<PAGE> 1
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
(Mark One)
/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, 1994
or
/ / Transition Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
[No Fee Required]
For the transition period from to
Commission File Number 1-7077
GTE SOUTHWEST INCORPORATED
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 75-0573444
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
500 East Carpenter Freeway, Irving, Texas 75062
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE)
Registrant's telephone number, including area code 214-717-7900
Securities registered pursuant to Section 12(b) of the Act:
<TABLE>
<CAPTION>
NAME OF EACH EXCHANGE ON
TITLE OF EACH CLASS WHICH REGISTERED
------------------- -------------------------
<S> <C>
FIRST MORTGAGE BONDS-7 1/2%-SERIES, DUE 2002 AMERICAN STOCK EXCHANGE
FIRST MORTGAGE BONDS-7 3/4%-SERIES, DUE 2003 AMERICAN STOCK EXCHANGE
</TABLE>
Securities registered pursuant to Section 12(g) of the Act:
<TABLE>
<S> <C> <C> <C> <C>
4.60% SERIES CUMULATIVE PREFERRED STOCK $20 PAR VALUE
5.10% SERIES CUMULATIVE PREFERRED STOCK $20 PAR VALUE
</TABLE>
(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. YES X 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
---
THE COMPANY HAD 6,450,000 SHARES OF $100 STATED VALUE COMMON STOCK OUTSTANDING
AT FEBRUARY 28, 1995. THE COMPANY'S COMMON STOCK IS 100% OWNED BY GTE
CORPORATION.
<PAGE> 2
TABLE OF CONTENTS
<TABLE>
<CAPTION>
Item Page
---- ----
<S> <C>
PART I
1. Business 1
2. Properties 4
3. Legal Proceedings 4
4. Submission of Matters to a Vote of Security Holders 4
PART II
5. Market for the Registrant's Common Equity and Related
Shareholder Matters 5
6. Selected Financial Data 6
7. Management's Discussion and Analysis of Financial
Condition and Results of Operations 7
8. Financial Statements and Supplementary Data 13
9. Changes in and Disagreements with Accountants on
Accounting and Financial Disclosure 34
PART III
10. Directors and Executive Officers of the Registrant 35
11. Executive Compensation 39
12. Security Ownership of Certain Beneficial Owners
and Management 46
13. Certain Relationships and Related Transactions 47
PART IV
14. Exhibits, Financial Statement Schedules and Reports
on Form 8-K 48
</TABLE>
<PAGE> 3
PART I
Item 1. Business
GTE Southwest Incorporated (the Company) was incorporated in Delaware in 1926.
The Company is a wholly-owned subsidiary of GTE Corporation (GTE) and provides
communications services in the states of Arkansas, New Mexico, Oklahoma and
Texas.
On May 1, 1994, the Company sold a portion of its telephone plant-in-service,
materials and supplies and customers (representing 12,798 access lines) in the
state of Oklahoma to Eaglenet, Inc. On November 30, 1994, the Company sold a
portion of its telephone plant-in-service, materials and supplies and customers
(representing 8,898 access lines) in the state of Oklahoma to Pioneer Telephone
Cooperative, Inc.
The Company provides a wide variety of communications services ranging from
local telephone service for the home and office to highly complex voice and data
services for industry. The Company provides local telephone service within its
franchise area and intraLATA (Local Access Transport Area) long distance service
between the Company's facilities and the facilities of other telephone companies
within the Company's LATAs. InterLATA service to other points in and out of the
states in which the Company operates is provided through connection with
interexchange (long distance) common carriers. These common carriers are charged
fees (access charges) for interconnection to the Company's local facilities. End
user business and residential customers are also charged access charges for
access to the facilities of the long distance carrier. The Company also earns
other revenues by leasing interexchange plant facilities and providing such
services as billing and collection and operator services to interexchange
carriers, primarily AT&T Corp. The number of access lines served has grown
steadily from 1,365,164 on January 1, 1990 to 1,734,364 on December 31, 1994.
The number of access lines in the states in which the Company operates as of
December 31, 1994 was as follows:
<TABLE>
<CAPTION>
Access
State Lines Served
------------- ------------
<S> <C>
Texas 1,503,668
Oklahoma 109,170
Arkansas 78,965
New Mexico 42,561
------------
Total 1,734,364
============
</TABLE>
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<PAGE> 4
The Company's principal line of business is providing telecommunication
services. These services fall into five major classes including local network,
network access, long distance, equipment sales and services and other. Revenues
from each of these classes over the last three years are as follows:
<TABLE>
<CAPTION>
Years Ended December 31
------------------------------------------------
1994 1993 1992
---- ---- ----
(Thousands of Dollars)
<S> <C> <C> <C>
Local Network Services $ 451,406 $ 421,004 $ 391,601
% of Total Revenues 37% 36% 33%
Network Access Services $ 447,481 $ 438,046 $ 482,636
% of Total Revenues 37% 38% 41%
Long Distance Services $ 198,227 $ 189,954 $ 204,708
% of Total Revenues 16% 16% 17%
Equipment Sales and Services $ 81,735 $ 72,394 $ 67,125
% of Total Revenues 7% 6% 6%
Other $ 31,771 $ 40,967 $ 35,715
% of Total Revenues 3% 4% 3%
</TABLE>
At December 31, 1994, the Company had 6,433 employees. The Company has written
agreements with the Communications Workers of America (CWA). During 1995, two
contracts with the CWA will expire.
Telephone Competition and Regulatory Developments
The Company holds franchises, licenses and permits adequate for the conduct of
its business in the territories which it serves.
The Company is subject to regulation by the regulatory bodies of the states of
Arkansas, New Mexico, Oklahoma and Texas as to its intrastate business
operations and by the Federal Communications Commission (FCC) as to its
interstate business operations. Information regarding the Company's activities
with the various regulatory agencies and revenue arrangements with other
telephone companies can be found in Note 12 of the Company's financial
statements included in Item 8.
During 1994, the Company began implementation of a three-year $172 million
re-engineering plan. In the initial year of the plan, $37 million was expended
to implement this program. These expenditures were primarily associated with the
consolidation of certain customer service centers, separation benefits
associated with employee reductions and incremental expenditures to redesign and
streamline systems and processes. During 1995, the level of re-engineering
activities and related expenditures are expected to accelerate as pilot programs
are rolled out and other major initiatives are completed. The overall
re-engineering plan remains on schedule and is expected to be completed by the
end of 1996. Continued implementation of this program will position the Company
to accelerate delivery of a full array of voice, video and data services and to
reach its stated objective of being the easiest company to do business with in
the industry.
