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AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON DECEMBER 3, 1999
REGISTRATION NO. 333-89179
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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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AMENDMENT NO. 2
TO
FORM S-1
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
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KNOLOGY, INC.
(Exact name of registrant as specified in its charter)
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DELAWARE 4812 58-2424258
(State or of Incorporation) (Primary Standard Industrial (I.R.S. Employer
Identification No.) Classification Code Number)
</TABLE>
1241 O.G. SKINNER DRIVE
WEST POINT, GEORGIA 31833
(706) 645-8553
(Address, including zip code, and telephone number, including
area code, of registrant's principal executive offices)
CHAD S. WACHTER
VICE PRESIDENT, GENERAL COUNSEL AND SECRETARY
KNOLOGY, INC.
1241 O.G. SKINNER DRIVE
WEST POINT, GEORGIA 31833
(706) 645-8553
(Name, address, including zip code, and telephone number,
including area code, of registrant's agent for service)
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Copies to:
STEVEN M. KAUFMAN, ESQ.
HOGAN & HARTSON L.L.P.
555 THIRTEENTH STREET, N.W.
WASHINGTON, D.C. 20004
(202) 637-5600
APPROXIMATE DATE OF COMMENCEMENT OF PROPOSED SALE TO THE PUBLIC: As soon as
practicable after this Registration Statement becomes effective.
If any of the securities being registered on this Form are to be offered on
a delayed or continuous basis pursuant to Rule 415 under the Securities Act,
check the following box. [ ]
If this Form is filed to register additional securities for an offering
pursuant to Rule 462(b) under the Securities Act, check the following box and
list the Securities Act registration statement number of the earlier effective
registration statement for the same offering. [ ]
If this Form is a post-effective amendment filed pursuant Rule 462(c) under
the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. [ ]
If this Form is a post-effective amendment filed pursuant to Rule 462(d)
under the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. [ ]
If delivery of the prospectus is expected to be made pursuant to Rule 434,
check the following box. [ ]
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THE REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE OR
DATES AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT SHALL
FILE A FURTHER AMENDMENT WHICH SPECIFICALLY STATES THAT THIS REGISTRATION
STATEMENT SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(A) OF
THE SECURITIES ACT OF 1933 OR UNTIL THE REGISTRATION STATEMENT SHALL BECOME
EFFECTIVE ON SUCH DATE AS THE COMMISSION, ACTING PURSUANT TO SAID SECTION 8(A),
MAY DETERMINE.
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The information in this preliminary prospectus is not complete and may be
changed. We may not sell these securities until the registration statement
filed with the Securities and Exchange Commission is effective. This
preliminary prospectus is not an offer to sell these securities and is not
seeking an offer to buy these securities in any state where the offer or
sale is not permitted.
SUBJECT TO COMPLETION, DATED DECEMBER 3, 1999
PRELIMINARY PROSPECTUS
KNOLOGY, INC.
(KNOLOGY LOGO)
43,211,531 SHARES OF SERIES A PREFERRED STOCK
OPTIONS TO PURCHASE 6,391,329 SHARES OF SERIES A PREFERRED STOCK
We are sending you this prospectus to describe the distribution of 90% of
KNOLOGY, Inc. from ITC Holding Company. This prospectus also includes
information about our business and financial condition.
ITC Holding is distributing 43,211,531 shares of our Series A preferred
stock to its stockholders, pro rata based upon the percentages of ITC Holding's
capital stock that they hold. ITC Holding also is distributing options to
purchase 6,391,329 shares of our Series A preferred stock to its option holders,
pro rata based upon the percentages of ITC Holding's common stock options that
they hold. In the distribution, you will receive the following:
- 1.089404 shares of our Series A preferred stock for every share of ITC
Holding common stock that you own.
- 4.357616 shares of our Series A Preferred Stock for every share of ITC
Holding preferred stock that you own.
- An option to purchase 1.089404 shares of our Series A preferred stock for
every option to purchase one share of common stock of ITC Holding that
you own.
Cash in the amount of $4.75 per share is being paid in lieu of fractional shares
or options.
This distribution is being made by ITC Holding to each holder of record of
ITC Holding securities at the close of business on December 15, 1999. You do not
need to make any decisions or take any action to receive your share of the
distribution. You do not need to pay anything or surrender your ITC Holding
stock or options. This distribution is expected to be completed concurrently
with the circulation of this prospectus.
This prospectus also relates to the common stock into which our preferred
stock is convertible and the common stock underlying the preferred stock
issuable upon exercise of our stock options being distributed by ITC Holding.
ITC Holding may be deemed an underwriter under applicable law with respect to
the securities being distributed by it, but is not receiving any compensation or
conducting any selling efforts in connection with the distribution.
THE SECURITIES THAT YOU RECEIVE IN THIS DISTRIBUTION WILL NOT BE TRADED ON
ANY EXCHANGE OR LISTED ON THE NASDAQ MARKET SYSTEM. THEY ARE ALSO SUBJECT TO
RESTRICTIONS ON TRANSFER DESCRIBED BELOW UNDER THE CAPTION "DESCRIPTION OF
CAPITAL STOCK."
THE SECURITIES TO BE DISTRIBUTED PURSUANT THIS PROSPECTUS INVOLVE A HIGH
DEGREE OF RISK. YOU SHOULD CAREFULLY CONSIDER THE FACTORS DESCRIBED UNDER THE
HEADING "RISK FACTORS" BEGINNING ON PAGE 5 OF THIS PROSPECTUS.
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NEITHER THE SECURITIES AND EXCHANGE COMMISSION NOR ANY STATE SECURITIES
COMMISSION HAS APPROVED OR DISAPPROVED THESE SECURITIES OR DETERMINED IF THIS
PROSPECTUS IS TRUTHFUL OR COMPLETE. ANY REPRESENTATION TO THE CONTRARY IS A
CRIMINAL OFFENSE.
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DECEMBER , 1999
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TABLE OF CONTENTS
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PAGE
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PROSPECTUS SUMMARY.......................................... 1
RISK FACTORS................................................ 6
THE DISTRIBUTION............................................ 16
MATERIAL TAX CONSEQUENCES OF THE DISTRIBUTION............... 18
NO MARKET FOR OUR STOCK..................................... 24
DIVIDEND POLICY............................................. 24
CAPITALIZATION.............................................. 25
SELECTED CONSOLIDATED FINANCIAL DATA........................ 27
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS................................. 29
OUR BUSINESS................................................ 43
MANAGEMENT.................................................. 69
CERTAIN TRANSACTIONS AND RELATIONSHIPS...................... 77
PRINCIPAL STOCKHOLDERS...................................... 81
DESCRIPTION OF SECURITIES................................... 84
LEGAL MATTERS............................................... 88
EXPERTS..................................................... 88
WHERE YOU CAN FIND MORE INFORMATION......................... 88
INDEX TO OUR CONSOLIDATED FINANCIAL STATEMENTS.............. F-1
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PROSPECTUS SUMMARY
This summary highlights more detailed information and financial statements
contained later in this prospectus. This summary does not contain all of the
information that you should consider with respect to owning the shares or
options. You should read the entire prospectus carefully, especially the risks
of holding the shares discussed under "Risk Factors."
KNOLOGY, INC.
We were formed in September 1998. We own 100% of KNOLOGY Holdings, Inc. and
100% of several other companies previously owned by ITC Holding Company, Inc.
KNOLOGY Holdings is our principal subsidiary. We currently offer our residential
and business customers broadband communication services, including:
- Video. We offer traditional cable television and digital cable
television services. Digital cable uses advanced technology to deliver
many more channels over the same amount of transmission capacity.
- Telephone. We offer local and long distance telephone service.
- Internet. We offer high-speed connections to the Internet using cable
modems.
Our customers have the choice of receiving these services individually or
as part of a bundle of services. We provide these services using high-speed,
high-capacity networks which are called broadband networks because they can
handle large volumes of voice, video and data at high speeds. Our networks are
also two-way interactive, which means that customers have the ability to send
and receive signals at the same time. Two-way interactive networks are required
for telephone service and allow faster Internet connections than traditional
one-way networks.
We presently have broadband networks in Montgomery, Alabama; Columbus,
Georgia; Augusta, Georgia; Panama City, Florida; and Charleston, South Carolina.
We provide traditional analog and digital cable television services in
Huntsville, Alabama. Our Huntsville facilities are being upgraded to provide
telephone and Internet services. We provide local telephone services and
broadband services throughout the Georgia/Alabama border area known as the
valley. Our local telephone service in the valley area is provided over a
traditional copper wire telephone network and our cable and Internet services
are offered over a broadband network. We provide local telephone services in
Newnan, Georgia over a leased broadband network.
We also provide access to our networks and various network-related services
to other telecommunications carriers, which we refer to as broadband carrier
services. Other local telephone companies use our broadband carrier services to
provide local telephone service and long distance carriers use our broadband
carrier services to deliver long distance telephone service.
As of September 1999, we had approximately 130,900 revenue generating
service connections for local telephone, cable programming and Internet access;
we provided approximately 107,677 connections to customers through our
high-speed broadband networks and the remainder over a traditional copper wire
telephone network or leased facilities.
We plan to grow our business by:
- building additional high-speed, high-capacity networks;
- offering our customers savings through a bundle of communications
services;
- being the first company in our markets to offer multiple broadband
communications services;
- expanding to additional mid-sized cities in the southeastern United
States;
- focusing on the customer and offering superior customer service;
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- pursuing strategic relationships with other service providers; and
- taking advantage of unused capacity on our networks to generate revenues
from other telephone companies and service providers.
We are incorporated in the State of Delaware. Our principal executive
offices are located at 1241 O.G. Skinner Drive, West Point, Georgia 31833, and
our telephone number is (706) 645-8553. We maintain a website at www.knology.com
where general information about our business is available. Reference to this
website shall not be deemed to incorporate the contents of our website into this
Prospectus.
THE DISTRIBUTION
Reasons for the Distribution
We have determined that we will need substantial capital in the near term
to fund our planned upgrades and expansion, as discussed in more detail below
under the caption "Management's Discussion and Analysis of Financial Condition
and Results of Operations." As described in that section, we intend to seek
additional capital through private and public equity and debt financings.
ITC Holding is a diversified telecommunications company which formed
KNOLOGY Holdings in 1995. ITC Holding currently owns 90% of KNOLOGY, which it is
distributing to its stockholders. We determined that our access to capital in
the private equity market and our ability to achieve a higher per share value
would be enhanced if the distribution was completed and we no longer had a
single stockholder holding a majority of our capital stock. See the section
under the caption "The Distribution" for a fuller discussion of the background
and reasons for the distribution.
Manner of Effecting the Distribution
In the distribution, ITC Holding is distributing to its stockholders and
option holders its 43,211,531 shares of our Series A preferred stock and options
to purchase 6,391,329 shares of our Series A preferred stock. Immediately after
the distribution, ITC Holding will not own any shares of our capital stock or
options to purchase any of our stock.
In the distribution, you will receive the following:
- 1.089404 shares of our Series A preferred stock for every share of ITC
Holding common stock that you own.
- 4.357616 shares of our Series A preferred stock for every share of ITC
Holding preferred stock that you own.
- An option to purchase 1.089404 shares of our Series A preferred stock,
for every option to purchase one share of common stock of ITC Holding
that you own.
Only ITC Holding security holders of record as of December 15, 1999 are
receiving securities in the distribution. Cash in the amount of $4.75 will be
paid in lieu of fractional shares or options. The distribution is expected to be
completed concurrently with the circulation of this prospectus.
In this distribution:
- You are not required to pay cash or any other consideration for the
securities you receive.
- You do not need to make any decisions or take any action to receive your
shares or options. You do not need to surrender your ITC Holding stock or
options.
- There are no conditions to the completion of the distribution. No further
board action is necessary and no stockholder vote is necessary.
- There are no proceeds to us or to ITC Holding.
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- No recipients of the distribution or stockholders of KNOLOGY are entitled
to appraisal rights in connection with the distribution.
The securities that you receive in this distribution will not be traded on
any exchange or listed on the NASDAQ market system. They are also subject to
restrictions on transfer described below under the caption "Description of
Capital Stock."
Material Federal Income Tax Consequences
Based on an IRS ruling received by ITC Holding on April 1, 1999, the
distribution of our stock to ITC Holding stockholders as described to the IRS
would qualify as a tax-free spin-off under Section 355 of the Internal Revenue
Code. On October 4, 1999, ITC Holding requested a supplemental ruling from the
IRS to the same effect. The IRS has not yet ruled on this request. The
supplemental ruling request was intended to notify the IRS of certain changes in
the factual representations and assumptions since the issuance of the initial
ruling by the IRS. ITC Holding has advised us that it believes that the changes
discussed in the supplemental ruling request should not make the initial IRS
ruling invalid, and that the supplemental ruling request was filed to obtain
confirmation of this from the IRS.
Assuming that the distribution qualifies as a tax-free spin-off consistent
with the April 1, 1999 ruling, and the supplemental ruling, if issued:
- Upon the receipt of our stock in the distribution, you will not recognize
any gain or loss, and no amount will be included in your income.
- The total amount of the basis of our stock plus the basis of the ITC
Holding stock held by you after the distribution will be the same as the
basis of the ITC Holding stock held by you immediately before the
distribution.
- If you receive cash in lieu of fractional share of our stock, you will be
taxed as if you had received the fractional share and we redeemed it for
the amount of cash. The gain or loss, based on the difference between the
amount of cash and your basis in the stock, will be a capital gain or
loss if you hold the fractional share interest as a capital asset.
ITC Holding has not yet received the supplemental ruling requested on October 4,
1999. As noted above, ITC Holding does not believe that the changes discussed in
the request for supplemental ruling will jeopardize the April 1, 1999 ruling.
However, it is possible that the Internal Revenue Service will refuse to issue
the supplemental ruling request and will take the position that the changes
described in the request for supplemental ruling cause the April 1, 1999 ruling
to be invalid. In addition, this ruling is subject to factual representations
made by ITC Holding to the IRS other than those amended in the supplemental
ruling request. If those factual representations and assumptions made by ITC
Holding are or become incorrect in any material respect, the reliability of the
IRS ruling will be jeopardized. However, ITC Holding is not aware of any facts
and circumstances that would cause those representations and assumptions to be
untrue.
If the distribution were not to constitute a tax-free spin-off, then the
distribution could have adverse tax consequences to you. These potential adverse
tax consequences are discussed in detail below under the caption "Material
Federal Income Tax Consequences of the Distribution."
The tax treatment of the option holders was not the subject of the April 1,
1999 IRS ruling or the supplemental ruling, and there is some risk that the
distribution of vested non-qualified options to purchase our stock which have an
option exercise price that is much lower than the fair market value of the stock
underlying the option will be treated as a taxable event. The potential tax
consequences for holders of ITC options and the related risks associated with
the distribution of options to purchase our stock are discussed in detail below
under the caption "Material Federal Income Tax Consequences of the
Distribution."
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INTENDED SUBSEQUENT PRIVATE PLACEMENT
Shortly after this distribution, we intend to make a private offering of
shares of our Series B preferred stock. This offering is expected to be to a
small group of institutional investors for approximately $100 million. Each
share of Series B preferred stock is expected to be convertible initially into
one share of our common stock. The terms of this private offering could change
and it is possible that the offering will not be consummated. The private
offering is contingent upon the completion of the distribution described by this
prospectus.
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SUMMARY CONSOLIDATED FINANCIAL DATA
The following table sets forth our summary consolidated financial data. The
summary financial data set forth below should be read in conjunction with the
section of the prospectus entitled "Management's Discussion and Analysis of
Financial Condition and Results of Operations", our financial statements and
related notes, and other financial data included elsewhere in this prospectus.
See Note 1 to our financial statements regarding the Reorganization.
<TABLE>
<CAPTION>
NINE NINE
YEAR YEAR YEAR MONTHS MONTHS
ENDED ENDED ENDED ENDED ENDED
DECEMBER 31, DECEMBER 31, DECEMBER 31, SEPTEMBER 30, SEPTEMBER 30,
1996 1997 1998(A) 1998 1999
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(UNAUDITED) (UNAUDITED)
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STATEMENT OF OPERATIONS DATA:
Operating Revenues........................ $17,527,208 $ 17,633,313 $ 45,132,522 $ 30,285,049 $ 48,824,228
Operating expenses:
Cost of services........................ 2,991,412 3,121,108 12,739,540 9,010,401 18,573,719
Selling, operations and
administrative........................ 8,331,795 9,498,461 37,323,345 24,256,479 35,760,116
Depreciation and amortization........... 3,022,056 2,781,800 17,108,034 8,925,933 28,697,148
----------- ------------ ------------ ------------ ------------
Total operating expenses.......... 14,345,263 15,401,369 67,170,919 42,192,813 83,030,983
----------- ------------ ------------ ------------ ------------
Operating income (loss)................... 3,181,945 2,231,944 (22,038,397) (11,907,764) (34,206,755)
----------- ------------ ------------ ------------ ------------
Other income and expense.................. (379,889) (2,048,506) (18,645,199) (12,389,198) (22,754,426)
----------- ------------ ------------ ------------ ------------
Income (loss) before minority interest,
income tax (provision) benefit and
cumulative effect of a change in
accounting principle.................... 2,802,056 183,438 (40,683,596) (24,296,962) (56,961,181)
Minority interest......................... -- -- 13,294,079 11,292,126 3,267,653
Income tax (provision) benefit............ (1,371,865) (1,010,779) 5,631,618 1,704,350 11,011,711
Cumulative effect of a change in
accounting principle.................... -- -- (582,541) (582,541) --
----------- ------------ ------------ ------------ ------------
Net income (loss)......................... 1,430,191 (827,341) (22,340,440) (11,883,027) (42,681,817)
Subsidiary preferred stock dividends...... -- (4,193,276) (1,424,222) (63,907) --
----------- ------------ ------------ ------------ ------------
Net income (loss) attributable to common
stockholders............................ $ 1,430,191 $ (5,020,617) $(23,764,662) $(11,946,934) $(42,681,817)
=========== ============ ============ ============ ============
PER SHARE DATA:
Basic and diluted net income (loss)
attributable to common stockholders..... $ 23.84 $ (83.68) $ (396.08) $ (199.12) $ (711.36)
Basic and diluted weighted average number
of common shares outstanding............ 60,000 60,000 60,000 60,000 60,000
OTHER FINANCIAL DATA:
Capital expenditures...................... $ 995,320 $ 1,727,079 $120,227,057 $ 80,913,266 $ 64,290,709
Cash provided by (used in) operating
activities.............................. 4,770,730 3,680,116 23,035,488 9,515,039 (3,069,133)
Cash (used in) provided by investing
activities.............................. (197,362) (22,223,940) (34,586,803) (22,997,766) 1,021,793
Cash (used in) provided by financing
activities.............................. (4,457,176) 18,726,407 16,083,187 15,176,704 18,088,543
EBITDA (b)................................ 5,640,550 2,509,854 8,564,129 8,475,265 (2,067,832)
Ratio of earnings to fixed charges........ 283.10 15.76 -- -- --
Insufficient earnings to cover fixed
charges................................. -- -- $ 28,778,561 $ 24,296,962 $ 56,961,181
</TABLE>
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DECEMBER 31, DECEMBER 31, DECEMBER 31, SEPTEMBER 30,
1996 1997 1998 1999
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(UNAUDITED) (UNAUDITED)
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BALANCE SHEET DATA:
Working capital..................................... $ 2,977,835 $(1,240,180) $ 49,965,918 $ 12,646,729
Property and equipment, net......................... 11,374,950 11,260,846 211,885,668 258,655,902
Total assets........................................ 22,883,276 30,196,492 369,847,446 359,663,248
Long-term debt, including accrued interest.......... -- -- 276,165,900 321,413,741
Total liabilities................................... 7,235,555 6,656,317 314,414,049 350,205,359
Minority interest................................... -- -- 3,267,653 --
Retained earnings (accumulated deficit)............. 9,598,225 3,181,179 (20,583,483) (63,265,300)
Total stockholders' equity.......................... 15,647,721 23,540,175 49,678,784 6,970,929
</TABLE>
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(a) See note 9 to our financial statements, Cable Alabama acquisition, for
further information regarding presentation.
(b) EBITDA represents earnings before interest expense, income taxes,
depreciation and amortization. EBITDA is not a measurement of financial
performance under generally accepted accounting principles. It should not be
considered an alternative to net income as a measure of performance or to
cash flow as a measure of liquidity. EBITDA is not necessarily comparable
with similarly titled measures for other companies. Management believes the
presentation of EBITDA provides relevant and useful information to investors
because it is a measure commonly used in the industry. Additionally,
management does not currently believe that there are any legal or functional
requirements that limit management's discretionary use of funds depicted by
EBITDA.
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RISK FACTORS
The securities being distributed pursuant to this prospectus involve a high
degree of risk, including those risks described below.
WE HAVE LOST MONEY ON OUR OPERATIONS TO DATE, AND WE EXPECT TO LOSE MORE MONEY
DURING THE NEXT SEVERAL YEARS.
As of September 30, 1999, we had an accumulated deficit of $63.3 million.
We expect to incur net losses and negative cash flow during the next several
years as we build our networks. Our ability to generate profits and positive
cash flow will depend in large part on our obtaining enough subscribers for our
services to offset the costs of constructing and operating our networks. If we
cannot achieve operating profitability or positive cash flows from operating
activities, our business, financial condition and operating results will be
adversely affected.
FAILURE TO OBTAIN ADDITIONAL FUNDING WOULD LIMIT OUR ABILITY TO EXPAND OUR
BUSINESS.
We expect to spend approximately $170 million during the next three years
to expand or upgrade our Panama City, Augusta, Charleston and Huntsville
networks. If we expand to new cities, we estimate the cost of constructing and
implementing networks in additional cities at approximately $50 million to $75
million per city, though costs could be as much as $85 million to $90 million
per city for larger markets. Actual costs may exceed this estimate. We will need
significant additional financing to complete this expansion and upgrade, to
expand into additional cities, for new business activities and for any
additional acquisitions. If we cannot obtain sufficient funds we may be required
to defer or abandon our expansion plans, which could limit our growth and
prospects.
NO TRADING MARKET EXISTS FOR OUR SECURITIES.
Our stock is not listed on any stock exchange or on the Nasdaq market
system, and no market makers currently make a market in our stock. We do not
expect that an active public market for our stock will develop after the
distribution. In addition, all shares of our stock are subject to transfer
restrictions. If one of our stockholders decides to sell his shares of our
stock, he must first offer those shares to us to purchase before he can offer
the shares to a third party. With the lack of an active public market for our
stock and our rights of first refusal on the sale of our stock, your ability to
sell our securities will be limited.
ITC HOLDING AND ITS STOCKHOLDERS, INCLUDING YOU, COULD RECOGNIZE SIGNIFICANT TAX
IF OUR TAX RULING BECOMES INVALID.
On April 1, 1999, the Internal Revenue Service ruled that the distribution
of our stock to ITC Holding stockholders as described to the IRS would qualify
as a tax-free spin-off. However, certain changes have occurred in the factual
representations and assumptions since the issuance of this ruling. Although a
supplemental ruling request has been filed to obtain confirmation that these
changes do not render the IRS ruling invalid, the IRS has not yet ruled on this
supplemental ruling request. In addition, this ruling is subject to factual
representations made by ITC Holding to the IRS other than those amended in the
supplemental ruling request. If those factual representations are or become
incorrect in any material respect, or if the IRS does not issue a supplemental
ruling, the ruling might not apply to the distribution. If the distribution were
not to constitute a tax-free spinoff, then the distribution could have the
following significant tax consequences to you:
- ITC Holding stockholders, including you -- Each holder of ITC Holding
stock who received shares of our stock in the distribution would be
treated as having received a taxable dividend in an amount equal to the
fair market value of our stock received at the time of the distribution
to the extent of such holder's share of ITC Holding's current and
accumulated earnings and profits.
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- ITC Holding -- ITC Holding would recognize a taxable gain equal to the
difference between the fair market value of the shares of our stock and
its adjusted basis in those shares at the time of the distribution.
THE DISTRIBUTION OF THE OPTIONS TO PURCHASE OUR STOCK TO ITC HOLDING OPTION
HOLDERS AND THE ADJUSTMENTS TO THE OUTSTANDING ITC HOLDING STOCK OPTIONS COULD
RESULT IN ADVERSE TAX CONSEQUENCES TO THE ITC HOLDING OPTION HOLDERS.
There are specific provisions of the Internal Revenue Code that provide
guidance on adjustments in connection with a spin-off for options that qualify
as incentive stock options. However, for options that do not qualify as
incentive stock options there is very little authority with respect to
adjustments made in connection with a spin-off. The IRS may find the
distribution to be a taxable event for some holders of nonqualified stock
options because some of the options following the distribution will be both
vested and have an option exercise price that is much less than the fair market
value of the stock underlying the option. Based on these two facts, the IRS may
take the position that the nonqualified options to purchase our stock are not in
fact options at the time of the distribution, but rather are new, outright
grants of stock. In that event, the distribution of the nonqualified options on
our stock and the adjustment of the outstanding ITC Holding options would result
in immediate and possibly substantial taxation for each option holder.
ITC HOLDING COULD RECOGNIZE SIGNIFICANT TAX IF THE DISTRIBUTION IS PART OF A
PLAN IN WHICH A 50% OR GREATER INTEREST IS ACQUIRED.
Even if the distribution is otherwise treated as a tax-free spin-off, ITC
Holding would recognize a large taxable gain if the distribution is part of a
plan or series of related transactions in which a 50% or greater interest in
KNOLOGY or ITC Holding is being acquired by one or more persons. Any cumulative
50% change of ownership within the four-year period beginning two years before
the date of the distribution will be presumed under applicable tax law to be
part of such a plan. If this presumption applies, it would need to be rebutted
to avoid a large taxable gain. Proposed regulations interpreting this provision
could make it extremely difficult for us to rebut this presumption with respect
to the distribution and a cumulative 50% change of ownership.
OUR TAX SEPARATION AGREEMENT WITH ITC HOLDING MAY LIMIT OUR ABILITY TO RAISE
EQUITY FUNDING OR CONDUCT ACQUISITIONS FOR STOCK.
ITC Holding and KNOLOGY have entered into a tax separation agreement in
which they have made representations and covenants that impose limitations on
the future actions of KNOLOGY. Because we could have substantial liability if we
breach our representations and covenants, KNOLOGY could be discouraged from
entering into transactions that might result in a breach. KNOLOGY might not
pursue any transaction that would be presumed to be part of a plan or series of
related transactions which results in any cumulative 50% change of ownership
within the four-year period beginning two years before the date of the spin-off.
Transactions that could involve a possible breach include an actual or
constructive change of control of KNOLOGY, and exceeding limits on the raising
of equity capital or the use of our stock to acquire other companies. Although
we believe we can complete our intended private placement and some additional
capital raising or stock acquisition transactions without violating the tax
separation agreement, we may have to forego some growth opportunities that may
occur during the two years subsequent to the distribution.
COMPETITION FROM OTHER TELEVISION PROVIDERS COULD CAUSE US TO LOSE SUBSCRIBERS.
To be successful, we will need to attract cable television subscribers away
from our competitors. We often are not the first cable television provider in
our markets, and we have to compete with other companies that have long-standing
customer relationships with the residents in these areas. Some of our
competitors have other competitive advantages over us, such as greater
experience, resources, marketing capabilities and name recognition. In addition,
a continuing trend toward business combinations and
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alliances in the cable television area and in the telecommunications industry as
a whole may create significant new competitors for us. In providing television
service, we currently compete with AT&T Cable Services, Comcast Cable
Communications, Time Warner Cable, Mediacom and Charter Communications, Inc. We
also compete with satellite television providers DirecTV and Echostar. Our other
competitors include:
- other cable television providers;
- broadcast television stations;
- other satellite television companies;
- wireless cable services; and
- private satellite dishes.
We expect in the future to compete with telephone companies providing cable
television service within their service areas.
New legislation will allow satellite providers to offer local programming.
This could reduce our current advantage over satellite providers in this area
and hurt our ability to attract and maintain subscribers.
Some cable television companies are trying to create a competitive
advantage for themselves by restricting our access to programming. If they are
successful, the programming we offer to our customers could be restricted and
our ability to attract and keep customers could be harmed.
COMPETITION FROM OTHER TELEPHONE SERVICE PROVIDERS COULD CAUSE US TO LOSE
CUSTOMERS.
In providing local and long distance telephone services, we compete with
the incumbent local phone company in each of our markets. We are not the first
provider of telephone services in most of our markets, and we have to convince
people in our markets to switch from other telephone companies to us. BellSouth
is the incumbent local phone company and is a particularly strong competitor in
our current markets and throughout the southeastern United States where we hope
to expand. We also compete with long distance phone companies such as AT&T, MCI
WorldCom and Sprint. Our other competitors include:
- independent or competitive local exchange carriers, which are local phone
companies other than the incumbent phone company that provide local
telephone services and access to long distance services over their own
networks or over networks leased from other companies;
- regional Bell operating companies other than BellSouth;
- wireless telephone carriers; and
- utility companies.
COMPETITION FROM OTHER PROVIDERS OF INTERNET SERVICES COULD CAUSE US TO LOSE
SUBSCRIBERS OR HINDER THE GROWTH OF OUR INTERNET SERVICES.
Providing Internet access services is a rapidly growing business and
competition is increasing in each of our markets. Some of our competitors have
competitive advantages over us, such as greater experience, resources, marketing
capabilities and stronger name recognition.
In providing Internet access services, we compete with:
- traditional dial-up Internet service providers;
- providers of satellite-based Internet services;
- other long distance telephone companies; and
- cable television companies.
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Other technologies also offer high-speed, high capacity connections to the
Internet. We will compete with companies offering broadband connections such as
DirecPC, one of the principal providers of satellite-based Internet services in
the United States; long distance telephone companies such as AT&T and MCI
WorldCom; traditional dial-up Internet service providers; and cable modem
services such as Excite@Home, a joint venture among several major cable
companies.
OUR PROGRAMMING COSTS ARE INCREASING, WHICH COULD REDUCE OUR CASH FLOW AND
OPERATING MARGINS.
Programming has been our largest single operating expense item and we
expect this to continue. In recent years, the cable industry has experienced a
rapid increase in the cost of programming, particularly sports programming. This
increase may continue and we may not be able to pass programming costs increases
on to our customers. In addition, as we increase the channel capacity of our
systems and add programming to our basic and expanded basic programming tiers,
we may face additional market constraints on our ability to pass programming
costs on to our customers. The inability to pass programming cost increases on
to our customers would have an adverse impact on our cash flow and operating
margins.
PROGRAMMING EXCLUSIVITY IN FAVOR OF OUR COMPETITORS COULD ADVERSELY AFFECT THE
DEMAND FOR OUR CABLE SERVICES.
We obtain our programming by entering into contracts or arrangements with
cable programming vendors. A cable programming vendor may enter into an
exclusive arrangement with one of our cable television competitors. This could
prevent us from offering certain programming on our cable television systems,
which could adversely affect the demand for our cable services.
THE SIGNIFICANT AMOUNT OF DEBT WE HAVE COULD HARM OUR BUSINESS.
As of September 30, 1999, we had $321.4 million of debt, including accrued
interest and our stockholders' equity was $7.0 million. We anticipate that we
will incur more debt as we expand our existing networks and move into new
markets in the future. Our debt could adversely affect our business in a number
of ways, as:
- we have to use a lot of our money to pay interest and repay principal on
debt;
- we may have trouble obtaining future financing;
- we may have limited flexibility in planning for or reacting to changes in
our business;
- we may have more debt relative to our competitors, which may place us at
a disadvantage; and
- we may be more vulnerable to any economic downturn.
Our earnings were not sufficient to cover our fixed charges in 1998 and through
the first nine months of 1999. We will need to grow and generate profits in
order to generate the cash to repay our debt. If we cannot meet our debt
payments, we may need to seek additional financing or sell some of our assets,
which would affect our business, operations and the value of our company.
RESTRICTIONS ON OUR BUSINESS IMPOSED BY OUR DEBT AGREEMENTS COULD LIMIT OUR
GROWTH OR ACTIVITIES.
Our indenture and credit facility agreements place operating and financial
restrictions on us and our subsidiaries. These restrictions affect our and our
subsidiaries' ability to:
- incur additional debt;
- create liens on our assets;
- use the proceeds from any sale of assets; and
- make distributions on or redeem our stock.
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In addition, our credit facility requires us to maintain certain financial
ratios. These limitations may affect our ability to finance our future
operations or to engage in other business activities that may be in our
interest. If we violate any of these restrictions, we could be in default under
one or both of these agreements and be required to repay our debt immediately
rather than at the maturity of the debt.
WE MAY ENCOUNTER DIFFICULTIES EXPANDING INTO ADDITIONAL MARKETS.
To expand into additional cities we will have to obtain pole attachment
agreements, construction permits, franchises and other regulatory approvals.
Delays in receiving the necessary construction permits and in conducting the
construction itself have adversely affected our schedule in the past and could
do so again in the future. Further, we may face resistance from competitors who
are already in these markets. A competitor may oppose or delay our franchise
application or our request for pole attachment space. These difficulties could
harm the development of our business in new markets.
IF WE ARE NOT ABLE TO MANAGE OUR GROWTH, OUR BUSINESS WILL BE HARMED.
Our ability to grow will depend, in part, upon our:
- successfully implementing our strategy;
- evaluating markets;
- securing financing;
- constructing facilities;
- obtaining any required government authorizations; and
- hiring and retaining qualified personnel.
In addition, as we increase our service offerings and expand our targeted
markets, we will have additional demands on our customer support, sales and
marketing, administrative resources and network infrastructure. If we cannot
effectively manage our growth, our business and results of operations will be
harmed.
ACQUISITIONS AND JOINT VENTURES COULD STRAIN OUR BUSINESS AND RESOURCES.
If we acquire existing companies or networks, or enter into joint ventures,
we may be subject to:
- miscalculation of the value of the acquired company or joint venture;
- diversion of resources and management time;
- difficulties in integration of the acquired business or joint venture
with our operations;
- relationship issues as a result of changes in management;
- additional liabilities or obligations as a result of the acquisition or
joint venture; and
- additional financial burdens or dilution incurred with the transaction.
Ongoing consolidation in the telecommunications industry may be shrinking
the number of attractive acquisition targets.
WE OPERATE OUR NETWORKS UNDER FRANCHISES WHICH ARE SUBJECT TO NON-RENEWAL OR
TERMINATION, EITHER OF WHICH COULD ADVERSELY AFFECT OUR BUSINESS.
Our networks generally operate pursuant to franchises, permits or licenses
typically granted by a municipality or other state or local government
controlling the public rights-of-way. Often, franchises are terminable if the
franchisee fails to comply with material terms of the franchise order or the
local franchise authority's regulations. Further, franchises generally have
fixed terms and must be renewed periodically. Local franchising authorities may
resist granting a renewal if they consider either past
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performance or the prospective operating proposal to be inadequate. Our
franchises for Montgomery, Columbus, Panama City, Augusta, Charleston,
Huntsville and the Georgia/Alabama border area will expire in March 2005, March
2009, July 2007, January 2013, April 2013, March 2001 and January 2013,
respectively. If one of our franchises is not renewed or terminated, our
business will be harmed.
IF WE ARE NOT ABLE TO OBTAIN AND RENEW OUR FRANCHISES IN A TIMELY MANNER AND ON
ACCEPTABLE TERMS AND CONDITIONS, OUR BUSINESS WILL BE HARMED.
Our business depends on our ability to obtain and renew our franchises in a
timely manner and on acceptable terms and conditions. We cannot predict whether
we will obtain franchises in new cities on terms that will make construction of
a network and provision of broadband communications services economically
attractive for us.
SINCE WE OPERATE OUR SYSTEMS UNDER FRANCHISES WHICH ARE NON-EXCLUSIVE, LOCAL
FRANCHISING AUTHORITIES CAN GRANT ADDITIONAL FRANCHISES AND CREATE MORE
COMPETITION FOR US IN OUR MARKETS.
Our franchises are non-exclusive. The local franchising authorities can
grant franchises to competitors who may build networks in our market areas. This
could adversely affect our growth and our profitability.
LOCAL FRANCHISE AUTHORITIES HAVE THE ABILITY TO IMPOSE REGULATORY CONSTRAINTS OR
REQUIREMENTS ON OUR BUSINESS, WHICH COULD INCREASE OUR EXPENSES.
Local franchise authorities can impose regulatory constraints by local
ordinance or as part of a grant or renewal of a franchise. They also may impose
customer service or other requirements. This would increase our expenses in
operating our business.
LOSS OF ACCESS TO OTHER COMPANIES' NETWORKS COULD IMPAIR OUR TELEPHONE SERVICE.
We rely on other companies to provide:
- communications capacity between our facility that switches telephone
calls and our local networks;
- long distance telephone services;
- space at areas along our network or in switching centers to locate
equipment. Since for efficiency reasons our equipment needs to be located
near and often connected to similar equipment operated by other
providers, which is called co-location, available space can be quite
limited;
- special network services for internet transport requirements.
We purchase these services from two primary vendors, Business Telecom, Inc. and
ITCODeltaCom, both of which compete with us. ITCODeltaCom, which was spun off by
ITC Holding to its stockholders in 1998, may be deemed a related party. We have
a minimum purchase commitment of $50,000 with Business Telecom which we have
always met or surpassed. We do not have a minimum purchase commitment with
ITCODeltaCom. If we lost services from either of these companies, we would have
to find another entity who could provide these services for us and may have to
pay more for the same services or meet a higher minimum purchase commitment.
Further, if either of these companies reduced our access to its facilities
because that company did not have the capacity to provide these services to us,
our business would be harmed.
LOSS OF INTERCONNECTION ARRANGEMENTS COULD IMPAIR OUR TELEPHONE SERVICE.
We rely on other companies to connect with users of telephone service who
are not our customers. We presently have access to BellSouth's telephone network
under a nine-state interconnection agreement which expires in April 2000. While
we are currently in negotiations with BellSouth to renew this agreement, it may
not be renewed on favorable terms or at all, since BellSouth is our competitor.
The Telecommunications Act of 1996 creates incentives for BellSouth and other
regional Bell operating companies to give us access to their facilities by
prohibiting them from providing long distance services
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until they have opened their local markets to competition, which requires
interconnection arrangements. BellSouth and the other companies may be less
accommodating to us once they are permitted to offer long distance service.
It is generally expected that the Telecommunications Act of 1996 will
continue to undergo considerable interpretation and implementation over the next
several years, which could have a negative impact on our interconnection
agreement with BellSouth. Our ability to compete successfully in the provision
of services will depend on the timing of such implementing regulations and
whether they are favorable to us.
CHANGES IN DEMAND FOR OUR TELEPHONE SERVICES COULD HARM OUR BUSINESS.
We could be affected by changes in demand for our local and long distance
telephone services, including:
- traditional telephone services;
- premium telephone service;
- additional access lines per household;
- billing and collection services; and
- local competition in the Georgia/Alabama border area.
Any downturn in demand will harm our business, profitability and growth
prospects. In addition, recent price decreases and promotional activities by
major long distance carriers could have a material adverse impact on our cash
flow and margins.
WE DO NOT KNOW THE DEMAND FOR OUR BUNDLED COMMUNICATIONS SERVICES.
Our plan to provide bundled broadband communications services is fairly new
and untested. It could be unsuccessful due to:
- competition;
- pricing;
- regulatory uncertainties; or
- operating and technical difficulties.
In addition, the demand for some of our planned broadband communications
services, either alone or as part of a bundle, cannot readily be determined. Our
business could be adversely affected if demand for bundled services is
materially lower than we expect.
FUTURE TECHNOLOGICAL DEVELOPMENTS MAY HURT OUR BUSINESS.
Future technological developments may reduce our network's competitiveness
or require expensive and time-consuming upgrades or additional equipment. In
addition, we may be required to select in advance one technology over another
and may not choose the technology that turns out to be the most economic,
efficient or attractive to customers.
WE DEPEND UPON A VERY SMALL NUMBER OF SUPPLIERS FOR OUR CABLE EQUIPMENT.
Since the cable equipment industry is a consolidated industry, there are
relatively few manufacturers of cable equipment. We purchase digital cable
equipment from one supplier. This supplier has informed us that it may decide
not to sell equipment to us in some new markets because of their existing
relationship with a large competitor. If we are unable to resolve this issue
with this supplier favorably or are unable to identify an alternate source of
digital cable equipment, our ability to expand into some new markets may be
impaired.
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WE HAVE EXPERIENCED DIFFICULTY ENGAGING SUFFICIENT CONSTRUCTION CONTRACTORS AND
OUR CONSTRUCTION COSTS ARE INCREASING.
The expansion and upgrade of our existing networks and the development of
future networks require us to hire construction contractors. We could have
difficulty hiring experienced contractors because of increases in demand for
cable construction services. Our construction costs may increase significantly
over the next few years as demand for cable construction services continues to
grow.
WE COULD BE HURT BY FUTURE INTERPRETATION OR IMPLEMENTATION OF REGULATIONS.
The current communications and cable legislation is complex and in many
areas sets forth policy objectives to be implemented by regulation.
There are proposals before the United States Congress and the Federal
Communications Commission to require all cable operators to make a portion of
their cable systems' capacity available to other Internet service providers,
such as telephone companies. Certain local franchising authorities are
considering or have already approved similar open access requirements. If
regulators decide to require us to provide competing telephone or Internet
service providers with access to our broadband networks, much of the competitive
advantage we have from owning our own networks could be eliminated. Our
interconnection agreements, which we depend on to reach users who are not our
customers, are subject to regulation by the Federal Communications Commission
and state authorities. Unfavorable regulation that delays interconnection or
increases the cost of interconnection would hurt our business.
As stated earlier, it is generally expected that the Telecommunications Act
of 1996 will continue to undergo considerable interpretation and implementation
over the next several years. Our ability to compete successfully will depend on
the timing of such implementing regulations and whether they are favorable to
us.
OUR RELATIONSHIPS WITH ITC HOLDING'S COMPANIES AND AT&T'S VENTURE FUNDS MAY
CAUSE CONFLICTS OF INTERESTS.
We have relationships with several of ITC Holding's subsidiaries and
affiliated companies. Some of our directors are directors, stockholders, and/or
officers of various ITC Holding companies. AT&T's venture funds collectively are
a significant stockholder and also have a representative on our board of
directors. When the interests of ITC Holding, other ITC Holding companies or
AT&T's venture funds differ from ours, the ITC Holding companies and AT&T
venture funds act in their own respective best interests, which could be adverse
to our interests.
PROBLEMS RELATED TO THE YEAR 2000 ISSUE COULD DISRUPT OUR OPERATIONS AND HARM
OUR BUSINESS.
The year 2000 issue affects our owned and licensed computer systems and
equipment used in connection with internal operations. It also affects our
non-information technology systems, including embedded systems in our buildings
and other infrastructure. Additionally, we rely directly and indirectly, in the
regular course of business, on the proper operation and compatibility of third
party systems, and the year 2000 problem could cause these systems to fail, err
or become incompatible with our systems.
Much of our assessment effort regarding the year 2000 problem has involved,
and depends on, inquiries to third party service providers. If we, or
significant third parties with whom we communicate and do business through
computers, fail to become year 2000 ready, or if the year 2000 problem causes
our systems to become internally incompatible or incompatible with key third
party systems, our business could suffer material disruptions. We could also
face disruptions if the year 2000 problem causes general widespread problems or
an economic crisis. We cannot now estimate the extent of these potential
disruptions. We cannot assure you that our efforts to date and our ongoing
efforts to prepare for the year 2000 problem will be sufficient to prevent a
material disruption of our operations. If any such disruption occurs, our
growth, profitability and operating results could suffer materially.
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WE WILL NOT BE ABLE TO RELY ON ITC HOLDING FOR ACCESS TO CAPITAL.
As a subsidiary of ITC Holding, we had access to capital that we may not
have as a stand-alone company. Following the distribution, we will not have
access to capital through ITC Holding and it will be less likely that ITC
Holding will be willing to provide financing to us or enter into other
transactions with us. In the past, ITC Holding has contributed equity to us and
has lent money to us. We can no longer rely on financing from ITC Holding, and
we must depend on our own resources.
SINCE OUR BUSINESS IS CONCENTRATED IN SPECIFIC GEOGRAPHIC LOCATIONS, OUR
BUSINESS COULD BE HURT BY A DEPRESSED ECONOMY IN THESE AREAS.
We provide our services to areas in Alabama, Georgia, Florida and South
Carolina, all in the southeastern United States. Our networks are built in small
to mid-sized markets that we believe will grow and allow us to grow with them. A
stagnant or depressed economy in the southeastern United States could affect all
of our markets, and our entire business and profitability would be damaged.
OUR SERVICE NETWORK OR OTHER FACILITIES COULD BE DAMAGED BY NATURAL CATASTROPHE.
Our success depends on the efficient and uninterrupted operation of our
communications services. Our networks are attached to poles and other structures
in our service areas, and our ability to provide service depends on the
availability of electric power. A tornado, hurricane, flood or other
catastrophic event in one of these areas could damage our network, interrupt our
service and harm our business in the affected area. In addition, many of our
markets are close together, and a single natural disaster could damage several
of our networks.
ALTHOUGH OUR STOCK IS NOT PUBLICLY TRADED, THE VALUE OF OUR STOCK COULD BE HURT
BY SUBSTANTIAL PRICE FLUCTUATIONS.
The value of our capital stock could be subject to sudden and material
increases and decreases, even though it is not publicly traded. The value of our
stock could fluctuate in response to:
- our quarterly operating results;
- changes in our business;
- changes in the market's perception of our bundled services;
- changes in the businesses or market perceptions of our competitors; and
- changes in general market or economic conditions.
In addition, the stock market has experienced extreme price and volume
fluctuations in recent years that have significantly affected the value of
securities of many companies. The changes often appear to occur without regard
to specific operating performance. The value of our capital stock could increase
or decrease based on change of this type, even though our stock is not publicly
traded. These fluctuations could materially reduce the value of our stock.
IF WE ISSUE MORE STOCK IN FUTURE OFFERINGS, THE PERCENTAGE OF OUR STOCK THAT YOU
OWN WILL BE DILUTED.
Following this distribution, we will have 2,476 shares of common stock and
48,035,531 shares of Series A preferred stock outstanding. Shortly after this
distribution, we intend to make a private offering of shares of our Series B
preferred stock to a small group of institutional investors for approximately
$100 million at $4.75 per share. Each share of Series B preferred stock issued
is expected to be convertible into one share of our common stock. This private
offering, if consummated, will significantly dilute your percentage ownership in
KNOLOGY. Future stock issuances also will reduce your percentage ownership.
FOLLOWING THE DISTRIBUTION, A SMALL NUMBER OF STOCKHOLDERS WILL CONTROL A
SIGNIFICANT PORTION OF KNOLOGY.
Following the distribution, approximately 16.1% of our outstanding voting
stock will be beneficially owned by Campbell B. Lanier, the Chairman of our
board of directors, and members of Mr. Lanier's family. Further, AT&T venture
funds, SCANA Communications, Inc., American Water Works
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Company, Inc. and South Atlantic funds beneficially own approximately 8.9%,
15.0%, 7.9% and 7.4% of our outstanding voting stock, respectively. As a result,
these stockholders will each have a dominant voting position with respect to the
ability to:
- elect our directors;
- amend our certificate of incorporation or bylaws; or
- effect a merger, sale of assets or other corporate transaction.
The extent of ownership by these stockholders may also discourage a potential
acquirer from making an offer to acquire KNOLOGY. This could reduce the value of
our stock.
WE EXPECT TO ENTER INTO A STOCKHOLDERS' AGREEMENT WITH SERIES B PREFERRED
STOCKHOLDERS WHEN WE ISSUE OUR SERIES B PREFERRED STOCK, WHICH AGREEMENT MAY
EFFECT THE RIGHTS OF HOLDERS OF OUR COMMON AND SERIES A PREFERRED STOCK.
We intend to make a private offering of shares of our Series B preferred
stock in the near future, and we expect to enter into a stockholders' agreement
with the Series B stockholders. This stockholders' agreement is expected to give
the Series B stockholders rights to subscribe when we offer additional stock in
the future and rights to elect two directors. The subscription right may inhibit
our ability to conduct sales of our securities to strategic investors and limit
our ability to dilute the interests of the Series B stockholders. The right to
elect two directors may give the Series B stockholders disproportionate
representation on our board of directors.
WE COULD BE DAMAGED BY THE LOSS OF OUR KEY PERSONNEL.
Our business is currently managed by a small number of key management and
operating personnel. We do not have any employment agreements with, nor do we
maintain "key man" insurance on, these or any other employees. As we have
numerous new employees resulting from our recent growth, we are particularly
dependent upon our management and longer-term employees who are familiar with
our company and our needs and can train our new hires.
ANTI-TAKEOVER PROVISIONS IN DELAWARE LAW AND OUR CHARTER DOCUMENTS COULD MAKE IT
HARD FOR A THIRD PARTY TO ACQUIRE US.
As a Delaware company we are subject to the anti-takeover provisions of
Section 203 of the Delaware General Corporation Law. Section 203 could delay or
prevent a third party or a significant stockholder from acquiring control of us.
In addition, our charter and bylaws may have the effect of discouraging,
delaying or preventing a merger, tender offer or proxy contest involving our
company. Any of these anti-takeover provisions could lower the market price of
our stock. No active market for our stock exists.
FORWARD-LOOKING STATEMENTS SHOULD BE READ WITH CAUTION.
This prospectus contains certain forward-looking statements regarding our
operations and business. Statements in this document that are not historical
facts are "forward-looking statements." Such forward-looking statements include
those relating to:
- future business developments;
- projected or anticipated expansion or construction;
- possible acquisitions and alliances;
- projected revenues, working capital, liquidity, capital needs, interest
costs and income; and
- year 2000 readiness.
The words "estimate," "project," "intend," "expect," "believe," "may,"
"could" and similar expressions are intended to identify forward-looking
statements. Wherever they occur in this prospectus or in other statements
attributable to us, forward-looking statements are necessarily estimates
reflecting our best judgment. However, these statements still involve a number
of risks and uncertainties that could cause actual results to differ materially
from those suggested by the forward-looking statements. We caution you not to
place undue reliance on these forward-looking statements, which speak only as of
today's date.
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THE DISTRIBUTION
BACKGROUND AND REASONS FOR THE DISTRIBUTION
We will need substantial capital in the near term to fund our planned
upgrades and expansion, as discussed in more detail below under the caption
"Management's Discussion and Analysis of Financial Condition and Results of
Operations." We intend to seek additional capital through private and public
equity and debt financings. Our board of directors, together with the KNOLOGY
Holdings board of directors, has decided that at present KNOLOGY should pursue
equity capital by making a private offering of our capital stock. In reaching
this decision the boards of directors considered many factors, including the
amount of indebtedness at KNOLOGY Holdings, the stage of our development, the
expected availability of funding from various possible funding transactions, and
the apparent condition of the capital markets at the present time.
This private offering will not satisfy all of our capital needs, and we
will need to raise additional capital from future private and public equity and
debt offerings, as described more fully under the caption "Management's
Discussion and Analysis of Financial Condition and Results of Operations." As
part of this decision-making process, our board of directors approved the
distribution.
Our board of directors considered making a private offering of our stock as
a majority-owned indirect subsidiary of ITC Holding, which would remain our
parent company. However, the board ultimately decided, based in part on advice
from our financial advisor, that our access to capital in the private equity
market and our ability to achieve a higher per-share value would be enhanced if
we did not have a single stockholder holding a majority of our capital stock.
Following discussions with ITC Holding, our board determined that we could
achieve broader and diverse equity ownership by having ITC Holding complete the
distribution prior to our making the private offering of our stock.
We believe that the per-share valuation of the stock offered to the private
equity equity markets to raise capital following the distribution would be
significantly higher than the per share value of the stock offered by KNOLOGY as
a majority-owned subsidiary of ITC Holding without effecting the distribution.
In situations where a single party or a small number of related parties own a
large majority of the common stock of a company or otherwise control a company,
minority investors are typically concerned about potential conflicts of interest
with large stockholders and the potential negative impact on per-share trading
price of large blocks of stock being offered for sale at a later date by large
holders. These concerns, or any uncertainty relating to these issues, can result
in decreased demand or a lower price per-share that investors are willing to pay
for stock of companies with large majority holders.
We believe that potential conflicts of interest between stockholder groups
can arise when a single party or small number of related parties own a large
majority of the stock or otherwise control a company. One such conflict would be
an offer from a third party to acquire a company. While the offer might
represent a fair value, strategic consideration by the controlling party may
lead to the refusal of the offer, even though the offer might provide minority
investors a higher return than they otherwise would be able to achieve. Given
the potential for consolidation in the broadband telecommunications sector, this
potential conflict of interest could be a significant issue for us.
We believe that another likely concern among investors in a private
placement is the potential for significant amounts of stock to be offered for
sale in the future by holders of large amounts of stock. Concentrated ownership
of a large amount of stock heightens this concern, often referred to as
over-hang. Large amounts of stock offered in the market on a secondary basis,
especially by control stockholders perceived by the market to be extremely
knowledgeable about a company and its prospects, can materially affect a
company's valuation. Given the diffuse ownership profile resulting from the
distribution and the correspondingly lower risk of a large number of investors
acting in concert to sell a given amount of stock, we believe the distribution
would significantly decrease investor concern regarding over-hang.
The board of directors also considered factors weighing against approving
the distribution, such as the significant time required and expenses expected to
be incurred in completing the distribution, and the loss
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of intercompany loans and other favorable arrangements with ITC Holding and/or
its subsidiaries and affiliates. However, the board concluded that these
negative factors do not outweigh the benefits of the distribution.
The private placement we intend to pursue shortly after the distribution is
contingent on our completing the distribution.
MANNER OF EFFECTING THE DISTRIBUTION
In the distribution ITC Holding is distributing to its stockholders and
option holders its 43,211,531 shares of our Series A preferred stock and options
to purchase 6,391,329 shares of our Series A preferred stock. Immediately after
the distribution, ITC Holding will not own any shares of our capital stock or
options to purchase any of our stock.
In this distribution:
- You are not required to pay cash or any other consideration
for the securities you receive.
- You do not need to make any decisions or take any action to
receive your shares or options. You do not need to surrender
your ITC Holding stock or options.
- There are no conditions to the completion of the distribution.
No further board action is necessary and no stockholder vote
is necessary.
- There are no proceeds to us or to ITC Holding.
- No recipients of the distribution or stockholders of KNOLOGY
are entitled to appraisal rights in connection with the
distribution.
ITC Holding and its subsidiary that held the Series A preferred stock and
options to purchase Series A preferred stock of KNOLOGY prior to the
distribution may be deemed underwriters under applicable law with respect to the
securities being distributed in the distribution. Neither of these companies is
receiving any compensation or undertaking any selling efforts in connection with
the distribution.
STOCK DISTRIBUTION. The stock portion of the distribution is being
effected by a dividend payable to the 350 holders of record of ITC Holding's
capital stock at the close of business on December 15, 1999. The dividend
includes:
- 1.089404 shares of our Series A preferred stock for every share of
ITC Holding common stock and
- 4.357616 shares of our Series A preferred stock for every share of
ITC Holding preferred stock.
The distribution ratio for the ITC Holding common stock was determined by
dividing the number of shares of our Series A preferred stock held by ITC
Holding by the number of shares of capital stock of ITC Holding outstanding. The
distribution ratio for the ITC Holding preferred stock was determined by
multiplying the distribution ratio for the ITC Holding common stock by four.
This is because the ITC Holding preferred stock will be convertible into common
stock at a 4:1 ratio after March 14, 2002.
ITC Holding will not issue any fractional interests in our capital stock as
part of the distribution. Cash in the amount of $4.75 per share is being paid in
lieu of fractional shares.
ITC Holding stock certificates will continue to represent shares of ITC
Holding's capital stock after the distribution in the same amount as prior to
the distribution.
OPTION DISTRIBUTION. ITC Holding is distributing to each of the 888 ITC
option holders as of December 15, 1999 an option to purchase 1.089404 shares of
our Series A preferred stock for each option to purchase one share of ITC
Holding common stock then outstanding. The distribution ratio is the same
17
<PAGE> 21
as the distribution ratio of Series A preferred stock for every share of ITC
Holding common stock. ITC Holding is required to use the same ratio in order to
prevent dilution of the value of the options held by the ITC option holders. The
exercise price of these options will be determined by multiplying the percentage
of ITC Holding's value attributed to us at the time of the distribution by the
exercise price of the ITC option to which our option relates. The weighted
average exercise price of the distributed options is approximately $1.14. The
option terms for vesting and termination match the terms of existing ITC Holding
options.
ITC Holding will not issue any fractional interests in our options as part
of the distribution. Cash in the amount of $4.75 per share is being paid in lieu
of fractional options.
ITC Holding recently acquired the options to purchase shares of our Series
A preferred stock that it is distributing to you. In December 1999, we entered
into a loan agreement with a subsidiary of ITC Holding under which the
subsidiary loaned us approximately $30.4 million. The note issued under the loan
agreement provided that the ITC Holding subsidiary could elect, in lieu of
repayment, to convert the amount outstanding under the note into options to
purchase shares of our Series A preferred stock. Prior to the distribution the
entire amount of the note was converted into options to purchase 6,391,329
shares of our Series A preferred stock, and these options are the ones being
distributed to ITC Holding option holders. Under the note, ITC Holding has the
right to specify the terms of those options, including the exercise price.
The note provides that we will pay to ITC Holding any proceeds of option
exercises received by us. In the event of a cashless exercise of any of these
options, we will pay to ITC Holding in cash an amount equal to the exercise
price.
ITC Holding stock options will continue to represent options to purchase
the same number of shares of ITC Holding capital stock as before the
distribution. We have been advised that ITC Holding is reducing the exercise
price of your ITC Holding stock options based on the amount of the exercise
price of the options to purchase our stock that is being distributed to you. The
aggregate exercise prices of both the ITC Holding stock options and the options
to purchase our stock that you receive in the distribution will be the same as
the aggregate exercise price of the ITC Holding stock options prior to the
distribution.
ACCOUNTING FOR THE DISTRIBUTION
For financial statement purposes, the distribution to the ITC Holding
shareholders will be recorded at historical cost. The stock options purchased by
ITC Holding for its current option holders will be accounted for as a capital
contribution in our financial statements and the amount of approximately $30.4
million recorded as additional paid in capital. As the options are exercised, we
will issue the shares and record the appropriate reclassification between
additional paid in capital and the par value of the preferred stock. The cash
received will be passed through to ITC Holding and will have no impact on our
financial statements. The distribution of the options will not impact either ITC
Holding's or our results of operations except to the extent cash is paid by ITC
Holding for fractional options. The cash paid for fractional options will be
recognized as compensation expense but is not expected to be material to either
ITC Holding's or our financial statements.
EXPENSES
There is no underwriter compensation or commissions earned as a result of
the distribution. We estimate that the expenses of the distribution will be
approximately $600,000, of which we will pay approximately 26% and ITC Holding
will pay approximately 74%. This amount includes expenses for accounting and
legal services, printing and other miscellaneous expenses to be incurred in the
distribution.
MATERIAL FEDERAL INCOME TAX CONSEQUENCES OF THE DISTRIBUTION
The following discusses the material federal income tax consequences of the
distribution. The discussion is based on the Internal Revenue Code of 1986, as
amended, referred to in this section as the
18
<PAGE> 22
Internal Revenue Code, all applicable U.S. Treasury regulations under the
Internal Revenue Code, administrative rulings and judicial authority, all as of
the date of this registration statement. All of these authorities are subject to
change, and any change could affect the continuing validity of this discussion.
This discussion does not cover all federal income tax consequences that may
apply to all categories of stockholders and option holders. All stockholders and
option holders should consult their own tax advisors regarding the particular
federal, foreign, state and local tax consequences to them of the distribution.
FEDERAL INCOME TAX CONSEQUENCES OF THE DISTRIBUTION TO ITC HOLDING STOCKHOLDERS
AND ITC HOLDING
Tax consequences based on IRS ruling and supplemental ruling request. On
September 24, 1998, ITC Holding requested a ruling from the Internal Revenue
Service regarding the federal income tax treatment of the proposed distribution
of our stock to ITC Holding stockholders. On April 1, 1999, the IRS ruled that
the distribution of our stock to ITC Holding stockholders as described to the
IRS would qualify as a tax-free spin-off under Section 355 of the Internal
Revenue Code. On October 4, 1999, ITC Holding requested a supplemental ruling
from the IRS to the same effect. The IRS has not yet ruled on this request. The
supplemental ruling request was intended to notify the IRS of certain changes in
the factual representations and assumptions since the issuance of the initial
ruling by the IRS. ITC Holding believes that the changes discussed in the
supplemental ruling request should not make the initial IRS ruling invalid, and
the supplemental ruling request was filed to obtain confirmation of this from
the IRS.
Assuming that the distribution qualifies as a tax-free spin-off consistent
with the April 1, 1999 ruling and the supplemental ruling, if issued:
- No gain or loss will be recognized by, and no amount will be
included in the income of, the holders of ITC Holding stock upon
their receipt of our stock.
- The holding period applicable to our stock for federal income tax
purposes in the hands of a holder of ITC Holding stock receiving the
distribution would include the stockholder's holding period for the
ITC Holding stock.
- The total of the basis of our stock plus the basis of the ITC
Holding stock held by each ITC Holding stockholder after the
distribution will be the same as the basis of the ITC Holding stock
held by the stockholder immediately before the distribution, with
the total basis allocated in proportion to the relative fair market
values of our stock and the ITC Holding stock as of the date of the
distribution (less the amount of basis allocable to any fractional
share interests in our stock for which ITC Holding stockholders
receive cash). We have been informed by ITC Holding management that
it will notify each ITC Holding stockholder in the near future of
ITC Holding management's estimate regarding the relative fair market
values of our stock and the ITC Holding stock as of the date of the
distribution.
- The receipt of cash in lieu of fractional share interests in our
stock will be treated as received in exchange for the fractional
share and gain or loss will be recognized to a recipient stockholder
to the extent of the difference between the stockholder's basis in
the fractional share and the amount received for the fractional
share. If the fractional share interest is held as a capital asset
by the recipient stockholder, the gain or loss will be capital gain
or loss.
Tax consequences if IRS ruling is or becomes invalid. ITC Holding has not
yet received the supplemental ruling requested on October 4, 1999. As noted
above, ITC Holding does not believe that the changes discussed in the request
for supplemental ruling will jeopardize the April 1, 1999 ruling. However, it is
possible that the Internal Revenue Service will refuse to issue the supplemental
ruling request and will take the position that the changes described in the
request for supplemental ruling cause the April 1, 1999 ruling to be invalid. In
addition, the IRS ruling is premised on the accuracy of factual representations
and assumptions other than those amended in the request for supplemental ruling.
If those factual representations and assumptions made by ITC Holding are or
become incorrect in any material respect, the reliability of the IRS ruling
could be jeopardized. However, ITC Holding is not aware of any facts and
circumstances that would cause those representations and assumptions to be
untrue.
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<PAGE> 23
If the distribution were not to constitute a tax-free spin-off, then the
distribution could have the following tax consequences to you:
- Each holder of ITC Holding stock who received shares of our stock in
the distribution would generally be treated as having received a
distribution from ITC Holding in an amount equal to the fair market
value of our stock received at the time of the distribution that
will be a taxable dividend, to the extent of the stockholder's share
of ITC Holding's current-year and accumulated earnings and profits.
- To the extent that the fair market value of the shares received by a
holder of ITC Holding stock in the distribution exceeds the
stockholder's share of ITC Holding's current and accumulated
earnings and profits, the distribution would be treated first as a
tax-free return of capital, reducing the stockholder's adjusted
basis in his ITC Holding stock by the amount of the excess (but not
below zero) and then, if the basis is reduced to zero and there is
remaining excess, as capital gain to the extent of the remaining
excess if the stockholder has held the ITC Holding stock as a
capital asset.
- The holder of ITC Holding stock would have a basis in our stock
received in the distribution equal to the fair market value of the
stock at the time of the distribution, and his holding period would
begin on the day after the date of the distribution. Except as set
forth above with respect to distributions in excess of ITC Holding's
earnings and profits, the basis of the stockholder's existing ITC
Holding stock would be unchanged.
- ITC Holding would be treated as recognizing a taxable gain equal to
the difference between the fair market value of the shares of our
stock and its adjusted basis in these shares at the time of the
distribution.
Tax consequences if the distribution is part of a plan in which a 50% or
greater interest is acquired. Even if the distribution is otherwise treated as a
tax-free spin-off to the ITC Holding stockholders, ITC Holding would recognize a
large taxable gain if the distribution were considered to be part of a plan or
series of related transactions in which a 50% or greater interest in KNOLOGY or
ITC Holding were acquired by one or more persons. Although neither ITC Holding
nor KNOLOGY believes the distribution is part of a plan to effect a 50%
ownership shift, any cumulative 50% change of ownership within the four-year
period beginning two years before the date of the distribution, including any
change in the ownership of shares distributed to ITC Holding stockholders in the
distribution, will be presumed to be pursuant to such a plan. The Internal
Revenue Code states that this presumption may be rebutted by a showing that the
distribution and the 50% ownership shift are not part of such a plan. However,
regulations proposed by the U.S. Department of Treasury interpreting this
provision could make it extremely difficult for us to rebut this presumption
with respect to the distribution and any subsequent 50% ownership shift.
IRS regulations provide that each ITC Holding stockholder who receives
shares of our stock in the distribution must attach to his or her federal income
tax return for 1999 a detailed statement with respect to the applicability of
Code Section 355. ITC Holding will make available the required information to
each stockholder of record of ITC Holding as of the record date for the
distribution.
TAX SEPARATION AGREEMENT
ITC Holding and KNOLOGY have entered into a tax separation agreement in
which they have made representations to each other regarding the distribution
and covenants regarding future actions. Under the tax separation agreement
KNOLOGY represents as of the date of the distribution that:
(1) KNOLOGY has no plan or intention to purchase any of its outstanding
stock after the distribution,
(2) KNOLOGY has no plan or intention to liquidate KNOLOGY, merge KNOLOGY
with any other corporation, or sell or otherwise dispose of the assets
of KNOLOGY other than in the ordinary course of business,
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<PAGE> 24
(3) immediately after the distribution, at least 90% of the fair market
value of the gross assets of KNOLOGY will consist of the stock and
securities of members of the KNOLOGY group of companies that are
engaged in the active conduct of a trade or business,
(4) payments made in connection with all continuing transactions between
either ITC Holding or KNOLOGY and entities in their respective groups
will be at fair market value based on the terms and conditions arrived
at by the parties bargaining at arm's length,
(5) the distribution is not part of a plan or series of related
transactions in which one or more persons acquire directly or
indirectly KNOLOGY stock representing a 50% or greater interest within
the meaning of Section 355(e) of the Internal Revenue Code,
(6) there is no plan or intention by KNOLOGY to enter into any
negotiations, agreements, or arrangements with respect to transactions
or events, including stock issuances, pursuant to the exercise of
options or otherwise, option grants, capital contributions, or
acquisitions, but not including the distribution, that may cause the
spin-off to be treated as part of a plan in which one or more persons
acquire directly or indirectly KNOLOGY stock representing a 50% or
greater interest within the meaning of Section 355(e) of the Internal
Revenue Code, and
(7) KNOLOGY is not aware of any present plan or intention by the current
stockholders of ITC Holding to sell, exchange, transfer by gift or
otherwise dispose of any of their stock in, or securities of, ITC
Holding or KNOLOGY subsequent to the distribution.
KNOLOGY covenants in the tax separation agreement that it will not take any
action or fail to take any action that would cause any of the representations
listed as (1) through (6) above to be untrue.
KNOLOGY also covenanted in the tax separation agreement that:
- during the two-year period following the spin-off, KNOLOGY will not cease
to be engaged in the active trade or business relied upon for purposes of
satisfying the requirements of the spin-off ruling request, and
- during the applicable period provided in the Internal Revenue Code with
respect to the distribution, KNOLOGY will not enter into any transaction
or make any change in equity structure, including stock issuances
pursuant to the exercise of options, option grants or otherwise, capital
contributions, or acquisitions, but not including the distribution, that
may cause the distribution to be treated as part of a plan in which one
or more persons acquire directly or indirectly KNOLOGY's stock
representing a 50% or greater interest within the meaning of Section
355(e) of the Internal Revenue Code.
The tax separation agreement permits KNOLOGY to take actions inconsistent
with its representations and covenants if it either obtains a ruling from the
IRS or an opinion of expert tax counsel that the actions should not result in
the distribution being taxable, or if the proposed actions are approved by
holders of at least two-thirds of KNOLOGY's voting stock. If KNOLOGY breaches
its representations and covenants by taking actions not permitted in the tax
separation agreement and the breach causes the distribution not to be treated as
tax-free, KNOLOGY could be subject to significant damages. KNOLOGY's maximum
liability for breach of its representations and covenants in the tax separation
agreement is limited by agreement to $50 million.
ITC Holding made similar representations and covenants under the tax
separation agreement. Stockholders of ITC Holding who will hold 20,000 shares or
more of ITC Holding's capital stock have entered into agreements with ITC
Holding generally agreeing not to transfer any of their KNOLOGY stock for two
years following the distribution.
OPTIONHOLDERS
The tax treatment of the optionholders was not the subject of the April 1,
1999 IRS ruling. We have received an opinion from Hogan & Hartson L.L.P. in
connection with the proposed distribution of the
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<PAGE> 25
options. The entire description of tax consequences for holders of the incentive
stock options and the nonqualified stock options discussed below is based on
that opinion.
An opinion of counsel merely represents counsel's best judgment with
respect to the probable outcome on the merits and is not binding on the IRS or
the courts. Positions contrary to the opinion of counsel may be taken by the IRS
and a court considering the issues may hold contrary to the opinion. In
addition, the opinion of counsel is premised on the accuracy of factual
representations and assumptions. Among other things, ITC Holding has advised us,
and the opinion assumes, that all ITC Holding options were granted under ITC
Holding's employee and director option plans and granted in connection with the
performance of services. If those factual representations or assumptions are or
become incorrect in any material respect, the opinion may cease to apply.
Counsel has disclaimed any obligation to advise us of any new developments in
the application or interpretation of the federal income tax laws subsequent to
the date of the opinion or to update the opinion in the future.
INCENTIVE STOCK OPTIONS. For tax purposes, the distribution of our options
to holders of ITC Holding options, combined with the modification of ITC Holding
options, will be treated generally as if ITC Holding options outstanding prior
to the distribution were split into two options: an ITC Holding option and a
KNOLOGY option. To the extent the ITC Holding options outstanding prior to the
distribution were incentive stock options under the Internal Revenue Code, the
ITC Holding stock options outstanding after the distribution and the options to
purchase our stock distributed in the distribution to those optionholders also
should be incentive stock options. However, incentive stock options on our stock
held by ITC Holding employees will cease to be incentive stock options three
months after the distribution. Similarly, ITC Holding stock options which are
held by our employees and which are incentive stock options will cease to be
incentive stock options three months after the distribution. However, even if an
incentive stock option becomes nonqualified sometime after the distribution,
that will not effect how it is treated as a result of the distribution.
