costs were $7.8 million, an increase of $2.8
million or 55.3%. The growth in Sprint wireless subscribers is primarily
responsible for this change. Advertising expense was $4.3 million, an increase
of $1.5 million or 55.8%. The change is primarily attributed to the ongoing
marketing efforts in support of the PCS operations in both the Quad State and
Central Penn markets. PCS sales staff expenses were $2.7 million, an increase of
$0.7 million or 32.7%. The increase was principally due to the full year
operations of the three retail locations and the additional staff added during
2001.
Historically, the bad debt risk in wireline operations was with individual
customers, or on a rare occasion, a small interexchange carrier. Bad debt
expense reached $4.4 million, increasing $3.1 million or 234%. The Company
experienced significant losses related to the Sprint Clear Pay program, as a
result of credit challenged subscribers being sold subscriptions without a
deposit. Many of these subscribers never paid their bills, and therefore
increased the bad debt in the PCS operation. During the final quarter of 2002,
there was some indication that the mid-year steps taken to reduce the churn and
bad debt expense associated with high credit risk subscribers were beginning to
take effect. Total bad debt for the PCS operation was $3.7 million compared to
$1.2 million last year. The Company experienced additional bad debt expense of
$0.5 million, primarily associated with the WorldCom, Global Crossing and Devon
Communications bankruptcy filings in 2002.
Operating income grew to $9.3 million, an increase of $2.9 million or 45.4%.
Revenue growth, primarily in the PCS operation, was greater than the increase in
operating expense, and the overall operating margin was 10.0%, compared to 9.4%
in 2001. The elevated bad debt expense in the PCS and telephone operations had a
dampening effect on the operating margin improvement.
Other income (expense) is comprised of non-operating income and expenses,
interest expense and gain or loss on investments. Collectively, the net impact
of these items to pre-tax income was an expense of $14.3 million for 2002,
compared to income of $9.1 million from 2001. The largest component was the loss
on investments that is discussed below.
Interest expense was $4.2 million, an increase of $0.1 million or 1.4%. The
Company's average debt outstanding was approximately the same during the year as
compared to the previous year. Long-term debt (inclusive of current maturities),
was $52.0 million at year-end 2002, versus $56.4 million at year-end 2001.
Net losses on investments were $10.0 million, compared to a gain of $12.9
million from 2001. Results in 2002 include the sale of the VeriSign, Inc. stock
for a loss of $9.0 million compared to a gain of $12.7 million in 2001, as
further described in Note 3 to the financial statements.
Non-operating income was a loss of $0.1 million, an decrease of $0.3 million,
primarily due to losses recorded for the Company's portfolio of investments,
offset by an increase in patronage equity earned from CoBank, the Company's
primary lender.
Income (loss) from continuing operations before taxes was a $5.0 million loss
compared to a profit of $15.5 million in 2001, a decrease of $20.5 million.
Gains and losses on external investments contributed $21.7 million to this
change from 2002 to 2001.
The Company recognized an income tax benefit of $2.1 million in 2002, which is
an effective tax rate of 42.2% due to the impact of net operating loss carry
forwards generated in several states with higher tax rates, offset somewhat by
the need for a valuation allowance. The Company currently operates in four
states. Due to apportionment rules and where the Company's profits and losses
are generated, the Company is generating profits in states with lower tax rates,
while generating losses in states with higher tax rates. The Company cautions
readers that the current effective tax rate may not be the same rate at which
tax benefits or tax expenses are recorded in the future. The Company's state
apportionments, profits and losses and state tax rates may change, therefore
changing the effective rate at which taxes are provided for or at which tax
benfits
- 42 -
accrue. In the near term, under existing operating results and current tax
rates, the Company anticipates a normalized effective tax rate will be
approximately 40%.
Net loss from continuing operations was $2.9 million, a decrease of $12.6
million from 2001. The results are primarily made up of the one-time impact of
the losses on the sale of the VeriSign stock and the improvement in operating
income.
Income from discontinued operations was $7.4 million after taxes, an increase of
$0.7 million or 11%. Increased revenues from use of our cellular network by
customers of other wireless providers were the main cause for the increase in
net income.
Net income was $4.5 million, a decrease of $11.9 million or 72.4%. The decrease
is primarily the result of the $21.7 million decline in investment results due
to the impact of the VeriSign gain recorded in 2001, and the loss on the sale of
the VeriSign stock in 2002.
