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FORM 10-K
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
(X) ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934 (FEE REQUIRED)
For the fiscal year ended December 31, 1998
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 (NO FEE REQUIRED)
Commission File No. 0-22825
RCN CORPORATION
(Exact name of registrant as specified in its charter)
Delaware 22-3498533
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
105 Carnegie Center, Princeton, New Jersey 08540
(Address of principal executive offices) (Zip Code)
Registrant's telephone number including area code: 609-734-3700
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, par value $1.00 per share
(Title of Class)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
X Yes 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)
Number of shares of the Registrant's Stock ($1.00 par value) outstanding at
February 28, 1999
66,317,796 Common Stock
Aggregate market value of Registrant's voting stock held by non-affiliates at
February 28, 1999 computed by reference to closing price as reported by NASDAQ
for Common Stock ($24.00 per share)
$952,243,824 Common Stock
Documents Incorporated by Reference
1. Proxy Statement for 1999 Annual Meeting of Shareholders is incorporated by
reference into Part I and Part III of this Form 10-K.
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PART I
ITEM 1. BUSINESS
Overview
We are building high-speed, high-capacity advanced fiber optic
networks in selected markets with high levels of population density. Our
current services include local and long distance telephone, video programming
and data services, including high speed Internet access. Our strategy is to
become the leading single-source provider of voice, video and data services to
residential customers in each of our markets by offering individual or bundled
service options, superior customer service and competitive prices. We are also
constructing our networks with significant excess capacity in order to
accommodate expanded services in the future. We intend to expand the services
provided to our customers through strategic alliances and opportunistic
development of complementary products. In addition, we will use the excess
capacity in our fiber optic networks to provide services to commercial
customers located on or near our networks. As a result of recent acquisitions
and internal growth, we are a leading regional Internet service provider in
the Boston to Washington, D.C. corridor. Our Internet businesses have
recently been integrated under the brand name "RCN.com."
Our initial advanced fiber optic networks have been established in
selected markets in the Boston to Washington, D.C. corridor, including New York
City, and the San Francisco Bay area. We are typically building the first true
local network to compete with the aging infrastructure of the incumbent service
providers in our markets. In the Boston market we operate our advanced fiber
optic network through a joint venture with Boston Edison Company. We own and
manage 51% of the venture and it is accounted for on a consolidated basis. In
the Washington, D.C. market, we are developing an advanced fiber optic network
through a joint venture named Starpower with Pepco Communications, L.L.C., an
indirect wholly-owned subsidiary of Potomac Electric Power Company. We own 50%
of Starpower and Pepco Communications owns 50% and it is accounted for under the
equity method of accounting. We believe that these joint ventures provide us
with a number of important advantages. For example, we are able to access rights
of way of our joint venture partners and use their existing fiber optic
facilities. This allows us to enter our target markets quickly and efficiently
and to reduce our up-front costs of developing our networks. In addition, our
joint venture partners provide us with additional assets, equity capital and
established customer bases. We also benefit from our relationship with our
largest shareholder, Level 3 Communications, Inc., and from the experience
gained by certain of our key employees who participated in the operation and
development of other telephone, cable television and business ventures,
including MFS Communications Company, Inc.
Because we deliver a variety of services, we report the total number of
our various service connections purchased for local telephone, video programming
and Internet access rather than the number of customers. For example, a single
customer who purchases local telephone, video programming and Internet access
counts as three connections. Since we view long distance as a complementary
product we do not currently include customers of our long distance service as
connections. See "Connections." As of December 31, 1998, we had approximately
855,000 connections which were delivered through a variety of our owned and
leased facilities including hybrid fiber/coaxial cable systems, a wireless video
system and advanced fiber optic networks. As of that date, we had approximately
123,000 total connections attributable to customers connected to advanced fiber
optic networks ("on-net" connections) and had approximately 732,000 connections
attributable to customers served through other facilities ("off-net"
connections). Approximately 370,000 of our 497,000 Internet service connections
resulted from subscriber bases acquired through acquisitions in 1998 during
1998. See "--Recent Acquisition Transactions."
We have extensive operating experience in both the telephone and video
industries and in the design and development of telecommunications
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facilities. Our experience provides us with expertise in systems operation and
development, and gives us an established infrastructure for customer service
and billing for both voice and video services and established relationships
with suppliers of equipment and video programming. In addition, our management
team and board of directors benefit from experience gained when they managed
C-TEC, which prior to September 30, 1997 owned and operated our company.
C-TEC has over 100 years of experience in the telephone business and nearly 25
years of experience in the cable television business. Both C-TEC and certain
members of management also have extensive experience in the design and
development of advanced telecommunications facilities.
We seek to exploit competitive opportunities in selected
markets where population density, favorable demographics and the aging
infrastructure of the incumbent service providers' network facilities combine
to create a particularly attractive opportunity to develop advanced fiber
optic networks. We continue to construct network facilities within the Boston
to Washington, D.C. corridor. We believe that our experience in the Northeast
will provide us with a key strategic advantage as we enter markets in the San
Francisco to San Diego corridor.
West Coast Expansion
We recently began to develop advanced fiber optic networks in
selected high density markets outside of the Boston to Washington, D.C.
corridor. Our initial west coast network is being developed in the San
Francisco Bay Area, which is densely populated and has high per capita income
and the highest per capita Internet usage in the United States. We have
received competitive local exchange carrier ("CLEC") status in California. We
have also obtained an "open video system" ("OVS") certification from the
Federal Communications Commission for the City of San Francisco and
surrounding counties and have begun to develop our network in the San
Francisco Bay Area. We expect to expand into selected markets in or near
Southern California. As is the case in our existing markets, we intend to
focus on high density markets with favorable demographics, and to apply a
subscriber-driven investment strategy. We expect to begin offering services
in the San Francisco Bay Area in late 1999.
Business Strategy
Our goal is to become the leading provider of communications
services to residential customers in our target markets by pursuing the
following key strategies:
Exploit the "Last Mile" Bottleneck in Existing Local Networks:
Existing local networks are typically low capacity, single service facilities
without the bandwidth for multiple or new services and revenue streams.
Investment in the local network or "last mile" has not generally kept pace
with other industry and technological advances. In our target markets, we
seek to be the first operator of an advanced fiber optic network offering
advanced communications services to residential customers.
Continue Construction of Advanced Fiber Optic Networks: Our advanced
fiber optic networks are designed with sufficient capacity to meet the growing
demand for high speed, high capacity, voice, video and data services. Our
networks also have a significant amount of excess capacity at relatively low
incremental cost which will be available for the introduction of new products.
We believe that our high capacity advanced fiber optic networks provide us with
certain competitive advantages such as the ability to offer bundled services and
the opportunity to recover the cost of our network through multiple revenue
streams. In addition, our networks generally provide superior signal quality and
network reliability relative to the typical networks of the incumbent service
providers.
Leverage our Network and Customer Base: We are able to leverage
our network by delivering a broad range of communications products and by
focusing on high density residential markets. This bandwidth capacity and
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home density allows us to maximize the revenue potential per mile of
constructed network. We believe we can further exploit our network capacity
and customer base by exploring opportunities to deliver new products and
services in the future, including complementary commercial and wholesale
products and services.
Offer Bundled Voice, Video and Data Services with Quality
Customer Service: We offer our customers a single-source package of
competitively priced voice, video and data services, individually or on a
bundled basis, with quality customer service. By connecting customers to our
own network, we improve our operating economics and have complete control over
our customers' experience with us. We believe that the combination of bundled
communications services and quality customer care that we provide is superior
to services that are typically available from most incumbent telephone, cable
or other service providers.
Continue to Use Strategic Alliances: We have been able to enter
markets quickly and efficiently and to reduce the up-front capital investment
required to deploy our networks by entering into strategic alliances with
companies such as Boston Edison Company ("BECO"), Pepco Communications, Level 3,
Qwest and MCI/WorldCom. By establishing relationships with these companies, we
are able to take advantage of their existing extensive fiber optic networks and
other assets, and our own existing cable television infrastructure, to expedite
and reduce the cost of market entry and business development. We will continue
to evaluate other strategic alliances in our existing markets and our developing
markets.
Network Development and Financing Plan
Because our network development plan involves relatively low fixed
costs, we are able to schedule capital expenditures to meet expected subscriber
growth in each major market. Our principal fixed costs in each such market are
incurred in connection with the establishment of a video transmission and
telephone switching facility. To make each market economically viable, it is
then necessary to construct infrastructure to connect a minimum number of
subscribers to the transmission and switching facility. We phase our market
entry projects to ensure that we have sufficient cash on hand to Fund this
construction.
Based on our current growth plan, we expect that we will require a
substantial amount of capital to expand the development of our network and
operations into new areas within our larger target markets. We need capital to
fund the construction of our advanced fiber optic networks, upgrade our hybrid
fiber/coaxial plant and fund operating losses and repay our debts. We currently
estimate that our capital requirements for the period from January 1, 1999
through 2000 will be approximately $1.8 billion, which include capital
expenditures of approximately $700 million in 1999 and approximately $1 billion
in 2000. These capital expenditures will be used principally to fund additional
construction of our fiber optic network in high density areas in the Boston, New
York City, Washington, D.C. and San Francisco Bay area markets as well as to
expand into new markets (including selected markets in the western United
States) and to develop our information technology systems. These estimates are
forward-looking statements that may change if circumstances related to
construction, timing of receipt of regulatory approvals and opportunities to
accelerate the deployment of our networks do not occur as we expect. In addition
to our own capital requirements, our joint venture partners are each expected to
contribute approximately $275 million, of which approximately $120 million has
been contributed, to the joint ventures through 2000 in connection with
development of the Boston and Washington, D.C. markets.
In order to facilitate growth beyond 2000, we expect to supplement our
existing available credit facilities and operating cash flow by continuing to
seek to raise additional capital to increase our network coverage and pay for
other capital expenditures, working capital, debt service requirements and
anticipated further operating losses. We may seek sources of funding from vendor
financing, public offerings or private placements of equity and/or debt
securities, and bank loans.
In March 1999, we secured a $1 billion bank facility and a $250 million
placement of convertible preferred securities (See Note 20).
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RCN Services
We provide a wide range of local and long distance telephone,
video programming and data services, both individually and in bundled service
options.
We provide these services through a range of facilities
including our advanced fiber optic networks in New York City, Boston and
Washington D.C., a wireless video system in New York City, our hybrid
fiber/coaxial cable systems in the states of New York (outside New York City),
New Jersey and Pennsylvania. We also provide, on a limited basis, resale
local and long distance telephony services.
Connections. The following table summarizes the development of
our subscriber base:
<TABLE>
<CAPTION>
As of
--------------------------------------------------------------------------
9/30/97 12/31/97 3/31/98 6/30/98 9/30/98 12/31/98
------- -------- ------- ------- ------- --------
<S> <C> <C> <C> <C> <C> <C>
On-Net Service Connections:
Voice.......................... 1,909 3,214 4,473 11,428 20,857 30,868
Video.......................... 4,870 11,784 15,599 35,196 58,324 86,349
Data........................... 326 150 267 1,588 3,661 6,176
------- ------- ------- ------- ------- -------
Subtotal On-Net................. 7,105 15,148 20,339 48,212 82,842 123,393
------- ------- ------- ------- ------- -------
Off-Net:
Voice.......................... 10,953 24,900 40,447 49,052 58,093 65,022
Video.......................... 229,198 227,619 227,558 214,164 196,776 175,313
Data........................... -- -- 370,271 398,560 470,466 491,633
------- ------- ------- ------- ------- -------
Subtotal Off-Net................ 240,151 252,519 638,276 661,776 725,335 731,968
Total Service Connections....... 247,256 267,667 658,615 709,988 808,177 855,361
======= ======= ======= ======= ======= =======
Homes Passed.................... 26,083 44,045 63,386 122,977 213,983 304,505
Marketable Homes................ -- -- -- 111,187 181,353 270,406
</TABLE>
Because we deliver a variety of services to our customers, we
account for our customer activity by the number of individual local telephone,
video programming or Internet access services, or "connections", purchased.
Consequently, a single customer purchasing local telephone, video programming
and Internet access counts as three connections.
We classify connections in the "Off-Net" category until the
relevant facilities are capable of providing voice, video and data services,
including local telephone service, through an RCN switch. During 1998, our
Allentown, Pennsylvania system was upgraded to provide a full range of
services, and the customers on that system were moved to the "On-Net"
connections category.
"Off-Net-Voice" figures in the table above represent resold
local phone service provided to customers not connected to the advanced fiber
optic networks.
Our "Off-Net-Video" figures in the table above include
approximately 31,000 wireless connections and wireline video connections
serving the University of Delaware (4,000 connections at December 31, 1998).
As of December 31, 1998 we had approximately 186,000 homes passed and
approximately 140,000 basic subscribers connected to our hybrid fiber/coaxial
cable system in New York, New Jersey and Lehigh Valley service areas.
In areas served by our joint ventures in the Greater Boston and
Washington, D.C. areas, the subscribers are customers of the relevant joint
venture and are fully included in the connections reflected in the table above.
As of September 30, 1998, we began to report marketable homes,
which represents that segment of homes passed which are being marketed our
entire line of advanced fiber optic network products. The distinction between
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homes passed and marketable homes recognizes our transition from constructing
our network in initial markets to providing services to customers that have
ordered our services.
Set forth below is a brief description of our services:
Voice. We offer full-featured local exchange telephone service,
including standard dial tone access, enhanced 911 access, operator services
and directory assistance. We compete with the incumbent local exchange
providers and CLECs. In addition, we offer a wide range of value-added vertical
services, including call forwarding, call waiting, conference calling, speed
dial, calling card, 800-numbers and voice mail. We also provide Centrex
service and associated features. Our local telephone rates are generally
competitive with the rates charged by the incumbent providers. At December 31,
1998, we had approximately 30,900 telephone service connections on our advanced
fiber optic networks and approximately 65,000 customers for resold telephone
service. We also provide long distance telephone services, including
outbound, inbound, calling card and operator services. These services are
offered to residential and business customers.
Video Services. We offer a diverse line-up of high quality
basic, premium and pay-per-view video programming. Depending on the system, we
offer from 61 to 147 channels. Our basic video programming package provides
extensive channel selection featuring all major cable and broadcast networks.
Our premium services include HBO, Cinemax, Showtime and The Movie Channel, as
well as supplementary channels such as HBO 2, HBO 3 and Cinemax 2. StarCinema,
available on our advanced fiber optic networks, uses the latest "impulse"
technology allowing convenient impulse pay-per-view ordering of the latest hit
movies and special events instantly from the customer's remote. "Music
Choice" offers 30 different commercial-free music channels delivered to the
customer's stereo in digital CD quality sound.
As of December 31, 1998, we had approximately 86,350
subscribers for our video programming services provided over advanced fiber
optic networks. As of such date, we also had approximately 34,900 connections
attributable to the wireless video system and approximately 140,400
connections attributable to the hybrid fiber/coaxial cable systems.
Internet Access and Data Transmission. We operate as an Internet
service provider under the RCN.com brand name. We focus on serving individuals
and businesses through a network of our-owned points of presence ("POPs") which
are connected to our advanced fiber optic network. Our primary service offerings
are 56K dial-up and high-speed cable modem access. We also sell commercially
oriented private line point-to-point data transmission services such as DS-1 and
OC-3 and a range of web page and server hosting services. Our subscribers use
their RCN accounts to communicate, retrieve information, and publish information
on the Internet. Following the recent acquisitions described below under "--
Recent Acquisition Transactions", we believe that we are the largest regional
provider of Internet services in the Northeast United States. As of December 31,
1998, we had approximately 497,800 Internet subscribers.
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Migration of Customers to Advanced Fiber Networks
We provide wireless video services to customers located near our
advanced fiber optic network in New York City and Internet services to acquired
subscribers. We have also actively marketed resold telephone service in the
past. Our goal is to extend our advanced fiber optic network to service many of
those customers. As our advanced fiber optic network is extended into these
areas or buildings, customers receiving wireless video service in New York City
are switched to the advanced fiber optic network from the wireless video
network. The wireless video equipment is then used to provide service to other
customers in off-network premises. Similarly, as the advanced fiber optic
network is developed, voice and data customers are switched to the advanced
fiber optic network from resale accounts. The switch to our network allows us to
gain additional revenue and higher margins from originating and terminating
access fees and to control the related services and service quality.
Strategic Relationships and Facilities Agreements
We have entered into a number of strategic alliances and
relationships which allow us to enter into the telecommunications services
market early and to reduce the cost of entry into our markets. We expect to
continue to pursue potential opportunities from entering into strategic
alliances to facilitate network expansion and entry into new markets.
BECO Joint Venture
In 1996 RCN and the Boston Edison Company ("BECO"), through
wholly-owned subsidiaries, formed a joint venture to use 126 fiber miles of
BECO's fiber optic network to deliver our comprehensive communications package
in Greater Boston. A joint venture agreement provided for the organization
and operation of RCN-BECOCOM, LLC, an unregulated entity with a term
expiring in the year 2060. RCN-BECOCOM is a Massachusetts limited liability
company organized to own and operate an advanced fiber optic telecommunications
network and to provide, in the market in and around Boston, Massachusetts,
voice, video and data services. At December 31, 1998 we owned 51% of the equity
interest in RCN-BECOCOM and BECO owned the remaining 49% interest. This joint
venture with BECO is reflected on our financial statements on a consolidated
basis.
Pursuant to an exchange agreement between BECO and RCN, BECO has the
right, from time to time, to convert portions of its ownership interest in
RCN-BECOCOM into shares of our common stock. In February 1999, BECO and the
Company entered into an Exchange Agreement relative to BECO's exercise of its
right to convert approximately one-half of its ownership interest in RCN-BECOCOM
into RCN common stock. (Note 7). The transaction was valued as of January 20,
1998, the date on which BECO gave notice to us of its intent to convert this
ownership interest. The Exchange Agreement provided for the conversion of such
ownership interest into 1,107,539 shares of RCN common stock. In accordance with
the terms of the Operating Agreement, BECO has continued to invest in
RCN-BECOCOM as if retaining a 49% interest and will continue to do so as long as
BECOCOM does not dispose of the Exchange Shares.
We expect to benefit from our ability to use BECO's large fiber
optic network, its focus on innovative technology, its sales and marketing
expertise and its reach into the market. In the future, the venture may expand
into energy management and property monitoring services. Starting in Boston,
the joint venture partners have expanded into surrounding markets, including
Arlington, Somerville and Newton. As a result of our access to the extensive
BECO network, our reliance on and use of MFS/WorldCom facilities in Boston has
been reduced significantly.
Starpower Joint Venture
In 1997, RCN Telecom Services, Inc., one of our subsidiaries,
and Potomac Capital Investment Corporation ("PCI"), a wholly-owned subsidiary
of Potomac Electric Power Company, formed a joint venture to own and operate a
communications network to provide voice, video, data and other communications
services to residential and commercial customers in the greater Washington,
D.C., Virginia and Maryland area. Starpower is an unregulated limited liability
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company with a perpetual term. Starpower was formed to construct, own, lease,
operate and market a network for the selling of voice, video, data and other
telecommunications services to all potential commercial and residential
customers in the Washington, D.C. market covered by the joint venture contract.
We own 50% of the equity interest in Starpower and Pepco Communications owns the
remaining 50% interest. Starpower is reflected on our financial statements under
the equity method of accounting.
Miscellaneous Facilities Agreements
We have also entered into agreements which have helped us
accelerate network development, including Fiber Agreements entered into with
MFS/WorldCom. MFS/World Com owns or has the right to use certain fiber optic
network facilities in the Boston, Massachusetts and New York City markets.
Under the Fiber Agreements, MFS/WorldCom agreed to construct and provide
extensions connecting the fiber optic facilities to buildings we designated.
We are also able to use certain dedicated fibers in those facilities, except
that we may not use the facilities to deliver telephone services to commercial
customers.
In February 1999, we announced that we have entered into joint
construction agreements with Level 3. The agreements will allow us to deploy
additional network in Boston and New York faster and at a lower cost. We also
recently announced that we have entered into a letter of intent with Level 3 for
Level 3 to provide us with cross-country capacity to allow our customers to
connect to major Internet connection points in the United States. This gives us
the ability to negotiate peering agreements that will allow the exchange of
traffic as a Tier I operator.
In June 1998, we entered into an agreement with Qwest
Communications for Qwest to provide us with capacity in its regional backbone
of fiber lines to connect to our local networks from Boston to Washington, D.C.
Recent Acquisition Transactions
In February 1998, we acquired Erols Internet, Inc. ("Erols"). The
total approximate consideration was $36.0 million in cash including out of
pocket costs of approximately $1.4 million and the assumption and repayment of
debt of approximately $5.1 million and RCN Common Stock with a fair value of
approximately $45.0 million at the time of issuance. Additionally, the purchase
price includes approximately $11.0 million representing the fair value of Erols
stock options which were converted to RCN stock options in connection with the
acquisition. The transaction was accounted for by the purchase method of
accounting.
RCN contributed to Starpower approximately 60% of the subscribers and related
unearned revenue acquired in the acquisition of Erols. (Note 7)
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Goodwill and the value assigned to certain acquired current products and
technologies, primarily residential dial-up and dedicated Internet access, and
Internet advertising, aggregating approximately $35.0 million was recorded in
connection with the acquisition of Erols and contribution to Starpower. These
intangible assets are being amortized over approximately four years.
In February 1998, we acquired Ultranet Communications, Inc. ("Ultranet"). The
total approximate consideration was $7.7 million in cash including cash payments
aggregating approximately $.5 million to certain holders of Ultranet stock
options and RCN Common Stock with a fair value of approximately $26.2 million at
the time of issuance. Additionally, the purchase price includes approximately
$1.9 million representing the fair value of UltraNet stock options which were
converted to RCN stock options in connection with the acquisition. The
transaction was accounted for by the purchase method of accounting.
RCN contributed to RCN-BECOCOM approximately 30% of the subscribers acquired
in the acquisition of Ultranet.
Goodwill and the value assigned to certain acquired current products and
technologies, primarily residential dial-up and dedicated Internet access, and
Internet advertising, aggregating approximately $31.1 million was recorded in
connection with the acquisition of UltraNet and contribution to RCN-BECOCOM.
These intangible assets are being amortized over approximately four years.
In the allocation of purchase price associated with the acquisition of Erols
and UltraNet, $13.2 and $5.1 million, respectively, was determined to represent
acquired in-process research & development ("IPR&D"). Specifically, four
projects were identified which qualified as IPR&D by definition of not having
achieved technological feasibility and representing technology which at the
point of acquisition offered no alternative use than the defined project.
The fair value of the IPR&D projects associated with these acquisitions
is based upon a discounted cash flow analysis modified to represent only that
portion of the project associated with completed research and development
efforts at the date of acquisition. For both the Erols and the UltraNet
acquisitions, RCN identified the R&D development projects to include -
- Cable Modem Internet access for subscribers, consisting of projects to
develop the hardware, systems and software to permit subscribers to be offered
high-speed Internet access through direct cable connection. The remaining
development effort is concerned with technical standards for this service and
with the design and integration of this product into RCN's cable and fiber
optic network. RCN management estimated that this project for both
acquisitions was approximately 70% complete and that each had approximately
$25.0 thousand of direct development expense remaining to be spent in 1998 and
1999, with planned revenues from this service expected to begin thereafter.
-Internet Telephony, representing projects to develop the potential for dial-
up telephone service through the Internet. This service area presented
significant technical challenges as well as political, commercial and market
challenges to be faced before service could be offered to subscribers. Since
at the acquisition date neither hardware nor systems have been acquired or
developed in support of this new product, a high degree of development
activity remains. RCN management estimated that this project for both
acquisitions was only approximately 20% complete and that the remaining
development cost at the date of acquisition was approximately $1 million in
1998, $2 million in 1999 and $5 million in 2000 with revenues from this
service expected to begin thereafter.
- E-Commerce Systems, consisted of our efforts to develop a suitable system
that would permit subscribers to conduct commercial activities over the
Internet. Following evaluation of commercially-available packages, none were
capable of meeting subscriber needs and development of the suitable system was
undertaken. RCN management estimated that the project for both acquisitions
was approximately 90% complete and that each had about $25 thousand of
development expense remaining to be spent in 1998 with revenues from this
service expected to begin thereafter.
-High-speed shared office Internet access, representing a blending of fiber
optic and Internet networking technologies, was under development as a
package to be offered to commercial clients. While the technical challenges
were still being addressed at the acquisition date, there was no certainty
that this system would result in a competitive product offering in the market.
The management of RCN estimated that the project for both acquisitions was
approximately 75% complete and that each had less that $25 thousand of
development expense remaining to be spent in 1998 with revenues from this
service expected to begin thereafter.
Relative to the qualification of these projects as IPR&D projects under
the meaning within Statement of Financial Accounting Standards No. 2
("SFAS 2"), each represented at the date of acquisition a development
project associated with new and uncertain technology that was incomplete and
had not reached technical feasibility. Further, the technology under
development in each of these areas was not seen to present opportunities
for alternative future use should the contemplated development project
fail to achieve completion. In each of the above projects, the uncertainty
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associated with each, in the absence of a successful product introduction,
may result in the possible abandonment of the project and the loss of both
invested development funds and the profit contributions that such projects
were expected to bring to the business as a whole.
In June 1998, RCN acquired Interport Communications Corp. ("Interport"). The
total approximate consideration for the transaction was $1.3 million in cash and
RCN Common Stock with a fair value of approximately $8.5 million at the time of
issuance. The transaction was accounted for by the purchase method of
accounting. Approximately $7.2 million has been allocated to goodwill. Such
goodwill is being amortized over approximately four years.
In June 1998, we also acquired Lancit Media Entertainment, Ltd. ("Lancit"), a
producer of high quality children's programming. The total approximate
consideration for the transaction was $.4 million in cash and RCN Common Stock
with a fair value of approximately $7.4 million at the time of issuance. The
transaction was accounted for by the purchase method of accounting.
Approximately $9.5 million has been allocated to goodwill. Such goodwill is
being amortized over approximately five years.
In July 1998, we acquired Javanet, Inc. ("Javanet"). The total approximate
consideration for the transaction was $3.7 million in cash and RCN Common Stock
with a fair value of approximately $13.4 million at the time of issuance. The
transaction was accounted for by the purchase method of accounting.
Approximately $14.8 million has been allocated to goodwill. Such goodwill is
being amortized over approximately three years.
International
We own a 40.0% interest in Megacable, the second largest cable
television provider in Mexico. Megacable owns 22 wireline cable systems in
Mexico, principally on the Pacific and Gulf coasts and including Guadalajara,
the second largest city in Mexico, Hermosillo, the largest city in the state
of Sonora and Veracruz, the largest city in the state of Veracruz. At
December 31, 1998, their wireline systems passed approximately 733,500 homes
and served approximately 222,300 subscribers. Megacable had revenues of $37.5
million and $30.4 million for the years ended December 31, 1998 and 1997,
respectively.
Additionally, Megacable presently holds a 99% interest in
Megacable Comunicaciones de Mexico S.A. ("MCM"). MCM has received a license
from the Mexican government to allow it to build a fiber optic network in
Mexico City, Monterrey and Guadalajara. MCM intends to use this network to
provide local voice and high-speed data service in these cities, principally
to commercial customers in Mexico City.
Competition
Overview
--------
We compete with a wide range of service providers for each of our
services. Virtually all markets for voice and video services are extremely
competitive, and we expect that competition will intensify in the future. We
face significant competition in each of the markets in which we offer voice and
video programming services. Our competitors are often larger, better-financed
incumbent local telephone carriers and cable companies with better access to
capital resources, and many have historically dominated their local telephone
and cable television markets. These incumbents presently have numerous
advantages as a result of their historic monopolistic control of their
respective markets, economies of scale and scope and control of limited conduit
and pole space. They also have well-established customer and vendor
relationships. However, we believe that most existing and potential competitors
will, at least initially, offer narrower services over limited delivery
platforms compared to the wide range of voice, video and data services that we
provide over our fiber-based networks. This gives us an opportunity to achieve
important market penetration.
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We compete with the incumbent Local Exchange Carriers ("LECs") for the
provision of local telephone services, as well as with alternative service
providers including CLECs. Cable operators are also entering the local exchange
market in some locations. Other sources of competitive local and long distance
telephone services include: Commercial mobile radio services providers,
including cellular carriers (such as Bell Atlantic Mobile Services); personal
communications services carriers such as Sprint PCS; and enhanced specialized
mobile radio services providers (such as NexTel).
We face, and expect to continue to face, significant
competition for long distance telephone services from the inter-exchange
carriers ("IXCs"), including AT&T, Sprint and MCI WorldCom, which account for
the majority of all U.S. long distance revenue. The major long distance service
providers benefit from established market share and from established trade
names through nationwide advertising. However, we regard our long-distance
service as a complementary service rather than a principal source of revenue.
Certain IXCs, including AT&T, MCI WorldCom and Sprint, have also announced
their intention to offer local services in major U.S. markets using their
existing infrastructure in combination with resale of incumbent LEC service,
lease of unbundled local loops or other providers' services. Internet-based
telephony, a potential competitor for low cost telephone service, is also
developing and the Company is also pursuing this technology.
All of our video services face competition from alternative
methods of receiving and distributing television signals and from other
sources of news, information and entertainment. Other sources include off-air
television broadcast programming, newspapers, movie theaters, live sporting
events, interactive online computer services and home video products,
including videotape cassette recorders. Alternative video distribution
technologies include traditional cable networks, wireless local video
distribution technologies, and home satellite dish ("HSD") earth stations. Home
satellite systems enable individual households to receive many of the
satellite-delivered program services formerly available only to cable
subscribers. The Cable Television Consumer Protection and Competition Act of
1992 (the "1992 Act") contains provisions, which the FCC has implemented with
regulations, to enhance the ability of cable competitors to purchase and make
available to HSD owners certain satellite-delivered cable programming at
competitive costs. We face additional competition from private satellite
master antenna television ("SMATV") systems that serve condominiums, apartment
and office complexes and private residential developments. The FCC and
Congress have adopted policies providing a more favorable operating
environment for new and existing technologies that compete, or may compete,
with our various video distribution systems. These technologies include, among
others, Direct Broadcast Satellite ("DBS") service whereby signals are
transmitted by satellite to receiving facilities located on customer premises.
We expect that our video programming services will face growing competition
from current and new DBS service providers. The FCC has recently determined
that DBS is the fastest-growing competitor to franchised cable operations. We
also compete with wireless program distribution services such as Multi-Channel
Multi-Point Distribution Service which use low-power microwave frequencies to
transmit video programming over-the-air to subscribers.
The Internet access market is extremely competitive and highly
fragmented. Competition in this market is expected to intensify. Our current
and prospective competitors include established online services; local,
regional and national ISPs; national and international telecommunications
companies including Regional Bell Operating Companies ("RBOCs") such as Bell
Atlantic; and affiliates of incumbent cable providers. Increased competition
may create downward pressure on the pricing of and margins from Internet
access services.
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Other new technologies, including Internet-based services, may
compete with services that we can offer. Advances in communications technology
as well as changes in the marketplace and the regulatory and legislative
environment are constantly occurring. Thus, we cannot predict the effect that
ongoing or future developments might have on the voice, video and data
industries or on our operations or Financial Condition.
We believe that among the existing competitors, the incumbent
LECs, incumbent cable providers and the CLECs are most of our competitors in
the delivery of "last mile" connections for voice and video services.
Video and Voice Services
------------------------
Incumbent LECs
In each of our target markets for advanced fiber optic
networks, we face, and expect to continue to face, significant competition
from the incumbent LECs. The incumbent LECs include Bell Atlantic in the
Northeast Corridor, and Pacific Bell in California, both of which currently
dominate their local telephone markets. We compete with the incumbent LECs in
our markets for local exchange services on the basis of product offerings,
including the ability to offer bundled voice and video service, reliability,
state-of-the-art technology and superior customer service, as well as price.
We believe that our advanced fiber optic networks provide superior technology
for delivering high-speed, high-capacity voice, video and data services
compared to the incumbent LECs' primarily copper wire based networks. However,
the incumbent LECs have long-standing relationships with their customers.
They have also begun to expand the amount of fiber facilities in their
networks, to offer broadband digital transmission services and retail Internet
access, and to prepare to re-enter the long distance telephone service market.
The pending merger between Bell Atlantic and GTE Corporation may enhance the
combined entity's ability to compete with us in the Northeast corridor
markets. The pending merger between SBC and Ameritech may also increase
competitive pressures in the Northeast corridor if SBC, which already owns a
Connecticut incumbent LEC and several wireless franchises in this region,
continues to pursue a nationwide strategy.
Under the Telecommunications Act of 1996 (the "1996 Act"), and
ensuing federal and state regulatory initiatives, barriers to local exchange
competition are being slowly removed. The introduction of such competition,
however, also establishes the predicate for the RBOCs, such as Bell Atlantic,
to provide in-region interexchange long distance services. The RBOCs are
currently allowed to offer "incidental" long distance service in-region and
to offer out-of-region long distance service. Once the RBOCs are allowed to
offer in-region long distance services, they will also be in a position to
offer single source local and long distance service similar to what we offer
and proposed by the three largest IXCs: AT&T, MCI WorldCom and Sprint. We
expect that the increased competition made possible by regulatory reform will
result in certain pricing and margin pressures in the telecommunications
services business.
We have sought, and will continue to seek, to provide a full range of
local voice services which compete with incumbent LECs in our service areas. We
expect that competition for local telephone services will be based primarily on
quality, capacity and reliability of network facilities, customer service,
response to customer needs, service features and price, and will not be based on
any proprietary technology. Our new advanced fiber optic networks, employ dual
backbone architecture and state-of-the-art technology therefore, we may have
capital cost and service quality advantages over some of the networks of the
incumbent LECs. We may also have a competitive advantage because we are able to
deliver a bundled voice and video service.
The 1996 Act permits the incumbent LECs and others, with which we
compete, to provide a wide variety of video services directly to subscribers,
which we compete with. Various LECs currently are providing video services
within and outside their
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telephone service areas through a variety of distribution methods, including
both the deployment of broadband wire facilities and the use of wireless
transmission facilities. We cannot predict the likelihood of success of video
service ventures by LECs or the impact such competitive ventures may have on
us. Some LECs, including Bell Atlantic, also offer Internet access services
that compete with RCN.com services.
