<PAGE>
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
---------------------
FORM 10-Q
---------------------
(Mark one)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1997
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
Commission File Number 1-6393
BELL ATLANTIC - PENNSYLVANIA, INC.
A Pennsylvania Corporation I.R.S. Employer Identification No. 23-0397860
1717 Arch Street, 32nd Fl., Philadelphia, Pennsylvania 19103
Telephone Number (215) 466-9900
---------------------
THE REGISTRANT, A WHOLLY OWNED SUBSIDIARY OF BELL ATLANTIC CORPORATION, MEETS
THE CONDITIONS SET FORTH IN GENERAL INSTRUCTION H(1)(a) AND (b) OF FORM 10-Q AND
IS THEREFORE FILING THIS FORM WITH REDUCED DISCLOSURE FORMAT PURSUANT TO GENERAL
INSTRUCTION H(2).
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes X No
----- -----
<PAGE>
Bell Atlantic - Pennsylvania, Inc.
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements
STATEMENTS OF INCOME AND ACCUMULATED DEFICIT
(Unaudited)
(Dollars in Millions)
<TABLE>
<CAPTION>
Three months ended Nine months ended
September 30, September 30,
--------------------- --------------------
1997 1996 1997 1996
-------- -------- -------- --------
<S> <C> <C> <C> <C>
OPERATING REVENUES (including $16.9, $18.0, $51.1
and $55.5 from affiliates) ..................................... $ 810.9 $ 884.7 $2,472.2 $2,630.2
-------- -------- -------- --------
OPERATING EXPENSES
Employee costs, including benefits and taxes.................... 168.5 185.0 494.6 553.5
Depreciation and amortization................................... 211.0 169.6 542.6 507.3
Taxes other than income......................................... 37.5 37.7 107.0 112.0
Other (including $179.0, $188.7, $522.4
and $546.5 to affiliates)................................. 315.2 282.5 820.0 815.9
-------- -------- -------- --------
732.2 674.8 1,964.2 1,988.7
-------- -------- -------- --------
OPERATING INCOME..................................................... 78.7 209.9 508.0 641.5
OTHER INCOME, NET.................................................... .4 .4 2.1 .9
INTEREST EXPENSE (including $3.6, $2.9, $10.9
and $8.6 to affiliate).......................................... 28.7 28.1 85.7 84.6
-------- -------- -------- --------
Income Before Provision for Income Taxes and
Cumulative Effect of Change in Accounting Principle............ 50.4 182.2 424.4 557.8
PROVISION FOR INCOME TAXES.......................................... 20.4 74.3 170.2 229.2
-------- -------- -------- --------
Income Before Cumulative Effect of Change
in Accounting Principle........................................ 30.0 107.9 254.2 328.6
CUMULATIVE EFFECT OF CHANGE IN
ACCOUNTING PRINCIPLE
Directory Publishing, Net of Tax............................... --- --- --- 49.6
-------- -------- -------- --------
NET INCOME.......................................................... $ 30.0 $ 107.9 $ 254.2 $ 378.2
======== ======== ======== ========
ACCUMULATED DEFICIT
At beginning of period......................................... $ (294.3) $ (224.4) $ (257.1) $ (217.5)
Add: net income............................................... 30.0 107.9 254.2 378.2
-------- -------- -------- --------
(264.3) (116.5) (2.9) 160.7
Deduct: dividends............................................. 114.9 119.1 351.0 396.0
other changes......................................... .7 .1 26.0 .4
-------- -------- -------- --------
At end of period............................................... $ (379.9) $ (235.7) $ (379.9) $ (235.7)
======== ======== ======== ========
</TABLE>
See Notes to Financial Statements.
1
<PAGE>
Bell Atlantic - Pennsylvania, Inc.
BALANCE SHEETS
(Unaudited)
(Dollars in Millions)
ASSETS
------
<TABLE>
<CAPTION>
September 30, December 31,
1997 1996
------------- ------------
<S> <C> <C>
CURRENT ASSETS
Short-term investments....................... $ 21.7 $ 73.3
Accounts receivable:
Trade and other, net of allowances for
uncollectibles of $51.3 and $65.1.. 601.0 740.8
Affiliates.............................. 23.4 10.8
Material and supplies........................ 21.2 15.8
Prepaid expenses............................. 47.3 70.4
Deferred income taxes........................ 71.9 39.6
Other........................................ 2.3 4.7
-------- --------
788.8 955.4
-------- --------
PLANT, PROPERTY AND EQUIPMENT................ 9,646.0 9,416.8
Less accumulated depreciation................ 5,623.8 5,404.4
-------- --------
4,022.2 4,012.4
-------- --------
OTHER ASSETS................................. 51.8 56.8
-------- --------
TOTAL ASSETS................................. $4,862.8 $5,024.6
======== ========
</TABLE>
See Notes to Financial Statements.
2
<PAGE>
Bell Atlantic - Pennsylvania, Inc.
