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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
(MARK ONE)
/X/ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 1997
OR
/ / TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF
THE SECURITIES EXCHANGE ACT OF 1934
COMMISSION FILE NUMBER 0-28262
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AERIAL COMMUNICATIONS, INC.
(Exact name of registrant as specified in its charter)
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<TABLE>
<S> <C>
DELAWARE 39-1706857
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(State or other jurisdiction of (IRS Employer Identification
incorporation or organization) No.)
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8410 WEST BRYN MAWR AVENUE, SUITE 1100, CHICAGO, ILLINOIS 60631
(Address of principal executive offices) (Zip Code)
REGISTRANT'S TELEPHONE NUMBER: (773) 399-4200
Securities registered pursuant to Section 12(b) of the Act: None.
Securities registered pursuant to Section 12(g) of the Act:
Title of each class
---------------------------
Common Shares, $1 par value
-------------------
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section
13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12
months (or for such shorter period that the registrant was required to file such
reports), and (2) has been subject to such filing requirements for the past 90
days.
Yes __X__ No ______
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K.___X___
As of February 27, 1998, the aggregate market value of registrant's Common
Shares held by nonaffiliates was approximately $104 million (based upon the
closing price of the Common Shares on February 27, 1998, of $8 1/2, as reported
by the NASDAQ).
The number of shares outstanding of each of the registrant's classes of
common stock, as of February 27, 1998, is 31,626,997 Common Shares, $1 par
value, and 40,000,000 Series A Common Shares, $1 par value.
DOCUMENTS INCORPORATED BY REFERENCE
Those sections or portions of the registrant's 1997 Annual Report to
Shareholders and of the registrant's Notice of Annual Meeting of Shareholders
and Proxy Statement for its Annual Meeting of Shareholders to be held May 11,
1998, described in the cross reference sheet and table of contents attached
hereto are incorporated by reference into Parts II and III of this report.
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<PAGE>
CROSS REFERENCE SHEET
AND
TABLE OF CONTENTS
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PAGE NUMBER
OR REFERENCE(1)
---------------
Item 1. Business............................................. 3
Item 2. Properties........................................... 13
Item 3. Legal Proceedings.................................... 13
Item 4. Submission of Matters to a Vote of Security
Holders............................................ 13
Item 5. Market for Registrant's Common Equity and Related
Stockholder Matters................................ 14(2)
Item 6. Selected Financial Data.............................. 14(3)
Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations................ 14(4)
Item 7A. Quantitative and Qualitative Disclosure About Market
Risk............................................... 14
Item 8. Financial Statements and Supplementary Data.......... 14(5)
Item 9. Changes in and Disagreements with Accountants on
Accounting and Financial Disclosure................ 14
Item 10. Directors and Executive Officers of the Registrant... 15(6)
Item 11. Executive Compensation............................... 15(7)
Item 12. Security Ownership of Certain Beneficial Owners and
Management......................................... 15(8)
Item 13. Certain Relationships and Related Transactions....... 15(9)
Item 14. Exhibits, Financial Statement Schedules and Reports
on Form 8-K........................................ 16
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(1) Parenthetical references are to information incorporated by reference from
the registrant's Exhibit 13, which includes portions of its Annual Report to
Shareholders for the year ended December 31, 1997 ("Annual Report") and from
the registrant's Notice of Annual Meeting of Shareholders and Proxy
Statement for its Annual Meeting of Shareholders to be held on May 11, 1998
("Proxy Statement").
(2) Annual Report section entitled "Aerial Stock and Dividend Information" and
"Market Price Per Common Share by Quarter."
(3) Annual Report section entitled "Selected Consolidated Financial Data."
(4) Annual Report section entitled "Management's Discussion and Analysis of
Financial Condition and Results of Operations."
(5) Annual Report sections entitled "Consolidated Statements of Operations,"
"Consolidated Statements of Cash Flows," "Consolidated Balance Sheets,"
"Consolidated Statements of Changes in Shareholders' Equity," "Notes to
Consolidated Financial Statements," and "Report of Independent Public
Accountants."
(6) Proxy Statement section entitled "Election of Directors" and "Executive
Officers."
(7) Proxy Statement section entitled "Executive Compensation" except for the
information specified in Item 402 (a) (8) of Regulation S-K under the
Securities Exchange Act of 1934, as amended.
(8) Proxy Statement section entitled "Security Ownership of Certain Beneficial
Owners and Management."
(9) Proxy Statement section entitled "Certain Relationships and Related
Transactions."
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[LOGO]
AERIAL COMMUNICATIONS, INC.
8410 WEST BRYN MAWR AVENUE - SUITE 1100 - CHICAGO, IL 60631
TELEPHONE (773) 399-4200
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PART I
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ITEM 1. BUSINESS
COMPANY
Aerial Communications, Inc. (NASDAQ symbol "AERL" or the "Company" or
"Aerial"), together with its subsidiaries, is a provider of Personal
Communications Services ("PCS") in the Minneapolis, Tampa-St.
Petersburg-Orlando, Houston, Pittsburgh, Kansas City and Columbus Major Trading
Areas ("MTAs") (collectively, the "PCS Markets"). The PCS Markets include
approximately 27.6 million population equivalents ("POPs"). The Company has
constructed networks for its PCS Markets using Global System for Mobile
Communication ("GSM") technology. The Company has commenced service in all its
markets. By year end 1997, the Company had expanded its system coverage to total
approximately 80% of the six MTAs' total population.
The Company was formed in 1991 under Delaware law as a wholly-owned
subsidiary of Telephone and Data Systems, Inc. [AMEX: TDS] and was formerly
named American Portable Telecom, Inc. In November 1996 the Company changed its
name to Aerial Communications, Inc. TDS owned 59,086,000 shares of Common Stock
of the Company at December 31, 1997, representing 82.5% of the combined total of
the Company's outstanding Common and Series A Common Shares and 98.0% of the
voting power.
The Company sold in 1996 its licenses covering the Guam and Alaska Major
Trading Areas for an aggregate pretax gain of $2.6 million.
PCS is the term used to describe the wireless telecommunications services
that are offered by those companies that acquired licenses for radio spectrum
(frequency range 1850-1990 MHz) in the Federal Communications Commission ("FCC")
auctions and are the newest entrants in the wireless telecommunications market.
PCS competes directly with existing cellular telephone, paging and specialized
mobile radio services. The Company believes that PCS providers will be the first
in most markets to offer mass market all-digital mobile networks. In addition,
PCS providers may be among the first to be able to offer mass market wireless
local loop applications, in competition with switched and direct access local
telecommunications services.
The Company's strategic goal is to take full advantage of the potential of
wireless telecommunications. The Company sees an opportunity for significant
growth in the wireless telecommunications market through the shift of existing
wireless usage patterns from applications focused on business use, special
occasions and emergencies to much broader applications for everyday use. The
Company is structured to meet the increasingly competitive challenges of the
wireless telecommunications marketplace, and has a marketing-oriented approach
focused on serving its customers and their needs. Since 1983, the demand for
wireless telecommunications services has grown dramatically as cellular, paging
and other emerging wireless personal communications services have become widely
available and increasingly affordable. Since its introduction in 1983, the
number of
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domestic cellular telephone subscribers, both analog and digital, has grown from
approximately 91,600 in 1984 to an estimated 57 million at March 31, 1998, which
represents U.S. market penetration of approximately 21%.
During 1996 and early 1997, the Company contracted for network equipment,
billing systems, support software and the equipment and services necessary to
launch service. Additionally during this period, the Company completed the
design for its PCS networks, acquired and built out the switching centers
serving each market, leased and built out a National Operations Center, leased
or purchased the cell sites required to launch and commenced zoning and building
the sites. The Columbus MTA launched service on March 27, 1997. The Company's
five remaining MTAs launched service during the second quarter of 1997. Across
all six markets, the Company launched with approximately 600 cell sites in
service. The Company had more than 1,000 cell sites in service by the end of
1997. The coverage of the Company's PCS networks includes the major metropolitan
areas within the PCS Markets, as well as portions of the major highway corridors
extending out from those areas. All of the senior management positions and other
key management positions have been staffed. Key operating and marketing staff
have been put in place in each of the PCS Markets.
In November 1996, the Company entered into a Member Control Agreement
("Agreement") forming a joint venture with Rural Cellular Corporation ("RCC") to
build out certain rural areas covering approximately 530,000 POPs in the
Minneapolis MTA. In 1997 RCC exercised its option in the Agreement to add an
additional 156,000 POPs to the joint venture. The Company has contributed 20 MHz
of its Minneapolis MTA license covering certain territories as defined in the
Agreement in return for a 49% equity interest in the joint venture. RCC will be
responsible for building out the network and for the ongoing operations. It is
anticipated that the joint venture will purchase services such as network
switching from the Company. The network will use GSM technology. The Company
expects to benefit from the joint venture by extending the GSM footprint without
the capital investment required to build out the network.
PROPOSED TDS CORPORATE RESTRUCTURING
In December 1997, Aerial received a proposal from TDS to acquire all of the
issued and outstanding Common Shares of Aerial not already owned by TDS (the
"Aerial Merger"). The offer was made in connection with, and is subject to TDS
shareholder approval of and the effectiveness of, TDS's proposed corporate
restructuring. The Board of Directors of TDS (the "TDS Board") has adopted a
proposal which, if approved by shareholders and implemented by the TDS Board,
would authorize the TDS Board to issue three new classes of common stock and
change the state of incorporation of TDS from Iowa to Delaware (the "Tracking
Stock Proposal"). The three new classes of stock are intended to separately
reflect the performance of TDS's cellular telephone, landline telephone and
personal communications services businesses ("Tracking Stocks").
Under the Tracking Stock Proposal, one of the three new classes of common
stock created by TDS would be designated as Aerial Communications Group Common
Shares (the "Aerial Group Shares"). The Aerial Group Shares, when issued, are
intended to reflect the separate performance of the Aerial Communications Group
(the "Aerial Group"), which includes TDS's interest in Aerial Communications,
Inc.
Subject to the approval of the Tracking Stock Proposal by shareholders, TDS
intends to, among other things, issue Aerial Group Shares in exchange for all of
the Common Shares of Aerial which are not currently owned by TDS, subject to
approval by Aerial's Board of Directors and shareholders.
In January 1998, Aerial's Board of Directors created a special committee of
the Board (the "Special Committee") to review the proposal from TDS. The Special
Committee, consisting of two independent directors of Aerial, has engaged a
financial advisor and legal advisor to assist in reviewing the proposal. The
Special Committee will consider how Aerial should respond to the TDS proposal,
take the steps it deems appropriate to respond to the TDS proposal and, at such
time as it considers it appropriate, report its recommendations to Aerial's
Board of Directors.
Subsequent to shareholder approval of the Tracking Stock Proposal, TDS
intends to terminate certain intercompany agreements between TDS and Aerial.
Thereafter, some or all of the relationships between TDS and Aerial would be
determined solely by methods that management believes to be
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reasonable. Many of such policies would continue the arrangements which
presently exist between TDS and Aerial pursuant to the intercompany agreements,
but TDS would have no contractual obligation to continue such policies after the
intercompany agreements have been terminated. The TDS Board currently intends to
retain future earnings, if any, for the development of the business of the
Aerial Group and does not anticipate paying dividends on the Aerial Group Shares
in the foreseeable future.
On January 5, 1998, an individual who claims to be a holder of Aerial Common
Shares, filed a putative class action complaint on behalf of common stockholders
of the Company in the Court of Chancery of the State of Delaware in New Castle
County. The complaint names as defendants, TDS, the Company and the directors of
TDS and the Company. The complaint alleges a breach of fiduciary duties by the
defendants and seeks to have the Aerial Merger enjoined or, if it is
consummated, to have it rescinded and to recover unspecified damages, fees and
expenses. A virtually identical complaint has been filed by a second individual.
None of the defendants have been served with this complaint. The Company intends
to vigorously defend itself against these lawsuits.
WIRELESS TELECOMMUNICATIONS INDUSTRY
OVERVIEW. Wireless service is currently available using analog or digital
technology. Most wireless services currently transmit voice and data signals
over analog-based networks by varying the amplitude or frequency of one
continuous electronic signal transmitted over a single radio channel. Analog
technology currently has several limitations, including inconsistent service
quality, lack of privacy, limited capacity and less reliability in transferring
data without errors. The Company has chosen GSM, which utilizes a digital
technology, for use in the PCS Markets. Digital systems convert voice or data
signals into a stream of digits that is compressed before transmission, enabling
a single radio channel to carry multiple simultaneous signal transmissions. This
additional capacity, along with improvements in digital protocols, allows
digital-based wireless technologies to offer new and enhanced services, such as
greater call privacy and more robust data transmission features, such as "mobile
office" applications (including facsimile, electronic mail and wireless
connections to computer/data networks, including the Internet).
While digital technology serves generally to reduce transmission
interference relative to analog technology, capacity limitations in the 8 Kb
vocoder cellular digital handsets now deployed by several digital wireless
operators using TDMA technology also cause a perceptible decline in voice
quality. This gap in voice quality has proven to be a significant barrier to
cellular operators attempting to switch their customers from analog to digital
service. Manufacturers have developed enhanced 13 Kb vocoder digital handsets
for both PCS and digital cellular networks using GSM or CDMA technology. These
new handsets are expected to offer digital voice transmission comparable to
wireline quality.
PCS spectrum differs from existing cellular and specialized mobile radio
("SMR") spectrum in three basic ways: frequency, spectrum and geographic
division. PCS networks will operate in a higher frequency range (1850-1990 MHz)
compared to the cellular and SMR frequency (800-900 MHz). PCS is comprised of 30
or 10 MHz spectrum versus 25 MHz spectrum for cellular networks. As a result of
the improved capacity of the infrastructure and large allocation of spectrum in
the A, B and C PCS frequency Blocks, PCS will have more capacity for new
wireless services such as data and video transmission. Finally, the geographic
areas for PCS licenses are divided differently than for cellular licenses. PCS
is segmented among 51 MTAs and 493 Basic Trading Areas ("BTAs") as opposed to
cellular's 306 Metropolitan Statistical Areas ("MSAs") and 428 Rural Service
Areas ("RSAs"). An MTA license generally covers a much larger geographic area
than a BTA, MSA or RSA license.
OPERATION OF WIRELESS NETWORKS. Wireless service areas are divided into
smaller geographic areas called "cells", each of which contains an antenna and a
base transceiver station ("BTS") consisting of a low-power transmitter, a
receiver and signaling equipment. The cells are typically configured on a grid
in a honeycomb-like pattern, although terrain factors (including natural and
man-made obstructions) and signal coverage patterns may result in irregularly
shaped cells and overlaps or gaps in coverage. The BTS in each cell is connected
by microwave, fiber optic cable or telephone wires to a switching office
("mobile switching center" or "MSC"). The MSC controls the operation of the
wireless telephone network for its entire service area, performing inter-BTS
hand-offs, managing call delivery to handsets, allocating calls among the cells
within the network and connecting calls to local landline telephone systems or
to long-distance telephone carriers. Wireless service providers have
interconnection
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agreements with various local exchange carriers and interexchange carriers,
thereby integrating the wireless telephone network with landline
telecommunications systems. Because two-way wireless networks are fully
interconnected with landline telephone networks and long-distance networks,
customers can receive and originate both local and long-distance calls from
their wireless telephones.
The signal strength of a transmission between a handset and a BTS antenna
declines as the handset moves away from the BTS antenna. The MSC and the BTSs
monitor the signal strength of calls in process. When the signal strength of a
call declines to a predetermined level, the MSC may "hand off" the call to
another BTS that can establish a stronger signal with the handset. If a handset
leaves the service area of the wireless service provider, the call is
disconnected unless an appropriate technical interface is established to hand
off the call to an adjacent service provider's system.
Operators of wireless networks frequently agree to provide service to
customers from other compatible networks who are temporarily located or
traveling through the operator's service area. Such customers are called
"roamers." Agreements among network operators allocate revenues received from
roamers. With automatic roaming, wireless customers are preregistered in certain
networks outside their home service area and receive service automatically while
they are roaming. Other roaming features permit calls to a customer to follow
the customer into different networks, so that the customer will continue to
receive calls in a different network just as if the customer were within his or
her service area.
Wireless customers generally are charged separately for monthly access, air
time, long-distance calls and custom-calling features (although custom-calling
features may be included in monthly access charges in certain pricing plans).
Wireless network operators pay fees to local exchange and long-distance
telephone companies for access to their networks and toll charges based on
standard or negotiated rates. When wireless operators provide service to roamers
from other networks, they generally charge roamer air-time usage rates, which
usually are higher than standard air-time usage rates for their own customers,
and additionally may charge daily access fees. Special, discounted rate roaming
arrangements, often between neighboring operators who wish to stimulate usage in
their respective territories, provide for reduced roaming fees and no daily
access fees.
TECHNOLOGY
With GSM technology, the Company offers easy-to-use, interactive menu-driven
phones, and advanced features such as caller identification and a smart card, as
well as more complex features such as text messaging, which allows the GSM
handset to function as a two-way messaging device. In the future, the Company
intends to increasingly emphasize services which are expected to increase the
size and scope of the wireless market, such as wireless data and information
services as well as wireless local loop services. The Company anticipates that
PCS will ultimately offer a competitive alternative to wireline telephone
service as PCS networks are constructed and PCS operators form strategic
alliances.
