<PAGE> 1
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[X] Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934
For the quarterly period ended March 31, 1998
or
[ ] Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934
For the transition period from to
Commission File Number 0-1210
GTE NORTH INCORPORATED
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
WISCONSIN 35-1869961
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER IDENTIFICATION NO.)
INCORPORATION OR ORGANIZATION)
600 Hidden Ridge, HQE04B12 - Irving, Texas 75038
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE)
Registrant's telephone number, including area code 972-718-5600
(Former name, former address and former fiscal year,
if changed since last report)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
YES X NO
-------- --------
The Company had 978,351 shares of $1,000 stated value common stock outstanding
at April 30, 1998. The Company's common stock is 100% owned by GTE Corporation.
<PAGE> 2
PART I. FINANCIAL INFORMATION
GTE North Incorporated and Subsidiary
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
<TABLE>
<CAPTION>
Three Months Ended
March 31,
----------------------
1998 1997
---------- ----------
(Thousands of Dollars)
<S> <C> <C>
REVENUES AND SALES
Local services $ 312,128 $ 297,019
Network access services 317,253 272,630
Toll services 52,783 82,389
Other services and sales 89,905 89,611
--------- ---------
Total revenues and sales 772,069 741,649
--------- ---------
OPERATING COSTS AND EXPENSES
Cost of services and sales 260,325 212,186
Selling, general and administrative 95,801 94,609
Depreciation and amortization 127,256 122,401
--------- ---------
Total operating costs and expenses 483,382 429,196
--------- ---------
OPERATING INCOME 288,687 312,453
OTHER (INCOME) EXPENSE
Interest - net 30,448 29,078
Other - net (172) --
--------- ---------
INCOME BEFORE INCOME TAXES 258,411 283,375
Income taxes 97,448 105,376
--------- ---------
INCOME BEFORE EXTRAORDINARY CHARGE 160,963 177,999
Extraordinary charge (3,543) --
--------- ---------
NET INCOME $ 157,420 $ 177,999
========= =========
</TABLE>
Per share data is omitted since the Company's common stock is 100% owned by GTE
Corporation (GTE).
See Notes to Condensed Consolidated Financial Statements.
1
<PAGE> 3
GTE North Incorporated and Subsidiary
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
(Dollars in Millions)
RESULTS OF OPERATIONS
<TABLE>
<CAPTION>
Three Months Ended
March 31,
---------------------
1998 1997
--------- ---------
<S> <C> <C>
Net income $ 157.4 $ 178.0
</TABLE>
Net income for 1998 includes an extraordinary after-tax charge of $3.5 related
to the early retirement of debt. Excluding this charge, net income decreased 10%
or $17.1 for the three months ended March 31, 1998, compared to the same period
in 1997. The decrease is primarily the result of an increase in operating costs
and expenses, partially offset by an increase in revenues and sales.
REVENUES AND SALES
<TABLE>
<CAPTION>
Three Months Ended
March 31,
1998 1997
--------- ---------
<S> <C> <C>
Local services $ 312.1 $ 297.0
Network access services 317.3 272.6
Toll services 52.8 82.4
Other services and sales 89.9 89.6
--------- ---------
Total revenues and sales $ 772.1 $ 741.6
</TABLE>
Total revenues and sales increased 4% or $30.5 for the three months ended March
31, 1998, compared to the same period in 1997.
Local service revenues increased 5% or $15.1 for the three months ended March
31, 1998, compared to the same period in 1997. Access line growth of 4% during
the first quarter of 1998 generated additional revenues of $5.9 from basic
local services, $2 from CentraNet(R) services and $2.4 from Integrated Services
Digital Network (ISDN) and Digital Channel Services (DCS). Demand for enhanced
custom calling features, such as SmartCall(R) services, contributed $7.3 to the
increase.
Network access service revenues increased 16% or $44.7 for the three months
ended March 31, 1998, compared to the same period in 1997. Minutes of use
increased 17% for the three months ended March 31, 1998, which generated
additional revenues of $28. Special access revenues grew $10.6 due to a greater
demand for increased bandwidth services by Internet Service Providers (ISPs)
and other high capacity users. An increase in the volume of cellular service
providers accessing the Company's network generated $3.4 of additional
revenues. The impact of interstate access rate changes from the 1997 Federal
Communications Commission (FCC) price cap increased revenues by $3. These
increases are partially offset by intrastate rate reductions of $7.8 associated
with the requirements of various state commissions for intrastate access rates
to match interstate access rates.