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<PAGE> 5
In late 1994, the FCC began to auction new licenses for radio spectrum in 51
major markets and 492 basic trading areas across the United States to encourage
the development of a new generation of wireless voice, data and messaging
services which are generally referred to as broadband Personal Communications
Services (PCS). PCS will compete with the Company's traditional wireline
services.
In 1992, the FCC issued a "video dialtone" ruling that allows telephone
companies to transmit video signals over their networks. The FCC also
recommended that Congress amend the Cable Act of 1984 to permit telephone
companies to supply video programming in their service areas. On January 13,
1995, the United States District Court for the Eastern District of Virginia
issued an injunction declaring that GTE has the right to provide video
programming to its in-franchise customers. The court's decision means that GTE
is now permitted to offer video programming over its own video dialtone
networks, as well as to compete as a franchised cable operator in the Company's
telephone territories.
During 1994, GTE unveiled its World Class Network in eight key markets,
including Dallas, Texas, to provide advanced communications for business
customers. This program includes sophisticated high-speed, digital fiber-optic
rings, a high-capacity switching network (known as SONET), and a new centralized
operations center that monitors the entire network. These SONET rings are an
integral part of the high-speed information network that enables GTE to provide
advanced services such as high-speed data transmission and video conferencing.
Federal and state regulatory activity directed toward changing the traditional
cost-based rate of return regulatory framework for intrastate and interstate
telephone services has continued. Regulatory authorities have adopted various
forms of alternative regulation, which provide economic incentives to telephone
service providers to improve productivity and provide the foundation for
implementing pricing flexibility necessary to address competitive entry into the
markets the Company serves.
Many states are currently investigating whether to authorize local and toll
competition. Several have concluded that competition is in the public interest
and five states, none within the Company's operating jurisdictions, have
authorized plans that would allow customers to pre-subscribe to a specific
carrier to handle intraLATA toll calls. GTE is challenging these orders
primarily based on the lack of equality since the Company is prohibited from
providing interLATA toll service.
For the provision of interstate services, the Company operates under the terms
of the FCC's price cap incentive plan. The "price cap" mechanism serves to limit
the rates a carrier may charge, rather than just regulating the rate of return
which may be achieved. Under this approach, the maximum prices that the Company
may charge are increased or decreased each year by a price index based upon
inflation less a predetermined productivity target. The Company may, within
certain ranges, price individual services above or below the overall cap.
Under its price cap regulatory plan, the FCC also adopted a productivity sharing
feature. Because of this feature, under the minimum productivity-gain option,
the Company must share equally with its ratepayers any realized interstate
return above 12.25% up to 16.25%, and all returns higher than 16.25%, by
temporarily lowering prospective prices.
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<PAGE> 6
During 1992-1994, the FCC took a number of steps to increase competition for
local exchange carrier (LEC) access services. These steps, known as Expanded
Interconnection requirements, allow competing communications carriers to
interconnect to the local exchange network for the purpose of providing switched
access transport services and private line services. Expanded Interconnection
requires LECs to permit competitors to connect directly to LEC central offices
and the LEC network under negotiated terms and conditions. Competitors are
thereby able to compete more effectively than previously to replace LEC services
between large users and interexchange carriers (IXCs), or between large users
and the LEC switch. The FCC accompanied its Expanded Interconnection mandate
with a slight relaxation of the rigid pricing rules that govern how LECs price
their access services. In 1994, the FCC also reaffirmed the switched access rate
structure changes adopted in 1993 that allow LECs to better reflect the actual
cost characteristics of transport services and improve the LEC's ability to
compete with alternative access providers.
The GTE Consent Decree, which was issued in connection with the 1983 acquisition
of GTE Sprint and GTE Spacenet (both since divested), prohibits GTE's domestic
telephone operating subsidiaries from providing long distance service beyond the
boundaries of the LATA. This prohibition restricts the Company's direct
provision of long distance service to relatively short distances. The degree of
competition allowed in the intraLATA market is subject to state regulation.
However, regulatory constraints on intraLATA competition are gradually being
relaxed.
These and other actions to eliminate the existing legal and regulatory barriers,
together with rapid advances in technology, are facilitating a convergence of
the computer, media and telecommunications industries. In addition to allowing
new forms of competition, these developments are also creating new opportunities
to develop interactive communications networks. The Company intends to continue
to respond aggressively to regulatory and legal developments that allow for
increased competition and opportunities in the marketplace. The Company expects
its financial results to benefit from reduced costs and the introduction of new
products and services that will result in increased usage of its networks.
However, it is likely that such improvements will be offset, in part, by
continued strategic pricing reductions and the effects of increased competition.
Item 2. Properties
The Company's property consists of network facilities (81%), company facilities
(15%), customer premises equipment (1%) and other (3%). From January 1, 1990 to
December 31, 1994, the Company made gross property additions of $1.5 billion and
property retirements of $1.0 billion. Substantially all of the Company's
property is subject to liens securing long-term debt. In the opinion of
management, the Company's telephone plant is substantially in good repair.
Item 3. Legal Proceedings
See Note 12 to the Company's financial statements included in Item 8.
Item 4. Submission of Matters to a Vote of Security Holders
None.
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<PAGE> 7
PART II
Item 5. Market for the Registrant's Common Equity and Related Shareholder
Matters
Market information is omitted since the Company's common stock is wholly-owned
by GTE Corporation.
TRANSFER AGENT AND REGISTRAR
The Transfer Agent and Registrar for the Company's common stock, preferred
stock and no par preferred stock is the First National Bank of Boston.
