<PAGE>
FORM 10-K/A
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
(X) ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934 (FEE REQUIRED)
For the fiscal year ended December 31, 1997
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 (NO FEE REQUIRED)
Commission File No. 0-11053
Commonwealth Telephone Enterprises, Inc.
(Exact name of registrant as specified in its charter)
Pennsylvania 23-2093008
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
100 CTE Drive, Dallas, Pennsylvania 18612-9774
(Address of principal executive offices) (Zip Code)
Registrant's telephone number including area code: 717-674-2700
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, par value $1.00 per share
Class B Common Stock, par value $1.00 per share
(Title of Class)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
X Yes No
--- ---
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. (X)
Number of shares of the Registrant's Stock ($1.00 par value) outstanding at
February 28, 1998
15,680,368 Common Stock
2,653,791 Class B Common Stock
Aggregate market value of Registrant's voting stock held by non-affiliates at
February 28, 1998 computed by reference to closing price as reported by NASDAQ
for Common Stock ($28.00 per share) and to the bid price as reported for Class B
Common Stock ($27.25 per share), is as follows:
$228,009,376 Common Stock
$ 35,715,076 Class B Common Stock
Documents Incorporated by Reference
1. Proxy Statement for 1998 Annual Meeting of Shareholders is incorporated by
reference into Part I and Part III of this Form 10-K or any Amendment to
this Form 10-K.
1
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SIGNATURES
Pursuant to the requirements of Section 13 or 15 (d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
Commonwealth Telephone Enterprises,
Inc.
Date: September 21, 1998 By /s/ David C. McCourt
---------------------
David C. McCourt
Chairman and Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated.
Signature Title Date
- --------- ----- ----
PRINCIPAL EXECUTIVE AND ACCOUNTING OFFICERS:
/s/ DAVID C. MCCOURT Chairman and Chief Executive September 21, 1998
- -------------------- Officer
David C. McCourt
/s/ MICHAEL I. GOTTDENKER President and Chief Operating September 21, 1998
- ------------------------- Officer
Michael I. Gottdenker
/s/ BRUCE C. GODFREY Executive Vice President and September 21, 1998
- -------------------- Chief Financial Officer
Bruce C. Godfrey
/s/ RALPH S. HROMISIN Vice President and Chief September 21, 1998
- --------------------- Accounting Officer
Ralph S. Hromisin
18
<PAGE>
COMMONWEALTH TELEPHONE ENTERPRISES, INC
SELECTED FINANCIAL DATA
Thousands of Dollars Except Per Share Amounts
For the Years Ended December 31,
<TABLE>
<CAPTION>
1997 1996 1995 1994 1993
-------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C>
Sales $196,596 $186,506 $174,191 $160,272 $161,046
Income from continuing operations 22,184 25,869 31,206 10,644 16,990
Income per average common share
from continuing operations 0.98 1.20 1.71 0.93 1.54
Dividends per share - - - - -
Total assets 373,667 627,653 639,132 572,277 360,760
Long-term debt, net of current maturities 167,347 101,356 110,366 119,376 228,049
Redeemable preferred stock 42,517 40,867 39,493 257 276
</TABLE>
COMMONWEALTH TELEPHONE ENTERPRISES, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION
(Dollars in Thousands, Except Per Share Data)
The Private Securities Litigation Reform Act of 1995 provides a "safe harbor"
for forward-looking statements. Certain information included in this Annual
Report is forward-looking, such as information relating to the effects of future
regulation and competition and statements made as to plans to construct and
develop additional markets. Such forward-looking information involves important
risks and uncertainties that could significantly affect expected results in the
future differently than expressed in any forward-looking statements made by, or
on behalf of, the Company. These risks and uncertainties include, but are not
limited to, uncertainties relating to the Company's ability to penetrate new
markets and the related cost of that effort, economic conditions, acquisitions
and divestitures, government and regulatory policies, the pricing and
availability of equipment, materials and inventories, technological developments
and changes in the competitive environment in which the Company operates.
The following discussion and analysis should be read in conjunction with the
Consolidated Financial Statements and Notes thereto:
On September 30, 1997, the Company distributed 100 percent of the outstanding
shares of common stock of its wholly-owned subsidiaries, RCN Corporation ("RCN")
and Cable Michigan, Inc. ("Cable Michigan") to holders of record of the
Company's Common Stock and the Company's Class B Common Stock as of the close of
business on September 19, 1997 (the"Distribution") in accordance with the terms
of a Distribution Agreement dated September 5, 1997 among the Company, RCN and
Cable Michigan. RCN consists primarily of the Company's bundled residential
voice, video and Internet access operations in the Boston to Washington, D.C.
corridor, its existing New York, New Jersey and Pennsylvania cable television
operations, a portion of its long-distance operations and its international
investment in Megacable, S.A. de C.V. Cable Michigan, Inc. consists of the
Company's Michigan cable operations, including its 62% ownership in Mercom, Inc.
In accordance with Accounting Principles Board Opinion No. 30 - "Reporting the
Results of Operations - Reporting the Effects of Disposal of a Segment of a
Business, and Extraordinary, Unusual and Infrequently Occurring Events and
Transactions" ("APB 30"), the Company has restated its results of operations,
including prior periods, to reflect RCN and Cable Michigan as discontinued
operations.
1
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As part of the Company's restructuring, the Company changed its name to
Commonwealth Telephone Enterprises, Inc. (from C-TEC Corporation) and effected a
two-for-three reverse stock split. All share and per share data, stock option
data and market prices of the Company's Common Stock have been restated to
reflect this reverse stock split. Commonwealth Telephone Enterprises, Inc.
consists of Commonwealth Telephone Company ("CT"), the nation's thirteenth
largest independent local exchange carrier, Commonwealth Telecom Services, Inc.
("CTSI"), a competitive local exchange carrier, and other operations which
include Commonwealth Communications ("CC"), an engineering services business,
epix(TM), an Internet services business ("epix") and Commonwealth Long Distance
("CLD"), a reseller of long distance services.
Overview - 1997 vs 1996
For the year ended December 31, 1997, the Company's operating income before
depreciation, amortization and management fees ("EBITDA") was $80,960 as
compared to $83,848 in 1996. Higher costs associated with the development of
CTSI were offset by higher EBITDA of CT of $6,223. Sales increased 5.4% and
were $196,596 and $186,506 for the years ended December 31, 1997 and 1996,
respectively. Higher sales of CT of $8,963, CTSI of $5,240 and epix of
approximately $2,500, were partially offset primarily by lower sales of CC.
Income from continuing operations before extraordinary charge was $22,184 and
$25,869 for the years ended December 31, 1997 and 1996, respectively. The
decrease of $3,685 primarily reflects the lower EBITDA of $2,888 discussed
above, higher depreciation and amortization of $3,826 and, lower other income of
$1,245 partially offset by a lower provision for income taxes of $4,500. Net
loss to common shareholders was ($18,214), or ($.97) per diluted average common
share, for the year ended December 31, 1997 as compared to net income to common
shareholders of $6,411, or $.35 per diluted average common share, for the year
ended December 31, 1996. Net loss to common shareholders includes discontinued
operations of ($36,149) in 1997. Net income to common shareholders includes
discontinued operations of ($13,556) and an extraordinary charge of ($1,928) in
1996.
Overview - 1996 vs 1995
For the year ended December 31, 1996, the Company's operating income before
depreciation, amortization and management fees was $83,848 as compared to
$78,408 in 1995. Higher EBITDA of CT of $4,943 was primarily offset by costs
associated with the development of CTSI. Sales increased 7.1% and were $186,506
and $174,191 for the years ended December 31, 1996 and 1995, respectively.
Higher sales of CT of $7,733, epix of approximately $2,399 and CLD of
approximately $2,400 primarily account for the increase. Income from continuing
operations before extraordinary charge was $25,869 and $31,206 for the years
ended December 31, 1996 and 1995, respectively. The decrease of $5,337
primarily reflects the higher EBITDA of $3,701 discussed above, offset by a
higher provision for income taxes of $6,418. Additionally, the Company realized
a gain of $3,038 on the sale of its interest in an alternative access telephone
provider in 1995 which did not recur in 1996. Net income to common shareholders
was $6,411, or $.35 per diluted average common share, for the year ended
December 31, 1996 as compared to $23,279, or $1.23 per diluted average common
share, for the year ended December 31, 1995. Net income to common shareholders
includes discontinued operations of ($13,556), an extraordinary charge of
($1,928), and preferred stock dividend and accretion requirements of $3,974 in
1996. Net income to common shareholders includes discontinued operations of
($7,927) in 1995.
2
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Selected data by business segment was as follows for the years ended December
31, 1997, 1996 and 1995:
<TABLE>
<CAPTION>
Sales 1997 1996 1995
- ----- ---- ---- ----
<S> <C> <C> <C>
Commonwealth Telephone Company $144,538 $135,575 $127,842
Commonwealth Telecom Services, Inc. 5,329 89 -
Other 46,729 50,842 46,349
-------- -------- --------
Total $196,596 $186,506 $174,191
======== ======== ========
</TABLE>
Operating income before depreciation and amortization is commonly used in the
communications industry to analyze companies on the basis of operating
performance, leverage and liquidity. Operating income before depreciation and
amortization is not intended to represent cash flows for the period and should
not be considered as an alternative to cash flows from operating, investing or
financing activities as determined in accordance with U.S. GAAP. Operating
income before depreciation and amortization is not a measurement under U.S. GAAP
and may not be comparable with other similarly titled measures of other
companies.
<TABLE>
<CAPTION>
Operating income before depreciation and amortization
- -----------------------------------------------------
<S> <C> <C> <C>
Commonwealth Telephone Company $ 87,404 $ 81,181 $ 76,238
Commonwealth Telecom Services, Inc. (9,458) (941) -
Management fees (8,283) (8,382) (6,223)
Other 3,014 3,608 2,170
-------- -------- --------
Total $ 72,677 $ 75,466 $ 72,185
======== ======== ========
<CAPTION>
December 31,
1997 1996 % Change
---- ---- --------
CT Main Access Lines 258,803 240,255 7.7%
CTSI cumulative installed voice
grade equivalents 25,890 2,484 942.3%
</TABLE>
1997 vs 1996
Sales - Sales primarily includes local, local toll, long distance and vertical
service telephone revenue, and telecommunications design and engineering
revenue.
Sales were $196,596 and $186,506 for the years ended December 31, 1997 and 1996,
respectively. The increase of $10,090, or 5.4%, is primarily due to higher sales
of Commonwealth Telephone Company of $8,963. The increase in CT sales includes
higher local network service revenue of approximately $2,000, which resulted
from an increase in access lines of 18,548, or 7.7% due principally to a
successful second line promotion and higher vertical services revenue. Network
access revenue increased approximately $6,700 which includes higher interstate
access revenue of approximately $3,500 due to growth in access lines and rate of
return adjustments partially offset by a lower average rate per minute. The
increase in network access revenue also includes higher intrastate access
revenue of approximately $3,200 primarily due to growth in access minutes and a
higher average rate per minute. Also contributing to the increase in sales in
1997 as compared to 1996 is higher revenue of CTSI of $5,240, which represents
the start-up of the Company's competitive local telephony operations. At
December 31, 1997, CTSI had 25,890 installed voice grade equivalents ("VGEs") as
compared to 2,484 installed VGEs at December 31, 1996. epix sales increased
approximately $2,500 in 1997 as compared to 1996 which reflects the growing
popularity of, and demand for, high-speed Internet access. epix had
approximately 28,700 customers at December 31, 1997 as compared to 16,600
customers at December 31, 1996. The above increases were partially offset by
lower sales of CC which resulted from a high volume of less predictable premises
distribution systems contracts during 1996 which did not recur in 1997. The
nature of CC's business is inherently risky due to project cost estimates, sub
contractor performance and economic conditions. The operating results of CC are
continually subject to fluctuations due to its less predictable revenue streams,
market conditions, and the effect of competition on margins. At December 31,
1997, CC had a minimal sales backlog.
3
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Costs and expenses, excluding depreciation, amortization and corporate
management fees ("costs and expenses") - Costs and expenses primarily include
access charges and other direct costs of sales, payroll and related benefits,
advertising, software and information systems services, and general and
administrative expenses.
Costs and expenses were $115,636 and $102,658 for the years ended December 31,
1997 and 1996, respectively, an increase of $12,978, or 12.6%. The increase is
primarily due to higher costs of $13,757 associated with development of a
competitive local telephony effort. CLEC operations are expected to allow CTE to
increase its customer base significantly. The CLEC operations are generally
concentrated within twelve miles of existing Commonwealth Telephone Company
franchise areas, and will allow CTSI access to an additional 1.2 million access
lines in a densely populated area that includes more than 600 access lines per
square mile. This expansion will position the Company to begin competing with
Bell Atlantic. Costs and expenses of Commonwealth Telephone Company increased
$2,740, or 5.0%. Payroll and related benefits increased as a result of a one-
time postemployment benefit adjustment in the first quarter of 1996 which did
not recur in 1997. Additionally contributing to increase in payroll and related
benefits were higher overtime resulting from a successful second line promotion,
headcount additions and normal salary increases. Advertising expenses, primarily
for vertical services and second line promotion, and information systems
services expenses, primarily for year 2000 consulting, also contributed to the
increase in costs and expenses. These increases were partially offset primarily
by lower access charges resulting from a decrease in the average local transport
rate charged by a neighboring local carrier.
Costs and expenses of other operations decreased $3,519, or 7.5%, primarily due
to lower costs of sales of CC, which are directly associated with its decrease
in sales.
Depreciation and amortization - Depreciation and amortization primarily reflects
depreciation on incumbent local telephony operating plant. Depreciation and
amortization was $31,216 for the year ended December 31, 1997 as compared to
$27,390 for the year ended December 31, 1996. The increase is primarily
associated with a full year of depreciation in 1997 on capital expenditures of
$86,812 made in 1996 and depreciation on capital expenditures of $123,432 in
1997.