2
<PAGE> 4
GTE North Incorporated and Subsidiary
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
Toll service revenues decreased 36% or $29.6 for the three months ended March
31, 1998, compared to the same period in 1997. The decline in revenues is
attributable to lower toll volumes, primarily related to intraLATA (local access
transport area) toll competition, including 10XXX and 1+ presubscription.
OPERATING COSTS AND EXPENSES
<TABLE>
<CAPTION>
Three Months Ended
March 31,
---------------------------
1998 1997
------------ ------------
<S> <C> <C>
Total operating costs and expenses $ 483.4 $ 429.2
</TABLE>
Total operating costs and expenses increased 13% or $54.2 for the three months
ended March 31, 1998, compared to the same period in 1997. The increase in
operating costs and expenses is primarily due to the impact of $27.6 in pension
settlement gains recorded during the first quarter of 1997 as a result of
lump-sum payments from the Company's benefit plans. Higher operating taxes of
$2.3, higher depreciation charges of $4.9 associated with additions to plant,
higher application software costs of $2.9 and a $2.1 rise in maintenance and
repair costs associated with storm damage within the Company's service
territories also contributed to the increase in operating costs and expenses.
OTHER EXPENSES
<TABLE>
<CAPTION>
Three Months Ended
March 31,
-----------------------
1998 1997
---------- ----------
<S> <C> <C>
Interest - net $ 30.4 $ 29.1
Income taxes 97.4 105.4
Extraordinary charge 3.5 --
</TABLE>
Interest - net increased 4% or $1.3 for the three months ended March 31, 1998,
compared to the same period in 1997. The increase is primarily due to higher
average short-term debt levels.
Income taxes decreased 8% or $8 for the three months ended March 31, 1998,
compared to the same period in 1997. This decrease is primarily due to the
decrease in pre-tax income partially offset by other tax adjustments.
During the first quarter of 1998, the Company recorded an after-tax
extraordinary charge of $3.5, reflecting premiums paid on the redemption of
high-coupon debt prior to stated maturity.
3
<PAGE> 5
GTE North Incorporated and Subsidiary
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
CAPITAL RESOURCES AND LIQUIDITY
Management believes that the Company has adequate internal and external
resources available to meet ongoing operating requirements for construction of
new plant, modernization of facilities and payment of dividends. The Company
generally funds its construction program from operations, although external
financing is available. Short-term borrowings can be obtained through borrowings
from the Company's parent, GTE, or GTE Funding Incorporated, an affiliate of the
Company. The Company participates with other affiliates in a $1,500, 364-day
syndicated line of credit. In December 1997, the Company began participating
with GTE and other of its affiliates in a series of five bilateral credit
agreements for an additional $2,000 in credit capacity. These facilities, which
are shared by the participating companies, are aligned with the maturity date of
the existing 364-day line of credit. The Company has an existing shelf
registration statement for an additional $150 of debentures.
The Company's primary source of funds during the first three months of 1998 was
cash from operations of $199.6 compared to $336.1 for the same period in 1997.
The decrease in cash from operations reflects an increase in the Company's
working capital requirements combined with a decline in results from operations.
The Company's capital expenditures during the first three months of 1998 were
$154.3 compared to $129.9 for the same period in 1997. The 1998 expenditures
reflect the Company's continued growth in primary and secondary access lines and
the modernization of interoffice facilities to mitigate Internet congestion.
Although expenditures for the first quarter of 1998 were higher than those for
the same period of 1997, the Company's anticipated capital expenditures for 1998
are expected to be comparable to the 1997 level.
Cash used in financing activities was $46.2 during the first three months of
1998 compared to $187 for the same period in 1997. During the first quarter of
1998, the Company paid a total of $162.7 for the retirement of debt and
preferred stock compared to $15.9 for the same period in 1997. Retirements for
1998 included $3.9 paid in premiums on the retirement of long-term debt and
preferred stock redeemed prior to stated maturity. In February 1998, the Company
issued $200 of 6.375% debentures and $200 of 6.73% debentures. Dividend payments
for the first quarter of 1998 were $101.1 compared to $124.8 for the same period
in 1997. Short-term financings, including the net change in affiliate notes,
decreased $157 for the first quarter of 1998, compared to $46.3 for the same
period in 1997. The Company recognized a loss of approximately $22.1 on the
settlement of forward contracts related to the February 1998 debt issuances. The
loss is being amortized over the life of the associated refinanced debt.