Continuing Operations
2001 Compared to 2000
Total revenue was $68.7 million in 2001, an increase of $24.3 million or 54.6%.
Total revenues included $36.1 million of wireless revenues, an increase of $21.2
million or 142%; wireline revenues of $27.5 million, an increase of $3.0 million
or 12.2%; and other revenues of $5.1 million, an increase of $0.1 million or
1.4%.
Within wireless revenues, the PCS operation contributed $34.0 million, an
increase of $20.1 million. PCS service revenues were $19.1 million, an increase
of $10.1 million or 113%. The increased subscriber base, which totaled 47,318 at
December 31, 2001, increased 25,504, or 117%, compared to 21,814 subscribers at
year-end 2000. The subscriber increase is attributed to expanded sales and
marketing efforts starting with the February 2001 launch of the Central Penn
market, as well as continued strong demand for services in the Quad State
markets.
PCS travel revenue, which is compensation between Sprint and its PCS Affiliates
for use of the other party's network, was $13.6 million, an increase of $9.5
million or 232%. The PCS operation service area increased substantially with the
February 2001 launch of the Central Penn markets and continued enhancements to
the Quad State markets. The rates received on travel have been reduced, from
$0.20 per minute through April 30, 2001; $0.15 through September 30, 2001; $0.12
through December 31, 2001. Sprint set the rate at $0.10 per minute for the full
year of 2002.
PCS equipment sales were $1.4 million, an increase of $0.5 million or 64.9%.
Three additional retail stores were opened in the Central Penn region, and the
overall sales force was increased in size during the year.
Tower leases added $1.7 million to wireless revenues, an increase of $1.2
million or 228%. The increase was a result of other wireless carriers executing
additional leases to use space on the Company's portfolio of towers. Of the 70
towers owned by the Company in 2001, 41 had space leased to other carriers.
Wireless revenues from the Company's paging operation were $0.4 million, a
decrease of $0.1 million as the local customer base increasingly chose competing
digital wireless services. Paging service subscribers declined by 33.3% in 2001.
Within wireline revenues, the Telephone Company contributed $21.6 million, an
increase of $2.5 million, or 12.8%. Telephone access revenues were $9.5 million,
an increase of $1.3 million or 15.6%. The growth in access revenues was driven
by a 7.4% increase in access minutes of use on the Company's network and an
increased percentage of minutes in the intrastate jurisdiction, where rates are
higher than the interstate jurisdiction.
Facility lease revenue contributed $6.6 million to wireline revenues, an
increase of $1.4 million or 27.2%. The growth was attributable to higher demand
for network facilities.
Billing and collection services contributed $0.4 million to wireline revenues, a
decrease of $0.1 million or 23.2%. Revenues from this source declined, due to
inter-exchange carriers issuing a greater proportion of their bills directly to
their customers.
Wireline revenues from cable television service were $3.8 million, an increase
of $0.2 million or 4.8%. During 2001 there was an increased penetration of
digital services and increased pay per view sales. The Company enacted a basic
service rate increase effective in December 2001.
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Within other revenues, Internet service revenues were $3.9 million, an increase
of $0.9 million or 28.3%. The Company had 17,423 Internet subscribers at
December 31, 2001 compared to 14,900 at the end of the previous year. Services
provided to the 511Virginia program contributed $0.3 million to other revenues,
an increase of $0.2 million. Telecommunications equipment sales revenues were
$0.6 million, a decrease of $0.8 million, or 54.1%, due to decreased sales of
larger telecommunications systems and equipment.
Total operating expenses were $62.3 million, an increase of $23.2 million or
59.5%. The expansion of the PCS operation was principally responsible for the
change.
Cost of goods and services was $7.4 million, an increase of $1.6 million or
28.7%. The PCS cost of goods sold was $5.5 million, an increase of $2.1 million
or 63.2%. This change is due primarily to higher volumes of handsets sold
through Company owned stores and PCS handset subsidies and commissions paid to
third-party retailers. The cable television programming (cost of service)
expense was $1.3 million, an increase of $0.2 million or 13.4%. The cost of
goods sold for telecommunications system equipment was $0.4 million, a decline
of $0.7 million or 61.1%, while other cost of goods sold remained the same
compared to 2000.