Interest expense - Interest expense includes interest on CT's mortgage note
payable to the National Bank for Cooperatives, interest on CTE's revolving
credit facility and amortization of debt issuance costs. Interest expense was
$9,933 and $9,577 for the years ended December 31, 1997 and 1996, respectively.
The increase of $356 or 3.7%, is primarily due to interest on borrowings of
$75,000 in the third quarter of 1997 against the revolving credit facility, the
proceeds of which were used to fund an equity contribution to RCN prior to the
Distribution, partially offset by lower interest expense on the mortgage note
payable to the National Bank for Cooperatives. Interest on the mortgage note
payable decreased primarily due to scheduled principal payments of $9,010 during
1997.
Other income, net - Other income was $1,041 for the year ended December 31, 1997
as compared to $2,286 for the year ended December 31, 1996. The decrease is
primarily related to the receipt, in the second quarter of 1996, of a royalty
fee of approximately $1,700. This fee represented the remaining minimum royalty
fee on cellular software products sold through January 1, 1998 owed to the
Company by the buyer of the assets of the Company's Information Services Group
and corporate data processing function which were sold in 1991.
Income taxes - The Company's effective income tax rates for continuing
operations were 41.1% and 43.6% for the years ended December 31, 1997 and 1996,
respectively. For an analysis of the change in income taxes, see the
reconciliation of the effective income tax rate in Note 13 to the consolidated
financial statements.
4
<PAGE>
Discontinued operations - Discontinued operations represents the results of
operations of RCN and Cable Michigan prior to the Distribution. Discontinued
operations were ($36,149) and ($13,556) for the years ended December 31, 1997
and 1996, respectively. The higher loss in 1997 is primarily the result of lower
EBITDA of RCN resulting from increased expenses associated with the development
of the bundled services business, including advertising, payroll and related
benefits and origination and programming costs. Additionally, RCN paid $10,000
in nonrecurring charges associated with the termination of a marketing services
agreement held by Freedom. RCN's interest income decreased primarily as a result
of lower average cash balances which resulted from the acquisition of Freedom
and capital expenditures associated with network expansion. RCN incurred an
extraordinary charge of $3,210 due its prepayment of Senior Secured Notes.
Offsetting these expense increases was a decrease in interest expense resulting
from the required principal payment of $18,750 on 9.65% Senior Secured Notes in
December 1996. Interest expense also declined in 1997 as a result of RCN's
payment of $940 to Kiewit Telecom Holdings, Inc. in 1996 in connection with the
August 1996 acquisition of Kiewit Telecom Holdings, Inc.'s 80.1% interest in
Freedom. Such amount represents compensation to Kiewit Telecom Holdings, Inc.
for forgone interest on the amount it had invested in Freedom.
Extraordinary item - In 1996, as a result of filing an alternative regulation
plan with the Pennsylvania Public Utility Commission, CT determined that it no
longer met the criteria for the continued application of the accounting required
by Statement of Financial Accounting Standards No. 71 - "Accounting for the
Effects of Certain Types of Regulation" ("SFAS 71"). In accordance with SFAS 71,
the effects of SFAS 109 on CT were deferred on the balance sheet as regulatory
assets and liabilities which represented the anticipated future regulatory
recognition of SFAS 109. In this filing, CT requested approval of a change from
cost-based, rate-of-return regulation to incentive-based regulation using price
caps. CT believed approval of the plan was probable and, as a result,
discontinued application of SFAS 71 and wrote off the previously recorded
regulatory assets and liabilities, resulting in an extraordinary charge of
$1,928.
Since CT performs an annual study to determine the remaining economic useful
lives of regulated plant and adjusts them, when necessary, for both financial
reporting and regulatory purposes, discontinuation of the application of SFAS 71
did not impact recorded fixed assets values.
CT received approval for an Alternative Regulation and Network Modernization
Plan ("the Plan") in January 1997.
1996 vs 1995
Sales- Sales were $186,506 and $174,191 for the years ended December 31, 1996
and 1995, respectively. The increase of $12,315, or 7.1%, is primarily due to
higher sales of Commonwealth Telephone Company of $7,733, or 6.0%, and epix of
$2,399. The remaining increase is primarily attributable to higher switched
business and 800 service sales of CLD. CT sales increased due to higher
intrastate access revenue of approximately $3,167 due to growth in access
minutes. Local network service revenue increased approximately $1,853 resulting
from an increase in access lines of approximately 13,000, primarily due to a
second line promotion, an increase in vertical services and the availability of
custom calling features to a broader section of CT's market. Additionally,
nonregulated revenue was positively impacted by higher video conferencing system
sales. epix sales increased as a result of the start up of the Company's
Internet access business.
Costs and expenses were $102,658 and $95,783 for the years ended December 31,
1996 and 1995, respectively, an increase of $6,875, or 7.2%.
The increase is primarily due to costs associated with the start-up of epix of
approximately $2,156, higher costs of CLD of approximately $2,200, principally
carrier expense, and higher costs of CT of approximately $2,790, principally,
higher overtime resulting from the second line promotion, consulting
5
<PAGE>
services on a variety of regulatory and operational matters and materials
expense associated with higher video conferencing system sales.
Management fees - Corporate management fees increased $2,159, or 34.7%, in 1996
as compared to 1995, primarily due to the Company's allocable share of expenses
associated with the evaluation of strategic alternatives for enhancing C-TEC
shareholder value, which culminated in the Distribution in 1997.
Depreciation and amortization - Depreciation and amortization was $27,390 for
the year ended December 31, 1996 as compared to $25,501 for the year ended
December 31, 1995. The increase of $1,889, or 7.4%, is primarily related to epix
depreciation of approximately $800 resulting from depreciation on equipment used
in the start up of the Company's Internet access business and higher
depreciation of Commonwealth Telephone Company, primarily resulting from capital
expenditures.
Gain on sale of investments - In 1995, the Company sold its equity position in
Northeast Networks, Inc. ("NNI"), an alternative access telephone service
provider in Westchester County, New York, for cash of $5,007. The Company
realized a pretax gain of $3,038 on the disposal.
Other income, net - Other income was $2,286 for the year ended December 31, 1996
as compared to $240 for the year ended December 31, 1995. The increase is
primarily related to the receipt, in the second quarter of 1996, of a royalty
fee of approximately $1,700. This fee represented the remaining minimum royalty
fee on cellular software products sold through January 1, 1998 owed to the
Company by the buyer of the assets of the Company's Information Services Group
and corporate data processing function which were sold in 1991.
Income taxes - The Company's effective income tax rates for continuing
operations were 43.6% and 30.3% for the years ended December 31, 1996 and 1995,
respectively. For an analysis of the change in income taxes, see the
reconciliation of the effective income tax rate in Note 13 to the consolidated
financial statements.
Discontinued operations - Discontinued operations were ($13,556) and ($7,927)
for the years ended December 31, 1996 and 1995, respectively. The higher loss in
1996 primarily reflects costs associated with the start up of RCN.
6
<PAGE>
Liquidity and Capital Resources
- -------------------------------
December 31,
1997 1996
---- ----
Cash and temporary cash investments $ 14,017 $ 11,004
Working capital (4,018) (8,673)
Long-term debt (including current maturities) 176,357 110,366
Cash and temporary cash investments were $14,017 at December 31, 1997 as
compared to $11,004 at December 31, 1996. The Company's working capital ratio
was .95 to 1 at December 31, 1997 as compared to .85 to 1 at December 31, 1996.
In July 1997, the Company obtained a $125,000 committed revolving credit
facility which provides credit availability through July 2002. In September
1997, the Company borrowed $75,000 against this facility. The Company utilized
the proceeds to fund an equity contribution to RCN prior to the Distribution.
The Company currently has adequate resources to meet its short-term obligations,
including cash on hand of $14 million and $50 million of availability under its
revolving credit facility. The Company presently intends to judge the success of
its initial rollout of the CTSI business in deciding whether to undertake
additional capital expenditures to further expand the network to additional
areas. The Company expects that the further expansion of the CTSI business will
require significant capital to fund the network development and operations,
including funding the development of its fiber optic networks and funding
operating losses. The Company's operations have required and will continue to
require substantial capital investments for the design, construction, and
development of additional networks and services. The Company plans on funding
current expansion plans through internally generated funds and existing credit
facilities. In addition to cash generated from operations, sources of funding
for the Company's further capital requirements may include financing from public
offerings or private placements of equity and/or debt securities, and bank
loans. There can be no assurance that additional financing will be available to
the Company or, if available, that it can be obtained on a timely basis and on
acceptable terms. Failure to obtain such financing could result in the delay or
curtailment of the Company's development and expansion plans and expenditures.
The Company anticipates that future cash flows will be used principally to
support operations and finance growth of the business and, thus, the Company
does not intend to pay cash dividends on the Company Common Stock in the
foreseeable future. The payment of any cash dividends in the future will be at
the discretion of the Company's Board of Directors. The declaration of any
dividends and the amount thereof will depend on a number of factors, including
the Company's financial condition, capital requirements, funds from operations,
future business prospects and such other factors as the Company's Board of
Directors may deem relevant.
As a result of factors such as the significant expenses associated with the
development of new networks and services, the Company anticipates that its
operating results could vary significantly from period to period.
Regulatory Issues
- -----------------
No assurances can be given at this time that the following regulatory matters
will not have a material adverse effect on the Company's business and results of
operations in the future. Also, no assurances can be given as to what other
future actions Congress, the Federal Communications Commission ("FCC") or other
regulatory authorities may take or the effects thereof on the Company.
7
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Telecommunications Act of 1996
- ------------------------------
The Telecommunications Act of 1996 (the "1996 Act") is intended to stimulate
growth and competition in virtually every component of the communications
industry. The 1996 Act establishes a framework for deregulation and calls for
state regulators and the FCC to work out the specific implementation process.
Companies are permitted to combine historically separate lines of business into
one, and provide that combined service in markets of their own choice. In
addition, there will be relief from the earnings restrictions and price controls
that have governed the local telephone business for many years.
On August 1, 1996, in accordance with the 1996 Act, the FCC took action to
remove statutory barriers to local telephone services competition. The
validation of a national policy for local competition creates an opportunity for
non-franchise local telephone providers to compete for the multi-billion dollar
marketplace heretofore confined to traditional local telephone companies. As a
result, this new action has opened new markets for the Company and opens the
Company's local telephone markets to other competitors.
On August 8, 1996, the FCC released two Orders outlining procedures for
interconnection between incumbent and competitive local exchange carriers. While
certain components of the First Order, relating to interconnection, have been
challenged in federal court, competitive interconnection agreements are being
negotiated and approved by state regulators using the federal guideline
established in the FCC First Order.
The Second Order, relating to the technical aspects of number portability,
remains in effect and the 100 largest Metropolitan Statistical Areas (MSAs) were
required to implement beginning October 1997.
The Company intends to seek to capitalize on these new regulatory mandates for
competition in markets heretofore not available. However, due to the rural, low
density characteristics of its operating area, the high cost of entry to the
market, the lack of large business customers, and its low basic service rates,
CT believes that compared to most other LECs, it is less likely to face
competition in its existing service area.
Pennsylvania Public Utility Commission
- --------------------------------------
On April 15, 1996, CT filed a plan with the Pennsylvania PUC in compliance with
state law that requires all local exchange carriers to enhance their network's
bandwidth capability in exchange for lessened regulatory oversight.
On January 17, 1997, the Pennsylvania PUC approved a modified version of CT's
Plan which requires it to upgrade its network over time prior to the year 2015
in accordance with certain specified standards. In addition, CT agreed to
maintain current price levels for basic or non-competitive services for two
years. CT may rebalance current rates for these services which include dialtone,
intraLATA toll and access rates immediately with Pennsylvania PUC oversight. The
Plan also allows CT to accommodate, on a revenue neutral basis, any exogenous
changes that occur during the life of the Plan. Finally, CT, with approval of
its Plan, moves from traditional rate base, rate of return regulation, to price
caps allowing for price flexibility and profit protection needed to operate
successfully in the telecommunications marketplace.
Impact of the Year 2000 Issue
- -----------------------------
The Company has certain financial, administrative and operational systems which
are not Year 2000 compliant. The Company has performed a study to identify those
specific systems which require remediation and developed a plan to correct such
situations in a timely fashion. The Company's plan is proceeding on target. The
plan includes ensuring that those systems for which the Company is dependent on
external vendors, such as certain billing systems, will be Year 2000 compliant
by the end of 1999 based on the status of external vendors' remediation efforts.
For those internal systems that require corrective
8
<PAGE>
action, the Company has contracted with its information systems services
provider to rewrite the relevant programming code. Finally, the Company is well
along on a conversion of its suite of financial systems to a state-of-the-art
Oracle system. Such system is expected to ensure Year 2000 compliance in
financial applications, enable the Company to process and report its financial
transactions more efficiently and provide a greater level of detailed
information to facilitate management's analysis which is critical to its
business decisions.
The Company is employing a team approach across its MIS, financial and
operational groups in addressing the above issues, as well as utilizing the
assistance of external consultants in the case of the Oracle implementation.
Such team approach facilitates a consistent progress along plans without
disruption of other areas of the business.
There is no assurance that the Company's plans will continue to progress as
intended. The Company estimates that its cost of Year 2000 remediation will not
be material.