GSM is not compatible with other PCS or cellular technologies. However,
compatibility can be achieved through the use of handsets that support multiple
technologies. The Company expects that compatibility between GSM and the
existing analog cellular systems will be achieved with the use of dual-mode
handsets. Dual-mode handsets are expected to be available in 1998. Because
analog cellular service is available nationwide, the Company expects that PCS
customers will be able to roam into service areas served by analog cellular
providers.
To date, fifteen North American PCS companies are providing commercial GSM
service. GSM committed providers in the U.S. have licenses to cover
approximately 260 million POPs (representing approximately 98% of the population
of the United States) and approximately 25 million POPs in Canada, although
their can be no assurance that all the licensees will build-out their licensed
territory. GSM systems are currently in commercial operation in over 700 North
American cities with more than 1.5 million customers. The Company anticipates
that its customers will be able to roam substantially throughout the United
States, either on other GSM-based PCS networks or by using dual-mode handsets
that can also be used on existing cellular networks.
The Company is a member of the North American GSM Alliance LLC ("GSM
Alliance"), an all-digital wireless PCS network of U.S. and Canadian carriers.
The GSM Alliance was established to create a national network and develop
seamless wireless communications for customers, whether at home,
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away or abroad. The GSM Alliance's collaborative efforts focus on serving the
wireless customer efficiently by addressing the areas of roaming, customer care,
national distribution and data communications. The Company is also a part of the
GSM North America consortium, which is the North American interest group for the
GSM MoU Association. Formed in 1995, GSM North America brings together service
providers and equipment manufacturers to identify and resolve issues related to
making GSM the premier PCS digital technology.
SOURCES OF EQUIPMENT
The Company does not manufacture any of the GSM network equipment, handsets
or accessories ("equipment") used or anticipated to be used in its operations.
The equipment the Company uses or anticipates to use is available from multiple
sources, and the Company anticipates such equipment will continue to be
available to the Company in the foreseeable future, consistent with normal
manufacturing and delivery lead times. As GSM uses an open system architecture,
and due to the fact that GSM has well-developed features, software systems and
equipment that are available "off the shelf", the Company is able to design its
GSM networks and systems without being dependent upon any single manufacturing
source. Nokia Telecommunications Inc. has been the Company's sole supplier of
digital radio channel and switching infrastructure equipment during the initial
build-out of its PCS networks. The Company's current handset vendors are Nokia
Mobile Phones, Inc., Ericsson Inc., and Mitsubishi Wireless Communications, Inc.
PRODUCTS AND SERVICES
The Company offers coverage in those areas of the PCS Markets where most of
the population lives and works. Subsequent construction of its PCS networks will
provide coverage which, in combination with roaming services as described above,
is competitive with that of current cellular operators. The Company provides
roaming capabilities through agreements with other GSM and cellular operators.
The Company's two primary sources of revenues are similar to those available
to other cellular system providers. Service revenue primarily consists of
charges for access, airtime and value-added services provided to the Company's
retail customers who use the network operated by the Company, and charges for
long-distance calls made on the Company's systems. Equipment sales revenue
consists of the sale of handsets and related accessories to retailers,
independent agents and end user customers. At December 31, 1997, the Company had
125,000 customers. Service revenues and equipment sales revenues totaled $32.3
million and $23.6 million, respectively, for the year ended December 31, 1997.
The Company provides the following services and features:
THE SMART CARD. GSM technology employs a Smart Card which contains a
microchip containing detailed information about a customer's service profile.
The Smart Card allows the Company to initiate services or change a customer's
service package from a remote location. The Smart Card also allows customers to
roam onto other participating GSM-based networks by using their cards in
handsets compatible with the local network.
FEATURE-RICH HANDSETS. As part of its basic service package, the Company
provides easy-to-use, interactive menu-driven phones that enable customers to
utilize the features available in a GSM network. These handsets primarily use
words and easy-to-use menus rather than numeric codes to operate handset
functions such as call-forwarding, call-waiting and text messaging.
SHORT TEXT MESSAGING. GSM technology allows for the capability to send and
receive short text messages, similar to two-way radio paging services. This
service allows the Company to offer a quicker and less expensive form of
wireless communication when a full conversation is not necessary.
ENHANCED SECURITY. The Company's service provides greater security from
eavesdropping and cloning than existing wireless service. Greater conversation
security is provided by the encryption code of the digital GSM signal. Greater
fraud protection is provided because GSM handsets require the use of a Smart
Card with a sophisticated authentication scheme, the replication of which is
virtually impossible.
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As the market for wireless telecommunications services continues to develop,
the Company expects to offer advanced wireless applications such as mobile data
services, wireless private branch exchange applications, wireless local loop
services and other individually customized wireless products and services.
MARKETING AND DISTRIBUTION
The Company's marketing objective is to create demand for its PCS service by
clearly differentiating its service offerings. The Company believes the strength
of its marketing efforts will be a key contributor to its success. The Company
has developed overall marketing strategies as well as certain, specific local
marketing strategies for each PCS Market.
The Company's mass marketing efforts emphasize the value of the Company's
high-quality, innovative services and are supported by heavily promoting the
Aerial brand name. This is supported by a substantial advertising program.
The Company offers its services and products through traditional cellular
sales channels as well as through new, lower cost channels which increase the
quality of the typical sale. The Company utilizes traditional sales channels
which include mass merchandisers and retail outlets, company retail stores,
sales agents and a direct sales force. National distributors include Best Buy,
Circuit City, Office Depot, Office Max and Radio Shack. The Company currently
also distributes its services and products through over 50 company retail
locations (mall stores, strip mall stores and kiosks). Based in part upon the
remote activation feature of the GSM Smart Card, the Company also intends to
develop distribution innovations such as simplified retail sales processes and
lower-cost channels which include inbound telesales, affinity marketing
programs, and via the Internet.
THE COMPANY'S PCS MARKETS
The PCS Markets cover large areas with attractive demographic
characteristics including growing populations, high population densities,
favorable commuting patterns, high median household incomes and favorable
business climates. The Company believes the geographic diversity of the PCS
Markets mitigates adverse consequences which may result from an economic
slowdown in one particular region.
COMPETITION
The wireless telecommunications industry is experiencing significant
technological change, as evidenced by the increasing pace of digital upgrades to
existing analog cellular networks, evolving industry standards, ongoing
improvements in the capacity and quality of digital technology, shorter
development cycles for new products and enhancements and changes in end-user
requirements and preferences. Accordingly, the Company expects competition in
the wireless telecommunications business to be dynamic and intense as a result
of the entrance of new competitors and the development of new technologies,
products and services.
The Company will compete directly with up to five other PCS providers in
each of its PCS Markets. The other successful bidders in the FCC's broadband
Block A and Block B PCS auction in each of the six PCS Markets were PCS PrimeCo
(Houston and Tampa-St. Petersburg-Orlando), Sprint Spectrum (Minneapolis,
Pittsburgh and Kansas City) and AT&T Wireless Services, Inc. (Columbus). The
Company also expects that existing cellular providers in the PCS Markets, most
of which have an infrastructure in place and have been operational for a number
of years, will upgrade their networks to provide comparable services in
competition with the Company. Principal cellular providers in the PCS Markets
are AT&T Wireless Services, Inc., BellSouth Mobility, Inc., GTE Mobile
Communications Corporation, AirTouch Communications, Inc., Southwestern Bell,
Bell Atlantic-NYNEX Mobile and Ameritech Cellular. Additionally, the Company
competes with specialized mobile radio service ("SMRS") provider Nextel
Communications, Inc. in each of its six PCS Markets.
The Company also expects to compete with other communications technologies
that now exist, such as paging, enhanced specialized mobile radio service
("ESMRS") and global satellite networks, and expects to compete with cellular
and PCS resellers. In the future, cellular service and PCS also will compete
more directly with traditional landline telephone service providers and with
cable operators who expand into the offering of traditional communications
services over their cable systems. In addition, the Company may face competition
from technologies that may be introduced in the future.
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All of such competition is expected to be intense. There can be no assurance
that the Company will be able to compete successfully in this environment or
that new technologies and products that are more commercially effective than the
Company's technologies and products will not be developed. In addition, many of
the Company's competitors have substantially greater financial, technical,
marketing, sales and distribution resources than those of the Company and have
significantly greater experience than the Company in testing new or improved
telecommunications products and services and obtaining regulatory approvals.
Some competitors are expected to market other services, such as cable television
access, with their wireless telecommunications service offerings. Several of the
Company's competitors are operating, or planning to operate, through joint
ventures and affiliation arrangements, wireless telecommunications networks that
cover most of the United States.
Handsets used for GSM-based PCS networks ordinarily will not be compatible
with cellular systems, and vice versa. The Company expects dual-mode handsets to
be available in 1998, which will permit its customers to roam by using the
existing cellular wireless network in markets where GSM service is not
available. Until then, this lack of interoperability may impede the Company's
ability to attract current cellular customers or potential new wireless
communication customers who desire the ability to access wireless service where
GSM service is not available.
The Company anticipates that market prices for two-way wireless services
generally will decline in the future based on increased competition. The Company
will compete to attract and retain customers principally on the basis of
services and enhancements, its customer service, the size and location of its
service areas and pricing. The Company's ability to compete successfully also
will depend, in part, on its ability to anticipate and respond to various
competitive factors affecting the industry, including new services that may be
introduced, changes in consumer preferences, demographic trends, economic
conditions and discount pricing strategies by competitors, which could adversely
affect the Company's operating margins.
REGULATION
REGULATORY ENVIRONMENT. The FCC regulates the licensing and, to lesser
degrees, the construction, operation and acquisition of wireless
telecommunications systems in the United States pursuant to the Communications
Act of 1934, as amended, and the rules and policies promulgated by the FCC
thereunder (the "Communications Act"). Under the Communications Act, the FCC is
authorized to establish regulations governing the interconnection of PCS
networks with wireline and other wireless carriers, to grant or deny license
renewals and applications for transfer of control or assignment of PCS licenses,
and to impose fines and forfeitures for any violations of the Communications
Act.
In addition, the Telecommunications Act of 1996 (the "1996 Act"), which
amended the Communications Act, mandates significant changes in existing
telecommunications rules and policies and, with respect to wireless services, to
promote competition, to ensure the availability of wireless services in all
parts of the nation and to streamline regulations of the wireless
telecommunications industry to remove regulatory burdens as competition
develops. The FCC promulgated and continues to promulgate rules governing the
operation of wireless operators, licensing (including renewal of licenses) and
technical standards for the provision of PCS services under the Communications
Act, and is implementing the legislative objectives of the 1996 Act, as
discussed below.
PCS LICENSING. The FCC established PCS service areas in the United States
and its possessions and territories based upon Rand McNally's market definition
of 51 MTAs comprised of 493 smaller BTAs. Each MTA consists of at least two
BTAs.
The FCC has allocated 120 MHz of radio spectrum in the 2 GHz band for
licensed broadband PCS services. The FCC divided the 120 MHz of spectrum into
six individual blocks, each of which is allocated to serve either MTAs or BTAs.
The spectrum allocation includes two 30 MHz blocks ("A" and "B" Blocks) licensed
for each of the 51 MTAs, one 30 MHz block ("C" Block) licensed for each of the
493 BTAs, and three 10 MHz blocks ("D," "E" and "F" Blocks) licensed for each of
the 493 BTAs. A PCS license has been awarded for each MTA and BTA in every
block, for a total of more than 2,000 licenses. This means that in any PCS
service area as many as six licensees could be operating separate PCS networks.
Under
9
<PAGE>
the FCC's rules, a broadband PCS licensee may own combinations of licenses with
total aggregate spectrum coverage of up to 45 MHz in a single geographic area.
The FCC adopted comprehensive rules that outlined the bidding process, described
the bidding application and payment process, established penalties for certain
bid withdrawals, default or disqualification and established regulatory
safeguards. Several auction winners have filed for bankruptcy.
On November 9, 1995, in CINCINNATI BELL TELEPHONE CO. V. FCC (Case No.
94-3701/4113), the United States Court of Appeals for the Sixth Circuit granted
two petitions for review of an FCC order that had barred certain common
ownership of cellular and PCS interests in the same market, and remanded the
case to the FCC for further proceedings. Neither of the two petitioners had been
barred by cross interests from applying for any of the authorizations the FCC
later granted to the Company. The Company is watching the FCC proceedings
closely.
The grants of licenses to the Company were conditioned upon timely
compliance with the FCC's build-out requirements, I.E., coverage of one-third of
the population of a PCS market within five years of initial license grant and
coverage of two-thirds of that population within ten years. As noted elsewhere
in this document, the Company is in compliance with this requirement as of the
present time in each of its markets.
The FCC also imposes a requirement that all licensees register and obtain
FCC registration numbers for all of its antenna towers in areas which require
prior Federal Aviation Administration ("FAA") clearance. The Company has
complied with and continues to comply with registration requirements.
The FCC licenses granted to the Company are issued for a ten-year period
expiring June 23, 2005, and may be renewed. In the event challengers file
competing applications in response to any of the Company's renewal filings, the
FCC has rules and policies providing that the application of the licensee
seeking renewal will be granted and the application of the challenger will not
be considered in the event that the broadband PCS licensee involved has (a)
provided "substantial" performance, which is defined as "sound, favorable and
substantially above a level of mediocre service just minimally justifying
renewal" and (b) substantially complied with FCC rules, policies and the
Communications Act. Although the Company is unaware of any circumstances which
would prevent the approval of any future renewal applications, there can be no
assurance that the Company's licenses will be renewed by the FCC in the future.
Moreover, although revocation and involuntary modification of licenses are
extraordinary regulatory measures, the FCC has the authority to restrict the
operation of licensed facilities or revoke or modify licenses.
The FCC has proceedings in process which could open up other frequency bands
for wireless telecommunications and PCS-like services. There can be no assurance
that such proceedings will not result in additional wireless competition.
In addition, there are citizenship requirements, assignment requirements and
other federal rules and policies which may affect the business of the Company.
RECENT EVENTS. There are certain regulatory proceedings currently pending
before the FCC which are of particular importance to the broadband PCS industry.
In one proceeding, the FCC has imposed new "enhanced 911" regulations in
broadband PCS systems to determine the precise location of the person making the
emergency call. The new rules require broadband PCS providers to work with local
public safety officials to process 911 calls, including those made from mobile
telephones not registered with the broadband PCS provider, and to meet phased
deadlines for implementing these capabilities.
The FCC is expected to give the telecommunications industry guidance as to
the implementation of the Communications Assistance for Law Enforcement Act
("CALEA"). Due to late development of standards and law enforcement
requirements, there is risk that the industry, as a whole, and the Company, in
particular, may not be able to meet statutory implementation deadlines with the
possibility of financial penalties. The Company is working with law enforcement
agencies through industry trade associations to extend the implementation
deadlines in order to reach closure with law enforcement representatives on
technical and reimbursement issues.
10
<PAGE>
The FCC has adopted a limited expansion of the obligation of cellular
carriers to serve the subscribers of broadband PCS providers, among others, even
though the subscribers involved have no pre-existing service relationship with
that carrier. Under these new policies, broadband PCS providers may offer their
subscribers handsets which are capable of operating over broadband PCS and
cellular networks so that when their subscribers are out of range of broadband
PCS networks, they will be able to obtain non-automatic access to cellular
networks. The FCC expects that implementation of these roaming capabilities will
promote competition between broadband PCS and cellular service providers.
The FCC has adopted requirements which will make it possible for subscribers
to retain their existing telephone numbers when they switch from one service
provider to another. This numbering portability will include switching between
local exchange carrier ("LEC") and other wireline providers, between wireless
service providers and between LEC/wireline and wireless providers. LECs have
implementation deadlines by the end of 1998. Broadband PCS, cellular and certain
other wireless providers have phased implementation deadlines in 1998 and 1999.
Beginning in October 1997, broadband PCS systems, which previously were
"categorically excluded" from having to evaluate their facilities to ensure
their compliance with federal "radio frequency" ("RF") radiation requirements,
were made subject to those requirements. After October 1997, all new broadband
PCS facilities must be in compliance when they are brought into service.
The FCC has been implementing the requirements of the 1996 Act. The 1996 Act
provides that implementing its legislative objectives will be the task of the
FCC, the state public utilities commissions and a Federal-State Joint Board.
Much of this implementation has been proceeding in numerous, concurrent
proceedings with aggressive deadlines. Several of these proceedings have been
appealed to courts of review. The Company cannot predict the full extent and
nature of developments of the 1996 Act , which will depend, in part, upon
interrelationships among state and federal regulators.
The primary purpose and effect of the new law is to open all
telecommunications markets to competition--including local telephone service.
The 1996 Act makes most direct or indirect state and local barriers to
competition unlawful. It directs the FCC to preempt all inconsistent state and
local laws and regulations, after notice and comment proceedings. It also
enables electric and other utilities to engage in telecommunications service
through qualifying subsidiaries.
Only narrow powers over competitive entry are left to state and local
authorities. Each state retains the power to impose competitively neutral
requirements that are consistent with the 1996 Act's universal service provision
and necessary for universal services, public safety and welfare, continued
service quality and consumer rights. While a state may not impose requirements
that effectively function as barriers to entry, it retains limited authority to
regulate certain competitive practices of state and local carriers.