BALANCE SHEETS
(Unaudited)
(Dollars in Millions, Except Per Share Amount)
LIABILITIES AND SHAREOWNER'S INVESTMENT
---------------------------------------
<TABLE>
<CAPTION>
September 30, December 31,
1997 1996
------------- ------------
<S> <C> <C>
CURRENT LIABILITIES
Debt maturing within one year:
Note payable to affiliate................. $ 252.7 $ 215.1
Other..................................... 176.2 176.2
Accounts payable and accrued liabilities:
Affiliates................................ 345.7 361.6
Other..................................... 524.7 530.3
Advance billings and customer deposits......... 74.5 71.5
-------- --------
1,373.8 1,354.7
-------- --------
LONG-TERM DEBT................................. 1,255.9 1,256.6
-------- --------
EMPLOYEE BENEFIT OBLIGATIONS................... 770.7 802.4
-------- --------
DEFERRED CREDITS AND OTHER LIABILITIES
Deferred income taxes.......................... 46.5 82.1
Unamortized investment tax credits............. 33.3 36.9
Other.......................................... 167.1 153.6
-------- --------
246.9 272.6
-------- --------
SHAREOWNER'S INVESTMENT
Common stock - $20 par value per share......... 1,594.7 1,594.7
Authorized shares: 80,210,000
Outstanding shares: 79,732,681
Contributed capital............................ .7 .7
Accumulated deficit............................ (379.9) (257.1)
-------- --------
1,215.5 1,338.3
-------- --------
TOTAL LIABILITIES AND SHAREOWNER'S INVESTMENT.. $4,862.8 $5,024.6
======== ========
</TABLE>
See Notes to Financial Statements.
3
<PAGE>
Bell Atlantic - Pennsylvania, Inc.
STATEMENTS OF CASH FLOWS
(Unaudited)
(Dollars in Millions)
<TABLE>
<CAPTION>
Nine months ended
September 30,
-----------------
1997 1996
-------- -------
<S> <C> <C>
NET CASH PROVIDED BY OPERATING ACTIVITIES....... $ 831.2 $ 776.5
------- -------
CASH FLOWS FROM INVESTING ACTIVITIES
Net change in short-term investments............ 51.6 (9.2)
Additions to plant, property and equipment...... (574.6) (385.7)
Other, net...................................... 17.2 42.8
------- -------
Net cash used in investing activities........... (505.8) (352.1)
------- -------
CASH FLOWS FROM FINANCING ACTIVITIES
Principal repayments of borrowings and capital
lease obligations.......................... (1.0) (35.9)
Net change in note payable to affiliate......... 37.6 5.6
Dividends paid.................................. (351.0) (396.0)
Net change in outstanding checks drawn
on controlled disbursement accounts........ (11.0) 1.9
------- -------
Net cash used in financing activities........... (325.4) (424.4)
------- -------
NET CHANGE IN CASH.............................. --- ---
CASH, BEGINNING OF PERIOD....................... --- ---
------- -------
CASH, END OF PERIOD............................. $ --- $ ---
======= =======
</TABLE>
See Notes to Financial Statements.
4
<PAGE>
Bell Atlantic - Pennsylvania, Inc.
NOTES TO FINANCIAL STATEMENTS
(Unaudited)
1. Basis of Presentation
Bell Atlantic - Pennsylvania, Inc. (the Company) is a wholly owned
subsidiary of Bell Atlantic Corporation (Bell Atlantic). The accompanying
unaudited condensed financial statements have been prepared based upon
Securities and Exchange Commission rules that permit reduced disclosure for
interim periods. These financial statements include certain reclassifications in
presentation and certain retroactive adjustments to conform accounting
methodologies as a result of the merger of Bell Atlantic and NYNEX Corporation
(NYNEX) (see Note 2). These financial statements reflect all adjustments which
are necessary for a fair presentation of results of operations and financial
position for the interim periods shown including normal recurring accruals and
other items (see Note 2). The results for the interim periods are not
necessarily indicative of results for the full year. For a more complete
discussion of significant accounting policies and certain other information,
refer to the financial statements filed with the Company's 1996 Form 10-K.
2. Bell Atlantic - NYNEX Merger
On August 14, 1997, Bell Atlantic and NYNEX completed a merger of equals
under a definitive merger agreement entered into on April 21, 1996 and amended
on July 2, 1996. The stockholders of each company approved the merger at special
meetings held in November 1996. Under the terms of the amended agreement, NYNEX
became a wholly owned subsidiary of Bell Atlantic. The merger has been accounted
for as a pooling of interests.
As a result of conforming the accounting methodologies of Bell Atlantic and
NYNEX, the Company has recorded an after-tax charge of $6.0 million to
accumulated deficit to recognize its liability for carryover vacation pay as if
the merger had occurred as of the beginning of the earliest period presented.
Merger-Related Costs
Results of operations for the third quarter of 1997 include merger-related
pre-tax costs totaling approximately $23 million, consisting of $4 million for
direct incremental costs and $19 million for employee severance costs. A small
portion of costs for transition and integration were also incurred by the
Company. These costs include the Company's allocated share of merger-related
costs from Bell Atlantic Network Services, Inc. (NSI), an affiliate which
provides centralized services on a contract basis.
Direct incremental costs consist of expenses associated with compensation
arrangements related to completing the merger transaction. Employee severance
costs represent the Company's proportionate share of benefit costs for the
separation by the end of 1999 of management employees who are entitled to
benefits under preexisting Bell Atlantic separation pay plans. Transition and
integration costs consist of the Company's proportionate share of costs
associated with integrating the operations of Bell Atlantic and NYNEX.
Additional Charges
In the third quarter of 1997, the Company recorded pre-tax charges of
approximately $102 million in connection with consolidating operations and
combining organizations and for special items arising in the quarter. These
charges include the Company's allocated share of charges from NSI. A discussion
of these charges follows:
The Company recognized pre-tax charges of approximately $64 million for the
write-down of obsolete fixed assets ($41 million) and for the cost of
consolidating certain redundant real estate properties ($23 million).
The Company also recognized pre-tax charges of approximately $38 million
for contingencies associated with various regulatory and legal matters.
3. Dividend
On November 3, 1997, the Company declared and paid a dividend in the amount
of $114.9 million to Bell Atlantic.
5
<PAGE>
Bell Atlantic - Pennsylvania, Inc.