9
<PAGE>
COMMONWEALTH TELEPHONE ENTERPRISES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
(Thousands of Dollars Except Per Share Amounts) For the Years Ended December 31,
1997 1996 1995
-----------------------------------------------
<S> <C> <C> <C>
Sales $196,596 $186,506 $174,191
-----------------------------------------------
Costs and expenses, excluding management fees and
depreciation and amortization 115,636 102,658 95,783
Management fees 8,283 8,382 6,223
Depreciation and amortization 31,216 27,390 25,501
-----------------------------------------------
Operating income 41,461 48,076 46,684
Interest and dividend income 3,422 3,501 3,214
Interest expense (9,933) (9,577) (9,621)
Gain on sale of investments - - 3,038
Other income, net 1,041 2,286 240
-----------------------------------------------
Income from continuing operations before income taxes 35,991 44,286 43,555
Provision for income taxes 15,460 19,960 13,542
-----------------------------------------------
Income from continuing operations before equity in unconsolidated entities 20,531 24,326 30,013
Equity in income of unconsolidated entities 1,653 1,543 1,193
-----------------------------------------------
Income from continuing operations before extraordinary charge 22,184 25,869 31,206
Discontinued operations (36,149) (13,556) (7,927)
-----------------------------------------------
(Loss) income before extraordinary charge (13,965) 12,313 23,279
Extraordinary charge:
Discontinuation of the application of regulatory accounting - (1,928) -
-----------------------------------------------
Net (loss) income (13,965) 10,385 23,279
Preferred stock dividend and accretion requirements 4,249 3,974 -
-----------------------------------------------
Net (loss) income to common shareholders ($18,214) $6,411 $23,279
===============================================
Basic earnings per average common share:
Income from continuing operations before extraordinary charge $0.98 $1.20 $1.71
Discontinued operations ($1.97) ($0.74) ($0.43)
Extraordinary charge - discontinuation of application of SFAS 71 - ($0.11) -
Net income available for common shareholders ($0.99) $0.35 $1.27
Average common shares outstanding 18,322,013 18,306,131 18,296,778
Diluted earnings per average common share:
Income from continuing operations before extraordinary charge $0.96 $1.19 $1.65
Discontinued operations ($1.93) ($0.73) ($0.42)
Extraordinary charge - discontinuation of application of SFAS 71 - ($0.10) -
Net income available for common shareholders ($0.97) $0.35 $1.23
Average common shares and common stock equivalents outstanding 18,695,755 18,463,496 18,897,384
</TABLE>
See accompanying notes to Consolidated Financial Statements.
<PAGE>
COMMONWEALTH TELEPHONE ENTERPRISES, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Thousands of Dollars)
<TABLE>
<CAPTION>
December 31,
1997 1996
--------------------------
<S> <C> <C>
ASSETS
Current Assets
Cash and temporary cash investments $14,017 $11,004
Accounts receivable, net of reserve for doubtful accounts of
$1,098 in 1997 and $791 in 1996 34,070 27,305
Accounts receivable from related parties 3,743 -
Unbilled revenues 1,352 1,575
Material and supply inventory, at average cost 8,000 5,410
Prepayments and other 5,088 709
Deferred income taxes 5,170 4,059
--------------------------
Total current assets 71,440 50,062
--------------------------
Property, plant and equipment, net of accumulated depreciation
of $223,051 in 1997 and $201,528 in 1996 287,956 248,952
--------------------------
Investments 8,815 8,955
--------------------------
Deferred charges and other assets 5,456 1,191
--------------------------
Net assets of discontinued operations - 318,493
--------------------------
Total assets $373,667 $627,653
==========================
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities
Current maturities of long-term debt $9,010 $9,010
Accounts payable 24,738 21,416
Advance billings and customer deposits 3,540 3,212
Accrued taxes 1,498 4,564
Accrued interest 638 716
Accounts payable to related parties 7,944 -
Accrued expenses 28,090 19,817
--------------------------
Total current liabilities 75,458 58,735
--------------------------
Long-term debt 167,347 101,356
--------------------------
Deferred income taxes 42,030 38,711
--------------------------
Deferred investment tax credits 56 246
--------------------------
Other deferred credits 8,328 7,962
--------------------------
Redeemable preferred stock 42,517 40,867
--------------------------
Commitments and contingencies
--------------------------
Common shareholders' equity 37,931 379,776
--------------------------
Total liabilities and shareholders' equity $373,667 $627,653
==========================
</TABLE>
See accompanying notes to Consolidated Financial Statements.
<PAGE>
COMMONWEALTH TELEPHONE ENTERPRISES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(THOUSANDS OF DOLLARS)
<TABLE>
<CAPTION>
For the Years Ended December 31,
1997 1996 1995
--------------------------------------
<S> <C> <C> <C>
Cash Flows from Operating Activities
Net (loss) income ($13,965) $10,385 $23,279
Gain on pension curtailment/settlement - (4,292) -
Extraordinary items - 1,928 -
Depreciation and amortization 94,269 97,653 73,312
Loss (gain) on sale of discontinued operations - 550 (2,188)
Deferred income taxes and investment tax credits, net (5,240) (6,409) 2,595
Gain on sale of investments - - (3,038)
Gain on sale of Florida cable operations (2,571) - -
Gain on sale of partnership interest (661) - -
Provision for loss on accounts receivable 3,292 4,542 2,251
Equity in loss of unconsolidated entities 656 739 2,665
(Decrease) increase in minority interest (3,757) (2,491) 329
Other non-cash items 94 244 (97)
Net change in certain assets and liabilities, net
of business acquisitions:
Accounts receivable and unbilled revenues (1,859) (783) (11,534)
Material and supply inventory (4,378) (1,062) 112
Accounts payable 3,049 8,562 (194)
Accrued expenses and taxes (3,737) 11,383 (12,826)
Other, net (2,066) (1,319) 1,291
Other (419) (1,139) (856)
--------------------------------------
Net cash provided by operating activities 62,707 118,491 75,101
--------------------------------------
Cash flows from investing activities:
Additions to property, plant and equipment (123,432) (86,812) (71,783)
Purchase of short-term investments - (75,091) (238,257)
Sales and maturities of short-term investments 46,935 149,086 245,112
Acquisitions, net of cash acquired (30,490) (30,090) (126,328)
Proceeds from sale of investments - - 5,007
Proceeds from disposal of discontinued operations - - 7,857
Purchase of loan receivable - (13,088) -
Proceeds from sale of Florida cable operations 3,496 - -
Proceeds from sale of partnership interest 1,900 - -
Other (801) 2,443 1,321
--------------------------------------
Net cash used in investing activities (102,392) (53,552) (177,071)
--------------------------------------
Cash flows from financing activities
Redemption of Long-term debt (165,689) (55,260) (45,800)
Redemption of preferred stock - - (276)
Proceeds from the issuance of common stock 183 664 (52)
Issuance of Long-term debt 333,000 19,000 19,300
Preferred dividends (1,950) (2,600) -
Cash contribution from joint venture partner 4,116 - -
Payment made for debt issuance costs (763) - -
Cash of discontinued operations (191,335) - -
--------------------------------------
Net cash used in financing activities (22,438) (38,196) (26,828)
--------------------------------------
Net (decrease) increase in cash and temporary cash investments ($62,123) $26,743 ($128,798)
Cash and temporary cash investments at beginning of year:
Continuing operations $11,004 $8,354 $10,103
Discontinued operations 65,136 41,043 168,092
--------------------------------------
$76,140 $49,397 $178,195
--------------------------------------
Cash and temporary cash investments at end of year:
Continuing operations $14,017 $11,004 $8,354
Discontinued operations - 65,136 41,043
--------------------------------------
$14,017 $76,140 $49,397
======================================
</TABLE>
See accompanying notes to Consolidated Financial Statements.
<PAGE>
COMMONWEALTH TELEPHONE ENTERPRISES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
(Thousands of Dollars))
For the Years Ended December 31, 1997 1996 1995
------------------------------------------------
<S> <C> <C> <C>
Supplemental Disclosures of Cash Flow Information
Cash paid during the year for:
Interest $33,997 $26,594 $26,327
Income Taxes $9,069 $14,640 $28,555
</TABLE>
Supplemental Schedule of Non-cash Investing and Financing Activities
In 1996, the Company acquired an 80.1% interest in Freedom New York, L.L.C. The
acquisition was accounted for as a purchase.
A summary of the acquisition is as follows:
Cash paid $28,906
Liabilities assumed 7,621
Deferred tax asset recognized (167)
Minority interest recognized 6,188
-----------------
Fair value of assets acquired $42,548
=================
In 1995, the Company acquired all the outstanding Common Stock of Twin County
Trans Video, Inc. and a related covenant not to compete. The consideration for
the acquisition was as follows:
Cash paid (including $1,000 deposit in 1994) $ 37,313
Issuance of 5% Promissory Note 4,000
Issuance of redeemable preferred stock 39,493
Liabilities assumed 16,364
Deferred tax liability incurred 33,797
-----------------
Fair value of assets acquired $130,967
=================
In 1996, the $4,000 promissory note was canceled and the Company paid cash of
$500 in settlement of certain purchase price adjustments.
In 1995, the Company acquired an additional 18.29% of the outstanding Common
Stock of Mercom, Inc. for cash of $6,912. The acquisition, along with the
Company's previous investment of 43.63% of Mercom's outstanding Common Stock,
was accounted for as a purchase. A summary of the acquisition is as follows:
Cash paid $ 6,912
Liabilities assumed 38,054
Deferred tax liability incurred 16,044
Reduction of equity-method investment 2,511
Minority interest recognized 15,680
-----------------
Fair value of assets acquired $79,201
=================
See accompanying notes to consolidated financial statements.
<PAGE>
COMMONWEALTH TELEPHONE ENTERPRISES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(THOUSANDS OF DOLLARS)
<TABLE>
<S> <C>
Accretion in the carrying value of redeemable preferred stock charged to
retained earnings for the year ended December 31, 1997 and 1996 was $1,649
and $1,374, respectively.
In March 1997, the Company acquired the portion of Freedom which it did not
already own. The transaction was accounted for as a purchase. A summary of
the transaction is as follows:
Cash Paid $40,000
Non-capitalizable costs (10,000)
Reduction of minority interest (3,812)
----------------
Fair value of assets $26,188
================
In September 1997, in connection with the transfer of the Company's
investment in Mercom to Cable Michigan, Cable Michigan assumed the Company's
$15,000 Term Credit Facility.
Certain intercompany accounts receivable and payable and intercompany note
balances were transferred to additional paid-in capital in connection with
the Distribution.
</TABLE>
See accompanying notes to Consolidated Financial Statements.
<PAGE>
27-Mar-98
COMMONWEALTH TELEPHONE ENTERPRISES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN COMMON SHAREHOLDERS' EQUITY
FOR THE YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(Thousands of Dollars)
<TABLE>
<CAPTION>
Common Stock
of Parent Total
Common Class B Additional Paid- Retained Treasury Held by Shareholders'
Par Value Par Value in Capital Earnings Stock Subsidiaries Equity
--------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance, December 31,1994 $12,716 $5,832 $236,309 $99,845 ($5,288) $ -- $349,414
Net income 23,279 23,279
Stock rights offering (52) (52)
Conversions 125 (125) --
Issued (see Note 11) 85 2,389 132,910 (135,384) --
--------------------------------------------------------------------------------------
Balance, December 31, 1995 12,926 8,096 369,167 123,124 (5,288) (135,384) 372,641
Net income 10,385 10,385
Preferred dividends (2,600) (2,600)
Conversions 389 (389) --
Accretion of redeemable preferred
stock (1,374) (1,374)
Stock Plan Transactions 160 574 734
Other (10) (10)
Common stock of parent held by
subsidiary returned to treasury
stock (135,384) 135,384 --
--------------------------------------------------------------------------------------
Balance, December 31, 1996 13,315 7,707 369,317 129,535 (140,098) -- 379,776
Net loss from 1/1/97 through 9/30/97 (18,127) (18,127)
Net income from 10/1/97 through
12/31/97 4,162 4,162
Preferred dividends (1,950) (1,950)
Conversions 2,479 (2,479) --
Stock Plan Transactions 3 5 338 346
Accretion of redeemable preferred
stock (1,649) (1,649)
Adjustment for the Distribution (217,730) (108,223) (325,953)
Other 90 1,262 (551) 2 523 1,326
--------------------------------------------------------------------------------------
Balance, December 31, 1997 $15,887 $6,490 $151,041 $3,750 ($139,237) $ -- $37,931
======================================================================================
</TABLE>
See accompanying notes to Consolidated Financial Statements.
<PAGE>
CTE_SHEQ 27-Mar-98
COMMONWEALTH TELEPHONE ENTERPRISES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN COMMON SHAREHOLDERS' EQUITY
FOR THE YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
<TABLE>
<CAPTION>
-----------------------------------------------------
Common
------------------------------------------------------
Common Stock
of parent
Shares Treasury held by Shares
Issued Stock subsidiary Outstanding
------ ----- ---------- -----------
<S> <C> <C> <C> <C>
Balance, December 31, 1994 12,716,299 175,599 12,540,700
Net income
Stock rights offering
Conversions 124,855 124,855
Issued (see Note 11) 85,465 85,465
Common stock of parent acquired by subsidiary (85,465) (85,465)
------------------------------------------------------
Balance, December 31, 1995 12,926,619 175,599 (85,465) 12,665,555
Net income
Preferred dividends
Conversions 388,948 388,948
Accretion of redeemable preferred stock
Stock plan transactions (29,000) 29,000
Other
Common stock of parent held by subsidiary
returned to treasury stock 128,198 85,465 (42,733)
------------------------------------------------------
Balance, December 31, 1996 13,315,567 274,797 - 13,040,770
Net loss from 1/1/97 through 9/30/97
Net Income from 10/1/97 through 12/31/97
Preferred dividends
Conversions 2,478,628 2,478,628
Stock plan transactions 3,284 (11,228) 14,512
Accretion of redeemable preferred stock
Adjustment for the distribution
Other 89,568 89,568
------------------------------------------------------
Balance, December 31, 1997 15,887,047 263,569 - 15,623,478
======================================================
<CAPTION>
------------------------------------------------------
Class B
------------------------------------------------------
Common Stock
of parent
Shares Treasury held by Shares
Issued Stock subsidiary Outstanding
------ ----- ---------- -----------
<S> <C> <C> <C> <C>
Balance, December 31, 1994 5,832,374 202,243 5,630,131
Net income
Stock rights offering
Conversions (124,855) (124,855)
Issued (see Note 11) 2,388,271 2,388,271
Common stock of parent acquired by subsidiary (2,388,271) (2,388,271)
------------------------------------------------------
Balance, December 31, 1995 8,095,790 202,243 (2,388,271) 5,505,276
Net income
Preferred dividends
Conversions (388,948) (388,948)
Accretion of redeemable preferred stock
Stock plan transactions
Other
Common stock of parent held by subsidiary
returned to treasury stock 3,582,406 2,388,271 (1,194,135)
------------------------------------------------------
Balance, December 31, 1996 7,706,842 3,784,649 - 3,922,193
Net loss from 1/1/97 through 9/30/97
Net Income from 10/1/97 through 12/31/97
Preferred dividends
Conversions (2,478,628) (2,478,628)
Stock plan transactions
Accretion of redeemable preferred stock
Adjustment for the distribution
Other 1,261,550 1,261,550
------------------------------------------------------
Balance, December 31, 1997 6,489,764 3,784,649 - 2,705,115
======================================================
</TABLE>
See accompanying notes to Consolidated Financial Statements.