Network operating costs were $26.8 million, an increase of $11.8 million or
78.6%. Line and switching costs were $7.1 million, an increase of $3.4 million
or 95.0%, due principally to the expanded PCS network. Travel expense, generated
by the Company's PCS subscribers' use of minutes on other providers' portions of
the Sprint wireless network, was $9.9 million, an increase of $6.1 million or
159%. Rates for travel expense are the same as those for travel revenue. Due in
large part to operation and maintenance of the additional plant placed in
service in recent years, plant specific costs were $9.8 million, an increase of
$2.4 million or 32.1%. Tower, building, and land rentals; power; network
administration; engineering; and, PCS equipment maintenance were major
contributors to the plant specific expense growth.
Depreciation and amortization expense was $11.3 million, an increase of $4.4
million or 63.8%. The PCS operation had depreciation expense of $5.0 million, an
increase of $3.6 million or 270%. The PCS switch was placed in service in
February 2001, and 126 additional PCS base stations were activated and three
retail stores were opened during the year. Amortization expense in the cable
television operation was $0.7 million, an increase of $0.3 million due to
additional amortization on certain intangible assets.
Selling, general and administrative expenses were $16.9 million, growing $5.3
million or 45.8%. Customer support costs were $5.0 million, an increase of $1.2
million or 31.3%. The growth in Sprint wireless subscribers is primarily
responsible for this change. Advertising expense was $2.8 million, an increase
of $1.9 million or 217%. The change is primarily attributed to the increased
marketing efforts in support of the launch of the Harrisburg and York,
Pennsylvania PCS markets. PCS sales staff expenses were $2.1 million, an
increase of $1.3 million or 157%. The increase was principally due to the
opening of three retail locations and the additional staff to support the
expanded market area. An additional expense category related to the growth in
PCS subscribers is bad debt expense, which reached $1.3 million, increasing $0.6
million or 81.8%. Other sales and administrative costs increased $0.3 million
over 2000 year levels.
Operating income grew to $6.4 million, an increase of $1.0 million or 19.5%.
Increased revenues, primarily in the wireless operation, were greater than the
increase in operating expenses, although the overall operating margin declined
to 9.4%, compared to 12.1% in 2000. Costs incurred were incrementally higher
than the growth in revenues, as many of the additional costs were fixed costs,
associated with the marked expansion of the PCS network in 2001.
Other income (expense) is comprised of non-operating income and expenses,
interest expense and gain or loss on investments. Collectively, the net
contribution of these items to pre-tax income was $9.1 million, an increase of
$6.4 million or 238%. The largest component was a non-cash gain on investments
that is discussed below.
Interest expense was $4.1 million, an increase of $1.2 million or 40.6%. The
Company's average debt outstanding was greater during the year as compared to
the previous year. Long-term debt (inclusive of current maturities), was $56.4
million at year-end 2001, versus $55.5 million at year-end 2000, although the
average debt was significantly higher in 2001.
Net gain on investments was $12.9 million, an increase of $7.3 million or 131%.
Results include the $12.7 million non-cash gain recognized as a result of the
merger between Illuminet Holdings, Inc. (Illuminet) and VeriSign, Inc.
(VeriSign). Additionally, the Company realized net gains on the sales of other
investments of $3.9 million, including the sale of 130,000 shares of Illuminet
stock sold prior to the acquisition of Illuminet by VeriSign. The Company also
recognized impairment
- 44 -
losses of $2.4 million on available-for-sale securities, and partnership
investments incurred losses totaling $1.2 million, during 2001.
Non-operating income was $0.3 million, an increase of $0.3 million, primarily
due to an increase in patronage equity earned from CoBank, the Company's primary
lender.
Income before taxes was $15.5 million, an increase of $7.4 million or 92.2%. The
Company recognized income tax expense at an effective rate of approximately
36.9% for continuing operations.
Income from continuing operations was $9.7 million, an increase of $4.6 million
or 90.4%. The increase is primarily made up of the one-time impact of the
non-cash gain on the exchange of the Illuminet stock, and the improved financial
performance of the overall operation.
Income from discontinued operations was $6.7 million after taxes in 2001, an
increase of $1.9 million or 40.2% over 2000 results. Higher revenue from other
provider's customers increased the net income after minority interest and taxes.
Net income increased $6.5 million or 66.1%. This increase was primarily the
result of the gain on the VeriSign stock and improved results in discontinued
operations compared to 2000.
