SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
FORM 10-K
(Mark One)
|X| ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended December 31, 2003
|_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from__________ to __________
Commission File No.: 000-09881
SHENANDOAH TELECOMMUNICATIONS COMPANY
(Exact name of registrant as specified in its charter)
VIRGINIA 54-1162807
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
124 South Main Street, Edinburg, VA 22824
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (540) 984-4141
Not Applicable
(Former name, former address and former fiscal year,
if changed since last report)
----------
Securities registered pursuant to Section 12(b) of the Act:
None
Securities Registered Pursuant to Section 12(g) of the Act:
COMMON STOCK (NO PAR VALUE)
(Title of Class)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports, and (2) has been subject to such filing
requirements for the past 90 days.
YES |X| NO |_|
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. |_|
Indicate by check mark whether the registration is an accelerated filer (as
defined in Rule 12b-2 of the Act).
Yes |X| NO |_|
1
The aggregate market value of the voting stock held by non-affiliates of the
registrant as of June 27, 2003, based on the closing sale price of such stock on
the NASDAQ National Market on such date, was approximately $157 million (In
determining this figure, the registrant has assumed that all of its officers and
directors are affiliates. Such assumption shall not be deemed to be conclusive
for any other purpose.)
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
CLASS OUTSTANDING AT FEBRUARY 24, 2004
Common Stock, No Par Value 7,602,838
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Information in Part III is incorporated by reference to the Company's
definitive proxy statement for its 2004 Annual Meeting of Shareholders.
2
SHENANDOAH TELECOMMUNICATIONS COMPANY
Item Page
Number Number
PART I
1. Business 4-16
2. Properties 16-17
3. Legal Proceedings 17
4. Submission of Matters to a Vote of Security Holders 17
PART II
5. Market for the Registrant's Common Equity and Related
Shareholder Matters 18
6. Selected Financial Data 18-19
7. Management's Discussion and Analysis of Financial Condition
and Results of Operations 19-39
7A. Quantitative and Qualitative Disclosures about Market Risk 40
8. Financial Statements and Supplementary Data 41
9. Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure 41
9A. Controls and Procedures 41
PART III
10. Directors and Executive Officers of the Registrant 42
11. Executive Compensation 42
12. Security Ownership of Certain Beneficial Owners and Management 43
13. Certain Relationships and Related Transactions 43
14. Principal Accountant Fees and Services 43
PART IV
15. Exhibits, Financial Statement Schedules, and Reports
on Form 8-K 44-48
Index to the Consolidated 2003 Financial Statements F-1
Certifications
Exhibits Index
3
PART I
This Annual Report 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. The Company undertakes no obligation to
publicly revise these forward-looking statements to reflect
subsequent events or circumstances, except as required by law.
ITEM 1. BUSINESS
Shenandoah Telecommunications Company is a diversified
telecommunications holding company providing both regulated and
unregulated telecommunications services through its nine
wholly-owned subsidiaries. The Company's business strategy is to
provide integrated, full service telecommunications products and
services in the Northern Shenandoah Valley and surrounding areas.
This geographic area includes the four-state region from
Harrisonburg, Virginia to the Harrisburg and Altoona, Pennsylvania
markets, and on a limited basis into Northern Virginia. Our fiber
network is a state-of-the-art electronic backbone utilized for many
of our services with the main lines of this network following the
Interstate-81 corridor and the Interstate-66 corridor in the
northwestern part of Virginia. Secondary routes providing redundant
capacity are built to provide alternate routing in the event of an
outage. The Company is certified to offer competitive local exchange
services in Virginia outside of the present telephone service area.
The Company has 268 employees and operates ten reporting segments
based on the products and services provided by the holding company
and the operating subsidiaries. There are minimal seasonal
variations in the Company's operations, with the exception of the
traditional seasonality in the retail sale of wireless handsets and
services in November and December. The Company provides personal
communications service (PCS) and is licensed to use the Sprint brand
name in the territory from Harrisonburg, Virginia to Harrisburg,
York and Altoona, Pennsylvania. The Company operates its PCS network
under the Sprint radio spectrum license. The Company also holds a
paging radio telecommunications license.
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 partnership interest was owned by the Mobile company
subsidiary. 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 was a post closing adjustment based on the actual
working capital balance as of the closing date, which amounted to a
charge to the Company of $39 thousand. The $5.0 million escrow was
established for any contingencies and indemnification issues that
may arise during the two-year post-closing period. To date, there
have been no claims filed against the escrowed funds. The Company's
net after tax gain on the total transaction was approximately $22.4
million, which is reflected in the 2003 financial statements. As set
forth in the Company's consolidated financial statements appearing
in the Company's 2003 Annual Report to security holders, the
operating results of the partnership are reflected in discontinued
operations for all periods presented.
4
Shenandoah Telecommunications Company
The Holding Company invests in both affiliated and non-affiliated
companies. The Company's investments in non-affiliated companies are
The Burton Partnership, LP (Burton), CoBank, Dolphin Communications
Parallel Fund, LP (Dolphin), Dolphin Communications Fund II, LP
(Dolphin II), NECA Services, Inc., NTC Communications, L.L.C.,
(NTC), South Atlantic Private Equity IV LP (SAPE IV), and South
Atlantic Venture Fund III (SAVF III). Burton invests in a
combination of small capitalization public companies and privately
owned emerging growth companies. CoBank is a cooperative bank, and
is the Company's primary lender. As a term of the loan agreement,
the Company is required to own a specified amount of CoBank's stock.
The growth of this investment is the result of distributions
declared by CoBank and recorded by the Company that will be received
by the Company in the future. Dolphin, Dolphin II, SAVF III, and
SAPE IV are venture capital funds that invest in startup companies,
a large number of which are telecommunications firms. NECA Services,
Inc. provides services to telecommunications providers. NTC is a
limited liability company that provides bundled telecommunication
services primarily to privately owned multi-unit housing properties
that target students near college and university campuses.
Shenandoah Telephone Company
This subsidiary provides both regulated and non-regulated telephone
services to approximately 24,900 customers as of December 31, 2003,
primarily in Shenandoah County and small service areas in
Rockingham, Frederick, and Warren counties in Virginia. This
subsidiary provides access for inter-exchange carriers to the local
exchange network. The telephone subsidiary has a 20 percent
ownership in Valley Network Partnership (ValleyNet), which is a
partnership offering fiber network facility capacity in western,
central, and northern Virginia, as well as the Interstate 81
corridor from Johnson City, Tennessee to Carlisle, Pennsylvania.
Shenandoah Cable Television Company
This subsidiary provides coaxial cable based television service to
approximately 8,700 customers in Shenandoah County. The system is a
state-of-the art hybrid fiber coaxial network, upgraded to 750
megahertz which provides better signal quality, expands the number
of channels, and provides the infrastructure for future offerings of
broadband services. Digital program offerings along with pay per
view options are value added features available to customers.
ShenTel Service Company (ShenTel)
ShenTel Service Company sells and services telecommunications
equipment and provides information services and Internet access to
customers in the Northern Shenandoah Valley and surrounding areas.
The Internet service has approximately 17,400 dial-up customers and
nearly 1,300 DSL customers as of December 31, 2003. This subsidiary
offers broadband Internet access via ADSL technology.
5
Shenandoah Valley Leasing Company
This subsidiary finances purchases of telecommunications equipment
by customers of the other subsidiaries, particularly ShenTel Service
Company.
Shenandoah Mobile Company
Shenandoah Mobile Company owns and leases tower space in the PCS
service territory mentioned below in Virginia, West Virginia,
Maryland and Pennsylvania to Shenandoah Personal Communications
Company and other wireless communications providers. Additionally,
this subsidiary provides paging service throughout the Virginia
portion of the Northern Shenandoah Valley. Shenandoah Mobile Company
was the managing partner and 66% owner of the Virginia 10 RSA
Limited Partnership prior to its sale February 28, 2003.
Shenandoah Long Distance Company
This subsidiary principally offers resale of long distance service
for calls placed to locations outside the regulated telephone
service area. This operation purchases switching and billing and
collection services from the telephone subsidiary similar to other
long distance providers. In addition, this subsidiary offers
facility leases of fiber optic capacity in surrounding counties, and
into Herndon, Virginia. This subsidiary has approximately 9,500
customers at December 31, 2003.
Shenandoah Network Company
This subsidiary owns and operates the Maryland and West Virginia
portions of a fiber optic network in the Interstate-81 corridor. In
conjunction with the telephone subsidiary, Shenandoah Network
Company is associated with the ValleyNet fiber network.
ShenTel Communications Company
This subsidiary began offering DSL service marketing Front Royal,
VA. in early 2002, is outside the Company's regulated service area.
The Company is operating this subsidiary as a Competitive Local
Exchange Carrier (CLEC). Currently there are minimal subscribers
receiving service from this subsidiary.
Shenandoah Personal Communications Company (PCS)
PCS began offering personal communications services through a
digital wireless telephone and data network in 1995. The service was
originally offered from Chambersburg, Pennsylvania to Harrisonburg,
Virginia under an agreement with American Personal Communications
(APC), using the GSM air interface technology. Upon the sale of APC
to Sprint, during the fourth quarter of 1999, PCS executed a
management agreement with Sprint, finished constructing and
activating a CDMA network where our GSM network existed, and
converted our PCS customer base from GSM to CDMA service. The Sprint
agreement expanded the Company's existing PCS territory to include
the adjacent Basic Trading Areas of Altoona, Harrisburg, and
York-Hanover, Pennsylvania increasing the population served by PCS
from of 679,000 to one of 2,048,000. During 2000, PCS completed the
initial network build-out of the Harrisburg/York, PA. market,
placing 74 sites in service in February 2001. This portion of the
network includes Harrisburg, York, Hanover, Gettysburg, and
Carlisle, Pennsylvania. In December 2001, the Altoona, Pennsylvania
market was activated bringing the total covered population to
approximately 1,600,000. The network covers
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233 miles of Interstates 81 and 83, and provides coverage on a
126-mile section of the Pennsylvania Turnpike between Pittsburgh and
Philadelphia. The Company had approximately 85,100 PCS customers at
December 31, 2003.
Additional information regarding the details of the agreements with
Sprint is set forth in Note 7 of the Company's consolidated
financial statements and related notes thereto appearing elsewhere
in this report.
Additional detail on the operating segments is set forth in Note 14
of the Company's consolidated financial statements appearing
elsewhere in this report.
The registrant does not engage in operations in foreign countries.
Working capital practices and competitive conditions are discussed
in "Management's Discussion and Analysis of Financial Condition and
Results of Operations" and the consolidated financial statements and
related notes thereto appearing elsewhere in this report.
The Company has no research and development expenses.
Websites and Additional Information
The SEC maintains a website at www.sec.gov that contains reports,
proxy and information statements, and other information regarding
the Company. In addition, we maintain a corporate website at
www.shentel.com. We make available free of charge through our
website our annual report on Form 10-K, quarterly reports on Form
10-Q, current reports on Form 8-K, and all amendments to those
reports, as soon as reasonably practicable after we electronically
file or furnish such material with or to the SEC. The contents of
our website are not a part of this report.
We also make available on our website and in print to any
shareholder who requests them copies of the charters of each
standing committee of our board of directors and our code of
business conduct and ethics. Requests for copies of these documents
may be directed to our Secretary at Shenandoah Telecommunications
Company, 124 South Main Street, P.O. Box 459, Edinburg, Virginia
22824. To the extent required by SEC rules, we intend to disclose
any amendments to our code of conduct and ethics, and any waiver of
a provision of the code with respect to the Company's directors,
principal executive officer, principal financial officer, principal
accounting officer or controller, or persons performing similar
functions, on our website referred to above within five business
days following any such amendment or waiver, or within any other
period that may be required under SEC rules from time to time.
RISK FACTORS
The Company is subject to many risks. The following items are
representative of the risks, uncertainties and assumptions that
could affect the Company, future performance, liquidity and the
outcome of the forward-looking statements. In addition, the
business, future performance, and liquidity could be affected by
general industry and market conditions and growth rates, general
economic and political conditions, including the global economy and
other future events, including those described below and elsewhere
in this annual report on Form 10-K.
7
Risks Related to the PCS Business
Shenandoah Personal Communications Company (PCS) is the largest of
our operating subsidiaries in terms of revenues and assets.
PCS faces many risks associated with this substantial and growing
business. The Company relies on Sprint's ongoing operations as the
basis for its ability to continue to offer its PCS subscribers
seamless national services that are currently provided. Given the
magnitude of the relationship, any interruption in Sprint's business
could adversely impact the Company's results of operations,
liquidity and financial condition.
Competition is intense in the wireless communications industry.
Competition has caused, and the Company anticipates that competition
will continue to cause, the market prices for two-way wireless
products and services to decline in the future. The ability to
compete will depend, in part, on the ability to anticipate and
respond to various competitive factors affecting the
telecommunications industry as a whole, and the wireless industry
specifically.
Revenues may be less than anticipated, which could materially
adversely affect liquidity, financial condition and results of
operations.
Revenue growth is primarily dependent on the growth of the
subscriber base, average monthly revenues per user, travel and
roaming revenue. The Company has seen a continuation of competitive
pressures in the wireless telecommunications market causing some
major carriers to offer plans with increasingly larger bundles of
minutes of use at lower prices that may compete with the Sprint
wireless calling plans sold by the Company. Increased price
competition may lead to lower average monthly revenues per user than
anticipated. In addition, the lower reciprocal travel rate that
Sprint instituted in 2003 reduced our travel revenue yield, although
the Company's overall travel revenue increased due to significantly
increased travel traffic. The Company's travel expense may not
follow the same trend in the future, depending on our subscribers'
travel usage outside our network area. If revenues are less than
anticipated, it could impact liquidity, financial condition and
results of operations.
Operating costs may be higher than anticipated which could
materially adversely affect liquidity, financial condition and
results of operations.
Increased competition may lead to higher promotional costs, losses
on sales of handsets and other costs to acquire subscribers.
Further, as described below under "Risks Related to Our Relationship
With Sprint," a substantial portion of costs of service and roaming
are attributable to fees and charges paid to Sprint for billing and
collection, customer care and other back-office support. The ability
to manage costs charged by Sprint is limited. If these costs are
more than anticipated, the actual amount of funds to implement the
Company's strategy and business plan may fall short of our
estimates, which could have a material adverse affect on liquidity,
financial condition and results of operations.
The dynamic nature of the wireless market may limit management's
ability to quickly discern causes of volatility in key operating
metrics.
The Company's dependence on Sprint to develop competitive products
and services in the PCS segment may limit the ability to keep pace
with competitors on the introduction of new products, services and
equipment.
8
The business plan and estimated future operating results are based
on estimates of key operating metrics, including subscriber growth,
subscriber turnover (commonly known as churn), average monthly
revenue per subscriber, losses on sales of handsets and other
subscriber acquisition costs and other operating costs. The dynamic
nature of the wireless market, economic conditions, increased
competition in the wireless telecommunications industry, Sprint's
or any competitor's new service offerings of increasingly larger
bundles of minutes of use at lower prices, and other issues facing
the wireless telecommunications industry in general created a level
of uncertainty that may adversely affect our ability to predict
these key operating metrics.
The Company may continue to experience a high rate of subscriber
turnover, which could adversely affect financial performance in the
future.
The 2004 business plan assumes that churn will remain fairly stable
under existing operating conditions. Due to significant competition
in the industry and general economic conditions, among other things,
this stability may not occur and the future rate of subscriber
turnover may be higher than the Company's recent experience. Factors
that may contribute to higher churn include:
o inability or unwillingness of subscribers to pay,
which results in involuntary deactivations;
o subscriber mix and credit class, particularly
sub-prime credit subscribers;
o competition of products, services and pricing of
other providers;
o inadequate network performance and coverage
relative to competitors in the Company's service
area;
o inadequate customer service;
o increased prices; and,
o any future changes by Sprint and/or the Company in
the products and services offered, especially as
it relates to sub-prime credit customers.
A high rate of subscriber turnover could adversely affect the
competitive position, liquidity, financial position, results of
operations and the costs of, or losses incurred in, obtaining new
subscribers, especially because as is the norm in the industry, the
Company subsidizes some of the costs related to the purchases of
handsets by subscribers.
The allowance for doubtful accounts is an estimate and may not be
sufficient to cover uncollectable accounts.
On an ongoing basis, the Company estimates the amount of subscriber
receivables that will not be collected based on historical results
and actual write-offs reported by Sprint. The allowance for doubtful
accounts may underestimate actual unpaid receivables for various
reasons, including:
9
o the churn rate may exceed estimates;
o bad debt as a percentage of service revenues may
increase rather than remain consistent with
historical trends ;
o adverse changes in the economy; or,
o unanticipated changes in Sprint's wireless
products and services.
If the allowance for doubtful accounts is insufficient to cover
losses on receivables, it could adversely affect liquidity,
financial condition and results of operations.
Travel revenue, which is the fee paid to the Company by Sprint and
the other Sprint Affiliates when their customers use the Company's
network, could be less than anticipated, which could adversely
affect the liquidity, financial condition and results of operations.
The Company may incur significantly higher wireless handset subsidy
costs than anticipated for existing subscribers who upgrade to a new
handset.
As the Company's subscriber base matures, and technological
innovations occur, the Company anticipates existing subscribers will
continue to upgrade to new wireless handsets. The Company subsidizes
a portion of the price of wireless handsets and in some cases incurs
sales commissions, for handset upgrades, to discourage customer
defections to competitors. If more subscribers upgrade to new
wireless handsets than the Company projects, the results of
operations would be adversely affected. If the Company does not
continue to subsidize the cost of the handsets for handset
up-grades, subscribers could choose to deactivate and move to other
carriers.
If the Company is unable to secure additional tower sites or leases
to install equipment to expand the wireless coverage or is unable to
renew expiring leases, the level of service and ultimately the
financial condition and results of operations could be adversely
impacted.
Many of the Company's cell sites are co-located on leased tower
facilities shared with one or more wireless providers. A large
portion of these leased tower sites are owned by a limited number of
companies. If economic conditions affect the leasing company, the
Company's lease may be impacted and the ability to remain on the
tower could be jeopardized, which could leave areas of the Company's
service area without service, and therefore the financial condition
and results of operations could be materially and adversely
affected.
Media reports have suggested that certain radio frequency emissions
from wireless handsets may be linked to various health problems,
including cancer, and may interfere with various electronic medical
devices, including hearing aids and pacemakers. Concerns over radio
frequency emissions may discourage use of wireless handsets or
expose the Company to potential litigation. Any resulting decrease
in demand for wireless services, costs of litigation or damage
awards could impair the ability to sustain profitability.
Regulation by government or potential litigation relating to the use
of wireless phones while driving could adversely affect our results
of operations, liquidity and financial condition. Some studies have
indicated that some aspects of using wireless phones
10
while driving may impair drivers' attention in certain
circumstances, making accidents more likely. These concerns could
lead to litigation relating to accidents, deaths or serious bodily
injuries, or to new restrictions or regulations on wireless phone
use, any of which also could have an adverse effect on the results
of operations. A number of U.S. states and local governments are
considering or have recently enacted legislation that would restrict
or prohibit the use of a wireless handset while driving a vehicle
or, alternatively, require the use of a hands-free telephone.
Legislation of this nature, if enacted, could require wireless
service providers to supply to its subscribers hands-free enhanced
services, such as voice activated dialing and hands-free speaker
phones and headsets, in order to continue generating revenue from
their subscribers who use wireless phones while driving. If the
Company is unable to provide hands-free services and products to
subscribers in a timely and adequate fashion, the volume of wireless
phone usage would likely decrease, and the ability to generate
revenues would suffer in the wireless line of our business.
Risks Related to the Telecommunications Industry
With the enactment of the Telecommunications Act of 1996,
competition in all segments of the business has intensified.
As new technologies are developed and deployed by competitors in the
Company's service area, there is the potential that subscribers will
elect other providers' offerings, based on price, capabilities and
personal preferences. If significant numbers of the Company's
subscribers elect to move to other competing providers, it could
prevent the Company from operating profitably.
Most of the Company's competitors are larger, possess greater
resources, have more extensive coverage areas, and offer more
services than the Company. There has been a recent trend in the
industry towards consolidation through joint ventures,
reorganizations and acquisitions. The Company expects this
consolidation to lead to larger competitors over time, and as a
result, the Company may be unable to compete successfully with
larger companies that have substantially greater resources or that
offer more services to larger geographic areas.
Market saturation could limit or decrease the rate of new subscriber
additions.
Alternative technologies, changes in the regulatory environment and
current uncertainties in the marketplace may reduce future demand
for existing telecommunication services.
