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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 1999
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OR
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
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Commission File Number 0-28262
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AERIAL COMMUNICATIONS, INC.
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(Exact name of registrant as specified in its charter)
Delaware 39-1706857
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(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
8410 West Bryn Mawr, Suite 1100, Chicago, Illinois 60631
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(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (773) 399-4200
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 the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
Class Outstanding at April 30, 1999
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Common Shares, $1 par value 31,908,297 Shares
Series A Common Shares, $1 par value 40,000,000 Shares
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<PAGE>
AERIAL COMMUNICATIONS, INC.
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1st QUARTER REPORT ON FORM 10Q
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INDEX
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Page No.
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Part I. Financial Information
Management's Discussion and Analysis of
Results of Operations and Financial Condition 2-11
Consolidated Statements of Operations -
Three Months Ended March 31, 1999 and 1998 12
Consolidated Statements of Cash Flows -
Three Months Ended March 31, 1999 and 1998 13
Consolidated Balance Sheets -
March 31, 1999 and December 31, 1998 14
Notes to Consolidated Financial Statements 15-17
Part II. Other Information 18
Signatures 19
<PAGE>
PART I. FINANCIAL INFORMATION
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AERIAL COMMUNICATIONS, INC.
-----------------------------
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS
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AND FINANCIAL CONDITION
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RESULTS OF OPERATIONS
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Aerial Communications, Inc. ("Aerial" or the "Company" - NASDAQ symbol: AERL),
an 82.2%- 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. The Company provides PCS service in Minneapolis, Tampa-St.
Petersburg-Orlando, Houston, Pittsburgh, Kansas City and Columbus (Ohio).
Following is a table of summarized operating data for the Company's consolidated
operations.
<TABLE>
<CAPTION>
As of March 31, 1999 1998
- --------------- ---- ----
<S> <C> <C>
Total MTA population (in millions) 27.7 27.6
Customers 331,600 166,000
Average revenue per customer (year to date) $ 46 $ 57
MTA penetration 1.20% 0.60%
Cell sites in service 1,180 1,118
Total number of employees 1,783 1,399
</TABLE>
In December 1998, TDS announced that it was pursuing a tax free spin-off of its
82.2% interest in Aerial, as well as reviewing other alternatives. See Proposed
TDS Corporate Restructuring for further discussion of the spin-off.
Three Months Ended 3/31/99 Compared to Three Months Ended 3/31/98
Operating Revenues
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Operating revenues totaled $50.5 million in 1999, an increase of $19.8 million
as compared to 1998. The increase in operating revenues reflects the growth of
the Company's customer base in the past year as the Company has added over
165,000 customers since March 31, 1998.
Service revenue totaled $44.1 million in 1999, an increase of $20.0 million as
compared to 1998. Service revenue primarily consists of charges for access,
airtime and value-added services provided to the Company's customers who use the
network operated by the Company (local service revenue). Service revenue also
consists of charges to customers of other wireless carriers who use the
Company's PCS network when roaming (outcollect roaming revenue) and charges for
long-distance calls made on the Company's systems (long-distance revenue). The
increase in 1999 service revenue was driven by the growth in the number of
customers using
2
<PAGE>
the Company's PCS network during 1999 as compared to 1998 partially offset by a
decline in average revenue per customer per month ("ARPU"). The Company's ARPU
was $46 for the three months ended March 31, 1999 as compared to $57 for the
same period in 1998. The decline in ARPU reflects the addition of more moderate
wireless users to the Company's customer base.
Equipment sales revenue totaled $6.4 million in 1999, a decrease of $0.2 million
as compared to 1998. Equipment sales represents the sale of handsets and related
accessories to retailers, independent agents, and end user customers. The
decrease in equipment sales revenue is due primarily to a decline in handset
sales prices partially offset by an increase in the number of handsets sold in
1999 as compared to 1998.
Operating Expenses
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Operating expenses totaled $100.4 million in 1999, an increase of $0.3 million
as compared to 1998. Operating expenses increased across most functional areas
due to the Company's increased level of business activity during the first
quarter of 1999 as compared to 1998, substantially offset by a decrease in cost
of equipment sold.
System operations expense totaled $20.4 million in 1999, an increase of $5.0
million as compared to 1998. System maintenance expenses increased $4.3 million,
primarily for maintenance service performed on the Company's PCS network. The
Company began incurring charges for these services during the second half of
1998.
Other significant system operations expenses include salaries and employee
related-expenses which increased $1.4 million, primarily reflecting an increase
in engineering and maintenance personnel in 1999 as compared to 1998. Other
systems operations expenses such as property tax expense, consulting expense and
utility expense increased $1.3 million in aggregate.
System operations expense also includes cell site rent expense, customer usage
expense and net roamer expense which decreased $2.0 million in aggregate.
Marketing and selling expense totaled $20.1 million in 1999, an increase of $2.6
million as compared to 1998. The increase in sales and marketing expense is due
primarily to increases in commissions expense, retail store repair and
maintenance expenses, rent expense and sales promotion and research expenses.
Increases in these expense areas were partially offset by a decrease in
advertising expense.