Discontinued Operations
The Company invested $2.0 million in the Virginia 10 RSA limited partnership in
the early 1990's. After peaking in early 2000, at nearly 12,000 subscribers, the
customer base declined to 6,700 at December 31, 2002. The decline was the result
of competition with digital technologies and the benefits of national carriers
rolling out service in the coverage area. As a result of this decline in the
subscriber base, and the need for extensive capital expenditures to transform
the analog network into a digital cellular network, the Company elected to sell
its 66% interest in the partnership to one of the minority partners. The VA 10
Partnership had $20.9 million in revenues in 2002, compared to $20.0 million in
2001 and $16.1 million in 2000. The Company's portion of the net income after
the minority interest and the tax effect for each of the preceding three years
was $7.4 million, $6.7 million and $4.8 million.
Investments in Non-Affiliated Companies
The Company has investments in several available-for-sale securities, which the
Company may choose to liquidate from time to time, based on market conditions,
capital needs, other investment opportunities, or a combination of any number of
these factors. As a result of the uncertainty of these factors, there is also
uncertainty as to what the value of the investments may be when they are sold.
In December 2001, the Company recognized a non-cash gain on the exchange of
Illuminet stock for VeriSign stock, totaling $12.7 million. The Company held
333,504 shares of Illuminet Holding Company stock, and elected to convert those
shares into VeriSign stock on the date of the merger. The conversion rate was
..93 shares of VeriSign for each share of Illuminet, giving the Company 310,158
shares of VeriSign.
During 2002, the Company sold all of the shares of VeriSign, Inc. for $2.8
million, and recorded a loss before taxes of $9.0 million on the sale. This
transaction reduced the available for sale investments reflected on the balance
sheet compared to last year. The fair value of the Company's available-for-sale
securities was $0.2 million at the end of 2002, compared to $12.0 million at the
end of 2001. The Company's available-for-sale portfolio at December 31, 2002 is
made up of three investments, two of which are within the telecommunications
industry. Due to the volatility of the securities markets, particularly in the
telecommunications industry, there is uncertainty about the ultimate value the
Company will realize with respect to these investments in the future.
Sale of GSM PCS Equipment, Refundable Equipment Payment, Like-Kind Exchange
On January 11, 2001, the Company completed a transaction to sell its GSM
technology PCS equipment and three radio spectrum licenses for $6.5 million,
which was the book value of the assets that were sold. In June 2000, the Company
had recorded a charge of $0.7 million to value the assets it intended to sell at
their estimated realizable value. As a result of the
- 45 -
impairment charge recorded in June 2000, there was no additional impact to the
operating statement as a result of the transaction closing.
As part of the original agreements with Sprint, in late 1999 the Company
received a refundable equipment payment of $3.9 million in cash from Sprint. The
payment was to provide liquidity during the construction of the CDMA network
while the Company attempted to sell its GSM equipment, and to cover the
shortfall in the event a sale was made at less than net book value. As a result
of the sale of the GSM equipment in January 2001, the Company repaid the
refundable equipment payment to Sprint, as required by the agreement.
The Company entered into an agreement with a third party to act as the Company's
agent in a like-kind exchange in the sale of the Company's GSM PCS network
equipment and the purchase of new CDMA PCS equipment. This transaction was
completed in 2001, and allowed the Company to defer the tax impact.
Financial Condition Liquidity and Capital Resources
The Company has four principal sources of funds available to meet the financing
needs of its operations, capital projects, debt service and potential dividends.
These sources include cash flows from operations, two revolving credit
facilities both of which mature in 2003, and investments, which can be
liquidated. Management routinely considers these alternatives to determine what
mix of the external sources is best suited for the long-term benefit of the
Company.
Management anticipates its operations will generate similar operating cash flows
in 2003, compared to those of continuing operations in 2002, although there are
items outside the control of the Company that could have an adverse impact on
cash flows. Outside factors that could adversely impact operating cash flow
results include, but are not limited to; changes in overall economic conditions,
regulatory requirements, changes in technologies, availability of labor
resources and capital, and other conditions. The PCS subsidiary's operations are
dependent upon Sprint's ability to execute certain functions such as billing,
customer care, collections and other operating activities under the Company's
agreements with Sprint. Additionally, the Company's ability to attract and
maintain a sufficient customer base is critical to maintaining a positive cash
flow from operations. These items individually and/or collectively could impact
the Company's results.