The telecommunications industry is experiencing significant
technological change, evolving industry standards, ongoing
improvements in the capacity and quality of digital technology,
shorter development cycles for new products and enhancements and
changes in end-user requirements and preferences. Technological
advances and industry changes could cause the technology used by the
Company to become obsolete. The Company and its vendors may not be
able to respond to such changes and implement new technology on a
timely basis, or at an acceptable cost.
If the Company and other companies that support the Company's
operations are unable to keep pace with these technological changes,
the Company may lose revenues, subscribers or both. This could be
the result of changes in the telecommunications market based on the
effects of the Telecommunications Act of 1996, from the uncertainty
of future government regulation and changes in customers' technology
demands.
11
A recession in the United States involving significantly reduced
consumer spending could have a negative impact on the results of
operations.
The Company customers are individual consumers and businesses that
provide goods and services to consumers. The Company's customers are
located in a relatively concentrated geographic area and our
accounts receivable represent unsecured credit. An economic downturn
could have an adverse affect on the Company's operations. In the
event that the economic downturn occurs, and spending by consumers
drops significantly, the Company may be negatively affected.
Regulation by government and taxing agencies may increase the costs
of providing service or require changes in services, either of which
could impair the Company's financial performance.
The Company's operations is subject to varying degrees of regulation
by the Federal Communications Commission, the Federal Trade
Commission, the Federal Aviation Administration, the Environmental
Protection Agency, the Occupational Safety and Health Administration
along with state and local regulatory agencies and legislative
bodies. Adverse decisions or regulation of these regulatory bodies
could negatively impact the operations and the costs of doing
business. For example, changes in tax laws or the interpretation of
existing tax laws by state and local authorities could increase
income, sales or other tax costs.
Risks Related to the Company's Relationship with Sprint
The termination of the Company's affiliation with Sprint would
severely restrict the ability to conduct the wireless business.
The Company does not own the licenses to operate its wireless
network. The ability of the Company to offer Sprint wireless
products and services and operate a PCS network is dependent on the
Sprint agreements remaining in effect and not being terminated. The
Company's Management Agreement with Sprint automatically renews at
the expiration of the 20-year initial term which ends in 2019, for
an additional 10-year period and two subsequent 10-year periods
unless the Company is in material default. Sprint can choose not to
renew the Management Agreement at the expiration of any the renewal
term. In any event, the Management Agreement terminates in 50 years.
In addition, each of the Sprint Agreements can be terminated for
breach of any material term, including, among others, marketing,
build-out and network operational requirements. Many of these
requirements are extremely technical and detailed in nature. In
addition, many of these requirements can be changed by Sprint with
little notice. As a result, the Company may not always be in
compliance with all requirements of the Sprint agreements. At
December 31, 2003, the Company believes it was in compliance with
all material terms and conditions of the Sprint Management
Agreement.
The Company is dependent on Sprint's ability to perform its
obligations under the Sprint agreements. The non-renewal or
termination of any of the Sprint agreements or the failure of Sprint
to perform its obligations under the Sprint agreements would
severely restrict the ability to conduct business.
Sprint may make business decisions that are not in the Company's
best interests, which may adversely affect the relationships with
subscribers in our territory, increase expenses and/or decrease
revenues.
12
Sprint, under the Sprint Agreements, has a substantial amount of
control over the conduct of the Company's PCS business. Accordingly,
Sprint may make decisions that adversely affect our PCS business,
such as the following:
o Sprint could price its national plans based on its own
objectives and could set price levels or other terms
that may not be economically sufficient for the Company;
o Sprint could develop products and services, or establish
credit policies, which could adversely impact the
results of operations;
o Sprint cost to provide and maintain support services
could increase;
o Sprint can reduce the reciprocal travel rate charged
when Sprint's or its PCS Affiliates' subscribers use the
Company's network after 2006;
o Sprint could, subject to limitations under our Sprint
Agreements, alter its network and technical requirements
or request the Company build out additional areas within
its territories, which could result in increased
equipment and build-out costs; or
o Sprint could make decisions that could adversely affect
the Sprint brand names; products or services; or no
longer perform its obligations, any of which would
severely restrict the Company's ability to conduct
business in its PCS segment.
The occurrence of any of the foregoing could adversely affect the
relationship with wireless subscribers in the Company's territories,
increase expenses and/or decrease revenues and have a material
adverse affect on liquidity, financial condition and results of
operation not only in our PCS business, but could damage the
reputation of the Company and have a similar impact on the other
business segments.
The dependence on Sprint for services may limit the ability to
reduce costs, which could adversely affect the financial condition
and results of operations or may adversely affect the ability to
predict the results of operations.
The dependence on Sprint injects a greater degree of uncertainty to
the Company's business and financial planning. Unanticipated future
expenses and reductions in revenue will have a negative impact on
liquidity and make it more difficult to reliably predict future
performance.
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.
Inaccuracies in data provided by Sprint could overstate or
understate expenses or revenues and result in out-of-period
adjustments that may materially adversely impact financial results.
13
Because Sprint provides billing and collection services for the
Company, Sprint remits a significant portion of total revenues to
the Company. The Company relies on Sprint to provide accurate,
timely and sufficient data and information to properly record
revenues, expenses and accounts receivable, which underlie a
substantial portion of the financial statements and other financial
disclosures.
The Company and Sprint have previously discovered billing and other
errors or inaccuracies, which, while not material to Sprint, could
be material to the Company. If the Company is required in the future
to make additional adjustments or charges as a result of errors or
inaccuracies in data provided by Sprint, such adjustments or charges
may have a material adverse affect on the financial results in the
period that the adjustments or charges are made. Such adjustments,
may lead to a qualified opinion by the external auditors, or require
restatement of the Company's financial statements.
The Company is subject to risks relating to Sprint's provision of
back office services, changes in products, services, plans and
programs.
The inability of Sprint to provide high quality back office services
could lead to subscriber dissatisfaction, increased churn or
otherwise increased costs. The Company relies on Sprint's internal
support systems, including customer care, billing and back office
support. The Company's operations could be disrupted if Sprint is
unable to provide and expand its internal support systems in a high
quality manner, or to efficiently outsource those services and
systems through third-party vendors.
Sprint recently notified the Company that the customer care function
was being outsourced to IBM. This move could impact the level of
service the customers receive and could adversely impact the
Company's ability to retain subscribers in its markets.
Changes in Sprint's PCS products and services may reduce subscriber
additions, increase subscriber turnover and decrease subscriber
credit quality. The competitiveness of Sprint's PCS products and
services is a key factor in the ability to attract and retain
subscribers.
Sprint's roaming arrangements to provide service outside of the
Sprint National Network may not be competitive with other wireless
service providers, which may restrict the ability to attract and
retain subscribers and may increase the costs of doing business.
The Company relies on Sprint's roaming arrangements with other
wireless service providers for coverage in some areas where Sprint
service is not yet available. The risks related to these
arrangements include:
o the quality of the service provided by another provider
during a roaming call may not approximate the quality of
the service provided by the Sprint PCS network;
o the price of a roaming call off network may not be
competitive with prices of other wireless companies for
roaming calls;
o subscribers must end a call in progress and initiate a
new call when leaving the Sprint PCS network and
entering another wireless network;
14
o customers may not be able to use Sprint's advanced
features, such as voicemail notification, while roaming;
and
o Sprint or the carriers providing the service may not be
able to provide accurate billing information on a timely
basis.
If customers are not able to roam quickly or efficiently onto other
wireless networks, the Company may lose current subscribers and
Sprint wireless services will be less attractive to new subscribers.
Certain provisions of the Sprint Agreements may diminish the value
of the Company's common stock and restrict or diminish the value of
the business.
Under limited contractual circumstances, Sprint may purchase the
operating assets of the Company's PCS operation at a discount. In
addition, Sprint must approve any assignment of the Sprint
agreements. Sprint also has a right of first refusal if the Company
decides to sell its PCS operating assets to a third-party. These
restrictions and other restrictions contained in the Sprint
agreements could adversely affect the value of the Company's common
stock, may limit the ability to sell the business, may reduce the
value a buyer would be willing to pay and may reduce the "entire
business value," as described in the Sprint agreements.
The Company may have difficulty in obtaining an adequate supply of
certain handsets from Sprint, which could adversely affect the
results of operations.
PCS depends on our relationship with Sprint to obtain handsets.
Sprint orders handsets from various manufacturers. The Company could
have difficulty obtaining specific types of handsets in a timely
manner if:
o Sprint does not adequately project the need for handsets
for itself, its PCS Affiliates and its other third-party
distribution channels, particularly in transition to new
technologies;
o Sprint gives preference to other distribution channels;
o The Company does not adequately project its need for
handsets;
o Sprint modifies its handset logistics and delivery plan
in a manner that restricts or delays access to handsets;
or
o there is an adverse development in the relationship
between Sprint and its suppliers or vendors.
o Sprint and the Company rely on manufacturers for new
product introductions and meeting delivery commitments.
The occurrence of any of the foregoing could disrupt subscribers'
service and/or result in a decrease in subscribers, which could
adversely affect the results of operations.
If Sprint does not continue to enhance its nationwide digital
wireless network, the Company may not be able to attract and retain
subscribers.
Sprint currently intends to cover a significant portion of the
population of the United States, Puerto Rico and the U.S. Virgin
Islands by creating a nationwide network through its own
construction efforts and those of its PCS Affiliates. Sprint and the
Affiliates are still constructing its nationwide network and does
not offer PCS services, either on its own network or through its
roaming agreements, in every part of the United States. Sprint
15
has entered into management agreements similar to the Company's with
companies in other markets under its nationwide digital wireless
build-out strategy. The results of operations are dependent on
Sprint's national network and on the networks of Sprint's other
Affiliates. Sprint's digital wireless network may not provide
nationwide coverage to the same extent as its competitors, which
could adversely affect the ability to attract and retain
subscribers.
If other PCS Affiliates of Sprint have financial difficulties or
cease operating, the Affiliate's network could be disrupted.
Sprint's national digital wireless network is a combination of
networks. The large metropolitan areas are owned and operated by
Sprint, and the areas in between them are generally owned and
operated by Sprint PCS Affiliates, all of which are independent
companies.
If other PCS Affiliates experience financial difficulties, Sprint's
digital wireless network could be disrupted. While Sprint may have
the right to step in and operate the network in the affected
territory, there can be no assurance that the transition would occur
in a timely and seamless manner. In addition, the Company does not
have the ability to require other PCS Affiliates to pay amounts due
for travel in the Company's market areas by such other PCS
Affiliates subscribers. The Company relies on Sprint to enforce the
payment obligations of such PCS Affiliates.
Non-renewal or revocation by the Federal Communications Commission
(FCC) of Sprint's PCS licenses would significantly harm to the
Company. Wireless spectrum licenses are subject to renewal and
revocation by the FCC. There may be opposition to renewal of
Sprint's PCS licenses upon their expiration, and Sprint's PCS
licenses may not be renewed. The FCC has adopted specific standards
to apply to PCS license renewals. Any failure by Sprint to comply
with these standards could cause revocation or forfeiture of
Sprint's PCS licenses. If Sprint loses any of its licenses, it would
severely restrict the Company's ability to conduct business.
If Sprint does not maintain control over its licensed spectrum, the
Sprint agreements may be terminated, which would result in the
inability to provide service to the Company's subscribers.
ITEM 2. PROPERTIES
The Company owns a 24,000 square foot building in Edinburg, Virginia
that houses the corporate headquarters and the Company's main
switching center. A separate 10,000 square foot building in
Edinburg, is used for customer services and retail sales. In late
1999, the Company purchased a 60,000 square foot building in
Edinburg, which was initially used for storage and limited office
space. Renovations are currently underway to convert a portion of
the building into additional office space and meeting facilities.
The Company also owns eight telephone exchange buildings that are
located in the major towns and some of the rural communities and
that serve the regulated service area. These buildings contain
switching and fiber optic equipment and associated local exchange
telecommunications equipment. The Company owns a 6,000 square foot
service building outside of the town limits of Edinburg, Virginia.
The Company owns a 10,000 square foot building in Winchester,
Virginia used for retail sales and office space. The Company has
fiber optic hubs or points of presence in Hagerstown, Maryland;
Ashburn, Berryville, Front Royal, Harrisonburg, Herndon, Leesburg,
Stephens City, Warrenton and Winchester, Virginia; and Martinsburg,
West Virginia.
16
The buildings are a mixture of owned on leased land, leased space,
and leasehold improvements. The majority of the identified
properties are of masonry construction, are suitable to their
existing use, and are in adequate condition to meet the foreseeable
future needs of the organization. The Company is leasing a
warehouse, office space and an operations area in Pennsylvania, to
support the network and sales efforts in the Central Penn market.
The Company also leases retail space in Harrisonburg and Front
Royal, Virginia, Hagerstown, Maryland, and Harrisburg,
Mechanicsburg, and York, Pennsylvania. The Company plans to lease
additional land, equipment space, and retail space in support of the
ongoing PCS expansion.
ITEM 3. LEGAL PROCEEDINGS
None
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of security holders for the
three months ended December 31, 2003.
17
PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED SHAREHOLDER
MATTERS
The Company's stock is traded on the NASDAQ National Market under the
symbol "SHEN." Information on the high and low closing prices per share of
common stock as reported by the NASDAQ National Market for the last two years is
set forth below:
2003 High price Low price
---- ---------- ---------
First Quarter $24.31 $13.64
Second Quarter 24.98 14.33
Third Quarter 25.48 19.25
Fourth Quarter 27.50 19.74
2002 High price Low price
---- ---------- ---------
First Quarter $20.06 $16.50
Second Quarter 27.25 19.69
Third Quarter 27.25 22.75
Fourth Quarter 25.95 21.61
All share and per share figures are restated to reflect the 2 for 1 stock split
effected February 23, 2004.
As of February 15, 2004, there were approximately 3,930 holders of record of the
Company's common stock.
The Company historically has paid an annual cash dividend on or about December
1st of each year. The cash dividend was $0.39 per share in 2003 and $0.37 per
share in 2002. The terms of a mortgage agreement require the maintenance of
defined amounts of the Telephone subsidiary's equity and working capital after
payment of dividends. Approximately $2,812,000 of the Telephone subsidiary's
retained earnings was available for payment of dividends at December 31, 2003.
The loan agreement is not expected to limit dividends in amounts that the
Company historically has paid.
ITEM 6. SELECTED FINANCIAL DATA
The following table presents selected financial data as of December 31, 1999,
2000, 2001, 2002 and 2003 and for each of the five years ended December 31,
2003.
The selected financial data as of December 31, 2001, 2002 and 2003 and for each
of the years in the three-year period ended December 31, 2003 are derived from
the Company's audited consolidated financial statements appearing elsewhere in
this report.
The selected financial data as of December 31, 1999 and 2000 and for the years
ended December 31, 1999 and 2000 are derived from the Company's financial
statements which have been audited.
The selected financial data should be read in conjunction with "Management's
Discussion and Analysis of Financial Condition and Results of Operations" and
our consolidated financial statements and related notes thereto appearing
elsewhere in this report.
(Dollar figures in thousands, except per share data.)
2003 2002 2001 2000 1999
----------- ----------- ---------- ---------- ----------
Operating Revenues $ 105,861 $ 92,974 $ 68,722 $ 44,445 $ 29,701
Operating Expenses 87,233 83,636 62,298 39,065 24,624
Income Taxes (Benefit) 5,304 (2,109) 5,811 2,975 1,729
Interest Expense 3,510 4,195 4,127 2,936 1,951
Income (Loss) from Continuing
Operations $ 9,761 $ (2,893) $ 9,694 $ 5,091 $ 2,927
Discontinued Operations, net of tax 22,389 7,412 6,678 4,764 3,501
Cumulative effect of a change in
accounting, net of tax (76) -- -- -- --
Net Income 32,074 4,519 16,372 9,855 6,428
Total Assets 185,364 164,004 167,372 152,585 133,644
Long-term Obligations 43,346 52,043 56,436 55,487 33,030
Shareholder Information
Number of Shareholders 3,930 3,954 3,752 3,726 3,683
Shares Outstanding 7,592,768 7,551,818 7,530,956 7,518,462 7,511,520
Income (Loss) per share from
Continuing Operations-diluted $ 1.28 $ (0.38) $ 1.28 $ 0.68 $ 0.39
Income per share from
Discontinued Operations-diluted 2.94 0.98 0.88 0.63 0.47
Loss per share from cumulative effect of
a change in accounting-diluted (0.01) -- -- -- --
Net Income per share-diluted 4.22 0.60 2.17 1.31 0.86
Cash dividends per share $ 0.39 $ 0.37 $ 0.35 $ 0.33 $ 0.28
18
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
This annual report contains 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.
The Company undertakes no obligation to publicly revise these forward-looking
statements to reflect subsequent events or circumstances, except as required by
law.
General
Shenandoah Telecommunications 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
markets. The Company refers to the Altoona, Harrisburg, and York, Pennsylvania
markets as its Central Penn markets. 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.
The Company reports revenues as wireless, wireline 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.
19
The Company participates in the telecommunications industry, which requires
substantial investment in fixed assets or plant. This significant capital
requirement may preclude profitability during the initial years of operation.
The strategy of the Company is to grow and diversify the business by adding
services and geographic areas that can leverage the existing plant, but to do so
within the opportunities and constraints presented by the industry. For many
years the Company focused on reducing reliance on the regulated telephone
operation, which up until 1981 was the primary business within the Company. This
initial diversification was concentrated in other wireline businesses, such as
the cable television and regional fiber facility businesses, but in 1990 the
Company made its first significant investment in the wireless sector through its
former investment in the Virginia 10 RSA Limited partnership. By 1998, revenues
of the regulated telephone operation had decreased to 59.2% of total revenues.
In that same year more than 76.6% of the Company's total revenue was generated
by wireline operations, and initiatives were already underway to make wireless a
more significant contributor to total revenues.
During the 1990's significant investments were made in the cellular and PCS
(wireless) businesses. The VA 10 RSA cellular operation, in which the Company
held a 66% interest and was the general partner, experienced rapid revenue
growth and excellent margins in the late 1990's. The cellular operation covered
only six counties, and became increasingly dependent on roaming revenues.
Management believed the roaming revenues and associated margins would be
unsustainable as other wireless providers increasingly offered
nationally-branded services with significantly reduced usage charges. To
position it to participate in the newer, more advanced, digital wireless
services, in 1995 the Company entered the PCS business through an affiliation
with American Personal Communications (APC), initiating service along the
Interstate 81 corridor from Harrisonburg, Virginia to Chambersburg,
Pennsylvania. This territory was a very close match to the Company's fiber
network, thereby providing economic integration that might not be available to
other wireless carriers. In 1999, the Company entered a new affiliation
arrangement with Sprint, the successor to APC (which introduced the Company to a
nationally-branded wireless service) and expanded the PCS footprint further into
Central Pennsylvania. The Company's combined capital investment in 2000 and 2001
in the PCS operation was $45.1 million.
The wireless industry in the late 1990's became increasingly competitive and the
Company was not immune to these industry issues. The Clear PaySM program,
introduced by Sprint as a no-deposit offering in 2001, attracted high credit
risk customers in the Company's markets. As the results began to materialize,
the Company implemented deposits on this program (mid-April 2002), and
experienced high levels of customer turnover (churn) and uncollectable accounts.
The write-offs of uncollectable accounts peaked in the third quarter of 2002.
During the fourth quarter of 2002 there was some evidence that the strengthened
credit policy was having a favorable impact. Nonetheless, the 2002 net loss in
the PCS operation was $5.4 million, as compared to $5.5 million in 2001. Despite
the disappointing financial results for 2002, the PCS customer base grew by over
40%. While the PCS operation was adding customers, the cellular operation
continued to lose its local customer base.
The growing belief that national branding was critical to our wireless
operations, the expectation that roaming revenues from our analog cellular
operation would not continue to grow, and the increase in the number of wireless
competitors in our markets, prompted the Company to exit the cellular business
in order to focus on our PCS operations. The Company entered into an agreement
on November 21, 2002, to sell its 66% ownership interest in the Virginia 10 RSA
cellular operation which was classified as a discontinued operation. The closing
occurred February 28, 2003. The Company received $37.0 million in proceeds,
including $5.0 million in escrow for two years and $1.7 million for working
capital.
In many respects, 2003 was a successful year. Churn and levels of uncollectable
accounts in the PCS operation returned to more acceptable levels. PCS revenues
reached $67.0 million, and total revenues reached $105.9 million. The PCS
operation recognized a small profit for the year, including favorable
adjustments associated with settlement of disputed items with Sprint. Excluding
the favorable adjustments, the PCS operation recognized a profit in the fourth
quarter. With improved operating cash flow and reduced capital spending in 2003,
the Company prepaid $4.6 million in debt, selecting those notes with nominal
prepayment penalties. Additionally, after receiving the cash and paying taxes on
the gain of the sale of the Virginia 10 partnership interest, the Company
invested the remaining proceeds in liquid financial instruments, available for
future deployment. Additionally, the Company has been successful at decreasing
its dependency on wireline revenues. Wireline revenues, at $29.0 million in 2003
compared to $18.6 million in 1998, were 27.4% of total revenues in 2003 compared
to 76.6% in 1998.