Since enactment, the FCC has adopted orders implementing the local
competition provisions of the 1996 Act. The FCC found that broadband PCS and
certain other wireless providers that are entitled to reciprocal compensation
from LECs for exchange of traffic may not be charged for LEC-originated traffic
or for code opening/per-number fees, and may obtain LEC interconnection subject
to the terms of the 1996 Act. Appeals were taken to the United States Court of
Appeals for the Eighth Circuit from certain positions of these FCC orders by
numerous parties alleging that the FCC has exceeded its statutory mandate, among
other matters. On July 18, 1997, the Eighth Circuit vacated the FCC's rules
prescribing interim rates for reciprocal compensation because it has held that
the 1996 Act requires that rate issues are to be decided by the states. It
upheld the preemptive authority of the FCC to order LECs to interconnect with
broadband PCS and other wireless providers and to issue rules relating to
certain terms of interconnection between LECs and such providers.
The 1996 Act establishes principles and a process for implementing a
modified "universal service" policy. This policy seeks nationwide, affordable
service and access to advanced telecommunications and information services. It
calls for reasonably comparable urban and rural rates and services. The 1996 Act
also requires universal service to schools, libraries and rural health
facilities at discounted rates. In a series of orders adopted in 1997, the FCC
established universal service support mechanisms
11
<PAGE>
which require telecommunications providers, including all wireless carriers, to
contribute. The Company has made the required Universal Service Worksheet
filings and expects to make the required periodic payments starting in the first
quarter of 1998.
STATE AND LOCAL REGULATION. The scope of state and local regulatory
authorities covers such matters as the terms and conditions of interconnection
between LECs and wireless carriers with respect to intrastate services, customer
billing information and practices, billing disputes, other consumer protection
matters, facilities construction issues and transfers of control, among other
matters. In these areas, particularly the terms and conditions of
interconnection between LECs and wireless providers, the FCC and state
regulatory authorities share regulatory responsibilities with respect to
interstate and intrastate issues, respectively. Of concern is the trend of
certain state and local regulatory authorities to expand their scope of
regulation and to increase taxes, fees, assessments and service mandates on
wireless operators. The direct and indirect burden of these trends will have an
impact on the Company's operating costs. The Company is challenging all such
regulatory developments, of significance, either directly or through trade
associations.
The FCC has pending numerous petitions for pre-emption of state and local
regulations which allege such regulations prohibit or impair the provision of
interstate or intrastate telecommunications services. It has also requested
public comment on a petition requesting pre-emption of moratoria imposed by
state and local governments on siting of telecommunications facilities, the
imposition of state taxes on the gross receipts of Commercial Mobile Radio
Service ("CMRS") providers and other proposed state taxes based on the asset
value of CMRS licenses awarded by the FCC. The Company has been actively
involved in educating state and local regulatory and zoning authorities as to
the prohibitions in the 1996 Act against the creation of unreasonable and
discriminatory zoning, taxation or other barriers to new wireless providers.
Several lawsuits have been filed on behalf of the Company to protect its rights
under the 1996 Act for zoning of antenna siting.
The FCC is required to forbear from applying any statutory or regulatory
provision that is not necessary to keep telecommunications rates and terms
reasonable or to protect consumers. A state may not apply a statutory or
regulatory provision that the FCC decides to forbear from applying. In addition,
the FCC must review its telecommunications regulations every two years and
change any that are no longer necessary.
The Company has been and intends to remain an active participant in
proceedings before the FCC and before state regulatory and zoning authorities.
Proceedings with respect to the foregoing policy issues before the FCC and state
regulatory authorities could have significant impacts on the competitive market
structure among wireless providers and the relationships between wireless
providers and other carriers. The Company is unable to predict the scope, pace,
or financial impact of policy changes which could be adopted in these
proceedings.
SEASONALITY
Management believes there exists within the wireless telecommunications
industry a seasonality in both revenues, which tend to be greater in the fourth
quarter due to customer growth, and operating expenses, which tend to be higher
in the fourth quarter due to increased marketing activities and customer growth,
which may cause operating income (loss) to vary from quarter to quarter.
EMPLOYEES
As of December 31, 1997, the Company had a total of 1,414 employees. None of
the Company's employees is represented by a labor union. The Company considers
its relations with its employees to be good.
12
<PAGE>
PRIVATE SECURITIES LITIGATION REFORM ACT OF
1995 SAFE HARBOR CAUTIONARY STATEMENT
THIS FORM 10-K CONTAINS "FORWARD-LOOKING" STATEMENTS, AS DEFINED IN THE
PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995, THAT ARE BASED ON CURRENT
EXPECTATIONS, ESTIMATES AND PROJECTIONS. STATEMENTS THAT ARE NOT HISTORICAL
FACTS, INCLUDING STATEMENTS ABOUT THE COMPANY'S BELIEFS AND EXPECTATIONS ARE
FORWARD-LOOKING STATEMENTS. THESE STATEMENTS CONTAIN POTENTIAL RISKS AND
UNCERTAINTIES AND, THEREFORE, ACTUAL RESULTS MAY DIFFER MATERIALLY. THE COMPANY
UNDERTAKES NO OBLIGATION TO UPDATE PUBLICLY ANY FORWARD-LOOKING STATEMENTS
WHETHER AS A RESULT OF NEW INFORMATION, FUTURE EVENTS OR OTHERWISE.
IMPORTANT FACTORS THAT MAY AFFECT THESE PROJECTIONS OR EXPECTATIONS INCLUDE,
BUT ARE NOT LIMITED TO: CHANGES IN THE OVERALL ECONOMY; CHANGES IN COMPETITION
IN THE COMPANY'S MARKETS; ADVANCES IN TELECOMMUNICATIONS TECHNOLOGY; CHANGES IN
THE TELECOMMUNICATIONS REGULATORY ENVIRONMENT; PENDING AND FUTURE LITIGATION;
AVAILABILITY OF FUTURE FINANCING; AND UNANTICIPATED CHANGES IN GROWTH IN PCS
CUSTOMERS, PENETRATION RATES, CHURN RATES AND THE MIX OF PRODUCTS AND SERVICES
OFFERED IN THE COMPANY'S MARKETS. READERS SHOULD EVALUATE ANY STATEMENTS IN
LIGHT OF THESE IMPORTANT FACTORS.
ITEM 2. PROPERTIES
The Company currently leases office and warehouse space in each of its PCS
Markets as well as office space for its corporate headquarters in Chicago and
National Operations Center in Tampa. The Company also has leases for its retail
store locations and leases certain cell sites for its digital radio channel (or
"BTS") equipment on land, buildings and other fixed structures at various
rentals for various terms. As of December 31, 1997, the Company had 1,044 cell
sites in service across all its PCS markets. The leases provide for monthly
rentals at market rates and expire, subject to renewal options, on various dates
through 2021. The Company owns all five of its switch site buildings serving
each of the PCS Markets (the Pittsburgh switch also serves the Columbus market).
ITEM 3. LEGAL PROCEEDINGS
In addition to litigation discussed above under Item 1. Business -- Proposed
TDS Corporate Restructuring, the Company is involved from time to time in
routine legal and regulatory proceedings incidental to its business. The Company
does not believe that such proceedings will have, individually or in the
aggregate, a material adverse effect on the Company.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matter was submitted to a vote of securities holders during the fourth
quarter of fiscal year 1997.
13
<PAGE>
- - --------------------------------------------------------------------------------
PART II
- - --------------------------------------------------------------------------------
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
Incorporated herein by reference from Exhibit 13, Annual Report section
entitled "Aerial Stock and Dividend Information" and "Market Price Per Common
Share By Quarter."
ITEM 6. SELECTED FINANCIAL DATA
Incorporated herein by reference from Exhibit 13, Annual Report section
entitled "Selected Consolidated Financial Data."
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
Incorporated herein by reference from Exhibit 13, Annual Report section
entitled "Management's Discussion and Analysis of Financial Condition and
Results of Operations."
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Not applicable
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Incorporated herein by reference from Exhibit 13, Annual Report sections
entitled "Consolidated Statements of Operations," "Consolidated Statements of
Cash Flows," "Consolidated Balance Sheets," "Consolidated Statements of Changes
in Shareholders' Equity," "Notes to Consolidated Financial Statements" and
"Report of Independent Public Accountants."
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
14
<PAGE>
- - --------------------------------------------------------------------------------
PART III
- - --------------------------------------------------------------------------------
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Incorporated herein by reference from Proxy Statement sections entitled
"Election of Directors" and "Executive Officers."
ITEM 11. EXECUTIVE COMPENSATION
Incorporated herein by reference from Proxy Statement section entitled
"Executive Compensation" except for the information specified in item 402 (a)
(8) of Regulation S-K under the Securities Exchange Act of 1934, as amended.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
Incorporated herein by reference from Proxy Statement section entitled
"Security Ownership of Certain Beneficial Owners and Management."
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Incorporated herein by reference from Proxy Statement section entitled
"Certain Relationships and Related Transactions."
15
<PAGE>
- - --------------------------------------------------------------------------------
PART IV
- - --------------------------------------------------------------------------------
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
The following documents are filed as a part of this report:
(a) (1) Financial Statements
<TABLE>
<S> <C>
Consolidated Statements of Operations.............................. Annual Report*
Consolidated Statements of Cash Flows.............................. Annual Report*
Consolidated Balance Sheets........................................ Annual Report*
Consolidated Statements of Changes in Shareholders' Equity......... Annual Report*
Notes to Consolidated Financial Statements......................... Annual Report*
Report of Independent Public Accountants........................... Annual Report*
</TABLE>
- - ---------
* Incorporated herein by reference from Exhibit 13.
(2) Schedules
<TABLE>
<CAPTION>
LOCATION
--------
<S> <C> <C>
Report of Independent Public Accountants on Financial Statement Schedule.......... page 17
II. Valuation and Qualifying Accounts for each of the Three Years in the Period
Ended December 31, 1997.................................................... page 18
All other schedules have been omitted because they are not applicable or not
required or because the required information is shown in the financial
statements or notes thereto.
</TABLE>
(3) Exhibits
The exhibits set forth in the accompanying Index to Exhibits are filed as a part
of this Report. The following is a list of each management contract or
compensatory plan or arrangement required to be filed as an exhibit to this form
pursuant to Item 14 (c) of this Report.
EXHIBIT
NUMBER DESCRIPTION
- - -------- ----------------------------------------------------------------------
10.14 Aerial Communications, Inc. 1996 Long-Term Incentive Plan, as amended,
is hereby incorporated by reference to Exhibit 10.14 to the Company's
Annual Report on Form 10-K for the year ended December 31, 1996.
10.15 Description of Terms of Signing Letter with Donald W. Warkentin dated
June 7, 1995, is hereby incorporated by reference to Exhibit 10.15 to
the Company's Annual Report on Form 10-K for the year ended December
31, 1996.
10.16 Aerial Communications, Inc. Compensation Plan for Non-Employee
Directors is hereby incorporated by reference to Exhibit 99.1 to the
Company's Form S-8 dated May 2, 1997.
10.17 Description of Supplemental Benefit Agreement with Donald W. Warkentin
dated August 2, 1996.
(b) Reports on Form 8-K filed during the quarter ended December 31, 1997.
The Company filed on December 29, 1997, a Current Report on Form 8-K dated
December 18, 1997, for the purpose of filing the news release dated December 18,
1997, concerning the Company's announcement that it had received an offer from
its parent company, Telephone and Data Systems, Inc. [AMEX: TDS], to acquire all
of the issued and outstanding Common Shares of the Company not already owned by
TDS. The offer was made in connection with, and is subject to TDS shareholder
approval of and the effectiveness of, TDS's announced corporate restructuring.
16
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
ON FINANCIAL STATEMENT SCHEDULE
To the Shareholders and Board of Directors of
AERIAL COMMUNICATIONS, INC.:
We have audited in accordance with generally accepted auditing standards,
the consolidated financial statements included in the Aerial Communications,
Inc. and Subsidiaries Annual Report to Shareholders incorporated by reference in
this Form 10-K, and have issued our report thereon dated January 28, 1998
(except with respect to the matters discussed in Note 9, as to which the date is
February 5, 1998). Our audits were made for the purpose of forming an opinion on
the basic consolidated financial statements taken as a whole. The financial
statement schedule listed in Item 14 (a) (2) is the responsibility of the
Company's management and is presented for purposes of complying with the
Securities and Exchange Commission's rules and is not part of the basic
consolidated financial statements. This financial statement schedule has been
subjected to the auditing procedures applied in the audits of the basic
consolidated financial statements and, in our opinion, fairly states in all
material respects the financial data required to be set forth therein in
relation to the basic consolidated financial statements taken as a whole.
ARTHUR ANDERSEN LLP
Chicago, Illinois
January 28, 1998
(Except with respect to the matters discussed in Note 9,
as to which the date is February 5, 1998)
17
<PAGE>
AERIAL COMMUNICATIONS, INC. AND SUBSIDIARIES
SCHEDULE II--VALUATION AND QUALIFYING ACCOUNTS
FOR THE THREE YEARS ENDED DECEMBER 31, 1997
(DOLLARS IN THOUSANDS)
- - --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
COLUMN C
COLUMN B ADDITIONS COLUMN E
BALANCE AT CHARGED TO BALANCE AT
COLUMN A BEGINNING OF COSTS AND COLUMN D END OF
DESCRIPTION PERIOD EXPENSES DEDUCTIONS PERIOD
- - ------------------------------------------------------------------------ ------------ ------------ ----------- ------------
<S> <C> <C> <C> <C>
FOR THE YEAR ENDED DECEMBER 31, 1997
Valuation Allowance for Deferred Tax Assets........................... $ 15,029 $ 114,383 $ -- $ 129,412
Allowance for Doubtful Accounts deducted from Accounts Receivable..... -- 7,252 -- 7,252
FOR THE YEAR ENDED DECEMBER 31, 1996
Valuation Allowance for Deferred Tax Assets........................... 1,291 13,738 -- 15,029
FOR THE YEAR ENDED DECEMBER 31, 1995
Valuation Allowance for Deferred Tax Assets........................... $ 170 $ 1,121 $ -- $ 1,291
</TABLE>
18
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
<TABLE>
<S> <C> <C>
AERIAL COMMUNICATIONS, INC.
By:
------------------------------------------
Donald W. Warkentin
PRESIDENT (CHIEF EXECUTIVE OFFICER)
By:
------------------------------------------
J. Clarke Smith
VICE PRESIDENT-FINANCE AND
ADMINISTRATION AND TREASURER
(CHIEF FINANCIAL OFFICER)
By:
------------------------------------------
B. Scott Dailey
CONTROLLER (PRINCIPAL ACCOUNTING OFFICER)
</TABLE>
Dated: March 26, 1998
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.
<TABLE>
<CAPTION>
SIGNATURE TITLE(S) DATE
- - -------------------------------------------------- ------------------------------ ---------------------
<S> <C> <C>
/s/ DONALD W. WARKENTIN DIRECTOR March 26, 1998
----------------------------------
Donald W. Warkentin
/s/ J. CLARKE SMITH DIRECTOR March 26, 1998
----------------------------------
J. Clarke Smith
/s/ LEROY T. CARLSON, JR. CHAIRMAN AND DIRECTOR March 26, 1998
----------------------------------
LeRoy T. Carlson, Jr.
/s/ LEROY T. CARLSON DIRECTOR March 26, 1998
----------------------------------
LeRoy T. Carlson
/s/ MURRAY L. SWANSON DIRECTOR March 26, 1998
----------------------------------
Murray L. Swanson
/s/ RUDOLPH E. HORNACEK DIRECTOR March 26, 1998
----------------------------------
Rudolph E. Hornacek
/s/ JAMES BARR III DIRECTOR March 26, 1998
----------------------------------
James Barr III
/s/ WALTER C.D. CARLSON DIRECTOR March 26, 1998
----------------------------------
Walter C.D. Carlson
/s/ JOHN D. FOSTER DIRECTOR March 26, 1998
----------------------------------
John D. Foster
/s/ THOMAS W. WILSON, JR. DIRECTOR March 26, 1998
----------------------------------
Thomas W. Wilson, Jr.
</TABLE>
19
<PAGE>
- - --------------------------------------------------------------------------------
EXHIBIT INDEX
- - --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
EXHIBIT
NO. DESCRIPTION
- - -------- ----------------------------------------------------------------------
<C> <S>
3.1 Restated Certificate of Incorporation of the Company, is hereby
incorporated by reference to Exhibit 3.1 to the Company's Form 8-K
dated November 20, 1996.
3.2 Restated Bylaws of the Company, are hereby incorporated by reference
to Exhibit 3.2 to the Company's Amendment No. 1 to Form S-1
(Registration No. 333-1514).
4.1 Trust Indenture Agreement dated as of November 4, 1996, between the
Company as issuer, TDS as guarantor, and The First National Bank of
Chicago, as trustee for the Company's Series A Zero Coupon Notes, due
2006, is hereby incorporated by reference to Exhibit 4.1 to the
Company's Form 8-K dated November 4, 1996.
9.1(a) Voting Trust Agreement, dated as of June 30, 1989, is hereby
incorporated by reference to an exhibit to Post-Effective Amendment
No. 3 to the TDS Registration Statement on Form S-1, No. 33-12943.
9.1(b) Amendment dated as of May 9, 1991, to the Voting Trust Agreement dated
as of June 30, 1989, is hereby incorporated by reference to Exhibit
9.2 to TDS's Annual Report on Form 10-K for the year ended December
31, 1991.