Incumbent Cable Television Service Providers
Certain of our video service businesses compete with incumbent wireline
cable companies in their respective service areas. In particular, our advanced
fiber optic networks compete for cable subscribers with the major wireline cable
operators in our markets, such as Time-Warner Cable in New York City and
Cablevision in Boston and TCI in Washington, D.C. Our wireless video service in
New York City competes primarily with Time-Warner Cable. We believe that the
expanded capacity and fiber-to-node architecture of our advanced fiber optic
networks make then better equipped to provide high-capacity communications
services than traditional coaxial cable based networks using "tree and branch"
architecture. Our Lehigh Valley, Pennsylvania hybrid fiber/coaxial cable
television system competes with an alternate service provider, Service Electric,
which also holds a franchise for the relevant service area.
Cable television systems generally operate pursuant to
franchises granted on a non-exclusive basis, and the 1992 Act prohibits
franchising authorities from unreasonably denying requests for additional
franchises and permits franchising authorities to operate cable systems.
Therefore, well-financed businesses from outside the cable industry, such as
the public utilities that own certain of the conduits or poles which carry
cable, may become competitors for franchises or providers of competing
services. Telephone companies or others may also enter the video distribution
market by becoming open video service operators as we have done in several
markets, pursuant to Section 653 of the Communications Act. No local
franchise is required for the provision of such service. See "Regulation of
video services" below.
CLECs and Other Competitors
We also face, and expect to continue to face, competition from
other potential competitors in certain of our geographic markets. Other CLECs,
such as subsidiaries of AT&T and MCI WorldCom, compete for local telephone
services, although they have to date focused primarily on the market for
commercial customers rather than residential customers. In addition, potential
competitors capable of offering private line and special access services also
include other smaller long distance carriers, cable television companies,
electric utilities, microwave carriers, wireless telephone system operators
and private networks built by large end-users, including Winstar, Dualstar and
New Vision. However, we believe that, at least initially, we are relatively
unique in our markets in offering bundled voice, video and data services
primarily to customers in residential areas over our own advanced fiber optic
network.
Internet Services
-----------------
The Internet access market is extremely competitive and highly
fragmented. No significant barriers to entry exist, and accordingly
competition in this market is expected to intensify. Our current and
prospective competitors include many large companies with substantially
greater market presence and financial and other resources. RCN.com competes
directly or indirectly with:
o established online services, such as America Online, the
Microsoft Network and Prodigy;
o local, regional, and national ISPs such as PSINet, EarthLink,
Mindspring and Rocky Mountain Internet;
o the Internet services of national and international
telecommunications companies, such as AT&T, GTE, MCI
WorldCom and Cable & Wireless;
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o Internet access offered by RBOCs such as Bell Atlantic; and
o online services offered by incumbent cable providers, such as
At Home and Roadrunner.
Bell Atlantic has recently asked the FCC to authorize it to build a
regional high-speed network, which would serve as an Internet backbone, and to
exempt this network from pricing and other regulatory restrictions. The network
would span the states from Maine to Virginia. The acquisition of Internet access
competition is likely to increase as large diversified telecommunications and
media companies acquire ISPs and as ISPs consolidate into larger, more
competitive companies. For example, AT&T has completed the acquisition of TCI's
cable television networks, which gives it a significant ownership interest in At
Home, an ISP. Diversified competitors may bundle other services and products
with Internet connectivity services, potentially placing us at a competitive
disadvantage. In addition, competitors may create downward pressure on the
pricing of and margins from Internet access services. Competition could also
impact our ability to participate in transit agreements and peering
arrangements, which could in turn adversely effect the speed of service that we
can provide to our customers.
Other new technologies may become competitive with our services. A
provider of Limited Multi Distribution Systems ("LMDS") recently began offering
wireless Internet and video programming services in New York City and has
announced plans to offer telephone service in the future. Advances in
communications technology as well as changes in the marketplace and the
regulatory and legislative environment are constantly occurring. In addition, a
continuing trend toward business combinations and alliances in the
telecommunications industry may also create significant new competitors. We
cannot predict whether competition from developing and future technologies or
from future competitors will have a material impact on our operations or
financial condition.
Regulation
Our telephone and video programming transmission services are
subject to federal, state and local government regulation. The 1996 Act
introduced widespread changes in the regulation of the communications industry,
including the local telephone, long distance telephone, data services, and
television entertainment segments. The 1996 Act was intended to promote
competition and decrease regulation of these segments of the industry. The law
delegates to both the FCC and the states broad regulatory and administrative
authority to implement the 1996 Act.
Telecommunications Act of 1996
The 1996 Act eliminates many of the pre-existing legal barriers
to competition in the telephone and video programming communications
businesses. The Act also preempts many of the state barriers to local
telephone service competition that previously existed in state and local laws
and regulations and sets basic standards for relationships between
telecommunications providers.
The 1996 Act removes barriers to entry in the local exchange
telephone market by preempting state and local laws that restrict competition
and by requiring LECs to provide nondiscriminatory access and interconnection
to potential competitors, such as cable operators, wireless telecommunications
providers, and long distance companies. In addition, the 1996 Act provides
relief from the earnings restrictions and price controls that have governed
the local telephone business for many years. The 1996 Act will also, once
certain thresholds are met, allow incumbent RBOCs to enter the long distance
market within their own local service regions.
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Regulations promulgated by the FCC under the 1996 Act require
LECs to open their telephone networks to competition by providing competitors
interconnection, access to unbundled network elements and retail services at
wholesale rates. As a result of these changes, companies such as ours are now
able to interconnect with the incumbent LECs in order to provide local
exchange services. Numerous parties appealed certain aspects of these
regulations, and implementation of several provisions of the rules was delayed
while the courts considered these appeals. On January 25, 1999, the Supreme
Court issued an opinion confirming the FCC's authority to issue regulations
implementing the pricing and other provisions of the 1996 Act and reinstating
most of the challenged rules. However, the Supreme Court vacated a key FCC
rule identifying the network elements that incumbent LECs are required to
unbundle. This decision will likely require the FCC to conduct additional
proceedings to determine new unbundling standards. The outcome of such
proceedings cannot be predicted. Also, while the Supreme Court confirmed that
the FCC has authority to issue rules implementing the 1996 Act, particular
rules still may be challenged in future court proceedings. Future regulatory
proceedings and court appeals may create delay and uncertainty in effectuating
the interconnection and local competition provisions of the 1996 Act. While
the courts were reviewing the FCC rules, we had entered into interconnection
agreements with Bell Atlantic covering all of our target market area that are
generally consistent with the FCC guidelines. Those agreements remain in
effect, although some are subject to termination on or after July 1, 1999. We
cannot assure you, however, that we will be able to obtain or enforce future
interconnection agreements, or obtain renewal of existing agreements, on
acceptable terms.
The 1996 Act establishes certain conditions before RBOCs are
allowed to offer interLATA long distance service to customers within their
local service regions. These conditions include 14 "checklist" requirements
designed to open the RBOC networks to competitors. To date, no RBOC has
received FCC authorization to provide in-region long distance service, but it
is likely that several RBOCs will seek authorization in 1999. Bell Atlantic
is likely to seek authorization for New York and possibly other states in its
region. If an RBOC is authorized to provide in-region long distance service
in one or more states, the RBOC may be able to offer "one-stop shopping"
services that compete with our service offerings. See "Business-Competition".
In addition, the RBOC will lose the incentive it now has to rapidly implement
the interconnection provisions of the 1996 Act in order to obtain in-region
authority, although the RBOC will still be subject to a legal obligation to
comply with those provisions.
The 1996 Act also makes far-reaching changes in the regulation of video
programming transmission services. These include changes to the regulations
applicable to video operators, the elimination of restrictions on telephone
company entry into the video business, and the establishment of a new OVS
regulatory structure for telephone companies and others. Under the 1996 Act and
implementing rules adopted by the FCC, local telephone companies, including both
incumbent LECs such as Bell Atlantic, and CLECs such as RCN, may provide service
as traditional cable television operators subject to municipal cable television
franchises, or they may choose to provide their programming over non- franchised
open video systems subject to certain conditions. The ability to provide OVS
service without having obtained a local franchise, however, has been called into
question by a recent decision. See Regulation of Video Services, below. The
conditions include making available a portion of their channel capacity for use
by unaffiliated program distributors and satisfying certain other requirements,
including providing capacity for public, educational and government channels,
and paying a gross receipts fee equal to the franchise fee paid by the incumbent
cable television operator. We are one of the first CLECs to provide television
programming over an advanced fiber optic network under the OVS regulations
implemented by the FCC under the 1996 Act. As discussed below, we are currently
providing OVS service in the City of Boston, in the City of New York and in a
number of communities surrounding Boston. We are also negotiating, in the
District of Columbia, similar agreements in Northern New Jersey, Philadelphia
and surrounding communities, and San Francisco and surrounding communities.
Starpower is negotiating similar OVS agreements and local franchises in
communities surrounding Washington D.C.
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Regulation of Voice Services
Our voice business is subject to regulation by the FCC at the
federal level for interstate telephone services (i.e., those that originate in
one state and terminate in a different state). State regulatory commissions
have jurisdiction over intrastate communications (i.e., those that originate
and terminate in the same state).
State Regulation of Intrastate Local and Long Distance
Telephone Services. Our intrastate telephone services are regulated by the
public service commissions or comparable agencies of the various states in
which we offer these services. Our subsidiaries or affiliates have received
authority to offer intrastate telephone services, including local exchange
service, in California, Delaware, the District of Columbia, Maryland,
Massachusetts, Nevada, New Jersey, New York, Pennsylvania, Rhode Island,
Vermont and Virginia. We have applied for authority to offer these services
in Arizona, Connecticut, Maine and New Hampshire. Starpower has separately
obtained similar authority in Maryland, Virginia and the District of Columbia.
Our resale and interconnection agreements have been approved, pursuant to
Section 252 of the Communications Act, by state regulatory commissions in
Arizona, Delaware, the District of Columbia, Maine, Maryland, Massachusetts,
New York, New Jersey, New Hampshire, Pennsylvania, Rhode Island, Vermont and
Virginia.
RCN Long Distance Company is authorized to offer intrastate long
distance services in 48 states nationwide. RCN Long Distance Company is
permitted to resell intrastate long distance services both to other carriers,
including our local operating subsidiaries and Starpower for resale to their end
user subscribers, and to our own end user customers.
FCC Regulation of Interstate and International Telephone
Services. Through several of our subsidiaries, including RCN Long Distance
Company, we may provide domestic interstate telephone services nationwide under
tariffs on file at the FCC. We have been authorized by the FCC under Section
214 of the 1996 Act to offer worldwide international services as well.
Local Regulation of Telephone Services. Municipalities also
regulate limited aspects of our voice business by, for example, imposing
various zoning requirements. In some instances, they require
telecommunications licenses, franchise agreements and/or installation permits
for access to local streets and rights-of-way. In New York City, for example,
we will be required to obtain a telephone franchise in order to provide voice
services using our advanced fiber optic network facilities located in the
streets of New York City, although services may be provided over certain
leased or resold facilities while we wait to receive a franchise.
Regulation of Video Services
Open Video Systems. At various times between February 1997 and
July 1998, our subsidiaries and affiliates have been certified by the FCC to
operate OVS networks in New York City, Boston, Washington, Philadelphia and San
Francisco, and communities surrounding each of these cities, and in the Northern
New Jersey area. Initiation of OVS services is subject to completion of an open
enrollment period for non- affiliated video programmers to seek capacity on the
systems and after negotiation of certain agreements with local governments. The
initial open enrollment period for each of these systems has expired, except for
the Northern New Jersey system, where the open enrollment period has not yet
begun. We executed an agreement with the City of Boston on June 2, 1997, and
initiated OVS service in the City on that day. Under our agreement with the City
of Boston, we will be required to pay a fee to the City equal to 5% of video
revenues. We have entered into similar OVS agreements or are in the process of
negotiating agreements with certain other Boston-area municipalities, either to
offer OVS services or franchised cable television services. We entered into an
agreement with the City of New York on December 29, 1997 and have initiated OVS
service in the Borough of Manhattan. RCN also provides video distribution
service in Manhattan and a portion of the Bronx using microwave facilities and
antennas located at multiple dwelling units. On July 10, 1998, we supplemented
our agreement with the City of New York to include all five boroughs. On October
26, 1998, Starpower entered into an
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agreement with the District of Columbia and initiated OVS service in the
District in the last quarter of 1998. Starpower has entered into similar
agreements or is in the process of negotiating agreements with numerous
suburban communities near Washington, D.C., to offer either OVS services or
franchised cable television services.
In areas where we offer video programming services as an OVS
operator, we are required to make any "open capacity" on the system available to
unaffiliated video program providers ("VPPs"). The commission's rules permit us
to retain up to one-third of system capacity for our own (or affiliate's) use.
Under the OVS regulations, during initial open enrollment period we must offer
at least two-thirds of our capacity to unaffiliated parties, if demand for such
capacity exists during the open enrollment period. In certain areas, at the
request of local officials, we are in discussions to explore the feasibility of
obtaining a cable franchise instead of an OVS agreement. We will consider
providing RCN video service under franchise agreements rather than OVS
certification, if franchise agreements are preferred by the local authorities
and can be obtained on acceptable terms and conditions. We will consider the
relative benefits of OVS certification versus local franchise agreements,
including the possible imposition build out requirements, before making any
decisions.
The U.S. Court of Appeals for the Fifth Circuit has recently
released a decision approving some portions of the FCC's OVS rules but striking
down other portions. Although a number of the Court's rulings are favorable to
OVS operators, others could have an adverse impact on our OVS operations and
planning. The Court's most significant decision was to strike down the FCC's
rule preempting local authority to franchise OVS operators. The FCC's rules had
set forth a relatively simple procedure at the FCC for rapid certification of
each OVS system on a regional basis and permitted local authorities to regulate
OVS only as to rights-of-way administration and in other minor respects. One of
the principal advantages of OVS as structured by Congress and by the FCC was to
eliminate the time, expense, and uncertainty generally required to secure a
local franchise. The Court's action allowing local governments to require area-
by-area franchising may significantly reduce the advantage of OVS operation as
compared with traditional franchising and delay achieving agreements with local
governments. We believe the Court's decision is erroneous in its application of
law and have sought reconsideration by the full court. The FCC, which is the
respondent before the Fifth Circuit, has also sought reconsideration. In the
event the court denies reconsideration, it is not clear how the FCC will modify
its OVS policy and rules to take account of the Court's specific rulings. The
U.S. Courts of Appeal do not routinely grant requests to reconsider their
rulings and when they do a significant period of time is generally required for
the consideration of such requests. However, in many instances RCN, at the
insistence of local authorities, has been negotiating franchise agreements and
agreeing to provisions in OVS right-of-way agreements which to some extent erode
the differences between the two modes of operation. Accordingly, while the
ruling is disadvantageous to us, we expect to continue to expand our video
service offerings.
The FCC's rules require OVS operators to make their facilities
available to video program providers on a non-discriminatory basis, with
certain exceptions. One exception is that competing in-region cable operators
are not entitled to become video program providers on an OVS except in certain
limited circumstances. The incumbent cable operator in Boston, Cablevision of
Boston, Inc., sought an order from the FCC compelling us to provide it with
certain data on our Boston OVS system and declaring Cablevision an eligible
video programming provider on our system. The FCC's Cable Services Bureau
denied its request and that denial has become final. Time Warner Cable Co.,
which operates franchised cable systems in many suburban Boston communities
included within our OVS certification, also sought an order compelling us to
release certain OVS system data and to declare it eligible for carriage on our
system. Unlike Cablevision, Time Warner is not competing with any RCN-provided
OVS service and restricted its request to communities where it is not the
franchised cable operator. Time Warner also petitioned the FCC to impose fines
or cancel our OVS authority. The Cable Services Bureau partially granted the
data
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request and partially denied it but found too little evidence to justify
further exploration of our good faith in acquiring OVS authority. We have
sought partial reconsideration of the Bureau's order, which is currently
pending. Time Warner filed a similar complaint against us in New York City
where we compete with it for video distribution business in Manhattan. Time
Warner asked for system data concerning parts of New York City in which it
does not hold a franchise for cable service. The FCC's Cable Services Bureau
partially granted Time Warner's complaint, and partially denied it, relying on
its prior decision in the Time Warner complaint in the Boston area. We have
sought partial reconsideration of that decision and Time Warner has asked the
full commission to review that portion of the Cable Bureau's decision which
denied certain of Time Warner's data requests.
Two additional cable company complaints have been filed against
Starpower, seeking data and a determination of eligibility for carriage on the
metropolitan Washington OVS system. As in the prior complaints, they challenge
our status as an OVS operator and seek to revoke our OVS authority. These
complaints were filed by Media General Cable of Fairfax, Inc., which operates
franchised cable service within the projected service area of Starpower's OVS
system, and Media General Cable of Fredericksburg, Inc. which is an affiliate
of Media General Cable of Fairfax, Inc. and operates a cable system beyond
Starpower's service area. Both claimed to be seeking system data for areas in
which they do not provide franchised service. Starpower declined to provide
system data to Media General of Fairfax on the ground that, as an in-region
competitive cable company, it was not entitled to the data or to be carried on
the system. The request of Media General of Fredericksburg was denied on the
ground that, as an affiliate of Media General of Fairfax, it was not entitled
under FCC rules to the requested data or to be carried on the system.
Starpower responded to both Media General Complaints on December 14, 1998.
Media General has also sought to initiate discovery against Starpower. The cable
services bureau has not yet acted on the Media General complaints.
Cable industry representatives have opposed or commented
adversely on two other RCN OVS initiatives. In respect to our application for
OVS authority in the San Francisco area, the California Cable Television
Association filed an opposition, alleging that we were misusing the OVS rules
to compete unfairly against franchised cable operators. The Pennsylvania Cable
& Telecommunications Association filed comments on our OVS application for OVS
authority in the Philadelphia region, making similar allegations but not
formally opposing the application. The Cable Services Bureau granted both of
our applications, indicating that our applications were consistent with the
rules and that the opposing parties had not provided sufficient evidence to
justify initiating any regulatory action against us. There is language in each
of these Cable Bureau determinations involving our implementation of the OVS
concept which leave open the possibility for adverse parties to challenge our
status as an OVS operator. We believe that we are operating in strict
conformity with all applicable provisions of the law and will continue to
defend our OVS roll-outs against what we believe are anti-competitive requests
for data or carriage by competing in-region cable operators. However, we
cannot assure you that the FCC will resolve the pending OVS complaints in our
favor. If the FCC were to grant any such complaints and as a result we were
obliged to share system data with our local competitors, we would be forced to
reassess the desirability of continuing to operate in certain markets as an
OVS operator as compared with seeking traditional cable franchises. We do not
believe that abandoning our OVS certifications under such circumstances would
materially adversely affect our video distribution activities.
As in the case of traditional franchised cable systems, OVS
operators must in virtually all locations have access to public rights-of-way
for their distribution plant. In a number of jurisdictions local authorities
have attempted to impose rights-of-way fees on us which we believe are in
violation of federal law. A number of FCC and judicial decisions have addressed
the issues posed by the imposition of rights-of-way fees on CLECs and on video
distributors. To date the state of the law is uncertain and may remain so for
some time. The obligation to pay local rights-of-way fees which are excessive or
discriminatory could have adverse effects on our business activities. See "Legal
Proceeding" below. The incumbent cable operator in Boston, MA, Cablevision of
Boston, Inc., recently filed suit in U.S. District Court in Boston against the
City of Boston, RCN-BECOCOM, RCN, BECOCOM and others, alleging that the City
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had followed a discriminatory policy in administering access to public
rights-of-way for the installation and use of underground conduit and that the
private defendants had participated in an effort to unlawfully construct and use
underground conduit. Cablevision claimed that the defendants were in violation
of the 1996 Act and Massachusetts state law, and sought a preliminary
injunction. RCN and the other defendants denied participating in any unlawful
activity. The Court has denied the preliminary injunction and issued a written
memorandum of decision expressing some doubts about the
underlying merits of Cablevision's claims. On March 15, 1999 the district judge
stayed the litigation pending the outcome of Cablevision's appeal. There can be
no assurance that Cablevision will not further pursue the litigation nor that if
it does so the outcome will be favorable to the Company. Cablevision filed an
appeal of the District Court's ruling with the First Circuit Court of Appeals on
February 26, 1999. Oral argument on the appeal will be scheduled for June 1999.
Cablevision has filed an Amended Complaint in the District Court, but the
District Court has stayed that proceeding until the First Circuit Court rules on
the appeal. We cannot assure you that Cablevision will not further pursue the
litigation nor that if it does so the outcome will be favorable to us.
Access issues have also arisen in a proceeding before the
Massachusetts Department of Telecommunications and Energy (the "MDTE"). In 1997,
the MDTE opened an investigation into Boston Edison Company's compliance with a
MDTE order in 1993 that permitted Boston Edison to invest up to $45 million in
its unregulated subsidiary Boston Edison Technology Group for three limited
purposes. RCN-BECOCOM intervened in the current proceeding, as did Cablevision
Systems Corporation and the New England Cable Television Association, Inc.,
along with others. Hearings began in December 1998 and are still proceeding. The
intervenors, in particular, Cablevision have advocated that if the MDTE finds
that Boston Edison's investment in RCN-BECOCOM violated the 1993 Order, then
Boston Edison should be forced to divest itself of its interest in RCN-BECOCOM,
that RCN-BECOCOM should be subject to the same terms and conditions as other
cable television providers who seek to attach their facilities to Boston Edison
facilities, and that installed RCN-BECOCOM cables and fiber-optic facilities
should be relocated. Boston Edison is vigorously defending the propriety of its
compliance with the MDTE's 1993 Order, and its investment in RCN-BECOCOM. RCN
cannot assure you that the MDTE will not determine that Boston Edison violated
the MDTE's 1993 Order nor can RCN assure you as to the nature of any remedy that
the MDTE may determine to be appropriate including those proposed remedies which
are equitable in nature. RCN is participating in the proceeding and plans to
take such action as it deems appropriate to protect its rights.
Prior to our certification as an OVS provider, we offered
limited video programming services using the Video DialTone Transport ("VDT")
services offered by MFS/WorldCom in Manhattan and the City of Boston. In
February 1997, the FCC held that MFS/WorldCom's facilities did not qualify as
video dialtone facilities entitled to an extension of time to comply with the
newly adopted OVS rules. Nonetheless, the FCC did not direct MFS/WorldCom and
RCN to cease video programming distribution operations over the MFS/WorldCom
platform. One of the incumbent cable television companies in New York City has
filed a complaint with the New York Public Service Commission challenging the
former, pre-OVS, operations of RCN and WorldCom under the VDT framework, which
remains pending before that commission.
Wireless Video Services. Our 18 GHz wireless video services in
New York City are distributed using microwave facilities provided by Bartholdi
Cable under temporary authorizations issued to Bartholdi Cable by the FCC.
Bartholdi Cable has agreed to provide us with transmission services until we
have either converted the wireless video subscribers to our advanced fiber
optic network facilities or have obtained FCC authority to provide services
under our own wireless radio licenses. In addition, Bartholdi Cable has agreed
to transfer to us the transmission equipment on demand. Bartholdi Cable's
obligation to provide transmission services is subject to Bartholdi Cable
having licenses from the FCC to provide these services. The qualifications of
Bartholdi Cable to hold certain of the licenses needed to provide transmission
services to us are at issue in an FCC proceeding in which an initial decision
was released on March 6, 1998. In the initial decision, the Administrative Law
Judge found Bartholdi Cable unqualified with respect to 15 such licenses. The
Administrative Law Judge declared that the initial decision would become
effective 50 days after its release unless Bartholdi Cable filed exceptions to
the initial decision within 30 days of its release or the FCC elected to
review the case on its own motion. Bartholdi Cable filed exceptions to the
initial decision on April 7, 1998. Because of the uncertainty as to Bartholdi
Cable's right in the future to offer transmission services to us, we filed our
own license applications at the FCC for all of the microwave transmission
paths which are currently being used by Bartholdi Cable to provide us with
transmission services. In light of the increased uncertainties resulting from
the initial decision in the FCC proceeding, we expect now actively to pursue
our license applications. While we expect to receive authorizations to
transmit over these microwave paths, we cannot assure you that we will be able
to offer wireless video services under our own FCC licenses or that the FCC's
investigation will be resolved favorably. Our failure to obtain these
licenses or resolve these proceedings would materially adversely affect our
wireless video operations in New York City.
We cannot assure you that we will be able to obtain or retain
all necessary authorizations needed to construct advanced fiber optic network
facilities, to convert our wireless video subscribers to an advanced fiber
optic network or to offer wireless video services under our own FCC licenses.
Hybrid Fiber/Coaxial Cable. Our hybrid fiber/coaxial cable
systems are subject to regulation under the 1992 Act. The 1992 Act regulate
rates for cable services in communities that are not subject to "effective
competition," certain programming requirements, and broadcast signal carriage
requirements that allow local commercial television broadcast stations to
require a cable system to carry the station. Local commercial television
broadcast stations may elect once every three years to require a cable system
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to carry the station ("must-carry"), subject to certain exceptions, or to
withhold consent and negotiate the terms of carriage ("retransmission
consent"). A cable system generally is required to devote up to one-third of
its activated channel capacity for the carriage of local commercial television
stations whether under the mandatory carriage or retransmission consent
requirements of the 1992 Act. Local non-commercial television stations are
also given mandatory carriage rights. The FCC recently issued rules
establishing standards for digital television ("DTV"). The FCC's rules
require television stations to simulcast their existing television signals
("NTSC") and DTV signals for a period of years. During this simulcast period,
it is unclear whether must-carry rules will apply to DTV signals. The FCC has
initiated a rule making proceeding seeking comment on the carriage of
broadcast DTV signals by cable and OVS operators during the transitional
period to full digital broadcasting. The FCC's proceeding addresses the need
for the digital systems to be compatible, seeks comment on possible changes to
the mandatory carriage rules, and explores the impact carriage of DTV signals
may have on other FCC rules. The cable industry has generally opposed many of
the FCC's proposals, on the grounds that they constitute excessively
burdensome obligations on the industry. The Communications Act permits
franchising authorities to require cable operators to set aside certain
channels for public, educational and governmental access programming. Cable
systems with 36 or more channels must designate a portion of their channel
capacity for commercial leased access by third parties to provide programming
that may compete with services offered by the cable operator.
On September 8, 1997, we were notified by the FCC that it had
ruled that certain of our upper levels of service for our New Jersey systems
were regulated levels of service and that our rates for these levels of
service exceeded the rates allowed by the FCC rate regulation rules. Since
that time, RCN and the FCC have negotiated a settlement under which the FCC
finds that our upper levels of service for our New Jersey and certain New York
systems are "New Product Tiers". Our rates for 1997 and prior years for those
systems are approved, except that we will give a $5.00 per subscriber refund
to all subscribers in our New Jersey systems and a refund of $3.30 per
subscriber in certain of our New York systems. The settlement has been
subject to public comment and is now awaiting final approval by the FCC. We do
not believe that the ultimate resolution of this matter, whether the
settlement is finally approved or not, will have a material impact on our
results of operations or financial condition.
Because a cable communications system uses local streets and
rights-of-way, such cable systems are generally subject to state and local
regulation, typically imposed through the franchising process. The terms and
conditions of state or local government franchises vary materially from
jurisdiction to jurisdiction. Generally, they contain provisions governing
cable service rates, franchise fees, franchise term, system construction and
maintenance obligations, customer service standards, franchise renewal, sale
or transfer of the franchise, territory of the franchisee and use and
occupancy of public streets and types of cable services provided. Local
franchising authorities may award one or more franchises within their
jurisdictions and prohibit non-grandfathered cable systems from operating
without a franchise. The Communications Act also provides that in granting or
renewing franchises, local authorities may establish requirements for
cable-related facilities and equipment, but not for video programming or
information services other than in broad categories. The Communications Act
limits franchise fees to 5% of revenues derived from cable operations and
permits the cable operator to seek modification of franchise requirements
through the franchise authority or by judicial action if changed circumstances
warrant.
Our ability to provide franchised cable television services
depends largely on our ability to obtain and renew our franchise agreements
from local government authorities on generally acceptable terms. We currently
have 91 franchise agreements relating to the hybrid fiber/coaxial cable
systems in New York (outside New York City), New Jersey and Pennsylvania.
These franchises typically contain many conditions, such as time limitations on
commencement and completion of construction, conditions of service, including
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the number of channels, the provision of free service to schools and certain
other public institutions, and the maintenance of insurance and indemnity
bonds. These franchises provide for the payment of fees to the issuing
authorities and generally range from 3% to 5% of revenues. The duration of
these outstanding franchises presently varies up to the year 2011. To date,
all of our cable franchises have been renewed or extended, generally at or
before their stated expirations and on acceptable terms. Approximately 39 of
our hybrid fiber/coaxial cable systems' franchises are due for renewal within
the next three years. We cannot assure you that we will be able to renew our
franchises on acceptable terms. No one franchise accounts for more than 4% of
our total revenue. Our five largest franchises account for approximately 11%
of our total revenue.
The hybrid fiber/coaxial cable systems are also subject to
certain service quality standards and other obligations imposed by the FCC
and, where effective competition has not been demonstrated to exist, to rate
regulation by the FCC as well. Our cable television system in Pennsylvania has
been operating in a competitive cable environment for almost 30 years, with
approximately 80% of the homes passed having access to an alternate cable
operator, Service Electric Cable TV. As a result, our Pennsylvania cable
system is exempt from many FCC cable television regulations, including rate
regulation. Our other cable television systems in New York State and New
Jersey currently remain subject to FCC rate regulation. As required by the
1996 Act, however, all cable programming services will be deregulated if
effective competition is shown to exist in the franchise area, or by March 31,
1999, whichever date is sooner. There has been widespread discussion in
Congress about possible legislation to keep cable rate regulation in effect
longer. We cannot assure you that legislation will not be adopted. We
anticipate that the remaining provisions of the 1992 Act that do not relate to
rate regulation, including provisions relating to retransmission consent and
customer service standards, will remain in place and may reduce the future
operating margins of our hybrid fiber/coaxial cable television businesses as
video programming competition develops in our cable television service
markets.
The FCC is required to regulate the rates, terms and conditions
imposed by public utilities for cable systems' use of utility pole and conduit
space unless state authorities can demonstrate that they adequately regulate
pole attachment rates. In the absence of state regulation, the FCC administers
pole attachment rates on a formula basis. In some cases, utility companies
have increased pole attachment fees for cable systems that have installed fiber
optic cables and that are using these cables for the distribution of non-video
services. The FCC concluded that, in the absence of state regulation, it can
determine whether utility companies have justified their demand for additional
rental fees and that the Communications Act does not permit disparate rates
based on the type of service provided over the equipment attached to the
utility's pole. The 1996 Act and the FCC's implementing regulations modify the
current pole attachment provisions of the Communications Act. It immediately
permits certain providers of telecommunications services to rely upon the
protections of the current law and require that utilities provide cable
systems and telecommunications carriers with nondiscriminatory access to any
pole, conduit or right-of-way, controlled by the utility. The FCC has recently
adopted new regulations to govern the charges for pole attachments used by
companies providing telecommunications services, including cable operators.
These new pole attachment rate regulations will become effective five years
after enactment of the 1996 Act, and any increase in attachment rates
resulting from the FCC's new regulations will be phased in equal annual
increments over a period of five years beginning on the effective date of the
new FCC regulations. The ultimate outcome of these rulemakings and the
ultimate impact of any revised FCC rate formula or of any new pole attachment
rate regulations on us or our businesses cannot be determined at this time.
The 1992 Act, the 1996 Act and FCC regulations preclude any cable
operator or satellite video programmer affiliated with a cable company, or with
a common carrier providing video programming directly to its subscribers, from
favoring an affiliated company over competitors. These programmers are required
to
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sell their programming to other multichannel video distributors. These
provisions limit the ability of program suppliers affiliated with cable
companies or with common carriers providing satellite delivered video
programming directly to their subscribers to offer exclusive programming
arrangements to their affiliates. Except in limited circumstances, however,
these statutory and regulatory limitations do not apply to programming which is
distributed other than by satellite. We are experiencing difficulty in securing
access to certain local sports programming in the New York City market, which we
consider important to successful competition in that market. The Communications
Act also includes provisions concerning horizontal and vertical ownership of
cable systems, customer service, subscriber privacy, marketing practices, equal
employment opportunity, obscene or indecent programming, regulation of technical
standards and equipment compatibility.
In addition to the FCC regulations previously discussed, there
are other FCC regulations covering areas such as:
o equal employment opportunity;
o syndicated program exclusivity;
o network program non-duplication;
o registration of cable systems;
o maintenance of various records and public inspection files;
o microwave frequency usage;
o lockbox availability;
o sponsorship identification;
o antenna structure notification;
o tower marking and lighting;
o carriage of local sports broadcast programming;
o application of rules governing political broadcasts;
o limitations on advertising contained in non-broadcast
children's programming;
o consumer protection and customer service;
o ownership and access to cable home wiring and home wiring in
multiple dwelling units;
o indecent programming;
o programmer access to cable systems;
o programming agreements;
o technical standards; and
o consumer electronics equipment compatibility and closed
captioning.
The FCC has the authority to enforce its regulations through
imposing substantial fines, issuing cease and desist orders and/or imposing
other administrative sanctions, such as revoking FCC licenses needed to operate
certain transmission facilities often used in connection with cable
operations. We have difficulty gaining access to the video distribution wiring
in certain multiple dwelling units in the City of Boston in which Cablevision
is the incumbent provider of video services. In some buildings the management
will not permit us to install our own distribution wiring and Cablevision has
not been willing to permit us to use the existing wiring on some equitable
basis when we wish to initiate service to an individual unit previously served
by Cablevision. We have sought a ruling from the FCC's Cable Services Bureau
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that existing FCC inside wiring rules require Cablevision to cooperate with us
to make such wiring available to it. The matter is currently pending before
the FCC's Cable Services Bureau staff.