Entering 2004, the Company is pleased with the milestone of a profitable quarter
in the PCS operation, but recognizes that much work remains to ultimately earn a
reasonable return on this investment. The recently announced signing of an
addendum to the management and services agreements with Sprint is expected to
lead to cost savings and greater
20
certainty in fees paid to Sprint. However, the consolidation predicted for the
wireless industry in recent years, including the recently announced Cingular/ATT
deal and anticipated improvements in the overall economics of wireless services,
has not yet materialized. Future Sprint marketing efforts, designed to meet the
competition, could potentially have an unfavorable impact on the Company and
lead to additional losses. The risks associated with the Sprint PCS affiliation
are described in further detail elsewhere in this document. The Company is now
reviewing alternatives for other businesses to further diversify our revenue
base, from either a services platform or a geographic concentration.
21
Additional Information About the Company's Business
(unaudited)
Three Month Period Ended Dec. 31, Sept. 30, Jun. 30, Mar. 31, Dec. 31,
2003 2003 2003 2003 2002
-----------------------------------------------------------------
Telephone Access Lines 24,877 24,951 24,972 24,903 24,879
CATV Subscribers 8,696 8,796 8,750 8,704 8,677
Dial-up Internet Subscribers 17,420 17,616 17,798 18,174 18,050
DSL Subscribers 1,298 1,163 1,080 852 646
Retail PCS Subscribers 85,139 81,015 77,398 72,480 67,842
Wholesale PCS Users (1) 12,858 7,531 4,690 3,280 1,672
Paging Subscribers 1,989 2,107 2,315 2,805 2,940
Long Distance Subscribers 9,526 9,517 9,520 9,312 9,310
Fiber Route Miles 552 552 552 552 549
Total Fiber Miles 28,740 28,740 28,739 28,729 28,403
Wholesale PCS Minutes (000) 4,974 3,207 2,303 1,562 530
Long Distance Calls (000) (2) 5,851 6,078 5,001 5,074 5,969
Total Switched Access Minutes (000) 55,932 54,349 51,124 48,380 46,627
Originating Switched Access MOU (000) 17,829 18,285 18,343 18,685 18,476
Employees (full time equivalents) 268 264 266 267 268
CDMA Base Stations (sites) 253 248 246 240 237
Towers (100 foot and over) 77 76 73 72 72
Towers (under 100 foot) 11 10 10 10 10
(See note (3) for definitions of terms)
PCS Market POPS (000) 2,048 2,048 2,048 2,048 2,048
PCS Covered POPS (000) 1,581 1,581 1,574 1,574 1,555
PCS Average Revenue Per User (ex. Travel) $ 52.05 $ 55.09 $ 52.84 $ 52.22 $ 51.38
PCS Travel Revenue per sub. (4) $ 20.84 $ 16.50 $ 17.18 $ 17.39 $ 31.21
PCS Ave. Management Fee per sub $ 4.02 $ 4.62 $ 4.58 $ 4.40 $ 4.64
PCS Ave. Monthly Churn % 2.00% 2.20% 1.90% 2.30% 3.40%
PCS Cost Per Gross Addition (CPGA) $387.47 $418.22 $376.98 $276.97 $390.66
PCS Cash Cost Per User (CCPU) (4) $ 36.31 $ 40.05 $ 44.23 $ 45.87 $ 53.52
--------------------
PLANT FACILITIES Telephone CATV
--------------------
Route Miles 2,133.6 550.5
Customers Per Route Mile 11.7 15.8
Miles of Distribution Wire 579.3 157.8
Telephone Poles 7,675 36
Miles of Aerial Copper Cable 337.2 162.0
Miles of Buried Copper Cable 1,314.4 352.7
Miles of Underground Copper Cable 39.2 2.0
Fiber Optic Cable-Fiber Miles 256.9 --
Inter-toll Circuits to Interexchange Carriers 1,622 --
Special Service Circuits to Interexchange Carriers 313 --
(1) - Wholesale PCS Users are private label subscribers homed in the Company's
wireless network service area and primarily include Virgin Mobile
subscribers.
(2) - Originated by customers of the Company's Telephone subsidiary
(3) - POPS refers to the estimated population of 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 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, excluding travel
revenue, retained by Sprint. 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 includes selling
costs, product costs, and advertising costs. CCPU includes network,
customer care and other costs.
22
(4) - On a normalized basis, the 4th quarter PCS travel revenue per subscriber
would be $19.25 and PCS CCPU would be approximately $38.66 taking into
account the adjustments and true-ups recorded in December 2003.
Significant Transactions
The Company had several significant transactions during 2003. The largest was
the sale of its 66% interest in the Virginia 10 RSA cellular operation, as
described above. The Company originally entered into the agreement with Verizon
Wireless in November 2002. The Company was the general partner of the limited
partnership which operated 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 sales price was
$37.0 million plus the Company's 66% share of the partnership's working capital,
which was approximately $1.7 million. The Company was required to do a working
capital true up following the closing, from which the Company recorded a charge
for $23 thousand after taxes. In the fourth quarter the Company recorded an
additional charge for taxes of $0.2 million to reflect the consolidated
effective tax rate based on the final operating results for the year.
The sale of this business is reflected in the discontinued operations section of
the income statement along with the results of operations for the two months of
2003 that the operation remained a part of the Company.
Reflected in the 2003 results are several unusual items, which should be noted
in understanding the financial results of the Company for 2003.
1. Certain access revenue rate elements billed by the Company to
interexchange carriers were disputed and subsequently refunded to
the carriers. During 2003, the Company recorded a reduction in
access revenue of $1.2 million from interexchange customers related
to the disputed access revenue the Company previously billed for
switching facilities and the local exchange network. The disputes
cover a two-year period beginning in 2001 through and including the
second quarter of 2003. The total amount of the reduction related to
2003 was $0.7 million.
2. The Company changed its employee vacation policy so that employees
now earn and use their vacation benefits in the same year.
Previously, vacation benefits were earned in the year prior to the
year the benefits were available to the employee. As a result of
this change in employee benefit policy, the Company did not accrue
employee vacation expense for 2004 in 2003, thereby reducing its
benefit expenses by $0.5 million for the 2003 year.
3. The Company adjusted its estimate of deferred revenue for the PCS
operation in the fourth quarter of 2003. The adjustment decreased
deferred revenue by $0.6 million and increased revenue in 2003 by
the same amount.
4. The Company received a reimbursement from Sprint of $0.2 million
related to 2002 for its portion of the E911 surcharge collected from
PCS subscribers. The reimbursement is to offset the Company's
portion of handset costs incurred to make the customers' phones E911
compliant. This entry decreased cost of goods expenses.
On January 30, 2004, the Company, a PCS Affiliate of Sprint, signed agreements
with Sprint that resolved disputed items and documented changes in the
management and operating agreements between the two companies related to the
operations of the nationwide Sprint PCS network. The agreements provide the
Company with the ability to better estimate the future costs of certain
operating expenses and in the Company's opinion improve the contract between
Sprint and itself. Under the agreements:
1. Sprint agreed to compensate the Company for lost travel revenue
related to usage by Sprint customers in the Company's territory for
the period prior to 2003, and change the method of allocating
certain software maintenance fees between Sprint and its Affiliates
for fees recorded in 2002 and 2003. These items had the effect of
increasing operating income by $0.7 million in the 4th quarter of
2003.
23
2. The method used to price certain services performed by Sprint on
behalf of the Company was simplified. The CCPU (cash cost per user)
rate for the periods 2004 through 2006 was set at $7.70 per user per
month. This fee covers customer service, billing, collections,
network operations and other costs to support the customer. However,
Sprint may discontinue such services if Sprint is discontinuing such
services to all other Sprint PCS affiliates and Sprint's own
end-users. It is estimated that this rate will decrease the amount
the Company will pay Sprint compared to payments under the previous
method by approximately $120,000 per month in 2004.
3. There will be a maximum until the year 2007, on the non-direct Costs
per Gross Additions (CPGA) at the greater of 6.3% of the Sprint
published CPGA rate or $25. With the volatility of CPGA, the Company
cannot determine the amount of potential savings, but the change
does provide more certainty in estimating future costs.
4. For the period 2004 through 2006, the travel and reseller rates
between the Company and Sprint were set at $0.058 per minute for
voice and $0.002 per kilobyte for data. Without this agreement the
voice travel rate for 2004 would have decreased to $0.041. Since the
Company is in a net receivable position related to travel with
Sprint, the impact on net travel and reseller revenue would have
been a reduction of $1.5 million had the $0.041 rate been in effect
in 2003. Beginning in 2007, the Sprint travel and reseller rate will
be changed annually to equal 90% of Sprint's retail yield from the
prior year. Sprint's retail yield will be determined based on
Sprint's average revenue per PCS user for voice services divided by
the average minutes of use per user.
5. Sprint and the Company will agree on a service level agreement
related to the provision of customer services by December 1, 2006.
If Sprint does not reach the stated goals, the Company will have
the opportunity to either provide the services itself or contract
with a third party, beginning in 2008.
6. Through 2006, a methodology is provided to determine if the Company
is required to make certain capital expenditures and participate in
Sprint national marketing programs.
7. Effective January 1, 2004, the method of cash settlement provided
for under the Agreement changed from Sprint distributing cash from
customers based on collected revenue to billed revenue. The absolute
amount of cash received by the Company should remain the same, but
the Company should receive cash on a more timely basis.
8. The Company is entitled to a Most Favored Nations clause.
During the period through 2006, the Company will have the
opportunity to adopt any addendum to the Management and/or Service
Agreements that Sprint signs with another PCS Affiliate.
In May 2003, the Board of Directors of the Company adopted a nonqualified
supplemental executive retirement plan (SERP) benefit for named executives. The
plan was established to provide benefits beyond the pension plan that covers all
employees. See Note 9 of the Consolidated Financial Statements for additional
information.
In November 2003, the Company commenced a management reorganization that will be
ongoing into 2004. The reorganization was in recognition of the Company's growth
and changes in the telecom industry. The Company shifted from an organization
structure that was focused on lines of business to a plan that organizes on
function. The Company plans to expand the senior staff and corresponding
departments as needed to better position itself for future opportunities. This
reorganization did not require a charge to the operation, as there were no
positions lost or values impaired as a result of the reorganization.
On November 24, 2003, federal regulations went into effect whereby customers in
the 100 largest metropolitan areas were able to change wireless carriers and
keep their phone numbers. This is referred to as Wireless Local Number
Portability (WLNP). On the same date in those markets, wireline customers could
transfer their wireline number to a wireless phone. On May 24, 2004, Local
Number Portability (LNP) will be available to wireless and wireline subscribers
throughout the United States. To date, the impact of LNP/ WLNP on the Company
has been insignificant.
Summary
The Company's three major lines of business are wireless, wireline and other
businesses. Each of the three areas has unique issues and challenges that are
critical to the understanding of the operations of the Company. The wireless
business is made up of two different operations, the PCS operation and the tower
business. The wireline business is
24
made up of traditional telephone operations, a cable TV operation, fiber network
leasing and a company that resells long-distance. Other business includes the
Company's Internet operation, the Interstate 81 corridor Travel 511 project and
the sales and service of telecommunications systems.
The PCS operation must be understood within the context of the Company's
relationship with Sprint and its PCS Affiliates. The Company operates its PCS
wireless network as an affiliate of Sprint. The Company receives revenues from
Sprint for subscribers that obtain service in the Company's network coverage
area and those subscribers using the Company's network when they travel. The
Company relies on Sprint to provide timely, accurate and complete information
for the Company to record the appropriate revenue and expenses for the periods
reflected.
The Company's PCS business has operated in a net travel receivable position for
several years. The Company received $6.0 million in net travel in 2003, compared
to $5.8 million in 2002, and $4.0 million in 2001. This relationship could
change due to service plan changes, subscriber travel habit changes and other
changes beyond the control of the Company.
Through Sprint, the Company began receiving revenue from wholesale resellers of
wireless PCS service in late 2002. These resellers pay a flat rate per minute of
use for all traffic their subscribers generate on the Company's network. The
Company's cost to handle this traffic is the incremental cost to provide the
necessary network capacity.
The Company faces vigorous competition in the wireless business as numerous
national carriers are aggressively marketing their services in the Company's
markets. The competitive landscape could change significantly depending on the
marketing initiatives of our competitors, or in the event of consolidation in
the wireless industry.
The wireline business is made up of traditional telephony, cable TV, fiber
network operations and the Company's long-distance resale business. These
businesses operate in a defined geographic area. The Company's primary service
area for the telephone, cable TV and long-distance business is Shenandoah
County, Virginia. The county is a rural area in northwestern Virginia, with a
population of approximately 37,300 inhabitants, which has increased by
approximately 6,000 since 1990. The potential for significant numbers of
additional customers in the current operating area is limited.
The Company's telephone subscriber count declined in the third quarter and again
in the fourth quarter of 2003. Migration to wireless and DSL services are
believed to be driving this change. Based on industry experience, the Company
anticipates this trend may continue for the foreseeable future.
Other revenues include Internet services, both dial-up and DSL high-speed
service. The Company has seen a decline in dial up subscriptions over the last
year. The DSL service has grown over 100% in the last year driven by customer
desire for faster Internet connections.
The Company is facing competition for revenues it generates in the other lines
of business, which will require the Company to differentiate itself from other
providers through its service levels and evolving technologies that are more
reliable and cost effective for the customer.
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:
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 the analysis of the 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 historical average length of time that elapses
between the original billing date and the date of write-off and the financial
position of its larger customers 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.
25
The allowance for doubtful accounts balance as of December 31, 2003, 2002 and
2001 was $0.5 million, $0.9 million and $0.7 million, respectively. If the
allowance for doubtful accounts is not adequate, it could have a material
adverse effect on our liquidity, financial position and results of operations.
The Company also reviews current trends in the credit quality of the subscriber
bases in its various businesses and periodically changes its credit policies. As
of December 31, 2003, the Sprint PCS subscriber base in the Company's market
area consisted of 17.9% sub-prime credit quality subscribers compared to 25.3%
at December 31, 2002. Sprint manages the accounts receivable function related to
all of the Company's Sprint PCS wireless customers, therefore limiting the
amount of control the Company has in setting credit policy parameters.
The remainder of the Company's receivables are associated with services provided
on a more localized basis, where the Company exercises total control in setting
credit policy parameters. Historically there have been limited losses generated
from the non-PCS revenue streams. Prior to 2002, the Company had not faced
significant write-offs of inter-carrier accounts, but due to the
telecommunication industry down-turn of the last few years, the Company
experienced write-offs in this area of the business totaling $0.5 million in
2002, due to bankruptcy filings of several significant telecommunications
companies. In 2003, the inter-carrier segment of the business improved and the
Company recovered $240 thousand of bad debt from the sale of certain accounts
that were previously written-off.
Bad Debt expense summary, net of recoveries for the three years ended December
31, 2003:
In thousands
2003 2002 2001
----------------------------------
PCS subscribers $1,716 $3,744 $1,241
Interexchange carriers 48 488 --
Other subscribers and entities 71 170 82
----------------------------------
Total bad debt expense $1,835 $4,402 $1,323
==================================
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, and
the Emerging Issues Task Force ("EITF") 00-21, "Revenue Arrangements with
Multiple Deliverables" ("EITF 00-21"). Effective July 1, 2003 the Company
adopted EITF 00-21. The EITF guidance addresses how to account for arrangements
that may involve multiple revenue-generating activities, i.e., the delivery or
performance of multiple products, services, and/or rights to use assets. In
applying this guidance, separate contracts with the same party, entered into at
or near the same time, will be presumed to be a bundled transaction, and the
consideration will be measured and allocated to the separate units based on
their relative fair values. The consensus guidance was applicable to new PCS
service agreements entered into for quarters beginning July 1, 2003. The
adoption of EITF 00-21 required evaluation of each arrangement entered into by
the Company for each sales channel. The Company will continue to monitor
arrangements with its sales channels to determine if any changes in revenue
recognition will need to be made in the future. The adoption of EITF 00-21 has
resulted in substantially all of the PCS activation fee revenue generated
through Company-owned retail stores and associated direct costs being recognized
at the time the related wireless handset is sold and it is classified as
equipment revenue and cost of equipment, respectively. Upon adoption of EITF
00-21, previously deferred PCS revenue and costs will continue to be amortized
over the remaining estimated life of a subscriber, not to exceed 30 months. PCS
revenue and costs for activations at other retail locations and through other
sales channels will continue to be deferred and amortized over their estimated
lives as prescribed by SAB 101. The adoption of EITF 00-21 had the effect of
increasing equipment revenue by $68 thousand and increasing costs of equipment
by $23 thousand, which otherwise would have been deferred and amortized.
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, those purchased
though the Company's business-to-business sales force, 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 marketing reasons, the Company
26
sells wireless handsets at prices lower than the 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 in handset sales and the corresponding cost in
cost of goods, and accounts for these transactions separately from agreements to
provide customers wireless service. These transactions are viewed as a cost to
retain the existing customers and deter churn.
For the Company's wireless customers that purchase and activate their service
through a channel not covered by EITF 00-21, the wireless customers generally
pay an activation fee to the Company when they initiate service. The Company
defers the activation fee revenue (except when a special promotion reduces or
waives the fee) 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 portion of revenue (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 ("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.
Through December 31, 2003, the Agreement provided that Sprint retains 8% of
collected service revenues from subscribers based in the Company's markets and
from non-Sprint wholesale subscribers who roam onto the Company's network. The
amount of revenue retained by Sprint is recorded as an offset to the revenues
recorded. All revenue derived from the sale of handsets and accessories by the
Company and from certain roaming services (outbound roaming and travel revenues
from Sprint and its PCS Affiliate subscribers) are retained by the Company.
The Company defers direct subscriber activation costs on subscribers whose
activation falls within the SAB 101 guidelines. The activation costs are
deferred when incurred, and then amortized using the straight-line method over
30 months, which is the estimated average life of a subscriber. Direct
subscriber activation costs also include the activation charge from Sprint, and
credit check fees. These fees are charged to the Company by Sprint at
approximate $12.50 per subscriber.
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 2003, the Company added an additional reserve of $0.2
million to its valuation allowance due to the uncertainty of the recoverability
of the net operating loss carry-forwards in certain states. The valuation
allowance now stands at $0.9 million as of December 31, 2003. 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 39%.
Other
The Company does not have any unrecorded off-balance sheet transactions or
arrangements, however, the Company has commitments under operating leases and is
subject to certain capital calls under one of its investments.
27
Results of Continuing Operations
2003 compared to 2002
Total revenue was $105.9 million in 2003, an increase of $12.9 million or 13.9%.
Total revenues included $69.9 million of wireless revenues, an increase of $12.0
million or 20.7%; wireline revenues of $29.0 million, an increase of $0.3
million or 0.9%; and other revenues of $7.0 million, an increase of $0.6 million
or 9.7%.
Within wireless revenues, the PCS operation contributed $67.0 million, an
increase of $11.6 million, or 20.8%. PCS service revenues were $44.4 million, an
increase of $10.9 million or 32.4%. Service revenue growth was driven by the
increase in subscribers, totaling 85,139 at December 31, 2003, an increase of
17,297 or 25.5%, compared to 67,842 subscribers at year-end 2002. The company
had churn of 2.1% in 2003 compared to 2.8% in 2002. The decline in the churn
rate is the result of tightening the credit screening for new subscribers as
well as continued efforts to improve the after sales support. Competition in the
wireless industry continues to have a significant impact on the results of the
Company's PCS operation.
PCS travel revenue, including reseller revenue, which is compensation between
Sprint and its PCS Affiliates for use of the other party's network, was $16.8
million, an increase of $0.3 million or 1.8%. Travel revenue is impacted by the
geographic size of the Company's network service area, the overall number of
Sprint wireless customers, their travel patterns and the travel exchange rate.
The rate received on travel was $0.058 per minute in 2003, compared to $0.10 per
minute in 2002. As a part of the amended management agreement signed on January
30, 2004, Sprint and the Company agreed to maintain the travel rate at $0.058
per minute through December 31, 2006.
PCS equipment sales were $2.1 million, an increase of $0.4 million or 26.6%. The
equipment sales are net of $1.7 million of rebates and discounts given at the
time of sale. Rebates and discounts continue to be required to meet significant
industry competition for subscriber additions and subscriber retention. These
discounts and rebates are primarily transacted in the form of instant rebates,
providing a second phone free when a customer purchases one, or providing free
phones if the subscriber signs up for a specific contract term and a specific
service plan.