9.1(c) Amendment dated as of November 20, 1992, to the Voting Trust Agreement
dated as of June 30, 1989, as amended, is hereby incorporated by
reference to Exhibit 9.1(c) to TDS's Annual Report on Form 10-K for
the year ended December 31, 1992.
10.1 Form of Exchange Agreement between the Company and TDS, is hereby
incorporated by reference to Exhibit 10.1 to the Company's Amendment
No. 1 to Form S-1 (Registration No. 333-1514).
10.2 Revolving Credit Agreement dated as of August 1, 1995, between the
Company and TDS, is hereby incorporated by reference to Exhibit 10.2
to the Company's Amendment No. 1 to Form S-1 (Registration No.
333-1514).
10.3 Amendment dated August 29, 1997, to Revolving Credit Agreement between
the Company and TDS.
10.4 Form of Tax Allocation Agreement between the Company and TDS, is
hereby incorporated by reference to Exhibit 10.4 to the Company's
Amendment No. 1 to Form S-1 (Registration No. 333-1514).
10.5 Form of Cash Management Agreement between the Company and TDS, is
hereby incorporated by reference to Exhibit 10.5 to the Company's
Amendment No. 1 to Form S-1 (Registration No. 333-1514).
10.6 Form of Intercompany Agreement between the Company and TDS, is hereby
incorporated by reference to Exhibit 10.6 to the Company's Amendment
No. 1 to Form S-1 (Registration No. 333-1514).
10.7 Form of Registration Rights Agreement between the Company and TDS, is
hereby incorporated by reference to Exhibit 10.7 to the Company's
Amendment No. 1 to Form S-1 (Registration No. 333-1514).
10.8 Form of Insurance Cost Sharing Agreement between the Company and TDS,
is hereby incorporated by reference to Exhibit 10.8 to the Company's
Amendment No. 1 to Form S-1 (Registration No. 333-1514).
10.9 Form of Employee Benefit Plans Agreement between the Company and TDS,
is hereby incorporated by reference to Exhibit 10.9 to the Company's
Amendment No. 1 to Form S-1 (Registration No. 333-1514).
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
EXHIBIT
NO. DESCRIPTION
- - -------- ----------------------------------------------------------------------
<C> <S>
10.10* Software License Agreement dated as of December 15, 1995, between the
Company and Aethos Communications, Inc., is incorporated by reference
to Exhibit 10.11 to the Company's Amendment No. 1 to Form S-1
(Registration No. 333-1514).
10.11* Project Management and Construction Agreement dated as of January 15,
1996, between the Company and Fluor Daniel, Inc., is hereby
incorporated by reference to Exhibit 10.12 to the Company's Amendment
No. 1 to Form S-1 (Registration No. 333-1514).
10.12* PCS Infrastructure Supply Contract dated as of March 1, 1996, between
the Company and Nokia Telecommunications Inc., is hereby incorporated
by reference to Exhibit 10.13 to the Company's Amendment No. 1 to Form
S-1 (Registration No. 333-1514).
10.13* Credit Agreement dated as of June 19, 1996, and rider thereto dated
October 30, 1996, between the Company and Nokia Telecommunications
Inc., is hereby incorporated by reference to Exhibit 99.1 to the
Company's Form 8-K dated June 19, 1996.
10.14 Aerial Communications, Inc. 1996 Long-Term Incentive Plan, as amended,
is hereby incorporated by reference to the Company's Annual Report on
Form 10-K for the year ended December 31, 1996.
10.15 Description of Terms of Signing Letter with Donald W. Warkentin dated
June 7, 1995, is hereby incorporated by reference to Exhibit 10.15 to
the Company's Annual Report on Form 10-K for the year ended December
31, 1996.
10.16 Aerial Communications, Inc. Compensation Plan for Non-Employee
Directors is hereby incorporated by reference to Exhibit 99.1 to the
Company's Form S-8 dated May 2, 1997.
10.17 Description of Supplemental Benefit Agreement with Donald W. Warkentin
dated August 2, 1996.
11 Computation of earnings per common share
13 Incorporated portions of the 1997 Annual Report to Shareholders
21 List of Subsidiaries of the Registrant
23 Consent of Independent Public Accountants
27 Financial Data Schedule
</TABLE>
- - ---------
* Confidential material appearing in this exhibit was omitted and filed
separately with the Securities and Exchange Commission in accordance with Rule
406 promulgated under the Securities Act of 1933.
<PAGE>
[LOGO]
AERIAL COMMUNICATIONS, INC.
8410 West Bryn Mawr - Suite 1100
Chicago, Illinois 60631
Phone: (773) 399-4200
Fax: (773) 399-4170
<PAGE>
EXHIBIT 10.3
THIRD AMENDMENT
TO THE
REVOLVING CREDIT AGREEMENT
BY AND BETWEEN
TELEPHONE AND DATA SYSTEMS, INC. AND AERIAL COMMUNICATIONS, INC.
This Third Amendment (the "Third Amendment") to the Revolving Credit
Agreement dated as of August 1, 1995, as previously amended (the "Revolving
Credit Agreement") by and between Telephone and Data Systems, Inc. ("TDS"), an
Iowa corporation, and Aerial Communications, Inc. ("Company"), a Delaware
corporation is effective this 29th day of August, 1997.
WHEREAS TDS and the Company entered into the Revolving Credit Agreement
dated and made effective as of August 1, 1995, which Revolving Credit Agreement
was subsequently amended effective as of December 31, 1995 (the "First
Amendment"); and August 7, 1997 (the "Second Amendment"); and
WHEREAS TDS continues to own certain of the issued and outstanding shares of
the capital stock of the Company; and
WHEREAS, the Company has identified a need for additional funds and TDS
agrees to provide the Company certain additional funds for specified purposes
under terms more particularly set forth in the Revolving Credit Agreement; and
NOW, THEREFORE, in consideration of the promises set forth above, and for
good and valuable consideration, the receipt and sufficiency of which are hereby
acknowledged, and intending to be legally bound, TDS and the Company agree to
amend the Revolving Credit Agreement as follows:
1. All references to "$300,000,000.00" shall be changed to
"$425,000,000.00".
TDS's obligation to furnish additional funds under the Revolving Credit
Agreement shall terminate on December 31, 1998. However, in the event that TDS's
ownership of the Company shall fall below 70%, the Revolving Credit Agreement
shall expire 6 months after such date.
All other terms and conditions of the Revolving Credit Agreement shall
remain unchanged and in full force and effect. All defined terms contained in
the Revolving Credit Agreement are hereby incorporated into this Third Amendment
and shall have the same meaning herein as in the Revolving Credit Agreement,
unless otherwise defined herein.
IN WITNESS WHEREOF, the parties hereto, by their duly authorized
representatives, have executed this Third Amendment to the Revolving Credit
Agreement, effective as of the date first written above.
<TABLE>
<S> <C>
TELEPHONE AND DATA SYSTEMS, INC. AERIAL COMMUNICATIONS, INC.
By: /s/ MURRAY L. SWANSON By: /s/ J. CLARKE SMITH
-------------------------------------- ----------------------------------------
Name: Murray L. Swanson Name: J. Clarke Smith
Title: Executive Vice President - Title: Vice President Finance &
Finance Administration
Date: 08/29/97 Date: 08/29/97
- - ------------------------------------------ ------------------------------------------
</TABLE>
<PAGE>
EXHIBIT 10.17
AERIAL COMMUNICATIONS, INC. AND SUBSIDIARIES
DESCRIPTION OF SUPPLEMENTAL
BENEFIT AGREEMENT WITH DONALD W. WARKENTIN
DATED AUGUST 2, 1996.
In 1996, the Company entered into a nonqualified supplemental benefit
agreement with Donald W. Warkentin which requires the Company to pay a
supplemental retirement benefit to Mr. Warkentin. The agreement was entered
into when Mr. Warkentin left employment with TDS and took employment with the
Company at the completion of the initial public offering of the Company's
Common Shares in 1996 and, as a result, he was no longer eligible to
participate in the TDS Pension Plan. Under the supplemental benefit
agreement, the Company is obligated to pay Mr. Warkentin an amount equal to
the difference between the retirement benefit he will receive from the TDS
Pension Plan and that which he would have received had he continued to work
for TDS, less any amounts which he is entitled to receive under any other
qualified defined benefit or money purchase pension plan (such as the
Wireless Pension Plan). The Company will pay any such benefit at the same
time as Mr. Warkentin receives payments from the TDS Pension Plan. The
actual benefits payable to Mr. Warkentin upon retirement will be based upon
the facts that exist at the time and will be determined actuarially. The
nature of this agreement is a defined benefit arrangement.
<PAGE>
EXHIBIT 11
AERIAL COMMUNICATIONS, INC. AND SUBSIDIARIES
COMPUTATION OF EARNINGS PER COMMON SHARE
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31, 1997 1996
- - ---------------------------------------------------------------------------------------------------- ------------- ------------
<S> <C> <C>
BASIC EARNINGS PER COMMON SHARE:
Net (Loss)........................................................................................ $ (247,057) $ (37,921)
------------- ------------
------------- ------------
Weighted average number of Common and Series A Common Shares Outstanding (1)...................... 71,512 67,492
------------- ------------
------------- ------------
BASIC EARNINGS PER COMMON SHARE
Net (Loss)........................................................................................ $ (3.45) $ (0.56)
------------- ------------
------------- ------------
DILUTED EARNINGS PER COMMON SHARE (2):
Net (Loss)........................................................................................ $ (247,057) $ (37,921)
------------- ------------
------------- ------------
Weighted average number of Common and Series A Common Shares Outstanding (1)...................... 71,512 67,492
------------- ------------
------------- ------------
DILUTED EARNINGS PER COMMON SHARE
Net (Loss)........................................................................................ $ (3.45) $ (0.56)
------------- ------------
------------- ------------
</TABLE>
- - ---------
(1) Weighted average number of Common and Series A Common Shares outstanding was
calculated based on the number of Common Shares outstanding during the
period adjusted to give retroactive effect to the recapitalization in
conjunction with the Company's initial public offering, as if this
transaction had occurred at January 1, 1996.
(2) The Company adopted Statement of Financial Accounting Standards ("SFAS") No.
128, "Earnings Per Share," effective December 31, 1997. The implementation
of SFAS No. 128 had no effect on reported (Loss) per Common and Series A
Common Share due to the current Net (Loss). In 1997 and 1996, respectively,
1.4 million and 0.3 million stock options were not included in computing
diluted (Loss) per Common and Series A Common Share because their effects
were antidilutive.
<PAGE>
AERIAL COMMUNICATIONS, INC. AND SUBSIDIARIES
<TABLE>
<CAPTION>
SELECTED CONSOLIDATED FINANCIAL DATA
Year Ended December 31, 1997 1996 1995 1994 1993
- - ------------------------------------------------ --------------------------------------------------------------------
(Dollars in thousands, except per share amounts)
<S> <C> <C> <C> <C> <C>
OPERATING FINANCIAL DATA
Operating Revenues $ 55,952 $ - $ - $ - $ -
Operating (Loss) (218,165) (43,950) (7,562) (1,977) (65)
Investment (Losses) (2,518) (304) - - -
Interest Income-affiliate 95 4,488 - - -
Interest Income-other 2,402 1,158 49 2 -
Gain on sale of PCS licenses - 2,582 - - -
Interest Expense-affiliate 21,558 1,960 1,051 50 40
Interest Expense-other 5,507 802 - - -
(Loss) Before Income Taxes (245,251) (38,788) (8,564) (2,025) (103)
Net (Loss) $(247,057) $ (37,921) $ (6,468) $(1,283) $ (67)
Weighted Average Common and
Series A Common Shares (000) (1) 71,512 67,492 59,086 59,086 59,086
(Loss) per Common and Series A Common Share $ (3.45) $ (0.56) $ (0.11) $ (0.02) $ -
Dividends per Common and
Series A Common Share $ - $ - $ - $ - $ -
BALANCE SHEET
Working Capital $ (51,566) $ (80,347) $ 33,141 $ 149 $ 40
Property & Equipment (Net) 604,104 252,423 12,087 - 414
Investment in PCS Licenses (Net) 297,043 304,354 305,818 20,401 -
Total Assets 960,648 672,827 360,444 21,320 512
Revolving Credit Agreement-TDS 448,234 - 60,238 22,659 650
Long-Term Debt 196,439 103,743 - - -
Common Shareholders'
Equity (Deficit) $ 192,427 $ 437,785 $281,282 $(1,444) $ (161)
OTHER DATA
Capital Expenditures (2) $ 387,718 $ 242,270 $297,551 $20,401 $ -
Population Equivalents 27.6 million 27.6 million 27.6 million - -
</TABLE>
(1) Weighted Average Common and Series A Common Shares outstanding give
retroactive effect to the recapitalization in conjunction with the Company's
April 1996 initial public offering, as if the transaction had occurred January
1, 1993.
(2) Includes non-cash transactions.
<PAGE>
AERIAL COMMUNICATIONS, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
OVERVIEW
Aerial Communications, Inc. ("Aerial" or the "Company" - NASDAQ symbol:
AERL), an 82.5%-owned subsidiary of Telephone and Data Systems, Inc. ("TDS"),
was formed to acquire Personal Communications Services ("PCS") licenses from
the Federal Communications Commission ("FCC"), construct PCS networks in its
Major Trading Areas ("MTAs") and offer wireless PCS communications services
in these areas. See "Proposed TDS Corporate Restructuring."
Since its acquisition of PCS licenses in the FCC broadband Block A and Block
B PCS auction, which concluded in March of 1995, the Company has been
devoting its efforts to recruiting an experienced management team, developing
and executing a business plan, raising capital and designing and constructing
a PCS network in each of its MTAs (Minneapolis, Tampa-St. Petersburg-Orlando,
Houston, Pittsburgh, Kansas City and Columbus).
The Company's focus in 1997 has been the preparation of each of its markets
for initial service launch and the development of its PCS business. The
Columbus MTA launched service on March 27, 1997. The Company's five remaining
MTAs launched service during the second quarter of 1997. Across all six
markets, the Company launched with approximately 600 cell sites in service.
The Company currently has 1,044 cell sites in service across all its markets.
With the launch of service in its MTAs between March and June of 1997, the
Company transitioned from the development stage to being an operating
enterprise. As a result of this transition, the Company experienced in 1997
increased revenues and operating expenses, and incurred substantial losses.
The Company had no revenues and significantly less expenses in 1995, 1996 and
for the first quarter of 1997.
RESULTS OF OPERATIONS
The Company's results of operations for 1997 compared to 1996 and 1995
reflect primarily increased activities undertaken to launch and grow PCS
services in its MTAs. Such activities significantly increased the Company's
net loss to $247.1 million from $37.9 million in 1996 and $6.5 million in
1995. During 1997 the Company ceased to be classified as a development stage
enterprise with the launch of service in its six MTAs. In addition to
launching PCS services, the Company's focus in 1997 was the continued
build-out of its PCS network and expansion of its customer base. Building its
customer base will be the Company's focus in 1998.
YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
OPERATING REVENUES
OPERATING REVENUES totaled $55.9 million for the year ended December 31,
1997, reflecting the launch of service in all six MTAs during 1997. In late
March 1997 the Company began offering PCS service in Columbus, Ohio and
during the second quarter the Company began offering service in its remaining
MTAs. The Company finished 1997 with approximately 125,000 customers.
SERVICE REVENUE primarily consists of charges for access, airtime and
value-added services provided to the Company's retail customers who use the
network operated by the Company, and charges for long-distance calls made on
the Company's systems. Service revenue totaled $32.3 million in 1997.
EQUIPMENT SALES REVENUE totaled $23.6 million in 1997. Equipment sales
revenue represents the sale of handsets and related accessories to retailers,
independent agents and end user customers.
OPERATING EXPENSES
OPERATING EXPENSES totaled $274.1 million for the year ended December 31,
1997, compared to $44.0 million in 1996 and $7.6 million in 1995, reflecting
the Company's expanded level of business activity required to launch service
and transition to post-launch operations.
SYSTEM OPERATIONS EXPENSE totaled $30.7 million in 1997, reflecting the costs
of operating the Company's network in all MTAs. Significant costs include
cell site rent and maintenance, utilities, landline interconnection and toll
charges and salaries and benefits of engineering and maintenance employees.
<PAGE>
AERIAL COMMUNICATIONS, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
MARKETING AND SELLING EXPENSE totaled $46.0 million in 1997, primarily
reflecting the Company's aggressive marketing campaign that accompanied the
launch of service and continued throughout the remainder of the year.
Marketing and selling expenses primarily consist of salaries and benefits of
sales and marketing personnel, sales commissions, the cost of promotions, and
the cost of print, radio and television advertising.
CUSTOMER SERVICE EXPENSE totaled $20.9 million in 1997, reflecting customer
service activity at the Company's National Operations Center in connection
with the launch and support of its six MTAs.
COST OF EQUIPMENT SOLD totaled $71.5 million in 1997, reflecting the launch
of service and filling of third-party distribution channels for handsets.
GENERAL AND ADMINISTRATIVE EXPENSE totaled $58.8 million in 1997 compared to
$28.8 million in 1996 and $4.8 million in 1995. The increase in 1997 over
1996 and 1995 is attributable to expenses associated with the growth of the
Company's management and operating teams required to launch service and
transition to post-launch operations, and the resulting increases in
salaries, employee benefits, and overhead expenses. The Company had 1,414
employees at December 31, 1997, compared to 424 employees at December 31,
1996, and less than 50 employees at December 31, 1995.