<PAGE>
Commonwealth Telephone Enterprises, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
(Thousands of Dollars, Except Per Share Amounts)
1. BACKGROUND AND BASIS OF PRESENTATION
The consolidated financial statements of CTE include the accounts of its wholly-
owned subsidiaries, Commonwealth Telephone Company ("CT"), the nation's
thirteenth largest independent local exchange carrier ("LEC"), Commonwealth
Telecom Services, Inc. ("CTSI"), a competitive local exchange carrier ("CLEC"),
and other operations which include, Commonwealth Communications ("CC"), an
engineering services business, epix(TM) ("epix"), an Internet services business
and Commonwealth Long Distance ("CLD") a reseller of long-distance services.
All significant intercompany accounts and transactions are eliminated.
On September 30, 1997, C-TEC distributed 100 percent of the outstanding shares
of common stock of its wholly- owned subsidiaries, RCN Corporation ("RCN") and
Cable Michigan, Inc. ("Cable Michigan") to holders of record of C-TEC's Common
Stock, par value $1.00 per share ("Common Stock") and C-TEC's Class B Common
Stock, par value $1.00 per share ("Class B Common Stock") as of the close of
business on September 19, 1997 (the "Distribution") in accordance with the terms
of a Distribution Agreement dated September 5, 1997 among C-TEC, RCN and Cable
Michigan. RCN consists primarily of C-TEC's , bundled residential voice, video
and Internet access operations in the Boston to Washington, D.C. corridor, its
existing New York, New Jersey and Pennsylvania cable television operations, a
portion of its long-distance operations and its international investment in
Megacable, S.A. de C.V. Cable Michigan, Inc. consists of C-TEC's Michigan Cable
operations, including its 62% ownership in Mercom, Inc. In connection with the
Distribution, C-TEC changed its name to Commonwealth Telephone Enterprises, Inc.
("CTE" or "the Company").
CTE, RCN and Cable Michigan have entered into certain agreements providing for
the Distribution, and governing various ongoing relationships, including the
provision of support services, among the three companies, including a
distribution agreement and a tax-sharing agreement.
In accordance with Accounting Principles Board Opinion No. 30 - "Reporting the
Results of Operations - Reporting the Effects of Disposal of a Segment of a
Business, and Extraordinary, Unusual and Infrequently Occurring Events and
Transactions" ("APB 30"), the Company has restated its results of operations,
including prior periods, to reflect RCN and Cable Michigan as discontinued
operations.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Use of Estimates - The preparation of financial statements in conformity with
- ----------------
generally accepted accounting principles requires management to make estimates
and assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
Revenue Recognition - Local telephone service revenue is recorded as earned
- -------------------
based on tariffed rates. Telephone network access and long-distance service
revenues are derived from access charges, toll rates and settlement
arrangements. CT's Interstate access charges are subject to a pooling process
with the National Exchange Carrier Association (NECA). Final interstate
revenues are based on nationwide average costs applied to certain demand
quantities.
Internet access service revenues are recorded based on contracted fees.
Long-distance telephone service revenues are recorded based on minutes of
traffic processed and tariffed rates or contracted fees.
Revenue from local telephone, internet access and long distance telephone
services is earned and recorded when the services are provided.
Long-term contracts of Commonwealth Communications are accounted for on the
percentage-of-completion method. Estimated sales and earnings are recognized as
equipment is installed or contract services rendered, with estimated losses, if
any, charged to income currently.
Advertising Expense - Advertising costs are expensed as incurred. Advertising
- -------------------
expense charged to operations was $4,090, $1,036, and $729 in 1997, 1996 and
1995, respectively.
1
<PAGE>
Stock-Based Compensation - The Company applies Accounting Principles Board
- ------------------------
Opinion No. 25 - "Accounting for Stock Issued to Employees" ("APB 25") in
accounting for its stock plans. The Company has adopted the disclosure - only
provisions of Statement of Financial Accounting Standards No. 123 - "Accounting
for Stock-Based Compensation" ("SFAS 123"). All share and per share data, stock
option data, and market prices of the Company's Common Stock and Class B Common
Stock have been restated to reflect the Reverse Stock Split (Note 11).
Earnings Per Share - The Company has adopted Statement of Financial Accounting
- ------------------
Standards No. 128 - Earnings Per Share ("SFAS 128"). Basic earnings per share
amounts are based on net income after deducting preferred stock dividend
requirements and the charges to retained earnings for the accretion in value of
preferred stock divided by the weighted average number of shares of Common Stock
and Class B Common Stock outstanding during each year.
Diluted earnings per share are based on net income after deducting preferred
stock dividend requirements and the charges to retained earnings for the
accretion in value of preferred stock divided by the weighted average number of
shares of Common Stock and Class B Common Stock outstanding during each year
after giving effect to stock options considered to be dilutive common stock
equivalents. For the years ended December 31, 1997 and 1996, the conversion of
redeemable preferred stock into common stock is not assumed, since the effect is
anti-dilutive. All share and per share data, stock option data, and market
prices of the Company's Common Stock and Class B Common Stock have been restated
to reflect the Reverse Stock Split (Note 11).
<TABLE>
<CAPTION>
Years Ended December 31,
1997 1996 1995
<S> <C> <C> <C>
Income from continuing
operations before extraordinary charge $ 22,184 $ 25,869 $ 31,206
Preferred stock dividends 2,600 2,600 -
----------- ----------- -----------
Subtotal 19,584 23,269 31,206
Accretion of preferred stock 1,649 1,374 -
----------- ----------- -----------
Total $ 17,935 $ 21,895 $ 31,206
=========== =========== ===========
Basic earnings per average
common share:
Average shares outstanding 18,322,013 18,306,131 18,296,778
Income per average common share $ 0.98 $ 1.20 $ 1.71
Diluted earnings per average
common share:
Average shares outstanding 18,322,013 18,306,131 18,296,778
Dilutive shares resulting
from stock options 373,742 157,365 197,397
Redeemable preferred stock (1) - - 403,209
----------- ----------- -----------
18,695,755 18,463,496 18,897,384
=========== =========== ===========
Income per average common share $ 0.96 $ 1.19 $ 1.65
</TABLE>
(1) In 1997 and 1996, the conversion of redeemable preferred stock into
1,457,143 shares of common stock using the "if converted" method is anti-
dilutive.
Cash and Temporary Cash Investments - For purposes of reporting cash flows, the
- -----------------------------------
Company considers all highly liquid investments purchased with an original
maturity of three months or less to be temporary cash investments. Temporary
cash investments are stated at cost which approximates market.
Property, Plant and Equipment and Depreciation - Property, plant and equipment
- ----------------------------------------------
reflects the original cost of acquisition or construction, including payroll and
related costs such as taxes, pensions and other fringe benefits, and certain
general administrative costs. Major replacements and betterments are
capitalized. Repairs of all property, plant and equipment are charged to
expense as incurred.
Depreciation on telephone plant is based on the estimated remaining lives of the
various classes of depreciable property and straight-line composite rates. The
average rates were approximately 6.70%, 6.38% and 6.20% in 1997,
<PAGE>
1996 and 1995, respectively. At the time telephone plant is retired, the
original cost, plus cost of removal, less salvage, is charged to accumulated
depreciation. For all other property, plant and equipment, gain or loss is
recognized on retirements and dispositions.
Deferred Charges and Other Assets - Deferred charges and other assets
- ---------------------------------
principally include costs incurred to obtain financing and prepaid pension cost.
Prior to 1996, deferred charges and other assets also included the regulatory
assets established by the Telephone subsidiary in connection with the
requirements of Statement of Financial Accounting Standards No. 71 - "Accounting
for the Effects of Certain Types of Regulation."
Income Taxes - The Company and its subsidiaries report income for federal income
- ------------
tax purposes on a consolidated basis.
The Company accounts for income taxes using Statement of Financial Accounting
Standards No. 109- "Accounting for Income Taxes." The statement requires the
use of an asset and liability approach for financial accounting and reporting
for income taxes. The asset and liability approach requires the recognition of
deferred tax assets and liabilities for the expected future tax consequences of
temporary differences between financial reporting basis and tax basis of assets
and liabilities. If it is more likely than not that some portion or all of a
deferred tax asset will not be realized, a valuation allowance is recognized.
Investments tax credits ("ITC") have been deferred in prior years and are being
amortized over the average lives of the applicable property.
The Company's federal income tax returns are subject to review by the Internal
Revenue Service. Management believes that it has made adequate provision for
income taxes that may become payable with respect to open tax years.
Accounting for Impairments - The Company follows the provisions of Statement of
- --------------------------
Financial Accounting Standards No. 121 - "Accounting for the Impairment of Long-
Lived Assets and for Long-Lived Assets to be Disposed of" ("SFAS 121"). SFAS
121 requires that long-lived assets and certain identifiable intangibles to be
held and used by any entity be reviewed for impairment whenever events or
changes in circumstances indicate that the carrying amount of an asset may not
be recoverable. In performing the review for recoverability, the Company
estimates the net future cash flows expected to result from the use of the asset
and its eventual disposition. If the sum of the expected net future cash flows
(undiscounted and without interest charges) is less than the carrying amount of
the asset, an impairment loss is recognized. Measurement of an impairment loss
for long-lived assets and identifiable intangibles expected to be held and used
is based on the fair value of the asset.
No impairment losses have been recognized by the Company pursuant to SFAS 121.
3. SEGMENT INFORMATION
CT provides local and long distance telephone service to residential and
business customers in a 19-county service territory in rural northeastern and
central Pennsylvania. CT also provides network access and billing/collection
services to interexchange carriers and sells telecommunications products and
services. CTSI is a competitive local exchange carrier ("CLEC") operating in
areas adjacent to CT's traditional service area, offering bundled local and all
distance telephone, Internet and vertical services. Other operations include
Commonwealth Communications, epix and Commonwealth Long Distance. Commonwealth
Communications provides telecommunications engineering and technical services
and designs, installs and manages telephone systems for corporations, hospitals
and universities located principally in Pennsylvania. epix is an Internet
service provider. Commonwealth Long Distance provides all distance telephone
services to CT's and CTSI's customers.
3
<PAGE>
<TABLE>
<CAPTION>
Financial information by business segment is as follows:
(thousands of dollars) For the Years Ended December 31,
1997 1996 1995
---- ---- ----
<S> <C> <C> <C>
Commonwealth Telephone Company
- ------------------------------
Sales $144,538 $135,575 $127,842
Operating income before depreciation and
amortization and corporate management fees 87,404 81,181 76,238
Depreciation and amortization 27,857 25,975 24,504
Additions to property, plant and equipment 30,739 28,834 27,258
Identifiable assets 287,081 285,183 304,426
Commonwealth Telecom Services, Inc.
- -----------------------------------
Sales 5,329 89 -
Operating (loss) before depreciation and
amortization and corporate management fees (9,458) (941) -
Depreciation and amortization 1,039 9 -
Additions to property, plant and equipment 36,615 6,692 -
Identifiable assets 48,321 6,724 -
Other
- -----
Sales 46,729 50,842 46,349
Operating income before depreciation and
amortization and corporate management fees 3,014 3,608 2,170
Depreciation and amortization 2,320 1,406 997
Additions to property, plant and equipment* 56,078 51,286 44,525
Identifiable assets 38,265 335,746** 334,706**
Consolidated
- ------------
Sales $196,596 $186,506 $174,191
Operating income before depreciation and
amortization and corporate management fees 80,960 83,848 78,408
Corporate management fees 8,283 8,382 6,223
Operating income before depreciation and
amortization 72,677 75,466 72,185
Depreciation and amortization 31,216 27,390 25,501
Operating Income 41,461 48,076 46,684
Additions to property, plant and equipment 123,432 86,812 71,783
Identifiable assets 373,667 627,653 639,132
</TABLE>
* Primarily includes capital expenditures of discontinued operations.
**Includes net assets of discontinued operations of $318,493 and $311,427 in
1996 and 1995, respectively.
4. BUSINESS COMBINATIONS
The following business combinations were transacted by wholly-owned subsidiaries
of C-TEC. The acquired businesses were transferred to RCN or Cable Michigan in
connection with the restructuring.
On August 30, 1996, FNY Holding Company, Inc. ("FNY"), acquired from Kiewit
Telecom Holdings, Inc., C-TEC's controlling shareholder at the time, an 80.1%
interest in Freedom New York, L.L.C. and all related rights and liabilities
("Freedom") for cash consideration of approximately $29,000. In addition, FNY
assumed liabilities of approximately $7,600. (In March 1996, Freedom had
acquired the wireless cable television business of Liberty Cable Television.)
The acquisition was accounted for as a purchase, and accordingly, Freedom is
included in the Company's consolidated financial statements from the date of
purchase through the date of the Distribution.
4
<PAGE>
FNY allocated the purchase price paid on the basis of the fair value of
property, plant and equipment and identifiable intangible assets acquired and
liabilities assumed. There was no excess cost over fair value of net assets
acquired.
Contingent consideration of $15,000 was payable in cash and was to be based upon
the number of net eligible subscribers, as defined, in excess of 16,563
delivered to the Company by the original seller of the 80.1% interest in Freedom
to Kiewit Telecom Holdings. The contingent consideration is not included in the
acquisition cost above but is recorded when and if the future delivery of
subscribers occurs. In addition, the Company paid $922 to Kiewit Telecom
Holdings, Inc. which represents an amount to compensate for foregone interest on
the amount invested by Kiewit Telecom Holdings, Inc. in Freedom. This amount has
been charged to operations.