4. Transfer of Directory Publishing Activities
On January 1, 1997, the Company transferred, at net book value without gain
or loss, certain assets and liabilities associated with its directory publishing
activities to a newly formed, wholly owned subsidiary. The stock of the
subsidiary was immediately distributed to Bell Atlantic. The transfer of such
assets and liabilities was completed as part of Bell Atlantic's and the
Company's response to the requirements of the Telecommunications Act of 1996,
which prohibits the Company from engaging in electronic publishing or joint
sales and marketing of electronic products.
Net assets transferred by the Company totaled approximately $24 million,
and consisted of deferred directory production costs (included in prepaid
expenses), fixed assets, and related deferred tax liabilities.
Revenues and direct expenses related to the Company's directory publishing
activities transferred were approximately $223 million and $97 million,
respectively, for the nine month period ended September 30, 1996. The Company
does not separately identify indirect expenses attributable to the directory
publishing activities, including expenses related to billing and data management
and processing services, legal, external affairs, depreciation, interest expense
and any corresponding tax expense.
5. Litigation and Other Contingencies
Various legal actions and regulatory proceedings are pending to which the
Company is a party. The Company has established reserves for liabilities in
connection with regulatory and legal matters which it currently deems to be
probable and estimable. The Company does not expect that the ultimate
resolution of these matters in future periods will have a material effect on the
Company's financial position, but it could have a material effect on results of
operations.
6
<PAGE>
Bell Atlantic - Pennsylvania, Inc.
Item 2. Management's Discussion and Analysis of Results of Operations
(Abbreviated pursuant to General Instruction H(2).)
This discussion should be read in conjunction with the Financial Statements
and Notes to Financial Statements.
RESULTS OF OPERATIONS
- ---------------------
The Company reported net income of $254.2 million for the nine month period
ended September 30, 1997, compared to net income of $378.2 million for the same
period in 1996.
Bell Atlantic - NYNEX Merger
On August 14, 1997, Bell Atlantic and NYNEX completed a merger of equals
under a definitive merger agreement entered into on April 21, 1996 and amended
on July 2, 1996. The stockholders of each company approved the merger at
special meetings held in November 1996. Under the terms of the amended
agreement, NYNEX became a wholly owned subsidiary of Bell Atlantic. The merger
has been accounted for as a pooling of interests.
As a result of conforming the accounting methodologies of Bell Atlantic and
NYNEX, the Company has recorded an after-tax charge of $6.0 million to
accumulated deficit to recognize its liability for carryover vacation pay as if
the merger had occurred as of the beginning of the earliest period presented.
Merger-Related Costs
Results of operations for the third quarter of 1997 include merger-related
pre-tax costs totaling approximately $23 million, consisting of $4 million for
direct incremental costs and $19 million for employee severance costs. A small
portion of costs for transition and integration were also incurred by the
Company. These costs include the Company's allocated share of merger-related
costs from Bell Atlantic Network Services, Inc. (NSI), an affiliate which
provides centralized services on a contract basis.
Direct incremental costs consist of expenses associated with compensation
arrangements related to completing the merger transaction. Employee severance
costs represent the Company's proportionate share of benefit costs for the
separation by the end of 1999 of management employees who are entitled to
benefits under preexisting Bell Atlantic separation pay plans. Transition and
integration costs consist of the Company's proportionate share of costs
associated with integrating the operations of Bell Atlantic and NYNEX.
Bell Atlantic expects to incur between $400 million and $500 million (pre-
tax) in additional transition and integration merger-related expenses over the
three years following the closing of the merger. It is anticipated that the
Company will recognize a portion of these costs.
Additional Charges
In the third quarter of 1997, the Company recorded pre-tax charges of
approximately $102 million in connection with consolidating operations and
combining organizations and for special items arising in the quarter. These
charges include the Company's allocated share of charges from NSI. A discussion
of these charges follows:
The Company recognized pre-tax charges of approximately $64 million for the
write-down of obsolete fixed assets ($41 million) and for the cost of
consolidating certain redundant real estate properties ($23 million).
The Company also recognized pre-tax charges of approximately $38 million
for contingencies associated with various regulatory and legal matters.
Transfer of Directory Publishing Activities
On January 1, 1997, the Company transferred, at net book value without gain
or loss, certain assets and liabilities associated with its directory publishing
activities to a newly formed, wholly owned subsidiary. The stock of the
subsidiary was immediately distributed to Bell Atlantic. The transfer of such
assets and liabilities was completed as part of Bell Atlantic's and the
Company's response to the requirements of the Telecommunications Act of 1996,
which prohibits the Company from engaging in electronic publishing or joint
sales and marketing of electronic products.
7
<PAGE>
Bell Atlantic - Pennsylvania, Inc.
Net assets transferred by the Company totaled approximately $24 million,
and consisted of deferred directory production costs (included in prepaid
expenses), fixed assets, and related deferred tax liabilities.
Revenues and direct expenses related to the Company's directory publishing
activities transferred were approximately $223 million and $97 million,
respectively, for the nine month period ended September 30, 1996. The Company
does not separately identify indirect expenses attributable to the directory
publishing activities, including expenses related to billing and data management
and processing services, legal, external affairs, depreciation, interest expense
and any corresponding tax expense.
Effective January 1, 1997, revenues from directory publishing activities
transferred are no longer earned, and the related expenses are no longer
incurred, by the Company. Certain other revenues, primarily fees for non-
publication of telephone numbers and multiple white page listings continue to be
earned by the Company. Additionally, contracts between the Company and another
affiliate of Bell Atlantic for billing and collection services related to the
directory activities, use of directory listings, and rental charges have created
new revenue sources for the Company.