In its April 2, 1998 filing on Form 8-K, the Company's parent, GTE, stated that
because the MCI shareholders had accepted a competing offer, GTE's offer for MCI
was no longer outstanding. As a result, the Company and GTE were removed from
"Credit Watch" by all rating agencies. The Company believes that its present
investment grade credit rating provides ready access to the capital markets at
reasonable rates and provides the Company with the financial flexibility
necessary to pursue growth opportunities as they arise.
4
<PAGE> 6
GTE North Incorporated and Subsidiary
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
OTHER MATTERS
Illinois
On October 6, 1996, the Illinois Commerce Commission (ICC) initiated its
investigation into the Company's total element long run incremental cost
(TELRIC) studies and to establish rates for interconnection, unbundled network
elements (UNEs) and transport and termination of traffic. The proceeding will
address wholesale rates separately from UNEs, with each issue having a separate
procedural schedule. The determination of wholesale rates is expected to
conclude in mid-1998. Cost studies for UNEs were filed during the first quarter
of 1998 and will be refiled during the second quarter of 1998, with hearings
tentatively scheduled for the fourth quarter of 1998.
Indiana
On March 26, 1997, the Indiana Utility Regulatory Commission (IURC) opened an
investigation into access charge reform and the various issues surrounding
universal service. This docket was established in anticipation of the FCC
decisions on the same issues.
Michigan
On December 12, 1996, the Michigan Public Service Commission (MPSC) issued an
order initiating proceedings related to applications filed by the Company and by
Ameritech which address pricing and costs of UNEs, interconnection services and
resold services. The MPSC issued its final order on February 25, 1998. The
discount rate on resold services was set at 16.76% including operator services
and 15.8% without operator services. The Company disagrees with the MPSC's final
order, since it contains prices, terms and conditions which are in conflict with
the U.S. District Court for the Eighth Circuit's ruling. The Company has filed a
motion for rehearing with the MPSC. On March 18, 1998, the Company filed a
lawsuit in the U.S. District Court for the Western District of Michigan
challenging the MPSC's decision.
Ohio
On December 24, 1996, the Public Utilities Commission of Ohio (PUCO) issued its
decision in the Company's arbitration with AT&T to determine interconnection,
resale and unbundling terms and conditions. The interim discount rate for the
Company's resold services was set at 12.16%. The Company filed a lawsuit in the
U.S. District Court challenging portions of the PUCO's arbitration
determinations, which was subsequently dismissed. The Company and AT&T filed a
drafted agreement with the list of disputed items on April 29, 1998 as ordered
by the PUCO.
Pennsylvania
On December 12, 1996, the Pennsylvania Public Utility Commission's (PPUC's)
Administrative Law Judge (ALJ) established a schedule for addressing the 22.8%
interim wholesale discount rate set during arbitration through the examination
of the parties' avoided cost studies. In September 1997, the ALJ recommended the
wholesale discount rate of 18.98%. All parties filed exceptions to this ruling.
On March 10, 1998, the PPUC issued an order which remanded the docket back to
the ALJ for examination of more current avoided costs studies from the parties.
A
5
<PAGE> 7
GTE North Incorporated and Subsidiary
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
prehearing conference was held on May 7, 1998 in which the ALJ combined the
wholesale discount rate docket and the docket regarding UNE rates into one
docket. The ALJ ordered that new avoided costs studies be submitted by September
11, 1998. Hearings are scheduled to begin in January 1999.
In January 1997, the PPUC entered an order directing the Company to file revised
cost studies to establish permanent rates for UNEs. The Company filed the
required cost studies and revisions in August and October 1997, respectively. A
revised non-recurring charge cost study was filed in March 1998. Hearings were
suspended until after the prehearing conference on May 7, 1998. As discussed
above, the ALJ combined the wholesale discount rate docket and the docket
regarding UNE rates into one docket. The ALJ ordered that new non-recurring
costs studies and Integrated Cost Models (ICMs) be submitted by September 11,
1998. Hearings are scheduled to begin in January 1999.
Wisconsin
In January 1995, the Company elected to operate under price cap regulation in
Wisconsin. On April 30, 1998, the Company filed its third year results (1997)
under price regulation with the Public Service Commission of Wisconsin (PSCW).