On March 21, 1997, the Company paid $15,000 in full satisfaction of contingent
consideration payable for the acquisition of Freedom. Additionally, pursuant to
the terms of the Freedom Operating Agreement, the assets of RCN Telecom Services
of New York, Inc., a wholly-owned subsidiary of RCN, were contributed to
Freedom, in which the Company had an 80.1% ownership interest prior to such
contribution. Subsequent to this contribution, the Company paid $15,000 to
acquire the minority ownership of Freedom. These amounts were primarily
allocated to excess cost over fair value of net assets acquired and are being
amortized over a period of approximately six years. The Company also paid
$10,000 to terminate a marketing services agreement between Freedom and an
entity controlled by Freedom's former minority owners. The Company charged this
amount to operations for the quarter ended March 31, 1997.
On May 15, 1995, C-TEC Cable Systems, Inc., (d/b/a RCN Cable Systems, Inc.)
("RCN Cable"), acquired 40% of the outstanding common stock of Twin County Trans
Video, Inc. ("Twin County") in exchange for cash of approximately $26,300,
including a $1,000 deposit made in 1994, and a $4,000, 5% promissory note of RCN
Cable. In addition, RCN Cable paid $11,000 in consideration of a noncompete
agreement and assumed liabilities of approximately $16,400. The remaining
shares were subject to an escrow agreement, pending completion of the merger,
and were required to be voted under the direction of RCN Cable. As of May 15,
1995, RCN Cable also assumed management of Twin County. As a result, RCN Cable
had control of Twin County and accordingly Twin County is fully consolidated in
the Company's financial statements since May 1995, the date of the original
acquisition. The remaining outstanding common stock of Twin County was acquired
in September 1995 in exchange for $52,000 stated value redeemable convertible
preferred stock of C-TEC. The preferred stock has a stated dividend rate of 5%,
beginning January 1, 1996. The fair value of the preferred stock, as determined
by an independent appraiser, is $39,500. In 1996, the $4,000 promissory note
was canceled and RCN Cable paid cash of $500 in settlement of certain purchase
price adjustments.
RCN Cable has allocated the purchase price paid for Twin County on the basis of
the fair value of property, plant and equipment and identifiable intangible
assets acquired and liabilities assumed. The excess of the consideration for
the acquisition over the fair value of the net assets acquired of approximately
$16,700 has been allocated to goodwill and is being amortized over a period of
approximately 10 years.
In January 1995, RCN International Holdings, Inc. (formerly C-TEC International,
Inc.), purchased a 40% equity position in Megacable, S.A. de C.V. ("Megacable").
The aggregate consideration for the purchase was cash of $84,115. The Company
accounted for its investment by the equity method of accounting. The original
excess cost over the underlying equity in the net assets acquired is
approximately $94,000, which is being amortized on a straight-line basis over 15
years.
In January 1995, RCN Cable purchased the assets of Higgins Lake Cable, Inc. for
cash of approximately $4,750.
5
<PAGE>
In June 1995, C-TEC invested approximately $2,220 for a one-third interest in a
partnership which intends to provide alternative access telephone service to
commercial subscribers. C-TEC transferred this investment to RCN Cable in 1996
at net book value of $1,977. The Company disposed of its investment in 1997 and
realized a gain of $661.
In November 1995, the Company purchased the assets used in the provision of
residential telephone services in New York by RealCom Office Communications,
Inc. for cash of approximately $1,050.
Pursuant to a common stock rights offering, the Company, through a wholly-owned
subsidiary, acquired majority voting control of Mercom, Inc. ("Mercom") through
the exercise of stock rights and oversubscription privileges. Immediately prior
to the rights offering, C-TEC owned 43.63% of the outstanding common stock of
Mercom. C-TEC purchased a total of 1,920,000 shares of common stock through the
rights offering for an aggregate consideration of $6,912. The rights offering
concluded on August 20, 1995. Following the purchase, C-TEC owned 61.92% of the
outstanding common stock of Mercom and accordingly has consolidated Mercom in
its financial statements since August 1995. Prior to the rights offering, C-TEC
accounted for its 43.63% ownership interest under the equity method of
accounting. The acquisition has been accounted for as a purchase.
The following unaudited pro forma summary presents information as if the
acquisition of Freedom had occurred at the beginning of 1996. The pro forma
information is provided for information purposes only. It is based on
historical information and does not necessarily reflect the actual results that
would have occurred.
<TABLE>
<CAPTION>
(Unaudited)
Year Ended December 31
1997 1996
---- ----
<S> <C> <C>
Net (loss) income to common shareholders $(28,654) $4,593
Basic Earnings Per Share:
Net (loss) income to common shareholders $ (1.56) $ 0.25
Diluted Earnings Per Share:
Net (loss) income to common shareholders $ (1.53) $ 0.25
</TABLE>
In April 1993, the Company acquired a controlling interest in Northeast
Networks, Inc. ("NNI"), an alternative access telephone service provider in
Westchester County, New York. In 1994, the Company acquired $1,125 of NNI
preferred stock. In 1995, the Company sold its equity position in NNI for cash
of $5,007. The Company realized a pretax gain of approximately $3,038 on the
disposal. Previously, the Company accounted for its investment under the equity
method since the results were not materially different from consolidation.
5. DISCONTINUED OPERATIONS
On September 30, 1997, C-TEC distributed 100 percent of the outstanding shares
of common stock of its wholly-owned subsidiaries, RCN and Cable Michigan to
holders of record of C-TEC's Common Stock and C-TEC's Class B Common Stock as of
the close of business on September 19, 1997 (the "Distribution") in accordance
with the terms of a Distribution Agreement dated September 5, 1997 among C-TEC,
RCN and Cable Michigan. RCN consists primarily of C-TEC's bundled residential
voice, video and Internet access operations in the Boston to Washington, D.C.
corridor, its existing New York, New Jersey and Pennsylvania cable television
operations, a portion of its long distance operations and its international
investment in Megacable. Cable Michigan, Inc. consists of C-TEC's Michigan cable
operations, including its 62% ownership in Mercom, Inc.
On September 9, 1994, the Company completed the sale of its cellular properties,
which were part of its Mobile Services business segment, to Independent Cellular
Network, Inc. for approximately $190,500. This transaction resulted in a gain
of $74,691 net of applicable income taxes. In December 1994, the Company
completed the sale of its telephone answering service operations and realized a
gain of $77, net
6
<PAGE>
of applicable income taxes and signed a letter of intent relative to the
disposition of its paging operations. The paging disposition was completed in
July 1995, and the Company realized a pretax gain of approximately $2,100 on the
disposal.
The Company has accounted for the RCN, Cable Michigan and Mobile Services
operations, including the related gains on the disposals of the cellular and
telephone answering service operations, as discontinued operations. All
activity up to the date of disposition has been accounted for as discontinued
operations.
Sales of discontinued operations were $152,772 in 1997, $180,802 in 1996 and
$151,932 in 1995.
Results of discontinued operations is comprised of the following for the years
ended December 31:
1997 1996 1995
---- ---- ----
(Loss) gain on disposal of
discontinued operations ($13,745) ($160) $ 278
(Loss) from discontinued operations (22,404) (13,396) (8,205)
--------- --------- --------
($36,149) ($13,556) ($7,927)
========= ========= ========
Summarized balance sheet data for discontinued operations as of December 31,
1996 is as follows:
1996
--------
Total current assets $138,885
Net property, plant and equipment 213,373
Investments 76,547
Intangible assets, net 154,427
Deferred charges and other assets 24,209
--------
Total $607,441
========
Total current liabilities $109,291
Deferred income taxes 54,758
Long-term debt 103,180
Minority interest 20,084
Other deferred credits 4,691
Cumulative translation adjustment (3,056)
--------
Total $288,948
--------
Net (liabilities) assets of
discontinued operations $318,493
========
6. PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment consists of the following at December 31:
1997 1996
---- ----
Telephone plant $ 495,495 $ 441,711
Other 15,512 8,769
--------- ---------
Total property, plant and equipment 511,007 450,480
Less accumulated depreciation (223,051) (201,528)
--------- ---------
Property, plant and equipment, net $ 287,956 $ 248,952
========= =========
Depreciation expense was $31,216, $27,390 and $25,501 for the years ended
December 31, 1997, 1996 and 1995, respectively.
7
<PAGE>
7. INVESTMENTS
Investments at December 31 are as follows:
1997 1996
------ ------
Rural Telephone Bank Stock $6,409 $6,409
Partnership 2,376 2,431
Other 30 115
------ ------
Total Investments $8,815 $8,955
====== ======
Investments carried on the equity method consist of the following at
December 31:
Percentage Owned
1997 1996
------ ------
Partnership 50.00% 50.00%
8
<PAGE>
8. DEFERRED CHARGES AND OTHER ASSETS
Deferred charges and other assets consist of the following at December 31:
1997 1996
-------- --------
Unamortized debt issuance costs $ 972 $ 390
Prepaid pension cost 3,729 -
Prepaid professional services 162 69
Other 593 732
-------- --------
Total $ 5,456 $ 1,191
======== ========
9. DEBT
a. Long-Term Debt - Long-term debt outstanding at December 31 is as follows:
--------------
1997 1996
-------- --------
Credit Agreement - National Bank for
Cooperatives 7.51% due 2009 $101,357 $110,366
Revolving Credit Facility 75,000 -
-------- --------
Total 176,357 110,366
Due within one year 9,010 9,010
-------- --------
Total Long-Term Debt $167,347 $101,356
======== ========
In July 1997, the Company entered into a $125,000 revolving credit facility
which matures June 2002. Interest is based on either a LIBOR or Base Rate
option, at the election of the Company (6.87% at December 31, 1997). The credit
agreement is unsecured. The Company has outstanding borrowings of $75,000
against this revolving credit facility at December 31, 1997. The Company used
the proceeds to fund an equity contribution to RCN Corporation prior to the
Distribution. The new facility contains restrictive covenants which , among
other things, require the Company to maintain certain debt to cash flow,
interest coverage and fixed charge coverage ratios and a certain level of net
worth and place certain limitations on additional debt and investments. The
Company does not believe that these covenants will materially restrict its
activities.
In March 1994, Commonwealth Telephone Company entered into a $135,143 Credit
Agreement with the National Bank for Cooperatives. The funds were used to
prepay outstanding borrowings with the United States of America through the
Rural Electrification Administration, the Rural Telephone Bank and the Federal
Financing Bank under various mortgage notes and security agreements. In
accordance with these mortgage notes and security agreements, portions of
amounts borrowed were required to be used to purchase common stock of the RTB,
equal to approximately 5% of the total available borrowing amount.
In connection with the prepayment, Commonwealth Telephone Company converted all
outstanding RTB Class B Stock to RTB Class C Stock, which is entitled to cash
dividends.
Substantially all the assets of Commonwealth Telephone Company are subject to
the liens of the Credit Agreement described above. The Credit Agreement contains
restrictive covenants which, among other things, requires CT to maintain a
certain debt-to-cash-flow ratio. In addition, Commonwealth Telephone Company
is restricted from declaring or paying any dividend or other distribution of
assets to the Company during any fiscal year in excess of the amount of the
after tax net income of Commonwealth Telephone Company for the immediately
preceding fiscal year.
In July 1997, the Company entered into a $15,000 credit facility which matures
in a single installment in June 1999. Interest only is due through June 1999.
The interest rate is based on either a LIBOR or Base Rate option, at the
election of the Company. The Company borrowed $15,000 against this facility in
July 1997. Since this facility is collateralized by Mercom, Inc. stock that
was transferred to Cable Michigan in connection with the Distribution, the
obligation for outstanding borrowings against this facility was assumed by Cable
Michigan in connection with the Distribution.
9
<PAGE>
Maturities and sinking fund requirements on long-term debt for each year ending
December 31, 1998 through 2002 are as follows:
Aggregate
Year Amounts
---- -------
1998 $ 9,010
1999 $ 9,010
2000 $ 9,010
2001 $ 9,010
2002 $84,010
b. Short-Term Debt - At December 31, 1997 and 1996, the Company had unused
---------------
committed lines of credit that provided for borrowings of up to $3,500 at prime
(8.50% December 31, 1997). Short-term unsecured borrowings may be made under
these lines of credit. The amounts available under these lines of credit are
reduced by outstanding letters of credit ($1,500 at December 31, 1997). All
unused lines of credit are cancelable at the option of the banks.
There are no commitment or facility fees associated with maintaining
availability of the above-mentioned lines of credit.
10. REDEEMABLE PREFERRED STOCK
On September 14, 1995, the shareholders approved an amendment to the Company's
Articles of Incorporation to authorize a new class of 25,000,000 shares of
Preferred Stock in such series and with such rights and preferences as the Board
of Directors may determine from time to time.
In connection with the acquisition of Twin County (see Note 3), the shareholders
approved the issuance of 4,100,000 shares of Preferred Series A and 1,100,000
shares of Preferred Series B shares (collectively the "Preferred Stock"). Such
shares were issued in September 1995 and were outstanding at December 31, 1997
and 1996 (see Note 15(f)).
The Preferred Stock has a stated value of $10 per share and is entitled to
receive $10 per share in liquidation. Dividends on the Preferred Stock are
cumulative at 5% per annum beginning January 1, 1996 and must be paid in the
event of liquidation before any distribution to holders of Common Stock and
Class B Stock. The Company paid dividends on the redeemable preferred stock of
$2,600 in 1996, $1,950 in 1997 and $650 in January 1998.
Holders of the Preferred Stock have no voting rights. However, there are
certain exceptions, including the right to elect an additional director if
twelve months of dividends are in default. Such director will remain on the
Board until the holders have received dividends sufficient to provide a
cumulative return of 5%.
The Preferred Series A and Preferred Series B are convertible into Common Stock
of the Company at conversion prices of $35.00 and $38.50, respectively, at the
election of the holders commencing in September 1998 and ending in September
2003 (the "Exchange Period"). An election to convert shares will be effective
only if the total number of shares to be converted by the holder, alone or
together with other holders, equals at least 5% of the total number of shares of
such series outstanding at the time the election is made.