Other bills and administrative proposals pertaining to cable
television have previously been introduced in Congress or considered by other
governmental bodies over the past several years. There will likely be
legislative proposals in the future by Congress and other governmental bodies
relating to the regulation of communications services.
Cable television systems are subject to federal compulsory
copyright licensing covering the retransmission of television and radio
broadcast signals. In exchange for filing certain reports and contributing a
percentage of their basic revenues to a federal copyright royalty pool, cable
operators can obtain blanket licenses to retransmit the copyrighted material
on broadcast signals.
Other Regulatory Issues. The data services business, including
Internet access, is largely unregulated at this time apart from federal,
state, and local laws and regulations applicable to businesses in general.
However, we cannot assure you that this business will not become subject to
regulatory restraints. Some federal, state, local and foreign governmental
organizations are considering a number of legislative and regulatory proposals
with respect to Internet user privacy, infringement, pricing, quality of
products and services and intellectual property ownership. We are also unsure
how existing laws will be applied to the Internet in areas such as property
ownership, copyright, trademark, trade secret, obscenity and defamation.
Additionally, some jurisdictions have sought to impose taxes and other burdens
on providers of data services, and to regulate content provided via the
Internet and other information services. We expect that proposals of this
nature will continue to be debated in Congress and state legislatures in the
future. In addition, although the FCC has on several occasions rejected
proposals to impose additional costs on providers of Internet access service
and other data services for the use of local exchange telephone network
facilities for access to their customers, the FCC or Congress may consider
similar proposals in the future. The adoption of new laws or the adaptation of
existing laws to the Internet may decrease the growth in the use of the
Internet, which could in turn have a material adverse effect on our Internet
business.
We have interconnection agreements with Bell Atlantic and other
incumbent local exchange carriers that entitle us to collect reciprocal
compensation payments from them for local telephone calls that terminate on our
facilities. We make similar payments for outbound local calls we deliver to the
incumbent local exchange carriers. However, ILECs around the country have been
contesting whether the obligation to pay reciprocal compensation to CLECs should
apply to local telephone calls from an ILEC's customers to Internet service
providers served by CLECs. The ILECs claim that this traffic is interstate in
nature and therefore should be exempt from compensation arrangements applicable
to local, intrastate calls. CLECs have contended that the interconnection
agreements provide no exception for local calls to Internet service providers
and reciprocal compensation is therefore applicable. Currently, over 25 state
commissions and several federal and state courts have ruled that reciprocal
compensation arrangements do apply to calls to Internet service providers, and
no jurisdiction has ruled to the contrary. In the regions we are focusing on,
the California, Massachusetts, New York, Pennsylvania, Maryland and Virginia
public utility commissions have issued such orders. Certain of these are subject
to appeal. Additional disputes over the appropriate treatment of ISP traffic are
pending in other states. On February 26, 1999, the FCC released a Declaratory
Ruling determining that ISP traffic is interstate for jurisdictional purposes,
but that its current rules neither require nor prohibit the payment of
reciprocal compensation for such calls. In the absence of a federal rule, the
FCC determined that state commissions have authority to interpret and enforce
the reciprocal compensation provisions of existing interconnection agreements,
and to determine the appropriate treatment of ISP traffic in arbitrating new
agreements. The FCC also requested comment on alternative federal rules to
govern compensation for such calls in the future. In response to the FCC ruling,
some RBOCs have asked state commissions to reopen previous decisions requiring
the payment of reciprocal compensation on ISP calls. We are opposing such
efforts in Maryland, Massachusetts, and New York. The Company anticipates that
Internet service providers will be among its target customers, and adverse
decisions in state proceedings could limit its ability to service this group of
customers profitably.
In order to develop our networks, we must obtain local
franchises and other permits, as well as building access agreements and rights
to use underground conduit and pole space, private easements and other
rights-of-way and fiber capacity from entities such as incumbent local
exchange carriers and other utilities, railroads, long distance companies,
state highway authorities, local governments and transit authorities. We
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cannot assure you that we will be able to maintain our existing franchises,
permits and rights or to obtain and maintain the other franchises, permits,
building access agreements and rights needed to implement our business plan on
acceptable terms. Although we do not believe that any of the existing
arrangements will be canceled or will not be renewed as needed in the near
future, certain cancellation or non-renewal of these arrangements could
materially adversely affect our business. In addition, our failure to enter
into and maintain any such required arrangements for a particular network,
including a network which is already under development, may affect our ability
to acquire or develop that network.
We have summarized present and proposed federal, state, and
local regulations and legislation affecting the telephone, video programming
and data service industries. This summary is not complete. Other existing
federal regulations, copyright licensing, and, in many jurisdictions, state
and local franchise requirements, are currently the subject of judicial
proceedings, legislative hearings and administrative proposals which could
change, in varying degrees, the operations of communications companies. The
ultimate outcome of these proceedings, and the ultimate impact of the 1996 Act
or any final regulations adopted under the new law on us or our businesses
cannot be determined at this time.
Employees
As of December 31, 1998, we had approximately 2,150 full-time
employees including joint ventures, general office and administrative
personnel and approximately 200 part-time employees. The Company has a
collective bargaining agreement that covers approximately 70 employees, which
is valid through January 14, 2001. We consider relations with our employees
to be good.
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ITEM 2. PROPERTIES
Overview of Advanced Fiber Optic Networks
RCN's advanced fiber optic networks are designed to support voice, video and
data services via a fiber-rich network architecture. The Company's multi-
service network is presently operating in Boston, New York City, Lehigh Valley
PA and Washington, D.C. The advanced fiber optic network consists of fiber
optic transport facilities; local and long distance digital telephony switches;
video head-ends; voice, video and data transmission and distribution equipment;
Internet routing and WAN equipment and the associated network wiring and network
termination equipment. The Company's telephone switching network utilizes the
Lucent 5ESS-2000 switch as the local switching element and the network is
designed to provide highly reliable life-line telephony service. In each of the
four existing markets, a Lucent 5ESS-2000 switch is installed and fully
operational, with network switch additions planned for the Queens, NY,
Philadelphia and San Francisco markets throughout 1999. The networks' common
backbone signal transport medium for both digital signals (voice, video and
data) and analog signals (video) is exclusively fiber optical cable, either RCN-
owned, or leased from other providers such as MCI WorldCom, Qwest or Level 3.
The digital fiber optic backbone transport network utilizes a Synchronous
Optical Network ("SONET") self-healing ring architecture to provide high speed,
redundant connections for the delivery of RCN's voice, video and data services.
Facility connections from the backbone network to individual buildings or
residential and commercial service areas are typically provided via RCN-owned
fiber optic facilities. RCN's advanced fiber optic network contains over 1,400
route miles of cable.
Presently, RCN owns and operates four local telephony switches, two long
distance switches and four video head-ends to provide service within the four
existing markets. As of December 31, 1998, RCN has passed 304,505 of homes with
its advanced fiber optic network and has connected 501 buildings directly to its
fiber optic facilities in metropolitan areas.
The majority of RCN's network infrastructure is built using fiber optic cable
as the predominant transport medium. Fiber optic systems are suitable for
transmission of digitized voice, video and data information, or a combination
of these types of signals. The main benefits resulting from the deployment of
fiber optic cable in the backbone and local distribution portions of the
network, in place of traditional coaxial cable or copper wire, are greater
network capacity, increased functionality, smaller size service areas and
decreased requirements for periodic amplification of the signal. These factors
contribute to lower installation and maintenance costs and increase the variety
and quality of the service offerings. The inherent bandwidth limitations of
twisted pair copper wire historically used in telephone networks present a
substantial obstacle to the use of existing telephone networks to provide video
programming services. Although coaxial cable provides substantially greater
bandwidth than twisted pair copper wire, fiber optic cable provides
substantially greater bandwidth than coaxial cable. Consequently, newly
constructed fiber networks such as RCN's provide a superior platform for
delivering high speed, high capacity voice, video and data services, as
compared to traditional systems based largely on copper wire or coaxial cable.
The fiber optic cable utilized by RCN's network has the increased capacity
necessary for the transport and delivery of today's high-bandwidth data and
video transmission requirements. The fiber optic cable used typically contains
between 12 and 288 fiber strands, however, larger sizes up to 864 strands are
planned for use in the near future. Each individual strand of fiber is capable
of providing a large number of telecommunications channels or "circuits".
Depending on the transmission electronics used, a single pair of glass fibers
on RCN's network currently can transmit tens of thousands of simultaneous voice
conversations, whereas, a typical pair of copper wires can carry a maximum of
24 simultaneous conversations using standard TDM multiplexing systems. Although
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the LECs commonly use copper wire in their networks, they are currently
deploying fiber optic cable to upgrade portions of their copper based network,
particularly in areas served by RCN. RCN expects that continued developments and
enhancements in communications equipment will increase the capacity of each
optical fiber, thereby providing even more capacity at relatively low
incremental cost.
As the Company's network is further developed, it will be dependent on certain
strategic alliances and other arrangements in order to provide the full range of
its telecommunication service offerings. These relationships include RCN's
arrangements with MCI WorldCom to lease portions of MCI WorldCom's fiber optic
network in New York City and, to a lesser extent due to our access to the BECO
Netwrk, in Boston, RCN's joint venture with BECO, the Starpower joint venture
and RCN's arrangements to lease unbundled local loop and T-1 facilities from the
serving LEC. See "Strategic Relationships and Facilities Agreement" above and
"Voice Services Advanced Fiber Optic Networks" immediately following. Any
disruption of these arrangements and relationships could have a material adverse
effect on the Company.
Voice Services
Advanced Fiber Optic Networks. The Company's advanced fiber optic networks in
all existing markets utilize a voice network that supports both switched and
non-switched (private line) services. Individual buildings are connected to
the network backbone via fiber extensions that are generally terminated in
SONET equipment, which provides redundant and fail-safe interconnection between
the building and the RCN central switch location. In situations where fiber
extensions are not yet available, interim facility connections can be provided
by leasing special access facilities through an arrangement with MCI WorldCom
or the incumbent LEC. In this regard, RCN has in place agreements which allow
it to lease certain facilities owned by the incumbent LECs (unbundled local
loops and T-1 facilities) to provide voice services. This enables RCN to
provide voice services to subscribers who are not directly connected to RCN's
advanced fiber optic network. As RCN's network expands to reach more areas
within a target market, subscribers served by these temporary connections will
be migrated to RCN's advanced fiber optic network. Within a building (or small
grouping of buildings), a voice service hub is established by installing
Integrated Digital Loop Carrier ("IDLC") equipment, which acts as the point of
interface between the SONET backbone facility and the intra-building wiring.
Each IDLC is installed with a standby power system and is capable of serving
between 672 and 2048 lines (maximum), depending on the specific type of
equipment utilized. The IDLC is capable of supporting a wide range of both
non-switched services (DS-1, digital data) and switched voice services and
features including ISDN, Centrex, Custom Calling and CLASS features. Within
each building, internal wiring (twisted pair copper cable) connects the IDLC
to the customer premises and the customer-owned telephone equipment. In
certain instances, voice service is extended to other buildings in the building
group or cluster via either fiber optic cable or twisted pair copper cable. At
the time of initial wiring, RCN generally installs wiring in excess of its
initial requirements, in order to meet future subscriber demand.
In residential overbuild situations, RCN provides a fiber-rich local
distribution architecture for the delivery of voice services to the residential
or commercial subscriber. Fiber optic backbone facilities using SONET transport
electronics provide interconnection from the telephony distribution electronics
to the RCN 5ESS-2000 local telephony switch. Fiber optic facilities are utilized
to transport the telephony signals to a residential service area node, a point
typically within 900 feet from the furthest subscriber. The distribution
facilities between the node and the subscriber can either be coaxial cable,
fiber optic cable, or in some cases, twisted pair copper cable.
Video Programming
Advanced Fiber Optic Networks. There are presently four video head-end
locations within RCN's advanced fiber optic networks (i.e., New York City,
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Boston, Lehigh Valley, PA and Washington, D.C.). The video head-ends consist of
optical transmitters, optical receivers, satellite receivers, signal processors,
modulators, encoding equipment, digital video transport equipment and network
status monitoring and automated tape distribution equipment. From the head-end,
the video signals are transported to secondary hub sites in either digital or
analog signal format. Once the signal is received at the secondary hub site, the
signal is conditioned, processed and interconnected to the local fiber optic
transport facilities for distribution to the video subscribers. The video
signals are distributed to individual fiber nodes or receivers via the same
fiber optic cable used to deliver the voice and data service. The fiber cable
terminates in a fiber optic receiver within an individual building or video
service area. From the fiber node, coaxial cable and related distribution
equipment is used to distribute the video signals to the customer premises. The
bandwidth of the video distribution is a minimum of 860 MHz, which is capable of
supporting between 90 and 110 analog video channels plus a substantial number
of digital video channels. This distribution plant is specifically designed to
be predominantly fiber-based, which increases the reliability and improves the
quality of the services delivered as compared to traditional cable television
distribution architectures.
Wireless Video. RCN also owns and operates a "wireless video" television system
(which was formerly operated as Liberty Cable Television of New York and
acquired by RCN in 1996) using point-to-point 18GHz microwave technology. RCN is
utilizing this system in New York City as an alternate platform for delivering
television programming to buildings that are not yet connected to the advanced
fiber optic network. RCN expects that the majority of the buildings currently
served by the wireless service will ultimately be connected to the network to
the extent that connection is feasible. As buildings are connected to the RCN
network, RCN will reuse the microwave equipment to provide service to other
customers in off-network premises. The transmission equipment and microwave
services used to provision RCN's wireless service are provided by Bartholdi
Cable, which formerly operated Liberty Cable Television of New York. Bartholdi
Cable has agreed to provide transmission services to RCN until RCN has either
converted the subscribers to its advanced fiber optic network or has obtained
FCC authority to provide such services pursuant to its own licenses. In
addition, Bartholdi Cable has agreed to transfer to RCN the transmission
equipment on demand. Bartholdi Cable's obligation to provide transmission
services is subject to Bartholdi Cable having authority to provide such
services. The qualifications of Bartholdi Cable to hold certain of the licenses
needed to provide transmission services to RCN are at issue in an FCC proceeding
in which an Initial Decision was released on March 6, 1998. In the Initial
Decision, the Administrative Law Judge found Bartholdi Cable unqualified with
respect to 15 such licenses. The Initial Decision will become effective 50 days
after its release unless Bartholdi Cable, as expected, files exceptions to the
Initial Decision within 30 days of its release or the FCC elects to review the
case on its own motion.
With the exception of one license all other overlapping paths to Bartholdi
licenses have been approved by the FCC. The Company expects that the FCC will
issue the final license during 1999.
Hybrid Fiber/Coaxial Cable Systems. RCN owns and operates Hybrid Fiber Coaxial
cable television networks in Pennsylvania, New Jersey and New York State
(outside of New York City). These networks offer expanded bandwidth and a
platform for two-way services, and have an aggregate of 592 route miles of fiber
optic cable. The network in Pennsylvania includes a separate high capacity fiber
optic ring with a minimum 84 fibers (covering approximately 100 route miles),
which is designed and constructed to support a competitive telephony network.
The New York system includes 211 route miles of fiber optic cable serving
approximately 101 nodes from one head-end. Approximately 70% of the New York
system is two-way active 750 MHz plant with 84 active channels of programming.
The New Jersey system includes 145 route miles of fiber optic cable and
generally operates a 400/450 MHz plant. The New Jersey system has over 30 miles
of two-way plant active and provides 62 channels of video programming. The
Pennsylvania system consists of 2,700 miles of coaxial cable and 236 route miles
26
<PAGE>
of fiber cable. The Pennsylvania system serves 150 nodes from one head-end, and
operates at 550 - 750 MHz with approximately 80 active channels. All of the
Company's Hybrid Fiber Coaxial cable systems are 100% one-way addressable.
These fiber-rich networks provide a basic fiber optic platform capable of
enhancement for supporting two-way services, such as high-speed Internet
services. RCN is presently expanding the fiber capacity in some of these
fiber/coaxial cable television networks so that they will be capable of
delivering switched two-way services in the near future.
Data Services. RCN's Internet access and data transmission services are
currently provided over the advanced fiber optic network via dial-up modems
facilitated through the RCN voice network in on-net subscriber applications.
In off-net situations, subscribers use conventional dial-up modems through the
incumbent LEC network to access RCN's Internet transmission network. RCN is
beginning to offer Internet and data transmission services via cable modems.
Cable modems, which utilize the broadband coaxial plant, offer higher speed
access for data transmission than the speeds achieved by conventional telephone
dial-up technology.
RCN is presently developing a long haul, high-bandwidth fiber optic transport
facility that will traverse from Boston to Washington D.C. This facility will
utilize fiber that RCN recently acquired in an arrangement with Qwest and be
used to provide high speed connectivity between each of RCN's points of presence
along the Northeast Corridor. It will initially provide long distance telephone
and internet connectivity along this corridor for RCN's customers.
RCN provides high quality Internet access services to businesses by utilizing
high-speed access via ISDN, frame relay, fractional T-1, T-1 and T-3 circuits.
RCN's network infrastructure currently supports modems with dial-access speeds
of up to 56 KBPS. RCN provides new dial-access subscribers with an easy-to-
install proprietary access software package, which incorporates a telephone
dialer, an e-mail platform, a Web browser (Microsoft Corp.'s Microsoft Internet
Explorer) and SurfWatchTM software for parental control over Internet content
access. This software package permits simplified access to the Internet through
a "point and click" graphical user interface. After installation, the subscriber
has a direct connection to the Internet using Point-to-Point Protocol and access
to all of the Internet's resources, including e-mail, the World Wide Web, Usenet
News service and Internet Relay Chat. Access software automatically displays the
RCN World Wide Web site each time a subscriber logs on, providing RCN with the
opportunity to communicate with its subscribers at the start of each session.
RCN maintains "24 x 7" subscriber and technical support 365 days a year.
RCN services currently rely on the widespread commercial use of Transmission
Control Protocol/Internet Protocol ("TCP/IP"). Alternative open and proprietary
protocol standards that compete with TCP/IP, including proprietary protocols
developed by International Business Machines Corporation ("IBM") and Novell,
Inc. have been or are being developed. The adoption of such new industry
standards could render the Company's existing services obsolete and unmarketable
or require reduction in the fees charged therefore.
RCN relies on a combination of copyright, trademark and trade secret laws and
contractual restrictions to establish and protect its proprietary technology.
However, there can be no assurance that RCN's technology will not be
misappropriated or that equivalent or superior technologies will not be
developed. In addition, there can be no assurance that third parties will not
assert that RCN's services or its users' content infringe their proprietary
rights. The Company has obtained authorization, typically in the form of a
license, to distribute third-party software incorporated in the RCN access
software product for Windows 3.1, Windows 95, Windows NT and Macintosh
platforms. The Company plans to maintain or negotiate renewals of existing
software licenses and authorizations. The Company may desire or need to license
other applications in the future we believe that all of our properties are in
good operating condition.
27
<PAGE>
ITEM 3. LEGAL PROCEEDINGS
In the normal course of business, there are various legal proceedings
outstanding. In the opinion of management, these proceedings will not have a
material adverse effect on the results of operations or financial condition of
the Company.
28
<PAGE>
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of security holders of the Registrant
during the fourth quarter of the Registrant's 1998 fiscal year.
EXECUTIVE OFFICERS OF THE REGISTRANT
Pursuant to General Instruction G(3) of Form 10-K, the following list is
included as an un-numbered Item in Part I of this Report in lieu of being
included in the definitive proxy statement relating to the Registrant's Annual
Meeting of Shareholders to be filed by Registrant with the Commission pursuant
to Section 14(A) of the Securities Exchange Act of 1934 (the "1934 Act").
Executive Officers of the Registrant
David C. McCourt, 42, has been the Chairman and Chief Executive Officer
of the Company as well as a Director since September 1997. Mr. McCourt
has served as a Director and Chairman and Chief Executive Officer of
Cable Michigan from September 30, 1997 to November 1998. In addition, he
is a Director and Chairman of Commonwealth Telephone Enterprises, Inc.
("CTE") positions he has held since October 1993. Mr. McCourt was Chief
Executive Officer of CTE from October 1993 to December 1998. Mr. McCourt
has also been President and Chief Executive Officer, as well as a
Director of Level 3 Telecom Holdings, Inc. formerly Kiewit Telecom
Holdings, Inc. He was also Chairman and Chief Executive Officer as well
as a Director of Mercom from October 1993 to November 1998. Director of
MFS Communications Company, Inc. from July 1990 to December 1996,
President and a Director of Metropolitan Fiber Systems/ McCourt, Inc., a
subsidiary of MFS Telecom, Inc., since 1988, has been a Director of
Cable Satellite Public Affairs Network ("C-SPAN") since June 1995, was a
Director of WorldCom, Inc. from December 1996 to March 1998 and is a
Director of Kiewit Diversified Group, Inc. now Level 3 Communications,
Inc. since August 1997.
Michael J. Mahoney, 48 has been the President and Chief Operating
Officer, as well as a Director of the Company since September 1997.
Mr. Mahoney is also a Director of CTE, a position he has held since
May 1995. Mr. Mahoney was President and Chief Operating Officer of
CTE from February 1994 to September 1997, President and Chief Operating
Officer of Mercom from February 1994 to October 1997 and a Director of
Mercom from January 1994 to November 1998. In addition, he was
Executive Vice President of Cable Television Group from June 1991 to
March 1994 and Executive Vice President of Mercom from December 1991 to
March 1994.
Bruce C. Godfrey, 43, has been the Executive Vice President, Chief
Financial Officer, and Director of the Company since September 1997.
Mr. Godfrey was Corporate Secretary of the Company from September 1997
to August 1998. Mr. Godfrey was also a Director of Cable Michigan as
well as its Corporate Secretary from September 1997 to September 1998.
Mr. Godfrey has been a Director of CTE since November 1996, Executive
Vice President and Chief Financial Officer of CTE from April 1994 to
December 1998. He was Executive Vice President and Chief Financial
Officer of Mercom from April 1994 to October 1997 and a Director of
Mercom from May 1994 to November 1998 and Corporate Secretary from
October 1997 to September 1998. Mr. Godfrey was also Senior Vice
President and Principal of Daniels and Associates from January 1984
to April 1994.
Michael A. Adams, 41, has been the President of Technology and Network
Development Group of the Company and Executive Vice President of the
Company since September 1997. Mr. Adams held the corresponding position
at CTE from November 1996 to September 1997. Prior to that date, Mr.
Adams held the following positions: Executive Vice President of
Technology and Strategic Development of CTE from August 1996 to November
29
<PAGE>
1996, Executive Vice President of CTE's Communications Services Group
from September 1994 to June 1996, Vice President of Technology from
November 1993 to September 1994, Vice President of Engineering for RCN
Telecom Services, Inc., a wholly owned subsidiary of RCN, from September
1992 to October 1993.
Mark Haverkate, 44, has been the Executive Vice President, Business
Development of the Company since September 1997. Mr. Haverkate was
President and Chief Operating Officer and a Director of Cable Michigan
from September 1997 to November 1998. He was President and Chief
Operating Officer of Mercom, from October 1997 to November 1998. He was
the President of RCN Development (a division of RCN) from June 1997 to
September 1997. Previously, he was President for Business Operations of
RCN Telecom Services, Inc. from November 1996 to June 1997, Executive
Vice President of RCN Telecom Services, Inc. from August 1996 to
November 1996, Executive Vice President of CTE's Cable Television Group
from July 1995 to August 1996, Executive Vice President of Development
for CTE from February 1995 to July 1995, Executive Vice President for
Development at Mercom from November 1995 to February 1996, Vice
President of Development for CTE from December 1993 to February 1995,
Vice President for Development at Mercom from December 1993 to February
1995, Vice President of CTE's Cable Television Group from October 1989
to December 1993.
Ralph S. Hromisin, CPA, 38, has been Senior Vice President and Chief
Accounting Officer of the Company since August 1998. He was Vice
President and Chief Accounting Officer from September 1997 to August
1998. He was Vice President and Chief Accounting Officer of Cable
Michigan, Inc. from September 1997 to November 1998. He is Vice
President and Chief Accounting Officer of CTE since September 1997.
He served as Vice President and Corporate Controller of CTE from August
1994 to September 1997. Mr. Hromisin was Vice President and Corporate
Controller for Mercom from October 1996 to November 1998, and Director
of Corporate Accounting for CTE from March 1992 to August 1994.
Paul E. Sigmund, 34, is Executive Vice President of the Company since
September 1997 and Executive Vice President of RCN International
Holdings since 1996. Previously, Mr. Sigmund was a Vice President at
Smith Barney, Inc. from 1994 to 1996; an Associate at the law firm
Skadden, Arps, Slate, Meagher & Flom from 1993 to 1994 and an Investment
Associate at the International Finance Corporation/World Bank from 1986
to 1989.
Timothy J. Stoklosa, 38, has been the Senior Vice President and
Treasurer of the Company since September 1997. He also has been Senior
Vice President of Finance of CTE since February 1997 and Treasurer of
CTE since August 1994. Mr. Stoklosa was Executive Vice President and
Chief Financial Officer of Cable Michigan and Mercom from October 1997
to November 1998. Previously, Mr. Stoklosa was Vice President of Finance
of CTE from May 1995 to February 1997, Manager of Mergers and
Acquisitions at Peter Kiewit Sons, Inc. from October 1991 to August 1994
and Senior Financial Analyst of Corporate Development at Citizens
Utilities Co. from February 1990 to October 1991.
John J. Jones, 32, has been Executive Vice President, General Counsel
and Corporate Secretary of the Company and CTE since July 1998. Mr.
Jones served as Vice President, General Counsel and Corporate Secretary
of Designer Holdings, Ltd. from January 1996 to December 1997. Prior to
that time, Mr. Jones was engaged in the private practice of law at the
law firm of Skadden, Arps, Slate, Meagher & Flom beginning in September
1991 to August 1995.
David Epstein, 30, has been President of RCN Internet Services since
February 1999. Mr. Epstein was Senior Vice President of Customer Contact
of the Company from November 1998 to February 1999. Mr. Epstein was
responsible for the integration of RCN's ISP purchases from July
30
<PAGE>
1998 to November 1998. He was a co-founder of MTP, LLC that did
business as JavaNet in July 1995 and served as a managing member
until RCN purchased the company in July 1998. Prior to founding
JavaNet, he was employed at The Stock Market, a stock photography
agency, from November 1994 to June 1995 as the Director of the
International Division. Mr. Epstein was the Director of Multimedia
Projects for Black Book Marketing Group (BBMG) from August 1992
to October 1994.
Rajan Chopra, 47, has been President of the Business and New Product
Development group since January 21, 1999. Mr. Chopra was Vice President
of Chase Manhattan Bank from June 1995 to July 1998 responsible for
strategic fixed income derivatives trading and risk management. Mr.
Chopra was a Director of Proprietary Trading of CDC Capital, Inc.
from January 1994 to May 1995.
31
<PAGE>
PART II
ITEM 5. Market for the Registrant's Common Stock and Related Shareholder
Matters
The Company's Common Stock is traded on the NASDAQ stock exchange.
There were approximately 2,834 holders of Registrant's Common Stock on
February 28, 1999. The Company maintains a no cash dividend policy. The
Company does not intend to alter this policy in the foreseeable future. Other
information required under Item 5 of Part II is set forth in Note 19 to the
consolidated financial statements included in Part IV Item 14(a)(1) of this Form
10-K.
ITEM 6. Selected Financial Data
Information required under Item 6 of Part II is set forth in Part IV
Item 14(a)(1) of this Form 10-K.
ITEM 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Information required under Item 7 of Part II is set forth in Part IV
Item 14(a)(1) of this Form 10-K.
ITEM 7a. Quantitative and qualitative disclosures about market risk.
Information required under Item 7 of Part II is set forth in Part IV
Item 14(a)(1) of this Form 10-K.
ITEM 8. Financial Statements and Supplementary Data.
The consolidated financial statements and supplementary data required
under Item 8 of Part II are set forth in Part IV Item 14(a)(1) of this
Form 10-K.
ITEM 9. Disagreements on Accounting and Financial Disclosure.
During the two years preceding December 31, 1998, there has been
neither a change of accountants of the Registrant nor any disagreement
on any matter of accounting principles, practices, or financial
statement disclosure.
32
<PAGE>
PART III
ITEM 10. Directors and Executive Officers of the Registrant
The information required under Item 10 of Part III with respect to the
Directors of Registrant is set forth in the definitive proxy statement relating
to Registrant's Annual Meeting of Shareholders to be filed by the Registrant
with the Commission pursuant to Section 14(a) of the 1934 Act and is hereby
specifically incorporated herein by referenced thereto.
The information required under Item 10 of Part III with respect to the
executive officers of the Registrant is set forth at the end of Part I hereof.
ITEM 11. Executive Compensation
The information required under Item 11 of Part III is set forth in the
definitive Proxy Statement relating to Registrant's Annual Meeting of
Shareholders to be filed by the Registrant with the Commission pursuant to
Section 14(a) of the 1934 Act, and is hereby specifically incorporated herein by
reference thereto.
ITEM 12. Security Ownership of Certain Beneficial Owners and Management
The information required under Item 12 of Part III is included in the
definitive Proxy Statement relating to Registrant's Annual Meeting of
Shareholders to be filed by Registrant with the Commission pursuant to Section
14(a) of the 1934 Act, and is hereby specifically incorporated herein by
reference thereto.
ITEM 13. Certain Relationships and Related Transactions
The information required under Item 13 of Part III is included in the
definitive Proxy Statement to Registrant's Annual Meeting of Shareholders to be
filed by Registrant with the Commission pursuant to Section 14 (a) of the 1934
Act, and is hereby specifically incorporated herein by reference thereto.
33
<PAGE>
PART IV
ITEM 14. Exhibits, Financial Statement Schedules and Report on form 8-K.
ITEM 14 (a)(1) Financial Statements:
Consolidated Statements of Operations for the Years Ended December 31,
1998, 1997 and 1996.
Consolidated Statements of Cash Flows for Years Ended December 31, 1998,
1997 and 1996.
Consolidated Balance Sheets - December 31, 1998 and 1997.
Consolidated Statements of Changes in Common Shareholders' Equity for
Years Ended December 31, 1998, 1997 and 1996.
Notes to Consolidated Financial Statements
Report of Independent Accountants
ITEM 14 (a)(2) Financial Statement Schedules:
Description
Condensed Financial Information of Registrant for the Year Ended
December 31, 1998. (Schedule I)
Valuation and Qualifying Accounts and Reserves for the Years Ended
December 31, 1998, 1997 and 1996 (Schedule II)
All other financial statement schedules not listed have been omitted
since the required information is included in the consolidated financial
statements or the notes thereto, or are not applicable or required.
ITEM 14 (a)(3) Exhibits:
Exhibits marked with an asterisk are filed herewith and are listed in the
index to exhibits of this Form 10-K. The remainder of the exhibits have been
filed with the Commission and are incorporated herein by reference.
(2) Plan of acquisition, reorganization, arrangement and Report on Form 8-K
(a) Form of Distribution Agreement among C-TEC Corporation, Cable Michigan,
Inc. and the Registrant is incorporated herein by reference to Exhibit 2.1
to the Company's Amendment No. 2 to Form 10/A filed September 5, 1997
(Commission File No. 0-22825.)
(3) Articles of Incorporation and By-laws
(a) Form of Amended and Restated Articles of Incorporation of the Registrant
are incorporated herein by reference to Exhibit 3.1 to the Company's
Amendment No. 2 to Form 10/A filed September 5, 1997 (Commission File No.
0-22825.)
(b) Form of Amended and Restated Bylaws of the Registrant are incorporated
herein by reference to Exhibit 3.2 to the Company's Amendment No. 2 to
Form 10/A filed September 5, 1997 (Commission File No. 0-22825.)
34
<PAGE>
(4) Instruments defining the rights of security holders, including indentures
(a) Credit Agreement dated as of July 1, 1997 among C-TEC Cable Systems, Inc.,
ComVideo Systems, Inc., C-TEC Cable Systems of New York, Inc. and First
Union National Bank, as agent is incorporated herein
by reference to Exhibit 4.1 to the Company's Amendment No. 2 to Form 10/A
filed September 5, 1997 (Commission File No. 0-22825.)
(b) Indenture dated as of February 6, 1998 between the Company, as Issuer, and
The Chase Manhattan Bank, as Trustee, with respect to the 9.80% Senior
Discount Notes due 2008 (incorporated by reference to Exhibit 4.1 to the
Company's Registration Statement on Form S-4 ("1998 Form S-4") filed on
March 23, 1998) (Commission File No. 0-22825.)
(c) Form of 9.80% Senior Discount Notes due 2008, Series B (included in
Exhibit 4.1) (incorporated by reference to Exhibit 4.2 to the Company's
1998 Form S-4) (Commission File No. 0-22825.)
(d) Indenture dated as of October 17, 1997 between the Company, as Issuer, and
The Chase Manhattan Bank, as Trustee, with respect to the 10% Senior Notes
due 2007 (incorporated by reference to Exhibit 4.1 to the Company's
Registration Statement on Form S-4 ("Form S-4") filed on November 26,
1997) (Commission File No. 0-22825.)
(e) Form of the 10% Senior Exchange Notes due 2007 (included in Exhibit 4.4)
(incorporated by reference to Exhibit 4.2 to the Company's Form S-4)
(Commission File No. 0-22825.)
(f) Indenture dated as of October 17, 1997 between the Company, as Issuer, and
The Chase Manhattan Bank, as Trustee, with respect to the 11 1/8% Senior
Discount Notes due 2007 (incorporated by reference to Exhibit 4.3 to the
Company's Form S-4) (Commission File No. 0-22825.)
(g) Form of the 11 1/8% Senior Discount Exchange Notes due 2007 (included in
Exhibit 4.6) (incorporated by reference to Exhibit 4.4 to the Company's
Form S-4) (Commission File No. 0-22825.)
(h) Escrow Agreement dated as of October 17, 1997 among The Chase Manhattan
Bank, as escrow agent, The Chase Manhattan Bank, as Trustee under the
Indenture (as defined therein), and the Company (incorporated by reference
to Exhibit 4.6 to the Company's Form S-4) (Commission File No. 0-22825.)