Cumulative Effect of Change in Accounting - Directory Publishing
The Company changed its method of accounting for directory publishing
revenues and expenses, effective January 1, 1996. The Company adopted the point-
of-publication method, which requires directory revenues and expenses to be
recognized upon publication rather than over the lives of the directories. The
Company recorded an after-tax increase in income of $49.6 million in the first
quarter of 1996, representing the cumulative effect of this accounting change.
Results of operations for the first three quarters of 1996 were restated to
reflect the impact of this change.
- --------------------------------------------------------------------------------
These and other items affecting the comparison of the Company's results of
operations for the nine month periods ended September 30, 1997 and 1996 are
discussed in the following sections. This Management's Discussion and Analysis
should also be read in conjunction with the Company's 1996 Annual Report on Form
10-K.
<TABLE>
<CAPTION>
OPERATING REVENUE STATISTICS
- ----------------------------
1997 1996 % Change
- --------------------------------------------------------------------------------
<S> <C> <C> <C>
At September 30
- ---------------
Access Lines in Service (in thousands)
Residence............................ 3,995 3,887 2.8%
Business............................. 2,113 2,026 4.3
Public............................... 75 75 ---
------ ------
6,183 5,988 3.3
====== ======
Nine Month Period Ended September 30
- ------------------------------------
Access Minutes of Use (in millions)..... 16,970 16,451 3.2
====== ======
Toll Messages (in millions)............. 653 656 (.5)
====== ======
</TABLE>
8
<PAGE>
Bell Atlantic - Pennsylvania, Inc.
<TABLE>
<CAPTION>
OPERATING REVENUES
- ------------------
(Dollars in Millions)
Nine Month Period Ended September 30 1997 1996 % Change
- --------------------------------------------------------------------------------
<S> <C> <C> <C>
Local service......................... $1,244.1 $1,180.0 5.4%
Network access........................ 716.8 713.9 .4
Long distance services................ 306.2 321.0 (4.6)
Ancillary services.................... 182.5 172.8 5.6
Directory and information services.... 22.6 242.5 (90.7)
-------- --------
Total................................. $2,472.2 $2,630.2 (6.0)
======== ========
</TABLE>
LOCAL SERVICE REVENUES
1997-1996 Increase
- --------------------------------------------------------------------------------
Nine Months $64.1 5.4%
- --------------------------------------------------------------------------------
Local service revenues are earned by the Company from the provision of
local exchange, local private line, public telephone (pay phone) and value-added
services. Value-added services are a family of services which expand the
utilization of the network. These services include products such as Caller ID,
Call Waiting and Return Call.
Higher usage of the Company's network facilities was the primary reason for
the increase in local service revenues in the nine months ended September 30,
1997. This growth was generated by an increase in access lines in service of
3.3% from September 30, 1996. This access line growth primarily reflects higher
demand for Centrex services and an increase in additional residential lines.
Higher revenues from private line and switched data services also contributed to
the revenue growth in 1997.
Revenue growth in 1997 was boosted by increased revenues from value-added
services. This increase was principally the result of higher customer demand
and usage, fueled in part by the introduction of new and enhanced optional
features.
For a discussion of the Telecommunications Act of 1996, which will open the
local exchange market to competition, see "Factors That May Impact Future
Results" beginning on page 13.
NETWORK ACCESS REVENUES
1997-1996 Increase
- --------------------------------------------------------------------------------
Nine Months $2.9 .4%
- --------------------------------------------------------------------------------
Network access revenues are earned from long distance carriers for their
use of the Company's local exchange facilities in providing long distance
services to their customers, and from end-user subscribers. Switched access
revenues are derived from usage-based charges paid by long distance carriers for
access to the Company's network. Special access revenues arise from access
charges paid by long distance carriers and end-users who have private networks.
End-user access revenues are earned from the Company's customers who pay for
access to the network.
Network access revenues increased in the first nine months of 1997
principally due to higher customer demand as reflected by growth in access
minutes of use of 3.2% in the nine month period of 1997 over the same period
last year. Volume growth was boosted by the expansion of the business market,
particularly for high capacity services. Higher end-user revenues attributable
to an increase in access lines in service also contributed to revenue growth in
1997.
Volume growth was partially offset by the effect of price reductions as
mandated by federal and state regulatory commissions. Effective July 1, 1997,
the Company implemented price decreases of approximately $58.3 million on an
annual basis for interstate access services, in connection with the Federal
Communications Commission's (FCC) price cap plan. Rates for intrastate switched
access services were reduced in January 1997 pursuant to the Company's price cap
and rate rebalancing plans. Revenues also were reduced by special charges for
contingencies associated with regulatory matters, as previously discussed.
9
<PAGE>
Bell Atlantic - Pennsylvania, Inc.
It is expected that the impact of price decreases, in connection with the
FCC's price cap plan effective July 1, 1997, will be more than offset by volume
increases and the effect of prior year accruals. For a further discussion of
FCC rulemakings concerning price caps, access charges and universal service, see
"Factors That May Impact Future Results - Recent Developments - FCC Orders"
beginning on page 14.
LONG DISTANCE SERVICES REVENUES
1997-1996 (Decrease)
- --------------------------------------------------------------------------------
Nine Months $(14.8) (4.6)%
- --------------------------------------------------------------------------------
Long distance services revenues are earned primarily from calls made
outside a customer's local calling area, but within the same service area of the
Company (intraLATA toll). Other long distance services include 800 services,
Wide Area Telephone Service (WATS) and corridor services (between LATAs in
southern New Jersey and Philadelphia).
