10-K/A: Annual report [Section 13 and 15(d), not S-K Item 405]
Published on November 21, 2008
UNITED
STATES
SECURITIES
AND EXCHANGE COMMISSION
Washington,
D.C. 20549
FORM
10-Q/A
(Amendment No.
1)
(Mark
One)
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x QUARTERLY
REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE
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SECURITIES
EXCHANGE ACT OF 1934
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For the quarterly
period ended June 30, 2008
OR
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oTRANSITION
REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE
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SECURITIES
EXCHANGE ACT OF 1934
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For the transition
period
from to
Commission File No.
0-15279
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GENERAL
COMMUNICATION, INC.
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(Exact name
of registrant as specified in its charter)
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State
of Alaska
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92-0072737
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(State or
other Jurisdiction of
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(I.R.S
Employer
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Incorporation
or organization)
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Identification
No.)
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2550
Denali Street
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Suite
1000
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Anchorage,
Alaska
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99503
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(Address of
Principal Executive offices)
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(Zip
Code)
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Registrant’s telephone number, including area
code: (907)
868-5600
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Former name, former
address and former fiscal year, if changed since last report
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. YesxNo o
Indicate by check
mark whether the registrant is a large accelerated filer, an accelerated filer,
a non-accelerated filer, or a smaller reporting company. See the
definitions of “large accelerated filer", "accelerated filer” and "smaller
reporting company" in Rule 12b-2 of the Exchange Act.:
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Large accelerated filer o
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Accelerated filer x
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Non-accelerated
filer o(Do not
check if a smaller reporting company)
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Smaller reporting company o
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Indicate by check mark whether the registrant is a
shell company (as defined in Rule 12b-2 of the Exchange Act). Yes
oNo x
The number of
shares outstanding of the registrant's classes of common stock as of July 31,
2008 was:
49,950,000 shares
of Class A common stock; and
3,255,619 shares of
Class B common stock.
Explanatory
Note
General
Communication, Inc. ("the "Company") is filing this Amendment No. 1 on Form
10-Q/A ("this Amendment") to its Quarterly Report on Form 10-Q for the fiscal
quarter ended June 30, 2008, which was originally filed on August 11, 2008
(“Original Filing”).
This Amendment is
being filed to
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·
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Correct the
Company's consolidated financial statements under Part I, Item I contained
in this Form 10-Q/A for an error in depreciation expense due to failure to
make a change to the estimated useful life of certain assets that were
expected to be decommissioned at or near the end of 2008. The
error increased depreciation expense $4.0 million and $8.5 million for the
three and six months ended June 30, 2008, respectively, decreased minority
interest expense $920,000 and $1.9 million for the three and six months
ended June 30, 2008, respectively, and decreased income tax expense $1.4
million and $2.8 million for the three and six months ended June 30, 2008,
respectively. The error also decreased property and equipment
in service $8.5 million, decreased minority interest $1.9 million and
decreased deferred income tax liability $2.8 million as of June 30,
2008. Note 1(m) to the consolidated financial statements is
added to describe the error correction,
and
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·
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Correct the
Company’s disclosure under Part I, Item 4(b) to include the Company’s
evaluation of this error on its internal control over financial
reporting.
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This Form 10-Q/A
only amends Part I, Items 1 and 2 as a result of, and to reflect, an error in
depreciation expense and Management’s conclusion that this error arose from a
material weakness. This Form 10-Q/A includes the Original Filing in
its entirety; no other information in the Original Filing is amended
hereby. The foregoing items have not been updated to reflect other
events occurring after the Original Filing or to modify or update those
disclosures affected by subsequent events. In addition, pursuant to
the rules of the Securities and Exchange Commission (“SEC”), Item 6 of Part II
of the Original Filing has been amended to contain the currently dated
certifications from the Company’s Chief Executive Officer and Chief Financial
Officer, as required by Sections 302 and 906 of the Sarbanes-Oxley Act of 2002.
Except for the foregoing amended information, this Form 10-Q/A continues to
speak as of the date of the Original Filing and the Company has not updated the
disclosure contained herein to reflect events that occurred at a later
date. Other events occurring after the filing of the Original Filing
or other disclosures necessary to reflect subsequent events have been addressed
in the Company’s Quarterly Report on Form 10-Q for the quarter ended September
30, 2008, and any reports filed with the SEC subsequent to the date of this
filing.
1(a)
GENERAL
COMMUNICATION, INC.
FORM
10-Q/A (Amendment No. 1)
FOR
THE QUARTER ENDED JUNE 30, 2008
TABLE
OF CONTENTS
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Page
No.
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Cautionary
Statement Regarding Forward-Looking Statements
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3
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Part
I. FINANCIAL INFORMATION
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Item
I.
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Financial
Statements
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Consolidated
Balance Sheets as of June 30, 2008 (as restated,
unaudited)
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and
December 31, 2007
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4
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Consolidated
Income Statement for the three and six months ended
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June
30, 2008 (as restated, unaudited) and 2007 (as restated,
unaudited)
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6
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Consolidated
Statements of Cash Flows for the six months
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ended
June 30, 2008 (as restated, unaudited) and 2007 (as restated,
unaudited)
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7
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Notes to
Interim Consolidated Financial Statements (unaudited)
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8
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Item
2.
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Management’s
Discussion and Analysis of Financial Condition
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and
Results of Operations
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29
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Item
3.
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Quantitative
and Qualitative Disclosures About Market Risk
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56
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Item
4.
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Controls and
Procedures
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57
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Part
II. OTHER INFORMATION
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Item
1A.
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Risk
Factors
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59
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Item
4.
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Submission of
Matters to a Vote of Security Holders
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59
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Item
6.
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Exhibits
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60
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Other items
are omitted, as they are not applicable.
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SIGNATURES
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61
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2
Cautionary
Statement Regarding Forward-Looking Statements
You should
carefully review the information contained in this Quarterly Report, but should
particularly consider any risk factors that we set forth in this Quarterly
Report and in other reports or documents that we file from time to time with the
SEC. In this Quarterly Report, in addition to historical information, we state
our future strategies, plans, objectives or goals and our beliefs of future
events and of our future operating results, financial position and cash flows.
In some cases, you can identify these so-called “forward-looking
statements” by words such as “may,” “will,” “should,” “expects,” “plans,”
“anticipates,” “believes,” “estimates,” “predicts,” “potential,” “project,” or
“continue” or the negative of these words and other comparable words. All
forward-looking statements involve known and unknown risks, uncertainties and
other important factors that may cause our actual results, performance,
achievements, plans and objectives to differ materially from any future results,
performance, achievements, plans and objectives expressed or implied by these
forward-looking statements. In evaluating these statements, you should
specifically consider various factors, including those identified under “Risk
Factors” in Item 1A of our December 31, 2007 annual report on Form 10-K/A
(Amendment No. 2) and in this Quarterly Report. Those factors may
cause our actual results to differ materially from any of our forward-looking
statements. For these forward looking statements, we claim the protection of the
safe harbor for forward-looking statements provided by the Private Securities
Litigation Reform Act of 1995.
You should not
place undue reliance on any such forward-looking statements. Further, any
forward-looking statement, and the related risks, uncertainties and other
factors speak only as of the date on which they were originally made and we
expressly disclaim any obligation or undertaking to update or revise any
forward-looking statement to reflect any change in our expectations with regard
to these statements or any other change in events, conditions or circumstances
on which any such statement is based. New factors emerge from time to time, and
it is not possible for us to predict what factors will arise or when. In
addition, we cannot assess the impact of each factor on our business or the
extent to which any factor, or combination of factors, may cause actual results
to differ materially from those contained in any forward-looking
statements.
3
PART
I. FINANCIAL INFORMATION
ITEM
1. FINANCIAL STATEMENTS
GENERAL
COMMUNICATION, INC. AND SUBSIDIARIES
CONSOLIDATED
BALANCE SHEETS
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(Amounts in
thousands)
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(as
restated, unaudited)
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June
30,
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December
31,
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ASSETS
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2008
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2007
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Current assets:
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Cash
and cash equivalents
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$ | 95,703 | 13,074 | |||||
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Receivables
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107,502 | 97,913 | ||||||
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Less
allowance for doubtful receivables
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1,864 | 1,657 | ||||||
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Net receivables
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105,638 | 96,256 | ||||||
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Deferred income taxes
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6,448 | 5,734 | ||||||
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Prepaid expenses
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6,246 | 5,356 | ||||||
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Inventories
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5,390 | 2,541 | ||||||
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Investment securities
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5,230 | --- | ||||||
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Other current assets
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558 | 717 | ||||||
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Total current
assets
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225,213 | 123,678 | ||||||
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Property and equipment in service, net of depreciation
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684,099 | 504,273 | ||||||
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Construction in progress
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115,809 | 69,409 | ||||||
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Net
property and equipment
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799,908 | 573,682 | ||||||
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Cable
certificates
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191,565 | 191,565 | ||||||
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Goodwill
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48,211 | 42,181 | ||||||
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Wireless
licenses
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25,907 | 25,757 | ||||||
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Other
intangible assets, net of amortization
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18,080 | 11,769 | ||||||
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Deferred loan and senior notes costs, net of amortization
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6,726 | 6,202 | ||||||
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Other
assets
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10,685 | 9,399 | ||||||
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Total other
assets
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301,174 | 286,873 | ||||||
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Total
assets
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$ | 1,326,295 | 984,233 | |||||
See accompanying
notes to interim consolidated financial statements.
(Continued)
4
GENERAL
COMMUNICATION, INC. AND SUBSIDIARIES
CONSOLIDATED
BALANCE SHEETS
(Continued)
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(Amounts in
thousands)
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(as
restated, unaudited)
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June
30,
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December
31,
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|||||||
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LIABILITIES,
MINORITY INTEREST, AND STOCKHOLDERS’ EQUITY
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2008
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2007
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Current
liabilities:
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Current
maturities of obligations under long-term debt and capital
leases
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$ | 13,830 | 2,375 | |||||
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Accounts
payable
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46,094 | 35,747 | ||||||
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Deferred
revenue
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20,886 | 16,600 | ||||||
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Accrued
payroll and payroll related obligations
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17,401 | 16,329 | ||||||
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Accrued
interest
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9,322 | 8,927 | ||||||
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Accrued
liabilities
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9,219 | 7,536 | ||||||
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Subscriber
deposits
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1,020 | 877 | ||||||
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Total current
liabilities
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117,772 | 88,391 | ||||||
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Long-term
debt
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702,952 | 536,115 | ||||||
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Obligations
under capital leases, excluding current maturities
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96,254 | 2,290 | ||||||
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Obligation
under capital lease due to related party, excluding current
maturity
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1,864 | 469 | ||||||
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Deferred
income taxes
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86,565 | 84,294 | ||||||
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Long-term
deferred revenue
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37,738 | 845 | ||||||
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Other
liabilities
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19,766 | 12,396 | ||||||
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Total
liabilities
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1,062,911 | 724,800 | ||||||
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Minority
interest
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4,556 | 6,478 | ||||||
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Commitments
and contingencies
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Stockholders’
equity:
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Common stock
(no par):
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Class A.
Authorized 100,000 shares; issued 49,930 and 50,437 shares at June 30,
2008 and December 31, 2007, respectively; outstanding 49,461 and 49,425
shares at June 30, 2008 and December 31, 2007,
respectively
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150,706 | 155,980 | ||||||
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Class B.
Authorized 10,000 shares; issued 3,256 and 3,257 shares at June 30, 2008
and December 31, 2007, respectively; outstanding 3,254 and 3,255 shares at
June 30, 2008 and December 31, 2007, respectively; convertible on a
share-per-share basis into Class A common stock
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2,750 | 2,751 | ||||||
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Less cost of
471 and 473 Class A and Class B common shares held in treasury at June 30,
2008 and December 31, 2007, respectively
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(3,422 | ) | (3,448 | ) | ||||
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Paid-in
capital
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23,522 | 20,132 | ||||||
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Retained
earnings
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85,272 | 77,540 | ||||||
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Total
stockholders’ equity
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258,828 | 252,955 | ||||||
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Total
liabilities, minority interest, and stockholders’ equity
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$ | 1,326,295 | 984,233 | |||||
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See
accompanying notes to interim consolidated financial
statements.
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5
GENERAL
COMMUNICATION, INC. AND SUBSIDIARIES
CONSOLIDATED
INCOME STATEMENT
(Unaudited)
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Three Months
Ended
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Six Months
Ended
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June
30,
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June
30,
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|||||||||||||||
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(Amounts in
thousands, except per share amounts)
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(as restated)
2008
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(as restated)
2007
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(as
restated)2008
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(as restated)
2007
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||||||||||||
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Revenues
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$ | 142,461 | 129,890 | 277,135 | 254,921 | |||||||||||
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Cost of goods
sold (exclusive of depreciation and amortization shown separately
below)
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52,448 | 45,579 | 103,759 | 93,569 | ||||||||||||
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Selling,
general and administrative expenses
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48,260 | 43,430 | 94,666 | 87,035 | ||||||||||||
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Depreciation
and amortization expense
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27,708 | 21,437 | 54,951 | 42,303 | ||||||||||||
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Operating
income
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14,045 | 19,444 | 23,759 | 32,014 | ||||||||||||
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Other income
(expense):
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||||||||||||||||
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Interest
expense
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(10,899 | ) | (8,557 | ) | (19,584 | ) | (16,875 | ) | ||||||||
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Loan and
senior note fees
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(879 | ) | (216 | ) | (1,102 | ) | (396 | ) | ||||||||
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Interest
income
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402 | 161 | 483 | 345 | ||||||||||||
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Minority
interest
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946 | (24 | ) | 1,922 | (11 | ) | ||||||||||
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Other
expense, net
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(10,430 | ) | (8,636 | ) | (18,281 | ) | (16,937 | ) | ||||||||
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Income before
income tax expense
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3,615 | 10,808 | 5,478 | 15,077 | ||||||||||||
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Income tax
expense
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1,783 | 4,890 | 3,210 | 6,853 | ||||||||||||
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Net
income
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$ | 1,832 | 5,918 | 2,268 | 8,224 | |||||||||||
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Basic net
income per common share
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$ | 0.04 | 0.11 | 0.04 | 0.15 | |||||||||||
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Diluted net
income per common share
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$ | 0.03 | 0.11 | 0.04 | 0.14 | |||||||||||
See accompanying
notes to interim consolidated financial statements.
6
GENERAL
COMMUNICATION, INC. AND SUBSIDIARIES
CONSOLIDATED
STATEMENTS OF CASH FLOWS
SIX
MONTHS ENDED JUNE 30, 2008 AND 2007
(Unaudited)
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(Amounts in
thousands)
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(as
restated)2008
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(as
restated)
2007
|
||||||
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Cash flows
from operating activities:
|
||||||||
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Net
income
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$ | 2,268 | 8,224 | |||||
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Adjustments
to reconcile net income to net cash provided by operating
activities (net of effects of acquisition):
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||||||||
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Depreciation
and amortization expense
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54,951 | 42,303 | ||||||
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Deferred
income tax expense
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2,470 | 6,663 | ||||||
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Share-based
compensation expense
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2,853 | 1,748 | ||||||
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Other noncash
income and expense items
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2,142 | 3,312 | ||||||
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Change in
operating assets and liabilities, net of effect of
acquisition
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44,773 | (7,015 | ) | |||||
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Net cash
provided by operating activities
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109,457 | 55,235 | ||||||
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Cash flows
from investing activities:
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||||||||
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Purchases of
property and equipment
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(113,491 | ) | (68,455 | ) | ||||
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Purchase of
business, net of cash received
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(40,161 | ) | (19,530 | ) | ||||
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Purchases of
other assets and intangible assets
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(2,325 | ) | (4,445 | ) | ||||
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Restricted
cash
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--- | 4,612 | ||||||
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Other
|
--- | 25 | ||||||
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Net cash used
in investing activities
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(155,977 | ) | (87,793 | ) | ||||
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Cash flows
from financing activities:
|
||||||||
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Borrowing on
Senior Credit Facility
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132,100 | 15,000 | ||||||
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Repayment of
debt and capital lease obligations
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(1,999 | ) | (26,126 | ) | ||||
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Payment of
debt issuance costs
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(1,626 | ) | --- | |||||
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Issuance of
long-term debt
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614 | --- | ||||||
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Proceeds from
common stock issuance
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106 | 2,354 | ||||||
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Other
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(46 | ) | (1 | ) | ||||
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Purchase of
stock to be retired
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--- | (7,979 | ) | |||||
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Net cash
provided by (used in) financing activities
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129,149 | (16,752 | ) | |||||
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Net increase
(decrease) in cash and cash equivalents
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82,629 | (49,310 | ) | |||||
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Cash and cash
equivalents at beginning of period
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13,074 | 57,647 | ||||||
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Cash and cash
equivalents at end of period
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$ | 95,703 | 8,337 | |||||
See accompanying
notes to interim consolidated financial statements.
7
GENERAL
COMMUNICATION, INC. AND SUBSIDIARIES
Notes
to Interim Consolidated Financial Statements
(Unaudited)
The accompanying
unaudited interim consolidated financial statements include the accounts of
General Communication, Inc. (“GCI”) and its subsidiaries and have been prepared
in accordance with U.S. Generally Accepted Accounting Principles ("GAAP") for
interim financial information. Accordingly, they do not include all of the
information and footnotes required by GAAP for complete financial statements.
They should be read in conjunction with our audited consolidated financial
statements for the year ended December 31, 2007, filed with the SEC on June 11,
2008 as part of our annual report on Form 10-K (Amendment No. 2). In the opinion
of management, all adjustments (consisting of normal recurring accruals)
considered necessary for a fair presentation have been included. The results of
operations for interim periods are not necessarily indicative of the results
that may be expected for an entire year or any other period.
(l) Business
and Summary of Significant Accounting Principles
In
the following discussion, GCI and its direct and indirect subsidiaries are
referred to as “we,” “us” and “our.”
|
|
(a)
|
Business
|
GCI, an Alaska
corporation, was incorporated in 1979. We offer the following
services:
|
·
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Origination
and termination of traffic in Alaska for certain common
carriers,
|
|
·
|
Cable
television services throughout
Alaska,
|
|
·
|
Competitive
local access services in Anchorage, Fairbanks, Juneau, Wasilla, Eagle
River, Kodiak, Palmer, Kenai, Soldotna, Seward, Chugiak, Sitka, Valdez,
Ketchikan, Nome and Homer, Alaska with on-going expansion into additional
Alaska communities,
|
|
·
|
Incumbent
local access services in rural
Alaska,
|
|
·
|
Long-distance
telephone service between Alaska and the remaining United States and
foreign countries,
|
|
|
·
|
Resale and
sale of postpaid and sale of prepaid wireless telephone services and sale
of wireless telephone handsets and
accessories,
|
|
|
·
|
Data network
services,
|
|
·
|
Internet
access services,
|
|
·
|
Broadband
services, including our SchoolAccess®
offering to rural school districts, our ConnectMD®
offering to hospitals and health clinics, and managed video
conferencing,
|
|
·
|
Managed
services to certain commercial
customers,
|
|
·
|
Sales and
service of dedicated communications systems and related
equipment,
|
|
·
|
Lease, sales
and maintenance of capacity on our fiber optic cable systems used in the
transmission of interstate and intrastate data, switched message
long-distance and Internet services within Alaska and between Alaska and
the remaining United States and foreign countries,
and
|
|
·
|
Distribution
of white and yellow pages directories to residential and business
customers in certain markets we serve and on-line directory
products.
|
|
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(b)
|
Principles
of Consolidation
|
The consolidated
financial statements include the consolidated accounts of GCI and its
wholly-owned subsidiaries, as well as a variable interest entity in which
we are the primary beneficiary as defined by Financial Accounting Standards
Board ("FASB") Interpretation ("FIN") No. 46R, “Consolidation of Variable
Interest Entities, an interpretation of ARB No. 51.” All significant
intercompany transactions between non-regulated affiliates of our company are
eliminated. Statement of Financial Accounting Standard ("SFAS") No.
71, "Accounting for the Effects of Certain Types of Regulation" requires
intercompany profit generated between regulated and non-regulated affiliates of
the company not be eliminated on consolidation. Intercompany profit
on transactions with affiliates not subject to SFAS 71 has been
eliminated.
(Continued)
8
GENERAL
COMMUNICATION, INC. AND SUBSIDIARIES
Notes
to Interim Consolidated Financial Statements
(Unaudited)
|
|
(c)
|
United
Utilities, Inc. and Unicom, Inc.
Acquisition
|
Effective June 1,
2008, we closed on our purchase of 100% of the outstanding stock of the United
Utilities, Inc. ("UUI") and Unicom, Inc. ("Unicom"), which were subsidiaries of
United Companies, Inc. ("UCI"). UUI, together with its subsidiary,
United-KUC, Inc. ("United-KUC"), provides local telephone service to 60 rural
communities across Alaska. Unicom operates DeltaNet, a long-haul
broadband microwave network ringing the Yukon-Kuskokwim Delta. We
view this investment as an opportunity to expand our Managed Broadband services
in rural Alaska. We recorded our investment in UUI and Unicom in
accordance with SFAS No. 141, "Business Combinations" and their results of
operations for the month of June 2008 are included in the Consolidated Income
Statement for the three and six months ended June 30, 2008. This
transaction was a stock purchase but we elected to treat it as an asset purchase
for income tax purposes. As a result, goodwill has been recorded for
tax purposes and will be amortized over 15 years.
The aggregate
purchase price for UUI and Unicom is $40.2 million paid in cash, net of cash
received. Additionally, we have agreed to make additional payments in
each of the years 2008 through 2012 that are contingent on sequential
year-over-year revenue growth for specified customers. We are unable
to reasonably estimate the amount of the contingent consideration that may be
paid, but do not believe any amount paid will be significant.
We
are in the process of determining the value of the tangible and intangible
assets, long-term debt, leases, contracts with customers, as well as other
assets and liabilities; therefore, the purchase price allocation for our
acquisition has not been finalized at June 30, 2008 and all assets acquired and
liabilities assumed are subject to refinement. The UUI and Unicom
purchase price has been preliminarily allocated as follows (amounts in
thousands):
|
At June 30,
2008
|
||||
|
Current
assets
|
$ | 14,460 | ||
|
Property and
equipment, including construction in progress
|
68,149 | |||
|
Intangible
assets
|
6,549 | |||
|
Goodwill
|
6,030 | |||
|
Other
assets
|
2,411 | |||
|
Total assets
acquired
|
97,599 | |||
|
Current
liabilities
|
4,452 | |||
|
Long-term
debt, including current portion
|
42,704 | |||
|
Other
long-term liabilities
|
8,188 | |||
|
Total
liabilities assumed
|
55,344 | |||
|
Net assets
acquired
|
$ | 42,255 | ||
The total assets of
UUI and Unicom were $98.0 million at June 30, 2008. UUI and Unicom's
revenues, net of intercompany revenue, for the month ended June 30, 2008 were
$2.6 million and are primarily allocated as follows: $1.9 million to our
Regulated Operations segment, $440,000 to our Managed Broadband segment, and
$307,000 to our Network Access segment. UUI and Unicom had
outstanding debt of $42.9 million at June 30, 2008 that is collateralized by
substantially all of UUI's and Unicom's assets. UUI and Unicom's
creditors do not have recourse to GCI's assets.