Capital expenditures budgeted for 2003 total approximately $19.4 million,
including approximately $9.5 million for additional base stations, additional
towers, and switch upgrades to enhance the PCS network. Improvements and
replacements of approximately $6.4 million are planned for the telephone
operation. The Company also budgeted $1.4 million for a diverse fiber route to
support the northern portion of its fiber network. The remaining $2.1 million
covers building renovations, vehicles, office equipment, and other miscellaneous
capital needs.
The largest source of external funding is the $20.0 million revolving line of
credit with CoBank, with the option to term out the amount on the revolving line
of credit. There was $3.2 million outstanding as of December 31, 2002, at an
interest rate of approximately 3.2% as of that date. This facility expires on
November 1, 2003. Management will review the Company's capital needs prior to
the maturity of the facility to determine the appropriate debt facility needed
for the future. The CoBank revolving credit facility and the term debt with
CoBank have three financial covenants tied to the facilities. These are measured
based on a trailing 12-month basis and are calculated on continuing operations.
The first of the covenants is the total leverage ratio, which is total debt to
operating cash flow. This ratio must remain below 3.5, and as of December 31,
2002 it was 2.4. The second measure is equity to total assets, which must be 35%
or higher. At December 31, 2002 the ratio was 46.7%. The third measure is the
debt service coverage ratio, which is operating cash flow to scheduled debt
service which must exceed 2.0. At December 31, 2002 this measure was 2.6.
Management believes the Company will meet these covenant measures for the coming
year.
Another external source of funding is the $2.5 million unsecured, variable rate
revolving line of credit with SunTrust Bank. The terms of this agreement limit
the outstanding balances on the CoBank and SunTrust revolving lines to a
combined $20 million at any one time. The facility expires May 31, 2003.
Management anticipates renewing this facility with SunTrust Bank under similar
terms and conditions. The Company uses this facility as a source of short-term
liquidity in its daily cash management operations. At December 31, 2002 the
outstanding balance was $0.3 million at an interest rate of 2.1%.
Subsequent to year-end, the Company generated enough cash from operations to pay
off its outstanding revolving balances with CoBank and SunTrust Banks by
mid-February. Additionally, with the closing of the sale of the VA 10 Limited
Partnership transaction, the Company received proceeds of approximately $33.7
million, excluding $5.0 million placed in escrow, before the quarterly tax
payments are due. Management is evaluating alternatives for the most beneficial
use of the cash in light of its long-term strategies.
- 46 -
The Company expects to generate adequate capital to fund the capital projects,
debt payments, and potential dividend payments through operating cash flow,
existing financing facilities and the anticipated financing facilities discussed
previously. Additionally, the Company may, at its election, liquidate some of
its investments to generate additional cash for its capital needs as market
conditions allow.
Recently Issued Accounting Standards
In June 2001, the FASB issued SFAS No. 143, Accounting for Asset Retirement
Obligations. SFAS No. 143 requires the Company to record the fair value of an
asset retirement obligation as a liability in the period in which it incurs a
legal obligation associated with the retirement of tangible long-lived assets
that result from acquisition, construction, development and/or normal use of the
assets. The Company also records a corresponding asset, which is depreciated
over the life of the asset. Subsequent to the initial measurement of the asset
retirement obligation, the obligation will be adjusted at the end of each period
to reflect the passage of time and changes in the estimated future cash flows
underlying the obligation. The Company is required to adopt SFAS No. 143 on
January 1, 2003. The Company is currently evaluating the effect the new standard
may have on its results of operations and financial position, which will be
reflected in the Company's filing for the first quarter of 2003.
In November 2001, the Emerging Issues Task Force (EITF) of the FASB issued EITF
01-9 Accounting for Consideration Given by a Vendor to a Subscriber (Including a
Reseller of the Vendor's Products). EITF 01-9 provides guidance on when a sales
incentive or other consideration given should be a reduction of revenue or an
expense and the timing of such recognition. The guidance provided in EITF 01-9
is effective for financial statements for interim or annual periods beginning
after December 15, 2001. The Company occasionally offers rebates to subscribers
that purchase wireless handsets in its retail stores. The Company's historical
policy regarding the recognition of these rebates in the consolidated statement
of operations is a reduction in the revenue recognized on the sale of the
wireless handset by an estimate of the amount of rebates expected to be
redeemed. The Company's existing policy was in accordance with the guidance set
forth in EITF 01-9. Therefore, the adoption of EITF 01-9 by the Company on
January 1, 2002 did not have a material impact on the Company's financial
statements.
In April 2002, the FASB issued SFAS No. 145, Rescission of FASB Statements No.