GTE Corporation
C/O Bank of Boston
P.O. Box 9191
Boston, MA 02205-9191
10-K REPORT
A copy of the 1994 annual report on Form 10-K filed with the Securities and
Exchange Commission may be obtained by writing to:
GTE Telephone Operations
External Reporting
P.O. Box 407, MC: INAAACG
Westfield, IN 46074
(317) 896-6464
PARENT COMPANY ANNUAL REPORT
A copy of the 1994 annual report of our parent company may be obtained by
writing to:
GTE Corporation
Corporate Secretary's Office
One Stamford Forum
Stamford, CT 06904
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<PAGE> 8
Item 6. Selected Financial Data
GTE Southwest Incorporated
<TABLE>
<CAPTION>
For the years ended December 31,
----------------------------------------------------------------
1994 1993(b) 1992 1991 1990
---------- ---------- ---------- ---------- -------
(Thousands of Dollars)
<S> <C> <C> <C> <C> <C>
SELECTED INCOME STATEMENT ITEMS (a)
Operating revenues $1,210,620 $1,162,365 $1,181,785 $1,134,028 $1,143,273
Operating expenses 996,398 1,105,308 883,119 931,610 911,992
---------- ---------- ---------- ---------- ----------
Net operating income 214,222 57,057 298,666 202,418 231,281
Interest expense 56,499 73,874 76,177 79,284 73,894
Gain on disposition of assets (21,921) -- -- -- --
Other - net (4,096) 1,635 2,390 (2,754) 15,437
Income tax provision (benefit) 60,354 (30,661) 72,720 24,757 31,245
---------- ----------- ---------- ---------- ----------
Income before
extraordinary charge 123,386 12,209 147,379 101,131 110,705
Extraordinary charge -- 31,250 -- -- --
---------- ---------- ---------- ---------- ----------
Net income (loss) $ 123,386 $ (19,041) $ 147,379 $ 101,131 $ 110,705
========== =========== ========== ========== ==========
Dividends declared on common stock $ 142,804 $ 77,548 $ 143,983 $ 65,145 $ 103,522
Dividends declared on preferred
stock 1,258 1,409 1,588 1,703 1,900
-------------------------------------------------------------------------------------------------------------
</TABLE>
<TABLE>
<CAPTION>
As of December 31,
-------------------------------------------------------------------
1994 1993 1992 1991 1990
---------- ---------- ---------- ---------- -------
(Thousands of Dollars)
<S> <C> <C> <C> <C> <C>
SELECTED BALANCE SHEET ITEMS
Investment in property, plant
and equipment - net $2,496,280 $2,507,225 $2,467,354 $2,406,972 $2,399,657
Total assets 2,831,535 2,789,120 2,761,210 2,697,727 2,658,866
Long-term debt and preferred stock,
subject to mandatory redemption 683,676 715,407 719,175 780,136 690,934
Common stock and reinvested earnings 1,007,191 1,027,867 1,125,865 1,124,057 1,089,774
-------------------------------------------------------------------------------------------------------------
</TABLE>
<TABLE>
<CAPTION>
As of December 31,
-------------------------------------------------------------------
1994 1993 1992 1991 1990
---------- ---------- ---------- ---------- -------
<S> <C> <C> <C> <C> <C>
SELECTED STATISTICS
Access lines 1,734,364 1,641,324 1,553,539 1,475,743 1,423,073
Access line gain 93,040 87,785 77,796 52,670 57,909
Net investment in property, plant
and equipment per access line $ 1,439 $ 1,528 $ 1,588 $ 1,631 $ 1,686
Number of employees 6,433 7,184 7,809 7,673 8,219
Access lines per employee 270 228 199 192 173
Capital expenditures (thousands) $ 301,951 $ 300,616 $ 293,117 $ 285,638 $ 270,407
-------------------------------------------------------------------------------------------------------------
</TABLE>
(a) Per share data is omitted since the Company's common stock is 100% owned by
GTE Corporation.
(b) Net operating income in 1993 included a $172.0 million pretax charge for
restructuring costs which reduced net income by $105.9 million.
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<PAGE> 9
Item 7. Management's Discussion and Analysis of Financial Condition
and Results of Operations
BUSINESS OPERATIONS
GTE Southwest Incorporated (the Company), a wholly-owned subsidiary of GTE
Corporation (GTE), provides local exchange, network access and long distance
telecommunications services in Arkansas, New Mexico, Oklahoma and Texas. The
Company also markets telecommunications systems and equipment. The Company
serves over 1.7 million access lines in its operating territory, with 87% of
these lines in Texas.
RESULTS OF OPERATIONS
Net income was $123 million for 1994 including a $15 million gain, net of tax,
associated with the sale of certain non-strategic properties in Oklahoma. In
1993 a net loss of $19 million was recorded, including one-time after-tax
charges totaling $143 million to restructure operations, complete enhanced early
retirement and voluntary separation programs and for the early retirement of
high-coupon debt.
Excluding these special items, net income decreased 13% or $16 million in 1994
and 16% or $23 million in 1993. The 1994 decrease is primarily the result of
voluntary network access rate reductions during 1993 and 1994 in an ongoing
effort to price services more competitively and an increase in cost of sales and
services and depreciation and amortization expenses, partially offset by a
decrease in interest expense. The 1993 decrease reflected lower operating
revenues due to voluntary rate reductions and the impact of the adoption of
Statement of Financial Accounting Standards (SFAS) No. 106, "Employers'
Accounting for Postretirement Benefits Other Than Pensions" effective January 1,
1993.
OPERATING REVENUES
Operating revenues were $1.21 billion and $1.16 billion for 1994 and 1993,
respectively. This reflects an increase of 4% or $48 million in 1994 compared to
a decrease of 2% or $19 million in 1993.
Local network service revenues are comprised mainly of fees charged to customers
for providing local exchange service. In 1994 local network service revenues
were $451 million compared to $421 million in 1993. This represents increases of
7% or $30 million in 1994 and 8% or $29 million in 1993. These increases are
primarily the result of expansion of local calling zones and an increase in
access lines.
Network access service revenues are fees charged to interexchange carriers that
use the local telecommunication network to provide long-distance services to
their customers. In addition, end users pay access fees to connect to the local
network to obtain long-distance service. Revenues derived from network access
services were $447 million in 1994 and $438 million in 1993. This represents an
increase of 2% or $9 million during 1994 and a decrease of 9% or $45 million in
1993. The 1994 increase is primarily the result of an increase in minutes of use
and increased revenue related to the Texas Pooling Alternative Settlement Plan
(PASP) which the Company elected to begin participating in effective January 1,
1994. The increased revenue from PASP does not increase operating income as
there is a corresponding increase in
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<PAGE> 10
operating expenses. These increases are partially offset by revenue decreases
resulting from the Company's exit from old pooling arrangements and an access
charge restructuring plan which was approved by the Public Utility Commission of
Texas (PUC) on April 1, 1992. The implementation of this plan resulted in a $41
million annual reduction, effective September 1, 1992, a $29 million annual
reduction, effective September 1, 1993, and a final annual reduction of $33
million which became effective September 1, 1994. The 1993 decrease was
primarily the result of the access charge restructuring plan previously
mentioned and lower interstate rates. The Company's annual interstate rates were
voluntarily reduced by $1 million effective July 1, 1992, $4 million effective
July 17, 1992, $9 million effective October 2, 1992 and $11 million effective
December 15, 1992. These reductions were partially offset by an increase in
minutes of use in 1993.
The Company's revenues for long distance services are provided under bill and
keep arrangements or settlement arrangements with various telephone companies.
Long distance service revenues for 1994 were $198 million and $190 million in
1993, representing a 4% or $8 million increase in 1994, and a decrease of 7% or
$15 million in 1993. The 1994 increase is primarily the result of an increase in
the volume of toll calls and an increase in directory assistance revenues. The
1993 decrease was primarily the result of lower settlements.