The Internal Revenue Code provides that at the time of the grant of an
incentive stock option, a holder of an incentive stock option does not recognize
any taxable income because there is no transfer of property to the holder at the
time of the grant. Modifications to the terms of incentive stock options once
the options are granted may cause the options to become disqualified or to be
treated as a new grants of options. The adjustment of the exercise prices of the
ITC Holding incentive stock options and the distribution of options to purchase
our stock in the context of a spin-off should not be viewed as a modification of
the old option provided that (i) the aggregate spread in the new option and the
adjusted old option does not exceed that in the old option, and (ii) the new
option does not otherwise have more favorable terms than the old option. A
modification creating more favorable terms could come from amending an option
to:
- include more favorable payment terms (such as the right to tender company
stock for the exercise price);
- extend the period when the option may be exercised; or
- provide an additional benefit upon exercise (such as payment of a cash
bonus to the optionee).
The adjustment of the aggregate exercise prices of the ITC Holding options in
connection with the distribution of the options to purchase our stock is
intended to satisfy the requirements of the applicable tax regulations. In
addition, ITC Holding has advised us that the terms requested by it for each of
our options match those of the existing ITC Holding option holder receiving that
option. The tax opinion states that based upon these and other facts, which are
assumed by the opinion, the adjustment of the incentive stock options and the
distribution of the options to purchase our stock should not be a taxable event
for the holders of the incentive stock options. The opinion also provides that
if the conditions of the applicable tax regulations are not satisfied, the
adjustment and distribution of the options will be treated as the grant of two
new options. The grants must be tested at the time of the division to determine
whether they qualify as incentive stock options and it is likely they will not
so qualify.
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NONQUALIFIED STOCK OPTIONS. The Internal Revenue Code provides that the
grant of a nonqualified stock option without a readily ascertainable fair market
value to the holder of a nonqualified option does not result in the recognition
of income or loss at the time of grant. Similarly, the grant of a nonqualified
stock option does not give rise to any income tax consequences to the
corporation for which the services are performed. The taxable event for both the
optionee and the corporation for which the services are performed occurs upon
the exercise of the option. At the time the option is exercised the optionee
recognizes ordinary income equal to the excess of the fair market value of the
stock at the time of the exercise over the exercise price, and the corporation
for which the services are performed is entitled to a compensation expense
deduction for the corresponding amount. In general, under the Internal Revenue
Code and related regulations, an option has a readily ascertainable fair market
value if four conditions are met:
- the option is transferable by the optionee;
- the option is exercisable immediately in full by the optionee;
- the option or the property subject to the option is not subject to any
restriction or condition that has a significant effect upon the fair
market value on the option; and
- the fair market value of the option privilege is readily ascertainable.
As neither the ITC Holding stock options nor the options to purchase our
stock are publicly traded or transferable, these options do not have a readily
ascertainable fair market value for purposes of this test.
The opinion notes that, unlike in the case of incentive stock options, no
specific section of the Internal Revenue Code provides rules governing the
distribution of additional nonqualified stock options or the adjustment of
outstanding nonqualified stock options in the context of a spin-off transaction.
The opinion explains that if the rules governing incentive stock options are
applied by analogy to the adjustment of the nonqualified ITC Holding options,
the adjustment should not be treated as a taxable event because the adjustment
is a proportional adjustment preserving the option spread and not granting
additional benefits to the optionees.
There is some IRS authority, however, that the incentive stock option rules
are not applicable to adjustments to nonqualified stock options. The opinion
explains that even if the incentive stock options rules cannot be applied by
analogy, the distribution of the options to purchase our stock would likely not
be a new grant of options, but merely a non-taxable adjustment to the existing
ITC Holding options. In this regard, the opinion notes that the distribution of
the options to purchase our stock would likely be treated as a method of
adjusting the outstanding ITC Holding options to account for ITC Holding's
distribution of our stock to its shareholders, since the original terms of the
ITC Holding options provide that the options are to be adjusted in the event of
a capital transaction such as the distribution.
According to the opinion, there is risk that the IRS could find the
distribution of the options to purchase our stock to be a taxable event for some
of the optionees, because following the distribution some of these options will
be both vested and deeply in the money, which means the option exercise price is
much less than the fair market of the stock underlying the option. Based on
these two facts, the IRS may take the position that the nonqualified options are
not in fact options at the time of the distribution, but rather are new,
outright grants of stock. In that event, the distribution of the options to
purchase our stock would result in immediate taxation for certain option holders
whose options are vested and deeply in the money.
The summary of federal income tax consequences and the Hogan & Hartson
L.L.P. opinion set forth above do not purport to cover all federal income tax
consequences that may apply to all categories of stockholders. All stockholders
should consult their own tax advisors regarding the particular federal, foreign,
state and local tax consequences of the distribution to such stockholders.
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NO MARKET FOR OUR STOCK
Our stock is not traded on any exchange or listed on the Nasdaq market
system. No market makers currently make a market in our stock and we do not plan
to engage a market maker. Therefore, there is no established public trading
market and no high and low bid information or quotations available. We do not
expect that an active trading market will develop after the distribution.
In addition, all shares of our stock are subject to transfer restrictions,
including the shares you will receive in the distribution. If you decide to sell
your shares of stock of our company, you will first have to offer those shares
to us to purchase, before you can sell to a third party. This, along with the
lack of a public market, limits your ability to sell your shares.
Following the distribution, we expect to have 2,476 shares of common stock
outstanding held of record by three stockholders and 48,035,531 Series A
preferred stock outstanding held of record by 347 stockholders. Prior to the
distribution our common stock was held by three stockholders and our Series A
preferred stock was held by 14 stockholders, including ITC Holding.
DIVIDEND POLICY
As we are a holding company, our ability to pay cash dividends depends on
us receiving cash dividends, advances and other payments from our subsidiaries.
The ability of our subsidiary KNOLOGY Holdings to pay dividends is restricted
under the terms of its credit facility, as discussed in more detail under the
caption "Management's Discussion and Analysis of Financial Condition and Results
of Operations -- Liquidity and Capital Resources." While two of our
subsidiaries, Interstate Telephone and Valley Telephone, have declared dividends
to their former parent company, ITC Holding, in the past, we plan to retain
earnings to finance the expansion of our operations. Future declaration and
payment of dividends, if any, will be determined based on the then-current
conditions, including our earnings, operations, capital requirements, financial
condition, and other factors the board of directors deems relevant. In addition,
our ability to pay dividends is limited by the terms of the indenture governing
our outstanding notes and by the terms of our credit facility.
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CAPITALIZATION
The following table sets forth our capitalization at September 30, 1999,
and as adjusted to give effect to:
- the purchase by SCANA of 753 shares of Series A preferred stock of
KNOLOGY Holdings pursuant to its exercise in November 1999 of warrants
associated with previous borrowings whose terms were agreed to in October
1999;
- $40 million of loans from ITC Holding that have been or are being
exchanged for or converted into 2,029,724 shares of Series A preferred
stock and options to purchase 6,391,329 shares of Series A preferred
stock;
- the distribution and the acquisition of the minority interest of KNOLOGY
Holdings, equal to the fair market value of $22.4 million,
- contribution of ITC Holding's approximate 6% interest in ClearSource,
cash of $5.7 million, and subscription rights to purchase additional
shares of ClearSource, which were valued for purposes of the exchange at
its fair market value of $10.8 million and is reflected on our books as
an investment at ITC Holding's historical cost of assets contributed of
$7.5 million, in exchange for 2,280,702 shares of Series A preferred
stock;
- $30 million in firm commitments from the private placement of Series B
preferred stock,
- a charge of $0.8 million associated with SCANA warrants, equal to their
fair market value as determined by the Black-Scholes model;
- reversal of the $8.3 million net income tax benefit previously recognized
when we were included in the consolidated tax return of ITC Holding. We
will record a full valuation allowance against any income tax benefit as
a stand alone entity; and
- recording the exchange of our warrants for KNOLOGY Holdings warrants at
fair market value and the cancellation of the KNOLOGY Holdings warrants.
To better understand this table, you should review "Management's Discussion and
Analysis of Financial Condition and Results of Operations" and our consolidated
financial statements, including the accompanying notes, included in this
prospectus.
<TABLE>
<CAPTION>
AT SEPTEMBER 30, 1999
---------------------------
AS ADJUSTED
FOR THIS
ACTUAL DISTRIBUTION
------------ ------------
<S> <C> <C>
Advances from affiliates.................................... $ 1,171,252 $ 1,171,252
Long-term debt, including current maturities:
Senior Discount Notes including accrued interest
payable................................................ 302,297,245 302,297,245
Senior secured credit facility............................ 19,000,000 19,000,000
Other..................................................... 128,670 128,670
------------ ------------
Total long-term debt, including current
maturities..................................... $321,425,915 $321,425,915
------------ ------------
Warrants.................................................... $ 2,486,960 $ 4,726,065
------------ ------------
</TABLE>
25
<PAGE> 29
<TABLE>
<CAPTION>
AT SEPTEMBER 30, 1999
---------------------------
AS ADJUSTED
FOR THIS
ACTUAL DISTRIBUTION
------------ ------------
<S> <C> <C>
Stockholders' equity:
Series A preferred stock, $.01 par value, 75,000,000
authorized; 0 and 48,035,531 shares issued and
outstanding at September 30, 1999 and as adjusted,
respectively........................................... $ -- $ 480,355
Series B preferred stock, $.01 par value, 50,000,000
authorized; 0 and 6,315,789 shares issued and
outstanding at September 30, 1999 and as adjusted,
respectively........................................... -- 63,158
Common Stock, $.01 par value, 200,000,000 shares
authorized; 60,000 and 2,476 shares issued and
outstanding at September 30, 1999 and as adjusted,
respectively........................................... 600 25
Additional paid-in-capital................................ 70,259,279 169,320,002
Accumulated deficit....................................... (63,265,300) (72,375,659)
Unrealized losses......................................... (23,650) (23,650)
------------ ------------
Total stockholders' equity........................ $ 6,970,929 $ 97,464,231
============ ============
Total capitalization.............................. $332,055,056 $424,787,463
============ ============
</TABLE>
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SELECTED CONSOLIDATED FINANCIAL DATA
The following table sets forth our selected consolidated financial data.
The selected financial data as of and for the years ended December 31, 1996,
1997 and 1998 have been derived from our audited financial statements. The
selected financial data as of and for the nine months ended September 30, 1998
and 1999 have been derived from our unaudited consolidated financial statements
and, in our opinion, include all adjustments, consisting of normal recurring
accruals, necessary for a fair presentation of such information. Operating
results for the nine months ended September 30, 1999 are not necessarily
indicative of the results that we may expect for the entire year. The selected
financial data set forth below should be read in conjunction with our section
entitled "Management's Discussion and Analysis of Financial Condition and
Results of Operations", our financial statements and related notes, and other
financial data included elsewhere in this prospectus. See Note 1 to our
financial statements regarding the Reorganization.
<TABLE>
<CAPTION>
NINE
YEAR YEAR YEAR YEAR YEAR MONTHS
ENDED ENDED ENDED ENDED ENDED ENDED
DECEMBER 31, DECEMBER 31, DECEMBER 31, DECEMBER 31, DECEMBER 31, SEPTEMBER 30,
1994 1995 1996 1997 1998(A) 1998
------------ ------------ ------------ ------------ ------------ -------------
(UNAUDITED) (UNAUDITED) (UNAUDITED)
<S> <C> <C> <C> <C> <C> <C>
STATEMENT OF OPERATIONS DATA:
Operating revenues..................... $17,679,873 $18,929,279 $ 17,527,208 $ 17,633,313 $ 45,132,522 $ 30,285,049
Operating expenses:
Cost of services...................... 5,253,503 5,593,083 2,991,412 3,121,108 12,739,540 9,010,401
Selling, operations and
administrative...................... 7,664,748 8,740,090 8,331,795 9,498,461 37,323,345 24,256,479
Depreciation and amortization......... 1,965,874 3,185,901 3,022,056 2,781,800 17,108,034 8,925,933
----------- ----------- ------------ ------------ ------------ ------------
Total operating expenses............... 14,884,125 17,519,074 14,345,263 15,401,369 67,170,919 42,192,813
----------- ----------- ------------ ------------ ------------ ------------
Operating income (loss)................ 2,795,748 1,410,205 3,181,945 2,231,944 (22,038,397) (11,907,764)
----------- ----------- ------------ ------------ ------------ ------------
Other income and expense............... 603,847 (362,331) (379,889) (2,048,506) (18,645,199) (12,389,198)
----------- ----------- ------------ ------------ ------------ ------------
Income (loss) before minority interest,
income tax (provision) benefit and
cumulative effect of a change in
accounting principle.................. 3,399,595 1,047,874 2,802,056 183,438 (40,683,596) (24,296,962)
Minority interest...................... -- 667,038 -- -- 13,294,079 11,292,126
Income tax (provision) benefit......... (1,208,939) (573,327) (1,371,865) (1,010,779) 5,631,618 1,704,350
Cumulative effect of a change in
accounting principle.................. -- -- -- -- (582,541) (582,541)
----------- ----------- ------------ ------------ ------------ ------------
Net income (loss)...................... 2,190,656 1,141,585 1,430,191 (827,341) (22,340,440) (11,883,027)
Subsidiary preferred stock dividends... -- -- -- (4,193,276) (1,424,222) (63,907)
----------- ----------- ------------ ------------ ------------ ------------
Net income (loss) attributable to
common stockholders................... $ 2,190,656 $ 1,141,585 $ 1,430,191 $ (5,020,617) $(23,764,662) $(11,946,934)
=========== =========== ============ ============ ============ ============
PER SHARE DATA:
Basic and diluted net income (loss)
attributable to common stockholders... $ 36.51 $ 19.03 $ 23.84 $ (83.68) $ (396.08) $ (199.12)
Basic and diluted weighted average
number of common shares outstanding... 60,000 60,000 60,000 60,000 60,000 60,000
OTHER FINANCIAL DATA:
Capital expenditures................... $ 3,686,035 $ 3,079,108 $ 995,320 $ 1,727,079 $120,227,057 $ 80,913,266
Cash provided by (used in) operating
activities............................ 5,230,950 94,418 4,770,730 3,680,116 23,035,488 9,515,039
Cash (used in) provided by investing
activities............................ (2,753,862) (3,544,192) (197,362) (22,223,940) (34,586,803) (22,997,766)
Cash (used in) provided by financing
activities............................ (248,942) 1,535,595 (4,457,176) 18,726,407 16,083,187 15,176,704
EBITDA(b).............................. 5,515,186 5,565,993 5,640,550 2,509,854 8,564,129 8,475,265
Ratio of earnings to fixed
charges(c)............................ 23.71 2.89 283.10 15.76 -- --
Insufficient earnings to cover fixed
charges............................... -- -- -- -- $ 28,778,561 $ 24,296,962
<CAPTION>
NINE
MONTHS
ENDED
SEPTEMBER 30,
1999
-------------
(UNAUDITED)
<S> <C>
STATEMENT OF OPERATIONS DATA:
Operating revenues..................... $ 48,824,228
Operating expenses:
Cost of services...................... 18,573,719
Selling, operations and
administrative...................... 35,760,116
Depreciation and amortization......... 28,697,148
------------
Total operating expenses............... 83,030,983
------------
Operating income (loss)................ (34,206,755)
------------
Other income and expense............... (22,754,426)
------------
Income (loss) before minority interest,
income tax (provision) benefit and
cumulative effect of a change in
accounting principle.................. (56,961,181)
Minority interest...................... 3,267,653
Income tax (provision) benefit......... 11,011,711
Cumulative effect of a change in
accounting principle.................. --
------------
Net income (loss)...................... (42,681,817)
Subsidiary preferred stock dividends... --
------------
Net income (loss) attributable to
common stockholders................... $(42,681,817)
============
PER SHARE DATA:
Basic and diluted net income (loss)
attributable to common stockholders... $ (711.36)
Basic and diluted weighted average
number of common shares outstanding... 60,000
OTHER FINANCIAL DATA:
Capital expenditures................... $ 64,290,709
Cash provided by (used in) operating
activities............................ (3,069,133)
Cash (used in) provided by investing
activities............................ 1,021,783
Cash (used in) provided by financing
activities............................ 18,088,543
EBITDA(b).............................. (2,067,832)
Ratio of earnings to fixed
charges(c)............................ --
Insufficient earnings to cover fixed
charges............................... $ 56,961,181
</TABLE>
<TABLE>
<CAPTION>
DECEMBER 31, DECEMBER 31, DECEMBER 31, DECEMBER 31, DECEMBER 31, SEPTEMBER 30,
1994 1995 1996 1997 1998 1999
------------ ------------ ------------ ------------ ------------ -------------
(UNAUDITED) (UNAUDITED) (UNAUDITED) (UNAUDITED)
<S> <C> <C> <C> <C> <C> <C>
BALANCE SHEET DATA:
Working capital........................ $ 4,073,761 $ 832,057 $ 2,977,835 $(1,240,180) $49,965,918 $ 12,646,729
Property and equipment, net............ 14,847,334 20,406,060 11,374,950 11,260,846 211,885,668 258,655,902
Total assets........................... 29,521,533 38,544,328 22,883,276 30,196,492 369,847,446 359,663,248
Long-term debt, including accrued
interest.............................. 1,440,569 11,075,698 -- -- 276,165,900 321,413,741
Total liabilities...................... 12,688,392 22,034,469 7,235,555 6,656,317 314,414,049 350,205,359
Minority interest...................... -- 2,981,968 -- -- 3,267,653 --
Retained earnings (accumulated
deficit).............................. 15,658,238 8,168,034 9,598,225 3,181,179 (20,583,483) (63,265,300)
Total stockholders' equity............. 16,833,141 13,527,891 15,647,721 23,540,175 49,678,784 6,970,929
</TABLE>
- ---------------
(a) See note 9 to the financial statements, Cable Alabama acquisition, for
further information regarding presentation.
(b) EBITDA represents earnings before preferred stock dividends, interest
expense, income taxes, depreciation and amortization. EBITDA is not a
measurement of financial performance under generally accepted accounting
principles. It should not be considered an alternative to net income as a
27
<PAGE> 31
measure of performance or to cash flow as a measure of liquidity. EBITDA is
not necessarily comparable with similarly titled measures for other
companies. Management believes the presentation of EBITDA provides relevant
and useful information to investors because it is a measure commonly used in
the industry. Additionally, management does not currently believe that there
are any legal or financial requirements that limit management's
discretionary use of funds depicted by EBITDA.
(c) Earnings consist of income before preferred stock dividends, income taxes,
plus fixed charges. Fixed charges consist of interest charges and the
portion of rent expense under operating leases representing interest, which
is estimated to be 1/3 of such expense.
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<PAGE> 32
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
You should read the following discussion together with our "Selected
Consolidated Financial Data" section and our financial statements and related
notes elsewhere in this prospectus. The following discussion contains, in
addition to historical information, forward-looking statements that involve
risks and uncertainties. Our actual results may differ significantly from the
results discussed in the forward-looking statements.
Our historical financial statements include the assets, liabilities and
results of operations of our subsidiaries which have been majority-owned by ITC
Holding during each year. Accordingly, our financial statements include the
assets, liabilities and results of operations of all of our subsidiaries for the
years 1995, 1998 and the first nine months of 1998 and 1999, but do not include
the assets, liabilities and results of operations of KNOLOGY Holdings for 1996
and 1997, when it was not majority-owned by ITC Holding.
OVERVIEW
We are a newly formed holding company that owns 100% of KNOLOGY Holdings,
Inc., Interstate Telephone Company, Valley Telephone Company, Globe
Telecommunications, Inc. and ITC Globe, Inc. We acquired these interests in
November 1999 from ITC Holding Company, Inc., and other stockholders of KNOLOGY
Holdings. Our structure is as follows:
- Interstate Telephone, Valley Telephone and Globe Telecommunications are
our direct subsidiaries.
- KNOLOGY Holdings is a direct subsidiary of Valley Telephone.
- ITC Globe is a direct subsidiary of Globe Telecommunications.
In November 1999, InterCall, Inc., a subsidiary of ITC Holding, contributed
to us:
- stock representing 85% of the outstanding equity of KNOLOGY Holdings;
- stock representing 100% of each of Interstate Telephone, Valley
Telephone, Globe Telecommunications and ITC Globe, which together provide
telephone, cable and Internet access services in western Georgia and
eastern Alabama;
- a note of KNOLOGY Holdings in the principal amount of up to $13 million;
- 272,832 shares of preferred stock of ClearSource, Inc., and subscription
rights to purchase an additional 810,501 shares of preferred stock of
ClearSource in future ClearSource financings, together with cash in the
amount of $5.6 million to be used to make the subscription payments.
ClearSource is a company planning to operate broadband systems in Texas and
other southern or mid-western states similar to our services in the southeast.
Currently, our investment in ClearSource represents approximately 17% ownership
interest in this company.
Concurrent with this contribution, we completed the exchange of other
KNOLOGY Holdings common stock and preferred stock for our common stock and
Series A preferred stock. We now hold 100% of the outstanding stock of KNOLOGY
Holdings.
These transactions were effected primarily to combine the businesses of
KNOLOGY Holdings, Interstate Telephone, Valley Telephone, Globe
Telecommunications and ITC Globe. Together with ITC Holding, we determined that
KNOLOGY Holdings and these other companies have parallel growth in the broadband
market, and that combining the businesses would enhance their ability to take
advantage of the opportunities in that market. Although Interstate Telephone and
Valley Telephone primarily have been telephone companies, they have recently
through ITC Globe begun offering cable television and Internet access services
in the same geographic area in which they provide telephone service. Combining
these businesses under KNOLOGY is expected to allow all of the companies to
benefit from KNOLOGY Holdings' experience as a provider of cable television
services and as a provider of a bundle of broadband
29
<PAGE> 33
services. It also permits KNOLOGY Holdings to take advantage of the more than
100 years of experience of Interstate Telephone and Valley Telephone as
telephone companies.
Since ClearSource proposes to conduct a similar broadband business in
southern or mid-western states, ITC Holding and we determined that the
ClearSource investments also should be under KNOLOGY. The KNOLOGY Holdings note
was contributed to KNOLOGY to terminate the lender-borrower relationship between
ITC Holding and KNOLOGY Holdings.
In December 1999, after the contribution and exchange discussed above, we
entered into a note agreement and a promissory note with a subsidiary of ITC
Holding. This subsidiary loaned us approximately $30.4 million. The note issued
under the loan agreement provided that ITC Holding subsidiary could elect, in
lieu of repayment, to convert the amount outstanding under the note into options
to purchase shares of our Series A preferred stock. Prior to the distribution
the entire amount of the note was converted into options to purchase 6,391,329
shares of our Series A preferred stock, and these options are the ones being
distributed to ITC Holding option holders. Under the note, ITC Holding has the
right to specify the terms of those options, including the exercise price.
ITC Holding is distributing to its stockholders of record 1.089404 shares
of our Series A preferred stock for every share of ITC Holding common stock or
preferred stock. Our board of directors, based in part on advice from our
financial advisor, has determined that we would have easier access to capital in
the private equity market and would achieve a higher per-share value by
distributing these shares.
HISTORY
Interstate Telephone began as West Point Telephone and Electric Company,
founded in 1896 by J. Smith Lanier. Interstate Telephone has been a provider of
local telephone service in western Georgia and a small part of eastern Alabama
since 1896. In 1961, the Lanier Company bought Valley Telephone from West Point
Manufacturing Co. Globe Telecommunications was formed in 1983 to be a
deregulated provider of services for Valley Telephone. Globe Telecommunications
has been providing deregulated services to Interstate Telephone since 1996. ITC
Holding was formed in 1989 as a holding company for the combined Interstate
Telephone, Valley Telephone and Globe Telecommunications companies. ITC Holding
Company formed ITC Globe in 1997 to be a provider of local broadband services in
the West Point, Georgia and Alabama/Georgia border area.
ITC Holding formed KNOLOGY Holdings in 1995, but its percentage ownership
fell below 50% during 1996. ITC Holding acquired additional stock in KNOLOGY
Holdings in 1998, becoming the holder of approximately 85% of KNOLOGY Holdings.
KNOLOGY Holdings, which is now our wholly-owned subsidiary, has been
providing cable television service since 1995, telephone and high-speed Internet
access services since 1997 and broadband carrier services since 1998. KNOLOGY
Holdings owns, operates and manages interactive broadband networks in the five
metropolitan areas of Montgomery, Alabama; Columbus and Augusta, Georgia; Panama
City, Florida and Charleston, South Carolina; and it plans to expand to
additional mid-sized cities in the southeastern United States. In addition,
KNOLOGY Holdings provides traditional analog and digital cable television
services in Huntsville, Alabama. The Huntsville facilities are being upgraded to
provide local and long distance telephone and high-speed Internet access
services.
KNOLOGY Holdings began providing cable television service by acquiring
cable television systems in Montgomery, Alabama and Columbus, Georgia in 1995
and using those systems as a base for constructing new interactive broadband
networks. Since acquiring the Montgomery and Columbus systems, we have
significantly expanded these networks and upgraded the acquired networks to
offer additional broadband communications services.
In December 1997, KNOLOGY Holdings acquired a cable television system in
Panama City Beach, Florida. We are currently upgrading this cable system and
extending the network into the Panama City metro area. We expect to complete
this upgrade in 2000.
30
<PAGE> 34
In early 1998, KNOLOGY Holdings began expanding into Augusta, Georgia and
Charleston, South Carolina by obtaining new franchise agreements with the local
governments and by constructing new interactive broadband networks. We expect to
complete construction of these networks by 2003.
In June 1998, KNOLOGY Holdings acquired TTE Inc., a non-facilities based
reseller of local, long distance and operator services to small and medium-sized
business customers throughout South Carolina.
In October 1998, KNOLOGY Holdings acquired the Cable Alabama cable
television system serving the Huntsville, Alabama area. The existing Cable
Alabama plant is being upgraded to an interactive broadband network which will
be completed by 2001.
Interstate Telephone and Valley Telephone provide local exchange services
throughout the Georgia/Alabama border area known as the valley, which includes
the towns of West Point, Georgia, Lanett, Alabama and Valley, Alabama and
unincorporated portions of counties in both states. Globe Telecommunications
provides long distance services, leases customer premise equipment and sells and
maintains key systems and private branch exchange switches. Globe
Telecommunications also has been providing competitive local exchange carrier
services to residential and business customers located in the Newnan, Georgia
area since April 1998 and likely will begin providing these services to Fairburn
and Union City, Georgia in the fourth quarter of 1999. ITC Globe, under the
trade name "KNOLOGY Connecting The Valley," also provides analog cable
television, digital cable television and high-speed Internet access to customers
within the local exchange territory of Interstate Telephone and Valley
Telephone.
REVENUES AND EXPENSES
We can group our revenues into four categories: video revenues, telephone
revenues, Internet revenues and other revenues.
- Video revenues. Our video revenues consist of fixed monthly fees for
basic, premium and digital cable television services, as well as fees
from pay-per-view movies and events such as boxing matches and concerts,
that involve a charge for each viewing. Video revenues accounted for
approximately 50% and 53% of our consolidated revenues for the year ended
December 31, 1998 and the nine months ended September 30, 1999,
respectively.
- Telephone revenues. Our telephone revenues consist primarily of fixed
monthly fees for local service, enhanced services such as call waiting
and voice mail and usage fees for long distance service. Telephone
revenues accounted for approximately 49% and 43% of our consolidated
revenues for the year ended December 31, 1998 and the nine months ended
September 30, 1999, respectively.
- Internet revenues and other revenues. Our Internet revenues consist
primarily of fixed monthly fees for Internet access service and rental of
cable modems. Other revenues resulted principally from broadband carrier
services and video production services. These combined revenues accounted
for approximately 1% and 4% of our consolidated revenues for the year
ended December 31, 1998 and the nine months ended September 30, 1999,
respectively.
Our operating expenses include cost of services expenses, selling,
operations and administrative expenses and depreciation and amortization
expenses.
Cost of services expenses include:
- Video cost of services. Video cost of services consist primarily of
monthly fees to the National Cable Television Cooperative and other
programming providers, and are generally based on the average number of
subscribers to each program. Programming costs accounted for
approximately 12.5% and 11.9% of our operating expenses for the year
ended December 31, 1998 and the nine months ended September 30, 1999.
Programming costs is our largest single cost and we expect this to
continue. Since this cost is based on numbers of subscribers, it will
increase as we add more subscribers.
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<PAGE> 35
- Telephone and Internet access services. Cost of services related to our
telephone and Internet access services include costs of Internet
transport and telephone switching, and interconnection and transport
charges payable to local and long distance carriers.
Selling, operations and administrative expenses include:
- Sales and marketing costs. Sales and marketing costs include the cost of
sales and marketing personnel and advertising and promotional expenses.
- Network operations and maintenance expenses. Network operations and
maintenance expenses include payroll and departmental costs incurred for
network design and maintenance monitoring.
- Customer service expenses. Customer service expenses include payroll and
departmental costs incurred for customer service representatives and
management.
- General and administrative expenses. General and administrative expenses
consist of corporate and subsidiary general management and administrative
costs.
Depreciation and amortization expenses include:
- Depreciation and amortization expenses. Depreciation and amortization
expenses include depreciation of our interactive broadband networks and
equipment, and amortization of cost in excess of net assets and other
intangible assets related to acquisitions.
RESULTS OF OPERATIONS
The following table sets forth certain operating data as of September 30,
1998 and 1999:
<TABLE>
<CAPTION>
AS OF SEPTEMBER 30,
-------------------
1998 1999
-------- --------
<S> <C> <C>
Connections(1)
Video....................................................... 78,203 87,609
Telephone
On-net(2).............................................. 23,296 33,005
Off-net(3)............................................. 5,911 6,568
Internet.................................................. 632 3,718
------- -------
Total Connections........................................... 108,042 130,900
======= =======
Marketable Passings......................................... 246,307 301,470
======= =======
</TABLE>
- ---------------
(1) Connections represent revenue-generating connections. For video and
high-speed internet, connections represent the number of customers
subscribing to the service. For telephone, connections represent the number
of lines connected. For example, a telephone customer that has two lines
would be counted as two connections.
(2) On-net refers to lines provided over KNOLOGY's broadband networks. It
includes 20,526 and 21,978 lines as of September 30, 1998 and 1999,
respectively, provided using traditional copper telephone lines.
(3) Off-net consists of all resale lines provided within KNOLOGY's broadband
network area.
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<PAGE> 36
The following table sets forth financial data as a percentage of operating
revenues for the years ended December 31, 1996, 1997 and 1998 and the nine
months ended September 30, 1998 and 1999.
<TABLE>
<CAPTION>
NINE MONTHS
YEAR ENDED ENDED
DECEMBER 31, SEPTEMBER 30,
------------------------ --------------
1996 1997 1998 1998 1999
---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C>
Operating revenues........................................ 100% 100% 100% 100% 100%
--- --- --- --- ----
Operating expenses:
Cost of services........................................ 17 18 28 30 38
Selling, operating and administrative................... 48 54 83 80 73
Depreciation and amortization........................... 17 16 38 29 59
--- --- --- --- ----
Total........................................... 82 88 149 139 170
--- --- --- --- ----
Operating income (loss)................................... 18 12 (49) (39) (70)
Other income and expenses................................. (2) (12) (41) (41) (47)
--- --- --- --- ----
Income (loss) before minority interest, income tax
(provision) benefit and cumulative effect of a change in
accounting principle.................................... 16 0 (90) (80) (117)
Minority interest......................................... 0 0 29 37 7
Income tax (provision) benefit............................ (8) (6) 12 6 23
Cumulative effect of change in accounting principle....... 0 0 (1) (2) 0
--- --- --- --- ----
Net income (loss)......................................... 8 (6) (50) (39) (87)
Subsidiary preferred stock dividends...................... 0 (24) (3) 0 0
--- --- --- --- ----
Net income (loss) attributable to common stockholders..... 8% (30)% (53)% (39)% (87)%
=== === === === ====
</TABLE>
Nine Months Ended September 30, 1999 Compared to Nine Months Ended September 30,
1998
Revenues. Operating revenues increased 61.1% from $30.3 million for the
nine months ended September 30, 1998 to $48.8 million for the nine months ended
September 30, 1999. Our increased revenues are primarily due to a higher number
of revenue generating units during the nine months ended September 30, 1999
compared to the same period in 1998. The additional revenue generating units
resulted primarily from:
- the extension of our broadband networks in the Montgomery, Columbus and
Panama City markets;
- the continued growth of broadband services in the Augusta and Charleston
markets; and
- the acquisition of the TTE and Cable Alabama systems in June 1998 and
October 1998, respectively.
Particularly in the cable industry, there is a trend towards consolidation,
exclusivity arrangements and other forms of competition. If the level of
competition continues to increase, due to consolidation, exclusivity
arrangements or otherwise, our ability to attract and retain customers and to
increase revenues could suffer.
Expenses. Our operating expenses, excluding depreciation and amortization,
increased 63.1%, from $33.3 million for the nine months ended September 30, 1998
to $54.3 million for the nine months ended September 30, 1999. The cost of
services component of operating expenses increased 106.7%, from $9.0 million for
the 1998 period to $18.6 for the 1999 period. Our selling, operations, and
administration expenses increased 47.3%, from $24.3 million for the 1998 period
to $35.8 million for the 1999 period. The increase in our cost of services and
other operating expenses is consistent with the growth in revenues and is a
result of the expansion of our operations and the increase in the number of
employees associated with such expansion and growth into new markets. We expect
our cost of services to continue to increase as we add more revenue generating
units. Our selling, operations and administration expenses will increase as we
expand into additional markets. Programming costs, which are our largest single
expense item, have been
33
<PAGE> 37
increasing over the last several years, and we expect this trend to continue. We
may not be able to pass these higher costs on to customers, which would
adversely affect our cash flow and operating margins.
Our depreciation and amortization expenses increased from $8.9 million for
the nine months ended September 30, 1998 to $28.7 million for the nine months
ended September 30, 1999. Approximately $9.0 million of the increase in
depreciation and amortization is due to the amortization of the excess of the
purchase price of Cable Alabama over the fair value of net assets acquired.
Approximately $7.8 million of the increase is due to depreciation expense
related to network capital expenditures, with the remainder of the increase
primarily due to depreciation expense related to the purchase of buildings,
computers and office equipment at the corporate and subsidiary locations. We
expect our depreciation and amortization expense to continue to increase as we
make capital expenditures to extend our existing networks and build additional
networks.
Our interest expense increased from $21.5 million for the nine months ended
September 30, 1998 to $24.2 million for the nine months ended September 30,
1999. The increase in interest expense reflects the accrual of the interest
attributable to the senior discount notes issued in October 1997.
Our interest income was $8.4 million for the nine months ended September
30, 1998, compared to $1.3 million for the same period in 1999. The interest
income reflects the interest earned from the investment of certain proceeds
received from the issuance of the senior discount notes in October 1997. The
decrease in interest income is due to the draw down of marketable securities to
fund planned expansion and acquisitions.
Income Tax (Provision) Benefit. We recorded an income tax provision of
$1.7 million for the nine months ended September 30, 1998 compared to an income
tax benefit of $11.0 million for the nine months ended September 30, 1999. The
income tax benefit in 1999 resulted from our utilizing net tax losses under a
tax sharing agreement with ITC Holding. The tax sharing agreement was effective
August 1998 upon the acquisition by ITC Holding of its majority-owned interest
of KNOLOGY Holdings, Inc. Upon the completion of the distribution, we will no
longer record an income tax benefit as we will not be in a position to utilize
our net operating losses. Therefore, we will not receive any payments related to
income tax benefits for periods subsequent to the distribution.
Net Loss. We incurred a net loss of $11.9 million for the nine months
ended September 30, 1998 compared to a net loss of $42.7 million for the nine
months ended September 30, 1999. The increase in net loss is a result of the
expansion of our operations and the increase in the number of employees
associated with such expansion and growth into new markets. We expect net losses
to continue to increase as we proceed with the expansion of our business.
Year Ended December 31, 1998 Compared to Year Ended December 31, 1997
As explained above, our results for the year ended December 31, 1998
include the results of all of our current subsidiaries. However, our 1997
results do not include the results of KNOLOGY Holdings, which was not
majority-owned by ITC Holding during 1997 and therefore, was accounted for as an
equity method investment in 1997.
Revenues. Our operating revenues increased $27.5 million, or 156.3%, from
$17.6 million for the year ended December 31, 1997 to $45.1 million for the year
ended December 31, 1998. Excluding operating revenues of $25.8 million of
KNOLOGY Holdings in 1998, our operating revenues increased $1.7 million, or
9.7%, due primarily to the addition of a competitive local telephone and
broadband services operations in the Georgia/Alabama border area.
Expenses. Our operating expenses, excluding depreciation and amortization,
increased $37.5 million, or 297.6%, from $12.6 million for the year ended
December 31, 1997 to 50.1 million for the year ended December 31, 1998.
Excluding operating expenses of $37.3 million of KNOLOGY Holdings in 1998, our
operating expenses increased $195,000, or 1.5%.
34
<PAGE> 38
Our depreciation and amortization expenses increased from $2.8 million for
the year ended December 31, 1997 to $17.1 million for the year ended December
31, 1998, an increase which primarily reflects the inclusion of $12.4 million of
KNOLOGY Holdings' depreciation and amortization for the 1998 period which was
consolidated in our 1998 results.
Our interest expense and interest income increased $9.6 million and $29.0
million, respectively, from 1997 to 1998, primarily due to the inclusion of
KNOLOGY Holdings' results in the 1998 period. The interest expense and interest
income reported in the 1998 period reflects the accrual of the interest
attributable to the senior discount notes issued in October 1997 and the
interest income from the investment of the proceeds of the notes into marketable
securities.
Equity in losses of subsidiary decreased $2.4 million from the year ended
December 31, 1997 compared to the same period in 1998. The decrease represents
the acquisition of the majority of KNOLOGY Holdings stock in 1998 which
acquisition required us to consolidate the operations of KNOLOGY Holdings in
1998.
Other income (expense) changed from $(59,000) for the year ended December
31, 1997 to $783,000 for the year ended December 31, 1998 and is primarily due
to the 1997 period reflecting a gain on the sale of an investment.
Minority Interests. Minority interests in losses of subsidiary increased
from $0 in 1997 to $13.3 million in 1998. Minority interests in 1998 reflects
the minority stockholders' share of the losses and the pre-acquisition losses in
connection with the acquisition of KNOLOGY Holdings in 1998. In accordance with
Accounting Principles Board Opinion No. 16, the reorganization of KNOLOGY
Holdings was recorded at ITC Holding's historical cost for the 85% controlling
interest obtained. The remainder was treated as an acquisition of minority
interest at fair value.
Income Tax (Provision) Benefit. We recorded an income tax benefit of $5.6
million for the year ended December 31, 1998 compared to a provision of $1.0
million for the year ended December 31, 1997. The income tax benefit in 1998
results from our utilizing net tax losses under a tax sharing agreement with ITC
Holding. The provision in 1997 reflects tax expense of all of our subsidiaries.
The change in the amount of $6.6 million results from the consolidation of
KNOLOGY Holdings due to the acquisition of the majority interest by ITC Holding
in 1998. After the reorganization is complete, we will not be able to utilize
the net operating losses generated to create an income tax benefit.
Preferred Dividends. Preferred dividends in the amount of $4.2 million in
1997 and $1.4 million in 1998 represent profits of Interstate Telephone and
Valley Telephone distributed to ITC Holding Company. The decrease in 1998 as
compared to 1997 relates to the increased capital deployed to launch operations
of Globe Telecommunications and ITC Globe in 1998.
Net Loss Attributable to Common Shareholder. We incurred a net loss of
$5.0 million for the year ended December 31, 1997 compared to a net loss of
$23.8 million for the year ended December 31, 1998. The increase in net loss was
due primarily to the development of new properties.
Year Ended December 31, 1997 Compared to Year Ended December 31, 1996
As explained above, our results for the years ended December 31, 1997 and
1996 do not include the results of KNOLOGY Holdings, which was not
majority-owned by ITC Holding during the 1997 and 1996 periods.
Revenues. Our operating revenues increased $106,000, or 0.6%, from the
year ended December 31, 1996 compared to the same period in 1997.
Expenses. Our operating expenses, excluding depreciation and amortization,
increased 11.5%, from $11.3 million for the year ended December 31, 1996 to
$12.6 million for the year ended December 31, 1997. The cost of services
component of operating expenses increased $130,000, or 3.3%, from $3.0 million
for the year ended December 31, 1996 to $3.1 million for the same period in
1997. Our selling, operations, and administration expenses increased 14.5%, from
$8.3 million for 1996 to $9.5 million for 1997. The
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<PAGE> 39
increase in selling, operations and administration expense was primarily due to
a credit (reduction of expense) of approximately $700,000 recorded in 1996
related to a settled dispute with carriers.
Our depreciation and amortization expenses decreased $240,000, or 8.0%,
from 1996 to 1997.
Our other expenses increased from $380,000 for the year ended December 31,
1996 to $2.0 million for the year ended December 31, 1997. The increase was
primarily due to the reporting of our share of KNOLOGY Holding's loss based on
our minority-owned interest for the 1996 and 1997 periods.
Preferred Dividends. Preferred dividends in the amount of $0 in 1996 and
$4.2 million in 1997 represent certain profits of the Interstate Telephone,
Valley Telephone, Globe Telecommunications and ITC Globe distributed to ITC
Holding Company. In 1996 we invested profits into our businesses.
Net Loss. We incurred net income of $1.4 million for the year ended
December 31, 1996 compared to a net loss of $827,000 for the year ended December
31, 1997.
LIQUIDITY AND CAPITAL RESOURCES
As of September 30, 1999, we had net working capital of $12.6 million,
compared to $50.0 million and ($1.2) million at December 31, 1998 and 1997,
respectively.
We have required equity infusions and debt proceeds to finance a
significant portion of our operating, investing and financing activities in the
development of our business. Net cash provided by operations totaled $4.8
million, $3.7 million and $23.0 million for 1996, 1997 and 1998, respectively,
and net cash used by operations totaled $3.1 million for the nine months ended
September 30, 1999. The net cash flow activity related to operations consists
primarily of changes in operating assets and liabilities and adjustments to net
income for non-cash transactions including:
- depreciation and amortization;
- loss on disposition of assets;
- cumulative effect of an accounting change;
- deferred income taxes;
- deferred investment tax credit;
- equity in net loss of subsidiary; and
- minority interest in subsidiaries' net loss.
Net cash used for investing activities was $0.2 million, $22.2 million and
$34.6 million for the years ended December 31, 1996, 1997 and 1998,
respectively, and net cash provided by investing activities totaled $1.0 million
for the nine months ended September 30, 1999. The net cash flow from investing
activities in 1996 represented $1.0 million of capital expenditures funded in
part by $0.8 million in proceeds from sales of investments. Our investing
activities in 1997 consisted primarily of $1.7 million of capital expenditures,
$14.3 million for the purchase of the Panama City cable system, $4.2 million of
dividends paid by Interstate Telephone and Valley Telephone to ITC Holding and a
$2.1 million increase in construction related payables. In 1998, our investing
activities consisted primarily of $120.2 million of capital expenditures, $67.7
million for the acquisition of the Huntsville, Alabama cable system, $6.2
million for the purchase of equity interests in KNOLOGY Holdings, net of cash
acquired of $6.1 million, $1.4 million of dividends paid by Interstate Telephone
to ITC Holding and $0.8 million for an investment in ClearSource, Inc. These
investing activities are offset by $162.2 million in proceeds from the sale of
short-term investments. Our investing activities for the nine months ended
September 30, 1999 consisted of $64.3 million of capital expenditures
principally funded by $66.2 million in proceeds from the sale of short-term
investments.
Net cash flow from financing activities was cash used of $4.5 million, cash
provided of $18.7 million, cash provided of $16.1 million and cash provided by
$18.1 million for the years ended December 31, 1996,
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1997 and 1998 and the nine months ended September 30, 1999, respectively. Net
cash used in financing activities in 1996 included $0.9 million payments on debt
and short term borrowings and $4.4 million of advances to affiliates offset by
$0.9 million of additional infusion of equity. Cash flow from financing activity
in 1997 consisted of $14.3 million of additional infusion of equity and $4.4
million of reimbursement of advances previously made to an affiliate. Financing
activities in the 1998 period primarily consisted of $15.6 million of additional
infusion of equity and $2.0 million repayment from an affiliate, offset by $1.5
million in expenditures related to the issuance of debt. These numbers do not
include $242.4 million raised by KNOLOGY Holdings in 1997, as KNOLOGY Holdings
was not majority-owned by ITC Holding during 1997.
After the distribution we will not be able to rely on ITC Holding for
equity infusions and intercompany loans. However, we believe that the
distribution will provide us with greater ability to raise capital in the
private equity market.
FUNDING TO DATE
On October 22, 1997, KNOLOGY Holdings received net proceeds of
approximately $242.4 million from the offering of units consisting of senior
discount notes due 2007 and warrants to purchase preferred stock. The notes were
sold at a substantial discount from their principal amount at maturity and there
will not be any payment of interest on the notes prior to April 15, 2003. The
notes will fully accrete to face value of $444.1 million on October 15, 2002.
From and after October 15, 2002, the notes will bear interest, which will be
payable in cash, at a rate of 11 7/8% per annum on April 15 and October 15 of
each year, commencing April 15, 2003. The indenture contains covenants that
affect, and in certain cases significantly limit or prohibit, the ability of
KNOLOGY Holdings to:
- incur indebtedness;
- pay dividends;
- prepay subordinated indebtedness;
- redeem capital stock;
- make investments;
- engage in transactions with stockholders and affiliates;
- create liens;
- sell assets; and
- engage in mergers and consolidations.
If KNOLOGY Holdings fails to comply with these covenants, KNOLOGY Holdings'
obligation to repay the notes may be accelerated. However, these limitations are
subject to a number of important qualifications and exceptions. In particular,
while the indenture restricts KNOLOGY Holdings' ability to incur additional
indebtedness by requiring compliance with specified leverage ratios, it permits
KNOLOGY Holdings and its subsidiaries to incur an unlimited amount of
indebtedness to finance the acquisition of equipment, inventory and network
assets and to secure such indebtedness, and to incur up to $50 million of
additional secured indebtedness. Upon a change of control of KNOLOGY Holdings,
as defined in the indenture, KNOLOGY Holdings would be required to make an offer
to purchase the notes at a purchase price equal to 101% of their accreted value,
plus accrued interest. The distribution does not constitute a change of control
under the Indenture.
Each unit in the offering also consisted of a warrant to purchase 0.003734
shares of preferred stock of KNOLOGY Holdings at an exercise price of $0.01 per
share. In December 1999, we completed an exchange in which we received the
KNOLOGY Holdings warrants in exchange for warrants to purchase shares of our
Series A preferred stock, which new warrants contain substantially identical
terms as the KNOLOGY Holdings' warrants.
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In connection with the units offering, KNOLOGY Holdings completed an equity
private placement, in which KNOLOGY Holdings issued approximately 21,400
additional shares of Preferred Stock at $1,500 per share to ITC Holding, Century
Telephone Enterprises, Inc., SCANA Communications, Inc., South Atlantic Venture
Fund III, Limited Partnership and AT&T venture funds for aggregate proceeds of
approximately $32.2 million. ITC Holding, Century Telephone, South Atlantic,
AT&T venture funds and SCANA Communications, Inc. purchased approximately $10.0
million, $2.5 million, $5.5 million, $5.0 million and $5.0 million of Preferred
Stock, respectively, in this private placement. A portion of the proceeds from
this private placement were used to repay approximately $11.0 million in
borrowings from SCANA and an additional $11.0 million of debt incurred by
KNOLOGY Holdings to finance the purchase of its cable television systems in
Montgomery, Alabama and Columbus, Georgia in 1995. ITC Holding subsequently
repurchased all shares of KNOLOGY Holdings' Preferred Stock owned by Century
Telephone, South Atlantic and SCANA during 1998.
On December 22, 1998, KNOLOGY Holdings entered into a $50 million four-year
senior secured credit facility with First Union National Bank and First Union
Capital Markets Corp. The credit facility allows KNOLOGY Holdings to borrow up
to five times a certain individual subsidiary's annualized consolidated adjusted
cash flow, as defined in the credit facility agreement. The credit facility may
be used for working capital and other purposes, including capital expenditures
and permitted acquisitions. At KNOLOGY Holdings' option, interest will accrue
based on either the prime or federal funds rate plus applicable margin or the
LIBOR rate plus applicable margin. The applicable margin may vary from .50% to
2.50% based on the leverage ratio of KNOLOGY Holdings. The credit facility
contains a number of covenants including, among others, covenants limiting the
ability of KNOLOGY Holdings and its subsidiaries to:
- incur debt;
- create liens;
- pay dividends;
- make distributions or stock repurchases;
- make certain investments;
- engage in transactions with affiliates;
- sell assets; and
- engage in mergers and acquisitions.
The credit facility also includes covenants requiring compliance with certain
operating and financial ratios on a consolidated basis, including the number of
revenue generating units and average revenue per subscriber. KNOLOGY Holdings is
currently in compliance with these covenants, however, there are no assurances
that KNOLOGY Holdings will remain in compliance through the end of the year.
Should KNOLOGY Holdings not be in compliance with the covenants, KNOLOGY
Holdings would be in default and would require a waiver from the lender. In the
event the lender would not provide a waiver, amounts outstanding against the
facility could be payable to the lender on demand. A change of control of
KNOLOGY Holdings, as defined in the credit facility agreement, would constitute
a default under the covenants. The distribution does not constitute a change of
control of KNOLOGY Holdings under the credit facility agreement.
The maximum amount currently available under the credit facility at
September 30, 1999 was approximately $23 million, assuming compliance with all
of the operating and financial covenants. As of September 30, 1999, $19 million
of the $23 million currently available had been drawn against the credit
facility.
We obtained an aggregate of approximately $40 million from ITC Holding
during November and December 1999. A promissory note evidencing approximately
$9.6 million of these advances was funded to us by ITC Holding in November 1999.
This loan was converted into 2,029,724 shares of Series A
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preferred stock in November 1999. The remaining approximately $30.4 million loan
from ITC Holding will earn interest at an annual rate of 11.875% and has a
maturity date of March 31, 2000. The loan is expected to convert into options to
purchase up to 6,391,329 shares of our common stock immediately prior to the
distribution.
FUTURE FUNDING
Our business requires substantial investment to finance capital
expenditures and related expenses, to expand and/or upgrade the interactive
broadband networks, to fund subscriber equipment and to maintain the quality of
our networks. We currently expect to spend approximately $94 million for capital
expenditures during 1999, which includes $64.3 million spent in the first nine
months of 1999, including the planned expansion and/or upgrade of the
Montgomery, Columbus, Panama City, Augusta, Charleston and Huntsville networks
and approximately $5 million to fund operating losses in 1999. We currently
expect to spend approximately $9 million to fund operating losses and
approximately $131 million for capital expenditures during 2000. The $131
million includes approximately $70 million related to the construction of
networks in our existing markets. The remainder primarily relates to the
purchase of customer premise equipment, information systems and the commencement
of the construction of networks in additional markets. Failure to have access to
additional funds during 2000 could require us to delay some of our construction
plans, delay preliminary efforts in new markets and possibly require us to
restrict or reduce the level of operations in some markets.
We presently estimate the cost to complete construction of the networks in
our existing markets to be approximately $170 million, of which approximately
$70 million would be expended during 2000. We currently expect that if
sufficient funds are raised, the construction of our networks in our existing
markets would be substantially completed during 2002.
We presently expect that present cash reserves, cash flow from operations,
funding obtained through the existing KNOLOGY Holdings credit facility and the
private offering discussed below will be sufficient to fund our 2000 capital
expenditures. We will need additional capital to complete construction of our
networks through 2002. We expect to raise this capital through private and
public debt offerings and private and public equity offerings, although there is
no assurance that this financing will be available on terms favorable to us. If
we are not successful in raising additional capital, we may not be able to
complete the construction of our networks throughout our current markets. This
may cause us to violate our franchises agreements, which could adversely affect
us, or may just limit our growth within these markets.
We plan to expand to additional mid-sized cities in the southeastern United
States. We estimate the cost of constructing networks and funding initial
subscriber equipment in additional new cities at approximately $50 to $75
million per city, though our costs could be as much as $85 million to $90
million per city for larger markets. The actual costs of each new market may
vary significantly from this range and will depend on the number of miles of
network to be constructed, the geographic and demographic characteristics of the
city, costs associated with the cable franchise in each city, the number of
subscribers in each city, the mix of services purchased, the cost of subscriber
equipment we pay for or finance and other factors. We will need additional
financing to expand into additional cities, for new business activities or in
the event we decide to make additional acquisitions. We expect to raise this
capital through private and public debt offerings and private and public equity
offerings, although there is no assurance that this financing will be available
on terms favorable to us. If we are not successful in raising additional
capital, we will not be able to expand to additional cities as planned. The
schedule for our planned expansion will depend upon the availability of
sufficient capital. Definitive decisions on which cities will be chosen for
expansion are not expected to be made until this capital has been raised.
Shortly following the distribution we intend to make a private offering of
shares of Series B preferred stock. This offering is expected to be made to a
small group of institutional investors unaffiliated with us for approximately
$100 million. The proceeds are expected to be used for construction of networks
in our existing markets and to fund start-up costs with respect to possible new
markets. We expect that each
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share of our Series B preferred stock will have rights and preferences
substantially similar to those of our Series A preferred stock, including being
convertible initially into one share of our common stock. The terms of the
Series B preferred stock are discussed in more detail below under the caption
"Description of Securities -- Series B preferred stock."
THE YEAR 2000 ISSUE
General
The year 2000 issue is a general term used to describe the various problems
that may result in computers and other machinery as we reach the year 2000.
These problems generally arise from the fact that most of the world's computers
have historically used only two digits to identify the year in a date, often
meaning that the computer will fail to distinguish dates in the 2000's from
dates in the 1900's.
These problems are expected to increase in frequency and severity as the
year 2000 approaches. This issue impacts our owned or licensed computer systems
and equipment used in connection with internal operations.
Third Parties
We also rely directly and indirectly, in the regular course of business, on
the proper operation and compatibility of third party systems. The year 2000
problem could cause these systems to fail, err, or become incompatible with our
systems.
Certain of our suppliers and vendors could have a material affect on our
business if they fail to become year 2000 ready. In these cases, we are relying
on the determination by an outside testing company that these vendors and
suppliers are ready for the year 2000. Also, we have conducted our own testing
of certain major components of the systems provided to us by third parties.
Nonetheless, if we or a significant third party on which we rely fails to become
year 2000 ready, or if the year 2000 problem causes our systems to become
internally incompatible or incompatible with such third party systems, our
business could suffer from material disruptions, including the inability to
process transactions, send invoices, accept customer orders or provide customers
with our services. We could also face similar disruptions if the year 2000
problem causes general widespread problems or an economic crisis. We cannot now
estimate the extent of these potential disruptions.
Our State of Readiness
We established a year 2000 program office to coordinate activity and report
to our executive management and board of directors with regard to the year 2000
issue. Our year 2000 program office developed a plan for us to become year 2000
ready by the middle of the fourth quarter 1999. This plan covers:
- our technology and operating systems;
- billing of our cable, telephone and Internet services;
- customer service;
- financial operations and reporting;
- network monitoring; and
- the systems of our major vendors, third party service providers and other
material service and content providers.
We are addressing our year 2000 plan with respect to our internal
operations in six phases:
- an awareness phase, in which we inventory and evaluate our systems,
components and other significant infrastructure;
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- an assessment phase, in which we identify those elements that reasonably
could be expected to be affected by year 2000 problems;
- a remediation phase, in which we remediate or replace equipment that we
believe will fail to operate properly in the year 2000;
- a testing and validation phase, in which we test the remediation and
replacement conducted and validate its ability;
- an implementation phase, in which we add our new or updated equipment to
our current systems; and
- a contingency phase, in which we develop contingency plans for our
at-risk business functions.
We have completed the awareness, assessment, remediation and contingency phases
of our plan for all of our services and systems. We have substantially completed
the testing and validation and implementation phases for all of these services
and systems.
Certain actions in the remediation phase have been conducted by the third
parties who provide hardware, software, or services that comprise our systems.
We have polled all the third parties who provide material hardware, software, or
services as part of our information technology and operating systems with regard
to each of such third party's year 2000 compliance plan and state of readiness.
We have actively sought responses from all vendors and third parties as to year
2000 compliance, status of plans and readiness. All key vendors have responded
and most of the third parties have assured us that their hardware and/or
software is currently or will be year 2000 compliant before the end of the year.
We expect to have any remaining non-compliant systems in compliance before the
end of 1999.
Interstate Telephone and Valley Telephone will be year 2000 ready by
December 1999. Both companies rely on third party vendors for the telephony
customer care and billing and switching services, and both use a legacy system
for telephony carrier access billing services.
Costs
To date, we have incurred approximately $450,000 of costs in connection
with our year 2000 plan, and we anticipate spending approximately $150,000 in
additional funds. We expense all costs associated with our Year 2000 plan as we
incur them and anticipate funding the costs of our plan from cash flows. To
date, we have not deferred any specific information technology projects because
of the costs of our plan.
Risks
The failure to correct a material year 2000 problem or to implement a
contingency plan could result in system failures leading to a disruption in, or
failure of, certain normal business activities or operations. Such failures
could materially and adversely affect our business, profitability and operating
results.
Contingency Plans
We have a year 2000 contingency planning committee, which has developed
year 2000 contingency plans for all of our information technology and operating
systems and for each of our locations. This committee identified key business
risks which were used to drive the development of these plans. Additionally, we
use an outside consulting service to assist in our year 2000 readiness, project
coordination and execution of the year 2000 plan.
Contingency planning to maintain and restore service in the event of
natural disasters, power failures and systems-related problems is a routine part
of our operations. We believe that such contingency plans will assist us in
responding to any failure by outside service providers to successfully address
year 2000 issues. In addition, we have developed complete contingency plans that
address our most reasonably likely worst case year 2000 scenarios including
identification of alternate vendors and service providers and manual
alternatives to system operations.
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Our contingency plans for the components of our operations that are
provided by third parties and are of greatest concern to us in the event of a
year 2000 problem are:
- Network. To prepare for potential year 2000 problems affecting our
network, we have leased more facilities to provide greater redundancy. We
have also received vendor assurances with regard to our network.
- Billing. We have conducted our own testing of our billing systems. In
addition, we are relying on third-party verification that these systems
are ready for the year 2000.
- Switching. We have only one switch, through which we route all of our
telephone data transmissions. A team of specialists from an outside
consulting service will be on call to provide backup support in the event
of any year 2000 problems. The switching functions have also been tested
by us and by third-parties for year 2000 readiness.
QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
We are exposed to market risk from changes in interest rates. We manage our
exposure to this market risk through our regular operating and financing
activities. Derivative instruments are not currently used and, if utilized, are
employed as risk management tools and not for trading purposes.
We have no derivative financial instruments outstanding to hedge interest
rate risk. Our only borrowings subject to market conditions are our borrowings
under our credit facility which are based on either a prime or federal funds
rate plus applicable margin or LIBOR plus applicable margin. Any changes in
these rates would affect the rate at which we could borrow funds under our bank
credit facility. A hypothetical 10% increase in interest rates on our variable
rate bank debt for a duration of one year would increase interest expense by an
immaterial amount.
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OUR BUSINESS
GENERAL
We were formed in September 1998. We own 100% of KNOLOGY Holdings,
Interstate Telephone Company, Valley Telephone Company, Globe Telecommunications
and ITC Globe. We acquired these companies in November 1999 from ITC Holding and
other stockholders of KNOLOGY Holdings. This transaction and the history of
these subsidiaries is described in more detail under the caption "Management's
Discussion and Analysis of Financial Condition and Results of Operation."
ITC Holding, a diversified telecommunications company, formed KNOLOGY
Holdings in November 1995. ITC Holding currently owns 90% of our stock, which it
is distributing to its stockholders. We receive services from and/or provide
services to various companies that may be deemed related parties, including
MindSpring and ITCDeltaDeltaCom. These relationships and services are described
in detail under the caption "Certain Transactions and Relationships." We believe
that the transactions with MindSpring, ITCDeltaDeltaCom and other companies that
may be deemed related parties, are representative of arms-length transactions
and we expect that our existing contracts with these companies will continue
after the distribution.
One of our principal stockholders, SCANA Communications, is also a
stockholder of ITC Holding. In addition to investing in us, SCANA Communications
loaned us money in the past. We lease pole space from SCANA Corporation, the
parent company of SCANA Communications, which owns and operates public utilities
in South Carolina. See "Certain Transactions and Relationships" for a
description of our relationship with SCANA Communications and SCANA Corporation.
We offer our customers broadband communications services, including:
- traditional and digital cable television;
- local and long distance telephone; and
- high-speed Internet access service.
Our customers have the choice of receiving these services individually or as
part of a bundle of services. In addition, we sell access to our network and
provide various network-related services to other telecommunications companies,
such as long distance telephone companies and Internet service providers.
We provide all of these services using high-speed broadband networks that
are two-way interactive. Broadband networks are high-capacity, which means they
can handle large volumes of voice, video and data. Two-way interactive networks
give customers the ability to send and receive signals at the same time. Two-way
interactive networks are required for telephone service and provide for higher
speed Internet connections than traditional one-way networks. It is important to
our strategy to provide bundled high-speed communications services that our
networks are broadband and two-way interactive.
For the nine months ended September 30, 1999, video, telephone and
high-speed Internet services and other revenue accounted for 53%, 43%, and 4%,
respectively, of consolidated revenue. Other revenue consisted principally of
revenue from broadband carrier services and video production services.
We own, operate and manage interactive broadband networks in five
metropolitan areas: Montgomery, Alabama; Columbus and Augusta, Georgia; Panama
City, Florida and Charleston, South Carolina. In addition, we provide
traditional and digital cable television services in Huntsville, Alabama. Our
Huntsville facilities are being upgraded to provide local and long distance
telephone and high-speed Internet access services. We also provide local
telephone services throughout the Georgia/Alabama border area known as the
valley, which includes the towns of West Point, Georgia, Lanett, Alabama and
Valley, Alabama and unincorporated portions of counties in both states. Our
local telephone service in the valley area is provided over a traditional copper
wire network while our cable and Internet services in that area are provided
over our broadband network. We also provide local telephone service in Newnan,
Georgia over a
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leased broadband network. We plan to expand to additional mid-sized cities in
the southeastern United States.
We launched our services in these areas as follows:
- We have offered telephone service in the Georgia/Alabama border area for
over 100 years.
- We began offering all of our bundled services in Montgomery and Columbus
in 1995. The previous owner offered cable television service in these
markets prior to 1995.
- We began offering all of our bundled services in Panama City in 1997. The
previous owner offered cable television service in the market prior to
1997.
- We began offering cable television service in Huntsville in 1998. The
previous owner offered cable television service in the market prior to
1998.
See the text under the caption above "Management's Discussion and Analysis
of Financial Condition and Results of Operation" for a discussion of the
acquisition and/or the development of these networks.
Because we deliver multiple services to our customers, we report the total
number of our various revenue generating service connections for local
telephone, cable programming and Internet access, rather than the total number
of customers. As of September, 1999, we had approximately 130,900 revenue
generating service connections, including approximately 102,354 connections to
customers through our high-speed broadband networks and the remainder over
leased facilities or traditional copper telephone lines.
<TABLE>
<CAPTION>
AS OF SEPTEMBER 30,
--------------------
1998 1999
-------- --------
<S> <C> <C>
Connections (1)
Video....................................................... 78,203 87,609
Telephone.................................................
On-Net (2)............................................. 23,296 33,005
Off-Net (3)............................................ 5,911 6,568
Internet.................................................. 632 3,718
-------- --------
Total Connections........................................... 108,042 130,900
======== ========
Marketable Homes Passed (4)................................. 246,307 301,470
======== ========
Video Penetration (5)....................................... 29.1% 31.8%
======== ========
Premium Units (6)........................................... 55,139 60,273
Premium Penetration (7)..................................... 70.5% 68.8%
</TABLE>
- ---------------
(1) Connections represent revenue generating connections. For video and
high-speed internet, connections represent the number of customers
subscribing to the service. For telephone, connections represent the number
of lines connected. For example, a telephone customer that has two lines
would be counted as two connections.
(2) On-net refers to line provided over our broadband networks. It includes
20,526 and 21,978 lines as of September 30, 1998 and 1999, respectively
provided using traditional copper wire telephone lines.
(3) Off-net consists of all resale lines provided within our network area.
(4) Marketable homes passed are the number of living units, such as single
residence homes, apartments and condominium units, passed by our cable
television distribution network.
(5) Video penetration represents video connections as a percentage of marketable
home passed.
(6) Premium units represent the total number of subscriptions to premium
channels.
(7) Premium penetration represents premium units as a percentage of video
connections (which represents the number of video customers).
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All of our network has the ability to provide broadband communications
services except for our network located in Huntsville, Alabama, which is
currently being upgraded. We expect that the Huntsville upgrade will be complete
in 2001.
OUR STRATEGY
We have developed the following strategy for the implementation and
operation of business:
- Build and Operate Reliable Interactive Broadband Networks. By designing,
constructing and operating our own high-capacity, interactive broadband
networks, we can provide our residential and business customers a wide
range of high-quality broadband communications services. We believe that
this gives us a competitive advantage over cable, telephone and wireless
systems that do not have the capability to provide a wide range of
communication services.
We also believe that our high-capacity networks, which are substantially
protected by redundant paths, give us a quality and reliability advantage
over other and lower-capacity cable systems that do not have significant
redundant paths. Redundant paths increase reliability by providing an
alternate route for signals to travel if network problems arise. In
addition, we use a specially designed powering system, which is backed up
at various points along our network by a generator and uninterruptable
power source. This allows service to continue in case of a power outage.
We can monitor our network 24 hours per day, seven days per week, at our
network operations center.
- Provide Bundled Offerings. We believe that by bundling video, voice and
data communications services we can distinguish ourselves from our
competition. We believe that the cost savings on a bundle of services and
the advantages of one-stop shopping will be attractive to new customers,
particularly since most of our prospective customers presently buy
services from multiple sources. We also believe that customers will be
less likely to switch should competitors offer lower prices on individual
services because of the cost savings associated with purchasing a bundle
of services from us. The ability to realize an overall profit on a bundle
of services should give us greater pricing flexibility.
- Be First To Market Multiple Broadband Communications Services. We
believe that we are the first providers of a bundled video, voice and
data broadband services package in Montgomery, Columbus, Panama City,
Augusta, Charleston and Huntsville. We intend to be the first to offer a
similar services package in each new market that we enter. We want to
capitalize on our position as a new communications company that brings
competition and choice to cities. We believe that many companies may seek
to provide bundled communications services over the next several years.
We expect that later entrants in a market will have greater difficulty
making a profit. In addition, constructing networks uses space on various
rights of way, which may be limited or more expensive for later entrants.
- Expand To Additional Markets. We intend to expand to additional
mid-sized cities in the southeastern United States. Although we have not
definitively decided upon particular cities for expansion, we plan to
target cities:
- that have enough people to permit a network plant to serve an average
of 70 homes per mile;
- that generally have populations of at least 100,000; and
- in which we believe we can capture a substantial number of cable
television customers and can be the leading provider of bundled
communications services.
We believe that such cities will support a broadband communications
services business and that most of the large cable companies and other
service providers currently are focusing primarily on larger
metropolitan areas.
- Focus On The Customer. We believe the quality and responsiveness of our
customer service differentiates us from our competitors. Our customer
service representatives in each market handle
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customer-related functions 24 hours a day. We also monitor our networks
24 hours a day, seven days a week.
- Broadband Carrier Services Strategy. We use extra, unused capacity on
our networks to develop and offer wholesale services to local and long
distance telephone companies, Internet services providers and other
integrated services providers. Our entry into a local market with a newly
constructed high-capacity network offers other service providers a
reliable and cost competitive alternative to telephone services provided
by the incumbent local phone company. We believe that we have a
competitive advantage due to the high-quality of our networks and the
fact that it passes substantially every home and business in our service
area.
INDUSTRY STRUCTURE AND TECHNOLOGY
General
As a result of the Telecommunications Act of 1996, cable television
companies may provide telephone service and vice versa, local telephone
companies may provide long distance service and vice versa, and all may provide
numerous ancillary services. Municipalities must grant cable television
franchises to qualified applicants. This change in the regulatory landscape,
along with the substantial growth in use of the Internet, has led to a rush by
communications companies and others such as power companies to provide a full
range of voice, video and data communications services to consumers. Although
the process of building broadband networks and expanding to other services has
begun, we believe that most of the large cable companies and other service
providers will initially focus primarily on major metropolitan areas.
Communications Technologies And Services
We have set forth below a brief description of the current communications
industry structure and the technology generally used by each system, including
hurdles that providers face in offering new services.
Cable Television. Cable television systems generally consist of coaxial
cable, which carries signals via radio frequency, and/or fiber optic cable,
which carries signals via light waves generated by a laser. The cable runs
through the air attached to poles or underground past the homes in a service
area, connecting to each house individually through a cable connection box
located outside of the house. Subscriber homes have internal wiring running from
the cable connection box to one or more boxes into which users connect
television sets and set-top terminals used for special services, descrambling,
pay-per-view and other features. Traditional coaxial cable networks have
numerous amplifiers located along the network to restore the strength of the
signal, which diminishes as it travels. Amplifiers produce interference or noise
which increases as the number of amplifiers increases. Fiber optic networks do
not use amplifiers since their larger lasers send signals further so they do not
need amplifying.
The number of channels or features that a cable system can offer varies
with the capacity of the cable network and the electronic equipment that
compresses and amplifies the signal. Additional equipment may compensate for a
lower-capacity network, but too much equipment results in noise or interference,
leading to a lower-quality signal. Many traditional cable companies have sought
to increase capacity through the use of additional equipment, and customers have
experienced increased interference.
Many cable television systems use one-way noninteractive cable, and
accordingly do not have the ability to provide telephone service, which requires
a two-way interactive cable. Several cable companies, including large cable
companies, offer high-speed data transmission and provide Internet access using
cable modems which are one-way noninteractive. However, such service generally
cannot deliver high-speed performance until the cable has been upgraded to
increase capacity and add two-way interactivity.
Wireless Cable. Wireless cable technology allows the transmission of
television, high-speed computer data, and facsimile transmissions via microwave
frequencies. Wireless cable has been used to serve primarily rural areas where
laying traditional cable is not economically feasible. The wireless cable system
sends signals from a centrally located facility equipped with transmitters,
antennas, satellite dishes and scrambling and descrambling equipment to
subscribers with rooftop antennas and the necessary converters.