(10) Material Contracts
(a) Tax Sharing Agreement by and among C-TEC Corporation, Cable Michigan, Inc.
and the Registrant is incorporated herein by reference to Exhibit 10.1 to
the Company's Amendment No. 2 to Form 10/A filed September 5, 1997
(Commission File No. 0-22825.)
(b) Dark Fiber IRU Agreement dated as of May 8, 1997 among Metropolitan Fiber
Systems/McCourt, Inc. and RCN Telecom Services of Massachusetts, Inc. is
incorporated herein by reference to Exhibit 10.2 to the Company's
Amendment No. 2 to Form 10/A filed September 5, 1997 (Commission File No.
0-22825.)
(c) Dark Fiber IRU Agreement dated as of May 8, 1997 among Metropolitan Fiber
Systems of New York, Inc. and RCN Telecom Services of New York, Inc. is
35
<PAGE>
incorporated herein by reference to Exhibit 10.3 to the Company's
Amendment No. 2 to Form 10/A filed September 5, 1997 (Commission File No.
0-22825.)
(d) Joint Venture Agreement dated as of December 23, 1996 between RCN Telecom
Services, Inc. and Boston Energy Technology Group, Inc. is incorporated
herein reference by Exhibit 10.7 to the Company's Amendment No. 2 to Form
10/A filed September 5, 1997 (Commission File No. 0-22825.)
(e) Amended and Restated Operating Agreement of RCN-BecoCom, LLC dated as of
June 17, 1997 is incorporated herein by reference to Exhibit 10.8 to the
Company's Amendment No. 2 to Form 10/A filed September 5, 1997 (Commission
File No. 0-22825.)
(f) Management Agreement dated as of June 17, 1997 among RCN Operating
Services, Inc. and BecoCom, Inc. is incorporated herein by reference to
Exhibit 10.9 to the Company's Amendment No.2 to Form 10/A filed September
5, 1997 (Commission File No. 0-22825.)
(g) Construction and Indefeasible Right of Use Agreement dated as of June 17,
1997 between BecoCom, Inc. and RCN-BecoCom, LLC is incorporated herein by
reference to Exhibit 10.10 to the Company's Amendment No. 2 to Form 10/A
filed September 5, 1997 (Commission File No. 0-22825.)
(h) License Agreement dated as of June 17, 1997 between Boston Edison Company
and BecoCom, Inc. is incorporated herein by reference to Exhibit 10.11 to
the Company's Amendment No. 2 to Form 10/A filed September 5, 1997
(Commission File No. 0-22825.)
(i) Joint Investment and Non-Competition Agreement dated as of June 17, 1997
among RCN Telecom Services of Massachusetts, Inc., BecoCom, Inc. and RCN-
BecoCom, LLC is incorporated herein by reference to Exhibit 10.12 to the
Company's Amendment No. 2 to Form 10/A filed September 5, 1997 (Commission
File No. 0-22825.)
(j) Amended and restated Operating Agreement of Starpower Communications,
L.L.C. by and between Pepco Communications, L.L.C. and RCN Telecom
Services of Washington, D.C. Inc. dated October 28, 1997 is incorporated
herein by reference to Exhibit 10.13 to the Company's Annual Report on
Form 10-K for the year ended December 31, 1997 (Commission File No. 0-
22825.)
21* Subsidiaries of Registrant
23* Consent of PricewaterhouseCoopers LLP with respect to RCN Corporation
24* Power of Attorney
27* Financial Data Schedule
36
<PAGE>
99 (a) Report on Form 11-K with respect to the RCN Savings and Stock
Ownership Plan will be filed as an amendment to this Report on Form 10-K.
ITEM 14.(b) Reports on Form 8-K
On December 14, 1998, the Company filed an 8-K regarding the November 13, 1998
purchase by David C. McCourt, the Chairman and Chief Executive Officer of the
Registrant, of $2 million aggregate principal amount of 11 1/8% Senior Discount
Notes due October 15, 2007 of the Registrant.
37
<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.
Date: March 31, 1999 RCN Corporation
By: \s\ David C. McCourt
-------------------------
David C. McCourt
Chairman and Chief Executive Officer
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.
Signature Title Date
- --------- ----- ----
PRINCIPAL EXECUTIVE AND ACCOUNTING OFFICERS:
\s\ David C. McCourt Chairman and Chief March 31, 1999
- -------------------------- Executive Officer
David C. McCourt
\s\ Michael J. Mahoney President and Chief March 31, 1999
- -------------------------- Operating Officer
Michael J. Mahoney
\s\ Bruce C. Godfrey Executive Vice President March 31, 1999
- -------------------------- and Chief Financial Officer
Bruce C. Godfrey
\s\ Ralph S. Hromisin Senior Vice President and March 31, 1999
- -------------------------- Chief Accounting Officer
Ralph S. Hromisin
<PAGE>
DIRECTORS:
\s\ David C. McCourt March 31, 1999
- -------------------------
David C. McCourt
\s\ James Q. Crowe March 31, 1999
- -------------------------
James Q. Crowe
\s\ Walter E. Scott, Jr. March 31, 1999
- -------------------------
Walter E. Scott, Jr.
\s\ Richard R. Jaros March 31, 1999
- -------------------------
Richard R. Jaros
\s\ Thomas May March 31, 1999
- -------------------------
Thomas May
\s\ Alfred Fasola March 31, 1999
- -------------------------
Alfred Fasola
\s\ Thomas P. O'Neill, III March 31, 1999
- -------------------------
Thomas P. O'Neill, III
\s\ Eugene Roth March 31, 1999
- -------------------------
Eugene Roth
\s\ Stuart E. Graham March 31, 1999
- -------------------------
Stuart E. Graham
\s\ Michael B. Yanney March 31, 1999
- -------------------------
Michael B. Yanney
\s\ Michael J. Mahoney March 31, 1999
- -------------------------
Michael J. Mahoney
\s\ Bruce C. Godfrey March 31, 1999
- -------------------------
Bruce C. Godfrey
<PAGE>
SCHEDULE I
RCN CORPORATION
CONDENSED FINANCIAL INFORMATION OF REGISTRANT
STATEMENT OF OPERATIONS
(THOUSANDS OF DOLLARS)
<TABLE>
<CAPTION>
For the Years Ended December 31,
--------------------------------
1998 1997
---------- ----------
<S> <C> <C>
Sales $ 177 $ 40
Costs and expenses, excluding
depreciation and amortization 18,470 498
---------- ----------
Operating income (loss) (18,293) (458)
Interest income 2,834 661
Interest expense (106,161) (12,791)
---------- ----------
(Loss) before income taxes (121,620) (12,588)
(Benefit) for income taxes (36,164) (4,388)
Equity in (loss) of
consolidated entities (119,986) (44,191)
---------- ----------
Net (loss) $ (205,442) $ (52,391)
========== ==========
Earnings (loss) per average common share:
Net (loss) $ (3.36) $ (0.95)
Weighted average common shares outstanding 61,187,354 54,965,716
</TABLE>
<PAGE>
SCHEDULE I
RCN CORPORATION
CONDENSED FINANCIAL INFORMATION OF REGISTRANT
BALANCE SHEET
(THOUSANDS OF DOLLARS)
<TABLE>
<CAPTION>
December 31,
-------------------------
1998 1997
---------- -----------
<S> <C> <C>
ASSETS
Current assets
Cash and temporary cash investments $ 15 $ -
Accounts receivable from related parties 99 3,291
Accounts receivable from affiliates 13,172 1,977
Accounts receivable 4 -
Prepayments & other 25,120 211
Investments restricted for debt service 22,500 22,500
---------- -----------
Total current assets 60,910 27,979
Investments restricted for debt service 19,869 39,411
Investments 1,444,450 859,271
Unauthorized debt issuance cost 26,640 19,188
Deferred charges and other assets 9,525 2,877
---------- -----------
Total assets $1,561,394 $ 948,726
========== ===========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities
Accounts payable affiliate 20,368 4,034
Accrued interest 4,813 4,687
Accrued expenses 152 318
---------- -----------
Total current liabilities 25,333 9,039
Long-term debt 1,164,615 583,103
SHAREHOLDERS' EQUITY
Common stock 65,477 27,495
Deficit (222,558) (17,116)
Additional paid in capital 539,770 349,261
Cumulative translation adjustment (3,055) (3,056)
Unrealized appreciation on investments 1,113 -
Treasury stock (9,301) -
---------- -----------
Total common shareholders' equity 371,446 356,584
Total liabilities and shareholders' equity $1,561,394 $ 948,726
========== ===========
</TABLE>
<PAGE>
SCHEDULE I
RCN CORPORATION
CONDENSED FINANCIAL INFORMATION OF REGISTRANT
STATEMENT OF CASH FLOWS
(THOUSANDS OF DOLLARS)
<TABLE>
<CAPTION>
For the years Ended December 31,
1998 1997
--------- ----------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net (loss) $(205,442) $ (52,391)
Deferred income taxes and investment tax credits (7,728) (2,877)
Working capital (19,009) 2,749
Equity in loss of consolidated entity 119,986 44,191
Noncash accretion of discounted senior notes 80,925 8,103
Amortization of financing costs 2,733 -
Noncash write-off of acquired R&D 18,293 -
Other 1,080 -
--------- ----------
Net cash (used in) operating activities (9,162) (225)
--------- ----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Acquisitions (47,028) 167
Other (562,106) 17
--------- ----------
Net Cash Provided by investing activities (609,134) 184
--------- ----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from the issuance of common stock 112,866 -
Issuance of long-term debt 500,587 575,000
(Increase) in cash restricted for debt service - (61,250)
Interest paid on senior notes 22,375 -
Financing costs (10,185) (19,188)
Transfer (to) CTE - (494,751)
Proceeds from the excercise of stock options 1,969 230
Purchase of treasury stock (9,301) -
--------- ----------
Net cash provided by financing activities 618,311 41
--------- ----------
Net increase/(decrease) in cash and temporary cash investments 15 0
Beginning cash & temporary cash investments 0 0
--------- ----------
Ending cash & temporary cash investments $ 15 $ 0
========= ==========
</TABLE>
<PAGE>
SCHEDULE II
RCN CORPORATION
VALUATION AND QUALIFYING ACCOUNTS AND RESERVES
FOR THE YEARS ENDED DECEMBER 31, 1998, 1997, AND 1996
(THOUSANDS OF DOLLARS)
<TABLE>
<CAPTION>
COLUMN A COLUMN B COLUMN C COLUMN D COLUMN E
---------- ------------ ---------- ---------- ----------
ADDITION
----------------------------
BALANCE AT CHARGED CHARGED BALANCE AT
BEGINNING OF TO COSTS TO OTHER END OF
DESCRIPTION PERIOD AND EXPENSE ACCOUNTS DEDUCTIONS PERIOD
- ----------- ------ ----------- -------- ---------- ------
<S> <C> <C> <C> <C> <C>
ALLOWANCE FOR DOUBTFUL ACCOUNTS-
DEDUCTED FROM ACCOUNTS RECEIVABLE
IN THE CONSOLIDATED BALANCE SHEETS
1998 $2,134 $4,096 $1,215 $1,679 $5,766
1997 $ 861 $2,732 $ 997 $2,456 $2,134
1996 $ 607 $1,788 $ (556) $ 978 $ 861
ALLOWANCE FOR DEFERRED TAX ASSETS-
DEDUCTED FROM DEFERRED TAX ASSETS
IN THE CONSOLIDATED BALANCE SHEETS
1998 $8,404 $64,498 $12,963 $3,797 $82,068
1997 $3,691 $ 5,777 $ - $1,064 $ 8,404
1996 $2,022 $ 1,921 $ 26 $ 278 $ 3,691
</TABLE>
<PAGE>
RCN CORPORATION
SELECTED FINANCIAL DATA
Thousands of Dollars Except Per Share Amounts
For the Years Ended December 31,
<TABLE>
<CAPTION>
1998 1997 1996 1995 1994
---------- --------- --------- --------- ---------
<S> <C> <C> <C> <C> <C>
Sales $ 210,940 $ 127,297 $ 104,910 $ 91,997 $ 59,500
(Loss) income before extraordinary charge and
cumulative effect of change in accounting
principle $ (204,801) $ (49,181) $ (5,989) $ 2,114 $ 3,736
Basic and diluted (loss) income per average
common share before extraordinary charge
and cumulative effect of change in
accounting principle $ (3.35) $ (0.89) $ (0.11) $ 0.04 $ 0.11
Dividends per share - - - - -
Total assets $1,907,615 $1,150,992 $ 628,085 $ 649,610 $ 568,586
Long-term debt, net of current maturities $1,263,036 $ 686,103 $ 131,250 $ 135,250 $ 154,000
</TABLE>
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
(Dollars in thousands, except per share data)
Certain statements contained in this annual report are "forward-looking
statements" within the meaning of the Private Securities Litigation Reform Act
of 1995 and are thus prospective. Such forward-looking statements include, in
particular, statements made as to plans to develop networks and upgrade
facilities, the market opportunity presented by markets targeted by the Company,
the Company's intention to connect certain wireless video resale telephone and
Internet service customers to its advanced fiber optic networks, the development
of the Company's businesses, the markets for the Company's services and
products, the Company's anticipated capital expenditures, the Company's
anticipated sources of capital, the Company's state of Year 2000 readiness, and
effects of regulatory reform and competitive and technological developments. No
assurance can be given that the future results covered by the forward-looking
statements will be achieved. Such statements are subject to risks, uncertainties
and other factors which could cause actual results to differ materially from
future results expressed or implied by such forward-looking statements.
The following discussion should be read in conjunction with the Company's
historical Consolidated Financial Statements and Notes thereto:
GENERAL
RCN Corporation (the "Company" or "RCN") provides a wide range of
telecommunications services through high speed, high capacity advanced fiber
optic networks. RCN currently offers local and long distance telephone, video
and data services, including high speed Internet access. We provide our services
primarily to residential customers in selected markets with high levels of
population density and favorable demographics. RCN's initial advanced fiber
optic networks have been established in selected markets in the Boston to
Washington D.C. corridor and RCN has begun developing advanced fiber optic
networks in the San Francisco to San Diego corridor.
The Company expects that the operating and net losses from its business will
rise in the future as it expands and develops its network and customer base.
There can be no assurance that RCN will achieve or sustain profitability or
positive operating income in the future as it develops its advanced fiber optic
network.
The operating losses have resulted primarily from expenditures associated with
the development of the Company's operational infrastructure and marketing
expenses. The Company expects it will continue to experience negative operating
income while it continues to invest in its networks and until such time as
revenue growth is sufficient to fund operating expenses. The Company expects to
achieve positive operating margins over time by (i) increasing the number of
customers it serves, (ii) increasing the number of connections per customer by
cross marketing its services and promoting bundled service options and therefore
increasing the revenue per customer, (iii) lowering the costs associated with
new subscriber additions and (iv) reducing the cost of providing services by
capturing economies of scale. The Company expects its operating revenues will
increase in future periods through internal growth of its current advanced fiber
optic networks, increases in penetration, and increases in the number of
services per customer; however, the Company also expects that operating losses
will increase for some period of time as the Company initiates network
development in new markets and expands its current networks. When the Company
<PAGE>
makes its initial investment in a new market, the operating losses typically
increase as the network and sales force are expanded to facilitate growth. The
Company's ability to generate positive cash flow in the future will depend on
the extent of capital expenditures in current and additional markets, the
ability of the joint ventures to generate revenues and cash flow, competition in
the Company's markets and any potential adverse regulatory developments. The
Company will be dependent on various financing sources to fund its growth as
well as continued losses from operations. There can be no assurance that such
funding will be available, or available on terms acceptable to the Company.
See - "Liquidity and Capital Resources."
The terms of the Company's joint ventures require the mutual consent of the
Company and its joint venture partner to distribute or advance funds to the
Company. The Company's debt agreements allow subsidiaries and joint ventures to
incur indebtedness for network buildout costs, which indebtedness may contain
limitations on the subsidiaries' and the joint ventures' ability to pay
dividends and distributions to the Company. Cash flows available to the Company
in future periods will be affected by the extent to which operations are
conducted through joint ventures. Due to the degree of control that the Company
has in the joint ventures, RCN accounts for the BECO joint venture on a
consolidated basis and for Starpower under the equity method of accounting.
Prior to September 30, 1997, the Company was operated as part of C-TEC
Corporation. On September 30, 1997, C-TEC distributed 100% of the outstanding
shares of common stock of its wholly owned subsidiaries, RCN Corporation ("RCN")
and Cable Michigan, Inc. ("Cable Michigan") to holders of record of C-TEC's
Common Stock and C-TEC's Class B Common Stock as of the close of business on
September 19, 1997 (the "Distribution") in accordance with the terms of a
Distribution Agreement dated September 5, 1997 among C-TEC, RCN and Cable
Michigan. At the time of the distribution, RCN consisted primarily of C-TEC's
high growth, bundled residential voice, video and Internet access operations in
the Boston to Washington, D.C. corridor, its existing New York, New Jersey and
Pennsylvania cable television operations, a portion of its long distance
operations and its international investment in Megacable, S.A. de C.V. C-TEC,
RCN and Cable Michigan have entered into certain agreements providing for the
Distribution, and governing various ongoing relationships between the three
companies, including a distribution agreement and a tax-sharing agreement. On
November 6, 1998, Cable Michigan announced that its sale to Avalon Cable of
Michigan, Inc. was complete. As a result of the sale, Cable Michigan has no
ongoing support services relationship with RCN and CTE. The historical financial
information presented herein reflects periods during which the Company did not
operate as an independent company and accordingly, certain assumptions were made
in preparing such financial information. Such information, therefore, may not
necessarily reflect the results of operations or the financial condition of the
Company which would have resulted had the Company been an independent, public
company during the reporting periods, and are not necessarily indicative of the
Company's future operating results or financial condition.
In June 1997 the Financial Accounting Standards Board (FASB) issued statement of
Financial Accounting Standard No. 131 "Disclosure about Segments of an
Enterprise and Related Information" ("SFAS 131"). This statement, which
establishes standards for the reporting of information about operating segments
in interim and year end financial statements, is effective for fiscal years
beginning after December 15, 1997. If applicable, this statement would only
require additional disclosures in the Company's consolidated financial
statements and as such, its adoption will not have any impact on the Company's
consolidated financial position or results of operations. The Company's
operations involve developing an advanced fiber network to provide a bundled
service package of voice, video and data services to new customers in high
density markets and migrating as many customers as is economically justified
which were served by the Company's previously separate lines of business, for
which profitability was separately measurable and monitored, to the single
source network. While the Company's chief decision makers monitor the revenue
streams of the various products, operations are managed and financial
performance is evaluated based upon the delivery of multiple services to
customers over a single network. This allows the Company to leverage its network
costs to maximum profitability. It is management belief that the Company
operates as one reportable operating segment which contains many share expenses
generated by the Company's various revenue streams and that any segment
allocation of shared expenses incurred on a single network to multiple revenue
streams would be impractical and arbitrary; futhermore, the Company currently
does not make such allocations internally. The Company's chief decision makers
do, however, monitor financial performance in a way which is different from that
depicted in the historical general purpose financial statements in that such
measurement includes the consolidation of all joint ventures, including
Starpower which is not consolidated under generally accepted principles. Such
information, however, does not represent a separate segment under generally
accepted accounting principles and therefore it is not separately disclosed.
Results of Operations
YEAR ENDED DECEMBER 31, 1998 COMPARED TO YEAR ENDED DECEMBER 31, 1997:
Sales were $210,940 for the year ended December 31, 1998 as compared to $127,297
for the year ended December 31, 1997.
Operating income before depreciation, amortization, non-recurring charge and
acquired research and development was ($51,412) for the year ended December
31, 1998 as compared to ($7,670) for the year ended December 31, 1997.
Net loss was ($205,442), or ($3.36) per average common share for 1998 and
($52,391) or ($0.95) per average common share for 1997.
Sales
- -----
Video sales are comprised primarily of subscription fees for basic, premium
and pay-per-view cable television services; for both wireless and hybrid fiber/
coaxial cable customers in New York, New Jersey and Pennsylvania which the
Company expects to migrate to its advanced fiber networks over time as well
as for advanced fiber customers, primarily in Allentown, New York City and
Boston.
<PAGE>
Voice sales include local telephone service fees consisting primarily of monthly
line charges, local toll and special features and long-distance telephone
service fees based on minutes of traffic and tariffed rates or contracted fees.
Voice sales include both resold services and traffic over the Company's own
switches.
Data sales represent Internet access fees billed at contracted rates.
For the year ended December 31, 1998 total sales were $210,940, an increase of
$83,643 or 65.7%, from $127,297 for the year ended December 31, 1997. The
increase resulted from higher total service connections which increased 219.6%
to approximately 855,000 at December 31, 1998 from approximately 268,000 at
December 31, 1997. The increase in total service connections resulted
principally from dial-up internet connections from the acquisitions of Erols
Internet, Inc. ("Erols") and UltraNet Communications ("UltraNet") in February
1998, and growth in advanced fiber connections, which increased 714.6% from
approximately 15,000 in 1997 to approximately 123,000 at December 31, 1998. The
service connections at December 31, 1998 include connections of the Starpower
joint venture which is accounted for under the equity method of accounting. The
Starpower service connections resulted primarily from customers in the joint
venture market acquired from Erols Internet, Inc. in February 1998.
Voice revenues increased $21,424 or 534.7% to $25,431 for the year ended
December 31, 1998 from $4,007 for the year ended December 31, 1997, primarily
due to higher average connections. Advanced fiber voice connections increased
approximately 860.4% to approximately 31,000 at December 31, 1998 from
approximately 3,000 at December 31, 1997. Off-net voice connections increased
approximately 161.1% to approximately 65,000 at December 31, 1998 from
approximately 25,000 at December 31, 1997. Contributing to the increase in
off-net voice connections was the launch of telephony service in the Lehigh
Valley, Pennsylvania market in the fourth quarter of 1997.
Overall, higher service connections contributed approximately $20,500 to the
increase in voice revenues and higher revenue per connection contributed
approximately $1,000.
During the fourth quarter of 1998, the Company ceased marketing new customers
for resale of its competitors' local phone service. The Company expects that the
effect of this decision will be lower revenue growth than would result if such
resale continued; however, this decision is also expected to have a positive
impact on the Company's overall gross margin percentage and a neutral effect on
operating income before depreciation and amortization ("EBITDA").
Video revenues increased $9,707 or 9.4% to $113,078 for the year ended December
31, 1998 from $103,371 for the year ended December 31, 1997. Video revenues for
1997 included one time launch incentive revenue of approximately $1,000 related
to the launch of certain new channels. The increase in 1998 was primarily due to
increases of approximately 22,000 additional video connections and the
conversion of approximately 50,000 off-net connections to the advanced fiber
network at December 31, 1998 as compared to December 31, 1997.
On-net video connections grew 74,565 or 632.8% to 86,349 at December 31, 1998
from 11,784 at December 31, 1997. Off-net video connections were 175,313 and
227,619 at December 31, 1998 and 1997, respectively.
Overall, higher service connections contributed approximately $6,000 to the
increase in video revenues and higher average revenue per connection
contributed approximately $5,000 offset by the one time launch incentive
revenue of approximately $1,000 received in 1997.
Data revenues increased $40,280 to $40,321 for the year ended December 31, 1998
from $41 for the year ended December 31, 1997 primarily due to the acquisitions
<PAGE>
of Erols and UltraNet in February 1998, Interport in June 1998 and Javanet in
July 1998. At December 31, 1998, the Company had approximately 492,000 off-net
data connections and approximately 6,000 advanced fiber data connections,
including connections of the Starpower joint venture.
During the fourth quarter of 1998, dial-up Internet access replaced resold local
phone service as the Company's initial product offering in areas in which RCN's
fiber optic network is still under construction. The Company expects that its
advanced fiber networks will eventually be extended to reach most of its dial-up
Internet connections.
Commercial and other revenues increased $12,232 or 61.5% to $32,110 for the year
ended December 31, 1998 from $19,878 for the year ended December 31, 1997. The
increase was due primarily to an increase in average commercial main access
lines of approximately 9,800 in 1998 over 1997, which contributed approximately
$5,000 to the increase. Higher revenue per commercial main access line
contributed approximately $3,000. Additionally, contributing approximately
$6,000 to the increase was higher wholesale long distance revenue from
Commonwealth Telecom Services, Inc. ("CTSI"), a wholly-owned subsidiary of
Commonwealth Telephone Enterprises, Inc. (formerly C-Tec Corporation) CTSI is a
Competitive Local Exchange Carrier ("CLEC") which operates in areas adjacent to
the traditional service area of Commonwealth Telephone Company (also a wholly-
owned subsidiary of Commonwealth Telephone Enterprises, Inc.)
The Company recognizes that managing customer turnover is an important factor
in maximizing revenues and cash flow. For the quarter ended December 31, 1998,
the Company's average monthly churn rate was approximately 2.8%.
Costs and Expenses, excluding depreciation and amortization
- -----------------------------------------------------------
Costs and expenses, excluding depreciation and amortization are comprised of
direct costs, and operating, selling and general and administrative expenses.
Direct expenses include direct costs of providing services, primarily video
programming, franchise costs and network access fees.
Direct expenses increased $50,553 or 97.7% to $102,310 for the year ended
December 31, 1998 from $51,757 for the year ended December 31, 1997. The
increase was primarily due to higher voice connections, primarily resold voice,
which contributed approximately $27,500 to the increase. Higher video
programming costs of approximately $8,000 resulted from higher programming
rates, new channels and increased video connections. The remaining increase
primarily represents Internet access costs associated with the increase in
data revenues.
Operating, selling, general and administrative expenses primarily include
customer service costs, advertising, sales, marketing, order processing,
telecommunications network maintenance and repair ("technical expenses")
general and administrative expenses, installation and provisioning expenses,
and other corporate overhead.
Operating, selling, general and administrative costs increased $76,832 or
92.3%, to $160,042 for the year ended December 31, 1998 from $83,210 for the
year ended December 31, 1997.
Advertising costs increased approximately $14,000 or 136.9% for the year ended
December 31, 1998 as compared to the year ended December 31, 1997. Costs
associated with an extensive high visibility multi-media campaign primarily
in New York City and Boston, which commenced in June 1997, increased
approximately $4,400 over 1997. Internet advertising, primarily associated
with the acquisition of Erols, increased approximately $5,300. Promotional
materials expense increased approximately $1,000. Ad agency fees and costs
to promote the commencement of telephony product offering in Lehigh Valley,
Pennsylvania are the significant contributions to the remaining increase in
<PAGE>
advertising expense.
Customer service costs, including order processing, increased approximately
$19,500 or 182.1% for the year ended December 31, 1998 as compared to the year
ended December 31, 1997. Increases of approximately $7,500, primarily personnel
related, were due to customer base support for Internet acquisitions. Other
staff and temporary labor increases to support expanding operations in New York
City, Boston, and Lehigh Valley, Pennsylvania contributed approximately $9,000
to the increase. Higher billing costs of approximately $3,000 for increased
customers comprises the remainder of the increase in customer service costs.
Technical expense, including installation and provisioning, increased
approximately $11,000 or 58.1% for the year ended December 31, 1998 as
compared to the year ended December 31, 1997.
Technical expense increases of approximately $8,500 were due to engineering and
construction headcount and contract labor additions made to plan and execute
network expansion and network operations center control monitoring. Resale
telephony installation costs contributed approximately $1,700 to the increase.
Retail expense primarily for materials and hub sites increased approximately
$1,500. Technical expense increases associated with Internet acquisitions in
1998 were approximately $3,500. These increases were partially offset by
approximately $5,200 of technical costs capitalized as part of the cost basis
of the telecommunications network. The remaining increase in technical expenses
is primarily due to higher right of way use fees.
Sales and marketing costs increased approximately $13,000 or 84.6% for the
year ended December 31, 1998 as compared to the year ended December 31, 1997.
The increase resulted from additional staff, contract labor and related
commissions and benefits, aggregating approximately $4,900 to cover increases
in marketable homes, to increase penetration in the Company's existing markets
and to increase the number of services per customer. Telemarketing expense
increased approximately $1,200 due to increased campaigns. Sales and marketing
increases associated with Internet acquisitions in 1998, primarily Erols, were
approximately $5,400.
General and Administrative expenses increased approximately $19,000 or 69.5%.
Internet and Lancit acquisitions in 1998 contributed approximately $6,800.
Legal expense increased approximately $1,500 primarily as a result of various
start-up regulatory expenses related to the procurement of franchise and OVS
agreements. Higher bad debt expense of approximately $1,500 was associated with
the increase in sales. Higher salaries and benefits of approximately $3,800
were due to staff additions, primarily to support the expansion, maintenance
and upgrade of the Company's management information systems, new product
development and integration of acquisitions. In addition, the Company met
certain quarterly performance targets established for 1998 relative to the
determination of a potential contribution to its ESOP plan and accrued the
related amounts aggregating approximately $1,000. Expenditures in 1998 relative
to Year 2000 planning and remediation were approximately $400. The Company is in
the process of developing information technology systems which will provide a
sophisticated customer care infrastructure. Expenses associated with the
planning and analysis stages of such systems development were approximately
$5,000 in 1998. The Company expects that such charges may increase in future
periods during 1999 until the planning and analysis stages of its IT systems
development projects are complete. The above increases were partially offset by
a one-time credit of approximately $2,400 related to the reversal of an accrual
for damages related to contract termination which was settled between the
Company and the
<PAGE>
counterparty.
Depreciation and amortization
- -----------------------------
Depreciation and amortization was $89,088 for the year ended December 31, 1998
and $53,205 for the year ended December 31, 1997. The increase of $35,883, or
67.4% was the result of both a higher depreciable basis of plant, resulting
primarily from expansion of the Company's advanced fiber network, and
amortization of intangible assets arising from the acquisitions of Erols and
UltraNet in February 1998. The cost basis of property, plant and equipment
at December 31, 1998 and 1997 was $601,679 and $307,759, respectively. The
basis of intangible assets was $267,031 and $149,935 at December 31, 1998 and
1997, respectively.
In future periods, depreciation and amortization are expected to exceed
amounts recorded in 1998 due to depreciation with respect to expansion of the
Company's advanced fiber optic network and the effect of a full year of
depreciation and amortization related to acquisitions in 1998.
Acquired in-process research and development
- --------------------------------------------
In connection with the acquisitions of Erols and UltraNet, RCN has allocated
$13,228 million for Erols and $5,065 million for UltraNet to in-process research
and development ("IPR&D"). Specifically, four projects were identified which
qualified as IPR&D by definition of not having achieved technological
feasibility and representing technology which at the point of acquisition
offered no alternative use other than the defined project. Those projects were
cable modem Internet access for subscribers, Internet telephony, E-Commerce
systems, and High-speed shared office Internet access (Note 4). The IPR&D
valuation charge was measured by the stage of completion method. The expected
completion percentages are estimated based on the latest available financial
information at the date of acquisition and were established on a project by
project basis primarily calculated by dividing the costs incurred to date by the
total expected R&D expenses specific to the project. The significant assumptions
utilized by management were as follows:
Cash flow projections, utilizing risk adjusted discount rates of between 35% and
40% for Erols projects, commenced in 1998, and were expected to grow
significantly in 1999 and 2000. Cash flow projections, utilizing risk adjusted
discount rates of between 30% and 33% for UltraNet projects, were expected to
commence in 1999, growing significantly in 2000 and 2001. The IPR&D projections
are founded on significant assumptions with regard to timing of market entrance,
levels of penetration, and costs of provisioning.
RCN is constructing new telecommunications networks. The margins on products
expected to result from acquired in-process technologies in some cases represent
higher margins than RCN's margins on existing products primarily due to the
efficiencies in delivering multiple products, including bundled-service
offerings, over a single state of the art high capacity fiber optic network.
Interest income
- ---------------
Interest income was $58,679 and $22,824 for the years ended December 31, 1998,
and 1997, respectively. The increase of $35,855, or 157.1% results from
higher cash, temporary cash investments and short-term investments as compared
to the same period in 1997. Cash, temporary cash investments and short-term
investments were approximately $1,013,000 at December 31, 1998 and approximately
$639,000 at December 31, 1997. Included in the cash, temporary cash investments
and short-term investments balance at December 31, 1997 were proceeds from 10%
Senior Notes, issued in October 1997, which generated gross proceeds of $225,000
and yielded net proceeds of $218,250; and 11 1/8% Senior Discount Notes, issued
in October 1997, which generated gross proceeds of $350,001 and yielded net
proceeds of $337,751. Additionally, during 1998, proceeds from the following
increased cash, temporary cash investments and short-term investments: 9.8%
<PAGE>
Senior Discount Notes, issued in February 1998, which generated gross proceeds
of $350,587 and yielded net proceeds of $344,855; 11% Senior Discount Notes,
issued in June 1998, which generated gross proceeds of $149,999 and yielded
net proceeds of $147,187 and the issuance of 6,098,355 shares of the Company's
Common Stock, issued in June 1998, which yielded net proceeds of $112,866.
Interest expense
- ----------------
For the year ended December 31, 1998, interest expense was $112,239 as compared
to $25,602 for the year ended December 31, 1997. The increase resulted from the
debt financings referred to above, offset by a reduction due to the prepayment
in September 1997 and $131,250 of 9.65% Senior Secured Notes.
Other (expense) income
- ----------------------
Other (expense) income was ($1,889) and $131 for the years ended December 31,
1998 and 1997, respectively. The 1998 expense primarily represents the write
down of certain of the Company's information technology assets which the
Company upgraded with higher capacity state of the art products in connection
with an overall internal technology upgrade.
Income tax
- ----------
The Company's effective income tax rate was a benefit of 2.3% and 29.8% for
the years ended December 31, 1998 and 1997, respectively. The primary reasons
for the difference include the charge for in-process technology which is not
deductible for tax purposes and for which a tax benefit was correspondingly
not recorded. Additionally, during 1998, the tax effect of the Company's
cumulative losses has exceeded the tax effect of accelerated deductions,
primarily depreciation, which the Company has taken for federal income tax
purposes. Except in unusual cases, generally accepted accounting principles do
not permit the recognition of tax benefits of such excess losses in the
financial statements. This accounting treatment does not impact the amount or
expiration periods of actual net operating loss carryovers or cash flows for
taxes. For an analysis of the changes in income taxes, see the reconciliation of
the effective income tax rate in note 11 to the consolidated financial
statements.