As
a result of the acquisition, we have a new operating segment for our regulated
activities. Additionally, the financial results of the long-distance
services sold to other common carrier customers and the managed broadband
services of UUI and Unicom have been included in the Network Access and Managed
Broadband services segments, respectively.
(Continued)
9
GENERAL
COMMUNICATION, INC. AND SUBSIDIARIES
Notes
to Interim Consolidated Financial Statements
(Unaudited)
Assuming we had
acquired UUI and Unicom on January 1, 2008 and 2007, our revenues, net income
and basic and diluted earnings per common share ("EPS") for the three and six
months ended June 30, 2008 and 2007 would have been as follows (amounts in
thousands, except per share amounts):
|
Three Months
Ended June 30,
|
Six Months
Ended June 30,
|
|||||||||||||||
|
2008 (as
restated)
|
2007
|
2008
|
2007
|
|||||||||||||
|
Pro forma
consolidated revenue
|
$ | 146,824 | 136,223 | 288,185 | 267,764 | |||||||||||
|
Pro forma net
income
|
$ | 1,944 | 6,138 | 2,651 | 8,713 | |||||||||||
|
EPS:
|
||||||||||||||||
|
Basic – pro
forma
|
$ | 0.04 | 0.12 | 0.05 | 0.16 | |||||||||||
|
Diluted – pro
forma
|
$ | 0.04 | 0.11 | 0.04 | 0.15 | |||||||||||
|
(d)
|
Regulatory
Accounting and Regulation
|
|
|
We account
for our regulated operations in accordance with the accounting principles
for regulated enterprises prescribed by SFAS No. 71. This
accounting recognizes the economic effects of rate regulation by recording
cost and a return on investment as such amounts are recovered through
rates authorized by regulatory authorities. Accordingly, under
SFAS No. 71, plant and equipment is depreciated over lives approved by
regulators and certain costs and obligations are deferred based upon
approvals received from regulators to permit recovery of such amounts in
future years. Our cost studies and depreciation rates for our
regulated operations are subject to periodic audits that could result in
reductions of revenues. Based upon the preliminary purchase
price allocation described in note 1(c), the effects of regulation for the
three and six months ended June 30, 2008 are not material to the
consolidated financial statements.
|
|
|
(e)
|
Revenue
Recognition
|
Access revenue is
recognized when earned. We participate in access revenue pools with
other telephone companies. Such pools are funded by toll revenue
and/or access charges regulated by the Regulatory Commission of Alaska (“RCA”)
within the intrastate jurisdiction and the Federal Communications Commission
(“FCC”) within the interstate jurisdiction. Much of the interstate access
revenue is initially recorded based on estimates. These estimates are derived
from interim financial statements, available separation studies and the most
recent information available about achieved rates of return. These estimates are
subject to adjustment in future accounting periods as additional operational
information becomes available. To the extent that disputes arise over revenue
settlements, our policy is to defer revenue collected until settlement
methodologies are resolved.
|
(f)
|
Earnings
per Share
|
EPS and common
shares used to calculate basic and diluted EPS consist of the following (amounts
in thousands, except per share amounts):
|
Three Months
Ended June 30,
|
||||||||||||||||||||||||
|
2008 (as
restated)
|
2007 (as
restated)
|
|||||||||||||||||||||||
|
Income
(Num-
erator)
|
Shares
(Denom-
inator)
|
Per-share
Amounts
|
Income
(Num-
erator)
|
Shares
(Denom-
inator)
|
Per-share
Amounts
|
|||||||||||||||||||
|
Basic
EPS:
|
||||||||||||||||||||||||
|
Net
income
|
$ | 1,832 | 52,320 | $ | 0.04 | $ | 5,918 | 53,201 | $ | 0.11 | ||||||||||||||
(Continued)
10
GENERAL
COMMUNICATION, INC. AND SUBSIDIARIES
Notes
to Interim Consolidated Financial Statements
(Unaudited)
|
Effect
of Dilutive Securities:
|
||||||||||||||||||||||||
|
Unexercised
stock options
|
--- | 397 | --- | --- | 1,404 | --- | ||||||||||||||||||
|
Unvested
restricted stock awards
|
--- | 28 | --- | --- | --- | --- | ||||||||||||||||||
|
Diluted
EPS:
|
||||||||||||||||||||||||
|
Effect of
share based compensation that may be settled in cash or
shares
|
--- | --- | --- | (213 | ) | 93 | --- | |||||||||||||||||
|
Net income
adjusted for effect of share based compensation that may be settled in
cash or shares
|
$ | 1,832 | 52,745 | $ | 0.03 | $ | 5,705 | 54,698 | $ | 0.11 |
|
Six Months
Ended June 30,
|
||||||||||||||||||||||||
|
2008 (as
restated)
|
2007 (as
restated)
|
|||||||||||||||||||||||
|
Income
(Num-
erator)
|
Shares
(Denom-
inator)
|
Per-share
Amounts
|
Income
(Num-
erator)
|
Shares
(Denom-
inator)
|
Per-share
Amounts
|
|||||||||||||||||||
|
Basic
EPS:
|
||||||||||||||||||||||||
|
Net
income
|
$ | 2,268 | 52,289 | $ | 0.04 | $ | 8,224 | 53,230 | $ | 0.15 | ||||||||||||||
|
Effect
of Dilutive Securities:
|
||||||||||||||||||||||||
|
Unexercised
stock options
|
--- | 385 | --- | --- | 1,488 | --- | ||||||||||||||||||
|
Unvested
restricted stock awards
|
--- | 25 | --- | --- | --- | --- | ||||||||||||||||||
|
Diluted
EPS:
|
||||||||||||||||||||||||
|
Effect of
share based compensation that may be settled in cash or
shares
|
(401 | ) | 251 | --- | (541 | ) | 97 | --- | ||||||||||||||||
|
Net income
adjusted for effect of share based compensation that may be settled in
cash or shares
|
$ | 1,867 | 52,950 | $ | 0.04 | $ | 7,683 | 54,815 | $ | 0.14 | ||||||||||||||
Weighted average
shares associated with outstanding share awards for the three and six months
ended June 30, 2008 and 2007, which have been excluded from the computations of
diluted EPS, because the effect of including these share awards would have been
anti-dilutive, consist of the following (shares, in thousands):
|
Three Months
Ended
|
Six Months
Ended
|
|||||||||
|
June
30,
|
June
30,
|
|||||||||
|
2008
|
2007
|
2008
|
2007
|
|||||||
|
Weighted
average shares associated with unexercised stock options
|
4,737
|
1,314
|
4,735
|
1,133
|
||||||
|
Weighted
average shares associated with unvested restricted share
awards
|
233
|
---
|
249
|
---
|
||||||
|
Effect of
share-based compensation that may be settled in cash or
shares
|
253
|
---
|
---
|
---
|
||||||
(Continued)
11
GENERAL
COMMUNICATION, INC. AND SUBSIDIARIES
Notes
to Interim Consolidated Financial Statements
(Unaudited)
Additionally,
weighted average shares associated with contingent awards of 376,000 for the
three and six months ended June 30, 2008 were excluded from the computation of
diluted EPS because the contingencies of these awards have not been met at June
30, 2008.
We
have not issued securities other than common stock that contractually entitle
the holder to participate in dividends and earnings when, and if, we declare
dividends on our common stock and, therefore, we do not apply the two-class
method of calculating EPS.
|
|
(g)
|
Common
Stock
|
|
|
Following are
the changes in issued common stock for the six months ended June 30, 2008
and 2007 (shares, in thousands):
|
|
Class
A
|
Class
B
|
|||||||
|
Balances at
December 31, 2006
|
50,191 | 3,370 | ||||||
|
Class B
shares converted to Class A
|
113 | (113 | ) | |||||
|
Shares issued
under stock option plan
|
332 | --- | ||||||
|
Shares issued
under the Director Compensation Plan
|
23 | --- | ||||||
|
Shares
retired
|
(212 | ) | --- | |||||
|
Balances at
June 30, 2007
|
50,447 | 3,257 | ||||||
|
Balances at
December 31, 2007
|
50,437 | 3,257 | ||||||
|
Class B
shares converted to Class A
|
1 | (1 | ) | |||||
|
Shares issued
under stock option plan
|
17 | --- | ||||||
|
Shares issued
under the Director Compensation Plan
|
20 | --- | ||||||
|
Shares
retired
|
(540 | ) | --- | |||||
|
Other
|
(5 | ) | --- | |||||
|
Balances at
June 30, 2008
|
49,930 | 3,256 | ||||||
|
|
GCI's Board
of Directors has authorized a common stock buyback program for the
repurchase of our Class A and Class B common stock in order to reduce our
outstanding shares of Class A and Class B common stock. The Term Loan
agreement entered into on May 2, 2008 and described in note 4 allows for
the repurchase of our common stock under our buyback program when our
total debt leverage is below 4.0 times earnings before depreciation and
amortization expense, net interest expense, income taxes and share-based
compensation expense ("EBITDAS"). Under the buyback program we
had made repurchases of $68.9 million through December 31, 2007. If stock
repurchases are less than the total approved quarterly amount the
difference may be carried forward and used to repurchase additional shares
in future quarters.
|
|
|
During the
six months ended June 30, 2008 we repurchased no shares of our Class A and
B common stock. During the six months ended June 30, 2007 we received
in lieu of a cash payment on a note receivable 113,000 shares of our Class
A common stock at a cost of $1.7 million. The cost of the
repurchased common stock is recorded in Retained Earnings on our
Consolidated Balance Sheets. At June 30, 2008, all repurchased
shares of our Class A common stock had been
retired.
|
|
(h)
|
Investment
Securities
|
We
have investment securities of $5.2 million at June 30, 2008 that are classified
as trading under SFAS No. 115, "Accounting for Certain Investments in Debt and
Equity Securities." Our investments consist primarily of money market
funds and U.S. government securities. Trading securities are recorded
at fair value with unrealized holding gains and losses included in net
income. We did not have investment securities prior to the quarter
ended June 30, 2008.
(Continued)
12
GENERAL
COMMUNICATION, INC. AND SUBSIDIARIES
Notes
to Interim Consolidated Financial Statements
(Unaudited)
Following is a
reconciliation of the beginning and ending aggregate carrying amount of our
asset retirement obligations at June 30, 2008 and 2007 (amounts in
thousands):
|
Balance at
December 31, 2006
|
$ | 3,408 | ||
|
Liability
incurred
|
85 | |||
|
Accretion
expense for the six months ended
June 30,
2007
|
71 | |||
|
Liability
settled
|
(2 | ) | ||
|
Balance at
June 30, 2007
|
$ | 3,562 | ||
|
Balance at
December 31, 2007
|
$ | 4,173 | ||
|
Liability
incurred
|
18 | |||
|
Accretion
expense for the six months ended
June 30,
2008
|
124 | |||
|
Additions
upon acquisition of UUI and Unicom
|
6,211 | |||
|
Liability
settled
|
(40 | ) | ||
|
Balance at
June 30, 2008
|
$ | 10,486 |
Our asset
retirement obligations are included in Other Liabilities.
(j) Use of
Estimates
The preparation of
financial statements in conformity with GAAP requires us to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Significant items subject to estimates and assumptions include
the allowance for doubtful receivables, unbilled revenues, share-based
compensation, reserve for future customer credits, valuation allowances for
deferred income tax assets, depreciable and amortizable lives of assets, the
carrying value of long-lived assets including goodwill, cable certificates and
wireless licenses, effective tax rate, purchase price allocations, the accrual
of cost of goods sold (exclusive of depreciation and amortization expense)
(“Cost of Goods Sold”), and contingencies and litigation. Actual results could
differ from those estimates.
(k) Classification
of Taxes Collected from Customers
We
report sales, use, excise, and value added taxes assessed by a governmental
authority that is directly imposed on a revenue-producing transaction between us
and a customer on a net basis in our income statement. Following are
certain surcharges on a gross basis in our income statement for the three and
six months ended June 30, 2008 and 2007 (amounts in thousands):
|
Three Months
Ended
|
Six Months
Ended
|
|||||||||
|
June
30,
|
June
30,
|
|||||||||
|
2008
|
2007
|
2008
|
2007
|
|||||||
|
Surcharges
reported gross
|
1,062
|
1,097
|
2,012
|
2,065
|
||||||
(Continued)
13
GENERAL
COMMUNICATION, INC. AND SUBSIDIARIES
Notes
to Interim Consolidated Financial Statements
(Unaudited)
Effective January
1, 2008 we prospectively changed our accounting policy for recording
depreciation on our property and equipment placed in service. For assets placed
in service on or after January 1, 2008 we are using a mid-month convention to
recognize depreciation expense. Previous to this change we used the half-year
convention to recognize depreciation expense in the year an asset was placed in
service, regardless of the month the property and equipment was placed in
service. We believe the mid-month convention is preferable because it results in
more precise recognition of depreciation expense over the estimated useful life
of the asset. No retroactive adjustment has been made. The following
table sets forth the impact of this accounting change on depreciation and
amortization expense, operating income and net income for the three and six
months ended June 30, 2008:
|
Three Months
Ended June 30, 2008
|
Six Months
Ended June 30, 2008
|
|||||||
|
Increased
depreciation and amortization expense
|
$ | 419 | 562 | |||||
|
Decreased
operating income
|
419 | 562 | ||||||
|
Decreased net
income
|
222 | 289 | ||||||
Reported EPS would
not change had we continued to use our previous accounting policy during the
three and six months ended June 30, 2008.
|
(m)
|
Restatements,
Immaterial Error Correction
and Reclassification
|
On
November 5, 2008, we concluded that we should restate our previously issued
quarterly results for the quarter ended June 30, 2008 to correct the error
described below. The corrections made as part of the restatement of
our results of operations for the three and six months ended June 30, 2008
follow:
|
·
|
We increased
depreciation expense $4.0 million and $8.5 million for the three and six
months ended June 30, 2008, respectively, to correct depreciation expense
for a failure to change the estimated useful life of certain assets that
were expected to be decommissioned at or near the end of
2008. The assets should have been depreciated over the
remaining period they were expected to be
used;
|
|
·
|
We decreased
minority interest expense $920,000 and $1.9 million for the three and six
months ended June 30, 2008, respectively, to record the minority interest
portion of the correction described above,
and;
|
|
·
|
We decreased
income tax expense $1.4 million and $2.8 million for the three and six
months ended June 30, 2008, respectively, to record the income tax effect
of the corrections described above.
|
The impact of the
restatement as described above for the period presented is as follows (amounts
in thousands, except per share amounts):
|
June 30,
2008
|
||||||||||||
|
Consolidated
Condensed Balance Sheet
|
As previously reported1
|
Adjustments
|
As
restated
|
|||||||||
|
Assets
|
||||||||||||
|
Total current
assets
|
$ | 225,213 | --- | 225,213 | ||||||||
|
Property and
equipment in service, net of depreciation
|
692,561 | (8,462 | ) | 684,099 | ||||||||
|
Construction
in progress
|
115,809 | --- | 115,809 | |||||||||
|
Net property
and equipment
|
808,370 | (8,462 | ) | 799,908 | ||||||||
(Continued)
14
GENERAL
COMMUNICATION, INC. AND SUBSIDIARIES
Notes
to Interim Consolidated Financial Statements
(Unaudited)
|
Total other
assets
|
301,174 | --- | 301,174 | |||||||||
|
Total
assets
|
$ | 1,334,757 | (8,462 | ) | 1,326,295 | |||||||
|
Liabilities,
Minority Interest, and Stockholders' Equity
|
||||||||||||
|
Total current
liabilities
|
117,772 | --- | 117,772 | |||||||||
|
Long-term
debt
|
702,952 | --- | 702,952 | |||||||||
|
Obligations
under capital leases, excluding current maturities
|
96,254 | --- | 96,254 | |||||||||
|
Obligation
under capital lease due to related party, excluding current
maturity
|
1,864 | --- | 1,864 | |||||||||
|
Deferred
income taxes
|
89,315 | (2,750 | ) | 86,565 | ||||||||
|
Long-term
deferred revenue
|
37,738 | --- | 37,738 | |||||||||
|
Other
liabilities
|
19,766 | --- | 19,766 | |||||||||
|
Total
liabilities
|
1,065,661 | (2,750 | ) | 1,062,911 | ||||||||
|
Minority
interest
|
6,502 | (1,946 | ) | 4,556 | ||||||||
|
Stockholders’
equity:
|
||||||||||||
|
Class A
common stock
|
150,706 | --- | 150,706 | |||||||||
|
Class B
common stock
|
2,750 | --- | 2,750 | |||||||||
|
Less cost of
Class A and Class B common shares held in treasury
|
(3,422 | ) | --- | (3,422 | ||||||||
|
Paid-in
capital
|
23,522 | --- | 23,522 | |||||||||
|
Retained
earnings
|
89,038 | (3,766 | ) | 85,272 | ||||||||
|
Total
stockholders’ equity
|
262,594 | (3,766 | ) | 258,828 | ||||||||
|
Total
liabilities, minority interest, and stockholders’ equity
|
1,334,757 | (8,462 | ) | 1,326,295 | ||||||||
|
1
As reported on Form 10-Q for the quarter ended June 30,
2008
|
||||||||||||
|
Three Months
Ended June 30, 2008
|
||||||||||||
|
As previously reported1
|
Adjustments
|
As
restated
|
||||||||||
|
Revenues
|
$ | 142,461 | --- | 142,461 | ||||||||
|
Cost of goods
sold (exclusive of depreciation and amortization shown separately
below)
|
52,448 | --- | 52,448 | |||||||||
|
Selling,
general and administrative expenses
|
48,260 | --- | 48,260 | |||||||||
|
Depreciation
and amortization expense
|
23,707 | 4,001 | 27,708 | |||||||||
|
Operating
income
|
18,046 | (4,001 | ) | 14,045 | ||||||||
|
Other income
(expense):
|
||||||||||||
|
Interest
expense
|
(10,899 | ) | --- | (10,899 | ) | |||||||
|
Loan and
senior note fees
|
(879 | ) | --- | (879 | ) | |||||||
|
Interest
income
|
402 | --- | 402 | |||||||||
|
Minority
interest
|
26 | 920 | 946 |
|
||||||||
(Continued)
15
GENERAL
COMMUNICATION, INC. AND SUBSIDIARIES
Notes
to Interim Consolidated Financial Statements
(Unaudited)
|
Other
expense, net
|
(11,350 | ) | 920 | (10,430 | ) | |||||||
|
Income before
income tax expense
|
6,696 | (3,081 | ) | 3,615 | ||||||||
|
Income tax
expense
|
3,191 | (1,408 | ) | 1,783 | ||||||||
|
Net
income
|
$ | 3,505 | (1,673 | ) | 1,832 | |||||||
|
Basic net
income per common share
|
$ | 0.07 | (0.03 | ) | 0.04 | |||||||
|
Diluted net
income per common share
|
$ | 0.07 | (0.04 | ) | 0.03 | |||||||
|
1
As reported on Form 10-Q for the quarter ended June 30,
2008
|
||||||||||||
|
Six Months
Ended June 30, 2008
|
||||||||||||
|
As previously reported1
|
Adjustments
|
As
restated
|
||||||||||
|
Revenues
|
$ | 277,135 | --- | 277,135 | ||||||||
|
Cost of goods
sold (exclusive of depreciation and amortization shown separately
below)
|
103,759 | --- | 103,759 | |||||||||
|
Selling,
general and administrative expenses
|
94,666 | --- | 94,666 | |||||||||
|
Depreciation
and amortization expense
|
46,489 | 8,462 | 54,951 | |||||||||
|
Operating
income
|
32,221 | (8,462 | ) | 23,759 | ||||||||
|
Other income
(expense):
|
||||||||||||
|
Interest
expense
|
(19,584 | ) | --- | (19,584 | ) | |||||||
|
Loan and
senior note fees
|
(1,102 | ) | --- | (1,102 | ) | |||||||
|
Interest
income
|
483 | --- | 483 | |||||||||
|
Minority
interest
|
(24 | ) | 1,946 | 1,922 | ||||||||
|
Other
expense, net
|
(20,227 | ) | 1,946 | (18,281 | ) | |||||||
|
Income before
income tax expense
|
11,994 | (6,516 | ) | 5,478 | ||||||||
|
Income tax
expense
|
5,960 | (2,750 | ) | 3,210 | ||||||||
|
Net
income
|
$ | 6,034 | (3,766 | ) | 2,268 | |||||||
|
Basic net
income per common share
|
$ | 0.12 | (0.08 | ) | 0.04 | |||||||
|
Diluted net
income per common share
|
$ | 0.11 | (0.07 | ) | 0.04 | |||||||
|
Cash provided
by operating activities
|
$ | 109,457 | --- | 109,457 | ||||||||
|
Cash used in
investing activities
|
(155,977 | ) | --- | (155,977 | ) | |||||||
|
Cash used in
financing activities
|
129,149 | --- | 129,149 | |||||||||
|
1
As reported on Form 10-Q for the quarter ended June 30,
2008
|
||||||||||||
On
June 11, 2008, we filed a Form 10K/A (Amendment No. 2) with the SEC to reflect
the restatement of our summary of unaudited quarterly results of operations for
the year ended December 31, 2007. We made the following corrections
as part of the restatement of our results of operations for the three and six
months ended June 30, 2007:
|
·
|
We decreased
depreciation expense $590,000 and $1.5 million for the three and six
months ended June 30, 2007, respectively, to correct an error in
calculating depreciation in the initial year an asset is placed in
service. We
originally
recorded our estimated depreciation expense evenly throughout the year
with periodic adjustments based upon improved estimates or actual
results. In accordance with GAAP we now initially record
depreciation expense in the month an asset is placed in
service. Depreciation was improperly allocated among quarters,
but the year-end total was correct. Therefore the restatement
impacts the quarterly results but not the December 31, 2007 year-end
results.
|
(Continued)
16
GENERAL
COMMUNICATION, INC. AND SUBSIDIARIES
Notes
to Interim Consolidated Financial Statements
(Unaudited)
Additionally we
corrected the 2007 quarters for errors that have been determined to be
immaterial individually and in the aggregate. Other than interest
capitalization, these immaterial errors do not impact the December 31, 2007
results. They are as follows:
|
·
|
We decreased
interest expense $384,000 and $766,000 for the three and six months ended
June 30, 2007, respectively, to correct an interest capitalization error
on certain assets. Our capitalized interest policy was too
restrictive and resulted in no interest capitalization on certain
qualifying capital expenditures. Our capitalized interest
policy now conforms to GAAP;
|
|
·
|
We increased
depreciation expense $322,000 and $644,000 for the three and six months
ended June 30, 2007, respectively, due to the recognition of depreciation
on additional capitalized interest;
|
|
·
|
We increased
revenue $173,000 and $492,000 for the three and six months ended June 30,
2007, respectively, to correct understated revenue resulting from a
configuration error in the automated interface between our unified billing
system and our general ledger;
|
|
·
|
We increased
revenue $125,000 and $258,000 for the three and six months ended June 30,
2007, respectively, to correct revenue recognition for a majority
noncontrolling interest in a subsidiary that was recognizing a certain
type of revenue on a cash basis rather than an accrual
basis;
|
|
·
|
We decreased
share-based compensation expense $715,000 and $757,000 for the three and
six months ended June 30, 2007, respectively, to correct expense
recognition timing for options that did not vest in equal increments over
the vesting period;
|
|
·
|
We decreased
depreciation expense $37,000 and $75,000 for the three and six months
ended June 30, 2007, respectively, due to a revision of the purchase price
allocation of our purchase of Alaska DigiTel, LLC ("Alaska DigiTel") on
January 1, 2007; and
|
|
·
|
We increased
income tax expense $799,000 and $1.5 million for the three and six months
ended June 30, 2007, respectively, to record the income tax effect of the
corrections described above.
|
We
reclassified $3.3 million and $8.2 million of network maintenance and operations
expense from selling, general and administrative expense to Cost of Goods Sold
for the three and six months ended June 30, 2007, respectively. We
believe this change in accounting more closely aligns our maintenance and
operations components to the nature of expenses included in our financial
statement captions, and will improve the comparability of our financial
statement presentation with our industry peers.