Customer service expense totaled $9.9 million in 1999, a decrease of $1.0
million as compared to 1998. With the completion of the Kansas City customer
service center in 1998, the Company has replaced most of its temporary customer
service employees with permanent employees. As a result, salaries and other
employee related expenses increased $1.6 million while consulting and temporary
service expense decreased $1.0 million. Customer service expense also includes
bad debt expense which decreased $1.6 million in 1999 as compared to 1998.
3
<PAGE>
Cost of equipment sold totaled $12.4 million in 1999, a decrease of $10.4
million as compared to 1998. The decrease reflects a significant decline in
handset cost per unit, partially offset by an increase in handsets sold.
General and administrative expense totaled $15.9 million in 1999, an increase of
$2.0 million as compared to 1998. General and administrative expenses include
the costs of operating the Company's local business offices and its corporate
expenses other than the corporate engineering and marketing departments.
Salaries and other employee related expenses were the primary reason for the
change, reflecting an increase in personnel since March 31, 1998.
Depreciation expense was $19.9 million in 1999, an increase of $2.1 million as
compared to 1998. The increase is due to an increase in the Company's fixed
asset balances. As of March 31, 1999, the Company had $720.1 million of property
and equipment in service as compared to March 31, 1998, when the Company had
$652.6 million of property and equipment in service.
Operating (Loss)
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Operating (Loss) totaled $(49.8) million in 1999, a decrease of $19.5 million as
compared to 1998, largely as a result of the increase in operating revenues in
1999. Although service revenues are expected to continue to grow during the
remainder of 1999 as the Company builds its customer base, the Company expects
to continue to have operating losses and to generate negative cash flow at least
through 1999 as it incurs costs associated with that growth.
Investment and Other Income (Expense)
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Investment and Other Income (Expense) totaled $(8.7) million in 1999, a decrease
of $9.7 million as compared to 1998. The decrease is primarily due to the
allocation of $8.0 million of the consolidated net income of Aerial Operating
Company, Inc. ("AOC") to the Company's minority investor (See Note 5 - Minority
Interest). AOC recorded net income in the first quarter of 1999 as a result of
the income tax benefit generated by the $114.5 million received from TDS related
to the tax settlement agreement (see Income Taxes below). The remainder of the
decrease in investment and other income (expense) is primarily due to
professional fees of $1.1 million associated with the proposed spin-off of the
Company (See Note 8-Proposed TDS Corporate Restructuring) which are included in
other (expense) in 1999.
Interest and Income Taxes
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Interest expense-affiliate totaled $17.0 million in 1999, an increase of $3.4
million as compared to 1998. In 1999, interest expense-affiliate represents
interest on amounts borrowed under the Revolving Credit Agreement with TDS and
the 3% guarantee fees associated with the Series A and Series B Zero Coupon
Notes and the Nokia 1998 Credit Agreement. The average balance of borrowings
under the Revolving Credit Agreement was greater in 1999 as compared to 1998,
resulting in greater interest expense.
Interest expense-other totaled $5.0 million in 1999, an increase of $0.9 million
as compared to 1998. In 1999, Interest expense-other relates to interest expense
accreted on the Series A and Series B Zero Coupon Notes, as well as interest
expense related to the Nokia 1998 Credit
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Agreement. The average outstanding balance of long-term debt was greater in 1999
as compared to 1998, resulting in greater interest expense.
Income taxes. The Company is included in a consolidated federal tax return with
other members of the TDS consolidated group. For financial reporting purposes,
the Company computes its 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 may carry forward any losses and credits and use them to offset income
tax liabilities to TDS if any arise in the future.
On March 12, 1999, the TDS and Aerial boards of directors approved a tax
settlement agreement calling for payment of $114.5 million from TDS to Aerial
under the September 8, 1998 Tax Allocation Agreement. The settlement covers tax
losses incurred by Aerial and used by TDS for the period commencing January 1,
1996 and ending with the date of the proposed spin-off of Aerial, currently
planned for the end of 1999. The settlement amount was used to repay a portion
of the existing AOC indebtedness to TDS under the Revolving Credit Agreement.
The payment of the $114.5 million by TDS, partially offset by an increase in
deferred income tax expense of $0.6 million, resulted in a net income tax
benefit of $113.9 million for the first quarter of 1999.
Net Income (Loss) and Net Income (Loss) Per Common and Series A Common Share
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Net income (loss) totaled $33.4 million in 1999 and $(86.9) million in 1998. Net
income (loss) per Common and Series A Common Share was $0.46 in 1999 and $(1.21)
in 1998. The change in the Company's Net income (loss) and Net income (loss) per
Common and Series A Common Share in 1999 reflects primarily the income tax
benefit generated by the $114.5 million received by the Company from TDS related
to the tax settlement agreement.
LIQUIDITY AND CAPITAL RESOURCES
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The costs of development, construction, start-up and post-launch activities of
the Company require substantial capital. From inception through March 31, 1999,
the Company had expended $304.4 million for its six licenses, including
capitalized interest, $750.0 million for all other capital expenditures and
incurred cumulative net losses of $597.4 million. The Company expects to
continue to incur significant operating losses and generate negative cash flow
from operating activities at least through 1999 as it continues to build its
customer base.