Revenues derived from equipment sales and services were $82 million in 1994 and
$72 million in 1993. This represents increases of 13% or $10 million in 1994 and
8% or $5 million in 1993. These increases are due to higher sales of
nonregulated equipment, such as single-line telephones, large private branch
equipment, voice messaging services and maintenance agreements.
Other operating revenues were $32 million and $41 million in 1994 and 1993,
respectively. This represents a decrease of 22% or $9 million in 1994 compared
to an increase of 14% or $5 million in 1993. The 1994 decrease is primarily due
to higher provisions for uncollectible accounts and lower regulated rental
revenues. The 1993 increase was primarily due to lower provisioning for the
Texas rate case reserve in 1993 compared to 1992, partially offset by increased
operator service and regulated rental revenues. The Texas rate case reserve
represents the results of the Texas Court of Appeals' decision concerning the
1989 Texas rate order (see Note 12 to the financial statements included in Item
8).
OPERATING EXPENSES
Cost of sales and services were $342 million and $281 million for 1994 and 1993,
respectively. This represents increases of 22% or $61 million in 1994 and 11% or
$27 million in 1993. The 1994 increase is primarily the result of costs
associated with the previously mentioned Texas PASP, increased installation and
maintenance expenses and an increase in materials expense. The 1993 increase
reflected costs associated with the adoption of SFAS No. 106 effective January
1, 1993. As a result of the adoption of the new standard, expenses increased $24
million in 1993.
Depreciation and amortization expense was $272 million in 1994 compared to $254
million in 1993, reflecting increases of 7% or $18 million in 1994 and 1% or $4
million in 1993. The 1994 increase is primarily the result of an increase in the
composite annual depreciation rate. The 1993 increase was primarily due to
higher depreciation rates in several jurisdictions as well as increased plant
balances.
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<PAGE> 11
Expenses for marketing, selling, general and administrative costs were $382
million in 1994 and $398 million in 1993. The 1993 expense included a one-time
charge of $9 million associated with the enhanced early retirement and voluntary
separation programs offered to eligible employees. Excluding this charge,
marketing, selling, general and administrative costs decreased 2% or $7 million
in 1994 compared to an increase of 3% or $10 million in 1993. The 1994 decrease
is primarily the result of a decrease in data processing costs. The 1993
increase reflected costs of $15 million associated with the adoption of SFAS No.
106 in addition to higher data processing costs due to system conversions. These
increases were partially offset by lower advertising expenses and lower
franchise taxes.
OTHER (INCOME) DEDUCTIONS
Interest expense was $56 million in 1994 and $74 million in 1993, reflecting
decreases of 24% or $18 million in 1994 and 3% or $2 million in 1993. These
decreases are primarily the result of lower average interest rates obtained
through the high-coupon debt refinancing in November 1993.
The $22 million pretax gain on disposition of assets represents the combined
excess of cash proceeds over book value of assets and liabilities sold to
Eaglenet, Inc. on May 1, 1994 and to Pioneer Telephone Cooperative, Inc. on
November 30, 1994 (see Note 3 to the financial statements included in Item 8).
Income tax expense was $60 million in 1994, compared to an income tax benefit of
$31 million for 1993. This represents an increase of $91 million in 1994
compared to a decrease of $103 million in 1993. The increase in 1994 is
primarily due to increases in pretax income and favorable adjustments made in
1993 to prior years' tax liabilities. The decrease in 1993 was primarily due to
decreases in pretax income and adjustments to prior years' tax liabilities.
CAPITAL RESOURCES AND LIQUIDITY
Management believes 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 through the issuance of short-term or long-term debt. Short-term
borrowings can be obtained through commercial paper borrowings or borrowings
from the parent, GTE. In addition, a $2.8 billion line of credit is available to
the Company through shared lines of credit with GTE and other affiliates to
support short-term financing needs.
The Company's primary source of funds during 1994 and 1993 was cash flows from
operations of $350 million and $469 million, respectively. The decrease is
primarily the result of an increase in customer receivables and unfavorable
timing of tax payments, partially offset by an increase in customer and
affiliate payables.
Capital expenditures represent the largest use of funds during 1994, reflecting
the Company's continued growth in access lines and modernization of current
facilities and provisioning of new products and services. The Company's capital
expenditures during 1994 were $302 million compared to $301 million during 1993.
These expenditures are partially offset in 1994 by the $68 million received in
the sale of certain non-strategic properties (see Note 3 to the Financial
Statements). The Company's anticipated construction
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<PAGE> 12
costs for 1995 are expected to increase slightly from the 1994 level, reflecting
continued modernization of facilities and anticipated growth.
Cash used in financing activities was $112 million in 1994 compared to $173
million in 1993. This included dividend payments of $93 million in 1994 compared
to $157 million in 1993. The decrease reflects timing differences in the payment
of dividends in 1994 compared to 1993. External financing included net
short-term borrowings of $19 million in 1994, compared to $22 million in 1993.
The Company retired $38 million of long-term debt and preferred stock in 1994
compared to $13 million in 1993.
In November 1993, the Company called $501 million of high-coupon first mortgage
bonds with varying maturities. These bonds had coupons ranging from 7.875% to
11.75%. In December 1993, the Company issued $250 million of 5.82% debentures
due 1999 and $250 million of 6.54% debentures due 2005 to refinance these bonds.
The expense of calling these bonds is reflected as an extraordinary after-tax
charge of $31 million in the Statements of Income.
REGULATORY AND COMPETITIVE TRENDS
REGULATORY DEVELOPMENTS
Fundamental changes continue to significantly impact the telecommunications
industry. During 1994, telecommunications legislation that would have changed
the way the industry does business passed the House of Representatives, but was
subsequently withdrawn from consideration. Telecommunications legislation has
been introduced again in 1995.
Federal and state regulatory activity directed toward changing the traditional
cost-based rate of return regulatory framework for intrastate and interstate
telephone services has also continued. Regulatory authorities have adopted
various alternative forms of regulation, which provide economic incentives to
telephone service providers to improve productivity and provide the foundation
for implementing pricing flexibility necessary to address competitive entry into
the markets the Company serves.
During 1992-1994, the FCC took a number of steps to increase competition for
local exchange carrier (LEC) access services. These steps, known as Expanded
Interconnection requirements, allow competing communications carriers to
interconnect to the local exchange network for the purpose of providing switched
access transport services and private line services. Expanded Interconnection
requires LECs to permit competitors to connect directly to LEC central offices
and the LEC network under negotiated terms and conditions. Competitors are
thereby able to compete more effectively than previously to replace LEC services
between large users and interexchange carriers (IXCs), or between large users
and the LEC switch. The FCC accompanied its Expanded Interconnection mandate
with a slight relaxation of the rigid pricing rules that govern how LECs price
their access services. In 1994, the FCC also reaffirmed the switched access rate
structure changes adopted in 1993 that allow LECs to better reflect the actual
cost characteristics of transport services and improve the LEC's ability to
compete with alternative access providers.