In accordance with Sprint's requirements, the Company launched third generation
(3G 1X) wireless 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 required 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 became more
pronounced in 2003, as use of new 3G services and features generated
approximately $1.0 million for the year, compared to $0.2 million in 2002. The
growth in 3G revenue is the result of more subscribers on 3G plans and the
increase in popularity of camera phones during 2003.
Wireless revenues included tower leases of $2.6 million, an increase of $0.5
million or 24.8%. The increase was the result of other wireless carriers
executing additional leases to use space on the Company's portfolio of towers.
Of the 88 towers and poles owned by the Company as of December 31, 2003, 52
towers have one or more external tenants, compared to 46 towers with external
tenants at the end of 2002.
Wireless revenues from the Company's paging operation were $0.2 million, a
decrease of $0.1 million as the customer base increasingly chose alternative
wireless services. Paging service subscribers declined by 32.3% in 2003 from
2,940 subscribers to 1,989 subscribers. The paging operation continues to
decline as more areas are covered by wireless voice services, which have
features that surpass those of paging technologies. The Company anticipates that
its paging customer base will continue to decline in the future.
Within wireline revenues, the Telephone operation contributed $22.7 million, an
increase of $0.3 million, or 1.2%. Telephone access revenues were $11.6 million,
an increase of $0.7 million or 6.7%. During 2003, the Company recorded a $1.2
million reduction to access revenue, of which $0.7 million was related to 2002,
resolving disputes with interexchange carriers on the rating of long distance
calls transiting the Telephone switching network for termination on wireless
networks.
Originating access revenue increased in 2003 due in part to a shift from
interstate to intrastate traffic. On similar traffic volume in both years, the
Company generated an additional $0.4 million due to a favorable rate
differential of $0.03 per minute on the increase in the mix of intrastate
traffic. The Company's increased access revenue was also a result of the benefit
gained through terminating more minutes through the switch, which increased 36.0
million minutes or
28
35.7% over 2002. The rates for terminating traffic were similar in both years,
although the percentage of terminating traffic to total traffic increased from
58% in 2002 to 65% in 2003.
The shift in originating traffic is the result of implementing software capable
of identifying actual interstate and intrastate traffic specifically delivered
to the wireline switch, where previously usage was allocated between interstate
and intrastate traffic types by the interexchange carriers.
The following table shows the access traffic minutes of use for the two years of
2003 and 2002.
Minutes of use (in thousands) 2003 2002
-------------------------------------------------------------
(net of intercompany usage)
Originating Terminating Originating Terminating
-------------------------------------------------------------
Interstate 29,373 87,539 42,929 63,959
Intrastate 37,190 49,103 22,684 36,712
-------------------------------------------------------------
Total 66,563 136,642 65,613 100,671
=============================================================
Access revenue (in thousands) 2003 2002
-------------------------------------------------------------
(net of intercompany usage) As reported Pro forma As reported Pro forma
-------------------------------------------------------------
Traffic sensitive (1) $ 4,274 $ 4,974 $ 4,676 $ 3,976
Special access revenues 1,606 1,606 1,247 1,247
Carrier common line settlement 5,750 5,750 4,978 4,978
-------------------------------------------------------------
Total $11,630 $ 12,330 $10,901 $ 10,201
=============================================================
(1) Traffic sensitive revenue has been normalized in the proforma column to
remove the impact of the access billing dispute adjustment and the impact
of the NECA settlement adjustments.
Facility lease revenue contributed $5.5 million to wireline revenues, a decrease
of $0.2 million or 3.5%. The decrease was primarily the result of the prolonged
decline of lease rates associated with competitive pricing pressures 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 but to date has not added additional revenue to the Company's
operation.
Billing and collection services and other revenues contributed $0.4 million to
wireline revenues, which was the same as 2002 results. Revenues from this
service had declined in recent years, with interexchange carriers now issuing a
greater proportion of their bills directly to their customers.
Wireline revenues from cable television services were $4.4 million, an increase
of $0.1 million or 1.7%. The number of subscribers and service plan prices
remained relatively constant during 2003.
Other revenues, primarily consisting of Internet and 511Virginia service
revenues were $5.8 million in 2003, an increase of $0.7 million or 13.5%. The
Company had 17,420 dial-up Internet subscribers at December 31, 2003, compared
to 18,050 at the end of the previous year. During 2003, the Company's DSL
high-speed Internet access subscriber count increased to 1,298 from 646. Total
Internet service revenue was $4.5 million, an increase of $0.3 million or 10.7%.
The 511Virginia contract with the Virginia Department of Transportation
contributed $1.3 million to other revenues, an increase of $0.4 million or
41.3%. Telecommunications equipment sales, services and lease revenues were $1.1
million, which reflects a $0.1 million decrease from 2002 results.
Total operating expenses were $87.2 million, an increase of $3.6 million or
4.3%. The primary driver in the increase in operating expenses is continued
growth in the PCS operation somewhat offset by a significant decline in bad debt
expense compared to 2002.
Late in 2003, the Company made an employee benefits policy change, which
eliminated the requirement for the Company to accrue a vacation liability in
advance of the year in which the benefit was used. The result of this change was
a reduction of benefit expense of $0.5 million for the year compared to 2002.
Benefit expenses impact all operating departments based on the amount of direct
labor charged to the department. The change has a one-time impact on the
financial statements of the Company. The benefits policy now provides that
employees earn and use their paid time off in the same period. In the future,
under this policy, unused hours can be banked but only used for extended
illness, not carried over for use as vacation.
29
Cost of goods and services was $10.9 million, an increase of $0.4 million or
4.2%. The PCS cost of goods sold was $8.5 million, an increase of $0.2 million
or 2.3%. This change is due primarily to higher volumes of handsets sold through
Company owned stores and PCS handset subsidies paid to third-party retailers. In
2003, the Company recorded approximately $1.8 million in handset costs related
to existing subscribers upgrading their handsets. Prior to 2003, the Company did
not track the specific costs related to subsidizing new handsets to existing
customers. The cost of handset up-grades sold to existing customers is expected
to increase as the customer base matures and handset manufacturers introduce new
technologies in new handsets. The cable television programming (cost of service)
expense was $1.6 million, an increase of $0.2 million or 16.3%. The Company has
seen continuing upward pressure on the cost of cable TV programming by cable TV
program providers.
Network operating costs were $33.6 million, an increase of $1.1 million or 3.4%.
The largest item in network operating costs is travel expense. These costs made
up 31.8% and 32.9% of the total network and other costs in 2003 and 2002,
respectively. Travel expense is the cost of minutes used by the Company's PCS
subscribers on Sprint or other Sprint Affiliates' networks. Travel expense in
2003 was $10.8 million, an increase of $0.1 million due to a significant
increase in travel minutes in 2003 which was offset by the impact of the rate
decline. The travel rate declined from $0.10 per minute in 2002 to $0.058 per
minute in 2003. Our PCS customers increased their average monthly travel minutes
by 22% compared to 2002. In 2002, the average customer's travel usage was 130
minutes per month and in 2003 that average travel usage increased to 159 minutes
per month.
Network infrastructure maintenance costs were $4.9 million or 14.6% of total
network operating costs, a decrease of $0.2 million from 2002. Rent for towers,
tower sites, and buildings increased $0.9 million or 27.3% to $4.2 million.
Lease escalators plus the increase in the number of sites leased contributed to
the increase. Line costs in 2003 were $9.8 million or 29.1% of the network
operating costs, an increase of $0.1 million.
Depreciation and amortization expense was $16.6 million, an increase of $2.1
million or 14.8%. The PCS operation had depreciation expense of $10.2 million,
an increase of $1.6 million or 18.9%. The 16 additional PCS base stations placed
in service during 2003 resulted in higher depreciation expense for the year. In
the telephone operation, depreciation increased $0.5 million or 12.7%, due to
new assets deployed in the operation. There was no amortization of goodwill in
2003 or 2002, compared to goodwill amortization of $360 thousand expensed in
2001, due to the required accounting change.
Selling, general and administrative expenses were $26.0 million, down $0.1
million or 0.4%. Customer support costs were $8.7 million, an increase of $0.9
million or 11.4%. The growth in Sprint wireless subscribers is primarily
responsible for this change. Advertising expense was $4.6 million, an increase
of $0.3 million or 6.4%. The change is primarily due to increased marketing
efforts in support of the PCS operations in both the Quad State and Central Penn
markets. PCS sales staff expenses were $2.8 million, an increase of $0.1 million
or 1.5% compared to 2002. Other sales staff expenses increased $0.3 million to
$1.3 million as the Company worked to expand its other services in areas outside
its historically defined service area. Bad debt expense decreased $2.6 million
or 58.3%.
Administrative expenses increased $1.0 million or 17.1%. This increase is a
result of increased professional fees, insurance and pension costs. During 2003,
the Company added several positions to expand the management team to support the
Company's growing operations.
Bad debt expense decreased $2.6 million to $1.8 million or 58.3%. This decrease
was due to more restrictive credit terms for new PCS subscribers (limiting the
high credit risk customers who obtained service), lower churn in the PCS
operation and improvement in the interexchange carrier segment of the business.
This expense is net of normal recoveries and includes a recovery of $0.2 million
for an interexchange carrier settlement the Company received in 2003 which was
written off in 2002.
Operating income grew to $18.6 million, an increase of $9.3 million or 100%.
Revenue growth, primarily in the PCS operation in addition to the reduced bad
debt expenses, adjustments of management estimates, and the settlement of
disputed items with Sprint, all contributed to the operating income
improvements. The Company's operating margin was 17.6%, compared to 10.0% in
2002.
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 $3.6 million for 2003,
compared to expense of $14.3 million from 2002. The 2002 results were primarily
the results of the previously disclosed $9.0 million loss recorded on the sale
of the VeriSign stock.
30
Interest expense was $3.5 million, a decrease of $0.7 million or 16.3%. The
Company's average debt outstanding decreased approximately $4.8 million.
Long-term debt (inclusive of current maturities), was $43.3 million at year-end
2003, versus $52.0 million at year-end 2002. The Company did not borrow any
money on its revolving facilities in 2003.
Net losses on investments were $0.4 million, compared to a loss of $10.1 million
from 2002. Results in 2002 include the sale of the VeriSign, Inc. stock for a
loss of $9.0 million. See Note 3 to the consolidated financial statements.
Non-operating income was a gain of $0.4 million, an increase of $0.5 million,
due to an increase in patronage equity earned from CoBank, the Company's primary
lender, and due to interest income from the proceeds on the sale of the Virginia
10 RSA Limited partnership, offset by losses recorded for the Company's
portfolio of investments.
The Company provided for income taxes of $5.3 million in 2003, which is an
effective tax rate of 35.2% due to the effect of state tax apportionment rules
and reduction in the liability for tax exposures. On a normalized basis the
Company would have recorded taxes at an effective tax rate of approximately 39%.
Last year's effective tax rate was 42.2% due to the impact of net operating loss
carry forwards generated in several states with higher tax rates. The Company
currently operates in four states. Due to apportionment rules and geographic
operations of subsidiaries where the Company's profits and losses arise, 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 benefits accrue. In the near
term, under existing operating results and current tax rates, the Company
anticipates a normalized effective tax rate will be approximately 39%.
Net income from continuing operations was $9.8 million, an increase of $12.7
million from 2002. The results are primarily made up of the improvement in the
PCS operation and the one-time impact of the losses on the sale of VeriSign
stock in 2002.
Income from discontinued operations was $22.4 million after taxes, an increase
of $15.0 million or 202%. The income from discontinued operations in 2003
includes the sale of the partnership interest in February 2003 and results from
the two months of its operations in 2003.
The Company adopted FAS 143 "Accounting for Asset Retirement Obligations."
effective January 1, 2003, and as a result recorded a charge to earnings for the
cumulative effect of this change in accounting of $76 thousand after taxes.
Net income was $32.1 million, an increase of $27.6 million or 610%. The increase
is a result of improved operating results in the PCS operations, the 2002
VeriSign stock loss and the sale of the cellular operations.
DISCONTINUED OPERATIONS
The Company invested $2.0 million in the Virginia 10 RSA limited partnership in
the early 1990's. The partnership's local customer base peaked in early 2000
with nearly 12,000 subscribers, then steadily declined to 6,700 by December 31,
2002. The decline was the result of competition with digital technologies and
increased competition from national carriers in the area. As a result of the
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 agreement was signed in November 2002, and closing was February
28, 2003. The Company's portion of the net income from its operations for 2003,
2002 and 2001 was $1.2 million, $7.4 million and $6.7 million, respectively.
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%.
31
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 increase in the subscriber base, which
totaled 67,842 at December 31, 2002, was an increase of 20,524 or 43% from the
prior year end.
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 per minute from May 1, 2001 through September 30, 2001;
and $0.12 per minute from October 1, 2001 through December 31, 2001.
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. The impact of 3G 1X-network enhancements on
revenues was not significant in 2002.
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 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 $0.8 million or 12.6% from 2001. The decrease was primarily the result of
declining lease rates associated with competitive pricing pressure, and the
economic downturn in the telecommunications industry.
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 interexchange 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 contract revenues from the
Virginia Department of Transportation, were $5.1 million in 2002, an increase of
$1.2 million or 30.4%. The Company had 18,050 dial-up Internet subscribers at
December 31, 2002, compared to 17,423 subscribers at the end of 2001. Total
Internet service revenue was $4.2 million, an increase of $0.6 million or 15.7%.
Services provided under the 511Virginia contract contributed $0.9 million to
other revenues, an increase of $0.6 million. Telecommunications equipment sales,
services and lease revenues were $1.2 million, 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.
32
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 $2.8 million
or 50.2%. This change is due primarily to higher volumes of handsets sold
through Company owned stores and PCS handset subsidies paid to third-party
retailers. The cable television programming (cost of service) expense was $1.4
million, an increase of $0.1 million or 4.6%. The other cost of goods sold
increased $0.3 million, compared to the same period in 2001.
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 increase in customer travel usage more
than offset the travel rate explained above in travel revenue. Plant specific
costs were $9.6 million, which include the operation, and maintenance of the
networks increased $2.3 million or 30.7%. Tower, building, and land rentals, as
well as PCS equipment maintenance, were major contributors to the increase in
plant specific expenses. 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.
Selling, general and administrative expenses were $26.1 million, an increase of
$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 was the primary
driver for this increase. Advertising expense was $4.3 million, an increase of
$1.5 million or 55.8%. This change was primarily due to the stepped-up and
ongoing marketing efforts to support the PCS operations in the Quad State market
and particularly the Central Penn market. 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 adding additional
sales staff.
The Company experienced significant bad debt losses in its PCS operations
related to the Sprint Clear PaySM program. The program was initially targeted at
customers in sub-prime credit classes and did not require a deposit upon
activation of service. As a result of default rates that exceeded projections,
the Company experienced a substantial increase in bad debt expense, which rose
from $1.2 million in 2001 to $4.4 million in 2002. The reinstatement of deposit
requirements in April 2002 caused some moderation in bad debt expense by the end
of the year. Total PCS bad debt expense for 2002 was $3.7 million. Of the total,
$0.5 million of this expense is associated with several large telecommunications
customers who filed bankruptcies 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 2002 as
compared to the previous year.
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 recorded on the VeriSign stock of
$12.7 million in 2001.
Non-operating income was a loss of $0.1 million, a 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.
33
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 on continuing
operations 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 by the need for a valuation allowance.
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.
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.
The fair value of the Company's available-for-sale securities was $0.2 million
at the end of 2003, compared to $0.2 million at the end of 2002. The Company's
available-for-sale portfolio at December 31, 2003 is made up of two investments,
both 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.
The Company participates in emerging technologies by investing in entities that
invest in start-up companies. This includes indirect participation through
capital venture funds of South Atlantic Venture Fund III, South Atlantic Private
Equity IV, Dolphin Communications Parallel Fund, Dolphin Communications Fund II
and the Burton Partnership. The Company also participates by direct investment
in privately held companies. Currently the Company's only direct investment is
in NTC Communications, a provider of voice, video and data connections to off
campus housing properties at universities and colleges. For those companies that
eventually make public offerings of their securities, it is the intent of the
Company to evaluate whether to hold or sell parts or all of each investment on
an individual basis. At December 31, 2003, the Company had external investments
totaling $7.5 million.
In 2004, the Company anticipates taking advantage of a conversion feature on its
Rural Telephone Bank stock. The Company will convert a portion of its holdings
into a different class of stock that will pay cash dividends each year. The bank
declares a dividend rate that varies, each year. The range of the dividend has
been between 4.2% and 5.65% over the last 5 years. The rate in the two most
recent years was 4.2%. This transaction is estimated to provide the Company with
approximately $0.3 million in dividend income each year, based on the 2003
dividend rate of 4.2% and assuming we had converted the stock at the beginning
of 2003.
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, investments and
potential dividends. These sources include cash flows from operations, cash and
cash equivalents, the liquidation of investments and borrowings. Management
routinely considers the alternatives available to determine what mix of sources
are best suited for the long-term benefit of the Company.
During the 2003 year, with the closing of the sale of the Virginia 10 RSA
Limited partnership interest, the Company evaluated its capital requirements,
and as a result eliminated its $20.0 million revolving line of credit with
CoBank in May 2003. The Company had paid off the outstanding balance in early
2003, and did not borrow on it during the remaining time
34
the facility was in place. In light of the $27.9 million balance in cash
equivalent investments, management determined additional debt capacity is not
necessary for the near-term.
The term debt loan agreements with CoBank have three financial covenants. These
are measured 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, 2003 it was 1.2. The second measure is equity to total assets,
which must be 35% or higher. At December 31, 2003 the ratio was 57.3%. 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, 2003 this measure
was 4.3. Management believes the Company will meet these covenant measures for
the coming year. The Company has pledged all of its affiliates capital stock as
collateral for the CoBank loans.
The Company's covenants on the RUS/RTB debt require the pledge of all current
and future assets of the Telephone subsidiary until the debt is retired.
Another external source of funding is a $0.5 million unsecured, variable rate
revolving line of credit with SunTrust Bank. This facility is in place to allow
the Company to better manage its daily cash balances. The facility expires May
31, 2004. Management anticipates renewing this facility with SunTrust Bank under
similar terms and conditions. At December 31, 2003 there were no balances
outstanding under this facility.
Due to make-whole provisions in the Company's debt agreements it is currently
uneconomical for the Company to prepay any debt.
The Company is obligated to make future payments under various contracts it has
entered into, including amounts pursuant to its various long-term debt
facilities, and non-cancelable operating lease agreements for retail space,
tower space and cell sites. Expected future minimum contractual cash obligations
for the next five years and in the aggregate at December 30, 2003, are as
follows:
Payments due by periods
Less than 1
(unaudited) (in thousands) Total year 1-3 years 4-5 years After 5 years
-----------------------------------------------------------
Long-term debt principal $43,346 $ 4,230 $ 8,898 $ 9,552 $20,666
Interest on long -term debt 15,429 3,019 5,099 3,778 3,533
Operating leases 12,592 3,216 4,616 2,229 2,531
Capital calls on investments 1,790 -- 1,790 -- --
Purchase obligations 98 98 -- -- --
-----------------------------------------------------------
Total obligations $73,255 $10,563 $20,403 $15,559 $26,730
===========================================================
The $5.0 million placed in escrow, as part of the sales agreement on the
Virginia 10 RSA limited partnership, should be released after February 28, 2005.
There are no known claims that have been filed against the amount in escrow.
The Company spent $12.5 million on capital projects in 2003, or about $7.0
million below what was budgeted for the year. The variance was primarily due to
postponing construction of an additional diverse fiber route and the delay of
the second phase of renovations on the Shentel Center in Edinburg, Virginia.
The Company has no other off-balance sheet arrangements and has not entered into
any transactions involving unconsolidated, limited purpose entities or commodity
contracts.
Capital expenditures budgeted for 2004 total approximately $30 million,
including approximately $20 million for additional PCS base stations, additional
towers, and switch upgrades to enhance the PCS network. Improvements and
replacements of approximately $5 million are planned for the telephone
operation. The remaining $5 million covers building renovations, vehicles,
office equipment, and other miscellaneous capital needs.
The Company anticipates using funds from operations, to the extent they are
available to fund the capital expenditures and the payment of debt and interest.
Due to lower than expected tax expenses in 2003, the Company will apply the tax
receivable to the 2004-year tax liability. It is anticipated by no later than
second quarter of 2004, additional federal tax payments will be due based on
anticipated profits expected to be generated in the operation.