Cash flows from operating activities provided $52.7 million in 1999 and required
$62.6 million in 1998. Operating cash outflow (operating loss before
depreciation and amortization expense) totaled $28.1 million in 1999 as compared
to $49.6 million in 1998. Cash flows from the March 12, 1999 tax settlement
agreement with TDS and from other operating activities (investment and other
income, interest expense, changes in working capital and changes in other assets
and liabilities) provided $80.8 million in 1999 and required $13.0 million in
1998.
5
<PAGE>
Cash flows from financing activities required $46.9 million in 1999 and provided
$87.8 million in 1998. Cash required in 1999 was primarily due to the Company
paying $114.5 million to TDS to repay a portion of the outstanding balance under
the Revolving Credit Agreement. Also in 1999, the Company had borrowings under
the Revolving Credit Agreement of $66.9 million. In 1998, borrowings under the
Revolving Credit Agreement provided $87.3 million.
Cash flows used in investing activities totaled $5.9 million in 1999 as compared
to $29.1 million in 1998. Cash used in 1999 and 1998 was primarily for additions
to property and equipment for PCS network and information system assets. Fixed
asset additions were financed through a combination of borrowings under the
Revolving Credit Agreement with TDS, and proceeds from Series B Zero Coupon
Notes and the Nokia 1996 and 1998 Credit Agreements.
For 1999, the Company estimates that the aggregate funds required for capital
expenditures for the continuing development of its PCS networks and services
will total approximately $105 million. The Company will be building additional
cell sites to augment its existing coverage area, primarily corridor coverage on
interstates to suburbs. The Company will continue to upgrade its switching and
other fixed network equipment to support future customer growth. Also in 1999,
capital expenditures related to information systems will include a significant
upgrade of the Company's billing system, including new hardware and software to
support employee and customer growth, to address the Year 2000 Issue and for
other project initiatives.
The Company estimates requiring $235 million for working capital requirements to
fund operations for all of 1999, including an estimated $85 million in interest
expense.
On June 30, 1998, the Company and Nokia Telecommunications Inc. ("Nokia")
entered into an agreement ("1998 Credit Agreement") in which Nokia will provide
up to an aggregate $150 million in financing to the Company for the purchase of
network infrastructure equipment and services from Nokia. Loans under the 1998
Credit Agreement are to be made available in two $75 million tranches. With
respect to Tranche A, the Company may borrow up to $75 million until June 30,
1999. Tranche A loans mature on June 30, 1999; however, the maturity date of
Tranche A loans may be extended to June 30, 2000, upon written notice and
payment of an extension fee by the Company to Nokia. A second $75 million
("Tranche B") becomes available commencing on June 30, 1999, and ending on June
30, 2000, the maturity date of Tranche B loans. The obligations of the Company
under the 1998 Credit Agreement are fully and unconditionally guaranteed by TDS
at an annual fee rate of 3%. As of March 31, 1999, the Company had $19.7 million
available for borrowing under the Tranche A portion of the 1998 Credit Agreement
with Nokia.
Under the TDS Revolving Credit Agreement, as amended, AOC may borrow up to a
maximum amount (the "Maximum Amount"), less the amount of any debt or equity
financing obtained by AOC or the Company, including the amount of any borrowings
under the Nokia 1998 Credit Agreement. The Maximum Amount under the amended
Revolving Credit Agreement was increased to $650 million in February 1999. The
interest rate under the amended Revolving Credit Agreement is equal to the prime
rate plus 3%. Interest on the balance due under the amended Revolving Credit
Agreement is payable quarterly and no principal is payable until April 2, 2000.
In March 1999, TDS paid the Company $114.5 million as a settlement for tax
losses incurred by the Company and utilized by the TDS consolidated tax group.
The Company used
6
<PAGE>
the funds to repay a portion of the existing AOC indebtedness to TDS, thereby
increasing the amount available under the Revolving Credit Agreement. The net
amount available for borrowings under the Revolving Credit Agreement was $92.4
million at March 31, 1999. Accordingly, available funding under the Revolving
Credit Agreement is now expected to last through June of 1999.
TDS has not committed to any further financing of the Company's operations. It
is the intent of TDS and Aerial management to obtain the necessary level of
financial support from sources other than TDS to enable the Company to pay its
debts as they become due. TDS and Aerial management believe the Company has the
ability to obtain that financial support. Sources of additional capital may
include vendor financing and public and private equity and debt financings by
the Company or its subsidiaries. If sufficient future funding is not available
on terms and prices acceptable to the Company, the Company would have to reduce
its construction and operating activities or take other actions, which could
have a material adverse impact on the Company's financial condition and results
of operations.
Proposed TDS Corporate Restructuring
In December 1998, TDS announced that it was pursuing a tax-free spin-off of its
82.2% interest in Aerial, as well as reviewing other alternatives. TDS intends
to ask the Internal Revenue Service ("IRS") to rule on the tax-free status of
such a distribution. There are a number of conditions that must be met for a
spin-off to occur, including a receipt of a favorable IRS ruling, final approval
by the TDS Board, certain government and third party approvals and review by the
Securities and Exchange Commission ("SEC") of appropriate SEC filings. TDS
intends to seek shareholder approval of a proposal to distribute Aerial Series A
Common Shares, on a pro-rata basis, to holders of TDS Series A Common Shares and
Aerial Common Shares, on a pro-rata basis, to holders of TDS Common Shares.