Further information regarding the Company's activities with the various
regulatory agencies is discussed in Note 12 of the Company's financial
statements included in Item 8.
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<PAGE> 13
COMPETITION
Recent judicial and regulatory developments, as well as the pace of
technological change, have continued to influence industry trends, including
accelerating and expanding the level of competition. As a result, the Company's
operations face increasing competition in virtually all aspects of its business.
Today, the Company is subject to competition from numerous sources, including
competitive access providers for network access services, specialized
communications companies that have constructed new systems in certain markets to
bypass the local exchange network and cellular telephone companies. Competition
from IXCs, wireless and cable TV companies, as well as more recent entry by
media and computer companies, is expected to increase in the rapidly changing
telecommunications marketplace.
In late 1994, the FCC began to auction new licenses for radio spectrum in 51
major markets and 492 basic trading areas across the United States to encourage
the development of a new generation of wireless voice, data and messaging
services which are generally referred to as broadband Personal Communications
Services (PCS). PCS will compete with the Company's traditional wireline
services.
The Company supports greater competition in telecommunications provided that,
overall, the actions to eliminate existing legal and regulatory barriers allow
an opportunity for all service providers to participate equally in a competitive
marketplace under comparable conditions.
INITIATIVES
The increasingly competitive environment provides the Company with both
challenges and opportunities. In order to respond aggressively to these
competitive developments and benefit from the new opportunities, the Company has
embarked on a series of initiatives.
One such initiative involves the implementation of the Company's $172 million
re-engineering plan. During 1994, the initial year of the three-year plan, $37
million was expended as significant progress was made in implementing this
program. These expenditures were primarily associated with the consolidation of
customer contact, network operations and operator service centers, separation
benefits associated with employee reductions and incremental expenditures to
redesign and streamline systems and processes. During 1995, the level of
re-engineering activities and related expenditures are expected to accelerate as
pilot programs are rolled out and other major initiatives are completed.
Continued implementation of this program will position the Company to accelerate
delivery of a full array of voice, video and data services and to reach its
stated objective of being the easiest company to do business with in the
industry.
In 1992, the FCC issued a "video dialtone" ruling that allows telephone
companies to transmit video signals over their networks. The FCC also
recommended that Congress amend the Cable Act of 1984 to permit telephone
companies to supply video programming in their service areas. On January 13,
1995, the United States District Court for the Eastern District of Virginia
issued an injunction declaring that GTE has the right to provide video
programming to its in-franchise customers. The court's decision means that GTE
is now permitted to offer video programming over its own video dialtone
networks, as well as to compete as a franchised cable operator in the Company's
telephone territories.
-11-
<PAGE> 14
During 1994, GTE unveiled its World Class Network in eight key markets,
including Dallas, Texas, to provide advanced communications for business
customers. This program includes sophisticated high-speed, digital fiber optic
rings, a high-capacity switching network (known as SONET), and a new centralized
operations center that monitors the entire network. These SONET rings are an
integral part of the high-speed information network that enables GTE to provide
advanced services such as high-speed data transmission and video conferencing.
These and other actions to eliminate the existing legal and regulatory barriers,
together with rapid advances in technology, are facilitating a convergence of
the computer, media and telecommunications industries. In addition to allowing
new forms of competition, these developments are also creating new opportunities
to develop interactive communications networks. The Company intends to continue
to respond aggressively to regulatory and legal developments that allow for
increased competition and opportunities in the marketplace. The Company expects
its financial results to benefit from reduced costs and the introduction of new
products and services that will result in increased usage of its networks.
However, it is likely that such improvements will be offset, in part, by
continued strategic pricing reductions and the effects of increased competition.
REGULATORY ACCOUNTING
The Company follows the accounting for regulated enterprises prescribed by SFAS
No. 71, "Accounting for the Effects of Certain Types of Regulation." In general,
SFAS No. 71 requires companies to depreciate plant and equipment over lives
approved by regulators which may extend beyond the assets' actual economic and
technological lives. SFAS No. 71 also requires deferral of certain costs and
obligations based upon approvals received from regulators to permit recovery in
the future. Consequently, the recorded net book value of certain assets and
liabilities, primarily telephone plant and equipment, may be greater than that
which would otherwise be recorded by unregulated enterprises. On an ongoing
basis, the Company reviews the continued applicability of SFAS No. 71 based on
the current regulatory and competitive environment. Although recent developments
suggest that the telecommunications industry will become increasingly
competitive, the degree to which regulatory oversight of LECs, including the
Company, will be lifted and competition will be permitted to establish the cost
of service to the consumer is uncertain. As a result, the Company continues to
believe that accounting under SFAS No. 71 is appropriate. If the Company were to
determine that the use of SFAS No. 71 was no longer appropriate, it would be
required to write-off the deferred costs and obligations referred to above. It
may also be necessary for the Company to reduce the carrying value of its plant
and equipment to the extent that it exceeds fair market value. At this time, it
is not possible to estimate the amount of the Company's plant and equipment, if
any, that would be considered unrecoverable in such circumstances. The financial
impact of such a determination, however, which would be non-cash, could be
material.
INFLATION
The Company's management generally does not believe inflation has a significant
impact on the Company's earnings. However, increases in costs or expenses not
otherwise offset by increases in revenues could have an adverse effect on
earnings.
-12-
<PAGE> 15
Item 8. Financial Statements and Supplementary Data
STATEMENTS OF INCOME
GTE Southwest Incorporated
<TABLE>
<CAPTION>
Years ended December 31 1994 1993 1992
----------------------- ---------- ---------- -------
(Thousands of Dollars)
<S> <C> <C> <C>
OPERATING REVENUES (a):
Local network services $ 451,406 $ 421,004 $ 391,601
Network access services 447,481 438,046 482,636
Long distance services 198,227 189,954 204,708
Equipment sales and services 81,735 72,394 67,125
Other 31,771 40,967 35,715
---------- ---------- ----------
1,210,620 1,162,365 1,181,785
---------- ---------- ----------
OPERATING EXPENSES (b):
Cost of sales and services 341,746 280,841 253,601
Depreciation and amortization 272,294 254,457 250,799
Marketing, selling, general and
administrative 382,358 398,056 378,719
Restructuring costs -- 171,954 --
---------- ---------- ----------
996,398 1,105,308 883,119
---------- ---------- ----------
NET OPERATING INCOME 214,222 57,057 298,666
---------- ---------- ----------
OTHER (INCOME) DEDUCTIONS:
Interest expense 56,499 73,874 76,177
Gain on disposition of assets (21,921) -- --
Other - net (4,096) 1,635 2,390
---------- ---------- ----------
INCOME (LOSS) BEFORE INCOME TAXES 183,740 (18,452) 220,099
---------- ---------- ----------
INCOME TAX PROVISION (BENEFIT) 60,354 (30,661) 72,720
---------- ---------- ----------
INCOME BEFORE EXTRAORDINARY CHARGE 123,386 12,209 147,379
EXTRAORDINARY CHARGE - EARLY RETIREMENT OF
DEBT (NET OF INCOME TAXES OF $16,098) -- 31,250 --
---------- ---------- ----------
NET INCOME (LOSS) $ 123,386 $ (19,041) $ 147,379
========== ========== ==========
</TABLE>
(a) Includes billings to affiliates of $35,658, $37,803 and $47,492 for the
years 1994-1992, respectively.