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Because wireless cable signals use microwaves, they require line-of-sight
transmission from the central source to the subscribers. Obstructions such as
large buildings, trees and uneven terrain can interfere with reception, although
signal repeaters that receive and re-transmit signals to avoid obstructions
alleviate these shortcomings.
Other Satellite Technologies. Satellite television companies provide
satellite transmission of video and audio services directly to the customer's
home. Such satellite transmission requires hardware and software to receive and
decrypt satellite television programming. Satellite broadcasting does not
require ground construction to install, maintain or upgrade services. Rather,
the programming is transmitted from a ground station to the subscriber using a
communications satellite. A subscriber must purchase or lease a satellite dish
to receive signals and a receiver system to process and descramble signals for
television viewing. Echostar and DirecTV provide direct broadcast satellite
services using high-power communications satellites and small dish receivers.
These systems generally offer more channels than cable systems.
Congress recently passed the Intellectual Property and Communications
Omnibus Reform Act of 1999 which expands the statutory copyright license for
satellite carriers to include local signals. Under this new act, satellite
carriers may carry a local television broadcast station in the station's local
market subject to the availability of channel capacity and compliance with many
of the same signal carriage rules that apply to cable television systems. For
example, satellite carriers that choose to retransmit a local signal in a
television market must carry all of the local television stations in the market
that demand carriage. Satellite carriers may not carry a local television
station without the station's consent. The act required the FCC to develop other
rules relating to signal carriage, such as rules
- to permit a network affiliate to preserve its right to be the exclusive
network station in a market;
- to permit stations to be the exclusive distributors of syndicated
programming in their markets; and
- to protect the rights of sports teams to control distribution of their
games in the area where the games are played, known as "sports blackout"
rules.
Currently small satellite dishes are not two-way interactive, and therefore
are not suitable for telephone or Internet services. Residential systems use
telephone lines to transmit to the Internet and satellite transmission for
reception from the Internet. This approach still has dial-up delays, but it has
many of the same advantages as Internet access over a broadband network.
However, satellite transmission may cause an echo during voice transmissions due
to the long distance to and from the satellite.
Traditional Landline Telephone. Traditional telephone service is provided
by local landline telephone systems consisting of a network of switches,
transmission facilities between switches, and connections between customer
premises and a local switch. Switches are devices that direct voice and data
traffic. A switch looks at incoming voice or data to determine its destination
and routes the traffic accordingly. A call can be routed by the local switch
directly to the called party if that party is served by the same switch, to
another local or toll switch for delivery to the called party, or through one or
more switches of a long distance carrier to a more distant local switch for
ultimate delivery to the called party. The transmission facilities connecting
switches are comprised primarily of high-capacity fiber optic cables. Customer
premises usually consist of copper wire lines that run through the air or
underground to each of the premises served. They generally carry analog
transmissions and have relatively low transmission capacity, sufficient to carry
only one two-way voice conversation.
Capacity can be expanded by advanced techniques such as integrated services
digital network or ISDN, which permits voice and data transmissions to occur
simultaneously and can support some level of video teleconferencing. However,
local connections, even with integrated services digital network, generally do
not have sufficient capacity for large-scale provision of video services.
Digital subscriber line or DSL uses transmission equipment placed at the
customer premises and at the central office to increase transmission speeds on
copper wire local connections. Widespread deployment of digital subscriber line
technology is limited by the length and gauge of the copper wire connections
plus the use of extenders.
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Wireless Telephones. Wireless telephone technology, which includes
cellular and a technology commonly called PCS, is based upon the division of a
given market area into a number of smaller geographic areas, or cells. Each cell
has a base station or cell site, which is a physical location equipped with
transmitter-receivers and other equipment that communicate by radio signal with
wireless telephones located within range of the cell. Cells generally have an
operating range from two to 25 miles. Each cell site connects to a mobile
telephone switch, which in turn connects to the local landline telephone
network. When a subscriber in a particular cell dials a number, the wireless
telephone sends the call by radio signal to the cell site, which then sends it
to the mobile switch. The mobile switch completes the call by connecting it with
the landline telephone network or another wireless telephone unit. Incoming
calls are received by the mobile switch, which instructs the appropriate cell to
complete the communications link by radio signal between the cell site and the
wireless telephone. Like local landline telephone networks, wireless telephony
technologies generally do not have sufficient capacity for large scale provision
of video and data services, although some new higher-capacity technologies may
become available in the near future that support a wider range of services.
Internet Access. Most Internet access takes place over telephone lines
using computer modems. This form of transmission works well for smaller amounts
of data, but telephone lines generally cannot handle large volumes of
information, multimedia applications or high-speed data transmissions. This
often results in lengthy delays. Also, Internet service providers have limited
numbers of ports available for customers to dial in to the Internet, and their
customers may experience difficulties obtaining access to the Internet or may be
disconnected if activity is too limited. High-speed cable modems used over
traditional one-way noninteractive cable networks permit high-speed broadband
reception from the Internet, but require communications from the user to the
Internet to be over telephone lines.
OUR INTERACTIVE BROADBAND NETWORKS
Our interactive broadband networks are:
- high-speed,
- high-capacity,
- two-way interactive, which means that the customers have the ability to
send and receive signals at the same time; and
- hybrid fiber-coaxial networks, which means that the network is made up
of a combination of high-capacity fiber-optic cables and traditional
coaxial cables.
Our hybrid fiber-coaxial network is designed using redundant fiber-optic
cables. Redundant cables increase reliability by providing an alternate route
for signals to travel if network problems arise. By comparison, most traditional
cable television systems do not have significant redundant cables. In addition,
we provide power to our system from locations along the network called hub
sites, each of which is equipped with a generator and uninterruptable power
source battery back-ups to allow service to continue in a power outage.
Our interactive broadband networks can support numerous channels of basic
and premium cable television services, telephone services, Internet access and
other broadband communications services. Our networks have extra capacity, so we
can add new services as content and technology become available.
We offer local telephone service over these networks in much the same way
local phone companies provide service. We provide dial tone service and install
a network interface box outside a customer's home. We may add wiring inside the
premises as well. We can offer multiple lines of telephone service. Our networks
interconnect with those of other local phone companies through a nine-state
interconnection agreement with BellSouth Telecommunications, Inc. We provide
long distance service using leased facilities from Business Telecom, Inc. and
other telecommunications service providers. Business Telecom and ITCODeltaCom
provide leased facilities and other services which allow us to offer long
distance services to our customers. In addition to granting access to their
network facilities, Business Telecom and
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ITCODeltaCom provide call switching services and operator and directory
assistance. We have a minimum purchase commitment of $50,000 with Business
Telecom which we have always met or surpassed. We do not have a minimum purchase
commitment with ITCODeltaCom.
We provide high-speed Internet access services using high-speed cable
modems in much the same way customers currently receive Internet services over
modems linked to the local telephone network. The cable modems we presently use
are typically 50 times faster than regular phone dial-up modems. Our customer's
cable line with cable modem connects directly into the Internet. The Internet
connection is always active and there is no need to dial up for access to the
Internet or wait to connect through a port leased by an Internet service
provider.
ITCODeltaCom provides us with the technical Internet services that allow us
to offer Internet access to our customers. ITCODeltaCom is an affiliate of our
company and of ITC Holding. We believe that the terms of our agreements with
ITCODeltaCom are comparable to what we could obtain for similar services from an
unaffiliated company.
Since the cable equipment industry is a consolidated industry, there are
relatively few manufacturers of cable equipment. We purchase digital cable
equipment from one supplier. This supplier has informed us that it may decide
not to sell equipment to us in some new markets because of their existing
relationship with a large competitor. We are currently in discussions with this
supplier and are optimistic that this supplier will sell equipment for all of
our new markets. If we are unable to resolve this issue with this supplier
favorably or are unable to identify an alternate source of digital cable
equipment, our ability to expand into some new markets may be impaired.
OUR BROADBAND COMMUNICATIONS SERVICES
Cable Television. We offer our customers three types of cable television
services: expanded basic, premium, and digital. Customers generally pay fixed
monthly fees for cable programming and premium television services, which
constitute our principal sources of revenue.
Most customers choose to subscribe to expanded basic cable service. We call
this service expanded basic because it includes many more channels than
traditional basic cable service. Our expanded basic cable service consists of
approximately 65-75 channels of programming, including:
- television signals from local broadcast stations;
- television signals from so-called super stations such as WGN (Chicago);
- numerous satellite-delivered non-broadcast channels such as CNN, MTV,
ESPN, The Discovery Channel and Nickelodeon;
- displays of information featuring news, weather, stock and financial
market reports; and
- public, government and educational access channels.
We offer a variety of premium services for an extra monthly charge. Premium
services include channels with feature motion pictures such as HBO, Showtime and
Cinemax or other special channels. We also provide our customers:
- access to additional channels offering pay-per-view feature movies, live
and taped sports events, concerts and other special features which
involve a charge for each viewing;
- access to home shopping networks; and
- specialty services such as digital audio service.
Programming for our cable television systems comes from over 70 national
and local television networks. Since January 1, 1996, our arrangements with many
of these networks, constituting approximately 60% of our channels, have been
obtained through our association with the National Cable Television Cooperative,
Inc. The National Cable Television Cooperative obtains programming rates from
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most major networks, which rates are made available to us as a member of the
cooperative. By obtaining programming rates through the cooperative, we benefit
from volume discounts not otherwise available to us which more than offset the
annual fees we pay to be a member of the cooperative. In addition, the
cooperative handles our contracting and billing arrangements with the networks.
Although we can terminate our membership in the cooperative at any time, we plan
to continue our membership for the foreseeable future.
We began offering digital video service in November 1998. Digital cable
uses compression technology to significantly increase the number of television
channels. Digital technology converts signals into a digital format and
compresses many such signals into the space normally occupied by one signal. At
the home, a set-top video terminal converts the digital signal back into
channels that can be viewed on a normal television set. We added digital video
as an additional service without reducing the current number of basic channels.
Digital technology also permits us to offer near video-on-demand, which include
movies or other programs that commence in frequent intervals, to customers for a
fee per viewing basis.
Telephone. Our telephone service includes residential and small business
local and long distance telephone services. Our customers pay a fixed monthly
rate for all local calling. Customers may elect to receive call waiting, call
forwarding, voice mail and other value-added services, which generally involve
an additional fixed charge per month per telephone line. We generally price our
services at rates comparable to those of our competitors, although typically our
value-added services are less expensive than those of our competition. We offer
all of our cable television services customers a discount on telephone service.
Our long distance service offers features and prices comparable to those of our
competitors.
Internet Services. Our high-speed data service offers customers high-speed
connections to the Internet using cable modems. The Internet connection using a
cable modem is always active, so our customers do not have to dial in and wait
for access. Since a customer's service is offered over the existing connection
in the home, no second phone line is required and there is no disruption of
service when the phone rings or when the television is on. We charge a fixed
monthly fee for connection to the Internet. We offer discounts on our high-speed
Internet service to customers who also purchase our cable television service or
telephone service.
Broadband Carrier Services. We use extra, unused capacity on our networks
to offer wholesale services to other local and long distance telephone
companies, Internet services providers and other integrated services providers.
We call these services our "broadband carrier services." We believe our newly
constructed interactive broadband networks offer other service providers a
reliable and cost competitive alternative to telephone services provided by the
incumbent local telephone company.
We sell access to our network to long distance telephone companies for
interstate and intrastate long distance phone calls to and from our customers.
We sell access to our network to connect local telephone companies to small
business customers. We offer traditional special access and local private line
services through our network by providing high capacity connections to medium
and large commercial users, local telephone companies and other carriers
throughout a metropolitan service area. Special access lines are dedicated lines
that connect customers directly to a long distance carrier. Private lines are
dedicated lines linking a customer location to one or more other customer
locations.
We provide services to Internet service providers which allows them to
expand into areas where our network is located. In August 1998, we entered into
an agreement with MindSpring Enterprises, Inc., a large Internet service
provider in which ITC Holding is a large stockholder, which allows MindSpring to
offer high-speed Internet access to its customers in Montgomery, Alabama using
our network. We entered into a similar agreement with A World of Difference,
Inc., in August 1999 for the Charleston area.
Future Broadband Communications Services. We believe that our interactive
broadband networks may enable us to provide additional broadband services in the
future, including:
- Interactive energy management services in partnership with power
companies, which allow customers to monitor energy usage and cost
online;
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- Security services, including closed-circuit television security
monitoring and alarm systems;
- Voice transmission using the Internet, which integrates traditional
telephone functions with Internet-based technology; and
- High-speed, high-capacity transmission of data using advanced
transfer protocols, such as the asynchronous transfer mode method of
transmission.
MARKETS AND SUBSCRIBERS
Current Markets
Our interactive broadband networks currently serve:
- Montgomery, Alabama;
- Columbus, Georgia;
- Augusta, Georgia;
- Charleston, South Carolina;
- Panama City, Florida; and
- a rural area on the Georgia/Alabama border known as the valley.
We provide video, telephone and Internet services over a broadband network in
Montgomery, Columbus, Augusta, Charleston and Panama City. In the valley area,
we provide telephone service over a traditional copper wire telephone network
and video and Internet services over a broadband network. We also provide cable
television services in the Huntsville, Alabama area, and we are in the process
of upgrading the Huntsville network to an interactive broadband network to
provide telephone and Internet services.
We believe that our ability to increase and maintain our subscribers has
been due largely to:
- our commitment to customer service;
- the number of channels we offer; and
- our reliability and quality of the picture and sound over our
networks.
New Markets
We plan to expand to additional mid-sized cities in the southeastern United
States. Although we have not definitively decided upon particular cities for
expansion, we plan to target cities:
- large enough to support a network plant to service an average of 70
homes per mile;
- with populations generally of at least 100,000; and
- in which we believe we can attract a significant portion of the
cable television customers and can become the leading provider of
bundled communications services.
NETWORK CONSTRUCTION AND OPERATIONS
Network Construction
With the exception of the Georgia/Alabama border area where we maintain our
own construction crews, we use contractors for the construction of our networks,
including both the laying of underground cable and attaching aerial cable to
utility poles. We serve as the manager of the construction process, directing
and supervising the various construction crews. We have 59 employees dedicated
to monitoring and facilitating the construction of our networks, including a
Vice President of Construction. Our approach to construction reflects our
commitment to customer service. We notify potential customers before commencing
underground construction and restore any damaged property. Based on past
experience, we believe the construction of a new network in a new market will
take approximately three years.
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Network Operations and Maintenance
Technicians in each of our service areas schedule and perform installations
and repairs and monitor the performance of our interactive broadband networks.
We operate a network operations center in West Point, Georgia, and we monitor
our networks 24 hours a day, seven days a week. Our technicians perform
maintenance and repair of the network on an ongoing basis. We maintain the
quality of our networks to minimize service interruptions and extend the
networks' operational life.
Franchises
Cable television systems and local telephone systems generally are
constructed and operated under the authority of nonexclusive franchises, granted
by local and/or state governmental authorities. Franchises typically contain
many conditions, such as:
- time limitations on commencement and completion of system
construction;
- customer service standards;
- minimum number of channels; and
- the provision of free service to schools and certain other public
institutions.
We believe that the conditions in our franchises are fairly typical. Our
franchises generally provide for the payment of fees to the municipality ranging
from 3% to 5% of revenues from telephone and cable television service,
respectively. Our franchises generally have ten to fifteen year terms, and we
expect our franchises to be renewed before or upon expiration by the relevant
franchising authority.
Prior to the scheduled expiration of most franchises, we initiate renewal
proceedings with the government agencies. The Cable Communications Policy Act of
1984 provides for an orderly franchise renewal process in which the franchising
authorities may not unreasonably deny renewals. If a renewal is withheld and the
franchising authority takes over operation of the affected cable system or
awards the franchise to another party, the franchising authority must pay the
cable operator the "fair market value" of the system. The Cable Communications
Policy Act of 1984 also established comprehensive renewal procedures requiring
that the renewal application be evaluated on its own merit and not as part of a
comparative process with other proposals. The following table lists our
franchises by location, term and expiration date.
<TABLE>
<CAPTION>
LOCATION TERM EXPIRATION DATE
-------- ---- ---------------
<S> <C> <C>
SOUTH CAROLINA
Charleston.................................................. 15 4/28/2013
North Charleston............................................ 15 6/12/2013
Charleston County........................................... 15 12/15/2013
Mount Pleasant.............................................. 15 12/15/2013
Hanahan..................................................... 15 12/8/2013
Summerville................................................. 15 2/10/2014
Lincolnville................................................ 15 12/2/2013
Goose Creek................................................. 15 11/11/2013
Berkeley County............................................. 15 7/20/2013
GEORGIA
Augusta/Richmond County..................................... 15 1/20/2013
Columbia County............................................. 11 11/1/2009
Columbus Renewal............................................ 10 3/16/2009
</TABLE>
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<TABLE>
<CAPTION>
LOCATION TERM EXPIRATION DATE
-------- ---- ---------------
<S> <C> <C>
FLORIDA
Panama City................................................. 18 3/10/2016
Bay County.................................................. 8 1/5/2006
Lynn Haven.................................................. 18 5/12/2016
City of Callaway............................................ 10 9/28/2009
Cedar Grove................................................. 15 6/9/2013
ALABAMA
Prattville.................................................. 15 7/7/2013
Maxwell AFB................................................. 4 9/30/2003
Autauga County.............................................. 15 10/15/2013
Montgomery.................................................. 10 3/6/2005
Huntsville.................................................. 2(1) 3/7/2001
Madison..................................................... 8(1) 10/22/2006
Madison County.............................................. 11(1) 11/20/2009
Redstone Arsenal............................................ * *
Limestone County............................................ 6 5/7/2005
</TABLE>
- ---------------
(1) This number represents the number of years left under the franchise when we
acquired the franchise in the 1998 Cable Alabama acquisition.
* We are operating in this market under a letter agreement while our franchise
application is pending.
The Cable Communications Policy Act of 1984 also prohibits franchising
authorities from granting exclusive franchises or unreasonably refusing to award
additional franchises covering an existing cable system's service area. This
simplifies the application process for our obtaining a new franchise. This
process usually takes about 6-9 months. While this makes it easier for us to
enter new markets, it also makes it easier for competitors to enter the markets
in which we currently have franchises.
SWITCHING
Switches are devices located along the network that direct voice and data
traffic. Our switching equipment allows us to provide enhanced custom calling
services including call waiting, call forwarding and three-way-calling.
Residences and businesses are connected to the switches primarily with copper
lines. We believe our network equipment and infrastructure is in good condition.
Much of our network equipment and infrastructure has been replaced within the
past three years.
Interconnection
We rely on local telephone companies and other companies to connect calls
to users who are not our customers. We have access to BellSouth's telephone
network under a nine-state interconnection agreement pursuant to the
Telecommunications Act of 1996. The terms of this interconnection agreement have
been approved by the Georgia, Alabama, Florida and South Carolina state public
utility commissions. This agreement with BellSouth expires in April 2000 and is
discussed in "Risk Factors -- Loss of interconnection arrangements could impair
our telephone service."
Approvals of other state public utility commissions will be required in
connection with our provision of telephone service in other states. The
Telecommunications Act established certain requirements and standards for
interconnection arrangements, and our interconnection agreement with BellSouth
is based on these requirements. However, these requirements and standards are
still being developed and implemented by the FCC in conjunction with the states
through a process of negotiation and arbitration, as discussed below under the
caption "Our Business -- Legislation and Regulation -- Federal Regulation of
Telecommunications Services."
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SALES AND MARKETING
Marketing Strategy
We believe that we are the first provider of a bundled video, voice and
data broadband communications services package in our current markets, and we
intend to be first to market a similar services package in new cities. We
believe that cost savings on a bundle of services and the advantages of one-stop
shopping will be attractive to new customers, particularly since most of our
prospective customers now buy services from multiple sources. We intend to
emphasize our position as a new communications company that brings competition
and choice to cities where we provide service. We also work to attract new cable
television subscribers in areas in which our network has expanded. Our focus
includes multiple dwelling units, many of which are subject to exclusivity
arrangements with other cable providers that have not yet expired or which
involve more complex arrangements with the property owner.
Cable Television. To attract cable television subscribers in new areas, we
mount extensive marketing campaigns prior to initiation of service with
door-to-door solicitations and flyers followed by direct mail and telemarketing.
We also use these solicitation efforts in our existing markets to encourage
people who previously have not chosen any cable service to use our cable service
or to encourage people who use another cable service to switch to our service.
We have a sales staff in each of our markets, including residential and business
sales managers, sales representatives and customer service representatives. We
use our own installation and repair crews and those of outside contractors to
install new service quickly.
Telephone and Internet. For our telephone and Internet marketing, we have
focused on subscribers of our cable television services through direct mail,
door-to-door solicitations, flyers and telemarketing. We offer our cable
television customers discounted rates for telephone service and high-speed
Internet service. We emphasize the cost savings of a bundle of services. We also
provide high-speed Internet access to certain Internet service providers who in
turn resell the service to their customers. We have sales managers for our
telephone and Internet services, and sales representatives focusing on bundled
services.
Customer Service. Customer service is an essential element of our
operations and marketing, and we believe our quality and responsiveness
differentiates us from our competitors. A significant number of our employees
are dedicated to customer service activities, including
- order taking;
- customer activations;
- billing inquiries and collections;
- service upgrades;
- provision of customer premises equipment; and
- administration of our customer satisfaction program.
In addition, we provide 24-hour customer service, operate customer phone centers
in each of our service areas, and operate a back-up customer phone center in
West Point, Georgia. We monitor our networks 24 hours a day, seven days a week
and strive to resolve problems prior to a customer being aware of any service
interruptions.
COMPETITION
Other Cable Systems
Other cable television operations exist in each of our current markets. Our
competitors include AT&T Cable Services, Comcast Cable Communications, Time
Warner Cable, Mediacom and Charter Communications. We compete with these
competitors on terms of pricing and programming content, including the number of
channels and the availability of local programming. Certain of our cable
television competitors may have exclusive arrangements with cable programming
vendors, which could prevent us
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from offering certain programming on our cable television systems. In addition,
some of these competitors own their own programming content and may try to
restrict our access to programming.
We expect that we will have competition with other cable television
providers in each of our future markets. In addition, Federal law prohibits
cities from granting exclusive cable franchises and from unreasonably refusing
to grant additional, competitive franchises. This makes it easier for
competitors to enter our markets. In addition, an increasing number of cities
are considering the feasibility of owning their own cable systems in a manner
similar to city-provided utility services.
A continuing trend toward business combinations and alliances in the cable
television area and the telecommunications industry as a whole may create
significant new competitors for us. This trend toward business combinations may
be shrinking the number of attractive acquisition targets.
Other Television Providers
Cable television distributors may, in certain markets, compete for
customers with other video programming distributors and other providers of
entertainment, news and information. The competitors in these markets include:
- broadcast television; and
- satellite and wireless cable systems; and
We compete with these competitors on terms of pricing and programming content,
including the number of channels and the availability of local programming. We
often are not the first provider of video programming in our market, and we have
to compete with other companies that have long-standing customer relationships
with the residents in these areas. The Telecommunications Act of 1996 may create
more competition for current cable television distributors, as it allows local
telephone companies to provide video services in their local service areas.
Alternative methods of distributing the same or similar video programming
offered by cable television systems exist. Congress and the FCC have encouraged
these alternative methods and technologies in order to offer services in direct
competition with existing cable systems. In addition to broadcast television
stations, we compete with other multichannel program service providers.
We encounter competition from direct broadcast satellites systems that
transmit signals to small dish antennas owned by the end-user. DirecTV and
Echostar offer multichannel programming through high power communications
satellites to a dish antenna with a diameter of only approximately 18 inches.
Although satellite television providers presently serve a relatively small
percentage of pay television subscribers, their share has been growing steadily.
Competition from direct broadcast satellites could become substantial as
developments in technology increase satellite transmitter power and decrease the
cost and size of equipment. The Intellectual Property and Communications Omnibus
Reform Act of 1999 permits satellite carriers to carry local television
broadcast stations, is expected to enhance satellite carriers' ability to
compete with us for subscribers. As a result, competition from these companies
may increase.
Wireless cable represents another type of video distribution service. These
systems deliver programming services over microwave channels to subscribers who
have a special antenna. Wireless cable systems are less capital intensive, are
not required to obtain local franchises or pay franchise fees, and are subject
to fewer regulatory requirements than cable television systems. Although there
are relatively few systems in the United States right now, many markets have
been licensed or tentatively licensed. The FCC has granted the use of certain
frequencies to these services and expanded the channels reserved for educational
purposes. The FCC's actions enable a single entity to develop a wireless cable
system with up to 35 channels and thus could compete more effectively with cable
television.
We also compete with systems that provide multichannel program services
directly to hotel, motel, apartment, condominium and other multiunit complexes
through a satellite master antenna, which is a single satellite dish for an
entire building or complex. These systems are generally free of any regulation
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by state and local governmental authorities. Pursuant to the Telecommunications
Act of 1996, these systems called satellite master antenna television systems,
are not commonly owned or managed and do not cross public rights-of-way do not
need a franchise to operate.
The Telecommunications Act of 1996 eliminated many restrictions on local
telephone companies offering video programming, and we may face increased
competition from them. Several major local telephone companies, including
BellSouth, have announced plans to provide video services to homes.
Telephone
In providing local and long distance telephone services, we compete with
the incumbent local phone company in each of our markets. We are not the first
provider of telephone services in most of our markets, and we have to convince
people in our markets to switch from other telephone companies to us. BellSouth
is the incumbent local phone company and is a particularly strong competitor in
our current markets and throughout the southeastern United States where we hope
to expand. We also compete with long distance phone companies such as AT&T, MCI
WorldCom and Sprint.
We continue to expect to face intense competition in providing our
telephone and related telecommunications services. The Telecommunications Act of
1996 allows service providers to enter markets that were previously closed to
them. Incumbent local telephone carriers are no longer protected from
significant competition in local service markets. In addition, under certain
circumstances regional Bell operating companies may enter the long distance
market. These provisions blur the distinctions that previously existed between
local and long distance services.
One major impact of the Telecommunications Act of 1996 may be a trend
toward the use and acceptance of bundled service packages. As a result, we will
be competing with:
- incumbent local telephone companies such as BellSouth as well as other
competitive local telephone companies;
- traditional providers of long distance services such as AT&T, MCI
WorldCom and Sprint; and
- other providers of cable television service such as AT&T Cable Services,
Comcast Cable Communications, Time Warner Cable, Mediacom and Charter
Communications, Inc.
Our ability to compete successfully will depend on the attributes of the overall
bundle of services we are able to offer, including our price, features, and
customer service.
Wireless telephone service such as cellular and PCS currently is viewed by
consumers as a supplement to, not a replacement for, traditional landline
telephone service. Wireless service generally is more expensive than landline
local service and is priced on a usage-sensitive basis. In addition, the
transmission quality of wireless service is not comparable to wireline service.
However, in the future the rate and quality differential between wireless and
wireline service may decrease and lead to more competition between providers of
these two types of services.
Internet Services
Providing Internet access services is a rapidly growing business and
competition is increasing in each of our markets. Some of our competitors have
competitive advantages over us, such as greater experience, resources, marketing
capabilities and stronger name recognition.
In providing Internet access services, we compete with:
- Internet service providers;
- providers of satellite-based Internet services;
- other long distance telephone companies; and
- cable television companies.
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Other technologies also offer high-speed, high capacity connections to the
Internet. We compete with companies offering broadband connections such as
DirecPC, one of the principal providers of satellite-based Internet services in
the United States; long distance telephone companies such as AT&T and MCI
WorldCom; traditional dial-up Internet service providers; and cable modem
services such as Excite@Home, a joint venture among a number of major cable
companies.
A large number of companies provide businesses and individuals with direct
access to the Internet and a variety of supporting services. In addition, many
companies such as America Online, CompuServe, MSN, Prodigy and WebTV offer
online services consisting of access to closed, proprietary information networks
with services similar to those available on the Internet, in addition to direct
access to the Internet. These companies generally offer Internet services over
telephone lines using computer modems. A few Internet service providers also
offer high-speed integrated services digital network connections to the
Internet.
A few satellite companies provide broadband access to the Internet from
desktop PCs using a small dish antenna and receiver kit comparable to that used
for satellite television reception. DirecPC is one of the largest providers of
satellite-based Internet services in the United States.
Long distance companies are aggressively entering the Internet access
markets. Long distance carriers have substantial transmission capabilities and
have an established billing system that permits them easily to add new services.
We expect competition from such companies to be vigorous due to their greater
resources, operating history and name recognition.
Other cable television companies may enter the Internet services market. We
believe that some of the existing cable television providers are beginning to
provide such services in some of their major markets or clusters, including
major metropolitan areas in the southeast. The joint venture, Excite@Home, is
offering high-speed Internet service using cable modems in areas where its
affiliates have high-capacity networks. We believe that high-speed Internet
services ultimately will be offered by other cable providers and companies in
most of our present and future service areas.
LEGISLATION AND REGULATION
The cable television industry currently is regulated by the FCC, some state
governments and most local governments. Telecommunications services are
regulated by the FCC and state public utility commissions. Internet services
generally are not subject to regulation. Legislative and regulatory proposals
under consideration by Congress and federal agencies may materially affect the
cable television and telecommunications industries. The following is a summary
of federal laws and regulations affecting the growth and operation of the cable
television and telecommunications industries and a description of certain state
and local laws.
Cable Communications Policy Act Of 1984
The Cable Communications Policy Act of 1984 established comprehensive
national standards and guidelines for the regulation of cable television systems
and identified the boundaries of permissible federal, state and local government
regulation. The FCC has responsibility for adopting rules to implement this.
Among other things, the Cable Communications Policy Act of 1984 affirmed the
right of franchising authorities to award one or more franchises within their
jurisdictions. It also prohibited non-grandfathered cable television systems
from operating without a franchise in such jurisdictions. The Cable
Communications Policy Act of 1984 provides that in granting or renewing
franchises, franchising authorities may establish requirements for cable-related
facilities and equipment, but may not establish or enforce requirements for
video programming or information services other than in broad categories.
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Cable Television Consumer Protection And Competition Act Of 1992
The Cable Television Consumer Protection and Competition Act of 1992
permitted a greater degree of regulation of the cable industry with respect to,
among other things:
- rates for cable programming services;
- program access and exclusivity arrangements;
- access to cable channels by unaffiliated programming services;
- leased access terms and conditions;
- ownership of cable systems;
- customer service requirements;
- television broadcast signal carriage and retransmission consent;
- technical standards; and
- cable equipment compatibility.
Additionally, the legislation encouraged competition with existing cable
television systems by:
- allowing municipalities to own and operate their own cable television
systems without a franchise;
- preventing franchising authorities from granting exclusive franchises or
unreasonably refusing to award additional franchises covering an existing
cable system's service area; and
- prohibiting the common ownership of cable systems and other types of
multichannel video distribution systems.
The Cable Television Consumer Protection and Competition Act of 1992 also
precluded video programmers affiliated with cable television companies from
favoring cable operators over competitors and required such programmers to sell
their programming to other multichannel video distributors. The FCC has
responsibility for adopting rules to implement this Act.
Telecommunications Act Of 1996
On February 8, 1996, the Telecommunications Act of 1996 was enacted. The
Telecommunications Act of 1996 and the FCC rules implementing this Act radically
altered the regulatory structure of telecommunications markets by mandating that
states permit competition for local telephone services. The Telecommunications
Act of 1996 permitted regional Bell operating companies to apply to the FCC for
authority to provide long distance services. The Telecommunications Act of 1996
also included significant changes in the regulation of cable operators. For
example, the FCC's authority to regulate the cable programming service tier
rates of all cable operators expired on March 31, 1999. The legislation also:
- repeals the anti-trafficking provisions of the Cable Television Consumer
Protection and Competition Act of 1992, which required cable systems to
be owned by the same person or company for at least three years before
they could be sold to a third party;
- limits the rights of franchising authorities to require certain
technology or to prohibit or condition the provision of
telecommunications services by the cable operator;
- requires cable operators to fully block or scramble both the audio and
video on sexually-explicit or indecent programming on channels primarily
dedicated to sexually-oriented programming;
- adjusts the favorable pole attachment rates afforded cable operators
under federal law such that they may be increased, beginning in 2001, if
the cable operator also provides telecommunications services over its
network;
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- allows cable operators to enter telecommunications markets which
historically have been closed to them; and
- allows some telecommunications providers to begin providing competitive
cable service in their local service areas.
Federal Regulation Of Cable Services
The FCC, the principal federal regulatory agency with jurisdiction over
cable television, has promulgated regulations covering many aspects of cable
television operations. The FCC may enforce its regulations through the
imposition of fines, the issuance of cease and desist orders and/or the
imposition of other administrative sanctions, such as the revocation of FCC
licenses. A brief summary of certain federal regulations follows.
Rate Regulation. The Cable Television Consumer Protection and Competition
Act of 1992 authorized rate regulation for certain cable communications services
and equipment in communities where the cable operator is not subject to
effective competition. The Cable Television Consumer Protection and Competition
Act of 1992 requires the FCC to resolve complaints about rates for cable
programming service tier services and to reduce any such rates found to be
unreasonable. It also limits the ability of many cable systems to raise rates
for basic services. Cable services offered on a per channel or on a per program
basis are not subject to rate regulation by either franchising authorities or
the FCC. Notwithstanding the above, the Telecommunications Act of 1996
deregulated cable programming service rates as of March 31, 1999. After March
31, 1999, only the basic tier of service, which does not include the expanded
basic tier of service, and equipment used to receive the basic tier of service
remains subject to rate regulation.
The Cable Television Consumer Protection and Competition Act of 1992
requires communities to certify with the FCC before regulating basic cable
rates. The FCC's rate regulations do not apply where a cable operator
demonstrates that it is subject to effective competition. We meet the FCC
definition of effective competition in the areas that we currently serve. To the
extent that any municipality attempts to regulate our basic rates or equipment,
we believe we could demonstrate to the FCC that our systems all face effective
competition and, therefore, are not subject to rate regulation.
Carriage Of Broadcast Television Signals. The Cable Television Consumer
Protection and Competition Act of 1992 established signal carriage requirements.
These requirements allow commercial television broadcast stations that are local
to a cable system to elect every three years whether to require the cable system
to carry the station or whether to require the cable system to negotiate for
consent to carry the station. The third must-carry elections were made in
October 1999. Stations are generally considered local to a cable system where
the system is located in the station's Nielsen designated market area. Cable
systems must obtain retransmission consent for the carriage of all distant
commercial broadcast stations, except for certain superstations, which are
commercial satellite-delivered independent stations such as WGN. We carry some
stations pursuant to retransmission consents and pay fees for such consents or
have agreed to carry additional services pursuant to retransmission consent
agreements.
Local non-commercial television stations are also given mandatory carriage
rights, subject to certain exceptions, within a certain limited radius.
Non-commercial stations are not given the option to negotiate for retransmission
consent.
Nonduplication Of Network Programming. Cable television systems that have
1,000 or more subscribers must, upon the appropriate request of a local
television station, delete or "black out" the simultaneous or nonsimultaneous
network programming of a distant same-network station when the local station has
contracted for such programming on an exclusive basis.
Deletion Of Syndicated Programming. Cable television systems that have
1,000 or more subscribers must, upon the appropriate request of a local
television station, delete or "black out" the simultaneous or
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nonsimultaneous syndicated programming of a distant station when the local
station has contracted for such programming on an exclusive basis.
Registration Procedures And Reporting Requirements. Prior to commencing
operation in a particular community, all cable television systems must file a
registration statement with the FCC listing the broadcast signals they will
carry and certain other information. Additionally, cable operators periodically
are required to file various informational reports with the FCC. Cable operators
that operate in certain frequency bands, including our company, are required on
an annual basis to file the results of their periodic cumulative leakage testing
measurements. Operators that fail to make this filing or who exceed the FCC's
allowable cumulative leakage index risk being prohibited from operating in those
frequency bands in addition to other sanctions.
Technical Requirements. Historically, the FCC has imposed technical
standards applicable to the cable channels on which broadcast stations are
carried, and has prohibited franchising authorities from adopting standards
which were in conflict with or more restrictive than those established by the
FCC. The FCC has applied its standards to all classes of channels which carry
downstream National Television System Committee video programming. The FCC also
has adopted standards applicable to cable television systems using frequencies
in certain bands in order to prevent harmful interference with aeronautical
navigation and safety radio services and has also established limits on cable
system signal leakage. The Cable Television Consumer Protection and Competition
Act of 1992 requires the FCC to update periodically its technical standards.
Pursuant to the Telecommunications Act of 1996, the FCC adopted regulations to
assure compatibility among televisions, VCRs and cable systems, leaving all
features, functions, protocols and other product and service options for
selection through open competition in the market. The Telecommunications Act of
1996 also prohibits states or franchising authorities from prohibiting,
conditioning or restricting a cable system's use of any type of subscriber
equipment or transmission technology.
Franchise Authority. The Cable Communications Policy Act of 1984 affirmed
the right of franchising authorities, which are the cities, counties or
political subdivisions in which a cable operator provides cable service, to
award franchises within their jurisdictions and prohibited non-grandfathered
cable systems from operating without a franchise in such jurisdictions. We hold
cable franchises in all of the franchise areas in which we provide service. The
Cable Television Consumer Protection and Competition Act of 1992 encouraged
competition with existing cable systems by:
- allowing municipalities to operate their own cable systems without
franchises;
- preventing franchising authorities from granting exclusive franchises or
from unreasonably refusing to award additional franchises covering an
existing cable system's service area; and
- prohibiting, with limited exceptions, the common ownership of cable
systems and co-located multichannel multipoint distribution or satellite
master antenna television systems, which prohibition is limited by the
Telecommunications Act of 1996 to cases in which the cable operator is
not subject to effective competition.
The Telecommunications Act of 1996 exempts those telecommunications
services provided by a cable operator or its affiliate from cable franchise
requirements although municipalities retain authority to regulate the manner in
which a cable operator uses the public rights-of-way to provide
telecommunications services. Franchise authorities may not require a cable
operator to provide telecommunications service or facilities, other than
institutional networks, as a condition of franchise grant, renewal, or transfer.
Similarly, franchise authorities may not impose any conditions on the provision
of such service.
Franchise Fees. Although franchising authorities may impose franchise fees
under the Cable Communications Policy Act of 1984, as modified by the
Telecommunications Act of 1996, such payments cannot exceed 5% of a cable
system's annual gross revenues derived from the operation of the cable system to
provide cable services. In some areas, cable services are defined to include
Internet services. Franchise fees apply only to revenues for cable services.
Franchising authorities are permitted to charge a
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fee for any telecommunications providers' use of public rights-of-way on a
competitively neutral and nondiscriminatory basis.
Franchise Renewal. The Cable Communications Policy Act of 1984 established
renewal procedures and criteria designed to protect incumbent franchisees
against arbitrary denials of renewal. These formal procedures are mandatory only
if timely invoked by either the cable operator or the franchising authority.
Even after the formal renewal procedures are invoked, franchising authorities
and cable operators remain free to negotiate a renewal outside the formal
process. Although the procedures provide substantial protection to incumbent
franchisees, renewal is by no means assured, as the franchisee must meet certain
statutory standards. Even if a franchise is renewed, a franchising authority may
impose new and more onerous requirements such as upgrading facilities and
equipment, although the municipality must take into account the cost of meeting
such requirements.
The Cable Television Consumer Protection and Competition Act of 1992 made
several changes to the process which may make it easier in some cases for a
franchising authority to deny renewal. The cable operator's timely request to
commence renewal proceedings must be in writing and the franchising authority
must commence renewal proceedings not later than six months after receipt of
such notice. Within a four-month period beginning with the submission of the
renewal proposal, the franchising authority must grant or deny the renewal.
Franchising authorities may consider the "level" of programming service provided
by a cable operator in deciding whether to renew. Franchising authorities
currently may deny renewal based on failure to substantially comply with the
material terms of the franchise, even if the franchising authority has
"effectively acquiesced" to such past violations. The franchising authority is
estopped only if, after giving the cable operator notice and opportunity to
cure, the authority fails to respond to a written notice from the cable operator
of its failure or inability to cure. Courts may not reverse a denial of renewal
based on procedural violations found to be harmless error.
Channel Set-Asides. The Cable Communications Policy Act of 1984 permits
local franchising authorities to require cable operators to set aside certain
channels for public, educational and governmental access programming. The Cable
Communications Policy Act of 1984 further requires cable television systems with
36 or more activated channels to designate a portion of their channel capacity
for commercial leased access by unaffiliated third parties. The Cable Television
Consumer Protection and Competition Act of 1992 requires leased access rates to
be set according to a FCC-prescribed formula.
Ownership. The Telecommunications Act of 1996 eliminates the Cable
Communications Policy Act of 1984 provisions prohibiting local exchange carriers
from providing video programming directly to customers within their local
exchange telephone service areas, except in rural areas or by specific waiver.
Under the Telecommunications Act of 1996, local exchange carriers may provide
video programming by radio-based systems, common carrier systems, open video
systems, or cable systems. Local telephone companies that elect to provide open
video systems must allow others to use up to two-thirds of their activated
channel capacity. These local telephone companies are relieved of regulation as
common carriers, and are not required to obtain local franchises, but are still
subject to many other regulations applicable to cable systems. Local telephone
companies operating as cable systems are subject to all rules governing cable
systems, including franchising requirements.
The Telecommunications Act of 1996 prohibits local telephone companies or
its affiliate from acquiring more than a 10% financial or management interest in
any cable operator providing cable service in its telephone service area. It
also prohibits a cable operator or its affiliate from acquiring more than a 10%
financial or management interest in any local telephone companies providing
telephone service in its franchise area. A local telephone companies and cable
operator whose telephone service area and cable franchise area are in the same
market may not enter into a joint venture to provide telecommunications services
or video programming. There are exceptions to these limitations for rural
facilities, very small cable systems, and small local telephone companies in
non-urban areas, and such restrictions do not apply to local exchange carriers
that were not providing local telephone service prior to January 1, 1993.
Pole Attachments. The Telecommunications Act of 1996 requires utilities,
defined as all local telephone companies and electric utilities except those
owned by municipalities and co-ops, to provide
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cable operators and telecommunications carriers with nondiscriminatory access to
poles, ducts, conduit and right-of-way. The right to mandatory access is
beneficial to facilities-based providers such as our company. The
Telecommunications Act of 1996 also establishes principles to govern the pricing
of such access. Presently, the rates charged to cable and telecommunications
providers are the same. Starting in 2001, telecommunications providers will be
charged a higher rate than cable operators for pole attachments. Companies that
provide both cable and telecommunications services over the same facilities,
such as us, may be required to pay the higher telecommunications rate.
Inside Wiring Of Multifamily Dwelling Units. The FCC has adopted rules to
promote competition among multichannel video program distributors in multifamily
dwelling units. The rules provide generally that, in cases where the program
distributor owns the wiring inside a multifamily dwelling unit but has no right
of access to the premises, the multifamily dwelling unit owner may give the
cable operator notice that it intends to permit another program distributor to
provide service there. A program distributor then must elect whether to remove
the inside wiring, sell the inside wiring to the multifamily dwelling unit owner
at a price not to exceed the replacement cost of the wire on a per-foot basis,
or abandon the inside wiring.
Privacy. The Cable Communications Policy Act of 1984 imposes a number of
restrictions on the manner in which cable system operators can collect and
disclose data about individual system customers. The statute also requires that
the system operator periodically provide all customers with written information
about its policies regarding the collection and handling of data about
customers, their privacy rights under federal law and their enforcement rights.
In the event that a cable operator is found to have violated the customer
privacy provisions of the Cable Communications Policy Act of 1984, it could be
required to pay damages, attorneys' fees and other costs. Under the Cable
Television Consumer Protection and Competition Act of 1992, the privacy
requirements are strengthened to require that cable operators take such actions
as are necessary to prevent unauthorized access to personally identifiable
information.
Franchise Transfer. The Telecommunications Act of 1996 repeals most of the
anti-trafficking restrictions imposed by the Cable Television Consumer
Protection and Competition Act of 1992, which prevented a cable operator from
selling or transferring ownership of a cable system within 36 months of
acquisition. However, a local franchise may still require prior approval of a
transfer or sale. The Cable Television Consumer Protection and Competition Act
of 1992 requires franchising authorities to act on a franchise transfer request
within 120 days after receipt of all information required by FCC regulations and
the franchising authority. Approval is deemed granted if the franchising
authority fails to act within such period.
Copyright. Cable television systems are subject to federal compulsory
copyright licensing covering carriage of broadcast signals. In exchange for
making semi-annual payments to a federal copyright royalty pool and meeting
certain other obligations, cable operators obtain a statutory license to
retransmit broadcast signals. The amount of the royalty payment varies,
depending on the amount of system revenues from certain sources, the number of
distant signals carried, and the location of the cable system with respect to
over-the-air television stations. Adjustments in copyright royalty rates are
made through an arbitration process supervised by the U.S. Copyright Office.
Various bills have been introduced in Congress in the past several years
that would eliminate or modify the cable television compulsory license. Without
the compulsory license, cable operators might need to negotiate rights from the
copyright owners for each program carried on each broadcast station
retransmitted by the cable system.
Copyrighted music performed in programming supplied to cable television
systems by pay cable networks, such as HBO, and cable programming networks, such
as USA Network, has generally been licensed by the networks through private
agreements with the American Society of Composers and Publishers and BMI, Inc.,
the two major performing rights organizations in the United States. The American
Society of Composers and Publishers and BMI, Inc. offer "through to the viewer"
licenses to the cable networks which cover the retransmission of the cable
networks' programming by cable television systems to their subscribers.
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Internet Service Providers. A number of Internet service providers have
requested that the FCC and state and local officials adopt rules requiring cable
operators to provide unaffiliated Internet service providers with direct access
to the operators' broadband facilities on the same terms as the operator makes
those facilities available to affiliated Internet service providers. To date the
FCC has rejected these unbundling proposals, but a number of local franchising
authorities have imposed this type of requirement on cable operators. Litigation
regarding these unbundling requirements is pending. At this time it is uncertain
whether these requirements lawfully may be imposed on cable operators, or how
pervasive they ultimately may be if upheld in court.
Regulatory Fees And Other Matters. The FCC requires payment of annual
regulatory fees by the various industries it regulates, including the cable
television industry. In 1997, cable television systems were required to pay
regulatory fees of $0.54 per subscriber. In 1998, the fee was $0.44 per
subscriber. In 1999, the fee was $0.48 per subscriber. Per-subscriber regulatory
fees may be passed on to subscribers as external cost adjustments to rates for
basic cable service. Fees are also assessed for other FCC licenses, including
licenses for business radio, cable television relay systems and earth stations.
These fees, however, may not be collected directly from subscribers as long as
the FCC's rate regulations remain applicable to the cable system.
In December 1994, the FCC adopted new cable television and broadcast
technical standards to support a new emergency alert system. Cable system
operators were required to install and activate equipment necessary to implement
the new emergency broadcast system by December 31, 1998 or October 1, 2002,
depending on the size of the system.
FCC regulations also address the carriage of:
- local sports programming;
- restrictions on origination and cablecasting by cable system operators;
- application of the rules governing political broadcasts;
- customer service standards; and
- limitations on advertising contained in nonbroadcast children's
programming.
Regulation Of Telecommunications Services
Our telecommunications services are subject to varying degrees of federal,
state and local regulation. Pursuant to the Communications Act of 1934, as
amended by the Telecommunications Act of 1996, the FCC generally exercises
jurisdiction over the facilities of, and the services offered by,
telecommunications carriers that provide interstate or international
communications services. State regulatory authorities retain jurisdiction over
the same facilities to the extent that they are used to provide intrastate
communications services. Various international authorities may also seek to
regulate the provision of certain services.
Federal Regulation of Telecommunications Services
Tariffs And Detariffing. We are classified by the Federal Communications
Commission as a non-dominant carrier with respect to both our domestic
interstate and international long distance carrier services and our competitive
local exchange carrier services. As a non-dominant carrier, our rates presently
are not regulated by the FCC. All telecommunications carriers that provide
domestic interstate and international long distance services must file tariffs
with the FCC prescribing rates, terms and conditions of service. Carriers must
also file so-called informational tariffs with the FCC describing their operator
services. We have filed tariffs with the FCC for our domestic interstate and
international long distance services, interstate access services and interstate
operator services.
Valley Telephone and Interstate Telephone are regulated by the FCC as
dominant, rather than non-dominant carriers. As dominant carriers, Valley
Telephone and Interstate Telephone must file tariffs with the FCC and must
provide the FCC with notice prior to changing their rates, terms or conditions
of
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interstate services. Valley Telephone concurs in tariffs filed by the National
Exchange Carrier Association, while Interstate Telephone has its own tariffs on
file with the FCC.
Interconnection. The Telecommunications Act of 1996 establishes local
telephone competition as a national policy. This Act preempts laws that prohibit
competition for local telephone services and establishes uniform requirements
and standards for local network interconnection, local network unbundling and
local service resale. The Telecommunications Act of 1996 also requires incumbent
local telephone carriers to enter into mutual compensation arrangements with new
local telephone companies for transport and termination of local calls on each
others' networks. Most state public utility commissions have ruled that traffic
to Internet service providers is covered by this requirement. The FCC recently
decided that calls to Internet service providers could be jurisdictionally
interstate, although the FCC did not preempt these state decisions. The
Telecommunications Act of 1996's interconnection, unbundling and resale
standards have been developed initially by the FCC and have been, and will
continue to be, implemented by the states in numerous proceedings and through a
process of negotiation and arbitration.
In August 1996, the FCC adopted a wide-ranging decision regarding the
statutory interconnection obligations of the local telephone carriers. Among
other things, the order established pricing principles, for use by the states to
determine rates for unbundled local network elements and to calculate discounts.
In July 1997, the United States Court of Appeals for the Eighth Circuit struck
down the pricing rules established by the FCC. The court ruled that the FCC did
not have jurisdiction under the Telecommunications Act of 1996 to establish
pricing rules to be applied by the states. In January 1999, the Supreme Court
reversed the Eighth Circuit decision, finding that the FCC had jurisdiction to
implement the pricing provisions of the Act. The Eighth Circuit is expected, on
remand, to rule on the merits of the FCC's pricing rules.
The Supreme Court also upheld the FCC's rule requiring local telephone
carriers to provide a platform that includes all of the network elements
required by a competitor to provide a retail telecommunications service.
Competitors using such platforms may be able to provide retail local services
entirely through the use of the local telephone carriers' facilities at lower
discounts than those available for local resale. The availability of such
platforms could benefit our local competitors who, unlike us, do not operate
their own facilities. The pricing of these platforms is still subject to a
pending FCC proceeding.
The Telecommunications Act of 1996 includes an exemption from
interconnection requirements for rural telephone companies. Under this
exemption, a competitor is not entitled to interconnect with a rural telephone
company absent a finding by the appropriate state commission that the request is
not unduly economically burdensome. Both Valley Telephone and Interstate
Telephone are considered rural telephone companies under the Telecommunications
Act of 1996, and the Alabama Public Service Commission has determined that these
companies should be exempt from the interconnection requirements of the
Telecommunications Act of 1996 at least through June 2001.
Number Portability. Another new federal statute requires that all local
telephone service carriers provide customers with the ability to retain, at the
same location, existing telephone numbers without impairment of quality,
reliability or convenience. This number portability will remove one barrier to
entry faced by new competitors, which would otherwise have to persuade customers
to switch local service providers despite having to change telephone numbers.
The FCC ordered permanent number portability to be made available in the 100
largest metropolitan areas by December 31, 1998. Number portability will be
available in all of our markets by the end of 1999. While number portability
benefits our competitive local exchange carrier operations, it represents a
burden to Valley Telephone and Interstate Telephone. At this time, we are unable
to predict the impact, if any, of possible number portability delays or
complications in our service territories.
Universal Service and Access Charge Reform. The FCC has adopted rules
implementing the universal service requirements of the Telecommunications Act of
1996. Pursuant to those rules, all telecommunications providers must contribute
a small percentage of their telecommunications revenues to a newly established
Universal Service Fund. There is an exemption for providers whose contribution
would
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be less than $10,000 in a particular year. Interstate Telephone and Valley
Telephone presently contribute to the fund, and we expect that KNOLOGY Holdings
will be required to start contributing in 2000.
We can not be certain whether we will be able to either recover the costs
of fund contributions from our customers or to receive offsetting fund
disbursements. Moreover, in those areas where we use our own or our affiliated
cable facilities for our comprehensive local telephone operations, we are
largely unaffected by local telephone carriers' access charge fluctuations.
However, overall decreases in local telephone carriers' access charges as
contemplated by the FCC's access reform policies would likely put downward
pricing pressure on our charges to domestic interstate and international long
distance carriers for comparable access. Over time, statutory universal service
funding obligations, coupled with the FCC's new access charge regime, could
adversely affect us by limiting our ability to offset our fund contributions
through higher charges to domestic interstate and international long distance
carriers for originating and terminating interstate traffic over our cable
facilities.
Regional Bell Operating Company Entry into Long Distance. The
Telecommunications Act of 1996 also establishes standards for regional Bell
operating companies and their affiliates to provide long distance
telecommunications services between a local access and transport area, or LATA,
and points outside that area. Local access and transport areas are geographical
regions in the United States within which a local telephone company may offer
local telephone service. In 1997, BellSouth filed applications with the FCC for
authority to offer in-region, or interLATA services in South Carolina and
Louisiana; in 1998, BellSouth filed a second application with the FCC for
authority to offer such services in Louisiana. In December 1997, the FCC
rejected the South Carolina application. The Louisiana applications were
rejected in February 1998 and October 1998, respectively. Notwithstanding these
decisions, BellSouth likely will file additional applications to offer interLATA
services for other states in its territory, including states in which we provide
these services. Because of its existing base of local telephone service
customers and its extensive telecommunications network, we anticipate that
BellSouth will be a significant competitor in each of the states in which it
obtains in-region, interLATA authority from the FCC.
Additional Requirements. The FCC imposes additional obligations on all
telecommunications carriers, including obligations to:
- interconnect with other carriers and not to install equipment that cannot
be connected with the facilities of other carriers;
- ensure that their services are accessible and usable by persons with
disabilities;
- provide telecommunications relay service either directly or through
arrangements with other carriers or service providers, which service
enables hearing impaired individuals to communicate by telephone with
hearing individuals through an operator at a relay center;
- comply with verification procedures in connection with changing a
customer's carrier;
- protect the confidentiality of proprietary information obtained from
other carriers, manufacturers and customers;
- pay annual regulatory fees to the FCC; and
- contribute to the Telecommunications Relay Services Fund.
Forbearance. The Telecommunications Act of 1996 permits the FCC to forbear
from requiring telecommunications carriers to comply with certain regulations.
Specifically, the Act permits the FCC to forbear from applying statutory
provisions or regulations if the FCC determines that:
- enforcement is not necessary to protect consumers;
- a carrier's terms are reasonable and nondiscriminatory;
- forbearance is in the public interest; and
- forbearance will promote competition.
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The FCC has exempted certain carriers from tariffing and reporting requirements
pursuant to this provision of the Telecommunications Act of 1996. The FCC may
take similar action in the future to reduce or eliminate other requirements.
Such actions could free us from regulatory burdens, but also might increase the
pricing flexibility of our competitors.
Advanced Services and Collocation. Section 706 of the Telecommunications
Act of 1996 requires the FCC to encourage the deployment of advanced
telecommunications capabilities to all Americans through the promotion of local
telecommunications competition. Recently, the FCC adopted rules designed to
improve competitor access to incumbent local telephone carriers collocation
space and to reduce the delays and costs associated with collocation.
Collocation is the placement of equipment by another telephone company alongside
another telephone company's equipment along a network. The FCC may take future
steps to facilitate competitors' access to local loops for purposes of digital
subscriber line deployment. Having better collocation arrangements at incumbent
local exchange carriers' central offices benefits our competitive local exchange
operations. However, the FCC's advanced services proceeding, inasmuch as it
primarily benefits digital subscriber line providers who compete directly with
our broadband communications service offerings, may prove on balance to have an
adverse competitive effect on us.
State Regulation of Telecommunications Services
The Telecommunications Act of 1996 contains provisions that prohibit states
and localities from adopting or imposing any legal requirement that may
prohibit, or have the effect of prohibiting, market entry by new providers of
interstate or intrastate telecommunications services. The FCC is required to
preempt any such state or local requirement to the extent necessary to enforce
the Telecommunications Act of 1996's open market entry requirements. State and
localities may, however, continue to regulate the provision of intrastate
telecommunications services and require carriers to obtain certificates or
licenses before providing service.
Alabama, Georgia, Florida, and South Carolina each have adopted statutory
and regulatory schemes that require us to comply with telecommunications
certification and other regulatory requirements. To date, we are authorized to
provide intrastate local telephone, long distance telephone and operator
services in Alabama, Georgia, Florida and South Carolina. In addition, we have
executed local network interconnection agreements with BellSouth for the
transport and termination of local telephone traffic. These agreements have been
filed with, and approved by, the applicable regulatory authority in each state
in which we conduct our operations. As a condition of providing intrastate
telecommunications services, we are required, among other things:
- to file and maintain intrastate tariffs or price lists describing the
rates, terms and conditions of our services;
- to comply with state regulatory reporting, tax and fee obligations; and
- to comply with, and to submit to, state regulatory jurisdiction over
consumer protection policies, complaints, transfers of control and
certain financing transactions.
Generally, state regulatory authorities can condition, modify, cancel, terminate
or revoke certificates of authority to operate in a state for failure to comply
with state laws or the rules, regulations and policies of the state regulatory
authority. Fines and other penalties may also be imposed for such violations.
Valley Telephone and Interstate Telephone are subject to additional
requirements under state law, including rate regulation and quality of service
requirements. In Alabama, both Valley Telephone and Interstate Telephone are
subject to a price cap form of rate regulation. Under price caps, the companies
have limited ability to raise rates for intrastate telephone services, but the
Alabama Public Service Commission does not regulate the rate of return earned by
the companies.
By order dated April 8, 1998, all local exchange carriers were required to
file intraLATA toll dialing parity plans, which outline how the local telephone
company will provide long distance telephone companies the ability to compete
with the local telephone company for local long distance services.
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Initially the plans were to become effective on or before February 1999. By
order dated June 25, 1998, the Alabama Public Service Commission suspended
certain requirements of Section 251(b) and (c) of the Telecommunications Act of
1996, including dialing parity, for rural incumbent local telephone carriers
operating in Alabama, including Interstate Telephone and Valley Telephone. The
suspension extends through June 2001. Rural local telephone carriers subject to
the suspension were required to update the Alabama Public Service Commission
regarding their dialing parity plans by October 1, 1999. Interstate Telephone
and Valley Telephone have notified the Alabama Public Service Commission that
they intend to implement dialing parity on or before the June 1, 2001 deadline;
however, the actual implementation date has not yet been determined.
On May 26, 1999, the Alabama Public Service Commission approved the dialing
parity plan of KNOLOGY of Alabama, Inc., a subsidiary of KNOLOGY Holdings. Under
the plan, KNOLOGY of Alabama will allow long distance carriers the ability to
provide long distance services in all local access areas within Alabama in which
it provides local telephone service using its own facilities. Any carrier
authorized by the Alabama Public Service Commission to carry local long distance
calls may request that KNOLOGY of Alabama allow it to provide long distance
services to its customers in Alabama provided that the carrier:
- has established, or has submitted firm, non-cancelable orders to
establish, direct interconnection of its network with KNOLOGY of Alabama;
- has ordered access services from KNOLOGY of Alabama that will permit the
carrier to receive long distance calls from KNOLOGY of Alabama; and
- has identified the local access and transport areas in which it desires
to receive local long distance calls.
A reasonable time for implementation will be necessary to allow KNOLOGY of
Alabama to make the necessary network, system and billing modifications to
implement the request. As of October 1, 1999, no long distance carrier had
requested the ability to provide long distance services from KNOLOGY of Alabama
in Alabama under its dialing parity plan.
Local Regulation
Occasionally we are required to obtain street use and construction permits
and franchises to install and expand our interactive broadband network using
state, city, county or municipal rights-of-way. Some municipalities where we
have installed or anticipate constructing networks require the payment of
license or franchise fees which are based upon a percentage of gross revenues or
on a per linear foot basis. The Telecommunications Act of 1996 requires
municipalities to manage public rights-of-way in a competitively neutral and
non-discriminatory manner.
EMPLOYEES
At September 30, 1999, we had 690 full-time employees. We consider our
relations with our employees to be good, and we structure our compensation and
benefit plans in order to attract and retain high caliber personnel. We will
need to recruit additional employees in order to implement our expansion plan,
including general managers for each new city and additional personnel for
installation, sales, customer service and network construction. We recruit from
several major industries for employees with skills in voice, video and data
technologies. We do not believe we will have problems retaining personnel with
the necessary qualifications.
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PROPERTIES
We own or lease property in the following locations:
<TABLE>
<CAPTION>
LOCATION ADDRESS LEASE/OWN PRIMARY USE
- -------- ------- --------- -----------
<S> <C> <C> <C>
West Point, GA......... 1241 O.G. Skinner Drive Own Corporate Admin. Offices
West Point, GA......... 206 West 9th Street Lease Network Operations Center
Montgomery, AL......... 1450 Ann Street Lease Headend & Technical Offices
Columbus, GA........... 1701 Boxwood Place Lease Admin. Offices & Headend
Panama City, FL........ 13200 P.C.B. Pkwy. Lease Admin. Offices & Headend
Augusta, GA............ 3714 Wheeler Road Own Admin. Offices & Headend
Charleston, SC......... 4506 Dorchester Road Own Admin. Offices and Headend
Huntsville, AL......... 2401 10th Street Own Admin. Offices and Headend
</TABLE>
In addition to these properties, we also hold operating leases for hub
sites along our network in each market. Our principal physical assets consist of
fiber optic and coaxial broadband network and equipment, located either at the
equipment site or along the network. Our distribution equipment along the
network is generally attached to utility poles we own or use under standard pole
rental agreements with local public utilities, although in some areas the
distribution cable is buried in underground ducts or trenches. Under our pole
attachment agreements, local public utilities and other pole owners rent us
space on utility poles to attach our network cables and equipment. The rate a
pole owner charges us for space varies, but the rate is generally based upon the
amount of space we rent. See "Business-Legislation and Regulation" for a
discussion of the FCC's regulation of pole attachment rates. Our franchises give
us rights of way for our network. The physical components of the networks
require maintenance and periodic upgrading to keep pace with technological
advances. We believe that our properties, taken as a whole, are in good
operating condition and are suitable for our business operations.
LEGAL PROCEEDINGS
In the normal course of business, we are subject to litigation. However, in
our opinion, there is no legal proceeding pending against us which would have a
material adverse effect on our financial position, results of operations, or
liquidity. We are also party to regulatory proceedings affecting the relevant
segments of the communications industry generally.
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MANAGEMENT
DIRECTORS AND EXECUTIVE OFFICERS
The following table sets forth information regarding our directors and
executive officers. These individuals include most of the members of management
of KNOLOGY Holdings who became our management when we became the holding company
for KNOLOGY Holdings and other companies. Our board will be divided into three
classes, with the initial members to serve for the periods indicated. We
anticipate that if the intended private offering of Series B preferred stock is
consummated, the holders of the Series B preferred stock will have the right to
elect two additional directors to our board.
<TABLE>
<CAPTION>
NAME AGE POSITION
- ---- --- --------
<S> <C> <C>
Rodger L. Johnson.................................. 51 President, Chief Executive Officer and
Director (term on board expiring 2002)
Robert K. Mills.................................... 36 Chief Financial Officer, Vice President and
Treasurer
Felix L. Boccucci, Jr. ............................ 42 Vice President of Business Development
Anthony J. Palermo, Jr. ........................... 45 Vice President of Operations
Chad S. Wachter.................................... 33 Vice President, General Counsel and
Secretary
Thomas P. Barrett.................................. Vice President of Information Technology
Marcus R. Luke, Ph.D. ............................. 44 Chief Technology Officer
James T. Markle.................................... 40 Vice President of Network Operations
Bret T. McCants.................................... 40 Vice President of Network Construction and
Maintenance
Peggy B. Warner.................................... 48 Vice President of Marketing and Carrier
Sales
Campbell B. Lanier, III(1)......................... 49 Chairman of the Board of Directors
(term expiring 2002)
Richard Bodman..................................... 61 Director (term expiring 2000)
Alan A. Burgess(1)................................. 64 Director (term expiring 2001)
Donald W. Burton(2)................................ 55 Director (term expiring 2001)
L. Charles Hilton, Jr.(1).......................... 68 Director (term expiring 2000)
William H. Scott, III(2)........................... 52 Director (term expiring 2001)
Donald W. Weber(2)................................. 63 Director (term expiring 2002)
</TABLE>
- ---------------
(1) Member of the audit committee.
(2) Member of the compensation and stock option committee.
Rodger L. Johnson was named as our President and Chief Executive Officer
and as a director in October 1999. He has served as the President of KNOLOGY
Holdings since May 1999 and as its Chief Executive Officer and a director since
June 1999. Prior to joining KNOLOGY Holdings, Mr. Johnson had served as
President and Chief Executive Officer, as well as a Director, of Communications
Central Inc., a provider of coin-operated and inmate telephones, since November
1995. Prior to joining Communications Central, Mr. Johnson served as the
President and Chief Executive Officer of JKC Holdings, Inc., a consulting
company providing advice to the information processing industry. In that
capacity, Mr. Johnson also served as the Chief Operating Officer of Infomed
Systems, Inc., a publicly-held medical software manufacturer. Mr. Johnson will
retain his positions and continue to serve both JKC Holdings, Inc. and Infomed
Systems, Inc. in a more limited management capacity for the immediately
foreseeable future. Before founding JKC Holdings, Inc., Mr. Johnson served for
approximately eight years as the President and Chief Operating Officer and as
the President and Chief Executive Officer of Brock Control Systems, Inc., a
publicly-held sales and marketing software provider.
Robert K. Mills has served as our Chief Financial Officer, Vice President
and Treasurer since November 1, 1999. He has worked for ITC Holding since
September 1999 as Vice President of Finance and Corporate Development. From 1994
to September 1999, Mr. Mills served as Vice President --
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Treasurer and Strategic Planning of Powertel, Inc., which provides wireless
communications services. Mr. Mills is a certified public accountant.
Felix L. Boccucci, Jr. has served as our Vice President of Business
Development since October 1999. He has served as Vice President of Business
Development of KNOLOGY Holdings since August 1997. He served as our Chief
Financial Officer, Treasurer and Secretary from November 1995 through August
1997. In addition, he currently serves as the Chief Financial Officer for
Interstate and Valley Telephone Companies. From October 1994 until December
1995, Mr. Boccucci served as Vice President Finance Broadband of ITC Holding.
Prior to such time, Mr. Boccucci worked for GTE Corporation, a
telecommunications company, which merged with Contel Corporation in March 1991.
From May 1993 to October 1994, he served as a Senior Financial Analyst for GTE.
From 1991 to 1993, Mr. Boccucci served as Financial Director for GTE's Central
Area Telephone Operations. From 1987 to 1991, he was the Assistant Vice
President controller in charge of Contel's Eastern Region Telephone Operations
comprising 13 companies in twelve states.
Anthony J. Palermo, Jr. has served as our Vice President of Operations
since July 1999. Prior to joining KNOLOGY, Mr. Palermo served as a consultant to
Nokia and Optima Technologies from November 1998 through July 1999. From
November 1995 to November 1998, Mr. Palermo was employed at Communications
Central, Inc., where he served as Vice President of Sales, Marketing, and
Operations. Prior to Communications Central, Inc. he spent six years at Brock
Control Systems as Vice President of Operations and Chief Operating Officer. Mr.
Palermo has also spent eleven years in the communications industry with AT&T
Long Lines and RCA-Cylix.
Chad S. Wachter has served as our Vice President, General Counsel and
Secretary since October 1999. He joined KNOLOGY Holdings as its General Counsel
and Secretary in August 1998. From April 1997 to August 1998, Mr. Wachter served
as Assistant General Counsel of Powertel, Inc., an affiliate of ITC that
operates cellular and PCS businesses. From May 1990 until April 1997, Mr.
Wachter was an associate and then a partner with Capell, Howard, Knabe & Cobbs,
P.A. in Montgomery, Alabama.
Thomas P. Barrett has served as our Vice President of Information
Technology since October 1999. Prior to joining us, from July 1998 to September
1999, Mr. Barrett served as the President of Quintiles Americas. Quintiles
Americas is a division of Quintiles Inc., a pharmaceutical research company.
From January 1993 to June 1998, Mr. Barrett was employed by Perot Systems as an
account manager. He also served as the human resources director for a period of
time while at Perot Systems. From October 1992 to January 1993, Mr. Barrett
worked for General Research Corporation as an account manager for a software
development project. From August 1963 to September 1999, Mr. Barrett served in
the U.S. Army in a number of command and staff positions and achieved the rank
of Brigadier General.
Marcus R. Luke, Ph.D. has served as our Chief Technology Officer since
October 1999. He has served as the Chief Technology Officer of KNOLOGY Holdings
since August 1997. Prior to this he served as the Vice President of Network
Construction of KNOLOGY Holdings from November 1995 until August 1997, and
Director of Engineering of Cybernet Holding, L.L.C., from May 1995 until
November 1995. Prior to joining KNOLOGY Holdings, Dr. Luke served as Southeast
Division Construction Manager for TCI from July 1993 to May 1995. From July 1987
to June 1993, he served as Area Technical Manager for TCI's southeast area,
which included Montgomery. Dr. Luke worked for Storer Communications Inc. from
1985 to 1987 as Vice President of Engineering. Prior to 1985, he spent 12 years
in various engineering and management positions with Storer Communications Inc.
James T. Markle joined us in October 1999 as our Vice President of Network
Operations. He has served as Vice President of Network Operations for KNOLOGY
Holdings since March 1999. Prior to joining KNOLOGY Holdings, Mr. Markle was
employed by MindSpring Enterprises, Inc. where he served as the Executive Vice
President of Network Operations from March 1998 and as Vice President of Network
Operations from April 1995. Prior to joining MindSpring, from April 1994 until
April 1995, Mr. Markle served as the Director of Technical Support for Concert
Communications Co., a telecommunications company. From August 1990 to April
1994, Mr. Markle served as Senior Manager of Network Operations for MCI
Communications, a telecommunications company. Mr. Markle served in
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various operation positions at SouthernNet/Telecom*USA, including Director of
Operations for a multistate region, from July 1985 until July 1990.