Minority interest
- -----------------
For the year ended December 31, 1998, minority interest of $17,162 primarily
represents the 49% interest of BECO in the loss of RCN-BECOCOM. For the year
ended December 31, 1997, minority interest primarily represents the 49% interest
of BECO in the loss of RCN-BECOCOM of $6,563 and the 19.9% minority interest in
the loss of Freedom of $966. The Company purchased the remaining 19.9%
ownership interest in Freedom on March 21, 1997.
Equity in loss of unconsolidated entities
- -----------------------------------------
For the year ended December 31, 1998, equity in the loss of unconsolidated
entities primarily represents the Company's 50% interest in the loss of
Starpower of $10,335 and the Company's share of the losses and amortization of
excess cost over net assets of Megacable of $2,384. In January 1995, the Company
purchased a forty percent equity position in Megacable, a Mexical cable
television provider, for cash of $84,115. The Company is exposed to foreign
currency translation adjustments resulting from translation into U.S. dollars of
the financial statements of Megacable, which through December 1996 utilized the
peso as the local and functional currency. Such adjustments have historically
been included as a separate component of shareholders' equity. Effective January
1, 1997 since the three year cumulative rate of inflation at December 31, 1996
exceeded 100%, Mexico is being treated for accounting purposes under Statement
of Financial Accounting Standards No. 52-"Foreign Currency Translation" as
having a highly inflationary economy through December 31, 1998. As a result, the
financial statements of Megacable are remeasured as if the functional currency
were the U.S. dollar. The remeasurement of the Mexican peso into U.S. dollars
creates translation adjustments which are included in net income. The Company is
also exposed to foreign currency transaction losses resulting from transactions
of Megacable which are made in currencies different from Megacable's own. The
Company's proportionate share of transaction gains (losses) are included in
income as they occur. The Company does not hedge its foreign currency exchange
risk and it is not possible to determine what effect future currency
fluctuations will have on the Company's operating results. Exchange gains
(losses) of ($768), ($12), and $247 in 1998, 1997 and 1996, respectively,
including translation losses in 1998 and 1997, are included in the respective
statements of operations through the Company's porportionate share of losses of
Megacable.
In 1998, Megacable had sales of $37,480, operating income before depreciation
and amortization of $13,409 and net income of $9,739. In 1997, Megacable had
sales of $30,441, operating income before depreciation and amortization of
$10,504 and net income of $6,653. The Company's investment in Megacable exceed
its underlying equity in the net assets of Megacable when acquired by
approximately $94,000, which goodwill is being amortized on a straight-line
basis over 15 years. In 1998 and 1997 amortization of the Company's excess
purchase price over the net assets of Megacable when acquired was $6,280 in each
year. For the year ended December 31, 1997, equity in the loss of unconsolidated
entities primarily represents the Company's share of the losses and amortization
of excess cost over net assets of Megacable.
YEAR ENDED DECEMBER 31, 1997 COMPARED TO THE YEAR ENDED DECEMBER 31, 1996:
Sales were $127,297 for the year ended December 31, 1997 as compared to
$104,910 for the year ended December 31, 1996.
Operating income before depreciation, amortization and nonrecurring charge
was ($7,670) for the year ended December 31, 1997 as compared to
$25,803 for the year ended December 31, 1996.
Net loss was ($52,391) or ($.95) per average common share for 1997 and
($5,989) or ($.11) per average common share for 1996.
<PAGE>
Sales
- -----
For the year ended December 31, 1997, total sales were $127,297, an increase
of $22,387 or 21.3%, from $104,910 for the year ended December 31, 1996,
primarily due to higher total service connections which increased 20.6% to
approximately 268,000 at December 31, 1997 from approximately 222,000 at
December 31, 1996. The increase is due to the commencement of service through
advanced fiber optic network facilities as well as growth in resold voice
and off-net video connections.
Voice revenues increased $3,177 to $4,007 for the year ended December 31, 1997
from $830 for the year ended December 31, 1996. The increase was primarily
due to an increase in off-net connections. Off-net connections were 24,900 and
1,875 at December 31, 1997 and 1996, respectively.
Video revenue increased $15,901 or 18.2% to $103,371 for the year ended
December 31, 1997 from $87,470 for the year ended December 31, 1996. The
increase was due to an increase in off-net video sales principally resulting
from higher basic service revenue resulting from approximately 4,850 additional
average monthly subscribers over 1996, the effects of a rate increase in the
first quarter of 1997 and cash incentives related to the launch of certain new
channels. Additionally, other video sales increased primarily due to the
acquisition of Freedom on August 30, 1996 (the "Freedom Acquisition"), which
resulted in approximately 38,000 wireless video connections for a full year in
1997 as compared to four months in 1996. The Company also began providing video
service over its advanced fiber network during 1997 and had approximately 11,800
advanced fiber connections at December 31, 1997.
Commercial and other revenues increased $3,272, or 19.7% to $19,878 for the
year ended December 31, 1997 from $16,606 for the year ended December 31, 1996.
The increase primarily results from terminating access provided to CTSI. An
increase in commercial main access lines of approximately 5,200 over 1996
accounted for approximately $1,100 of the increase in commercial and other
revenues.
Costs and expenses, excluding depreciation and amortization
- -----------------------------------------------------------
For the year ended December 31, 1997, direct expenses were $51,757,
an increase of $16,531 or 46.9% as compared to direct expenses of $35,226 in
1996. The increase is primarily attributable to higher sales and a change in
overall revenue mix to a higher volume of resold voice, which has a lower margin
than the Company's other products. The resold voice increase represents planned
marketing primarily in the Boston and New York City markets ahead of
construction of the advanced fiber network to build a customer base which is
intended to be migrated to the advanced fiber network. Origination and
programming costs increased approximately $7,200 primarily due to higher video
connections, rate increases and additional channels. The remaining increase in
direct costs and expenses is principally attributable to higher commercial long
distance network capacity in anticipation of volume growth in the Company's
markets resulting in higher recurring costs.
Operating, selling, general and administrative expenses increased $39,329 or
89.6% to $83,210 for the year ended December 31, 1997 from $43,881 for the
year ended December 31, 1996. Advertising costs increased approximately
$9,000 for the year ended December 31, 1997 primarily due to a high visibility
multi-media campaign to promote name recognition primarily in New York City
and Boston. Customer service costs increased approximately $4,100, or 60.3%
primarily related to headcount additions to support the increase in the
customer base and to meet the Company's objectives for world class customer
service. Technical expense increased approximately $8,300, or 75.1% for the
year ended December 31, 1997. The increase is primarily related to salaries
<PAGE>
and benefits associated with increased network engineering staff, responsible
for planning the development and construction of the advanced fiber network, and
increased installation and repair technicians. Sales and marketing costs
increased approximately $8,500, or 116.7%, for the year ended December 31, 1997.
The increase relates to higher sales staff to increase penetration in the
Company's markets, higher marketing staff to monitor and coordinate the
Company's direct advertising efforts and plan sales promotions and to higher
telemarketing expenses. The remaining increase in operating, selling, general
and administrative expenses is attributable to several factors including costs
associated with the spin-off of the Company from C-TEC. Additionally, in
connection with the Distribution (Note 1), C-TEC completed a comprehensive study
of its employee benefit plans in 1996. As a result of this study, effective
December 31, 1996, in general, employees of RCN no longer accrued benefits under
the defined benefit pension plan, but became fully vested in their defined
pension benefits accrued through that date. C-TEC notified affected participants
in December 1996. In December 1996, C-TEC allocated pension plan assets of
$6,984 to a separate plan for employees who no longer accrued benefits after
December 31, 1996. The underlying liabilities were also allocated. The
allocation of assets and liabilities resulted in a curtailment/settlement gain
of $4,292. The Company's allocable share of this gain was $3,437. Such gain did
not recur in 1997.
Depreciation and amortization
- -----------------------------
Depreciation and amortization increased $14,324, or 36.8% to $53,205 for the
year ended December 31, 1997 as compared to $38,881 for 1996. The increase
is principally due to the additional depreciation and amortization resulting
from the Freedom Acquisition and depreciation related to the Company's
advanced fiber optic networks in New York City and Boston.
Nonrecurring charges
- --------------------
Nonrecurring charges of $10,000 in 1997 represent costs incurred with respect
to the termination of a marketing services agreement held by Freedom.
Interest income
- ----------------
For the year ended December 31, 1997, interest income was $22,824, a
decrease of $2,778, or 10.9% primarily due to lower average cash balances and
lower average notes receivable with related parties. Average cash balances
decreased principally as a result of the Freedom Acquisition in August 1996
(as well as the acquisition in March 1997 of the remaining 19.9% ownership
interest in Freedom) and capital expenditures, partially offset by the proceeds
of the Company's high yield debt offering in October 1997.
Interest expense
- ----------------
For the year ended December 31, 1997, interest expense was $25,602, an increase
of $9,556, or 59.6% primarily due to interest expense on the Company's $225,000
of 10% Senior Notes and $601,045 aggregate principal amount at maturity of
11 1/8% Senior Discount Notes placed in October 1997 (Note 10). This was
partially offset by lower interest expense resulting from the required
principal payment in December 1996 of $18,750 on 9.65% Senior Secured Notes.
Additionally, the Company paid $922 to Kiewit Telecom Holdings, Inc. in 1996
in connection with the Company's August 1996 acquisition of Kiewit Telecom
Holdings, Inc.'s 80.1% interest in Freedom. This portion of the consideration
represents an amount to compensate Kiewit Telecom Holdings, Inc. for forgone
interest on the amount which it had invested in Freedom.
Income tax
- ----------
Benefit for income taxes increased $21,828 primarily due to the increase of
$65,020 in loss after minority interest and equity in unconsolidated entities
before income taxes. For an analysis of the change in income taxes, see the
reconciliation of the effective income tax rate in Note 11 to the
Consolidated Financial Statements.
<PAGE>
Minority interest
- -----------------
Minority interest in the loss of consolidated entities increased $5,956
primarily as a result of the minority share of the losses of the BECO joint
venture (Note 7), which began operations in June 1997. Additionally, the
minority share of the losses of Freedom from January 1 through March 21, at
which time the Company acquired the remaining 19.9% ownership interest, was
$966.
Equity in loss of unconsolidated entities
- -----------------------------------------
The Company's equity in the (loss) of unconsolidated entities was ($3,804) in
1997 and ($2,282) in 1996, and is comprised principally of the Company's share
of the operating results of Megacable. Exchange gains (losses) of ($12), $247,
and ($932) in 1997, 1996 and 1995, respectively, including translation losses in
1997, are included in the respective statements of operations through the
Company's porportionate share of losses of Megacable.
In 1997, Megacable had sales of $30,441, operating income before depreciation
and amortization of $10,504 and net income of $6,653. In 1996, Megacable
had sales of $23,225, operating income before depreciation and amortization of
$10,183 and net income of $10,226.
Extraordinary charge
- --------------------
In September 1997, the Company prepaid Senior Secured Notes with the proceeds
of new credit facilities (Note 10). The early extinguishment of the Senior
Secured Notes resulted in an extraordinary charge of $3,210, net of taxes.
LIQUIDITY AND CAPITAL RESOURCES
Because our network development plan involves relatively low fixed costs, we are
able to schedule capital expenditures to meet expected subscriber growth in each
major market. Our principal fixed costs in each such market are incurred in
connection with the establishment of a video transmission and telephone
switching facility. To make each market economically viable, it is then
necessary to construct infrastructure to connect a minimum number of subscribers
to the transmission and switching facility. We phase our market entry projects
to ensure that we have sufficient cash on hand to fund this construction.
<PAGE>
Based on its current growth plan, the Company expects that it will require a
substantial amount of capital to expand the development of its network and
operations into new areas within its larger target markets. The Company needs
capital to fund the construction of its advanced fiber optic networks, upgrade
its hybrid fiber/coaxial plant and fund operating losses and repay its debts.
The Company currently estimates that its capital requirements for the period
from January 1, 1999 through 2000 will be approximately $1.8 billion, which
include capital expenditures of approximately $700 million in 1999 and
approximately $1 billion in 2000. These capital expenditures will be used
principally to fund additional construction of the Company's fiber optic newtork
in high density areas in the Boston, New York, Washington, D.C. and San
Francisco Bay markets as well as to expand into new markets and to develop its
information technology systems. These estimates are forward-looking statements
that may change if circumstances related to construction, timing of receipt of
regulatory approvals and opportunities to accelerate the deployment of the
Company's networks do not occur as expected. In addition to the Company's own
capital requirements, its joint venture partners are each expected to contribute
approximately $275 million, of which approximately $120 million has been
contributed, to the joint ventures through 2000 in connection with development
of the Boston and Washington, D.C. markets.
In order to facilitate growth beyond 2000, the Company expects to supplement its
existing available credit facilities and operating cash flow by continuing to
seek to raise additional capital to increase its network coverage and pay for
other capital expenditures, working capital, debt service requirements and
anticipated further operating losses.
Sources of funding for the Company's further financing requirements may include
vendor financing, public offerings or private placements of equity and/or debt
securities, and bank loans. There can be no assurance that sufficient additional
financing will continue to be available to the Company or, if available, that it
can be obtained on a timely basis and on acceptable terms. Failure to obtain
such financing could result in the delay or curtailment of the Company's
development and expansion plans and expenditures. Any of these events could
impair the Company's ability to meet its debt service requirements and could
have a material adverse effect on its business.
In October 1997, the Company raised $575,000 in gross proceeds from an offering
of two tranches of debt securities. The offering was comprised of $225,000
principal amount of 10% Senior Notes and $601,045 principal amount at maturity
of 11 1/8% Senior Discount Notes, both due in 2007. The proceeds include $61,000
of restricted cash to be used to fund an Escrow Account to pay interest on the
10% Senior Notes for three years. In February 1998, the Company raised $350,587
in gross proceeds from an offering of $567,000 principal amount at maturity of
9.80% Senior Discount Notes, due in 2008. In June 1998, the Company raised
$149,999 in gross proceeds from an offering of $256,755 principal amount at
maturity of 11% Senior Discount Notes, due 2008. Also in June 1998, the Company
raised $112,866 in net proceeds from an offering of 6,098,355 shares of the
Company's Common Stock. The preceding Indentures all contain similar provisions.
The Chase Manhattan Bank acts as Trustee for each of the Indentures. All the
aforementioned Notes are general senior unsecured obligations of RCN. The 9.80%
Senior Discount Notes will mature on February 15, 2008. The 9.80% Senior
Discount Notes will not bear cash interest prior to February 15, 2003.
Thereafter, cash interest on the notes will accrue at 9.80% per annum and will
be payable semi-annually in arrears on February 15 and August 15 of each year
commencing February 15, 2003. The 10% and 11 1/8% Notes (the "1997 Notes") will
mature on October 15, 2007. Interest on the 10% Senior Notes is payable in cash
at a rate of 10% per annum semi-annually in arrears on each April 15 and October
15, commencing April 15, 1998. The 11 1/8% Senior Discount Notes will not bear
cash interest prior to October 15, 2002. Thereafter, cash interest on the notes
will accrue at a rate of 11 1/8% per annum and will be payable semi-annually in
arrears on April 15 and October 15 of each year commencing April 15, 2002. The
11% Senior Discount Notes will not bear cash interest prior to January 1, 2003.
Thereafter, cash interest on the notes will accrue at a rate of 11% per annum
and will be payable semi-annually in arrears on January 1 and July 1 of each
year, commencing July 1, 2003.
<PAGE>
The 9.80% Senior Discount Notes are redeemable, in whole or in part, at any
time on or after February 15, 2003 at the option of RCN. The 9.80% Senior
Discount Notes may be redeemed at redemption prices starting at 104.900% of
the principal amount at maturity and declining to 100% of the principal
amount at maturity, plus any accrued and unpaid interest. The 1997 Notes are
redeemable, in whole or in part, at any time on or after October 15, 2002 at
the option of RCN. The 10% Senior Notes may be redeemed at redemption prices
starting at 105% of the principal amount and declining to 100% of the principal
amount, plus any accrued and unpaid interest. The 11 1/8% Senior Discount
Notes may be redeemed at redemption prices starting at 105.562% of the principal
amount at maturity and declining to 100% of the principal amount at maturity,
plus any accrued and unpaid interest. The 11% Senior Discount Notes will be
redeemable, in whole or in part, at any time on or after July 1, 2003 at the
option of RCN. The 11% Senior Discount Notes may be redeemed at redemption
prices starting at 105.5% of the principal amount at maturity and declining
to 100% of the principal amount at maturity, plus accrued and unpaid interest.
RCN may, at its option, use the net proceeds of certain offerings of RCN
Common Stock to redeem up to an aggregate of 35% of the aggregate principal
amount at maturity of the debt securities issued under the Indentures at a
certain premium. Upon the occurrence of a change of control, RCN must make
an offer to purchase all of the debt securities issued under the Indentures
then outstanding at a premium.
The Indentures contain certain convenants that, among other things, limit the
ability of RCN and its subsidiaries to incur indebtedness, pay dividends,
prepay subordinated indebtedness, repurchase capital stock, engage in
transactions with stockholders and affiliates, create liens, sell assets and
engage in mergers and consolidations.
RCN Cable and certain of its subsidiaries ("Borrowers") have in place
collaterized credit facilities comprised of a five-year revolving credit
facility in the amount of $25,000 (the "Revolving Credit Facility") and an
eight-year term credit facility in the amount of $100,000 (the "Term Credit
Facility"), both of which facilities are governed by a single credit agreement
dated as of July 1, 1997 (the "Credit Agreement"). As of December 31, 1998,
$100,000 of the Term Credit Facility was outstanding. The term loan must be
repaid over six years in quarterly installments, at the end of September,
December, March and June of each year from September 30, 1999 through June 30,
2005. As of December 31, 1998, no principal was outstanding under the Revolving
Credit Facility. Revolving loans may be repaid and reborrowed from time to time.
All borrowings under the Credit Agreement will be pari passu and will be
collaterized under a common collateral package.
The interest rate on the Credit Agreement is, at the election of the Borrowers,
based on either a LIBOR or a Base Rate option (each as defined in the Credit
Agreement). In the case of LIBOR option, the interest rate includes a spread
that varies, based on RCN Cable's Leverage Ratio (defined as the ratio of
Total Debt at the last day of the most recently ended fiscal quarter to
Operating Cash Flow for the four fiscal quarters then ended), from 50
basis points to 125 basis points. In the case of the Revolving Credit
Facility, a fee of 20 basis points on the unused revolving commitment accrues
and is payable quarterly in arrears.
The Credit Agreement contains customary covenants for facilities of this
nature, including covenants limiting debt, liens, investments, consolidations,
mergers, acquisitions and sales of assets, payment of dividends and other
distributions, capital expenditures and transactions with affiliates.
In addition, the Borrowers are subject to a prohibition on
granting negative pledges and the Borrowers must apply certain cash proceeds
realized from certain asset sales, certain payments under insurance policies and
certain incurrences of additional debt to repay the Revolving Credit Facility.
The Credit Agreement requires the Borrowers to maintain the following financial
ratios: (i) the ratio of Total Debt at any fiscal quarter end to Operating Cash
Flow for the trailing four fiscal quarters is not to exceed 5.0:1 initially,
adjusting over time to 4.0:1; (ii) the ratio of Operating Cash Flow to Interest
<PAGE>
Expense for any four consecutive fiscal quarters is not to fall below 2.75:1 for
periods ending during the first 3 years after the Closing Date, adjusting to
3.0:1 thereafter; and (iii) the ratio of Operating Cash Flow (minus certain
capital expenditures, cash taxes and cash dividends) to Fixed Charges (defined
as scheduled principal payments and interest expense) for any four consecutive
quarters is not to fall below 1.0:1 for periods ending on or before December
31, 2000 and adjusting to 1.05:1 thereafter. The Credit Agreement also includes
customary events of default.
The Company has indebtedness that is substantial in relation to its
shareholders' equity and cash flow. At December 31, 1998, the Company has an
aggregate of approximately $1,267,000 of indebtedness outstanding, and the
ability to borrow up to an additional $25,000 under the Credit Agreement. The
Company also has cash, temporary cash investments and short term investments
aggregating approximately $1,013,000 and a current ratio of approximately 6 to
1.
On March 18, 1999, the Company announced that Hicks, Muse, Tate & Furst, through
Hicks, Muse, Tate & Furst Equity Fund IV, L.P., signed a commitment to purchase
up to $250 million of a new issue of Series A 7% Senior Convertible Preferred
Stock ("Series A Preferred Stock") of the Company in a private placement
transaction. The Series A Preferred Stock will have an annual dividend rate of
7% payable quarterly in cash or additional shares of Series A Preferred Stock at
the option of the Company and will have an initial conversion price of $39.00
per share (which represents a 30% premium over the average five-day closing
price of the Common Stock of the Company). The Series A Preferred Stock is
convertible into Common Stock of the Company at any time. The issue has a final
maturity of 15 years, but may be called by the Company after four years.
The Company also announced on March 18, 1999 that it had entered into a
commitment letter with The Chase Manhattan Bank ("Chase") pursuant to which
Chase has agreed to provide an aggregate principal amount of $1 billion of
senior secured credit facilities to certain of the Company's wholly-owned
subsidiaries. The facilities will be comprised of a seven-year senior secured
revolving credit facility in an amount of $250 million, a seven-year senior
secured multi-draw term loan facility in an amount of $350 million and an eight-
year senior secured single-draw term loan facility in an amount of $400 million.
All borrowings under the facilities will be pari passu and will be
collaterilized under a common collateral package covering substantially all of
the assets of the Company and its domestic subsidiaries.
As a result of the substantial indebtedness of the Company, the Company's
fixed charges are expected to exceed its earnings for the foreseeable future.
Based on its current plans, the Company will require substantial additional
capital particularly in connection with the buildout of the Company's networks
and the introduction of its telecommunications services to new markets. The
leveraged nature of the Company could limit its ability to effect future
financing or may otherwise restrict the Company's business activities.
The extent of the Company's leverage may have the following consequences: (i)
limit the ability of the Company to obtain necessary financing in the future of
working capital, capital expenditures, debt service requirements or other
purposes; (ii) require that a substantial portion of the Company's cash flows
from operations be dedicated to the payment of principal and interest on its
indebtedness and therefore not be available for other purposes; (iii) limit the
Company's flexibility in planning for, or reacting to, changes in its business;
(iv) place the Company at a competitive disadvantage as compared with less
leveraged competitors; and (v) render the Company more vulnerable in the event
of a downturn in its business.
For the year ended December 31, 1998, the Company's net cash provided by
operating activities was $35,110 comprised primarily of a net loss of ($205,442)
adjusted by non-cash depreciation and amortization of $89,088, other non-cash
items totaling $95,569 and working capital changes of $58,133. Net cash used in
investing activities of $828,176 consisted primarily of additions to property,
plant and equipment of $285,867, purchase of short-term investments of $936,401,
investment in unconsolidated joint venture of $20,000 and acquisitions of
$47,361 (primarily the Erols, UltraNet and JavaNet acquisitions), partially
offset by net sales and maturities of short-term investments of $461,795. Net
cash provided by financing activities of $690,282 included the issuance of long-
term debt of $502,587, proceeds from the issuance of stock of $112,866,
contribution from minority interest partner of $77,849 and decrease in
investments restricted for debt service of $22,375, partially offset by the
repayment of long-term debt of $7,770, purchase of treasury stock of $9,301 and
payments made for debt financing costs of $10,185.
For the year ended December 31, 1997, the Company's net cash provided by
operating activities was $2,069, comprised primarily of a net loss of ($52,391)
adjusted by non-cash depreciation and amortization of $53,205, other non-cash
items totaling ($203), working capital changes of $377 and changes in other
deferred expenses of $1,081. Net cash used in investing activities of $475,860
consisted primarily of purchases of short-term investments of $445,137,
additions to property, plant and equipment of $79,042 and acquisitions of
$30,490 (primarily acquisition of the minority interest of Freedom) partially
offset by sales and maturities of short-term investments of $76,923. Net cash
provided by financing activities of $634,858 consisted primarily of issuance of
long-term debt of $688,000, change in affiliate notes of $97,624 and transfers
from C-TEC of $89,323 partially offset by repayment of long-term debt of
$141,250, transfers to C-TEC of $23,474, payments made for debt financing costs
of $20,151 and an increase related to cash restricted for debt service of
$61,250.
<PAGE>
IMPACT OF THE YEAR 2000 ISSUE
Certain statements concerning Year 2000 issues, which contain more than
historical information, may be considered forward-looking statements within the
meaning of the Private Securities Litigation Reform Act of 1995 and are thus
subject to risks and uncertainties. Actual results may differ materially from
those expressed by any forward-looking statements. The Company's Year 2000
discussion should be read in conjunction with the Company's statement on
forward-looking statements which appears at the beginning of this Management's
Discussion and Analysis of Financial Condition and Results of Operations.
State of Readiness
The Company has certain information technology ("IT") systems (system used in
the management of the business) and non-information technology systems ("non-
IT") (System used to produce service to customers) which are subject to Year
2000 exposures and require remediation. The Company has established a Year 2000
Program Office which is staffed with personnel who address, on a full-time and
ongoing basis, the Year 2000 issue. This group is led by a full-time Director
who reports in the organization, on a daily basis, directly to the Senior Vice
President of IT, on a periodic basis, to a Year 2000 Steering Committee
comprised of the Chairman, President, Chief Financial Officer, Senior Vice
President of IT and General Counsel and President of Network Technology of the
Company. The Year 2000 Program Office personnel work with subject matter experts
consisting of current employees from various disciplines across the Company to
specifically identify these systems and implement a plan for remediation. This
plan, the Year 2000 Compliance Program, includes a 5-step process of remediation
as follows:
1. inventory
2. planning
3. assessment
4. repair
5. integration
The Company has evaluated which systems are critical to its operations and has
prioritized its Year 2000 remediation efforts to address these systems first. As
a result, the Company is in different stages of this Program for its various
systems.
For business reasons unrelated to Year 2000 issues, the Company is replacing its
financial, billing, operational support, and customer services systems. These
systems are critical to the Company's operations. The financial system
replacement involved converting the legacy of financial systems to a state-of-
the-art Oracle system. The Oracle system, which went into production use on
November 1, 1998, is expected to ensure Year 2000 compliance in financial
applications. The replacement systems for the Company's billing, operational
support and customer services will also be Year 2000 compliant at installation.
The replacement of the billing, operational support and customer service systems
is in process and includes substantial risk of not progressing along the planned
time line due to the scope of the project. To manage this risk, the Company has
assumed that the replacement systems will not be available before the Year 2000.
To ensure business continuity, and as a contingency strategy, the Company is
renovating the current billing, operational support and customer service systems
which are not already Year 2000 compliant. The Company's switches and head-ends
are also critical systems and are either currently Year 2000 compliant or are
expected to be compliant with the next vendor software upgrade. Such software
upgrades are expected to be installed by June 30, 1999.
The Company expects most renovations to IT systems to be completed by May 31,
1999. The Company has begun testing of some of its critical systems and expects
thorough integration testing to be completed by June 30, 1999. The Company
completed an inventory of its non-IT systems which must be remediated and is in
the process of developing a specific remediation plan and timetable for those
systems.
<PAGE>
The Year 2000 compliance status of interdependent third parties is not yet fully
known. The Company recognizes the importance of communication with third parties
to determine their plans for becoming Year 2000 compliant. The Company estimates
that it has approximately 200 critical vendors and has sent surveys regarding
the Year 2000 remediation to those vendors. The Company has received responses
from approximately 40% of these vendors. The Company is vigorously pursuing the
timely receipt of relevant information from the remaining vendors. The Company
will assess its remediation plans based on those responses. The Company is also
working with integrated providers and will be setting up testing, according to
their communications. The Company will be reviewing the process of risk and
contingency planning associated with noncompliant vendor responses. There can
be no assurance that third party systems will be made Year 2000 compliant in
a timely manner or that non-compliance of these systems would not have a
material adverse effect on the Company's operations and financial condition.
No other IT projects have been deferred due to the Year 2000 remediation
efforts.
Cost
- ----
Based upon its current assessment, the total cost associated with the Company's
Year 2000 Compliance Program is not expected to be material to the Company's
results of operations or financial position. The estimated total cost of the
Company's Year 2000 Compliance Program is approximately $5,500. This is
comprised of approximately $3,300 for salaries, facilities and consulting
services; approximately $1,200 for program code remediation; approximately $500
for equipment replacement and approximately $500 for testing. Approximately
$400 has been incurred through December 31, 1998. The cost for replacing systems
which had been planned, and for which the timeline for replacement was not
accelerated due to Year 2000 issues, have not been included.
Risk Assessment and Contingencies
Through current and constant systems reassessment, the Company does not believe
it is exposed to any significant Year 2000 risk with respect to its critical
systems other than would be caused by substantial deviation from the plans and
time frames set forth above, in particular, with respect to our ability to bill
customers, track collections of receivables and provide services for new orders.
The Company is currently in the process of identifying its other systems
requiring remediation and intends to apply its five-step program as outlined
above to these systems based on each system's priority in operations. The
company is not currently able to assess the most significant risk associated
with vendor non-compliance.
Item 7a. Quantitative & qualitative disclosures about market risk
The Company has adopted Item 305 of Regulation S-K "Quantitative & qualitative
disclosures about market risk" which is effective in financial statements for
fiscal years ending after June 15, 1998. The Company currently has no items that
relate to "trading portfolios". Under the "other than trading portfolios" the
Company does have four short-term investment portfolios categorized as available
for sale securities that are stated at cost, which approximates market, and
which are re-evaluated at each balance sheet date and one portfolio that is
categorized as held to maturity which is an escrow account against a defined
number of future interest payments related to the company's 10% Senior Discount
Notes. These portfolios consist of Federal Agency notes, Commercial Paper,
Corporate Debt Securities, Certificates of Deposit, U.S. Treasury notes, and
Asset Backed Securities (see note 5). The Company believes there is limited
exposure to market risk due primarily to the small amount of market sensitive
investments that have the potential to create material market risk. Furthermore,
the Company's internal investment policies have set maturity limits,
concentration limits, and credit quality limits to minimize risk and promote
liquidity. The Company did not include trade accounts payable and trade accounts
receivable in the "other than trading portfolio" because their carrying amounts
approximate fair value.
The objective of the Company's "other than trading portfolio" is to invest in
high quality securities and seeks to preserve principal, meet liquidity needs,
and deliver a suitable return in relationship to these guidelines.
<PAGE>
RCN CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(THOUSANDS OF DOLLARS EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
For the Years Ended December 31,
1998 1997 1996
-----------------------------------------
<S> <C> <C> <C>
Sales $ 210,940 $ 127,297 $ 104,910
Costs and expenses, excluding depreciation and amortization 262,352 134,967 79,107
Depreciation and amortization 89,088 53,205 38,881
Acquired in-process research and development 18,293 - -
Nonrecurring charges - 10,000 -
------------------------------------------
Operating (loss) (158,793) (70,875) (13,078)
Interest income 58,679 22,824 25,602
Interest expense (112,239) (25,602) (16,046)
Other (expense) income, net (1,889) 131 (546)
----------------------------------------
(Loss) before income taxes (214,242) (73,522) (4,068)
(Benefit) provision for income taxes (4,998) (20,849) 979
-----------------------------------------
(Loss) before minority interest and
equity in unconsolidated entities (209,244) (52,673) (5,047)
Minority interest in loss of consolidated entities 17,162 7,296 1,340
Equity in (loss) of unconsolidated entities (12,719) (3,804) (2,282)
----------------------------------------
(Loss) before extraordinary charge and cumulative
effect of change in accounting principle (204,801) (49,181) (5,989)
Extraordinary charge - debt prepayment penalty,
net of tax of $1,728 - (3,210) -
Cumulative effect of change in accounting for
start-up costs, net of tax (641) - -
----------------------------------------
Net (loss) $ (205,442) $(52,391) $(5,989)
========================================
Basic and diluted earnings per average common share:
(Loss) before extraordinary charge and
cumulative effect of change in accounting principle $ (3.35) $ (0.89) $ (0.11)
Extraordinary charge - debt prepayment penalty - $ (0.06) -
Cumulative effect of change in accounting
for start-up costs $ (0.01) - -
Net (loss) $ (3.36) $ (0.95) $ (0.11)
Weighted average shares outstanding 61,187,354 54,965,716 54,918,394
</TABLE>
See accompanying notes to Consolidated Financial Statements.
<PAGE>
RCN CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(THOUSANDS OF DOLLARS EXCEPT SHARE DATA)
<TABLE>
<CAPTION>
December 31,
1998 1997
----------------------
<S> <C> <C>
ASSETS
Current assets
Cash and temporary cash investments $ 120,126 $ 222,910
Short-term investments 892,448 415,603
Accounts receivable from related parties 6,919 9,829
Accounts receivable, net of reserve for doubtful accounts
of $5,766 in 1998 and $2,134 in 1997 27,261 13,139
Unbilled revenues 2,727 1,695
Material and supply inventory, at average cost 3,870 2,745
Prepayments and other 15,368 9,990
Deferred income taxes 712 4,821
Investments restricted for debt service 23,437 22,500
----------------------
Total current assets 1,092,868 703,232
----------------------
Property, plant and equipment, net of accumulated depreciation
of $153,304 in 1998 and $107,419 in 1997 448,375 200,340
Investments restricted for debt service 19,869 39,411
Investments 129,529 70,424
Intangible assets, net of accumulated amortization of
$97,313 at December 31, 1998 and $53,388 at
December 31, 1997. 169,718 96,547
Deferred charges and other assets 47,256 41,038
----------------------
Total assets $1,907,615 $1,150,992
======================
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities
Current maturities of long term debt and capital lease obligations $ 4,097 $ -
Accounts payable to related parties 7,153 3,748
Accounts payable 65,623 24,835
Advance billings and customer deposits 21,679 7,318
Accrued interest 5,267 5,549
Accrued telephony cost of sales 12,000 2,739
Accrued expenses 62,250 25,516
----------------------
Total current liabilities 178,069 69,705
----------------------
Long-term debt 1,263,036 686,103
Deferred income taxes 3,281 19,612
Other deferred credits 14,667 2,596
Minority interest 77,116 16,392
Commitments and contingencies
Preferred stock: authorized 25,000,000 shares - -
Common shareholders' equity:
Common stock, par value $1 per share: Authorized 100,000,000 shares:
Issued 65,477,493 and 54,989,870 shares at
December 31, 1998 and 1997, respectively 65,477 54,989
Additional paid-in capital 539,770 321,766
Cumulative translation adjustments (3,055) (3,055)
Unrealized appreciation on investments 1,113 -
Treasury stock, 557,000 shares at cost at December 31, 1998 (9,301) -
Deficit (222,558) (17,116)
----------------------
Total common shareholders' equity 371,446 356,584
----------------------
Total liabilities and shareholders' equity $1,907,615 $1,150,992
======================
</TABLE>
See accompanying notes to Consolidated Financial Statements.