(b) Includes billings from affiliates of $78,423, $71,165 and $59,233 for the
years 1994-1992, respectively.
STATEMENTS OF REINVESTED EARNINGS
<TABLE>
<CAPTION>
Years ended December 31 1994 1993 1992
----------------------- ---------- ---------- -------
(Thousands of Dollars)
<S> <C> <C> <C>
BALANCE AT BEGINNING OF YEAR $ 382,867 $ 480,865 $ 479,057
ADD -
Net income (loss) 123,386 (19,041) 147,379
DEDUCT -
Cash dividends declared on common stock 142,804 77,548 143,983
Cash dividends declared on
preferred stock 1,258 1,409 1,588
---------- ---------- ----------
BALANCE AT END OF YEAR $ 362,191 $ 382,867 $ 480,865
========== ========== ==========
</TABLE>
See Notes to Financial Statements.
-13-
<PAGE> 16
BALANCE SHEETS
GTE Southwest Incorporated
<TABLE>
<CAPTION>
December 31 1994 1993
----------- ----------- -----------
(Thousands of Dollars)
<S> <C> <C>
ASSETS
CURRENT ASSETS:
Cash $ 9,333 $ 2,888
Accounts receivable
Customers (including unbilled revenues) 191,791 135,548
Affiliated companies 9,485 15,748
Other 17,766 33,744
Allowance for uncollectible accounts (17,215) (18,144)
Materials and supplies 18,449 24,426
Deferred income tax benefits 21,444 29,915
Prepayments and other 17,141 3,378
----------- -----------
268,194 227,503
----------- -----------
PROPERTY, PLANT AND EQUIPMENT:
Original cost 4,017,714 4,117,433
Accumulated depreciation (1,521,434) (1,610,208)
----------- -----------
2,496,280 2,507,225
----------- -----------
OTHER ASSETS 67,061 54,392
----------- -----------
TOTAL ASSETS $ 2,831,535 $ 2,789,120
=========== ===========
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Short-term debt $ 66,595 $ 47,800
Current maturities of long-term debt 108 6,165
Accounts payable 102,783 72,358
Affiliate payables and accruals 30,369 18,573
Advanced billings and customer deposits 27,794 30,435
Accrued taxes 27,361 31,463
Accrued interest 5,448 6,311
Accrued payroll and vacations 37,068 43,830
Accrued dividends 51,374 262
Reserves for rate refunds 117,660 98,362
Accrued restructuring costs and other 77,898 95,756
----------- -----------
544,458 451,315
----------- -----------
LONG-TERM DEBT 673,346 703,137
----------- -----------
DEFERRED CREDITS:
Deferred income taxes 375,388 386,875
Employee benefit obligations 76,638 54,456
Restructuring costs and other 136,584 145,600
----------- -----------
588,610 586,931
----------- -----------
PREFERRED STOCK, SUBJECT TO MANDATORY REDEMPTION 10,330 12,270
----------- -----------
SHAREHOLDERS' EQUITY:
Preferred stock 7,600 7,600
Common stock (6,450,000 shares outstanding) 645,000 645,000
Reinvested earnings 362,191 382,867
----------- -----------
1,014,791 1,035,467
----------- -----------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 2,831,535 $ 2,789,120
=========== ===========
</TABLE>
See Notes to Financial Statements.
-14-
<PAGE> 17
STATEMENTS OF CASH FLOWS
GTE Southwest Incorporated
<TABLE>
<CAPTION>
Years ended December 31 1994 1993 1992
----------------------- ---------- ---------- ----------
(Thousands of Dollars)
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Income before extraordinary charge $ 123,386 $ 12,209 $ 147,379
Adjustments to reconcile income
before extraordinary charge to net
cash from operating activities:
Depreciation and amortization 272,294 254,457 250,799
Restructuring costs -- 171,954 --
Deferred income taxes and investment
tax credits (5,626) (94,084) 3,778
Gain on disposition of assets, net
of tax (14,664) -- --
Provision for uncollectible accounts 25,567 21,424 16,949
Change in current assets and current
liabilities (64,106) 61,055 (1,986)
Other - net 13,398 41,588 (13,247)
---------- ---------- ----------
Net cash from operating activities 350,249 468,603 403,672
---------- ---------- ----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures (301,951) (300,616) (293,117)
Proceeds from sale of assets 67,750 -- --
Other - net 2,562 4,788 1,877
---------- ---------- ----------
Net cash used in investing activities (231,639) (295,828) (291,240)
---------- ---------- ----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Long-term debt issued -- 496,666 --
Early retirement of debt and related
call premium -- (521,578) --
Long-term debt and preferred
stock retired (38,010) (12,565) (60,774)
Dividends paid to shareholders (92,950) (157,177) (81,591)
Increase in short-term debt 18,795 21,800 26,000
---------- ---------- ----------
Net cash used in financing activities (112,165) (172,854) (116,365)
----------- ---------- ----------
INCREASE (DECREASE) IN CASH 6,445 (79) (3,933)
CASH:
Beginning of year 2,888 2,967 6,900
---------- ---------- ----------
End of year $ 9,333 $ 2,888 $ 2,967
========== ========== ==========
</TABLE>
See Notes to Financial Statements.
-15-
<PAGE> 18
NOTES TO FINANCIAL STATEMENTS
GTE Southwest Incorporated
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
GTE Southwest Incorporated (the Company) is a wholly-owned subsidiary of GTE
Corporation (GTE).
TRANSACTIONS WITH AFFILIATES
Certain affiliated companies supply construction and maintenance equipment and
supplies to the Company. These purchases amounted to $80.3 million, $108.0
million and $122.1 million for the years 1994-1992, respectively. Such purchases
are recorded in the accounts of the Company at cost which includes a normal
return realized by the affiliates.