At any time during the Exchange Period, the Company may elect to acquire all,
but not less than all, of either series of Preferred Stock for Common Stock of
the Company, or cash as herein described. If on the day the Company gives
notice of its election (the "Notice Date"), the trading price on the day
preceding the Notice Date (the "Market Value") of the shares of Common Stock,
into which such shares of Preferred Stock could be converted as described above,
is greater than or equal to the aggregate conversion price for such shares, then
CTE will transfer and deliver Common Stock based on the conversion price of the
shares of such Preferred Stock. If such Market Value is less than such
conversion price, then CTE will, at the holders' option (acting as a whole),
either deliver cash equal to the aggregate conversion price of such shares or
transfer and deliver Common Stock based upon such conversion price of such
shares.
All remaining Preferred Stock shall be redeemed by CTE for an amount equal to
the aggregate Stated Value thereof, plus any accrued and unpaid dividends, in
September 2003, whether or not the holders so elect.
The Preferred Stock was recorded at fair value on the date of issuance. The
excess of the stated value over the carrying value is being accreted by periodic
charges to retained earnings over the life of the issue. Such accretion
aggregated $1,649 and $1,374 in 1997 and 1996, respectively.
10
<PAGE>
On February 1, 1995, redeemable preferred stock of Commonwealth Telephone
Company was redeemed at a premium, in addition to accrued dividends.
Previously, such preferred stock included provisions for a mandatory sinking
fund sufficient to retire approximately 188 shares each year at par plus accrued
dividends.
11. COMMON SHAREHOLDERS' EQUITY AND STOCK PLANS
Common Stock - The Company has authorized 85,000,000 shares of $1 par value
Common Stock and 15,000,000 shares of $1 par value Class B Stock at December 31,
1997 and 1996.
At the Company's annual shareholders' meeting on October 1, 1997, the
shareholders approved an amendment to the Company's Articles of Incorporation,
as amended, to effect a two for three reverse stock split (the "Reverse Stock
Split") of the Common Stock and the Class B Common Stock. The Reverse Stock
Split was effective as of the close of business on October 9, 1997. Pursuant to
the Reverse Stock Split, every three shares of Common Stock were converted into
two shares of Common Stock and every three shares of Class B Stock were
converted into two shares of Class B Stock. Accordingly, approximately $9,162
was transferred from common stock to additional paid-in capital to reflect this
Reverse Stock Split. All share and per share data, stock option data, and
market prices of the Company's Common Stock have been restated to reflect this
Reverse Stock Split. The Reverse Stock Split had no effect on authorized shares
or the Redeemable Preferred Stock.
In December 1995, the Company acquired from Kiewit Telecom Holdings, Inc. all
the issued and outstanding shares of common stock of RCN Holdings, Inc.
("Holdings"). Holdings was a wholly-owned subsidiary of Kiewit Telecom
Holdings, Inc. that owned 85,465 shares of Common Stock of the Company and
2,388,271 shares of Class B Stock of the Company. Kiewit Telecom
Holdings,Inc's. was the Company's controlling shareholder at the time and is
controlled by Kiewit Diversified Group, which is a wholly-owned subsidiary of
Peter Kiewit Sons', Inc. In exchange for newly issued shares of Common Stock
and Class B Stock, respectively, equal to the number of shares of Common Stock
and Class B Stock held by Holdings, Kiewit Telecom Holdings, Inc. agreed that it
would reduce its direct and indirect stock interest in the Company if such
reductions are necessary to accomplish a spin-off of certain of the Company's
businesses on a tax-free basis to the Company and its shareholders.
The transaction was accounted for as a corporate reorganization and the newly
issued shares were recorded at Kiewit Telecom Holdings,Inc.'s cost. In 1995,
the Common and Class B Stock of the Company acquired in the transaction was
accounted for as a contra equity account encaptioned Parent Stock Held by
Subsidiary. In 1996, Holdings was dissolved and the shares of Common Stock and
Class B Stock of the Company held by Holdings were returned to treasury stock.
The Company's 1994 Stock Option Plan provides for the grant of up to 1,350,000
Incentive Stock Options to non-bargaining unit employees of the Company.
Options will generally become exercisable in cumulative annual increments of
twenty percent commencing one year from the date of grant. The options expire
ten years from the date of grant. Generally, the options are to be granted
within ten years from the date of the adoption of the plan.
The Company's 1996 Equity Incentive Plan provides for the issuance of up to
2,000,000 shares of Common Stock pursuant to awards granted under the 1996
Plan. Awards granted under the 1996 Plan may include incentive stock options,
nonqualified stock options, outperformance stock options, stock appreciation
rights, performance share units, restricted stock, phantom stock units and other
stock-based awards. Upon termination of the 1994 Plan, all shares of Common
Stock reserved under the 1994 Plan, which are not then subject to outstanding
awards will be available for awards under the 1996 Plan. However, the total
amount of authorized shares under the 1996 Plan may not exceed 3,350,000.
In connection with the Distribution, each C-TEC option was adjusted so that each
holder currently holds options to purchase shares of Commonwealth Telephone
Enterprises Common Stock, RCN Common Stock and Cable Michigan Common Stock. The
number of shares subject to, and the exercise price of, such options were
adjusted to take into account the Distribution and to ensure that the aggregate
intrinsic value of the resulting RCN, Cable Michigan and Commonwealth Telephone
Enterprises options immediately after the Distribution was equal to the
aggregate intrinsic value of the C-TEC options immediately prior to the
Distribution.
11
<PAGE>
Information relating to CTE stock options is as follows:
Weighted Average
Number of Shares Exercise Price
---------------- --------------
Outstanding December 31, 1994 477,375 $ 9.38
Granted 419,000 $ 9.19
Exercised
Canceled (93,333) $ 9.24
--------- ---------
Outstanding December 31, 1995 803,042 $ 9.30
Granted 63,333 $10.92
Exercised (19,333) $10.77
Canceled (90,667) $11.05
--------- ---------
Outstanding December 31, 1996 756,375 $ 9.38
Granted 261,479 $11.05
Exercised (9,000) $13.64
Canceled (1,000) $11.10
---------
Outstanding December 31, 1997 1,007,854 $ 9.77
=========
Shares Exercisable December 31, 1995 94,733 $ 9.38
Shares Exercisable December 31, 1996 232,467 $ 9.32
Shares Exercisable December 31, 1997 408,873 $ 9.35
=========
The range of exercise prices for options outstanding at December 31, 1997 is
$8.28 to $11.15.
Pro forma information regarding net income and earnings per share is required by
SFAS 123, and has been determined as if the Company had accounted for its stock
options under the fair value method of SFAS 123. The fair value for these
options was estimated at the date of grant using a Black Scholes option pricing
model with weighted average assumptions for dividend yield of 0% for 1997, 1996
and 1995; expected volatility of 38.6% prior to the Distribution and 52.8%
subsequent to the Distribution for 1997, 39.5% for 1996, and 35.9% for 1995;
risk-free interest rate of 6.52%, 5.95% and 6.32% for 1997, 1996 and 1995,
respectively; and expected lives of 5 years for 1997, 1996 and 1995.
The weighted-average grant date fair value of options is as follows: $4.64 for
1997, $4.31 for 1996 and $3.80 for 1995.
12
<PAGE>
For purposes of pro forma disclosures, the estimated fair value of the options
is amortized to expense over the options' vesting period. The Company's pro
forma net earnings and earnings per share were as follows:
1997 1996 1995
---- ---- ----
Net (loss) earnings - as reported ($18,214) $6,411 $23,279
Net (loss) earnings - pro forma ($18,388) $6,329 $23,256
Basic (loss) earnings per share - as reported ($0.99) $ 0.35 $ 1.27
Basic (loss) earnings per share - pro forma ($1.00) $ 0.35 $ 1.27
Diluted (loss) earnings per share - as reported ($0.97) $ 0.35 $ 1.23
Diluted (loss) earnings per share - pro forma ($0.98) $ 0.34 $ 1.23
The Company also has a stock purchase plan for certain key executives (the
"Executive Stock Purchase Plan" or "ESPP"). Under the ESPP, participants may
purchase shares of Common Stock in an amount of between 1% and 20% of their
annual base compensation and between 1% and 100% of their annual bonus
compensation, provided, however, that in no event shall the participant's total
contribution exceed 20% of the sum of their annual compensation, as defined by
the ESPP. Participant's accounts are credited with the number of share units
derived by dividing the amount of the participant's contribution by the average
price of a share of Common Stock at approximately the time such contribution is
made. The share units credited to a participant's account do not give such
participant any rights as a shareholder with respect to, or any rights as a
holder or record owner of, any shares of Common Stock. Amounts representing
share units that have been credited to a participant's account will be
distributed, either in a lump sum or in installments, as elected by the
participant, following the earlier of the participant's termination of
employment with the Company or three calendar years following the date on which
the share units were initially credited to the participant's account. It is
anticipated that, at the time of distribution, a participant will receive one
share of Common Stock for each share unit being distributed.
Following the crediting of each share unit to a participant's account, the
Company will issue a matching share of Common Stock in the participant's name.
Each matching share is subject to forfeiture as provided in the ESPP. Matching
shares, unless forfeited, have voting and dividend rights. The issuance of
matching shares will be subject to the participant's execution of an escrow
agreement. A participant will be deemed to be the holder of, and may exercise
all the rights of a record owner of, the matching shares issued to such
participant while such matching shares are held in escrow.
The Board has the power to amend or terminate the ESPP at any time, and to
freeze or suspend contributions to the ESPP. Amounts contributed under the ESPP
will be subject to the claims of the Company's creditors and creditors of
certain affiliates of the Company.
At December 31, 1997, there were approximately 34,300 ESPP shares arising from
participants' contributions and approximately 35,200 matching shares. The
Company recognizes the cost of the matching shares over the vesting period. At
December 31, 1997, deferred compensation cost relating to matching shares was
$57. Expense recognized in 1997 and 1996 was $22 and $10, respectively. Matching
shares are included in weighted average shares outstanding for purposes of
computing earnings per share.
12. PENSION AND EMPLOYEE BENEFITS
Substantially all of the Company's employees are included in a trusteed non-
contributory defined benefit pension plan. Upon retirement, employees are
provided a monthly pension based on length of service and compensation. The
Company funds pension costs to the extent necessary to meet the minimum funding
requirements of ERISA. Substantially all employees of the Company's
discontinued Pennsylvania Cable System operations (formerly Twin County Trans
Video, Inc.) were covered by an underfunded plan which was merged into the
Company's overfunded plan on February 28, 1996.
Pension cost (credit) is as follows:
1997 1996 1995
---- ---- ----
Benefits earned during the
year (service cost) $ 1,251 $ 2,365 $ 1,656
Interest cost on projected
benefit obligation 3,053 3,412 3,083
Actual return on plan assets (4,376) (3,880) (12,897)
Other components - net (691) (1,456) 8,482
------- ------- --------
Net periodic pension cost (credit) $ (763) $ 441 $ 324
======= ======= ========
13
<PAGE>
In connection with the Distribution, the Company completed a comprehensive study
of its employee benefit plans in 1996. As a result of this study, effective
December 31, 1996, in general, employees other than those of CT and CC no
longer accrue benefits under the defined benefit pension plan, but became fully
vested in their benefit accrued through that date. The Company notified
affected participants in December 1996. In December 1996, the Company allocated
pension plan assets of $6,984 to a separate plan for employees who no longer
accrue benefits after December 31, 1996 (the "curtailed plan"). The underlying
liabilities were also allocated. The allocation of assets and liabilities
resulted in a curtailment/settlement gain of $4,292.
The gain results primarily from the reduction of the related projected benefit
obligation. The curtailed plan has assets in excess of the projected benefit
obligation of $3,917 and unrecognized items of $1,148 resulting in prepaid
pension cost of $2,769, which is included in net assets of discontinued
operations in the accompanying 1996 Consolidated Balance Sheet.
Plan assets include cash, equity, fixed income securities and pooled funds under
management by an insurance company. Plan assets include common stock of the
Company with a fair value of approximately $4,125 and $5,835 at December 31,
1997 and 1996, respectively.
The following table sets forth the plans' funded status and amounts recognized
in the Company's consolidated balance sheets at December 31:
1997 1996
---- ----
Plan assets at fair value $ 69,973 $ 55,325
Actuarial present value of
benefit obligations:
Accumulated benefit obligation:
Vested 37,405 32,372
Nonvested 1,599 1,704
-------- --------
Total 39,004 34,076
Effect of increases in compensation 6,896 6,042
-------- --------
Plan assets in excess of projected benefit obligation 24,073 15,207
Unrecognized transition asset (2,969) (3,463)
Unrecognized prior service cost 2,224 2,438
Unrecognized net gain (19,599) (11,215)
-------- --------
Prepaid pension cost $ 3,729 $ 2,967
======== ========
The following assumptions were used in the determination of the projected
benefit obligation and net periodic pension cost (credit):
December 31,
1997 1996 1995
---- ---- ----
Discount Rate 7.0% 7.5% 7.0%
Expected long-term rate of
return on plan assets 8.0% 8.0% 8.0%
Weighted average long-term
rate of compensation increases 6.0% 6.0% 6.0%
The Company sponsors a 401(k) savings plan covering substantially all employees
who are not covered by collective bargaining agreements. Contributions made by
the Company to the 401(k) plan are based on a specified percentage of employee
contributions. Contributions charged to expense were $531, $901 and $750 in
1997, 1996 and 1995, respectively.
For employees retiring prior to 1993, the Company provides certain
postretirement medical benefits. The Company also provides postretirement life
insurance benefits to substantially all employees.