DEVELOPMENT COSTS totaled $5.8 million in 1997 as compared to $15.1 million
in 1996 and $2.8 million in 1995. The $9.3 million decrease in development
costs in 1997 is primarily due to the Company being a development stage
enterprise for all of 1996 while, in the second quarter of 1997, the Company
ceased to be classified as a development stage enterprise with the launch of
service in its six MTAs.
OTHER
INVESTMENT LOSSES totaled $2.5 million in 1997 as compared to $0.3 million in
1996. Investment losses represent the Company's 49% share of the net loss of
the Wireless Alliance, LLC, a joint venture associated with the Company's
Minneapolis MTA and designed to extend the PCS footprint to areas that were
not in the Company's initial build-out.
INTEREST INCOME-AFFILIATE totaled $0.1 million in 1997 as compared to $4.5
million in 1996. Interest income-affiliate represents interest income earned
on the proceeds of the Company's April 1996 initial public offering ("IPO")
invested in the TDS cash management program pending use in PCS network
development and construction. Proceeds from the IPO were fully utilized by
the end of January 1997.
INTEREST INCOME-OTHER totaled $2.4 million in 1997 as compared to $1.2
million in 1996. Interest income-other primarily represents interest income
earned on the excess proceeds from the Company's November 1996 sale of Series
A Zero Coupon Notes pending use in PCS network development and construction.
The proceeds from the sale of the Series A Zero Coupon Notes were fully
utilized by the end of August 1997. Interest income-other was not significant
in 1995.
GAIN ON SALE OF PCS LICENSES represents the pretax gain of $0.2 million
recognized on the sale of the Guam license in May 1996 and the pretax gain of
$2.4 million recognized on the sale of the Alaska license in December 1996.
INTEREST EXPENSE-AFFILIATE totaled $21.6 million in 1997 as compared to $2.0
million in 1996 and $1.1 million in 1995. The $19.6 million increase in 1997
is primarily due to the average outstanding balance of borrowings under the
Revolving Credit Agreement with TDS being greater in 1997. Interest
expense-affiliate in 1997 represents interest on amounts borrowed under the
Revolving Credit Agreement and the TDS 3% guarantee fees primarily associated
with the Series A Zero Coupon Notes, less interest capitalized of $2.7
million. The 1996 amount primarily represents interest on amounts borrowed
under the Revolving Credit Agreement, less interest capitalized of $0.6
million. The 1995 amount represents interest on amounts borrowed under the
Revolving Credit Agreement, less interest capitalized of $16.6 million.
<PAGE>
AERIAL COMMUNICATIONS, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
INTEREST EXPENSE-OTHER totaled $5.5 million in 1997 as compared to $0.8
million in 1996 and relates to the Series A Zero Coupon Notes issued in
November 1996, less interest capitalized. The Company capitalized interest
expense of $3.3 million and $0.6 million related to the Series A Zero Coupon
Notes and interim financing under the Nokia Credit Agreement in 1997 and
1996, respectively.
Interest capitalization in 1997 and 1996 is based solely upon expenditures
incurred related to PCS network construction and information system
development. Interest capitalization in 1995 represents interest capitalized
on the cost of licenses acquired prior to TDS's $289.2 million equity
contribution which covered such costs.
INCOME TAX EXPENSE totaled $1.8 million in 1997, as compared to a benefit of
$0.9 million in 1996 and a benefit of $2.1 million in 1995. The $2.7 million
increase in income tax expense is primarily due to an increase in the
estimated valuation allowance associated with deferred tax assets generated
by net operating losses. See "Income Taxes" below for a discussion of the
Company's Tax Allocation Agreement with TDS.
The weighted average Common and Series A Common Shares increased to 71.5
million in 1997 as compared to 67.5 million in 1996 and 59.1 million (after
giving retroactive affect to the recapitalization described in Note 8-Common
Stock) in 1995 due primarily to 12.3 million Common Shares issued on April
25, 1996, in connection with the Company's IPO.
INCOME TAXES
The Company is included in a consolidated federal income tax return with
other members of the TDS consolidated group. For financial reporting
purposes, the Company computes federal income taxes as if it were filing a
separate return as its own affiliated group and was not included in the TDS
group. TDS and the Company are parties to a Tax Allocation Agreement under
which the Company is able to carry forward any losses and credits and use
them to offset any future income tax liabilities to TDS.
For 1995 and prior years, TDS reimbursed the Company for the federal income
tax benefit of any net operating loss of the Company which reduced the
provision for income taxes reflected in TDS's consolidated statements of
income. The Company and TDS entered into a Tax Allocation Agreement which
became effective as of January 1, 1996 (the "1996 Tax Allocation Agreement"),
pursuant to which, among other things, TDS no longer reimburses the Company
on a current basis for losses or credits used by TDS in the year they are
generated. Instead, the Company will be compensated (i.e., future tax
liabilities will be reduced) for TDS's use of tax benefits at such time as
the Company could utilize such benefits on a separate return basis.
If the 1996 Tax Allocation Agreement had been in place during 1995, the
Company would have recorded a deferred tax asset of $11.9 million (net of a
valuation allowance of $6.2 million) and a deferred tax liability of $14.0
million, resulting in deferred tax expense of $2.1 million being recognized
in the Consolidated Statements of Operations. The deferred tax asset
primarily relates to the net operating loss ("NOL") carryforward, which
requires a valuation allowance to be provided when it is more likely than not
that some portion of the deferred tax asset will not be realized. Due to the
absence of an established earnings history of the Company, a valuation must
be provided to the extent that temporary differences related to the deferred
tax liability do not reverse in the 15 year NOL carryforward period. The
deferred tax liability is primarily created due to the accelerated
amortization of the PCS license cost and the current deduction of interest
that was capitalized for book purposes. Therefore, the deferred tax expense
represents that portion of the NOL which was created by accelerated tax
amortization of the PCS licenses and the related interest deduction which may
not be realized because those temporary differences reverse over 40 years.
INFLATION
Management believes that inflation affects the Company's business to no
greater extent than the general economy.
<PAGE>
AERIAL COMMUNICATIONS, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
LIQUIDITY AND CAPITAL RESOURCES
The costs of development, construction, start-up and post-launch activities
of the Company require substantial capital. From inception through December
31, 1997, the Company had expended $304.4 million for licenses, including
capitalized interest, $642.1 million for all other capital expenditures and
incurred cumulative net losses of $292.9 million. The Company expects to
incur significant operating losses and to generate negative cash flow from
operating activities during the next several years as it continues to build
its customer base.
Cash flows used by operating activities were $206.9 million in 1997 and $17.8
million in 1996, and cash flows provided by operating activities were $0.1
million in 1995. Operating cash outflow (operating loss before depreciation
and amortization expense) totaled $177.6 million in 1997, $42.0 million in
1996 and $7.5 million in 1995. Cash flows used by other operating activities
(investment and other income, interest expense, changes in working capital
and changes in other assets and liabilities) required cash investments of
$29.3 million in 1997 and provided cash totaling $24.2 million in 1996 and
$7.6 million in 1995.
Cash flows from financing activities provided $449.9 million in 1997, $164.1
million in 1996 and $297.9 million in 1995. Cash provided in 1997 was due
primarily to $448.2 million in borrowings under the Revolving Credit
Agreement. In April 1996, the Company received proceeds from its IPO of
$195.3 million, net of underwriting discounts and commissions. The Company
used a portion of the net proceeds to repay the then outstanding balance
under the Revolving Credit Agreement with TDS. In 1996 the Company received
from TDS $28.8 million representing the balance due in connection with TDS's
$289.2 million contribution to the equity capital of the Company in 1995. The
1995 equity contribution was made to cover the original cost of the licenses
acquired in the FCC auction. Cash flows from financing activities in 1995
were generated by borrowings under the Revolving Credit Agreement with TDS.
Cash flows used in investing activities totaled $273.3 million in 1997,
$111.3 million in 1996 and $297.8 million in 1995. Cash used in 1997 resulted
primarily from $274.7 million in additions to property and equipment,
primarily launch-related network and information system assets. Total 1997
additions to property and equipment, including noncash transactions, were
$387.7 million, including $291.9 million for cell sites, $38.4 million for
switching equipment, $55.6 million for information system assets and $1.8
million for other activities. Cash used in 1996 resulted primarily from
$112.9 million in additions to property and equipment, primarily network and
information system assets, offset by $2.3 million in proceeds received from
the sale of PCS licenses. Total 1996 additions to property and equipment,
including noncash transactions, were $242.3 million, including $150.4 million
for cell sites, $53.2 million for switching equipment and $38.7 million for
other activities, including information system development and property and
equipment in service (primarily computer equipment and software, office
equipment and leasehold improvements). Cash requirements in 1995 related
largely to the Company's $285.4 million acquisition of eight licenses in the
FCC auction and $12.1 million in additions to property and equipment and
capitalized construction costs.
The Company has substantially completed all phases of its network build-out
and anticipates that the continuing development of its PCS networks and
services will require substantial capital over the next several years. For
1998 the Company estimates that the aggregate funds required for capital
expenditures will total approximately $75 million. The Company estimates
requiring $235 million for working capital requirements to fund operations
for all of 1998, including an estimated $57 million in interest expense
related to the Revolving Credit Agreement. The Company expects 1998 capital
and operating expenditures to be financed using a variety of sources
including, but not limited to, additional borrowings under the TDS Revolving
Credit Agreement, vendor financing and an investment by a minority equity
investor.
In March 1996, the Company selected Nokia Telecommunications Inc. ("Nokia")
as its sole supplier of digital radio channel and switching infrastructure
equipment during the initial build-out of its PCS networks. Nokia agreed to
provide up to $200 million in financing for the equipment through a Credit
Agreement with the Company dated June 19, 1996 ("Credit Agreement"). In
accordance with the provisions of the Credit Agreement, the Company issued,
in tranches, 10-year unsecured zero coupon promissory notes, the proceeds of
which were paid to Nokia in satisfaction of borrowings by the Company under
the Credit Agreement.
<PAGE>
AERIAL COMMUNICATIONS, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
Pursuant to the Credit Agreement, on November 4, 1996, the Company issued
$226.2 million in aggregate principal amount at maturity Series A Zero Coupon
Notes ("Series A Notes") due in 2006. The issue price of the Series A Notes
was $100 million and there is no periodic payment of interest. The per annum
yield to maturity on the Series A Notes is 8.34% (computed on a semi-annual
bond equivalent basis). The proceeds of the sale of the Series A Notes were
paid to Nokia in satisfaction of all then outstanding obligations and future
obligations of the Company up to $100 million under the Credit Agreement.
Pursuant to the Credit Agreement, on February 5, 1998, the Company issued
$220.0 million in aggregate principal amount at maturity Series B Zero Coupon
Notes ("Series B Notes") due in 2008 (representing the final issuance of zero
coupon notes under the Credit Agreement). The issue price of the Series B
Notes was $100 million and there is no periodic payment of interest. The per
annum yield to maturity on the Series B Notes is 8.05% (computed on a
semi-annual bond equivalent basis). The proceeds of the sale of the Series B
Notes were paid to Nokia in satisfaction of all then outstanding obligations
and future obligations of the Company (to the extent not satisfied from the
proceeds of the sale of the Series A Notes) up to $100 million under the
Credit Agreement.
The Series A and Series B Notes ("Notes") rank in the same priority with all
other unsecured and unsubordinated indebtedness of the Company. The Notes and
the obligations under the Credit Agreement are fully and unconditionally
guaranteed by TDS at an annual fee rate of 3%. The Notes are subject to
optional redemption by the Company after five years from the applicable date
of issuance at redemption prices which reflect original issue discount
accured since issuance.
In April of 1996, the Company sold 12.3 million of its Common Shares,
approximately 17.2% of the then total outstanding shares of common stock, at
a price of $17 per share in its IPO. The net proceeds from the offering,
after underwriters fees, were $195.3 million. A portion of the net proceeds
was applied to the repayment of the $64.1 million then outstanding
indebtedness (including accrued interest) to TDS under the Revolving Credit
Agreement. Proceeds from the IPO were fully utilized by the end of January
1997.
At December 31, 1997, the Company had approximately $26.8 million available
for borrowing under its $475 million Revolving Credit Agreement with TDS. In
February 1998, the Company secured from TDS a $50 million increase in the
amount it may borrow under the Revolving Credit Agreement to $525 million. In
addition to the Revolving Credit Agreement with TDS, other sources of capital
may include additional vendor financing as well as private equity and debt
financing. If sufficient additional future funding is not made available to
the Company on terms and prices acceptable to the Company, the Company would
have to reduce its operating activities, which could have a material adverse
impact on the Company's financial condition and results of future operations.
The Company has assessed and continues to assess the impact of the Year 2000
Issue on its reporting systems and operations for purposes of ensuring its
systems are Year 2000 compliant. The Company's major systems have been
recently purchased or developed and management does not expect the effort
needed to achieve Year 2000 compliance to be significant. The Year 2000 Issue
exists because many computer systems and applications abbreviate dates by
eliminating the first two digits of the year, assuming that these two digits
would always be "19". Unless corrected, this shortcut is expected to cause
problems when the century date occurs. On that date, some computer programs
may recognize the date as January 1, 1900 instead of January 1, 2000. This
may cause systems to incorrectly process critical financial and operational
information, or stop processing altogether. Additionally, computer
applications may be affected before January 1, 2000, if calculations into the
year 2000 are involved. Management believes that the cost of addressing the
Year 2000 Issue to be incurred in 1998 and 1999 will not be material to
future results or financial condition. If management's steps are not
successful in making its systems Year 2000 compliant, it could have a
material adverse effect on results of operations.
<PAGE>
AERIAL COMMUNICATIONS, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
PROPOSED TDS CORPORATE RESTRUCTURING
In December 1997, Aerial received a proposal from TDS to acquire all of the
issued and outstanding Common Shares of Aerial not already owned by TDS (the
"Aerial Merger"). The offer was made in connection with, and is subject to
TDS shareholder approval of and the effectiveness of, TDS's proposed
corporate restructuring. The Board of Directors of TDS (the "TDS Board") has
adopted a proposal which, if approved by shareholders and implemented by the
TDS Board, would authorize the TDS Board to issue three new classes of common
stock and change the state of incorporation of TDS from Iowa to Delaware (the
"Tracking Stock Proposal"). The three new classes of stock are intended to
separately reflect the performance of TDS's cellular telephone, landline
telephone and personal communications services businesses ("Tracking Stocks").
Under the Tracking Stock Proposal, one of the three new classes of common
stock created by TDS would be designated as Aerial Communications Group
Common Shares (the "Aerial Group Shares"). The Aerial Group Shares, when
issued, are intended to reflect the separate performance of the Aerial
Communications Group (the "Aerial Group"), which includes TDS's interest in
Aerial Communications, Inc.
Subject to the approval of the Tracking Stock Proposal by shareholders, TDS
intends to, among other things, issue Aerial Group Shares in exchange for all
of the Common Shares of Aerial which are not currently owned by TDS, subject
to approval by Aerial's Board of Directors and shareholders.
In January 1998, Aerial's Board of Directors created a special committee of
the Board (the "Special Committee") to review the proposal from TDS. The
Special Committee, consisting of two independent directors of Aerial, has
engaged a financial advisor and legal advisor to assist in reviewing the
proposal. The Special Committee will consider how Aerial should respond to
the TDS proposal, take the steps it deems appropriate to respond to the TDS
proposal and, at such time as it considers it appropriate, report its
recommendations to Aerial's Board of Directors.
Subsequent to shareholder approval of the Tracking Stock Proposal, TDS
intends to terminate certain intercompany agreements between TDS and Aerial.
Thereafter, some or all of the relationships between TDS and Aerial would be
determined solely by methods that management believes to be reasonable. Many
of such policies would continue the arrangements which presently exist
between TDS and Aerial pursuant to the intercompany agreements, but TDS would
have no contractual obligation to continue such policies after the
intercompany agreements have been terminated. The TDS Board currently intends
to retain future earnings, if any, for the development of the business of the
Aerial Group and does not anticipate paying dividends on the Aerial Group
Shares in the foreseeable future.
PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995 SAFE HARBOR CAUTIONARY
STATEMENT
THIS MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS AND OTHER SECTIONS OF THIS ANNUAL REPORT CONTAIN
"FORWARD-LOOKING" STATEMENTS, AS DEFINED IN THE PRIVATE SECURITIES LITIGATION
REFORM ACT OF 1995, THAT ARE BASED ON CURRENT EXPECTATIONS, ESTIMATES AND
PROJECTIONS. STATEMENTS THAT ARE NOT HISTORICAL FACTS, INCLUDING STATEMENTS
ABOUT THE COMPANY'S BELIEFS AND EXPECTATIONS ARE FORWARD-LOOKING STATEMENTS.
THESE STATEMENTS CONTAIN POTENTIAL RISKS AND UNCERTAINTIES AND, THEREFORE,
ACTUAL RESULTS MAY DIFFER MATERIALLY. THE COMPANY UNDERTAKES NO OBLIGATION TO
UPDATE PUBLICLY ANY FORWARD-LOOKING STATEMENTS WHETHER AS A RESULT OF NEW
INFORMATION, FUTURE EVENTS OR OTHERWISE.