35
Management anticipates its operations will generate similar operating cash flows
in 2004, compared to those of continuing operations in 2003, although there are
events outside the control of the Company that could have an adverse impact on
cash flows from operations. The events 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, and collections; their ability to develop and
implement successful marketing programs and new products and services; and their
ability to effectively and economically manage 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.
The Company expects to generate adequate cash to meet its short-term and
long-term cash needs, including working capital requirements, capital projects
and debt payments, and to fund potential dividend payments from cash on hand,
operating cash flow, and amounts expected to be available under the Company's
existing financing facilities and its anticipated financing facilities discussed
above. 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 December 2003, the FASB issued FASB Interpretation No. 46 (revised December
2003),"Consolidation of Variable Interest Entities," which addresses how a
business enterprise should evaluate whether it has a controlling financial
interest in an entity through means other than voting rights and accordingly
should consolidate the entity. FIN 46R replaces FASB Interpretation No. 46,
"Consolidation of Variable Interest Entities," (VIE), which was issued in
January 2003. The Company will be required to apply FIN 46R to variable
interests in VIEs created after December 31, 2003. For variable interests in
VIEs created before January 1, 2004, the Interpretation will be applied
beginning on January 1, 2005, except it must be applied in the fourth quarter of
2003 for any VIE's that are considered to be special purpose entities. For any
VIEs that must be consolidated under FIN 46R that were created before January 1,
2004, the assets, liabilities and non-controlling interests of the VIE initially
would be measured at their carrying amounts with any difference between the net
amount added to the balance sheet and any previously recognized interest being
recognized as the cumulative effect of an accounting change. If determining the
carrying amounts is not practicable, fair value at the date FIN 46R first
applies may be used to measure the assets, liabilities and non-controlling
interest of the VIE. The Company is evaluating the impact of applying FIN 46R to
existing VIEs in which it has variable interests and does not believe the
application will have a material impact on the Company's consolidated financial
statements.
In May 2003, the Financial Accounting Standards Board ("FASB") issued SFAS No.
150, "Accounting for Certain Financial Instruments with Characteristics of
Liabilities and Equity," which was effective at the beginning of the first
interim period beginning after June 15, 2003. This Statement establishes
standards for the classification and measurement of certain financial
instruments with characteristics of both liabilities and equity. The Statement
also includes required disclosures for financial instruments within its scope.
For the Company, the Statement was effective for instruments entered into or
modified after May 31, 2003 and otherwise will be effective as of January 1,
2004, except for mandatorily redeemable financial instruments. For certain
mandatorily redeemable financial instruments, the Statement will be effective
for the Company on January 1, 2005. The effective date has been deferred
indefinitely for certain other types of mandatorily redeemable financial
instruments. The Company currently does not have any financial instruments that
are within the scope of this Statement.
In December 2003, the Financial Accounting Standards Board issued FASB Statement
No. 132(R). Statement No. 132(R) is a revision of Statement No. 132, "Employers'
Disclosures about Pensions and Other Postretirement Benefits." SFAS 132(R) is
effective for financial statements with fiscal years ending after December 15,
2003. SFAS 132(R) requires additional disclosures including information
describing the types of plan assets, investment strategy, measurement date(s),
plan obligations, cash flows, and components of net periodic benefit cost
recognized during interim periods. The objectives of the revisions are to
provide qualitative information about the items in the financial statements,
quantitative information about items recognized or disclosed in the financial
statements, information that enables users of financial statements to assess the
effect that pension plans and other postretirement benefit plans have on
entities' results of operations, and information to facilitate assessments of
future earnings and cash flows. The Company has adopted this statement effective
December 31, 2003 with disclosures included in Note 9.
36
RISKS
The Company is one of eleven PCS Affiliates of Sprint, and accordingly, is
impacted by decisions and requirements adopted by Sprint in regard to its
wireless operation. 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.
The Company is dependent on Sprint for the reporting of a significant majority
of PCS revenues, particularly travel and service revenue. Controls and processes
are continually refined, so the Company can monitor, review, test, and validate
information being reported to the Company by Sprint. It is the Company's policy
to estimate and 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 and as noted in
these financial statements, there are several dispute settlements, true-ups of
estimates and corrections which are recorded in the period the issue has been
resolved. The Company is at risk for reporting errors that may be made by
Sprint.
The net balance of PCS travel revenue and expense could change significantly due
to changes in service plan offerings, changes in the travel settlement rate,
changes in travel habits by the subscribers in the Company's market areas or
other Sprint subscribers and numerous other factors beyond the Company's
control. The Company is continuing to monitor the financial strength of the
other PCS Affiliates of Sprint, as to their ability to maintain their segment of
the Sprint network may impact the ability of the Company to add new subscribers.
Two other Sprint PCS Affiliates are currently operating under bankruptcy
protection.
Wireless Local Number Portability (WLNP) permits a subscriber to change wireless
service providers in the same market area while retaining their existing
telephone number. This Federal Communications Commission mandate was effective
November 24, 2003 in the 100 largest metropolitan areas and will be effective in
all areas of the United States on May 24, 2004. Although the initial impact of
WLNP appears to be insignificant, there may be a significant future impact to
the Company's operation. As a result of WLNP, portions of the PCS subscriber
base may migrate to other wireless providers, thereby contributing to increased
churn. Alternatively, the implementation of WLNP may allow the Company to
attract additional subscribers from other wireless providers.
The Company has limited control over the service plans and marketing promotions
offered to Sprint customers in the competitive wireless telecommunications
industry. Sprint controls the marketing plans, advertising message and market
promotions offered in the Company's market area. As a result, the plans and
promotions offered may have a material adverse effect on the Company's results
of operations.
The Company relies on Sprint for the development of new products and services to
remain competitive in the wireless industry. Examples of these services are text
messaging, video, and push to talk walkie-talkie features. If these services do
not work properly or if Sprint should not continue to develop new competitive
products, the results could have a material adverse impact on the results of the
Company.
The Company is required to participate in national and regional third party
distribution programs formulated and negotiated by Sprint. Sprint has entered
into reseller agreements which may impact the Company. These distribution and
reseller programs may have an adverse effect on the results of the Company.
The Company's PCS network is part of Sprint's nationwide wireless network. The
network is owned and operated by Sprint and its Affiliates. The financial
viability of Sprint and its Affiliates is critical to the success of operating
and marketing Sprint PCS. If financial difficulties are experienced by Sprint or
any Affiliate, it could have an adverse impact on the Company's results.
The current competitive nature of the wireless industry may prompt major
wireless providers to strive for financial improvements through industry
consolidation. Such consolidation could include Sprint. It is not clear to what
extent consolidation may occur or which companies will be involved, but certain
consolidation transactions may have an adverse impact on the operating results
and valuation of the Company's wireless operations.
The Company's access revenue may be adversely impacted by legislative or
regulatory actions that decrease access rates or exempt certain traffic from
paying access to the Company's regulated telephone network. The Federal
Communications Commission is currently reviewing the issue of Voice Over
Internet Protocol (VOIP) as it relates to access charges. An unfavorable finding
may have an adverse effect on the Company's telephone operations.
37
There has been a trend for incumbent local exchange carriers to see a decrease
in access lines due to the effect of wireless and wireline competition, a slow
down in the economy, and the elimination of a second line dedicated to dial up
Internet as customers migrate to broadband connections. Although the Company has
not seen a material reduction in its number of access lines to date, it
experienced line decreases in each of the last two quarters. There is a
significant risk that this trend could have a material adverse effect on the
Company's telephone operations in the future.
On May 24, 2004, Local Number Portability (LNP) will be required in the
Company's local wireline service area. The Company's customers will be able to
retain their existing wireline phone number and use it to obtain service from a
competing wireline or wireless provider in the service area. At this time, the
Company cannot estimate the potential impact on its telephone operations. If a
significant number of customers disconnect the Company's service, it will have
an adverse impact on the Company's telephone operating results.
The Company's revenue from fiber leases may be adversely impacted by further
erosion in demand or in price competition for these facilities. There is also
the potential for additional bankruptcies of the Company's customers. The
Company monitors each of its fiber lease customers closely to minimize the risk
related to this business.
The Company operates the cable television system in Shenandoah County, Virginia.
The Company has seen increased competition from satellite providers that are
larger and have cost advantages over the Company in the procurement of
programming. The continued success of the satellite television providers may
have an adverse impact on the Company's cable television results.
The Company currently has a 12-month, $1.2 million contract with the Virginia
Department of Transportation (VDOT) to provide 511 Travel services in the I-81
corridor of Virginia. This contract expires in February 2005. VDOT has recently
requested a proposal for a three-year contract with two two-year extensions to
extend 511 services to the entire state. Although the Company plans to submit a
proposal for the new VDOT contract, there is no certainty that the Company will
be selected to provide these services after the end of its current contract.
The Company may not be able to utilize all of its net operating loss carry
forwards for taxes in certain states before they expire, resulting in the
Company writing off some of its deferred tax assets and impacting its cash
position.
Evaluation of Disclosure Controls and Procedures
The Company maintains disclosure controls and procedures that are designed to
ensure that information required to be disclosed in Exchange Act reports is
recorded, processed, summarized and reported within the time periods specified
in the Commission's rules and forms, and that such information is accumulated
and communicated to management including our Chief Executive Officer and Chief
Financial Officer, as appropriate, to allow timely decisions regarding required
disclosure.
As of the end of the period covered by this report, December 31, 2003 (the
"Evaluation Date"), we carried out an evaluation, under the supervision and with
the participation of the Company's management, including our Chief Executive
Officer and Chief Financial Officer of the effectiveness of the design and
operation of our disclosure controls and procedures. Based upon that evaluation,
the Chief Executive Officer and the Chief Financial Officer concluded that our
disclosure controls and procedures were effective as of the Evaluation Date.
Under our agreements with Sprint, Sprint provides us with billing, collections,
customer care, certain network operations and other back office services. As a
result, Sprint remits to the Company approximately 61% of the Company's total
revenues. In addition, approximately 42% of the expenses reflected in the
Company's consolidated financial statements relate to charges by or through
Sprint for expenses such as billing, collections and customer care, roaming
expense, long-distance, and travel. Due to this relationship, the Company
necessarily relies on Sprint to provide accurate, timely and sufficient data and
information to properly record our revenues, expenses and accounts receivable,
which underlie a substantial portion of our periodic financial statements and
other financial disclosures.
Information provided by Sprint includes reports regarding the subscriber
accounts receivable in our markets. Sprint provides us monthly accounts
receivable, billing and cash receipts information on a market level, rather than
a subscriber level. We review these various reports to identify discrepancies or
errors. However, under our agreements with Sprint, we are entitled to only a
portion of the receipts, net of items such as taxes, government surcharges,
certain allocable write-offs and the 8% of revenue retained by Sprint. Because
of our reliance on Sprint for financial information, we must depend on Sprint to
design adequate internal controls with respect to the processes established to
provide this data and information to the Company and Sprint's other network
partners. To address this issue, Sprint engages its
38
independent auditors to perform a periodic evaluation of these controls and to
provide a "Report on Controls Placed in Operation and Tests of Operating
Effectiveness for Affiliates" under guidance provided in Statement of Auditing
Standards No. 70 ("SAS 70 reports"). The report is provided to us annually and
covers a twelve-month period from October 1, 2002 to September 30, 2003. This
report did not indicate there were issues which would adversely impact the
information used to support the recording of the revenues and expenses provided
by Sprint related to our relationship with them.
We believe the processes we have put into place over the course of the year have
steadily improved our ability to identify material errors in Sprint financial
information on a timely basis. As a result of the improved processes and
procedures we are continuing to develop and define, the Company is committed to
monitor and evaluate the effectiveness of its improvements in controls related
to information provided by Sprint and to continue to improve these processes.
In preparation for the requirements imposed under Section 404 of the
Sarbanes-Oxley Act of 2002, we have retained an outside consulting firm to
assist us in reviewing and documenting our internal control processes.
39
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT 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 three components, although only one is of any significance at this
time. The first component is outstanding debt with variable rates. As of
December 31, 2003, the Company's variable rate debt balance was zero. The
Company has a variable rate line of credit totaling $0.5 million with SunTrust
Banks. 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 $1.1 million, while the estimated current fair value of
the fixed rate debt is approximately $42.6 million.
The second component of interest rate risk is temporary excess cash, primarily
invested in overnight repurchase agreements and short-term certificates of
deposit and money market funds. The Company currently has approximately $27.9
million of cash equivalents in money market funds, which are earning rates of
approximately 1% per year. The cash is currently in short-term investment
vehicles that have limited interest rate risk. Management continues to evaluate
the most beneficial use of these funds.
The third component of interest rate risk is marked increases in interest rates
which may adversely impact the rate at which the Company may borrow funds for
growth in the future. Although this risk is real, it is not significant at this
time as the Company has adequate cash for operations, payment of debt and
near-term capital projects.
Management does not view market risk as having a significant impact on the
Company's results of operations, although future results could be adversely
impacted if interest rates were to escalate markedly and the company required
external financing. Since the Company does not currently have significant
investments in publicly traded stock, 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.
As of December 31, 2003, the Company has $7.3 million invested in privately held
companies directly or through investments with portfolio managers. Most of the
companies are early stage and significant increases in interest rates could have
an adverse impact on their results, ability to raise capital and viability. The
Company's market risk is limited to the funds previously invested and an
additional $1.8 million committed under contracts the Company has signed with
portfolio managers.
40
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The financial statements listed in Item 15 are filed as part of this
report and appear on pages F-2 through F-34
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None
ITEM 9A. CONTROLS AND PROCEDURES
Our management, with the participation of our President and Chief
Executive Officer, who is our principal executive officer, and our
Executive Vice President and Chief Financial Officer, who is our
principal financial officer, has evaluated the effectiveness of our
disclosure controls and procedures as of December 31, 2003. Based
upon that evaluation, the President and Chief Executive Officer and
the Executive Vice President have concluded that our disclosure
controls and procedures are effective in timely alerting them to
material information relating to Shenandoah Telecommunications
Company, including its consolidated subsidiaries, required to be
included in this report and the other reports that we file or submit
under the Securities Exchange Act of 1934.
During the fourth fiscal quarter, there have been no changes in our
internal control over financial reporting that have materially
affected, or that are reasonably likely to materially affect, our
internal control over financial reporting.
41
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT EXECUTIVE OFFICERS
The following table presents information about our executive
officers who, other than Christopher E. French, are not directors.
Name Title Age Date in Position
--------------------------------------------------------------------------------------------
Christopher E. French President 46 April 1988
Earle A. MacKenzie Executive Vice President, Chief 51 June 2003
Financial Officer and Treasurer
David E. Ferguson Vice President of Customer 58 November 1982
Services
David K. MacDonald Vice President of Operations 50 May 1998
Laurence F. Paxton Vice President of Information 51 June 2003
Technology and Secretary
William L. Pirtle Vice President of Sales 44 October 2003
Before joining the Company, Mr. MacKenzie served from May 1999 to November 2002
as President of Broadslate Networks, Inc., a start-up data services provider.
Previously, from June 1998 to May 1999, he was a consultant to several venture
capital firms.
Prior to becoming Vice President of Information Technology, Mr. Paxton had
served as the Company's Vice President of Finance since June 1991.
Prior to becoming Vice President of Sales, Mr. Pirtle had served as the
Company's Vice President of Personal Communications Services since November
1996.
Other information responsive to this Item 10 is incorporated herein by reference
to the Company's definitive proxy statement for its 2004 Annual Meeting of
Shareholders.
ITEM 11. EXECUTIVE COMPENSATION
Information responsive to this Item 11 is incorporated herein by
reference to the Company's definitive proxy statement for its 2004
Annual Meeting of Shareholders.
42
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
Information responsive to this Item 12 is incorporated herein by
reference to the Company's definitive proxy statement for its 2004
Annual Meeting of Shareholders.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Information responsive to this Item 13 is incorporated herein by
reference to the Company's definitive proxy statement for its 2004
Annual Meeting of Shareholders.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
Information responsive to this Item 14 is incorporated herein by
reference to the Company's definitive proxy statement for its 2004
Annual Meeting of Shareholders.
43
PART IV
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a)(1) The following consolidated financial statements of the
Company appear on pages F-2 through F-34 of this report and are
incorporated by reference in Part II, Item 8:
Report of Independent Auditors
Consolidated Financial Statements
Consolidated Balance Sheets as of December 31, 2003,
2002 and 2001
Consolidated Statements of Income for the three years
ended December 31, 2003
Consolidated Statements of Shareholders' Equity and
Comprehensive Income for the three years ended December
31, 2003
Consolidated Statements of Cash Flows for the three
years ended December 31, 2003
Notes to Consolidated Financial Statements
(a)(2) All schedules for which provision is made in the
applicable accounting regulations of the Securities and
Exchange Commission are not required under the related
instructions or are inapplicable and therefore have been
omitted.
(a)(3) The following exhibits are either filed with this Form
10K or incorporated herein by reference. Our Securities
Exchange Act file number is 000-09881.
44
Exhibit
Number Exhibit Description
- -------------------------------
3.1 Amended and Restated Articles of Incorporation of Shenandoah
Telecommunications Company filed as Exhibit 4.2 to the Company's
Registration Statement on Form S-8 (No. 333-21733) and incorporated
herein by reference.
*3.2 Shenandoah Telecommunications Company Bylaws, as amended.
10.1 Shenandoah Telecommunications Company Stock Incentive Plan filed as
Exhibit 4.1 to the Company's Registration Statement on Form S-8 (No.
333-21733) and incorporated herein by reference.
10.2 Shenandoah Telecommunications Company Dividend Reinvestment Plan
filed as Exhibit 4.4 to the Company's Registration Statement on Form
S-3D (No. 333-74297) and incorporated herein by reference.
*10.3 Settlement Agreement and Mutual Release dated as of January 30, 2004
by and among Sprint Spectrum L.P., Sprint Communications Company
L.P., WirelessCo, L.P., APC PCS, LLC, PhillieCo, L.P. and Shenandoah
Personal Communications Company and Shenandoah Telecommunications
Company, dated January 30, 2004.
*10.4 Sprint PCS Management Agreement dated as of November 5, 1999 by and
among Sprint Spectrum L.P., WirelessCo, L.P., APC PCS, LLC,
PhillieCo, L.P., and Shenandoah Personal Communications Company.
*10.5 Sprint PCS Services Agreement dated as of November 5, 1999 by and
between Sprint Spectrum L.P. and Shenandoah Personal Communications
Company.
*10.6 Sprint Trademark and Service Mark License Agreement dated as of
November 5, 1999 by and between Sprint Communications Company, L.P.
and Shenandoah Personal Communications Company.
*10.7 Sprint Spectrum Trademark and Service Mark License Agreement dated
as of November 5, 1999 by and between Sprint Spectrum L.P. and
Shenandoah Personal Communications Company.
*10.8 Addendum I to Sprint PCS Management Agreement by and among Sprint
Spectrum L.P., WirelessCo, L.P., APC PCS, LLC, PhillieCo, L.P., and
Shenandoah Personal Communications Company.
*10.9 Asset Purchase Agreement dated November 5, 1999 by and among Sprint
Spectrum L.P., Sprint Spectrum Equipment Company, L. P., Sprint
Spectrum Realty Company, L.P., and Shenandoah Personal
Communications Company, serving as Exhibit A to Addendum I to the
Sprint PCS Management Agreement and as Exhibit 2.6 to the Sprint PCS
Management Agreement.
*10.10 Addendum II dated August 31, 2000 to Sprint PCS Management Agreement
by and among Sprint Spectrum L.P., WirelessCo, L.P., APC PCS, LLC,
PhillieCo, L.P., and Shenandoah Personal Communications Company.
45
*10.11 Addendum III dated September 26, 2001 to Sprint PCS Management
Agreement by and among Sprint Spectrum L.P., WirelessCo, L.P., APC
PCS, LLC, PhillieCo, L.P., and Shenandoah Personal Communications
Company.
*10.12 Addendum IV dated May 22, 2003 to Sprint PCS Management Agreement by
and among Sprint Spectrum L.P., WirelessCo, L.P., APC PCS, LLC,
PhillieCo, L.P., and Shenandoah Personal Communications Company.
*10.13 Addendum V dated January 30, 2004 to Sprint PCS Management Agreement
by and among Sprint Spectrum L.P., WirelessCo, L.P., APC PCS, LLC,
PhillieCo, L.P., and Shenandoah Personal Communications Company.
*10.14 Executive Supplemental Retirement Plan.
*21 List of Subsidiaries.
*23.1 Consent of KPMG LLP, Independent Accountants.
*31.1 Certification of President and Chief Executive Officer of Shenandoah
Telecommunications Company pursuant to Rule 13a-14(a)under the
Securities Exchange Act of 1934.
*31.2 Certification of Executive Vice President and Chief Financial
Officer of Shenandoah Telecommunications Company pursuant to Rule
13a-14(a)under the Securities Exchange Act of 1934.