<PAGE>
RCN CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(THOUSANDS OF DOLLARS)
<TABLE>
<CAPTION>
For the Years Ended December 31,
1998 1997 1996
-----------------------------------------
<S> <C> <C> <C>
Cash flows from operating activities
Net (loss) $ (205,442) $ (52,391) $ (5,989)
Gain on pension curtailment/settlement - - (3,437)
Accretion of discounted debt 80,925 8,103 -
Amortization of financing costs 2,816 408 -
Acquired in-process research and development 18,293 - -
Gain on sale of partnership interest - (661) -
Extraordinary item - debt prepayment penalty - 3,210 -
Depreciation and amortization 89,088 53,205 38,881
Deferred income taxes and investment tax credits, net (6,147) (10,503) (6,477)
Provision for losses on accounts receivable 4,125 2,732 1,788
Equity in loss of unconsolidated entities 12,719 3,804 2,282
Minority interest (17,162) (7,296) (1,340)
Net change in certain assets and liabilities,
net of business acquisitions:
Accounts receivable and unbilled revenues 3,500 (14,979) (3,780)
Material and supply inventory (1,109) (1,605) (814)
Accounts payable 28,456 11,193 2,954
Accrued expenses 37,446 3,353 4,283
Accounts receivable from related parties 2,910 3,180 1,572
Accounts payable to related parties 3,405 (1,132) (5,448)
Unearned revenue (17,629) - -
Other, net 1,154 367 597
Other (2,238) 1,081 (1,241)
-------------------------------------
Net cash provided by operating activities 35,110 2,069 23,831
-------------------------------------
Cash flows from investing activities:
Additions to property, plant and equipment (285,867) (79,042) (38,548)
Purchase of short-term investments (936,401) (445,137) (75,091)
Sales and maturities of short-term investments 461,795 76,923 149,086
Acquisitions, net of cash acquired (47,361) (30,490) (30,090)
Investment in unconsolidated joint venture (20,000) - -
Purchase of loan receivable - - (13,088)
Proceeds from sale of partnership interest - 1,900 -
Other (342) (14) (1,646)
-------------------------------------
Net cash used in investing activities (828,176) (475,860) (9,377)
-------------------------------------
</TABLE>
<PAGE>
RCN CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(THOUSANDS OF DOLLARS)
<TABLE>
<CAPTION>
<S> <C> <C> <C>
Cash flows from financing activities
Repayment of long-term debt and capital leases (7,770) (141,250) (44,750)
Issuance of long-term debt 502,587 688,000 19,000
Proceeds from the issuance of stock 112,866 - -
Purchase of treasury stock (9,301) - -
Contribution to minority interest partner (108) - -
Change in affiliate notes, net - 97,624 32,802
Extraordinary item - debt prepayment penalty - (3,210) -
Payments made for debt financing costs (10,185) (20,151) -
Cash contribution from minority interest partner 77,849 9,016 -
Decrease (increase) related to investments
restricted for debt service 22,375 (61,250) -
Proceeds from the exercise of stock options 1,969 230 -
Transfers from C-TEC - 89,323 78,550
Transfers (to) C-TEC - (23,474) (76,211)
-------------------------------------
Net cash provided by financing activities 690,282 634,858 9,391
-------------------------------------
Net increase (decrease) in cash and temporary cash investments (102,784) 161,067 23,845
Cash and temporary cash investments at beginning of year 222,910 61,843 37,998
-------------------------------------
Cash and temporary cash investments at end of year $ 120,126 $222,910 $61,843
=====================================
Supplemental disclosures of cash flow information
Cash paid during the periods for:
Income taxes $ 1,047 $ 1,090 $ 549
=====================================
Interest (net of $1,636 capitalized in 1998) $ 28,781 $ 16,536 $16,046
=====================================
</TABLE>
See accompanying notes to Consolidated Financial Statements
<PAGE>
RCN CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(THOUSANDS OF DOLLARS)
Supplemental Schedule of Non-Cash Investing and Financing Activities
In February 1998, RCN completed the acquisition of Erols Internet, Inc.
The transaction was accounted for as a purchase.
A summary of the transaction is as follows:
Fair value of assets acquired $ 147,000
Less:
Fair value of RCN stock issued (45,000)
Fair value of stock options exchanged (11,000)
Liabilities assumed (55,000)
-----------
Net cash paid (including out of pocket expenses of
approximately $1,400 and repayment of debt
of approximately $5,100) $ 36,000
===========
RCN expects to contribute to Starpower approximately 60% of
the subscribers and related unearned revenue acquired in the acquisition
of Erols.
In February 1998, RCN completed the acquisition of UltraNet.
The transaction was accounted for as a purchase.
A summary of the transaction is as follows:
Fair value of assets acquired $ 41,500
Less:
Fair value of RCN stock issued (26,200)
Fair value of stock options exchanged (1,900)
Liabilities assumed (5,700)
-----------
Net cash paid $ 7,700
===========
In June 1998, RCN completed the acquisition of Interport Communications, Corp.
The transaction was accounted for as a purchase
A summary of the transaction is as follows:
Fair value of assets acquired $ 11,000
Less:
Fair value of RCN stock issued (8,500)
Liabilities assumed (1,200)
-----------
Net cash paid $ 1,300
===========
In June 1998, RCN completed the acquisition of Lancit Media Entertainment, Ltd.
The transaction was accounted for as a purchase.
A summary of the transaction is as follows:
Fair value of assets acquired $ 14,800
Less:
Fair value of RCN stock issued (7,400)
Liabilities assumed (7,000)
-----------
Net cash paid $ 400
===========
<PAGE>
In July 1998, RCN completed the acquisition of JavaNet, Inc. The transaction
was accounted for as a purchase.
A summary of the transaction is as follows:
Fair value of assets acquired $ 21,800
Less
Fair value of RCN stock issued (13,400)
Liabilities assumed (4,700)
-----------
Net cash paid $ 3,700
===========
In March 1997, the Company acquired the portion of Freedom which it
did not already own. The transaction was accounted for as a purchase.
A summary of the transaction is as follows:
Fair value of assets acquired $ 26,188
Non-capitalizable costs 10,000
Reduction of minority interest 3,812
-----------
Net cash paid $ 40,000
===========
In 1996, C-TEC acquired an 80.1% interest in Freedom New York, L.L.C.
The acquisition was accounted for as a purchase.
A summary of the acquisition is as follows:
Fair value of assets acquired $ 42,548
Less:
Liabilities assumed (7,621)
Deferred tax asset recognized 167
Minority interest recognized (6,188)
-----------
Net cash paid $ 28,906
===========
In 1997, certain intercompany accounts receivable and payable and intercompany
note balances were transferred to Shareholders' Net Investment in connection
with the Distribution.
BECO's contribution of the IRU to the RCN-BECOCOM joint venture (Note 7)
is included in "Telecommunications Network" at its fair value.
See accompanying notes to Consolidated Financial Statements
<PAGE>
RCN CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
FOR THE YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996
(THOUSANDS OF DOLLARS)
<TABLE>
<CAPTION>
Unrealized
Additional Shareholder's Cumulative appreciation Total
Common Paid Treasury Net Translation on Shareholders'
Stock in Capital Deficit Stock Investment Adjustment Investments Equity
------- ---------- ------- -------- ----------- -------------- ------------ ------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Balance, December 31, 1995 $ 1 $ - $ - $ - $ 396,674 $ (2,606) $ - $ 394,069
Net Loss (5,989) (5,989)
Transfers from C-TEC 3,134 3,134
Cumulative translation adjustment (449) (449)
------- ---------- ------- -------- ----------- ------------ ----------- -----------
Balance, December 31, 1996 1 - - - 393,819 (3,055) - 390,765
Net loss from 1/1/97 through 9/30/97 (35,275) (35,275)
Net loss from 10/1/97 through 12/31/97 (17,116) (17,116)
Transfers from C-TEC 17,980 17,980
Common stock issued in connection
with the distribution 54,968 321,556 (376,524) -
Stock plan transactions 20 210 230
------- ---------- ------- -------- ----------- ------------ ----------- -----------
Balance, December 31, 1997 54,989 321,766 (17,116) - - (3,055) - 356,584
Net loss (205,442) (205,442)
Common stock offering 6,099 106,767 112,866
Stock plan transactions 436 2,001 2,437
Stock and stock options issued
in connection with acquisitions 3,953 109,258 113,211
Purchase of treasury stock (9,301) (9,301)
Unrealized appreciation on investments 1,113 1,113
Other (22) (22)
------- --------- --------- -------- ----------- ------------ ----------- -----------
Balance, December 31, 1998 $65,477 $ 539,770 $(222,558)$ (9,301) $ - $ (3,055) $ 1,113 $ 371,446
======= ========= ========= ======== ========== ============ =========== ===========
</TABLE>
See accompanying notes to Consolidated Financial Statements
<PAGE>
RCN CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
FOR THE YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996
<TABLE>
<CAPTION>
Common Treasury Shares
Shares Issued Stock Outstanding
------------- --------- -----------
<S> <C> <C> <C>
Balance, December 31, 1995 1,400 - 1,400
Net Loss
Transfers from C-TEC
Cumulative translation adjustments
------------- --------- -----------
Balance, December 31, 1996 1,400 - 1,400
Net loss from 1/1/97 through 9/30/97
Net loss from 10/1/97 through 12/31/97
Transfers from C-TEC
Common stock issued in connection with
the distribution 54,967,952 54,967,952
Stock plan transactions 20,518 20,518
------------- --------- -----------
Balance, December 31, 1998 54,989,870 - 54,989,870
Net loss
Common stock offering 6,098,355 6,098,355
Stock plan transactions 436,342 436,342
Stock issued in connection with acquisitions 3,952,926 3,952,926
Purchase of treasury stock (557,000) (557,000)
Unrealized appreciation on investments
------------- --------- -----------
Balance, December 31, 1998 65,477,493 (557,000) 64,920,493
============= ========== ===========
</TABLE>
See accompanying notes to Consolidated Financial Statements
<PAGE>
RCN CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(THOUSANDS OF DOLLARS EXCEPT PER SHARE DATA)
1. BACKGROUND AND BASIS OF PRESENTATION
RCN Corporation (the "Company" or "RCN") provides a wide range of
telecommunications services through high speed, high capacity advanced fiber
optic networks. RCN currently offers local and long distance telephone, video
and data services, including high speed Internet access. We provide our services
primarily to residential customers in selected markets with high levels of
population density and favorable demographics. RCN's initial advanced fiber
optic networks have been established in selected markets in the Boston to
Washington D.C. corridor and RCN has begun developing advanced fiber optic
networks in the San Francisco to San Diego corridor.
Prior to September 30, 1997, RCN Corporation was operated as part of C-TEC
Corporation ("C-TEC"). On September 30, 1997, C-TEC distributed 100 percent of
the outstanding shares of common stock of its wholly owned subsidiaries, RCN
and Cable Michigan, Inc. ("Cable Michigan") to holders of record of C-TEC's
Common Stock and C-TEC's Class B Common Stock as of the close of business on
September 19, 1997 (the "Distribution") in accordance with the terms of a
Distribution Agreement dated September 5, 1997 among C-TEC, RCN and Cable
Michigan. At the time of the distribution RCN consisted primarily of C-TEC's
bundled residential voice, video and Internet access operations in the Boston to
Washington, D.C. corridor, its existing New York, New Jersey and Pennsylvania
cable television operations, a portion of its long distance operations and its
international investment in Megacable, S.A. de C.V.("Megacable"). C-TEC's
corporate services group and corporate financial services company both became
subsidiaries of RCN immediately coincident with the Distribution. Cable
Michigan, Inc. consisted of C-TEC's Michigan cable operations, including its 62%
ownership in Mercom, Inc. In connection with the Distribution, C-TEC changed its
name to Commonwealth Telephone Enterprises, Inc. ("CTE").
CTE, RCN and Cable Michigan have entered into certain agreements providing for
the Distribution, and governing various ongoing relationships, including the
provision of support services, between the three companies, including a
distribution agreement and a tax-sharing agreement.
On November 6, 1998, Cable Michigan announced that its sale to Avalon Cable
of Michigan, Inc. was complete. As a result of the sale, Cable Michigan has
no ongoing support services relationship with RCN and CTE.
The consolidated financial statements have been prepared using the historical
basis of assets and liabilities and historical results of operations of all
wholly and majority owned subsidiaries. However, the historical financial
information presented herein reflects periods during which the Company did not
operate as an independent company and accordingly, certain assumptions were made
in preparing such financial information. Such information, therefore, may not
necessarily reflect the results of operations, financial condition or cash flows
of the Company in the future or what they would have been had the Company been
an independent, public company during the reporting periods.
C-TEC's corporate services group had historically provided substantial support
services such as finance, cash management, legal, human resources, insurance and
risk management and its financial statements are included in the consolidated
financial statements of the Company. Prior to the Distribution, the corporate
office allocated the cost for these services pro rata among the business units
supported primarily based on assets; contribution to consolidated earnings
before interest, depreciation, amortization, and income taxes; and number of
employees. In the opinion of management, the method of allocating these costs is
reasonable; however, the costs of these services remaining with the Company
after allocation to C-TEC's other business units are not necessarily indicative
of the costs that would have been incurred by the Company on a stand-alone
basis. It is not practicable to estimate the expenditures for allocated support
<PAGE>
services that RCN would have incurred on a stand-alone basis. The historical
expense levels for these services after allocation to CTE and Cable Michigan
were approximately $8,000 for both 1996 and the nine months ending September
30,1997. The Company expects that its expense levels for these services on a
forward-looking basis will exceed the historical levels due to growth and
increasing complexity of the business. Also included in the Company's
consolidated financial statements are the financial statements of the corporate
financial services company which invests excess cash of, and advances funds to,
the Company and prior to the Distribution, C-TEC. The financial services company
charges interest expense on outstanding advances and pays interest income on
excess cash invested for affiliates.
The consolidated financial statements include the accounts of all wholly-owned
subsidiaries. All material intercompany transactions and balances have been
eliminated. The Company has a 40% interest in Megacable, a Mexican cable
television system operator and accounts for its investment by the equity method.
The RCN-BECOCOM joint venture which the Company controls and in which the
minority investors do not possess significant veto rights is consolidated. The
Starpower joint venture is accounted for by the equity method.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Use of Estimates -
- ------------------
The preparation of 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.
Cash and Temporary Cash Investments -
- ------------------------------------
For purposes of reporting cash flows, the Company considers all highly liquid
investments purchased with an original maturity of three months or less to be
temporary cash investments. Temporary cash investments are stated at cost
which approximates market.
Short Term Investments and Investments Restricted for Debt Service -
- ------------------------------------------------------------------
Management determines the appropriate classification of its investments in debt
and equity securities at the time of purchase and reevaluates such determination
at each balance sheet date in accordance with Statement of Financial Accounting
Standards No. 115 - "Accounting for Certain Investments in Debt and Equity
Securities." At December 31, 1998 and 1997, marketable debt and equity
securities have been categorized as available for sale. The Company states its
short term investments at cost, which approximates market. Investments
restricted for debt service have been categorized as held to maturity since
management has the positive intent and ability to hold such securities to
maturity. At December 31, 1998, investments restricted for debt service are
comprised of U.S. Treasury notes and Federal Agency notes and are stated at
cost, which approximates market.
Property, Plant and Equipment and Depreciation -
- ----------------------------------------------
Property, plant and equipment reflects the original cost of acquisition or
construction, including related payroll and costs such as taxes, fringe
benefits, and certain general administrative costs.
<PAGE>
Depreciation is provided on the straight-line method based on the useful lives
of the various classes of depreciable property. The average estimated lives of
depreciable property, plant and equipment are:
Lives
-----
Telecommunications Network 5-22.5 years
Computer Equipment 3-10 years
Buildings and leasehold improvements 5-45 years
Furniture, fixtures and vehicles 3-10 years
Other 5-10 years
Repairs of all property, plant and equipment and minor replacements and renewals
are charged to expense as incurred. Major replacements and betterments are
capitalized. Gain or loss is recognized on major retirements and dispositions.
Intangible Assets -
- -----------------
Intangible assets are amortized on a straight-line basis over the expected
period of benefit ranging from 1 to 15 years.
Accounting for Impairments -
- --------------------------
The Company follows the provisions of Statement of Financial Accounting
Standards No. 121 - "Accounting for the Impairment of Long-Lived Assets and for
Long-Lived Assets to be Disposed of" ("SFAS 121"). No impairment losses
have been recognized by the Company pursuant to SFAS 121.
Revenue Recognition -
- -------------------
Local telephone service revenue is recorded as earned based on tariffed rates.
Long distance telephone service revenue is recorded based on minutes of traffic
processed and tariffed rates or contracted fees. Revenues from cable
programming services are recorded in the month the service is provided.
Internet access service revenues are recorded based on contracted fees.
Advertising Expense -
- -------------------
Advertising costs are expensed as incurred. Advertising expense charged to
operations was $28,841, $12,203 and $1,441 in 1998, 1997 and 1996, respectively.
Debt Issuance Costs -
- --------------------
Debt Issuance Costs are amortized over the life of the note. Debt Issuance
costs charged to operations were $2,816 and $408 in 1998 and 1997,
respectively.
Stock Based Compensation -
- ------------------------
The Company applies Accounting Principles Board Opinion No. 25 - "Accounting
for Stock Issued to Employees" ("APB 25") in accounting for its stock plans.
The Company has adopted the disclosure - only provisions of Statement of
Financial Accounting Standards No. 123 - "Accounting for Stock-Based
Compensation" ("SFAS 123").
Income Taxes -
- ------------
The Company and its subsidiaries report income for federal tax purposes on
a consolidated basis. Prior to the Distribution, the Company and its
subsidiaries were included in the consolidated federal income tax return of
C-TEC. Income tax expense is allocated to subsidiaries on a separate return
basis except that the Company's subsidiaries receive benefit for the utilization
of net operating losses and investment tax credits included in the consolidated
return even if such losses and credits could not have been used on a separate
return basis.
<PAGE>
The Company accounts for income taxes using Statement of Financial Accounting
Standards No. 109 - "Accounting for Income Taxes."
Foreign Currency Translation -
- ----------------------------
The Company has a 40% interest in Megacable. For purposes of determining its
equity in the earnings of Megacable, the Company translates the revenues and
expenses of Megacable into U.S. dollars at the average exchange rates that
prevailed during the period. Assets and liabilities are translated into U.S.
dollars at the rates in effect at the end of the fiscal period. Prior to 1997,
the Company's share of the gains or losses that result from this process are
shown in the cumulative translation adjustment account in the common
shareholders' equity section of the balance sheet. Effective January 1, 1997,
since the three-year cumulative rate of inflation at December 31, 1996 exceeded
100%, Mexico is treated for accounting purposes as having a highly inflationary
economy through December 31, 1998 since the three-year cumulative rate of
inflation at December 31, 1996 exceeded 100%, Mexico is treated for accounting
purposes as having a hgihly inflationary economy. As a result, the financial
statements of Megacable are remeasured as if the functional currency were the
U.S. dollar. The remeasurement of the Mexican peso into U.S. dollars creates
translation adjustments which are included in net income. The Company's
proportionate share of gains and losses resulting from transactions of
Megacable, which are made in currencies different from its own, are included in
income as they occur.
Earnings Per Share -
- --------------------
The Company has adopted Statement of Financial Accounting Standards No. 128 -
Earnings Per Share ("SFAS 128"). Basic earnings (loss) per share is computed
based on net income (loss) divided by the weighted average number of shares of
common stock outstanding during the period.
Diluted earnings (loss) per share is computed based on net income (loss) divided
by the weighted average number of shares of common stock outstanding during the
period after giving effect to convertible securities considered to be dilutive
common stock equivalents. The conversion of stock options during periods in
which the Company incurs a loss from continuing operations is not included since
the effect is anti-dilutive.
Comprehensive Income -
- --------------------
In June 1997, the Financial Accounting Standards Board ("FASB") issued Statement
of Financial Accounting Standard No. 130 - "Reporting Comprehensive Income"
("SFAS 130"). This statement, which establishes standards for reporting and
disclosure of comprehensive income, is effective for interim and annual periods
beginning after December 15, 1997. The Company primarily has two components of
comprehensive income, cumulative translation adjustments and unrealized
appreciation on investments: Since the cumulative foreign currency translation
adjustment was unchanged during 1998 the only applicable adjustment required to
determine comprehensive income was the unrealized appreciation on investments
which approximates $1,113 at December 31, 1998. The amount of other
comprehensive loss for the year ended December 31, 1998 was ($204,329).
3. EARNINGS PER SHARE
The number of stock options which would have been converted in 1998 and have
a dilutive effect if the Company had income from continuing operations is
3,198,493.
For periods prior to October 1, 1997, during which the Company was a wholly-
owned subsidiary of C-TEC, earnings (loss) per share was calculated by dividing
net income (loss) by the number of average common shares of C-TEC outstanding,
based upon a distribution ratio of one share of Company common equity for each
share of C-TEC common equity owned.
<PAGE>
The following table is a reconciliation of the numerators and denominators of
the basic and diluted per share computations:
<TABLE>
<CAPTION>
Years Ended December 31, 1998 1997 1996
---------- ---------- ----------
<S> <C> <C> <C>
(Loss) income before extraordinary charge and
cumulative effect of change in accounting
principle $ (204,801) $ (49,181) $ (5,989)
=========== =========== ===========
Basic (loss) earnings per average common share:
Weighted average shares outstanding 61,187,354 54,965,716 54,918,394
(Loss) income per average common share before
extraordinary charge and cumulative effect of
change in accounting principle $ (3.35) $ (0.89) $ (0.11)
Diluted (loss) earnings per average common share:
Weighted average shares outstanding 61,187,354 54,965,716 54,918,394
Dilutive shares resulting from stock options - - -
----------- ----------- -----------
61,187,354 54,965,716 54,918,394
=========== =========== ===========
(Loss) per average common share before
extraordinary charge and cumulative effect
of change in accounting principle $ (3.35) $ (0.89) $ (0.11)
</TABLE>
4. BUSINESS COMBINATIONS
In February 1998, the Company acquired Erols Internet, Inc. ("Erols"). The
total approximate consideration was $36,000 in cash including out of pocket
costs of approximately $1,400 and the assumption and repayment of debt of
approximately $5,100 and RCN Common Stock with a fair value of approximately
$45,000 at the time of issuance. Additionally, the purchase price includes
approximately $11,000 representing the fair value of Erols stock options which
were converted to RCN stock options in connection with the acquisition.The
transaction was accounted for by the purchase method of accounting.
RCN contributed to Starpower approximately 60% of the subscribers and related
unearned revenue acquired in the acquisition of Erols. (Note 7). RCN contributed
to RCN-BECOCOM approximately 1% of the subscribers and related unearned revenue
acquired in the acquisition of Erols.
Goodwill of approximately $ 35,000 was recorded in connection with the
acquisition of Erols and contribution to Starpower. Such goodwill includes
the value assigned to certain current products and technologies, primarily
residential dial-up and dedicated Internet access, and Internet advertising.
Such goodwill is being amortized over approximately four years.
In February 1998, the Company acquired Ultranet Communications, Inc.
("Ultranet"). The total approximate consideration was $7,700 in cash including
cash payments aggregating approximately $503 to certain holders of Ultranet
stock options and RCN Common Stock with a fair value of approximately $26,200 at
the time of issuance. Additionally, the purchase price includes approximately
$1,900 representing the fair value of UltraNet stock options which were
converted to RCN stock options in connection with the acquisition.The
transaction was accounted for by the purchase method of accounting.
RCN contributed to RCN-BECOCOM approximately 30% of the subscribers acquired
in the acquisition of Ultranet.
Goodwill of approximately $31,100 was recorded in connection with the
acquisition of Ultranet and contribution to RCN-BECOCOM. Such goodwill includes
the value assigned to certain current products and technologies, primarily
residential dial-up and high speed Internet access. Such goodwill is being
amortized over approximately four years.
<PAGE>
In connection with the acquisitions of Erols and UltraNet, RCN has allocated
$13,228 for Erols and $5,065 for UltraNet to in-process research and development
("IPR&D"). Specifically, four projects were identified which qualified as IPR&D
by definition of not having achieved technological feasibility and representing
technology which at the point of acquisition offered no alternative use than the
defined project. The fair value of the IPR&D projects associated with these
acquisitions is based upon a discounted cash flow analysis modified to represent
only that portion of the project associated with completed research and
developments efforts at the date of acquisition. The IPR&D valuation charge was
measured by the stage of completion method. The expected completion percentages
are estimated based on the latest available financial information at the date of
acquisition and were established on a project by project basis primarily
calculated by dividing the costs incurred to date by the total expected R&D
expenses specific to the project. The significant assumptions utilized by
management were as follows:
Cash flow projections, utilizing risk adjusted discount rates of between 35% and
40% for Erols projects, commenced in 1998, and were expected to grow
significantly in 1999 and 2000. Cash flow projections, utilizing risk adjusted
discount rates of between 30% and 33% for UltraNet projects, were expected to
commence in 1999, growing significantly in 2000 and 2001. The IPR&D projections
are founded on significant assumptions with regard to timing of market entrance,
levels of penetration, and costs of provisioning.
RCN is constructing new telecommunications networks. The margins on products
expected to result from acquired in-process technologies in some cases represent
higher margins than RCN's margins on existing products primarily due to the
efficiencies in delivering multiple products, including bundled-service
offerings, over a single state of the art high capacity fiber optic network.
For both the Erols and the UltraNet acquisitions, RCN identified the R&D
development projects to include -
- Cable Modem Internet access for subscribers, consisting of projects to
develop the hardware, systems and software to permit subscribers to be offered
high-speed Internet access through direct cable connection. The remaining
development effort is concerned with technical standards for this service and
with the design and integration of this product into RCN's cable and fiber
optic network. RCN management estimated that this project for both
acquisitions was approximately 70% complete and that each had approximately
$250 of direct development expense remaining to be spent in 1998 and 1999,
with planned revenues from this service expected to begin thereafter.
-Internet Telephony, representing projects to develop the potential for dial-
up telephone service through the Internet. This service area presented
significant technical challenges as well as political, commercial and market
challenges to be faced before service could be offered to subscribers. Since
at the acquisition date neither hardware nor systems have been acquired or
developed in support of this new product, a high degree of development
activity remains. RCN management estimated that this project for both
acquisitions was only approximately 20% complete and that the remaining
development cost at the date of acquisition was approximately $1,000 in 1998,
$2,000 in 1999 and $5,000 in 2000 with revenues from this service expected to
begin thereafter.
- E-Commerce Systems, consisted of the companies' efforts to develop a
suitable system that would permit subscribers to conduct commercial activities
over the Internet. Following evaluation of commercially-available packages,
none were capable of meeting subscriber needs and development of the suitable
system was undertaken. RCN management estimated that the project for both
acquisitions was approximately 90% complete and that each had about $25 of
development expense remaining to be spent in 1998 with revenues from this
service expected to begin thereafter.
-High-speed shared office Internet access, representing a blending of fiber
optic and Internet networking technologies, was under development as a
package to be offered to commercial clients. While the technical challenges
<PAGE>
were still being addressed at the acquisition date, there was no certainty
that this system would result in a competitive product offering in the market.
The management of RCN estimated that the project for both acquisitions was
approximately 75% complete and that each had less that $25 of development
expense remaining to be spent in 1998 with revenues from this service
expected to begin thereafter.
Relative to the qualifiation of these projects as IPR&D projects under
the meaning within Statement of Financial Accounting Standards No. 2
("SFAS 2"), each represented at the date of acquisition a development
project associated with new and uncertain technology that was incomplete and
had not reached technical feasibility. Further, the technology under
development in each of these areas was not seen to present opportunities
for alternative future use should the comtemplated development project
fail to achieve completion. In each of the above projects, the uncertainty
associated with each, in the absence of a successful product introduction,
may result in the possible abandonment of the project and the loss of both
invested development funds and the profit contributions that such projects
were expected to bring to the business as a whole.
In June 1998, the Company acquired Interport Communications Corp. ("Interport").
The total approximate consideration for the transaction was $1,300 in cash and
RCN Common Stock with a fair value of approximately $8,500 at the time of
issuance. The transaction was accounted for by the purchase method of
accounting. Approximately $7,200 has been allocated to goodwill. Such goodwill
is being amortized over approximately four years.
In June 1998, the Company acquired Lancit Media Entertainment, Ltd. ("Lancit"),
a producer of high quality children's programming. The total approximate
consideration for the transaction was $400 in cash and RCN Common Stock with a
fair value of approximately $7,400 at the time of issuance. The transaction was
accounted for by the purchase method of accounting. Approximately $9,500 has
been allocated to goodwill. Such goodwill is being amortized over approximately
five years.
In July 1998, the Company acquired Javanet, Inc. ("Javanet"). The total
approximate consideration for the transaction was $3,700 in cash and RCN Common
Stock with a fair value of approximately $13,400 at the time of issuance. The
transaction was accounted for by the purchase method of accounting.
Approximately $14,800 has been allocated to goodwill. Such goodwill is being
amortized over approximately three years.
RCN contributed to RCN-BECOCOM approximately 6% of the subscribers acquired in
the acquisition of Javanet.
In August 1996, FNY Holding Company, Inc., formerly a wholly-owned
subsidiary of C-TEC ("FNY") acquired from Kiewit Telecom Holdings, C-TEC's
controlling shareholder at the time, an 80.1% interest in Freedom New York, LLC
and all related rights and liabilities ("Freedom") for cash consideration of
approximately $29,000. In addition, FNY assumed liabilities of approximately
$7,600. (In March 1996, Freedom had acquired the wireless cable television
business of Liberty Cable Television). The acquisition was accounted for as a
purchase, and accordingly, Freedom is included in the Company's consolidated
financial statements since September 1996. The full fair value of assets
acquired and liabilities assumed has been reflected in the Company's financial
statements with minority interest reflecting the separate 19.9% ownership.
FNY allocated the purchase price paid on the basis of the fair value of
property, plant and equipment and identifiable intangible assets acquired and
liabilities assumed. There was no excess cost over fair value of net assets
acquired.
Contingent consideration of $15,000 was payable in cash and was to be based upon
the number of net eligible subscribers, as defined in the Acquisition Agreement,
in excess of 16,563 delivered to the Company. The contingent consideration is
not included in the acquisition cost total above but was to have been recorded
when and if the future delivery of subscribers occurred. In addition, FNY paid
$922 to Kiewit Telecom Holdings which represents compensation for foregone
interest on the amount invested by Kiewit Telecom Holdings in Freedom. This
amount has been charged to operations.
<PAGE>
In March 1997, the Company paid $15,000 in full satisfaction of contingent
consideration payable for the original acquisition of Freedom. Additionally,
pursuant to the terms of the Freedom Operating Agreement, the assets of RCN
Telecom Services of New York, Inc., a wholly-owned subsidiary of RCN, were
contributed to Freedom, in which the Company had an 80.1% ownership interest
prior to such contribution. Subsequent to this contribution, the Company paid
$15,000 to acquire the minority ownership of Freedom. These amounts were
primarily allocated to excess cost over fair value of net assets acquired and
are being amortized over a period of approximately six years. The Company also
paid $10,000 to terminate a marketing services agreement between Freedom and an
entity controlled by Freedom's former minority owners. The Company charged this
amount to operations for the quarter ended March 31, 1997.
The following unaudited pro forma summary presents information as if the
acquisitions of Erols, Ultranet, Interport, Javanet and Lancit had occurred at
the beginning of 1997 and as if the acquisition of Freedom had occurred at the
beginning of 1996. The pro forma information is provided for information
purposes only. It is based on historical information and does not necessarily
reflect the actual results that would have occurred nor is it necessarily
indicative of future results of operations of the consolidated entities.
<TABLE>
<CAPTION>
Years Ended
December 31, 1998 1997 1996
--------- --------- ---------
<S> <C> <C> <C>
(Unaudited)
Proforma Data:
Sales $ 226,272 $ 159,611 $110,116
(Loss) from continuing operations before
extraordinary items $(220,271) $(106,338) $(20,189)
Net (loss) $(220,912) $(109,548) $(16,807)
Earnings Per Share:
(Loss) from continuing operations before
extraordinary items $ (3.53) $ (1.80) $ (.37)
Net (loss) $ (3.54) $ (1.86) $ (.31)
</TABLE>
5. SHORT-TERM INVESTMENTS
Short-term investments, stated at cost, include the following at December 31,
1998 and 1997:
<TABLE>
<CAPTION>
1998 1997
-------- --------
<S> <C> <C>
Federal Agency notes $126,580 $110,966
Commercial Paper 85,234 43,859
Corporate debt securities 417,378 222,785
Certificates of deposit 14,997 37,993
U.S. Treasury notes 84,399 -
Asset backed securities 163,860 -
-------- --------
Total $892,448 $415,603
======== ========
</TABLE>
At December 31, 1998, short term investments with an amortized cost of $606,493
have contractual maturities of one to three years. All remaining short term
investments have contractual maturities under one year.
<PAGE>
6. PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment consists of the following at December 31,
1998 1997
---------- ----------
Telecommunications plant $398,746 $234,628
Computer equipment 43,439 3,841
Buildings, leasehold improvements and land 22,653 16,607
Furniture, fixtures and vehicles 31,430 24,077
Construction in process 104,161 28,195
Other 1,250 411
--------- --------
Total property, plant and equipment 601,679 307,759
Less accumulated depreciation (153,304) (107,419)
--------- --------
Property, plant and equipment, net $ 448,375 $200,340
========= ========
Depreciation expense was $39,000, $24,257 and $19,372 for the years ended
December 31, 1998, 1997 and 1996, respectively.