Increased competition for intraLATA toll, WATS and private line services
and company-initiated price reductions contributed substantially to the
reduction in long distance services revenues in 1997. The effect on revenues and
message volumes from competition for long distance services increased in the
third quarter of 1997 as a result of the introduction of presubscription. Toll
message volumes declined .5% in the first nine months of 1997 as compared to the
same period in 1996. The Company implemented the price reductions, which
included expanded long distance calling plans, as part of its response to
competition.
The Company believes that competition for long distance services, including
the introduction of presubscription in the third quarter of 1997, will continue
to impact future revenue trends. See "Factors That May Impact Future Results -
Competition - IntraLATA Toll Services" on page 16 for a further discussion of
presubscription.
ANCILLARY SERVICES REVENUES
1997-1996 Increase
- --------------------------------------------------------------------------------
Nine Months $9.7 5.6%
- --------------------------------------------------------------------------------
The Company provides ancillary services which include billing and
collection services for long distance carriers and affiliates, customer premises
equipment (CPE) services, facilities rental services for affiliates and non-
affiliates, voice messaging, sales of materials and supplies to affiliates, ISDN
and other high bandwidth services.
Higher ancillary services revenues in 1997 resulted from growth in billing
and collection services performed for affiliates, higher pole attachment rentals
and nonperformance fees received from a vendor. Revenue growth from voice
messaging services, principally Answer Call, and the introduction of residential
customer late payment charges in the second quarter of 1997 also contributed to
the increase in ancillary services revenues. This growth was partially offset by
a reduction in facilities rental services revenues from affiliates.
DIRECTORY AND INFORMATION SERVICES REVENUES
1997-1996 (Decrease)
- --------------------------------------------------------------------------------
Nine Months $(219.9) (90.7)%
- --------------------------------------------------------------------------------
As described earlier, the Company transferred certain assets and
liabilities associated with its directory publishing activities to a newly
formed, wholly owned subsidiary, effective January 1, 1997. As a result,
revenues associated with directory publishing activities transferred are no
longer earned by the Company. The Company's directory and information services
revenues in 1997 are earned primarily from fees for non-publication of telephone
numbers, multiple white page listings and usage of directory listings.
The decrease in directory and information services revenues in 1997 was
principally due to the effect of the transfer of directory publishing
activities.
10
<PAGE>
Bell Atlantic - Pennsylvania, Inc.
<TABLE>
<CAPTION>
OPERATING EXPENSES
- ------------------
(Dollars in Millions)
Nine Month Period Ended September 30 1997 1996 % Change
- --------------------------------------------------------------------------------
<S> <C> <C> <C>
Employee costs, including benefits and taxes.. $ 494.6 $ 553.5 (10.6)%
Depreciation and amortization................. 542.6 507.3 7.0
Taxes other than income....................... 107.0 112.0 (4.5)
Other operating expenses...................... 820.0 815.9 .5
-------- --------
Total......................................... $1,964.2 $1,988.7 (1.2)
======== ========
</TABLE>
EMPLOYEE COSTS
1997-1996 (Decrease)
- --------------------------------------------------------------------------------
Nine Months $(58.9) (10.6)%
- --------------------------------------------------------------------------------
Employee costs consist of salaries, wages and other employee compensation,
employee benefits and payroll taxes paid directly by the Company. Similar costs
incurred by employees of Bell Atlantic Network Services, Inc. (NSI), who provide
centralized services on a contract basis, are allocated to the Company and are
included in other operating expenses.
The decrease in employee costs was primarily due to a reduction in benefit
costs caused by a number of factors, including an increase in the discount rate
used to develop pension and postretirement benefit costs, favorable pension plan
asset returns and lower than expected medical claims. Lower overtime pay and a
decline in the level of employee costs incurred for repair and maintenance
activity also contributed to the expense reduction in 1997. This decline was
partially due to the impact of the severe weather experienced in the first
quarter of 1996 which caused a higher level of costs to be expensed during that
period.
These cost reductions were partially offset by annual salary and wage
increases, the effect of increased work force levels principally as a result of
higher business volumes, and merger-related costs recorded in the third quarter
of 1997. As described earlier, the Company recognized $7.6 million in benefit
costs for the separation by the end of 1999 of management employees who are
entitled to benefits under preexisting Bell Atlantic separation pay plans. The
Company also recorded $.3 million for direct incremental merger-related costs
associated with compensation arrangements. Merger-related costs associated with
employees of NSI were allocated to the Company and are included in other
operating expenses.
DEPRECIATION AND AMORTIZATION
1997-1996 Increase
- --------------------------------------------------------------------------------
Nine Months $35.3 7.0%
- --------------------------------------------------------------------------------
Depreciation and amortization increased in the first nine months of 1997 as
a result of the recording of approximately $41 million for the write-down of
obsolete fixed assets in the third quarter of 1997, as previously mentioned.
Charges associated with the write-down of obsolete fixed assets of NSI were
allocated to the Company and are included in other operating expenses. Higher
depreciation expense was also caused by growth in depreciable telephone plant.
These expense increases were partially offset by the effect of lower rates of
depreciation and amortization.
11
<PAGE>
Bell Atlantic - Pennsylvania, Inc.
TAXES OTHER THAN INCOME
1997-1996 (Decrease)
- --------------------------------------------------------------------------------
Nine Months $(5.0) (4.5)%
- --------------------------------------------------------------------------------
Taxes other than income consist of taxes for gross receipts, property,
capital stock and other nonincome-based items.
The decrease in taxes other than income was primarily due to a reduction in
expense resulting from the exclusion of certain property from the tax base that
is no longer subject to the Pennsylvania Utility Realty Tax.