*32 Certifications pursuant to Rule 13a-14(b) under the Securities
Exchange Act of 1934 and 18 U.S.C. ss.1350.
- ----------
* Filed herewith.
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(Continued)
(b). Reports on Form 8-K
There was one Form 8-K filed for the three months ended
December 31, 2003, as set forth below:
Filing Date of Report Item Reported
--------------------- -------------
October 22, 2003 Item 9 (press release announcing
third quarter results and an
increase in the annual dividend
and two for one stock split)
46
PART IV (Continued)
SIGNATURES
Pursuant to the requirements of Sections 13 or 15(d) of the Securities Exchange
Act of 1934, the Registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized.
SHENANDOAH TELECOMMUNICATIONS COMPANY
March 8, 2004 By: /s/ CHRISTOPHER E. FRENCH
Christopher E. French, President
(Duly Authorized Officer)
47
PART IV (Continued)
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
signed by the following persons on behalf of the Registrant and in the
capacities and on the dates indicated.
/s/CHRISTOPHER E. FRENCH President & Chief Executive Officer,
March 8, 2004 Director (Principal Executive Officer)
Christopher E. French
/s/EARLE A. MACKENZIE Executive Vice President & Treasurer
March 8, 2004 (Principal Financial Officer and
Earle A. MacKenzie Principal Accounting Officer)
/s/DOUGLAS C. ARTHUR Director
March 8, 2004
Douglas C. Arthur
/s/NOEL M. BORDEN Director
March 8, 2004
Noel M. Borden
/s/DICK D. BOWMAN Director
March 8, 2004
Dick D. Bowman
/s/KEN L BURCH Director
March 8, 2004
Ken L. Burch
/s/GROVER M. HOLLER, JR. Director
March 8, 2004
Grover M. Holler, Jr.
/s/HAROLD MORRISON, JR. Director
March 8, 2004
Harold Morrison, Jr.
/s/ZANE NEFF Director
March 8, 2004
Zane Neff
/s/JAMES E. ZERKEL II Director
March 8, 2004
James E. Zerkel II
48
SHENANDOAH TELECOMMUNICATIONS COMPANY
AND SUBSIDIARIES
Index to the Consolidated 2003 Financial Statements
Page
Independent Auditor's Report F-2
Consolidated Financial Statements
Consolidated Balance Sheets as of December 31,
2003, 2002 and 2001 F-3 and F-4
Consolidated Statements of Income for the three
years ended December 31, 2003 F-5
Consolidated Statements of Shareholders' Equity
and Comprehensive Income for the three years
ended December 31, 2003 F-6
Consolidated Statements of Cash Flows for the three
years ended December 31, 2003 F-7 and F-8
Notes to Consolidated Financial Statements F-9 through F-30
F-1
INDEPENDENT AUDITORS' REPORT
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,
2003, 2002, and 2001, and the related consolidated statements of income,
shareholders' equity and comprehensive income, 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
Telecommunication Company and subsidiaries as of December 31, 2003, 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. As further discussed in
note 1 to the consolidated financial statements, the Company changed its method
of accounting for asset retirement obligations in 2003.
/s/ KPMG LLP
Richmond, Virginia
February 6, 2004
F-2
SHENANDOAH TELECOMMUNICATIONS COMPANY AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
December 31, 2003, 2002 and 2001
in thousands
ASSETS (Note 5) 2003 2002 2001
- --------------------------------------------------------------------------------------------
Current Assets
Cash and cash equivalents $ 28,696 $ 2,209 $ 2,037
Accounts receivable, net (Notes 1 and 8) 6,488 7,536 5,739
Income taxes receivable 1,526 12 1,205
Materials and supplies 2,062 1,787 2,934
Prepaid expenses and other 1,669 2,205 1,146
Deferred income taxes (Note 6) 522 1,197 575
Assets held for sale (Note 2) -- 5,548 2,973
--------------------------------
Total current assets 40,963 20,494 16,609
--------------------------------
Securities and Investments (Notes 3 and 8)
Available-for-sale securities 199 151 12,025
Other investments 7,268 7,272 6,438
--------------------------------
Total securities and investments 7,467 7,423 18,463
--------------------------------
Property, Plant and Equipment
Plant in service (Note 4) 197,431 184,069 154,345
Plant under construction 2,261 5,209 14,960
--------------------------------
199,692 189,278 169,305
Less accumulated depreciation 72,006 57,126 44,473
--------------------------------
Net property, plant and equipment 127,686 132,152 124,832
--------------------------------
Other Assets
Assets held for sale (Note 2) -- -- 3,272
Cost in excess of net assets of business acquired 5,105 5,105 5,105
Deferred charges and other assets (Notes 1 and 2) 5,999 667 1,452
--------------------------------
11,104 5,772 9,829
Less accumulated amortization 1,856 1,837 2,361
--------------------------------
Net other assets 9,248 3,935 7,468
--------------------------------
Total assets $185,364 $164,004 $167,372
================================
See accompanying notes to consolidated financial statements.
(Continued)
F-3
SHENANDOAH TELECOMMUNICATIONS COMPANY AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
December 31, 2003, 2002 and 2001
in thousands
LIABILITIES AND SHAREHOLDERS' EQUITY 2003 2002 2001
- -------------------------------------------------------------------------------------------------------------
Current Liabilities
Current maturities of long-term debt (Note 5) $ 4,230 $ 4,482 $ 4,387
Revolving line of credit (Note 5) -- 3,503 6,200
Accounts payable (Note 7) 4,729 5,003 5,128
Advanced billings and customer deposits 3,326 3,538 2,652
Accrued compensation 1,015 1,268 1,084
Other current liabilities 2,496 1,564 1,455
Current liabilities held for sale (Note 2) -- 542 735
----------------------------------
Total current liabilities 15,796 19,900 21,641
----------------------------------
Long-term debt, less current maturities (Note 5) 39,116 47,561 52,049
----------------------------------
Other Liabilities
Deferred income taxes (Note 6) 20,819 15,859 14,977
Pension and other (Note 9) 3,425 2,441 2,265
----------------------------------
Total other liabilities 24,244 18,300 17,242
----------------------------------
Minority Interests in discontinued operations (Note 2) -- 1,666 1,838
----------------------------------
Commitments and Contingencies (Notes 2,3,5,6,7,9,12, and 13)
Shareholders' Equity (Notes 5 and 10)
Common stock, no par value, authorized 16,000 shares;
issued and outstanding 7,593 shares in 2003, 7,552
shares in 2002, and 7,530 shares in 2001 5,733 5,246 4,950
Retained earnings 100,449 71,335 69,610
Accumulated other comprehensive income (loss) (Note 3) 26 (4) 42
----------------------------------
Total shareholders' equity 106,208 76,577 74,602
----------------------------------
Total liabilities and shareholders' equity $185,364 $ 164,004 $167,372
==================================
See accompanying notes to consolidated financial statements.
F-4
SHENANDOAH TELECOMMUNICATIONS COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
Years Ended December 31, 2003, 2002 and 2001
in thousands, except per share amounts
2003 2002 2001
- ---------------------------------------------------------------------------------------------------
Operating revenues:
Wireless (Notes 7 and 8) $ 69,872 $ 57,867 $ 36,133
Wireline 29,022 28,755 27,486
Other 6,967 6,352 5,103
--------- -------- --------
Total operating revenues 105,861 92,974 68,722
--------- -------- --------
Operating expenses:
Cost of goods and services (Note 7) 10,943 10,502 7,410
Network operating costs (Note 8) 33,630 32,512 26,756
Depreciation and amortization 16,631 14,482 11,263
Selling, general and administrative (Note 7) 26,029 26,140 16,869
--------- -------- --------
Total operating expenses 87,233 83,636 62,298
--------- -------- --------
Operating income 18,628 9,338 6,424
--------- -------- --------
Other income (expense):
Interest expense (3,510) (4,195) (4,127)
Net gain (loss) on investments (Note 3) (443) (10,004) 12,943
Non-operating income (expense), net 390 (141) 265
--------- -------- --------
(3,563) (14,340) 9,081
--------- -------- --------
Income (loss) before income taxes, cumulative effect of a
change in accounting and discontinued operations 15,065 (5,002) 15,505
Income tax provision (benefit) (Note 6) 5,304 (2,109) 5,811
--------- -------- --------
Income (loss) from continuing operations 9,761 (2,893) 9,694
Discontinued operations, net of income taxes (Note 2) 22,389 7,412 6,678
Cumulative effect of a change in accounting,
net of income taxes (Note 1) (76) -- --
--------- -------- --------
Net income $ 32,074 $ 4,519 $ 16,372
========= ======== ========
Income (loss) per share:
Basic Net income (loss) per share:
Continuing operations $ 1.29 $ (0.38) $ 1.29
Discontinued operations 2.95 0.98 0.89
Cumulative effect of a change in accounting, net of
income taxes (0.01) -- --
--------- -------- --------
$ 4.23 $ 0.60 $ 2.18
========= ======== ========
Weighted average shares outstanding, basic 7,577 7,542 7,523
========= ======== ========
Diluted Net income (loss) per share:
Continuing operations $ 1.28 $ (0.38) $ 1.28
Discontinued operations 2.94 0.98 0.88
Cumulative effect of a change in accounting, net (0.01) -- --
--------- -------- --------
$ 4.22 $ 0.60 $ 2.17
========= ======== ========
Weighted average shares, diluted 7,608 7,542 7,549
========= ======== ========
See accompanying notes to consolidated financial statements.
F-5
SHENANDOAH TELECOMMUNICATIONS COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
AND COMPREHENSIVE INCOME
Years Ended December 31, 2003, 2002 and 2001
in thousands, except per share amounts
Accumulated
Other
Common Retained Comprehensive
Shares Stock Earnings Income (loss) Total
- ----------------------------------------------------------------------------------------------------------------------
Balance, January 1, 2001 7,518 $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 ($0.35 per share) -- -- (2,635) -- (2,635)
Common stock issued through
exercise of incentive stock options 12 133 -- -- 133
------------------------------------------------------------------
Balance, December 31, 2001 7,530 4,950 69,610 42 74,602
Comprehensive income: -- -- 4,519 -- 4,519
Net income
Net unrealized change in
securities available-for-sale, net
of tax of $29 -- -- -- (46) (46)
---------
Total comprehensive income 4,473
---------
Dividends declared ($0.37 per share) -- -- (2,794) -- (2,794)
Common stock issued through
exercise of incentive stock
options and stock grants 22 296 -- -- 296
------------------------------------------------------------------
Balance, December 31, 2002 7,552 $5,246 $ 71,335 $ (4) $ 76,577
Comprehensive income
Net income 32,074 32,074
Net unrealized change in
securities available-for-sale, net
of tax of $(18) 30 30
---------
Total comprehensive income 32,104
---------
Dividends declared ($0.39 per share) -- -- (2,960) (2,960)
Common stock issued through
exercise of incentive stock
options 41 487 -- -- 487
------------------------------------------------------------------
Balance, December 31, 2003 7,593 $5,733 $ 100,449 $ 26 $ 106,208
==================================================================
See accompanying notes to consolidated financial statements.
F-6
SHENANDOAH TELECOMMUNICATIONS COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years Ended December 31, 2003, 2002 and 2001
in thousands
2003 2002 2001
- -------------------------------------------------------------------------------------------------
Cash Flows from Operating Activities
Income (loss) from continuing operations $ 9,761 $ (2,893) $ 9,694
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation 16,612 14,476 10,540
Amortization 19 6 723
Deferred income taxes 5,664 289 8,666
Loss on disposal of assets 348 739 506
Net (gain) loss on disposal of investments 3 9,034 (14,162)
Net (gain) loss from patronage and equity
investments 52 393 789
Other 403 443 987
Changes in assets and liabilities:
(Increase) decrease in:
Accounts receivable 1,069 (1,797) (864)
Materials and supplies (275) 1,147 (307)
Increase (decrease) in:
Accounts payable (275) 1,067 (3,968)
Other prepaids, deferrals and accruals (2,778) 120 (2,263)
----------------------------------
Net cash provided by operating activities 30,599 23,024 10,341
----------------------------------
Cash Flows From Investing Activities
Purchase and construction of plant and equipment, net
of retirements (12,476) (22,612) (27,972)
Purchase of investment securities (796) (1,775) (1,250)
Proceeds from sale of equipment 109 77 482
Proceeds from sale of radio spectrum license -- -- 1,133
Proceeds from investment activities (Note 3) 714 3,301 5,842
----------------------------------
Net cash used in investing activities (12,449) (21,009) (21,765)
----------------------------------
(Continued)
F-7
SHENANDOAH TELECOMMUNICATIONS COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years Ended December 31, 2003, 2002 and 2001
in thousands
2003 2002 2001
- -----------------------------------------------------------------------------------------------------------
Cash Flows From Financing Activities
Proceeds from issuance of long-term debt $ -- $ -- $ 24,641
Principal payments on long-term debt (8,697) (4,393) (23,692)
Net proceeds from (payments of) lines of credit (3,503) (2,697) 6,200
Debt issuance costs -- -- (175)
Dividends paid (2,960) (2,794) (2,635)
Proceeds from exercise of incentive stock options 487 296 133
---------------------------------
Net cash provided by (used in) financing activities (14,673) (9,588) 4,472
---------------------------------
Net cash used in continuing operations 3,477 (7,573) (6,952)
Net cash provided by discontinued operations 23,010 7,745 6,444
---------------------------------
Net increase (decrease) in cash and cash equivalents 26,487 172 (508)
Cash and cash equivalents:
Beginning 2,209 2,037 2,545
---------------------------------
Ending $ 28,696 $ 2,209 $ 2,037
=================================
Supplemental Disclosures of Cash Flow Information
Cash payments for:
Interest, net of capitalized interest of $26 in 2003;
$93 in 2002, and $134 in 2001 $ 3,577 $ 4,274 $ 4,217
=================================
Income taxes $ 15,569 $ 1,045 $ 506
=================================
Non-cash transactions:
During 2002, the Company issued 4,654 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.
F-8
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. Pursuant to
a management agreement with Sprint Communications Company and its related
parties (collectively, "Sprint"), 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 (Note 7). A summary of the Company's significant accounting
policies follows:
Stock split: All share and per share information reflect the two for one stock
split announced in October 2003, to shareholders of record as of the close of
business on January 30, 2004. The additional shares were distributed on February
20, 2004. The effective date of the split is February 23, 2004. All previously
reported share and per share data included herein are retroactively adjusted to
reflect the split.
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 periods. 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 $28.7million, $2.2 million, and $2.0
million at December 31, 2003, 2002 and 2001, 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 allowance for uncollectable
receivables related to continuing operations was $477 thousand, $914 thousand
and $650 thousand at December 31, 2003, 2002 and 2001, respectively.
Securities and investments: The classifications of debt and equity securities
are 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
F-9
Note 1. Summary of Significant Accounting Policies (Continued)
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 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, or where the
Company otherwise has the ability to exercise significant influence, are
reported under the equity method. Under this method, the Company's equity
in earnings or losses of investees is reflected in earnings. Distributions
received reduce the carrying value of these investments. The Company
recognizes a loss when there is a decline in value of 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 value. Inventory held for sale, such as
telephones and accessories, are carried at the lower of average cost or market
value. 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 8.7%, 8.6% and 8.3% of average depreciable assets
for the years 2003, 2002 and 2001, 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 when
necessary.
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 adopted SFAS No. 143 on January 1, 2003.
The impact of the adoption of SFAS No. 143 was the recording of a capitalized
asset retirement obligation of $158 thousand, the related accumulated
depreciation of $32 thousand, the present value of the future removal obligation
of $249 thousand, and the cumulative effect of the accounting change of $76
thousand after taxes recorded on the consolidated statements of income.
The Company recorded the retirement obligation on towers owned where there is a
legal obligation to remove the tower at the time the Company discontinues its
use. The obligation was estimated based on the size of the tower. The Company's
cost to remove the towers is amortized over the life of the tower. The pro forma
liability on January 1, 2002 would have been $236 thousand, and was $249
thousand on December 31, 2002. On December 30, 2003, the liability was $300
thousand. The current year expense for the accretion and depreciation related to
the adoption of SFAS No.143 is approximately $20 thousand before taxes.
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
F-10
Note 1. Summary of Significant Accounting Policies (Continued)
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 were 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 required 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 and
identifiable intangible 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 a
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 2003 and 2002. With the implementation of SFAS No.
142, there was no goodwill amortization charged to operations in 2003 or 2002,
while amortization expense was $360 thousand in 2001.
The following table reconciles previously reported net income as if the
provisions of SFAS No. 142 were in effect for the years ended prior to 2002.
2003 2002 2001
------- ------ --------
(in thousands)
Reported net income $32,074 $4,519 $ 16,372
Add back goodwill amortization -- -- 360
Deduct income tax benefit -- -- (137)
------- ------ --------
Adjusted net income $32,074 $4,519 $ 16,595
======= ====== ========
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. During 2003, the Company adopted an Executive Supplemental
Retirement Plan for selected employees. This is an unfunded plan and is
maintained primarily for the purpose of providing deferred compensation for a
select group of management or highly compensated employees. 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 of the funded retirement plans holds Company stock 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 deferred tax assets, in case they may not be recoverable.
Revenue recognition: The Company recognizes revenue when pervasive 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. 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.
F-11
Note 1. Summary of Significant Accounting Policies (Continued)
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) were deferred and recognized ratably over the
estimated life of the customer relationship of 30 months in accordance with the
Securities and Exchange Commission's Staff Accounting Bulletin 101, (SAB
No.101). Effective July 1, 2003, the Company adopted Emerging Issues Task Force
("EITF") No. 00-21, "Accounting for Revenue Arrangements with Multiple Element
Deliverables." The EITF guidance addresses how to account for arrangements that
may involve multiple revenue-generating activities, i.e., the delivery or
performance of multiple products, services, and/or rights to use assets. In
applying this guidance, separate contracts with the same party, entered into at
or near the same time, will be presumed to be a bundled transaction, and the
consideration will be measured and allocated to the separate units based on
their relative fair values. The adoption of EITF 00-21 has required evaluation
of each arrangement entered into by the Company for each sales channel. The
Company will continue to monitor arrangements with its sales channels to
determine if any changes in revenue recognition would need to be made in the
future. The adoption of EITF 00-21 has resulted in substantially all of the
activation fee revenue generated from Company-owned retail stores and associated
direct costs being recognized at the time the related wireless handset is sold
and is classified as equipment revenue and cost of equipment, respectively. Upon
adoption of EITF 00-21, previously deferred revenues and costs will continue to
be amortized over the remaining estimated life of a subscriber, not to exceed 30
months. Revenue and costs for activations at other retail locations will
continue to be deferred and amortized over their estimated lives as prescribed
by SAB 101. The adoption of EITF 00-21 had the effect of increasing equipment
revenue by $68 thousand and increasing costs of activation by $23 thousand in
2003, which otherwise would have been deferred and amortized. The amounts of
deferred revenue under SAB101 at December 31, 2003, 2002 and 2001 were $1.2
million, $1.5 million and $1.2 million, respectively. The deferred costs at
December 31, 2003, 2002 and 2001 were $0.4 million, $0.7 million and $0.7
million, respectively.
The Company records its PCS service revenue net of the 8% of collected revenue
that is paid to Sprint. Under the management agreement with Sprint, through
December 31, 2003 Sprint is entitled to retain 8% of all collected service
revenue from subscribers whose service home is in the Company's territory and 8%
of the collected roaming revenue generated by non-Sprint wireless subscribers
who use the Company's network. With the adoption of the new Amended Agreement,
the Company will record its service revenue and receive payment from Sprint
based on billed revenue, net of 8% of billed revenue retained by Sprint,
customer credits, and allocated write-offs.