The impact of the
restatement and immaterial error correction adjustments and the reclassification
as described above for the periods presented are as follows (amounts in
thousands, except per share amounts):
|
Three Months
Ended June 30, 2007
|
||||||||||||||||
|
As previously reported1
|
Adjustments
|
Reclassification
|
As
restated
|
|||||||||||||
|
Revenues
|
$ | 129,592 | 298 | --- | 129,890 | |||||||||||
|
Cost of goods
sold (exclusive of depreciation and amortization shown separately
below)
|
42,238 | --- | 3,341 | 45,579 | ||||||||||||
|
Selling,
general and administrative expenses
|
47,486 | (715 | ) | (3,341 | ) | 43,430 | ||||||||||
|
Depreciation
and amortization expense
|
21,742 | (305 | ) | --- | 21,437 | |||||||||||
|
Operating
income
|
18,126 | 1,318 | --- | 19,444 | ||||||||||||
(Continued)
17
GENERAL
COMMUNICATION, INC. AND SUBSIDIARIES
Notes
to Interim Consolidated Financial Statements
(Unaudited)
|
Other income
(expense):
|
||||||||||||||||
|
Interest
expense
|
(8,941 | ) | 384 | --- | (8,557 | ) | ||||||||||
|
Loan and
senior note fees
|
(216 | ) | --- | --- | (216 | ) | ||||||||||
|
Interest
income
|
161 | --- | --- | 161 | ||||||||||||
|
Minority
interest
|
(24 | ) | --- | --- | (24 | ) | ||||||||||
|
Other
expense, net
|
(9,020 | ) | 384 | --- | (8,636 | ) | ||||||||||
|
Income before
income tax expense
|
9,106 | 1,702 | --- | 10,808 | ||||||||||||
|
Income tax
expense
|
4,091 | 799 | --- | 4,890 | ||||||||||||
|
Net
income
|
$ | 5,015 | 903 | --- | 5,918 | |||||||||||
|
Basic net
income per common share
|
$ | 0.09 | 0.02 | --- | 0.11 | |||||||||||
|
Diluted net
income per common share
|
$ | 0.09 | 0.01 | --- | 0.10 | |||||||||||
|
1
As reported on Form 10-Q for the quarter ended June 30,
2007
|
||||||||||||||||
|
Six Months
Ended June 30, 2007
|
||||||||||||||||
|
As previously reported1
|
Adjustments
|
Reclassification
|
As
restated
|
|||||||||||||
|
Revenues
|
$ | 254,171 | 750 | --- | 254,921 | |||||||||||
|
Cost of goods
sold (exclusive of depreciation and amortization shown separately
below)
|
85,351 | --- | 8,218 | 93,569 | ||||||||||||
|
Selling,
general and administrative expenses
|
96,010 | (757 | ) | (8,218 | ) | 87,035 | ||||||||||
|
Depreciation
and amortization expense
|
43,196 | (893 | ) | --- | 42,303 | |||||||||||
|
Operating
income
|
29,614 | 2,400 | --- | 32,014 | ||||||||||||
|
Other income
(expense):
|
||||||||||||||||
|
Interest
expense
|
(17,641 | ) | 766 | --- | (16,875 | ) | ||||||||||
|
Loan and
senior note fees
|
(396 | ) | --- | --- | (396 | ) | ||||||||||
|
Interest
income
|
345 | --- | --- | 345 | ||||||||||||
|
Minority
interest
|
(11 | ) | --- | --- | (11 | ) | ||||||||||
|
Other
expense, net
|
(17,703 | ) | 766 | --- | (16,937 | ) | ||||||||||
|
Income before
income tax expense
|
11,911 | 3,166 | --- | 15,077 | ||||||||||||
|
Income tax
expense
|
5,366 | 1,487 | --- | 6,853 | ||||||||||||
|
Net
income
|
$ | 6,545 | 1,679 | --- | 8,224 | |||||||||||
|
Basic net
income per common share
|
$ | 0.12 | 0.03 | --- | 0.15 | |||||||||||
|
Diluted net
income per common share
|
$ | 0.11 | 0.03 | --- | 0.14 | |||||||||||
|
Cash provided
by operating activities
|
$ | 54,469 | 766 | --- | 55,235 | |||||||||||
|
Cash used in
investing activities
|
(87,027 | ) | (766 | ) | --- | (87,793 | ) | |||||||||
|
Cash used in
financing activities
|
(16,752 | ) | --- | --- | (16,752 | ) | ||||||||||
|
1
As reported on Form 10-Q for the six months ended June 30,
2007
|
||||||||||||||||
(Continued)
18
GENERAL
COMMUNICATION, INC. AND SUBSIDIARIES
Notes
to Interim Consolidated Financial Statements
(Unaudited)
|
(2)
|
Consolidated
Statements of Cash Flows Supplemental
Disclosures
|
|
|
Change in
operating assets and liabilities, net of effect of acquisition, consists
of (amounts in thousands):
|
|
Six month
period ended June 30,
|
2008
|
2007
(as
restated)
|
||||||
|
(Increase)
decrease in accounts receivable
|
$ | 7,001 | (5,726 | ) | ||||
|
Decrease in
prepaid expenses
|
114 | 6 | ||||||
|
Increase in
inventories
|
(2,030 | ) | (53 | ) | ||||
|
Net sale of
investment securities
|
800 | --- | ||||||
|
Decrease in
other current assets
|
89 | 1,238 | ||||||
|
Increase in
accounts payable
|
1,979 | 811 | ||||||
|
Increase
(decrease) in deferred revenues
|
3,159 | (3,251 | ) | |||||
|
Decrease in
accrued payroll and payroll related obligations
|
(41 | ) | (757 | ) | ||||
|
Increase in
accrued liabilities
|
1,314 | 120 | ||||||
|
Increase in
accrued interest
|
324 | 49 | ||||||
|
Increase in
subscriber deposits
|
115 | 78 | ||||||
|
Increase in
long-term deferred revenue
|
36,893 | --- | ||||||
|
Increase
(decrease) in components of other long-term liabilities
|
(4,944 | ) | 470 | |||||
| $ | 44,773 | (7,015 | ) | |||||
We paid interest, exclusive
of capitalized interest, totaling $18.9 million and $17.5 million during the six
months ended June 30, 2008 and 2007, respectively.
|
|
We paid
$478,000 and $0 income taxes during the six months ended June 30, 2008 and
2007, respectively. We received no income tax refunds during
the six months ended June 30, 2008 and
2007.
|
|
|
During the
six months ended June 30, 2008 and 2007, we capitalized interest of $2.1
million and $514,000, respectively.
|
|
|
During the
six months ended June 30, 2008, we financed $98.6 million for the use of
satellite transponders through a capital lease obligation. We
also financed $1.3 million in capital expenditures through the extension
of a previously existing capital
lease.
|
|
|
We received
net cash of $110.6 million from the $145.0 million term loan that we
obtained in May 2008. We used $30.0 million of the term loan to repay the
revolver portion of our Senior Credit Facility and our loan proceeds were
reduced by $2.9 million for an original issue discount and $1.5 million
for bank and legal fees associated with the new term
loan.
|
|
|
In June 2008
the Galaxy XR satellite was taken out of service resulting in the removal
of the remaining $8.8 million net book value and the recognition of an
$8.8 million warranty receivable.
|
|
|
We had $6.3
million and $5.7 million in non-cash additions to property and equipment
due to unpaid purchases as of June 30, 2008 and 2007,
respectively.
|
|
|
We retired
Class A common stock in the amount of $5.5 million and $3.3 million during
the six months ended June 30, 2008 and 2007,
respectively.
|
(Continued)
19
GENERAL
COMMUNICATION, INC. AND SUBSIDIARIES
Notes
to Interim Consolidated Financial Statements
(Unaudited)
|
|
In February
2007, our President and Chief Executive Officer ("CEO") tendered 112,000
shares of his GCI Class A common stock to us at $15.50 per share for a
total value of $1.7 million. The stock tender was in lieu of a
cash payment on his note receivable with a related party and a note
receivable with a related party issued upon stock option exercise, both of
which originated in 2002.
|
|
(3)
|
Intangible
Assets
|
On
a preliminary basis our goodwill increased $5.7 million, customer relationships
increased $3.1 million, other intangible assets increased $3.3 million, and
wireless licenses increased $150,000 upon the acquisition of UUI and Unicom
effective June 1, 2008 as further described in note 1(c). Goodwill
and the wireless licenses are indefinite-lived assets. The increase
in other intangible assets is due to the recognition of customer relationships
and contracts with a weighted average amortization period of 3.3
years.
Amortization expense for amortizable intangible assets was as follows (amounts
in thousands):
|
Three Months
Ended
|
Six Months
Ended
|
||||||||||
|
June
30,
|
June
30,
|
||||||||||
|
2008
|
2007
|
2008
|
2007
|
||||||||
|
Amortization
expense
|
$
|
1,165
|
937
|
2,080
|
1,758
|
||||||
Amortization expense for amortizable intangible assets for each of the five
succeeding fiscal years is estimated to be (amounts in thousands):
|
Years Ending
December 31,
|
||||
|
2008
|
$ | 4,814 | ||
|
2009
|
5,486 | |||
|
2010
|
4,580 | |||
|
2011
|
1,527 | |||
|
2012
|
962 | |||
|
(4)
|
Long-term
Debt
|
On
May 2, 2008, we signed an agreement to add an Additional Incremental Term Loan
of up to $145.0 million to our existing Senior Credit Facility. The
Additional Incremental Term Loan will become due under the same terms and
conditions as set forth in the existing Senior Credit Facility.
The Additional
Incremental Term Loan increased the interest rate on the term loan component of
our Senior Credit Facility from LIBOR plus 2.00% to LIBOR plus
4.25%. The Additional Incremental Term Loan increased the revolving
credit facility interest rate for our Senior Credit Facility from LIBOR plus a
margin dependent upon our Total Leverage Ratio ranging from 1.50% to 2.25% to
LIBOR plus the following Applicable Margin set forth opposite each applicable
Total Leverage Ratio below:
|
Total
Leverage Ratio (as defined)
|
Applicable
Margin
|
|||
|
>3.75
|
4.25 | % | ||
|
>3.25 but
<3.75
|
3.75 | % | ||
|
>2.75 but
<3.25
|
3.25 | % | ||
|
<2.75
|
2.75 | % | ||
$145.0 million was
drawn on the Additional Incremental Term Loan at the time of the debt
modification. The proceeds were used to pay down the $30.0 million
outstanding under our revolving credit facility including accrued interest and
to pay expenses associated with the transaction at closing with the balance
deposited in our bank account. Our term loan is fully drawn and we have letters
of credit outstanding totaling $4.0 million, which leaves $96.0 million
available for borrowing under the revolving credit facility.
(Continued)
20
GENERAL
COMMUNICATION, INC. AND SUBSIDIARIES
Notes
to Interim Consolidated Financial Statements
(Unaudited)
The Term Loan
allows for the repurchase of our common stock under our buyback program when our
total debt leverage is below 4.0 times EBITDAS. The amendment revised various
financial covenants in the agreement and made conforming changes to various
covenants to permit certain previously announced
acquisitions. Additionally, our loan proceeds were reduced by $2.9
million for an original issue discount. The discount on the term loan
will be amortized into interest expense using the effective interest
method.
Borrowings under
the Senior Credit Facility are subject to certain financial covenants and
restrictions on indebtedness, dividend payments, financial guarantees, business
combinations, and other related items. As a result of the Additional Incremental
Term Loan, our Senior Credit Facility key debt covenants changed to the
following: our Senior Credit Facility Total Leverage Ratio (as defined) may not
exceed (i) 5.25:1.00 for the period beginning May 2, 2008 and ending on June 30,
2009, (ii) 5.00:1.00 for the period beginning on July 1, 2009, and ending on
December 31, 2009, and (iii) 4.50:1.00 for the period beginning January 1, 2010,
and ending on August 31, 2012; the Senior Leverage Ratio (as defined) may not
exceed (i) 3.25:1.00 for the period beginning on May 2, 2008 and ending on June
30, 2009, and (ii) 3.00:1.00 for the period beginning July 1, 2009, and ending
on August 31, 2012; the Fixed Charge Coverage Ratio (as defined) must be 1.0:1.0
or greater beginning December 31, 2009; and the Interest Coverage Ratio (as
defined) must not be less than (i) 2.50:1.00 for the period beginning on May 2,
2008 and ending on September 30, 2009, and (ii) 2.75:1.00 for the period
beginning October 1, 2009, and ending on August 31, 2012.
Our Senior Credit
Facility also limits the amount of capital expenditures that we can incur each
year based on the following (amounts in thousands):
|
Year
Ended:
|
Maximum
Capital Expenditure Amount
|
|||
|
2008
|
$ | 225,000 | ||
|
2009
|
$ | 125,000 | ||
|
2010
|
$ | 125,000 | ||
|
2011 and
thereafter
|
$ | 100,000 | ||
If
the Company’s capital expenditures for a given year are less than the maximum,
the difference between the amount incurred and the maximum capital expenditure
limitation may be carried over to the following year.
This transaction
was a partial substantial modification of our existing Senior Credit Facility
resulting in a $667,000 write-off of previously deferred loan fees during the
three and six months ended June 30, 2008 in our Consolidated Income
Statement. Deferred loan fees of $58,000 associated with the portion
of our existing Senior Credit Facility determined not to have been substantially
modified continue to be amortized over the remaining life of the Senior Credit
Facility.
In
connection with the Additional Incremental Term Loan, we paid bank fees and
other expenses of $1.6 million during the three and six months ended June 30,
2008 of which $527,000 were immediately expensed in the three and six months
ended June 30, 2008 and $1.1 million were deferred and will be amortized over
the remaining life of the Senior Credit Facility.
We
acquired long-term debt of $42.7 million upon our acquisition of UUI and Unicom
effective June 1, 2008. The long-term debt is due in monthly
installments of principal based on a fixed rate amortization
schedule. The interest rates on the various loans to which this debt
relates range from 2.0% to 11.25%.
(Continued)
21
GENERAL
COMMUNICATION, INC. AND SUBSIDIARIES
Notes
to Interim Consolidated Financial Statements
(Unaudited)
As
of June 30, 2008, maturities of long-term debt were as follows (amounts in
thousands):
|
Years ending
December 31,
|
||||
|
2008 (balance
of the year)
|
$ | 4,975 | ||
|
2009
|
8,495 | |||
|
2010
|
8,738 | |||
|
2011
|
178,255 | |||
|
2011
|
176,485 | |||
|
2013 and
thereafter
|
340,786 | |||
| 717,734 | ||||
|
Less
unamortized discount paid on the Senior Notes
|
2,794 | |||
|
Less
unamortized discount paid on the Senior Credit Facility
|
2,777 | |||
|
Less current
portion of long-term debt
|
9,211 | |||
| $ | 702,952 | |||
(5) Share-Based
Compensation
Our 1986 Stock Option Plan, as amended ("Stock Option Plan"), provides for the
grant of options and restricted stock awards (collectively "award") for a
maximum of 15.7 million shares of GCI Class A common stock, subject
to
adjustment upon the occurrence
of stock dividends, stock splits, mergers, consolidations or certain other
changes in corporate structure or capitalization. If an award expires or
terminates, the shares subject to the award will be
available for further grants of awards under the Stock Option Plan. The
Compensation Committee of GCI’s Board of Directors administers the Stock Option
Plan. Substantially all restricted stock awards granted vest over periods of up
to
five years. Substantially all options vest in equal installments over a period
of five years and expire ten years from the date of grant. Options granted
pursuant to the Stock Option Plan are only exercisable if at the time of
exercise the
option holder is our employee, non-employee director, or a consultant or advisor
working on our behalf. New shares are issued when stock option agreements are
exercised or restricted stock awards are made. Our share repurchase
program
as described above may include the purchase of shares issued pursuant to stock
option agreement exercise transactions.
The fair value of restricted stock awards is determined based on the quoted
price of our common stock. We use a Black-Scholes-Merton option
pricing model to estimate the fair value of stock options issued under SFAS
No.123(R).
The Black-Scholes-Merton option pricing model incorporates various and highly
subjective assumptions, including expected term and expected volatility. We have
reviewed our historical pattern of option exercises and have determined
that
meaningful differences in option exercise activity existed among employee job
categories. Therefore, for all stock options, we have categorized these awards
into two groups for valuation purposes.
The weighted average grant date fair value of options granted during the six
months ended June 30, 2008 and 2007 was $4.27 per share and $9.49 per share,
respectively. The total fair value of options vesting during the six months
ended June 30, 2008 and 2007 was $2.3 million and $2.8 million,
respectively.
We have recorded share-based compensation expense of $2.9 million for the six
months ended June 30, 2008, which consists of $3.5 million for employee
share-based compensation expense and a $681,000 decrease in the fair value of
liability-classified share-based compensation. We recorded
share-based compensation expense of $1.7 million for the six months ended June
30, 2007, which consists of $2.2 million for employee share-based compensation
expense
and a $460,000 decrease in the fair value of liability-classified share-based
compensation. Share-based compensation expense is classified as selling, general
and administrative expense in our consolidated income
statement. Unrecognized share-based compensation expense was $3.4
million relating to 388,000 restricted stock awards and $10.3 million relating
to 2.4 million unvested stock options as of June 30, 2008. We expect
to recognize
share-based compensation expense over a weighted average period of 2.9 years for
stock options and 2.2 years for restricted stock awards.
(Continued)
22
GENERAL
COMMUNICATION, INC. AND SUBSIDIARIES
Notes
to Interim Consolidated Financial Statements
(Unaudited)
The following is a summary of our Stock Option Plan activity for the six months
ended June 30, 2008:
|
Shares
(in
thousands)
|
Weighted
Average
Exercise
Price
|
|||||||
|
Outstanding
at December 31, 2007
|
6,751 | $ | 9.37 | |||||
|
Options
granted
|
331 | $ | 7.94 | |||||
|
Restricted
stock awards granted
|
43 | $ | 6.94 | |||||
|
Exercised
|
(18 | ) | $ | 6.02 | ||||
|
Restricted
stock awards vested
|
(131 | ) | $ | 12.05 | ||||
|
Forfeited
|
(95 | ) | $ | 9.51 | ||||
|
Outstanding
at June 30, 2008
|
6,881 | $ | 9.23 | |||||
|
Available for
grant at June 30, 2008
|
1,305 | |||||||
The following is a summary of activity for stock option grants that were
not made pursuant to the Stock Option Plan for the six months ended June 30,
2008:
|
Shares
(in
thousands)
|
Weighted
Average
Exercise
Price
|
|||||||
|
Outstanding
at December 31, 2007 and June 30, 2008
|
150 | $ | 6.50 | |||||
|
Available for grant at June 30, 2008
|
--- | |||||||
In January 2001 we entered into an aircraft operating lease agreement with a
company owned by our President and CEO. The lease was amended
effective January 1, 2002 and February 25, 2005. Upon signing the
lease, the lessor was
granted an option to purchase 250,000 shares of GCI Class A common stock at
$6.50 per share, of which 150,000 shares remain available for purchase and
expire on March 31, 2010.
The total intrinsic values, determined as of the date of exercise, of options
exercised during the six months ended June 30, 2008 and 2007 were $38,000 and
$2.7 million, respectively. We received $106,000 and $2.4 million in cash from
stock option exercises during the six months ended June 30, 2008 and 2007,
respectively.
|
(6)
|
Industry
Segments Data
|
Our reportable
segments are business units that offer different products. The reportable
segments are each managed separately and serve distinct types of
customers.
A
description of our five reportable segments follows:
Consumer
- - We offer a full range of voice, video, data and wireless services to
residential customers.
Network
Access - We offer a full range of voice, data and wireless services to
common carrier customers.
Commercial
- - We offer a full range of voice, video, data and wireless services to business
and governmental customers.
(Continued)
23
GENERAL
COMMUNICATION, INC. AND SUBSIDIARIES
Notes
to Interim Consolidated Financial Statements
(Unaudited)
Managed
Broadband - We offer data services to rural school districts and rural
hospitals and health clinics through our SchoolAccess®
and ConnectMD®
initiatives.
Regulated
Operations - We offer voice, data and wireless services to residential,
business, and governmental customers in rural Alaska.
Corporate related
expenses including engineering, information technology, accounting, legal and
regulatory, human resources, and other general and administrative expenses for
the three and six months ended June 30, 2008 and 2007 are allocated to our
Consumer, Network Access, Commercial, and Broadband segments using segment
margin for the years ended December 31, 2007 and 2006,
respectively. Corporate related expenses are specifically identified
for our Regulated Operations segment and therefore, are not included in this
allocation. Bad debt expense for the three and six months ended
June 30, 2008 and 2007 is allocated to our Consumer, Network Access, Commercial
and Managed Broadband segments using a combination of specific identification
and allocations based upon segment revenue for the three and six months ended
June 30, 2008 and 2007, respectively.
We
evaluate performance and allocate resources based on earnings from operations
before depreciation and amortization expense, net interest expense, income tax
expense and share-based compensation expense. The accounting policies of the
reportable segments are the same as those described in the summary of
significant accounting policies in note 1 in the “Notes to Consolidated
Financial Statements” included in Part II of our December 31, 2007 annual report
on Form 10-K/A (Amendment No. 2). Intersegment sales are recorded at cost plus
an agreed upon intercompany profit.
We
earn all revenues through sales of services and products within the United
States. All of our long-lived assets are located within the United States of
America, except approximately 82% of our undersea fiber optic cable systems
which transit international waters and all of our satellite
transponders.