IMPORTANT FACTORS THAT MAY AFFECT THESE PROJECTIONS OR EXPECTATIONS INCLUDE,
BUT ARE NOT LIMITED TO: CHANGES IN THE OVERALL ECONOMY; CHANGES IN
COMPETITION IN THE COMPANY'S MARKETS; ADVANCES IN TELECOMMUNICATIONS
TECHNOLOGY; CHANGES IN THE TELECOMMUNICATIONS REGULATORY ENVIRONMENT; PENDING
AND FUTURE LITIGATION; AVAILABILITY OF FUTURE FINANCING; AND UNANTICIPATED
CHANGES IN GROWTH IN PCS CUSTOMERS, PENETRATION RATES, CHURN RATES AND THE
MIX OF PRODUCTS AND SERVICES OFFERED IN THE COMPANY'S MARKETS. READERS SHOULD
EVALUATE ANY STATEMENTS IN LIGHT OF THESE IMPORTANT FACTORS.
<PAGE>
AERIAL COMMUNICATIONS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
Year Ended December 31, 1997 1996 1995
- - -------------------------------------------------------------------------------------------
(Dollars in thousands, except per share amounts)
<S> <C> <C> <C>
OPERATING REVENUES
Service $ 32,307 $ - $ -
Equipment sales 23,645 - -
- - -------------------------------------------------------------------------------------------
Total Operating Revenues 55,952 - -
- - -------------------------------------------------------------------------------------------
OPERATING EXPENSES
System operations 30,655 - -
Marketing and selling 45,974 - -
Customer service 20,882 - -
Cost of equipment sold 71,454 - -
General and administrative 58,825 28,843 4,795
Depreciation 36,045 - -
Amortization of intangibles 4,509 - -
Development costs 5,773 15,107 2,767
- - -------------------------------------------------------------------------------------------
Total Operating Expenses 274,117 43,950 7,562
- - -------------------------------------------------------------------------------------------
OPERATING (LOSS) (218,165) (43,950) (7,562)
INVESTMENT AND OTHER INCOME
Investment (losses) (2,518) (304) -
Interest income-affiliate 95 4,488 -
Interest income-other 2,402 1,158 49
Gain on sale of PCS licenses - 2,582 -
- - -------------------------------------------------------------------------------------------
Total Investment and Other Income (21) 7,924 49
- - -------------------------------------------------------------------------------------------
(LOSS) BEFORE INTEREST AND
INCOME TAXES (218,186) (36,026) (7,513)
INTEREST EXPENSE
Interest expense-affiliate 21,558 1,960 1,051
Interest expense-other 5,507 802 -
- - -------------------------------------------------------------------------------------------
Total Interest Expense 27,065 2,762 1,051
- - -------------------------------------------------------------------------------------------
(LOSS) BEFORE INCOME TAXES (245,251) (38,788) (8,564)
Income tax expense (benefit) 1,806 (867) (2,096)
- - -------------------------------------------------------------------------------------------
NET (LOSS) $(247,057) $(37,921) $(6,468)
- - -------------------------------------------------------------------------------------------
WEIGHTED AVERAGE COMMON AND
SERIES A COMMON SHARES (000s) 71,512 67,492 59,086
(LOSS) PER COMMON AND SERIES A
COMMON SHARE $ (3.45) $ (0.56) $ (0.11)
- - -------------------------------------------------------------------------------------------
</TABLE>
The accompanying notes to consolidated financial statements are an integral part
of these statements.
<PAGE>
AERIAL COMMUNICATIONS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
Year Ended December 31, 1997 1996 1995
- - ----------------------------------------------------------------------------------------------
(Dollars in thousands)
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES
Net (Loss) $(247,057) $(37,921) $ (6,468)
Add (Deduct) adjustments to
reconcile net (loss) to net cash (used)
provided by operating activities:
Depreciation and amortization 40,554 1,934 47
Noncash interest expense-Series A Notes 8,341 1,327 -
Investment losses 2,518 304 -
Gain on sale of PCS licenses - (2,582) -
Change in accounts receivable-customer (24,030) - -
Change in income tax refund receivable-affiliate - 12,502 (12,320)
Change in inventory (25,949) - -
Change in accounts payable-affiliates 284 (795) 1,284
Change in accounts payable-trade and other 30,606 3,491 6,401
Change in accrued interest-affiliate 3,665 (1,497) 1,392
Change in deferred tax liability-net 1,806 2,231 10,407
Change in other assets and liabilities 2,399 3,225 (617)
- - ----------------------------------------------------------------------------------------------
(206,863) (17,781) 126
- - ----------------------------------------------------------------------------------------------
CASH FLOWS FROM FINANCING ACTIVITIES
Change in Revolving Credit Agreement-TDS 448,234 (60,238) 297,937
Change in note receivable-affiliate - 28,836 -
Issuance of common stock 1,699 195,485 -
- - ----------------------------------------------------------------------------------------------
449,933 164,083 297,937
- - ----------------------------------------------------------------------------------------------
CASH FLOWS FROM INVESTING ACTIVITIES
Additions to property and equipment (274,709) (112,940) (12,134)
Investment in PCS licenses - - (285,417)
Change in note receivable-other 1,925 - -
Proceeds from sale of PCS licenses - 2,275 -
Change in temporary and other investments (558) (614) (261)
- - ----------------------------------------------------------------------------------------------
(273,342) (111,279) (297,812)
- - ----------------------------------------------------------------------------------------------
NET (DECREASE) INCREASE IN CASH AND
CASH EQUIVALENTS (30,272) 35,023 251
CASH AND CASH EQUIVALENTS-
Beginning of year 35,284 261 10
- - ----------------------------------------------------------------------------------------------
End of year $ 5,012 $ 35,284 $ 261
- - ----------------------------------------------------------------------------------------------
</TABLE>
The accompanying notes to consolidated financial statements are an integral part
of these statements.
<PAGE>
AERIAL COMMUNICATIONS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
ASSETS
<TABLE>
<CAPTION>
December 31, 1997 1996
- - ---------------------------------------------------------------------------------------
(Dollars in thousands)
<S> <C> <C>
CURRENT ASSETS
Cash and cash equivalents:
General funds $ 5,012 $ 869
Affiliated cash equivalents - 34,415
- - ---------------------------------------------------------------------------------------
5,012 35,284
Temporary investments 197 315
Accounts receivable:
Customers, less allowance of $7,252 in 1997 24,030 -
Affiliates 22 -
Other 185 -
Interest receivable-affiliate - 243
Interest receivable-other - 508
Note receivable-other - 1,925
Inventory 25,949 -
Other 2,808 704
- - ---------------------------------------------------------------------------------------
58,203 38,979
- - ---------------------------------------------------------------------------------------
PROPERTY AND EQUIPMENT
Property and equipment, net of accumulated
depreciation of $38,018 in 1997 and $1,981 in 1996 584,723 18,592
Work in process 19,381 233,831
Prepaid network infrastructure costs - 70,300
- - ---------------------------------------------------------------------------------------
604,104 322,723
- - ---------------------------------------------------------------------------------------
INVESTMENTS
Investment in PCS licenses, net of accumulated
amortization of $4,489 in 1997 297,043 304,354
Other 1,298 6,771
- - ---------------------------------------------------------------------------------------
298,341 311,125
- - ---------------------------------------------------------------------------------------
TOTAL ASSETS $960,648 $672,827
- - ---------------------------------------------------------------------------------------
</TABLE>
The accompanying notes to consolidated financial statements are an integral part
of these statements.
<PAGE>
AERIAL COMMUNICATIONS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
LIABILITIES AND SHAREHOLDERS' EQUITY
<TABLE>
<CAPTION>
December 31, 1997 1996
- - ---------------------------------------------------------------------------------------
(Dollars in thousands)
<S> <C> <C>
CURRENT LIABILITIES
Accounts payable:
Affiliates $ 773 $ 489
Trade 92,020 57,114
Other - 36,246
Accrued interest-affiliate 3,665 -
Microwave relocation costs payable 7,354 17,046
Contribution payable - 6,453
Other 5,957 1,978
- - --------------------------------------------------------------------------------------
109,769 119,326
- - --------------------------------------------------------------------------------------
REVOLVING CREDIT AGREEMENT-TDS 448,234 -
- - --------------------------------------------------------------------------------------
LONG-TERM DEBT 196,439 103,743
- - --------------------------------------------------------------------------------------
DEFERRED TAX LIABILITY-NET 13,779 11,973
- - --------------------------------------------------------------------------------------
COMMON SHAREHOLDERS' EQUITY
Common Shares, $1.00 par value; authorized
100,000,000 shares; issued and outstanding
31,610,605 and 31,359,460 shares in 1997
and 1996, respectively 31,611 31,359
Series A Common Shares, $1.00 par value;
authorized 60,000,000 shares; issued and
outstanding 40,000,000 shares 40,000 40,000
Additional paid-in capital 413,746 412,299
Retained deficit (292,930) (45,873)
- - --------------------------------------------------------------------------------------
192,427 437,785
- - --------------------------------------------------------------------------------------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 960,648 $ 672,827
- - --------------------------------------------------------------------------------------
</TABLE>
The accompanying notes to consolidated financial statements are an integral part
of these statements.
<PAGE>
AERIAL COMMUNICATIONS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
<TABLE>
<CAPTION>
Year Ended December 31, 1997 1996 1995
- - ------------------------------------------------------------------------------------------------------
(Dollars in thousands)
<S> <C> <C> <C>
COMMON STOCK
Balance at beginning of year $ - $ 1 $ 1
Deduct Recapitalization - (1) -
- - ------------------------------------------------------------------------------------------------------
Balance at the end of year $ - $ - $ 1
- - ------------------------------------------------------------------------------------------------------
COMMON SHARES
Balance at beginning of year $ 31,359 $ - $ -
Add
Recapitalization - 19,086 -
Initial Public Offering - 12,250 -
Employee Benefit Plans 252 23 -
- - ------------------------------------------------------------------------------------------------------
Balance at end of year $ 31,611 $ 31,359 $ -
- - ------------------------------------------------------------------------------------------------------
SERIES A COMMON SHARES
Balance at beginning of year $ 40,000 $ - $ -
Add Recapitalization - 40,000 -
- - ------------------------------------------------------------------------------------------------------
Balance at end of year $ 40,000 $ 40,000 $ -
- - ------------------------------------------------------------------------------------------------------
ADDITIONAL PAID-IN CAPITAL
Balance at beginning of year $ 412,299 $289,233 $ 39
Add/(Deduct)
Equity Contribution from TDS - - 289,194
Recapitalization - (59,085) -
Initial Public Offering - 183,015 -
Capital Stock Expense - (1,061) -
Employee Benefit Plans 1,447 197 -
- - ------------------------------------------------------------------------------------------------------
Balance at the end of year $ 413,746 $412,299 $289,233
- - ------------------------------------------------------------------------------------------------------
RETAINED DEFICIT
Balance at beginning of year $ (45,873) $ (7,952) $ (1,484)
Net (Loss) (247,057) (37,921) (6,468)
- - ------------------------------------------------------------------------------------------------------
Balance at end of year $(292,930) $(45,873) $ (7,952)
- - ------------------------------------------------------------------------------------------------------
</TABLE>
The accompanying notes to consolidated financial statements are an integral part
of these statements.
<PAGE>
AERIAL COMMUNICATIONS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. ORGANIZATION OF BUSINESS
Aerial Communications, Inc. (the "Company" or "Aerial") is an 82.5%-owned
subsidiary of Telephone and Data Systems, Inc. ("TDS"). The Company was
incorporated in Delaware on July 23, 1991, as American Portable
Telecommunications, Inc. and changed its name to American Portable Telecom,
Inc. ("APTI") effective January 18, 1996. On November 12, 1996, the Company
changed its name to Aerial Communications, Inc. The Company was formed to
acquire Personal Communications Services ("PCS") licenses, construct PCS
networks in its Major Trading Areas ("MTAs") and offer wireless PCS
communications services in these areas. The Company acquired its licenses in
the Federal Communications Commission ("FCC") broadband Block A and Block B
PCS auction (the "PCS auction") which concluded in March 1995. The Company
acquired licenses in the Columbus (Ohio), Houston (Texas), Kansas City
(Missouri), Minneapolis (Minnesota), Pittsburgh (Pennsylvania), and Tampa-St.
Petersburg-Orlando (Florida) MTAs covering approximately 27.6 million
population equivalents ("POPs").
PROPOSED TDS CORPORATE RESTRUCTURING
In December 1997, Aerial received a proposal from TDS to acquire all of the
issued and outstanding Common Shares of Aerial not already owned by TDS (the
"Aerial Merger"). The offer was made in connection with, and is subject to
TDS shareholder approval of and the effectiveness of, TDS's proposed
corporate restructuring. The Board of Directors of TDS (the "TDS Board") has
adopted a proposal which, if approved by shareholders and implemented by the
TDS Board, would authorize the TDS Board to issue three new classes of common
stock and change the state of incorporation of TDS from Iowa to Delaware (the
"Tracking Stock Proposal"). The three new classes of stock are intended to
separately reflect the performance of TDS's cellular telephone, landline
telephone and personal communications services businesses ("Tracking Stocks").
Under the Tracking Stock Proposal, one of the three new classes of common
stock created by TDS would be designated as Aerial Communications Group
Common Shares (the "Aerial Group Shares"). The Aerial Group Shares, when
issued, are intended to reflect the separate performance of the Aerial
Communications Group (the "Aerial Group"), which includes TDS's interest in
Aerial Communications, Inc.
Subject to the approval of the Tracking Stock Proposal by shareholders, TDS
intends to, among other things, issue Aerial Group Shares in exchange for all
of the Common Shares of Aerial which are not currently owned by TDS, subject
to approval by Aerial's Board of Directors and shareholders.
In January 1998, Aerial's Board of Directors created a special committee of
the Board (the "Special Committee") to review the proposal from TDS. The
Special Committee, consisting of two independent directors of Aerial, has
engaged a financial advisor and legal advisor to assist in reviewing the
proposal. The Special Committee will consider how Aerial should respond to
the TDS proposal, take the steps it deems appropriate to respond to the TDS
proposal and, at such time as it considers it appropriate, report its
recommendations to Aerial's Board of Directors.
Subsequent to shareholder approval of the Tracking Stock Proposal, TDS
intends to terminate certain intercompany agreements between TDS and Aerial.
Thereafter, some or all of the relationships between TDS and Aerial would be
determined solely by methods that management believes to be reasonable. Many
of such policies would continue the arrangements which presently exist
between TDS and Aerial pursuant to the intercompany agreements, but TDS would
have no contractual obligation to continue such policies after the
intercompany agreements have been terminated. The TDS Board currently intends
to retain future earnings, if any, for the development of the business of the
Aerial Group and does not anticipate paying dividends on the Aerial Group
Shares in the foreseeable future.
<PAGE>
AERIAL COMMUNICATIONS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
(a) DEVELOPMENT STAGE COMPANY
Effective with the second quarter of 1997, the Company ceased to be a
development stage company and presents its 1997 results of operations, cash
flows and financial position in a manner similar to other operating
enterprises within the industry.
(b) PRINCIPLES OF CONSOLIDATION
The accounting policies of the Company and its subsidiaries conform to
generally accepted accounting principles. The consolidated financial
statements include the accounts of Aerial Communications, Inc. and its
wholly-owned subsidiaries. All material intercompany balances and
transactions have been eliminated. The preparation of the consolidated
financial statements in conformity with generally accepted accounting
principles requires management 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. Actual
results could differ from those estimates.
Certain amounts reported in prior years have been reclassified to conform to
the current year presentation.
(c) REVENUE RECOGNITION AND INVENTORY
Revenues from operations consist of charges to customers for monthly access,
airtime, value-added services and long-distance charges. Revenues are
recognized as the services are rendered. Unbilled revenues, resulting from
PCS services provided from the billing cycle date to the end of each month,
are estimated and recorded.
Revenues from operations also consist of equipment sales to national
retailers, independent agents and end user customers. Revenues from equipment
sales are recognized upon the shipment of goods to retailers and independent
agents or upon sale through direct distribution channels to end user
customers.
Handset inventory is stated at current replacement cost.
(d) ADVERTISING COSTS
The Company expenses advertising costs as incurred. Advertising costs totaled
$21.1 million, $1.4 million and $0 for the years ended December 31, 1997,
1996 and 1995, respectively. Prior to launching service, the Company was a
development stage enterprise and advertising costs were included in
Development costs.
(e) PENSION PLAN
Effective July 1, 1995, the Company began providing pension benefits for its
employees under a qualified, noncontributory, defined contribution pension
plan. Under this plan, pension benefits and costs are calculated separately
for each participant and are funded currently. Pension costs were $326,000,
$72,000 and $11,000 in 1997, 1996 and 1995, respectively.
(f) CASH AND CASH EQUIVALENTS, TEMPORARY INVESTMENTS AND MARKETABLE
SECURITIES
Cash and cash equivalents consists of cash on hand and those short-term,
highly-liquid investments with original maturities of three months or less.
Those investments with original maturities of greater than three but less
than twelve months are classified as temporary investments. Temporary
investments are stated at cost. Those investments with original maturities of
more than twelve months are classified as marketable securities and are
stated at amortized cost. The Company's investments in marketable non-equity
securities, included in Other investments, have maturities of one to five
years and are classified as held to maturity.
<PAGE>
AERIAL COMMUNICATIONS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The carrying amounts of Cash and cash equivalents and Temporary investments
approximate fair value due to the short-term nature of these investments. The
amortized cost of the marketable non-equity securities approximate their
aggregate fair value.