14
<PAGE>
The net periodic cost for postretirement health care and life insurance benefits
included the following components:
1997 1996 1995
---- ---- ----
Service cost $ 4 $ 5 $ 5
Interest cost 164 165 168
----- ----- -----
Net periodic postretirement
benefit cost $ 168 $ 170 $ 173
===== ===== =====
The following table sets forth the plan's funded status and amounts recognized
in the Company's consolidated balance sheets at December 31:
1997 1996
---- ----
Accumulated postretirement
benefit obligation:
Retirees and dependents $2,253 $2,157
Fully eligible active plan participants 70 73
------ ------
Total obligation 2,323 2,230
Plan assets - -
------ ------
Accumulated benefit obligation in
excess of plan assets 2,323 2,230
Unrecognized net gain 184 295
------ ------
Accrued postretirement benefit
liability $2,507 $2,525
====== ======
The accrued postretirement benefit liability is included in other deferred
credits in the accompanying consolidated balance sheets.
The discount rate used in determining the accumulated postretirement benefit
obligation was 7.0% in 1997, 7.5% in 1996 and 7% in 1995. The assumed health
care cost trend rate used in measuring the accumulated postretirement benefit
obligation was 10.5% for 1997, 11% for 1996 and 11.5% for 1995 declining to an
ultimate rate of 6% by 2011.
The effect of increasing the assumed health care cost trend rate by one
percentage point would be to increase the accumulated postretirement benefit
obligation as of December 31, 1997 and 1996 by approximately $70 and $67,
respectively, and increase the net periodic postretirement benefit cost by
approximately $5 in 1997, $5 in 1996 and $6 in 1995.
The Company also has a nonqualified supplemental pension plan covering certain
former employees which provides for incremental pension payments from the
Company to the extent that income tax regulations limit the amount payable from
the Company's defined benefit pension plan. The projected benefit obligation
relating to such unfunded plans was approximately $1,117 and $1,088 at December
31, 1997 and 1996, respectively. Pension expense for the plans was $77 in each
of 1997, 1996 and 1995.
The Company provides certain postemployment benefits to former or inactive
employees who are not retirees. These benefits are primarily short-term
disability salary continuance. The Company accounts for these benefits under
Statement of Financial Accounting Standards No. 112 - "Employers' Accounting for
Postemployment Benefits" ("SFAS 112"). SFAS 112 requires the Company to accrue
the cost of postemployment benefits over employees' service lives. The Company
uses the services of an enrolled actuary to calculate the expense. The net
periodic cost for postemployment benefits was $590 in 1997, $424 in 1996 and
$425 in 1995.
15
<PAGE>
13. INCOME TAXES
The Provision (Benefit) for Income Taxes is reflected in the Consolidated
Statements of Operations as follows:
1997 1996 1995
---- ---- ----
Currently payable
Federal $ 9,032 $16,701 $11,014
State 3,965 3,727 3,228
------- ------- -------
Total current 12,997 20,428 14,242
Deferred, net
Federal 2,189 (127) 3,432
State 464 (64) (3,778)
------- ------- -------
Total deferred 2,653 (191) (346)
Investment tax credit
amortization (190) (277) (354)
------- ------- -------
Provision (benefit) for income taxes:
From continuing operations $15,460 $19,960 $13,542
From (loss) gain on disposal of
discontinued operations (7,169) (390) 1,910
From discontinued operations (8,941) (4,223) (4,880)
------- ------- -------
Total provision for
income taxes $ (650) $15,347 $10,572
======= ======= =======
The following is a reconciliation of income taxes at the applicable U.S. federal
statutory rate with income taxes recorded by the Company:
1997 1996 1995
---- ---- ----
Income from continuing
operations before provision for income
taxes, extraordinary items and cumulative
effect of accounting principle changes $37,644 $45,829 $44,748
======= ======= =======
Federal tax provision at statutory rate 13,175 16,040 15,662
Increase (reduction) due to:
State income taxes, net of federal benefit 2,879 2,411 (443)
Amortization of investment tax credits (123) (180) (354)
Benefit of rate differential applied to
reversing timing differences 18 (71) (483)
Estimated nondeductible expenses - 1,154 -
Nondeductible goodwill 39 39 39
Equity in unconsolidated entities - - (698)
Other, net (528) 567 (181)
------- ------- -------
Provision for income taxes $15,460 $19,960 $13,542
======= ======= =======
For 1996, estimated nondeductible expenses relate primarily to charges in
connection with the restructuring of the Company.
In 1995, the Company received official notification of final settlement from the
Internal Revenue Service relating to the examination of the Company's
consolidated federal income tax returns for 1989, 1990 and 1991. The most
significant adjustment relates to the disallowance of the claimed amortization
of certain intangible assets. As a result of this disallowance, taxes payable
for prior years increased approximately $5,000 net operating loss
carryforwards were reduced by approximately $26,000 and AMT credits were
increased by approximately $5,000. Additionally, interest of approximately
$1,200 was payable. The amount accrued in years prior to 1995 was
sufficient to satisfy the above adjustment.
16
<PAGE>
Temporary differences and carryforwards which give rise to a significant portion
of deferred tax assets and liabilities at December 31, are as follows:
1997 1996
---- ----
Net operating loss carryforwards $ 1,150 $ 327
Employee benefit plans 1,267 745
Reserve for bad debts 693 465
All other 5,020 4,351
-------- --------
Total deferred tax assets 8,130 5,888
-------- --------
Property, plant and equipment (42,637) (39,201)
Intangible assets - (120)
All other (792) (472)
-------- --------
Total deferred tax liabilities (43,429) (39,793)
-------- --------
Subtotal (35,299) (33,905)
-------- --------
Valuation allowance (1,561) (747)
-------- --------
Total deferred taxes $(36,860) $(34,652)
======== ========
In the opinion of management, based on the future reversal of existing taxable
temporary differences, primarily depreciation, and its expectations of future
operating results, after consideration of the valuation allowance, the Company
will more likely than not be able to realize substantially all of its deferred
tax assets.
Since the Pennsylvania Public Utility Commission ("Pennsylvania PUC") has not
adopted SFAS 109 for ratemaking purposes, prior to 1996 CT accounted for SFAS
109 in conjunction with SFAS 71. Therefore, the CT recorded deferred taxes for
temporary differences previously flowed through; unamortized ITC balances; and
the effects of rate changes by establishing corresponding regulatory assets and
liabilities. In 1996, CT discontinued the application of SFAS 71 and wrote off
the previously established regulatory assets and liabilities and recognizes
state deferred taxes in income.
The net change in the valuation allowance for deferred tax assets during 1997
for continuing operations was an increase of $814.
14. REGULATORY ACCOUNTING PRINCIPLES
Prior to 1996, CT followed the accounting for regulated enterprises prescribed
by Statement of Financial Accounting Standards No. 71 - "Accounting for the
Effects of Certain Types of Regulation" ("SFAS 71"). SFAS 71 recognizes the
economic effect of rate regulation by recording costs and a return on investment
as such amounts are recovered through rates authorized by regulatory
authorities.
In accordance with SFAS 71, the effects of SFAS 109 on CT were deferred on the
balance sheet as regulatory assets and liabilities which represented the
anticipated future regulatory recognition of SFAS 109.
As a result of filing an alternative regulation plan with the Pennsylvania PUC,
CT determined that it no longer met the criteria for the continued application
of the accounting required by SFAS 71. In this filing CT requested approval of
a change from cost-based, rate-of-return regulation to incentive-based
regulation using price caps. CT believed approval of the plan was probable;
therefore, it discontinued application of SFAS 71 and, in accordance with
Statement of Financial Accounting Standards No. 101 - "Accounting for the
Discontinuation of the Application of SFAS 71," wrote off the regulatory assets
and liabilities previously recognized pursuant to SFAS 71, resulting in an
extraordinary charge of $1,928.
Each year CT performed a study to determine the remaining economic useful lives
of regulated plant and adjusted them, when necessary, for both financial
reporting and regulatory purposes. Since financial reporting and regulatory
lives were similar, discontinuance of the application of SFAS 71 did not impact
recorded fixed asset values.
CT received approval of an alternative regulation plan in January 1997.
17
<PAGE>
15. COMMITMENTS AND CONTINGENCIES
a. The Company had various purchase commitments at December 31, 1997 related to
its 1998 construction budget.
b. Total rental expense, primarily for pole rentals, was $4,002, $3,359 and
$2,168 in 1997, 1996 and 1995, respectively. At December 31, 1997, rental
commitments under noncancelable leases, excluding annual pole rental commitments
of approximately $2,797 which are expected to continue indefinitely, are as
follows:
Aggregate
Year Amounts
---- -------
1998 $1,418
1999 $ 606
2000 $ 373
2001 $ 319
2002 $ 250
After 2002 $1,012
c. In December 1997, the Company entered into an agreement for the provision to
the Company of data processing services including the general management of the
Company's data processing operations. Annual commitments, excluding annual
increases based on increases in the Consumer Price Index, are approximately as
follows:
1998 $4,996
1999 $5,348
2000 $5,724
d. The Company has outstanding letters of credit aggregating $1,500 at December
31, 1997.
e. CT has entered into various software licensing agreements which will enable
it to provide enhanced services to customers. The Company is committed to
payment of licensing fees aggregating $592 under these agreements in 1998.
f. On September 30, 1997, the Yee Family Trusts, as holders of the Company's
Preferred Stock Series A and Preferred Stock Series B, filed an action against
the Company, RCN and Cable Michigan and certain present and former directors of
the Company in the Superior Court of New Jersey, Chancery Division. The
complaint alleges that the Company's restructuring constituted a fraudulent
conveyance and alleges breaches of contract and fiduciary duties and of the
covenant of good faith and fair dealing in connection with the restructuring.
On December 1, 1997, the complaint was amended to allege that the Company's
distribution of the common stock of RCN and Cable Michigan was an unlawful
distribution in violation of 15 Pa. C.S. 1551(b)(2). The plaintiffs are seeking
to set aside the alleged fraudulent conveyance and unspecified monetary damages.
The Company believes this lawsuit is without merit and intends to contest this
action vigorously. On January 9, 1998, the Company filed a Motion to Dismiss,
or in the Alternative, for Summary Judgment. The plaintiffs filed their
response on March 9, 1998. The Company's reply brief is due on April 6, 1998
and argument on the motion is set for April 17, 1998.
In the normal course of business, there are various legal proceedings
outstanding, including both commercial and regulatory litigation. In the
opinion of management, these proceedings will not have a material adverse effect
on the results of operations or financial condition of the Company.
16. DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS
The following methods and assumptions were used to estimate the fair value of
each class of financial instruments for which it is practicable to estimate that
value:
a. Cash and temporary cash investments - The carrying amount approximates
fair value because of the short maturity of these instruments.
b. Long-term investments - Long-term investments consist primarily of
investments accounted for under the equity method for which disclosure of fair
value is not required and Rural Telephone Bank ("RTB") Stock. It was not
practicable to estimate the fair value of the RTB Stock because there is no
quoted market price for the stock; it is issued only at par and can be held only
by recipients of RTB loans.
18
<PAGE>
c. Long-term debt - The fair value of fixed rate long-term debt was estimated
based on the Company's current incremental borrowing rate for debt of the same
remaining maturities. The fair value of floating rate long-term debt is
considered to be equal to carrying value since the debt reprices at least every
six months and the Company believes that its credit risk has not changed from
the time the floating rate debt was borrowed and therefore, it would obtain
similar rates in the current market.
d. Letters of credit - The contract amount of letters of credit represents a
reasonable estimate of their value since such instruments reflect fair value as
a condition of their underlying purpose and are subject to fees competitively
determined in the marketplace.
The estimated fair value of the Company's financial instruments are as follows
at December 31:
1997 1996
------------------ ------------------
Carrying Fair Carrying Fair
Amount Value Amount Value
------ ----- ------ -----
Financial Assets:
Cash and temporary cash investments $14,017 $14,017 $11,004 $11,004
Financial Liabilities:
Fixed rate long-term debt:
Mortgage note payable to the
National Bank for Cooperatives $51,323 $54,563 $80,058 $83,566
Floating rate long-term debt:
Revolving Credit Agreement $75,000 $75,000 - -
Mortgage note payable to the
National Bank for Cooperatives $50,034 $50,034 $30,308 $30,308
Unrecognized Financial Instruments:
Letters of credit $ 1,500 $ 1,500 $ 1,500 $ 1,500
Redeemable preferred stock $42,517 $42,517 $40,867 $40,867
17. OFF BALANCE SHEET RISK AND CONCENTRATION OF CREDIT RISK
Certain financial instruments potentially subject the Company to concentrations
of credit risk. These financial instruments consist primarily of trade
receivables and cash and temporary cash investments.
The Company places its cash and temporary cash investments with high credit
quality financial institutions and limits the amount of credit exposure to any
one financial institution. The Company also periodically evaluates the credit
worthiness of the institutions with which it invests. The Company does,
however, maintain unsecured cash and temporary cash investment balances in
excess of federally insured limits.
The Company's trade receivables reflect a customer base primarily centered in
northeastern and central Pennsylvania. The Company routinely assesses the
financial strength of its customers; as a result, concentrations of credit risk
are limited.