Bret T. McCants has served as our Vice President of Network Services since
October 1999. He has served as the Vice President of Network Services of KNOLOGY
Holdings since April 1997. Prior to joining KNOLOGY Holdings, Mr. McCants was a
co-founder of CSW Communications. From January 1996 to April 1997 he served as
CSW Communications, Director of Operations, and from 1994 to 1996, he
participated in the development and managed the deployment of voice, data and
interactive energy management equipment to homes in Laredo, Texas. Prior to
joining CSW Communications, Mr. McCants served in various capacities with
Central Power and Light Company including as Corporate Manager of Commercial and
Small Industrial Marketing from 1992 to 1994, and as Business Manager from 1990
to 1992. From 1982 to 1990, Mr. McCants held several positions in the Sales,
Marketing and Engineering departments at Central Power and Light Company.
Peggy B. Warner joined us as our Vice President of Marketing and Carrier
Sales in October 1999. She has been the Vice President of Marketing and Carrier
Sales of KNOLOGY Holdings since January 1998. Prior to joining KNOLOGY Holdings,
from February 1995 to December 1997, Ms. Warner held various positions at SCANA
Communications, Inc., including Manager Sales, Marketing and Customer Service
and General Manager. While at SCANA Communications, Inc., Ms. Warner was
responsible for the company's fiber optic carriers' carrier and 800 MHz trunked
radio lines of business. Prior to that time, from December 1993 to January 1994,
she was an Executive National Accounts Manager with MCI Telecommunications
Corporation where she developed and managed a nationwide Government Systems
regional sales organization. Ms. Warner also held various other sales and
marketing management positions with MCI between May 1986 and January 1995. She
was an Account Manager with AT&T Information Systems between January 1983 and
April 1986, and she held various sales positions with BellSouth prior to 1983.
Campbell B. Lanier, III has been one of our directors and our Chairman of
the Board since our inception. He has served as a director of KNOLOGY Holdings
since November 1995. Mr. Lanier serves as Chairman of the Board and Chief
Executive Officer of ITC Holding and has served as a director of ITC Holding
since the company's inception in 1989. In addition, Mr. Lanier is an officer and
director of several ITC Holding subsidiaries. Mr. Lanier also is Chairman of the
Board and a director of ITCODeltaCom, Inc., which provides wholesale and retail
telecommunications services; Powertel, Inc., which provides wireless
communications services; MindSpring Enterprises, Inc., an Internet services
provider; and Vista Eyecare, Inc., a full service optical retailer. Mr. Lanier
has served as a Managing Director of South Atlantic Private Equity Fund, IV,
Limited Partnership since July 1997.
Richard Bodman has been one of our directors since December 1999. He has
been a director of KNOLOGY Holdings since June 1996. Mr. Bodman is currently the
Managing General Partner of AT&T Ventures. From August 1990 to May 1996, Mr.
Bodman served as Senior Vice President of Corporate Strategy and Development for
AT&T. Mr. Bodman also is currently a director of the following public companies:
Internet Security Systems, Inc., Tyco International Inc. and Young and Rubicam
Inc.
Alan A. Burgess has been one of our directors since December 1999. He has
served as a director of KNOLOGY Holdings since January 1999. From 1967 until his
retirement in 1997, Mr. Burgess was a partner with Andersen Consulting. Over his
thirty-year career he held a number of positions as Managing Partner, including
Managing Partner of Regulated Industries from 1974 to 1989. In 1989 he assumed
the role of Managing Partner of the Communications Industry Group. In addition,
he served on Andersen Consulting's Global Management council and was a member of
the Partner Income Committee. Mr. Burgess is also the Chief Financial Officer of
Seventh Wave Technologies, Inc.
Donald W. Burton has been one of our directors since December 1999. He has
been a director of KNOLOGY Holdings since January 1996. Since January 1981, he
has served as Managing General Partner of South Atlantic Venture Fund I, II and
III, Limited Partnerships and Chairman of South Atlantic Private Equity Fund IV,
Limited Partnership. Mr. Burton has been the general partner of The Burton
Partnership, Limited Partnership since October 1979. Since January 1981, he has
served as
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President of South Atlantic Capital Corporation. Mr. Burton also serves on the
board of directors of several ITC companies, including ITC Holding,
ITCODeltaCom, Inc. and Powertel, Inc. He is a director of the Heritage Group of
Mutual Funds and several private companies. Mr. Burton also serves as a director
of the National Venture Capital Association.
L. Charles Hilton, Jr. has been one of our directors since December 1999.
He has served as a director of KNOLOGY Holdings since KNOLOGY Holdings acquired
the beach cable system in Panama City, Florida in December 1997. Mr. Hilton was
the founder and sole stockholder of Beach Cable, Inc., and served as its Chief
Executive Officer from 1991 to December 1997. Since 1958, Mr. Hilton has served
as Chairman and Chief Executive Officer of Gulf Asphalt Corporation, a general
construction firm. Mr. Hilton has been a partner in the law firm of Hilton,
Hilton, Kolk & Roesch since 1984, and currently serves as Chief Executive
Officer of Hilton, Inc., a family corporation which owns and operates various
commercial buildings in Bay County, Florida. He also is a member of the board of
directors of several private companies.
William H. Scott, III has been one of our directors since our inception,
and he has served as a director of KNOLOGY Holdings since November 1995. He has
served as President of ITC Holding since December 1991 and has been a director
of ITC since May 1989. He also is an officer and director of several other ITC
Holding subsidiaries. In addition, Mr. Scott is a director of Powertel Inc.,
ITCODeltaCom, Inc., MindSpring Enterprises, Inc., Innotrac Corporation, which
provides customized technology-based marketing support services, HeadHunter.NET,
Inc., a company providing online recruiting services to employers, recruiters,
and job-seekers, and nFront, Inc., a provider of full-service Internet banking
solutions for community banks.
Donald W. Weber has been one of our directors since December 1999. He has
served as a director of KNOLOGY Holdings since August 1998. Since 1997, Mr.
Weber has been a consultant and private investor. Since 1995, Mr. Weber served
as President and Chief Executive Officer of ViewStar Entertainment Services,
Inc., a digital satellite services company. From 1987 to 1991, Mr. Weber held
various executive positions, including President and Chief Executive Officer,
and served as a director of Contel Corporation, a telecommunications company.
Currently, Mr. Weber serves as director of Powertel, Inc., HeadHunter.NET, Inc.,
Pegasus Communications Corporation, a media and communications company and HIE,
Inc., a health care software provider.
COMMITTEES OF THE BOARD OF DIRECTORS
Our Board currently has two committees, the audit committee and the
compensation and stock option committee.
The audit committee, among other things:
- recommends the firm to be appointed as independent accountants to audit
our financial statements;
- discusses the scope and results of the audit with the independent
accountants, reviews with management and the independent accountants our
interim and year-end operating results;
- considers the adequacy of our internal accounting controls and audit
procedures; and
- reviews the non-audit services to be performed by the independent
accountants.
The members of the audit committee are Messrs. Hilton, Burgess and Lanier.
The compensation and stock option committee reviews and recommends the
compensation arrangements for management and administers our stock option plans.
The members of the compensation and stock option committee are Messrs. Scott,
Weber, and Burton.
EXECUTIVE COMPENSATION
Our executive officers were appointed in October and November 1999.
However, as most of our executive officers were executive officers of KNOLOGY
Holdings, Inc. immediately prior to our formation, we have set forth below the
compensation received by our executive officers from KNOLOGY Holdings for the
fiscal years ended December 31, 1998, 1997 and 1996. The following table
provides
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compensation information for our chief executive officer and the most highly
compensated other executive officers whose total annual salary and bonus exceed
$100,000. We will use the term "named executive officers" to refer to these
people later in this prospectus.
SUMMARY COMPENSATION TABLE
<TABLE>
<CAPTION>
LONG TERM
COMPENSATION AWARDS
-----------------------------
ANNUAL COMPENSATION SECURITIES
-------------------------------- UNDERLYING ALL OTHER
YEAR(1) SALARY BONUS OPTIONS(2) COMPENSATION(3)
------- -------- ------- ----------- ---------------
<S> <C> <C> <C> <C> <C>
Rodger L. Johnson................. 1998 -- -- -- --
President &
Chief Executive Officer(4)
William E. Morrow................. 1998 $134,539 $76,800 420,000 $ 8,014
Former President & 1997 102,462(5) 22,602 180,000 24,526
Chief Executive Officer
Felix L. Boccucci, Jr............. 1998 98,250 33,385 30,000 --
Vice President of 1997 92,430 9,473 -- 36,159(7)
Business Development(6) 1996 84,015 46,102 66,068 68,464(8)
Bret T. McCants................... 1998 $101,494 $29,926 120,000 $ 5,041
Vice President of 1997 58,847(9) 21,177 42,000 35,535
Network Construction
and Maintenance
Marcus R. Luke.................... 1998 97,307 31,275 90,000 4,800
Chief Technology Officer 1997 90,292 6,102 -- 5,111
1996 72,547 7,102 25,620 5,076
</TABLE>
- ---------------
(1) As noted above, all of the named executive officers were initially employed
by KNOLOGY Holdings, Inc. The compensation table reflects the compensation
earned from KNOLOGY Holdings.
(2) All options are exercisable for shares of our common stock and reflect the
4:1 exchange ratio of the exchange of KNOLOGY Holdings capital stock for our
capital stock in November 1999.
(3) Includes car allowances, relocation expenses and premiums on life insurance.
(4) Mr. Johnson has served as the president of KNOLOGY Holdings since May 1999
and as its chief executive officer since June 1999.
(5) Reflects amounts paid to Mr. Morrow based on an annual salary rate of
approximately $120,000.
(6) Mr. Boccucci served as chief financial officer, treasurer and secretary of
KNOLOGY Holdings from November 1995 through August 1997.
(7) Includes grants of ITC Holding capital stock valued at $30,789 at the time
of grant.
(8) Includes grants of ITC Holding capital stock valued at $63,448 at the time
of grant.
(9) Reflects amounts paid to Mr. McCants based on an annual salary rate of
approximately $90,000.
1995 STOCK OPTION PLAN
We assumed KNOLOGY Holding, Inc.'s stock option plan in November 1999. Each
outstanding option to purchase stock of KNOLOGY Holdings was converted into an
option to purchase four shares of our common stock at the time we assumed the
stock option plan.
Our stock option plan allows us to grant options that are intended to
qualify as "incentive stock options" under Section 422 of the Internal Revenue
Code of 1986, as amended, as well as non-qualifying options to our key employees
and non-employee directors and those of our subsidiaries. The stock option plan
authorizes the issuance of up to 8,000,000 shares of common stock pursuant to
options granted under the plan. The maximum number of shares subject to options
that may be awarded under the plan to any person is 1,800,000 shares. The
compensation and stock option committee of the board of directors administers
the plan and grants options to purchase common stock.
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<PAGE> 77
The exercise price for incentive stock options granted under the stock
option plan must be at least 100% of the fair market value of the common stock
on the date of grant and must be at least 110% to an optionee beneficially
owning more than 10% of the outstanding common stock. The exercise price for
non-incentive stock options granted under the plan must be at least the par
value of the common stock. The maximum option term is ten years, or five years
to an optionee beneficially owning more than 10% of the outstanding common
stock. Options may be exercised at any time after grant except as otherwise
provided in the particular option agreement. There is also a $100,000 limit on
the value of common stock covered by incentive stock options that become
exercisable by an optionee in any year. The board of directors may amend,
suspend or terminate the stock option plan for shares of common stock for which
options have not been granted.
Upon assumption of the KNOLOGY Holdings plan in November 1999, we had
options to purchase 6,313,476 shares of common stock outstanding pursuant to the
stock option plan.
1999 LONG-TERM INCENTIVE PLAN
Our Board and shareholders approved the KNOLOGY, Inc. 1999 Long-Term
Incentive Plan in November 1999. The purpose of the plan is to promote our
success by linking the personal interests of employees, officers and directors
to those of our shareholders. Under our plan, we may grant to our employees,
officers and directors, and those of our subsidiaries, incentive or
non-qualified stock options, stock appreciation rights, performance units,
restricted stock, dividend equivalents, other stock-based awards, or any other
right or interest relating to our stock or cash. The plan authorizes the
issuance of up to 8,000,000 shares of common stock pursuant to awards. The
maximum number of shares of common stock with respect to one or more options
and/or stock appreciation rights that may be granted during any one calendar
year to any one person is 1,800,000. The maximum fair market value of any other
types of awards that may be received by one person during any one calendar year
under our plan is $2,000,000.
The plan is administered by the compensation and stock option committee of
the board of directors, which has the power to designate participants; determine
the type, number, terms and conditions of awards to be granted; establish rules
and regulations to administer the plan; and make all other decisions necessary
to administer the plan. Awards may have any terms specified by the committee
consistent with the plan, except that the terms of any incentive stock option
must meet the requirements of Section 422 of the Internal Revenue Code of 1986,
as amended.
The committee may condition any award under the plan upon the achievement
of performance goals, based on (1) a specified target return, or target growth
in return, on equity or assets, (2) stock price, (3) total stockholder return
(stock price appreciation plus reinvested dividends) relative to a defined
comparison group or target over a specific performance period, (4) a specified
target relative to, or target growth in, revenue, revenue generating units,
homes passed, cost of service, operating cost, capital expenses, net income or
earnings per share, or (5) any combination of the above goals. If an award is
made on a performance basis, the committee must establish goals at the beginning
of the period for which such performance goal relates, and the committee has the
right for any reason to reduce (but not increase) the award, notwithstanding the
achievement of a specified goal.
The board of directors or the committee may at any time terminate or amend
our plan without shareholder approval; but it may condition any amendment on the
approval of shareholders if deemed advisable for tax, securities law or other
reasons. No termination or amendment of our plan may adversely affect any
outstanding award without the written consent of the participant. No awards have
yet been granted or approved for grant under our plan.
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<PAGE> 78
The following table sets forth the information concerning individual grants
of stock options by KNOLOGY Holdings during the fiscal year ended December 31,
1998 to each of the named executive officers during such periods and reflects
the conversion into our options. No stock appreciation rights have been granted.
OPTION GRANTS IN LAST FISCAL YEAR
INDIVIDUAL GRANTS (1)
<TABLE>
<CAPTION>
PERCENT OF
TOTAL OPTIONS
NUMBER OF GRANTED TO
SECURITIES EMPLOYEES IN
UNDERLYING OPTIONS FISCAL YEAR
NAME GRANTED (2) EXERCISE PRICE GRANT DATE EXPIRATION DATE
---- ------------------ ------------- -------------- ---------------- ----------------
<S> <C> <C> <C> <C> <C>
Rodger L. Johnson.... -- -- -- -- --
President & Chief
Executive Officer
William E. Morrow.... 420,000 18.6% $2.50 February 4, 1998 February 4, 2008
Former President
and Chief
Executive Officer
Felix L. Boccucci, 30,000 1.3 2.50 February 4, 1998 February 4, 2008
Jr.................
Vice President of
Business
Development
Bret T. McCants...... 120,000 5.3 2.50 February 4, 1998 February 4, 2008
Vice President of
Network
Construction and
Maintenance
Marcus R. Luke....... 90,000 4.0 2.50 February 4, 1998 February 4, 2008
Chief Technology
Officer
<CAPTION>
POTENTIAL REALIZED
VALUE AT ASSUMED
ANNUAL RATES OF STOCK
PRICE APPRECIATION
FOR OPTION TERM (3)
---------------------
NAME 5% 10%
---- -------- ----------
<S> <C> <C>
Rodger L. Johnson.... -- --
President & Chief
Executive Officer
William E. Morrow.... $660,450 $1,673,700
Former President
and Chief
Executive Officer
Felix L. Boccucci, 47,175 119,550
Jr.................
Vice President of
Business
Development
Bret T. McCants...... 188,700 478,200
Vice President of
Network
Construction and
Maintenance
Marcus R. Luke....... 141,525 358,650
Chief Technology
Officer
</TABLE>
- ---------------
(1) All options are exercisable for shares of common stock and are granted under
the stock option plan. All option share numbers reflect the 4:1 exchange
ratio of the exchange of KNOLOGY Holdings capital stock for our capital
stock in November 1999. Such options generally vest over four years unless
such person's employment is terminated, in which case options that have not
vested at that time will terminate.
(2) Based on 2,261,476 options granted during the fiscal year.
(3) These amounts are based on compounded annual rates of stock price
appreciation of five and ten percent over the 10-year term of the options,
are mandated by rules of the Securities and Exchange Commission and are not
indicative of expected stock price performance. Actual gains, if any, on
stock option exercises are dependent on future performance of the common
stock, overall market conditions, as well as the option holders' continued
employment throughout the vesting period. The amounts reflected in this
table may not necessarily be achieved or may be exceeded.
OPTION EXERCISES AND FISCAL YEAR-END VALUES
None of the named executive officers exercised stock options during the
fiscal year ended December 31, 1998. Since our common stock is not traded, we
have no presently available estimates of the market value of such shares at
December 31, 1998.
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<PAGE> 79
OPTION GRANTS IN 1999
INDIVIDUAL GRANTS (1)
<TABLE>
<CAPTION>
NUMBER OF
SECURITIES
UNDERLYING FAIR
OPTIONS EXERCISE MARKET
NAME GRANTED PRICE GRANT DATE EXPIRATION DATE VALUE(2)
---- ---------- -------- ---------------- ---------------- ----------
<S> <C> <C> <C> <C> <C>
Rodger L. Johnson.............. 1,020,000 $2.8325 February 3, 1999 February 3, 2009 $4,845,000
President & Chief Executive 600,000 $2.8325 August 4, 1999 August 4, 2009 $2,850,000
Officer
William E. Morrow.............. 600,000 $2.8325 February 3, 1999 February 3, 2009 $2,850,000
Former President and Chief
Executive Officer
Felix L. Boccucci, Jr. ........ 14,120 $2.8325 February 3, 1999 February 3, 2009 $ 67,070
Vice President of Business 20,000 $2.8325 August 4, 1999 August 4, 2009 $ 66,500
Development
Bret T. McCants................ 14,824 $2.8325 February 3, 1999 February 3, 2009 $ 70,414
Vice President of Network 80,000 $2.8325 August 4, 1999 August 4, 2009 $ 380,000
Construction and
Maintenance
Marcus R. Luke................. 14,120 $2.8325 February 3, 1999 February 3, 2009 $ 67,070
Chief Technology Officer 14,000 $2.8325 August 4, 1999 August 4, 2009 $ 66,500
</TABLE>
- ---------------
(1) All options are exercisable for shares of common stock and are granted under
the stock option plan. All option share numbers reflect the 4:1 exchange
ratio of the exchange of KNOLOGY Holdings capital stock for our capital
stock in November 1999. Such options generally vest over five years unless
such person's employment is terminated, in which case options that have not
vested at that time will terminate.
(2) The fair market value was determined by our board based upon the value
implicit in the November 1999 exchange transactions described under the
caption "Management's Discussion and Analysis of Financial Condition and
Results of Operation -- Overview" and the expected price of our stock in the
private placement.
We issued a total of 3,561,444 options to our executive officers and
directors. We issued an additional 483,532 options to 335 of our employees in
1999.
COMPENSATION OF DIRECTORS
Our directors do not receive directors' fees. Directors are reimbursed for
their reasonable out-of-pocket travel expenditures. Our directors are also
eligible to receive grants of stock options under our stock option plan.
COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION
The current members of our Compensation and Stock Option Committee are
Messrs. Scott, Weber and Burton. Each of these members serves as a director or
executive officer of ITC Holding. We have engaged in, or have ongoing, several
transactions with ITC Holding or its affiliates, as discussed below under the
caption "Certain Transactions and Relationships."
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<PAGE> 80
CERTAIN TRANSACTIONS AND RELATIONSHIPS
We were formed in 1998 by ITC Holding Company, Inc. As of November 30,
1999, ITC Holding, through a wholly-owned subsidiary named InterCall, Inc.,
owned approximately 43.2 million shares of our Series A preferred stock, which
represented an ownership interest in our company of 90%.
We own 100% of KNOLOGY Holdings, and 100% of certain other companies,
including Interstate Telephone Company, Valley Telephone Company Globe
Telecommunications and ITC Globe. Before we owned them, each of these companies
was owned separately by ITC Holding. ITC Holding determined that KNOLOGY
Holdings and these other companies have parallel growth in the same markets and
that combining their businesses would enhance their ability to take advantage of
the opportunities in these markets. To accomplish this, ITC Holding formed us
and, in November 1999, contributed these companies to us along with certain
other related assets.
KNOLOGY Holdings is our principal subsidiary. ITC Holding formed KNOLOGY
Holdings in 1995. ITC Holdings' percentage ownership in KNOLOGY Holdings fell
below 50% in 1996, but it subsequently reacquired stock in the company, and by
November 1999, it owned 85% of KNOLOGY Holdings which it contributed to us. At
approximately the same time, we offered to exchange our stock for the remaining
stock of KNOLOGY Holdings, as a result of which we now own 100% of KNOLOGY
Holdings. These transactions are described in greater detail below.
ITC Holding is a diversified telecommunications company that owns interests
in many companies that have businesses similar to ours. Because of our
relationship with ITC Holding, we are affiliated with certain of these
companies. Some of them, such as ITCODeltaCom, Inc. and MindSpring Enterprises,
Inc., provide us with and/or receive from us services and products. We have
described the nature and amount of the business that we do with affiliated
companies in greater detail below.
We have adopted a policy requiring that any material transactions between
us and others affiliated with our officers, directors or principal stockholders
be on terms no less favorable to us than reasonably could have been obtained in
arm's-length transactions with independent third parties.
TRANSACTIONS WITH ITC COMPANIES
Certain of our directors serve as executive officers and directors and are
shareholders in affiliated companies. Campbell B. Lanier, III is Chairman of the
Board and Chief Executive Officer of ITC Holding and William H. Scott, III is an
officer and director of ITC Holding. Messrs. Lanier and Scott are also officers
and directors of several ITC Holding subsidiaries. Donald W. Burton is a
director of ITC Holding and several of its subsidiaries. Richard Bodman is the
managing general partner of AT&T Ventures, which controls the AT&T venture funds
that own approximately 9.3% of KNOLOGY. Felix Boccucci, our Vice President of
Business Development, served as an executive officer of ITC Holding prior to
October 1997. As of December 31, 1998, Campbell B. Lanier, III beneficially
owned approximately 23% of the common stock of ITC Holding, and William Scott
and Donald Burton beneficially owned approximately 1% and 8%, respectively, of
the common stock of ITC Holding.
Most of our officers, directors and stockholders also own stock in ITC
Holding and, as such, they will receive the same amount of stock on a pro rata
basis in the distribution as the rest of the ITC Holding stockholders.
Certain affiliated companies provide us with various services and/or
receive services provided by us. We feel that our transactions with these
affiliated companies are representative of arms' length transactions.
ITCODeltaCom provides us with wholesale long-distance and related services
and leases capacity to us on certain of its fiber routes. In 1996, 1997 and
1998, these services were worth $482,194, $589,011 and $1,213,533, respectively.
During those years, our company provided ITCODeltaCom with time switching,
programming and other services worth $525,368, $386,842 and $639,568,
respectively. For the first nine months of 1999, we received services from and
provided services to ITCODeltaCom worth $1,377,363 and
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<PAGE> 81
$685,907, respectively. After the distribution, ITCODeltaCom will continue to
provide us and certain of our subsidiaries with telecommunications services in
accordance with one-year contracts that we have entered into in 1999. As of
March 15, 1999, Mr. Lanier owned approximately 16% of ITCODeltaCom. Messrs.
Lanier and Scott serve as executive officers and directors of ITCODeltaCom and
Mr. Burton serves as a director of ITCODeltaCom.
We received cellular services in 1996, 1997 and 1998 worth $137,389,
$118,064 and $342,696, respectively, from Powertel, Inc., and we provided
switching, programming and other services to Powertel during this time worth
$572,659, $519,956 and $593,221. For the first nine months of 1999, we received
services from and provided services to Powertel worth $486,522 and $541,857,
respectively. As of March 12, 1999, ITC Holding owned approximately 27.5% of
Powertel.
We provided services to InterCall, our parent company and a wholly-owned
subsidiary of ITC Holding in 1996, 1997 and 1998 worth $449,861, $477,405 and
$737,204, respectively. For the first nine months of 1999, we provided services
to InterCall worth $535,110.
In 1996, 1997 and 1998, we provided local Internet transport services to
MindSpring Enterprises, Inc., a national Internet access provider, worth
$68,104, $132,524 and $216,049, respectively. For the first nine months of 1999,
we provided services to MindSpring worth $226,885. As of December 31, 1998, ITC
Holding, through InterCall, owned approximately 18.8% of MindSpring.
For the first nine months of 1999, we leased fisher and pole attachments
from SCANA Communications, which, in the past, was a principal investor in
KNOLOGY Holdings, as described below in greater detail. We paid $808,448 for
these and related services.
ITC Holding occasionally provides certain administrative services, such as
legal and tax-planning services, for us. The costs of these services are charged
to us based primarily on the salaries and related expenses for certain ITC
Holding executives and an estimate of their time spent on projects for us. For
the year ended December 31, 1998, KNOLOGY Holdings recorded $3,230,000 in
selling, operations, administrative and rent expenses related to these services.
We feel that the methodology used to calculate the amounts charged is
reasonable.
Our insurance provider is J. Smith Lanier & Co. Mr. Lanier's brother and
uncle are principal owners of this insurance placement company, both of whom, as
stockholders in ITC Holding, will receive the same pro rata amount of our Series
A preferred stock in the distribution as the other ITC Holding stockholders. In
1996, 1997 and 1998 this company charged us approximately $222,000, $221,000 and
$628,000, respectively, for insurance services.
During 1998, we leased office space to ITCODeltaCom and Powertel, for which
we received approximately $234,000 of lease income.
In 1997, our subsidiaries Interstate Telephone and Valley Telephone paid
$4.2 million in dividends to ITC Holding. In 1998, Interstate Telephone paid
$1.4 million in dividends to ITC Holding.
In October 1999, a subsidiary of ITC Holding agreed to lend up to $13
million to KNOLOGY Holdings under a line of credit which matured on the earlier
of (i) November 16, 2002 and (ii) one day after the commitment under KNOLOGY
Holdings' existing credit facility is reduced to zero. Interest accrued on the
loan at a rate of 11 3/4% per year. This loan was subordinate to the senior
secured credit facility KNOLOGY Holdings has with First Union National Bank and
First Union Capital Markets. In November 1999, we borrowed $9.6 million under
this line of credit. In accordance with the terms of the loan, the ITC Holding
subsidiary immediately converted this loan into shares of our Series A preferred
stock at a price per share of $4.75, at which time the line of credit
terminated.
In November 1999, we acquired KNOLOGY Holdings, Interstate Telephone,
Valley Telephone, Globe Telecommunications and ITC Globe from ITC Holding. ITC
Holding contributed to us stock representing approximately 85% of the
outstanding equity of KNOLOGY Holdings, stock representing 100% of each of
Interstate Telephone, Valley Telephone, Globe Telecommunications and ITC Globe,
272,832 shares of preferred stock of ClearSource, Inc., subscription rights to
purchase an additional
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<PAGE> 82
810,501 shares of preferred stock of ClearSource, approximately $5.6 million in
cash to be used for the subscription payments to ClearSource and a note of
KNOLOGY Holdings in the principal amount of up to $13 million. Concurrently with
this November 1999 acquisition, we completed an exchange with other KNOLOGY
Holdings stockholders in which we received KNOLOGY Holdings common stock and
preferred stock in exchange for our common stock and Series A preferred stock.
We now hold 100% of the outstanding capital stock of KNOLOGY Holdings.
In December 1999, after the contribution and exchange discussed above, a
subsidiary of ITC Holding agreed to lend us $30.4 million under a line of
credit. The proceeds of this loan are to be used for construction of the network
by KNOLOGY Holdings and for working capital. This loan accrued interest at a
rate of 11 3/4% per year and had a maturity date of March 31, 2000. Under the
terms of this loan, the ITC Holding subsidiary converted all of the principal
and interest of the loan into options to purchase shares of our Series A
preferred stock at a price per option of $4.75. Because each option was valued
for purposes of this conversion with the equivalent value of one share of our
Series A preferred stock, ITC Holding is therefore entitled to the proceeds from
the exercise of these options. We will pass these proceeds along to ITC Holding
in the form of a residual note.
The tax separation agreement that we entered into with ITC Holding will
continue after the distribution. The purpose of the tax separation agreement is
to allocate the risk of certain adverse tax consequences stemming from the
distribution. We do not, however, anticipate any such adverse consequences.
SALES OF CAPITAL STOCK
In December 1995 and January 1996, in connection with its initial
capitalization, KNOLOGY Holdings issued to certain investors, including ITC
Holding, SCANA Communications, Inc. and South Atlantic Venture Fund III, 7,780
shares of its preferred stock at a purchase price of $1,000 per share, for an
aggregate amount of $7,780,000. ITC Holding contributed $4,000,000 plus all of
its direct and indirect interests in Cybernet Holding, L.L.C. and in KNOLOGY of
Columbus, Inc. in exchange for shares of KNOLOGY Holdings preferred stock. SCANA
Communications is a communications subsidiary of SCANA Corporation, a
diversified utility company. South Atlantic represents a series of venture
capital funds. Mr. Burton is managing general partner of South Atlantic Venture
Fund I, II and III and is Chairman of South Atlantic Venture Fund, IV, and Mr.
Lanier is the managing general partner of South Atlantic Private Equity Fund,
IV.
KNOLOGY Holdings was a party to a Stockholders' Agreement dated December 8,
1995, as amended, with all of its stockholders. No party to the stockholders'
agreement could transfer any of KNOLOGY Holdings' capital stock, rights or
options held by such party to third parties without having offered rights of
first refusal to purchase such securities to KNOLOGY Holdings. This agreement
terminated prior to the distribution.
In May 1996, in connection with a private placement of its preferred stock,
KNOLOGY Holdings issued 10 shares of its preferred stock to ITC Holding and
9,302 shares of its preferred stock to new investors at a purchase price of
$1,200 per share, for an aggregate amount of $11,174,440. The new investors
included Century Telephone Enterprises, Inc., a regional communications company
that provides local exchange and cellular telephone services, and certain of the
AT&T venture funds, a series of venture capital funds. In connection with this
private placement, ITC Holding, the AT&T venture funds, KNOLOGY Holdings and
others entered into an Agreement Among Stockholders, which was amended and
restated as of July 28, 1997. Pursuant to the agreement, all parties agreed to
take all action within their respective power as may be required, for as long as
AT&T Venture Fund I, L.P. owned more than 5% of KNOLOGY Holdings' equity
securities, to elect one director designated by each such 5% stockholder. This
agreement terminated prior to the distribution.
In February 1997, KNOLOGY Holdings issued 8,960 shares of preferred stock
to certain of its current stockholders for a purchase price of $1,200 per share,
for an aggregate amount of $10,752,000. As part of this private placement, ITC
Holding, Century Telephone, South Atlantic and the AT&T venture
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<PAGE> 83
funds contributed $4,302,000, $2,096,400, $1,000,800 and $1,416,000,
respectively, in exchange for such preferred stock.
In May 1997, KNOLOGY Holdings signed a letter of intent with SCANA
Communications, whereby SCANA agreed to provide KNOLOGY Holdings with a
revolving credit facility of up to $40.0 million for network construction and
working capital. The companies, however, never established this credit facility.
Beginning in June 1997, KNOLOGY Holdings borrowed an aggregate of $11.0 million
of principal plus accrued interest (approximately $305,300) from SCANA pursuant
to a promissory note. The note accrued interest at the rate of 12% per annum and
was payable upon demand after January 1, 1998. KNOLOGY Holdings repaid the
promissory note in October 1997 with a portion of the proceeds from the offering
and the private placement described below. In October 1999, KNOLOGY Holdings
issued to SCANA warrants to purchase 753 shares of KNOLOGY Holdings preferred
stock in connection with these loans. SCANA exercised these warrants in November
1999.
In October 1997, KNOLOGY Holdings issued approximately 21,400 shares of its
preferred stock to qualified investors in an equity private placement for a
purchase price of $1,500 per share, for an aggregate amount of approximately
$32.2 million. ITC Holding, Century Telephone, South Atlantic, AT&T venture
funds and SCANA Communications, Inc. purchased approximately $10.0 million, $2.5
million, $5.5 million, $5.0 million and $5.0 million of preferred stock,
respectively, in the equity private placement.
In October 1997, KNOLOGY Holdings also completed a private offering of
444,100 units, each of which consisted of one 11 7/8% senior discount note and
one warrant to purchase .003734 shares of its preferred stock, at an exercise
price of $.01 per share, for $444.1 million aggregate principal amount at
maturity yielding net proceeds of approximately $242.4 million. SCANA
Communications purchased 71,050 of these units for $39,998,308. The senior
discount notes issued in the offering were subsequently exchanged for
substantially identical exchange notes that had been registered under the
Securities Act of 1933, as amended, in an exchange offer that expired on March
24, 1998.
In December 1997, KNOLOGY Holdings acquired Beach Cable, Inc., a cable
television system in Panama City, Florida. L. Charles Hilton, Jr., who became a
director of our company in December 1999, was the founder and sole stockholder
of Beach Cable. Mr. Hilton received 2,485 shares of KNOLOGY Holdings preferred
stock in the acquisition valued at $1,500 per share. During 1998, 134 of these
shares were returned to KNOLOGY Holdings as part of a purchase price adjustment.
In January 1998, ITC Holding purchased from Century Telephone its preferred
stock of KNOLOGY Holdings. In July 1998, ITC Holding acquired shares of
preferred stock of KNOLOGY Holdings in exchange for $100 in cash and ITC Holding
common stock valued at $1,600 per share for each share of preferred stock of
KNOLOGY Holdings exchanged. ITC Holding purchased 21,551 shares of preferred
stock of KNOLOGY Holdings from several stockholders, including all of the
preferred stock owned by South Atlantic and SCANA Communications in the
exchange.
In November 1999, we completed an exchange with other KNOLOGY Holdings
stockholders, including AT&T venture funds and SCANA Communications, in which we
exchanged our common stock and preferred stock for KNOLOGY Holdings common stock
and preferred stock. Through this exchange offering, we acquired 7,113 shares of
Series A preferred stock of KNOLOGY Holdings from AT&T venture funds for
4,267,800 shares of our Series A preferred stock and 753 shares of our Series A
preferred stock of KNOLOGY Holdings from SCANA Communications for 451,800 shares
of our Series A preferred stock.
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<PAGE> 84
PRINCIPAL STOCKHOLDERS
The following table sets forth certain information as of November 30, 1999,
reflecting the November 1999 transaction in which, among other things, ITC
Holding and other stockholders of KNOLOGY Holdings exchanged their KNOLOGY
Holdings stock and certain other assets for stock in our company, and
immediately following the distribution regarding beneficial ownership of our
voting capital stock by:
- each person known by us to beneficially own more than 5% of our
outstanding voting capital stock,
- each of our executive officers,
- each of our directors, and
- all of our directors and executive officers as a group.
Unless otherwise indicated, the address of each of the named individuals is c/o
KNOLOGY, Inc., 1241 O.G. Skinner Drive, West Point, Georgia 31833.
<TABLE>
<CAPTION>
PERCENT OF VOTING
CAPITAL STOCK(2)
AMOUNT AND NATURE OF AMOUNT AND NATURE OF ------------------------------
BENEFICIAL OWNERSHIP BENEFICIAL OWNERSHIP BEFORE AFTER
NAME AND ADDRESS OF BENEFICIAL OWNER BEFORE DISTRIBUTION(1)(4) AFTER DISTRIBUTION(1)(3)(4) DISTRIBUTION DISTRIBUTION(3)
- ------------------------------------ ------------------------- --------------------------- ------------ ---------------
<S> <C> <C> <C> <C>
5% Shareholders
ITC Holding Company, Inc.......
InterCall, Inc.(5)............. 43,211,531 -- 90% --
AT&T Venture Funds(6).......... 4,267,800(6) 4,267,800(6) 8.9 8.9%
SCANA Communications, Inc. .... 451,800 7,220,886 * 15.0
American Water Works Company,
Inc. ........................ -- 3,813,402 -- 7.9
South Atlantic Private Equity
Funds(7)..................... -- 3,536,632(7) -- 7.4
James O. Hayles(8)............. -- 2,846,641(8) -- 5.9
Carroll Lanier Hodges(9)....... -- 3,124,315(9) -- 6.5
Elizabeth L. Lester(10)........ -- 3,195,203(10) -- 6.7
Ellen L. Collins(11)........... -- 3,194,575(11) -- 6.7
Executive Officers
Felix L. Boccucci, Jr.(4)...... 58,852(4) 81,728(4) * *
Marcus R. Luke(4).............. 39,420(4) 49,878(4) * *
James T. Markle................ -- -- -- --
Bret McCants(4)................ 25,800(4) 26,453(4) * *
Peggy A. Warner................ -- -- -- --
Robert K. Mills................ -- -- -- --
Thomas Patrick Barrett......... -- -- -- --
Rodger L. Johnson.............. -- -- -- --
Anthony J. Palermo............. -- -- -- --
Chad S. Wachter................ -- -- -- --
Directors
Campbell B. Lanier............. 41,181,807(12) 7,825,656(13) 90 16.1
Richard Bodman(6).............. 4,267,800(6) 4,267,800(6) 8.9 8.9
Donald W. Weber................ -- 41,275 -- --
Donald W. Burton(7)............ -- 3,542,630(7) -- 7.4
L. Charles Hilton, Jr. ........ -- 376,453 -- *
William H. Scott, III.......... 41,181,807(12) 1,373,843(14) 90 2.8
Alan A. Burgess................ -- -- -- --
Rodger L. Johnson.............. -- -- -- --
All Named Executive Officers and
Directors as a Group (17
persons)..................... 45,573,679 17,585,716 94.9% 36.6%
</TABLE>
- ---------------
* Less than 1%
(1) In accordance with Rule 13d-3 under the Exchange Act, a person is deemed to
be a "beneficial owner" of a security if he or she has or shares the power
to vote or direct the voting of such security or the power to dispose or
direct the disposition of such security. A person is also deemed to be a
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<PAGE> 85
beneficial owner of any securities of which that person has the right to
acquire beneficial ownership within 60 days from November 30, 1999. More
than one person may be deemed to be a beneficial owner of the same
securities. All persons shown in the table above have sole voting and
investment power, except as otherwise indicated. Except as otherwise noted,
all voting capital stock listed in the table above consists of our Series A
preferred stock.
(2) For the purpose of computing the percentage ownership of each beneficial
owner, any securities which were not outstanding but which were subject to
options, warrants, rights or conversion privileges held by such beneficial
owner exercisable within 60 days were deemed to be outstanding in
determining the percentage owned by such person, but were not deemed
outstanding in determining the percentage owned by any other person.
(3) The "After Distribution" information reflects the ITC Holding Company
distribution to its shareholders of its 43,211,531 shares of our Series A
preferred stock and the conversion of the $30.4 million loan from ITC
Holding into 6,391,329 options to purchase Series A preferred stock.
(4) Includes the following shares that the individuals named below have the
right to currently purchase or to purchase within 60 days from November 30,
1999 pursuant to options as follows:
<TABLE>
<CAPTION>
BEFORE AFTER
DISTRIBUTION DISTRIBUTION
------------ ------------
<S> <C> <C>
Felix L. Boccucci, Jr. (a)........................... 52,852(a) 74,422(a)
Marcus R. Luke (a)................................... 25,620(a) 36,078(a)
Bret McCants (a)..................................... 21,000(a) 21,653(a)
Donald W. Weber...................................... -- 41,275
Donald W. Burton..................................... -- 26,024
Campbell B. Lanier................................... -- 529,721
William H. Scott, III................................ -- 645,956
South Atlantic Funds (collectively).................. -- 25,118
Burton Partnership, Limited Partnership.............. -- 906
</TABLE>
(a) includes options to purchase common shares of 52,852, 25,620 and
21,000 for Mr. Boccucci, Mr. Luke and Mr. McCants, respectively.
(5) The address of ITC Holding, Inc. is 1231 O.G. Skinner Drive, West Point,
GA, and the address of InterCall, Inc. is 1211 O.G. Skinner Drive, West
Point, Georgia 31833. InterCall is a wholly-owned subsidiary of ITC
Holding.
(6) The address of each of the AT&T venture funds and of Mr. Bodman is 2
Wisconsin Circle, #610, Chevy Chase, Maryland 20815. Includes 325,800
shares owned by AT&T Venture Fund I, L.P., of which Venture Management I, a
general partnership, is the general partner, of which Mr. Bodman is the
managing general partner; 2,931,600 shares owned by AT&T Venture Fund II,
L.P., of which Venture Management, L.L.C. is the general partner, of which
Mr. Bodman is a manager; includes 153,600 shares owned by Special Partners
Fund, L.P., of which Venture Management III, L.L.C. is the general partner,
of which Mr. Bodman is a manager; and includes 856,800 shares owned by
Special Partners Fund International, L.P., of which the investment general
partner is Venture Management III, L.L.C., of which Mr. Bodman is a
manager. Each of the respective AT&T venture funds has sole voting and
investment power with respect to the shares beneficially owned by such
fund.
(7) The address of Mr. Burton and of each entity comprising South Atlantic is
614 West Bay Street, Suite 200, Tampa, Florida 33606. Includes 117,552
shares held of record by The Burton Partnership, Limited Partnership, of
which Mr. Burton is the sole general partner; 1,681,925 shares held by
South Atlantic Venture Fund III, Limited Partnership, of which South
Atlantic Venture Partners III, Limited Partnership is the sole general
partner, of which Mr. Burton is the managing partner; 870,528 shares held
by South Atlantic Private Equity Fund IV (QP), Limited Partnership, of
which Mr. Burton is a general partner; 591,099 shares held by South
Atlantic Private Equity Fund IV,
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<PAGE> 86
Limited Partnership, of which Mr. Burton is a general partner; and 206,266
shares held by South Atlantic Venture Fund II, Limited Partnership, of
which Mr. Burton is the managing partner. Each of the respective South
Atlantic funds has sole voting and investment power with respect to the
shares beneficially owned by such fund. Also includes 49,236 shares held of
record by four Burton Family trusts of which Mr. Burton is trustee.
(8) Includes 19,620 shares held of record by two family trusts; 1,273,378
shares held of record by The Fredonia 1999 Annuity Trust; and 1,452,503
shares held of record by The 1997 Trust FBO Campbell B. Lanier IV, all
trusts of which Mr. Hayles is trustee. Also includes 50,570 shares held of
record by Mr. Hayles' wife.
(9) Includes 3,900 shares held of record by two members of Mrs. Hodges
immediate family; and 2,081,959 shares held of record by The James Smith
Lanier II Three Year Trust dated August 26, 1999, of which Mrs. Hodges is a
co-trustee.
(10) Includes 54,468 shares held of record jointly by Mrs. Lester and her
husband; 86,476 shares held of record by three members of Mrs. Lester's
immediate family, and 2,081,959 shares held of record by The James Smith
Lanier II Three Year Trust dated August 26, 1999, of which Mrs. Lester is a
co-trustee.
(11) Includes 54,468 shares held of record jointly by Mrs. Collins and her
husband; 72,214 shares held of record by three members of Mrs. Collins
immediate family; and 2,081,959 shares held of record by The James Smith
Lanier II Three Year Trust dated August 26, 1999, of which Mrs. Collins is
a co-trustee.
(12) These are the shares owned by InterCall, Inc., of which Messrs. Lanier and
Scott are directors. Messrs. Lanier and Scott disclaim beneficial ownership
of these shares.
(13) Includes 121,718 shares held of record by the Jane Lowery Zachry Hyatt
Lanier Trust, of which Mr. C. Lanier, III is trustee; 136,150 shares held
of record by The Campbell B. Lanier, Jr. Irrevocable Life Insurance Trust,
of which Mr. C. Lanier, III is trustee; 58,847 shares held of record by the
Lanier Family Foundation, of which Mr. C. Lanier, III is co-trustee; and
392 shares held of record by Mr. C. Lanier, III's wife.
(14) Includes 44,768 shares held of record by The Martha J. Scott, Trustee FBO
Mary Martha Scott U/A 6/26/91 Trust, of which Mr. Scott's wife is trustee;
2,831 shares held of record by two members of Mr. Scott's immediate family;
87,150 shares held of record by The Melissa H. Lanier 1997 GST Trust, of
which Mr. Scott is trustee; and 160,831 shares held of record by The
Campbell B. Lanier, III Charitable Remainder Trust.
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<PAGE> 87
DESCRIPTION OF SECURITIES
The following summary description of our capital stock is subject to the
provisions of our Certificate of Incorporation and our Bylaws, which are
included as exhibits to the Registration Statement of which this prospectus
forms a part, and the provisions of applicable law.
AUTHORIZED AND OUTSTANDING CAPITAL STOCK
We currently have 200,000,000 shares of common stock authorized and 2,476
shares of common stock outstanding. We currently have 175,000,000 shares of
preferred stock authorized of which 75,000,000 shares are designated as Series A
preferred stock and 50,000,000 shares are designated as Series B preferred
stock. We have 48,035,531 shares of Series A preferred stock outstanding and no
shares of Series B preferred stock outstanding.
COMMON STOCK
Voting Rights. Each holder of common stock is entitled to attend all
special and annual meetings of the stockholders of our company and, together
with the holders of all other classes of stock entitled to attend and vote at
such meetings, to vote upon any matter or thing properly considered and acted
upon by the stockholders. Holders of common stock are entitled to one vote per
share and vote as a single class.
Liquidation Rights. In the event of any dissolution, liquidation or
winding up of our company, whether voluntary or involuntary, subject to the
provisions of our preferred stock, holders of common stock are entitled to
participate ratably on a per-share basis in all distributions to the holders of
our common stock in any dissolution, liquidation or winding up.
Dividends. Dividends and distributions may be paid on the common stock in
cash, property or securities, and the holders of our common stock will be
entitled to participate in such dividends and distributions ratably on a per
share basis. The rights of holders of our common stock to receive dividends and
distributions are subject to any provisions of any of our preferred stock
outstanding.
Transfer Restrictions. Any holder of shares of common stock that decides
to sell its shares of common stock must first offer those shares to us before it
can offer the shares to a third party. Our board of directors at its discretion
may waive or terminate the transfer restrictions. All transfer restrictions will
terminate upon a qualified underwritten public offering of our common stock,
which is an underwritten public offering
- with a per-share purchase price of at least $6.00;
- resulting in proceeds to us of at least $50 million prior to expenses and
underwriting commissions; and
- in which our common stock is listed for quotation on the Nasdaq National
Market or a national securities exchange.
Redemption. All outstanding shares of our common stock are subject to
redemption if our board of directors determines such action should be taken to
prevent the loss or secure the reinstatement of a license or franchise held by
us or any of our subsidiaries and used to conduct business.
AUTHORIZED PREFERRED STOCK
Our Certificate of Incorporation authorizes our board of directors to
issue, from time to time and without further stockholder action, except as
required by applicable law, one or more series of preferred stock, and to fix
the relative rights and preferences of the shares, including voting powers,
dividend rights, liquidation preferences, redemption rights, conversion
privileges and other rights. The issuance of additional preferred stock may have
the effect of delaying, deferring or preventing a change in control of our
company without further action by the stockholders. Preferred stock issued with
voting, conversion or
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<PAGE> 88
redemption rights may adversely affect the voting power of the holders of common
stock and existing series of preferred stock, and could discourage attempts to
obtain control of our company.
SERIES A PREFERRED STOCK
Voting Rights. Except as otherwise required by law, the holders of shares
of Series A preferred stock are entitled to attend all special and annual
meetings of the stockholders of our company and, together with the holders of
all other classes of stock entitled to attend and vote at such meetings, to vote
upon any matter or thing properly considered and acted upon by the stockholders.
Holders of Series A preferred stock will vote with holders of common stock on an
as-converted basis. In addition, holders of Series A preferred stock and Series
B preferred stock are entitled to a separate class vote on:
- the issuance of any additional Series A preferred stock; and
- the creation of any class or series of capital stock with preference to
the Series A preferred stock.
Holders of Series A preferred stock and holders of Series B preferred stock,
which is expected to be issued in a private placement in the near future, are
entitled to vote together as a single class on any merger, consolidation,
recapitalization, liquidation, dissolution, winding-up or sale of all or
substantially all of our assets.
Liquidation Rights. In the event of any dissolution, liquidation or
winding up of our company, whether voluntary or involuntary, following any
required prior distributions or payments for any other series of preferred
stock, the holders of shares of our Series A preferred stock and Series B
preferred stock are entitled to receive, out of our assets legally available for
distribution to stockholders, a liquidation value equal to the greater of:
- the initial per-share purchase price of $4.75, or
- the amount such holder would have received had his Series A preferred
stock been converted into common stock immediately before the liquidation
event.
This distribution must be paid prior to any distribution with respect to the
common stock. If the distributable assets are insufficient to pay cash in an
amount equal to the full Series A preferred stock liquidation distribution, then
such assets or the proceeds of such assets will be distributed among the holders
of the Series A preferred stock ratably on a per share basis.
Dividends. The Series A preferred stock will participate on an
as-converted basis in all dividends and distributions payable to the holders of
our common stock. As we do not pay guaranteed dividends to our preferred
stockholders, we do not have a restriction on any repurchase or redemption of
shares of our Series A preferred stock while there is any arrearage in the
payment of dividends.
Conversion Into Common Stock. The Series A preferred stock is convertible
at any time at the option of the holder into the number of shares of common
stock determined by multiplying the conversion rate then in effect by the number
of shares of Series A preferred stock held. The conversion rate is the quotient
obtained by dividing the deemed Series A preferred stock issue price by the
conversion price. The Series A preferred stock issue price equals $4.75, subject
to adjustments for any future stock dividends, stock splits or similar
transactions affecting the Series A preferred stock. The conversion price equals
the initial per-share purchase price of $4.75, subject to adjustments for any
future stock dividends, stock splits and similar transactions affecting the
common stock, as well as issuances of common stock and common stock equivalents
other than options and stock issued pursuant to employee benefit plans at less
than the conversion price then in effect. The shares of Series A preferred stock
shall automatically be converted into fully paid and nonassessable shares of
common stock at the conversion price, as adjusted for any stock split or
reclassification, upon our completion of a qualified underwritten public
offering of common stock. Each share of Series A preferred stock will be
convertible into one share of our common stock immediately after the
distribution.
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<PAGE> 89
Transfer Restrictions. Any holder of shares of Series A preferred stock
that decides to sell its shares of Series A preferred stock must first offer
those shares to us before it can offer the shares to a third party. Our board of
directors at its discretion may waive or terminate the transfer restrictions.
All transfer restrictions will terminate upon a qualified underwritten public
offering of our common stock.
SERIES B PREFERRED STOCK
We anticipate that the Series B preferred stock expected to be issued in
the private placement ultimately will have substantially the same rights,
preferences and designations as our Series A preferred stock, other than the
differences set forth below. However, the rights, preferences or designations of
the Series B preferred stock may change as a result of negotiations with
investors in the private placement.
Additional Voting Rights. In addition to the voting rights granted to
holders of shares of Series A preferred stock, it is expected that holders of
Series B preferred stock would be entitled to a separate class vote on any
redemption or redemptions of common stock or preferred stock representing,
during any 12-month period in which such redemption or redemptions occur, more
than 5% of our outstanding common stock on a fully-diluted basis.
Liquidation Rights. In the event of any dissolution, liquidation or
winding up of our company, whether voluntary or involuntary, before any
distribution or payment is made to the holders of any other class or series of
our capital stock, it is expected that the holders of shares of Series B
preferred stock would be entitled to receive, out of assets legally available
for distribution to stockholders, a liquidation value equal to the greater of
(1) the initial per-share purchase price of $4.75, or (2) the amount such holder
would have received had his Series B preferred stock been converted into common
stock immediately before the liquidation event. If the distributable assets
would be insufficient to pay cash in an amount equal to the full Series B
preferred stock liquidation distribution, then such assets or the proceeds of
such assets would be distributed among the holders of Series B preferred stock
ratably on a per share basis.
Board Seats. It is expected that the holders of Series B preferred stock,
voting together as a separate class, would have the right to elect two directors
to our board of directors.
Preemptive Rights. We expect to enter into a stockholders' agreement with
the holders of Series B preferred stock. We expect that under that agreement
each holder of shares of Series B preferred stock that represent, on an
as-converted basis, at least 5% of our outstanding capital stock would have the
right to purchase its pro-rata share of 75% of any future offerings of our
equity securities. This right would not apply to issuances pursuant to employee
benefit plans or issuances for non-cash consideration. If we do grant this right
to our Series B preferred stockholders, we presently intend to offer the same
right to holders of shares of Series A preferred stock that represent, on an
as-converted basis, at least 5% of our outstanding capital stock.
Registration Rights. We expect that under the stockholders' agreement with
Series B preferred stockholders, shares of common stock issued or issuable upon
the conversion of Series B preferred stock would have the benefit of various
registration rights. Holders of our Series B preferred stock are expected to
have the right to require us to effect up to two registrations on Form S-1 and
unlimited registrations on Form S-3, each with respect to at least 25% of our
registrable stock, subject to our reasonable deferral rights. Holders of Series
B preferred stock are also expected to have unlimited rights to include shares
in future registrations of stock by us for our own account or the account of
other selling stockholders. These rights to include shares in future
registrations would be subject to customary rights of KNOLOGY to exclude the
shares to the extent the managing underwriter determines that it would hurt the
distribution to which the registration relates. We would pay all expenses in
connection with these registrations other than underwriter discounts and
commissions. We presently intend to offer this right to holders of shares of
Series A preferred stock who own shares other than as a result of the
distribution and whose shares were not registered in connection with the
distribution. Approximately 21 million shares of Series B preferred stock and
approximately 48 million shares of Series A preferred stock are expected to have
the benefit of these registration rights. A holder's registration rights will
terminate when all registrable securities
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<PAGE> 90
beneficially owned by such holder immediately may be sold under Rule 144(k) of
the Securities Act of 1933, as amended, or our common stock is listed on a
national securities exchange or traded on the Nasdaq market system.
OPTIONS
As of November 30, 1999, we had outstanding options to purchase 6,313,476
shares of our common stock. All of these options were granted under our stock
option plan. The weighted average exercise price of these options is $2.70. The
options will vest at different times between the current date and November 2004,
and each option terminates 10 years from the date of its issuance. The options
terminate upon the option holder's termination of employment. Further, the
options are immediately exerciseable upon the sale of KNOLOGY, unless our board
decides such acceleration is not in the best interests of KNOLOGY.
WARRANTS
As of December 3, 1999, we had outstanding 444,100 warrants, each of which
warrant entitles the warrant holder to purchase 2.2404 shares of our Series A
preferred stock at an exercise price of $.01 per share. The exercise price is
subject to adjustment for any division, consolidation or reclassification of the
Series A preferred stock or similar actions by KNOLOGY. The warrants are
exercisable at any time until their expiration in October 2007. Any warrants
that are not exercised by that date will expire. Under certain circumstances, as
set forth in the warrant agreement, if we consolidate or merge with, or sell
substantially all of our assets to, another person at a time when our preferred
stock or common stock is not publicly traded, we would be required to make an
offer to repurchase the warrants at their fair market value. The distribution
will not require us to offer to repurchase the warrants under the warrant
agreement.
CERTAIN CHARTER AND STATUTORY PROVISIONS
Certain provisions of the Delaware General Corporation Law, our Certificate
of Incorporation, our By-Laws and our stock option plans may have an
anti-takeover effect and may delay, deter or prevent a tender offer, proxy
contest or other takeover attempt. This may be true even in circumstances where
a takeover attempt might result in payment of a premium over market price for
shares held by stockholders.
Following the completion of the distribution, we will become subject to
Section 203 of the Delaware General Corporation Law. Section 203 prohibits,
subject to certain exceptions, a Delaware corporation from engaging in any
business combination with any interested stockholder for a period of three years
following the date that such stockholder became an interested stockholder. A
business combination includes mergers, asset sales and other transactions that
may result in a financial benefit to stockholders. A person will be deemed an
interested stockholder triggering this protection if the person together with
any affiliates or associates of such person, beneficially owns, directly or
indirectly, 15% or more of our outstanding voting stock. There are three
exceptions to these provisions. First, if our board of directors gives prior
approval to either the business combination or the transaction which resulted in
the stockholder becoming an interested stockholder then the restrictions do not
apply. Second, the restrictions will not apply if, upon the consummation of the
transaction which resulted in the stockholder becoming an interested
stockholder, the interested stockholder owns at least 85% of our outstanding
voting stock. Finally, the restrictions will not apply if, at the time of or
following the consummation of the transaction in which the stockholder became an
interested stockholder, our board of directors approves the business combination
and stockholders holding at least 66 2/3% of our outstanding voting stock not
owned by the interested stockholder authorize the business combination.
We may issue 50,000,000 shares of undesignated preferred stock. Under
certain circumstances, the issuance of preferred stock could be utilized as a
method of discouraging, delaying or preventing a change in control of our stock.
The provisions of our Certificate of Incorporation and bylaws may have the
effect of delaying, deferring or preventing a non-negotiated merger or other
business combination involving us. These
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<PAGE> 91
provisions are intended to encourage any person interested in acquiring us to
negotiate with and obtain the approval of our board of directors in connection
with the transaction. Certain of these provisions may, however, discourage our
future acquisition in a transaction not approved by our board of directors in
which stockholders might receive an attractive value for their shares or that a
substantial number or even a majority of our stockholders might believe to be in
their best interest. As a result, stockholders who desire to participate in such
a transaction may not have the opportunity to do so. Such provisions could also
discourage bids for our common stock at a premium, as well as create a
depressive effect on the market price of our common stock.
LEGAL MATTERS
Hogan & Hartson L.L.P., of Washington, D.C., will issue an opinion about
certain legal matters with respect to our common stock. Anthony S. Harrington, a
partner of Hogan & Hartson, currently owns 80,768 shares of common stock of ITC
Holding and will receive 87,986 shares of our Series A preferred stock in the
distribution.
EXPERTS
The consolidated financial statements and schedules of KNOLOGY, Inc. and
subsidiaries as of December 31, 1997 and 1998 and for each of the three years in
the period ended December 31, 1998, and KNOLOGY Holdings, Inc. as of December
31, 1997 and July 31, 1998 and for each of the two years in the period ended
December 31, 1997 and the period ended July 31, 1998 included in this prospectus
and in the registration statement have been audited by Arthur Andersen LLP,
independent accountants, as indicated in their reports with respect thereto, and
are included in reliance upon the authority of said firm as experts in giving
said reports.
The financial statements of Cable Alabama Corporation as of August 31, 1998
and September 30, 1997 and for the eleven month period ended August 31, 1998 and
the year ended September 30, 1997 included in this prospectus have been audited
by Deloitte & Touche LLP, independent auditors, as stated in their report
appearing herein and have been so included in reliance upon the report of such
firm given on their authority as experts in accounting and auditing.
WHERE YOU CAN FIND MORE INFORMATION
We have filed with the SEC a registration statement on Form S-1. It
includes exhibits and schedules. This prospectus is part of the registration
statement. It does not contain all of the information that is in the
registration statement. The registration statement contains more information
about our company and our capital stock. Statements contained in this prospectus
concerning the provisions of documents filed as exhibits to the registration
statement are necessarily summaries of such documents. Each of these statements
is qualified in its entirety by reference to the copy of the applicable document
filed with the SEC. You may read and copy all or any portion of the registration
statement at the SEC's public reference room at 450 Fifth Street, N.W.,
Washington, D.C. 20549. You can request copies of these documents, upon payment
of a duplicating fee, by writing to the SEC. Please call the SEC at 1-800-SEC-
0330 for further information on the public reference room's operations. The
registration statement is also available to you on the SEC's Internet site
(www.sec.gov). We intend to furnish our stockholders with annual reports
containing financial statements audited by our independent accountants and
quarterly reports containing unaudited financial statements for the first three
quarters of each fiscal year.
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<PAGE> 92
INDEX TO FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
KNOLOGY, INC.
Report of Independent Public Accountants.................... F-2
Consolidated Balance Sheets -- December 31, 1997 and 1998
and September 30, 1999 (unaudited)........................ F-3
Consolidated Statements of Operations for the Years Ended
December 31, 1996, 1997 and 1998 and the Nine Months Ended
September 30, 1998 and 1999 (unaudited)................... F-4
Consolidated Statements of Stockholders' Equity and
Comprehensive Income for the Years Ended December 31,
1996, 1997 and 1998 and the Nine Months Ended September
30, 1999 (unaudited)...................................... F-6
Consolidated Statements of Cash Flows for the Years Ended
December 31, 1996, 1997 and 1998 and the Nine Months Ended
September 30, 1998 and 1999 (unaudited)................... F-7
Notes to Consolidated Financial Statements.................. F-8
</TABLE>
<TABLE>
<CAPTION>
<S> <C>
KNOLOGY HOLDINGS, INC.
Report of Independent Public Accountants.................... F-24
Consolidated Balance Sheets -- December 31, 1997 and July
31, 1998.................................................. F-25
Consolidated Statements of Operations for the Years Ended
December 31, 1996, 1997 and the Period Ended July 31,
1998...................................................... F-26
Consolidated Statements of Stockholders' Equity and
Comprehensive Income for the Years Ended December 31,
1996, 1997 and the Period Ended July 31, 1998............. F-27
Consolidated Statements of Cash Flows for the Years Ended
December 31, 1996, 1997 and the Period Ended July 31,
1998...................................................... F-28
Notes to Consolidated Financial Statements.................. F-29
CABLE ALABAMA CORPORATION
Report of Independent Public Accountants.................... F-42
Balance Sheets -- August 31, 1998 and September 30, 1997.... F-43
Statements of Operations and Deficit for the Period Ended
August 31, 1998 and the Year Ended September 30, 1997..... F-44
Statements of Cash Flows for the Period Ended August 31,
1998 and the Year Ended September 30, 1997................ F-45
Notes to Financial Statements............................... F-46
PRO FORMA FINANCIAL STATEMENTS
Introduction to Pro Forma Presentation...................... F-48
Unaudited Pro Forma Balance Sheet as of September 30,
1999...................................................... F-48
Unaudited Pro Forma Statement of Operations for the Nine
Months Ended September 30, 1999........................... F-50
Unaudited Pro Forma Statement of Operations for the Year
Ended December 31, 1998................................... F-51
</TABLE>
F-1
<PAGE> 93
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To KNOLOGY, Inc.:
We have audited the accompanying consolidated balance sheets of KNOLOGY,
INC.(a Delaware corporation) AND SUBSIDIARIES as of December 31, 1997 and 1998
and the related consolidated statements of operations, stockholders' equity, and
cash flows for each of the three years in the period ended December 31, 1998.
These financial statements are the responsibility of the Company's management.
Our responsibility is to express an opinion on these financial statements based
on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of KNOLOGY,
Inc. and subsidiaries as of December 31, 1997 and 1998 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.
As discussed in Note 1 to the financial statements, effective August 1998, the
Company acquired a majority ownership interest in KNOLOGY Holdings, Inc. in a
business combination accounted for as a purchase. As a result of this
acquisition, the financial information for 1998 includes the accounts of KNOLOGY
Holdings, Inc. and, therefore, is not comparable to periods prior to the
acquisition.
Atlanta, Georgia
November 30, 1999
F-2
<PAGE> 94
KNOLOGY, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
DECEMBER 31,
--------------------------- SEPTEMBER 30,
1997 1998 1999
------------ ------------ -------------
(UNAUDITED)
<S> <C> <C> <C>
ASSETS
CURRENT ASSETS:
Cash and cash equivalents................................. $ 626,902 $ 5,158,774 $ 21,199,977
Marketable securities..................................... 0 66,231,397 0
Accounts receivable, net of allowance for doubtful
accounts of $108,528 and $393,766 in 1997 and 1998,
respectively............................................ 3,660,359 8,774,536 9,674,793
Accounts receivable -- affiliates......................... 0 6,785,691 8,636,849
Prepaid expenses.......................................... 54,798 500,022 1,216,793
------------ ------------ ------------
Total current assets................................ 4,342,059 87,450,420 40,728,412
------------ ------------ ------------
PROPERTY, PLANT, AND EQUIPMENT:
System and installation equipment......................... 27,924,111 188,753,702 250,696,942
Test and office equipment................................. 1,038,956 8,539,784 11,384,537
Automobiles and trucks.................................... 765,114 3,777,458 5,327,864
Production equipment...................................... 0 857,028 924,274
Land...................................................... 300,975 2,750,244 2,750,244
Buildings................................................. 641,563 10,902,460 13,424,846
Inventory................................................. 255,225 32,417,006 26,097,032
Leasehold improvements.................................... 407,778 1,145,184 1,335,300
------------ ------------ ------------
31,333,722 249,142,866 311,941,039
Less accumulated depreciation and amortization............ (20,072,876) (37,257,198) (53,285,137)
------------ ------------ ------------
Property, plant, and equipment, net................. 11,260,846 211,885,668 258,655,902
------------ ------------ ------------
OTHER LONG-TERM ASSETS:
Intangible and other assets, net.......................... 0 69,092,623 58,307,193
Investments............................................... 14,283,627 825,072 1,412,064
Other..................................................... 309,960 593,663 559,677
------------ ------------ ------------
Total assets........................................ $ 30,196,492 $369,847,446 $359,663,248
============ ============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Current portion of long-term debt......................... $ 0 $ 25,094 $ 12,174
Accounts payable.......................................... 2,804,112 8,877,925 16,050,716
Accounts payable -- affiliates............................ 132,329 248,306 347,203
Accrued liabilities....................................... 1,835,707 23,076,341 6,907,270
Advances from affiliates.................................. 0 2,025,604 1,171,252
Unearned revenue.......................................... 810,091 3,231,232 3,593,068
------------ ------------ ------------
Total current liabilities........................... 5,582,239 37,484,502 28,081,683
NONCURRENT LIABILITIES:
Notes payable............................................. 0 109,150 19,116,496
Accrued interest payable.................................. 0 21,036,541 35,825,088
Unamortized investment tax credits........................ 513,605 441,989 388,277
Deferred income taxes..................................... 560,473 321,658 321,658
Bonds payable, net of discount............................ 0 255,020,209 266,472,157
------------ ------------ ------------
Total liabilities................................... 6,656,317 314,414,049 350,205,359
------------ ------------ ------------
COMMITMENTS AND CONTINGENCIES (NOTE 5)
MINORITY INTEREST........................................... 0 3,267,653 0
------------ ------------ ------------
WARRANTS (NOTE 3)........................................... 0 2,486,960 2,486,960
------------ ------------ ------------
STOCKHOLDERS' EQUITY:
Series A Preferred stock, $.01 par value per share;
75,000,000 shares authorized, 0 shares issued and
outstanding at December 31, 1997 and 1998 and September
30, 1999................................................ 0 0 0
Series B Preferred stock, $.01 par value per share;
50,000,000 shares authorized, 0 shares issued and
outstanding at December 31, 1997 and 1998 and September
30, 1999................................................ 0 0 0
Common stock, $.01 par value per share; 200,000,000 shares
authorized, 60,000 shares issued and outstanding at
December 31, 1997 and 1998 and September 30, 1999....... 600 600 600
Additional paid-in capital................................ 20,358,396 70,259,279 70,259,279
Retained earnings (accumulated deficit)................... 3,181,179 (20,583,483) (63,265,300)
Unrealized gains (losses)................................. 0 2,388 (23,650)
------------ ------------ ------------
Total stockholders' equity.......................... 23,540,175 49,678,784 6,970,929
------------ ------------ ------------
Total liabilities and stockholders' equity.......... $ 30,196,492 $369,847,446 $359,663,248
============ ============ ============
</TABLE>
The accompanying notes are an integral part of these consolidated statements.
F-3
<PAGE> 95
KNOLOGY, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
NINE MONTHS ENDED
YEAR ENDED DECEMBER 31, SEPTEMBER 30,
---------------------------------------- ---------------------------
1996 1997 1998 1998 1999
----------- ----------- ------------ ------------ ------------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
OPERATING REVENUES:
Telephone............................ $17,527,208 $17,633,313 $ 22,318,344 $ 15,970,354 $ 21,236,214
Video................................ 0 0 22,527,403 14,149,220 25,871,947
Internet services and other.......... 0 0 286,775 165,475 1,716,067
----------- ----------- ------------ ------------ ------------
Total operating revenues...... 17,527,208 17,633,313 45,132,522 30,285,049 48,824,228
----------- ----------- ------------ ------------ ------------
OPERATING EXPENSES:
Cost of services..................... 2,991,412 3,121,108 12,739,540 9,010,401 18,573,719
Selling, operations, and
administrative..................... 8,331,795 9,498,461 37,323,345 24,256,479 35,760,116
Depreciation and amortization........ 3,022,056 2,781,800 17,108,034 8,925,933 28,697,148
----------- ----------- ------------ ------------ ------------
Total operating expenses...... 14,345,263 15,401,369 67,170,919 42,192,813 83,030,983
----------- ----------- ------------ ------------ ------------
OPERATING INCOME (LOSS)................ 3,181,945 2,231,944 (22,038,397) (11,907,764) (34,206,755)
----------- ----------- ------------ ------------ ------------
OTHER INCOME (EXPENSE):
Interest income...................... 0 0 9,639,050 8,366,231 1,251,191
Interest expense..................... (9,933) (12,431) (29,033,088) (21,477,687) (24,073,491)
Affiliate interest income (expense),
net................................ 193,495 467,815 (34,115) (25,253) (106,248)
Equity losses in subsidiaries........ (1,052,227) (2,444,706) 0 0 0
Other income (expense), net.......... 488,776 (59,184) 782,954 747,511 174,122
----------- ----------- ------------ ------------ ------------
Total other expense........... (379,889) (2,048,506) (18,645,199) (12,389,198) (22,754,426)
----------- ----------- ------------ ------------ ------------
INCOME (LOSS) BEFORE INCOME TAXES,
MINORITY INTERESTS, AND CUMULATIVE
EFFECT OF CHANGE IN ACCOUNTING
PRINCIPLE............................ 2,802,056 183,438 (40,683,596) (24,296,962) (56,961,181)
MINORITY INTERESTS..................... 0 0 13,294,079 11,292,126 3,267,653
----------- ----------- ------------ ------------ ------------
INCOME (LOSS) BEFORE INCOME TAXES AND
CUMULATIVE EFFECT OF CHANGE IN
ACCOUNTING PRINCIPLE................. 2,802,056 183,438 (27,389,517) (13,004,836) (53,693,528)
INCOME TAX (PROVISION) BENEFIT......... (1,371,865) (1,010,779) 5,631,618 1,704,350 11,011,711
----------- ----------- ------------ ------------ ------------
INCOME (LOSS) BEFORE CUMULATIVE EFFECT
OF CHANGE IN ACCOUNTING PRINCIPLE.... 1,430,191 (827,341) (21,757,899) (11,300,486) (42,681,817)
CUMULATIVE EFFECT OF A CHANGE IN
ACCOUNTING PRINCIPLE (NOTE 2)........ 0 0 (582,541) (582,541) 0
----------- ----------- ------------ ------------ ------------
NET INCOME (LOSS)...................... 1,430,191 (827,341) (22,340,440) (11,883,027) (42,681,817)
SUBSIDIARY PREFERRED STOCK DIVIDENDS... 0 (4,193,276) (1,424,222) (63,907) 0
----------- ----------- ------------ ------------ ------------
NET INCOME (LOSS) ATTRIBUTABLE TO
COMMON STOCKHOLDERS.................. $ 1,430,191 $(5,020,617) $(23,764,662) $(11,946,934) $(42,681,817)
=========== =========== ============ ============ ============
BASIC AND DILUTED NET INCOME (LOSS) PER
SHARE ATTRIBUTABLE TO COMMON
SHAREHOLDERS......................... $ 23.84 $ (83.68) $ (396.08) $ (199.12) $ (711.36)
=========== =========== ============ ============ ============
BASIC AND DILUTED WEIGHTED AVERAGE
NUMBER OF SHARES OUTSTANDING......... 60,000 60,000 60,000 60,000 60,000
=========== =========== ============ ============ ============
</TABLE>
F-4
<PAGE> 96
<TABLE>
<CAPTION>
NINE MONTHS ENDED
YEAR ENDED DECEMBER 31, SEPTEMBER 30,
---------------------------------------- ---------------------------
1996 1997 1998 1998 1999
----------- ----------- ------------ ------------ ------------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
UNAUDITED PRO FORMA DATA (NOTE 2):
Pro forma income tax (provision)
benefit............................ $(1,371,865) $(1,010,779) $ 2,382,644 $ 1,704,350 $ 0
Pro forma net income (loss)
attributable to common
shareholders....................... $ 1,430,191 $(5,020,617) $(27,013,636) $(11,946,934) $(53,693,528)
=========== =========== ============ ============ ============
Pro forma basic and diluted net
income (loss) attributable to
common shareholders................ $ 23.84 $ (83.68) $ (450.23) $ (199.12) $ (894.89)
=========== =========== ============ ============ ============
</TABLE>
The accompanying notes are an integral part of these consolidated statements.