RECENT DEVELOPMENTS
In April 1998, the Company's parent, GTE, announced a series of actions designed
to further sharpen its strategic focus and improve its competitive position by
repositioning non-strategic properties and reducing costs. GTE expects to
generate after-tax proceeds of $2,000 - $3,000 by selling non-strategic or
under-performing operations and plans to reduce annual costs by more than $500
through improved efficiencies and productivity while it continues to invest in
new high-growth opportunities. The impact of this announcement on the Company is
unknown at this time. GTE's management is currently assessing its options and,
as decisions are finalized regarding the sale of non-strategic operations and
cost reductions, the Company could be affected.
6
<PAGE> 8
GTE North Incorporated and Subsidiary
CONDENSED CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
March 31, December 31,
1998 1997
------------ ------------
(Thousands of Dollars)
ASSETS
<S> <C> <C>
Current assets:
Cash and cash equivalents $ 11,377 $ 12,208
Receivables, less allowances of $33,589 and $29,851 815,454 657,928
Inventories and supplies 46,099 38,001
Deferred income tax benefits 39,047 40,981
Prepaid insurance 33,043 3,692
Prepaid taxes 24,329 14,325
Other 9,636 9,738
------------ ------------
Total current assets 978,985 776,873
------------ ------------
Property, plant and equipment, at cost 9,679,297 9,563,746
Accumulated depreciation (6,527,487) (6,432,421)
------------ ------------
Total property, plant and equipment, net 3,151,810 3,131,325
------------ ------------
Prepaid pension costs 863,323 837,271
Other assets 50,244 30,412
------------ ------------
Total assets $ 5,044,362 $ 4,775,881
============ ============
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Short-term obligations, including current maturities $ 215,069 $ 16,229
Notes payable to affiliates 127,386 18
Accounts payable 284,869 248,730
Taxes payable 283,225 197,081
Accrued interest 28,370 19,348
Accrued payroll costs 227,968 205,249
Dividends payable 121,281 100,849
Other 126,110 137,991
------------ ------------
Total current liabilities 1,414,278 925,495
------------ ------------
Long-term debt 1,520,086 1,768,132
Deferred income taxes 223,298 215,261
Other liabilities, primarily employee benefit plans 434,028 434,890
------------ ------------
Total liabilities 3,591,690 3,343,778
------------ ------------
Preferred stock, subject to mandatory redemption 1,298 16,253
------------ ------------
Shareholders' equity:
Preferred stock 15,208 15,208
Common stock (978,351 shares issued) 978,351 978,351
Additional paid-in capital 43,110 43,110
Retained earnings 414,705 379,181
------------ ------------
Total shareholders' equity 1,451,374 1,415,850
------------ ------------
Total liabilities and shareholders' equity $ 5,044,362 $ 4,775,881
============ ============
See Notes to Condensed Consolidated Financial Statements.
</TABLE>
7
<PAGE> 9
GTE North Incorporated and Subsidiary
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
Three Months Ended
March 31,
----------------------
1998 1997
--------- ---------
(Thousands of Dollars)
<S> <C> <C>
OPERATIONS
Income before extraordinary charge $ 160,963 $ 177,999
Adjustments to reconcile income before extraordinary charge
to net cash from operations:
Depreciation and amortization 127,256 122,401
Deferred income taxes 9,971 7,733
Provision for uncollectible accounts 10,844 8,509
Changes in current assets and current liabilities (79,978) 25,637
Other - net (29,443) (6,178)
--------- ---------
Net cash from operations 199,613 336,101
--------- ---------
INVESTING
Capital expenditures (154,253) (129,942)
--------- ---------
Cash used in investing (154,253) (129,942)
--------- ---------
FINANCING
Long-term debt issued 396,648 --
Long-term debt and preferred stock retired,
including premiums paid on early retirement (162,650) (15,862)
Dividends (101,107) (124,835)
Decrease in short-term obligations, excluding current maturities (156,994) (46,332)
Other - net (22,088) --
--------- ---------
Net cash used in financing (46,191) (187,029)
--------- ---------
Increase (decrease) in cash and cash equivalents (831) 19,130
Cash and cash equivalents:
Beginning of period 12,208 12,975
--------- ---------
End of period $ 11,377 $ 32,105
========= =========
</TABLE>
See Notes to Condensed Consolidated Financial Statements.