OTHER OPERATING EXPENSES
1997-1996 Increase
- --------------------------------------------------------------------------------
Nine Months $4.1 .5%
- --------------------------------------------------------------------------------
Other operating expenses consist of contract services including centralized
services expenses allocated from NSI, rent, network software costs, the
provision for uncollectible accounts receivable, and other costs.
As a result of the transfer of directory publishing activities, certain
direct and allocated expenses related to the activities transferred are no
longer incurred by the Company.
The increase in other operating expenses was largely attributable to
merger-related costs and other special items recorded in the third quarter of
1997. These charges were comprised of costs to consolidate certain redundant
real estate properties, charges for regulatory and legal contingencies, the
Company's allocated share of employee severance costs, direct incremental and
transition merger-related costs and charges associated with the write-down of
obsolete fixed assets incurred by NSI, and other miscellaneous expense items.
Other items affecting the nine month period, but to a lesser extent, were higher
interconnection charges for terminating calls on the networks of competitive
local exchange and wireless carriers and higher costs for contract services,
materials and rent.
These increases were substantially offset by the effect of the transfer of
directory publishing activities.
OTHER INCOME, NET
1997-1996 Increase
- --------------------------------------------------------------------------------
Nine Months $1.2 133.3%
- --------------------------------------------------------------------------------
The change in other income, net, was attributable to additional interest
income primarily resulting from the purchase of short-term investments in
December 1996 to prefund a trust for the payment of certain employee benefits.
INTEREST EXPENSE
1997-1996 Increase
- --------------------------------------------------------------------------------
Nine Months $1.1 1.3%
- --------------------------------------------------------------------------------
Interest expense increased principally due to higher levels of average
short-term debt in the first nine months of 1997. This increase was
substantially offset by higher capitalized interest costs resulting from higher
levels of telephone plant under construction.
12
<PAGE>
Bell Atlantic - Pennsylvania, Inc.
EFFECTIVE INCOME TAX RATES
Nine Months Ended September 30
- --------------------------------------------------------------------------------
1997 40.1%
- --------------------------------------------------------------------------------
1996 41.1%
- --------------------------------------------------------------------------------
The effective income tax rate is the provision for income taxes as a
percentage of income before provision for income taxes and cumulative effect of
change in accounting principle. The Company's effective income tax rate was
lower in the first nine months of 1997 principally due to prior period
adjustments recorded in 1997.
FINANCIAL CONDITION
- -------------------
The Company uses the net cash generated from operations and from external
financing to fund capital expenditures for network expansion and modernization,
and pay dividends. While current liabilities exceeded current assets at
September 30, 1997, September 30, 1996 and December 31, 1996, the Company's
sources of funds, primarily from operations and, to the extent necessary, from
readily available financing arrangements with an affiliate, are sufficient to
meet ongoing operating requirements. Management expects that presently
foreseeable capital requirements will continue to be financed primarily through
internally generated funds. Additional long-term debt may be needed to fund
development activities or to maintain the Company's capital structure to ensure
financial flexibility.
The Company limits the use of interest rate hedge agreements to managing
risk that could jeopardize its financing and operating flexibility, making cash
flows more stable over the long run, and achieving savings over other means of
financing. The interest rate hedge agreements are tied to specific liabilities
and hedge the related economic exposures. The use of these hedging agreements
has not had a material impact on the Company's financial condition or results of
operations. The Company does not hold derivatives for trading purposes.
The notional amounts of the Company's interest rate hedge agreements are
used to calculate contractual payments to be exchanged and are not a measure of
its credit risk or future cash requirements. Credit risk related to these
agreements is limited to nonperformance by counterparties to the contracts. The
Company manages that credit risk by limiting its exposure to any one financial
institution and by monitoring its counterparties' credit ratings. The Company
believes the risk of loss due to nonperformance by counterparties is remote and
that any losses would not be material to its financial condition or results of
operations.
As of September 30, 1997, the Company had $247.3 million of an unused line
of credit with an affiliate, Bell Atlantic Network Funding Corporation. In
addition, the Company had $300.0 million remaining under a shelf registration
statement filed with the Securities and Exchange Commission for the issuance of
unsecured debt securities.
The Company's debt ratio was 58.1% as of September 30, 1997, compared to
54.6% as of September 30, 1996 and 55.2% as of December 31, 1996.
On November 3, 1997, the Company declared and paid a dividend in the amount
of $114.9 million to Bell Atlantic.
FACTORS THAT MAY IMPACT FUTURE RESULTS
- --------------------------------------
Bell Atlantic - NYNEX Merger
The merger of Bell Atlantic and NYNEX was completed on August 14, 1997.
Bell Atlantic expects to recognize recurring expense savings following
completion of the merger as a result of consolidating operating systems and
other administrative functions and reducing management positions. It is
anticipated that the Company will recognize a portion of these savings.
13
<PAGE>
Bell Atlantic - Pennsylvania, Inc.
Telecommunications Industry Changes
The telecommunications industry is undergoing substantial changes as a
result of the Telecommunications Act of 1996 (the Act), other public policy
changes and technological advances. These changes are likely to bring increased
competitive pressures in the Company's current business, but will also open new
markets to Bell Atlantic.
The Act became law on February 8, 1996 and replaced the Modification of
Final Judgment (MFJ). In general, the Act includes provisions that open local
exchange markets to competition and permit Bell Atlantic to provide interLATA
(long distance) services and to engage in manufacturing, previously prohibited
by the MFJ. However, the ability of Bell Atlantic to provide in-region long
distance service is largely dependent on satisfying certain conditions contained
in the Act. The requirements include a 14-point "competitive checklist" of steps
the Company must take which will help competitors offer local service, through
resale, the purchase of unbundled network elements, or through their own
networks. Bell Atlantic must also demonstrate to the FCC that its entry into the
in-region long distance market would be in the public interest.