F-5
<PAGE> 97
KNOLOGY, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
AND COMPREHENSIVE INCOME
<TABLE>
<CAPTION>
RETAINED
PREFERRED STOCK COMMON STOCK ADDITIONAL EARNINGS UNREALIZED TOTAL
--------------- --------------- PAID-IN (ACCUMULATED GAINS STOCKHOLDERS'
SHARES AMOUNT SHARES AMOUNT CAPITAL DEFICIT) (LOSSES) EQUITY
------ ------ ------ ------ ----------- ------------ ---------- -------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
BALANCE, December 31, 1995......... 0 $0 60,000 $600 $ 5,174,403 $ 8,168,034 $ 184,854 $ 13,527,891
Comprehensive Loss:
Net income attributable to common
stockholders................... 0 0 0 0 0 1,430,191 0 1,430,191
Unrealized loss on marketable
securities..................... 0 0 0 0 0 0 (184,854) (184,854)
------------
Comprehensive Loss......... 1,245,337
------------
Additional infusion of equity.... 0 0 0 0 874,493 0 0 874,493
------ -- ------ ---- ----------- ------------ --------- ------------
BALANCE, December 31, 1996......... 0 0 60,000 600 6,048,896 9,598,225 0 15,647,721
Comprehensive Loss:
Net loss attributable to common
stockholders................... 0 0 0 0 0 (5,020,617) 0 (5,020,617)
------------
Comprehensive Loss......... (5,020,617)
------------
Acquisition of subsidiary
stock.......................... 0 0 0 0 14,310,000 0 0 14,310,000
Merger of subsidiary out of
consolidated group............. 0 0 0 0 (500) (1,396,429) 0 (1,396,929)
------ -- ------ ---- ----------- ------------ --------- ------------
BALANCE, December 31, 1997......... 0 0 60,000 600 20,358,396 3,181,179 0 23,540,175
Comprehensive Loss:
Net loss attributable to common
stockholders................... 0 0 0 0 0 (23,764,662) 0 (23,764,662)
Unrealized gain on marketable
securities..................... 0 0 0 0 0 0 2,388 2,388
------------
Comprehensive Loss......... (23,762,274)
------------
Issuance of subsidiary common
stock.......................... 0 0 0 0 3,152 0 0 3,152
Acquisition of minority
interests...................... 0 0 0 0 46,864,658 0 0 46,864,658
Additional infusion of equity.... 0 0 0 0 3,033,073 0 0 3,033,073
------ -- ------ ---- ----------- ------------ --------- ------------
BALANCE, December 31, 1998......... 0 0 60,000 600 70,259,279 (20,583,483) 2,388 49,678,784
Comprehensive Loss:
Net loss attributable to common
stockholders................... 0 0 0 0 0 (42,681,817) 0 (42,681,817)
Unrealized loss on marketable
securities..................... 0 0 0 0 0 0 (26,038) (26,038)
------------
Comprehensive Loss......... (42,707,855)
------ -- ------ ---- ----------- ------------ --------- ------------
BALANCE, September 30, 1999
(unaudited)...................... 0 $0 60,000 $600 $70,259,279 $(63,265,300) $ (23,650) $ 6,970,929
====== == ====== ==== =========== ============ ========= ============
</TABLE>
The accompanying notes are an integral part of these consolidated statements.
F-6
<PAGE> 98
KNOLOGY, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
NINE MONTHS ENDED
YEAR ENDED DECEMBER 31, SEPTEMBER 30,
------------------------------------------ ---------------------------
1996 1997 1998 1998 1999
----------- ------------ ------------- ------------ ------------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss).................................. $ 1,430,191 $ (827,341) $ (22,340,440) $(11,883,027) $(42,681,817)
----------- ------------ ------------- ------------ ------------
Adjustments to reconcile net income (loss) to net
cash provided by (used in) operating activities:
Depreciation and amortization.................... 3,022,056 2,781,800 17,108,034 8,925,933 28,697,148
Amortization of bond discount.................... 0 0 13,651,778 9,948,239 11,451,948
Gain (loss) on disposition of assets............. 0 0 71,378 0 (7,809)
Loss on sale of investments...................... (273,725) (13,315) (515,903) (515,903) 0
Cumulative effect of change in accounting
principle...................................... 0 0 582,541 582,541 0
Deferred income taxes............................ 10,231 (764,802) (238,815) 0 0
Amortization of deferred investment tax credit... (71,616) (71,616) (71,616) (53,712) (53,712)
Equity in net loss of subsidiary................. 1,052,227 2,444,706 0 0 0
Minority interest in net loss of subsidiary...... 0 0 (13,294,079) (11,292,126) (3,267,653)
Changes in operating assets and liabilities:
Accounts receivable............................ 487,157 (811,787) (10,292,009) (4,240,850) (2,751,415)
Prepaid expenses............................... (15,772) 5,580 (408,164) (283,697) (716,771)
Accounts payable............................... (2,056,062) 2,111,164 (80,289) (2,457,826) 7,271,688
Accrued liabilities and interest............... 1,373,123 (1,283,101) 37,437,445 20,594,284 (1,380,524)
Unearned revenue............................... 15,155 59,934 1,514,093 301,052 361,836
Other.......................................... (202,235) 48,894 (88,466) (109,869) 7,948
----------- ------------ ------------- ------------ ------------
Total adjustments............................ 3,340,539 4,507,457 45,375,928 21,398,066 39,612,684
----------- ------------ ------------- ------------ ------------
Net cash provided by (used in) operating
activities................................. 4,770,730 3,680,116 23,035,488 9,515,039 (3,069,133)
----------- ------------ ------------- ------------ ------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures............................... (995,320) (1,727,079) (120,227,057) (80,913,266) (64,290,709)
Purchase of investments and acquisitions, net of
cash acquired.................................... 0 (14,310,000) (73,920,617) (73,390,887) 0
Organizational cost expenditures................... 0 0 (251,815) (216,122) (406,535)
Proceeds from sale of investments.................. 797,958 118,711 162,264,322 132,411,488 66,231,397
Dividends from affiliate/return of capital......... 0 (4,193,276) (1,424,222) (63,907) 0
Accounts payable-capital related................... 0 (2,112,296) 0 0 0
Investment in ClearSource, Inc..................... 0 0 (825,072) (825,072) (586,992)
Proceeds from sale of property..................... 0 0 32,075 0 74,632
Other.............................................. 0 0 (234,417) 0 0
----------- ------------ ------------- ------------ ------------
Net cash (used in) provided by investing
activities................................. (197,362) (22,223,940) (34,586,803) (22,997,766) 1,021,793
----------- ------------ ------------- ------------ ------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Principal payments on debt and short-term
borrowings....................................... (911,326) 0 (11,654) (8,169) (5,574)
Expenditures related to issuance of debt and credit
facility......................................... 0 0 (1,498,817) (286,599) (51,531)
Proceeds from credit facility...................... 0 0 0 0 19,000,000
Proceeds from the issuance of subsidiary common
stock............................................ 0 0 3,152 3,152 0
Additional infusion of equity...................... 874,493 14,310,000 15,564,902 14,632,113 0
(Advances to) repayments from affiliate............ (4,420,343) 4,416,407 2,025,604 836,207 (854,352)
----------- ------------ ------------- ------------ ------------
Net cash (used in) provided by financing
activities................................. (4,457,176) 18,726,407 16,083,187 15,176,704 18,088,543
----------- ------------ ------------- ------------ ------------
NET INCREASE (DECREASE) IN CASH AND CASH
EQUIVALENTS........................................ 116,192 182,583 4,531,872 1,693,977 16,041,203
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD.... 328,127 444,319 626,902 626,902 5,158,774
----------- ------------ ------------- ------------ ------------
CASH AND CASH EQUIVALENTS AT END OF PERIOD.......... $ 444,319 $ 626,902 $ 5,158,774 $ 2,320,879 $ 21,199,977
=========== ============ ============= ============ ============
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid during the period for interest........... $ 9,933 $ 12,431 $ 46,162 $ 12,761 $ 5,471
=========== ============ ============= ============ ============
Cash paid during the period for income taxes....... $ 167,038 $ 1,145,805 $ 1,742,947 $ 0 $ 0
=========== ============ ============= ============ ============
Merger of subsidiary out of consolidated group..... $ 0 $ 108,108 $ 0 $ 0 $ 0
=========== ============ ============= ============ ============
Subsidiary preferred stock dividends............... $ 0 $ 4,193,276 $ 1,424,222 $ 63,907 $ 0
=========== ============ ============= ============ ============
Detail of investments and acquisitions:
Cash acquired.................................... $ 0 $ 0 $ (6,144,581) $ (6,144,581) $ 0
Property, plant, and equipment................... 0 0 30,133,876 30,133,876 0
Intangible assets................................ 0 0 55,009,395 54,479,665 0
Minority interest................................ 0 0 20,912,251 20,912,251 0
Common and/or Preferred Stock received
(issued)....................................... 0 14,310,000 (34,532,324) (34,532,324) 0
Bond discount.................................... 0 0 8,542,000 8,542,000 0
----------- ------------ ------------- ------------ ------------
Net cash paid for acquisitions................... $ 0 $ 14,310,000 $ 73,920,617 $ 73,390,887 $ 0
=========== ============ ============= ============ ============
</TABLE>
The accompanying notes are an integral part of these consolidated statements.
F-7
<PAGE> 99
KNOLOGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1996, 1997, AND 1998
1. ORGANIZATION, NATURE OF BUSINESS, AND BASIS OF PRESENTATION
ORGANIZATION
KNOLOGY, Inc. (the "Company"), a wholly owned subsidiary of ITC Holding
Company, Inc. ("ITC Holding") was incorporated under the laws of the State of
Delaware in September 1998. The purpose of incorporating the Company was to
enable ITC Holding to complete a reorganization of certain of its wholly owned
and majority owned subsidiaries on November 23, 1999 (the "Reorganization"), as
follows:
a. ITC Holding contributed all of the outstanding capital stock of
Interstate Telephone, Inc; Valley Telephone, Inc.; Globe Telecom, Inc.; and
ITC Globe, Inc. to the Company (collectively, "Telephone Operations
Group").
b. ITC Holding contributed its 85% interest in KNOLOGY Holdings, Inc.
("KNOLOGY Holdings") to the Company.
c. ITC Holding contributed its 6% interest in ClearSource, Inc.
("ClearSource"); $5.7 million in cash to purchase additional ClearSource
shares, and subscription rights to purchase ClearSource shares to the
Company.
d. Other minority shareholders exchanged the remaining 15% of KNOLOGY
Holdings for shares of stock of the Company.
As a result of the Reorganization, the Telephone Operations Group and
KNOLOGY Holdings and subsidiaries are now wholly owned subsidiaries of the
Company. Following the Reorganization, ITC Holding holds a 90% interest in the
Company. ITC Holding will not own any capital stock of the Company following the
proposed distribution of the Company's shares to ITC Holding's shareholders
(Note 11).
The Reorganization has been accounted for in a manner similar to a pooling
of interest for the Telephone Operations Group. KNOLOGY Holdings and
subsidiaries have been treated as an equity investment in subsidiary in 1996 and
1997 in relation to the Company's 24% and 29% ownership interest, respectively.
KNOLOGY Holdings and subsidiaries have been consolidated with the Company in
1998 in relation to the 85% controlling interest obtained in July 1998 (Note 9)
which was recorded at ITC Holding's historical cost.
NATURE OF BUSINESS
The Telephone Operations Group is wholly owned and provides a full line of
local telephone and related services and broadband services. Certain of the
Telephone Operations Group subsidiaries are subject to regulation, by state
public service commissions of applicable states, for intrastate
telecommunications services. For applicable interstate matters related to
telephone service, certain Telephone Operations Group subsidiaries are subject
to regulation by the Federal Communications Commission.
KNOLOGY Holdings and its subsidiaries own and operate advanced hybrid
fiber-coaxial networks and provide residential and business customers broadband
communications services, including analog and digital cable television, local
and long-distance telephone, high-speed Internet access, and broadband carrier
services to various markets in the southeastern United States.
The Company has experienced operating losses as a result of the expansion
of the advanced broadband communications networks and services into new and
existing markets. The Company expects to continue to focus on increasing its
customer base and expanding its broadband operations. Accordingly, the Company
expects that its operating expenses and capital expenditures will continue to
increase as it
F-8
<PAGE> 100
KNOLOGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
extends its broadband communications networks in the existing and new markets in
accordance with its business plan. On December 22, 1998, KNOLOGY Holdings
entered into a $50 million four-year senior secured credit facility, which may
be used for working capital and other purposes, including capital expenditures
and permitted acquisitions (Note 3). The Company also plans to complete a
private placement of Series B preferred stock to a small group of institutional
investors to provide additional funds for its expansion plans (Note 11). While
management expects its expansion plans will result in profitability, there can
be no assurance that growth in the Company's revenue or customer base will
continue or that the Company will be able to achieve or sustain profitability
and/or positive cash flow.
BASIS OF PRESENTATION
The consolidated financial statements are prepared on the accrual basis of
accounting and include the accounts of the Company and its wholly owned and
majority-owned subsidiaries. Investments in which the Company does not exercise
significant control are accounted for using the cost method of accounting.
Investments in which the Company does exercise significant control and owns less
than 50% are accounted for using the equity method. All significant intercompany
balances have been eliminated.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
ACCOUNTING ESTIMATES
The preparation of financial statements, in conformity with generally
accepted accounting principles, requires management to make estimates and
assumptions that affect the reported amount 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.
UNAUDITED PRO FORMA NET INCOME (LOSS) AND NET INCOME (LOSS) PER SHARE
Following the proposed distribution (Note 11), the Company will become a
separate taxable entity. Accordingly, the pro forma income taxes reflect income
taxes as if the Company were a separate taxable entity. In addition, the pro
forma earnings per share reflect the proposed distribution as if it had occurred
at the beginning of each period.
CASH AND CASH EQUIVALENTS
The Company considers all short-term, highly liquid investments with an
original maturity date of three months or less to be cash equivalents. Cash and
cash equivalents are stated at cost, which approximates fair value.
MARKETABLE SECURITIES
The Company's marketable securities are categorized as available-for-sale
securities, as defined by Statement of Financial Accounting Standards ("SFAS")
No. 115, "Accounting for Certain Investments in Debt and Equity Securities."
Unrealized holding gains and losses are reflected as a net amount in a separate
component of stockholders' equity until realized. For the purpose of computing
realized gains and losses, cost is identified on a specific identification
basis. Securities available for sale at December 31, 1998 are primarily
comprised of commercial paper.
F-9
<PAGE> 101
KNOLOGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
PROPERTY, PLANT, AND EQUIPMENT
Property, plant, and equipment are stated at cost. Depreciation and
amortization are calculated using the straight-line method over the estimated
useful lives of the assets, commencing when the asset is installed or placed in
service. Maintenance, repairs, and renewals are charged to expense as incurred.
The cost and accumulated depreciation of property and equipment disposed of are
removed from the related accounts, and any gain or loss is included in or
deducted from income. Depreciation and amortization (excluding telephone plant)
are provided over the estimated useful lives as follows:
<TABLE>
<CAPTION>
YEARS
-----
<S> <C>
Buildings................................................... 25
System and installation equipment........................... 7-10
Production equipment........................................ 7
Test and office equipment................................... 3-7
Automobiles and trucks...................................... 5
Leasehold improvements...................................... 5
</TABLE>
Depreciation of telephone plant is provided on a straight-line method,
using class or overall group rates acceptable to regulatory authorities. Such
rates range from 2% to 24%.
Inventories are valued at the lower of cost or market (determined on a
weighted average basis) and include customer premise equipment and certain plant
construction materials. These items are transferred to system and installation
equipment when installed.
Interest is capitalized in connection with the construction of the
Company's broadband networks. The capitalized interest is recorded as part of
the asset to which it relates and is amortized over the asset's estimated useful
life. In 1998, approximately $2,469,000 of interest costs was capitalized.
For the nine months ended September 30, 1998 and 1999, approximately
$1,493,000 and $2,404,000, respectively of interest costs were capitalized
(unaudited).
INTANGIBLE ASSETS
Intangible assets include the excess of the purchase price of acquisitions
over the fair value of net assets acquired as well as various other acquired
intangibles and costs associated with the issuance of debt and the consummation
of a credit facility. Intangible assets and the related useful lives and
accumulated amortization at December 31, 1998 are as follows:
<TABLE>
<CAPTION>
AMORTIZATION
PERIOD
1998 (YEARS)
----------- ------------
<S> <C> <C>
Goodwill.................................................... $28,325,241 10-40
Subscriber base............................................. 34,863,072 3
Debt issuance costs (Note 3)................................ 9,382,124 4-10
Noncompete agreement........................................ 1,500,000 3
Other....................................................... 102,979 10-15
-----------
74,173,416
Less accumulated amortization............................... 5,080,793
-----------
Intangibles, net............................................ $69,092,623
===========
</TABLE>
During 1998, the Company adopted the provisions of AICPA Statement of
Position 98-5, "Reporting on the Costs of Start-Up Activities," which requires
that all nongovernmental entities expense costs of
F-10
<PAGE> 102
KNOLOGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
start-up activities, including pre-operating, preopening, and organization
activities, as the costs are incurred. Adoption of this statement resulted in a
cumulative effect of accounting change of $582,541.
LONG-LIVED ASSETS
In 1995, the Company adopted SFAS No. 121, "Accounting for the Impairment
of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of." SFAS No. 121
established accounting standards for the impairment of long-lived assets,
certain identifiable intangibles, and cost in excess of net assets acquired
related to those assets to be held and used and for long-lived assets and
certain identifiable intangibles to be disposed of. The effect of adopting SFAS
No. 121 was not material to the Company's consolidated financial statements.
The Company reviews its long-lived assets such as property and equipment,
goodwill, and other intangible assets for impairment at each balance sheet date
or whenever events or changes in circumstances indicate that the carrying amount
of an asset should be assessed. Management evaluates the tangible and intangible
assets related to each acquisition individually to determine whether an
impairment has occurred. An impairment is recognized when the undiscounted
future cash flows estimated to be generated by the assets are not sufficient to
recover the unamortized balance of the asset. Estimates of future cash flows are
based on many factors, including current operating results, expected market
trends, and competitive influences. If an impairment has occurred, a loss equal
to the difference between the carrying value of the asset and its fair value is
recognized. The resulting reduced carrying amount of the asset is accounted for
as its new cost and depreciated over the asset's remaining useful life.
Management believes that the long-lived assets in the accompanying consolidated
balance sheets are appropriately valued.
INVESTMENTS
Investments and equity ownership in associated companies consisted of the
following at December 31, 1997 and 1998:
<TABLE>
<CAPTION>
1997 1998
----------- -----------
<S> <C> <C>
Equity ownership in associated companies:
KNOLOGY Holdings preferred stock, 14,267 shares in 1997... $14,184,734 $ 0
Nonmarketable investments, at cost:
ClearSource, Inc. common and preferred stock, 0 and
333,444 shares in 1997 and 1998, respectively.......... 0 825,072
Other nonmarketable investments........................... 98,893 0
----------- -----------
$14,283,627 $ 825,072
=========== ===========
</TABLE>
At December 31, 1998, KNOLOGY Holdings, Inc. owned approximately 11% of
ClearSource, Inc. ("ClearSource"). ClearSource was formed during 1998 to build
and operate advanced broadband networks offering a bundle of communications
services to residential and business customers. The Company's investment in
ClearSource is accounted for under the cost method of accounting.
As of December 31, 1997 and 1998, the Company owned approximately 29% and
85%, respectively, of KNOLOGY Holdings. The Company's ownership interest in
KNOLOGY Holdings was accounted for using the equity method during 1997. The
Company's equity in KNOLOGY Holdings' losses included in the accompanying
statements of operations was $1,052,227 and $2,444,706 for the years ended
December 31, 1996 and 1997, respectively. KNOLOGY Holdings' results of
operations and its cash flows are included in the accompanying financial
statements for the year ended December 31, 1998.
F-11
<PAGE> 103
KNOLOGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The following summarizes the assets, liabilities and equity as of December
31, 1997 and the results of operations for the years ended December 31, 1996 and
1997 of associated companies in which the Company's investments were accounted
for by the equity method.
<TABLE>
<CAPTION>
1997
------------
<S> <C>
ASSETS:
Current assets............................................ $235,670,423
Property and other noncurrent assets...................... 80,527,677
------------
Total assets...................................... $316,198,100
============
LIABILITIES AND EQUITY:
Current liabilities....................................... $ 8,840,263
Noncurrent liabilities.................................... 253,232,923
Warrants.................................................. 2,486,960
Equity.................................................... 51,637,954
------------
Total liabilities and equity...................... $316,198,100
============
</TABLE>
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-------------------------
1996 1997
----------- -----------
<S> <C> <C>
RESULTS OF OPERATIONS:
Operating revenues........................................ $ 5,334,183 $10,355,068
Operating loss............................................ (2,703,273) (5,511,386)
Net loss.......................................... (3,125,428) (9,091,533)
</TABLE>
REVENUE RECOGNITION
The Company's revenues are recognized when services are provided,
regardless of the period in which they are billed. Fees billed in advance are
included in the accompanying balance sheets as unearned revenue and are deferred
until the month the service is provided.
ADVERTISING COSTS
The Company expenses all advertising costs as incurred. Approximately
$1,000, $9,000, and $587,000 of advertising expense are recorded in the
Company's statements of operations for the years ended December 31, 1996, 1997,
and 1998, respectively.
Approximately $405,000 and $1,144,000 of advertising expense are recorded
in the Company's statements of operations for the nine months ended September
30, 1998 and 1999, respectively (unaudited).
INSTALLATION FEES
The Company recognizes installation revenue when the customer is initially
billed for the connection of services.
SOURCES OF SUPPLIES
The Company purchases customer premise equipment and plant materials from
outside vendors. Although numerous suppliers market and sell customer premise
equipment and plant materials, the Company currently purchases each customer
premise component from a single vendor and has several suppliers for plant
materials. If the suppliers are unable to meet the Company's needs as it
continues to
F-12
<PAGE> 104
KNOLOGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
build out its network infrastructure, then delays and increased costs in the
expansion of the Company's network could result, which would adversely affect
operating results.
CREDIT RISK
The Company's accounts receivable potentially subject the Company to credit
risk, as collateral is generally not required. The Company's risk of loss is
limited due to advance billings to customers for services and the ability to
terminate access on delinquent accounts. The potential for material credit loss
is mitigated by the large number of customers with relatively small receivable
balances. The carrying amount of the Company's receivables approximates their
fair values.
INCOME TAXES
The Company utilizes the liability method of accounting for income taxes,
as set forth in SFAS No. 109, "Accounting for Income Taxes." Under the liability
method, deferred taxes are determined based on the difference between the
financial and tax bases of assets and liabilities using enacted tax rates in
effect in the years in which the differences are expected to reverse. Deferred
tax benefit represents the change in the deferred tax asset and liability
balances (Note 6).
For the years ended December 31, 1997 and 1998, the Telephone Operations
Groups was included in the consolidated tax returns of the Company's parent
company, ITC Holding. Effective August 1998, KNOLOGY Holdings was included in
the consolidated federal income tax return of ITC Holding. The Company and its
subsidiaries file separate state income tax returns. Under a tax sharing
arrangement, the Company recorded an income tax benefit of $5,631,618 and an
affiliate receivable in the amount of $6,785,691 at December 31, 1998 for the
utilization of net operating losses included in the consolidated tax return of
ITC Holding. For the period from January 1, 1998 to July 31, 1998, KNOLOGY
Holdings filed a separate federal income tax return.
Investment tax credits related to telephone plant have been deferred and
are being amortized as a reduction of federal income tax expense over the
estimated useful lives of the assets giving rise to the credits.
COMPREHENSIVE INCOME
In 1998, the Company adopted SFAS No. 130, "Reporting Comprehensive
Income." This statement establishes standards for reporting and display of
comprehensive income and its components in a full set of general purpose
financial statements. The Company has chosen to disclose comprehensive income,
which consists of net income and unrealized appreciation, in the statements of
stockholders' equity. Prior years have been restated to conform to the SFAS No.
130 requirements.
NET INCOME (LOSS) PER SHARE
In 1997, the Company adopted SFAS No. 128, "Earnings Per Share." That
statement requires the disclosure of basic net income (loss) per share and
diluted net income (loss) per share. Basic net income (loss) per share is
computed by dividing net income (loss) available to common shareholders by the
weighted-average number of common shares outstanding during the period. Diluted
net loss per share gives effect to all potentially dilutive securities. The
Company did not have any potentially dilutive securities during the periods
presented.
F-13
<PAGE> 105
KNOLOGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
3. LONG-TERM DEBT
Long-term debt at December 31, 1998 consists of the following:
<TABLE>
<CAPTION>
1998
------------
<S> <C>
Senior Discount Notes, with a face value of $444,100,000,
bearing interest at 11.875% beginning October 15, 2002,
payable semiannually beginning
April 15, 2003 with principal and any unpaid interest due
October 15, 2007............................................ $255,020,209
Capitalized lease obligation, at a rate of 10%, payable in
quarterly installments of $6,304 through December 2006,
secured................................................... 134,244
------------
255,154,453
Less current maturities..................................... 25,094
------------
$255,129,359
============
</TABLE>
Following are maturities of long-term debt for each of the next five years
as of December 31, 1998:
<TABLE>
<S> <C>
1999........................................................ $ 25,094
2000........................................................ 13,438
2001........................................................ 14,833
2002........................................................ 16,374
2003........................................................ 18,074
Thereafter.................................................. 444,146,431
------------
Total............................................. $444,234,244
============
</TABLE>
The fair values of long-term debt, including current maturities, at
December 31, 1998 are estimated to be approximately $280,804,000, based on a
valuation technique that considers cash flows discounted at current rates.
On December 22, 1998, KNOLOGY Holdings entered into a $50 million four-year
senior secured credit facility with First Union National Bank and First Union
Capital Markets Corp., which may be used for working capital and other purposes,
including capital expenditures and permitted acquisitions. At KNOLOGY Holdings'
option, interest will accrue based on either the Alternate Base Rate plus
applicable margin or the LIBOR rate plus applicable margin. Obligations under
the credit facility will be secured by substantially all tangible and intangible
assets of KNOLOGY Holdings and its current and future subsidiaries. The credit
facility includes a number of covenants, including, among others, covenants
limiting the ability of KNOLOGY Holdings and its subsidiaries and their present
and future subsidiaries to incur debt, create liens, pay dividends, make
distributions or stock repurchases, make certain investments, engage in
transactions with affiliates, sell assets, and engage in certain mergers and
acquisitions. The credit facility also includes covenants requiring compliance
with certain operating and financial ratios on a consolidated basis. The credit
facility allows KNOLOGY Holdings to borrow up to five times certain individual
subsidiary's "consolidated adjusted cash flow" as defined in the credit
facility. In connection with the initiation of the revolving credit facility,
KNOLOGY Holdings incurred approximately $1,256,000 in related costs which are
being amortized on a straight-line basis over the five year term.
In the fourth quarter of 1997, KNOLOGY Holdings issued units consisting of
senior discount notes due 2007 and warrants to purchase Preferred Stock for
gross proceeds of approximately $250 million. The notes were offered at a
substantial discount from face value, with no interest payable for the first
five years. Approximately $2.5 million of the gross proceeds has been allocated
to the warrants. Each warrant allows the holder to purchase .003734 shares of
KNOLOGY Holdings' preferred stock. KNOLOGY
F-14
<PAGE> 106
KNOLOGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Holdings incurred approximately $7.9 million in costs to issue the senior
discount notes. These costs are being amortized at an effective rate over the
life of the notes. The indenture relating to the notes contains certain
covenants that, among other things, limit the ability of KNOLOGY Holdings to
incur indebtedness, pay dividends, prepay subordinated indebtedness, repurchase
capital stock, make investments, engage in transactions with stockholders and
affiliates, create liens, sell assets, and engage in mergers and consolidations.
The proceeds from the offering of the units have been, and will be, used to
repay certain indebtedness of KNOLOGY Holdings, to fund expansion of KNOLOGY
Holdings' business, and for additional working capital and general corporate
purposes.
4. OPERATING LEASES
The Company leases office space, utility poles, and other assets for
varying periods. Leases that expire are generally expected to be renewed or
replaced by other leases.
Future minimum rental payments required under the operating leases that
have initial or remaining noncancelable lease terms in excess of one year as of
December 31, 1998 are as follows:
<TABLE>
<S> <C>
1999........................................................ $293,493
2000........................................................ 198,888
2001........................................................ 166,181
2002........................................................ 155,199
2003 and thereafter......................................... 125,575
--------
Total minimum lease payments...................... $939,336
========
</TABLE>
Total rental expense for all operating leases was approximately $0, $0 and
$435,000 for the years ended December 31, 1996, 1997, and 1998, respectively.
Total rental expense for all operating leases was approximately $260,000
and $407,000 for the nine months ended September 30, 1998 and 1999 (unaudited).
5. COMMITMENTS AND CONTINGENCIES
PURCHASE COMMITMENTS
The Company has entered into contracts with various entities to provide
programming to be aired by KNOLOGY Holdings. The Company pays a monthly fee as
cost for the programming services, generally based on the number of average
subscribers to the program, although some fees are adjusted based on the total
number of subscribers to the system and/or the system penetration percentage.
Certain contracts have minimum monthly fees. The Company estimates that it will
pay approximately $6.5 million in programming fees under these contracts during
1999.
LEGAL PROCEEDINGS
In the normal course of business, the Company is subject to various
litigation; however, in management's opinion, there are no legal proceedings
pending against the Company which would have a material adverse effect on the
financial position, results of operations, or liquidity of the Company.
F-15
<PAGE> 107
KNOLOGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
6. INCOME TAXES
The (provision) benefit for income taxes from continuing operations
consisted of the following for the years ended December 31, 1996, 1997 and 1998:
<TABLE>
<CAPTION>
1996 1997 1998
----------- ----------- ------------
<S> <C> <C> <C>
Current........................................ $(1,361,634) $(1,775,581) $ 5,392,803
Deferred....................................... 347,527 1,596,002 10,662,185
Increase in valuation allowance................ (357,758) (831,200) (10,423,370)
----------- ----------- ------------
Income tax provision (benefit)................. $(1,371,865) $(1,010,779) $ 5,631,618
=========== =========== ============
</TABLE>
Deferred income taxes reflect the net tax effect of temporary
differences between the carrying amount of assets and liabilities for
financial reporting purposes and the amounts used for income tax purposes.
The significant components of deferred tax assets and liabilities as of
December 31, 1997 and 1998 are as follows (in thousands):
<TABLE>
<CAPTION>
1997 1998
----------- ------------
<S> <C> <C>
Deferred tax assets:
Net operating loss carryforwards......................... $ 0 $ 8,923,583
Equity in losses of subsidiaries......................... 1,188,958 1,188,958
Deferred charges......................................... 170,704 0
Deferred bond interest................................... 0 12,919,184
Deferred revenues........................................ 426,910 190,918
Other.................................................... 85,978 1,841,404
Valuation allowance...................................... (1,188,958) (15,777,328)
----------- ------------
Total deferred tax assets........................ 683,592 9,286,719
Deferred tax liabilities:
Depreciation and amortization............................ 1,244,065 9,608,377
----------- ------------
Net deferred income taxes.................................. $ 560,473 $ 321,658
=========== ============
</TABLE>
At December 31, 1997 the Company had deferred tax assets related to equity
losses of subsidiaries. Management has recorded a 100% valuation allowance in
1997 against these deferred tax assets, as the Company has determined it is more
likely than not that the deferred tax assets will not be realized. The Company
has available, at December 31, 1998, unused net operating loss carryforwards of
approximately $23,657,000, expiring in various years from 2005 to 2013, unless
utilized. Management has recorded a total valuation allowance of $15,777,328 in
1998 on these operating loss carryforwards, the majority of which contain
limitations on utilization, and the equity losses of subsidiaries.
A reconciliation of the income tax provision computed at statutory tax
rates to the income tax provision for the years ended December 31, 1996, 1997,
and 1998 is as follows:
<TABLE>
<CAPTION>
1996 1997 1998
---- ---- ----
<S> <C> <C> <C>
Income tax (provision) benefit at statutory rate............ (34)% (34)% 34%
State income taxes, net of federal benefit.................. (4) (4) 4
Other....................................................... 2 (60) 1
Increase in valuation allowance............................. (13) (453) (25)
--- ---- ---
(49)% (551)% 14%
=== ==== ===
</TABLE>
F-16
<PAGE> 108
KNOLOGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
7. EQUITY INTERESTS
CAPITAL TRANSACTIONS
The Company has authorized 200,000,000 shares of $.01 par value common
stock, 75,000,000 shares of $.01 par value Series A convertible preferred stock,
and 50,000,000 shares of $.01 par value Series B convertible preferred stock.
KNOLOGY HOLDINGS' STOCK OPTION PLAN
Under KNOLOGY Holdings' 1995 stock option plan (the "Stock Option Plan"),
as adopted in December 1995 and amended in February 1998, 700,000 shares of
KNOLOGY Holdings' common stock are reserved and authorized for issuance upon the
exercise of the options. All employees of KNOLOGY Holdings are eligible to
receive options under the Stock Option Plan. The Stock Option Plan is
administered by the compensation and stock option committee of the board of
directors. Options granted under the Stock Option Plan are intended to qualify
as "incentive stock options" under Section 422 of the Internal Revenue Code of
1986, as amended. All options were granted at an exercise price equal to the
estimated fair value of the common stock at the dates of grant as determined by
the board of directors based on equity transactions and other analyses. The
options expire ten years from the date of grant.
STATEMENT OF FINANCIAL ACCOUNTING STANDARDS NO. 123
During 1995, the Financial Accounting Standards Board issued SFAS No. 123,
"Accounting for Stock-Based Compensation," which defines a fair value-based
method of accounting for an employee stock option or similar equity instrument
and encourages all entities to adopt that method of accounting for all of their
employee stock compensation plans. However, it also allows an entity to continue
to measure compensation cost for those plans using the method of accounting
prescribed by Accounting Principles Board ("APB") Opinion No. 25, "Accounting
for Stock Issued to Employees." Entities electing to remain with the accounting
methodology required by APB Opinion No. 25 must make pro forma disclosures of
net income and, if presented, earnings per share as if the fair value-based
method of accounting defined in SFAS No. 123 had been applied.
The Company accounts for KNOLOGY Holdings' stock-based compensation plans
under APB Opinion No. 25, under which no compensation cost has been recognized
by the Company. However, the Company has computed, for pro forma disclosure
purposes, the value of all options for shares of KNOLOGY Holdings' common stock
to employees of KNOLOGY Holdings using the Black-Scholes option pricing model
and the following weighted average assumptions in 1996, 1997, and 1998:
<TABLE>
<CAPTION>
1996 1997 1998
----------- ----------- -----------
<S> <C> <C> <C>
Risk-free interest rate......................... 6.31% 6.43% 5.42%
Expected dividend yield......................... 0% 0% 0%
Expected lives.................................. Seven years Seven years Seven years
Expected volatility............................. 30% 30% 30%
</TABLE>
F-17
<PAGE> 109
KNOLOGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The weighted average fair value of options granted was $8.00, $8.44, and
$10.21 for 1996, 1997, and 1998, respectively. The total value of options for
KNOLOGY Holdings' stock granted to employees of KNOLOGY Holdings during 1996,
1997, and 1998 was computed as approximately $154,000, $304,000, and $1,832,000,
respectively, which would be amortized on a pro forma basis over the five-year
vesting period of the options. If the Company had accounted for these plans in
accordance with SFAS No. 123, the Company's net income (loss) for the periods
presented would be as follows:
<TABLE>
<CAPTION>
AS
REPORTED PRO FORMA
------------ ------------
<S> <C> <C>
Net income (loss) attributable to common stockholders for
the years ended December 31:
1996.................................................... $ 1,430,191 $ 1,140,468
1997.................................................... (5,020,617) (5,117,946)
1998.................................................... (23,764,662) (23,795,151)
Earnings (loss) per share attributable to common
stockholders for the years ended December 31:
1996.................................................... 23.84 19.01
1997.................................................... (83.68) (85.30)
1998.................................................... (396.08) (396.59)
</TABLE>
A summary of the status of KNOLOGY Holdings' stock option plan at December
31, 1998 is presented in the following table:
<TABLE>
<CAPTION>
WEIGHTED
AVERAGE
EXERCISE
PRICE PER
SHARES SHARE
------- ---------
<S> <C> <C>
Outstanding at December 31, 1996:........................... 52,797 8.00
Granted................................................... 126,384 8.44
Forfeited................................................. (15,939) 8.00
-------
Outstanding at December 31, 1997:........................... 163,242 8.34
Granted................................................... 565,376 10.18
Forfeited................................................. (36,056) 9.52
Exercised................................................. (394) 8.00
-------
Outstanding at December 31, 1998............................ 692,168
=======
Exercisable shares as of December 31:
1996...................................................... 0 $ 0.00
=======
1997...................................................... 6,606 8.00
=======
1998...................................................... 30,006 8.00
=======
</TABLE>
TELEPHONE OPERATIONS GROUP STOCK OPTION PLAN
The Company's parent, ITC Holding, sponsors a stock option plan which
provides for the granting of stock options to substantially all employees of the
Telephone Operations Group. Options are generally granted at a price
(established by ITC Holding's board of directors based on equity transactions
and other analyses) equal to at least 100% of the fair market value of ITC
Holding's common stock on the option grant date. Options granted generally
become exercisable 40% after two years and 20% per annum for the next three
years and remain exercisable for ten years after the option grant date.
F-18
<PAGE> 110
KNOLOGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
STATEMENT OF FINANCIAL ACCOUNTING STANDARDS NO. 123
ITC Holding accounts for its stock-based compensation plans under APB
Opinion No. 25, under which no compensation cost has been recognized by the
Company. However, the Company has computed, for pro forma disclosure purposes,
the value of all options for shares of ITC Holding's common stock granted to
employees of the Telephone Operations Group using the Black-Scholes option
pricing model prescribed by SFAS No. 123 and the following weighted average
assumptions:
<TABLE>
<CAPTION>
1996 1997 1998
--------- --------- ---------
<S> <C> <C> <C>
Risk-free interest rate..................................... 6.3% 6.0% 5.3%
Expected dividend yield..................................... 0% 0% 0%
Expected lives.............................................. Ten years Ten years Ten years
Expected volatility......................................... 50% 60% 50%
</TABLE>
The weighted average fair value of options granted was $4.91, $4.54, and
$9.58 for 1996, 1997, and 1998, respectively. The total value of options for ITC
Holding's stock granted to employees of the Telephone Operations Group during
1996, 1997, and 1998 was computed as approximately $407,000, $2,427,000, and
$382,000, respectively, which would be amortized on a pro forma basis over the
five-year vesting period of the options. If the Company had accounted for these
plans in accordance with SFAS No. 123, the Company's net income (loss) for the
periods presented would be as follows:
<TABLE>
<CAPTION>
AS
REPORTED PRO FORMA
------------ ------------
<S> <C> <C>
Net income (loss) attributable to common shareholders for
the years ended December 31:
1996...................................................... $ 1,430,191 1,216,808
1997...................................................... (5,020,617) (7,015,805)
1998...................................................... (23,764,662) (24,134,245)
Earnings (loss) per share attributable to common
stockholders for the years ended December 31:
1996...................................................... $ 23.84 $ 21.59
1997...................................................... (83.68) (107.16)
1998...................................................... (396.08) (402.24)
</TABLE>
A summary of the status of the Telephone Operations Group's portion of ITC
Holding's stock option plan at December 31, 1998 is presented in the following
table:
<TABLE>
<CAPTION>
WEIGHTED
AVERAGE
EXERCISE
PRICE PER
SHARES SHARE
-------- ------------
<S> <C> <C>
Outstanding at December 31, 1996:........................... 479,756 $ 0.15-$3.36
Granted................................................... 188,732 $ 3.36-$7.75
Forfeited................................................. (33,800) $ 0.49-$7.75
Exercised................................................. (31,000) $ 0.28-$2.73
--------
Outstanding at December 31, 1997:........................... 603,688 $ 0.15-$7.75
Granted................................................... 86,968 $8.38-$12.50
Forfeited................................................. (93,172) $1.26-$12.50
Exercised................................................. (149,372) $ 0.28-$3.36
--------
Outstanding at December 31, 1998............................ 448,112 $0.15-$12.50
========
</TABLE>
F-19
<PAGE> 111
KNOLOGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The following table sets forth the exercise price range, number of shares,
weighted average exercise price and remaining contractual lives by groups of
similar price and grant date:
<TABLE>
<CAPTION>
WEIGHTED
SHARES AVERAGE
EXERCISABLE AT WEIGHTED REMAINING
EXERCISE PRICE DECEMBER 31, AVERAGE CONTRACTUAL
RANGE 1998 PRICE LIFE(YEARS)
-------------- -------------- -------- -----------
<S> <C> <C> <C> <C>
$ 1.58-$2.21 145,154 1.70 5.45
$ 2.73-$4.01 21,472 2.73 7.20
</TABLE>
TELEPHONE OPERATIONS GROUP SAVINGS PLAN
The Telephone Operations Group has a savings plan (the "Savings Plan") that
qualifies as a deferred salary arrangement under Section 401(k) of the Internal
Revenue Code. Under the Savings Plan, participating employees may defer a
portion of their pretax earnings, up to the Internal Revenue Service annual
contribution limit. Annually, the Telephone Operations Group determines whether
to make a discretionary matching contribution equal to a percentage, determined
by the Telephone Operations Group, of the employee's deferred compensation
contribution. Employer contributions to the Savings Plan of approximately
$118,000, $96,000, and $125,000 were made for the years ended December 31, 1996,
1997, and 1998, respectively.
8. RELATED-PARTY TRANSACTIONS
ITC Holding occasionally provides certain administrative services, such as
legal and tax planning services, for the Company. The costs of these services
are charged to the Company based primarily on the salaries and related expenses
for certain of the ITC Holding executives and an estimate of their time spent on
projects specific to the Company. For the years ended December 31, 1996, 1997,
and 1998, the Company recorded approximately $1,547,000, $3,459,000, and
$3,230,000, respectively, in selling, operations, and administrative expenses
related to these services. In the opinion of management, amounts charged to the
Company are consistent with costs that would be incurred from third party
providers.
Certain of ITC Holding's affiliates provide the Company with various
services and/or receive services provided by the Company. These entities include
InterCall, Inc., which provides conference calling services. In addition, we
receive services from ITCODeltaCom, Inc., an affiliate of ITC Holding which
provides wholesale long-distance and related services and which leases capacity
on certain of its fiber routes. ITC Holding also holds equity investments in the
following entities which do business with the Company: Powertel, Inc., which
provides cellular services, and MindSpring Enterprises, Inc., which is a
national provider of Internet access. In management's opinion, the Company's
transactions with these affiliated entities are representative of arm's-length
transactions.
For the years ended December 31, 1996, 1997, and 1998, the Company received
services from these affiliated entities in the amounts of approximately
$620,000, $707,000, and $1,570,000, respectively, which are reflected in cost of
services and selling, operations, and administrative expenses in the Company's
statements of operations.
The Company also provides switching, programming, and other services for
various affiliated companies on a contracted or time and materials basis. Total
amounts paid by the affiliated companies for these services approximated
$1,616,000, $1,517,000, and $2,186,000, respectively, for the years ended
December 31, 1996, 1997, and 1998 and are reflected in operating revenues in the
Company's statements of operations.
F-20
<PAGE> 112
KNOLOGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
During 1998, the Company leased office space to ITCODeltaCom, Inc. and
Powertel, Inc. Approximately $234,000 of lease income related to these
transactions is recorded as other income in the Company's statement of
operations for the year ended December 31, 1998.
Relatives of the stockholders of ITC Holding are stockholders and employees
of the Company's insurance provider. The costs charged to the Company for
insurance services were approximately $222,000, $221,000, and $628,000 for the
years ended December 31, 1996, 1997, and 1998, respectively.
9. BUSINESS ACQUISITIONS
KNOLOGY HOLDINGS ACQUISITIONS
In January 1998, the Company acquired an additional 6,747 shares of KNOLOGY
Holdings preferred stock, representing an approximate 13% ownership interest in
KNOLOGY Holdings, in exchange for cash of $10,177,234. The acquisition of the
additional interest was accounted for as a step acquisition. The fair value of
net assets acquired totaled $6,775,879, resulting in goodwill of $3,401,355.
Effective July 1998, the Company acquired an additional 42,565 shares,
representing approximately 43% of KNOLOGY Holdings' outstanding stock.
The Company recorded its acquisition of this additional ownership interest
under the purchase method of accounting as a step acquisition. Accordingly, the
Company recorded the pro rata share of net assets acquired at fair value. The
Company determined that the book value of the pro rata share of assets and trade
liabilities acquired approximated fair value. The fair value of KNOLOGY
Holdings' senior discount notes (Note 4) was determined to be less than book
value at the date of acquisition based on quoted market prices. As a result, a
debt discount of approximately $8,542,000 was recorded to adjust the book value
of the pro rata share of senior notes acquired to fair value (Note 4).
The total value paid by the Company was $36,687,424, including cash of
$2,155,100, common and preferred stock valued at $34,532,324. The fair value of
net assets acquired totaled $22,678,372, resulting in goodwill of $14,009,052.
Prior to the acquisition, the Company owned more stock than any other single
KNOLOGY Holdings stockholder, owning approximately 42% of the outstanding stock.
As a result of the acquisition, the Company owns approximately 85% of the
outstanding stock of KNOLOGY Holdings at December 31, 1998.
The goodwill and debt discount created upon the acquisition of KNOLOGY
Holdings is amortized over 10 years on a straight line basis and the term of the
senior notes on the effective interest method, respectively.
CABLE ALABAMA ACQUISITION
On October 30, 1998, KNOLOGY Holdings acquired substantially all of the
assets of Cable Alabama Corporation ("Cable Alabama") for approximately
$60,733,000 in cash and also purchased for $5,000,000 in cash certain real
property located in Huntsville, Alabama. Cable Alabama owned and operated a
cable television system serving the Huntsville, Alabama area. KNOLOGY Holdings
plans to upgrade the existing Cable Alabama plant is being upgraded to provide
local and long-distance telephone service and high-speed Internet access
services. The acquisition has been accounted for under the purchase method of
accounting.
TTE, INC. ACQUISITION
On June 1, 1998, KNOLOGY Holdings acquired TTE, Inc., a non-facilities
based reseller of local, long distance and operator services to small and
medium-sized business customers throughout South
F-21
<PAGE> 113
KNOLOGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Carolina, for a purchase price of $1.3 million. The acquisition has been
accounted for under the purchase method of accounting.
PRO FORMA RESULTS OF OPERATIONS
The assets of TTE, Inc. and Cable Alabama have been included in the
Company's consolidated financial statements effective June 1, 1998 and September
1, 1998, respectively. The following unaudited pro forma results of operations
for the year ended December 31, 1998 assume that the acquisitions occurred on
January 1, 1998. The pro forma information is presented for informational
purposes only and may not be indicative of the actual results of operations had
the acquisitions occurred on the assumed date, nor is the information
necessarily indicative of future results of operations.
<TABLE>
<CAPTION>
1998
------------
<S> <C>
Operating revenues.......................................... $ 55,359,204
Loss before extraordinary items............................. (37,454,927)
Net loss attributable to common stockholders................ (33,830,072)
Net loss per share attributable to common stockholders
(a)....................................................... (563.83)
</TABLE>
(a) Loss per share is computed using 60,000 as the number of shares outstanding
in 1998.
10. SEGMENT INFORMATION
Effective January 1998, the Company adopted SFAS No. 131, "Disclosures
About Segments of an Enterprise and Related Information," which established
revised standards for the reporting of financial and descriptive information
about operating segments in financial statements. Management has identified the
reportable segments based on broadband services offered.
While management of the Company monitors the revenue generated from each of
the various broadband services, operations are managed and financial performance
is evaluated based upon the delivery of a multiple of the services to customers
over a single network. As a result of multiple services being provided over a
single network, there are many shared expenses and shared assets related to
providing the various broadband services to customers. Management believes that
any allocation of the shared expenses or assets to the broadband services would
be arbitrary and impractical.
F-22
<PAGE> 114
KNOLOGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The Company owns and operates advanced hybrid fiber-coaxial networks and
provides residential and business customers broadband communications services,
including video analog and digital cable television and local and long-distance
telephone. Internet services include high-speed Internet access via cable
modems, local transport services, such as local Internet transport, special
access, local private line, and local exchange transport services.
<TABLE>
<CAPTION>
INTERNET SERVICES
VIDEO TELEPHONE AND OTHER
----------- ----------- -----------------
<S> <C> <C> <C>
1996
Operating revenues.................................. $ 0 $17,527,208 $ 0
Cost of services.................................... 0 2,991,412 0
----------- ----------- --------
Gross margin........................................ $ 0 $14,535,796 $ 0
=========== =========== ========
1997
Operating revenues.................................. $ 0 $17,633,313 $ 0
Cost of services.................................... 0 3,121,108 0
----------- ----------- --------
Gross margin........................................ $ 0 $14,512,205 $ 0
=========== =========== ========
1998
Operating revenues.................................. $22,527,403 $22,318,344 $286,775
Cost of services.................................... 8,750,858 3,890,799 97,883
----------- ----------- --------
Gross margin........................................ $13,776,545 $18,427,545 $188,892
=========== =========== ========
</TABLE>
11. SUBSEQUENT EVENTS (UNAUDITED)
DISTRIBUTION AND PRIVATE PLACEMENT
The Company is in the process of registering with the Securities and
Exchange Commission shares of its common stock in order to complete a
distribution of its Series A convertible preferred stock to the stockholders of
ITC Holding and to SCANA. Shortly following this distribution, the Company
intends to complete a private placement of its Series B preferred stock to a
small group of institutional investors for approximately $100 million. There can
be no assurance that this offering will be completed. In conjunction with the
Reorganization the exchange ratio was set such that for accounting purposes a
600-to-1 stock split was effected. Accordingly, all data shown in the
accompanying financial statements and notes has been retroactively adjusted to
reflect the effective stock split.
F-23
<PAGE> 115
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To KNOLOGY Holdings, Inc.:
We have audited the accompanying consolidated balance sheets of KNOLOGY
HOLDINGS, INC. (a Delaware corporation) AND SUBSIDIARIES as of December 31, 1997
and July 31, 1998 and the related consolidated statements of operations,
stockholders' equity, and cash flows for each of the two years in the period
ended December 31, 1997 and the period ended July 31, 1998. These financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of KNOLOGY
Holdings, Inc. and subsidiaries as of December 31, 1997 and July 31, 1998 and
the results of their operations and their cash flows for each of the two years
in the period ended December 31, 1997 and the period ended July 31, 1998, in
conformity with generally accepted accounting principles.
/s/ ARTHUR ANDERSEN LLP
Atlanta, Georgia
October 15, 1999
F-24
<PAGE> 116
KNOLOGY HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
DECEMBER 31, JULY 31,
1997 1998
------------ ------------
<S> <C> <C>
ASSETS
CURRENT ASSETS:
Cash and cash equivalents................................. $ 6,144,581 $ 5,483,929
Marketable securities..................................... 227,880,923 181,290,428
Accounts receivable -- trade, net of allowance of $108,529
and $270,854 at December 31, 1997 and July 31, 1998,
respectively............................................ 1,607,859 3,035,380
Accounts receivable - affiliates.......................... 0 21,000
Prepaid expenses.......................................... 37,060 297,101
------------ ------------
Total current assets................................ 235,670,423 190,127,838
------------ ------------
PROPERTY, PLANT, AND EQUIPMENT:
System and installation equipment......................... 56,909,159 93,481,398
Test and office equipment................................. 1,628,485 3,658,597
Automobiles and trucks.................................... 837,490 2,035,893
Production equipment...................................... 297,286 440,954
Land...................................................... 0 300,975
Buildings................................................. 1,936,035 4,575,330
Inventory................................................. 5,806,320 18,507,889
Leasehold improvements.................................... 324,270 489,787
------------ ------------
67,739,045 123,490,823
Less accumulated depreciation and amortization............ (5,171,309) (11,424,440)
------------ ------------
Property, plant, and equipment, net................. 62,567,736 112,066,383
------------ ------------
OTHER LONG-TERM ASSETS:
Intangible and other assets, net (Note 2)................. 17,896,146 18,014,255
Investments............................................... 0 825,072
Other..................................................... 63,795 63,795
------------ ------------
Total assets........................................ $316,198,100 $321,097,343
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Current portion of long-term debt......................... $ 25,094 $ 25,094
Accounts payable.......................................... 5,817,733 4,429,417
Accounts payable--affiliate............................... 452,346 0
Accrued liabilities....................................... 1,638,042 8,854,827
Unearned revenue.......................................... 907,048 1,362,263
------------ ------------
Total current liabilities........................... 8,840,263 14,671,601
NONCURRENT LIABILITIES:
Notes payable (Note 3).................................... 120,804 115,426
Accrued interest payable.................................. 3,201,688 13,353,765
Bonds payable, net of discount of $194,189,569 and
$186,621,207 at December 31, 1997 and July 31, 1998,
respectively............................................ 249,910,431 257,478,793
------------ ------------
Total liabilities................................... 262,073,186 285,619,585
------------ ------------
COMMITMENTS AND CONTINGENCIES
WARRANTS (NOTE 3)........................................... 2,486,960 2,486,960
------------ ------------
STOCKHOLDERS' EQUITY:
Convertible preferred stock, $.01 par value per share;
50,000 and 100,000 shares authorized, 49,985 and 49,851
shares issued and outstanding at December 31, 1997 and
July 31, 1998, respectively (Note 7).................... 500 499
Common stock, $.01 par value per share; 200,000 and
16,000,000 shares authorized, 0 and 394 shares issued
and outstanding at December 31, 1997 and July 31, 1998,
respectively (Note 7)................................... 0 4
Additional paid-in capital................................ 65,060,712 64,864,366
Accumulated deficit....................................... (13,402,495) (31,858,376)
Unrealized losses on marketable securities (Note 2)....... (20,763) (15,695)
------------ ------------
Total stockholders' equity.......................... 51,637,954 32,990,798
------------ ------------
Total liabilities and stockholders' equity.......... $316,198,100 $321,097,343
============ ============
</TABLE>
The accompanying notes are an integral part of these consolidated statements.
F-25
<PAGE> 117
KNOLOGY HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31, SEVEN MONTHS
------------------------- ENDED JULY 31,
1996 1997 1998
----------- ----------- --------------
<S> <C> <C> <C>
OPERATING REVENUES..................................... $ 5,334,183 $10,355,068 $ 11,150,159
OPERATING EXPENSES:
Cost of services..................................... 2,513,693 4,758,730 4,932,239
Selling, operations, and administrative.............. 3,883,738 7,392,540 10,548,058
Depreciation and amortization........................ 1,640,025 3,715,184 4,335,794
----------- ----------- ------------
Total operating expenses..................... 8,037,456 15,866,454 19,816,091
----------- ----------- ------------
OPERATING LOSS......................................... (2,703,273) (5,511,386) (8,665,932)
----------- ----------- ------------
OTHER INCOME (EXPENSE):
Interest income...................................... 46,221 2,774,909 7,054,380
Interest expense..................................... (1,055,498) (6,226,023) (16,449,898)
Affiliate interest income, net....................... 273,799 0 0
Other (expense) income, net.......................... (60,000) (129,033) 188,110
----------- ----------- ------------
Total other expense.......................... (795,478) (3,580,147) (9,207,408)
----------- ----------- ------------
LOSS BEFORE INCOME TAXES AND CUMULATIVE
EFFECT OF CHANGE IN ACCOUNTING PRINCIPLE............... (3,498,751) (9,091,533) (17,873,340)
INCOME TAX BENEFIT..................................... 373,323 0 0
----------- ----------- ------------
LOSS BEFORE CUMULATIVE EFFECT OF CHANGE IN
ACCOUNTING PRINCIPLE................................... (3,125,428) (9,091,533) (17,873,340)
CUMULATIVE EFFECT OF CHANGE IN
ACCOUNTING PRINCIPLE (NOTE 2).......................... 0 0 (582,541)
----------- ----------- ------------
NET LOSS............................................... $(3,125,428) $(9,091,533) $(18,455,881)
=========== =========== ============
BASIC AND DILUTED NET LOSS PER SHARE................... $ (1.53) $ (2.10) $ (2.46)
=========== =========== ============
WEIGHTED AVERAGE SHARES OUTSTANDING.................... 2,043,900 4,325,250 7,497,696
=========== =========== ============
</TABLE>
The accompanying notes are an integral part of these consolidated statements.
F-26
<PAGE> 118
KNOLOGY HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY AND COMPREHENSIVE INCOME
<TABLE>
<CAPTION>
UNREALIZED
PREFERRED STOCK COMMON STOCK ADDITIONAL (LOSS) GAIN ON TOTAL
--------------- --------------- PAID-IN ACCUMULATED MARKETABLE STOCKHOLDERS'
SHARES AMOUNT SHARES AMOUNT CAPITAL DEFICIT SECURITIES EQUITY
------ ------ ------ ------ ----------- ------------ -------------- -------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
BALANCE, December 31, 1995...... 7,520 $ 75 0 $ 0 $ 7,454,615 $ (1,185,534) $ 0 $ 6,269,156
Comprehensive Loss
Net loss...................... 0 0 0 0 0 (3,125,428) 0 (3,125,428)
------------
Comprehensive Loss............ (3,125,428)
------------
Issuance of preferred stock,
net of related offering
expenses of $379,701........ 9,572 96 0 0 11,054,603 0 0 11,054,699
------ ---- --- ------ ----------- ------------ -------- ------------
BALANCE, December 31, 1996...... 17,092 171 0 0 18,509,218 (4,310,962) 0 14,198,427
Comprehensive Loss:
Net loss...................... 0 0 0 0 0 (9,091,533) 0 (9,091,533)
Unrealized loss on marketable
securities.................. 0 0 0 0 0 0 (20,763) (20,763)
------------
Comprehensive Loss............ (9,112,296)
------------
Issuance of preferred stock,
net of related offering
expenses of $99,677......... 30,408 304 0 0 42,824,019 0 0 42,824,323
Purchase of Beach Cable
(Note 9).................... 2,485 25 0 0 3,727,475 0 0 3,727,500
------ ---- --- ------ ----------- ------------ -------- ------------
BALANCE, December 31, 1997...... 49,985 500 0 0 65,060,712 (13,402,495) (20,763) 51,637,954
Comprehensive Loss:
Net loss...................... 0 0 0 0 0 (18,455,881) 0 (18,455,881)
Unrealized gain on marketable
securities.................. 0 0 0 0 0 0 5,068 5,068
------------
Comprehensive Income........ (18,450,813)
------------
Issuance of common stock under
stock options............... 0 0 394 4 3,148 0 0 3,152
Beach Cable purchase price
adjustment.................. (134) (1) 0 0 (199,494) 0 0 (199,495)
------ ---- --- ------ ----------- ------------ -------- ------------
BALANCE, July 31, 1998.......... 49,851 $499 394 $ 4 $64,864,366 $(31,858,376) $(15,695) $ 32,990,798
====== ==== === ====== =========== ============ ======== ============
</TABLE>
The accompanying notes are an integral part of these consolidated statements.
F-27
<PAGE> 119
KNOLOGY HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31, SEVEN MONTHS
------------------------------ ENDED JULY 31,
1996 1997 1998
------------ --------------- --------------
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss.................................................. $ (3,125,428) $ (9,091,533) $(18,455,881)
------------ --------------- ------------
Adjustments to reconcile net loss to net cash (used in)
provided by operating activities:
Depreciation and amortization........................... 1,640,025 3,715,184 4,335,794
Amortization of bond discount........................... 0 2,386,856 7,568,362
Gain on disposition of assets........................... 21,370 23,464 0
Cumulative effect of change in accounting principle..... 0 0 582,541
Deferred income taxes................................... (373,323) 0 0
Changes in operating assets and liabilities:
Accounts receivable................................... (512,337) (721,396) (1,448,521)
Prepaid expenses...................................... (180,950) 244,199 (260,041)
Accounts payable...................................... (39,648) 4,302,245 (1,840,662)
Accrued liabilities and interest...................... 293,394 163,317 17,368,862
Unearned revenue...................................... 278,757 243,007 455,215
Other................................................. 133 1,345 5,068
------------ --------------- ------------
Total adjustments................................... 1,127,421 10,358,221 26,766,618
------------ --------------- ------------
Net cash (used in) provided by operating
activities........................................ (1,998,007) 1,266,688 8,310,737
------------ --------------- ------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures, net of retirements.................. (14,416,135) (39,625,408) (50,089,645)
Acquisitions, net......................................... 0 0 (1,014,288)
Organizational cost expenditures.......................... (20,133) (470,923) (248,433)
Purchase of investments................................... (5,000) (227,956,301) 0
Proceeds from sale of investments......................... 0 0 46,590,495
Accounts payable -- capital related....................... 0 0 (3,214,982)
Investment in ClearSource, Inc............................ 0 0 (825,072)
Proceeds from sale of property............................ 0 69,152 0
Other..................................................... 0 0 315,906
------------ --------------- ------------
Net cash used in investing activities............... (14,441,268) (267,983,480) (8,486,019)
------------ --------------- ------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Principal payments on debt and short term borrowings...... (160,900) (29,903,385) (5,378)
Expenditures related to issuance of debt and credit
facility................................................ 0 0 (283,649)
Proceeds from the issuance of common stock................ 0 0 3,152
Proceeds from the issuance of debt and short-term
borrowings, net of discount and issue costs on bonds.... 1,258,238 257,370,383 0
Proceeds from the issuance of preferred stock, net of
related offering expenses............................... 10,868,699 42,824,323 (199,495)
Repayments from affiliates................................ 4,255,836 0 0
Proceeds from the issuance of warrants.................... 0 2,486,960 0
------------ --------------- ------------
Net cash provided by (used in) financing
activities........................................ 16,221,873 272,778,281 (485,370)
------------ --------------- ------------
NET (DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS........ (217,402) 6,061,489 (660,652)
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD............ 300,494 83,092 6,144,581
------------ --------------- ------------
CASH AND CASH EQUIVALENTS AT END OF PERIOD.................. $ 83,092 $ 6,144,581 $ 5,483,929
============ =============== ============
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid during the period for interest.................. $ 1,016,039 $ 1,543,125 $ 3,672
============ =============== ============
Cash paid during the period for income taxes.............. $ 0 $ 0 $ 0
============ =============== ============
Details of acquisitions:
Property, plant, and equipment.......................... $ 0 $ 4,756,005 $ 0
Intangible Assets....................................... 0 2,796,139 1,014,288
Liabilities Assumed..................................... 0 (3,824,644) 0
Preferred stock issued.................................. 0 (3,727,500) 0
------------ --------------- ------------
Net cash paid for acquisitions.......................... $ 0 $ 0 $ 1,014,288
============ =============== ============
</TABLE>
The accompanying notes are an integral part of these consolidated
statements.
F-28
<PAGE> 120
KNOLOGY HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1996 AND 1997 AND JULY 31, 1998
1. ORGANIZATION, NATURE OF BUSINESS AND BASIS OF PRESENTATION
ORGANIZATION
KNOLOGY Holdings, Inc. was incorporated in Delaware in November 1995 under
the name CyberNet Holding, Inc. In April 1997, the Company formally changed its
name to KNOLOGY Holdings, Inc.
NATURE OF BUSINESS
KNOLOGY Holdings, Inc. and its subsidiaries (the "Company") own and operate
advanced hybrid fiber-coaxial networks and provide residential and business
customers broadband communications services, including analog and digital cable
television, local and long-distance telephone, high-speed Internet access, and
broadband carrier services to various markets in the southeastern United States.
The Company has experienced operating losses as a result of the expansion
of the advanced broadband communications networks and services into new and
existing markets. The Company expects to continue to focus on increasing its
customer base and expanding its broadband operations. Accordingly, the Company
expects that its operating expenses and capital expenditures will continue to
increase as it extends its broadband communications networks in the existing and
new markets in accordance with its business plan. While management expects its
expansion plans will result in profitability, there can be no assurance that
growth in the Company's revenue or customer base will continue or that the
Company will be able to achieve or sustain profitability and/or positive cash
flow.
BASIS OF PRESENTATION
The consolidated financial statements are prepared on the accrual basis of
accounting and include the accounts of the Company and all subsidiaries. All
significant intercompany balances have been eliminated. Certain prior year
amounts have been reclassified to conform with the current year presentation.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
ACCOUNTING ESTIMATES
The preparation of financial statements, in conformity with generally
accepted accounting principles, requires management to make estimates and
assumptions that affect the reported amount 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 CASH EQUIVALENTS
The Company considers all short-term, highly liquid investments with an
original maturity date of three months or less to be cash equivalents. Cash and
cash equivalents are stated at cost, which approximates fair value.
MARKETABLE SECURITIES
The Company's marketable securities are categorized as available-for-sale
securities, as defined by Statement of Financial Accounting Standards ("SFAS")
No. 115, "Accounting for Certain Investments in Debt and Equity Securities."
Unrealized holding gains and losses are reflected as a net amount in a separate
component of stockholders' equity until realized. For the purpose of computing
realized gains and
F-29
<PAGE> 121
KNOLOGY HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
losses, cost is identified on a specific identification basis. Securities
available for sale at July 31, 1998 are primarily comprised of commercial paper.
PROPERTY, PLANT, AND EQUIPMENT
Property, plant, and equipment are stated at cost. Depreciation and
amortization are calculated using the straight-line method over the estimated
useful lives of the assets, commencing when the asset is installed or placed in
service. Maintenance, repairs, and renewals are charged to expense as incurred.
The cost and accumulated depreciation of property and equipment disposed of are
removed from the related accounts, and any gain or loss is included in or
deducted from income. Depreciation and amortization are provided over the
estimated useful lives as follows:
<TABLE>
<CAPTION>
YEARS
-----
<S> <C>
Buildings................................................... 25
System and installation equipment........................... 7-10
Production equipment........................................ 7
Test and office equipment................................... 3-7
Automobiles and trucks...................................... 5
Leasehold improvements...................................... 5
</TABLE>
Inventories are valued at the lower of cost or market (determined on a
weighted average basis) and include customer premise equipment and certain plant
construction materials. These items are transferred to system and installation
equipment when installed.
Interest is capitalized in connection with the construction of the
Company's broadband networks. The capitalized interest is recorded as part of
the asset to which it relates and is amortized over the asset's estimated useful
life. For the year ended December 31, 1997 and the period ended July 31, 1998,
$676,160 and $1,954,976 of interest cost was capitalized, respectively. No
interest was capitalized prior to 1997.
INTANGIBLE AND OTHER ASSETS
Intangible and other assets include the excess of the purchase price of
acquisitions over the fair value of net assets acquired as well as various other
acquired intangibles and costs associated with the issuance of debt and the
consummation of a credit facility. Intangible and other assets and the related
useful lives and accumulated amortization at December 31, 1997 and July 31, 1998
are as follows:
<TABLE>
<CAPTION>
AMORTIZATION
DECEMBER 31, JULY 31, PERIOD
1997 1998 (YEARS)
------------ ----------- ------------
<S> <C> <C> <C>
Goodwill......................................... $ 9,875,262 $10,889,550 40
Debt issuance costs.............................. 7,883,307 8,166,956 4-10
Other............................................ 955,048 350,540 10-15
----------- -----------
18,713,617 19,407,046
Less accumulated amortization.................... 817,471 1,347,285
----------- -----------
Intangibles and other assets, net................ $17,896,146 $18,059,761
=========== ===========
</TABLE>
During 1998, the Company adopted the provisions of AICPA Statement of
Position 98-5, "Reporting on the Costs of Start-Up Activities," which requires
that all nongovernmental entities expense costs of start-up activities,
including pre-operating, preopening, and organization activities, as the costs
are incurred. Adoption of this statement resulted in a cumulative effect of
accounting change of $582,541 or $.08 per basic and diluted share.
F-30
<PAGE> 122
KNOLOGY HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
LONG-LIVED ASSETS
In 1995, the Company adopted SFAS No. 121, "Accounting for the Impairment
of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of." SFAS No. 121
established accounting standards for the impairment of long-lived assets,
certain identifiable intangibles, and cost in excess of net assets acquired
related to those assets to be held and used and for long-lived assets and
certain identifiable intangibles to be disposed of. The effect of adopting SFAS
No. 121 was not material to the Company's consolidated financial statements.
The Company reviews its long-lived assets such as property and equipment,
goodwill, and other intangible assets for impairment at each balance sheet date
or whenever events or changes in circumstances indicate that the carrying amount
of an asset should be assessed. Management evaluates the tangible and intangible
assets related to each acquisition individually to determine whether an
impairment has occurred. An impairment is recognized when the undiscounted
future cash flows estimated to be generated by the assets are not sufficient to
recover the unamortized balance of the asset. Estimates of future cash flows are
based on many factors, including current operating results, expected market
trends, and competitive influences. If an impairment has occurred, a loss equal
to the difference between the carrying value of the asset and its fair value is
recognized. The resulting reduced carrying amount of the asset is accounted for
as its new cost and depreciated over the asset's remaining useful life.