The Company is billed for certain printing and other costs associated with
telephone directories, data processing services and equipment rentals, and
receives management, consulting, research and development and pension management
services from other affiliated companies. These charges amounted to $78.4
million, $71.2 million and $59.2 million for the years 1994-1992, respectively.
The amounts charged for these affiliated transactions are based on a
proportional cost allocation method.
The Company has an agreement with GTE Directories Corporation (Directories)
(100% owned by GTE), whereby the Company provides its subscriber lists, billing
and collection and other services to Directories. Revenues from these activities
amounted to $35.7 million, $37.8 million and $47.5 million for the years
1994-1992, respectively.
TELEPHONE PLANT
Maintenance and repairs are charged to income as incurred. Additions to,
replacements and renewals of property are charged to telephone plant accounts.
Property retirements are charged in total to the accumulated depreciation
account. No adjustment to depreciation is made at the time properties are
retired or otherwise disposed of, except in the case of significant sales of
property where profit or loss is recognized.
The Company provides for depreciation on telephone plant on a straight-line
basis over asset lives approved by regulators. Depreciation is based upon rates
prescribed by the Federal Communications Commission (FCC) and the state
regulatory commissions. The provisions for depreciation and amortization were
equivalent to composite annual rates of 6.8%, 6.4% and 6.6% for the years
1994-1992, respectively.
REGULATORY ACCOUNTING
The Company follows the accounting prescribed by the Uniform System of Accounts
of the FCC and the regulatory commissions in each of the Company's operating
jurisdictions and Statement of Financial Accounting Standards (SFAS) No. 71,
"Accounting for the Effects of Certain Types of Regulation." This accounting
recognizes the economic effects of rate regulation by recording costs and a
return on investment as such amounts are recovered through rates authorized by
regulatory authorities. Accordingly, SFAS No. 71 requires
-16-
<PAGE> 19
companies to depreciate plant and equipment over lives approved by regulators.
It also requires deferral of certain costs and obligations based upon approvals
received from regulators to permit recovery of such amounts in future years. The
Company annually reviews the continued applicability of SFAS No. 71 based upon
the current regulatory and competitive environment.
REVENUE RECOGNITION
Revenues are recognized when earned. This is generally based on usage of the
Company's local exchange networks or facilities. For other products and
services, revenue is recognized when services are rendered or products are
delivered to customers.
MATERIALS AND SUPPLIES
Materials and supplies are stated at the lower of cost (average cost) or market
value.
EMPLOYEE BENEFIT PLANS
Effective January 1, 1993, the Company adopted SFAS No. 106, "Employers'
Accounting for Postretirement Benefits Other Than Pensions." The new standard
requires that the expected costs of postretirement benefits be charged to
expense during the years that the employees render service. The Company elected
to adopt this new accounting standard on the delayed recognition method and
commencing January 1, 1993, began amortizing the estimated unrecorded
accumulated postretirement benefit obligation over twenty years. Prior to the
adoption of SFAS No. 106, the cost of these benefits was charged to expense as
paid.
The Company adopted SFAS No. 112, "Employers' Accounting for Postemployment
Benefits," effective January 1, 1993. SFAS No. 112 requires employers to accrue
the future cost of benefits provided to former or inactive employees and their
dependents after employment but before retirement. Previously, the cost of these
benefits was charged to expense as paid. The impact of this change in accounting
on the Company's results of operations was immaterial.
INCOME TAXES
Income tax expense is based on reported earnings before income taxes. Deferred
income taxes are established for all temporary differences between the amount of
assets and liabilities recognized for financial reporting purposes and for tax
purposes.
As further explained in Note 8, during the fourth quarter of 1992, the Company
adopted SFAS No. 109, "Accounting for Income Taxes," retroactive to January 1,
1992. SFAS No. 109 changed the method by which companies account for income
taxes. Among other things, the Statement requires that deferred tax balances be
adjusted to reflect new tax rates when they are enacted into law. The impact of
this change in accounting on the Company's results of operations was immaterial.
Investment tax credits were repealed by the Tax Reform Act of 1986 (the Act).
Those credits claimed prior to the Act were deferred and are being amortized
over the lives of the properties giving rise to the credits.
-17-
<PAGE> 20
FINANCIAL INSTRUMENTS
The fair values of financial instruments, other than long-term debt, closely
approximate their carrying value. As of December 31, 1994, the estimated fair
value of long-term debt based on either quoted market prices or an option
pricing model was lower than the carrying value by approximately $67 million.
The estimated fair value of long-term debt as of December 31, 1993, exceeded the
carrying value by approximately $17 million.
COMPUTER SOFTWARE
The cost of computer software for internal use, except initial operating system
software, is charged to expense as incurred. Initial operating system software
is capitalized and amortized over the life of the related hardware.
PRIOR YEARS' FINANCIAL STATEMENTS
Reclassifications of prior year data have been made in the financial statements
where appropriate to conform to the 1994 presentation.
-18-
<PAGE> 21
2. RESTRUCTURING COSTS
Results for 1993 included a one-time pretax restructuring charge of $172.0
million, which reduced net income by $105.9 million, primarily for incremental
costs related to implementation of the Company's three-year re-engineering plan.
The re-engineering plan will redesign and streamline processes to improve
customer-responsiveness and product quality, reduce the time necessary to
introduce new products and services and further reduce costs. The re-engineering
plan included $68.8 million to upgrade or replace existing customer service and
administrative systems and enhance network software, $77.8 million for employee
separation benefits associated with workforce reductions and $21.0 million
primarily for the consolidation of facilities and operations and other related
costs.
Implementation of the re-engineering plan began during 1994 and is expected to
be completed by the end of 1996. During 1994, expenditures of $37.4 million were
made in connection with the implementation of the re-engineering plan. These
expenditures were primarily associated with the consolidation of customer
contact, network operations and operator service centers, separation benefits
from employee reductions and incremental expenditures to redesign and streamline
processes. The level of re-engineering activities and related expenditures are
expected to accelerate in 1995.
During 1993, the Company offered various voluntary separation programs to its
employees. These programs resulted in a pretax charge of $9.2 million which
reduced net income by $6.4 million.
3. PROPERTY REPOSITIONING
On May 1, 1994, the Company sold a portion of its telephone plant-in-service,
materials and supplies and customers (representing 12,798 access lines) in the
state of Oklahoma to Eaglenet, Inc. for $41.0 million in cash. This represents
less than 1% of the Company's access lines. A pretax gain of $9.3 million was
recorded on the sale. The proceeds from this transaction were used primarily to
pay down long-term debt.
On November 30, 1994 the Company sold a portion of its telephone
plant-in-service, materials and supplies and customers (representing 8,898
access lines) in the state of Oklahoma to Pioneer Telephone Cooperative, Inc.
for $26.8 million in cash. The property sold represents less than 1% of the
Company's access lines. A pretax gain of $12.6 million was recorded on the sale.