Bell Atlantic expects to petition the FCC for permission to enter the in-
region long distance market in New York by early 1998 and one or more other
states during the first half of 1998, and anticipates entering the long distance
market in at least one jurisdiction during the second half of 1998. The timing
of Bell Atlantic's long distance entry in each of its 14 jurisdictions depends
on the receipt of FCC approval. There can be no assurance that any approval will
be forthcoming in time to permit Bell Atlantic to enter the in-region long
distance market on this schedule.
A U.S. Court of Appeals recently found that the FCC unlawfully attempted to
preempt state authority in implementing key provisions of the Act. It also found
that several particularly objectionable provisions of the FCC's rules were
inconsistent with the statutory requirements. In particular, it affirmed that
states have exclusive jurisdiction over the pricing of interconnection elements
and that the FCC could not lawfully allow competitors to "pick and choose"
isolated terms out of negotiated interconnection agreements. This decision
should not delay the advent of local competition, since, under the previous stay
of the FCC's rules, a number of interconnection agreements have been concluded
and the Pennsylvania Public Utility Commission (PUC) has adopted pricing and
other standards for local interconnection.
Pursuant to the Act, in December 1996, the Company filed its "Statement of
Generally Available Terms and Conditions for Interconnection, Unbundled Network
Elements, Ancillary Services and Resale of Telecommunications Services" with the
PUC. In March 1997, the PUC permitted this filing to become effective. On July
10, 1997, the PUC voted to adopt permanent rates for all unbundled network
elements required by the Act and resolved many additional technical and
operational issues.
The Company is unable to predict definitively the impact that the Act will
ultimately have on its business, results of operations or financial condition.
The financial impact will depend on several factors, including the timing,
extent and success of competition in the Company's markets, and the timing,
extent and success of Bell Atlantic's pursuit of new opportunities resulting
from the Act.
The Company anticipates that these industry changes, together with the
rapid growth, enormous size and global scope of these markets, will attract new
entrants and encourage existing competitors to broaden their offerings. Current
and potential competitors in telecommunication services include long distance
companies, other local telephone companies, cable companies, wireless service
providers, and other companies that offer network services. Some of these
companies have a strong market presence, brand recognition and existing customer
relationships, all of which contribute to intensifying competition and may
affect the Company's future revenue growth. See the "Competition" section below
for additional information.
Recent Developments - FCC Orders
On May 7, 1997, the FCC adopted orders to reform the interstate access
charge system, to modify its price cap system and to implement the "universal
service" requirements of the Act. While there are additional decisions pending
on Universal Service and Access Reform, based on the decisions to date the
Company does not believe that these proceedings will result in a material
adverse impact on its results of operations or financial condition.
14
<PAGE>
Bell Atlantic - Pennsylvania, Inc.
Access Charges
Interstate access charges are the rates long distance carriers pay for use
and availability of the Company's facilities for the origination and termination
of interstate interLATA service. On May 7, 1997, the FCC adopted changes to the
tariff structures it has prescribed for such charges in order to permit the
Company to recover a greater portion of its costs through rates which reflect
the manner in which those costs are incurred. Beginning in January 1998, the FCC
will require a phased restructuring of access charges, so that interstate costs
of the Company which do not vary based on usage will be recovered from long
distance carriers through flat rate charges, and those interstate costs that do
vary based on usage be recovered from long distance carriers through usage-based
rates. In addition, the FCC will require establishment of separate usage-based
charges for originating and for terminating interstate interLATA traffic.
A portion of the Company's interstate costs are also recovered through flat
monthly charges to subscribers (subscriber line charges). Under the FCC's
order, subscriber line charges for primary residential and single line
businesses will remain unchanged initially, but such charges for additional
residential lines and multi-line businesses will rise.
Price Caps
The FCC also adopted modifications to its price cap rules that affect
access rate levels. Under the FCC's price cap rules, the Company's price cap
index is adjusted annually by an inflation index (GDP-PI) less a fixed
percentage intended to reflect increases in productivity (Productivity Factor).
In the prior year, the Company's Productivity Factor was 5.3%. Effective July 1,
1997, the FCC created a single Productivity Factor of 6.5% for all price cap
companies, and eliminated requirements to share a portion of future interstate
earnings. The FCC required that rates be set as if the higher Productivity
Factor had been in effect since July 1996. Any local exchange company that earns
a rate of return on its interstate services of less than 10.25% in any calendar
year will be permitted to increase its interstate rates in the following year.
The FCC also ordered elimination of recovery for amortized costs associated with
the Company's implementation of equal access to all long distance carriers.
On June 30, 1997, Bell Atlantic made its Annual Access Tariff Filing of
Interstate Rates, which became effective on July 1, 1997. The rates included in
the filing resulted in annual price decreases for the Company totaling
approximately $58.3 million, of which $13.7 million is a result of one-time
adjustments which will only be in effect until July 1998.
The FCC is expected to adopt an order in 1998 to address the conditions
under which the FCC would relax or remove existing access rate structure
requirements and price cap restrictions as increased local market competition
develops. The Company is unable to predict the results of this further
proceeding.
Universal Service
The FCC also adopted rules designed to preserve "universal service" by
ensuring that a basket of designated services is widely available and affordable
to all customers, including low-income customers and customers in areas that are
expensive to serve. The FCC's universal service support will approximate $1.5
billion for high cost areas pending completion of further FCC proceedings. The
FCC, in conjunction with the Federal-State Joint Board on Universal Service,
will determine the methodology for determining high cost areas for non-rural
carriers, and the proper amount of federal universal service support for high
cost areas. A new federal high cost universal service support mechanism will
become effective January 1, 1999.