Summarized
financial information for our reportable segments for the three and six months
ended June 30, 2008 and 2007 follows (amounts in thousands):
|
Three months
ended June 30,
|
Consumer
|
Network
Access
|
Commercial
|
Managed
Broadband
|
Regulated
Operations
|
Total
Reportable Segments
|
||||||||||||||||||
|
2008 (as
restated)
|
||||||||||||||||||||||||
|
Revenues:
|
||||||||||||||||||||||||
|
Intersegment
|
$ | 17 | 167 | 1,569 | --- | 116 | 1,869 | |||||||||||||||||
|
External
|
62,113 | 41,891 | 27,444 | 9,134 | 1,879 | 142,461 | ||||||||||||||||||
|
Total
revenues
|
$ | 62,130 | 42,058 | 29,013 | 9,134 | 1,995 | 144,330 | |||||||||||||||||
|
EBITDAS
|
$ | 13,423 | 21,676 | 5,696 | 3,138 | 359 | 44,292 | |||||||||||||||||
|
2007 (as
restated)
|
||||||||||||||||||||||||
|
Revenues:
|
||||||||||||||||||||||||
|
Intersegment
|
$ | --- | 1,092 | 1,004 | --- | --- | 2,096 | |||||||||||||||||
|
External
|
55,128 | 41,616 | 26,193 | 6,953 | --- | 129,890 | ||||||||||||||||||
|
Total
revenues
|
$ | 55,128 | 42,708 | 27,197 | 6,953 | --- | 131,986 | |||||||||||||||||
|
EBITDAS
|
$ | 10,965 | 23,543 | 4,996 | 2,116 | --- | 41,620 | |||||||||||||||||
(Continued)
24
GENERAL
COMMUNICATION, INC. AND SUBSIDIARIES
Notes
to Interim Consolidated Financial Statements
(Unaudited)
|
Six months
ended June 30,
|
Consumer
|
Network
Access
|
Commercial
|
Managed
Broadband
|
Regulated
Operations
|
Total
Reportable Segments
|
||||||||||||||||||
|
2008 (as
restated)
|
||||||||||||||||||||||||
|
Revenues:
|
||||||||||||||||||||||||
|
Intersegment
|
$ | 17 | 468 | 2,918 | --- | 116 | 3,519 | |||||||||||||||||
|
External
|
123,496 | 81,065 | 54,035 | 16,660 | 1,879 | 277,135 | ||||||||||||||||||
|
Total
revenues
|
$ | 123,513 | 81,533 | 56,953 | 16,660 | 1,995 | 280,654 | |||||||||||||||||
|
EBITDAS
|
$ | 25,677 | 41,813 | 10,021 | 5,615 | 359 | 83,485 | |||||||||||||||||
|
2007 (as
restated)
|
||||||||||||||||||||||||
|
Revenues:
|
||||||||||||||||||||||||
|
Intersegment
|
$ | --- | 1,363 | 2,629 | --- | --- | 3,992 | |||||||||||||||||
|
External
|
108,731 | 81,942 | 50,374 | 13,874 | --- | 254,921 | ||||||||||||||||||
|
Total
revenues
|
$ | 108,731 | 83,305 | 53,003 | 13,874 | --- | 258,913 | |||||||||||||||||
|
EBITDAS
|
$ | 20,923 | 43,308 | 8,075 | 3,748 | --- | 76,054 | |||||||||||||||||
A
reconciliation of reportable segment revenues to consolidated revenues follows
(amounts in thousands):
|
Three Months
Ended
|
Six Months
Ended
|
|||||||||||||||
|
June
30,
|
June
30,
|
|||||||||||||||
|
2008
|
2007 (as
restated)
|
2008
|
2007 (as
restated)
|
|||||||||||||
|
Reportable
segment revenues
|
$ | 144,330 | 131,986 | 280,654 | 258,913 | |||||||||||
|
Less
intersegment revenues eliminated in consolidation
|
1,869 | 2,096 | 3,519 | 3,992 | ||||||||||||
|
Consolidated
revenues
|
$ | 142,461 | 129,890 | 277,135 | 254,921 | |||||||||||
A
reconciliation of reportable segment earnings from external EBITDAS to
consolidated income before income taxes (amounts in thousands):
|
Three Months
Ended
|
Six Months
Ended
|
|||||||||||||||
|
June
30,
|
June
30,
|
|||||||||||||||
|
2008 (as
restated)
|
2007 (as
restated)
|
2008 (as
restated)
|
2007 (as
restated)
|
|||||||||||||
|
Reportable
segment EBITDAS
|
$ | 44,292 | 41,620 | 83,485 | 76,054 | |||||||||||
|
Less
depreciation and amortization expense
|
27,708 | 21,437 | 54,951 | 42,303 | ||||||||||||
|
Less
share-based compensation expense
|
1,593 | 763 | 2,853 | 1,748 | ||||||||||||
|
Less (plus)
minority interest
|
946 | (24 | ) | 1,922 | (11 | ) | ||||||||||
|
Consolidated
operating income
|
14,045 | 19,444 | 23,759 | 32,014 | ||||||||||||
|
Less other
expense, net
|
10,430 | 8,636 | 18,281 | 16,937 | ||||||||||||
|
Consolidated
income before income tax expense
|
$ | 3,615 | 10,808 | 5,478 | 15,077 | |||||||||||
(Continued)
25
GENERAL
COMMUNICATION, INC. AND SUBSIDIARIES
Notes
to Interim Consolidated Financial Statements
(Unaudited)
|
(7)
|
Indefeasible
Right to Use (“IRU”) Capacity
Sale
|
|
|
We entered
into various IRU sales agreements for which we received cash of $33.9
million and $37.1 million during the three and six months ended June 30,
2008, respectively. These transactions are being accounted for
as operating leases with deferred revenue to be recognized over the
estimated life of the IRU agreement. We had long-term deferred
revenue of $34.7 million related to these IRU transactions at June 30,
2008.
|
|
(8)
|
Commitments
and Contingencies
|
Litigation,
Disputes, and Regulatory Matters
We
are involved in various lawsuits, billing disputes, legal proceedings, and
regulatory matters that have arisen from time to time in the normal course of
business. While the ultimate results of these items cannot be predicted with
certainty we do not expect, at this time, that the resolution of them will have
a material adverse effect on our financial position, results of operations or
liquidity.
Access
to ACS Unbundled Network Elements
On
May 22, 2006, the Alaska Communications Systems Group, Inc. (“ACS”) subsidiary
serving Anchorage filed a petition with the FCC, seeking forbearance from
regulation of interstate broadband and access services. On August 20,
2007, the FCC granted in part and denied in part the requested relief, requiring
that ACS comply with certain safeguards to ensure that the relief granted would
not result in harm to consumers or competition. On September 19,
2007, GCI and ACS both filed petitions for reconsideration on discrete findings
in the order. The petitions are pending and we cannot predict the
final outcome of the proceeding at this time.
(Continued)
26
GENERAL
COMMUNICATION, INC. AND SUBSIDIARIES
Notes
to Interim Consolidated Financial Statements
(Unaudited)
Universal
Service
The Universal
Service Fund ("USF") pays subsidies to Eligible Telecommunications Carriers
("ETC") to support the provision of local access service in high-cost areas.
Under FCC regulations, we have qualified as a competitive ETC in the Anchorage,
Fairbanks, Juneau, Matanuska-Susitna Valley, Ketchikan, and Glacier State
service areas. Without ETC status, we would not qualify for USF subsidies in
these areas or other rural areas where we propose to offer local access
services, and our revenue for providing local access services in these areas
would be materially adversely affected.
On
May 1, 2008, the FCC issued an order adopting the recommendation of the Federal
State Joint Board on Universal Service (“Joint Board”) to impose a
state-by-state interim cap on high cost funds to be distributed to competitive
ETCs. As part of the revised policy, the FCC adopted a limited
exception from the cap for competitive ETCs serving tribal lands or Alaska
Native regions. While the operation of the cap will generally reduce
the high cost fund amounts available to competitive ETCs as new competitive ETCs
are designated and as existing competitive ETCs acquire new customers, providers
like us who serve tribal lands or Alaska Native regions will be provided some
relief. The USF cap will be in place until the FCC takes action on
proposals for long-term reform. The FCC and the Universal Service
Administrative Company are each considering issues related to the interpretation
and implementation of the limited exception from the cap, which may materially
affect the scope and extent to which eligible entities may avail themselves of
the exception, as well as the timing for eligible entities to exercise the
exception.
The Joint Board has
recommended for FCC consideration long-term options for reforming USF support,
including establishing separate funds for mobility and broadband
support. Separately, the FCC has issued two reform proposals for
changing the basis for support amounts. We cannot predict at this
time the outcome of the FCC proceedings to consider USF reform proposals or
their respective impacts on us. Both these and any future regulatory,
legislative, or judicial actions could affect the operation of the USF and
result in a change in our revenue for providing local access services in new and
existing markets and facilities-based wireless services in new
markets.
Capital
Lease Obligation
On
March 31, 2006, through our subsidiary GCI Communication Corp. we entered into
an agreement to lease transponder capacity on Intelsat, Ltd.’s (“Intelsat”)
Galaxy 18 spacecraft that successfully launched on May 21, 2008. We are also
leasing capacity on the Horizons 1 satellite, which is owned jointly by Intelsat
and JSAT International, Inc. The leased capacity replaced our existing
transponder capacity on Intelsat’s Galaxy XR satellite.
The Intelsat Galaxy
18 C-band and Ku-Band transponders are being leased over an expected term of 14
years. The present value of the lease payments, excluding telemetry, tracking
and command services and back-up protection, is $98.6 million. We recorded a
capital lease obligation and an addition to our Property and Equipment at June
30, 2008.
In
June 2008 Galaxy XR was taken out of service resulting in the removal of the
remaining $8.8 million net book value and the recognition of an $8.8 million
warranty receivable.
(Continued)
27
GENERAL
COMMUNICATION, INC. AND SUBSIDIARIES
Notes
to Interim Consolidated Financial Statements
(Unaudited)
A
summary of future minimum lease payments for this lease follows (amounts in
thousands):
|
Years ending
December 31:
|
||||
|
2008
|
$ | 6,510 | ||
|
2009
|
11,160 | |||
|
2010
|
11,160 | |||
|
2011
|
11,160 | |||
|
2012
|
11,160 | |||
|
2013 and
thereafter
|
105,090 | |||
|
Total minimum
lease payments
|
$ | 156,240 | ||
Capital
Lease Amendment
|
|
On April 8,
2008, we signed an amendment to a long-term capital lease agreement with
our President and CEO and his wife for property we occupy. The
amended lease terminates on September 30, 2026. We
increased our existing capital lease asset and liability by $1.3 million
at June 30, 2008 to record the extension of this capital
lease.
|
A
summary of future minimum lease payments for this lease follows (amount in
thousands):
|
Years ending
December 31:
|
||||
|
2008
|
$ | 194 | ||
|
2009
|
258 | |||
|
2010
|
258 | |||
|
2011
|
261 | |||
|
2012
|
270 | |||
|
2013 and
thereafter
|
4,691 | |||
|
Total minimum
lease payments
|
$ | 5,932 | ||
|
(9)
|
Subsequent
Event
|
On
July 1, 2008, we completed the acquisition of all the interests in Alaska
Wireless, LLC (“Alaska Wireless”) for an initial acquisition payment of $14.2
million. In addition to the initial acquisition payment, we have
agreed to a contingent payment of approximately $3.0 million in 2010 if certain
financial conditions are met. Alaska Wireless is a Global System for
Mobile Communications ("GSM") cellular provider and an Internet service provider
serving subscribers in the Dutch Harbor, Sand Point, and Akutan, Alaska
areas. It is not practicable to determine the initial purchase price
allocation at this time.
28
PART
I.
ITEM
2.
MANAGEMENT’S
DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION
AND RESULTS OF OPERATIONS
In
the following discussion, GCI and its direct and indirect subsidiaries are
referred to as “we,” “us” and “our.”
Management’s
Discussion and Analysis of Financial Condition and Results of Operations
discusses our consolidated financial statements, which have been prepared in
accordance with U.S. GAAP. The preparation of these financial statements
requires us to make estimates and assumptions that affect the reported amounts
of assets and liabilities and the disclosure of contingent assets and
liabilities at the date of the financial statements and the reported amounts of
revenues and expenses during the reporting period. On an on-going basis, we
evaluate our estimates and judgments, including those related to unbilled
revenues, Cost of Goods Sold accruals, allowance for doubtful accounts,
share-based compensation, depreciation, amortization and accretion periods,
intangible assets, income taxes, effective tax rate, purchase price allocation,
and contingencies and litigation. We base our estimates and judgments on
historical experience and on various other factors that are believed to be
reasonable under the circumstances, the results of which form the basis for
making judgments about the carrying values of assets and liabilities that are
not readily apparent from other sources. Actual results may differ from these
estimates under different assumptions or conditions. See also our “Cautionary
Statement Regarding Forward-Looking Statements.”
On
November 5, 2008, we concluded that we should restate our previously issued
quarterly results for the quarter ended June 30, 2008 to correct the error
described below. The corrections made as part of the restatement of
our results of operations for the three and six months ended June 30, 2008
follow:
|
·
|
We increased
depreciation expense $4.0 million and $8.5 million for the three and six
months ended June 30, 2008, respectively, to correct depreciation expense
for a failure to change the estimated useful life of certain assets that
were expected to be decommissioned at or near the end of
2008. The assets should have been depreciated over the
remaining period they were expected to be
used;
|
|
·
|
We decreased
minority interest expense $920,000 and $1.9 million for the three and six
months ended June 30, 2008, respectively, to record the minority interest
portion of the correction described above,
and;
|
|
·
|
We decreased
income tax expense $1.4 million and $2.8 million for the three and six
months ended June 30, 2008, respectively, to record the income tax effect
of the corrections described above.
|
The impact of the
restatement as described above for the period presented is as follows (amounts
in thousands, except per share amounts):
|
June 30,
2008
|
||||||||||||
|
Consolidated
Condensed Balance Sheet
|
As previously reported1
|
Adjustments
|
As
restated
|
|||||||||
|
Assets
|
||||||||||||
|
Total current
assets
|
$ | 225,213 | --- | 225,213 | ||||||||
|
Property and
equipment in service, net of depreciation
|
692,561 | (8,462 | ) | 684,099 | ||||||||
|
Construction
in progress
|
115,809 | --- | 115,809 | |||||||||
|
Net property
and equipment
|
808,370 | (8,462 | ) | 799,908 | ||||||||
|
Total other
assets
|
301,174 | --- | 301,174 | |||||||||
|
Total
assets
|
$ | 1,334,757 | (8,462 | ) | 1,326,295 | |||||||
|
Liabilities,
Minority Interest, and Stockholders' Equity
|
||||||||||||
|
Total current
liabilities
|
117,772 | --- | 117,772 | |||||||||
|
Long-term
debt
|
702,952 | --- | 702,952 | |||||||||
29
|
Obligations
under capital leases, excluding current maturities
|
96,254 | --- | 96,254 | |||||||||
|
Obligation
under capital lease due to related party, excluding current
maturity
|
1,864 | --- | 1,864 | |||||||||
|
Deferred
income taxes
|
89,315 | (2,750 | ) | 86,565 | ||||||||
|
Long-term
deferred revenue
|
37,738 | --- | 37,738 | |||||||||
|
Other
liabilities
|
19,766 | --- | 19,766 | |||||||||
|
Total
liabilities
|
1,065,661 | (2,750 | ) | 1,062,911 | ||||||||
|
Minority
interest
|
6,502 | (1,946 | ) | 4,556 | ||||||||
|
Stockholders’
equity:
|
||||||||||||
|
Class A
common stock
|
150,706 | --- | 150,706 | |||||||||
|
Class B
common stock
|
2,750 | --- | 2,750 | |||||||||
|
Less cost of
Class A and Class B common shares held in treasury
|
(3,422 | ) | --- | (3,422 | ||||||||
|
Paid-in
capital
|
23,522 | --- | 23,522 | |||||||||
|
Retained
earnings
|
89,038 | (3,766 | ) | 85,272 | ||||||||
|
Total
stockholders’ equity
|
262,594 | (3,766 | ) | 258,828 | ||||||||
|
Total
liabilities, minority interest, and stockholders’ equity
|
1,334,757 | (8,462 | ) | 1,326,295 | ||||||||
|
1
As reported on Form 10-Q for the quarter ended June 30,
2008
|
||||||||||||
|
Three Months
Ended June 30, 2008
|
||||||||||||
|
As previously reported1
|
Adjustments
|
As
restated
|
||||||||||
|
Revenues
|
$ | 142,461 | --- | 142,461 | ||||||||
|
Cost of goods
sold (exclusive of depreciation and amortization shown separately
below)
|
52,448 | --- | 52,448 | |||||||||
|
Selling,
general and administrative expenses
|
48,260 | --- | 48,260 | |||||||||
|
Depreciation
and amortization expense
|
23,707 | 4,001 | 27,708 | |||||||||
|
Operating
income
|
18,046 | (4,001 | ) | 14,045 | ||||||||
|
Other income
(expense):
|
||||||||||||
|
Interest
expense
|
(10,899 | ) | --- | (10,899 | ) | |||||||
|
Loan and
senior note fees
|
(879 | ) | --- | (879 | ) | |||||||
|
Interest
income
|
402 | --- | 402 | |||||||||
|
Minority
interest
|
26 | 920 | 946 | |||||||||
|
Other
expense, net
|
(11,350 | ) | 920 | (10,430 | ) | |||||||
|
Income before
income tax expense
|
6,696 | (3,081 | ) | 3,615 | ||||||||
|
Income tax
expense
|
3,191 | (1,408 | ) | 1,783 | ||||||||
|
Net
income
|
$ | 3,505 | (1,673 | ) | 1,832 | |||||||
|
Basic net
income per common share
|
$ | 0.07 | (0.03 | ) | 0.04 | |||||||
|
Diluted net
income per common share
|
$ | 0.07 | (0.04 | ) | 0.03 | |||||||
|
1
As reported on Form 10-Q for the quarter ended June 30,
2008
|
||||||||||||
30
|
Six Months
Ended June 30, 2008
|
||||||||||||
|
As previously reported1
|
Adjustments
|
As
restated
|
||||||||||
|
Revenues
|
$ | 277,135 | --- | 277,135 | ||||||||
|
Cost of goods
sold (exclusive of depreciation and amortization shown separately
below)
|
103,759 | --- | 103,759 | |||||||||
|
Selling,
general and administrative expenses
|
94,666 | --- | 94,666 | |||||||||
|
Depreciation
and amortization expense
|
46,489 | 8,462 | 54,951 | |||||||||
|
Operating
income
|
32,221 | (8,462 | ) | 23,759 | ||||||||
|
Other income
(expense):
|
||||||||||||
|
Interest
expense
|
(19,584 | ) | --- | (19,584 | ) | |||||||
|
Loan and
senior note fees
|
(1,102 | ) | --- | (1,102 | ) | |||||||
|
Interest
income
|
483 | --- | 483 | |||||||||
|
Minority
interest
|
(24 | ) | 1,946 | 1,922 | ||||||||
|
Other
expense, net
|
(20,227 | ) | 1,946 | (18,281 | ) | |||||||
|
Income before
income tax expense
|
11,994 | (6,516 | ) | 5,478 | ||||||||
|
Income tax
expense
|
5,960 | (2,750 | ) | 3,210 | ||||||||
|
Net
income
|
$ | 6,034 | (3,766 | ) | 2,268 | |||||||
|
Basic net
income per common share
|
$ | 0.12 | (0.08 | ) | 0.04 | |||||||
|
Diluted net
income per common share
|
$ | 0.11 | (0.07 | ) | 0.04 | |||||||
|
Cash provided
by operating activities
|
$ | 109,457 | --- | 109,457 | ||||||||
|
Cash used in
investing activities
|
(155,977 | ) | --- | (155,977 | ) | |||||||
|
Cash used in
financing activities
|
129,149 | --- | 129,149 | |||||||||
|
1
As reported on Form 10-Q for the quarter ended June 30,
2008
|
||||||||||||
On
June 11, 2008, we filed a Form 10K/A (Amendment No. 2) with the SEC to reflect
the restatement of our summary of unaudited quarterly results of operations for
the year ended December 31, 2007. We made the following corrections as part of
the restatement of our results of operations for the three and six months ended
June 30, 2007:
|
·
|
We decreased
depreciation expense $590,000 and $1.5 million for the three and six
months ended June 30, 2007, respectively, to correct an error in
calculating depreciation in the initial year an asset is placed in
service. We originally recorded our estimated depreciation
expense evenly throughout the year with periodic adjustments based upon
improved estimates or actual results. In accordance with GAAP
we now initially record depreciation expense in the month an asset is
placed in service. Depreciation was improperly allocated among
quarters, but the year-end total was correct. Therefore the
restatement impacts the quarterly results but not the December 31, 2007
year-end results.
|
Additionally we
corrected the 2007 quarters for errors that have been determined to be
immaterial individually and in the aggregate. Other than interest
capitalization, these immaterial errors do not impact the December 31, 2007
results. They are as follows:
|
·
|
We decreased
interest expense $384,000 and $766,000 for the three and six months ended
June 30, 2007, respectively, to correct an interest capitalization error
on certain assets. Our capitalized interest policy was too
restrictive and resulted in no interest capitalization on certain
qualifying capital expenditures. Our capitalized interest
policy now conforms to GAAP;
|
|
·
|
We increased
depreciation expense $322,000 and $644,000 for the three and six months
ended June 30, 2007, respectively, due to the recognition of depreciation
on additional capitalized interest;
|
|
·
|
We increased
revenue $173,000 and $492,000 for the three and six months ended June 30,
2007, respectively, to correct understated revenue resulting from
a configuration error in the automated interface between our
unified billing system and our general
ledger;
|
|
·
|
We increased
revenue $125,000 and $258,000 for the three and six months ended June 30,
2007, respectively, to correct revenue recognition for a majority
noncontrolling interest in a subsidiary that was recognizing a certain
type of revenue on a cash basis rather than an accrual
basis;
|
|
·
|
We decreased
share-based compensation expense $715,000 and $757,000 for the three and
six months ended June 30, 2007, respectively, to correct expense
recognition timing for options that did not vest in equal increments over
the vesting period;
|
|
·
|
We decreased
depreciation expense $37,000 and $75,000 for the three and six months
ended June 30, 2007, respectively, due to a revision of the purchase price
allocation of our purchase of Alaska DigiTel on January 1, 2007;
and
|
|
·
|
We increased
income tax expense $799,000 and $1.5 million for the three and six months
ended June 30, 2007, respectively, to record the income tax effect of the
corrections described above.
|
31
We
reclassified $3.3 million and $8.2 million of network maintenance and operations
expense from selling, general and administrative expenses to Cost of Goods Sold
for the three and six months ended June 30, 2007, respectively. We
believe this change in accounting more closely aligns our maintenance and
operations components to the nature of expenses included in our financial
statement captions, and will improve the comparability of our financial
statement presentation with our industry peers.