There can be no assurance that a spin-off will be consummated or that other
alternatives will not be pursued. Prior to any spin-off, it is expected that
Aerial will seek additional financing so that Aerial would have the appropriate
capitalization to operate as a stand-alone entity. In connection with such
financing, all or a portion of Aerial's debt to TDS may be converted into
equity.
On September 8, 1998, pursuant to the terms of a Purchase Agreement dated June
1, 1998 (the "Purchase Agreement"), Sonera Ltd. ("Sonera") made a $200 million
investment in AOC. Sonera purchased approximately 2.4 million shares of common
stock of AOC representing a 19.4% equity interest in AOC. Sonera has the right,
subject to adjustment under certain circumstances, to exchange each share of AOC
common stock which it owns for 6.72919 Common Shares of Aerial. Upon the
exchange of all of the AOC shares, Sonera would own an 18.452% equity interest
in Aerial, reflecting a purchase price equivalent to $12.33 per Common Share of
Aerial (the "Equivalent Purchase Price").
Following the announcement by TDS in December 1998, that it intended to
distribute to its shareholders all of the capital stock of Aerial that it owns,
and that Aerial would seek additional financing from sources other than TDS in
connection therewith, Sonera contacted TDS to express certain concerns about the
announcement. Sonera has asserted that the TDS announcement reflects a change in
circumstances that warrant the renegotiation of certain matters related to its
investment in AOC, including an adjustment in the Equivalent Purchase
7
<PAGE>
Price, and has raised the possibility of litigation in connection therewith. TDS
and Aerial intend to attempt to reach a mutually acceptable resolution of the
concerns raised by Sonera. There can be no assurance that this matter will not
lead to litigation, or that it will not have a material adverse effect on Aerial
or on the plans relating to the refinancing and spin-off of Aerial.
Market Risk
The Company is subject to market rate risks due to fluctuations in interest
rates and equity markets. The majority of the Company's debt is in the form of
variable rate notes with original maturities ranging from 1 to 10 years. The
Series A and Series B Zero Coupon Notes are fixed rate debt and, therefore,
fluctuations in interest rates can lead to fluctuations in the fair value of
these instruments. The Company does not enter into financial derivatives to
reduce its exposure to interest rate risks. There has been no material change in
the fair value relative to the Company's outstanding debt since December 31,
1998.
Year 2000 Issue
The Year 2000 Issue exists because many computer systems and applications
abbreviate dates using only two digits, rather than four digits, e.g., "98"
rather than "1998". Unless corrected, this shortcut may cause problems when the
century date "2000" occurs. On that date, some computer operating systems,
applications and embedded technology may recognize the date as January 1, 1900,
instead of January 1, 2000. If the Company fails to correct any critical Year
2000 processing problems prior to January 1, 2000, the affected systems may
either cease to function or produce erroneous data, which could have material
adverse operational and financial consequences.
The Company's management has established a project team to address the Year 2000
issue. The Company's plan to address the Year 2000 Issue consists of five
general phases: (i) Awareness, (ii) Assessment, (iii) Renovation, (iv)
Validation and (v) Implementation.
The Awareness phase consisted of developing an overall compliance strategy and
establishing a Year 2000 project team that reports periodically to the Company's
Audit Committee. Management has established a Year 2000 Program Office at the
TDS corporate level to coordinate activities of the Year 2000 project team, to
monitor the current status of individual projects, to report periodically to the
TDS Audit Committee, and to promote the exchange of information between all
business units to share knowledge and solution techniques. Aerial management has
made the Year 2000 Issue a top priority. The Year 2000 effort covers the network
and supporting infrastructure for the provision of PCS services; the operational
and financial information technology ("IT") systems and applications, such as
computer systems that support key business functions such as billing, finance,
customer service, procurement and supply; and a review of the Year 2000
compliance efforts of the Company's critical suppliers.
The Assessment phase included the identification of core business areas and
processes, analysis of systems, applications and hardware supporting the core
business areas and the prioritization of renovation or replacement of systems,
applications and hardware that are not Year 2000 compliant. Included in the
Assessment phase is an analysis of risk management
8
<PAGE>
factors such as contingency plans and liability exposure. Except for the
contingency plans as discussed below, the Assessment phase was completed in the
first quarter of 1999.
The Year 2000 project team has identified those mission critical systems,
applications and hardware that are not Year 2000 compliant. These noncompliant
critical systems, applications and hardware have undergone renovation or are
currently in the renovation phase. The Renovation phase consists of the
conversion or replacement of mission critical systems, applications and
hardware. The renovation of mission critical systems, applications and hardware
is scheduled to be completed by the end of the second quarter of 1999.