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:
2003 2002 2001
----------------------------------------
Net Income (in thousands, except per share amounts)
As reported $32,074 $4,519 $16,372
Pro forma 31,889 4,307 16,115
Earnings per share, basic and diluted
As reported, basic $ 4.23 $ 0.60 $ 2.18
As reported, diluted 4.22 0.60 2.17
Pro forma, basic 4.21 0.57 2.14
Pro forma, diluted 4.19 0.57 2.13
F-12
Note 1. Summary of Significant Accounting Policies (Continued)
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 2003 and 2001, all options
were dilutive. 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 2003,
2002 and 2001:
2003 2002 2001
----------------------------------------
Basic income (loss) per share (in thousands, except per share amounts)
Net income (loss) from continuing operations $ 9,761 $(2,893) $ 9,694
-----------------------------------
Weighted average shares outstanding 7,577 7,542 7,523
-----------------------------------
Basic income (loss) per share - continuing operations $ 1.29 $ (0.38) $ 1.29
===================================
Effect of stock options outstanding:
Weighted average shares outstanding 7,577 7,542 7,522
Assumed exercise, at the strike price at the beginning of year 172 -- 104
Assumed repurchase of options under treasury stock method (141) -- (78)
-----------------------------------
Diluted weighted average shares 7,608 7,542 7,549
-----------------------------------
Diluted income (loss) per share - continuing operations $ 1.28 $ (0.38) $ 1.28
===================================
Recently Issued Accounting Standards:
In December 2003, the FASB issued FASB Interpretation No. 46 (revised December
2003),"Consolidation of Variable Interest Entities," which addresses how a
business enterprise should evaluate whether it has a controlling financial
interest in an entity through means other than voting rights and accordingly
should consolidate the entity. FIN 46R replaces FASB Interpretation No. 46,
"Consolidation of Variable Interest Entities," (VIE), which was issued in
January 2003. The Company will be required to apply FIN 46R to variable
interests in VIEs created after December 31, 2003. For variable interests in
VIEs created before January 1, 2004, the Interpretation will be applied
beginning on January 1, 2005, except it must be applied in the fourth quarter of
2003 for any VIE's that are considered to be special purpose entities. For any
VIEs that must be consolidated under FIN 46R that were created before January 1,
2004, the assets, liabilities and non-controlling interests of the VIE initially
would be measured at their carrying amounts with any difference between the net
amount added to the balance sheet and any previously recognized interest being
recognized as the cumulative effect of an accounting change. If determining the
carrying amounts is not practicable, fair value at the date FIN 46R first
applies may be used to measure the assets, liabilities and non-controlling
interest of the VIE. The Company is evaluating the impact of applying FIN 46R to
existing VIEs in which it has variable interests and does not believe the
application will have a material impact on the Company's consolidated financial
statements.
In May 2003, the Financial Accounting Standards Board ("FASB") issued SFAS No.
150, "Accounting for Certain Financial Instruments with Characteristics of
Liabilities and Equity," which was effective at the beginning of the first
interim period beginning after June 15, 2003. This Statement establishes
standards for the classification and measurement of certain financial
instruments with characteristics of both liabilities and equity. The Statement
also includes required disclosures for financial instruments within its scope.
For the Company, the Statement was effective for instruments entered into or
modified after May 31, 2003 and otherwise will be effective as of January 1,
2004, except for mandatorily redeemable financial instruments. For certain
mandatorily redeemable financial instruments, the Statement will be effective
for the Company on January 1, 2005. The effective date has been deferred
indefinitely for certain other types of mandatorily redeemable financial
instruments. The Company currently does not have any financial instruments that
are within the scope of this Statement.
In December 2003, the Financial Accounting Standards Board issued FASB Statement
No. 132(R). Statement No. 132(R) is a revision of Statement No. 132, "Employers'
Disclosures about Pensions and Other Postretirement Benefits." SFAS 132(R) is
effective for financial statements with fiscal years ending after December 15,
2003. SFAS 132(R) requires additional disclosures including information
describing the types of plan assets, investment strategy, measurement date(s),
plan obligations, cash flows, and components of net periodic benefit cost
recognized during
F-13
Note 1. Summary of Significant Accounting Policies (Continued)
interim periods. The objectives of the revisions are to provide qualitative
information about the items in the financial statements, quantitative
information about items recognized or disclosed in the financial statements,
information that enables users of financial statements to assess the effect that
pension plans and other postretirement benefit plans have on entities' results
of operations, and information to facilitate assessments of future earnings and
cash flows. The Company has adopted this statement effective December 31, 2003
with disclosures included in Note 9.
Reclassifications: Certain amounts reported in the 2002 and 2001 financial
statements have been reclassified to conform with the 2003 presentation, with no
effect on net income or shareholders' equity.
Note 2. Discontinued Operations
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 was a post closing
adjustment based on the actual working capital balance as of the closing date,
which resulted in a $39 thousand charge for the Company. The $5.0 million escrow
was established for any contingencies and indemnification issues that may arise
during the two-year post-closing period and is included in deferred charges and
other assets in the 2003 consolidated balance sheet. The Company's gain on the
transaction was approximately $35 million. Post closing, the Company provided
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 and 2001:
2002 2001
--------------------
Assets (in thousands)
Accounts receivable $2,608 $2,759
Other current assets 309 214
Property, plant and equipment, (net) 2,631 3,272
------ ------
Total assets $5,548 $6,245
====== ======
Liabilities and minority interest
Accounts payable and accrued expenses $ 381 $ 499
Deferred revenue and deposits 161 236
Minority interest 1,666 1,838
------ ------
Total liabilities and minority interest $2,208 $2,573
====== ======
The operations of the cellular partnership including the minority interest have
been reclassified as discontinued operations, net of taxes in the consolidated
statements of income for all periods presented. Operating results and the sale
of the discontinued operations are summarized as follows:
(in thousands) 2003 2002 2001
----------------------------------
Revenues $ 3,056 $ 20,895 $ 20,012
Operating expenses 453 3,618 4,674
Other income -- 3 16
-------- -------- --------
Income before minority interest and taxes 2,603 17,280 15,354
Minority interests (773) (5,200) (4,526)
Sale of partnership interest 34,973 -- --
Income taxes (14,414) (4,668) (4,150)
-------- -------- --------
Net income from discontinued operations $ 22,389 $ 7,412 $ 6,678
==================================
F-14
Note 3. Securities and Investments
The Company has three classifications of investments; available for sale
securities, investments carried at cost, and equity method investments. See Note
1 for specific definitions of each classification of investment. The following
tables present the investments of the Company for the three-year period ended
December 31, 2003:
Available-for-sale securities at December 31 consist of the following:
Gross Gross
Unrealized Unrealized
Holding Holding Fair
Cost Gains Losses Value
----------------------------------------------
(in thousands)
2003
--------------------------------------------------------------------------
Deutsche Telekom, AG $ 85 $ 64 $ -- $ 149
Other 73 -- 23 50
----------------------------------------------
$ 158 $ 64 $ 23 $ 199
==============================================
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
==============================================
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, Illuminet notified the Company that
VeriSign, Inc. (VeriSign) made an offer to acquire Illuminet. The Company
received VeriSign stock valued at $13.2 million, for the Illuminet investment,
and based on the fair value of the new asset received, recorded a realized gain
of $12.7 million in 2001 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 Company's 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 2003 or 2002, while there were $17.7 million for 2001. Gross realized
losses included in income in 2003, 2002 and 2001 were $3 thousand, $9.0 million
and $3.0 million, respectively.
Changes in the unrealized gains (losses) on available-for-sale securities during
the years ended December 31, 2003, 2002 and 2001 reported as a separate
component of shareholders' equity are as follows:
F-15
Note 3. Securities and Investments (Continued)
2003 2002 2001
----------------------------------
Available-for-sale securities: (in thousands)
Beginning Balance $ (7) $ 68 $ 9,153
Unrealized holding gains (losses) during the year, net 48 (75) 5,615
Reclassification of recognized (gains) during the year, net -- -- (14,700)
----------------------------------
41 (7) 68
Deferred tax effect related to net unrealized gains 15 (3) 26
----------------------------------
Ending Balance $ 26 $ (4) $ 42
==================================
As of December 31, other investments, comprised of equity securities, which do
not have readily determinable fair values, consist of the following:
2003 2002 2001
----------------------------------
Cost method: (in thousands)
Rural Telephone Bank $ 796 $ 796 $ 796
NECA Services, Inc. 500 500 500
CoBank 1,321 1,126 768
NTC Communications (equity method in 2003 and 2002) -- -- 500
Other 182 241 254
----------------------------------
2,799 2,663 2,818
Equity method:
South Atlantic Venture Fund III L.P. 89 263 393
South Atlantic Private Equity Fund IV L.P. 541 707 891
Dolphin Communications Parallel Fund, L.P. 184 273 441
Dolphin Communications Fund II, L.P. 1,290 1,024 518
Burton Partnership 1,149 988 970
NTC Communications (cost method in 2001) 971 1,089 --
Virginia Independent Telephone Alliance 228 248 400
ValleyNet 17 17 7
----------------------------------
4,469 4,609 3,620
----------------------------------
Total investments $ 7,268 $ 7,272 $ 6,438
==================================
The Company's investment in CoBank increased $195 thousand in 2003 and $358
thousand in 2002, due to the ongoing patronage earned from the outstanding
investment and loan balances the Company has with CoBank. For 2003 and 2002, the
Company's allocated portions of losses, recorded on the investment in NTC were
$118 thousand and $171 thousand, respectfully.
In 2003, the Company received distributions from its equity investments totaling
$0.5 million in cash and invested $0.7 million in two equity investments,
Dolphin Communications Parallel Fund, LP and Dolphin Communications Fund II, LP.
These two investments recorded losses of approximately $0.4 million for the 2003
year. The Company recorded a loss from the Virginia Independent Telephone
Alliance investment of $19 thousand, for 2003. The Company recorded a gain from
the ValleyNet partnership of $84 thousand and received distributions of $84
thousand. Other equity investments lost an additional $0.4 million for 2003.
The Company was committed to invest an additional $1.8 million at December 31,
2003 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. The Company's ownership in NTC Communications
is
F-16
Note 3. Securities and Investments (Continued)
approximately 18%. 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 2003 2002 2001
--------------------------------------------------
(in thousands)
Land $ 802 $ 792 $ 775
Buildings and structures 15 - 40 years 30,956 28,949 20,375
Cable and wire 15 - 50 years 51,041 49,495 45,188
Equipment and software 3 - 16.6 years 114,632 104,833 88,007
--------------------------------
$197,431 $184,069 $154,345
================================
Note 5. Long-Term Debt and Revolving Lines of Credit
Total debt consists of the following at December 31:
Weighted
Average
Interest Rate 2003 2002 2001
----------------------------------------------------
(in thousands)
Rural Telephone Bank (RTB) Fixed 6.02% $ 5,599 $10,645 $11,428
Rural Utilities Service (RUS) Fixed 5.00% 149 159 224
CoBank (term loan) Fixed 7.57% 37,398 41,039 44,584
RUS Development Loan Interest free 200 200 200
---------------------------------
43,346 52,043 56,436
Current maturities 4,230 4,482 4,387
---------------------------------
Total long-term debt $39,116 $47,561 $52,049
=================================
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 $67 thousand monthly including interest. RUS loans are
payable $4 thousand quarterly, including interest. The RUS and RTB loan
facilities have maturities through 2019. The CoBank term facility requires
monthly payments of $550 thousand, including interest. The final maturity of the
CoBank facility is 2013.
The CoBank revolver was a $20.0 million facility, which the Company cancelled in
May 2003 due to the receipt of the cash proceeds from the sale of the Virginia
10 RSA partnership interest.
The $2.5 million SunTrust Banks revolver was cancelled in May 2003. It was
replaced in August 2003 with a SunTrust Bank Revolver facility of $0.5 million,
which 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, 2004, and is priced at the 30-day LIBOR rate plus 1.25%. The Company has not
borrowed on this facility.
Substantially all of the Company's assets serve as collateral for the long-term
debt. The Company's outstanding long-term CoBank debt is $37.4 million, all of
which is at fixed rates ranging from approximately 6% to 8%. The stated rate
excludes patronage credits that are received from CoBank. These patronage
credits are a distribution of CoBank's profits, as it is a cooperative and is
required to distribute its profits to its members. During the first quarter of
2003, the Company received patronage credits of approximately 60 basis points on
its outstanding CoBank debt balance. The Company accrued a similar amount in the
current year, in anticipation of the early 2004 distribution of the credits by
CoBank. Repayment of the CoBank long-term debt facilities requires monthly
payments on the debt through September 2013. The Company is required to meet
financial covenants measured at the end of each quarter, based on a trailing
12-month basis and are calculated on continuing operations. At December 31,
2003, the covenant calculations
F-17
Note 5. Long-Term Debt and Revolving Lines of Credit (Continued)
were as follows. The ratio of total debt to operating cash flow, which must be
3.5 or lower, was 1.2. The equity to total assets ratio, which must be 35% or
higher, was 57.3%. The ratio of operating cash flow to scheduled debt service,
which must exceed 2.0, was 4.29. The Company was in compliance with all other
covenants related to its debt agreements at December 31, 2003.
The aggregate maturities of long-term debt for each of the five years subsequent
to December 31, 2003 are as follows:
Year Amount
---- --------------
(in thousands)
2004 $ 4,230
2005 4,372
2006 4,526
2007 4,688
2008 4,864
Later years 20,666
-------
$43,346
=======
The estimated fair value of fixed rate debt instruments as of December 31, 2003
and 2002 was $42.6 million and $51.1 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, 2003, 2002 and 2001 were
allocated as follows:
2003 2002 2001
--------------------------------
(in thousands)
Income tax provision (benefit) from continuing operations $ 5,304 $(2,109) $ 5,811
Income taxes on discontinued operations 14,414 4,668 4,150
Income tax from cumulative effect of an accounting change (47) -- --
Accumulated other comprehensive income for unrealized
holding gains (losses) on equity securities 18 (29) (3,482)
--------------------------------
$ 19,689 $ 2,530 $ 6,479
================================
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,
--------------------------------
2003 2002 2001
--------------------------------
(in thousands)
Current provision (benefit)
Federal taxes $ 762 $(2,076) $(2,382)
State taxes 147 (212) (514)
--------------------------------
Total current provision (benefit) 909 (2,288) (2,896)
Deferred provision
Federal taxes 4,091 592 7,330
State taxes 304 (413) 1,377
--------------------------------
Total deferred provision 4,395 179 8,707
--------------------------------
Income tax provision (benefit) $ 5,304 $(2,109) $ 5,811
================================
F-18
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,
----------------------------------
2003 2002 2001
----------------------------------
(in thousands)
Computed "expected" tax expense $ 5,122 $ (1,701) $ 5,271
State income taxes, net of federal tax effect 298 (460) 575
Other, net (116) 52 (35)
----------------------------------
Income tax provision (benefit) $ 5,304 $ (2,109) $ 5,811
==================================
Net deferred tax assets and liabilities consist of the following at December 31:
2003 2002 2001
----------------------------------
Deferred tax assets: (in thousands)
Allowance for doubtful accounts $ 192 $ 370 $ 247
Accrued compensation costs -- 181 149
State net operating loss carryforwards, net of federal tax 1,569 1,425 --
Recognized investment losses including impairments -- 593 --
Deferred revenues 304 338 179
AMT credits -- 285 --
Accrued pension costs 476 395 397
Other, net 81 23 --
----------------------------------
Total gross deferred tax assets 2,622 3,610 972
Less valuation allowance (864) (704) --
----------------------------------
Net deferred tax assets 1,758 2,906 972
----------------------------------
Deferred tax liabilities:
Plant-in-service 20,058 17,568 11,313
Escrowed gain on sale of discontinued operations 1,859 -- --
Unrealized gain on investments 15 -- 26
Gain on investments, net 123 -- 4,035
----------------------------------
Total gross deferred tax liabilities 22,055 17,568 15,374
----------------------------------
Net deferred tax liabilities $ 20,297 $ 14,662 $ 14,402
==================================
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 $160 thousand, to $864 thousand in 2003, from $704 thousand in
2002. The Company has generated net operating loss (NOL) carry forwards of
approximately $25.9 million from its PCS operations in several states. The carry
forwards expire at varying dates beginning in 2005.
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 the 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
F-19
Note 7. Significant Contractual Relationship (Continued)
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 an exclusive 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.
Under the Sprint agreements, Sprint provides the Company significant support
services such as customer service, billing, collections, long distance, national
network operations support, inventory logistics support, use of the Sprint brand
names, national advertising, national distribution and product development.
Additionally, the Company derives substantial travel revenue and incurs
substantial travel expenses when Sprint and Sprint's PCS Affiliate partners'
subscribers incur minutes of use in the Company's territory and when the
Company's subscribers incur minutes of use in Sprint and Sprint's PCS Affiliate
partners' territories. These transactions are recorded as travel revenue,
network operating cost and travel cost, cost of equipment and selling and
marketing expense in the Company's consolidated statements of income. Cost of
service related to access to the nationwide network, including travel
transactions and long distance expenses, are recorded in network operating
costs. The costs of services such as billing, collections and customer service
are included in selling, general and administrative costs. Cost of equipment
transactions between the Company and Sprint relate to inventory purchased and
subsidized costs of handsets. These costs also include transactions related to
subsidized costs on handsets and commissions paid to Sprint for sales of
handsets through Sprint's national distribution programs.
Historically, Sprint determined monthly service charges at the beginning of each
calendar year. Sprint calculated the costs to provide these services for its
network partners and required a final settlement against the charges actually
paid. If the costs to provide these services were less than the amounts paid by
the Sprint's network partners, Sprint issued a credit for these amounts. If the
costs to provide the services were more that the amounts paid by Sprint's
network partners, Sprint charged the network partners for these amounts. For the
years presented, the Company recorded the actual costs, after the adjustments,
which were recorded for these services provided by Sprint.
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. In the past, there was no prescribed formula defined
in the agreements with Sprint for the calculation of the fee charged to the
Company for these services. Sprint adjusted these fees at least annually. This
situation changed with the execution of an amendment to the Agreement which
occurred on January 31, 2004, retroactive to January 1, 2004 (the Amended
Agreement). The Amended Agreement provides greater certainty to the Company for
certain future expenses and revenues during the term of the agreement and
simplifies the methods used to settle revenue and expenses between the Company
and Sprint. 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 the services to 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 generating
positive cash flow from operations and ultimately profitability for its PCS
operation. Changes in technology, increased competition, or economic conditions
in the wireless industry or the economy in general, individually and/or
collectively, could have an adverse effect on the Company's financial position
and results of operations.
Through December 31, 2003, the Agreement provided that 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. With the adoption of the new
Amended Agreement, the Company will record its service revenue and receive
payment from Sprint based on billed revenue, net of the 8% of billed revenue
retained by Sprint, customer credits and allocated writeoffs.
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. The inter-market travel rate was $0.20 per minute from
inception of the Sprint agreement through April 30, 2001, $0.15 per minute from
May 1, 2001 through September 30, 2001, and $0.12
F-20
Note 7. Significant Contractual Relationship (Continued)
per minute from October 1, 2001 through December 31, 2001. The rate was further
reduced to $0.10 per minute as of January 1, 2002. The $0.10 rate was in effect
for the full year of 2002. The travel rate for 2003 was $0.058 per minute and
will remain at this rate through December 31, 2006.
As part of the Amended Agreement signed January 30, 2004, the Company and Sprint
resolved several outstanding issues. The result of the resolution of these
disputes was a favorable adjustment to operating income of $0.7 million for the
settlement of a dispute related to inter-market travel revenue generated by
certain other Affiliate subscribers traveling in the Company's market, and a
reduction to previously billed disputed software maintenance fees from a
re-allocation of the fees from Sprint on a per subscriber basis versus the prior
allocation which was on a per switch basis.
The Sprint Agreements require the Company to maintain certain minimum network
performance standards and to meet other performance requirements. The Company
was in compliance in all-material respects with these requirements as of
December 31, 2003.
Going forward, the adoption of the Amended Agreement will allow the Company to
better project the fees it will pay to Sprint for its cash cost per user (CCPU)
per month related to certain billing, customer services and other service costs,
and certain defined costs per gross add (CPGA). The CCPU charge from Sprint is
fixed at $7.70 per subscriber through the end of 2006, and certain defined CPGA
are the lower of $25.00 or 6.3% of Sprint's published CPGA figure.
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 $3.1 million, $3.5 million and $4.1
million in 2003, 2002 and 2001, respectively. At December 31, 2003, 2002 and
2001, the Company had accounts receivable from ValleyNet of approximately $0.4
million, $0.4 million and $0.4 million, respectively. The Company's PCS
operating subsidiary leases capacity through ValleyNet fiber facilities. Payment
for usage of these facilities was $0.8 million in 2003, and $1.2 million in 2002
and 2001.
Virginia Independent Telephone Alliance, (VITAL), another equity method investee
of the Company, provides SS7 signaling services to the Company. These
transactions are recorded as expense on the Company's books and were less than
$30 thousand in each of the 2003, 2002 and 2001.
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.