The impact of the
restatement and immaterial error correction adjustments and the reclassification
as described above for the periods presented are as follows (amounts in
thousands, except per share amounts):
|
Three Months
Ended June 30, 2007
|
||||||||||||||||
|
As previously reported1
|
Adjustments
|
Reclassification
|
As
restated
|
|||||||||||||
|
Revenues
|
$ | 129,592 | 298 | --- | 129,890 | |||||||||||
|
Cost of goods
sold (exclusive of depreciation and amortization shown separately
below)
|
42,238 | --- | 3,341 | 45,579 | ||||||||||||
|
Selling,
general and administrative expenses
|
47,486 | (715 | ) | (3,341 | ) | 43,430 | ||||||||||
|
Depreciation
and amortization expense
|
21,742 | (305 | ) | --- | 21,437 | |||||||||||
|
Operating
income
|
18,126 | 1,318 | --- | 19,444 | ||||||||||||
|
Other income
(expense):
|
||||||||||||||||
|
Interest
expense
|
(8,941 | ) | 384 | --- | (8,557 | ) | ||||||||||
|
Loan and
senior note fees
|
(216 | ) | --- | --- | (216 | ) | ||||||||||
|
Interest
income
|
161 | --- | --- | 161 | ||||||||||||
|
Minority
interest
|
(24 | ) | --- | --- | (24 | ) | ||||||||||
|
Other
expense, net
|
(9,020 | ) | 384 | --- | (8,636 | ) | ||||||||||
|
Income before
income tax expense
|
9,106 | 1,702 | --- | 10,808 | ||||||||||||
|
Income tax
expense
|
4,091 | 799 | --- | 4,890 | ||||||||||||
|
Net
income
|
$ | 5,015 | 903 | --- | 5,918 | |||||||||||
|
Basic net
income per common share
|
$ | 0.09 | 0.02 | --- | 0.11 | |||||||||||
|
Diluted net
income per common share
|
$ | 0.09 | 0.01 | --- | 0.10 | |||||||||||
|
1
As reported on Form 10-Q for the quarter ended June 30,
2007
|
||||||||||||||||
|
Six Months
Ended June 30, 2007
|
||||||||||||||||
|
As previously reported1
|
Adjustments
|
Reclassification
|
As
restated
|
|||||||||||||
|
Revenues
|
$ | 254,171 | 750 | --- | 254,921 | |||||||||||
|
Cost of goods
sold (exclusive of depreciation and amortization shown separately
below)
|
85,351 | --- | 8,218 | 93,569 | ||||||||||||
|
Selling,
general and administrative expenses
|
96,010 | (757 | ) | (8,218 | ) | 87,035 | ||||||||||
32
|
Depreciation
and amortization expense
|
43,196 | (893 | ) | --- | 42,303 | |||||||||||
|
Operating
income
|
29,614 | 2,400 | --- | 32,014 | ||||||||||||
|
Other income
(expense):
|
||||||||||||||||
|
Interest
expense
|
(17,641 | ) | 766 | --- | (16,875 | ) | ||||||||||
|
Loan and
senior note fees
|
(396 | ) | --- | --- | (396 | ) | ||||||||||
|
Interest
income
|
345 | --- | --- | 345 | ||||||||||||
|
Minority
interest
|
(11 | ) | --- | --- | (11 | ) | ||||||||||
|
Other
expense, net
|
(17,703 | ) | 766 | --- | (16,937 | ) | ||||||||||
|
Income before
income tax expense
|
11,911 | 3,166 | --- | 15,077 | ||||||||||||
|
Income tax
expense
|
5,366 | 1,487 | --- | 6,853 | ||||||||||||
|
Net
income
|
$ | 6,545 | 1,679 | --- | 8,224 | |||||||||||
|
Basic net
income per common share
|
$ | 0.12 | 0.03 | --- | 0.15 | |||||||||||
|
Diluted net
income per common share
|
$ | 0.11 | 0.03 | --- | 0.14 | |||||||||||
|
Cash provided
by operating activities
|
$ | 54,469 | 766 | --- | 55,235 | |||||||||||
|
Cash used in
investing activities
|
(87,027 | ) | (766 | ) | --- | (87,793 | ) | |||||||||
|
Cash used in
financing activities
|
(16,752 | ) | --- | --- | (16,752 | ) | ||||||||||
|
1
As reported on Form 10-Q for the six months ended June 30,
2007
|
||||||||||||||||
All adjustments
noted above have been included in the amounts for the three and six months end
June 30, 2008 and 2007 shown in Management's Discussion and
Analysis.
General
Overview
Through our focus
on long-term results, acquisitions, and strategic capital investments, we strive
to consistently grow our revenues and expand our margins. We have historically
met our cash needs for operations, regular capital expenditures and maintenance
capital expenditures through our cash flows from operating activities.
Historically, cash requirements for significant acquisitions and major capital
expenditures have been provided largely through our financing
activities.
33
The Network Access
segment provides services to other common carrier customers and the Managed
Broadband segment provides services to rural school districts and hospitals and
health clinics. Effective June 1, 2008, we purchased 100% of the
outstanding stock of the UUI and Unicom subsidiaries. The financial
results of the long-distance, local access and Internet services sold to
consumer and commercial customers of these acquired companies are reported in
the Regulated Operations segment. The financial results of the
long-distance services sold to other common carrier customers and the managed
broadband services components of these acquired companies are included in the
Network Access and Managed Broadband Services segments,
respectively. Following are our segments and the services and
products each offers to its customers:
|
Reportable
Segments
|
||||||||||||||||||||
|
Services and
Products
|
Consumer
|
Network
Access
|
Commercial
|
Managed
Broadband
|
Regulated
Operations
|
|||||||||||||||
|
Voice:
|
||||||||||||||||||||
|
Long-distance
|
X | X | X | X | ||||||||||||||||
|
Local
Access
|
X | X | X | X | ||||||||||||||||
|
Directories
|
X | |||||||||||||||||||
|
Video
|
X | X | ||||||||||||||||||
|
Data:
|
||||||||||||||||||||
|
Internet
|
X | X | X | X | X | |||||||||||||||
|
Data
Networks
|
X | X | X | |||||||||||||||||
|
Managed
Services
|
X | X | ||||||||||||||||||
|
Managed
Broadband Services
|
X | |||||||||||||||||||
|
Wireless
|
X | X | X | X | ||||||||||||||||
An
overview of our services and products follows.
Voice
Services and Products
Long-distance
We
generate long-distance services revenues from monthly plan fees and usage
charges.
Factors that have
the greatest impact on year-to-year changes in long-distance services revenues
include the rate per minute charged to customers and usage volumes expressed as
minutes of use.
Common carrier
traffic routed to us for termination in Alaska is largely dependent on traffic
routed to our common carrier customers by their customers. Pricing pressures,
new program offerings, and market and business consolidations continue to evolve
in the markets served by our other common carrier customers. If, as a result,
their traffic is reduced, or if their competitors’ costs to terminate or
originate traffic in Alaska are reduced, our traffic will also likely be
reduced, and our pricing may be reduced to respond to competitive pressures,
consistent with federal law. Additionally, disruption in the economy resulting
from terrorist attacks and other attacks or acts of war could affect our carrier
customers. We are unable to predict the effect on us of such changes or events.
However, given the materiality of other common carrier revenues to us, a
significant reduction in traffic or pricing could have a material adverse effect
on our financial position, results of operations and liquidity.
AT&T acquired
Dobson Communications Corporation (“Dobson”), including its Alaska properties,
on November 15, 2007. In December 2007 we signed an agreement with AT&T that
provides for an orderly four-year transition of our wireless customers from the
Dobson/AT&T network in Alaska to our wireless facilities to be built in 2008
and 2009. The agreement allows our current and future customers to
use the AT&T wireless network for local access and roaming during the
transition period. The four-year transition period, which expires
June 30, 2012, provides us with adequate time to replace the Dobson/AT&T
network in Alaska with our own wireless facilities. Under the agreement,
AT&T’s obligation to purchase network services from us terminated as of July
1, 2008. AT&T provided us with a large block of wireless network usage at no
charge to facilitate the transition of our customers to our
facilities. We will pay for usage in excess of that base
34
transitional
amount. Under the previous agreement with Dobson, our margin was
fixed. Under the new agreement with AT&T, we will pay for usage
in excess of the block of free minutes on a per minute basis. The
block of wireless network usage at no charge is expected to substantially reduce
our wireless product Cost of Goods Sold paid to AT&T during the approximate
four year period beginning June 4, 2008 and ending June 30, 2012. We
expect our wireless product Cost of Goods Sold to decrease $11.0 million to
$12.0 million during the six months ended December 31, 2008 as compared to the
six months ended December 31, 2007.
Due in large part
to the favorable synergistic effects of our bundling strategy focused on
consumer and commercial customers, long-distance service continues to be a
significant contributor to our overall performance, although the migration of
traffic from our voice products to our data and wireless products
continues.
Our long-distance
service faces significant competition from ACS, AT&T Alascom, Inc.
(“Alascom”), Matanuska Telephone Association ("MTA"), long-distance resellers,
and certain smaller rural local telephone companies that have entered the
long-distance market. We believe our approach to developing, pricing, and
providing long-distance services and bundling different business segment
services will continue to allow us to be competitive in providing those
services.
Local
Access
We
generate local access services revenues from four primary sources: (1) basic
dial tone services; (2) data network and special access services; (3)
origination and termination of long-distance calls for other common carriers;
and (4) features and other charges, including voice mail, caller ID, distinctive
ring, inside wiring and subscriber line charges.
The primary factors
that contribute to year-to-year changes in local access services revenues
include the average number of subscribers to our services during a given
reporting period, the average monthly rates charged for non-traffic sensitive
services, the number and type of additional premium features selected, the
traffic sensitive access rates charged to carriers and amounts received from the
Universal Service Program.
We
estimate that our June 30, 2008 and 2007 total lines in service represent a
statewide market share of approximately 33% and 27%, respectively. At June 30,
2008 and 2007, 66% and 48%, respectively, of our lines, including the lines of
UUI at June 30, 2008, are provided on our own facilities.
Our local access
service faces competition in Anchorage, Fairbanks, and Juneau from ACS, which is
the largest incumbent local exchange carrier (“ILEC”) in Alaska, and from
Alascom in Anchorage for consumer services. Alascom has received certification
from the Regulatory Commission of Alaska ("RCA") to provide local access
services in Fairbanks and Juneau. In February 2007, we began offering local
access service in certain MTA exchanges and face competition from
MTA. In October 2007, we began offering local access service in the
Kenai-Soldotna area and face competition from the ACS, the ILEC in this
area. We compete against other smaller ILECs in certain smaller
communities. We believe our approach to developing, pricing, and
providing local access services and bundling different services will allow us to
be competitive in providing those services.
We
are continuing to expand our local access service areas and will offer services
in these new areas using a combination of methods. To a large extent, we plan to
use our existing coaxial cable network to deliver local access services. Where
we do not have cable facilities, we may resell other carriers’ services, lease
portions of an existing carrier’s network or seek wholesale
discounts.
In
2008 we plan to continue to deploy Digital Local Phone Service ("DLPS") lines
which utilize our coaxial cable facilities. This service delivery
method allows us to utilize our own cable facilities to provide local access
service to our customers and avoid paying local loop charges to the
ILEC.
On
May 1, 2008, the FCC issued an order adopting the recommendation of the Joint
Board to impose a state-by-state interim cap on high cost funds to be
distributed to competitive ETCs. As part of the revised policy, the
FCC adopted a limited exception from the cap for competitive ETCs serving tribal
lands or Alaska Native regions. While the operation of the cap will
generally reduce the high cost fund amounts available to competitive ETCs as new
competitive ETCs are designated and as existing competitive ETCs acquire new
customers, providers like us who serve tribal lands or Alaska Native regions
will be provided some relief. The USF cap will be in place until the
FCC takes action on proposals for long-
35
term
reform. The FCC and the Universal Service Administrative Company are
each considering issues related to the interpretation and implementation of the
limited exception from the cap, which may materially affect the scope and extent
to which eligible entities may avail themselves of the exception, as well as the
timing for eligible entities to exercise the exception.
The Joint Board has
recommended for FCC consideration long-term options for reforming USF support,
including establishing separate funds for mobility and broadband
support. Separately, the FCC has issued two reform proposals for
changing the basis for support amounts. We cannot predict at this
time the outcome of the FCC proceedings to consider USF reform proposals or
their respective impacts on us. Both these and any future regulatory,
legislative, or judicial actions could affect the operation of the USF and
result in a change in our revenue for providing local access services in new and
existing markets and facilities-based wireless services in new
markets.
UUI and its
subsidiary, United-KUC, which were acquired by us effective June 1, 2008, are
ILECs and therefore are subject to regulation by the RCA. UUI and
United-KUC do not face significant competition.
Directories
We
sell advertising in our yellow pages directories to commercial customers,
distribute white and yellow pages directories to customers in certain markets we
serve, and offer an on-line directory.
Video
Services and Products
We
generate cable services revenues from three primary sources: (1) digital and
analog programming services, including monthly basic and premium subscriptions,
video on demand, pay-per-view movies and one-time events, such as sporting
events; (2) equipment rentals; and (3) advertising sales.
Our cable systems
serve 40 communities and areas in Alaska, including the state’s five largest
population centers, Anchorage, Fairbanks, the Matanuska-Susitna Valley, the
Kenai Peninsula, and Juneau.
The primary factors
that contribute to period-to-period changes in cable services revenues include
average monthly subscription rates and pay-per-view buys, the mix among basic,
premium and digital tier services, the average number of cable television
subscribers during a given reporting period, set-top box utilization and related
rates, revenues generated from new product offerings, and sales of cable
advertising services.
Our cable service
offerings are bundled with various combinations of our long-distance, local
access, and Internet services and include an offering of free cable service.
Value-added premium services are available for additional charges.
Data
Services and Products
Internet
We
generate Internet services revenues from three primary sources: (1) access
product services, including cable modem, dial-up, and dedicated access; (2)
network management services; and (3) wholesale access for other common
carriers.
The primary factors
that contribute to year-to-year changes in Internet services revenues include
the average number of subscribers to our services during a given reporting
period, the average monthly subscription rates, the amount of bandwidth
purchased by large commercial customers, and the number and type of additional
premium features selected.
Marketing campaigns
continue to be deployed featuring bundled products. Our Internet offerings are
bundled with various combinations of our long-distance, cable, and local access
services and provide free or discounted basic or premium Internet services.
Value-added premium Internet features are available for additional
charges.
We
compete with a number of Internet service providers in our markets. We believe
our approach to developing, pricing, and providing Internet services allows us
to be competitive in providing those services.
Data
Networks
We
generate data network services revenue from two primary sources: (1) leasing
capacity on our facilities that utilize voice and data transmission circuits,
dedicated to particular subscribers, which link a device in one location to
another in a
36
different location,
and (2) through the sale of Internet Protocol-based data services on a secured
shared network to businesses linking multiple enterprise locations. The factor
that has the greatest impact on year-to-year changes in data network services
revenues is the number of data networks in use. We compete against Alascom, ACS
and other local telecommunication service providers.
Managed
Services
We
design, sell, install, service and operate, on behalf of certain customers,
communications and computer networking equipment and provide field/depot, third
party, technical support, communications consulting and outsourcing services. We
also supply integrated voice and data communications systems incorporating
interstate and intrastate digital data networks, point-to-point and multipoint
data network and small earth station services. There are a number of competing
companies in Alaska that actively sell and maintain data and voice
communications systems.
Our ability to
integrate communications networks and data communications equipment has allowed
us to maintain our market position based on “value added” support services
rather than price competition. These services are blended with other transport
products into unique customer solutions, including managed services and
outsourcing.
Managed
Broadband Services
We
generate managed broadband services revenue through our SchoolAccess®,
ConnectMD®
and managed video conferencing products. Our customers may purchase end-to-end
broadband services solutions blended with other transport and software products.
There are several competing companies in Alaska that actively sell broadband
services. Our ability to provide end-to-end broadband services solutions has
allowed us to maintain our market position based on “value added” products and
services rather than solely based on price competition.
SchoolAccess®
is a suite of services designed to advance the educational opportunities of
students in underserved regions of the country. Our SchoolAccess®
division provides Internet and distance learning services designed exclusively
for the school environment. The Schools and Libraries Program of the USF makes
discounts available to eligible rural school districts for telecommunication
services and monthly Internet service charges. The program is intended to ensure
that rural school districts have access to affordable services.
Our network,
Internet and software application services provided through our Managed
Broadband segment’s Medical Services division are branded as ConnectMD®.
Our ConnectMD®
services are currently provided under contract to medical businesses in Alaska,
Washington and Montana. The Rural Health Care Program of the USF makes discounts
available to eligible rural health care providers for telecommunication services
and monthly Internet service charges. The program is intended to ensure that
rural health care providers pay no more for telecommunications services in the
provision of health care services than their urban counterparts. Customers
utilize ConnectMD®
services to securely move data, images, voice traffic, and real time multipoint
interactive video.
We
offer a managed video conferencing product for use in distance learning,
telemedicine and group communication and collaboration environments. The product
is designed to offer customers enhanced communication services that support
video, audio and data presentation. Our product benefits customers by reducing
travel costs, improving course equity in education and increasing the quality of
health services available to patients. The product bundles our data
products, video conferencing services and optional rental of video conferencing
endpoint equipment. Our video conferencing services include
multipoint conferencing, integrated services digital network gateway and
transcoding services, online scheduling and conference control, and
videoconference recording, archiving and streaming. We provide 24-hour technical
support via telephone or online.
Unicom, one of the
companies that we acquired effective June 1, 2008, operates DeltaNet, a
long-haul broadband microwave network ringing the Yukon-Kuskokwim Delta – a
region of approximately 30,000 square miles in western Alaska. In the third
quarter of 2008, DeltaNet, which is still under construction but has already
commenced operations where completed microwave towers have been placed into
service, will link more than 40 villages to Bethel, the region’s
hub. We will use this facility, in addition to our other facilities,
to offer our SchoolAccess®,
ConnectMD®
and managed video conferencing products.
37
Wireless
Services and Products
We
generate wireless services and equipment revenues from four primary sources: (1)
monthly plan fees; (2) usage and roaming charges; (3) wireless Internet access;
and (4) handset and accessory sales.
We
offer wireless services by reselling AT&T services under our brand name and
Alaska DigiTel's services under its brand name. We provide limited wireless
local access and Internet services using our own facilities. We compete against
AT&T, ACS, MTA, and resellers of those services in Anchorage and other
markets. The GCI and Alaska DigiTel brands compete against each
other.
In
2008 we are constructing a GSM network throughout the terrestrially served
portions of Alaska including the cities of Anchorage, Fairbanks, and
Juneau. Alaska DigiTel operates the Code-Division Multiple Access
("CDMA") CDMA portion of our statewide wireless platform and is expanding this
network in 2008.
We
had a distribution agreement with Dobson allowing us to resell Dobson wireless
services. For a discussion of AT&T’s acquisition of Dobson please
see "Part I – Item II – Management’s Discussion and Analysis of Financial
Condition and Results of Operations – Voice Services and Products – Long
Distance".
On
July 1, 2008, we completed the acquisition of all of the interests in Alaska
Wireless for an initial acquisition payment of $14.2 million. In
addition to the initial acquisition payment, we have agreed to a contingent
payment of approximately $3.0 million in 2010 if certain financial conditions
are met. Alaska Wireless is a GSM cellular provider and an Internet
service provider serving subscribers in the Dutch Harbor, Sand Point, and
Akutan, Alaska areas. In addition to the acquisition, we entered into
a management agreement with the previous owners of Alaska
Wireless. The business will continue to operate under the Alaska
Wireless name and the previous owners will continue to manage the day-to-day
operations. The results of operations generated by Alaska Wireless
will impact our wireless services in our Consumer segment.
We
have signed a definitive agreement to acquire the remaining minority interest in
Alaska DigiTel for a total consideration of approximately $10.3
million. On January 22, 2008, the FCC initiated its proceedings to
review the application seeking requisite regulatory approval of the proposed
change in control caused by this acquisition. Following FCC approval
of the change in control, which we expect to occur in the third or fourth
quarter of 2008, we will own 100% of Alaska DigiTel.
38
Results
of Operations
The following table
sets forth selected Statements of Operations data as a percentage of total
revenues for the periods indicated (underlying data rounded to the nearest
thousands):
|
Percentage
|
Percentage
|
|||||||||||||||||||||||
|
Three
Months Ended
|
Change
1
|
Six
Months Ended
|
Change
1
|
|||||||||||||||||||||
|
June
30,
|
2008
|
June
30,
|
2008
|
|||||||||||||||||||||
|
2008
|
2007
|
vs. 2007
|
2008
|
2007
|
vs. 2007
|
|||||||||||||||||||
|
(Unaudited)
|
||||||||||||||||||||||||
|
Statements
of Operations Data:
|
||||||||||||||||||||||||
|
Revenues:
|
||||||||||||||||||||||||
|
Consumer
segment
|
43.6 | % | 42.4 | % | 12.7 | % | 44.5 | % | 42.7 | % | 13.6 | % | ||||||||||||
|
Network
Access segment
|
29.4 | % | 32.0 | % | 0.7 | % | 29.3 | % | 32.1 | % | (0.7 | %) | ||||||||||||
|
Commercial
segment
|
19.3 | % | 20.2 | % | 4.8 | % | 19.5 | % | 19.8 | % | 7.3 | % | ||||||||||||
|
Managed
Broadband segment
|
6.4 | % | 5.4 | % | 31.4 | % | 6.0 | % | 5.4 | % | 20.0 | % | ||||||||||||
|
Regulated
Operations segment
|
1.3 | % |
NA
|
NA
|
0.7 | % |
NA
|
NA
|
||||||||||||||||
|
Total
revenues
|
100.0 | % | 100.0 | % | 9.7 | % | 100.0 | % | 100.0 | % | 8.7 | % | ||||||||||||
|
Selling,
general and administrative expenses
|
33.9 | % | 33.4 | % | 11.1 | % | 34.2 | % | 34.1 | % | 8.8 | % | ||||||||||||
|
Depreciation
and amortization expense
|
19.5 | % | 16.5 | % | 29.3 | % | 19.8 | % | 16.6 | % | 29.9 | % | ||||||||||||
|
Operating
income
|
9.9 | % | 15.0 | % | (27.8 | %) | 8.6 | % | 12.6 | % | (25.8 | %) | ||||||||||||
|
Other
expense, net
|
7.3 | % | 6.7 | % | 20.8 | % | 6.6 | % | 6.6 | % | 7.9 | % | ||||||||||||
|
Income before
income taxes
|
2.5 | % | 8.3 | % | (66.6 | %) | 2.0 | % | 5.9 | % | (63.7 | %) | ||||||||||||
|
Net
income
|
1.3 | % | 4.6 | % | (69.0 | %) | 0.8 | % | 3.2 | % | (72.4 | %) | ||||||||||||
|
1 Percentage
change in underlying data.
|
|||
|
NA – Not
Applicable
|
Three
Months Ended June 30, 2008 (“second quarter of 2008”) Compared to Three Months
Ended June 30, 2007 (“second quarter of 2007”)
Overview
of Revenues and Cost of Goods Sold
Total revenues
increased 9.7% from $129.9 million in the second quarter of 2007 to $142.5
million in the second quarter of 2008. Revenue increased in all of
our segments. See the discussion below for more information by
segment.