Management believes that the long-lived assets in the accompanying consolidated
balance sheets are appropriately valued.
INVESTMENTS
At July 31, 1998, investments represent the Company's 11% ownership in
ClearSource, Inc. ClearSource, Inc. was formed during 1998 to build and operate
advanced broadband networks offering a bundle of communications services to
residential and business customers. The Company's investment in ClearSource,
Inc. is accounted for under the cost method of accounting.
REVENUE RECOGNITION
Subscriber revenues are recognized in the month of service. Subscriber fees
billed in advance are included in the accompanying balance sheets as unearned
revenue and are deferred until the month the service is provided.
ADVERTISING COSTS
The Company expenses all advertising costs as incurred. Approximately
$165,000, $158,000, and $237,160 of advertising expense are recorded in the
Company's statements of operations for the years ended December 31, 1996 and
1997 and the period ended July 31, 1998, respectively.
SOURCES OF SUPPLIES
The Company purchases customer premise equipment and plant materials from
outside vendors. Although numerous suppliers market and sell customer premise
equipment and plant materials, the Company currently purchases each customer
premise component from a single vendor and has several suppliers for plant
materials. If the suppliers are unable to meet the Company's needs as it
continues to build out its network infrastructure, then delays and increased
costs in the expansion of the Company's network could result, which would
adversely affect operating results.
F-31
<PAGE> 123
KNOLOGY HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
CREDIT RISK
The Company's accounts receivable potentially subject the Company to credit
risk, as collateral is generally not required. The Company's risk of loss is
limited due to advance billings to customers for services and the ability to
terminate access on delinquent accounts. The potential for material credit loss
is mitigated by the large number of customers with relatively small receivable
balances. The carrying amount of the Company's receivables approximates their
fair values.
INCOME TAXES
The Company utilizes the liability method of accounting for income taxes,
as set forth in SFAS No. 109, "Accounting for Income Taxes." Under the liability
method, deferred taxes are determined based on the difference between the
financial and tax bases of assets and liabilities using enacted tax rates in
effect in the years in which the differences are expected to reverse. Deferred
tax benefit represents the change in the deferred tax asset and liability
balances (Note 6).
Effective August 1998, the Company will be included in the consolidated
federal income tax return of its parent company, ITC Holding Company, Inc. ("ITC
Holding") (Note 7). The Company and its subsidiaries file separate state income
tax returns.
NET LOSS PER SHARE
In 1997, the Company adopted SFAS No. 128, "Earnings Per Share." That
statement requires the disclosure of basic net loss per share and diluted net
loss per share. Basic net loss per share is computed by dividing net loss
available to common shareholders by the weighted-average number of common shares
outstanding during the period. As the Company has no significant common stock
outstanding, the convertible preferred stock is assumed to be converted for
purposes of this calculation. Diluted net loss per share gives effect to all
potentially dilutive securities. The Company's potentially dilutive securities
are not included in the computation of diluted net loss per share as their
effect is antidilutive.
3. LONG-TERM DEBT
Long-term debt at December 31, 1997 and July 31, 1998 consists of the
following:
<TABLE>
<CAPTION>
1997 1998
------------ ------------
<S> <C> <C>
Senior Discount Notes, with a face value of $444,100,000,
bearing interest at 11.875% beginning October 15, 2002,
payable semiannually beginning April 15, 2003 with
principal and any unpaid interest due October 15, 2007.... $249,910,431 $257,478,793
Capitalized lease obligation, at a rate of 10%, payable in
quarterly installments of $6,304 through December 2006,
secured................................................. 145,898 140,520
------------ ------------
250,056,329 257,619,313
Less current maturities................................... 25,094 25,094
------------ ------------
$250,031,235 $257,594,219
============ ============
</TABLE>
F-32
<PAGE> 124
KNOLOGY HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Following are maturities of long-term debt for each of the next five years
as of July 31, 1998:
<TABLE>
<S> <C>
1999....................................................... $ 25,094
2000....................................................... 13,438
2001....................................................... 14,833
2002....................................................... 16,374
2003....................................................... 18,074
Thereafter................................................. 444,159,353
------------
Total............................................ $444,234,246
============
</TABLE>
The fair values of long-term debt, including current maturities, at
December 31, 1997 and July 31, 1998 are estimated to be approximately
$253,781,000 and $270,833,000 respectively, based on a valuation technique that
considers cash flows discounted at current rates.
In the fourth quarter of 1997, the Company issued units consisting of
senior discount notes due 2007 and warrants to purchase Preferred Stock for
gross proceeds of approximately $250 million. The notes were offered at a
substantial discount from face value, with no interest payable for the first
five years. Approximately $2.5 million of the gross proceeds has been allocated
to the warrants. Each warrant allows the holder to purchase .003734 shares of
the Company's preferred stock. The Company incurred approximately $7.9 million
in costs to issue the senior discount notes. These costs are being amortized at
an effective rate over the life of the notes. The indenture relating to the
notes contains certain covenants that, among other things, limit the ability of
the Company to incur indebtedness, pay dividends, prepay subordinated
indebtedness, repurchase capital stock, make investments, engage in transactions
with stockholders and affiliates, create liens, sell assets, and engage in
mergers and consolidations. The proceeds from the offering of the units have
been, and will be, used to repay certain indebtedness of the Company, to fund
expansion of the Company's business, and for additional working capital and
general corporate purposes.
On June 2, 1997, the Company borrowed $3 million under a promissory note
from SCANA at 12% interest with an original maturity of June 30, 1997. In July
1997, and again in September 1997, the Company and SCANA amended the promissory
note agreement to increase the borrowings to $10 million and to extend the
maturity date until January 1, 1998. On September 29, 1997, the Company borrowed
an additional $1 million at 12% interest under an oral agreement with SCANA with
similar terms. In connection with the SCANA notes discussed above, SCANA and the
Company are negotiating warrants to purchase approximately 753 shares of the
Company's preferred stock. In October 1999, the Company executed the agreement
to issue warrants to purchase Preferred Stock of the Company. The Company will
record the fair value of the warrants as interest expense in the fourth quarter
of 1999. On October 24, 1997, the Company repaid all of these borrowings.
On May 13, 1997, the Company obtained a $3 million bridge loan facility
from First National Bank of West Point (the "Bridge Facility") to provide
additional liquidity until long-term financing could be arranged. Interest
accrued at the prime rate (as announced by SunTrust Bank, Atlanta) plus .5% per
annum on all outstanding principal amounts, plus accrued but unpaid interest. As
amended on September 18, 1997, the Bridge Facility was payable on demand, with a
final maturity date of December 15, 1997. On December 15, 1997, the Company
repaid all of these borrowings.
4. OPERATING LEASES
The Company leases office space, utility poles, and other assets for
varying periods. Leases that expire are generally expected to be renewed or
replaced by other leases.
F-33
<PAGE> 125
KNOLOGY HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Future minimum rental payments required under the operating leases that
have initial or remaining noncancelable lease terms in excess of one year as of
July 31, 1998 are as follows:
<TABLE>
<S> <C>
1999........................................................ $208,342
2000........................................................ 166,274
2001........................................................ 124,565
2002........................................................ 113,583
2003 and thereafter......................................... 153,150
--------
Total minimum lease payments...................... $765,914
========
</TABLE>
Total rental expense for all operating leases was approximately $70,000,
$75,000 and $97,000, for the years ended December 31, 1996 and 1997 and the
period ended July 31, 1998, respectively.
5. COMMITMENTS AND CONTINGENCIES
PURCHASE COMMITMENTS
The Company has entered into contracts with various entities to provide
programming to be aired by the Company. The Company pays a monthly fee as cost
for the programming services, generally based on the number of average
subscribers to the program, although some fees are adjusted based on the total
number of subscribers to the system and/or the system penetration percentage.
Certain contracts have minimum monthly fees. The Company estimates that it will
pay approximately $6.5 million in programming fees under these contracts during
1999.
LEGAL PROCEEDINGS
In the normal course of business, the Company is subject to various
litigation; however, in management's opinion, there are no legal proceedings
pending against the Company which would have a material adverse effect on the
financial position, results of operations, or liquidity of the Company.
6. INCOME TAXES
Deferred income taxes reflect the net tax effect of temporary differences
between the carrying amount of assets and liabilities for financial reporting
purposes and the amounts used for income tax purposes. The significant
components of deferred tax assets and liabilities at December 31, 1996 and 1997
and July 31, 1998 are as follows (in thousands):
<TABLE>
<CAPTION>
1996 1997 1998
------ ------ --------
<S> <C> <C> <C>
Deferred tax assets:
Net operating loss carryforwards......................... $3,875 $7,221 $ 6,987
Deferred bond interest................................... 0 0 8,792
Other.................................................... 92 279 280
Valuation allowance...................................... (2,475) (4,165) (10,270)
------ ------ --------
Total deferred tax assets........................ 1,492 3,335 5,789
Deferred tax liabilities:
Depreciation and amortization............................ (1,492) (3,335) (5,789)
------ ------ --------
Net deferred income taxes.................................. $ 0 $ 0 $ 0
====== ====== ========
</TABLE>
Effective August 1998, the Company will be included in the consolidated
federal income tax return of its parent company, ITC Holding (Note 7). The
Company and its subsidiaries file separate state income tax returns.
F-34
<PAGE> 126
KNOLOGY HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The Company has available, at December 31, 1996 and 1997 and July 31, 1998,
unused net operating loss carryforwards of approximately $10,273,00,
$19,144,000, and $18,523,000, respectively, expiring in various years from 2005
to 2013, unless utilized. Management has recorded a valuation allowance of
approximately $2,475,000, $4,165,000, and $10,270,000 for the years ended
December 31, 1996 and 1997 and the period ended July 31, 1998, respectively, on
these net operating loss carryforwards, the majority of which contain
limitations on utilization.
A reconciliation of the income tax benefit computed at statutory tax rates
to the income tax benefit for the years ended December 31, 1996 and 1997 and the
period ended July 31, 1998 is as follows:
<TABLE>
<CAPTION>
1996 1997 1998
---- ---- ----
<S> <C> <C> <C>
Income tax benefit at statutory rate........................ 34% 34% 34%
State income taxes, net of federal benefit.................. 2 4 5
Prior year actualization.................................... 6 (3) (4)
Goodwill.................................................... 1 (1) (1)
Deferred tax valuation allowance............................ (32) (34) (34)
--- --- ---
11% 0% 0%
=== === ===
</TABLE>
7. EQUITY INTERESTS
CAPITAL TRANSACTIONS
The Company has authorized 16,000,000 shares of $.01 par value common stock
and 100,000 shares of $.01 par value convertible preferred stock at December 31,
1998. In February 1998, the Company completed a 150-for-1 stock split of the
Company's common stock, par value $.01 per share, which was effected in the form
of a stock dividend of new shares of common stock. In connection with the stock
split, the Company increased the number of shares of authorized common stock
from 200,000 to 16,000,000 and changed the conversion ratio between the common
stock and the preferred stock from 1-to-1 to a ratio of 150-to-1.
In June 1998, ITC Holding made an offer to acquire outstanding shares of
the Company in exchange for $100 in cash and ITC Holding Common Stock valued at
$1,600 for each share of the Company's Preferred Stock exchanged (the
"Exchange"). The Exchange was completed effective July 31, 1998. Prior to the
exchange, ITC Holding (through its wholly owned subsidiaries) owned
approximately 42% of the outstanding stock of the Company, representing the
largest stockholder of the Company. As a result of the exchange, ITC Holding
owns approximately 85% of the outstanding stock of the Company.
In May 1998, the Company issued 394 shares of common stock, valued at $8
per share, to an employee under the Company's 1995 stock option plan. In
February 1997, the Company offered and accepted 8,960 shares of preferred stock
for subscription at $1,200 per share. Additionally, in October 1997, the Company
offered and accepted 21,448 shares of preferred stock for subscription at $1,500
per share. In December 1997, in conjunction with the acquisition of KNOLOGY of
Panama City, Inc., the Company issued 2,485 shares of preferred stock valued at
$1,500 per share. During 1998, 134 shares of preferred stock issued in
connection with the acquisition were returned to the Company as part of a
purchase price adjustment. The amount of the consideration paid in excess of the
par value, net of expenses incurred in connection with each issuance, is
included in additional paid-in capital on the accompanying balance sheets. Each
share of convertible preferred stock is automatically convertible into common
stock on a 150-for-1 basis at the earlier of either the effective date of a
public offering of common stock by the Company or on December 8, 2005. In the
event of liquidation of the Company, whether voluntary or involuntary, the
holders of convertible preferred stock are entitled to receive preferential
distributions of $1,000, $1,200, or $1,500 per share (depending on when the
stock was issued)
F-35
<PAGE> 127
KNOLOGY HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
before any distributions to common stockholders. The holders of the preferred
stock are not entitled to any other preferences, including dividends.
STOCKHOLDERS' AGREEMENT
The Company entered into a stockholders' agreement (the "Stockholders'
Agreement"), dated as of December 8, 1995 and amended as of January 25, 1996 and
April 19, 1996, with all of the stockholders of the Company. None of the parties
to the Stockholders' Agreement may transfer any class or series of capital stock
of the Company or any right or option to acquire any share of capital stock of
the Company held by such party to third parties (subject to limited exceptions)
without having offered rights of first refusal to purchase such securities to
the Company. The Stockholders' Agreement will irrevocably terminate upon the
consummation of an initial public offering.
STOCK OPTION PLAN
Under the Company's 1995 stock option plan (the "Stock Option Plan"), as
adopted in December 1995 and amended in February 1998, 700,000 shares (after
giving effect to the 150-for-1 common stock split) of common stock are reserved
and authorized for issuance upon the exercise of the options. All employees of
the Company are eligible to receive options under the Stock Option Plan. The
Stock Option Plan is administered by the compensation and stock option committee
of the board of directors. Options granted under the Stock Option Plan are
intended to qualify as "incentive stock options" under Section 422 of the
Internal Revenue Code of 1986, as amended. All options were granted at an
exercise price equal to the estimated fair value of the common stock at the
dates of grant as determined by the board of directors based on equity
transactions and other analyses. The options expire ten years from the date of
grant.
STATEMENT OF FINANCIAL ACCOUNTING STANDARDS NO. 123
During 1995, the Financial Accounting Standards Board issued SFAS No. 123,
"Accounting for Stock-Based Compensation," which defines a fair value-based
method of accounting for an employee stock option or similar equity instrument
and encourages all entities to adopt that method of accounting for all of their
employee stock compensation plans. However, it also allows an entity to continue
to measure compensation cost for those plans using the method of accounting
prescribed by Accounting Principles Board ("APB") Opinion No. 25, "Accounting
for Stock Issued to Employees." Entities electing to remain with the accounting
methodology required by APB Opinion No. 25 must make pro forma disclosures of
net income and, if presented, earnings per share as if the fair value-based
method of accounting defined in SFAS No. 123 had been applied.
The Company accounts for its stock-based compensation plans under APB
Opinion No. 25, under which no compensation cost has been recognized by the
Company. However, the Company has computed, for pro forma disclosure purposes,
the value of all options for shares of the Company's common stock to employees
of the Company using the Black-Scholes option pricing model and the following
weighted average assumptions in 1996, 1997, and the period ended July 31, 1998:
<TABLE>
<CAPTION>
1996 1997 1998
----------- ----------- -----------
<S> <C> <C> <C>
Risk-free interest rate......................... 6.31% 6.43% 5.42%
Expected dividend yield......................... 0% 0% 0%
Expected lives.................................. Seven years Seven years Seven years
Expected volatility............................. 30% 30% 30%
</TABLE>
F-36
<PAGE> 128
KNOLOGY HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The weighted average fair value of options granted was $8, $8.44, and
$10.00 for the years ended December 31, 1996 and 1997 and the period ended July
31, 1998, respectively. The total value of options for the Company's stock
granted to employees of the Company for the years ended December 31, 1996 and
1997 and the period ended July 31, 1998 was computed as approximately $154,000,
$304,000, and $1,125,000, respectively, which would be amortized on a pro forma
basis over the five-year vesting period of the options. If the Company had
accounted for these plans in accordance with SFAS No. 123, the Company's net
loss for the periods presented would be as follows:
<TABLE>
<CAPTION>
AS
REPORTED PRO FORMA
------------ ------------
<S> <C> <C>
Net loss for the year ended December 31, 1996............. $ (3,125,428) $ (3,155,917)
Net loss for the year ended December 31, 1997............. (9,091,533) (9,188,862)
Net loss for the period ended July 31, 1998............... (18,455,881) (18,579,005)
Basic and diluted net loss per share for the year ended
December 31, 1996....................................... $ (1.53) $ (1.54)
Basic and diluted net loss per share for the year ended
December 31, 1997....................................... (2.10) (2.12)
Basic and diluted net loss per share for the period ended
July 31, 1998:.......................................... (2.46) (2.47)
</TABLE>
A summary of the status of the Company's stock option plan at July 31, 1998
is presented in the following table (after giving effect to the 150-for-1 common
stock split):
<TABLE>
<CAPTION>
WEIGHTED AVERAGE
EXERCISE PRICE
SHARES PER SHARE
------- ----------------
<S> <C> <C>
Outstanding at December 31, 1996:........................ 52,797 8.00
Granted................................................ 126,384 8.44
Forfeited.............................................. (15,939) 8.00
-------
Outstanding at December 31, 1997:........................ 163,242 8.34
Granted................................................ 348,980 10.00
Forfeited.............................................. (21,032) 8.32
Exercised.............................................. (394) 8.00
-------
Outstanding at July 31, 1998............................. 490,796
=======
Exercisable shares as of:
December 31, 1996...................................... 0 $0.00
=======
December 31, 1997...................................... 6,606 8.00
=======
July 31, 1998.......................................... 17,428 8.00
=======
</TABLE>
8. RELATED-PARTY TRANSACTIONS
ITC Holding provides certain administrative services, such as legal and tax
planning services, for the Company. The costs of these services are charged to
the Company based primarily on the salaries and related expenses for certain of
the ITC Holding executives and an estimate of their time spent on projects
specific to the Company. For the years ended December 31, 1996 and 1997 and the
period ended July 31, 1998, the Company recorded approximately $24,000, $31,000,
and $92,000, respectively, in selling, operations, and administrative expenses
related to these services. In the opinion of management, amounts charged to the
Company are consistent with costs that would be incurred from third party
providers. Additionally, during 1997, ITC Holding paid several invoices related
to the construction of the Company's
F-37
<PAGE> 129
KNOLOGY HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
building. At December 31, 1997, there is approximately $419,000 related to these
payments included in accounts payable -- affiliate in the Company's balance
sheet.
Certain of ITC Holding affiliates provide the Company with various services
and/or receive services provided by the Company. These entities include
Interstate Telephone Company, which provides switching and billing telephone
services; and InterCall, Inc., which provides conference calling services. In
addition, we receive services from ITCODeltaCom, Inc., an affiliate of ITC
Holding which provides wholesale long-distance and related services and which
leases capacity on certain of its fiber routes. ITC Holding also holds equity
investments in the following entities which do business with the Company:
Powertel, Inc., which provides cellular services, and MindSpring Enterprises,
Inc., which is a national provider of Internet access. In management's opinion,
the Company's transactions with these affiliated entities are representative of
arm's-length transactions.
For the years ended December 31, 1996 and 1997 and the period ended July
31, 1998, the Company received services from these affiliated entities in the
amounts of $48,000, $247,000, and $757,000, respectively, which are reflected in
cost of services and selling, operations, and administrative expenses in the
Company's statements of operations. In addition, in 1996 and 1997, the Company
received services from these affiliated entities in the amount of $11,000 and
$13,000, respectively, which is reflected in field and technical expenses in the
Company's statement of operations. At December 31, 1997, amounts payable for
these services of $33,000 are recorded in the Company's balance sheet as
accounts payable -- affiliate.
During 1998, the Company leased office space to ITCODeltaCom, Inc. and
Powertel, Inc. Approximately $137,000 of lease income related to these
transactions is recorded as other income in the Company's statement of
operations for the year ended July 31, 1998.
In December 1996 and 1997, the Company invested $5,000 and $55,000,
respectively, in an airplane co-owned by ITC Holding and several of its
subsidiaries and other affiliated entities.
Relatives of the stockholders of ITC are stockholders and employees of the
Company's insurance provider. The costs charged to the Company for insurance
services were approximately $36,000, $134,000, and $140,000 or the years ended
December 31, 1996, 1997, and the period ended July 31, 1997, respectively.
The chief executive officer of an affiliate served from July 15, 1996 to
February 20, 1997 as president and chief executive officer of the Company. He
served in his capacity as chief executive officer and president of the Company
at the request of the Company and ITC Holding and received no compensation from
the Company for the year ended December 31, 1996. The value of his services
provided through February 20, 1997 is estimated to total approximately $20,000.
9. BUSINESS ACQUISITIONS
On June 1, 1998, the Company acquired TTE, Inc., a non-facilities based
reseller of local, long distance and operator services to small and medium-sized
business customers throughout South Carolina, for a purchase price of $1.3
million. The acquisition has been accounted for under the purchase method of
accounting.
On December 5, 1997, the Company consummated the acquisition of Beach
Cable, Inc., a Florida corporation that owned and operated a cable television
system in Panama City Beach, Florida ("Beach Cable"). The acquisition was
effected pursuant to an Agreement and Plan of Merger dated December 5, 1997 (the
"Merger Agreement") by and among the Company, KNOLOGY of Panama City, Inc.,
Beach Cable, and L. Charles Hilton, Jr., the sole stockholder of Beach Cable,
under which KNOLOGY of Panama City, Inc., a Delaware corporation and a wholly
owned subsidiary of the Company, merged (the "Merger") with and into Beach
Cable. Beach Cable, the surviving corporation in the Merger, was
F-38
<PAGE> 130
KNOLOGY HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
renamed KNOLOGY of Panama City, Inc. as of the effective time of the Merger (the
"Effective Time") and became a wholly owned subsidiary of the Company. At the
Effective Time, all of the issued and outstanding shares of Common Stock, no par
value, of KNOLOGY of Panama City were converted into 2,485 shares of preferred
stock, par value $.01 per share, of the Company valued at approximately $3.7
million. Immediately following the Merger, the Company also contributed cash of
approximately $3.9 million to KNOLOGY of Panama City to repay an existing note
and related accrued interest to Hilton, Inc., a holding company owned by L.
Charles Hilton, Jr. The Merger has been accounted for under the purchase method
of accounting.
As a result of the acquisition of KNOLOGY of Panama City, Inc.,
approximately one month's operations of KNOLOGY of Panama City are included in
the accompanying statement of operations for the year ended December 31, 1997.
The following unaudited pro forma results of operations for the years ended
December 31, 1997 and 1998 assumes that the TTE, Inc. and Beach Cable, Inc.
acquisitions occurred on January 1, 1997. The pro forma information is presented
for informational purposes only and may not be indicative of the actual results
of operations had the acquisitions occurred on the assumed date, nor is the
information necessarily indicative of future results of operations.
<TABLE>
<CAPTION>
1997 1998
------------ ------------
<S> <C> <C>
Operating revenues.......................................... $ 14,264,686 $ 12,493,550
Loss before extraordinary items............................. (10,074,430) (17,909,739)
Net loss.................................................... (10,074,430) (18,492,280)
Net loss per share(a)....................................... (2.33) (2.47)
</TABLE>
(a) Net loss per share is computed using 4,325,250 and 7,497,696 as the number
of shares outstanding at December 31, 1997 and July 31, 1998, respectively.
10. SEGMENT INFORMATION
Effective January 1998, the Company adopted SFAS No. 131, "Disclosures
about segments of an Enterprise and Related Information," which established
revised standards for the reporting of financial and descriptive information
about operating segments in financial statements.
The Company owns and operates advanced hybrid fiber-coaxial networks and
provides residential and business customers broadband communications services,
including video analog and digital cable television and local and long-distance
telephone. Internet services include high-speed Internet access via cable
modems, local transport services, such as local Internet transport, special
access, local private line, and local exchange transport services. Management
has identified the reportable segments based on broadband services offered.
While management of the Company monitors the revenue generated from each of
the various broadband services, operations are managed and financial performance
is evaluated based upon the delivery of a multiple of the services to customers
over a single network. As a result of multiple services being provided over a
single network, there are many shared expenses and shared assets related to
providing the various broadband services to customers. Management believes that
any allocation of the shared expenses or assets to the broadband services would
be arbitrary and impractical.
F-39
<PAGE> 131
KNOLOGY HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Revenues by broadband communications service are as follows:
<TABLE>
<CAPTION>
SEVEN
MONTHS
YEAR ENDED DECEMBER 31 ENDED
------------------------ JULY 31,
1996 1997 1998
---------- ----------- -----------
<S> <C> <C> <C>
Video............................................ $5,334,183 $10,319,495 $ 9,991,798
Telephone........................................ 0 16,490 1,077,674
Internet services................................ 0 19,083 80,687
---------- ----------- -----------
Consolidated revenues............................ $5,334,183 $10,355,068 $11,150,159
========== =========== ===========
</TABLE>
11. SUBSEQUENT EVENTS
CREDIT FACILITY
On December 22, 1998, the Company entered into a $50 million four-year
senior secured credit facility with First Union National Bank and First Union
Capital Markets Corp., which may be used for working capital and other purposes,
including capital expenditures and permitted acquisitions. At the Company's
option, interest will accrue based on either the Alternate Base Rate plus
applicable margin or the LIBOR rate plus applicable margin. Obligations under
the credit facility will be secured by substantially all tangible and intangible
assets of the Company and its current and future subsidiaries. The credit
facility includes a number of covenants, including, among others, covenants
limiting the ability of the Company and its subsidiaries and their present and
future subsidiaries to incur debt, create liens, pay dividends, make
distributions or stock repurchases, make certain investments, engage in
transactions with affiliates, sell assets, and engage in certain mergers and
acquisitions. The credit facility also includes covenants requiring compliance
with certain operating and financial ratios on a consolidated basis. The credit
facility allows the Company to borrow up to five times certain individual
subsidiaries' consolidated adjusted cash flow as defined in the credit facility.
In connection with the initiation of the revolving credit facility, the Company
incurred $1,255,681 in related costs which are being amortized on a
straight-line basis over the five year term.
ACQUISITIONS
On October 30, 1998, the Company acquired substantially all of the assets
of Cable Alabama Corporation ("Cable Alabama") for approximately $60,733,000 in
cash and also purchased for $5,000,000 in cash, certain real property located in
Huntsville, Alabama (the "Acquisition"). Cable Alabama owned and operated a
cable television system serving the Huntsville, Alabama area. KNOLOGY plans to
upgrade the existing Cable Alabama plant into a high-speed fiber-coaxial network
that is two-way interactive to provide additional broadband communications
services, such as local and long-distance service, digital television and
high-speed Internet access. The acquisition has been accounted for under the
purchase method of accounting.
F-40
<PAGE> 132
KNOLOGY HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The assets acquired are held by KNOLOGY of Huntsville, Inc. and have been
included in the Company's consolidated financial statements effective September
1, 1998. The unaudited pro forma results of operations for the years ended
December 31, 1997 and 1998 assumes the acquisition occurred on January 1, 1997.
The pro forma information is presented for informational purposes only and may
not be indicative of the actual results of operations had the Acquisition
occurred on the assumed date, nor is the information necessarily indicative of
future results of operations.
<TABLE>
<CAPTION>
1997 1998
------------ ------------
<S> <C> <C>
Operating revenues.......................................... $ 22,379,066 $ 18,914,289
Loss before extraordinary item.............................. (23,659,283) (26,648,764)
Net loss.................................................... (23,659,283) (27,231,305)
Net loss per share(a)....................................... (5.47) (3.63)
</TABLE>
(a) Loss per share is computed using 4,325,250 and 7,497,696 as the number of
shares outstanding at December 31, 1997 and July 31, 1998, respectively.
F-41
<PAGE> 133
INDEPENDENT AUDITORS' REPORT
Stockholders
CableAmerica Corporation
Phoenix, Arizona
We have audited the accompanying balance sheets of Cable Alabama
Corporation (the "Company") a wholly-owned subsidiary of CableAmerica
Corporation as of August 31, 1998 and September 30, 1997, and the related
statements of operations and deficit and of cash flows for the eleven-month
period ended August 31, 1998 and the year ended September 30, 1997. These
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, such financial statements present fairly, in all material
respects, the financial position of the Company at August 31, 1998 and September
30, 1997, and the results of its operations and its cash flows for the
eleven-month period ended August 31, 1998 and the year ended September 30, 1997
in conformity with generally accepted accounting principles.
The accompanying financial statements have been prepared from the separate
records maintained by the Company and may not necessarily be indicative of the
conditions that would have existed or the results of operations if the Company
had been operated as an unaffiliated company (see Notes 1 and 5 to the financial
statements regarding expenses allocated from CableAmerica Corporation).
As discussed in Note 6 to the financial statements, on October 30, 1998,
the Company sold substantially all of its assets.
/s/ DELOITTE & TOUCHE LLP
Phoenix, Arizona
December 7, 1998
F-42
<PAGE> 134
CABLE ALABAMA CORPORATION
(A WHOLLY-OWNED SUBSIDIARY OF CABLEAMERICA CORPORATION)
BALANCE SHEETS
AUGUST 31, 1998 AND SEPTEMBER 30, 1997
<TABLE>
<CAPTION>
1998 1997
------------ ------------
<S> <C> <C>
ASSETS (Note 6)
CURRENT ASSETS:
Cash and cash equivalents................................. $ 8,640 $ 19,753
Subscriber accounts receivable -- less allowance for
doubtful accounts of $68,000 and $101,000.............. 930,026 889,105
Prepaid expenses and other assets......................... 336,126 400,037
Deferred income taxes (Note 4)............................ 2,174,000 2,340,000
------------ ------------
Total current assets.............................. 3,448,792 3,648,895
------------ ------------
CABLE TELEVISION SYSTEMS AND EQUIPMENT:
Reception and distribution facilities..................... 34,926,769 31,699,513
Land, building and improvements........................... 81,178 68,809
Vehicles, equipment and fixtures.......................... 1,321,356 1,261,170
Construction in progress.................................. 116,557 336,673
------------ ------------
Total............................................. 36,445,860 33,366,165
Less accumulated depreciation and amortization............ (22,689,797) (20,352,138)
------------ ------------
Cable television systems and equipment -- net..... 13,756,063 13,014,027
------------ ------------
TOTAL............................................. $ 17,204,855 $ 16,662,922
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY (Note 6)
CURRENT LIABILITIES:
Accounts payable.......................................... $ 868,237 $ 2,389,229
Accrued payroll........................................... 88,544 103,001
Accrued property tax...................................... 125,740 96,807
Other accrued expenses.................................... 237,939 260,961
------------ ------------
Total current liabilities......................... 1,320,460 2,849,998
------------ ------------
COMMITMENTS AND CONTINGENCIES (Notes 2, 3 and 6)
STOCKHOLDERS' EQUITY (Note 2):
Common stock, $100 par value -- authorized, 1,500 shares;
issued and outstanding, 1,500 shares................... 150,000 150,000
Additional paid-in capital................................ 20,664,426 18,886,572
Deficit................................................... (4,930,031) (5,223,648)
------------ ------------
Total stockholders' equity........................ 15,884,395 13,812,924
------------ ------------
TOTAL............................................. $ 17,204,855 $ 16,662,922
============ ============
</TABLE>
See notes to financial statements.
F-43
<PAGE> 135
CABLE ALABAMA CORPORATION
(A WHOLLY-OWNED SUBSIDIARY OF CABLEAMERICA CORPORATION)
STATEMENTS OF OPERATIONS AND DEFICIT
ELEVEN-MONTH PERIOD ENDED AUGUST 31, 1998 AND
YEAR ENDED SEPTEMBER 30, 1997
<TABLE>
<CAPTION>
1998 1997
----------- -----------
<S> <C> <C>
REVENUES:
Basic services............................................ $ 7,791,166 $ 7,540,638
Pay services.............................................. 2,096,561 2,298,352
Other services............................................ 2,153,775 2,185,008
----------- -----------
Total revenues.................................... 12,041,502 12,023,998
----------- -----------
COSTS AND EXPENSES:
Programming............................................... 4,285,888 4,103,038
Selling, general and administrative....................... 3,421,791 3,477,576
Depreciation and amortization............................. 2,415,754 2,543,540
Allocated corporate expenses (Note 5)..................... 1,458,452 1,669,996
----------- -----------
Total costs and expenses.......................... 11,581,885 11,794,150
----------- -----------
INCOME BEFORE INCOME TAX PROVISION.......................... 459,617 229,848
INCOME TAX PROVISION (Note 4)............................... 166,000 80,000
----------- -----------
NET INCOME.................................................. 293,617 149,848
DEFICIT, BEGINNING OF PERIOD................................ (5,223,648) (5,373,496)
----------- -----------
DEFICIT, END OF PERIOD...................................... $(4,930,031) $(5,223,648)
=========== ===========
</TABLE>
See notes to financial statements.
F-44
<PAGE> 136
CABLE ALABAMA CORPORATION
(A WHOLLY-OWNED SUBSIDIARY OF CABLEAMERICA CORPORATION)
STATEMENTS OF CASH FLOWS
ELEVEN-MONTH PERIOD ENDED AUGUST 31, 1998 AND
YEAR ENDED SEPTEMBER 30, 1997
<TABLE>
<CAPTION>
1998 1997
----------- -----------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income................................................ $ 293,617 $ 149,848
Adjustments to reconcile net income to net cash provided
by operating activities:
Depreciation and amortization.......................... 2,415,754 2,543,540
Deferred income taxes.................................. 166,000 80,000
Changes in operating assets and liabilities:
Subscriber accounts receivable....................... (40,921) (226,021)
Prepaid expenses and other assets.................... 63,910 (17,876)
Accounts payable..................................... (1,520,992) 1,170,861
Accrued expenses and other liabilities............... (8,546) 24,906
----------- -----------
Net cash provided by operating activities......... 1,368,822 3,725,258
----------- -----------
CASH FLOWS USED IN INVESTING ACTIVITIES -- Purchase or
construction of cable television systems and equipment.... (3,157,789) (5,323,569)
----------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES -- Contributions to
capital by parent company................................. 1,777,854 1,613,437
----------- -----------
(DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS............ (11,113) 15,126
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD.............. 19,753 4,627
----------- -----------
CASH AND CASH EQUIVALENTS, END OF PERIOD.................... $ 8,640 $ 19,753
=========== ===========
</TABLE>
See notes to financial statements.
F-45
<PAGE> 137
CABLE ALABAMA CORPORATION
(A WHOLLY-OWNED SUBSIDIARY OF CABLEAMERICA CORPORATION)
NOTES TO FINANCIAL STATEMENTS
ELEVEN-MONTH PERIOD ENDED AUGUST 31, 1998 AND
YEAR ENDED SEPTEMBER 30, 1997
1. BASIS OF PRESENTATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation -- Cable Alabama Corporation (the "Company") is a
wholly-owned subsidiary of CableAmerica Corporation ("CAC"). The accompanying
financial statements have been prepared from the separate records maintained by
the Company and may not necessarily be indicative of the conditions that would
have existed or the results of operations if the Company had been operated as an
unaffiliated company (see Note 5 regarding expenses allocated from CAC). The
Company provides cable television services to various communities within
Alabama.
Significant accounting policies are summarized below:
a. Cable Television Systems and Equipment -- Cable television systems and
equipment are stated at cost and are depreciated using the straight-line method
over the estimated useful lives as follows:
<TABLE>
<S> <C>
Reception and distribution facilities....................... 10 years
Equipment and fixtures...................................... 5-10 years
Vehicles.................................................... 3-5 years
Buildings and improvements.................................. 10-30 years
</TABLE>
Direct costs associated with the construction of new cable television
plant, the expansion of existing cable television plant, and the
rebuilding of cable television plant are capitalized. Interest allocated
from CAC is capitalized on construction-in-progress. Interest costs of
approximately $10,000 and $26,000 were capitalized in 1998 and 1997,
respectively.
b. Cash and cash equivalents include cash on hand and in banks.
c. Income Taxes -- The Company is included in the consolidated income tax
return of CAC. CAC's policy is to allocate income tax expense or benefit to
subsidiaries as if they filed separate returns. The Company follows Statement of
Financial Accounting Standards ("SFAS") No. 109 Accounting for Income Taxes.
SFAS No. 109 requires an asset and liability approach for financial accounting
and reporting for income tax purposes. This statement recognizes (a) the amount
of taxes payable or refundable for the current year, and (b) deferred tax
liabilities and assets for the future tax consequences of events that have been
recognized in the financial statements or tax returns.
d. Use of Estimates -- The preparation of financial statements in
conformity with generally accepted accounting principles necessarily requires
management to make estimates and assumptions that affect the reported amounts of
assets and liabilities and disclosures 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 these
estimates.
2. STOCKHOLDERS' EQUITY
CAC has a $42,500,000 revolving line of credit agreement with two
commercial banks. At August 31, 1998 and September 30, 1997, CAC had borrowings
under the lines of credit of $42,500,000 and $37,800,000, respectively.
Borrowings are collateralized by all of the common stock of each of the wholly-
owned subsidiary companies of CAC, including the Company. The lines of credit
were paid off and terminated on October 30, 1998 (Note 6).
3. LEASES
Operating Leases -- The Company has operating leases for various offices
and warehouses under terms ranging from one to ten years. Rental expense
amounted to $163,000 and $184,000 for the eleven-month period ended August 31,
1998 and the year ended September 30, 1997, respectively, which was paid to the
shareholders of CAC, as lessors of such leases.
F-46
<PAGE> 138
CABLE ALABAMA CORPORATION
(A WHOLLY-OWNED SUBSIDIARY OF CABLEAMERICA CORPORATION)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
In connection with the sale of assets subsequent to year-end, described in
Note 6, all of the Company's lease agreements were assumed by the purchaser.
4. INCOME TAXES
A reconciliation of the difference between the provision for income taxes
and income taxes at the statutory United States federal income tax rate for the
eleven-month period ended August 31, 1998 and the year ended September 30, 1997
is as follows:
<TABLE>
<CAPTION>
1998 1997
-------- --------
<S> <C> <C>
Income tax provision at statutory United States federal
income tax rate............................................. $156,000 $ 73,000
State taxes and other....................................... 10,000 7,000
-------- --------
Income tax provision........................................ $166,000 $ 80,000
======== ========
</TABLE>
The components of the Company's deferred income tax asset are as follows:
<TABLE>
<CAPTION>
AUGUST 31, SEPTEMBER 30,
1998 1997
---------- -------------
<S> <C> <C>
Federal net operating loss carryforwards.................... $2,793,000 $2,863,000
State net operating loss carryforwards...................... 468,000 474,000
Difference in book and tax carrying basis of property and
equipment................................................. (1,626,000) (1,548,000)
Tax credits................................................. 484,000 484,000
Other....................................................... 55,000 67,000
---------- ----------
Net deferred tax asset...................................... $2,174,000 $2,340,000
========== ==========
</TABLE>
The Company has approximately $9.1 million of estimated Alabama state net
operating loss carryforwards available to offset state taxable income. These
carryforwards expire through 2012.
Additionally, the Company has been allocated the following carryforwards
available as offsets to Federal taxable income or as credits against regular
federal income taxes:
<TABLE>
<CAPTION>
NET OPERATING LOSSES ALTERNATIVE MINIMUM TAX CREDITS
EXPIRING FROM 2005 TO 2012 AND INVESTMENT TAX CREDITS
- -------------------------- -------------------------------
<S> <C>
$8,100,000 $484,000
----------- ---------
</TABLE>
5. ALLOCATED CORPORATE EXPENSES
CAC provides substantially all administration, finance and accounting
services for the Company. CAC allocates corporate expenses, including interest
(based on total assets) and other expenses (based on the number of basic
subscribers) to its subsidiaries. The total expenses allocated to the Company
for 1998 and 1997 were approximately $1,458,000 and $1,670,000, respectively.
6. SUBSEQUENT EVENT
On October 30, 1998, the Company sold substantially all of its assets.
Proceeds of the sale were approximately $60,000,000.
F-47
<PAGE> 139
PRO FORMA FINANCIAL INFORMATION
The pro forma balance sheet as of September 30, 1999 gives effect to the
Reorganization and related activities, the exercise of the SCANA warrants, the
portion of the private placement under firm commitment, and the ITC Holding
loans that have been or will be converted to equity as if they had occurred on
September 30, 1999. Pro forma statements of operations for the nine months ended
September 30, 1999 and the year ended December 31, 1998 are presented below to
give effect to the Reorganization as if it had occurred on January 1, 1998. The
pro forma statement of operations for the year ended December 31, 1998 also
gives effect to the acquisition of Cable Alabama as if it had occurred on
January 1, 1998.
The unaudited pro forma consolidated financial information is presented for
illustrative purposes only and is not necessarily indicative of the financial
position or results of operations that would have actually been reported had the
pro forma transactions occurred at the beginning of the periods presented, nor
is it indicative of future financial position or results of operations.
UNAUDITED CONSOLIDATED PRO FORMA BALANCE SHEET
AS OF SEPTEMBER 30, 1999
<TABLE>
<CAPTION>
HISTORICAL PRO FORMA PRO FORMA
KNOLOGY, INC. ADJUSTMENTS KNOLOGY, INC.
------------- ----------- -------------
<S> <C> <C> <C>
CURRENT ASSETS:
Cash and cash equivalents .................... $ 21,199,977 $ 1,129,500(a) $ 97,992,483
30,000,000(b)
40,000,000(c)
5,663,006(e)
Accounts receivable, net...................... 9,674,793 -- 9,674,793
Accounts receivable, affiliates............... 8,636,849 (8,636,849)(g) --
Prepaid expenses.............................. 1,216,793 -- 1,216,793
------------ ----------- ------------
Total current assets.................. 40,728,412 68,155,657 108,884,069
------------ ----------- ------------
PROPERTY, PLANT AND EQUIPMENT, NET.............. 258,655,902 -- 258,655,902
------------ ----------- ------------
OTHER LONG-TERM ASSETS:
Intangible and other assets, net.............. 58,307,193 22,418,100(d) 80,725,293
Investments................................... 1,412,064 1,836,992(e) 3,249,056
Other......................................... 559,677 -- 559,677
------------ ----------- ------------
Total assets.......................... $359,663,248 $92,410,749 $452,073,997
============ =========== ============
CURRENT LIABILITIES:
Current portion of long-term debt............. $ 12,174 $ -- $ 12,714
Accounts payable.............................. 16,050,716 -- 16,050,716
Accounts payable -- affiliates................ 347,203 -- 347,203
Accrued liabilities........................... 6,907,270 -- 6,907,270
Advances from affiliates...................... 1,171,252 -- 1,171,252
Unearned revenue.............................. 3,593,068 -- 3,593,068
------------ ----------- ------------
Total current liabilities............. 28,081,683 -- 28,081,683
NONCURRENT LIABILITIES:
Notes payable................................. 19,116,496 -- 19,116,496
Accrued interest payable...................... 35,825,088 -- 35,825,088
Unamortized investment tax credits............ 388,277 -- 388,277
Deferred income taxes......................... 321,658 (321,658)(g) --
Bonds payable, net of discount................ 266,472,157 -- 266,472,157
------------ ----------- ------------
Total liabilities..................... 350,205,359 (321,658) 349,883,701
WARRANTS........................................ 2,486,960 2,239,105(d) 4,726,065
------------ ----------- ------------
</TABLE>
F-48
<PAGE> 140
<TABLE>
<CAPTION>
HISTORICAL PRO FORMA PRO FORMA
KNOLOGY, INC. ADJUSTMENTS KNOLOGY, INC.
------------- ----------- -------------
<S> <C> <C> <C>
STOCKHOLDERS' EQUITY:
Series A Preferred Stock...................... -- 4,518(a) 480,355
20,297(c)
22,807(e)
432,733(f)
Series B Preferred Stock...................... -- 63,158(b) 63,158
Common stock.................................. 600 (575)(f) 25
Additional paid in capital.................... 70,259,279 22,418,100(d) 169,320,002
1,920,150(a)
29,936,842(b)
39,979,703(c)
(2,239,105)(d)
7,477,191(e)
(432,158)(f)
Accumulated Deficit........................... (63,265,300) (795,168)(a) (72,375,659)
(8,315,191)(g)
Unrealized losses............................. (23,650) -- (23,650)
------------ ----------- ------------
Total stockholders' equity............ 6,970,929 90,493,302 97,464,231
------------ ----------- ------------
Total liabilities and stockholders'
equity.............................. $359,663,248 $92,410,749 $452,073,997
============ =========== ============
</TABLE>
- ---------------
(a) Reflects the exercise of the SCANA warrants and the related net cash
proceeds of $1.1 million and the recording of the fair value of the
warrants as determined by the Black-Scholes model of $0.8 million and the
related charge to retained earnings.
(b) Reflects $30 million of firm commitments in the private placement of Series
B preferred stock.
(c) Reflects $40 million of loans from ITC Holding converted into 2,029,724
shares of Series A preferred stock and options to purchase 6,391,329 shares
of Series A preferred stock. The option amount is reflected in additional
paid-in capital as no options have been exercised.
(d) Reflects the acquisition of minority interest of KNOLOGY Holdings recorded
at the fair market value of consideration surrendered of $22.4 million and
the exchange of our warrants for KNOLOGY Holdings warrants and the
cancellation of the KNOLOGY Holdings warrants.
(e) Reflects the contribution of ITC Holding's approximate 6% interest in
ClearSource, cash of $5.7 million and subscription rights to purchase
ClearSource shares, in exchange for 2,280,702 shares of Series A preferred
stock recorded at the historical cost of $1.8 million for the ClearSource
shares contributed and $5.7 million for the cash contributed.
(f) Reflects the recording of the distribution.
(g) Reflects the elimination of deferred income taxes and the related affiliate
receivable which resulted from KNOLOGY Holdings participation in the tax
sharing arrangement with ITC Holding. As KNOLOGY will prepare its income tax
return on a separate company basis, it will provide a full valuation
allowance against any income tax benefit.
F-49
<PAGE> 141
UNAUDITED CONSOLIDATED PRO FORMA STATEMENT OF OPERATIONS
FOR THE PERIOD ENDED SEPTEMBER 30, 1999
<TABLE>
<CAPTION>
HISTORICAL PRO FORMA
KNOLOGY, PRO FORMA KNOLOGY,
INC. ADJUSTMENTS INC.
------------- ------------- -------------
<S> <C> <C> <C>
REVENUE.......................................... $ 48,824,228 $ -- $ 48,824,228
OPERATING EXPENSES
Cost of services............................... 18,573,719 -- 18,573,719
Selling, operations and administrative......... 35,760,116 -- 35,760,116
Depreciation and amortization.................. 28,697,148 1,681,358(a) 30,378,506
------------ ------------- ------------
Total Operating Expenses............... 83,030,983 1,681,358 84,712,341
OTHER INCOME (EXPENSE)
Interest income................................ 1,251,191 -- 1,251,191
Interest expense............................... (24,073,491) -- (24,073,191)
Affiliate interest expense..................... (106,248) -- (106,248)
Other income................................... 174,122 -- 174,122
------------ ------------- ------------
(22,754,426) -- (22,754,426)
------------ ------------- ------------
LOSS BEFORE INCOME TAXES AND MINORITY INTEREST... (56,961,181) (1,681,358) (58,642,539)
MINORITY INTEREST................................ 3,267,653 (3,267,653)(a) --
------------ ------------- ------------
LOSS BEFORE INCOME TAXES......................... (53,693,528) (4,949,011) (58,642,539)
INCOME TAX BENEFIT............................... 11,011,711 (11,011,711)(b) --
------------ ------------- ------------
PRO FORMA LOSS ATTRIBUTABLE TO COMMON
SHAREHOLDERS................................... $(42,681,817) $ (15,960,722) $(58,642,539)
============ ============= ============
BASIC AND DILUTED LOSS PER SHARE................. $ (711.36) $ (977.38)
============ ============
WEIGHTED AVERAGE NUMBER OF COMMON SHARES -- BASIC
AND DILUTED.................................... 60,000 60,000
============ ============
</TABLE>
- ---------------
(a) Reflects the elimination of the minority interest and additional
amortization expense associated with the increase in intangible assets
which resulted from the acquisition of minority interests at fair market
value in conjunction with the Exchange. The intangible assets of $22.4
million will be amortized over ten years.
(b) Reflects the elimination of income tax benefit due to the operating losses
of the consolidated entity. After the distribution, KNOLOGY Holdings will
no longer participate in a tax sharing agreement with ITC Holding and thus
record a full valuation allowance against the income tax benefit.
F-50
<PAGE> 142
UNAUDITED PRO FORMA STATEMENT OF OPERATIONS
FOR THE YEAR ENDED DECEMBER 31, 1998
<TABLE>
<CAPTION>
HISTORICAL (A) PRO FORMA PRO FORMA
KNOLOGY, INC. CABLE ALABAMA ADJUSTMENTS KNOLOGY, INC.
------------- ------------- ------------- -------------
<S> <C> <C> <C> <C>
REVENUE............................ $ 45,132,522 $8,873,291 $ -- $ 54,005,813
OPERATING EXPENSES
Cost of services................. 12,739,540 3,181,970 -- 15,921,510
Selling, operations and
administrative................ 37,323,345 2,463,277 (122,756)(b) 39,663,866
Depreciation and amortization.... 17,108,034 1,764,472 8,846,500(c) 29,960,816
2,241,810(f)
Allocated corporate expenses..... -- 996,601 -- 996,601
------------ ---------- ------------- ------------
Total Operating
Expenses............... 67,170,919 8,406,320 10,965,554 86,542,793
OTHER INCOME (EXPENSE)
Interest income.................. 9,639,050 -- (2,383,333)(e) 7,255,717
Interest expense................. (29,033,088) -- -- (29,033,088)
Affiliate interest expense....... (34,115) -- -- (34,115)
Other income..................... 782,954 -- -- 782,954
------------ ---------- ------------- ------------
(18,645,199) -- (2,383,333) (21,028,552)
------------ ---------- ------------- ------------
LOSS BEFORE INCOME TAXES, MINORITY
INTERESTS, AND CUMULATIVE EFFECT
OF CHANGE IN ACCOUNTING
PRINCIPLE........................ (40,683,596) 466,971 (13,348,887) (53,565,512)
MINORITY INTEREST.................. 13,294,079 -- (8,968,717)(d) --
(4,325,362)(f)
------------ ---------- ------------- ------------
LOSS BEFORE INCOME TAXES CUMULATIVE
EFFECT OF CHANGE IN ACCOUNTING
PRINCIPLE........................ (27,389,517) 466,971 (26,642,966) (53,565,512)
INCOME TAX BENEFIT................. 5,631,618 (173,000) (5,458,618)(g) --
------------ ---------- ------------- ------------
LOSS BEFORE CUMULATIVE EFFECT OF
CHANGE IN ACCOUNTING PRINCIPLE... (21,757,899) 293,971 (32,101,584) (53,565,512)
CUMULATIVE EFFECT OF A CHANGE IN
ACCOUNTING PRINCIPLE............. (582,541) -- -- (582,541)
------------ ---------- ------------- ------------
NET LOSS........................... (22,340,440) 293,971 (32,101,584) (54,148,053)
PREFERRED STOCK DIVIDENDS.......... (1,424,222) -- 1,424,222(h) --
------------ ---------- ------------- ------------
PRO FORMA INCOME (LOSS)
ATTRIBUTABLE TO COMMON
SHAREHOLDERS:.................... $(23,764,662) $ 293,971 $ (30,677,362) $(54,148,053)
============ ========== ============= ============
BASIC AND DILUTED LOSS PER
SHARE:........................... $ (409.52) $ (902.47)
============ ============
WEIGHTED AVERAGE NUMBER OF COMMON
SHARES -- BASIC AND DILUTED...... 60,000 60,000
============ ============
</TABLE>
F-51
<PAGE> 143
- ---------------
(a) The effective date of the Cable Alabama acquisition was September 1, 1998.
These historical amounts related to Cable Alabama include the unaudited
results of operations for the period January 1, 1998 to August 31, 1998.
(b) Reflects the reduction of rent expense related to the purchase of real
property in connection with the Cable Alabama transaction.
(c) Reflects additional depreciation and amortization expense associated with
the increase in the basis of the acquired assets to fair market value at the
date of acquisition and the allocation of the purchase price to the acquired
subscriber base and non-compete agreement. Amounts allocated to subscriber
base, non-compete agreement, plant and building are amortized over three,
three, ten and twenty-five years, respectively. The purchase price
allocation arising from the acquisition of Cable Alabama is as follows:
<TABLE>
<S> <C>
Property, plant and equipment............................... $30,117,306
Customer list............................................... 34,115,706
Noncompete agreement........................................ 1,500,000
-----------
65,733,012
===========
</TABLE>
(d) Represents the increase in losses applicable to the Company based on an 85%
ownership interest in KNOLOGY Holdings for the year ended December 31, 1998.
(e) Reflects the elimination of interest income resulting from lower cash and
investments due to cash paid for acquisition.
(f) Reflects the elimination of the minority interest and additional
amortization expense associated with the increase in intangible assets which
resulted from the acquisition of minority interests at fair market value in
conjunction with the Exchange. The intangible assets of $22.4 million will
be amortized over ten years.
(g) Reflects the elimination of income tax benefit due to the operating losses
of the consolidated entity. After the distribution, KNOLOGY Holdings will no
longer participate in a tax sharing agreement with ITC Holding and thus
record a full valuation allowance against the income tax benefit.
(h) Reflects the elimination of earnings, distributed to ITC Holding related to
any excess earnings that would be allocated to business development of
KNOLOGY.
F-52
<PAGE> 144
PART II
INFORMATION NOT REQUIRED IN PROSPECTUS
ITEM 13. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION
The following table sets forth the various expenses in connection with the
issuance and distribution of the securities being registered hereby, other than
underwriting discounts and commissions. All amounts are estimated.
<TABLE>
<S> <C>
Blue Sky Fees and Expenses.................................. $
Accounting Fees and Expenses................................
Legal Fees and Expenses.....................................
Printing and Engraving Expenses.............................
Total.............................................
</TABLE>
ITEM 14. INDEMNIFICATION OF DIRECTORS AND OFFICERS
Under Section 145 of the Delaware corporation law, a corporation may
indemnify its directors, officers, employees and agents and its former
directors, officers, employees and agents and those who serve, at the
corporation's request, in such capacities with another enterprise, against
expenses (including attorneys' fees), as well as judgments, fines and
settlements in non derivative lawsuits, actually and reasonably incurred in
connection with the defense of any action, suit or proceeding in which they or
any of them were or are made parties or are threatened to be made parties by
reason of their serving or having served in such capacity. The Delaware
Corporation Law provides, however, that such person must have acted in good
faith and in a manner such person reasonably believed to be in (or not) the best
interests of the corporation and, in the case of a criminal action, such person
must have had no reasonable cause to believe his or her conduct was unlawful. In
addition, the Delaware corporation law does not permit indemnification in an
action or suit by or in the right of the corporation, where such person has been
adjudged liable to the corporation, unless, and only to the extent that, a court
determines that such person fairly and reasonably is entitled to indemnity for
costs the court deems proper in light of liability adjudication. Indemnity is
mandatory to the extent a claim, issue or matter has been successfully defended.
Our Certificate of Incorporation and our Bylaws contain provisions that further
provide for the indemnification of our directors and officers to the fullest
extent permitted by the Delaware Corporation Law.
ITEM 15. RECENT SALES OF UNREGISTERED SECURITIES
We were formed in September 1998 and commencing in November 1999 we are
serving as a holding company of KNOLOGY Holdings, Inc., Interstate Telephone
Company, Inc., Valley Telephone Company, Inc., Globe Telecommunications, Inc.
and ITC Globe, Inc. In the last three years, prior to our ownership of such
companies, our subsidiaries offered and sold the following equity securities
that were not registered under the Securities Act:
In December 1995 and January 1996, in connection with its initial
capitalization, KNOLOGY Holdings issued to certain of its stockholders 7,780
shares of its preferred stock for a purchase price of $1,000 per share, for an
aggregate amount of $7,780,000. ITC Holding Company, Inc. contributed $4,000,000
plus all of its direct and indirect interests in Cybernet Holding, L.L.C. and in
KNOLOGY of Columbus, Inc. in exchange for the preferred stock.
In April 1996, in connection with a private placement of its preferred
stock, KNOLOGY Holdings issued to certain of its current stockholders 9,312
shares of preferred stock for a purchase price of $1,200 per share, for an
aggregate amount of $11,174,400.
In February 1997, KNOLOGY Holdings issued 8,960 shares of its preferred
stock to certain of its current stockholders for a purchase price of $1,200 per
share, for an aggregate amount of $10,752,000.
II-1
<PAGE> 145
In October 1997, KNOLOGY Holdings issued approximately 21,400 shares of its
preferred stock to qualified investors in a equity private placement for a
purchase price of $1,500 per share, for an aggregate amount of approximately
$32.2 million. ITC Holding, Century Telephone Enterprises, Inc., South Atlantic,
the AT&T venture funds and SCANA Communications, Inc. purchased approximately
$10.0 million, $2.5 million, $5.5 million, $5.0 million and $5.0 million of our
preferred stock, respectively, in the equity private placement. ITC Holding
subsequently repurchased all shares of KNOLOGY Holdings' preferred stock owned
by Century Telephone, South Atlantic and SCANA Communications in 1998.
On October 22, 1997, KNOLOGY Holdings issued 444,100 units, each of which
consists of one senior discount note and one warrant to purchase .003734 shares
of its preferred stock, for net proceeds of approximately $242.4 million. The
warrants may be exercised at a price of $.01 per share, subject to adjustment,
at any time beginning one year after the date of issuance and prior to the close
of business on the tenth anniversary of such grant. Morgan Stanley & Co.
Incorporated, J.P. Morgan Securities, Inc. and First Union Capital Markets Corp.
served as KNOLOGY Holdings' placement agents in the transaction. SCANA
Communications purchased 71,050 of the units for an aggregate purchase price of
$39,998,308.
In December 1997, KNOLOGY Holdings acquired Beach Cable, Inc., a cable
television system in Panama City, Florida. L. Charles Hilton, Jr., who became a
director of our company in November 1999, was the founder and sole stockholder
of Beach Cable. Mr. Hilton received 2,485 shares of KNOLOGY Holdings preferred
stock in the acquisition valued at $1,500 per share. During 1998, 134 of these
shares were returned to KNOLOGY Holdings as part of a purchase price adjustment.
Pursuant to its 1995 stock option plan, KNOLOGY Holdings granted options to
purchase its common stock to its key employees and non-employee directors and
those of its subsidiaries. As of December 31, 1998, KNOLOGY Holdings had issued
outstanding options to purchase 692,168 shares of its common stock pursuant to
the plan at exercise prices ranging from $8.00 to $11.33 per share.
In May 1998, KNOLOGY Holdings issued 394 shares of its common stock, at an
exercise price of $8 per share, to an employee who exercised options granted
under its 1995 stock option plan.
Each issuance of securities described above was made in reliance on an
exemption from registration provided by Section 4(2) or Regulation D of the
Securities Act as a transaction by an issuer not involving any public offering.
The recipients of securities in each such transaction represented their
intention to acquire the securities for investment only and not with a view to
or for distribution in connection with such transactions and appropriate legends
were affixed to the share certificates issued in such transactions. All
recipients had adequate access to information about KNOLOGY Holdings, Inc.,
through their relationships with KNOLOGY Holdings or through information about
KNOLOGY Holdings made available to them.
ITEM 16. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
(a) Exhibits
<TABLE>
<CAPTION>
EXHIBIT
NUMBER EXHIBIT DESCRIPTION
- -------- -------------------
<C> <C> <S>
2.1(1) -- Agreement and Plan of Merger, dated December 5, 1997, by and
among KNOLOGY Holdings, Inc., KNOLOGY of Panama City, Inc.,
Beach Cable, Inc. and L. Charles Hilton
2.2(2) -- Purchase Agreement between Cable Alabama Corporation and
KNOLOGY of Huntsville, Inc., dated as of October 19, 1998.
3.1(4) -- Certificate of Incorporation of KNOLOGY, Inc.
3.2(4) -- Bylaws of KNOLOGY, Inc.
3.3(4) -- Certificate of Designations of Series A Preferred Stock
3.4(4) -- Certificate of Designations of Series B Preferred Stock
4.1(4) -- Specimen Certificate for Shares of Common Stock, par value
$0.01, of KNOLOGY, Inc.
</TABLE>
II-2
<PAGE> 146
<TABLE>
<CAPTION>
EXHIBIT
NUMBER EXHIBIT DESCRIPTION
- -------- -------------------
<C> <C> <S>
4.2(4) -- Specimen Certificate for Shares of Series A Preferred Stock,
par value $0.01, of KNOLOGY, Inc.
4.3(4) -- Specimen Certificate for shares of Series B Preferred Stock,
par value $0.01, of KNOLOGY, Inc.
4.4(1) -- Indenture dated as of October 22, 1997 between KNOLOGY
Holdings, Inc. and United States Trust Company of New York,
as Trustee, relating to the 11 7/8% Senior Discount Notes
Due 2007 of KNOLOGY Holdings, Inc.
4.5(1) -- Registration Rights Agreement, dated October 22, 1997,
between KNOLOGY Holdings, Inc., the Placement Agents and
SCANA Communications, Inc.
4.6 -- Form of Senior Discount Note (contained in Indenture filed
as Exhibit 4.5)
4.7 -- Form of Exchange Note (contained in Indenture filed as
Exhibit 4.5)
5.1(4) -- Opinion of Hogan & Hartson, L.L.P.
8.1(4) -- Opinion of Hogan & Hartson, L.L.P. regarding certain tax
matters.
10.1(1) -- Unit Purchase Agreement, dated as of October 16, 1997
between KNOLOGY Holdings, Inc. and SCANA Communications,
Inc.
10.2(1) -- Warrant Agreement, dated as of October 22, 1997, between
KNOLOGY Holdings, Inc. and United States Trust Company of
New York (including form of Warrant Certificate)
10.3(1) -- Warrant Registration Rights Agreement, dated as of October
22, 1997, between KNOLOGY Holdings, Inc. and United States
Trust Company of New York
10.4(1) -- Lease Agreement dated April 15, 1996 by and between D.L.
Jordan and American Cable Company, Inc.
10.5(1) -- Pole Attachment Agreement dated January 1, 1998 by and
between Gulf Power Company and Beach Cable, Inc.
10.6(1) -- Telecommunications Facility Lease and Capacity Agreement,
dated September 10, 1996, by and between Troup EMC
Communications, Inc. and Cybernet Holding, Inc.
10.7(1) -- Master Pole Attachment Agreement dated January 12, 1998 by
and between South Carolina Electric and Gas and KNOLOGY
Holdings, Inc. d/b/a/ KNOLOGY of Charleston.
10.8(1)*) -- License Agreement dated September 29, 1995 by and between
Montgomery Cablevision and Entertainment, Inc. and American
Communications Services of Montgomery, Inc.
10.9(1)*) -- License Agreement dated January 17, 1996 by and between
American Cable, Inc. and American Communication Services of
Columbus, Inc.
10.10(1)*) -- Addendum to License Agreement dated April 21, 1997 by and
between American Cable, Inc. and American Communication
Services of Columbus, Inc.
10.11(1) -- Lease Agreement, dated December 5, 1997 by and between The
Hilton Company and KNOLOGY of Panama City, Inc.
10.12(1)*) -- Billing and Collection Services Agreement dated April 2,
1997 by and between Interstate Telephone Company and
Cybernet Holding, Inc.
10.13(1) -- Certificate of Membership with National Cable Television
Cooperative, dated January 29, 1996, of Cybernet Holding,
Inc.
10.14(1) -- Stockholders' Agreement dated as of December 8, 1995 among
KNOLOGY Holdings, Inc. and Certain Stockholders thereof
10.15(1) -- Amendment No. 1 to Stockholders' Agreement dated as of
January 25, 1996.
10.16(1) -- Amendment No. 2 to Stockholders' Agreement dated as of April
18, 1996.
10.17(1) -- Amended and Restated Agreement dated as of July 28, 1997
among KNOLOGY Holdings, Inc. and Certain Stockholders
thereof
</TABLE>
II-3
<PAGE> 147
<TABLE>
<CAPTION>
EXHIBIT
NUMBER EXHIBIT DESCRIPTION
- -------- -------------------
<C> <C> <S>
10.18(2) -- Ordinance No. 99-16 effective March 16, 1999 between
Columbus consolidated Government and KNOLOGY of Columbus,
Inc.
10.19(1) -- Ordinance No. 16-90 (Montgomery, Alabama) dated March 6,
1990.
10.20(1) -- Ordinance No. 50-76 (Montgomery, Alabama)
10.21(1) -- Ordinance No. 9-90 (Montgomery, Alabama) dated January 16,
1990.
10.22(1) -- Resolution No. 58-95 (Montgomery, Alabama) dated April 6,
1995.
10.23(1) -- Resolution No. 92-7 (Panama City Beach, Florida) dated July
23, 1992.
10.24(1) -- License (Bay County, Florida) dated January 5, 1993.
10.25(1) -- Resolution No. 97-22 (Panama City Beach, Florida) dated
December 3, 1997.
10.26(1) -- Resolution No. 2075 (Bay County, Florida) dated November 18,
1997.
10.27(3) -- Ordinance No. 5999 (Augusta, Georgia) dated January 20,
1998.
10.28(3) -- Ordinance No. 1723 (Panama City, Florida) dated March 10,
1998.
10.30(2) -- Ordinance No. 98054 (Mount Pleasant, South Carolina) dated
March 9, 1999.
10.31(2) -- Franchise Agreement (Charleston County, South Carolina)
dated December 15, 1998.
10.32(2) -- Ordinance No. 1998-47 (North Charleston, South Carolina)
dated May 28, 1998.
10.33(2) -- Ordinance No. 1998-77 (Charleston, South Carolina) dated
April 28, 1998.
10.34(2) -- Ordinance No. 98-5 (Columbia County, Georgia) dated August
18, 1998.
10.35(2)*) -- Switching Agreement dated May 1, 1998 between Interstate
Telephone Company and KNOLOGY Holdings, Inc.
10.36(2) -- Network Access Agreement dated July 1, 1998 between SCANA
Communications, Inc., f/k/a MPX Systems, Inc. and KNOLOGY
Holdings, Inc.
10.37(2) -- Internet Access Contract dated September 1, 1998 between
ITCDelta DeltaCom, Inc. and KNOLOGY Holdings, Inc.
10.38(2) -- Collocation Agreement for Multiple Sites dated on or about
June 1998 between Interstate FiberNet, Inc. and KNOLOGY
Holdings, Inc.
10.39(2)*) -- Lease Agreement dated October 12, 1998 between Southern
Company Services, Inc. and KNOLOGY Holdings, Inc.
10.40(2) -- Facilities Transfer Agreement dated February 11, 1998
between South Carolina Electric and Gas Company and KNOLOGY
Holdings, Inc., d/b/a KNOLOGY of Charleston.
10.41(2) -- License Agreement dated March 3, 1998 between BellSouth
Telecommunications, Inc. and KNOLOGY Holdings, Inc.
10.44(2) -- Pole Attachment Agreement dated February 18, 1998 between
KNOLOGY Holdings, Inc. and Georgia Power Company
10.46(2) -- Assignment Agreement dated March 4, 1998 between Gulf Power
Company and KNOLOGY of Panama City, Inc.
10.47(2) -- Adoption Agreements dated March 1, 1999 between KNOLOGY
Holdings, Inc. and BellSouth Telecommunications, Inc.
10.48(2)*) -- Lease Switching Agreement between South Carolina Net for TTE
Inc. and KNOLOGY Holdings, Inc.
10.50(2)*) -- Carrier Services Agreement dated September 30, 1998 between
Business Telecom, Inc. and KNOLOGY Holdings, Inc.
10.51(2)*) -- Reseller Services Agreement dated September 9, 1998 between
Business Telecom, Inc. and KNOLOGY Holdings, Inc.
</TABLE>
II-4
<PAGE> 148
<TABLE>
<CAPTION>
EXHIBIT
NUMBER EXHIBIT DESCRIPTION
- -------- -------------------
<C> <C> <S>
10.52(2)*) -- Private Line Services Agreement dated September 10, 1998
between BTI Communications Corporation and KNOLOGY Holdings,
Inc.
10.53(2) -- Credit Facility Agreement between First Union National Bank,
First Union Capital Markets Corp. and KNOLOGY Holdings, Inc.
dated December 22, 1998.
10.54(2) -- Ordinance No. 284 (Cedar Grove, Florida) dated June 9, 1998.
10.55(2) -- License Agreement dated January 5, 1993 between County
Commissioners of Bay County Florida and Beach Cable, Inc.
10.56(2) -- Ordinance No. 647 (Lynn Haven, Florida) dated May 12, 1998
between KNOLOGY of Panama City, Inc. and the City of Lynn
Haven.
10.57(2) -- Ordinance No. 1723 (Panama City, Florida) dated March 10,
1998 between KNOLOGY of Panama City, Inc. and the City of
Panama City.
10.58(2) -- Resolution No. 97-22 (Panama City Beach, Florida) dated
December 3, 1997 between Panama City Beach, Florida and
KNOLOGY Holdings, Inc.
10.59(5) -- Form of Tax Separation Agreement between ITC Holding and
KNOLOGY, Inc.
10.61(4) -- Residual Note from KNOLOGY, Inc. to ITC Holding Company,
Inc.
10.62(6)(+) -- Right of First Refusal and Option Agreement, dated November
19, 1999 by and between KNOLOGY of Columbus, Inc. and ITC
Service Company, Inc.
10.63(6)(+) -- Services Agreement dated November 2, 1999 between KNOLOGY,
Inc. and ITC Service Company, Inc.
10.64(6)(+) -- Support Agreement, dated November 2, 1999 between Interstate
Telephone Company, Inc. and ITC Service Company, Inc.
10.65(5) -- 1995 KNOLOGY Holdings, Inc. Stock Option Plan, assumed by
KNOLOGY, Inc. as of November 23, 1999.
10.66(5) -- KNOLOGY, Inc. Long Term Incentive Plan.
12.1(4) -- Statement regarding Computation of Ratio of Earnings to
Fixed Charges.
21.1(4) -- Subsidiaries of KNOLOGY, Inc.
23.1(5) -- Consent of Arthur Andersen LLP.
23.2(5) -- Consent of Deloitte & Touche LLP.
24.1(6) -- Power of Attorney.
27.1(6) -- Financial Data Schedule for year ended 1997 (for SEC use
only).
27.2(6) -- Financial Data Schedule for year ended 1998 (for SEC use
only).