8
<PAGE> 10
GTE North Incorporated and Subsidiary
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(1) BASIS OF PRESENTATION:
The unaudited condensed consolidated financial statements included herein
have been prepared by the Company pursuant to the rules and regulations of
the Securities and Exchange Commission. Certain information and footnote
disclosures normally included in financial statements prepared in
accordance with generally accepted accounting principles have been
condensed or omitted pursuant to such rules and regulations. However, in
the opinion of management of the Company, the condensed consolidated
financial statements include all adjustments, which consist only of normal
recurring accruals, necessary to present fairly the financial information
for such periods. These condensed consolidated financial statements should
be read in conjunction with the financial statements and the notes thereto
included in the Company's 1997 Annual Report on Form 10-K.
Reclassifications of prior year data have been made, where appropriate, to
conform to the 1998 presentation.
(2) EXTRAORDINARY CHARGE:
During the first quarter of 1998, the Company recorded an after-tax
extraordinary charge of $3.5 million, reflecting premiums paid on the
redemption of high-coupon debt prior to stated maturity.
(3) RECENT ACCOUNTING PRONOUNCEMENT:
In March 1998, the American Institute of Certified Public Accountants
issued Statement of Position 98-1, "Accounting for the Costs of Computer
Software Developed or Obtained for Internal Use" (SOP 98-1). SOP 98-1
defines internal-use software and establishes accounting standards for the
costs of such software. The Company is currently assessing the impact of
adopting SOP 98-1.
9
<PAGE> 11
GTE North Incorporated and Subsidiary
PART II. OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K.
(a) Exhibits required by Item 601 of Regulation S-K.
12 Statement re: Calculation of the Consolidated Ratio of Earnings to
Fixed Charges
27 Financial Data Schedule
(b) The Company filed no reports on Form 8-K during the first quarter of
1998.
10
<PAGE> 12
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
GTE North Incorporated
----------------------------------------
(Registrant)
Date: May 14, 1998 /s/ Stephen L. Shore
--------------------------- ----------------------------------------
Stephen L. Shore
Controller
(Principal Accounting Officer)
11
<PAGE> 13
EXHIBIT INDEX
<TABLE>
<CAPTION>
Exhibit
Number Description
-------- --------------------------------------------------------------
<S> <C>
12 Statement re: Calculation of the Consolidated Ratio of Earnings
to Fixed Charges
27 Financial Data Schedule
</TABLE>
<PAGE> 1
Exhibit 12
GTE North Incorporated and Subsidiary
STATEMENT OF THE CONSOLIDATED RATIO OF EARNINGS TO FIXED CHARGES
(Thousands of Dollars)
<TABLE>
<CAPTION>
Three Months
Ended
March 31,
1998
------------
<S> <C>
Net earnings available for fixed charges:
Income before extraordinary charge $ 160,963
Add - Income taxes 97,448
- Fixed charges 34,365
------------
Adjusted earnings $ 292,776
============
Fixed charges:
Interest expense $ 32,517
Portion of rent expense
representing interest 1,848
------------
Adjusted fixed charges $ 34,365
============
RATIO OF EARNINGS TO FIXED CHARGES 8.52
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1997
<PERIOD-START> JAN-01-1998
<PERIOD-END> MAR-31-1998
<CASH> 11,377
<SECURITIES> 0
<RECEIVABLES> 849,043
<ALLOWANCES> 33,589
<INVENTORY> 46,099
<CURRENT-ASSETS> 978,985
<PP&E> 9,679,297
<DEPRECIATION> 6,527,487
<TOTAL-ASSETS> 5,044,362
<CURRENT-LIABILITIES> 1,414,278
<BONDS> 1,520,086
1,298
15,208
<COMMON> 978,351
<OTHER-SE> 457,815
<TOTAL-LIABILITY-AND-EQUITY> 5,044,362
<SALES> 772,069
<TOTAL-REVENUES> 772,069
<CGS> 260,325
<TOTAL-COSTS> 483,382
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 30,448
<INCOME-PRETAX> 258,411
<INCOME-TAX> 97,448
<INCOME-CONTINUING> 160,963
<DISCONTINUED> 0
<EXTRAORDINARY> 3,543
<CHANGES> 0
<NET-INCOME> 157,420
<EPS-PRIMARY> 0
<EPS-DILUTED> 0
</TABLE>