Total Cost of Goods
Sold increased 15.1% from $45.6 million in the second quarter of 2007 to $52.4
million in the second quarter of 2008. Cost of Goods Sold increased in all of
our segments. See the discussion below for more information by
segment.
Consumer
Segment Overview
Consumer segment
revenue represented 43.6% of second quarter 2008 consolidated revenues. The
components of Consumer segment revenue in the second quarter of 2008 and the
second quarter of 2007 are as follows (amounts in thousands):
|
Second
Quarter of
|
Percentage
|
|||||||||||
|
2008
|
2007
|
Change
|
||||||||||
|
Voice
|
$ | 12,117 | 11,608 | 4.4 | % | |||||||
|
Video
|
25,668 | 23,907 | 7.4 | % | ||||||||
|
Data
|
10,386 | 8,269 | 25.6 | % | ||||||||
|
Wireless
|
13,942 | 11,344 | 22.9 | % | ||||||||
|
Total
Consumer segment revenue
|
$ | 62,113 | 55,128 | 12.7 | % | |||||||
39
Consumer segment
Cost of Goods Sold represented 45.2% of second quarter of 2008 consolidated Cost
of Goods Sold. The components of Consumer segment Cost of Goods Sold in the
second quarter of 2008 and the second quarter of 2007 are as follows (amounts in
thousands):
|
Second
Quarter of
|
Percentage
|
|||||||||||
|
2008
|
2007
|
Change
|
||||||||||
|
Voice
|
$ | 4,682 | 5,112 | (8.4 | %) | |||||||
|
Video
|
9,936 | 8,931 | 11.3 | % | ||||||||
|
Data
|
1,877 | 1,282 | 46.4 | % | ||||||||
|
Wireless
|
7,194 | 7,050 | 2.0 | % | ||||||||
|
Total
Consumer segment Cost of Goods Sold
|
$ | 23,689 | 22,375 | 5.9 | % | |||||||
Consumer segment
EBITDAS, representing 30.3% of second quarter of 2008 consolidated EBITDAS, is
as follows (amounts in thousands):
|
Second
Quarter of
|
Percentage
|
|||||||||||
|
2008
|
2007
|
Change
|
||||||||||
|
Consumer
segment EBITDAS
|
$ | 13,423 | 10,965 | 22.4 | % | |||||||
Selected key
performance indicators for our Consumer segment follow:
|
June
30,
|
Percentage
|
|||||||||||
|
2008
|
2007
|
Change
|
||||||||||
|
Voice:
|
||||||||||||
|
Long-distance subscribers1
|
89,800 | 90,500 | (0.8 | %) | ||||||||
|
Long-distance
minutes carried (in millions)
|
32.0 | 33.6 | (4.8 | %) | ||||||||
|
Total local access lines in service2
|
78,100 | 68,400 | 14.2 | % | ||||||||
|
Local access lines in service on GCI
facilities2
|
60,500 | 41,800 | 44.7 | % | ||||||||
|
Video:
|
||||||||||||
|
Basic subscribers3
|
130,300 | 124,700 | 4.5 | % | ||||||||
|
Digital programming tier subscribers4
|
68,200 | 61,000 | 11.8 | % | ||||||||
|
HD/DVR converter boxes5
|
56,900 | 40,200 | 41.5 | % | ||||||||
|
Homes
passed
|
226,900 | 221,100 | 2.6 | % | ||||||||
|
Average monthly gross revenue per
subscriber6
|
$ | 65.86 | $ | 63.79 | 3.2 | % | ||||||
|
Data:
|
||||||||||||
|
Cable modem subscribers7
|
91,000 | 82,600 | 10.2 | % | ||||||||
|
Wireless:
|
||||||||||||
|
Wireless lines in service8
|
77,000 | 62,900 | 22.4 | % | ||||||||
|
Average monthly gross revenue per
subscriber9
|
$ | 57.39 | $ | 55.25 | 3.9 | % | ||||||
|
1 A
long-distance subscriber is defined as a customer account that is invoiced
a monthly long-distance plan fee or has made a long-distance call during
the month.
2 A
local access line in service is defined as a revenue generating circuit or
channel connecting a customer to the public switched telephone
network.
3 A
basic cable subscriber is defined as one basic tier of service delivered
to an address or separate subunits thereof regardless of the number of
outlets purchased.
4 A
digital programming tier subscriber is defined as one digital programming
tier of service delivered to an address or separate subunits thereof
regardless of the number of outlets or digital programming tiers
purchased. Digital programming tier subscribers are a subset of basic
subscribers.
5 A
high definition/digital video recorder ("HD/DVR") converter box is defined
as one box rented by a digital programming or basic tier subscriber. A
digital programming or basic tier subscriber is not required to rent an
HD/DVR converter box to receive service.
6 Quarter-to-date
average monthly consumer video revenues divided by the average of consumer
video basic subscribers at the beginning and ending of the
period.
7 A
cable modem subscriber is defined by the purchase of cable modem service
regardless of the level of service purchased. If one entity purchases
multiple cable modem service access points, each access point is counted
as a subscriber. Cable modem subscribers may also be video basic
subscribers though basic cable service is not required to receive cable
modem service.
8 A
wireless line in service is defined as a revenue generating wireless
device.
9 Quarter-to-date
average monthly consumer wireless revenues divided by the average of
consumer wireless subscribers at the beginning and ending of the
period.
|
||||||||||||
40
Consumer
Segment Revenues
The increase in
voice revenue is primarily due to a $713,000 or 11.1% increase in local service
revenue due to increased local access lines in service. The increase
is partially off-set by a $322,000 or 22.1% decrease in support from the
Universal Service Program, decreased long-distance billable minutes carried, and
decreased long-distance subscribers.
The increase in
video revenue is primarily due to the following:
|
|
·
|
A 5.0%
increase in programming services revenue to $20.6 million primarily
resulting from an increase in basic and digital programming tier
subscribers, and
|
|
|
·
|
A 19.5%
increase in equipment rental revenue to $4.7 million primarily resulting
from our customers’ increased use of digital distribution
technology.
|
The increase in
data revenue is primarily due to a 28.6% increase in cable modem revenue to $8.9
million. The cable modem revenue increase is primarily due to increased
subscribers and their selection of more value-added premium features in the
second quarter of 2008 as compared to the second quarter of 2007.
The increase in
wireless revenue is primarily due to an increase in the number of wireless
subscribers, a $1.1 million or 45.5% increase in wireless subscriber line charge
due to increased subscribers to our Lifeline offering, and a $562,000 or 70.5%
increase in support from the Universal Service Program.
Consumer
Segment Cost of Goods Sold
The decrease in
voice Cost of Goods Sold is primarily due to cost savings resulting from the
increased deployment of DLPS lines during the last six months of 2007 and the
first six months of 2008 and decreased voice minutes carried.
The video Cost of
Goods Sold increase is primarily due to increased channels offered to our
subscribers, increased rates paid to programmers, increased costs associated
with delivery of digital services offered over our HD/DVR converter boxes due to
the increased number of converter boxes in service, and increased
subscribers.
The data Cost of
Goods Sold increase is primarily due to increased internet circuit costs due to
an increased number of cable modem subscribers.
The wireless Cost
of Goods Sold increase is primarily due to costs associated with the increased
number of wireless subscribers discussed above, partially off-set by decreased
expense due to the June 4, 2008 implementation of the new distribution agreement
with AT&T as described in "Part I – Item II – Management's Discussion and
Analysis of Financial Condition and Results of Operations – Voice Services and
Products – Long Distance."
Consumer
Segment EBITDAS
The EBITDAS
increase was primarily due to increased margin resulting from increased
subscribers for most product lines in the second quarter of 2008. The
increased margin was partially offset by an increase in the selling, general and
administrative expense that was allocated to our Consumer segment primarily due
to an increase in the second quarter of 2007 segment margin upon which the
allocation is based.
41
Network
Access Segment Overview
Network access
segment revenue represented 29.4% of second quarter of 2008 consolidated
revenues. The components of Network Access segment revenue in the second quarter
of 2008 and the second quarter of 2007 are as follows (amounts in
thousands):
|
Second
Quarter of
|
Percentage
|
|||||||||||
|
2008
|
2007
|
Change
|
||||||||||
|
Voice
|
$ | 23,213 | 24,577 | (5.5 | %) | |||||||
|
Data
|
17,988 | 15,469 | 17.8 | % | ||||||||
|
Wireless
|
690 | 1,570 | (56.1 | %) | ||||||||
|
Total Network
Access segment revenue
|
$ | 41,891 | 41,616 | 0.7 | % | |||||||
Network Access
segment Cost of Goods Sold represented 22.0% of second quarter of 2008
consolidated Cost of Goods Sold. The components of Network Access segment Cost
of Goods Sold in the second quarter of 2008 and the second quarter of 2007 are
as follows (amounts in thousands):
|
Second
Quarter of
|
Percentage
|
|||||||||||
|
2008
|
2007
|
Change
|
||||||||||
|
Voice
|
$ | 8,226 | 6,363 | 29.3 | % | |||||||
|
Data
|
2,830 | 2,185 | 29.5 | % | ||||||||
|
Wireless
|
473 | 174 | 171.8 | % | ||||||||
|
Total Network
Access segment Cost of Goods Sold
|
$ | 11,529 | 8,722 | 32.2 | % | |||||||
Network Access
segment EBITDAS, representing 48.9% of second quarter of 2008 consolidated
EBITDAS, is as follows (amounts in thousands):
|
Second
Quarter of
|
Percentage
|
|||||||||||
|
2008
|
2007
|
Change
|
||||||||||
|
Network
Access segment EBITDAS
|
$ | 21,676 | 23,543 | (7.9 | %) | |||||||
Selected key
performance indicators for our Network Access segment follow:
|
June
30,
|
Percentage
|
|||||||||||
|
2008
|
2007
|
Change
|
||||||||||
|
Voice:
|
||||||||||||
|
Long-distance
minutes carried (in millions)
|
326.2 | 317.7 | 2.7 | % | ||||||||
|
Data:
|
||||||||||||
|
Internet service provider access lines in
service1
|
2,000 | 2,600 | (23.1 | %) | ||||||||
|
1 An
Internet service provider access line in service is defined as a revenue
generating circuit or channel connecting a customer to the public switched
telephone network.
|
||||||||||||
Network
Access Segment Revenues
The decrease in
voice revenue is primarily due to an 11.9% decrease in our average rate per
minute on billable minutes carried for our common carrier customers and the
transition of voice traffic to dedicated data networks. The average
rate per minute decrease is primarily due to a change in the composition of
traffic and a 3.0% rate decrease mandated by federal law which will result in
annual rate decreases of 3.0%. The voice revenue decrease is
partially off-set by the increase in voice minutes carried.
The increase in
data revenue is primarily due to an increase in circuits sold and from other
common carriers moving switched voice services to data networks.
The decrease in
wireless revenue results from a decrease in our rate per minute on billable
minutes carried for customers roaming on our network.
42
Network
Access Segment Cost of Goods Sold
The increase in
voice Cost of Goods Sold is primarily due to increased long-distance minutes
carried and a $879,000 favorable adjustment based upon a refund for which
negotiations were completed in the second quarter of 2007. In the
course of business we estimate unbilled long-distance services Cost of Goods
Sold based upon minutes of use processed through our network and established
rates. Such estimates are revised when subsequent billings are
received, payments are made, billing matters are researched and resolved,
tariffed billing periods lapse, or when disputed charges are
resolved.
The increase in
data Cost of Goods Sold is primarily due to the recognition of a $763,000
warranty payment received in the second quarter of 2007 as a reimbursement for
fiber optic cable repair expenses recognized in an earlier period.
Network
Access Segment EBITDAS
The EBITDAS
decrease was primarily due to decreased margin resulting from the decreased rate
per minute on billable minutes carried for our common carrier
customers. The decreased margin was partially offset by an increase
in data circuits sold in the second quarter of 2008, increased IRU sales in the
second quarter of 2008, and a decrease in the selling, general and
administrative expense allocated to our Network Access segment primarily due to
a decrease in the second quarter of 2007 segment margin upon which the
allocation is based.
Commercial
Segment Overview
Commercial segment
revenue represented 19.3% of second quarter of 2008 consolidated revenues. The
components of Commercial segment revenue in the second quarter of 2008 and the
second quarter of 2007 are as follows (amounts in thousands):
|
Second
Quarter of
|
Percentage
|
|||||||||||
|
2008
|
2007
|
Change
|
||||||||||
|
Voice
|
$ | 7,280 | 8,045 | (9.4 | %) | |||||||
|
Video
|
2,149 | 2,004 | 7.2 | % | ||||||||
|
Data
|
16,584 | 14,561 | 13.9 | % | ||||||||
|
Wireless
|
1,431 | 1,583 | (9.6 | %) | ||||||||
|
Total
Commercial segment revenue
|
$ | 27,444 | 26,193 | 4.8 | % | |||||||
Commercial segment
Cost of Goods Sold represented 26.5% of second quarter of 2008 consolidated Cost
of Goods Sold. The components of Commercial segment Cost of Goods Sold in the
second quarter of 2008 and the second quarter of 2007 are as follows (amounts in
thousands):
|
Second
Quarter of
|
Percentage
|
|||||||||||
|
2008
|
2007
|
Change
|
||||||||||
|
Voice
|
$ | 4,809 | 4,823 | (0.3 | %) | |||||||
|
Video
|
382 | 421 | (9.3 | %) | ||||||||
|
Data
|
7,481 | 5,972 | 25.3 | % | ||||||||
|
Wireless
|
1,240 | 1,041 | 19.1 | % | ||||||||
|
Total
Commercial segment Cost of Goods Sold
|
$ | 13,912 | 12,257 | 13.5 | % | |||||||
Commercial segment
EBITDAS, representing 12.9% of second quarter of 2008 consolidated EBITDAS, is
as follows (amounts in thousands):
|
Second
Quarter of
|
||||||||||||
|
2008
|
2007
|
Percentage
Change
|
||||||||||
|
Commercial
segment EBITDAS
|
$ | 5,696 | 4,996 | 14.0 | % | |||||||
43
Selected key
performance indicators for our Commercial segment follow:
|
June
30,
|
Percentage
|
|||||||||||
|
2008
|
2007
|
Change
|
||||||||||
|
Voice:
|
||||||||||||
|
Long-distance subscribers1
|
10,400 | 11,100 | (6.3 | %) | ||||||||
|
Long-distance
minutes carried (in millions)
|
32.9 | 34.1 | (3.5 | %) | ||||||||
|
Total local access lines in service2
|
45,400 | 42,900 | 5.8 | % | ||||||||
|
Local access lines in service on GCI
facilities
2
|
16,600 | 10,700 | 55.1 | % | ||||||||
|
Data:
|
||||||||||||
|
Cable modem subscribers3
|
9,000 | 8,100 | 11.1 | % | ||||||||
|
Wireless:
|
||||||||||||
|
Wireless lines in service4
|
7,100 | 6,700 | 6.0 | % | ||||||||
|
1 A
long-distance subscriber is defined as a customer account that is invoiced
a monthly long-distance plan fee or has made a long-distance call during
the month.
2 A
local access line in service is defined as a revenue generating circuit or
channel connecting a customer to the public switched telephone
network.
3 A
cable modem subscriber is defined by the purchase of cable modem service
regardless of the level of service purchased. If one entity purchases
multiple cable modem service access points, each access point is counted
as a subscriber.
4 A
wireless line in service is defined as a revenue generating wireless
device.
|
||||||||||||
Commercial
Segment Revenues
The decrease in
voice revenue is primarily due to decreased long-distance subscribers and voice
minutes carried. Revenues associated with increased local access
lines in service partially off-set this decrease.
The increase in
data revenue is primarily due to a $1.3 million or 22.3% increase in managed
services project revenue, a $590,000 or 16.4% increase in Internet revenue
primarily due to increased subscribers, and the effects of a non-recurring
$500,000 credit issued to a customer in June 2007.
Commercial
Segment Cost of Goods Sold
The increase in
data Cost of Goods Sold resulted primarily from an increase in contract labor
and internal labor classified as Cost of Goods Sold due to the increase in
managed services project revenue discussed above under "Commercial Segment
Revenues".
Commercial
Segment EBITDAS
The EBITDAS
increase was primarily due to increased margin resulting from increased managed
services projects, increased subscribers for most product lines in the second
quarter of 2008, and a decrease in the selling, general and administrative
expenses allocated to our Commercial segment primarily due to a decrease in the
2007 segment margin upon which the allocation is based.
Managed
Broadband Segment Overview
Managed Broadband
segment revenue represented 6.4% of second quarter of 2008 consolidated
revenues, Cost of Goods Sold represented 5.8% of second quarter of 2008
consolidated Cost of Goods Sold and EBITDAS represented 7.1% of second quarter
of 2008 consolidated EBITDAS. The Managed Broadband segment includes data
services only.
Selected key
performance indicators for our Managed Broadband segment follow:
|
June
30,
|
Percentage
|
|||||||||||
|
2008
|
2007
|
Change
|
||||||||||
|
Managed
Broadband segment:
|
||||||||||||
|
SchoolAccess®
customers
|
51 | 48 | 6.3 | % | ||||||||
|
Rural health
customers
|
39 | 21 | 85.7 | % | ||||||||
44
Through our June 1,
2008, acquisition of Unicom our Managed Broadband segment has added one rural
health customer.
Managed
Broadband Segment Revenues
Managed Broadband
segment revenue increased 31.4% to $9.1 million in the second quarter of
2008. The increase is primarily due to increased circuits purchased
by our rural health and SchoolAccess®
customers and product sales of $690,000 in the second quarter of 2008 to a
SchoolAccess®
customer and a rural health customer.
Managed
Broadband Segment Cost of Goods Sold
Managed Broadband
segment Cost of Goods Sold increased 35.7% to $3.0 million in the second quarter
of 2008 primarily due to costs associated with the product sale discussed
above.
Managed
Broadband Segment EBITDAS
Managed Broadband
segment EBITDAS increased $1.0 million to $3.1 million in the second quarter of
2008 primarily due to an increase in the margin resulting from increased
circuits sold to our rural health and SchoolAccess®
customers. The increased margin was partially offset by an increase in the
selling, general and administrative expense that was allocated to our Managed
Broadband segment primarily due to an increase in the second quarter of 2007
segment margin upon which the allocation is based.
Regulated
Operations Segment Overview
Regulated
Operations segment revenue represented 1.3% of second quarter of 2008
consolidated revenues, Cost of Goods Sold represented 0.6% of second quarter of
2008 consolidated Cost of Goods Sold and EBITDAS represented 0.8% of second
quarter of 2008 consolidated EBITDAS. The Regulated Operations segment includes
voice, data and wireless services.
Selected key
performance indicators for our Regulated Operations segment follow:
|
June
30,
|
Percentage
|
|||||
|
2008
|
2007
|
Change
|
||||
|
Voice:
|
||||||
|
Long-distance subscribers1
|
900 |
NA
|
NA
|
|||
|
Long-distance
minutes carried (in millions)
|
0.1 |
NA
|
NA
|
|||
|
Total local access lines in service2
|
12,200 |
NA
|
NA
|
|||
|
1 A
long-distance subscriber is defined as a customer account that is invoiced
a monthly long-distance plan fee or has made a long-distance call during
the month.
2 A
local access line in service is defined as a revenue generating circuit or
channel connecting a customer to the public switched telephone
network.
NA – Not
Applicable
|
||||||
Regulated
Operations Segment Revenues
As
described above we completed our acquisition of UUI and Unicom effective June 1,
2008. In connection with this acquisition, we recognized revenues of
$2.7 million from the acquired operations during the second quarter of 2008 with
$1.9 million recorded in the Regulated Operations segment and the remaining
revenues were recorded in the Network Access and Managed Broadband
segments.
Regulated
Operations Segment Cost of Goods Sold
As
described above we completed our acquisition of UUI and Unicom effective June 1,
2008. In connection with this acquisition, we recognized Cost of
Goods Sold of $534,000 during the second quarter of 2008 with $298,000 recorded
in the Regulated Operations segment and the remaining Cost of Goods Sold
recorded in the Network Access and Managed Broadband segments.
Regulated
Operations Segment EBITDAS
Regulated
Operations segment EBITDAS was $359,000 in the second quarter of
2008.
45
Selling,
General and Administrative Expenses
Selling, general
and administrative expenses increased 11.1% to $48.3 million in the second
quarter of 2008 primarily due to a $2.1 million increase in labor costs and
$715,000 in additional expense resulting from our June 1, 2008, acquisition of
UUI and Unicom.
As
a percentage of total revenues, selling, general and administrative expenses
increased to 33.9% in the second quarter of 2008 from 33.4% in the second
quarter of 2007.
Depreciation
and Amortization Expense
Depreciation and
amortization expense increased 29.3% to $27.7 million in the second quarter of
2008. The increase is primarily due to our $113.3 million investment in
equipment and facilities placed into service during the 2007 year for which a
full year of depreciation will be recorded in the 2008 year, the $67.1 million
investment in equipment and facilities placed into service during the six months
ended June 30, 2008 for which a partial year of depreciation will be recorded in
the 2008 year, and a $4.0 million depreciation charge in 2008 to change the
estimated useful life of certain assets that are expected to be decommissioned
at or near the end of 2008.
Effective January
1, 2008 we prospectively changed our accounting policy for recording
depreciation on our property and equipment placed in service. For assets placed
in service on or after January 1, 2008 we are using a mid-month convention to
recognize depreciation expense. Previous to this change we used the half-year
convention to recognize depreciation expense in the year an asset was placed in
service, regardless of the month the property and equipment was placed in
service. We believe the mid-month convention is preferable because it results in
more precise recognition of depreciation expense over the estimated useful life
of the asset. No retroactive adjustment has been made. As a result of this
accounting change, our reported amount of depreciation and amortization expense
has increased $419,000, our reported operating income has decreased $419,000,
and our reported net income has decreased $222,000. Our EPS would not have
changed from what we would have reported had we continued to use our previous
accounting policy during the second quarter of June 30, 2008.
Other
Expense, Net
Other expense, net
of other income, increased 20.8% to $10.4 million in the second quarter of 2008
due to the following:
|
·
|
Our total
interest expense increased $2.2 million to $10.9 million in the second
quarter of 2008 due to a $1.9 million increase in interest expense on our
Senior Credit Facility to $4.9 million resulting from additional debt from
the Additional Incremental Term Loan agreement beginning in May 2008, the
increased interest rate on our Senior Credit Facility beginning May 2008,
and $587,000 in additional interest expense resulting from the Galaxy 18
capital lease commencing in the second quarter of 2008 partially offset by
a $302,000 increase in capitalized interest to $993,000 due to increased
capital expenditures subject to capitalized interest,
and
|
|
·
|
In the second
quarter of 2008, we modified our existing Senior Credit Facility resulting
in $1.2 million of other third party costs and bank fees
incurred.
|
The increase was
partially offset by a decrease of minority interest expense of
$970,000.