99.1(5) -- IRS Private Letter Ruling, dated April 1, 1999.
</TABLE>
- ---------------
(1) Filed previously in connection with KNOLOGY Holdings, Inc.'s Registration
Statement on Form S-4, (File No. 333-43339) and incorporated herein by
reference.
(2) Filed previously in connection with KNOLOGY Holdings, Inc.'s Annual Report
on Form 10-K in the year ended December 31, 1998 and incorporated herein by
reference.
(3) Filed previously in connection with KNOLOGY Holdings, Inc.'s Annual Report
on Form 10-K in the year ended December 31, 1997 and incorporated herein by
reference.
(4) To be filed by amendment.
(5) Filed herewith.
(6) Previously filed.
* Certain confidential portions of this Exhibit were omitted by means of
redacting a portion of the text. This Exhibit was filed separately with the
Secretary of the Commission without such text pursuant to the approval of
our Application Requesting Confidential Treatment under Rule 406 of the
Securities Act.
II-5
<PAGE> 149
(+) Certain confidential portions of this Exhibit were omitted by means of
redacting a portion of the text. This Exhibit has been filed separately with
the Secretary of the Commission without such text pursuant to our
Application Requesting Confidential Treatment under Rule 406 of the
Securities Act which is currently pending before the Commission.
(b) Financial Statement Schedules
Schedules have been omitted because the information required to be set
forth therein is not applicable or is included elsewhere in the Financial
Statements or the notes thereto.
ITEM 17. UNDERTAKINGS
Insofar as indemnification for liabilities arising under the Securities Act
of 1933 may be permitted to directors, officers and controlling persons of the
registrant pursuant to the foregoing provisions, or otherwise, the registrant
has been advised that in the opinion of the Securities and Exchange Commission
such indemnification is against public policy as expressed in the Act and is,
therefore, unenforceable. In the event that a claim for indemnification against
such liabilities (other than the payment by the registrant of expenses incurred
or paid by a director, officer or controlling person of the registrant in the
successful defense of any action, suit or proceeding) is asserted by such
director, officer or controlling person in connection with the securities being
registered, the registrant will, unless in the opinion of its counsel the matter
has been settled by controlling precedent, submit to a court of appropriate
jurisdiction the question whether such indemnification by it is against public
policy as expressed in the Act and will be governed by the final adjudication of
such issue.
II-6
<PAGE> 150
SIGNATURES
Pursuant to the requirements of the Securities Act, the Company has
reasonable grounds to believe that it meets all of the requirements for filing
on Form S-1 and has duly caused this Amended Registration Statement to be signed
on its behalf by the undersigned, thereunto duly authorized, in the City of
Washington, D.C., on this day of December, 1999.
KNOLOGY, Inc.
By: *
------------------------------------
Rodger L. Johnson
President and Chief Executive
Officer
Pursuant to the requirements of the Securities Act, this Amended
Registration Statement has been signed by the following persons, in the
capacities indicated below, on this day of December, 1999.
<TABLE>
<CAPTION>
SIGNATURE TITLE
--------- -----
<C> <S>
* President, Chief Executive Officer and Director
- ---------------------------------------------------
Rodger L. Johnson
/s/ ROBERT K. MILLS Chief Financial Officer (Principal Financial and
- --------------------------------------------------- Accounting Officer)
Robert K. Mills
* Chairman of the Board of Directors
- ---------------------------------------------------
Campbell B. Lanier, III
* Director
- ---------------------------------------------------
William H. Scott, III
* By Attorney-in-Fact
/s/ CHAD WACHTER
- ---------------------------------------------------
Chad Wachter
</TABLE>
II-7
<PAGE> 151
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS AS TO SCHEDULE
To KNOLOGY, Inc.:
We have audited in accordance with generally accepted auditing standards,
the financial statements of KNOLOGY, Inc. (a Delaware corporation) and
subsidiaries as of December 31, 1997 and 1998 and for each of the three years in
the period ended December 31, 1998, and have issued our report thereon dated
November 30, 1999. Our audits were made for the purpose of forming an opinion on
those statements taken as a whole. The schedule listed under Schedule II herein
as it relates to KNOLOGY, Inc. and subsidiaries is the responsibility of the
Company's management and is presented for purposes of complying with the
Securities and Exchange Commission's rules and is not part of the basic
financial statements. This schedule has been subjected to the auditing
procedures applied in the audits of the basic financial statements and, in our
opinion, fairly states in all material respects the financial data required to
be set forth therein in relation to the basic financial statements taken as a
whole.
Atlanta, Georgia
November 30, 1999
S-1
<PAGE> 152
SCHEDULE II
KNOLOGY, INC. AND SUBSIDIARIES
VALUATION AND QUALIFYING ACCOUNTS
FOR THE YEARS ENDED DECEMBER 31, 1996, 1997, AND 1998
<TABLE>
<CAPTION>
YEAR ENDED YEAR ENDED YEAR ENDED
DECEMBER 31, DECEMBER 31, DECEMBER 31,
1996 1997 1998
------------ ------------ ------------
<S> <C> <C> <C>
Allowance for doubtful accounts, balance at beginning of
year..................................................... $ 17,113 $ 23,342 $ 108,528
Addition charged to cost and expense..................... 81,082 367,527 1,303,372
Deductions............................................... (74,853) (282,341) (1,018,234)
-------- --------- -----------
Allowance for doubtful accounts, balance at end of
year................................................... $ 23,342 $ 108,528 $ 393,766
======== ========= ===========
</TABLE>
S-2
<PAGE> 1
EXHIBIT 10.59
TAX SEPARATION AGREEMENT
BETWEEN
ITC HOLDING COMPANY, INC.
ON BEHALF OF ITSELF
AND THE MEMBERS
OF THE ITC HOLDING GROUP
AND
KNOLOGY, INC.,
ON BEHALF OF ITSELF
AND THE MEMBERS
OF THE KNOLOGY GROUP
<PAGE> 2
TAX SEPARATION AGREEMENT
This Agreement is entered into as of the 2nd the day of November, 1999
between ITC HOLDING COMPANY, INC. ("ITC Holding"), a Delaware corporation, on
behalf of itself and the members of The ITC HOLDING GROUP, and KNOLOGY, INC.
("KNOLOGY"), a Delaware corporation, on behalf of itself and the members of The
KNOLOGY GROUP.
WITNESSETH:
WHEREAS, pursuant to the tax laws of various jurisdictions, certain
members of The KNOLOGY GROUP, as defined below, presently file certain tax
returns on an affiliated, consolidated, combined, unitary, fiscal unit or other
group basis (including as permitted by Section 1501 of the Internal Revenue Code
of 1986, as amended (the "Code")) with certain members of The ITC HOLDING GROUP,
as defined below (each such group, a "Consolidated Group");
WHEREAS, ITC Holding and KNOLOGY intend that ITC Holding distribute to
its shareholders all of the KNOLOGY stock held by ITC Holding (the
"Distribution");
WHEREAS, ITC Holding and KNOLOGY desire to set forth their agreement on
the rights and obligations of ITC Holding, KNOLOGY and the members of The ITC
HOLDING GROUP and The KNOLOGY GROUP, respectively, with respect to the handling
and allocation of federal, state and local taxes incurred in taxable periods
beginning prior to the Distribution Date, as defined below, and various other
tax matters;
NOW, THEREFORE, in consideration of the mutual covenants and agreements
hereinafter set forth, the parties agree as follows:
1. Definitions.
(a) As used in this Agreement:
"After-Tax Amount" shall mean an additional amount necessary to reflect
the hypothetical tax consequences of the receipt or accrual of any payment,
using the maximum statutory rate (or rates, in the case of an item that affects
more than one tax) applicable to the recipient of such payment for the relevant
year. The After-Tax Amount shall reflect, for example, the effect of the
deductions available for interest paid or accrued and for taxes such as state
and local income taxes.
"Bridge Tax Period" means any tax period of any member of The KNOLOGY
GROUP that begins before and ends after the Distribution Date.
"Code" shall mean the Internal Revenue Code of 1986, as amended.
"Combined State Tax" shall mean, with respect to each state or local
taxing jurisdiction, any income, franchise or similar tax (together with any
related interest or penalty) payable to
<PAGE> 3
such state or local taxing jurisdiction in which a member of The KNOLOGY GROUP
files tax returns with a member of The ITC HOLDING GROUP, on a consolidated,
combined or unitary basis.
"CY 1999" shall mean the tax year of ITC Holding ending on December 31,
1999.
"Distribution Date" shall mean the date on which the Distribution is
effected.
"Federal Tax" shall mean any tax imposed under Subtitle A of the Code
and any related interest or penalty imposed under Subtitle F of the Code.
"Final Determination" shall mean (i) with respect to Federal Taxes, a
"determination" as defined in Section 1313(a) of the Code, settlement agreement
reached at the audit level with the approval of both ITC Holding or KNOLOGY or
execution of an IRS Form 870AD and, with respect to taxes other than Federal
Taxes, any final determination of liability in respect of a tax that, under
applicable law, is not subject to further appeal, review or modification through
proceedings or otherwise, (ii) any final disposition of a tax issue by reason of
the expiration of a statute of limitations or (iii) the payment of tax by ITC
Holding with respect to any item disallowed or adjusted by any taxing authority
where ITC Holding determines in good faith that no action should be taken to
recoup such payment.
"IRS" shall mean the Internal Revenue Service.
"ITC Holding Consolidated Group" shall mean ITC Holding and each direct
and indirect corporate subsidiary, including a member of The KNOLOGY GROUP, that
is eligible to join with ITC Holding in the filing of (i) for Federal Tax
purposes, a consolidated federal income tax return, and (ii) for Combined State
Tax purposes, a Combined State Tax Return.
"KNOLOGY Federal Tax Liability" shall mean, with respect to any taxable
year, The KNOLOGY GROUP's Federal Tax liability for such taxable year, computed
as if The KNOLOGY GROUP were not and never were part of ITC Holding Consolidated
Group, but rather were a separate affiliated group of corporations filing a
consolidated federal income tax return pursuant to Section 1501 of the Code;
provided, however, that transactions with members of The ITC HOLDING GROUP shall
be reflected according to the provisions of the consolidated return regulations
promulgated under the Code governing intercompany transactions, and that the
Distribution will trigger any deferred amounts, excess loss accounts or similar
items. Such computation shall be made (A) without regard to the income,
deductions (including net operating loss and capital loss deductions) and
credits in any year of any member of ITC Holding Consolidated Group that is not
a member of The KNOLOGY GROUP, (B) by taking account of any Tax Asset of the
KNOLOGY GROUP in accordance with Section 3(b)(ii) hereof, (C) including net
operating loss and capital loss carryforwards and carrybacks and minimum tax
credits from earlier years of The KNOLOGY GROUP, (D) as though the highest rate
of tax specified in subsection (b) of Section 11 of the Code (or any other
similar rates applicable to specific types of income) were the only rates set
forth in that subsection, and with other similar adjustments as described in
Section 1561 of the Code, (E) reflecting the positions, elections and accounting
methods used by ITC Holding in preparing the consolidated federal income tax
return
<PAGE> 4
for ITC Holding Consolidated Group, (F) by not permitting the KNOLOGY Group any
compensation deductions arising in respect of any exercise of options on ITC
Holding stock by, or the issuance or vesting of ITC Holding restricted stock to,
any employee of The KNOLOGY GROUP prior to the Distribution Date, and (G)
without regard to gain attributable to the recognition by ITC Holding of any
excess loss account with respect to the stock of KNOLOGY or by KNOLOGY of any
excess loss account with respect to stock of its subsidiaries, in each case as a
result of the Distribution.
"KNOLOGY State Tax Liability" shall mean, with respect to any taxable
year and any jurisdiction, the amount of Separate State Taxes plus the amount of
Combined State Taxes determined in accordance with the principles set forth in
the definition of KNOLOGY Federal Tax Liability; provided, however, that (i)
such amount shall also include any actual income, franchise or similar state or
local tax liability (a "State Liability") owed in a jurisdiction (a "Combined
Jurisdiction") in which a member of The KNOLOGY GROUP files tax returns with a
member of The ITC HOLDING GROUP, on a consolidated, combined or unitary basis,
to the extent such liability exceeds the liability that would have been owed had
no member of The KNOLOGY GROUP been included in such returns, except to the
extent attributable to the recognition by ITC Holding of any excess loss account
with respect to the stock of KNOLOGY as a result of the Distribution, and (ii)
such amount shall be reduced to the extent that, in any Combined Jurisdiction,
the State Liability of ITC Holding Consolidated Group is less than the liability
that would have been owed had no member of The KNOLOGY GROUP been included in
the returns of such Combined Jurisdiction.
"KNOLOGY Tax Liability" shall mean, with respect to any taxable year,
the sum of KNOLOGY Combined State Tax Liability and KNOLOGY Federal Tax
Liability.
"Post-Distribution Tax Period" means any tax period of any member of
The KNOLOGY GROUP beginning after the Distribution Date.
"Pre-Distribution Tax Period" means any tax period of any member of The
KNOLOGY GROUP ending before or on the Distribution Date.
"Prime" shall mean, the rate announced from time to time as "prime" by
First Union National Bank, Charlotte, NC, as its prime rate with respect to the
applicable currency.
"Return" shall mean any tax return, statement, report or form
(including estimated tax returns and reports, extension requests and forms, and
information returns and reports) required to be filed with any taxing authority.
"Ruling Request" refers to the request for opinion from the IRS as to
whether or not the Distribution will qualify as a tax-free spin-off under
section 355 of the Code dated September 24, 1998, as supplemented by letters
dated December 21, 1998, January 22, 1999, March 2, 1999, March 12, 1999, March
31, 1999 and October 4, 1999.
"Separate State Tax" shall mean, with respect to each state or local
taxing jurisdiction, any income, franchise or similar tax (together with any
related interest or penalty) payable to
<PAGE> 5
such state or local taxing jurisdiction in which a member of The KNOLOGY GROUP
files a separate state or local tax return.
"Tax Asset" shall mean any net operating loss, net capital loss,
investment tax credit, foreign tax credit, charitable deduction or any other
loss, credit or tax attribute that could be carried forward or back to reduce
taxes (including without limitation deductions and credits related to
alternative minimum taxes).
"Tax Packages" shall mean one or more packages of information that are
(i) reasonably necessary for the purpose of preparing tax Returns of ITC Holding
Consolidated Group with respect to any tax period in which the information is
relevant, and (ii) completed in all material respects in accordance with the
standards that ITC Holding has established for its subsidiaries.
"Tax Proceeding" shall mean any tax audit, dispute or proceeding
(whether administrative or judicial).
"The ITC HOLDING GROUP" shall mean, at any time, ITC Holding and each
of its direct and indirect corporate subsidiaries other than those subsidiaries
that are members of The KNOLOGY GROUP.
"The KNOLOGY GROUP" shall mean, at any time, KNOLOGY and any direct or
indirect corporate subsidiaries of KNOLOGY that would be eligible to join with
KNOLOGY, with respect to Federal Taxes, in the filing of a consolidated federal
income tax return and, with respect to Combined State Taxes, in the filing of a
consolidated, combined or unitary income or franchise tax return, including any
predecessors thereto.
(b) Any term used in this Agreement that is not defined in this
Agreement shall, to the extent the context requires, have the meaning assigned
to it in the Code or the applicable Treasury regulations thereunder (as
interpreted in administrative pronouncements and judicial decisions) or in
comparable provisions of applicable law.
2. Administrative and Compliance Matters.
(a) Sole Tax Sharing Agreement. Any and all existing tax sharing
agreements or arrangements, written or unwritten, between any member of The ITC
HOLDING GROUP and any member of The KNOLOGY GROUP shall be terminated as of the
date of this Agreement. As of the date of this Agreement, neither the members of
The KNOLOGY GROUP nor the members of The ITC HOLDING GROUP shall have any
further rights or liabilities under any such preexisting tax sharing agreements,
and this Agreement shall be the sole tax sharing agreement between the members
of The KNOLOGY GROUP and the members of The ITC HOLDING GROUP.
(b) Designation of Agent. Each member of The KNOLOGY GROUP hereby
irrevocably authorizes and designates ITC Holding as its agent, coordinator, and
administrator, for the purpose of taking any and all actions (including the
execution of waivers of applicable statutes of limitation) necessary or
incidental to the filing of any Return, any amended Return, or
<PAGE> 6
any claim for refund (even where an item or Tax Asset giving rise to an amended
Return or refund claim arises in a Post-Distribution Tax Period), credit or
offset of tax or any other proceedings, and for the purpose of making payments
to, or collecting refunds from, any taxing authority, in each case relating only
to any Pre-Distribution Tax Period. ITC Holding covenants to KNOLOGY that it
shall be responsible to see that all such administrative matters relating
thereto shall be handled promptly and appropriately.
(c) Pre-Distribution Tax Period Returns.
(i) Preparation of Returns. ITC Holding will prepare,
consistently with past practice and applicable law and with the assistance of
The KNOLOGY GROUP, the consolidated Federal Tax Returns and Combined State Tax
Returns of ITC Holding Consolidated Group and the separate returns of The
KNOLOGY GROUP that include all Pre-Distribution Tax Periods. ITC Holding shall
have the right with respect to such Returns to determine (A) the manner in which
such returns, documents or statements shall be prepared and filed, including,
without limitation, the manner in which any item of income, gain, loss,
deduction or credit shall be reported, (B) whether any extensions should be
requested, and (C) the elections that will be made by any member of The ITC
HOLDING GROUP or The KNOLOGY GROUP.
Short-Year State and Local Returns. ITC Holding and KNOLOGY agree that
Combined State Tax Returns filed for tax periods beginning prior to the
Distribution Date will reflect a short taxable year for The KNOLOGY GROUP ending
on the Distribution Date in any state or local taxing jurisdiction in which such
tax year is allowed by administrative practice, whether or not required by law.
(ii) Audits and Refunds. With respect to all consolidated
Federal Tax Returns and Combined State Tax Returns of ITC Holding Consolidated
Group and separate returns of The KNOLOGY GROUP that include Pre-Distribution
Tax Periods, ITC Holding shall have the right to (A) contest, compromise or
settle any adjustment or deficiency proposed, asserted or assessed as a result
of any audit of any return filed by ITC Holding, (B) file, prosecute, compromise
or settle any claim for refund, and (C) determine whether any refunds to which
ITC Holding Consolidated Group may be entitled shall be received by way of
refund or credit against the tax liability of ITC Holding Consolidated Group.
(iii) Delivery of Tax Packages. No later than 60 days after
the Distribution Date, KNOLOGY shall prepare and deliver to ITC Holding Tax
Packages that include information of The KNOLOGY GROUP for the Pre-Distribution
Tax Period that includes the Distribution Date.
(d) Allocation. ITC Holding may, with the consent of KNOLOGY, elect to
ratably allocate items (other than extraordinary items) of The KNOLOGY GROUP in
accordance with relevant provisions of Treasury Regulation Section 1.1502-76. In
such case, each member of The KNOLOGY GROUP will provide a statement stating its
consent to such election as required under the regulations.
(e) Post-Distribution and Bridge Tax Period Returns of The KNOLOGY
GROUP.
<PAGE> 7
KNOLOGY shall be solely responsible for the preparation and filing of the
Returns of The KNOLOGY GROUP for all Post-Distribution and Bridge Tax Periods.
3. Tax Sharing.
(a) CY 1999 Tax Sharing.
(i) Distribution Payment. Prior to the Distribution, ITC Holding
shall determine the estimated KNOLOGY Federal Tax Liability and, if applicable,
the estimated KNOLOGY State Tax Liability resulting from Combined State Tax
filings for Pre-Distribution CY 1999. KNOLOGY shall pay this amount to ITC
Holding (or vice versa in the case of Net Taxable Loss by The KNOLOGY GROUP)
within 5 days of receipt of notice of the amount.
(ii) True Up of Distribution Payment to Reflect Returns as Filed.
At the time ITC Holding files ITC Holding Consolidated Group's consolidated
Federal Tax Returns (and Combined State Tax returns, if any) for CY 1999, ITC
Holding shall determine the actual tax liability (or benefit) attributable to
The KNOLOGY GROUP for Pre-Distribution CY 1999. This amount shall be calculated
without regard to any income reflected in such return solely as a result of
making the election provided for in Treasury Regulation Section 1502-76, unless
agreed to by KNOLOGY.
(iii) If (for any reason other than a breach by any member of the
KNOLOGY GROUP of their representation or covenants under Section 4(a) or (b)
hereof), the Distribution fails to satisfy the requirements of Section 355 of
the Code, the Tax liability associated with the Distribution shall be borne
solely by ITC Holding (and/or its shareholders) rather than by the KNOLOGY
GROUP.
(b) Provision of Returns to KNOLOGY and Payment of Post-Distribution
Period Taxes.
(i) KNOLOGY Returns. At the time ITC Holding files ITC Holding
Consolidated Group's consolidated Federal Tax Returns for CY 1999, ITC Holding
shall deliver to KNOLOGY a copy of the returns. At the time ITC Holding files
any Combined State Tax Returns that include The KNOLOGY GROUP or any separate
state and local tax returns for The KNOLOGY GROUP, ITC Holding shall deliver a
copy of such returns to KNOLOGY.
(ii) Tax Assets. If a Pro Forma Return reflects a Tax Asset that
may under applicable law be used to reduce a Federal Tax or Combined State Tax
liability of any member of The ITC HOLDING GROUP for any taxable period, ITC
Holding shall pay to KNOLOGY an amount equal to the actual tax saving (which
would include refunds actually received) produced by such Tax Asset at the time
such tax saving is realized and the future Pro Forma Returns of The KNOLOGY
GROUP shall be adjusted to reflect such use. The amount of any such tax saving
for any taxable period shall be the amount of the reduction in taxes payable to
a taxing authority with respect to such taxable period as compared to the taxes
that would have been payable to a taxing authority with respect to such taxable
period in the absence of such Tax
<PAGE> 8
Asset.
(c) Audit Payments.
(i) Responsibility for Payment. Except as described in item
(c)(ii) below, (1) ITC Holding shall be responsible for any payment due to
taxing authorities as a result of an audit adjustment to any Return which
relates solely to a member of The ITC HOLDING GROUP and (2) KNOLOGY shall be
responsible for any payment due to taxing authorities as a result of an
adjustment to any Return which relates solely to a member of The KNOLOGY GROUP.
In the case of any adjustment not covered in the preceding sentence, ITC Holding
shall determine the amount to be paid by each party in a manner consistent with
the principles of this Agreement and with past practice.
(ii) Timing Differences. To the extent that any audit
adjustment of a Return relating to a Pre-Distribution Tax Period is attributable
to timing differences attributable to KNOLOGY, ITC Holding shall pay to KNOLOGY,
or KNOLOGY shall pay to ITC Holding, as appropriate, an amount reflecting the
timing differences. The amount shall be equal to the difference between the tax
actually due on the adjusted Return and the amount that would have been due on
the adjusted Return had KNOLOGY not been included as a member of ITC Holding
Consolidated Group. When the timing difference reverses, the party receiving the
payment described above shall pay to the other party the tax benefit received
therefrom.
4. Certain Representations and Covenants.
(a) (i) KNOLOGY Representations. KNOLOGY and each member of The KNOLOGY
GROUP represent and warrant as of the date hereof, and covenant that on the
Distribution Date: (1) there is no plan or intention by KNOLOGY to purchase any
of its outstanding stock after the Distribution, (2) there is no plan or
intention by KNOLOGY to liquidate KNOLOGY, merge KNOLOGY with any other
corporation, or sell or otherwise dispose of the assets of KNOLOGY other than in
the ordinary course of business, (3) immediately after the Distribution, at
least 90 percent of the fair market value of the gross assets of KNOLOGY will
consist of the stock and securities of members of The KNOLOGY Group that are
engaged in the active conduct of a trade or business, (4) payments made in
connection with all continuing transactions between either ITC Holding or
InterCall, Inc. ("InterCall") and KNOLOGY (and entities in their respective
groups) will be at fair market value based on the terms and conditions arrived
at by the parties bargaining at arm's length, (5) the Distribution is not part
of a plan (or series of related transactions) pursuant to which one or more
persons acquire directly or indirectly KNOLOGY stock representing a "50-percent
or greater interest" within the meaning of Section 355(e) of the Code, and (6)
there is no plan or intention by KNOLOGY to enter into any negotiations,
agreements, or arrangements with respect to transactions or events (including
stock issuances, pursuant to the exercise of options or otherwise, option
grants, capital contributions, or acquisitions, but not including the
Distribution) that may cause the Distribution to be treated as part of a plan
pursuant to which one or more persons acquire directly or indirectly KNOLOGY
stock representing a 50-percent or greater interest within the meaning of
Section 355(e) of the Code.
<PAGE> 9
(ii) ITC Holding Representations. ITC Holding and each member
of The ITC HOLDING GROUP represent and warrants as of the date hereof, and
covenant that on the Distribution Date: (1) there is no plan or intention by ITC
Holding or InterCall to purchase any of its outstanding stock after the
Distribution, (2) there is no plan or intention by ITC Holding or InterCall to
liquidate ITC Holding or InterCall, merge ITC Holding or InterCall with any
other corporation, or sell or otherwise dispose of the assets of ITC Holding or
InterCall other than in the ordinary course of business, (3) payments made in
connection with all continuing transactions between either ITC Holding or
InterCall and KNOLOGY (and entities in their respective groups) will be at fair
market value based on the terms and conditions arrived at by the parties
bargaining at arm's length, (4) the Distribution is not part of a plan (or
series of related transactions) pursuant to which one or more persons acquire
directly or indirectly ITC Holding stock representing a "50-percent or greater
interest" within the meaning of Section 355(e) of the Code, and (5) there is no
plan or intention by ITC Holding to enter into any negotiations, agreements, or
arrangements with respect to transactions or events (including stock issuances,
pursuant to the exercise of options or otherwise, option grants, capital
contributions, or acquisitions, but not including the Distribution) that may
cause the Distribution to be treated as part of a plan pursuant to which one or
more persons acquire directly or indirectly ITC Holding stock representing a
50-percent or greater interest within the meaning of Section 355(e) of the Code.
(iii) KNOLOGY and ITC Holding Representations. Each of
KNOLOGY, ITC Holding and the members of The KNOLOGY GROUP, respectively,
represent as of the date hereof, and covenant that on the Distribution Date,
neither KNOLOGY, ITC Holding nor the members of The KNOLOGY GROUP, respectively
(as applicable), is aware of any present plan or intention by the current
shareholders of ITC Holding to sell, exchange, transfer by gift, or otherwise
dispose of any of their stock in, or securities of, ITC Holding or KNOLOGY
subsequent to the Distribution.
(b) KNOLOGY Covenants. KNOLOGY covenants to ITC Holding that KNOLOGY
shall not, and KNOLOGY shall cause each member of The KNOLOGY GROUP not to, take
any action, or fail or omit to take any action that would cause any of the
representations set forth in Section 4(a)(i) to be untrue. Moreover, (x) during
the two-year period following the Distribution Date, KNOLOGY will not cease, or
permit any member of The KNOLOGY GROUP to cease, to be engaged in the active
trade or business relied upon for purposes of satisfying the requirements of
Section 355(b) of the Code in the Ruling Request, and (y) during the applicable
period provided in Section 355(e)(2)(B) of the Code with respect to the
Distribution, KNOLOGY will not enter, or permit any member of The KNOLOGY GROUP
to enter, into any transaction or make any change in equity structure (including
stock issuances, pursuant to the exercise of options, option grants or
otherwise, capital contributions, or acquisitions, but not including the
Distribution) that may cause the Distribution to be treated as part of a plan
pursuant to which one or more persons acquire directly or indirectly KNOLOGY
stock representing a "50-percent or greater interest" within the meaning of
Section 355(e) of the Code.
(c) ITC Holding Covenants. ITC Holding covenants to KNOLOGY that ITC
Holding shall not, and ITC Holding shall cause each ITC Holding Group member not
to, take any action, or fail or omit to take any action that would cause any of
the representations set forth in Section
<PAGE> 10
4(a)(ii) to be untrue. Moreover, (x) during the two-year period following the
Distribution Date, ITC Holding will not cease, or permit any member of the ITC
Holding Group to cease, to be engaged in the active trade or business relied
upon for purposes of satisfying the requirements of Section 355(b) of the Code
in the Ruling Request, and (y) during the applicable period provided in Section
355(e)(2)(B) of the Code with respect to the Distribution, ITC Holding will not
enter, or permit any member of the ITC Holding Group to enter, into any
transaction or make any change in equity structure (including stock issuances,
pursuant to the exercise of options, option grants or otherwise, capital
contributions, or acquisitions, but not including the Distribution) that may
cause the Distribution to be treated as part of a plan pursuant to which one or
more persons acquire directly or indirectly ITC Holding stock representing a
"50-percent or greater interest" within the meaning of Section 355(e) of the
Code.
(d) Exceptions. Notwithstanding the foregoing, KNOLOGY and the members
of The KNOLOGY GROUP and ITC Holding and members of the ITC Holding Group may
take actions inconsistent with the covenants contained in Section 4(b) and (c)
above, if:
(i) KNOLOGY obtains a ruling from the IRS to the effect that
such actions should not result in the Distribution being taxable to ITC Holding
or its shareholders; or
(ii) ITC Holding obtains a ruling from the IRS to the effect
that such actions should not result in the Distribution being taxable to
KNOLOGY; or
(iii) KNOLOGY obtains an opinion of counsel recognized as an
expert in federal income tax matters and acceptable to ITC Holding (it being
agreed that, without limitation, Alston & Bird LLP is so expert and agreeable)
to the same effect as in Section 4(d)(i), provided that such opinion is
reasonably acceptable to ITC Holding and provided further that such opinion can
be based on the law as of the date hereof and such opinion may rely on the
accuracy of the representations in Section 4(a) above ; or
(iv) ITC Holding obtains an opinion of counsel recognized as
an expert in federal income tax matters and acceptable to KNOLOGY to the same
effect as in Section 4(c)(ii), provided that such opinion is reasonably
acceptable to KNOLOGY and provided further that such opinion can be based on the
law as of the date hereof and such opinion may rely on the accuracy of the
representations in Section 4(a) above;
(v) the proposed actions are approved by the vote or written consent of the
holders of not less than two-thirds of the outstanding voting stock of KNOLOGY,
voting together as a single class; or
(vi) the proposed actions are approved by the vote or written consent of the
holders of not less than two-thirds of the outstanding voting stock of ITC
Holding, voting together as a single class.
(e) Deductions and Certain Taxes Related to Options.
<PAGE> 11
(i) ITC Holding shall file Returns claiming (x) the tax
deductions attributable to the exercise of options to purchase stock of KNOLOGY
that are held by employees or former employees of The ITC HOLDING GROUP or (y)
any other similar compensation-related tax deductions. The Returns of The ITC
HOLDING GROUP and The KNOLOGY GROUP shall reflect the entitlement of The ITC
HOLDING GROUP to such deductions. To the extent such deductions are disallowed
because a taxing authority determines that The KNOLOGY GROUP should have claimed
such deductions, The KNOLOGY GROUP shall pay to The ITC HOLDING GROUP an amount
equal to the federal and state tax paid by The ITC HOLDING GROUP as a result of
such disallowance. Upon the exercise of any option described in clause (x), or
the occurrence of any other event that would result in a compensation-related
tax deduction, as the case may be, The ITC HOLDING GROUP (as agent for The
KNOLOGY GROUP) shall prepare and file all applicable Returns and pay the
applicable tax liability under the Federal Insurance Contributions Act, the
Federal Unemployment Tax Act or any state employment tax law in connection with
such event.
(ii) KNOLOGY shall file Returns claiming (x) the tax
deductions attributable to the exercise of options to purchase stock of ITC
HOLDING that are held by employees or former employees of The KNOLOGY GROUP or
(y) any other similar compensation-related tax deductions. The Returns of The
ITC HOLDING GROUP and The KNOLOGY GROUP shall reflect the entitlement of The
KNOLOGY GROUP to such deductions. To the extent such deductions are disallowed
because a taxing authority determines that The ITC HOLDING GROUP should have
claimed such deductions, The ITC HOLDING GROUP shall pay to The KNOLOGY GROUP an
amount equal to the federal and state tax paid by The KNOLOGY GROUP as a result
of such disallowance. Upon the exercise of any option described in the
immediately preceding clause (x), or the occurrence of any other event that
would result in a compensation related tax deduction, as the case may be, The
KNOLOGY GROUP (as agent for The ITC HOLDING GROUP) shall prepare and file all
applicable Returns and pay the applicable tax liability under the Federal
Insurance Contributions Act, the Federal Unemployment Tax Act or any state
employment tax law in connection with such event.
5. Indemnities.
(a) KNOLOGY Indemnity. KNOLOGY and each member of The KNOLOGY GROUP
will jointly and severally indemnify ITC Holding and the members of The ITC
HOLDING GROUP that were members of ITC Holding Consolidated Group (that included
a member of The KNOLOGY GROUP) against and hold them harmless from:
(i) any KNOLOGY Tax Liability which relates to a
Post-Distribution Tax Period; and
(ii) all liabilities, costs, expenses (including, without
limitation, reasonable expenses of investigation and attorneys' fees and
expenses), losses, damages, assessments, settlements or judgments arising out of
or incident to the imposition, assessment or assertion of any tax liability or
damage described in (i), including those incurred in the contest in good faith
in appropriate proceedings relating to the imposition, assessment or assertion
of any such tax,
<PAGE> 12
liability or damage.
Notwithstanding the foregoing, the parties agree that in no
event shall the aggregate liability of KNOLOGY arising out of or relating to any
breach of any of the representations or covenants of KNOLOGY contained in
Section 4 exceed $50,000,000.
(b) ITC Holding Indemnity. ITC Holding will jointly indemnify KNOLOGY
and the members of The KNOLOGY GROUP that were members of ITC Holding
Consolidated Group (that included a member of The ITC HOLDING GROUP) against and
hold them harmless from:
(i) any tax liability of The ITC HOLDING GROUP and any tax
liability resulting from the Distribution, other than any such liabilities
described in Section 5(a); and
(ii) all liabilities, costs, expenses (including, without
limitation, reasonable expenses of investigation and attorneys' fees and
expenses), losses, damages, assessments, settlements or judgments arising out of
or incident to the imposition, assessment or assertion of any tax liability or
damage described in (i) including those incurred in the contest in good faith in
appropriate proceedings relating to the imposition, assessment or assertion of
any such tax, liability or damage.
(c) Discharge of Indemnity. KNOLOGY, ITC Holding and the members of The
KNOLOGY GROUP, respectively, shall discharge their obligations under Section
5(a) and 5(b) hereof, respectively, by paying the relevant amount within 30 days
of demand therefor. After a Final Determination of an obligation under Section
5(a) of KNOLOGY or any member of The KNOLOGY GROUP, ITC Holding shall send a
statement to KNOLOGY showing the amount due thereunder. After a Final
Determination of an obligation under Section 5(b) of ITC Holding, KNOLOGY shall
send a statement to ITC Holding showing the amount due thereunder. Calculation
mechanics relating to items described in Section 5(a)(i) are set forth in
Section 3(c). Notwithstanding the foregoing, if either KNOLOGY, ITC Holding or
any member of The KNOLOGY GROUP disputes in good faith the fact or the amount of
its obligation under Section 5(a) or Section 5(b), then no payment of the amount
in dispute shall be required until any such good faith dispute is resolved in
accordance with Section 16 hereof; provided, however, that any amount not paid
within 30 days of demand therefor shall bear interest as provided in Section 9.
(d) Tax Benefits. If an indemnification obligation of any member of The
ITC HOLDING GROUP or any member of The KNOLOGY GROUP, as the case may be, under
this Section 5 with respect to ITC Holding Consolidated Group arises in respect
of an adjustment that makes allowable to a member of The KNOLOGY GROUP or a
member of The ITC HOLDING GROUP, respectively, any deduction, amortization,
exclusion from income or other allowance (a "Tax Benefit") that would not, but
for such adjustment, be allowable, then any payment by any member of ITC Holding
Group or any member of The KNOLOGY GROUP, respectively, pursuant to this Section
5 shall be an amount equal to (X) the amount otherwise due but for this
subsection (d), minus (Y) the present value of the product of the Tax Benefit
multiplied by (i) the maximum federal, foreign or state, as the case may be,
corporate tax rate in effect at the time such Tax Benefit becomes allowable to a
member of The KNOLOGY GROUP or a member of
<PAGE> 13
The ITC HOLDING GROUP (as the case may be) or (ii) in the case of a credit, 100
percent. The present value of such product shall be determined by discounting
such product from the time the Tax Benefit becomes allowable at a rate equal to
Prime.
6. Performance by Subsidiaries. ITC Holding agrees and acknowledges that ITC
Holding shall be responsible for the performance of the obligations of each
member of The ITC HOLDING GROUP hereunder applicable to such member. KNOLOGY
agrees and acknowledges that KNOLOGY shall be responsible for the performance by
each member of The KNOLOGY GROUP of the obligations hereunder applicable to such
member.
7. Communication and Cooperation.
(a) Consult and Cooperate. KNOLOGY and ITC Holding shall consult and
cooperate (and shall cause each member of The KNOLOGY GROUP or The ITC HOLDING
GROUP, respectively, to cooperate) fully at such time and to such extent as are
reasonably requested by the other party in connection with all matters subject
to this Agreement. Such cooperation shall include, without limitation,
(i) the retention and provision on reasonable request of any
and all information including all books, records, documentation or other
information pertaining to tax matters relating to The ITC HOLDING GROUP and The
KNOLOGY GROUP, any necessary explanations of information, and access to
personnel, in each case until two years after the expiration of the applicable
statute of limitation (giving effect to any extension, waiver, or mitigation
thereof);
(ii) the execution of any document that may be necessary or
helpful in connection with any required Return or in connection with any audit,
proceeding, suit or action; and
(iii) the use of the parties' best efforts to obtain any
documentation from a governmental authority or a third party that may be
necessary or helpful in connection with the foregoing.
(b) Provide Information. ITC Holding and KNOLOGY shall keep each other
fully informed with respect to any material development relating to the matters
subject to this Agreement.
(c) Tax Attribute Matters. ITC Holding and KNOLOGY shall advise each
other with respect to any proposed tax adjustments relating to a
Pre-Distribution Tax Period, which are the subject of an audit or investigation,
or are the subject of any proceeding or litigation, and which may affect any tax
liability or any tax attribute of ITC Holding, KNOLOGY, The ITC HOLDING GROUP,
The KNOLOGY GROUP or any member of The KNOLOGY GROUP or The ITC HOLDING GROUP
(including, but not limited to, basis in an asset or the amount of earnings and
profits). Except as otherwise provided herein, ITC Holding shall determine the
apportionment of tax attributes between The ITC HOLDING GROUP and The KNOLOGY
GROUP in accordance with applicable laws.
<PAGE> 14
8. Audits and Contest.
(a) Notwithstanding anything in this Agreement to the contrary, ITC
Holding shall have full control over all matters relating to any tax return or
any Tax Proceeding relating to any tax matters of ITC Holding Consolidated
Group. Except as provided in Section 2(c)(ii), ITC Holding shall have absolute
discretion with respect to any decisions to be made, or the nature of any action
to be taken, with respect to any matter described in the preceding sentence.
(b) KNOLOGY and the members of The KNOLOGY GROUP shall have full
control over all matters relating to any Tax Proceeding with respect to Returns
of The KNOLOGY GROUP relating to a Post-Distribution Tax Period that does not
include a Pre-Distribution Tax Period. KNOLOGY and the members of The KNOLOGY
GROUP shall have absolute discretion with respect to any decisions to be made,
or the nature of any action to be taken, with respect to any matter described in
the preceding sentence.
9. Payments.
All payments to be made hereunder shall be made in immediately
available funds. Except as otherwise provided, all payments required to be made
pursuant to this Agreement will be due 90 days after the receipt of notice of
such payment or, where no notice is required, 90 days after the fixing of
liability or the resolution of a dispute. Payments shall be deemed made when
received. Any payment that is not made when due shall bear interest at a rate
equal to Prime for each day until paid. If, pursuant to a Final Determination,
any amount paid by ITC Holding or the members of The ITC HOLDING GROUP or
KNOLOGY or the members of The KNOLOGY GROUP, as the case may be, pursuant to
this Agreement results in any increased tax liability or reduction of any Tax
Asset of KNOLOGY or any member of The KNOLOGY GROUP or ITC Holding or any member
of The ITC HOLDING GROUP, respectively, then ITC Holding or KNOLOGY, as
appropriate, shall indemnify the other party and hold it harmless from any
interest or penalty attributable to such increased tax liability or the
reduction of such Tax Asset and shall pay to the other party, in addition to
amounts otherwise owed, the After-Tax Amount.
10. Notices.
Any notice, demand, claim, or other communication under this Agreement
shall be in writing and shall be deemed to have been given upon the delivery or
mailing thereof, as the case may be, if delivered personally or sent by
certified mail, return receipt requested, postage prepaid, to the parties at the
following addresses (or at such other address as a party may specify by notice
to the other):
<PAGE> 15
If to ITC Holding, to:
ITC HOLDING COMPANY
P.O. Box 510
1239 O. G. Skinner Drive
West Point, GA 31833
Attention: Bryan W. Adams
Fax: 706-643-5067
If to KNOLOGY, to:
KNOLOGY
1241 O.G. Skinner Drive
West Point, GA 31833
Attention: Rodger Johnson
Fax: 706-645-0148
11. Costs and Expenses.
(a) Reimbursement for Certain Services. ITC Holding shall provide
services in connection with this Agreement, including but not limited to, those
services relating to the preparation of returns (including Pro Forma Returns)
and determination of KNOLOGY Tax Liability as described in Sections 2 and 3.
(b) Others. Except as expressly set forth in this Agreement, each party
shall bear its own costs and expenses incurred pursuant to this Agreement. For
purposes of this Agreement, "out-of-pocket" expenses shall include reasonable
attorneys' fees, accountant fees and other related professional fees and
disbursements.
12. Effectiveness; Termination and Survival.
This Agreement shall become effective upon the consummation of the
Distribution. All rights and obligations arising hereunder with respect to a
Pre-Distribution Tax Period shall survive until they are fully effectuated or
performed. Notwithstanding anything in this Agreement to the contrary, this
Agreement shall remain in effect and its provisions shall survive for the full
period of all applicable statutes of limitation (giving effect to any extension,
waiver or mitigation thereof).
13. Section Headings.
The headings contained in this Agreement are inserted for convenience
only and shall not constitute a part hereof or in any way affect the meaning or
interpretation of this Agreement.
14. Entire Agreement; Amendments and Waivers; Severability.
(a) Entire Agreement. This Agreement contains the entire understanding
of the
<PAGE> 16
parties hereto with respect to the subject matter contained herein. No
alteration, amendment, modification, or waiver of any of the terms of this
Agreement shall be valid unless made by an instrument signed by an authorized
officer of each of ITC Holding and KNOLOGY, or in the case of a waiver, by the
party against whom the waiver is to be effective.
(b) Amendments and Waivers. No failure or delay by any party in
exercising any right, power or privilege hereunder shall operate as a waiver
thereof nor shall any single or partial exercise thereof preclude any other or
further exercise thereof, or the exercise of any right, power or privilege. This
Agreement shall not be waived, amended or otherwise modified except as in
writing, duly executed by all of the parties hereto.
(c) Severability. If any provision of this Agreement or the application
of any such provision to any party or circumstances shall be determined by any
court of competent jurisdiction to be invalid, illegal or unenforceable to any
extent, the remainder of this Agreement or such provision or the application of
such provision to such party or circumstances, other than those determined to be
so invalid, illegal or unenforceable, shall remain in full force and effect to
the fullest extent permitted by law and shall not be affected by such
determination, unless such a construction would be unreasonable.
15. Governing Law and Interpretation.
This Agreement has been made in, and shall be construed and enforced in
accordance with the laws of, the state of Georgia without giving effect to laws
and principles relating to conflicts of law.
16. Dispute Resolution.
(a) Tax Matters Not Covered In This Agreement. The parties agree that
they will each make a good faith effort to resolve any tax matter not covered in
this Agreement by allocating tax assets and tax liabilities in a manner
consistent with past practice.
(b) Referee. If the parties hereto are unable to resolve any
disagreement or dispute relating to this Agreement within 30 days, such
disagreement or dispute shall be resolved by a recognized law firm or accounting
firm that is expert in tax matters in the relevant jurisdiction or that is
mutually acceptable to the parties hereto (a "Referee"). A Referee so chosen
shall resolve any such disagreement or dispute pursuant to such procedures as it
may deem advisable. Any such resolution shall be binding on the parties hereto
without further recourse. Except as otherwise provided herein, the costs of any
Referee shall be apportioned between ITC Holding and KNOLOGY as determined by
such Referee in such manner as the Referee deems reasonable, taking into account
the circumstances of the disagreement or dispute, the conduct of the parties and
the result of the disagreement or dispute.
17. Counterparts.
This Agreement may be executed in any number of counterparts, each of
which shall be deemed an original, but all of which together shall constitute
one and the same Agreement.
<PAGE> 17
18. Assignments; Third Party Beneficiaries.
Except as provided below, this Agreement shall be binding upon and
shall inure only to the benefit of the parties hereto and their respective
successors and assigns, by merger, acquisition of assets or otherwise (including
but not limited to any successor of a party hereto succeeding to the tax
attributes of such party under applicable law). This Agreement is not intended
to benefit any person other than the parties hereto and such successors and
assigns, and no other person shall be a third party beneficiary hereof.
19. Further Assurances.
ITC Holding and KNOLOGY shall execute, acknowledge and deliver, or
cause to be executed, acknowledged and delivered, such instruments and take such
other action as may be necessary or advisable to carry out their obligations
under this Agreement and under any exhibit, document or other instrument
delivered pursuant hereto.
20. Authorization.
Each of the parties hereto hereby represents and warrants that it has
the power and authority to execute, deliver and perform this Agreement, that
this Agreement has been duly authorized by all necessary corporate action on the
part of such party, that this Agreement constitutes a legal, valid and binding
obligation of each such party and that the execution, delivery and performance
of this Agreement by such party does not contravene or conflict with any
provision or law or of its charter or bylaws or any agreement, instrument or
order binding on such party.
<PAGE> 18
IN WITNESS WHEREOF, the parties have executed and delivered this
Agreement as of the day and year first written above.
ITC Holding on its own behalf and
on behalf of each member of The
ITC HOLDING GROUP
By:_______________________________
Name: Bryan W. Adams
Title: CFO
KNOLOGY on its own behalf and on behalf of
each member of The KNOLOGY GROUP
By:_______________________________
Name: Rodger Johnson
Title: CEO
<PAGE> 1
Exhibit 10.65
KNOLOGY HOLDINGS, INC.
1995 STOCK OPTION PLAN
AS OF MAY 1, 1998
<PAGE> 2
TABLE OF CONTENTS
<TABLE>
<CAPTION>
Page
<S> <C>
1. PURPOSE................................................................1
2. ADMINISTRATION.........................................................1
2.1. Board..........................................................1
2.2. Committee......................................................1
2.3. No Liability...................................................2
2.4. Applicability of Rule 16b-3....................................2
3. STOCK..................................................................2
4. ELIGIBILITY............................................................3
5. EFFECTIVE DATE AND TERM OF THE PLAN....................................3
5.1. Effective Date.................................................3
5.2. Term...........................................................3
6. GRANT OF OPTIONS.......................................................3
6.1. General........................................................3
6.2. Limitation on Grants of Options................................3
7. LIMITATION ON INCENTIVE STOCK OPTIONS..................................4
8. OPTION AGREEMENTS......................................................4
9. OPTION PRICE...........................................................4
10. TERM AND EXERCISE OF OPTIONS...........................................5
10.1. Term...........................................................5
10.2. Option Period and Limitations on Exercise......................5
10.3. Method of Exercise.............................................5
11. TRANSFERABILITY OF OPTIONS.............................................6
12. TERMINATION OF EMPLOYMENT..............................................6
13. RIGHTS IN THE EVENT OF DEATH OR DISABILITY.............................7
13.1. Death..........................................................7
13.2. Disability.....................................................8
14. USE OF PROCEEDS........................................................8
15. REQUIREMENTS OF LAW....................................................8
15.1. Violations of Law..............................................8
15.2. Compliance with Rule 16b-3.....................................9
16. AMENDMENT AND TERMINATION OF THE PLAN..................................9
17. EFFECT OF CHANGES IN CAPITALIZATION....................................10
17.1. Changes in Stock...............................................10
17.2. Reorganization in Which the Corporation
Is the Surviving Corporation...................................10
17.3. Reorganization in Which the Corporation
Is Not the Surviving Corporation or Sale
of Assets or Stock.............................................10
17.4. Adjustments....................................................11
17.5. No Limitations on Corporation..................................11
18. DISCLAIMER OF RIGHTS...................................................11
</TABLE>
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<PAGE> 3
<TABLE>
<CAPTION>
Page
<S> <C>
19. NONEXCLUSIVITY OF THE PLAN...........................................12
</TABLE>
-ii-
<PAGE> 4
KNOLOGY HOLDINGS, INC.
1995 STOCK OPTION PLAN
KNOLOGY HOLDINGS, INC., a Delaware corporation (the "Corporation"), sets
forth herein the terms of this Stock Option Plan, dated as of December 6, 1995
(the "Plan") as follows:
1. PURPOSE
The Plan is intended to advance the interests of the Corporation by
providing eligible individuals (as designated pursuant to Section 4 below) an
opportunity to acquire or increase a proprietary interest in the Corporation,
which thereby will create a stronger incentive to expend maximum effort for the
growth and success of the Corporation and its subsidiaries, and will encourage
such eligible individuals to remain in the employ or service of the Corporation
or that of one or more of its subsidiaries. Each stock option granted under the
Plan (an "Option") is intended to be an "incentive stock option" within the
meaning of Section 422 of the Internal Revenue Code of 1986, or the
corresponding provision of any subsequently enacted tax statute, as amended from
time to time (the "Code") ("Incentive Stock Option"), except to the extent that
any such Option would exceed the limitations set forth in Section 7 below, the
Option is granted to a non-employee director or the Options are specifically
designated at the time of grant as not being "incentive stock options."
2. ADMINISTRATION
2.1. Board
The Plan shall be administered by the Board of Directors of the
Corporation (the "Board"), which shall have the full power and authority to take
all actions and to make all determinations required or provided for under the
Plan or any Option granted or Option Agreement (as defined in Section 8 below)
entered into hereunder and all such other actions and determinations not
inconsistent with the specific terms and provisions of the Plan deemed by the
Board to be necessary or appropriate to the administration of the Plan or any
Option granted or Option Agreement entered into hereunder. The interpretation
and construction by the Board of any provision of the Plan or of any Option
granted or Option Agreement entered into hereunder shall be final and
conclusive.
2.2. Committee
The Board from time to time may appoint a Stock Option Committee
consisting of two or more members of the Board, subject to Section 2.4. The
Board,
<PAGE> 5
in its sole discretion, may provide that the role of the Committee shall be
limited to making recommendations to the Board concerning any determinations to
be made and actions to be taken by the Board pursuant to or with respect to the
Plan, or the Board may delegate to the Committee such powers and authorities
related to the administration of the Plan, as set forth in Section 2.1 above, as
the Board shall determine, consistent with the Certificate of Incorporation and
By-laws of the Corporation and applicable law. In the event that the Plan or any
Option granted or Option Agreement entered into hereunder provides for any
action to be taken by or determination to be made by the Board, such action may
be taken by or such determination may be made by the Committee if the power and
authority to do so has been delegated to the Committee by the Board as provided
for in this Section. Unless otherwise expressly determined by the Board, any
such action or determination by the Committee shall be final and conclusive.
2.3. No Liability
No member of the Board or of the Committee shall be liable for
any action or determination made in good faith with respect to the Plan or any
Option granted or Option Agreement entered into hereunder.
2.4. Applicability of Rule 16b-3
Those provisions of the Plan that make express reference to
Rule 16b-3 shall apply to the Corporation only at such time as the Corporation's
Stock (as defined in Section 3) or any other equity security of the Corporation
is registered under the Securities Exchange Act of 1934, as amended (the
"Exchange Act"), and then only to such persons as are required to file reports
under Section 16(a) of the Exchange Act (each of whom is a "Reporting Person").
From and after such time as the Corporation's Stock or any other equity security
of the Corporation is registered under the Exchange Act (the "Registration
Date"), the Board may act under the Plan (i) only if all members of the Board
are "disinterested persons" as defined in Rule 16b-3 or (ii) by the
determination of the Committee constituted as set forth in the following
sentence. From and after the Registration Date, the Committee appointed pursuant
to Section 2.2 shall consist of not fewer than two members of the Board each of
whom shall qualify (at the time of appointment to the Committee and during all
periods of service on the Committee) in all respects as a "disinterested person"
as defined in Rule 16b-3.
3. STOCK
The stock that may be issued pursuant to Options granted under
the Plan shall be shares of Common Stock, par value $.01 per share, of the
Corporation (the "Stock"), which shares may be treasury shares or authorized but
unissued shares. The number of shares of Stock that may be issued pursuant to
Options granted under the Plan shall not exceed in the aggregate 596,222 shares
of Stock, which number of shares is subject to adjustment as provided in Section
17 below.
- 2 -
<PAGE> 6
If any Option expires, terminates or is terminated for any reason
prior to exercise in full, the shares of Stock that were subject to the
unexercised portion of such Option shall be available for future Options granted
under the Plan.
4. ELIGIBILITY
Options may be granted under the Plan to any key employee, or
non-employee director, of the Corporation or any "subsidiary corporation"
thereof within the meaning of Section 424(f) of the Code (a "Subsidiary")
(including any such key employee who is an officer or director of the
Corporation or any Subsidiary) as the Board shall determine and designate from
time to time prior to expiration or termination of the Plan. An individual may
hold more than one Option, subject to such restrictions as are provided herein.
5. EFFECTIVE DATE AND TERM OF THE PLAN
5.1. Effective Date
The Plan became effective on December 6, 1995, upon its
adoption by the Board of Directors of the Corporation, and was approved within
one year of such effective date by the stockholders of the Corporation.
5.2. Term
The Plan shall terminate on December 6, 2005, the date ten
years from the date of adoption of the Plan by the Board.
6. GRANT OF OPTIONS
6.1. General
Subject to the terms and conditions of the Plan, the Board
may, at any time and from time to time, prior to the date of termination of the
Plan, grant to such eligible individuals as the Board may determine
("Optionees"), Options to purchase such number of shares of the Stock on such
terms and conditions as the Board may determine, including any terms or
conditions which may be necessary to qualify such Options as "incentive stock
options" under Section 422 of the Code. The date on which the Board approves the
grant of an Option shall be considered the date on which such Option is granted.
6.2. Limitation on Grants of Options
The maximum number of shares subject to Options that can be
granted under the Plan to any executive officer of the Company or a Subsidiary,
or to any other person eligible for a grant of an Option under Section 4, is
450,000 shares during the first ten years after the effective date of the Plan
and 450,000
- 3 -
<PAGE> 7
shares per year thereafter (in each case, subject to adjustment as
provided in Section 16(a) hereof).
7. LIMITATION ON INCENTIVE STOCK OPTIONS
An Option shall constitute an Incentive Stock Option only to
the extent that the aggregate fair market value (determined at the time the
Option is granted) of the Stock with respect to which Incentive Stock Options
are exercisable for the first time by any Optionee during any calendar year
(under the Plan and all other plans of the Optionee's employer corporation and
its parent and subsidiary corporations within the meaning of Section 422(b)(7)
of the Code) does not exceed $100,000.
8. OPTION AGREEMENTS
All Options granted pursuant to the Plan shall be evidenced by
written agreements ("Option Agreements"), to be executed by the Corporation and
by the Optionee, in such form or forms as the Board shall from time to time
determine. Option Agreements covering Options granted from time to time or at
the same time need not contain similar provisions; provided, however, that all
such Option Agreements shall comply with all terms of the Plan.
9. OPTION PRICE
The purchase price of each share of the Stock subject to an
Option (the "Option Price") shall be fixed by the Board and stated in each
Option Agreement, and shall be not less than the greater of par value or 100
percent of the fair market value of a share of the Stock covered by the Option
on the date the Option is granted (as determined in good faith by the Board);
provided, however, that in the event the Optionee would otherwise be ineligible
to receive an Incentive Stock Option by reason of the provisions of Sections
422(b)(6) and 424(d) of the Code (relating to stock ownership of more than ten
percent), the Option Price of an Option which is intended to be an Incentive
Stock Option shall be not less than the greater of par value or 110 percent of
the fair market value of a share of the Stock covered by the Option at the time
such Option is granted. In the event that the Stock is listed on an established
national or regional stock exchange, is admitted to quotation on the National
Association of Securities Dealers Automated Quotation System, or is publicly
traded in an established securities market, in determining the fair market value
of the Stock, the Board shall use the closing price of the Stock on such
exchange or System or in such market (the highest such closing price if there is
more than one such exchange or market) on the date the Option is granted (or, if
there is no such closing price, then the Board shall use the mean between the
highest bid and lowest asked prices or between the high and low prices on such
date), or, if no sale of the Stock has been made on such day, on the next
preceding day on which any such sale shall have been made. In the case of an
Option not
- 4 -
<PAGE> 8
intended to constitute an Incentive Stock Option, the Option Price
shall be not less than the par value of the Stock covered by the Option.
10. TERM AND EXERCISE OF OPTIONS
10.1. Term
Each Option granted under the Plan shall terminate and all
rights to purchase shares thereunder shall cease upon the expiration of ten
years (ten years and 30 days, in the case of an Option which is not designated
as an Incentive Stock Option) from the date such Option is granted, or on such
date prior thereto as may be fixed by the Board and stated in the Option
Agreement relating to such Option; provided, however, that in the event the
Optionee would otherwise be ineligible to receive an Incentive Stock Option by
reason of the provisions of Sections 422(b)(6) and 424(d) of the Code (relating
to stock ownership of more than ten percent), an Option granted to such Optionee
which is intended to be an Incentive Stock Option shall in no event be
exercisable after the expiration of five years from the date it is granted.
10.2. Option Period and Limitations on Exercise
Each Option granted under the Plan shall be exercisable, in
whole or in part, at any time and from time to time, over a period commencing on
or after the date of grant and ending upon the expiration or termination of the
Option, as the Board shall determine and set forth in the Option Agreement
relating to such Option. Without limiting the foregoing, the Board, subject to
the terms and conditions of the Plan, may in its sole discretion provide that an
Option may not be exercised in whole or in part for a stated period or periods
of time during which such Option is outstanding; provided, however, that any
such limitation on the exercise of an Option contained in any Option Agreement
may be rescinded, modified or waived by the Board, in its sole discretion, at
any time and from time to time after the date of grant of such Option, so as to
accelerate the time at which the Option may be exercised.
10.3. Method of Exercise
An Option that is exercisable hereunder may be exercised by
delivery to the Corporation on any business day, at its principal office,
addressed to the attention of the President, of written notice of exercise,
which notice shall specify the number of shares with respect to which the Option
is being exercised, and shall be accompanied by payment in full of the Option
Price of the shares for which the Option is being exercised. The minimum number
of shares of Stock with respect to which an Option may be exercised, in whole or
in part, at any time shall be the lesser of 100 shares or the maximum number of
shares available for purchase under the Option at the time of exercise. Payment
of the Option Price for the shares of
- 5 -
<PAGE> 9
Stock purchased pursuant to the exercise of an Option shall be
made, as determined by the Board and set forth in the Option Agreement
pertaining to an Option, either (i) in cash or by check payable to the order of
the Corporation (which check may, in the discretion of the Corporation, be
required to be certified); (ii) through the tender to the Corporation of shares
of Stock, which shares shall be valued, for purposes of determining the extent
to which the Option Price has been paid thereby, at their fair market value
(determined in the manner described in Section 9 above) on the date of exercise;
or (iii) by a combination of the methods described in (i) and (ii); provided,
however, that the Board may in its discretion impose and set forth in the Option
Agreement pertaining to an Option such limitations or prohibitions on the use of
shares of Stock to exercise Options as it deems appropriate. An attempt to
exercise any Option granted hereunder other than as set forth above shall be
invalid and of no force and effect. Promptly after the exercise of an Option and
the payment in full of the Option Price of the shares of Stock covered thereby,
the individual exercising the Option shall be entitled to the issuance of a
Stock certificate or certificates evidencing his ownership of such shares. A
separate Stock certificate or certificates shall be issued for any shares
purchased pursuant to the exercise of an Option which is an Incentive Stock
Option, which certificate or certificates shall not include any shares which
were purchased pursuant to the exercise of an Option which is not an Incentive
Stock Option. An individual holding or exercising an Option shall have none of
the rights of a stockholder until the shares of Stock covered thereby are fully
paid and issued to him and, except as provided in Section 17 below, no
adjustment shall be made for dividends or other rights for which the record date
is prior to the date of such issuance.
11. TRANSFERABILITY OF OPTIONS
During the lifetime of an Optionee to whom an Option is
granted, only such Optionee (or, in the event of legal incapacity or
incompetency, the Optionee's guardian or legal representative) may exercise the
Option. No Option shall be assignable or transferable by the Optionee to whom it
is granted, other than by will or the laws of descent and distribution.
12. TERMINATION OF EMPLOYMENT
Upon the termination of the employment, or service as a
non-employee director, of an Optionee with the Corporation or a Subsidiary,
other than by reason of the death or "permanent and total disability" (within
the meaning of Section 22(e)(3) of the Code) of such Optionee, any Option
granted to an Optionee pursuant to the Plan shall terminate, and such Optionee
shall have no further right to purchase shares of Stock pursuant to such Option;
provided, however, that in the event that such termination of employment is by
reason of the Optionee's retirement with the consent of the Corporation or a
Subsidiary in accordance with
- 6 -
<PAGE> 10
the normal retirement policies of the Corporation or a Subsidiary, as the case
may be, then such Optionee shall have the right (subject to the general
limitations on exercise set forth in Section 10.2 above), at any time within
three months after such retirement and prior to termination of the Option
pursuant to Section 10(a) above, to exercise, in whole or in part, any Option
held by such Optionee at the date of such retirement, whether or not such Option
was exercisable immediately prior to such retirement; provided further, that the
Board may provide, by inclusion of appropriate language in any Option Agreement,
that an Optionee may (subject to the general limitations on exercise set forth
in Section 10.2 above), in the event of termination of employment, or service as
a non-employee director, of the Optionee with the Corporation or a Subsidiary,
exercise an Option, in whole or in part, at any time subsequent to such
termination of employment, or service as a non-employee director, and prior to
termination of the Option pursuant to Section 10.1 above, either subject to or
without regard to any installment limitation on exercise imposed pursuant to
Section 10.2 above, as the Board, in its sole and absolute discretion, shall
determine and set forth in the Option Agreement. Whether a termination of
employment is to be considered by reason of retirement with the consent of the
Corporation or a Subsidiary in accordance with the normal retirement policies of
the Corporation or a Subsidiary, as the case may be, and whether a leave of
absence or leave on military or government service shall constitute a
termination of employment for purposes of the Plan, shall be determined by the
Board, which determination shall be final and conclusive. For purposes of the
Plan, a termination of employment with the Corporation or a Subsidiary shall not
be deemed to occur if the Optionee is immediately thereafter employed with the
Corporation or any other Subsidiary.
13. RIGHTS IN THE EVENT OF DEATH OR DISABILITY
13.1. Death
If an Optionee dies while employed by, or serving as a
non-employee director of, the Corporation or a Subsidiary, the executors or
administrators or legatees or distributees of such Optionee's estate shall have
the right (subject to the general limitations on exercise set forth in Section
10.2 above), at any time within one year after the date of such Optionee's death
and prior to termination of the Option pursuant to Section 10.1 above, to
exercise any Option held by such Optionee at the date of such Optionee's death,
whether or not such Option was exercisable immediately prior to such Optionee's
death; provided, however, that the Board may provide by inclusion of appropriate
language in any Option Agreement that, in the event of the death of an Optionee,
the executors or administrators or legatees or distributees of such Optionee's
estate may exercise an Option (subject to the general limitations on exercise
set forth in Section 10.2 above), in whole or in part, at any time subsequent to
such Optionee's death and prior to termination of the Option pursuant to Section
10.1 above, either subject to or without regard to
- 7 -
<PAGE> 11
any installment limitation on exercise imposed pursuant to
Section 10.2 above, as the Board, in its sole and absolute discretion, shall
determine and set forth in the Option Agreement.
13.2. Disability
If an Optionee terminates employment with the Corporation or a
Subsidiary by reason of the "permanent and total disability" (within the meaning
of Section 22(e)(3) of the Code) of such Optionee, then such Optionee shall have
the right (subject to the general limitations on exercise set forth in Section
10.2 above), at any time within one year after such termination of employment
and prior to termination of the Option pursuant to Section 10.1 above, to
exercise, in whole or in part, any Option held by such Optionee at the date of
such termination of employment, whether or not such Option was exercisable
immediately prior to such termination of employment; provided, however, that the
Board may provide, by inclusion of appropriate language in any Option Agreement,
that an Optionee may (subject to the general limitations on exercise set forth
in Section 10.2 above), in the event of the termination of employment of the
Optionee with the Corporation or a Subsidiary by reason of the "permanent and
total disability" (within the meaning of Section 22(e)(3) of the Code) of such
Optionee, exercise an Option, in whole or in part, at any time subsequent to
such termination of employment and prior to termination of the Option pursuant
to Section 10.1 above, either subject to or without regard to any installment
limitation on exercise imposed pursuant to Section 10.2 above, as the Board, in
its sole and absolute discretion, shall determine and set forth in the Option
Agreement. Whether a termination of employment is to be considered by reason of
"permanent and total disability" for purposes of this Plan shall be determined
by the Board, which determination shall be final and conclusive.
14. USE OF PROCEEDS
The proceeds received by the Corporation from the sale of
Stock pursuant to Options granted under the Plan shall constitute general funds
of the Corporation.
15. REQUIREMENTS OF LAW
15.1. Violations of Law
The Corporation shall not be required to sell or issue any
shares of Stock under any Option if the sale or issuance of such shares would
constitute a violation by the individual exercising the Option or the
Corporation of any provisions of any law or regulation of any governmental
authority, including without limitation any federal or state securities laws or
regulations. Specifically in connection with the Securities Act of 1933 (as now
in effect or as hereafter
- 8 -
<PAGE> 12
amended), upon exercise of any Option, unless a registration
statement under such Act is in effect with respect to the shares of Stock
covered by such Option, the Corporation shall not be required to sell or issue
such shares unless the Corporation has received evidence satisfactory to it that
the holder of such Option may acquire such shares pursuant to an exemption from
registration under such Act. Any determination in this connection by the
Corporation shall be final, binding, and conclusive. The Corporation may, but
shall in no event be obligated to, register any securities covered hereby
pursuant to the Securities Act of 1933 (as now in effect or as hereafter
amended). The Corporation shall not be obligated to take any affirmative action
in order to cause the exercise of an Option or the issuance of shares pursuant
thereto to comply with any law or regulation of any governmental authority. As
to any jurisdiction that expressly imposes the requirement that an Option shall
not be exercisable unless and until the shares of Stock covered by such Option
are registered or are subject to an available exemption from registration, the
exercise of such Option (under circumstances in which the laws of such
jurisdiction apply) shall be deemed conditioned upon the effectiveness of such
registration or the availability of such an exemption.
15.2. Compliance with Rule 16b-3
The Plan is intended to comply with Rule 16b-3 under the
Securities Exchange Act of 1934. Any provision inconsistent with such Rule shall
be inoperative and shall not affect the validity of the Plan.
16. AMENDMENT AND TERMINATION OF THE PLAN
The Board may, at any time and from time to time, amend,
suspend or terminate the Plan as to any shares of Stock as to which Options have
not been granted; provided, however, that no amendment by the Board shall,
without approval by the affirmative vote of stockholders who hold more than
fifty percent (50%) of the combined voting power of the outstanding shares of
voting stock of the Corporation present or represented, and entitled to vote
thereon at a duly constituted stockholders' meeting, or by consent as permitted
by law, (a) materially change the requirements as to eligibility to receive
Options; (b) increase the maximum number of shares of Stock in the aggregate
that may be sold pursuant to Options granted under the Plan (except as permitted
under Section 17 hereof); (c) change the minimum Option Price set forth in
Section 9 hereof (except as permitted under Section 17 hereof); (d) increase the
maximum period during which Options may be exercised; (e) extend the term of the
Plan; or (f) materially increase the benefits accruing to eligible individuals
under the Plan. Except as permitted under Section 17 hereof, no amendment,
suspension or termination of the Plan shall, without the consent of the holder
of the Option, alter or impair rights or obligations under any Option
theretofore granted under the Plan.
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<PAGE> 13
17. EFFECT OF CHANGES IN CAPITALIZATION
17.1. Changes in Stock
If the outstanding shares of Stock are increased or decreased or
changed into or exchanged for a different number or kind of shares or other
securities of the Corporation by reason of the conversion of the outstanding
shares of Preferred Stock to shares of Common Stock, par value $.01 per share,
of the Corporation pursuant to the terms of the Certificate of Incorporation of
the Corporation, or by reason of any recapitalization, reclassification, stock
split-up, combination of shares, exchange of shares, stock dividend or other
distribution payable in capital stock, or other increase or decrease in such
shares effected without receipt of consideration by the Corporation, occurring
after the effective date of the Plan, the number and kinds of shares for the
purchase of which Options may be granted under the Plan shall be adjusted
proportionately and accordingly by the Corporation. In addition, the number and
kind of shares for which Options are outstanding shall be adjusted
proportionately and accordingly so that the proportionate interest of the holder
of the Option immediately following such event shall, to the extent practicable,
be the same as immediately prior to such event. Any such adjustment in
outstanding Options shall not change the aggregate Option Price payable with
respect to shares subject to the unexercised portion of the Option outstanding
but shall include a corresponding proportionate adjustment in the Option Price
per share.
17.2. Reorganization in Which the Corporation Is the Surviving
Corporation
Subject to Section 17.3 hereof, if the Corporation shall be the
surviving corporation in any reorganization, merger or consolidation of the
Corporation with one or more other corporations, any Option theretofore granted
pursuant to the Plan shall pertain to and apply to the securities to which a
holder of the number of shares of Stock subject to such Option would have been
entitled immediately following such reorganization, merger or consolidation,
with a corresponding proportionate adjustment of the Option Price per share so
that the aggregate Option Price thereafter shall be the same as the aggregate
Option Price of the shares remaining subject to the Option immediately prior to
such reorganization, merger or consolidation.
17.3. Reorganization in Which the Corporation Is Not the Surviving
Corporation or Sale of Assets or Stock.