4, 44, and 64, Amendment of FASB Statement No. 13, and Technical Corrections.
Among other things, this statement rescinds FASB Statement No. 4, Reporting
Gains and Losses from Extinguishment of Debt which required all gains and losses
from extinguishment of debt to be aggregated and, if material, classified as an
extraordinary item, net of related income tax effect. As a result, the criteria
in APB Opinion No. 30, Reporting the Results of Operations -- Reporting the
Effects of Disposal of a Segment of a Business, and Extraordinary, Unusual and
Infrequently Occurring Events and Transactions, will now be used to classify
those gains and losses. The adoption of SFAS No. 145 by the Company on January
1, 2003 is not expected to have a material impact on the Company's financial
position, results of operations or cash flows.
In July 2002, the FASB issued SFAS No. 146, Accounting for Costs Associated with
Exit or Disposal Activities. SFAS No. 146 provides new guidance on the
recognition of costs associated with exit or disposal activities. The standard
requires companies to recognize costs associated with exit or disposal
activities when they are incurred rather than at the date of commitment to an
exit or disposal plan. SFAS No. 146 supercedes previous accounting guidance
provided by EITF Issue No. 94-3 Liability Recognition for Certain Employee
Termination Benefits and Other Costs to Exit an Activity (including Certain
Costs Incurred in a Restructuring). EITF Issue No. 94-3 required recognition of
costs at the date of commitment to an exit or disposal plan. SFAS No. 146 is to
be applied prospectively to exit or disposal activities initiated after December
31, 2002. The adoption of SFAS No. 146 by the Company on January 1, 2003 is not
expected to have a material impact on the Company's financial position, results
of operations or cash flows as the Company has not recorded any significant
restructurings in past periods, but the adoption may impact the timing of
charges in future periods.
EITF 00-21, Revenue Arrangements with Multiple Deliverables was issued in
November 2002. The issue surrounds multiple revenue streams from one transaction
with multiple deliverables. The Company has this situation in its PCS operation
as it relates to the sales of handsets and providing the related phone service.
The Company recognizes the handset sale and providing the ongoing service to the
subscriber as two separate transactions. This approach is consistent with the
provisions of EITF 00-21, and adoption is not expected to have a material impact
on the Company's financial statements.
In December 2002, the FASB issued SFAS No. 148 Accounting for Stock-Based
Compensation--Transition and Disclosure--an amendment of FASB Statement No. 123.
SFAS No. 148 provides alternative methods of transition for a
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voluntary change to the fair value based method of accounting for stock-based
employee compensation from the intrinsic value-based method of accounting
prescribed by APB Opinion No. 25, Accounting for Stock Issued to Employees. As
allowed by SFAS No. 123, the Company has elected to continue to apply the
intrinsic value-based method of accounting, and has adopted the disclosure
requirements of SFAS No. 123 and SFAS No. 148.
Other Commitments, Contingencies and Risks
The Company is one of ten PCS Affiliates of Sprint, and accordingly, is impacted
by decisions and requirements adopted by Sprint in regard to its wireless
operation. As part of the national roll-out of 3G by Sprint in August 2002, the
Company was required to make upgrades to its network. These commitments were
reflected in the capital spending in 2002. Management continually reviews its
relationship with Sprint as new developments and requirements are added. Note 7
to the accompanying consolidated financial statements contains a detailed
description of the significant contractual relationship.
In certain aspects of its relationship with Sprint, the Company, at times,
disagrees with the applicability of, or calculation approach and accuracy of,
Sprint supplied revenues and expenses. It is the Company's policy to reflect the
information supplied by Sprint in the financial statements in the respective
periods. Corrections, if any, are made no earlier than the period in which the
parties agree to the corrections.
Market Risk
The Company's market risks relate primarily to changes in interest rates on
instruments held for other than trading purposes. Our interest rate risk
involves two components. The first component is outstanding debt with variable
rates. As of December 31, 2002, the balance of the Company's variable rate debt
was $3.5 million, primarily made up of a $3.2 million balance on the revolving
note payable to CoBank, which matures November 1, 2003. The rate of this note is
based upon the lender's cost of funds. The Company also has a variable rate line
of credit totaling $2.5 million with SunTrust Banks, with $0.3 million
outstanding at December 31, 2002. The Company's remaining debt has fixed rates
through its maturity. A 10.0% decline in interest rates would increase the fair
value of the fixed rate debt by approximately $1.6 million, while the current
fair value of the fixed rate debt is approximately $51.1 million.