(g) PROPERTY AND EQUIPMENT
Property and equipment is stated at cost. Depreciation is provided based on
the straight-line method over the estimated useful lives of the respective
assets, generally ten years for network assets and five years for information
system assets and office equipment. Leasehold improvements are amortized over
ten years or the lease term, whichever is shorter.
Property and equipment consists of:
<TABLE>
<CAPTION>
December 31, 1997 1996
- - ----------------------------------------------------------------------------
(Dollars in thousands)
<S> <C> <C>
Network $514,525 $ -
Information systems 83,950 15,951
Office equipment 15,800 3,180
Leasehold improvements and other 8,466 1,442
622,741 20,573
- - ----------------------------------------------------------------------------
Accumulated depreciation (38,018) (1,981)
- - ----------------------------------------------------------------------------
Property and equipment-net $584,723 $18,592
</TABLE>
(h) WORK IN PROCESS
Work in process includes expenditures for the design, construction and
testing of the Company's PCS networks as well as the cost to relocate
dedicated private microwave links currently operating in the Company's
spectrum in its MTAs. Work in process also includes the costs associated with
developing information systems. The Company capitalizes interest on such
expenditures where appropriate. When the assets are placed in service, the
Company transfers the assets to the appropriate property and equipment
category.
(i) INVESTMENT IN PCS LICENSES
Investment in PCS licenses is recorded at historical cost, which includes the
purchase price of the licenses acquired by the Company in the PCS auction
plus capitalized interest of $16.6 million incurred while readying the
licenses in the Company's MTAs for use. The Company recorded capitalized
interest through December 31, 1995, when TDS contributed approximately $289.2
million in equity capital to the Company for the original cost of its
licenses. The Company began amortizing the licenses straight-line over 40
years upon commencement of service in each respective MTA. Accumulated
amortization on the licenses at December 31, 1997, totaled $4.5 million.
(j) IMPAIRMENT OF LONG-LIVED ASSETS
Effective January 1, 1996, the Company implemented the provisions of
Statement of Financial Accounting Standards ("SFAS") No. 121, "Accounting for
the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed
Of." Under SFAS No. 121, the Company is required to review long-lived assets
and certain identifiable intangibles for impairment whenever events or
changes in circumstances indicate that the book value of a long-lived asset
may not be recoverable. An impairment loss would be recognized whenever the
review demonstrates that the book value of a long-lived asset is not
recoverable. The implementation of SFAS No. 121 did not have an impact on the
Company's financial position or results of operations.
(k) MICROWAVE RELOCATION COSTS PAYABLE
Microwave relocation costs payable represent obligations of the Company to
pay its share of the costs to relocate dedicated private microwave links
currently operating in the Company's spectrum in its MTAs. The carrying
amount reported in the balance sheet for microwave relocation costs payable
approximates fair value because of the short maturity of those instruments.
<PAGE>
AERIAL COMMUNICATIONS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(l) (LOSS) PER COMMON AND SERIES A COMMON SHARE
(Loss) per Common and Series A Common Share was computed based on the
weighted average of Common and Series A Common Shares outstanding during the
period, adjusted to give retroactive effect to the recapitalization in
conjunction with the Company's 1996 initial public offering ("IPO"), as if
this transaction had occurred at January 1, 1995 (See Note 8 - Common Stock).
The Company adopted Statement of Financial Accounting Standards ("SFAS") No.
128, "Earnings Per Share," effective December 31, 1997. The implementation of
SFAS No. 128 had no effect on reported (Loss) per Common and Series A Common
Share due to the current Net (Loss). In 1997 and 1996, respectively, 1.4
million and 0.3 million stock options were not included in computing diluted
(Loss) per Common and Series A Common Share because their effects were
antidilutive.
(m) SUPPLEMENTAL CASH FLOW DISCLOSURES
The following summarizes interest and income taxes paid and certain noncash
transactions.
<TABLE>
<CAPTION>
Year Ended December 31, 1997 1996 1995
- - ---------------------------------------------------------------------------------------
(Dollars in thousands)
<S> <C> <C> <C>
Income tax benefits - cash payments
from TDS resulting from taxable losses
generated by the Company in prior years $ - $15,598 $ 185
Interest paid to non-affiliates 428 1,107 -
Interest and guarantee fees paid to TDS
or converted to debt under the
Revolving Credit Agreement 24,297 3,496 17,699
TDS equity contribution-conversion of
debt under the Revolving Credit
Agreement to equity and receipt of note
receivable-affiliate - - 289,194
</TABLE>
In 1997, $113.0 million in additions to property and equipment (amounts in
service and work in process, collectively) were financed through a
combination of long-term debt, accounts payable-trade, microwave relocation
costs payable and prepaid network infrastructure costs. In 1996, $199.6
million in additions to property and equipment and prepaid network
infrastructure costs were financed through a combination of long-term debt,
accounts payable-trade and other and microwave relocation costs payable.
The Company incurred interest charges totaling $33.1 million in 1997. In
1997, the interest charges were comprised of $21.0 million paid to TDS
relating to the Revolving Credit Agreement (See Note 4 - Revolving Credit
Agreement), $3.3 million paid to TDS for guarantee fees on the Series A Zero
Coupon Notes and obligations under the Nokia Credit Agreement (See Note 5 -
Long-Term Debt), $0.4 million paid to Nokia for interest charges relating to
the Credit Agreement, $8.3 million in accrued interest on the Series A Zero
Coupon Notes and $0.1 million in other interest charges. Of these amounts,
the Company capitalized $6.0 million relating to its work in process
expenditures. The remaining $27.1 million was charged to expense.
In 1996, the Company incurred interest charges of $4.0 million. The interest
charges were comprised of $2.0 million paid to TDS relating to the Revolving
Credit Agreement, $0.6 million paid to TDS for guarantee fees on the Series A
Zero Coupon Notes and obligations under the Nokia Credit Agreement, $70,000
paid to Nokia for interest charges relating to the Credit Agreement and $1.3
million in accrued interest on the Series A Zero Coupon Notes. Of these
amounts, the Company capitalized $1.2 million relating to its work in process
expenditures. The remaining $2.8 million was charged to expense.
During 1995, the Company incurred interest charges of $17.7 million related
to its Revolving Credit Agreement with TDS. Of this amount, the Company
capitalized $16.6 million relating to the development of its PCS licenses.
The remaining $1.1 million was charged to expense.
<PAGE>
AERIAL COMMUNICATIONS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
3. INCOME TAXES
The Company entered into a tax allocation agreement with TDS under which the
Company will continue to join in filing consolidated federal income tax
returns with the TDS affiliated group unless TDS's ownership of the Company
falls beneath 80%. For 1995, TDS reimbursed the Company for the reduction in
the provision for federal income taxes reflected in TDS's consolidated
statements of income resulting from the inclusion of the Company and its
subsidiaries in the TDS affiliated group. The Company had recorded these
amounts in "Income tax refund receivable - affiliate" (See Note 2 (m) -
Summary of Significant Accounting Policies - Supplemental cash flow
disclosures).
For tax years beginning after December 31, 1995, TDS no longer reimburses the
Company on a current basis for losses or credits used by the TDS affiliated
group. Instead, the Company is compensated (by an offset to amounts the
Company would otherwise be required to pay to TDS for federal income taxes)
for TDS's use of tax benefits at such time as the Company could utilize such
benefits on a separate return basis. The Company will be required to pay TDS
an amount equal to the greater of the federal income tax liability of the
Company, calculated as if it were a separate affiliated group (including any
minimum tax liability, notwithstanding the absence of consolidated group
liability for minimum tax), or the tax calculated using the highest marginal
tax rate (before taking into account tax credits) of the TDS affiliated group.
Subject to the completion of the Aerial Merger, TDS intends to terminate
certain intercompany agreements between TDS and Aerial. See Note 1 - Proposed
TDS Corporate Restructuring for a discussion of the proposed merger.
The Company records all deferred tax liabilities or assets for the deferred
tax consequences of all temporary differences. Income tax provisions are
summarized below:
<TABLE>
<CAPTION>
Year Ended December 31, 1997 1996 1995
- - ----------------------------------------------------------------------------------
<S> <C> <C> <C>
(Dollars in thousands)
Federal income tax provision (benefit):
Current $ - $(3,098) $(12,502)
Deferred 1,561 1,671 9,574
State income tax provision:
Current - - -
Deferred 245 560 832
- - ----------------------------------------------------------------------------------
Income tax expense (benefit) $1,806 $ (867) $ (2,096)
- - ----------------------------------------------------------------------------------
</TABLE>
The temporary differences which gave rise to significant portions of the net
deferred tax liability were as follows:
<TABLE>
<CAPTION>
December 31, 1997 1996
- - ----------------------------------------------------------------------------------
<S> <C> <C>
(Dollars in thousands)
Deferred tax asset:
Net operating loss carryforwards $ 171,896 $ 26,419
Less: valuation allowance (129,412) (15,029)
- - ----------------------------------------------------------------------------------
Total deferred tax asset $42,484 $11,390
- - ----------------------------------------------------------------------------------
Deferred tax liability:
Licenses $ 19,025 $ 13,650
Property and equipment 19,004 435
Partnership investment 9,235 2,573
Deferred charges-interest 6,088 6,088
Other 2,911 617
- - ----------------------------------------------------------------------------------
Total deferred tax liability $ 56,263 $ 23,363
- - ----------------------------------------------------------------------------------
Net deferred tax liability $ 13,779 $ 11,973
- - ----------------------------------------------------------------------------------
</TABLE>
<PAGE>
AERIAL COMMUNICATIONS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The Company records a deferred tax asset associated with net operating loss
carryforwards and then assesses the need for any valuation allowance
associated with those carryforwards. At December 31, 1997, the federal net
operating loss carryforward available to offset future taxable income is
$377.8 million and expires between 2012 and 2013. The amount of state net
operating loss carryforward available to offset future taxable income is
$552.9 million and expires between 1998 and 2013.
A valuation allowance is provided when it is more likely than not that some
portion of the deferred tax asset will not be realized. During 1997, the
valuation allowance increased $114.4 million primarily due to the Company's
increased net operating losses.
The statutory federal income tax rate is reconciled to the Company's effective
income tax rate below:
<TABLE>
<CAPTION>
Year Ended December 31, 1997 1996 1995
- - ----------------------------------------------------------------------------------------
<S> <C> <C> <C>
Statutory federal income tax rate 35.0% 35.0% 35.0%
State income taxes, net of federal benefit (0.1) (0.9) (6.3)
Effects of valuation allowance on deferred tax asset (35.6) (29.7) -
Other - (2.2) (4.2)
- - ----------------------------------------------------------------------------------------
Effective income tax rate (0.7)% 2.2% 24.5%
- - ----------------------------------------------------------------------------------------
</TABLE>
4. REVOLVING CREDIT AGREEMENT
The Company entered into a Revolving Credit Agreement with TDS on August 1,
1995, as amended, under which all of the outstanding obligations of the
Company to TDS are incorporated. At December 31, 1997, the Company had
secured from TDS an agreement to borrow up to $475 million under the
Revolving Credit Agreement. Pursuant to the Revolving Credit Agreement, the
Company may borrow from TDS at an interest rate equal to 1.5% above prime
rate until the principal amount becomes due, and pay on demand an interest
rate equal to 3.5% above such prime rate on any overdue principal or overdue
installment of interest. The advances made under the Revolving Credit
Agreement are unsecured. Interest on the balance due under the Revolving
Credit Agreement is payable quarterly and no principal is payable until its
maturity, which is December 31, 1999. The terms of the Revolving Credit
Agreement also include, among others, restrictions on incurring certain
additional indebtedness and on paying dividends. The total amount advanced to
the Company under the Revolving Credit Agreement as of December 31, 1997, was
$448.2 million. The carrying value of the Company's borrowings under the
Revolving Credit Agreement approximates the fair value of the borrowings, as
the Revolving Credit Agreement is variable debt with the interest rate based
on the prime lending rate.
Subject to the completion of the Aerial Merger, TDS intends to terminate
certain intercompany agreements between TDS and Aerial. See Note 1 - Proposed
TDS Corporate Restructuring for a discussion of the proposed merger.
5. LONG-TERM DEBT
On November 4, 1996, the Company issued $226.2 million in aggregate principal
amount at maturity Series A Zero Coupon Notes ("Series A Notes") due in 2006.
The issue price of the Series A Notes was $100 million and there is no
periodic payment of interest. The per annum yield to maturity on the Series A
Notes is 8.34% (computed on a semi-annual bond equivalent basis) and the
effective rate is 8.09%. The proceeds of the sale of the Series A Notes were
paid to Nokia Telecommunications Inc. ("Nokia") in satisfaction of all then
outstanding obligations and future obligations up to $100 million of the
Company under the June 19, 1996, Credit Agreement, as amended, with Nokia
(the "Credit Agreement" or "Nokia Credit Agreement"). The excess of the
proceeds from the sale of the Series A Notes over the Company's current
obligations (i.e., financed purchases under the Credit Agreement) to Nokia
was recorded as Prepaid network infrastructure costs. Nokia paid the Company
monthly interest on the unused portion of the proceeds from the Series A
Notes. At December 31, 1996, the Company had recorded $70.3 million in
Prepaid network infrastructure costs. The Company paid Nokia for future
equipment purchases by reducing the amount of the prepaid balance by the cost
of the equipment purchased. Prepaid network infrastructure costs were fully
utilized for the purchase of equipment by the end of August 1997.
<PAGE>
AERIAL COMMUNICATIONS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The Series A Notes are unsecured obligations of the Company and rank in the
same priority with all other unsecured and unsubordinated indebtedness of the
Company. The Series A Notes and obligations of the Company under the Credit
Agreement are fully and unconditionally guaranteed by TDS at an annual fee
rate of 3%. Guarantee fees owed TDS are payable semiannually. The Series A
Notes are subject to optional redemption by the Company after five years from
the date of issuance at redemption prices which reflect the original issue
discount accured since issuance.
At December 31, 1997, the Company had a balance of $196.4 million in
Long-term debt which consisted of $112.1 million related to the Series A
Notes and $84.3 million in obligations under the Nokia Credit Agreement. The
Company pays interest monthly to Nokia on the outstanding balance under the
Credit Agreement. At December 31, 1996, the balance in Long-term debt was
$103.7 million which related entirely to the Series A Notes.
The carrying value of the Company's Series A Notes is greater than its fair
value, estimated to be $108.8 million. The fair value was estimated using
discounted cash flow analysis. The carrying value of the Company's
obligations under the Nokia Credit Agreement approximates the fair value of
the obligations, as the Credit Agreement is variable debt with the interest
rate based on the 30 day London Interbank Offered Rate ("LIBOR") plus 0.32%.
6. RELATED PARTY TRANSACTIONS
The Company is billed for all services it receives from TDS and its
subsidiaries, consisting primarily of information processing and general
management services. Such billings are based on expenses specifically
identified to the Company and on allocations of common expenses. Such
allocations are based on the relationship of the Company's assets, employees,
investment in plant and expenses to the total assets, employees, investment
in plant and expenses of TDS. Management believes the method used to allocate
common expenses is reasonable and that all expenses and costs applicable to
the Company are reflected in the accompanying financial statements on a basis
which is representative of what they would have been if the Company operated
on a stand alone basis. Billings to the Company from TDS totaled $3.9
million, $2.0 million and $1.2 million during 1997, 1996 and 1995,
respectively.
In 1996, TDS completed development of a new financial reporting system for
all of its subsidiaries, including the Company. The Company recorded
approximately $2.4 million related to this system in Property and equipment.
In 1997 and 1996, the Company deposited its excess cash in a cash management
program administered by TDS. Deposits made into the program were generally
available to the Company with interest each month equal to 30 day commercial
paper rates plus 0.25%.
On December 31, 1995, the Company received additional equity funding of
$289.2 million from TDS. The Company recorded the $289.2 million in
Additional paid-in capital.
Subject to the completion of the Aerial Merger, TDS intends to terminate
certain intercompany agreements between TDS and Aerial. See Note 1 - Proposed
TDS Corporate Restructuring for a discussion of the proposed merger.
<PAGE>
AERIAL COMMUNICATIONS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
7. COMMITMENTS
The costs of development, construction, start-up and post-launch activities
of the Company require substantial capital. From inception through December
31, 1997, the Company had expended approximately $304.4 million for its six
licenses, including capitalized interest, approximately $642.1 million for
all other capital expenditures and incurred cumulative net losses of $292.9
million. At December 31, 1997, the Company had orders totaling approximately
$12.9 million with Nokia and certain tower vendors for infrastructure
equipment as part of the Company's initial build out of its PCS networks.
Also at December 31, 1997, the Company had orders totaling approximately
$27.1 million with various handset vendors for handsets and accessories. The
Company expects to incur significant operating losses and to generate
negative cash flow from operating activities during the next several years as
it continues to build its PCS customer base. The Company estimates that its
aggregate capital requirements for 1998 will total approximately $310
million, with $75 million needed for capital additions and $235 million
needed to fund operations.
The Company and its subsidiaries have leases for certain office facilities,
warehouses, retail store locations and cell sites which are classified as
operating leases. For the years ended December 31, 1997, 1996 and 1995, rent
expense for term leases was $10.3 million, $2.1 million and $0.2 million,
respectively, and for cancelable leases $1.1 million, $0.5 million and $0.1
million, respectively. At December 31, 1997, the aggregate minimum rental
commitments under noncancelable operating leases for the years 1998 through
2002 and 2003 and thereafter, are approximately $15.5 million, $15.5 million,
$15.2 million, $14.2 million, $9.3 million and $14.3 million, respectively.