7. INVESTMENTS AND JOINT VENTURES
Investments at December 31, are as follows:
1998 1997
--------- --------
Megacable $ 67,978 $ 70,363
Starpower Communications, LLC 61,495 -
Other 56 61
-------- --------
Total Investments $129,529 $ 70,424
======== ========
At December 31, 1998 and 1997, the Company has a 50% interest in Starpower
and a 40% interest in Megacable. The Company accounts for these investments
on the equity method.
a. RCN-BECOCOM
The Company and Boston Edison Company ("BECO"), through wholly-owned
subsidiaries, are 51% and 49% partners (see Note 20), respectively, in RCN-
BECOCOM, a joint venture with a term expiring in the year 2060. RCN-BECOCOM was
organized to own and operate an advanced fiber optic telecommunications network
and to provide, in the market in and around Boston, Massachusetts, voice, video
and data services, as well as the communications support component of energy
related customer services offered by BECO.
RCN manages the business of RCN-BECOCOM pursuant to the terms of a management
agreement with an initial term expiring on December 31, 2001.
BECO has transferred to RCN-BECOCOM, an indefeasible right of use of certain
of its network facilities through the year 2060.
During 1998, the Company contributed to RCN-BECOCOM the Internet business in the
RCN-BECOCOM market, acquired in acquisitions, including approximately 30% of the
subscribers acquired from UltraNet, 1% of the subscribers acquired from Erols
and 6% of the subscribers acquired from Javanet. The total value of the Internet
businesses contributed to the joint venture was agreed to in arms-length
negotiations between the joint venture partners, based on the proportion of
subscribers contributed to RCN-BECOCOM to total subscribers acquired from
UltraNet, Erols and Javanet, respectively.
BECO has the right to convert its ownership interest in RCN-BECOCOM into RCN
Common stock pursuant to specific terms and conditions.
<PAGE>
b. Starpower
The Company and PEPCO, through wholly-owned subsidiaries, are each 50% partners
in Starpower, a joint venture with a perpetual term.
Starpower was formed to construct, own, lease, operate and market a network
for the selling of voice, video, data and other telecommunications services
to all potential commercial and residential customers in the Washington, D.C.
Market.
A subsidiary of RCN provides support services including customer service,
billing, marketing and certain administrative, accounting and technical support
services, each of which are provided at cost.
During 1998, the Company contributed to Starpower the Internet business in the
Starpower market, acquired in the acquisition of Erols, including approximately
60% of the subscribers acquired from Erols, and related unearned revenue. The
total value of the Internet business contributed to the joint venture was agreed
to in arms-length negotiations between the joint venture partners, based on the
proportion of subscribers contributed to Starpower to total subscribers acquired
from Erols.
c. Megacable
The basis of the Company's investment in Megacable exceeded its underlying
equity in the net assets of Megacable when acquired in 1995 by approximately
$94,000 which excess is being amortized on a straight-line basis over 15 years.
At December 31, 1998, the unamortized excess over the underlying equity in the
net assets was $69,605. The Company recorded its proportionate share of (losses)
and amortization of excess cost over net assets of ($2,385), ($3,869) and
($2,190) in 1998, 1997 and 1996, respectively.
Effective January 1, 1997 since the three-year cumulative rate of inflation at
December 31, 1996 exceeded 100%, Mexico is being treated for accounting purposes
under Statement of Financial Accounting Standards No. 52 - "Foreign Currency
Translation", as having a highly inflationary economy through December 31, 1998.
As a result, the financial statements of Megacable are remeasured as if the
functional currency were the U.S. dollar. The remeasurement of the Mexican peso
into U.S. dollars creates translation adjustments which are included in net
income. Exchange gains (losses) of $(768), $(12), and $247 in 1998, 1997, and
1996, respectively, including translation losses in 1998 and 1997, are included
in the respective statements of operations through the Company's proportionate
share of losses of Megacable.
The following table reflects the summarized financial position and results of
operations of Megacable as of and for the years ended December 31, 1998 and
1997:
(U.S. Dollars)
1998 1997
-------- --------
Assets $ 96,410 $ 76,323
Liabilities $ 18,629 $ 8,347
Stockholders' equity $ 77,781 $ 67,976
Sales $ 37,480 $ 30,441
Costs and expenses $ 27,624 $ 23,389
Foreign currency transaction gains (losses) $ (1,921) $ (31)
Net income $ 9,739 $ 6,653
<PAGE>
8. INTANGIBLE ASSETS
Intangible assets consist of the following at December 31,
<TABLE>
<CAPTION>
Amortization period 1998 1997
------------------- -------- --------
<S> <C> <C> <C>
Franchises and subscriber lists 2-10 years $ 85,984 $ 79,273
Acquired current products/technologies 4 years 72,629 -
Noncompete agreements 5-8 years 11,100 11,209
Goodwill 3-10 years 57,447 42,787
Building access rights 3-4 years 15,295 15,197
Other intangible assets 1-15 years 24,576 1,469
-------- --------
Total intangible assets 267,031 149,935
Less accumulated amortization (97,313) (53,388)
-------- --------
Intangible assets, net $169,718 $ 96,547
======== ========
</TABLE>
Amortization expense charged to operations in 1998, 1997 and 1996 was $50,088,
$28,948 and $19,509, respectively.
9. DEFERRED CHARGES AND OTHER ASSETS
Deferred charges and other assets consist of the following at December 31:
<TABLE>
<CAPTION>
1998 1997
-------- --------
<S> <C> <C>
Note and interest receivable - Mazon Corporativo, S.A. de C.V. $18,373 $17,682
Debt issuance costs 27,112 19,743
Prepaid professional services - 938
Other 1,771 2,675
------- -------
Total $47,256 $41,038
======= =======
</TABLE>
10. DEBT
a. Long-term debt
Long-term debt outstanding at December 31 is as follows:
1998 1997
---------- ---------
Revolving Credit Agreement $ - $ 3,000
Term Credit Agreement 100,000 100,000
Senior Notes 10% due 2007 225,000 225,000
Senior Discount Notes 11 1/8% due 2007 398,827 358,103
Senior Discount Notes 9.8% due 2008 382,216 -
Senior Discount Notes 11% due 2008 158,573 -
Capital Leases 2,517 -
---------- ---------
Total 1,267,133 686,103
Due within one year 4,097 -
---------- ---------
Total Long-Term Debt $1,263,036 $ 686,103
========== =========
The 11% Senior Discount Notes were issued under an indenture dated June 24,
1998 (the "11% Indenture") between the Company and The Chase Manhattan Bank,
as Trustee. The 11% Senior Discount Notes are general senior obligations of
the Company, limited to $256,755 aggregate principal amount at maturity and
will mature on July 1, 2008. The 11% Senior Discount Notes were issued at a
<PAGE>
discount to yield gross proceeds of $150,000. The 11% Senior Discount Notes
will not bear cash interest prior to January 1, 2003.
The 11% Senior Discount Notes are redeemable, in whole or in part, at any time
on or after July 1, 2003, at the option of the Company. The 11% Senior
Discount Notes have redemption prices starting at 105.5% of the principal
amount at maturity and declining to 100% of the principal amount at maturity,
plus any accrued interest.
The 9.8% Senior Discount Notes were issued under an indenture dated February
6, 1998 (the "9.8% Indenture") between the Company and The Chase Manhattan
Bank, as Trustee. The 9.8% Senior Discount Notes are general senior
obligations of the Company, limited to $567,000 aggregate principal amount at
maturity and will mature on February 15, 2008. The 9.8% Senior Discount Notes
were issued at a discount to yield gross proceeds of $350,588. The 9.8%
Senior Discount Notes will not bear cash interest prior to February 15, 2003.
The 9.8% Senior Discount Notes are redeemable, in whole or in part, at any time
on or after February 15, 2003 at the option of the Company. The 9.8% Senior
Discount Notes have redemption prices starting at 104.9% of the principal
amount at maturity and declining to 100% of the principal amount at maturity,
plus any accrued interest.
In October 1997, pursuant to Rule 144A of the Securities Exchange Act of 1933,
the Company completed an offering of 10% Senior Notes with an aggregate
principal amount of $225,000 and 11 1/8% Senior Discount Notes with an aggregate
principal amount at maturity of $601,045, both due 2007, to qualified
institutional buyers as defined in Rule 144A. The Senior Discount Notes were
issued at a discount and generated gross proceeds to the Company of $350,000. In
December 1997, the Company commenced an SEC registered Exchange Offer of its 10%
Senior Notes due 2007, Series B for any and all outstanding 10% Senior Notes due
2007, Series A and its 11 1/8% Senior Discount Notes due 2007, Series B for any
and all outstanding 11 1/8% Senior Discount Notes due 2007 Series A. The
Exchange Offer closed in January of 1998. All outstanding notes were exchanged.
The 10% Senior Notes were issued under an indenture dated October 17, 1997 (the
"10% Indenture") between the Company and The Chase Manhattan Bank, as Trustee.
The 10% Senior Notes are general senior obligations of the Company which mature
on October 15, 2007 and are collateralized by a pledge of the Escrow Account
representing funds that, together with the future proceeds from the investment
thereof, will be sufficient to pay interest on the 10% Senior Notes for six
scheduled interest payments. Interest on the 10% Senior Notes is payable in
cash semi-annually in arrears on each April 15 and October 15, commencing
April 15, 1998.
The 10% Senior Notes are redeemable, in whole or in part, at any time on or
after October 15, 2002 at the option of the Company. The 10% Senior Notes have
redemption prices starting at 105% of the principal amount and declining to 100%
of the principal amount, plus any accrued interest.
The 11 1/8% Senior Discount Notes were issued under an indenture dated October
17, 1997 (the "11 1/8% Indenture") between the Company and The Chase Manhattan
Bank, as Trustee. The 11 1/8% Senior Discount Notes are general senior
obligations of the Company, limited to $601,045 aggregate principal amount at
maturity and will mature on October 15, 2007. The 11 1/8% Senior Discount Notes
were issued at a discount to yield gross proceeds of $350,000. The 11 1/8%
Senior Discount Notes will not bear cash interest prior to October 15, 2002.
The 11 1/8% Senior Discount Notes are redeemable, in whole or in part, at any
time on or after October 15, 2002 at the option of the Company. The 11 1/8%
Senior Discount Notes have redemption prices starting at 105.562% of the
principal amount at maturity and declining to 100% of the principal amount at
maturity, plus any accrued interest.
The 9.8% Senior Discount Notes, the 11% Senior Discount Notes, the 10% Senior
Notes and the 11 1/8% Senior Discount Notes contain certain covenants that,
<PAGE>
among other things, limit the ability of the Company and its subsidiaries to
incur indebtedness, pay dividends, prepay subordinated indebtedness, repurchase
capital stock, engage in transactions with stockholders and affiliates, create
liens, sell assets and engage in mergers and consolidations. At December 31, the
Company was restricted from making any dividend payments under the terms of the
Indentures.
Certain subsidiaries of the Company, including RCN Cable, have in place a
$125,000 credit agreement comprised of two credit facilities. The first is a
five year revolving credit facility in the amount of $25,000 which provides
credit availability through June 30, 2002. Revolving loans may be repaid and
reborrowed from time to time. The second is a term credit facility in the amount
of $100,000 which is to be repaid over six years in quarterly installments from
September 30, 1999 through June 30, 2005. Interest only is due through September
29, 1999. The interest rate is based on either a LIBOR or Base Rate option, at
the election of the Company (6.55% at December 31, 1998). The credit agreement
is collateralized by a pledge by the Company of its stock in RCN Cable and may,
in the future, be collateralized by pledges of stock of subsidiaries of the
Company. At December 31, 1998, the entire $100,000 term credit facility is
outstanding and none of the revolving credit facility is outstanding. RCN Cable
used a portion of its initial borrowings under the credit facilities to prepay
higher priced Senior Secured Notes. This early extinguishment of the Senior
Secured Notes in 1997 resulted in an extraordinary charge of $3,210, net of
taxes of $1,728. The credit agreement contains restrictive covenants which,
among other things, require the Company to maintain certain debt to cash flow
and interest coverage ratios and place certain limitations on additional debt
and investments. The Company does not believe that these covenants materially
restrict its activities.
Contractual maturities of long-term debt are as follows:
Year Ending December 31, Aggregate Amounts
1999 $ 3,750
2000 $11,250
2001 $16,250
2002 $17,500
2003 $19,374
b. Short-term debt
At December 31, 1998, the Company had a line of credit for $10,000 at
Libor plus 1% (6.07% at December 31, 1998). Short-term unsecured borrowings may
be made under this line of credit. The amounts available under this line of
credit are reduced by outstanding letters of credit ($3,810 at December
31,1998). Therefore, at December 31, 1998, the amount available under this line
of credit was $6,190. This line of credit is cancelable at the option of the
banks or the Company. There are no commitment or facility fees associated with
maintaining availability of the above-mentioned line of credit.
<PAGE>
11. INCOME TAXES
The (benefit) provision for income taxes is reflected in the Consolidated
Statements of Operations as follows:
1998 1997 1996
---------- -------- --------
Current:
Federal $ - $ (11,795) $ 5,730
State 1,149 1,449 1,102
--------- --------- -------
Total Current 1,149 (10,346) 6,832
--------- -------- --------
Deferred:
Federal (4,410) (10,161) (4,751)
State (1,737) (342) (1,000)
--------- -------- -------
Total Deferred (6,147) (10,503) (5,751)
--------- ------- -------
Amortization of ITC - - (102)
--------- -------- -------
Provision (benefit) for income taxes:
Before extraordinary item (4,998) (20,849) 979
Extraordinary item - (1,728) -
Cumulative effect of change in
accounting principle - - -
--------- --------- -------
Total (benefit) provision for income taxes $ (4,998) $ (22,577) $ 979
========= ========= =======
At December 31, 1998 and 1996, the Company had tax related balances due to
affiliates of $150 and $817 respectively.
At December 31, 1997 the Company had tax related balances due from affiliates
of $3,186.
Temporary differences that give rise to a significant portion of deferred tax
assets and liabilities at December 31, are as follows:
1998 1997
---------- ----------
Net operating loss carryforwards $ 78,963 $ 10,078
Alternative minimum tax credits 85 167
Employee benefit plans 746 1,031
Reserve for bad debt 1,794 844
Start-up costs 825 586
Investment in unconsolidated entity 6,265 3,985
Accruals for nonrecurring charges and
contract settlements 909 2,368
Deferred revenue 10,401 -
Other, net 6,734 1,823
--------- ---------
Total deferred tax assets 106,722 20,882
--------- ---------
Property, plant and equipment (18,177) (14,759)
Intangible assets (6,618) (11,253)
All other (2,428) (1,257)
--------- ---------
Total deferred liabilities (27,223) (27,269)
--------- ---------
Subtotal 79,499 (6,387)
Valuation allowance (82,068) (8,404)
-------- ---------
Total deferred taxes $ (2,569) $(14,791)
======== ========
<PAGE>
During 1998, the Company generated federal net operating losses in the amount
of $127,523 and acquired separate return limitation year (SRLY) net operating
losses from the 1998 acquisitions of $24,052, which results in a deferred tax
asset totaling $53,051. In the opinion of management, the Company is not
certain of the realization of all of its deferred tax assets. Thus, a valuation
allowance has been provided against the net federal deferred tax asset. A
valuation allowance has also been provided, as in past years, against the state
net operating losses which, in the opinion of management, are also uncertain as
to their realization.
The net change in the valuation allowance for deferred tax assets during 1998
was an increase of $73,664.
Net operating losses will expire as follows:
Federal State
1999-2013 $ 23,756 $ 291,868
2017-2018 136,037 4,897
--------- ---------
Total $ 159,793 $ 296,765
========= =========
The provision (benefit) for income taxes is different from the amounts computed
by applying the U.S. statutory federal tax rate of 35%. The differences are as
follows:
<TABLE>
<CAPTION>
For the Years Ended
December 31,
1998 1997 1996
----------------------------
<S> <C> <C> <C>
(Loss) before (benefit) provision for
income taxes and extraordinary item $(210,440) $(70,030) $(5,010)
========= ======== =======
Federal income tax benefit at statutory rate $ (73,654) $(24,511) $(1,753)
State income taxes net of federal income tax benefit (382) 719 66
Investment tax credits amortized - - (102)
Federal valuation allowance 45,035 - -
Write down of acquired R&D costs 6,403 - -
Amortization of goodwill 5,580 830 779
Contribution to subsidiary - Goodwill 3,744 - -
Estimated nondeductible expenses 10,472 1,913 1,564
Adjustment to prior year accrual (25) (197) 421
Other, net (2,171) 397 4
-------- ------- -------
Total (benefit) provision for income taxes $ (4,998) $(20,849) $ 979
========= ======== =======
</TABLE>
12. STOCKHOLDERS' EQUITY AND STOCK PLANS
The Company has authorized 100,000,000 shares of $1 par value common stock and
200,000,000 shares of $1 par value Class B nonvoting common stock. The Company
also has authorized 25,000,000 shares of $1 par value preferred stock. At
December 31, 1998, 65,477,493 shares of common stock are issued and 64,920,493
shares of common stock are outstanding. At December 31, 1997, 54,989,870
shares of common stock are issued and outstanding.
In June 1998, the Company completed a public offering of 6,794,500 shares of RCN
Common Stock, par value $1.00 per share, with a price to the Public of $19.50
per share. Of the 6,794,500 shares offered, 6,098,355 were offered by the
Company and 696,145 shares were offered by a Selling Stockholder. The net
proceeds to the Company were approximately $112,866 after deducting issuance
costs.
In March 1998, the Company's Board of Directors approved a two-for-one stock
split, payable in the form of a 100% stock dividend. The record date for the
stock dividend was March 20, 1998. Stockholders of record at the market close on
<PAGE>
that date received an additional share of RCN common stock for each share
held. The distribution date for the stock dividend was April 3, 1998. All
share and per share data, stock option data, and market prices of the Company's
common stock have been restated to reflect this stock dividend.
In connection with the Distribution, the Company Board adopted the 1997 RCN
Corporation Stock Option Plan ("the 1997 Plan"), designed to provide equity
based compensation opportunities to key employees when shareholders of the
Company have received a corresponding benefit through appreciation in the value
of RCN Common Stock.
The 1997 Plan contemplates the issuance of incentive stock options, as well as
stock options that are not designated as incentive stock options, performance-
based stock options, stock appreciation rights, performance share units,
restricted stock, phantom stock units and other stock-based awards
(collectively, "Awards"). Up to 5,000,000 shares of Common Stock, plus 3,040,100
shares of Common Stock issuable in connection with the Distribution related
option adjustments, may be issued pursuant to Awards granted under the 1997
Plan.
Unless earlier terminated by the Company Board, the 1997 Plan will expire on the
tenth anniversary of the Distribution. The Company Board or the Compensation
Committee may, at any time, or from time to time, amend or suspend and, if
suspended, reinstate, the 1997 Plan in whole or in part.
Prior to the Distribution, certain employees of RCN were granted stock option
awards under C-TEC's stock option plans. In connection with the Distribution,
3,040,100 options covering Common Stock were issued. Each C-TEC option was
adjusted so that each holder would currently hold options to purchase shares of
CTE Common Stock, RCN Common Stock and Cable Michigan Common Stock. The number
of shares subject to, and the exercise price of, such options were adjusted to
take into account the Distribution and to ensure that the aggregate intrinsic
value of the resulting RCN, Cable Michigan and CTE options immediately after the
Distribution was equal to the aggregate intrinsic value of the C-TEC options
immediately prior to the Distribution.
Information relating to stock options is as follows:
Weighted
Average
Number of Exercise
Shares Price
--------- --------
Outstanding December 31, 1995 $ 2,408,000
Granted 190,000
Exercised 58,000
Canceled 272,000
-----------
Outstanding December 31, 1996 2,268,000 $ 7.10
Granted 4,862,100 $14.31
Exercised 20,000 $ 8.07
Canceled 3,000 $ 8.36
-----------
Outstanding December 31, 1997 7,107,100 $11.95
Granted 2,527,424 $14.81
Exercised 408,389 $ 4.82
Canceled 373,993 $15.22
-----------
Outstanding December 31, 1998 $ 8,852,142 $12.96
===========
Shares exercisable December 31, 1998 $ 2,886,222 $ 8.87
<PAGE>
The following table summarizes stock options outstanding and exercisable at
December 31, 1998:
<TABLE>
<CAPTION>
Stock Options
Stock Options Outstanding Exercisable
------------------------------------------------------ -----------------------------------
Weighted Average
Range of Exercise Remaining Weighted Average Weighted Average
Prices Shares Contractual Life Exercise Price Shares Exercise Price
- ------------------------------------------------------------------------------- -----------------------------------
<S> <C> <C> <C> <C> <C>
1.30-6.50 665,717 8.3 $ 3.43 481,102 $ 3.24
6.58-8.40 2,744,800 6.4 $ 7.35 1,596,920 $ 7.13
12.00-19.25 4,466,125 9.0 $ 15.36 772,200 $ 15.32
20.13-29.81 975,500 9.3 $ 24.44 36,000 $ 22.75
---------- --- ---------
8,852,142 8.2 2,886,222
</TABLE>
No compensation expense related to employee stock option grants was recorded in
1998 as the option exercise prices were equal to fair market value on the date
granted.
Pro forma information regarding net income and earnings per share is required by
SFAS 123, and has been determined as if the Company had accounted for its stock
options under the fair value method of SFAS 123. The fair value for these
options was estimated at the date of grant using a Black Scholes option pricing
model with weighted average assumptions for dividend yield of 0% for 1998, 1997
and 1996; expected volatility of 78.9% for 1998, 38.6% prior to the Distribution
and 49.8% subsequent to the Distribution for 1997 and 39.5% for 1996; risk-free
interest rate of 4.72%, 6.52% and 5.95% for 1998, 1997 and 1996, respectively;
and expected lives of 5 years for 1998, 1997 and 1996.
The weighted-average fair value of options granted during 1998 was $17.53.
For purposes of pro forma disclosures, the estimated fair value of the options
is amortized to expense over the options' vesting period. The Company's pro
forma net earnings and earnings per share were as follows:
<TABLE>
<CAPTION>
1998 1997 1996
--------- -------- ------
<S> <C> <C> <C>
Net earnings - as reported $(205,442) $(52,391) $(5,989)
Net earnings - pro forma $(214,586) $(54,419) $(6,612)
Basic and diluted earnings per share - as reported $ (3.36) $ (0.95) $ (0.11)
Basic and diluted earnings per share - pro forma $ (3.51) $ (0.99) $ (0.12)
</TABLE>
The Company has an Executive Stock Purchase Plan ("ESPP"). Under the ESPP,
participants may purchase shares of RCN Common Stock in an amount of between 1%
and 20% of their annual base compensation and between 1% and 100% of their
annual bonus compensation provided, however, that in no event shall the
participant's total contribution exceed 20% of the sum of their annual
compensation, as defined by the ESPP. Participant's accounts are credited
with the number of share units derived by dividing the amount of the
participant's contribution by the average price of a share of RCN Common
Stock at approximately the time such contribution is made. The share units
credited to a participant's account do not give such participant any rights as a
shareholder with respect to, or any rights as a holder or record owner of, any
shares of RCN Common Stock. Amounts representing share units that have been
credited to a participant's account will be distributed, either in a lump sum or
in installments, as elected by the participant, following the earlier of the
participant's termination of employment or three calendar years following the
date on which the share units were initially credited to the participant's
account. It is anticipated that, at the time of distribution, a participant will
receive one share of RCN Common Stock for each share unit being distributed.
Following the crediting of each share unit to a participant's account, a
matching share of Common Stock is issued in the participant's name. Each
matching share is subject to forfeiture as provided in the ESPP. The
issuance of matching shares will be subject to the participant's execution of an
escrow agreement. A participant will be deemed to be the holder of, and may
exercise all the rights of a record owner of, the matching shares issued to such
participant while such matching shares are held in escrow.
<PAGE>
Prior to the Distribution, certain participants in the ESPP were participants
in a C-TEC ESPP, with terms substantially similar to the RCN ESPP. Shares of
restricted C-TEC Common Stock awarded under the C-TEC ESPP and share units
awarded under the C-TEC ESPP that relate to C-TEC Common Stock were adjusted
so that following the Distribution, each such participant was credited with
an aggregate equivalent value of restricted shares of common stock of
Commonwealth Telephone Enterprises, the Company and Cable Michigan.
Amounts contributed under the ESPP will be subject to the claims of the
Company's creditors and creditors of certain affiliates of the Company.
The number of shares which may be distributed under the RCN ESPP as matching
shares or in payment of share units is 500,000. At December 31, 1998, there
were 147,446 RCN ESPP shares arising from participants' contributions and
147,452 matching shares. The Company recognizes the cost of the matching shares
over the vesting period. At December 31, 1998, deferred compensation cost
relating to matching shares was $1,027. Expense recognized in 1998 and 1997 was
$615 and $80, respectively. Matching shares are included in weighted average
shares outstanding for purposes of computing earnings per share.
13. PENSIONS AND EMPLOYEE BENEFITS
Prior to the Distribution, the Company's financial statements reflect the costs
experienced for its employees and retirees while included in the C-TEC plans.
Through December 31, 1996, substantially all employees of the Company were
included in a trusteed noncontributory defined benefit pension plan, maintained
by C-TEC. Upon retirement, employees are provided a monthly pension based on
length of service and compensation. C-TEC funds pension costs to the extent
necessary to meet the minimum funding requirements of ERISA. Substantially, all
employees of C-TEC's Pennsylvania cable television operations (formerly Twin
County Trans Video, Inc.) were covered by an underfunded plan which was merged
into C-TEC's overfunded plan on February 28, 1996.
The information that follows relates to the entire C-TEC noncontributory defined
benefit plan. The components of C-TEC's pension cost are as follows:
1996
--------
Benefits earned during the year (service cost) $ 2,365
Interest cost on projected benefit obligation 3,412
Actual return on plan assets (3,880)
Other components - net (1,456)
-------
Net periodic pension cost $ 441
=======
The following assumptions were used in the determination of the consolidated
projected benefit obligation and net periodic pension cost:
December 31,
1996
------
Discount rate 7.5%
Expected long-term rate of return on plan assets 8.0%
Weighted average long-term rate of compensation increases 6.0%
The Company's allocable share of the consolidated net periodic pension costs,
based on the Company's proportionate share of consolidated annualized salaries
as of the valuation date, was approximately $158 for 1996. This amount is
reflected in operating expenses. As discussed below, no pension cost (credit)
was recognized in 1997 or 1998.
In connection with the restructuring, C-TEC completed a comprehensive study of
its employee benefit plans in 1996. As a result of this study, effective
<PAGE>
December 31, 1996, in general, employees of the Company no longer accrue
benefits under the defined benefit pension plans and became fully vested in
their benefit accrued through that date. C-TEC notified affected participants in
December 1996. In December 1996, C-TEC allocated pension plan assets of $6,984
and the related liabilities to a separate plan for employees who no longer
accrue benefits after lump sum distributions. The allocation of assets and
liabilities resulted in a curtailment/settlement gain of $4,292. The Company's
allocable share of this gain was $3,437. This gain results primarily from the
reduction of the related projected benefit obligation. The curtailed plan has
assets in excess of the projected benefit obligation. Such excess amounts to
$3,917 which, along with unrecognized items of $1,148 results in prepaid pension
cost of $2,769, which is included in "Prepayments and other" in the accompanying
1997 consolidated balance sheet. The net assets from the curtailed plan were
distributed to the Company in 1998.
C-TEC sponsors a 401(k) savings plan which, prior to the Distribution, covered
substantially all employees of the Company who were not covered by collective
bargaining agreements. Contributions made by the Company to the 401(k) plan were
based on a specific percentage of employees contributions. Contributions charged
to expense were $354 in 1996. Contributions charged to expense in 1997 prior to
the Distribution were $515.
In connection with the Distribution, RCN established a 401(k) savings plan that
will also qualify as an ESOP (the "ESOP"). Contributions charged to expense were
$1,255 and $306 in 1998 and 1997, respectively. Additionally, expense related to
contributions accrued under the ESOP for 1998 was approximately $1,000.
The Company provides certain postemployment benefits to former or inactive
employees of the Company who are not retirees. These benefits are primarily
short-term disability salary continuance. The Company accrues the cost of
postemployment benefits over employees' service lives. The Company uses the
services of an enrolled actuary to calculate the expense. Prior to the
Distribution, C-TEC allocated the cost of these benefits to the Company based on
the Company's proportionate share of consolidated annualized salaries. The
Company reimbursed C-TEC for its allocable share of the consolidated
postemployment benefit cost. The net periodic postemployment benefit cost
was approximately $543, $458 and $539 in 1998, 1997 and 1996, respectively.
14. COMMITMENTS AND CONTINGENCIES
a. The Company had various purchase commitments at December 31, 1998 related to
its 1999 construction budget.
b. Total rental expense, primarily for office space and equipment, was
$10,475, $3,505 and $3,632 for 1998, 1997 and 1996, respectively. At
December 31, 1998, rental commitments under noncancelable leases, excluding
annual pole rental commitments of approximately $807 that are expected to
continue indefinitely, are as follows:
Year Aggregate Amounts
1999 $ 8,104
2000 $ 6,667
2001 $ 7,805
2002 $ 5,304
2003 $ 4,976
Thereafter $16,978
c. The Company has outstanding letters of credit aggregating $3,810 at December
31, 1998.
<PAGE>
d. The Company has entered into various noncancelable contracts for network
services. Future obligations under these agreements are as follows:
Year Network Services
1999 $3,410
2000 $3,000
2001 $2,750
e. In the normal course of business, there are various legal proceedings
outstanding. In the opinion of management, these proceedings will not have a
material adverse effect on the financial position or results of operations or
liquidity of the Company.
f. The Company has agreed to indemnify Cable Michigan and CTE and their
respective subsidiaries against any and all liabilities which arise primarily
from or relate primarily to the management or conduct of the business of the
Company prior to the effective time of the Distribution. The Company has also
agreed to indemnify Cable Michigan and CTE and their respective subsidiaries
against 30% of any liability which arises from or relates to the management or
conduct prior to the effective time of the Distribution of the businesses of
C-TEC and its subsidiaries and which is not a true CTE liability, a true Cable
Michigan liability or a true Company liability.
The Tax Sharing Agreement, by and among the Company, Cable Michigan and CTE (the
"Tax Sharing Agreement"), governs contingent tax liabilities and benefits, tax
contests and other tax matters with respect to tax returns filed with respect to
tax periods, in the case of the Company, ending or deemed to end on or before
the Distribution Date. Under the Tax Sharing Agreement, Adjustments (as defined
in the Tax Sharing Agreement) to taxes that are clearly attributable to the
Company Group, the Cable Michigan Group, or the CTE Group will be borne solely
by such group. Adjustments to all other tax liabilities will be borne 50% by
CTE, 30% by the Company and 20% by Cable Michigan.
Notwithstanding the above, if as a result of the acquisition of all or a portion
of the Capital stock or assets of the Company, the Distribution fails to qualify
as a tax-free distribution under Section 355 of the Code, then the Company will
be liable for any and all increases in tax attributable thereto.
g. Under the Starpower Amended and Restated Operating Agreement, the Company is
committed to make quarterly capital contributions aggregating the following in
the years ended December 31:
1999 $33,028
2000 $36,030
2001 $ 9,005
h. If, within five years after the Distribution, the ESOP portion of the 401(k)
Plan does not hold shares representing at least 3% of the number of shares of
Company Common Stock outstanding immediately after the Distribution as increased
by the number of shares issuable to BECO pursuant to the Exchange Agreement
(collectively, "Outstanding Company Common Stock") with a market value at such
time of not less than $24,000, RCN will issue to the ESOP, in exchange for a
note from the ESOP (the "ESOP Note"), the amount of Company Common Stock
necessary to increase the ESOP's holdings of Company Common Stock to that level,
provided, however, that RCN is not obligated to issue shares to the ESOP in
excess of 5% of the number of shares of Outstanding Company Common Stock.
As of December 31, 1998, the ESOP does not hold any shares of outstanding
Company Common Stock; however, the Company has accrued a contribution to the
ESOP of approximately $1,000 relative to 1998.
<PAGE>
15. AFFILIATE AND RELATED PARTY TRANSACTIONS
The Company had the following transactions with affiliates during the years
ended December 31, 1998, 1997 and 1996:
<TABLE>
<CAPTION>
1998 1997 1996
------- ------- -------
<S> <C> <C> <C>
Corporate office costs allocated to affiliates $ 9,946 $12,091 $12,362
Cable staff and customer service costs allocated to
Cable Michigan 3,137 3,489 3,577
Interest income on affiliate notes - 8,688 15,119
Interest expense on affiliate notes - 537 354
Long-distance terminating access charge expense from CTE 1,556 1,312 728
Royalty fees charged by CTE - 669 859
Revenue from engineering services - - 296
Expenses allocated to unconsolidated joint venture partner 14,681 - -
Terminating revenues from CTE 13,322 1,576 -
Other affiliate expenses 1,598 2,199 1,980
</TABLE>
At December 31, 1998 and 1997, the Company has accounts receivable from related
parties of $6,919 and $9,829, respectively, for these transactions. At
December 31, 1998 and 1997, the Company has accounts payable to related parties
of $7,153 and $3,748, respectively, for these transactions.
16. OFF BALANCE SHEET RISK AND CONCENTRATION OF CREDIT RISK
Certain financial instruments potentially subject the Company to concentrations
of credit risk. These financial instruments consist primarily of trade
receivables, cash and temporary cash investments, and short-term investments.
The Company places its cash, temporary cash investments and short-term
investments with high credit quality financial institutions and limits the
amount of credit exposure to any one financial institution. The Company
also periodically evaluates the creditworthiness of the institutions with
which it invests. The Company does, however, maintain invested balances
in excess of federally insured limits.
