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| WIN > SEC Filings for WIN > Form 10-Q on 8-Nov-2007 | All Recent SEC Filings |
8-Nov-2007
Quarterly Report
Basis of Presentation
The following is a discussion and analysis of the historical results of operations and financial condition of Windstream Corporation ("Windstream", "we", or the "Company"). This discussion should be read in conjunction with the unaudited consolidated financial statements, including the notes thereto, for the interim periods ended September 30, 2007 and 2006 and Windstream's Annual Report on Form 10-K for the year ended December 31, 2006 filed with the Securities and Exchange Commission ("SEC") on March 1, 2007.
On August 31, 2007 Windstream completed the acquisition of CT Communications, Inc. ("CTC") as further discussed below under "Acquisition". The accompanying financial statements reflect the combined operations of Windstream and CTC following the acquisition. On July 17, 2006, the Company completed the spin off of the wireline telecommunications business of Alltel Corporation ("Alltel") and the merger of that business ("Alltel Holding Corp.") with Valor Communications Group, Inc. ("Valor"). Results of operations prior to the merger are for Alltel Holding Corp. (the "legacy business").
The Company is organized based on the products and services that it offers. Under this organizational structure, its operations consist of its wireline and product distribution segments, and other operations. The Company's wireline segment consists of its retail and wholesale telecommunications services, including local, long distance, network access, video services, broadband and high-speed data services. The product distribution segment consists of warehouse and logistics operations, and it procures and sells telecommunications infrastructure and equipment to both affiliated and non-affiliated businesses. The Company's other operations include the Company's directory publishing, wireless, and telecommunications information services operations. After the merger with Valor, telecommunications information services are no longer offered as Valor was the only external customer. As discussed in detail below, the Company has announced that it will split off the directory publishing business in the fourth quarter of 2007.
Management believes that the assumptions underlying the Company's financial statements are reasonable. These financial statements, however, may not necessarily be indicative of future results of operations, financial position or cash flows, and may not reflect what the Company's results of operations, financial position and cash flows would have been had it been a separate, stand-alone company during the periods prior to the spin off from Alltel.
EXECUTIVE SUMMARY
Windstream is a customer-focused telecommunications company that provides local telephone, long distance, network access, video services, wireless services, broadband and high-speed data services to approximately 3.2 million customers primarily located in rural areas in 16 states. Among the highlights in the third quarter of 2007:
• Through the acquisition of CTC, the Company added approximately 132,000 access lines, 31,000 broadband customers and 51,000 wireless customers in North Carolina in areas adjacent to its existing operations.
• The Company added approximately 47,000 net broadband customers in its legacy and Valor wireline businesses, increasing its broadband customer base to over 830,000. During the quarter, the Company lost approximately 45,000 access lines, or approximately 1 percent of its total access lines at the beginning of the quarter.
• Revenues and sales increased $51.2 million, and operating income increased $34.5 million, as compared to the third quarter of 2006, due in part to the acquisitions of Valor and CTC, and to increases in the broadband customer base.
• The Company increased its cash flows generated from operations to approximately $683.8 million for the nine months ended September 30, 2007, which has been used in part during the year to finance the acquisition of CTC and to pay $357.7 million in dividends to shareholders.
During the remainder of 2007, the Company will continue to face significant challenges resulting from competition in the telecommunications industry and changes in the regulatory environment, including the effects of potential changes to the rules governing universal service and inter-carrier compensation. In addressing competition, the Company will continue to focus its efforts on improving customer service, increasing broadband penetration and expanding its service offerings.
Trend Analysis
The following risk factors and material non-recurring events and transactions could cause the Company's reported financial information to be not necessarily indicative of future operating results or future financial condition.
• As discussed in detail below, the Company's revenues and sales and operating income in future periods will be positively impacted by the addition of approximately 501,000 access lines through the acquisition of Valor in the third quarter of 2006, and by approximately 132,000 access lines acquired from CTC in the third quarter of 2007.
• Wireline revenues and sales are expected to continue to be impacted by future declines in access lines due to increasing competition in the telecommunications industry from cable television providers, wireless communications providers, and providers using other emerging technologies.
• The Company is also exposed to regulatory uncertainty in state and federal Universal Service Fund ("USF") programs. Pending regulatory proceedings and increased receipts of USF monies by wireless carriers could materially reduce the Company's USF revenues.
• The completion of the split off of the Company's directory publishing business, which is anticipated in the fourth quarter of 2007, will result in a reduction in wireline segment revenues due to the elimination of royalties received on sales of advertising in Windstream telephone directories. The Company has agreed to forego these royalty payments for a period of 50 years as part of the split off agreement, and will receive approximately $515.0 million in up-front consideration for the publishing business (See Note 17). The split off of the publishing business will also result in the loss of directory publishing revenues, as discussed below in "Other Operations".
• The Company expects to realize significant cost savings from the integration of the CTC operations in future periods, although there are no assurances these cost savings will be fully achieved.