The mission critical systems, applications and hardware that have been renovated
are undergoing Year 2000 validation testing. The Validation phase includes
testing, verifying and validating the renovated or replaced systems,
applications and hardware. A goal of the Validation phase is to conduct
independent verification testing of mission critical systems, applications and
hardware, as well as network and system component upgrades received from
suppliers. In addition, selected Year 2000 upgrades are slated to undergo
testing in a controlled environment that replicates the current environment and
is equipped to simulate the turn of the century and leap year dates. The
Cellular Telecommunications Industry Association ("CTIA") has formed a working
group to coordinate efforts of various carriers and manufacturers to facilitate
in inter-network Year 2000 testing. The Company is monitoring CTIA's testing
program. Validation of the Company's mission critical systems, applications and
hardware is scheduled to be completed in the third quarter of 1999.
The Implementation phase involves migrating the converted, renovated and
validated mission critical systems, applications and hardware into production.
This phase has been started and is expected to be completed early in the fourth
quarter of 1999.
Management cannot provide assurance that its plan to achieve Year 2000
compliance will be successful, as it is subject to various risks and
uncertainties. The Company's current schedule is subject to change depending on
developments that may arise through unforeseen circumstances in the Renovation,
Validation and Implementation phases of the Company's compliance efforts. The
Company, like most other telecommunications operators, is highly dependent on
network and system suppliers to provide compliant systems, applications, and
hardware and on other third parties, including interconnected telecommunications
service providers, government agencies and financial institutions, to deliver
reliable services. The Company is dependent on the development of compliant
systems, applications, and hardware, and upgrades by experts, both internal and
external, and the availability of critical resources with the requisite skill
sets. The Company's ability to meet its target dates is dependent upon the
timely provision of necessary upgrades and modifications by its suppliers and
internal resources. In addition, the Company cannot guarantee that third parties
on whom it depends for essential services (such as electric utilities, financial
institutions and interconnected telecommunications operators) will convert their
critical systems and processes in a timely manner. Failure or delay by any of
these parties could significantly disrupt the Company's business, including the
provision of PCS services, billing and collection processes and other areas of
the business, and cause a material adverse effect on the Company's results of
operations, financial position and cash flow. The Company has contacted critical
vendors
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<PAGE>
requesting information about their Year 2000 readiness. The responses are being
reviewed and used in developing the Company's overall contingency plans.
The Company's Year 2000 worst case scenario may involve interruption of
telecommunications services and data processing services and/or interruption of
customer billing, operating and other information systems. As part of its Year
2000 initiative, the Company is evaluating a variety of adverse scenarios and is
in the process of developing contingency and business continuity plans tailored
for adverse Year 2000-related occurrences. The contingency and business
continuity plans will assess the potential for business disruption in various
scenarios, and will provide key operational back-up, recovery and restorative
options.
The Company's contingency plan initiatives will include the following:
reviewing, assessing and updating existing business recovery plans; assigning
personnel to teams of subject matter experts who will be on call during the
millennium change to monitor the network, critical systems, operations centers
and business processes to react immediately to facilitate repairs and implement
contingency plans; re-prioritizing of mission critical work processes and
associated resources; developing alternate processes to support critical
customer functions in the event systems, applications or hardware experience
Year 2000 disruptions; working with public safety agencies to provide
alternative methods of emergency communication for the Company's customers and
the agencies; establishing replacement/repair parallel paths to provide for
repair and readiness of existing systems, applications or hardware that are
scheduled for replacement by the year 2000, in the event the replacement
schedules are not met; developing alternate plans for critical suppliers of
systems, applications or hardware that fail to meet Year 2000 compliance
commitment schedules; developing data retention and recovery procedures to be in
place for customer and critical business data to provide pre-millennium backups
with on-site as well as off-site data copies. The Company anticipates having
these contingency plans in place early in the fourth quarter of 1999.
The Company estimates that the total costs of its Year 2000 efforts will be
approximately $15 million, depending on the outcome of the various phases of the
Company's efforts. Through March 31, 1998, the total costs directly associated
with Year 2000 compliance efforts were approximately $4.3 million. The timing of
expenditures may vary and is not necessarily indicative of readiness efforts or
progress to date. Though Year 2000 project costs will directly impact the
reported level of future net income, the Company intends to manage its total
cost structure, including deferral of non-critical projects, in an effort to
mitigate the impact of Year 2000 project costs.
10
<PAGE>
PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995 SAFE HARBOR CAUTIONARY
STATEMENT
This Form 10-Q 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; unanticipated changes in growth in PCS
customers, penetration rates, churn rates and the mix of products and services
offered in the Company's markets and unanticipated problems with the Year 2000
Issue. Readers should evaluate any statements in light of these important
factors.