Income
Tax Expense
Income tax expense
totaled $1.8 million and $4.9 million in the second quarters of 2008 and 2007,
respectively. Our effective income tax rate decreased from 45.2% in the second
quarter of 2007 to 49.3% in the second quarter of 2008 due primarily to lower
forecasted pre-tax net income for the year ended December 31, 2008, without a
comparable decrease in non-deductible items.
At
June 30, 2008, we have (1) tax net operating loss carryforwards of $67.7 million
that will begin expiring in 2011 if not utilized, and (2) alternative minimum
tax credit carryforwards of $3.9 million available to offset regular income
taxes payable in future years. We estimate that we will utilize $51.0 million to
$54.0 million in net operating loss carryforwards during the year ended December
31, 2008. Our utilization of certain net operating loss carryforwards is subject
to limitations pursuant to Section 382 of the Internal Revenue Code of 1986, as
amended.
46
We
have recorded deferred tax assets of $27.5 million associated with income tax
net operating losses that were generated from 1995 to 2008, and that expire from
2011 to 2028, and with charitable contributions that were converted to net
operating losses in 2006 to 2008, and that expire from 2024 to
2028.
Tax benefits
associated with recorded deferred tax assets are considered to be more likely
than not realizable through future reversals of existing taxable temporary
differences and future taxable income exclusive of reversing temporary
differences and carryforwards. The amount of deferred tax assets considered
realizable, however, could be reduced if estimates of future taxable income
during the carryforward period are reduced which would result in additional
income tax expense. We estimate that our effective annual income tax rate for
financial statement purposes will be 66% to 69% in the year ended December 31,
2008.
Six
Months Ended June 30, 2008 (“2008”) Compared to Six Months Ended June 30, 2007
(“2007”)
Overview
of Revenues and Cost of Goods Sold
Total revenues
increased 8.7% from $254.9 million in 2007 to $277.1 million in
2008. Revenue increases in our Consumer, Commercial, Managed
Broadband and Regulated Operations segments were partially off-set by decreased
revenue in our Network Access segment. See the discussion below for
more information by segment.
Total Cost of Goods
Sold increased 10.9% from $93.6 million in 2007 to $103.8 million in 2008. Cost
of Goods Sold increased in all of our segments. See the discussion
below for more information by segment.
Consumer
Segment Overview
Consumer segment
revenue represented 44.5% of 2008 consolidated revenues. The components of
Consumer segment revenue are as follows (amounts in thousands):
|
2008
|
2007
|
Percentage
Change
|
||||||||||
|
Voice
|
$ | 23,978 | 22,961 | 4.4 | % | |||||||
|
Video
|
51,315 | 47,538 | 8.0 | % | ||||||||
|
Data
|
20,482 | 16,216 | 26.3 | % | ||||||||
|
Wireless
|
27,721 | 22,016 | 25.9 | % | ||||||||
|
Total
Consumer segment revenue
|
$ | 123,496 | 108,731 | 13.6 | % | |||||||
Consumer segment
Cost of Goods Sold represented 46.6% of 2008 consolidated Cost of Goods Sold.
The components of Consumer segment Cost of Goods Sold are as follows (amounts in
thousands):
|
2008
|
2007
|
Percentage
Change
|
||||||||||
|
Voice
|
$ | 9,735 | 10,176 | (4.3 | %) | |||||||
|
Video
|
19,866 | 17,790 | 11.7 | % | ||||||||
|
Data
|
3,703 | 2,551 | 45.2 | % | ||||||||
|
Wireless
|
15,087 | 13,815 | 9.2 | % | ||||||||
|
Total
Consumer segment Cost of Goods Sold
|
$ | 48,391 | 44,332 | 9.2 | % | |||||||
Consumer segment
EBITDAS, representing 30.8% of 2008 consolidated EBITDAS, is as follows (amounts
in thousands):
|
2008
|
2007
|
Percentage
Change
|
||||||||||
|
Consumer
segment EBITDAS
|
$ | 25,677 | 20,923 | 22.7 | % | |||||||
Selected key
performance indicators for our Consumer segment follow:
|
June
30,
|
Percentage
|
|||||||||||
|
2008
|
2007
|
Change
|
||||||||||
|
Voice:
|
||||||||||||
|
Long-distance
minutes carried (in millions)
|
65.6 | 67.8 | (3.2 | %) | ||||||||
47
|
Video:
|
||||||||||||
|
Average monthly gross revenue per
subscriber1
|
$ | 66.19 | $ | 63.76 | 3.8 | % | ||||||
|
Wireless:
|
||||||||||||
|
Average monthly gross revenue per
subscriber2
|
$ | 58.25 | $ | 54.59 | 6.7 | % | ||||||
|
1 Year-to-date
average monthly consumer video revenues divided by the average of consumer
video basic subscribers at the beginning and ending of the
period.
2 Year-to-date
average monthly consumer wireless revenues divided by the average of
consumer wireless subscribers at the beginning and ending of the
period.
|
||||||||||||
Please refer to our
three-month results of operations discussion for additional selected key
performance indicators for the second quarter of 2008 and the second quarter of
2007.
Consumer
Segment Revenues
The increase in
voice revenue is primarily due to a $1.4 million or 11.4% increase in local
service revenue due to increased local access lines in service. The
increase is partially off-set by a $540,000 or 18.8% decrease in support from
the Universal Service Program and decreased long-distance billable minutes
carried.
The increase in
video revenue is primarily due to the following:
|
|
·
|
A 5.7%
increase in programming services revenue to $41.2 million primarily
resulting from an increase in basic and digital programming tier
subscribers, and
|
|
|
·
|
A 19.3%
increase in equipment rental revenue to $9.3 million primarily resulting
from our customers’ increased use of digital distribution
technology.
|
The increase in
data revenue is primarily due to a 27.9% increase in cable modem revenue to
$17.5 million. The cable modem revenue increase is primarily due to increased
subscribers and their selection of more value-added premium features in 2008 as
compared to 2007.
The increase in
wireless revenue is primarily due to an increase in the number of wireless
subscribers, a $2.7 million or 68.1% increase in wireless subscriber line charge
due to increased subscribers to our Lifeline offering, and a $1.5 million or
106.1% increase in support from the Universal Service Program.
Consumer
Segment Cost of Goods Sold
The video Cost of
Goods Sold increase is primarily due to increased channels offered to our
subscribers, increased rates paid to programmers, increased costs associated
with delivery of digital services offered over our HD/DVR converter boxes due to
the increased number of converter boxes in service, and increased
subscribers.
The data Cost of
Goods Sold increase is primarily due to increased internet circuit costs due to
an increased number of cable modem subscribers.
The wireless Cost
of Goods Sold increase is primarily due to costs associated with the increased
number of wireless subscribers discussed above, partially off-set by decreased
expense due to the June 4, 2008 implementation of the new distribution agreement
with AT&T as described in "Part I – Item II – Management's Discussion and
Analysis of Financial Condition and Results of Operations – Voice Services and
Products – Long Distance."
Consumer
Segment EBITDAS
The EBITDAS
increase was primarily due to increased margin resulting from increased
subscribers for most product lines in 2008. The increased margin was
partially offset by an increase in the selling, general and administrative
expense that was allocated to our Consumer segment primarily due to an increase
in the 2007 segment margin upon which the allocation is based.
48
Network
Access Segment Overview
Network access
segment revenue represented 29.3% of 2008 consolidated revenues. The components
of Network Access segment revenue are as follows (amounts in
thousands):
|
2008
|
2007
|
Percentage
Change
|
||||||||||
|
Voice
|
$ | 45,155 | 48,848 | (7.6 | %) | |||||||
|
Data
|
34,827 | 30,397 | 14.6 | % | ||||||||
|
Wireless
|
1,083 | 2,697 | (59.8 | %) | ||||||||
|
Total Network
Access segment revenue
|
$ | 81,065 | 81,942 | (0.7 | %) | |||||||
Network Access
segment Cost of Goods Sold represented 21.0% of 2008 consolidated Cost of Goods
Sold. The components of Network Access segment Cost of Goods Sold are as follows
(amounts in thousands):
|
2008
|
2007
|
Percentage
Change
|
||||||||||
|
Voice
|
$ | 15,533 | 13,953 | 11.3 | % | |||||||
|
Data
|
5,556 | 5,615 | (1.0 | %) | ||||||||
|
Wireless
|
694 | 393 | 76.6 | % | ||||||||
|
Total Network
Access segment Cost of Goods Sold
|
$ | 21,783 | 19,961 | 8.9 | % | |||||||
Network Access
segment EBITDAS, representing 50.1% of 2008 consolidated EBITDAS, is as follows
(amounts in thousands):
|
2008
|
2007
|
Percentage
Change
|
||||||||||
|
Network
Access segment EBITDAS
|
$ | 41,813 | 43,308 | (3.5 | %) | |||||||
Selected key
performance indicators for our Network Access segment follow:
|
Percentage
|
||||||||||||
|
2008
|
2007
|
Change
|
||||||||||
|
Voice:
|
||||||||||||
|
Long-distance
minutes carried (in millions)
|
640.8 | 633.5 | 1.2 | % | ||||||||
Please refer to our
three-month results of operations discussion for additional selected key
performance indicators for the second quarter of 2008 and for the second quarter
of 2007.
Network
Access Segment Revenues
The decrease in
voice revenue is primarily due to a 10.7% decrease in our average rate per
minute on billable minutes carried for our common carrier customers and the
transition of voice traffic to dedicated data networks. The average
rate per minute decrease is primarily due to a change in the composition of
traffic and a 3.0% rate decrease mandated by federal law which will result in
annual rate decreases of 3.0%. The voice revenue decrease is
partially off-set by the increase in voice minutes carried.
The decrease in
wireless revenue results from a decrease in our rate per minute on billable
minutes carried for customers roaming on our network.
Network
Access Segment Cost of Goods Sold
The increase in
voice Cost of Goods Sold is primarily due to increased long-distance minutes
carried and the absence of an $879,000 favorable adjustment based upon a refund
for which negotiations were completed in 2007. In the course of
business we estimate unbilled long-distance services Cost of Goods Sold based
upon minutes of use processed through our network and established
rates. Such estimates are revised when subsequent billings are
received, payments are made, billing matters are researched and resolved,
tariffed billing periods lapse, or when disputed charges are
resolved.
49
Network
Access Segment EBITDAS
The EBITDAS
decrease was primarily due to decreased margin resulting from the decreased rate
per minute on billable minutes carried for our common carrier
customers. The decreased margin was partially offset by an increase
in data circuits sold in 2008 and increased IRU sales in 2008.
Commercial
Segment Overview
Commercial segment
revenue represented 19.5% of 2008 consolidated revenues. The components of
Commercial segment revenue are as follows (amounts in thousands):
|
2008
|
2007
|
Percentage
Change
|
||||||||||
|
Voice
|
$ | 14,494 | 15,902 | (8.9 | %) | |||||||
|
Video
|
3,969 | 3,770 | 5.3 | % | ||||||||
|
Data
|
32,793 | 28,515 | 15.0 | % | ||||||||
|
Wireless
|
2,779 | 2,187 | 27.1 | % | ||||||||
|
Total
Commercial segment revenue
|
$ | 54,035 | 50,374 | 7.3 | % | |||||||
Commercial segment
Cost of Goods Sold represented 27.0% of 2008 consolidated Cost of Goods Sold.
The components of Commercial segment Cost of Goods Sold are as follows (amounts
in thousands):
|
2008
|
2007
|
Percentage
Change
|
||||||||||
|
Voice
|
$ | 9,738 | 9,746 | (0.2 | %) | |||||||
|
Video
|
770 | 824 | (6.6 | %) | ||||||||
|
Data
|
15,061 | 12,011 | 25.4 | % | ||||||||
|
Wireless
|
2,414 | 1,944 | 24.2 | % | ||||||||
|
Total
Commercial segment Cost of Goods Sold
|
$ | 27,983 | 24,525 | 14.1 | % | |||||||
Commercial segment
EBITDAS, representing 12.0% of 2008 consolidated EBITDAS, is as follows (amounts
in thousands):
|
2008
|
2007
|
Percentage
Change
|
||||||||||
|
Commercial
segment EBITDAS
|
$ | 10,021 | 8,075 | 24.1 | % | |||||||
Selected key
performance indicators for our Commercial segment follow:
|
Percentage
|
||||||||||||
|
2008
|
2007
|
Change
|
||||||||||
|
Voice:
|
||||||||||||
|
Long-distance
minutes carried (in millions)
|
65.7 | 67.1 | (2.1 | %) | ||||||||
Please refer to our
three-month results of operations discussion for additional selected key
performance indicators for the second quarter of 2008 and for the second quarter
of 2007.
Commercial
Segment Revenues
The decrease in
voice revenue is primarily due to decreased long-distance
subscribers. Revenues associated with increased local access lines in
service partially off-set this decrease.
The increase in
data revenue is primarily due to a $3.4 million or 19.4% increase in managed
services project revenue, a $1.3 million or 19.4% increase in Internet revenue
primarily due to increased subscribers, and a non-recurring $500,000 credit
issued to a customer in June 2007.
The increase in
wireless revenue is primarily due to an increase in the number of wireless
subscribers.
50
Commercial
Segment Cost of Goods Sold
The increase in
data Cost of Goods Sold resulted primarily from an increase in contract labor
and internal labor classified as Cost of Goods Sold due to the increase in
managed services project revenue discussed above in "Commercial Segment
Revenues".
The wireless Cost
of Goods Sold increase is primarily due to costs associated with an increase in
the number of wireless subscribers.
Commercial
Segment EBITDAS
The EBITDAS
increase was primarily due to increased margin resulting from increased managed
services projects, increased subscribers for most product lines in 2008, and a
decrease in the selling, general and administrative expenses allocated to our
Commercial segment primarily due to a decrease in the 2007 segment margin upon
which the allocation is based.
Managed
Broadband Segment Overview
Managed Broadband
segment revenue represented 6.0% of 2008 consolidated revenues, Cost of Goods
Sold represented 5.1% of 2008 consolidated Cost of Goods Sold and EBITDAS
represented 6.7% of consolidated EBITDAS. The Managed Broadband segment includes
data services only.
Please refer to our
three-month results of operations discussion for selected key performance
indicators for the second quarter of 2008 and for the second quarter of
2007.
Managed
Broadband Segment Revenues
Managed Broadband
segment revenue increased 20.0% to $16.7 million in 2008. The
increase is primarily due to increased circuits purchased by our rural health
and SchoolAccess®
customers.
Managed
Broadband Segment Cost of Goods Sold
Managed Broadband
segment Cost of Goods Sold increased 14.1% to $5.3 million in 2008 primarily due
to costs associated with the increased revenue.
Managed
Broadband Segment EBITDAS
Managed Broadband
segment EBITDAS increased $1.9 million to $5.6 million in 2008 primarily due to
an increase in the margin resulting from increased circuits sold to our rural
health and SchoolAccess®
customers. The increased margin was partially offset by an increase
in the selling, general and administrative expense that was allocated to our
Managed Broadband segment primarily due to an increase in the 2007 segment
margin upon which the allocation is based.
Regulated
Operations Segment Overview
Regulated
Operations segment revenue represented 0.7% of 2008 consolidated revenues, Cost
of Goods Sold represented 0.3% of 2008 consolidated Cost of Goods Sold and
EBITDAS represented 0.4% of 2008 consolidated EBITDAS. The Regulated Operations
segment includes voice, data and wireless services.
Please refer to our
three-month results of operations discussion for selected key performance
indicators for the second quarter of 2008.
Regulated
Operations Segment Revenues
As
described above we completed our acquisition of UUI and Unicom effective June 1,
2008. In connection with this acquisition, we recognized revenues of
$2.7 million during 2008 with $1.9 million recorded in the Regulated Operations
segment and the remaining revenues recorded in the Network Access and Managed
Broadband segments.
Regulated
Operations Segment Cost of Goods Sold
As
described above we completed our acquisition of UUI and Unicom effective June 1,
2008. In connection with this acquisition, we recognized Cost of
Goods Sold of $534,000 during 2008 with $298,000 recorded in the Regulated
Operations segment and the remaining Cost of Goods Sold recorded in the Network
Access and Managed Broadband segments.
Regulated
Operations Segment EBITDAS
Regulated
Operations segment EBITDAS totaled $359,000 in 2008.
51
Selling,
General and Administrative Expenses
Selling, general
and administrative expenses increased 8.8% to $94.7 million in 2008 primarily
due to the following:
|
·
|
A $2.9
million increase in labor costs,
|
|
·
|
A $818,000
increase in our facilities leases primarily related to our wireless
facilities expansion,
|
|
·
|
A $752,000
increase in our share-based compensation expense partially off-set by
changes in the fair value of our share-based liability in
2008,
|
|
·
|
$715,000 in
additional expense resulting from our June 1, 2008, acquisition of UUI and
Unicom, and
|
|
·
|
A $622,000
increase in our company-wide success sharing bonus
accrual.
|
The increases
described above are partially offset by a $576,000 decrease in bad debt expense
primarily due to improvements in our collections of consumer accounts
receivable.
As
a percentage of total revenues, selling, general and administrative expenses
increased to 34.2% in 2008 from 34.1% in 2007.
Depreciation
and Amortization Expense
Depreciation and
amortization expense increased 29.9% to $55.0 million in 2008. The increase is
primarily due to our $113.3 million investment in equipment and facilities
placed into service during the 2007 year for which a full year of depreciation
will be recorded in the 2008 year, the $67.1 million investment in equipment and
facilities placed into service during the six months ended June 30, 2008 for
which a partial year of depreciation will be recorded in the 2008 year, and a
$8.5 million depreciation charge in 2008 to change the estimated useful life of
certain assets that are expected to be decommissioned at or near the end of
2008.
Effective January
1, 2008 we prospectively changed our accounting policy for recording
depreciation on our property and equipment placed in service. For assets placed
in service on or after January 1, 2008 we are using a mid-month convention to
recognize depreciation expense. Previous to this change we used the half-year
convention to recognize depreciation expense in the year an asset was placed in
service, regardless of the month the property and equipment was placed in
service. We believe the mid-month convention is preferable because it results in
more precise recognition of depreciation expense over the estimated useful life
of the asset. No retroactive adjustment has been made. As a result of this
accounting change, our reported amount of depreciation expense has increased
$562,000, our reported operating income has decreased $562,000, and our reported
net income has decreased $289,000
Other
Expense, Net
Other expense, net
of other income, increased 7.9% to $18.3 million in 2008 due to the
following:
|
·
|
Our total
interest expense increased $2.7 million to $19.6 million in 2008 primarily
due to a $2.6 million increase in our senior credit facility interest
expense to $8.3 million resulting from additional debt from the Additional
Incremental Term Loan agreement beginning May 2008, the increased interest
rate on our Senior Credit Facility in May 2008, and $587,000 in additional
interest expense resulting from the Galaxy 18 capital lease commencing in
2008 partially offset by a $583,000 increase in capitalized interest to
$1.9 million due to increased capital expenditures subject to capitalized
interest, and
|
|
·
|
In 2008 we
modified our existing Senior Credit Facility resulting in $1.2 million of
other third party costs and bank fees
incurred.
|
The increase was
partially offset by a decrease in minority interest expense of $1.9
million.
Income
Tax Expense
Income tax expense
totaled $3.2 million and $6.9 million in 2008 and 2007, respectively. Our
effective income tax rate increased from 45.5% in 2007 to 58.6% in 2008 due
primarily to lower forecasted pre-tax net income for the year ended December 31,
2008, without a comparable decrease in non-deductible items.
Multiple
System Operator Operating Statistics
Our operating
statistics include capital expenditures and customer information from our
Consumer and Commercial segments which offer services utilizing our cable
services’ facilities.
52
Our capital
expenditures by standard reporting category in 2008 and 2007 follows (amounts in
thousands):
|
2008
|
2007
|
|||||||
|
Line
extensions
|
$ | 9,706 | 18,730 | |||||
|
Customer
premise equipment
|
4,897 | 4,286 | ||||||
|
Scalable
infrastructure
|
580 | 1,042 | ||||||
|
Support
capital
|
304 | 599 | ||||||
|
Upgrade/rebuild
|
747 | 264 | ||||||
|
Commercial
|
80 | 99 | ||||||
|
Sub-total
|
16,314 | 25,020 | ||||||
|
Remaining
reportable segments capital expenditures
|
97,177 | 43,435 | ||||||
| $ | 113,491 | 68,455 | ||||||
The standardized
definition of a customer relationship is the number of customers that receive at
least one level of service utilizing our cable service facilities, encompassing
voice, video, and data services, without regard to which services customers
purchase. At June 30, 2008 and 2007 we had 130,400 and 125,000 customer
relationships, respectively.
The standardized
definition of a revenue generating unit is the sum of all primary analog video,
digital video, high-speed data, and telephony customers, not counting additional
outlets. At June 30, 2008 and 2007 we had 314,400 and 277,200 revenue
generating units, respectively.
Liquidity
and Capital Resources
Our principal
sources of current liquidity are cash and cash equivalents. We believe, but can
provide no assurances, that we will be able to meet our current and long-term
liquidity and capital requirements and fixed charges through our cash flows from
operating activities, existing cash, cash equivalents, credit facilities, and
other external financing and equity sources. Should cash flows be insufficient
to support additional borrowings and principal payments scheduled under our
existing credit facilities, capital expenditures will likely be
reduced.
Cash flows from
operating activities totaled $109.5 million in 2008 as compared to $55.2 million
in 2007. The increase is due to a $35.7 million increase in long-term
deferred revenue due to cash received from IRU capacity sales.
Other sources of
cash in 2008 included a $132.1 million borrowing on our Senior Credit Facility.
Uses of cash in 2008 included expenditures of $113.5 million for property and
equipment, including construction in progress, and the purchase of the stock of
the UUI and Unicom subsidiaries of UCI for $40.2 million, net of cash
received.
Working capital
totaled $107.4 million at June 30, 2008, a $72.2 million increase as compared to
$35.3 million at December 31, 2007. The increase is primarily due to an increase
in cash following the closing of the Additional Incremental Term Loan agreement,
the $37.1 million in cash received from certain customers for the provision of
IRU capacity in May 2008 and the recognition of an $8.8 million warranty
receivable when the Galaxy XR satellite was taken out of service in June
2008. The warranty receivable was a reclassification of the Galaxy XR
satellite net book value from property and equipment to
receivables. The increase was partially offset by an increase in
accounts payable resulting from increased purchases of property and equipment at
June 30, 2008.
Net receivables
increased $9.4 million in 2008 primarily due to the recognition of an $8.8
million warranty receivable described above.
Senior
Notes
At
June 30, 2008 we were in compliance with all loan covenants relating to our
7.25% senior notes due 2014.