Upon the dissolution or liquidation of the Corporation, or upon a
merger, consolidation or reorganization of the Corporation with one or more
other corporations in which the Corporation is not the surviving corporation, or
upon a
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<PAGE> 14
sale of substantially all of the assets of the Corporation to
another corporation, or upon any transaction (including, without limitation, a
merger or reorganization in which the Corporation is the surviving corporation)
approved by the Board which results in any person or entity owning 80 percent or
more of the combined voting power of all classes of stock of the Corporation,
the Plan and all Options outstanding hereunder shall terminate, except to the
extent provision is made in writing in connection with such transaction for the
continuation of the Plan and/or the assumption of the Options theretofore
granted, or for the substitution for such Options of new options covering the
stock of a successor corporation, or a parent or subsidiary thereof, with
appropriate adjustments as to the number and kinds of shares and exercise
prices, in which event the Plan and Options theretofore granted shall continue
in the manner and under the terms so provided. In the event of any such
termination of the Plan, each individual holding an Option shall have the right
(subject to the general limitations on exercise set forth in Section 10.2
above), immediately prior to the occurrence of such termination and during such
period occurring prior to such termination as the Board in its sole discretion
shall determine and designate, to exercise such Option in whole or in part,
whether or not such Option was otherwise exercisable at the time such
termination occurs and without regard to any installment limitation on exercise
imposed pursuant to Section 10.2 above. The Board shall send written notice of
an event that will result in such a termination to all individuals who hold
Options not later than the time at which the Corporation gives notice thereof to
its stockholders.
17.4. Adjustments
Adjustments under this Section 17 related to stock or
securities of the Corporation shall be made by the Board, whose determination in
that respect shall be final, binding and conclusive. No fractional shares of
Stock or units of other securities shall be issued pursuant to any such
adjustment, and any fractions resulting from any such adjustment shall be
eliminated in each case by rounding downward to the nearest whole share or unit.
17.5. No Limitations on Corporation
The grant of an Option pursuant to the Plan shall not affect
or limit in any way the right or power of the Corporation to make adjustments,
reclassifications, reorganizations or changes of its capital or business
structure or to merge, consolidate, dissolve or liquidate, or to sell or
transfer all or any part of its business or assets.
18. DISCLAIMER OF RIGHTS
No provision in the Plan or in any Option granted or Option
Agreement entered into pursuant to the Plan shall be construed to confer upon
any individual the right to remain in the employ of the Corporation or any
Subsidiary, or to interfere in any way with the right and authority of the
Corporation or any
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<PAGE> 15
Subsidiary either to increase or decrease the compensation of
any individual at any time, or to terminate any employment or other relationship
between any individual and the Corporation or any Subsidiary.
19. NONEXCLUSIVITY OF THE PLAN
Neither the adoption of the Plan nor the submission of the
Plan to the stockholders of the Corporation for approval shall be construed as
creating any limitations upon the right and authority of the Board to adopt such
other incentive compensation arrangements (which arrangements may be applicable
either generally to a class or classes of individuals or specifically to a
particular individual or individuals) as the Board in its discretion determines
desirable, including, without limitation, the granting of stock options
otherwise than under the Plan.
* * *
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<PAGE> 16
This Plan was duly adopted and approved by the Board of
Directors of the Corporation on December 6, 1995 and was duly approved by the
stockholders of the Corporation on January 15, 1996.
This Plan was amended by the Board of Directors of the
Corporation on September 19, 1997 (to reflect the Corporation's name change and
increase the number of shares of Stock available for issuance under the Plan)
and on February 4, 1998 (to reflect a 150:1 common stock split (effective May 1,
1998) and increase the number of shares of Stock available for issuance under
the Plan in the aggregate and to certain individuals). Such amendments were duly
approved by the stockholders of the Corporation on September 30, 1997, and April
15, 1998, respectively.
(sig) James K. McCormick
-----------------------------------------------
Secretary of the Corporation
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<PAGE> 1
EXHIBIT 10.66
DRAFT DATED NOVEMBER 22, 1999
KNOLOGY, INC.
1999 LONG-TERM INCENTIVE PLAN
ARTICLE 1
PURPOSE
1.1 GENERAL. The purpose of the KNOLOGY, Inc. 1999 Long-Term
Incentive Plan (the "Plan") is to promote the success, and enhance the value,
of KNOLOGY, Inc. (the "Corporation"), by linking the personal interests of its
employees, officers, directors and consultants to those of Corporation
stockholders and by providing such persons with an incentive for outstanding
performance. The Plan is further intended to provide flexibility to the
Corporation in its ability to motivate, attract, and retain the services of
employees, officers, directors and consultants upon whose judgment, interest,
and special effort the successful conduct of the Corporation's operation is
largely dependent. Accordingly, the Plan permits the grant of incentive awards
from time to time to selected employees and officers, directors, and
consultants; provided, however, to the extent necessary to preserve the
employee benefits plan exemption under applicable state blue sky laws, no
non-employee director or consultant of the Corporation will be eligible to
receive Awards under the Plan until such time, if any, as the Corporation's
common stock shall be traded on a national securities exchange or on the Nasdaq
National Market.
ARTICLE 2
EFFECTIVE DATE
2.1 EFFECTIVE DATE. The Plan shall be effective as of the date
upon which it shall be approved by the Board (the "Effective Date"). However,
the Plan shall be submitted to the stockholders of the Corporation for approval
within 12 months of the Board's approval thereof. No Incentive Stock Options
granted under the Plan may be exercised prior to approval of the Plan by the
stockholders and if the stockholders fail to approve the Plan within 12 months
of the Board's approval thereof, any Incentive Stock Options previously granted
hereunder shall be automatically converted to Non-Qualified Stock Options
without any further act. In the discretion of the Committee, Awards may be made
to Covered Employees which are intended to constitute qualified
performance-based compensation under Code Section 162(m). Any such Awards shall
be contingent upon the stockholders having approved the Plan.
ARTICLE 3
DEFINITIONS
3.1 DEFINITIONS. When a word or phrase appears in this Plan with
the initial letter capitalized, and the word or phrase does not commence a
sentence, the word or phrase shall generally be given the meaning ascribed to
it in this Section or in Section 1.1 unless a clearly different meaning is
required by the context. The following words
<PAGE> 2
and phrases shall have the following meanings:
(a) "Award" means any Option, Stock Appreciation Right,
Restricted Stock Award, Performance Share Award, Dividend Equivalent
Award, or Other Stock-Based Award, or any other right or interest
relating to Stock or cash, granted to a Participant under the Plan.
(b) "Award Agreement" means any written agreement,
contract, or other instrument or document evidencing an Award.
(c) "Board" means the Board of Directors of the
Corporation.
(d) "Change of Control" means and includes the
occurrence of any one of the following events but shall specifically
exclude an Initial Public Offering:
(i) individuals who, at the Effective Date,
constitute the Board (the "Incumbent Directors") cease for
any reason to constitute at least a majority of the Board,
provided that any person becoming a director after the
Effective Date and whose election or nomination for election
was approved by a vote of at least a majority of the
Incumbent Directors then on the Board (either by a specific
vote or by approval of the proxy statement of the Corporation
in which such person is named as a nominee for director,
without written objection to such nomination) shall be an
Incumbent Director; provided, however, that no individual
initially elected or nominated as a director of the
Corporation as a result of an actual or threatened election
contest (as described in Rule 14a-11 under the 1934 Act
("Election Contest") or other actual or threatened
solicitation of proxies or consents by or on behalf of any
"person" (as such term is defined in Section 3(a)(9) of the
1934 Act and as used in Section 13(d)(3) and 14(d)(2) of the
1934 Act) other than the Board ("Proxy Contest"), including
by reason of any agreement intended to avoid or settle any
Election Contest or Proxy Contest, shall be deemed an
Incumbent Director;
(ii) any person becomes a "beneficial owner" (as
defined in Rule 13d-3 under the 1934 Act), directly or
indirectly, of securities of the Corporation representing 25%
or more of the combined voting power of the Corporation's
then outstanding securities eligible to vote for the election
of the Board (the "Company Voting Securities"); provided,
however, that the event described in this paragraph (ii)
shall not be deemed to be a Change in Control of the
Corporation by virtue of any of the following acquisitions:
(A) any acquisition by a person who is on the Effective Date
the beneficial owner of 25% or more of the outstanding
Company Voting Securities, (B) an acquisition by the
Corporation which reduces the number of Company Voting
Securities outstanding and
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<PAGE> 3
thereby results in any person acquiring beneficial ownership
of more than 25% of the outstanding Company Voting
Securities; provided, that if after such acquisition by the
Corporation such person becomes the beneficial owner of
additional Company Voting Securities that increases the
percentage of outstanding Company Voting Securities
beneficially owned by such person, a Change in Control of the
Corporation shall then occur, (C) an acquisition by any
employee benefit plan (or related trust) sponsored or
maintained by the Corporation or any Parent or Subsidiary,
(D) an acquisition by an underwriter temporarily holding
securities pursuant to an offering of such securities, or (E)
an acquisition pursuant to a Non-Qualifying Transaction (as
defined in paragraph (iii)); or
(iii) the consummation of a reorganization, merger,
consolidation, statutory share exchange or similar form of
corporate transaction involving the Corporation that requires
the approval of the Corporation's stockholders, whether for
such transaction or the issuance of securities in the
transaction (a "Reorganization"), or the sale or other
disposition of all or substantially all of the Corporation's
assets to an entity that is not an affiliate of the
Corporation (a "Sale"), unless immediately following such
Reorganization or Sale: (A) more than 50% of the total voting
power of (x) the corporation resulting from such
Reorganization or the corporation which has acquired all or
substantially all of the assets of the Corporation (in either
case, the "Surviving Corporation"), or (y) if applicable, the
ultimate parent corporation that directly or indirectly has
beneficial ownership of 100% of the voting securities
eligible to elect directors of the Surviving Corporation (the
"Parent Corporation"), is represented by the Corporation
Voting Securities that were outstanding immediately prior to
such Reorganization or Sale (or, if applicable, is
represented by shares into which such Company Voting
Securities were converted pursuant to such Reorganization or
Sale), and such voting power among the holders thereof is in
substantially the same proportion as the voting power of such
Company Voting Securities among the holders thereof
immediately prior to the Reorganization or Sale, (B) no
person (other than (x) the Corporation, (y) any employee
benefit plan (or related trust) sponsored or maintained by
the Surviving Corporation or the Parent Corporation, or (z) a
person who immediately prior to the Reorganization or Sale
was the beneficial owner of 25% or more of the outstanding
Company Voting Securities) is the beneficial owner, directly
or indirectly, of 25% or more of the total voting power of
the outstanding voting securities eligible to elect directors
of the Parent Corporation (or, if there is no Parent
Corporation, the Surviving Corporation), and (C) at least a
majority of the members of the board of directors of the
Parent Corporation (or, if there is no Parent Corporation,
the Surviving Corporation) following the consummation of the
Reorganization or Sale were Incumbent Directors at the time
of the Board's approval of the execution of the initial
agreement
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<PAGE> 4
providing for such Reorganization or Sale (any Reorganization
or Sale which satisfies all of the criteria specified in (A),
(B) and (C) above shall be deemed to be a "Non-Qualifying
Transaction").
(e) "Code" means the Internal Revenue Code of 1986, as
amended from time to time.
(f) "Committee" means the committee of the Board
described in Article 4.
(g) "Corporation" means KNOLOGY, Inc., a Delaware
corporation.
(h) "Covered Employee" means a covered employee as
defined in Code Section 162(m)(3), provided that no employee shall be
a Covered Employee until the deduction limitation of Code Section
162(m) are applicable to the Corporation and any reliance period under
Code Section 162(m) has expired, as described in Section 16.15 hereof.
(i) "Disability" shall mean any illness or other
physical or mental condition of a Participant that renders the
Participant incapable of performing his customary and usual duties for
the Corporation, or any medically determinable illness or other
physical or mental condition resulting from a bodily injury, disease
or mental disorder which, in the judgment of the Committee, is
permanent and continuous in nature. The Committee may require such
medical or other evidence as it deems necessary to judge the nature
and permanency of the Participant's condition. Notwithstanding the
above, with respect to an Incentive Stock Option, Disability shall
mean Permanent and Total Disability as defined in Section 22(e)(3) of
the Code.
(j) "Dividend Equivalent" means a right granted to a
Participant under Article 11.
(k) "Effective Date" has the meaning assigned such term
in Section 2.1.
(l) "Fair Market Value", on any date, means (i) if the
Stock is listed on a securities exchange or is traded over the Nasdaq
National Market, the closing sales price on such exchange or over such
system on such date or, in the absence of reported sales on such date,
the closing sales price on the immediately preceding date on which
sales were reported, or (ii) if the Stock is not listed on a
securities exchange or traded over the Nasdaq National Market, the
mean between the bid and offered prices as quoted by Nasdaq for such
date, provided that if it is determined that the fair market value is
not properly reflected by such Nasdaq quotations, Fair Market Value
will be determined by such other method as the Committee determines in
good faith to be reasonable.
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<PAGE> 5
(m) "Incentive Stock Option" means an Option that is
intended to meet the requirements of Section 422 of the Code or any
successor provision thereto.
(n) "Initial Public Offering" shall occur on the
effective time and date of a registration statement filed under the
1933 Act, for an initial public offering of any class or series of the
Corporation's equity securities.
(o) "Non-Qualified Stock Option" means an Option that is
not an Incentive Stock Option.
(p) "Option" means a right granted to a Participant
under Article 7 of the Plan to purchase Stock at a specified price
during specified time periods. An Option may be either an Incentive
Stock Option or a Non-Qualified Stock Option.
(q) "Other Stock-Based Award" means a right, granted to
a Participant under Article 12, that relates to or is valued by
reference to Stock or other Awards relating to Stock.
(r) "Parent" means a corporation which owns or
beneficially owns a majority of the outstanding voting stock or voting
power of the Corporation. Notwithstanding the above, with respect to
an Incentive Stock Option, Parent shall have the meaning set forth in
Section 424(f) of the Code.
(s) "Participant" means a person who, as an employee,
officer consultant or director of the Corporation or any Parent or
Subsidiary, has been granted an Award under the Plan.
(t) "Performance Share" means a right granted to a
Participant under Article 9, to receive cash, Stock, or other Awards,
the payment of which is contingent upon achieving certain performance
goals established by the Committee.
(u) "Plan" means the KNOLOGY, Inc. 1999 Long-Term
Incentive Plan, as amended from time to time.
(v) "Restricted Stock Award" means Stock granted to a
Participant under Article 10 that is subject to certain restrictions
and to risk of forfeiture.
(w) "Retirement" means a Participant's termination of
employment with the Corporation, Parent or Subsidiary after attaining
any normal or early retirement age specified in any pension, profit
sharing or other retirement program sponsored by the Corporation, or,
in the event of the inapplicability thereof with respect to the person
in question, as determined by the Committee in its reasonable
judgment.
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<PAGE> 6
(x) "Stock" means the $0.01 par value common stock of
the Corporation and such other securities of the Corporation as may be
substituted for Stock pursuant to Article 14.
(y) "Stock Appreciation Right" or "SAR" means a right
granted to a Participant under Article 8 to receive a payment equal to
the difference between the Fair Market Value of a share of Stock as of
the date of exercise of the SAR over the grant price of the SAR, all
as determined pursuant to Article 8.
(z) "Subsidiary" means any corporation, limited
liability company, partnership or other entity of which a majority of
the outstanding voting stock or voting power is beneficially owned
directly or indirectly by the Corporation. Notwithstanding the above,
with respect to an Incentive Stock Option, Subsidiary shall have the
meaning set forth in Section 424(f) of the Code.
(aa) "1933 Act" means the Securities Act of 1933, as
amended from time to time.
(bb) "1934 Act" means the Securities Exchange Act of
1934, as amended from time to time.
ARTICLE 4
ADMINISTRATION
4.1 COMMITTEE. The Plan shall be administered by a committee (the
"Committee") appointed by the Board (which Committee shall consist of two or
more directors) or, at the discretion of the Board from time to time, the Plan
may be administered by the Board. It is intended that the directors appointed
to serve on the Committee shall be "non-employee directors" (within the meaning
of Rule 16b-3 promulgated under the 1934 Act) and "outside directors" (within
the meaning of Code Section 162(m) and the regulations thereunder) to the
extent that Rule 16b-3 and, if necessary for relief from the limitation under
Code Section 162(m) and such relief is sought by the Corporation, Code Section
162(m), respectively, are applicable. However, the mere fact that a Committee
member shall fail to qualify under either of the foregoing requirements shall
not invalidate any Award made by the Committee which Award is otherwise validly
made under the Plan. The members of the Committee shall be appointed by, and
may be changed at any time and from time to time in the discretion of, the
Board. During any time that the Board is acting as administrator of the Plan,
it shall have all the powers of the Committee hereunder, and any reference
herein to the Committee (other than in this Section 4.1) shall include the
Board.
4.2 ACTION BY THE COMMITTEE. For purposes of administering the
Plan, the following rules of procedure shall govern the Committee. A majority
of the Committee shall constitute a quorum. The acts of a majority of the
members present at
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<PAGE> 7
any meeting at which a quorum is present, and acts approved unanimously in
writing by the members of the Committee in lieu of a meeting, shall be deemed
the acts of the Committee. Each member of the Committee is entitled to, in good
faith, rely or act upon any report or other information furnished to that
member by any officer or other employee of the Corporation or any Parent or
Subsidiary, the Corporation's independent certified public accountants, or any
executive compensation consultant or other professional retained by the
Corporation to assist in the administration of the Plan.
4.3 AUTHORITY OF COMMITTEE. Except as provided below, the
Committee has the exclusive power, authority and discretion to:
(a) Designate Participants;
(b) Determine the type or types of Awards to be granted
to each Participant;
(c) Determine the number of Awards to be granted and the
number of shares of Stock to which an Award will relate;
(d) Determine the terms and conditions of any Award
granted under the Plan, including but not limited to, the exercise
price, grant price, or purchase price, any restrictions or limitations
on the Award, any schedule for lapse of forfeiture restrictions or
restrictions on the exercisability of an Award, and accelerations or
waivers thereof, based in each case on such considerations as the
Committee in its sole discretion determines;
(e) Accelerate the vesting or lapse of restrictions of
any outstanding Award, based in each case on such considerations as
the Committee in its sole discretion determines;
(f) Determine whether, to what extent, and under what
circumstances an Award may be settled in, or the exercise price of an
Award may be paid in, cash, Stock, other Awards, or other property, or
an Award may be canceled, forfeited, or surrendered;
(g) Prescribe the form of each Award Agreement, which
need not be identical for each Participant;
(h) Decide all other matters that must be determined in
connection with an Award;
(i) Establish, adopt or revise any rules and regulations
as it may deem necessary or advisable to administer the Plan;
(j) Make all other decisions and determinations that may
be required
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<PAGE> 8
under the Plan or as the Committee deems necessary or advisable to
administer the Plan; and
(k) Amend the Plan or any Award Agreement as provided
herein.
Not withstanding the above, the Board or the Committee may expressly
delegate to a special committee consisting of one or more directors who are
also officers of the Corporation some or all of the Committee's authority under
subsections (a) through (g) above with respect to those eligible Participants
who, at the time of grant are not, and are not anticipated to be become, either
(i) Covered Employees or (ii) persons subject to the insider trading
restrictions of Section 16 of the 1934 Act.
4.4. DECISIONS BINDING. The Committee's interpretation of the
Plan, any Awards granted under the Plan, any Award Agreement and all decisions
and determinations by the Committee with respect to the Plan are final,
binding, and conclusive on all parties.
ARTICLE 5
SHARES SUBJECT TO THE PLAN
5.1. NUMBER OF SHARES. Subject to adjustment as provided in
Section 14.1, the aggregate number of shares of Stock reserved and available
for Awards or which may be used to provide a basis of measurement for or to
determine the value of an Award (such as with a Stock Appreciation Right or
Performance Share Award) shall be 2,000,000, of which not more than 20% may be
granted as Awards of Restricted Stock or unrestricted Stock Awards.
5.2. LAPSED AWARDS. To the extent that an Award is canceled,
terminates, expires or lapses for any reason, any shares of Stock subject to
the Award will again be available for the grant of an Award under the Plan and
shares subject to SARs or other Awards settled in cash will be available for
the grant of an Award under the Plan.
5.3. STOCK DISTRIBUTED. Any Stock distributed pursuant to an Award
may consist, in whole or in part, of authorized and unissued Stock, treasury
Stock or Stock purchased on the open market.
5.4. LIMITATION ON AWARDS. Notwithstanding any provision in the
Plan to the contrary (but subject to adjustment as provided in Section 14.1),
the maximum number of shares of Stock with respect to one or more Options
and/or SARs that may be granted during any one calendar year under the Plan to
any one Participant shall be 2,000,000. The maximum fair market value (measured
as of the date of grant) of any Awards other than Options and SARs that may be
received by any one Participant (less any consideration paid by the Participant
for such Award) during any one calendar year under the Plan shall be
$2,000,000.
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<PAGE> 9
ARTICLE 6
ELIGIBILITY
6.1. GENERAL. Awards may be granted only to individuals who are
employees, officers, directors or consultants of the Corporation or a Parent or
Subsidiary ; provided, however, that to the extent necessary to preserve the
employee benefits plan exemption under applicable state blue sky laws, no
non-employee director or consultant of the Corporation will be eligible to
receive Awards under the Plan until such time, if any, as the Corporation's
common stock shall be traded on a national securities exchange or on the Nasdaq
National Market.
ARTICLE 7
STOCK OPTIONS
7.1. GENERAL. The Committee is authorized to grant Options to
Participants on the following terms and conditions:
(a) EXERCISE PRICE. The exercise price per share of
Stock under an Option shall be determined by the Committee.
(b) TIME AND CONDITIONS OF EXERCISE. The Committee shall
determine the time or times at which an Option may be exercised in
whole or in part. The Committee also shall determine the performance
or other conditions, if any, that must be satisfied before all or part
of an Option may be exercised. The Committee may waive any exercise
provisions at any time in whole or in part based upon factors as the
Committee may determine in its sole discretion so that the Option
becomes exerciseable at an earlier date.
(c) PAYMENT. The Committee shall determine the methods
by which the exercise price of an Option may be paid, the form of
payment, including, without limitation, cash, shares of Stock, or
other property (including "cashless exercise" arrangements), and the
methods by which shares of Stock shall be delivered or deemed to be
delivered to Participants; provided, however, that if shares of Stock
are used to pay the exercise price of an Option, such shares must have
been held by the Participant for at least six months.
(d) EVIDENCE OF GRANT. All Options shall be evidenced by
a written Award Agreement between the Corporation and the Participant.
The Award Agreement shall include such provisions, not inconsistent
with the Plan, as may be specified by the Committee.
(e) EXERCISE TERM. In no event may any Option be
exercisable for more than ten years from the date of its grant.
7.2. INCENTIVE STOCK OPTIONS. The terms of any Incentive Stock
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<PAGE> 10
Options granted under the Plan must comply with the following additional rules:
(a) EXERCISE PRICE. The exercise price per share of
Stock shall be set by the Committee, provided that the exercise price
for any Incentive Stock Option shall not be less than the Fair Market
Value as of the date of the grant.
(b) EXERCISE. In no event may any Incentive Stock Option
be exercisable for more than ten years from the date of its grant.
(c) LAPSE OF OPTION. An Incentive Stock Option shall
lapse under the earliest of the following circumstances; provided,
however, that the Committee may, prior to the lapse of the Incentive
Stock Option under the circumstances described in paragraphs (3), (4)
and (5) below, provide in writing that the Option will extend until a
later date, but if Option is exercised after the dates specified in
paragraphs (3), (4) and (5) below, it will automatically become a
Non-Qualified Stock Option:
(1) The Incentive Stock Option shall lapse as
of the option expiration date set forth in the Award
Agreement.
(2) The Incentive Stock Option shall lapse ten
years after it is granted, unless an earlier time is set in
the Award Agreement.
(3) If the Participant terminates employment
for any reason other than as provided in paragraph (4) or (5)
below, the Incentive Stock Option shall lapse, unless it is
previously exercised, three months after the Participant's
termination of employment; provided, however, that if the
Participant's employment is terminated by the Corporation for
cause (as determined by the Corporation), the Incentive Stock
Option shall (to the extent not previously exercised) lapse
immediately.
(4) If the Participant terminates employment by
reason of his Disability, the Incentive Stock Option shall
lapse, unless it is previously exercised, one year after the
Participant's termination of employment.
(5) If the Participant dies while employed, or
during the three-month period described in paragraph (3) or
during the one-year period described in paragraph (4) and
before the Option otherwise lapses, the Option shall lapse
one year after the Participant's death. Upon the
Participant's death, any exercisable Incentive Stock Options
may be exercised by the Participant's beneficiary, determined
in accordance with Section 13.6.
Unless the exercisability of the Incentive Stock Option is
accelerated as provided in Article 13, if a Participant exercises an
Option after termination of
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<PAGE> 11
employment, the Option may be exercised only with respect to the
shares that were otherwise vested on the Participant's termination of
employment.
(d) INDIVIDUAL DOLLAR LIMITATION. The aggregate Fair
Market Value (determined as of the time an Award is made) of all
shares of Stock with respect to which Incentive Stock Options are
first exercisable by a Participant in any calendar year may not exceed
$100,000.00.
(e) TEN PERCENT OWNERS. No Incentive Stock Option shall
be granted to any individual who, at the date of grant, owns stock
possessing more than ten percent of the total combined voting power of
all classes of stock of the Corporation or any Parent or Subsidiary
unless the exercise price per share of such Option is at least 110% of
the Fair Market Value per share of Stock at the date of grant and the
Option expires no later than five years after the date of grant.
(f) EXPIRATION OF INCENTIVE STOCK OPTIONS. No Award of
an Incentive Stock Option may be made pursuant to the Plan after the
day immediately prior to the tenth anniversary of the Effective Date.
(g) RIGHT TO EXERCISE. During a Participant's lifetime,
an Incentive Stock Option may be exercised only by the Participant or,
in the case of the Participant's Disability, by the Participant's
guardian or legal representative.
(h) DIRECTORS. The Committee may not grant an Incentive
Stock Option to a non-employee director. The Committee may grant an
Incentive Stock Option to a director who is also an employee of the
Corporation or Parent or Subsidiary but only in that individual's
position as an employee and not as a director.
ARTICLE 8
STOCK APPRECIATION RIGHTS
8.1. GRANT OF SARs. The Committee is authorized to grant SARs to
Participants on the following terms and conditions:
(a) RIGHT TO PAYMENT. Upon the exercise of a Stock
Appreciation Right, the Participant to whom it is granted has the
right to receive the excess, if any, of:
(1) The Fair Market Value of one share of Stock
on the date of exercise; over
(2) The grant price of the Stock Appreciation
Right as determined by the Committee, which shall not be less
than the Fair Market Value of one share of Stock on the date
of grant in the case of any SAR
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<PAGE> 12
related to an Incentive Stock Option.
(b) OTHER TERMS. All awards of Stock Appreciation Rights
shall be evidenced by an Award Agreement. The terms, methods of
exercise, methods of settlement, form of consideration payable in
settlement, and any other terms and conditions of any Stock
Appreciation Right shall be determined by the Committee at the time of
the grant of the Award and shall be reflected in the Award Agreement.
ARTICLE 9
PERFORMANCE SHARES
9.1. GRANT OF PERFORMANCE SHARES. The Committee is authorized to
grant Performance Shares to Participants on such terms and conditions as may be
selected by the Committee. The Committee shall have the complete discretion to
determine the number of Performance Shares granted to each Participant. All
Awards of Performance Shares shall be evidenced by an Award Agreement.
9.2. RIGHT TO PAYMENT. A grant of Performance Shares gives the
Participant rights, valued as determined by the Committee, and payable to, or
exercisable by, the Participant to whom the Performance Shares are granted, in
whole or in part, as the Committee shall establish at grant or thereafter. The
Committee shall set performance goals and other terms or conditions to payment
of the Performance Shares in its discretion which, depending on the extent to
which they are met, will determine the number and value of Performance Shares
that will be paid to the Participant.
9.3. OTHER TERMS. Performance Shares may be payable in cash,
Stock, or other property, and have such other terms and conditions as
determined by the Committee and reflected in the Award Agreement.
ARTICLE 10
RESTRICTED STOCK AWARDS
10.1. GRANT OF RESTRICTED STOCK. The Committee is authorized to
make Awards of Restricted Stock to Participants in such amounts and subject to
such terms and conditions as may be selected by the Committee. All Awards of
Restricted Stock shall be evidenced by a Restricted Stock Award Agreement.
10.2. ISSUANCE AND RESTRICTIONS. Restricted Stock shall be subject
to such restrictions on transferability and other restrictions as the Committee
may impose (including, without limitation, limitations on the right to vote
Restricted Stock or the right to receive dividends on the Restricted Stock).
These restrictions may lapse separately or in combination at such times, under
such circumstances, in such installments, upon the satisfaction of performance
goals or otherwise, as the Committee determines at the time of the grant of the
Award or thereafter.
- 12 -
<PAGE> 13
10.3. FORFEITURE. Except as otherwise determined by the Committee
at the time of the grant of the Award or thereafter, upon termination of
employment during the applicable restriction period or upon failure to satisfy
a performance goal during the applicable restriction period, Restricted Stock
that is at that time subject to restrictions shall be forfeited and reacquired
by the Corporation; provided, however, that the Committee may provide in any
Award Agreement that restrictions or forfeiture conditions relating to
Restricted Stock will be waived in whole or in part in the event of
terminations resulting from specified causes, and the Committee may in other
cases waive in whole or in part restrictions or forfeiture conditions relating
to Restricted Stock.
10.4. CERTIFICATES FOR RESTRICTED STOCK. Restricted Stock granted
under the Plan may be evidenced in such manner as the Committee shall
determine. If certificates representing shares of Restricted Stock are
registered in the name of the Participant, certificates must bear an
appropriate legend referring to the terms, conditions, and restrictions
applicable to such Restricted Stock.
ARTICLE 11
DIVIDEND EQUIVALENTS
11.1 GRANT OF DIVIDEND EQUIVALENTS. The Committee is authorized to
grant Dividend Equivalents to Participants subject to such terms and conditions
as may be selected by the Committee. Dividend Equivalents shall entitle the
Participant to receive payments equal to dividends with respect to all or a
portion of the number of shares of Stock subject to an Award, as determined by
the Committee. The Committee may provide that Dividend Equivalents be paid or
distributed when accrued or be deemed to have been reinvested in additional
shares of Stock, or otherwise reinvested.
ARTICLE 12
OTHER STOCK-BASED AWARDS
12.1. GRANT OF OTHER STOCK-BASED AWARDS. The Committee is
authorized, subject to limitations under applicable law, to grant to
Participants such other Awards that are payable in, valued in whole or in part
by reference to, or otherwise based on or related to shares of Stock, as deemed
by the Committee to be consistent with the purposes of the Plan, including
without limitation shares of Stock awarded purely as a "bonus" and not subject
to any restrictions or conditions, convertible or exchangeable debt securities,
other rights convertible or exchangeable into shares of Stock, and Awards
valued by reference to book value of shares of Stock or the value of securities
of or the performance of specified Parents or Subsidiaries. The Committee shall
determine the terms and conditions of such Awards.
ARTICLE 13
PROVISIONS APPLICABLE TO AWARDS
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<PAGE> 14
13.1. STAND-ALONE, TANDEM, AND SUBSTITUTE AWARDS. Awards granted
under the Plan may, in the discretion of the Committee, be granted either alone
or in addition to, in tandem with, or in substitution for, any other Award
granted under the Plan. If an Award is granted in substitution for another
Award, the Committee may require the surrender of such other Award in
consideration of the grant of the new Award. Awards granted in addition to or
in tandem with other Awards may be granted either at the same time as or at a
different time from the grant of such other Awards.
13.2. EXCHANGE PROVISIONS. The Committee may at any time offer to
exchange or buy out any previously granted Award for a payment in cash, Stock,
or another Award (subject to Section 14.1 and Section 15.2), based on the terms
and conditions the Committee determines and communicates to the Participant at
the time the offer is made, and after taking into account the tax, securities
and accounting effects of such an exchange.
13.3. TERM OF AWARD. The term of each Award shall be for the period
as determined by the Committee, provided that in no event shall the term of any
Incentive Stock Option or a Stock Appreciation Right granted in tandem with the
Incentive Stock Option exceed a period of ten years from the date of its grant
(or, if Section 7.2(e) applies, five years from the date of its grant).
13.4. FORM OF PAYMENT FOR AWARDS. Subject to the terms of the Plan
and any applicable law or Award Agreement, payments or transfers to be made by
the Corporation or a Parent or Subsidiary on the grant or exercise of an Award
may be made in such form as the Committee determines at or after the time of
grant, including without limitation, cash, Stock, other Awards, or other
property, or any combination, and may be made in a single payment or transfer,
in installments, or on a deferred basis, in each case determined in accordance
with rules adopted by, and at the discretion of, the Committee.
13.5. LIMITS ON TRANSFER. No right or interest of a Participant in
any unexercised or restricted Award may be pledged, encumbered, or hypothecated
to or in favor of any party other than the Corporation or a Parent or
Subsidiary, or shall be subject to any lien, obligation, or liability of such
Participant to any other party other than the Corporation or a Parent or
Subsidiary. No unexercised or restricted Award shall be assignable or
transferable by a Participant other than by will or the laws of descent and
distribution or, except in the case of an Incentive Stock Option, pursuant to a
domestic relations order that would satisfy Section 414(p)(1)(A) of the Code if
such Section applied to an Award under the Plan; provided, however, that the
Committee may (but need not) permit other transfers where the Committee
concludes that such transferability (i) does not result in accelerated
taxation, (ii) does not cause any Option intended to be an incentive stock
option to fail to be described in Code Section 422(b), and (iii) is otherwise
appropriate and desirable, taking into account any factors deemed relevant,
including without limitation, state or federal tax or securities laws
applicable to transferable Awards.
- 14 -
<PAGE> 15
13.6 BENEFICIARIES. Notwithstanding Section 13.5, a Participant
may, in the manner determined by the Committee, designate a beneficiary to
exercise the rights of the Participant and to receive any distribution with
respect to any Award upon the Participant's death. A beneficiary, legal
guardian, legal representative, or other person claiming any rights under the
Plan is subject to all terms and conditions of the Plan and any Award Agreement
applicable to the Participant, except to the extent the Plan and Award
Agreement otherwise provide, and to any additional restrictions deemed
necessary or appropriate by the Committee. If no beneficiary has been
designated or survives the Participant, payment shall be made to the
Participant's estate. Subject to the foregoing, a beneficiary designation may
be changed or revoked by a Participant at any time provided the change or
revocation is filed with the Committee.
13.7. STOCK CERTIFICATES. All Stock certificates delivered under
the Plan are subject to any stop-transfer orders and other restrictions as the
Committee deems necessary or advisable to comply with federal or state
securities laws, rules and regulations and the rules of any national securities
exchange or automated quotation system on which the Stock is listed, quoted, or
traded. The Committee may place legends on any Stock certificate to reference
restrictions applicable to the Stock.
13.8 ACCELERATION UPON DEATH OR DISABILITY OR RETIREMENT.
Notwithstanding any other provision in the Plan or any Participant's Award
Agreement to the contrary, upon the Participant's death or Disability during
his employment or service as a director, or upon the Participant's Retirement,
all outstanding Options, Stock Appreciation Rights, and other Awards in the
nature of rights that may be exercised shall become fully exercisable and all
restrictions on outstanding Awards shall lapse. Any Option or Stock
Appreciation Rights Awards shall thereafter continue or lapse in accordance
with the other provisions of the Plan and the Award Agreement. To the extent
that this provision causes Incentive Stock Options to exceed the dollar
limitation set forth in Section 7.2(d), the excess Options shall be deemed to
be Non-Qualified Stock Options.
13.9. ACCELERATION UPON A CHANGE IN CONTROL. Except as otherwise
provided in the Award Agreement, upon the occurrence of a Change in Control,
all outstanding Options, Stock Appreciation Rights, and other Awards in the
nature of rights that may be exercised shall become fully exercisable and all
restrictions on outstanding Awards shall lapse; provided, however that such
acceleration will not occur if, in the opinion of the Corporation's
accountants, such acceleration would preclude the use of "pooling of interest"
accounting treatment for a Change in Control transaction that (a) would
otherwise qualify for such accounting treatment, and (b) is contingent upon
qualifying for such accounting treatment. To the extent that this provision
causes Incentive Stock Options to exceed the dollar limitation set forth in
Section 7.2(d), the excess Options shall be deemed to be Non-Qualified Stock
Options.
13.10. ACCELERATION UPON CERTAIN EVENTS NOT CONSTITUTING A CHANGE IN
CONTROL. In the event of the occurrence of any circumstance,
- 15 -
<PAGE> 16
transaction or event not constituting a Change in Control (as defined in
Section 3.1) but which the Board of Directors deems to be, or to be reasonably
likely to lead to, an effective change in control of the Corporation of a
nature that would be required to be reported in response to Item 6(e) of
Schedule 14A of the 1934 Act, the Committee may in its sole discretion declare
all outstanding Options, Stock Appreciation Rights, and other Awards in the
nature of rights that may be exercised to be fully exercisable, and/or all
restrictions on all outstanding Awards to have lapsed, in each case, as of such
date as the Committee may, in its sole discretion, declare, which may be on or
before the consummation of such transaction or event. To the extent that this
provision causes Incentive Stock Options to exceed the dollar limitation set
forth in Section 7.2(d), the excess Options shall be deemed to be Non-Qualified
Stock Options.
13.11. ACCELERATION FOR ANY OTHER REASON. Regardless of whether an
event has occurred as described in Section 13.9 or 13.10 above, the Committee
may in its sole discretion at any time determine that all or a portion of a
Participant's Options, Stock Appreciation Rights, and other Awards in the
nature of rights that may be exercised shall become fully or partially
exercisable, and/or that all or a part of the restrictions on all or a portion
of the outstanding Awards shall lapse, in each case, as of such date as the
Committee may, in its sole discretion, declare. The Committee may discriminate
among Participants and among Awards granted to a Participant in exercising its
discretion pursuant to this Section 13.11.
13.12 EFFECT OF ACCELERATION. If an Award is accelerated under
Section 13.9 or 13.10, the Committee may, in its sole discretion, provide (i)
that the Award will expire after a designated period of time after such
acceleration to the extent not then exercised, (ii) that the Award will be
settled in cash rather than Stock, (iii) that the Award will be assumed by
another party to the transaction giving rise to the acceleration or otherwise
be equitably converted in connection with such transaction, or (iv) any
combination of the foregoing. The Committee's determination need not be uniform
and may be different for different Participants whether or not such
Participants are similarly situated.
13.13. PERFORMANCE GOALS. The Committee may determine that any Award
granted pursuant to this Plan to a Participant (including, but not limited to,
Participants who are Covered Employees) shall be determined solely on the basis
of (a) the achievement by the Corporation or a Parent or Subsidiary of a
specified target return, or target growth in return, on equity or assets, (b)
the Corporation's or a Parent's or Subsidiary's stock price, (c) the
Corporation's total stockholder return (stock price appreciation plus
reinvested dividends) relative to a defined comparison group or target over a
specific performance period, (d) the achievement by the Corporation, a Parent
or Subsidiary, or a business unit of any such company, of a specified target
relative to, or target growth in, revenue, revenue generating units, homes
passed, cost of service, operating cost, capital expenses, net income or
earnings per share, or (e) any combination of the goals set forth in (a)
through (d) above. If an Award is made on such basis, the Committee shall
establish goals prior to the beginning of the period for which such
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<PAGE> 17
performance goal relates (or such later date as may be permitted under Code
Section 162(m) or the regulations thereunder), and the Committee has the right
for any reason to reduce (but not increase) the Award, notwithstanding the
achievement of a specified goal. Any payment of an Award granted with
performance goals shall be conditioned on the written certification of the
Committee in each case that the performance goals and any other material
conditions were satisfied.
13.14. TERMINATION OF EMPLOYMENT. Whether military, government or
other service or other leave of absence shall constitute a termination of
employment shall be determined in each case by the Committee at its discretion,
and any determination by the Committee shall be final and conclusive. A
termination of employment shall not occur (i) in a circumstance in which a
Participant transfers from the Corporation to one of its Parents or
Subsidiaries, transfers from a Parent or Subsidiary to the Corporation, or
transfers from one Parent or Subsidiary to another Parent or Subsidiary, or
(ii) in the discretion of the Committee as specified at or prior to such
occurrence, in the case of a spin-off of the Participant's employer from the
Corporation or any Parent or Subsidiary. To the extent that this provision
causes Incentive Stock Options to extend beyond three months from the date a
Participant is deemed to be an employee of the Corporation, a Parent or
Subsidiary for purposes of Section 424(f) of the Code, the Options held by such
Participant shall be deemed to be Non-Qualified Stock Options.
13.15. LOAN PROVISIONS. With the consent of the Committee, the
Corporation may make, guarantee or arrange for a loan or loans to a Participant
with respect to the exercise of any Option granted under this Plan and/or with
respect to the payment of the purchase price, if any, of any Award granted
hereunder and/or with respect to the payment by the Participant of any or all
federal and/or state income taxes due on account of the granting or exercise of
any Award hereunder. The Committee shall have full authority to decide whether
to make a loan or loans hereunder and to determine the amount, terms and
provisions of any such loan or loans, including the interest rate to be charged
in respect of any such loan or loans, whether the loan or loans are to be made
with or without recourse against the borrower, the terms on which the loan is
to be repaid and the conditions, if any, under which the loan or loans may be
forgiven.
ARTICLE 14
CHANGES IN CAPITAL STRUCTURE
14.1. GENERAL. In the event of a corporate transaction involving
the Corporation (including, without limitation, any stock dividend, stock
split, extraordinary cash dividend, recapitalization, reorganization, merger,
consolidation, split-up, spin-off, combination or exchange of shares), the
authorization limits under Section 5.1 and 5.4 shall be adjusted
proportionately, and the Committee may adjust Awards to preserve the benefits
or potential benefits of the Awards. Action by the Committee may include: (i)
adjustment of the number and kind of shares which may be delivered under the
Plan; (ii) adjustment of the number and kind of shares subject to outstanding
Awards; (iii) adjustment of the exercise price of outstanding Awards; and (iv)
any other adjustments
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<PAGE> 18
that the Committee determines to be equitable. Without limiting the foregoing,
in the event a stock dividend or stock split is declared upon the Stock, the
authorization limits under Section 5.1 and 5.4 shall be increased
proportionately, and the shares of Stock then subject to each Award shall be
increased proportionately without any change in the aggregate purchase price
therefor.
ARTICLE 15
AMENDMENT, MODIFICATION AND TERMINATION
15.1. AMENDMENT, MODIFICATION AND TERMINATION. The Board or the
Committee may, at any time and from time to time, amend, modify or terminate
the Plan without stockholder approval; provided, however, that the Board or
Committee may condition any amendment or modification on the approval of
stockholders of the Corporation if such approval is necessary or deemed
advisable with respect to tax, securities or other applicable laws, policies or
regulations.
15.2 AWARDS PREVIOUSLY GRANTED. At any time and from time to time,
the Committee may amend, modify or terminate any outstanding Award without
approval of the Participant; provided, however, that, subject to the terms of
the applicable Award Agreement, such amendment, modification or termination
shall not, without the Participant's consent, reduce or diminish the value of
such Award determined as if the Award had been exercised, vested, cashed in or
otherwise settled on the date of such amendment or termination. No termination,
amendment, or modification of the Plan shall adversely affect any Award
previously granted under the Plan, without the written consent of the
Participant.
ARTICLE 16
GENERAL PROVISIONS
16.1. NO RIGHTS TO AWARDS. No Participant or any eligible
participant shall have any claim to be granted any Award under the Plan, and
neither the Corporation nor the Committee is obligated to treat Participants or
eligible participants uniformly.
16.2. NO STOCKHOLDER RIGHTS. No Award gives the Participant any of
the rights of a stockholder of the Corporation unless and until shares of Stock
are in fact issued to such person in connection with such Award.
16.3. WITHHOLDING. The Corporation or any Parent or Subsidiary
shall have the authority and the right to deduct or withhold, or require a
Participant to remit to the Corporation, an amount sufficient to satisfy
federal, state, and local taxes (including the Participant's FICA obligation)
required by law to be withheld with respect to any taxable event arising as a
result of the Plan. With respect to withholding required upon any taxable event
under the Plan, the Committee may, at the time the Award is granted or
thereafter, require or permit that any such withholding requirement be
satisfied, in whole or in part, by withholding from the Award shares of Stock
having a Fair Market Value on
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<PAGE> 19
the date of withholding equal to the minimum amount (and not any greater
amount) required to be withheld for tax purposes, all in accordance with such
procedures as the Committee establishes.
16.4. NO RIGHT TO CONTINUED SERVICE. Nothing in the Plan or any
Award Agreement shall interfere with or limit in any way the right of the
Corporation or any Parent or Subsidiary to terminate any Participant's
employment or status as an officer, director or consultant at any time, nor
confer upon any Participant any right to continue as an employee, officer,
director or consultant of the Corporation or any Parent or Subsidiary.
l6.5. UNFUNDED STATUS OF AWARDS. The Plan is intended to be an
"unfunded" plan for incentive and deferred compensation. With respect to any
payments not yet made to a Participant pursuant to an Award, nothing contained
in the Plan or any Award Agreement shall give the Participant any rights that
are greater than those of a general creditor of the Corporation or any Parent
or Subsidiary.
16.6. INDEMNIFICATION. To the extent allowable under applicable
law, each member of the Committee shall be indemnified and held harmless by the
Corporation from any loss, cost, liability, or expense that may be imposed upon
or reasonably incurred by such member in connection with or resulting from any
claim, action, suit, or proceeding to which such member may be a party or in
which he may be involved by reason of any action or failure to act under the
Plan and against and from any and all amounts paid by such member in
satisfaction of judgment in such action, suit, or proceeding against him
provided he gives the Corporation an opportunity, at its own expense, to handle
and defend the same before he undertakes to handle and defend it on his own
behalf. The foregoing right of indemnification shall not be exclusive of any
other rights of indemnification to which such persons may be entitled under the
Corporation's Certificate of Incorporation or Bylaws, as a matter of law, or
otherwise, or any power that the Corporation may have to indemnify them or hold
them harmless.
16.7. RELATIONSHIP TO OTHER BENEFITS. No payment under the Plan
shall be taken into account in determining any benefits under any pension,
retirement, savings, profit sharing, group insurance, welfare or benefit plan of
the Corporation or any Parent or Subsidiary unless provided otherwise in such
other plan.
16.8. EXPENSES. The expenses of administering the Plan shall be
borne by the Corporation and its Parents or Subsidiaries.
16.9. TITLES AND HEADINGS. The titles and headings of the Sections
in the Plan are for convenience of reference only, and in the event of any
conflict, the text of the Plan, rather than such titles or headings, shall
control.
16.10. GENDER AND NUMBER. Except where otherwise indicated by the
context, any masculine term used herein also shall include the feminine; the
plural shall
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<PAGE> 20
include the singular and the singular shall include the plural.
16.11. FRACTIONAL SHARES. No fractional shares of Stock shall be
issued and the Committee shall determine, in its discretion, whether cash shall
be given in lieu of fractional shares or whether such fractional shares shall
be eliminated by rounding up.
16.12. GOVERNMENT AND OTHER REGULATIONS. The obligation of the
Corporation to make payment of awards in Stock or otherwise shall be subject to
all applicable laws, rules, and regulations, and to such approvals by
government agencies as may be required. The Corporation shall be under no
obligation to register under the 1933 Act, or any state securities act, any of
the shares of Stock issued in connection with the Plan. The shares issued in
connection with the Plan may in certain circumstances be exempt from
registration under the 1933 Act, and the Corporation may restrict the transfer
of such shares in such manner as it deems advisable to ensure the availability
of any such exemption.
16.13. GOVERNING LAW. To the extent not governed by federal law, the
Plan and all Award Agreements shall be construed in accordance with and
governed by the laws of the State of Delaware.
16.14 ADDITIONAL PROVISIONS. Each Award Agreement may contain such
other terms and conditions as the Committee may determine; provided that such
other terms and conditions are not inconsistent with the provisions of this
Plan.
16.15 CODE SECTION 162(m). The deduction limits of Code Section
162(m) and the regulation thereunder do not apply to the Corporation until such
time, if any, as any class of the Corporation's common equity securities is
registered under Section 12 of the 1934 Act or the Corporation otherwise meets
the definition of a "publicly held corporation" under Treasury Regulation
1.162-27(c) or any successor provision. Upon becoming a publicly held
corporation, the deduction limits of Code Section 162(m) and the regulations
thereunder shall not apply to compensation payable under this Plan until the
expiration of the reliance period described in Treasury Regulation 1.162-27(f)
or any successor regulation.
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<PAGE> 21
The foregoing is hereby acknowledged as being the KNOLOGY, Inc. 1999
Long-Term Incentive Plan as adopted by the Board of Directors of the
Corporation on November __, 1999 and approved by the stockholder of the
Corporation on November __, 1999.
KNOLOGY, INC.
By:
----------------------------------
Chad S. Wachter
General Counsel and Secretary
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<PAGE> 1
Exhibit 23.1
CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS
As independent public accountants, we hereby consent to the use of our reports
and to all references to our firm included in or made part of this registration
statement.
/s/ ARTHUR ANDERSEN LLP
Atlanta, Georgia
November 30, 1999
<PAGE> 1
EXHIBIT 23.2
INDEPENDENT AUDITORS' CONSENT
We consent to the use in this Amendment No. 2 to the Registration Statement of
Knology, Inc. on Form S-1 (No. 333-89179) of our report dated December 7,
1998 on the financial statements of Cable Alabama Corp. appearing in the
Prospectus, which is part of this Registration Statement.
We also consent to the reference to us under the heading "Experts" in such
Prospectus.
DELOITTE & TOUCHE LLP
Phoenix, Arizona
December 2, 1999
<PAGE> 1
Exhibit 99.1
INTERNAL REVENUE SERVICE Department of the Treasury
Index Number: 355.03-00; 355.04-00 Washington, DC 20224
Bryan W. Adams Person to Contact:
ITC Holding Company, Inc. Cristian P. Silva, 50-12151
1239 O.G. Skinner Drive Telephone Number:
West Point, Georgia 31833 (202)622-7750
Refer Reply To
CC:DOM:CORP:1-PLR-118538-98
Date:
April 1,1999
<TABLE>
<S> <C>
Legend
Stockholder = Scana Communications
Distributing 1 = Intercall, Inc.
TIN: 58-1942497
Distributing 2 = ITC Holding Company, Inc.
TIN: 58-2341736
Controlled = Knology, Inc.
TIN: (applied for)
Distribution 1 = Distribution of Controlled by Distributing
1 to Distributing 2
Distribution 2 = Distribution of Controlled by Distributing
2 to its shareholders
Corporation A = Interstate Telephone Company, Inc.
TIN: 58-0300280
Corporation B = Valley Telephone Company, Inc.
TIN: 63-0418786
Corporation C = Globe Telecommunications, Inc.
TIN: 58-1501296
</TABLE>
<PAGE> 2
2
<TABLE>
<S> <C>
Corporation D = ITC Globe, Inc.
TIN: 58-2222619
Corporation E = Knology Holdings, Inc.
TIN: 58-2203141
Corporation F = ClearSource, Inc.
TIN: 74-2864181
Corporation G = HeadHunter.NET
TIN: 58-2403177
Corporation H = ITC Wireless
TIN: 58-2400952
Corporation I = ITC Service Company
TIN: 58-1848640
Corporation J = MindSpring Enterprises, Inc.
TIN: 58-2113290
Corporation K = PowerTel, Inc.
State S = Delaware
Date 1 = 1991
Date 2 = 1997
Date 3 = 1998
Date 4 = August 4, 1998
Date 5 = December 31, 1998
l = 82
m = 18
n = 10
</TABLE>
<PAGE> 3
3
<TABLE>
<S> <C>
o = 68
s = 21
t = 43.23
u = 40.79
v = 6.67
z = 89
Business X = Non-Broadband Based Business
Business Y = Broadband Based Business
Consultant = Morgan Stanley
P = 18,500,000
Q1 = 322,576
Q2 = 66,832
</TABLE>
Dear Mr. Adams:
We respond to your letter dated September 24, 1998, in which you
requested rulings as to the federal income tax consequences of a proposed
transaction. Additional information was submitted in letters dated December
21, 1998, and January 22, 1999, and March 2, 1999. Specifically, you requested
rulings under section 355 of the Internal revenue Code. The facts submitted are
as follows.
Distributing 1 is a State S corporation incorporated in Date 1 that
has been actively and directly engaged, through its employees, in Business X for
at least the past 5 years. Additionally, Distributing 1 is also a holding
company for other corporations which, collectively, conduct Business X and
Business Y.
Distributing 2 is a State S closely held holding corporation
incorporated on Date 2 which is the common parent of an affiliated group of
corporations that files a consolidated federal income tax return. Distributing 2
is engaged in Business X and
<PAGE> 4
4
Business Y through its stock ownership in Distributing 1, Corporation G and
Corporation H. Distributing 2's capital structure consists of common stock and
two series of preferred stock: Series A and Series B. All of the Series A and
Series B preferred stock are held by the same person, Stockholder.
Controlled is a State S corporation created on Date 3 in
anticipation of the distribution of Controlled in the proposed transaction.
Currently, Controlled is not engaged in any activities. Controlled's capital
structure consists of common stock, all of which is owned by Distributing 1.
Controlled is authorized to issue two series of preferred stock but does not
have any preferred stock outstanding.
Corporation A is a wholly owned subsidiary of Distributing 1.
Corporation A has been directly and actively engaged, through its employees, in
Business Y for at least the past 5 years.
Corporation B is a wholly owned subsidiary of Distributing 1.
Corporation B has been directly and actively engaged, through Corporation A's
employees, in Business Y for at least the past 5 years. The appropriate amount
of Corporation A's employees, compensation is provided by Corporation B based on
the percentage of time devoted to Corporation B's business.
Corporation C is a wholly owned subsidiary of Distributing 1.
Corporation C has been directly and actively engaged, through Corporation A's
employees, in Business Y for at least the past 5 years. The appropriate amount
of Corporation A's employees, compensation is provided by Corporation C based on
the percentage of time devoted to Corporation C's business.
Corporation D is a wholly owned subsidiary of Distributing 1.
Corporation D is engaged in Business Y.
Corporation E is a holding corporation that wholly owns several
subsidiaries which conduct Business Y. Currently, Distributing 1 owns l% of
Corporation E's stock. The remaining m% of Corporation E's stock is held by
unrelated public shareholders as well as some Corporation E employees.
Corporation F is engaged in Business Y. Currently, Corporation E
owns a n% interest in Corporation F and Corporation I owns a v% interest in
Corporation F.
Corporation G is engaged in Business X. Distributing 2 transferred a
o% interest in Corporation G to Distributing 1 and Distributing 1 transferred
that stock interest to Corporation I on Date 5.
<PAGE> 5
5
Corporation H is engaged in Business X. Distributing 2 transferred
all of the stock of Corporation H to Distributing 1 and Distributing 1
transferred that stock interest to Corporation I on Date 5.
Corporation I is a wholly owned subsidiary of Distributing 1.
Corporation I is engaged in Business X.
Corporation J is engaged In Business X. Currently, Corporation I
owns a s% interest in Corporation J.
Distributing 2's management has determined that, to compete in the
growing Business Y marketplace, it needs to upgrade and expand Business Y beyond
its present status. Accordingly, additional capital is needed. Such capital will
be raised by equity and debt financing. Because debt financing is the cheaper of
the two, Distributing 2 prefers to raise the needed capital through debt to the
full extent possible. However, the existing equity base limits the amount of
debt financing which may be acquired. As a result, additional equity capital
must be raised before additional capital in the form of debt can be raised.
Distributing 2 has been advised by Consultant that it would be more successful
in obtaining the additional equity capital and achieve a higher per-share value
by making a public offering of stock concentrated on a single business which
business, Consultant advises, is Business Y. Accordingly, Distributing 2
proposes to raise the equity capital by spinning-off the Business Y corporations
and for that purpose has separated the Business Y corporations from the Business
X corporations. After the spin off Controlled will make a public offer of its
stock.
In order to complete the spin-off of Business Y's corporations, the
following steps have been completed or will be completed (the Transaction):
1) On Date 4, Distributing 2 acquired t% of Corporation E' stock.
Distributing 2 then contributed such stock to its wholly owned
subsidiary, Distributing 1, in constructive exchange for additional
Distributing 1 stock.
2) Corporation I dividended u% of Corporation E's stock to its
parent, Distributing 1.
3) Distributing 1 created a new wholly-owned subsidiary, Controlled.
4) Distributing 2 will contribute the stock of Corporation H and
Corporation G to Distributing 1 in constructive exchange for
additional stock of Distributing 1. Distributing 1 will then
contribute the stock of Corporation H and Corporation G to
Corporation I in constructive exchange for additional stock of
Corporation I on Date 5.
<PAGE> 6
6
5) Corporation I will dividend its v% ownership interest in
Corporation F to Distributing 1 and Distributing 1 will transfer its
ownership holdings in Corporation A, Corporation B, Corporation C,
Corporation D, Corporation E, and Corporation F to Controlled in
exchange for stock of Controlled. Under this exchange, Controlled
will transfer P shares of common stock and two series of preferred
stock in the amount of Q1 shares of Series A and Q2 shares of Series
B.
6) Controlled will transfer its ownership holding in Corporation D
to its wholly owned subsidiary, Corporation C and its ownership
holdings in Corporation E and Corporation F, to its wholly owned
subsidiary, Corporation B, in constructive exchange for stock of
those entities.
7) Distributing 1 will distribute the stock of Controlled to its
sole shareholder, Distributing 2.
8) Distributing 2 will distribute, pro-rata, the common stock of
Controlled to the Distributing 2 common shareholders. All of the
Controlled Series A and Series B preferred stock will be distributed
to the same person, Stockholder who owned all of the Distributing 2
Series A and Series B preferred stock.
9) Controlled will make a public offering of its stock within one
year of the distributions but the purchasers of the stock will hold
no more than 25% of the Controlled stock.
It is possible that in step (5) above, some or all of Corporation
E's unrelated public shareholders and possibly some Corporate E's
employee-shareholders will join with Distributing 1 and transfer their stock in
Corporation E to Controlled in exchange for Controlled stock. Nevertheless, even
if all of the unrelated public shareholders and Corporation E
employee-shareholders participate in the exchange described in step (5),
Distributing 1 will hold no less than an z% interest in Controlled.
Corporation I may possibly provide certain legal, accounting and
management consulting services to entities in the Controlled group for a limited
period after the distributions. However, if such services are provided, it is
expected that the amounts expended by entities in the Controlled group for
services rendered by Corporation I would be approximately 1 to 3 percent of the
total operating expenses of the Controlled group. Furthermore, it is expected
that any such services would be terminated within a 6 to 18 month period
following the distributions. Corporations A and B will provide local telephone
service to continuing members of the Distributing 2 group after the
distributions of Controlled. Corporation C will continue to provide service to
the Distributing 2 group after the distributions of Controlled. Distributing 1
will provide
<PAGE> 7
7
services to member of the Controlled group after the distributions of
Controlled. Corporations J and K may provide services to members of the
Controlled group after the distributions of Controlled.
The following representations have been made in connection with the
proposed transaction:
a) No part of the consideration to be distributed by Distributing 1
and Distributing 2 will be received by a shareholder as a creditor,
employee, or in any capacity other than that of a shareholder of
Distributing 1 and Distributing 2. In connection with the
distributions, Controlled will issue stock options to purchase
Controlled shares to persons who hold ISOs and non qualified stock
options to purchase Distributing 2 shares in substitution for a
portion of the options now held by those persons. The terms of the
options will depend on the relative fair market values of Controlled
and Distributing 2 at the time of the distributions and the original
option exercise price. The remaining options in Distributing 2 will
be adjusted in exercise price to reflect the distributions.
b) The 5 years of financial information submitted on behalf of
Distributing 1 and Corporation A, Corporation B, and Corporation C
are representative of those corporations' present operations, and
with regard to such corporations, there have been no substantial
operational changes since the date of the last financial statements
submitted.
c) Immediately after the distributions, at least 90 percent of the
fair market value of the gross assets of Distributing 2 will consist
of the stock and securities of a controlled corporation that is
engaged in the active conduct of a trade or business as defined in
section 355(b)(2).
d) Immediately after the distributions, at least 90 percent of the
fair market value of the gross assets of Controlled will consist of
the stock and securities of controlled corporations that are engaged
in the active conduct of a trade or business as defined in section
355(b)(2).
e) Following Distribution 1, Distributing 1, and Controlled through
its controlled corporations will each continue the active conduct of
their respective businesses, independently and with separate
employees.
f) Following Distribution 2, Distributing 2 through Distributing 1,
and Controlled through its controlled corporations will each
continue the active conduct of their respective businesses,
independently and with separate employees.
<PAGE> 8
8
g) The distribution of the stock of the controlled corporation is
carried out for the following corporate business purpose: to
facilitate a stock offering by Controlled. The distribution of the
stock of the Controlled corporation is motivated, in whole or
substantial part, by this corporate business purpose.
h) Except for the disposition of Controlled stock pursuant to
Distribution 2, there is no plan or intention by any shareholder who
owns 5 percent or more of the stock of Distributing 1, and the
management of Distributing 1, to its best knowledge, is not aware
of any plan or intention on the part of any particular remaining
shareholder or security holder of Distributing 1, to sell, exchange,
transfer by gift, or otherwise dispose of any stock in, or
securities of, either Distributing 1 or Controlled after
Distribution 1.
i) There is no plan or intention by any shareholder who owns 5
percent or more of the stock of Distributing 2, and the management
of Distributing 2, to its best knowledge, is not aware of any plan
or intention on the part of any particular remaining shareholder or
security holder of Distributing 2, to sell, exchange, transfer by
gift, or otherwise dispose of any stock in, or securities of, either
Distributing 2 or Controlled after Distribution 2.
j) There is no plan or intention by either Distributing 1,
Distributing 2, or Controlled, directly or through any subsidiary
corporation, to purchase any of its outstanding stock after
Distribution 1 or Distribution 2, other than through stock purchases
meeting the requirements of 4.05(1)(b) of Rev. Proc. 96-30 and
other than that it is possible that Distributing 2 will utilize
excess cash to purchase small amounts of outstanding Distributing 2
stock from Distributing 2 shareholders who do not own (within the
meaning of section 318) 5% or more of the Distributing 2 stock.
k) There is no plan or intention to liquidate Distributing 1,
Distributing 2, or Controlled, to merge either corporation with any
other corporation, or to sell or otherwise dispose of the assets of
either corporation after Distribution 1 or Distribution 2, except in
the ordinary course of business.
l) No intercorporate debt will exist between Distributing 1 or
Distributing 2 and Controlled at the time of, or subsequent to,
Distribution 1 or Distribution 2.
m) Immediately before Distribution 1 and Distribution 2, items of
income, gain, loss, deduction, and credit will be taken into account
as required by the applicable inter-company regulations. Further,
any Distributing 1 and Distributing 2 excess loss account that may
exist with respect to the Controlled stock will be included in
income immediately before Distribution 1 and Distribution 2.
<PAGE> 9
9
n) Payments made in connection with all continuing transactions
between Distributing 1, or Distributing 2, and Controlled (and
entities in their respective groups) will be at fair market value
based on the terms and conditions arrived at by the parties
bargaining at arm's length.
o) No two parties to Distribution 1 and Distribution 2 are
investment companies as defined in Internal Revenue Code section
368(a)(2)(F)(iii) and (iv).
p) Distribution 1 is not part of a plan or series of related
transactions (within the meaning of Code section 355(e)) pursuant
to which one or more persons will acquire directly or indirectly
stock possessing 50 percent or more of the total combined voting
power of all classes of stock of either Distributing 1 or
Controlled, or stock possessing 50 percent or more of the total
value of all classes of stock of either Distributing 1 or
Controlled.
q) Distribution 2 is not part of a plan or series of related
transactions (within the meaning of Code section 355(e)) pursuant
to which one or more persons will acquire directly or indirectly
stock possessing 50 percent or more of the total combined voting
power of all classes of stock of either Distributing 2 or
Controlled, or stock possessing 50 percent or more of the total
value of all classes of stock of either Distributing 2 or
Controlled.
r) Immediately after the Distributions, no person will hold
"disqualified stock" in Distributing 2 or Controlled which
constitutes a 50 percent or greater interest in such corporations
within the meaning of section 355(d).
s) Distributing 2 represents that at least 5 percent of the gross
assets of Distributing 1, Corporation A, Corporation B, and
Corporation C are used in an active trade or business.
t) None of the shares of Controlled Series A preferred stock and
Controlled Series B preferred to be distributed in the Distributions
is non-qualified preferred stock because it holds none of the
attributes stated in Code section 351(g)(2)(A).
Based solely on the facts submitted and the representations made
above, it is held as follows as to Distribution 1:
1) No gain or loss will be recognized by Distributing 1 upon the
transfer of assets to Controlled, in actual and constructive
exchange for Controlled stock as described above. Section 351(a).
2) No gain or loss will be recognized by Controlled upon the receipt
of assets, in
<PAGE> 10
10
actual and constructive exchange for Controlled stock described
above. Section 1032.
3) Controlled's basis in the assets received from Distributing 1
will be the same as the basis of such assets on the hands of
Distributing 1 immediately prior to the transfer. Section 362(b).
4) Controlled's holding period for the assets received from
Distributing 1 includes the holding period Distributing 1 had in
such assets. Section 1223(2).
5) No gain or loss will be recognized by Controlled upon the
transfer of assets by Controlled to Corporations B and C, in actual
or constructive exchange for stock of Corporations B and C as
described above. Section 351(a).
6) No gain or loss will be recognized by Corporations B and C upon
the receipt of assets, in actual or constructive exchange for stock
of corporations B and C as described above. Section 1032.
7) Corporation B's and C's basis in the assets received from
Controlled will be the same as the basis of such assets in the hands
of Controlled immediately prior to the transfer. Section 362(b).
8) Corporation B's and C's holding period for the assets received
from Controlled includes the holding period Controlled had in such
assets. Section 1223(2).
9) No gain or loss will be recognized to Distributing 1 upon the
distribution of all of the Controlled stock to its shareholder.
Section 355(c).
10) No gain or loss will be recognized by (and no amount will be
included in the income of) the shareholder of Distributing 1 upon
the receipt of the stock of Controlled. Code section 355(a)(1).
11) The basis of the Controlled and Distributing 1 stock in the
hands of Distributing 1's shareholder, Distributing 2, will be the
same as the basis of Distributing 1's stock held immediately before
Distribution 1, allocated in proportion to the fair market value of
each in accordance with section 1.358-2(a) of the income tax
regulations. Code section 358(a)(1).
12) The holding period of the stock of Controlled received by the
Distributing 1 shareholder, Distributing 2, will include the holding
period of Distributing 1's stock with respect to which Distribution
1 will be made, provided that such stock is held as a capital asset
on the date of the exchange. Code section 1223(1).
<PAGE> 11
11
13) As provided in Code section 312(h), a proper allocation of
earnings and profits between Distributing 1 and Controlled will be
made. Treas. Reg. section 1.312-10(a).
Based solely on the facts submitted and the representations made
above, it is held as follows as to Distribution 2:
1) No gain or loss will be recognized to Distributing 2 upon the
distribution of all of the Controlled stock to its shareholders.
Section 355(c).
2) No gain or loss will be recognized by (and no amount will be
included in the income of) the shareholders of Distributing 2 upon
the receipt of the stock of Controlled. Code section 355(a)(1).
3) The basis of the Controlled and Distributing 2 stock in the hands
of Distributing 2's shareholders will be the same as the basis of
Distributing 2's stock held immediately before Distribution 2,
allocated in proportion to the fair market value of each in
accordance with section 1.358-2(a) of the income tax regulations.
Code section 358(a)(1).
4) The holding period of the stock of Controlled received by the
Distributing 2 shareholders will include the holding period of
Distributing 2's stock with respect to which Distribution 2 will be
made, provided that such stock is held as a capital asset on the
date of the exchange. Code section 1223(1).
5) As provided in Code section 312(h), a proper allocation of
earnings and profits between Distributing 2 and Controlled will be
made. Treas. Reg. section 1.312-10(a).
It is further held that:
1) Corporation I will realize gain upon distribution of its v%
ownership interest in Corporation F to Distributing 1 under Code
section 311(b). This gain will be taken into account when such F
Corporation stock leaves the Distributing 2 group upon the
distribution of Controlled stock by Distributing 2. Treas. Reg.
section 1.1502-1 3(f)(7), Example 1(a) and (c). The basis of such
Corporate F stock will be its FMV at the time it is distributed from
Corporation I to Distributing I. See code section 301(d) and Treas.
Reg. section 1.1502-13(f)(7), Example 1(a).
2) The distribution of the Corporation F stock to Distributing I
will not be included in Distributing I's income, see Treas. Reg.
section 1.1502-13(f)(2)(ii) and -13(f)(7), Example 1(b), but will
cause a reduction to the stock basis of Distributing I in its
Corporation I stock to the extent of the FMV that Corporation F
stock. Treas. Reg. section 1.1502-32, -13(f)(2)(ii) and -13(f)(7),
Example 1(b).
<PAGE> 12
12
3) Corporation I will realize gain upon distribution of its u%
ownership interest in Corporation E to Distributing I under Code
section 311(b). This gain will be taken into account when such E
Corporation stock leaves the Distributing 2 group upon the
distribution of Controlled stock by Distributing 2. Treas. Reg.
section 1.1502-13(f)(7), Example 1(a) and (c). The basis of such
Corporation E stock will be its FMV at the time it is distributed
form Corporation 1 to Distributing 1. See code section 301(d) and
Treas. Reg. section 1.1502-13(f)(7), Example 1(a).
4) The distribution of the Corporation E stock to Distributing I
will not be included in Distributing I's income, see Treas. Reg.
section 1.1502-13(f)(2)(ii) and -13(f)(7), Example 1(b), but will
cause a reduction to the stock basis of Distributing I in its
Corporation I stock to the extent of the FMV of that Corporation E
stock. Treas. Reg. section 1.1502-32, -13(f)(2)(ii) and -13(f)(7),
Example 1(b).
No opinion is expressed about the tax treatment of the proposed transaction
under other provisions of the Code and regulations or about the tax treatment of
any conditions existing at the time of, or effects resulting from, the proposed
transaction that are not directly covered by the above rulings.
This ruling letter is directed only to the taxpayer who requested
it. Section 6110(k)(3) of the Code provides that it may not be used or cited as
precedent.
A copy of this letter should be attached to the federal income tax
returns of the taxpayers involved for the taxable year in which the transaction
covered by this ruling letter is consummated.
Sincerely,
Assistant Chief Counsel (Corporate)
By: /s/ Alfred Bishop
-----------------------------------
Alfred Bishop, Jr.
Chief, Branch 1