11
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AERIAL COMMUNICATIONS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
Unaudited
---------
<TABLE>
<CAPTION>
Three Months Ended
March 31,
------------------
1999 1998
---- ----
(Dollars in thousands, except per share amounts)
OPERATING REVENUES
<S> <C> <C>
Service $ 44,098 $ 24,083
Equipment sales 6,443 6,663
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Total Operating Revenues 50,541 30,746
OPERATING EXPENSES
System operations 20,353 15,337
Marketing and selling 20,077 17,432
Customer service 9,851 10,899
Cost of equipment sold 12,402 22,820
General and administrative 15,921 13,875
Depreciation 19,882 17,807
Amortization of intangibles 1,889 1,889
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Total Operating Expenses 100,375 100,059
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OPERATING (LOSS) (49,834) (69,313)
INVESTMENT AND OTHER INCOME (EXPENSE)
Minority share of (income) (8,043) --
Investment (losses) (100) --
Interest income-other 124 360
Other income (expense) (660) 672
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Total Investment and Other Income (Expense) (8,679) 1,032
--------- ---------
(LOSS) BEFORE INTEREST AND INCOME TAXES (58,513) (68,281)
INTEREST EXPENSE
Interest expense-affiliate 17,036 13,673
Interest expense-other 5,008 4,107
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Total Interest Expense 22,044 17,780
(LOSS) BEFORE INCOME TAXES (80,577) (86,061)
Income tax (benefit) expense (113,934) 860
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NET INCOME (LOSS) $ 33,377 $ (86,921)
========= =========
WEIGHTED AVERAGE COMMON AND
SERIES A COMMON SHARES (000s) 71,804 71,636
INCOME (LOSS) PER COMMON AND SERIES
A COMMON SHARE (Basic and Diluted) $ 0.46 $ (1.21)
========= =========
</TABLE>
The accompanying notes to consolidated financial statements are an integral part
of these statements.
12
<PAGE>
AERIAL COMMUNICATIONS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
Unaudited
---------
<TABLE>
<CAPTION>
Three Months ended
March 31,
------------------
1999 1998
---- ----
(Dollars in Thousands)
CASH FLOWS FROM OPERATING ACTIVITIES
<S> <C> <C>
Net Income (Loss) $ 33,377 $ (86,921)
Add (Deduct) adjustments to reconcile
net income (loss) to net cash provided
(used) by operating activities
Depreciation and amortization 21,771 19,696
Noncash interest expense - Series A & B Notes 4,440 3,445
Deferred taxes 566 860
Investment losses 100 --
Minority share of income 8,043 --
Loss on sale of property and equipment 6 90
Change in accounts receivable-customer (1,494) (3,504)
Change in inventory (1,530) 13,035
Change in accounts payable-affiliates 43 (130)
Change in accrued interest-affiliate 2,067 2,355
Change in accounts payable-trade (16,227) (9,591)
Change in other assets and liabilities 1,557 (1,948)
--------- ---------
52,719 (62,613)
--------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES
Borrowings under the Revolving
Credit Agreement-TDS 66,853 87,266
Repayments of borrowings under the
Revolving Credit Agreement-TDS (114,500) --
Issuance of common stock 739 529
--------- ---------
(46,908) 87,795
--------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES
Additions to property and equipment (5,253) (29,685)
Proceeds from sale of property and equipment -- 145
Change in temporary cash and other investments (671) 476
--------- ---------
(5,924) (29,064)
--------- ---------
NET (DECREASE) IN CASH AND CASH
EQUIVALENTS (113) (3,882)
CASH AND CASH EQUIVALENTS-
Beginning of period 4,943 5,012
--------- ---------
End of period $ 4,830 $ 1,130
========= =========
</TABLE>
The accompanying notes to consolidated financial statements are an integral part
of these statements.
13
<PAGE>
AERIAL COMMUNICATIONS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
(Unaudited)
March 31 December 31
1999 1998
------- --------
ASSETS (Dollars in Thousands)
CURRENT ASSETS
<S> <C> <C>
Cash and cash equivalents $ 4,830 $ 4,943
Temporary cash investments 648 35
Accounts receivable
Customer, less allowance
of $5,221 and $5,875, respectively 25,698 24,204
Roaming 2,847 2,252
Other 1,032 1,348
Inventory 12,908 11,378
Prepaid rent 3,287 3,666
Other 1,504 898
--------- ---------
52,754 48,724
--------- ---------
PROPERTY and EQUIPMENT
In service and under construction 744,922 733,958
Less accumulated depreciation (132,554) (112,677)
--------- ---------
612,368 621,281
--------- ---------
INVESTMENTS
Investment in PCS licenses-net of
accumulated amortization
of $13,933 and $12,044, respectively 287,599 289,488
Other 1,402 1,444
--------- ---------
289,001 290,932
--------- ---------
DEFERRED COSTS 320 410
--------- ---------
TOTAL ASSETS $ 954,443 $ 961,347
========= =========
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES
Accounts payable
Affiliates $ 6,770 $ 6,727
Trade 36,985 56,097
Accrued interest-affiliate 7,006 4,939
Accrued compensation 6,091 5,169
Accrued taxes 5,993 7,015
Microwave relocation costs payable 615 1,828
Other 6,428 4,349
--------- ---------
69,888 86,124
--------- ---------
REVOLVING CREDIT AGREEMENT-TDS 502,296 549,943
--------- ---------
LONG-TERM DEBT 292,264 278,010
--------- ---------
DEFERRED TAX LIABILITY-NET 16,923 16,357
--------- ---------
MINORITY INTEREST 13,963 5,835
--------- ---------
COMMON SHAREHOLDERS' EQUITY
Common Shares, par value $1.00 per share 31,908 31,789
Series A Common Shares, par value $1.00 per share 40,000 40,000
Additional paid-in capital 584,649 584,114
Retained deficit (597,448) (630,825)
--------- ---------
59,109 25,078
--------- ---------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 954,443 $ 961,347
========= =========
The accompanying notes to consolidated financial statements are an
integral part of these statements.