2003 2002 2001
--------------------------------
Change in benefit obligation: (in thousands)
Benefit obligation, beginning $ 9,585 $ 8,538 $ 6,847
Service cost 486 420 313
Interest cost 615 591 507
Actuarial (gain) loss 1,211 252 1,054
Benefits paid (247) (216) (183)
--------------------------------
Benefit obligation, ending 11,650 9,585 8,538
--------------------------------
Change in plan assets:
Fair value of plan assets, beginning 6,705 7,375 8,081
Actual return on plan assets 948 (794) (523)
Benefits paid (247) (216) (183)
F-21
Note 9. Retirement Plans (Continued)
Contributions made 447 340 --
--------------------------------
Fair value of plan assets, ending 7,853 6,705 7,375
--------------------------------
Funded status (3,797) (2,880) (1,163)
Unrecognized net (gain) loss 2,229 1,505 (124)
Unrecognized prior service cost 252 283 315
Unrecognized net transition asset (9) (38) (67)
--------------------------------
Accrued benefit cost $ (1,325) $(1,130) $(1,039)
================================
Components of net periodic benefit costs:
Service cost $ 486 $ 420 $ 313
Interest cost 615 591 507
Expected return on plan assets (494) (582) (640)
Amortization of prior service costs 31 31 31
Amortization of net gain 32 -- (102)
Amortization of net transition asset (29) (29) (29)
--------------------------------
Net periodic benefit cost $ 641 $ 431 $ 80
================================
The accumulated benefit obligation for the qualified retirement plan was $7,872,
$6,551 and $5,399 at December 31, 2003, 2002 and 2001, respectively.
Weighted average assumptions used by the Company in the determination of benefit
obligations at December 31, 2003, 2002 and 2001 were as follows:
2003 2002 2001
--------------------------
Discount rate 6.00% 6.50% 7.00%
Rate of increase in compensation levels 4.50% 4.50% 5.00%
Weighted average assumptions used by the Company in the determination of net
pension cost for the years ended December 31, 2003, 2002, and 2001 were as
follows:
2003 2002 2001
--------------------------
Discount Rate 6.50% 7.00% 7.50%
Rate of increase in compensation level 4.50% 5.00% 5.00%
Expected long-term rate of return on plan assets 7.50% 8.00% 8.00%
The Company's pension plan asset allocations based on market value at December
31, 2003 and 2002, by asset category were as follows:
Asset Category 2003 2002
-----------------
Equity securities 69.8% 62.9%
Debt securities 26.6% 32.2%
Cash and cash equivalents 3.6% 4.9%
-----------------
100.0% 100.0%
=================
Investment Policy
The investment policy of the Company's Pension Plan is for assets to be invested
in a manner consistent with the fiduciary standards of ERISA. More specifically,
the investment focus is to preserve capital which includes inflationary
protection as well as protection of the principal amounts contributed to the
Plan. Of lesser importance is the consistency of growth, which will tend to
minimize the annual fluctuations in the normal cost. It is anticipated that
growth of the fund will result from both capital appreciation and the
re-investment of current income.
F-22
Note 9. Retirement Plans (Continued)
Contributions
The Company expects to contribute $0.5 million to the noncontributory defined
benefit plan in 2004, and contributed $0.4 million in 2003, and $0.3 million in
2002.
The Company's matching contributions to the defined contribution plan were
approximately $228 thousand, $210 thousand and $182 thousand for the years ended
December 31, 2003, 2002 and 2001, respectively.
In May 2003, the Company adopted an unfunded nonqualified supplemental executive
retirement plan for named executives. The plan was established to provide
retirement benefits in addition to those provided under the Retirement Plan that
covers all employees. The following table presents the actuarial information for
the plan.
2003
-------------
Change in benefit obligation: (in thousands)
Benefit obligation, beginning $ --
Service cost 22
Interest cost 23
Actuarial loss 278
Plan adoption 546
-----
Benefit obligation, ending 869
-----
Funded status (869)
Unrecognized net loss 278
Additional minimum liability (380)
Intangible asset 380
Unrecognized prior service cost 521
-----
Accrued benefit cost (70)
-----
Components of net periodic benefit costs:
Service cost $ 22
Interest cost 23
Amortization of prior service costs 25
-----
Net periodic benefit cost $ 70
=====
Assumptions used by the Company in the determination of the Supplemental
Retirement Plan information consisted of the following at December 31, 2003:
2003
----
Discount rate 6.00%
Rate of increase in compensation levels 4.50%
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 essentially all
employees in the form of stock options. The Plan authorizes grants of options to
purchase up to 480,000 shares of common stock over a ten-year period beginning
in 1996. The option price for all grants has been at the current market price at
the time of the grant. The grants have generally provided that one-half of the
options exercisable on each of the first and second anniversaries of the date of
grant, with the options expiring five years after they are granted. In 2003, the
Company issued grants where the options are vested over a five-year period
beginning on the third anniversary date of the grant of the options. The
participant may exercise 20% of the total grant after each anniversary date
through the eighth year, with the options expiring after ten years.
F-23
Note 10. Stock Incentive Plan (Continued)
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:
2003 2002 2001
-------------------------------------------
Dividend rate 1.68% to 2.35% 1.52% 1.78%
Risk-free interest rate 3.00% to 3.18% 4.24% 4.31%
Expected lives of options 5 to 10 years 5 years 5 years
Price volatility 38.83% to 51.02% 30.03% 38.29%
A summary of the status of the Plan at December 31, 2003, 2002 and 2001 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, 2001 117,122 $12.50
Granted 39,938 15.79 $5.51
Cancelled (6,580) 14.86
Exercised (12,426) 10.72
-------
Outstanding December 31, 2001 138,054 13.51
Granted 47,646 17.59 4.08
Cancelled (19,758) 13.95
Exercised (16,238) 11.27
-------
Outstanding December 31, 2002 149,704 14.99
Granted 75,396 18.89 4.24 to 11.37
Cancelled (11,892) 16.62
Exercised (40,988) 11.89
-------
Outstanding December 31, 2003 172,220
=======
There were 85,670, 91,658 and 83,114 shares exercisable at December 31, 2003,
2002 and 2001, at weighted average exercise prices per share of, $15.94, $13.70,
and $11.71, respectively. During 2002, the Company issued 4,654 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, 2003:
Exercise Shares Option Life Shares
Prices Outstanding Remaining Exercisable
---------------------------------------------------------------
1999 $ 9.97 9,700 1 year 9,700
2000 17.19 25,900 2 years 25,900
2001 15.79 31,626 3 years 31,626
2002 17.59 36,888 4 years 18,444
2003 17.98-22.01 68,106 5 to 10 years --
Note 11. Major Customers
The Company has one major customer and relationship that is a significant source
of revenue. In 2003, as during the past number of years, the Company's
relationship with Sprint continued to increase, due to growth in the PCS
business segment. Approximately 61.2% of total revenues in 2003 were generated
by or through Sprint and its customers using the Company's portion of Sprint's
nationwide PCS network. This was compared to 57.6% in 2002, and 47.1% of total
revenue in 2001. No other customer relationship on a stand-alone basis generates
more than 2.5% of the Company's total revenue for 2003, 2002 and 2001.
F-24
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 2004 and 2043 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, 2003 are as
follows:
Year Ending Amount
----------------------------------
(in thousands)
2004 $ 3,216
2005 2,544
2006 2,072
2007 1,327
2008 902
2009 and beyond 2,531
-------
$12,592
=======
The Company's total rent expense from continuing operations for each of the
previous three years was $4.4 million in 2003, $3.4 million in 2002, and $2.4
million in 2001.
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, 2003 are as follows:
Year Ending Amount
----------------------------------
(in thousands)
2004 $ 2,988
2005 2,759
2006 1,563
2007 1,126
2008 448
2009 and beyond 448
-------
$ 9,332
=======
F-25
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) Provides Internet access to a multi-state region
surrounding the Northern Shenandoah Valley, hosts
Travel 511 for Virginia, and sells and services
telecommunication equipment.
Shenandoah Valley Leasing Company (Leasing) Finances purchases of telecommunications equipment
to customers of other segments.
Shenandoah Mobile Company (Mobile) Provides tower rental space in the Company's PCS
markets and paging services throughout the
Northern Shenandoah Valley.
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 portion of a four-state area
covering the region from Harrisburg, York 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 Totals
--------------------------------------------------
(in thousands)
2003 $ (441) $ 65 $ (376)
2002 (822) 45 (777)
2001 (1,218) 104 (1,114)
F-26
Note 14. Segment Reporting (Continued)
Selected financial data for each segment is as follows:
Holding Telco CATV ShenTel Leasing
----------------------------------------------------
Operating revenues - external: (in thousands)
2003 $ -- $ 22,729 $ 4,433 $ 6,897 $ 14
2002 -- 22,461 4,358 6,312 20
2001 -- 21,599 3,810 5,078 25
====================================================
Operating revenues - internal:
2003 $ -- $ 3,062 $ 24 $ 307 $ --
2002 -- 2,888 5 349 --
2001 -- 2,532 2 362 --
====================================================
Depreciation and amortization:
2003 $ 196 $ 4,279 $ 777 $ 410 $ --
2002 196 3,798 718 414 --
2001 196 3,609 1,354 472 --
====================================================
Operating income (loss):
2003 $ (726) $ 11,927 $ 890 $ 1,469 $ 4
2002 (555) 11,908 1,145 776 11
2001 (504) 12,321 54 168 10
====================================================
Non-operating income less expenses:
2003 $ 4,275 $ (151) $ (31) $ 9 $ 1
2002 4,966 (474) (23) (93) 1
2001 3,804 646 (184) (36) 1
====================================================
Interest expense:
2003 $ 3,070 $ 443 $ 514 $ 171 $ --
2002 3,540 662 583 165 --
2001 2,664 1,428 690 237 --
====================================================
Income tax expense (benefit) from continuing operations:
2003 $ 29 $ 4,268 $ 146 $ 501 $ 2
2002 (3,363) 3,237 198 191 5
2001 5,117 4,373 (312) (32) 4
====================================================
Income (loss) from continuing operations:
2003 $ 7 $ 7,064 $ 200 $ 805 $ 3
2002 (5,771) 7,536 341 327 8
2001 8,463 7,167 (509) (73) 7
====================================================
Income from discontinued operations, net of taxes:
2003 $ -- $ 12 $ -- $ -- $ --
2002 -- 72 2 -- --
2001 -- 72 2 -- --
====================================================
Net income (loss) including cumulative effect
2003 $ 7 $ 7,076 $ 200 $ 805 $ 3
2002 (5,771) 7,608 343 327 8
2001 8,463 7,239 (507) (73) 7
====================================================
Total assets:
2003 $ 141,658 $ 57,533 $ 10,340 $ 6,721 $188
2002 112,765 59,554 10,961 6,255 187
2001 114,280 56,090 11,480 5,373 254
====================================================
F-27
Note 14. Segment Reporting (Continued)
Long Shen
Mobile Distance Network Comm
---------------------------------------------
Operating revenues - external:
2003 $ 2,840 $ 1,116 $ 744 $ 56
2002 2,399 1,101 835 20
2001 2,112 1,114 963 --
=============================================
Operating revenues - internal:
2003 $ 1,238 $ 228 $ 151 $ --
2002 1,661 643 110 --
2001 535 679 109 --
=============================================
Depreciation and amortization:
2003 $ 599 $ -- $ 124 $ --
2002 581 -- 158 --
2001 527 -- 114 --
=============================================
Operating income (loss):
2003 $ 1,347 $ 407 $ 624 $ (23)
2002 1,224 695 641 (49)
2001 (65) 585 823 --
=============================================
Non-operating income less expenses:
2003 $ (13) $ 4 $ 4 $ 1
2002 5 4 10 8
2001 92 2 -- --
=============================================
Interest expense:
2003 $ 26 $ -- $ -- $ --
2002 6 -- -- --
2001 87 -- -- --
=============================================
Income tax expense (benefit) from continuing operations:
2003 $ 377 $ 157 $ 242 $ (7)
2002 790 259 249 (15)
2001 (514) 223 313 --
=============================================
Income (loss) from continuing operations:
2003 $ 724 $ 255 $ 386 $ (14)
2002 (734) 441 401 (26)
2001 (746) 364 511 --
=============================================
Income from discontinued operations, net of taxes:
2003 $ 22,389 $ -- $ -- $ --
2002 7,468 -- -- --
2001 6,734 -- -- --
=============================================
Net income (loss) including cumulative effect
2003 $ 23,037 $ 255 $ 386 $ (14)
2002 6,734 441 401 (26)
2001 5,988 364 511 --
=============================================
Total assets:
2003 $ 18,396 $ 808 $ 1557 $ 78
2002 17,482 343 1,084 115
2001 17,981 176 1,109 100
=============================================
F-28
Note 14. Segment Reporting (Continued)
Combined Eliminating Consolidated
PCS Totals Entries Totals
-------------------------------------------------------
Operating revenues - external:
2003 $ 67,032 $ 105,861 $ -- $ 105,861
2002 55,468 92,974 -- 92,974
2001 34,021 68,722 -- 68,722
=====================================================
Operating revenues - internal:
2003 $ 1 $ 5,011 $ (5,011) $ --
2002 -- 5,656 (5,656) --
2001 -- 4,219 (4,219) --
=====================================================
Depreciation and amortization:
2003 $ 10,246 $ 16,631 $ -- $ 16,631
2002 8,617 14,482 -- 14,482
2001 4,991 11,263 -- 11,263
=====================================================
Operating income (loss):
2003 $ 2,916 $ 18,835 $ (207) $ 18,628
2002 (5,294) 10,502 (1,164) 9,338
2001 (5,769) 7,620 (1,196) 6,424
=====================================================
Non-operating income less expenses:
2003 $ (76) $ 4,023 $ (3,633) $ 390
2002 (91) 4,313 (4,454) (141)
2001 50 4,391 (4,110) 265
=====================================================
Interest expense:
2003 $ 2,920 $ 7,144 $ (3,634) $ 3,510
2002 3,693 8,649 (4,454) 4,195
2001 3,131 8,237 (4,110) 4,127
=====================================================
Income tax expense (benefit) from continuing operations:
2003 $ (411) $ 5,304 $ -- $ 5,304
2002 (3,660) (2,109) -- (2,109)
2001 (3,361) 5,811 -- 5,811
=====================================================
Income (loss) from continuing operations:
2003 $ 331 $ 9,761 $ -- $ 9,761
2002 (5,416) (2,893) -- (2,893)
2001 (5,490) 9,694 -- 9,694
=====================================================
Income from discontinued operations, net of taxes:
2003 $ -- $ 22,401 $ (12) $ 22,389
2002 -- 7,542 (130) 7,412
2001 -- 6,808 (130) 6,678
=====================================================
Net income (loss) including cumulative effect
2003 $ 331 $ 32,086 $ (12) $ 32,074
2002 (5,416) 4,649 (130) 4,519
2001 (5,490) 16,502 (130) 16,372
=====================================================
Total assets:
2003 $ 68,773 $ 306,052 $(120,688) $ 185,364
2002 71,256 280,002 (115,998) 164,004
2001 62,661 269,504 (102,132) 167,372
=====================================================
F-29
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, 2003 First Second Third Fourth Total
-----------------------------------------------------------------
Revenues $ 24,947 $ 24,844 $ 27,582 $ 28,488 $ 105,861
Operating income 4,150 2,402 4,976 7,100 18,628
Income from
Continuing operations 1,931 1,044 2,717 4,069 9,761
Income from discontinued
operations, net of taxes 22,628 -- (23) (216) 22,389
Cumulative effect of change in
accounting (76) -- -- -- (76)
Net income (a) $ 24,483 $ 1,044 $ 2,694 $ 3,853 $ 32,074
Income (loss) per share -
Continuing operations-diluted 0.26 0.14 0.36 0.53 1.28
Discontinued operations -diluted 2.98 -- -- (0.03) 2.94
Cumulative effect of change in
accounting - diluted (0.01) -- -- -- (0.01)
Net income per share - basic $ 3.24 $ 0.14 $ 0.36 $ 0.51 $ 4.23
Net income per share - diluted 3.23 0.14 0.35 0.50 4.22
For the year ended December 31, 2002 First Second Third Fourth Total
-----------------------------------------------------------------
Revenues $ 20,697 $ 22,186 $ 24,631 $ 25,460 $ 92,974
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 (b) $ 2,156 $ (2,114) $ 2,224 $ 2,253 $ 4,519
Income (loss) per share -
Continuing operations -diluted $ 0.05 $ (0.53) $ 0.05 $ 0.04 $ (0.38)
Discontinued operations -diluted 0.24 0.25 0.24 0.25 0.98
Net income per share - basic $ 0.29 $ (0.28) $ 0.29 $ 0.30 $ 0.60
Net income per share - diluted 0.29 (0.28) 0.29 0.30 0.60
(a) Fourth quarter results of 2003 include favorable adjustments to revenue
and expenses totaling $2.5 million, related to true-ups of management's
estimates and settlements of disputes with Sprint and a $0.4 million
benefit related to a change in vacation benefit accrual for employees.
(b) 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.
Per share earnings may not add to the full year values as each per share
calculation stands on its own.
F-30
Exhibits Index
Exhibit
Number Exhibit Description
- -------------------------------
3.1 Amended and Restated Articles of Incorporation of Shenandoah
Telecommunications Company filed as Exhibit 4.2 to the Company's
Registration Statement on Form S-8 (No. 333-21733) and incorporated
herein by reference.
*3.2 Shenandoah Telecommunications Company Bylaws as amended.
10.1 Shenandoah Telecommunications Company Stock Incentive Plan filed as
Exhibit 4.1 to the Company's Registration Statement on Form S-8 (No.
333-21733) and incorporated herein by reference.
10.2 Shenandoah Telecommunications Company Dividend Reinvestment Plan
filed as Exhibit 4.4 to the Company's Registration Statement on Form
S-3D (No. 333-74297) and incorporated herein by reference.
*10.3 Settlement Agreement and Mutual Release dated as of January 30, 2004
by and among Sprint Spectrum L.P., Sprint Communications Company
L.P., WirelessCo, L.P., APC PCS, LLC, PhillieCo, L.P. and Shenandoah
Personal Communications Company and Shenandoah Telecommunications
Company, dated January 30, 2004.
*10.4 Sprint PCS Management Agreement dated as of November 5, 1999 by and
among Sprint Spectrum L.P., WirelessCo, L.P., APC PCS, LLC,
PhillieCo, L.P., and Shenandoah Personal Communications Company.
*10.5 Sprint PCS Services Agreement dated as of November 5, 1999 by and
between Sprint Spectrum L.P. and Shenandoah Personal Communications
Company.
*10.6 Sprint Trademark and Service Mark License Agreement dated as of
November 5, 1999 by and between Sprint Communications Company, L.P.
and Shenandoah Personal Communications Company.
*10.7 Sprint Spectrum Trademark and Service Mark License Agreement dated
as of November 5, 1999 by and between Sprint Spectrum L.P. and
Shenandoah Personal Communications Company.
*10.8 Addendum I to Sprint PCS Management Agreement by and among Sprint
Spectrum L.P., WirelessCo, L.P., APC PCS, LLC, PhillieCo, L.P., and
Shenandoah Personal Communications Company.
*10.9 Asset Purchase Agreement dated November 5, 1999 by and among Sprint
Spectrum L.P., Sprint Spectrum Equipment Company, L. P., Sprint
Spectrum Realty Company, L.P., and Shenandoah Personal
Communications Company, serving as Exhibit A to Addendum I to the
Sprint PCS Management Agreement and as Exhibit 2.6 to the Sprint PCS
Management Agreement.
*10.10 Addendum II dated August 31, 2000 to Sprint PCS Management Agreement
by and among Sprint Spectrum L.P., WirelessCo, L.P., APC PCS, LLC,
PhillieCo, L.P., and Shenandoah Personal Communications Company.
*10.11 Addendum III dated September 26, 2001 to Sprint PCS Management
Agreement by and among Sprint Spectrum L.P., WirelessCo, L.P., APC
PCS, LLC, PhillieCo, L.P., and Shenandoah Personal Communications
Company.
*10.12 Addendum IV dated May 22, 2003 to Sprint PCS Management Agreement by
and among Sprint Spectrum L.P., WirelessCo, L.P., APC PCS, LLC,
PhillieCo, L.P., and Shenandoah Personal Communications Company.
*10.13 Addendum V dated January 30, 2004 to Sprint PCS Management Agreement
by and among Sprint Spectrum L.P., WirelessCo, L.P., APC PCS, LLC,
PhillieCo, L.P., and Shenandoah Personal Communications Company.
*10.14 Executive Supplemental Retirement Plan.
*21 List of Subsidiaries.
*23.1 Consent of KPMG LLP, Independent Accountants.
*31.1 Certification of President and Chief Executive Officer of Shenandoah
Telecommunications Company pursuant to Rule 13a-14(a)under the
Securities Exchange Act of 1934.
*31.2 Certification of Executive Vice President and Chief Financial
Officer of Shenandoah Telecommunications Company pursuant to Rule
13a-14(a)under the Securities Exchange Act of 1934.
*32 Certifications pursuant to Rule 13a-14(b) under the Securities
Exchange Act of 1934 and 18 U.S.C. ss.1350.
- ----------
* Filed herewith.