LEGAL PROCEEDINGS
On January 5, 1998, an individual who claims to be a holder of Aerial Common
Shares, filed a putative class action complaint on behalf of common
stockholders of the Company in the Court of Chancery of the State of Delaware
in New Castle County. The complaint names as defendants, TDS, the Company and
the directors of TDS and the Company. The complaint alleges a breach of
fiduciary duties by the defendants and seeks to have the Aerial Merger
enjoined or, if it is consummated, to have it rescinded and to recover
unspecified damages, fees and expenses. A virtually identical complaint has
been filed by a second individual. None of the defendants have been served
with this complaint. The Company intends to vigorously defend itself against
these lawsuits.
8. COMMON STOCK
TAX-DEFERRED SAVINGS PLAN
Effective July 1, 1995, the Company adopted the TDS Tax-Deferred Savings Plan
(the "Savings Plan"), a qualified profit sharing plan pursuant to Sections
401(a) and 401(k) of the Internal Revenue Code. As amended on August 15,
1996, participating employees have the option of investing their
contributions in Aerial Common Shares, TDS Common Shares, United States
Cellular Corporation (a subsidiary of TDS) Common Shares, American Paging,
Inc. (a subsidiary of TDS) Common Shares, or five other non-affiliated funds.
The Company has reserved 300,000 Common Shares for issuance under the Savings
Plan. Employer matching contributions are made in Aerial Common Shares.
Aerial employees were issued 184,533 Common Shares in 1997 and 23,460 Common
Shares in 1996 in connection with the Savings Plan.
STOCK-BASED COMPENSATION PLANS
The Company accounts for stock options and its employee stock purchase plan
under Accounting Principles Board Opinion No. 25, "Accounting for Stock
Issued to Employees" ("APB 25"). No compensation costs have been recognized
for the employee stock purchase plan. Some options granted in 1997 had
exercise prices that were less than the quoted market price of the Company's
stock on the date they were granted. In accordance with APB 25, compensation
expense of $26,000 was recorded related to these options in 1997.
<PAGE>
AERIAL COMMUNICATIONS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Had compensation expense for all plans been determined consistent with
Statement of Financial Accounting Standards No. 123, "Accounting for
Stock-Based Compensation," the Company's Net (Loss) and (loss) per share
would have been increased to the following pro forma amounts:
<TABLE>
<CAPTION>
Year Ended December 31, 1997 1996
- - ----------------------------------------------------------------------------------------
(Dollars in thousands, except per share amounts)
<S> <C> <C>
Net (Loss)
As Reported $(247,057) $(37,921)
Pro Forma $(250,957) $(38,323)
Basic and diluted (loss) per share
As Reported $ (3.45) $ (0.56)
Pro Forma $ (3.51) $ (0.57)
</TABLE>
A summary of the status of the Company's stock option plan at December 31,
1996 and 1997, and changes during the years ended is presented in the table
and narrative below:
<TABLE>
<CAPTION>
Weighted Average
------------------------------------------
Remaining
Contractual
Number of Shares Option Prices Fair Values Life
- - -----------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Outstanding January 1, 1996 -
Granted 310,305 $17.00 $7.41
- - -----------------------------------------------------------------------------------------------------------
Outstanding December 31, 1996
(61,397 exercisable at $17.00) 310,305 $17.00 9.33 Years
Granted 1,137,435 $ 9.46 $4.42
Exercised (2,553) $ 4.94
Forfeited (56,450) $14.44
- - -----------------------------------------------------------------------------------------------------------
Outstanding December 31, 1997
(633,030 exercisable from $4.94 to $17.00) 1,388,737 $10.95 8.51 Years
</TABLE>
EMPLOYEE STOCK OPTIONS
Effective April 25, 1996, the Company began providing long-term incentive
benefits for its senior managers by adopting the Aerial Communications, Inc.
Long-Term Incentive Plan (the "Stock Option Plan"). The Company has reserved
1.5 million Common Shares for option grants. During 1997, Aerial employees
were issued 767 Common Shares in connection with the Stock Option Plan. The
options are exercisable over a specified period not in excess of ten years
from the date they are granted. Options granted in 1996 and 1997 expire in
2006 and 2007, or the date of the employee's termination of employment, if
earlier. Most options vest annually over five years in 20% increments, from
December 15, 1996, through December 15, 2000. The fair value of each option
grant was estimated on the date of grant using the Black-Scholes option
pricing model with the following weighted average assumptions for 1997 and
1996, respectively: risk free interest rates of 6.59% and 5.53%; dividend
yield of 0%; expected lives of 9.4 years and 7.4 years; and volatility of
51.32% and 26.36%.
<PAGE>
AERIAL COMMUNICATIONS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
EMPLOYEE STOCK PURCHASE PLAN
The Company adopted the 1996 APTI Employee Stock Purchase Plan (the "Stock
Purchase Plan") effective October 1, 1996. The Company has reserved 200,000
Common Shares for sale to the employees of the Company and its subsidiaries
in connection with the Stock Purchase Plan. Shares can be purchased twice a
year and the price per share is 85% of the stock's closing price on
designated purchase dates. During 1997, Aerial employees were issued 59,822
Common Shares in connection with the Stock Purchase Plan. The fair value of
the employees' purchase rights was estimated on the date of grant using the
Black-Scholes option pricing model with the following weighted average
assumptions for 1997: risk free interest rate of 6.21%; dividend yield of 0%;
expected life of 0.8 years; and volatility of 51.18%.
NON-EMPLOYEE DIRECTOR COMPENSATION
In April 1997, the Company established the Compensation Plan For Non-Employee
Directors (the "Compensation Plan"). Under the Compensation Plan, the
Company's independent directors are to be paid an annual fee of $20,000 that
is payable half in cash and half in Company stock. The number of Common
Shares to be delivered to each independent director is based upon the average
market value of the Company's stock for a certain period prior to the date of
the Annual Shareholder's Meeting. The Company has reserved 20,000 Common
Shares for issuance to the Company's independent directors under the
Compensation Plan. In 1997, 6,003 shares were issued to non-employee
directors under this plan.
INITIAL PUBLIC OFFERING
The Company sold 12.3 million Common Shares at a price of $17 per share in an
initial public offering on April 25, 1996. Proceeds of the offering, net of
underwriting discounts and commissions, totaled $195.3 million. The Company
used a portion of the net proceeds to repay TDS approximately $64.1 million,
representing the then outstanding balance (including accrued interest) under
the Revolving Credit Agreement, and used the balance of the funds to
partially finance construction, development and operating costs incurred to
establish its PCS networks. Proceeds of the offering were fully utilized by
the end of January 1997.
RECAPITALIZATION
On March 28, 1996, TDS, as the sole shareholder of the Company at such time,
executed a consent to action in lieu of a meeting, voting all 1,000 shares of
common stock of the Company then outstanding for the approval of a Restated
Certificate of Incorporation of the Company. Such Restated Certificate of
Incorporation authorized (a) 60 million Common Shares, $1.00 par value per
share; (b) 60 million Series A Common Shares, $1.00 par value per share; (c)
60 million Series B Common Shares, $1.00 par value per share; and (d) 10
million Preferred Shares, $1.00 par value per share. Upon the filing of the
Restated Certificate of Incorporation with the Secretary of State of the
State of Delaware on April 19, 1996, the 1,000 shares of common stock of the
Company theretofore held by TDS were converted into 19.1 million common
shares and 40 million Series A Common Shares of the Company.
SERIES A COMMON SHARES
Series A Common Shares are convertible on a share-for-share basis into Common
Shares and are entitled to 15 votes per share. No Series A Common Shares were
converted during 1997 or 1996.
<PAGE>
AERIAL COMMUNICATIONS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
9. SUBSEQUENT EVENTS
Pursuant to the Credit Agreement, on February 5, 1998, the Company issued
$220.0 million in aggregate principal amount at maturity Series B Zero Coupon
Notes ("Series B Notes") due in 2008. The issuance of the Series B Notes
represents the final issuance of zero coupon notes under the Credit
Agreement. The issue price of the Series B Notes was $100 million and there
is no periodic payment of interest. The per annum yield to maturity on the
Series B Notes is 8.05% (computed on a semi-annual bond equivalent basis).
The proceeds from the sale of the Series B Notes were paid to Nokia in
satisfaction of all then outstanding obligations and future obligations of
the Company (to the extent not satisfied from the proceeds of the sale of the
Series A Notes) up to $100 million under the Credit Agreement.
The Series B Notes are unsecured obligations of the Company and rank in the
same priority with all other unsecured and unsubordinated indebtedness of the
Company. The Series B Notes are fully and unconditionally guaranteed by TDS
at annual fee rate of 3%. Guarantee fees owed TDS are payable semiannually.
The Series B Notes are subject to optional redemption by the Company after
five years from the date of issuance at redemption prices which reflect
original issue discount accured since issuance.
In February 1998, the Company secured from TDS a $50 million increase in the
amount it may borrow under the Revolving Credit Agreement to $525 million.
10. CONSOLIDATED QUARTERLY FINANCIAL INFORMATION (UNAUDITED)
<TABLE>
<CAPTION>
Quarter Ended March 31 June 30 Sept. 30 Dec. 31
- - ----------------------------------------------------------------------------------------------------------------
(Dollars in thousands, except per share amounts)
<S> <C> <C> <C> <C>
1997
Operating Revenues $ - $ 7,143 $ 18,648 $ 30,161
Operating (Loss) (21,614) (51,633) (64,537) (80,381)
Net (Loss) (22,340) (55,475) (76,598) (92,644)
Weighted Average Common and Series A
Common Shares (000) 71,384 71,499 71,559 71,604
(Loss) per Common and Series A
Common Share $ (0.31) $ (0.78) $ (1.07) $ (1.29)
1996
Operating Revenues $ - $ - $ - $ -
Operating (Loss) (5,746) (7,761) (10,805) (19,638)
Net (Loss) (6,671) (7,206) (9,829) (14,215)
Weighted Average Common and
Series A Common Shares (000) 59,086 68,105 71,336 71,355
(Loss) per Common and Series A
Common Share $ (0.11) $ (0.11) $ (0.14) $ (0.20)
</TABLE>
<PAGE>
AERIAL COMMUNICATIONS, INC. AND SUBSIDIARIES
REPORT OF MANAGEMENT
Management of Aerial Communications, Inc. ("Aerial") has the responsibility
for preparing the accompanying consolidated financial statements and for
their integrity and objectivity. The statements were prepared in accordance
with generally accepted accounting principles applied on a consistent basis,
and in management's opinion are fairly presented. The financial statements
include amounts that are based on management's best estimates and judgments.
Management also prepared the other information in the annual report and is
responsible for its accuracy and consistency with the financial statements.
Management has established and maintains a system of internal control that
provides reasonable assurance as to the integrity and reliability of the
financial statements, the protection of assets from unauthorized use or
disposition and the prevention and detection of fraudulent financial
reporting.
The system of internal control provides for appropriate division of
responsibility and is documented by written policies and procedures that are
communicated to employees with significant roles in the financial reporting
process and updated as necessary. Management monitors the system of internal
control for compliance, considers recommendations for improvements and
updates such policies and procedures as necessary. Monitoring includes an
internal auditing program to independently assess the effectiveness of the
internal controls and recommend possible improvements thereto. Management
believes that the Aerial system of internal control is adequate to accomplish
the objectives discussed herein. The concept of reasonable assurance
recognizes that the costs of a system of internal accounting controls should
not exceed, in management's judgment, the benefits to be derived.
The consolidated financial statements of Aerial Communications, Inc. have
been audited by Arthur Andersen LLP, Independent Public Accountants.
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Shareholders and Board of Directors of Aerial Communications, Inc.:
We have audited the accompanying consolidated balance sheets of Aerial
Communications, Inc. (a Delaware Corporation and an 82.5%-owned subsidiary of
Telephone and Data Systems, Inc.) and Subsidiaries (the "Company") as of
December 31, 1997 and 1996, and the related consolidated statements of
operations, changes in shareholders' equity and cash flows for each of the
three years in the period ended December 31, 1997. These consolidated
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these consolidated financial
statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements.
An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Aerial Communications, Inc.
and Subsidiaries as of December 31, 1997 and 1996, and the results of their
operations and their cash flows for each of the three years in the period
ended December 31, 1997 in conformity with generally accepted accounting
principles.
/s/ Arthur Andersen LLP
Arthur Andersen LLP
Chicago, Illinois
January 28, 1998
(Except with respect to the matters discussed in Note 9, as to which the date
is February 5, 1998)
40
<PAGE>
AERIAL COMMUNICATIONS, INC. AND SUBSIDIARIES
AERIAL STOCK AND DIVIDEND INFORMATION
The Company's Common Shares are listed on the NASDAQ under the symbol "AERL"
and in the newspaper as "Aerial". As of February 28, 1998, the Company's Common
Shares were held by 579 registered holders and 6,500 beneficial holders. All
of the Series A Common Shares were held by TDS. No public trading market exists
for the Series A Common Shares, but the Series A Common Shares are
convertible on a share-for-share basis into Common Shares.
The trading price of the Common Shares on April 25, 1996, the date on which
the Common Shares were first offered for sale to the public was $17.00 per
share.
The Company has never paid any cash dividends and currently intends to retain
any future earnings for use in the Company's business. In addition, the
Revolving Credit Agreement with TDS prohibits the payment of dividends on
the Company's Common Shares and Series A Common Shares, except to the extent of
one-half of the cumulative consolidated net income, if any, of the Company
for periods after December 31, 1996.
MARKET PRICE PER COMMON SHARE BY QUARTER
No public trading market exists for Aerial's Series A Common Shares and
therefore, quotations are not available. The high and low sales prices of the
Common Shares on the NASDAQ as reported by the Dow Jones News Service are as
follows:
<TABLE>
<CAPTION>
1997 1st 2nd 3rd 4th
- - ---------------------------------------------------------
<S> <C> <C> <C> <C>
High $ 8.88 $ 9.63 $ 9.94 $10.63
Low $ 5.25 $ 3.88 $ 7.38 $ 7.00
1996 1st 2nd 3rd 4th
- - ---------------------------------------------------------
High $ -- $17.75 $12.00 $10.13
Low $ -- $ 9.75 $ 8.25 $ 6.63
</TABLE>
<PAGE>
EXHIBIT 21
AERIAL COMMUNICATIONS, INC.
SUBSIDIARIES OF AERIAL COMMUNICATIONS, INC.
<TABLE>
<CAPTION>
STATE OF
INCORPORATION
LEGAL NAME OR ORGANIZATION
- - ------------------------------------------------------------------------------ ----------------
<S> <C>
APT Columbus, Inc............................................................. Delaware
APT Kansas City, Inc.......................................................... Delaware
APT Tampa/Orlando, Inc........................................................ Delaware
APT Minneapolis, Inc.......................................................... Delaware
APT Houston, Inc.............................................................. Delaware
APT Pittsburgh Limited Partnership............................................ Delaware
APT Operating Company, Inc.................................................... Delaware
APT Pittsburgh General Partner, Inc........................................... Delaware
</TABLE>
<PAGE>
EXHIBIT 23
CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS
As independent public accountants, we hereby consent to the incorporation by
reference in this Form 10-K of Aerial Communications, Inc., of our report dated
January 28, 1998 (except with respect to the matters discussed in Note 9, as to
which the date is February 5, 1998), on the consolidated financial statements of
Aerial Communications, Inc. and Subsidiaries (the "Company") included in the
Company's 1997 Annual Report to Shareholders, to the inclusion in this Form 10-K
of our report dated January 28, 1998 (except with respect to the matters
discussed in Note 9, as to which the date is February 5, 1998), on the financial
statement schedule of the Company, and to the incorporation of such reports into
the Company's previously filed S-8 Registration Statements, File No. 333-06471,
File No. 333-10199, File No. 333-10201, File No. 333-26429 and File No.
333-32743.
ARTHUR ANDERSEN LLP
Chicago, Illinois
March 26, 1998
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM
THE CONSOLIDATED FINANCIAL STATEMENTS OF AERIAL COMMUNICATIONS, INC.
AS OF DECEMBER 31, 1997 AND FOR THE YEAR THEN ENDED, AND IS QUALIFIED IN
ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> DEC-31-1997
<PERIOD-START> JAN-01-1997
<PERIOD-END> DEC-31-1997
<CASH> 5,012
<SECURITIES> 788
<RECEIVABLES> 31,282
<ALLOWANCES> 7,252
<INVENTORY> 25,949
<CURRENT-ASSETS> 58,203
<PP&E> 642,122
<DEPRECIATION> 38,018
<TOTAL-ASSETS> 960,648
<CURRENT-LIABILITIES> 109,769
<BONDS> 196,439
0
0
<COMMON> 71,611
<OTHER-SE> 120,816
<TOTAL-LIABILITY-AND-EQUITY> 960,648
<SALES> 23,645
<TOTAL-REVENUES> 55,952
<CGS> 71,454
<TOTAL-COSTS> 274,117
<OTHER-EXPENSES> 21
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 27,065
<INCOME-PRETAX> (245,251)
<INCOME-TAX> 1,806
<INCOME-CONTINUING> (247,057)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (247,057)
<EPS-PRIMARY> (3.45)
<EPS-DILUTED> (3.45)
</TABLE>