19
<PAGE>
18. QUARTERLY INFORMATION (UNAUDITED)
<TABLE>
<CAPTION>
1997 First Quarter Second Quarter Third Quarter Fourth Quarter
<S> <C> <C> <C> <C>
Sales $ 46,413 $ 48,553 $ 50,359 $ 51,271
Operating income $ 11,248 $ 11,154 $ 9,990 $ 9,069
Income from continuing operations before
extraordinary items $ 6,547 $ 6,524 $ 4,961 $ 4,152
Gain (loss) from discontinued operations ($12,885) ($19,484) ($3,790) $ 10
Net income (loss) ($6,338) ($12,960) $ 1,171 $ 4,162
Basic Earnings per Share:
- -------------------------
Income (loss) per average common share
from continuing operations $ 0.36 $ 0.36 $ 0.27 $ 0.23
Net income (loss) available to common
shareholder per average common share ($0.35) ($0.71) $ 0.06 $ 0.23
Diluted Earnings per Share:
- ---------------------------
Income (loss) per average common share
from continuing operations $ 0.36 $ 0.35 $ 0.27 $ 0.22
Net income (loss) available to common
shareholder per average common share ($0.34) ($0.70) $ 0.06 $ 0.22
Common Stock Closing Price:
- --------------------------
High $ 45.00 $ 52.88 $ 75.00 $ 32.63
Low $ 34.13 $ 39.47 $ 51.20 $ 21.63
Class B Stock Closing Price:
- ---------------------------
High $ 44.63 $ 53.45 $ 73.79 $ 32.04
Low $ 33.75 $ 39.00 $ 50.45 $ 21.75
<CAPTION>
1996
First Quarter Second Quarter Third Quarter Fourth Quarter
<S> <C> <C> <C> <C>
Sales $ 46,464 $ 46,960 $ 46,065 $ 47,017
Operating income $ 14,797 $ 11,932 $ 10,691 $ 10,656
Income from continuing operations before
extraordinary item $ 8,617 $ 7,970 $ 5,215 $ 4,067
(Loss) from discontinued operations ($4,998) ($2,945) ($1,485) ($4,128)
Extraordinary item ($1,928) $ -- $ -- $ --
Net income (loss) $ 1,691 $ 5,025 $ 3,730 ($61)
Basic Earnings per Share:
- ---------------------------
Income (loss) per average common share
from continuing operations $ 0.47 $ 0.44 $ 0.28 $ 0.22
Net income (loss) available to common
shareholder per average common share $ 0.09 $ 0.27 $ 0.20 $ 0.00
Diluted Earnings per Share:
- ---------------------------
Income (loss) per average common share
from continuing operations $ 0.46 $ 0.43 $ 0.28 $ 0.22
Net income (loss) available to common
shareholder per average common share $ 0.09 $ 0.27 $ 0.20 $ 0.00
Common Stock Closing Price:
- ---------------------------
High $ 57.00 $ 55.70 $ 44.07 $ 41.25
Low $ 46.13 $ 40.50 $ 36.00 $ 35.45
Class B Stock Closing Price:
- ---------------------------
High $ 55.88 $ 54.75 $ 44.07 $ 39.75
Low $ 45.75 $ 40.50 $ 35.25 $ 34.50
</TABLE>
19. CERTAIN RELATED PARTY TRANSACTIONS
The Company and MFS Communications Company ("MFS") had six of thirteen common
Board of Directors members during 1996. During 1996, the Company paid MFS
approximately $4,900 primarily for network costs. Also during 1996, the Company
earned approximately $2,200 in revenue from MFS, primarily for construction
management services. MFS is now a WorldCom subsidiary.
20
<PAGE>
The Company had the following transactions with affiliates during the years
ended December 31, 1997, 1996 and 1995.
1997 1996 1995
-----------------------------
Corporate office costs allocated from RCN $8,332 $8,800 $6,671
Long distance terminating access charges to RCN 1,312 728 862
Revenue from engineering services charged
to RCN and Cable Michigan 483 187 351
Interest income on affiliate notes with RCN 537 354 279
Interest expense on affiliate notes with RCN 241 1,167 2,022
Royalty fees charged to RCN and Cable Michigan 1,134 1,444 1,109
Long distance charges to RCN and Cable Michigan 1,123 1,058 863
Other affiliate revenues 688 860 994
Other affiliate expenses 1,576 - 6
At December 1997, the Company had accounts receivable from related parties of
$3,743 and accounts payable to related parties of $7,944. All related party
note balances were either paid or transferred to Shareholders' Net Investment in
connection with the Distribution.
20. SUBSEQUENT EVENT
In February 1998, the Company granted approximately 500,000 stock options at an
exercise price of $24.63.
21
<PAGE>
REPORT OF INDEPENDENT ACCOUNTANTS
To the Shareholders of Commonwealth Telephone Enterprises, Inc.:
We have audited the consolidated financial statements and financial statement
schedules of Commonwealth Telephone Enterprises, Inc. and Subsidiaries listed in
Item 14(a) of this Form 10-K. These financial statements and financial statement
schedules are the responsibility of the Company's management. Our responsibility
is to express an opinion on these financial statements and financial statement
schedules based on our audits.
We conducted our audits 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
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 consolidated financial position of
Commonwealth Telephone Enterprises, Inc. and Subsidiaries as of December 31,
1997 and 1996 and the consolidated results of their operations and their cash
flows for each of the three years in period ended December 31, 1997 in
conformity with generally accepted accounting principles. In addition, in our
opinion, the financial statement schedules referred to above, when considered in
relation to the basic financial statements taken as a whole, present fairly, in
all material respects, the information required to be included therein.
As discussed in Note 14 to the consolidated financial statements, effective
January 1, 1996, the Company discontinued accounting for the operations of its
telephone subsidiary in accordance with Statement of Financial accounting
Standards No. 71- "Accounting for the Effects of Certain Types of Regulation".
/s/ Coopers & Lybrand L.L.P.
- ----------------------------
COOPERS & LYBRAND L.L.P.
2400 Eleven Penn Center
Philadelphia, Pennsylvania
February 27, 1998
<PAGE>
REPORT OF MANAGEMENT
The integrity and objectivity of the financial information presented in these
financial statements is the responsibility of the management of Commonwealth
Telephone Enterprises, Inc.
The financial statements report on management's accountability for Company
operations and assets. To this end, management maintains a system of internal
controls and procedures designed to provide reasonable assurance that the
Company's assets are protected and that all transactions are accounted for in
conformity with generally accepted accounting principles. The system includes
documented policies and guidelines, augmented by a comprehensive program of
internal and independent audits conducted to monitor overall accuracy of
financial information and compliance with established procedures.
Coopers & Lybrand, L.L.P., independent accountants, conduct a review of internal
accounting controls to the extent required by generally accepted auditing
standards and perform such tests and procedures as they deem necessary to arrive
at an opinion on the fairness of the financial statements presented herein.
The Board of Directors meets its responsibility for the Company's financial
statements through its Audit Committee which is comprised exclusively of
directors who are not officers or employees of the Company. The Audit Committee
recommends to the Board of Directors the independent auditors for election by
the shareholders. The Committee also meets periodically with management and the
independent and internal auditors to review accounting, auditing, internal
accounting controls and financial reporting matters. As a matter of policy, the
internal auditors and the independent auditors periodically meet alone with, and
have access to, the Audit Committee.
\s\ Bruce C. Godfrey
- --------------------
Bruce C. Godfrey
Executive Vice President -
Chief Financial Officer
<PAGE>
SCHEDULE I
Commonwealth Telephone Enterprises, Inc.
Condensed Financial Information of Registrant
Statement of Operations
<TABLE>
<CAPTION>
For the Years Ended December 31, 1997 1996 1995
- ----------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
(Thousands of dollars except
per share amounts)
Income:
Sales $6,897 $0 $0
Interest income-other 0 0 8
Other 53 61 0
--------------------------------------------------
Total income 6,950 61 8
--------------------------------------------------
Expenses:
Cost of goods sold 4,987 0 0
Interest expense on long term debt 1,642 0 0
Interest expense, net on notes payable to subsidiaries 46 0 0
General & administrative expenses 2,171 (258) 8
Depreciation and amortization 141 0 0
--------------------------------------------------
Total expenses 8,987 (258) 8
--------------------------------------------------
(Loss) income from continuing operations before income taxes,
equity in net income of subsidiaries (2,037) 319 0
(Benefit) provision for income taxes (1,301) 1,096 (10)
--------------------------------------------------
(Loss) income from continuing operations before equity
in net income of subsidiaries (736) (777) 10
Net income of subsidiaries 22,920 24,718 31,196
--------------------------------------------------
Income from continuing operations 22,184 23,941 31,206
Loss from discontinued operations (36,149) (13,556) (7,927)
--------------------------------------------------
Net (loss) income ($13,965) $10,385 $23,279
==================================================
Earnings (loss) per average common share:
Income from continuing operations $1.21 $1.31 $1.71
Discontinued operations ($1.97) ($0.74) ($0.43)
Net income available for common shareholders ($0.99) $0.35 $1.27
Average common shares outstanding 18,322,013 18,306,131 18,296,778
</TABLE>
Page 1
<PAGE>
SCHEDULE I
Commonwealth Telephone Enterprises, Inc.
Condensed Financial Information of Registrant
Balance Sheets
<TABLE>
<CAPTION>
December 31, 1997 1996
- --------------------------------------------------------------------------------------------------------------------
Assets
<S> <C> <C>
Current assets:
Cash $2,975 $0
Accounts receivable affiliates 4,050 0
Accounts receivable other 7,864 0
Prepayments and other 0 0
Materials and supply inventory 2,092 0
Deferred tax assets and other 1,094 0
Total current assets 18,075 0
Investment in subsidiaries (stated at equity) 154,736 426,435
Property plant and equipment, net of accumulated depreciation of $2,177 1,412 0
Deferred tax assets and other 4,829 0
--------------------------------
$179,052 $426,435
================================
<CAPTION>
Liabilities and Shareholders' Equity
<S> <C> <C>
Current liabilities:
Note payable to affiliates $6,290 $0
Accounts payable to subsidiaries 2,881 2,666
Accrued liabilities and other 10,945 3,125
--------------------------------
Total liabilities 20,116 5,791
--------------------------------
Redeemable preferred stock 42,517 40,867
--------------------------------
Long term debt 76,000 0
--------------------------------
Deferred income taxes and other deferred credits 3,488 0
Shareholders' equity
Common stock, par value $1, authorized
85,000,000 shares, issued 15,887,047 shares in 1997 and
13,315,567 shares in 1996 15,887 13,315
Class B stock, par value $1, authorized
15,000,000 shares, issued 6,489,764 shares in 1997 and
7,706,842 shares in 1996 6,490 7,707
--------------------------------
Total common stock 22,377 21,022
Additional paid in capital 151,041 369,317
Retained earnings 3,750 129,536
--------------------------------
Total 177,168 519,875
Treasury stock at cost, 4,048,218 shares in 1997 and
4,059,446 shares in 1996 (139,237) (140,098)
--------------------------------
Total shareholders' equity 37,931 379,777
--------------------------------
Total liabilities and shareholders' equity $179,052 $426,435
================================
</TABLE>
Page 1
<PAGE>
SCHEDULE I
Commonwealth Telephone Enterprises, Inc.
Condensed Financial Information of Registrant
Statement of Cash Flow
<TABLE>
<CAPTION>
For the Years Ended December 31, 1997 1996 1995
- --------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Cash flows from operating activities:
Net (loss) income ($13,965) $10,385 $23,279
Depreciation and amortization 141 0 0
Deferred income taxes and investment tax credits, net (185) 0 0
Net decrease (increase) in certain assets and liabilities (6,100) 883 (6,152)
Equity in income of subsidiaries (13,229) (11,162) (23,270)
Other (2,122) 37 0
---------------------------------------
Net cash flow (used in) provided by operating activities (35,460) 143 (6,143)
---------------------------------------
Cash flows from investing activities:
Additions to property, plant and equipment (60) 0 0
Dividends from subsidiaries 19,526 15,000 10,000
Capital contributions to subsidiaries (61,761) (13,208) (3,805)
Purchase of short term investments 2,700 0 0
Other (1,493) 0 0
---------------------------------------
Net cash (used in) provided by investing activities (41,088) 1,792 6,195
---------------------------------------
Cash flows from financing activities:
Redemption of long term debt (8,000) 0 0
Issuance of long term debt 83,000 0 0
Proceeds from the issuance of common stock 183 665 (52)
Preferred dividends (1,950) (2,600) 0
Increase in notes payable to affiliates 6,321 0 0
Decrease in notes receivable from affiliates (31) 0 0
---------------------------------------
Net cash (used in) provided by financing activities 79,523 (1,935) (52)
---------------------------------------
Increase in cash and temporary cash investments 2,975 0 0
---------------------------------------
Cash and temporary cash investments at beginning of year 0 0 0
---------------------------------------
Cash and temporary cash investments at end of year $2,975 $0 $0
---------------------------------------
Components of net (increase) decrease in certain assets and liabilities:
Accounts receivable ($11,914) $0 $0
Materials and supply inventory (2,092) 0 0
Accounts payable 1,145 (2,388) (3,049)
Prepayments (127) 168 (168)
Accrued expenses 6,888 3,103 (2,935)
---------------------------------------
Net (increase) decrease in certain assets and liabilities ($6,100) $883 ($6,152)
=======================================
</TABLE>
Page 1
<PAGE>
SCHEDULE II
COMMONWEALTH TELEPHONE ENTERPRISES, INC.
VALUATION AND QUALIFYING ACCOUNTS AND RESERVES
FOR THE YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(THOUSANDS OF DOLLARS)
<TABLE>
<CAPTION>
--------------------------------
ADDITIONS
--------------------------------
BALANCE AT CHARGED CHARGED BALANCE AT
BEGINNING OF TO COSTS TO OTHER END OF
DESCRIPTION PERIOD AND EXPENSE ACCOUNTS DEDUCTIONS PERIOD
- ----------- ------ ----------- -------- ---------- ------
<S> <C> <C> <C> <C> <C>
ALLOWANCE FOR DOUBTFUL ACCOUNTS-
DEDUCTED FROM ACCOUNTS RECEIVABLE
IN THE CONSOLIDATED BALANCE SHEETS.
1997 $791 $776 ($123) $346 $1,098
1996 $890 $1,804 ($529) $1,174 $791
1995 $222 $1,041 ($48) $525 $690
ALLOWANCE FOR INVENTORY-
DEDUCTED FROM MATERIAL AND SUPPLY
INVENTORY IN THE CONSOLIDATED
BALANCE SHEETS.
1997 $227 $394 ($62) $213 $346
1996 $237 $297 ($97) $210 $227
1995 $236 $258 $283 $540 $237
ALLOWANCE FOR DEFERRED TAX ASSETS-
DEDUCTED FROM DEFERRED TAX ASSETS
IN THE CONSOLIDATED BALANCE SHEETS.
1997 $747 $758 $259 $203 $1,561
1996 $663 $289 $ -- $205 $747
1995 $4,116 $342 $159 $3,954 $663
</TABLE>