</TABLE>
14
<PAGE>
AERIAL COMMUNICATIONS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. The consolidated financial statements included herein have been prepared by
the Company, without audit, pursuant to the rules and regulations of the
Securities and Exchange Commission. Certain information and footnote
disclosures normally included in the financial statements prepared in
accordance with generally accepted accounting principles have been condensed
or omitted pursuant to such rules and regulations, although the Company
believes that the disclosures are adequate to make the information presented
not misleading. It is suggested that these consolidated financial statements
be read in conjunction with the consolidated financial statements and the
notes thereto included in the Company's Annual Report on Form 10-K.
The accompanying unaudited consolidated financial statements contain all
adjustments (consisting of only normal recurring items) necessary to present
fairly the financial position as of March 31, 1999, and December 31, 1998,
the results of operations for the three months ended March 31, 1999 and
1998, and the cash flows for the three months ended March 31, 1999 and 1998.
The results of operations for the three months ended March 31, 1999 and
1998, are not necessarily indicative of the results to be expected for the
full year.
Certain amounts reported in prior periods have been reclassified to conform
to the current period presentation.
2. Net (Loss) per Common and Series A Common Share for the three months ended
March 31, 1999 and 1998, was computed based on the weighted average number
of Common and Series A Common Shares outstanding during the period.
The amounts used in computing Earnings per Share and the effect on the
weighted average number of Common and Series A Common Shares of dilutive
potential common stock are as follows:
<TABLE>
<CAPTION>
Three Months Ended March 31,
----------------------------
1999 1998
---- ----
(Dollars and share amounts in thousands)
<S> <C> <C>
Net Income (Loss) used in Earnings Per Share -
Basic and Diluted $ 33,377 $(86,921)
======== ========
Weighted Average Number of Common and Series A
Common shares used in Earnings per Share-Basic 71,804 71,636
Effect of Dilutive Securities:
Stock options 83 --
-------- --------
Weighted Average Number of Common and Series A
Common Shares used in Earnings per Share-Diluted 71,887 71,636
======== ========
</TABLE>
In 1998, 1.4 million stock options were not included in computing diluted
(Loss) per Common and Series A Common Share because their effects were
antidilutive.
3. In 1998, the Company adopted Statement of Financial Accounting Standards No.
130, "Reporting Comprehensive Income." Comprehensive Income (Loss) equals
Net Income (Loss) for the three months ended March 31, 1999 and 1998.
4. Supplemental Cash Flow Information. In 1999, additions to property and
equipment of $9.8 million were financed through an increase in long-term
debt.
During the three months ended March 31, 1999, the Company incurred interest
charges totaling $22.0 million. The interest charges were comprised of $15.1
million related to the Revolving Credit Agreement with Telephone and Data
Systems, Inc. ("TDS"), $2.0 million for TDS guarantee fees on the Series A
and Series B Zero Coupon Notes and obligations under the Nokia 1998 Credit
Agreement, $0.5 million paid to Nokia for interest charges relating to the
1998
15
<PAGE>
Credit Agreement and $4.4 million in accreted interest on the Series A and
Series B Zero Coupon Notes. The Company did not capitalize any interest
relating to its work in process expenditures during the first quarter.
During the three months ended March 31, 1998, Company incurred interest
charges of $17.9 million. The interest charges were comprised of $12.3
million relating to the Revolving Credit Agreement with TDS, $1.4 million
for TDS guarantee fees on the Series A and Series B Zero Coupon Notes and
obligations under the Nokia 1996 Credit Agreement, $0.4 paid to Nokia for
interest charges relating to the 1996 Credit Agreement, $3.4 million in
accreted interest on the Series A and Series B Zero Coupon Notes and $0.4
million in other interest charges. Of these amounts, the Company
capitalized $0.1 million relating to its work in process expenditures. The
remaining $17.8 million was charged to expense.
5. Minority Interest. On September 8, 1998, pursuant to the terms of a
Purchase Agreement dated June 1, 1998 (the "Purchase Agreement"), Sonera
Ltd. ("Sonera"), formerly Telecom Finland Ltd., made a $200 million
investment in Aerial Operating Company, Inc. ("AOC"), a then wholly-owned
subsidiary of the Company. Sonera purchased approximately 2.4 million
shares of common stock of AOC at a price of approximately $83 per share
representing a 19.4% equity interest in AOC. Sonera has the right, subject
to adjustment under certain circumstances, to exchange each share of AOC
common stock which it owns for 6.72919 Common Shares of Aerial. Upon the
exchange of all of the AOC shares, Sonera would own an 18.452% equity
interest in Aerial, reflecting a purchase price equivalent to $12.33 per
Common Share of Aerial (the "Equivalent Purchase Price"). See Note 8 -
Proposed TDS Corporate Restructuring for discussion of the concerns raised
by Sonera about the spin-off announcement made by TDS, which has raised the
possibility of litigation.