53
Senior
Credit Facility
The Additional
Incremental Term Loan increased the interest rate on the term loan component of
our Senior Credit Facility from LIBOR plus 2.00% to LIBOR plus
4.25%. The Additional Incremental Term Loan increased the revolving
credit facility interest rate for our Senior Credit Facility from LIBOR plus a
margin dependent upon our Total Leverage Ratio ranging from 1.50% to 2.25% to
LIBOR plus the following Applicable Margin set forth opposite each applicable
Total Leverage Ratio below:
|
Total
Leverage Ratio (as defined)
|
Applicable
Margin
|
|||
|
>3.75
|
4.25 | % | ||
|
>3.25 but
<3.75
|
3.75 | % | ||
|
>2.75 but
<3.25
|
3.25 | % | ||
|
<2.75
|
2.75 | % | ||
$145.0 million was
drawn on the Additional Incremental Term Loan at the time of the debt
modification. The proceeds were used to pay down the $30.0 million
outstanding under our revolving credit facility including accrued interest and
to pay expenses associated with the transaction at closing with the balance
deposited in our bank account. Our term loan is fully drawn and we have letters
of credit outstanding totaling $4.0 million, which leaves $96.0 million
available for borrowing under the revolving credit facility.
The Term Loan
allows for the repurchase of our common stock under our buyback program when our
total debt leverage is below 4.0 times EBITDAS. The amendment revised various
financial covenants in the agreement and made conforming changes to various
covenants to permit certain previously announced
acquisitions. Additionally, our loan proceeds were reduced by $2.9
million for an original issue discount. The discount on the term loan
will be amortized into interest expense using the effective interest
method.
This transaction
was a partial substantial modification of our existing Senior Credit Facility
resulting in a $667,000 write-off of previously deferred loan fees during the
three and six months ended June 30, 2008 in our Consolidated Income
Statement. Deferred loan fees of $58,000 associated with the portion
of our existing Senior Credit Facility determined not to have been substantially
modified continue to be amortized over the remaining life of the Senior Credit
Facility.
In
connection with the Additional Incremental Term Loan, we paid bank fees and
other expenses of $1.6 million during the three and six months ended June 30,
2008 of which $527,000 were immediately expensed in the three and six months
ended June 30, 2008 and $1.1 million were deferred and will be amortized over
the remaining life of the Senior Credit Facility.
We
acquired long-term debt of $42.7 million upon our acquisition of UUI and Unicom
effective June 1, 2008. The long-term debt is due in monthly
installments of principal based on a fixed rate amortization
schedule. The interest rates on the various loans to which this debt
relates range from 2.0% to 11.25%.
As
of June 30, 2008, maturities of long-term debt were as follows (amounts in
thousands):
|
Years ending
December 31,
|
||||
|
2008 (balance
of the year)
|
$ | 4,975 | ||
|
2009
|
8,495 | |||
|
2010
|
8,738 | |||
|
2011
|
178,255 | |||
|
2011
|
176,485 | |||
|
2013 and
thereafter
|
340,786 | |||
| $ | 717,734 | |||
Capital
Expenditures
Our expenditures
for property and equipment, including construction in progress, totaled $122.3
million and $68.5 million in 2008 and 2007, respectively. The 2008 and 2007
expenditures include non-cash additions of $6.3 million and $5.7
54
million,
respectively, for property and equipment that are accrued in accounts payable as
of June 30, 2008 and 2007. Our capital expenditures requirements in
excess of approximately $25.0 million per year are largely success driven and
are a result of the progress we are making in the marketplace. We expect our
2008 yearly expenditures for property and equipment for our core operations,
including construction in progress, to total $220.0 million to $225.0 million,
depending on available opportunities and the amount of cash flow we generate
during the 2008 year.
Other
We
entered into various IRU sales agreements for which we received cash of $33.9
million and $37.1 million during the three and six months ended June 30, 2008,
respectively. These transactions are being accounted for as operating
leases with deferred revenue to be recognized over the estimated life of the IRU
agreement. We had long-term deferred revenue of $34.7 million related
to these IRU transactions at June 30, 2008.
Effective June 1,
2008 we purchased the stock of the UUI and Unicom subsidiaries of UCI for $40.2
million, net of cash received. Additionally we assumed $42.7 million
in debt as part of the acquisition. UUI together with its subsidiary,
United-KUC, provides local telephone service to 60 rural Alaska communities
across Alaska. Unicom operates DeltaNet, a long-haul broadband
microwave network ringing the Yukon-Kuskokwim Delta – a region of approximately
30,000 square miles in western Alaska. By the summer of 2008, DeltaNet, which is
still under construction but has already commenced operations where completed
microwave towers have been placed into service, will link more than 40 villages
to Bethel, the region’s hub.
On
July 1, 2008, we completed the acquisition all of the interests in Alaska
Wireless for an initial acquisition payment of $14.2 million. In
addition to the initial acquisition payment, we have agreed to a contingent
payment of approximately $3.0 million in 2010 if certain financial conditions
are met. Alaska Wireless is a GSM wireless provider and an Internet
service provider serving subscribers in the Dutch Harbor, Sand Point, and
Akutan, Alaska areas.
The long-distance,
local access, cable, Internet and wireless services industries continue to
experience substantial competition, regulatory uncertainty, and continuing
technological changes. Our future results of operations will be affected by our
ability to react to changes in the competitive and regulatory environment and by
our ability to fund and implement new or enhanced technologies. We are unable to
determine how competition, economic conditions, and regulatory and technological
changes will affect our ability to obtain financing under acceptable terms and
conditions. A complete discussion of our liquidity and capital
resources can be found in Item 7 "Management's Discussion and Analysis of
Financial Condition and Results of Operations" in our December 31, 2007 annual
report on Form 10-K/A (Amendment No. 2).
Schedule
of Certain Known Contractual Obligations
The following table
details future projected payments associated with certain known contractual
obligations as of December 31, 2007, the date of our most recent fiscal year-end
balance sheet. Our schedule of certain known contractual obligations
has been updated to reflect the Senior Credit Facility Additional Incremental
Term Loan described above, the payments due on the long-term debt acquired in
our June 1, 2008 acquisition of UUI and Unicom, and an amendment to a long-term
capital lease agreement with the wife of our President and CEO for property we
occupy.
|
Payments Due
by Period
|
||||||||||||||||||||
|
Total
|
Less than 1
Year
|
1 to
3
Years
|
4 to
5
Years
|
More Than 5
Years
|
||||||||||||||||
|
(Amounts in
thousands)
|
||||||||||||||||||||
|
Long-term
debt
|
$ | 719,704 | 6,584 | 17,240 | 355,094 | 340,786 | ||||||||||||||
|
Interest on
long-term debt
|
251,125 | 45,020 | 93,776 | 77,529 | 34,800 | |||||||||||||||
|
Capital lease
obligations, including interest
|
167,401 | 6,947 | 23,300 | 23,400 | 113,754 | |||||||||||||||
|
Operating
lease commitments
|
55,429 | 10,979 | 15,535 | 10,600 | 18,315 | |||||||||||||||
|
Purchase
obligations
|
74,828 | 60,028 | 14,800 | --- | --- | |||||||||||||||
|
Other
|
66,500 | 63,500 | 3,000 | --- | --- | |||||||||||||||
|
Total
contractual obligations
|
$ | 1,334,987 | 193,058 | 167,651 | 466,623 | 507,655 | ||||||||||||||
For long-term debt
included in the above table, we have included principal payments on our Senior
Credit Facility and Senior Notes. Interest on amounts outstanding
under our Senior Credit Facility is based on variable rates. We used
the
55
current rate paid
in June 2008 to estimate our future interest payments. Our Senior
Notes require semi-annual interest payments of $11.6 million through February
2014. For a discussion of our Senior Notes and Senior Credit Facility
see note 7 in the "Notes to Consolidated Financial Statements" included in Part
II of our December 31, 2007 annual report on Form 10-K/A (Amendment No.
2). For a discussion of our modified Senior Credit Facility see note
7 in the accompanying "Notes to Interim Consolidated Financial
Statements".
Capital lease
obligations include the amended capital leases as discussed in note 8 in the
accompanying "Notes to Interim Consolidated Financial
Statements." For a discussion of our capital and operating leases and
purchase obligations see note 15 in the "Notes to Consolidated Financial
Statements included in Part II of our December 31, 2007 annual report on Form
10-K/A (Amendment No. 2).
The "Other" line
item consists of our commitments to acquire the remaining minority interest in
Alaska DigiTel for approximately $10.3 million, UUI and Unicom for $40.0
million, and Alaska Wireless for approximately $16.0 million to $17.0
million.
We
believe, but can provide no assurances, that we will be able to fund future
projected payments associated with our certain known contractual obligations
through our cash flows from operating activities, existing cash, cash
equivalents, short-term investments, credit facilities, and other external
financing and equity sources. Should cash flows be insufficient to
support additional borrowings and principal payments scheduled under our
existing credit facilities, capital expenditures will likely be
reduced.
Critical
Accounting Policies
Our accounting and
reporting policies comply with U.S. GAAP. The preparation of financial
statements in conformity with GAAP requires management to make estimates and
assumptions. The financial position and results of operations can be affected by
these estimates and assumptions, which are integral to understanding reported
results. Critical accounting policies are those policies that management
believes are the most important to the portrayal of our financial condition and
results, and require management to make estimates that are difficult, subjective
or complex. Most accounting policies are not considered by management to be
critical accounting policies. Several factors are considered in determining
whether or not a policy is critical in the preparation of financial statements.
These factors include, among other things, whether the estimates are significant
to the financial statements, the nature of the estimates, the ability to readily
validate the estimates with other information including third parties or
available prices, and sensitivity of the estimates to changes in economic
conditions and whether alternative accounting methods may be utilized under
GAAP. For all of these policies, management cautions that future events rarely
develop exactly as forecast, and the best estimates routinely require
adjustment. Management has discussed the development and the selection of
critical accounting policies with our Audit Committee.
Those policies
considered to be critical accounting policies for the six months ended June 30,
2008 are the allowance for doubtful accounts, impairment and useful lives of
intangible assets, accruals for unbilled costs, and the valuation allowance for
net operating loss deferred tax assets. A complete discussion of our
critical accounting policies can be found in Item 7 "Management's Discussion and
Analysis of Financial Condition and Results of Operations" in our December 31,
2007 annual report on Form 10-K/A (Amendment No. 2).
Other significant
accounting policies, not involving the same level of measurement uncertainties
as those listed above, are nevertheless important to an understanding of the
financial statements. Policies related to revenue recognition, share-based
expense, and financial instruments require difficult judgments on complex
matters that are often subject to multiple sources of authoritative guidance.
Certain of these and other matters are among topics currently under
reexamination by accounting standards setters and regulators. No specific
conclusions reached by these standard setters appear likely to cause a material
change in our accounting policies, although outcomes cannot be predicted with
confidence. A complete discussion of our significant accounting policies can be
found in note 1 included in Part II of our December 31, 2007 annual report on
Form 10-K/A (Amendment No.2).
Item
3. Quantitative and Qualitative Disclosures About Market Risk
We
are exposed to interest rate risk, which is our primary risk, as well as various
types of market risk in the normal course of business. We do not hold
derivatives for trading purposes.
56
Our Senior Credit
Facility carries interest rate risk. Amounts borrowed under this
agreement bear interest at LIBOR plus 4.25% or less depending upon our Total
Leverage Ratio (as defined). Should the LIBOR rate change, our
interest expense will increase or decrease accordingly. On July 1,
2008, we entered into an interest rate cap agreement with a two year term to
convert $180.0 million of variable interest rate debt to 4.5% fixed rate
debt. The agreement will be accounted for as a derivative under SFAS
133 "Accounting for Derivative Instruments and Hedging
Activities." As of June 30, 2008, we have borrowed $350.7 million
subject to interest rate risk. On this amount, each 1% increase in
the LIBOR interest rate would result in $3.5 million of additional gross
interest cost on an annualized basis. As of July 1, 2008, we have
borrowed $170.7 million subject to interest rate risk. On this
amount, each 1% increase in the LIBOR interest rate would result in $1.7 million
of additional gross interest cost on an annualized basis.
Item
4. Controls and Procedures
(a)
Evaluation of Disclosure Controls and Procedures
As
of the end of the period covered by this Quarterly Report on Form 10-Q, we
carried out an evaluation of the effectiveness of the design and operation of
our “disclosure controls and procedures” (as defined below) under the
supervision and with the participation of our management, including our Chief
Executive Officer and our Chief Financial Officer. Based on that
evaluation and as described below under “Changes in Internal Control over
Financial Reporting” (Item 4(b)), we identified material weaknesses in our
"internal control over financial reporting" (as defined in Item 4(b)
below). Because of these material weaknesses, which are in the
process of being remediated as described below under “Changes in Internal
Control over Financial Reporting” (Item 4(b)), our management, including our
Chief Executive Officer and our Chief Financial Officer, concluded that our
disclosure controls and procedures were not effective as of June 30, 2008, which
is the end of the period covered by this report.
Our "disclosure
controls and procedures" are controls and other procedures that are designed to
ensure that information required to be disclosed in our reports filed or
submitted under the Securities Exchange Act of 1934, as amended (the "Exchange
Act") is recorded, processed, summarized and reported, within the time periods
specified in the SEC’s rules and forms. Disclosure controls and
procedures include, without limitation, controls and procedures designed to
ensure that information required to be disclosed in our reports filed under the
Exchange Act is accumulated and communicated to management to allow timely
decisions regarding required disclosure.
The certifications
attached as Exhibits 31 and 32 to this report should be read in conjunction with
the disclosures set forth herein.
(b)
Changes in Internal Control over Financial Reporting
Information
technology program development and change controls over the unified billing
system and the interface with the general ledger were not designed effectively.
As a result, our automated interface between the unified billing system and the
general ledger was not appropriately configured. In addition, our management
review control over unreconciled transactions recorded in accounts receivable
general ledger accounts was not designed at the level of precision necessary to
detect and correct errors that could be material to annual or interim financial
statements. As a result of these deficiencies, errors existed in our accounts
receivable and revenues that were corrected prior to the issuance of our 2007
annual report on Form 10-K. Although we began remediation of the
material weaknesses evidenced by these deficiencies during the six months ended
June 30, 2008, we have not had sufficient time to fully implement the control
changes necessary to completely remediate these material
weaknesses.
Our policies and
procedures to ensure that our accounting personnel are sufficiently trained on
technical accounting matters did not operate effectively. More specifically, our
accounting personnel did not have the necessary knowledge and training to
adequately account for and disclose certain share-based compensation awards in
accordance with SFAS No.123(R), Share-Based Payment. In addition, our accounting
personnel lacked adequate training on the operation of certain aspects of the
software used to calculate the Company’s share-based compensation expense. As a
result of these deficiencies, errors existed in the Company's share-based
compensation expense that were corrected prior to the issuance of
57
our 2007 annual
report on Form 10-K. Although we began remediation of the material
weaknesses evidenced by these deficiencies during the fourth quarter of 2007 and
continued efforts toward remediation during the six months ended June 30, 2008,
we have not had sufficient time to fully implement the control changes necessary
to completely remediate these material weaknesses.
Our entity-level
control related to the selection and application of accounting policies in
accordance with GAAP was not designed effectively, and our policies and
procedures for the recording of depreciation expense during interim reporting
periods were not designed to ensure reporting in accordance with GAAP. These
deficiencies led to errors in interim financial reporting that have been
corrected through the restatement of our interim financial information described
in note 1(m) in the accompanying “Notes to Interim Consolidated Financial
Statements.” Although we began to remediate these material weaknesses
in June 2008, we have not had sufficient time to fully develop and implement the
control changes necessary to ensure a misstatement of interim or annual
financial reporting does not occur. We will continue to remediate these
deficiencies in the third quarter of 2008 by taking the following
actions:
|
|
•
|
Expanding our
accounting policy documentation and implementing policies and procedures
to periodically review our accounting policies to ensure ongoing GAAP
compliance.
|
|
|
•
|
With regards
to our policies and procedures for the recording of depreciation expense
during interim reporting periods, we will continue to revise our
accounting policies and implement procedures to ensure depreciation is
recorded consistent with GAAP for interim and annual reporting
periods.
|
Subsequent to June
30, 2008, we determined the internal control over financial reporting at Alaska
DigiTel, which was excluded from our most recent annual evaluation of internal
control over financial reporting, does not include activities adequate to timely
identify changes in financial reporting risks, monitor the continued
effectiveness of controls, and does not include staff with adequate technical
expertise to ensure that policies and procedures necessary for reliable interim
and annual financial statements are selected and applied. These control
deficiencies in our Alaska DigiTel business represent material weaknesses in our
internal control over financial reporting and lead to the failure to timely
identify and respond to triggering events which necessitated a change in useful
life of depreciable assets to ensure reporting in accordance with GAAP. These
material weaknesses also led to errors in our interim financial reporting which
were corrected through the restatement of our interim financial
information. We have made progress towards remediation with the
acquisition of the minority interest on August 18, 2008, which gave us 100%
ownership and control over this subsidiary. Prior to August 18, 2008,
our control over the operations of Alaska DigiTel was limited as required by the
FCC upon their approval of our initial acquisition completed in January
2007. During the fourth quarter of 2008 we intend to make progress
towards integrating Alaska DigiTel into our financial reporting process by
replacing the accounting management with GCI accounting
management. During the first quarter of 2009 we will integrate Alaska
DigiTel’s accounting process into our general ledger
system. Additionally, Alaska DigiTel will become subject to the
improvements we anticipate in addressing the material weakness described above
the remediation of which will strengthen our selection and application of
accounting policies in accordance with GAAP.
In
March 2008 we implemented a new online payment system. The
implementation replaced a system supported internally with a system supported by
an external company and has resulted in certain changes to our processes and
procedures affecting internal control over financial reporting during the six
months ended June 30, 2008. We have committed internal and external
resources to revise and document processes and related internal controls over
the new system.
Except as described
above, there were no changes in our internal control over financial reporting
during the quarter ended June 30, 2008 that have materially affected, or are
reasonably likely to materially affect, our internal control over financial
reporting.
A
company's "internal control over financial reporting" is a process designed by,
or under the supervision of, a company's principal executive and principal
financial officers, and effected by a company's board of directors, management
and other personnel, to provide reasonable assurance regarding the reliability
of financial reporting and the preparation of financial statements for external
purposes in accordance with generally accepted accounting principles. A
company's internal control over financial reporting includes those policies and
procedures that (1) pertain to the maintenance of records that, in reasonable
detail, accurately and fairly reflect the transactions and dispositions of the
assets of the company; (2) provide reasonable assurance that transactions are
recorded as necessary to permit preparation of financial statements in
accordance with generally accepted accounting principles, and that receipts and
expenditures of the company are being
58
made only in
accordance with authorizations of management and directors of the company; and
(3) provide reasonable assurance regarding prevention or timely detection of
unauthorized acquisition, use, or disposition of the company’s assets that could
have a material effect on the financial statements.
Internal control
over financial reporting has inherent limitations. Internal control over
financial reporting is a process that involves human diligence and compliance
and is subject to lapses in judgment and breakdowns resulting from human
failures. Internal control over financial reporting also can be circumvented by
collusion or improper management override. Because of such limitations, there is
a risk that material misstatements will not be prevented or detected on a timely
basis by internal control over financial reporting. However, these inherent
limitations are known features of the financial reporting process. Therefore, it
is possible to design into the process safeguards to reduce, though not
eliminate, this risk.
We
may enhance, modify, and supplement internal controls and disclosure controls
and procedures based on experience.
PART
II – OTHER INFORMATION
Item
1A. Risk Factors.
All of our risk
factors as disclosed in our December 31, 2007 annual report on Form 10-K/A
(Amendment No. 2) remain substantially unchanged. Upon our acquisition of
100% of the outstanding stock of the regulated incumbent local service provider,
UUI effective June 1, 2008, as further described in note 1(l) in the
accompanying notes to interim consolidated financial statements, we have
identified the following additional risk factor that may affect our business and
future results:
|
·
|
Revenues
from access charges may be reduced or lost. We expect to
recognize $13.0 million to $14.0 million for the year ended December 31,
2008 from local exchange network access charges. The amount of
revenue that we receive from these access charges is calculated in
accordance with requirements set by the FCC and the RCA. Any
change in these requirements may reduce our revenues and
earnings. The FCC has actively reviewed new mechanisms for
intercarrier compensation that, in some cases, could eliminate access
charges entirely. Elimination of access charges would likely
have an adverse effect on our revenue and earnings. In any
event, we believe that new mechanisms for intercarrier compensation would
more likely than not reduce this source of revenue. Similarly,
the RCA has adopted regulations modifying intrastate access charges that
may reduce our revenue.
|
|
|
Item
4. Submission of Matters to a Vote of Security
Holders
|
|
(a)
|
The annual
shareholders meeting of GCI was held on June 23,
2008.
|
|
(b)
|
Not
applicable.
|
(c) The
matters voted upon at the meeting and the number of votes cast for, against or
withheld, as well as the number of abstentions and broker non-votes, are as
follows:
|
Description
of Matter
|
For
|
Against
|
Withheld
|
Abstentions
|
Broker
Nonvotes
|
|||||
|
1. Election
of Director:
|
||||||||||
|
Jerry A.
Edgerton
|
66,425,730
|
9,368,445
|
---
|
---
|
---
|
The minutes of the June 25, 2007 shareholders meeting
of GCI were unanimously approved.
(d) Not
applicable
59
Item
6. Exhibits
|
Exhibit
No.
|
Description
|
|
31.1
|
Certification
Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 302 of
the Sarbanes-Oxley Act of 2002 by our President and
Director
|
|
31.2
|
Certification
Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 302 of
the Sarbanes-Oxley Act of 2002 by our Senior Vice President, Chief
Financial Officer, Secretary and Treasurer
|
|
32.1
|
Certification
Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of
the Sarbanes-Oxley Act of 2002 by our President and
Director
|
|
32.2
|
Certification
Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of
the Sarbanes-Oxley Act of 2002 by our Senior Vice President, Chief
Financial Officer, Secretary and
Treasurer
|
60
SIGNATURES
Pursuant to the
requirements of the Securities Exchange Act of 1934, the registrant has duly
caused this report to be signed on its behalf by the undersigned thereunto duly
authorized.
GENERAL COMMUNICATION, INC.
|
Signature
|
Title
|
Date
|
||
| /s/ Ronald A. Duncan |
President and
Director
|
November 20, 2008 | ||
|
Ronald A.
Duncan
|
(Principal
Executive Officer)
|
|||
| /s/ John M. Lowber |
Senior Vice
President, Chief Financial
|
November 20, 2008 | ||
|
John M.
Lowber
|
Officer,
Secretary and Treasurer
(Principal
Financial Officer)
|
|||
| /s/ Lynda L. Tarbath |
Vice
President, Chief Accounting
|
November 20, 2008 | ||
|
Lynda L.
Tarbath
|
Officer
(Principal
Accounting Officer)
|
61