The FCC also adopted rules to implement the Act's requirements to provide
discounted telecommunications services to schools and libraries, beginning
January 1, 1998, and to ensure that not-for-profit rural health care providers
have access to such services at rates comparable to those charged their urban
counterparts.
All telecommunications carriers will be required to contribute funding for
these universal service programs. The federal universal service funding needs
as of January 1, 1998 will require the Company to contribute approximately 2% of
its interstate retail revenues for high cost and low income subsidies. The
Company will also be contributing a portion of its total retail revenues for
schools, libraries and not-for-profit health care. The Company will recover its
contributions through interstate charges to long distance carriers and end
users.
15
<PAGE>
Bell Atlantic - Pennsylvania, Inc.
Competition
IntraLATA Toll Services
IntraLATA toll services are calls that originate and terminate within the
same LATA, but cover a greater distance than a local call. These services are
generally regulated by the PUC rather than federal authorities. The PUC permits
other carriers to offer intrastate intraLATA toll services in the Company's
jurisdiction.
On July 31, 1997, the Company implemented presubscription as required by
the PUC. Presubscription enables customers to make intraLATA toll calls using a
competing carrier without having to dial an access code. Prior to the
implementation of presubscription, these toll calls were completed by the
Company unless the customer dialed a code to access another carrier.
Implementation of presubscription for intraLATA toll services could have a
material negative effect on intraLATA toll services revenues, especially since
Bell Atlantic is not permitted to offer long distance services at this time.
The adverse impact on intraLATA toll services revenues is expected to be
partially offset by an increase in intraLATA access revenues.
Local Exchange Services
Local exchange services have historically been subject to regulation by the
PUC. Since 1995, applications from competitors to provide and resell local
exchange services have been approved by the PUC. The Act is expected to
significantly increase the level of competition in the Company's local exchange
market.
Other State Regulatory Matters
The communications services of the Company are subject to regulation by the
PUC with respect to intrastate rates and services and certain other matters.
Effective January 1, 1997, the Company reduced rates by $12.9 million,
pursuant to its third annual price adjustment filing under the Company's
Alternative Regulation Plan (ARP). The rate reductions include residence local
unlimited calling ($3.9 million), business touch-tone trunks and transmitting
service ($2.7 million), and Carrier Common Line access rate ($6.3 million).
At the beginning of 1997, the PUC concluded that there was a need to
establish a state universal service fund in Pennsylvania. The Company expects
to be a net contributor to the fund. The Company and other parties filed
petitions of reconsideration in connection with this decision, which were
granted pending further review by the PUC. Proceedings are currently underway
to determine the ultimate source of net contributions to the fund, and the
proper costing methodology.
In November 1997, the Company filed a settlement proposal with the PUC
concerning issues related to state universal service, access charge reform, the
fourth annual price change opportunity filing and presubscription. The Company
expects the PUC to take action regarding the proposal in December 1997. The
Company does not expect that the outcome of the proceeding will be material to
its results of operations and financial condition.
In 1996, the PUC approved, with certain modifications, the Company's plan
to rebalance and restructure rates on a revenue neutral basis. This plan
provides for increases to specific revenue categories with offsetting decreases
in other categories. The Company implemented new rates in January, May and June
1997.
OTHER MATTERS
- -------------
Cautionary Statement Concerning Forward-Looking Statements
Information contained above with respect to expected financial results and
future events and trends in this Management's Discussion and Analysis is
forward-looking, based on the Company's estimates and assumptions and subject to
risks and uncertainties. For those statements, the Company claims the
protection of the safe harbor for forward-looking statements contained in the
Private Securities Litigation Reform Act of 1995.
16
<PAGE>
Bell Atlantic - Pennsylvania, Inc.
The following important factors could affect the future results of the
Company and could cause those results to differ materially from those expressed
in the forward-looking statements: (i) materially adverse changes in economic
conditions in the markets served by the Company; (ii) the final outcome of FCC
rulemakings with respect to interconnection agreements, access charge reform and
universal service; (iii) future state regulatory actions and economic conditions
in the Company's operating area; and (iv) the extent, timing and success of
competition from others in the local telephone and intraLATA toll service
markets.
17
<PAGE>
Bell Atlantic - Pennsylvania, Inc.
PART II - OTHER INFORMATION
Item 1. Legal Proceedings
For background concerning the Company's contingent liabilities under
the Plan of Reorganization governing the divestiture by AT&T Corp.
(formerly American Telephone and Telegraph Company) of certain assets
of the former Bell System Operating Companies with respect to private
actions relating to pre-divestiture events, see Item 3 of the
Company's Annual Report on Form 10-K for the year ended December 31,
1996.
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits:
Exhibit Number
27 Financial Data Schedule.
(b) Report on Form 8-K filed during the quarter ended September 30,
1997:
A Current Report on Form 8-K, dated August 14, 1997, was filed
regarding the consummation of the merger of a wholly owned
subsidiary of Bell Atlantic Corporation with and into NYNEX
Corporation.
18
<PAGE>
Bell Atlantic - Pennsylvania, Inc.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
BELL ATLANTIC - PENNSYLVANIA, INC.
Date: November 13, 1997 By /s/ Edwin F. Hall
-------------------------------
Edwin F. Hall
Chief Financial Officer
and Controller
UNLESS OTHERWISE INDICATED, ALL INFORMATION IS AS OF NOVEMBER 10, 1997.
19
<TABLE> <S> <C>
<PAGE>
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THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
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SHEET AS OF SEPTEMBER 30, 1997 AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO
SUCH FINANCIAL STATEMENTS.
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