Minority share of income of $8.0 million represents Sonera's share of AOC's
consolidated net income for the first quarter.
6. Revolving Credit Agreement. On March 12, 1999, the TDS and Aerial boards of
directors approved a tax settlement agreement calling for payment of $114.5
million from TDS to Aerial under the September 8, 1998 Tax Allocation
Agreement. The settlement covers tax losses incurred by Aerial and used by
TDS for the period commencing January 1, 1996 and ending with the date of
the proposed spin-off of Aerial, currently planned for the end of 1999. The
settlement amount was used to repay a portion of the existing AOC
indebtedness to TDS under the Revolving Credit Agreement. The net available
for borrowing under the Revolving Credit Agreement was $92.4 million at
March 31, 1999.
7. Commitments. At March 31, 1999, the Company had orders totaling
approximately $3.7 million with Nokia Telecommunications Inc. for network
infrastructure equipment. Also, at March 31, 1999, the Company had orders
totaling approximately $6.1 million with various handset vendors for
handsets and accessories.
8. Proposed TDS Corporate Restructuring. In December 1998, TDS announced that
it was pursuing a tax-free spin-off of its 82.2% interest in Aerial, as
well as reviewing other alternatives. TDS intends to ask the Internal
Revenue Service ("IRS") to rule on the tax-free status of such a
distribution. There are a number of conditions that must be met for a
spin-off to occur, including a receipt of a favorable IRS ruling, final
approval by the TDS Board, certain government and third party approvals and
review by the Securities and Exchange Commission ("SEC") of appropriate SEC
filings. TDS intends to seek shareholder approval of a proposal to
distribute Aerial Series A Common Shares, on a pro-rata basis, to holders
of TDS Series A Common Shares and Aerial Common Shares, on a pro-rata
basis, to holders of TDS Common Shares. There can be no assurance that a
spin-off will be consummated or that other alternatives will not be
pursued. Prior to any spin-off, it is expected that Aerial will seek
additional financing so that Aerial would have the appropriate
capitalization to operate as a stand-alone entity. In connection with such
financing, all or a portion of Aerial's debt to TDS may be converted into
equity.
Following the announcement by TDS in December 1998, that it intended to
distribute to its shareholders all of the capital stock of Aerial that it
owns, and that Aerial would seek additional financing from sources other
than TDS in connection therewith, Sonera contacted TDS to express certain
concerns about the announcement. Sonera has asserted that the TDS
announcement reflects a change in circumstances that warrant the
renegotiation of certain matters related to its investment in AOC,
including an adjustment in the Equivalent Purchase Price, and has raised
the
16
<PAGE>
possibility of litigation in connection therewith. TDS and Aerial intend to
attempt to reach a mutually acceptable resolution of the concerns raised by
Sonera. There can be no assurance that this matter will not lead to
litigation, or that it will not have a material adverse effect on Aerial or
on the plans relating to the refinancing and spin-off of Aerial.
17
<PAGE>
PART II. OTHER INFORMATION
--------------------------
Item 6. Exhibits and Reports on Form 8-K.
(a) Exhibits
Exhibit 11 - Statement regarding the computation of earnings per common
share is included herein as footnote 2 to the financial statements.
Exhibit 27 - Financial Data Schedule.
(b) There were no reports on Form 8-K filed during the quarter ended March
31, 1999.
18
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
AERIAL COMMUNICATIONS, INC.
(Registrant)
Date May 14, 1999 /s/ Donald W. Warkentin
--------------------------- -----------------------------------------
Donald W. Warkentin
President
(Chief Executive Officer)
Date May 14, 1999 /s/ J. Clarke Smith
------------------------- -----------------------------------------
J. Clarke Smith
Vice President-Finance and Administration
(Chief Financial Officer)
Date May 14, 1999 /s/ B. Scott DaiIey
------------------------- -----------------------------------------
B. Scott Dailey
Vice President-Controller
(Principal Accounting Officer)
19
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
This schedule contains summary financial information extracted from the
consolidated financial statements of Aerial Communications, Ins. as of
March 31, 1999, and is qualified in its entirety by reference to such financial
statements.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-mos
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-START> JAN-01-1999
<PERIOD-END> MAR-31-1999
<CASH> 4,830
<SECURITIES> 0
<RECEIVABLES> 30,919
<ALLOWANCES> 5,221
<INVENTORY> 12,908
<CURRENT-ASSETS> 52,754
<PP&E> 744,922
<DEPRECIATION> (132,554)
<TOTAL-ASSETS> 954,443
<CURRENT-LIABILITIES> 69,888
<BONDS> 292,264
0
0
<COMMON> 71,908
<OTHER-SE> (12,799)
<TOTAL-LIABILITY-AND-EQUITY> 954,443
<SALES> 6,443
<TOTAL-REVENUES> 50,541
<CGS> 12,402
<TOTAL-COSTS> 100,375
<OTHER-EXPENSES> 8,679
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 22,044
<INCOME-PRETAX> (80,577)
<INCOME-TAX> (113,934)
<INCOME-CONTINUING> 33,377
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 33,377
<EPS-PRIMARY> 0.46
<EPS-DILUTED> 0.46
</TABLE>