The second component of interest rate risk is temporary excess cash, primarily
invested in overnight repurchase agreements and short-term certificates of
deposit. Available cash will be used to repay existing and anticipated new debt
obligations, maintaining and upgrading capital equipment, ongoing operations
expenses, investment opportunities in new and emerging technologies, and
potential dividends to the Company's shareholders. With the Company's sale of
its cellular partnership interest and the proceeds from the sale, interest rate
risk for its excess cash has increased. Due to the recent date of the
transaction, the cash is currently in short-term investment vehicles that have
limited interest rate risk. Management is evaluating the most beneficial use of
the cash from this transaction.
Management does not view market risk as having a significant impact on the
Company's results of operations, although adverse results could be generated if
interest rates were to escalate markedly. Since the Company liquidated its
significant investments in stock during 2002, currently there is limited risk
related to the Company's available for sale securities. General economic
conditions impacted by regulatory changes, competition or other external
influences may play a higher risk to the Company's overall results.
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Selected Statistics
OPERATING STATISTICS
Three Month Period Ended
(unaudited) Dec 31, Sep 30, Jun 30, Mar 31, Dec 31,
2002 2002 2002 2002 2001
------------------------------------------------------
Telephone Access Lines 24,879 24,933 24,859 24,751 24,704
CATV Subscribers 8,677 8,707 8,729 8,740 8,770
Internet Subscribers 18,696 18,559 18,300 18,083 17,423
Digital PCS Subscribers 67,842 62,434 59,962 56,624 47,318
Paging Subscribers 2,940 3,002 3,071 3,136 3,190
Long Distance Customers 9,310 9,338 9,316 9,341 9,159
DSL Subscribers 646 537 434 341 288
Fiber Route Miles 549 543 543 524 485
Total Fiber Miles 28,403 28,243 28,243 26,804 23,893
Long Distance Calls (000) (Note 1) 5,969 6,138 5,949 5,431 5,561
Switched Access Minutes (000) (Note 1) 46,627 46,525 42,816 38,398 33,067
CDMA Base Stations (sites) 237 231 220 207 184
Towers (over 100 foot) 72 72 72 65 61
Towers (100 foot or less) 10 10 10 10 10
PCS Market POPS (000) 2,048 2,048 2,048 2,048 2,048
PCS Covered POPS (000) 1,555 1,555 1,512 1,455 1,395
(see Note 2 for definition of following terms)
PCS ARPU (excluding travel) $51.38 $53.58 $49.93 $50.49 $49.71
PCS Travel Revenue per Subscriber $31.21 $31.90 $26.56 $21.91 $35.01
PCS Average Management Fee per Subscriber $ 4.64 $ 4.29 $ 3.99 $ 4.04 $ 3.98
PCS Ave monthly churn % 3.40% 4.00% 3.21% 2.84% 2.92%
PCS CPGA $390.66 $344.77 $281.79 $235.40 $228.22
PCS CCPU $53.52 $53.93 $48.26 $46.45 $54.50
(1) - Originated by customers of the Company's Telephone subsidiary.
(2) - POPS is the estimated population of people in a given geographic area.
Market POPS are those within a market area, and Covered POPS are those covered
by the network's service area. ARPU is Average Revenue Per User, before travel,
roaming revenue, and management fee, net of adjustments divided by average
subscribers. PCS Travel revenue includes roamer revenue and is divided by
average subscribers. PCS Average management fee per subscriber is 8 % of
collected revenue paid to Sprint, excluding travel revenue. PCS Ave Monthly
Churn is the average of three monthly calculations of deactivations (excluding
returns less than 30 days) divided by beginning of period subscribers. CPGA is
Cost Per Gross Add and includes selling costs, product costs, and advertising
costs. CCPU is Cash Cost Per User, and includes network, customer care and other
costs.
PLANT FACILITY STATISTICS Telephone CATV
Route Miles 2,107.6 525.1
Customers Per Route Mile 11.8 16.5
Miles of Distribution Wire 577.7 --
Telephone Poles 7,742 30
Miles of Aerial Copper Cable 343.4 162.2
Miles of Buried Copper Cable 1,475.2 327.5
Miles of Underground Copper Cable 39.1 1.9
Intertoll Circuits to Interexchange Carriers 1,596 --
Special Service Circuits to Interexchange Carriers 266 --
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