• The Company has incurred significant non-recurring transaction-related expenses in both 2006 and 2007, as discussed further below in "Restructuring and Other Charges".
• The Company recognized significant increases in interest expense following the spin off from Alltel and merger with Valor in the third quarter of 2006 pursuant to the issuance of debt used to finance the transactions.
The foregoing risk factors and material transactions, as well as other risks and events that could cause Windstream's reported financial information to be not necessarily indicative of future operating results or financial condition, are discussed in more detail under "Risk Factors" in Item 1A and in the notes to the consolidated financial statements in the Financial Supplement included in Windstream's Annual Report on Form 10-K for the year ended December 31, 2006.
Acquisition
On August 31, 2007 Windstream completed the acquisition of CTC in a transaction valued at $585.1 million. Under the terms of the agreement the shareholders of CTC received $31.50 in cash for each of their shares with a total cash payout of $652.2 million. The transaction value also includes a payment of $37.5 million made by Windstream to satisfy CTC's debt obligations, offset by $104.6 million in cash and short-term investments held by CTC. Including $26.4 million in severance and other transaction-related expenses, the total cost of the acquisition was $611.5 million. Windstream financed the transaction using the cash acquired from CTC, $250.0 million in borrowings available under its revolving line of credit, and additional cash on hand. For the period subsequent to the acquisition, the consolidated statement of income reflects interest expense incurred on borrowings from the Company's revolving line of credit.
The premium paid by Windstream in this transaction is attributable to the strategic importance of the CTC acquisition. Through the acquisition, Windstream added approximately 132,000 access lines, 31,000 broadband customers and 51,000 wireless customers, significantly increasing Windstream's presence in North Carolina and providing the opportunity to generate significant operating efficiencies with contiguous Windstream markets. The transaction has increased Windstream's position in these markets where it can leverage its brand and bring significant value to customers by offering competitive bundled services. CTC has broadband availability to 95 percent of its incumbent local exchange carrier ("ILEC") lines, 75 percent of which can offer up to 10Mb speeds.
Pending Transactions
As discussed in Note 17, the Company has entered into an agreement to split off its directory publishing business to Welsh, Carson, Anderson & Stowe ("WCAS") in a transaction currently valued at approximately $515.0 million. As a result of the transaction, the Company will retire approximately 19.6 million shares of its common stock currently held by WCAS, and will retire up to $250.0 million of debt obligations. In return for this consideration, the Company will forego its royalty fee on directories published by WCAS in its service territories for a period of 50 years ("the Publishing Agreement"). This transaction is expected to be completed in the fourth quarter of 2007.
Adoption of Accounting Standards
Windstream adopted Financial Accounting Standards Board Interpretation No. 48 "Accounting for Uncertainty in Income Taxes" ("FIN 48") on January 1, 2007. The adoption of FIN 48 resulted in no impact to either the Company's reserves for uncertain tax positions or to retained earnings. At the adoption date, the Company had approximately $1.3 million of gross unrecognized tax benefits, all of which relate to periods preceding the spin off from Alltel. As of September 30, 2007, the Company had approximately $9.1 million of gross unrecognized tax benefits, of which $1.3 million would affect the Company's effective tax rate if recognized. During the quarter, the Company's unrecognized tax benefits increased a total of $7.8 million with approximately $7.1 million attributable to the acquisition of CTC, and $0.7 million attributable to the Company's recognition of revenue for tax purposes associated with its directory publishing business.
The Company is indemnified in accordance with the Tax Sharing agreement with Alltel dated July 17, 2006 for reserves of approximately $1.3 million for uncertain tax positions that relate to periods preceding the spin off from Alltel. Consequently, a corresponding receivable from Alltel equaling the gross unrecognized tax benefits plus accrued interest expense has been recognized.
Interest and penalties related to uncertain tax positions are recognized in income tax expense. At the adoption date, the Company had accrued approximately $0.2 million of interest expense and penalties related to uncertain tax positions. As of September 30, 2007, the Company had accrued approximately $2.7 million of interest expense and penalties. An increase of approximately $2.3 million during the quarter was attributable to the acquisition of CTC. For the nine months ended September 30, 2007, interest expense recognized related to uncertain tax positions was approximately $0.2 million.
The tax years 2000 - 2006 remain open to examination for the Company's federal tax returns and returns filed in North Carolina. The tax years 2003 - 2006 remain open to examination for the Company's other major state taxing jurisdictions to which it is subject. The Company has identified state tax returns in Arkansas, Florida, Georgia, Kentucky, Nebraska, and Texas as "major" taxing jurisdictions.
The Company estimates that the unrecognized tax benefits will decrease within the next twelve months by approximately $1.4 million in conjunction with the settlement of an IRS examination of CTC for tax years 2000 - 2003. The unrecognized tax benefit relates to a temporary difference in connection with the tax treatment of USF subsidies, and as a result, there will be no impact on the Company's effective tax rate.
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