The Company's trade receivables reflect a customer base primarily centered in
the Boston to Washington, D.C. corridor of the United States. The Company
routinely assesses the financial strength of its customers. As a consequence,
concentrations of credit risk are limited.
The Company is a 50% partner in the Starpower joint venture, which is not
consolidated in the Company's financial statements under generally accepted
accounting principles.
17. DISCLOSURE ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS
a. Cash and temporary cash investments
The carrying amount approximates fair value because of the short maturity of
these instruments.
b. Short-term investments
Short-term investments consist of commercial paper, U.S. Treasury Notes,
asset-backed securities, corporate debt securities, certificates of deposit
and federal agency notes. Short-term investments are carried at amortized
cost which approximates fair value.
c. Long-term investments
Long-term investments consist of investments accounted for under the equity
method for which disclosure of fair value is not required. The note and
interest receivable are carried at cost plus accrued interest which management
believes approximates fair value.
d. Investments restricted for debt service
Investments restricted for debt service consist of funds placed in escrow
from the proceeds of the 10% Senior Notes which, together with the proceeds from
the investment thereof, will be sufficient to pay interest on the 10% Senior
Notes for six scheduled interest payments. Investments restricted for debt
service are carried at amortized cost. The fair value of investments restricted
for debt service is based on quoted market prices.
<PAGE>
e. Long-term debt
The fair value of fixed rate long-term debt was estimated based on the Company's
current incremental borrowing rate for debt of the same remaining maturities.
The fair value of floating rate debt is considered to be equal to the carrying
value since the debt reprices at least every six months and the Company believes
that its credit risk has not changed from the time the floating rate debt was
borrowed and therefore, it would obtain similar rates in the current market.
f. Letter of credit
The contract amount of letters of credit represents a reasonable estimate of
their value since such instruments reflect fair value as a condition of their
underlying purpose and are subject to fees competitively determined in the
marketplace.
The estimated carrying fair value of the Company's financial instruments is as
follows at December 31:
<TABLE>
<CAPTION>
1998 1997
-------------------- ----------------------
Carrying Carrying
Amount Fair Value Amount Fair Value
---------- ---------- --------- ----------
<S> <C> <C> <C> <C>
Financial Assets:
Cash and temporary cash investments $120,126 $120,126 $222,910 $222,910
Short-term investments $892,448 $892,448 $415,603 $415,603
Note and interest receivable $ 18,373 $ 18,373 $ 17,682 $ 17,682
Investments restricted for debt service $ 43,306 $ 43,072 $ 61,911 $ 61,983
Financial Liabilities:
Fixed rate long-term debt:
Senior Notes 10% $225,000 $216,000 $225,000 $233,438
Senior Discount Notes 11.125% $398,827 $351,611 $358,103 $377,156
Senior Discount Notes 9.8% $382,216 $306,180 - -
Senior Discount Notes 11.0% $158,573 $138,750 - -
Floating rate long-term debt:
Revolving Credit Agreement - - $ 3,000 $ 3,000
Term Credit Agreement $100,000 $100,000 $100,000 $100,000
Unrecognized financial instruments:
Letters of credit $ 3,810 $ 3,810 $ 3,060 $ 3,060
</TABLE>
18. SEGMENT INFORMATION
In June 1997 the Financial Accounting Standards Board (FASB) issued Statement of
Financial Accounting Standard No. 131 - "Disclosure about Segments of an
Enterprise and Related Information" ("SFAS 131"). This statement, which
establishes standards for the reporting of information about operating segments
and requires the reporting of selected information about operating segments in
interim and year end financial statements, is effective for fiscal years
beginning after December 15, 1997. If applicable, this statement would only
require additional disclosures in the Company's consolidated financial
statements and as such, its adoption will not have any impact on the Company's
consolidated financial position or results of operations. The Company's
operations involve developing an advanced fiber network to provide a bundled
service package of voice, video and data services to new customers in high
density markets and migrating as many customers as is economically justified
which were served by the Company's previously separate lines of business, for
which profitability was separately measurable and monitored, to the single
source network. While the Company's chief decision makers monitor the revenue
streams of the various products, operations are managed and financial
performance is evaluated based upon the delivery of multiple services to
customers over a single network. This allows the Company to leverage its network
costs to maximum profitability. It is management's belief that the Company
operates as one reportable operating segment which contains many shared expenses
generated by the Company's various revenue streams and that any segment
<PAGE>
allocation of shared expenses incurred on a single network to multiple revenue
streams would be impractical and arbitrary; furthermore, the Company currently
does not make such allocations internally. The Company's chief decision makers
do, however, monitor financial performance in a way which is different from that
depicted in the historical general purpose financial statements in that such
measurement includes the consolidation of all joint ventures, including
Starpower which is not consolidated under generally accepted accounting
principles. Such information, however, does not represent a separate segment
under generally accepted accounting principles and therefore it is not
separately disclosed.
19. QUARTERLY INFORMATION (Unaudited)
<TABLE>
<CAPTION>
1998 1st Quarter 2nd Quarter 3rd Quarter 4th Quarter
------------ ------------ ------------ ------------
<S> <C> <C> <C> <C>
Sales $ 40,138 $ 49,808 $ 58,172 $ 62,822
Operating (loss) before depreciation,
amortization and nonrecurring charges $ (8,317) $ (9,619) $(16,578) $(16,898)
Operating (loss) $(44,741) $(28,319) $(40,724) $(45,009)
Loss before cumulative effect of change
in accounting principle $(41,785) $(43,795) $(54,430) $(64,791)
Loss before cumulative effect of change
in accounting principle per average
common share $ (0.74) $ (0.75) $ (0.84) $ (1.00)
Common Stock
High $ 30.63 $ 29.38 $ 24.31 $ 25.00
Low $ 15.88 $ 19.25 $ 12.38 $ 8.75
1997 1st Quarter 2nd Quarter 3rd Quarter 4th Quarter
------------ ------------ ------------ ------------
Sales $ 29,677 $ 31,029 $ 31,148 $ 35,443
Operating income (loss) before depreciation,
amortization and nonrecurring charges $ 4,153 $ 850 ($4,332) ($8,341)
Operating (loss) $(18,038) $(12,415) $(18,012) $(22,410)
Loss before extraordinary charge $(11,444) $ (8,806) $(11,815) $(17,116)
Loss before extraordinary charge per
average common share $ (0.21) $ (0.16) $ (0.21) $ (0.31)
Common Stock
High N/A N/A $ 16.63 $ 21.63
Low N/A N/A $ 12.44 $ 12.50
</TABLE>
The quarterly financial information for the respective quarters presented above
has been restated for the effects of a revision in the acquired in-process
research and development expenses arising from the acquisition of Erol's and
Ultranet.
20. SUBSEQUENT EVENTS
In February 1999, BECO and the Company entered into an Exchange Agreement
relative to BECO's exercise of its right to convert approximately one-half of
its ownership interest in RCN-BECOCOM into RCN common stock (Note 7). The
transaction was valued as of January 20, 1998, the date on which BECO gave
notice to us of its intent to convert this ownership interest. The Exchange
Agreement provided for the conversion of such ownership interest into 1,107,539
shares of RCN common stock. In accordance with the terms of the Operating
Agreement, BECO has continued to invest in RCN-BECOCOM as if retaining a 49%
interest and will continue to do so as long as BECOCOM does not dispose of the
Exchange Shares.
On March 18, 1999, the Company announced that Hicks, Muse, Tate & Furst, through
Hicks, Muse, Tate & Furst Equity Fund IV, L.P., signed a commitment to purchase
up to $250 million of a new issue of Series A 7% Senior Convertible Preferred
Stock ("Series A Preferred Stock") of the Company in a private placement
transaction. The Series A Preferred Stock will have an annual dividend rate of
7% payable quarterly in cash or additional shares of Series A Preferred Stock at
the option of the Company and will have an initial conversion price of $39.00
per share (which represents a 30% premium over the average five-day closing
price of the Common Stock of the Company). The Series A Preferred Stock is
convertible into Common Stock of the Company at any time. The issue has a final
maturity of 15 years, but may be called by the Company after four years. In
connection with the placement of Series A Preferred Stock, the Company agreed to
provide Hicks Muse Fund IV with the right to appoint one director to the
Company's Board of Directors so long as Hicks Muse Fund IV owns at least 50%
of its initial investment and agreed to provide Hicks Muse Fund IV with certain
registration rights.
The Company also announced on March 18, 1999 that it had entered into a
commitment letter with The Chase Manhattan Bank ("Chase") pursuant to which
Chase has agreed to provide an aggregate principal amount of $1 billion of
senior secured credit facilities to certain of the Company's wholly-owned
subsidiaries. The facilities will be comprised of a seven-year senior secured
revolving credit facility in an amount of $250 million, a seven-year senior
secured multi-draw term loan facility in an amount of $350 million and an eight-
year senior secured single-draw term loan facility in an amount of $400 million.
All borrowings under the facilities will be pari passu and will be collaterized
under a common collateral package covering substantially all of the assets of
the Company and its domestic subsidiaries.
<PAGE>
RCN has also received a commitment for $1,000,000 of senior collaterized credit
facilities from The Chase Manhattan Bank. The facilities will be structured to
provide significant long-term capital and upon closing will be available to RCN
in its entirety.
21. CUMULATIVE EFFECT OF A CHANGE IN ACCOUNTING PRINCIPLE
In December 1998 the American Institute of Certified Public Accountants
issued Statement of Position 98-5 - "Reporting on the Costs of Start-up
Activities" ("SOP 98-5"). SOP 98-5 requires that all start-up costs, including
amounts previously capitalized as start-up and organization costs, be
expensed. The Company adopted SOP 98-5 in 1998 and expensed the amount
of unamortized organization costs previously capitalized. The resulting
charge of $641 is reflected in the 1998 Statement of Operations as the
cumulative effect of a change in accounting principle.
REPORT OF MANAGEMENT
The integrity and objectivity of the financial information presented in these
financial statements is the responsibility of the management of RCN Corporation.
The financial statements report on management's accountability for Company
operations and assets. To this end, management maintains a system of internal
controls and procedures designed to provide reasonable assurance that the
Company's assets are protected and that all transactions are accounted for in
conformity with generally accepted accounting principles. The system includes
documented policies and guidelines, augmented by a comprehensive program of
internal and independent audits conducted to monitor overall accuracy of
financial information and compliance with established procedures.
PRICEWATERHOUSECOOPERS LLP, independent accountants, conducts a review of
internal accounting controls to the extent required by generally accepted
auditing standards and perform such tests and procedures as they deem necessary
to arrive at an opinion on the fairness of the financial statements presented
herein.
The Board of Directors meets its responsibility for the Company's financial
statements through its Audit Committee which is comprised exclusively of
directors who are not officers or employees of the Company. The Audit Committee
recommends to the Board of Directors the independent auditors for election by
the shareholders. The Committee also meets periodically with management and the
independent and internal auditors to review accounting, auditing, internal
accounting controls and financial reporting matters. As a matter of policy, the
internal auditors and the independent auditors periodically meet alone with, and
have access to, the Audit Committee.
\s\ Bruce C. Godfrey
- --------------------
Bruce C. Godfrey
Executive Vice President
Chief Financial Officer
<PAGE>
REPORT OF INDEPENDENT ACCOUNTANTS
To the Shareholders and Board of Directors of
RCN Corporation
In our opinion, the consolidated financial statements listed in the index
appearing under Item 14(a)(1) on page 34 present fairly, in all
material respects, the financial position of RCN Corporation and Subsidiaries
at December 31, 1998 and 1997, and the results of their operations and their
cash flows for each of the three years in the period ended December 31, 1998,
in conformity with generally accepted accounting principles. In addition, in
our opinion, the financial statement schedules listed in the index appearing
under Item 14 (a)(2) on page 34, respectively present fairly, in all material
respects, the information set forth therein when read in conjunction with the
related consolidated financial statements. These financial statements and
financial statement schedules are the responsibility of the Company's
management; our responsibility is to express an opinion on these financial
statements and financial statement schedules based on our audits. We
conducted our audits of these statements in accordance with generally accepted
auditing standards which 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, assessing
the accounting principles used and significant estimates made by management,
and evaluating the overall financial statement presentation. We believe that
our audits provide a reasonable basis for the opinion expressed above.
\s\ PRICEWATERHOUSECOOPERS LLP
- ------------------------------
PRICEWATERHOUSECOOPERS LLP
Philadelphia, Pennsylvania
March 8, 1999
except Note 20, as to which the date is March 18, 1999
<PAGE>
RCN CORPORATION
LIST OF SUBSIDIARIES Exhibit 21
State of PERCENTAGE
Name Incorporation OWNED
- -------------------------------------------------- ------------- ----------
RCN Corporation DE 100%
RCN Services, Inc PA 100%
TEC Air, Inc. DE 100%
RCN Financial Management, Inc. DE 100%
ENET Holding, Inc. DE 100%
UNET Holding, Inc. DE 100%
Interport Communications Corp NY 100%
Port Telecom Corporation DE 100%
Erde Network Systems Corporation DE 100%
JMP Communications Corporation DE 100%
Lancit Media Entertainment, Ltd. NY 100%
Frame Accurate, Inc. NY 100%
Lancit Copyright Corporation DE 100%
The Strategy Licensing Company, Inc. CT 100%
JavaNet, Inc. DE 100%
North America Internet, Inc. CT 100%
C-TEC Financial Services, Inc. NV 100%
RCN Cable Systems, Inc. DE 100%
C-TEC Cable System Services, Inc. PA 100%
RCN of New Jersey, Inc. PA 100%
RCN of Southeast New York, Inc. PA 100%
RCN Telecom Services of Pennsylvania, Inc. PA 100%
RCN Telecom Services of Southeast New York, Inc. NY 100%
Fiberfone of Pennsylvania, Inc PA 100%
Fiberfone of New Jersey, Inc. NJ 100%
Fiberfone of Michigan, Inc. MI 100%
C-TEC Fiber Systems of New Jersey, Inc. NJ 100%
RCN Long Distance Company PA 100%
RCN International Holdings, Inc. DE 100%
RCN Telecom Services, Inc. DE 100%
RCN Operating Services, Inc. NJ 100%
RCN Telecom Services of Illinois, Inc. IL 100%
RCN Telecom Services of Maryland, Inc. MD 100%
RCN Telecom Services of Massachusetts, Inc. MA 100%
RCN Telecom Services of Michigan, Inc. MI 100%
RCN Telecom Services of New York, Inc. NY 100%
RCN Telecom Services of Washington, Inc. WA 100%
RCN Telecom Services of Delaware, Inc. DE 100%
RCN Telecom Services of California, Inc. CA 100%
RCN Telecom Services of Philadelphia, Inc. PA 100%
RCN Telecom Services of New Jersey, Inc. NJ 100%
RCN Telecom Services of Virginia, Inc. VA 100%
RCN Telecom Services of Washington, D.C., Inc. DC 100%
RCN Telecom Services of Maine, Inc. ME 100%
RCN Telecom Services of New Hampshire, Inc. NH 100%
RCN Telecom Services of Vermont, Inc. VT 100%
RCN Telecom Services of Rhode Island, Inc. RI 100%
RCN Telecom Services of Connecticut, Inc. CT 100%
RCN Telecom Service of Nevada, Inc. NV 100%
RCN Telecom Services of Arizona, Inc. AZ 100%
FNY Holding Company, Inc. NY 100%
RCN Corporate Services, Inc. NJ 100%
RCN Financial Services, Inc. DE 100%
Freedom New York L.L.C. DE 100%
RCN-BecoCom, LLC MA 51%
Starpower Communications, LLC DE 50%
<PAGE>
EXHIBIT 23
CONSENT OF INDEPENDENT ACCOUNTANTS
We consent to the incorporation by reference in the registration statements of
RCN Corporation on Form S-3 (File Nos. 333-71525, 333-61223 and 333-63889) and
on Form S-8 (File Nos. 333-37959 and 333-38137) of our report dated March 8,
1999, except Note 20, as to which the date is March 18, 1999, on our audits of
the consolidated financial statements and financial statement schedules of RCN
Corporation and Subsidiaries as of December 31, 1998 and 1997, and for the years
ended December 31, 1998, 1997, and 1996, which report is included in this Annual
Report on Form 10-K.
/s/ PricewaterhouseCoopers LLP
- ------------------------------
PRICEWATERHOUSECOOPERS LLP
Philadelphia, Pennsylvania
March 31, 1999
<PAGE>
Exhibit 24
SPECIFIC POWER OF ATTORNEY
KNOW ALL MEN BY THESE PRESENTS, that I, Thomas P. O'Neill, III do make,
constitute and appoint Bruce C. Godfrey, RCN Corporation's Chief Financial
Officer, as my true and lawful attorney for me and in my name:
1. I authorize said attorney in fact to specifically execute in my name
and in my behalf the RCN Corporation Form 10-K for the fiscal year ended
December 31, 1997, and to file said form to the Securities and Exchange
Commission, 450 5th Street, N.W., Washington, D.C. 20549, and relative
instruments in writing which I deem requisite or proper to effectuate
specifically the execution and delivery of the above-mentioned form with the
same validity as I could, if personally present, and I hereby ratify and affirm
that my said attorney as I may deem to act for me, shall do, by virtue of these
presents, herein set forth by me.
2. All rights, powers and authority of said attorney in fact to exercise
any and all of the specific rights and powers herein granted shall commence and
be in full force and effect as of March 30, 1998 and such specific rights,
powers and authority shall remain in full force and effect thereafter until
termination in writing by me.
3. I give to said attorney in fact full power and authority to appoint a
substitute to perform all such of the acts that said attorney in fact is by this
instrument authorized to perform, with the right to revoke such appointment of
substitute at pleasure.
IN WITNESS WHEREOF, I hereunto set my hand and seal this 26th day of March,
1998.
/s/ Thomas P. O'Neill, III (SEAL)
--------------------------------
Thomas P. O'Neill, III
Witness:
/s/ Christine M. Walsh
- -----------------------
Christine M. Walsh
<PAGE>
SPECIFIC POWER OF ATTORNEY
KNOW ALL MEN BY THESE PRESENTS, that I, James Q. Crowe do make, constitute
and appoint Bruce C. Godfrey, RCN Corporation's Chief Financial Officer, as my
true and lawful attorney for me and in my name:
1. I authorize said attorney in fact to specifically execute in my name
and in my behalf the RCN Corporation Form 10-K for the fiscal year ended
December 31, 1997, and to file said form to the Securities and Exchange
Commission, 450 5th Street, N.W., Washington, D.C. 20549, and relative
instruments in writing which I deem requisite or proper to effectuate
specifically the execution and delivery of the above-mentioned form with the
same validity as I could, if personally present, and I hereby ratify and affirm
that my said attorney as I may deem to act for me, shall do, by virtue of these
presents, herein set forth by me.
2. All rights, powers and authority of said attorney in fact to exercise
any and all of the specific rights and powers herein granted shall commence and
be in full force and effect as of March 30, 1998, and such specific rights,
powers and authority shall remain in full force and effect thereafter until
termination in writing by me.
3. I give to said attorney in fact full power and authority to appoint a
substitute to perform all such of the acts that said attorney in fact is by this
instrument authorized to perform, with the right to revoke such appointment of
substitute at pleasure.
IN WITNESS WHEREOF, I hereunto set my hand and seal this 26th day of March,
1998
/s/ James Q. Crowe (SEAL)
-----------------------
James Q. Crowe
Witness:
/s/ Dinah Sink
- -----------------------------
Dinah Sink
<PAGE>
SPECIFIC POWER OF ATTORNEY
KNOW ALL MEN BY THESE PRESENTS, that I, David C. McCourt do make,
constitute and appoint Bruce C. Godfrey, RCN Corporation's Chief Financial
Officer, as my true and lawful attorney for me and in my name:
1. I authorize said attorney in fact to specifically execute in my name
and in my behalf the RCN Corporation Form 10-K for the fiscal year ended
December 31, 1997, and to file said form to the Securities and Exchange
Commission, 450 5th Street, N.W., Washington, D.C. 20549, and relative
instruments in writing which I deem requisite or proper to effectuate
specifically the execution and delivery of the above-mentioned form with the
same validity as I could, if personally present, and I hereby ratify and affirm
that my said attorney as I may deem to act for me, shall do, by virtue of these
presents, herein set forth by me.
2. All rights, powers and authority of said attorney in fact to exercise
any and all of the specific rights and powers herein granted shall commence and
be in full force and effect as of March 30, 1998, and such specific rights,
powers and authority shall remain in full force and effect thereafter until
termination in writing by me.
3. I give to said attorney in fact full power and authority to appoint a
substitute to perform all such of the acts that said attorney in fact is by this
instrument authorized to perform, with the right to revoke such appointment of
substitute at pleasure.
IN WITNESS WHEREOF, I hereunto set my hand and seal this 26th day of March,
1998.
/s/ David C. McCourt (SEAL)
------------------------
David C. McCourt
Witness:
/s/ Blair Turner
- ---------------------------
Blair Turner
<PAGE>
SPECIFIC POWER OF ATTORNEY
KNOW ALL MEN BY THESE PRESENTS, that I, Michael B. Yanney do make,
constitute and appoint Bruce C. Godfrey, RCN Corporation's Chief Financial
Officer, as my true and lawful attorney for me and in my name:
1. I authorize said attorney in fact to specifically execute in my name
and in my behalf the RCN Corporation Form 10-K for the fiscal year ended
December 31, 1997, and to file said form to the Securities and Exchange
Commission, 450 5th Street, N.W., Washington, D.C. 20549, and relative
instruments in writing which I deem requisite or proper to effectuate
specifically the execution and delivery of the above-mentioned form with the
same validity as I could, if personally present, and I hereby ratify and affirm
that my said attorney as I may deem to act for me, shall do, by virtue of these
presents, herein set forth by me.
2. All rights, powers and authority of said attorney in fact to exercise
any and all of the specific rights and powers herein granted shall commence and
be in full force and effect as of March 30, 1998, and such specific rights,
powers and authority shall remain in full force and effect thereafter until
termination in writing by me.
3. I give to said attorney in fact full power and authority to appoint a
substitute to perform all such of the acts that said attorney in fact is by this
instrument authorized to perform, with the right to revoke such appointment of
substitute at pleasure.
IN WITNESS WHEREOF, I hereunto set my hand and seal this 27th day of March,
1998.
/s/ Michael B. Yanney (SEAL)
----------------------------
Michael B. Yanney
Witness:
/s/ C.L. Buckingham
- -----------------------------
C.L. Buckingham
<PAGE>
SPECIFIC POWER OF ATTORNEY
KNOW ALL MEN BY THESE PRESENTS, that I, Richard R. Jaros do make,
constitute and appoint Bruce C. Godfrey, RCN Corporation's Chief Financial
Officer, as my true and lawful attorney for me and in my name:
1. I authorize said attorney in fact to specifically execute in my name
and in my behalf the RCN Corporation Form 10-K for the fiscal year ended
December 31, 1997, and to file said form to the Securities and Exchange
Commission, 450 5th Street, N.W., Washington, D.C. 20549, and relative
instruments in writing which I deem requisite or proper to effectuate
specifically the execution and delivery of the above-mentioned form with the
same validity as I could, if personally present, and I hereby ratify and affirm
that my said attorney as I may deem to act for me, shall do, by virtue of these
presents, herein set forth by me.
2. All rights, powers and authority of said attorney in fact to exercise
any and all of the specific rights and powers herein granted shall commence and
be in full force and effect as of March 30, 1998 and such specific rights,
powers and authority shall remain in full force and effect thereafter until
termination in writing by me.
3. I give to said attorney in fact full power and authority to appoint a
substitute to perform all such of the acts that said attorney in fact is by this
instrument authorized to perform, with the right to revoke such appointment of
substitute at pleasure.
IN WITNESS WHEREOF, I hereunto set my hand and seal this 27th day of March,
1998.
/s/ Richard R. Jaros (SEAL)
------------------------
Richard R. Jaros
Witness:
/s/ Lori Jaros
- ---------------------------
Lori Jaros
<PAGE>
SPECIFIC POWER OF ATTORNEY
KNOW ALL MEN BY THESE PRESENTS, that I, Alfred Fasola do make, constitute
and appoint Bruce C. Godfrey, RCN Corporation's Chief Financial Officer, as my
true and lawful attorney for me and in my name:
1. I authorize said attorney in fact to specifically execute in my name
and in my behalf the RCN Corporation Form 10-K for the fiscal year ended
December 31, 1997, and to file said form to the Securities and Exchange
Commission, 450 5th Street, N.W., Washington, D.C. 20549, and relative
instruments in writing which I deem requisite or proper to effectuate
specifically the execution and delivery of the above-mentioned form with the
same validity as I could, if personally present, and I hereby ratify and affirm
that my said attorney as I may deem to act for me, shall do, by virtue of these
presents, herein set forth by me.
2. All rights, powers and authority of said attorney in fact to exercise
any and all of the specific rights and powers herein granted shall commence and
be in full force and effect as of March 30, 1998, and such specific rights,
powers and authority shall remain in full force and effect thereafter until
termination in writing by me.
3. I give to said attorney in fact full power and authority to appoint a
substitute to perform all such of the acts that said attorney in fact is by this
instrument authorized to perform, with the right to revoke such appointment of
substitute at pleasure.
IN WITNESS WHEREOF, I hereunto set my hand and seal this 26th of
March, 1998.
/s/ Alfred Fasola (SEAL)
-------------------------
Alfred Fasola
Witness:
/s/ Susan Fasola
- --------------------------
Susan Fasola
<PAGE>
SPECIFIC POWER OF ATTORNEY
KNOW ALL MEN BY THESE PRESENTS, that I, Stuart E. Graham do make,
constitute and appoint Bruce C. Godfrey, RCN Corporation's Chief Financial
Officer, as my true and lawful attorney for me and in my name:
1. I authorize said attorney in fact to specifically execute in my name
and in my behalf the RCN Corporation Form 10-K for the fiscal year ended
December 31, 1997, and to file said form to the Securities and Exchange
Commission, 450 5th Street, N.W., Washington, D.C. 20549, and relative
instruments in writing which I deem requisite or proper to effectuate
specifically the execution and delivery of the above-mentioned form with the
same validity as I could, if personally present, and I hereby ratify and affirm
that my said attorney as I may deem to act for me, shall do, by virtue of these
presents, herein set forth by me.
2. All rights, powers and authority of said attorney in fact to exercise
any and all of the specific rights and powers herein granted shall commence and
be in full force and effect as of March 30, 1998 and such spe cific rights,
powers and authority shall remain in full force and effect thereafter until
termination in writing by me.
3. I give to said attorney in fact full power and authority to appoint a
substitute to perform all such of the acts that said attorney in fact is by this
instrument authorized to perform, with the right to revoke such appointment of
substitute at pleasure.
IN WITNESS WHEREOF, I hereunto set my hand and seal this 26th day of March,
1998.
/s/ Stuart E. Graham (SEAL)
----------------------------
Stuart E. Graham
Witness:
/s/ Camille D'Alessandro
- ------------------------------
Camille D'Alessandro
<PAGE>
SPECIFIC POWER OF ATTORNEY
KNOW ALL MEN BY THESE PRESENTS, that I, Eugene Roth do make, constitute and
appoint Bruce C. Godfrey, RCN Corporation's Chief Financial Officer, as my true
and lawful attorney for me and in my name:
1. I authorize said attorney in fact to specifically execute in my name
and in my behalf the RCN Corporation Form 10-K for the fiscal year ended
December 31, 1997, and to file said form to the Securities and Exchange
Commission, 450 5th Street, N.W., Washington, D.C. 20549, and relative
instruments in writing which I deem requisite or proper to effectuate
specifically the execution and delivery of the above-mentioned form with the
same validity as I could, if personally present, and I hereby ratify and affirm
that my said attorney as I may deem to act for me, shall do, by virtue of these
presents, herein set forth by me.
2. All rights, powers and authority of said attorney in fact to exercise
any and all of the specific rights and powers herein granted shall commence and
be in full force and effect as of March 30, 1998, and such specific rights,
powers and authority shall remain in full force and effect thereafter until
termination in writing by me.
3. I give to said attorney in fact full power and authority to appoint a
substitute to perform all such of the acts that said attorney in fact is by this
instrument authorized to perform, with the right to revoke such appointment of
substitute at pleasure.
IN WITNESS WHEREOF, I hereunto set my hand and seal this 24th day of March,
1998.
/s/ Eugene Roth (SEAL)
-------------------------
Eugene Roth
Witness:
/s/ Janet Kaye
- ---------------------------
Janet Kaye
<PAGE>
SPECIFIC POWER OF ATTORNEY
KNOW ALL MEN BY THESE PRESENTS, that I, Thomas J. May do make, constitute
and appoint Bruce C. Godfrey, RCN Corporation's Chief Financial Officer, as my
true and lawful attorney for me and in my name:
1. I authorize said attorney in fact to specifically execute in my name
and in my behalf the RCN Corporation Form 10-K for the fiscal year ended
December 31, 1997, and to file said form to the Securities and Exchange
Commission, 450 5th Street, N.W., Washington, D.C. 20549, and relative
instruments in writing which I deem requisite or proper to effectuate
specifically the execution and delivery of the above-mentioned form with the
same validity as I could, if personally present, and I hereby ratify and affirm
that my said attorney as I may deem to act for me, shall do, by virtue of these
presents, herein set forth by me.
2. All rights, powers and authority of said attorney in fact to exercise
any and all of the specific rights and powers herein granted shall commence and
be in full force and effect as of March 30, 1998, and such specific rights,
powers and authority shall remain in full force and effect thereafter until
termination in writing by me.
3. I give to said attorney in fact full power and authority to appoint a
substitute to perform all such of the acts that said attorney in fact is by this
instrument authorized to perform, with the right to revoke such appointment of
substitute at pleasure.
IN WITNESS WHEREOF, I hereunto set my hand and seal this 27th day of March,
1998.
/s/ Thomas J. May (SEAL)
-------------------------
Thomas J. May
Witness:
/s/ Carol O'Rourke
- --------------------------
Carol O'Rourke
<PAGE>
SPECIFIC POWER OF ATTORNEY
KNOW ALL MEN BY THESE PRESENTS, that I, Walter Scott, Jr. do make,
constitute and appoint Bruce C. Godfrey, RCN Corporation's Chief Financial
Officer, as my true and lawful attorney for me and in my name:
1. I authorize said attorney in fact to specifically execute in my name
and in my behalf the RCN Corporation Form 10-K for the fiscal year ended
December 31, 1997, and to file said form to the Securities and Exchange
Commission, 450 5th Street, N.W., Washington, D.C. 20549, and relative
instruments in writing which I deem requisite or proper to effectuate
specifically the execution and delivery of the above-mentioned form with the
same validity as I could, if personally present, and I hereby ratify and affirm
that my said attorney as I may deem to act for me, shall do, by virtue of these
presents, herein set forth by me.
2. All rights, powers and authority of said attorney in fact to exercise
any and all of the specific rights and powers herein granted shall commence and
be in full force and effect as of March 30, 1998, and such specific rights,
powers and authority shall remain in full force and effect thereafter until
termination in writing by me.
3. I give to said attorney in fact full power and authority to appoint a
substitute to perform all such of the acts that said attorney in fact is by this
instrument authorized to perform, with the right to revoke such appointment of
substitute at pleasure.
IN WITNESS WHEREOF, I hereunto set my hand and seal this 26th day of March,
1998.
/s/ Walter Scott, Jr. (SEAL)
--------------------------
Walter Scott, Jr.
Witness:
/s/ Julie Haack
- -----------------------------
Julie Haack
<PAGE>
SPECIFIC POWER OF ATTORNEY
KNOW ALL MEN BY THESE PRESENTS, that I, Michael J. Mahoney do make,
constitute and appoint Bruce C. Godfrey, RCN Corporation's Chief Financial
Officer, as my true and lawful attorney for me and in my name:
1. I authorize said attorney in fact to specifically execute in my name
and in my behalf the RCN Corporation Form 10-K for the fiscal year ended
December 31, 1997, and to file said form to the Securities and Exchange
Commission, 450 5th Street, N.W., Washington, D.C. 20549, and relative
instruments in writing which I deem requisite or proper to effectuate
specifically the execution and delivery of the above-mentioned form with the
same validity as I could, if personally present, and I hereby ratify and affirm
that my said attorney as I may deem to act for me, shall do, by virtue of these
presents, herein set forth by me.
2. All rights, powers and authority of said attorney in fact to exercise
any and all of the specific rights and powers herein granted shall commence and
be in full force and effect as of March 30, 1998, and such specific rights,
powers and authority shall remain in full force and effect thereafter until
termination in writing by me.
3. I give to said attorney in fact full power and authority to appoint a
substitute to perform all such of the acts that said attorney in fact is by this
instrument authorized to perform, with the right to revoke such appointment of
substitute at pleasure.
IN WITNESS WHEREOF, I hereunto set my hand and seal this 23rd day of March,
1998.
/s/ Michael J. Mahoney (SEAL)
---------------------------
Michael J. Mahoney
Witness:
/s/ Kathleen Sparrowe
- -------------------------
Kathleen Sparrowe
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM FINANCIAL
STATEMENTS AS OF AND FOR THE YEAR ENDED DECEMBER 31, 1998 AND IS QUALIFIED
IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATMENTS
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> DEC-31-1998
<CASH> 120,126
<SECURITIES> 892,448
<RECEIVABLES> 33,027
<ALLOWANCES> 5,766
<INVENTORY> 3,870
<CURRENT-ASSETS> 1,092,868
<PP&E> 601,679
<DEPRECIATION> 153,304
<TOTAL-ASSETS> 1,907,615
<CURRENT-LIABILITIES> 178,069
<BONDS> 1,263,036
0
0
<COMMON> 65,477
<OTHER-SE> 305,969
<TOTAL-LIABILITY-AND-EQUITY> 1,907,615
<SALES> 0
<TOTAL-REVENUES> 210,940
<CGS> 0
<TOTAL-COSTS> 187,624
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 4,125
<INTEREST-EXPENSE> 112,239
<INCOME-PRETAX> (214,242)
<INCOME-TAX> (4,998)
<INCOME-CONTINUING> (204,801)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> (641)
<NET-INCOME> (205,442)
<EPS-PRIMARY> (3.36)
<EPS-DILUTED> (3.36)
</TABLE>