The proceeds from this transaction were used primarily to pay down short-term
commercial paper borrowings.
-19-
<PAGE> 22
4. PREFERRED STOCK
The authorized cumulative preferred stock, not subject to mandatory redemption,
consists of 2,060,758 shares. Shares outstanding at December 31, 1994 and 1993
are as follows:
<TABLE>
<CAPTION>
Shares Amount*
--------- --------
<S> <C> <C>
OUTSTANDING
$2.20 no par value 32,000 $ 1,600
5.10% $20 par value 300,000 6,000
--------- --------
Total 332,000 $ 7,600
--------- --------
</TABLE>
Cumulative preferred stock, subject to mandatory redemption, is as follows:
<TABLE>
<CAPTION>
December 31 1994 1993
----------- -------------------- -----------------------------
AUTHORIZED Shares Shares
--------- ---------
<S> <C> <C>
4.60% $20 par value 350,000 350,000
$8.10 no par value 300,000 300,000
--------- ---------
650,000 650,000
--------- ---------
<CAPTION>
OUTSTANDING Shares Amount* Shares Amount*
--------- -------- --------- --------
<S> <C> <C> <C> <C>
4.60% $20 par value 96,500 $ 1,930 103,500 $ 2,070
$8.10 no par value 84,000 8,400 102,000 10,200
--------- -------- --------- --------
Total 180,500 $ 10,330 205,500 $ 12,270
--------- -------- --------- --------
</TABLE>
* Thousands of Dollars
The 4.60% Series sinking fund provisions require the Company to redeem 7,000
shares at $20 per share on April 1 of each year. This requirement was met in
1994 and 1993 with the purchase of 7,000 shares per year.
The $8.10 Series sinking fund provisions require the redemption of 9,000 shares
at $100 per share on November 1 of each year. The Company redeemed 18,000 shares
in each of the years 1993 and 1994 to meet this requirement.
The preferred shareholders are entitled to voting rights (on an equal basis with
the common shareholder) in the event dividends in arrears equal or exceed the
annual dividends on all preferred stock. Otherwise, the preferred shareholders
have no voting rights. The Company is not in arrears in its dividend payments at
December 31, 1994.
The aggregate redemption requirements of preferred stock subject to mandatory
redemption are $1 million in each of the years 1995-1999.
No shares of preferred stock were held by or for the account of the Company and
no shares were reserved for officers and employees, or for options, warrants,
conversions or other rights.
-20-
<PAGE> 23
5. COMMON STOCK
The authorized common stock of the Company consists of 6,450,000 shares with a
stated value of $100 per share. All outstanding shares of common stock are held
by GTE.
There were no shares of common stock held by or for the account of the Company
and no shares were reserved for officers and employees, or for options,
warrants, conversions or other rights.
At December 31, 1994, $1.6 million of reinvested earnings was restricted as to
the payment of cash dividends on common stock under the terms of the Company's
Certificate of Incorporation.
6. LONG-TERM DEBT
Long-term debt outstanding, exclusive of current maturities, is as follows:
<TABLE>
<CAPTION>
December 31 1994 1993
----------- ----------- -------
(Thousands of Dollars)
<S> <C> <C>
FIRST MORTGAGE BONDS:
5 3/8 % Series, due 1996 $ 9,000 $ 9,000
6 7/8 % Series, due 1998 25,000 25,000
7 1/2 % Series, due 2002 40,000 40,000
7 3/4 % Series, due 2003 -- 30,000
8 1/2 % Series, due 2031 100,000 100,000
DEBENTURES:
5.82 % Series A, due 1999 250,000 250,000
6.54 % Series B, due 2005 250,000 250,000
----------- -----------
674,000 704,000
OTHER 146 159
----------- -----------
Total principal amount 674,146 704,159
DISCOUNT (800) (1,022)
----------- -----------
Total long-term debt $ 673,346 $ 703,137
=========== ===========
</TABLE>
In November 1993, the Company called $501 million of high-coupon first mortgage
bonds with proceeds from commercial paper borrowings. These bonds had coupons
ranging from 7.875% to 11.75%. In December 1993, the Company issued $250 million
of 5.82% Debentures, due 1999 and $250 million of 6.54% Debentures, due 2005 to
refinance these bonds. The cost of calling these bonds is reflected as an
extraordinary after-tax charge of $31.3 million in the Statements of Income.
During 1994, the Company called $30 million of 7 3/4% First Mortgage Bonds with
proceeds from the sale of non-strategic properties.
The aggregate principal amount of bonds and debentures that may be issued is
subject to the restrictions and provisions of the Company's indentures.
None of the securities shown above were held in sinking or other special funds
of the Company or pledged by the Company.
Debt discount on the Company's outstanding long-term debt is amortized over the
lives of the respective issues.
-21-
<PAGE> 24
Maturities, installments and sinking fund requirements for the five-year period
from January 1, 1995 are summarized below (in thousands of dollars):
<TABLE>
<S> <C>
1995 $ 108
1996 9,141
1997 5
1998 25,000
1999 250,000
</TABLE>
Substantially all of the Company's telephone plant is subject to the liens of
the indentures under which the bonds listed above were issued.
7. SHORT-TERM DEBT
The Company finances part of its construction program through the use of interim
short-term loans, primarily commercial paper, which are generally refinanced at
a later date by issues of long-term debt or equity. Information relating to
short-term borrowings is as follows:
<TABLE>
<CAPTION>
1994 1993 1992
--------- --------- ---------
(Thousands of Dollars)
<S> <C> <C> <C>
DURING THE YEAR -
Commercial paper -
Maximum month-end balance $ 78,000 $590,100 $ 39,600
Average monthly balance $ 55,193 $113,514 $ 20,923
Weighted average interest rate 4.37% 3.12% 3.52%
AT DECEMBER 31 -
Balance outstanding -
Commercial paper $ 66,595 $ 47,800 $ 26,000
Average interest rate 5.93% 3.20% 3.45%
</TABLE>
A $2.8 billion credit line is available to the Company through shared lines of
credit with GTE and other affiliates. Most of these arrangements require payment
of annual commitment fees of .1% of the unused lines of credit.
-22-
<PAGE> 25
8. INCOME TAXES
The provision (benefit) for income taxes is as follows:
<TABLE>
<CAPTION>
1994 1993 1992
------------- ------------- -------------
(Thousands of Dollars)
<S> <C> <C> <C>
CURRENT
Federal $ 60,426 $ 61,821 $ 67,002
State 5,554 1,602 1,940
------------- ------------- -------------
Total 65,980 63,423 68,942
------------- ------------- -------------
DEFERRED
Federal 5,992 (84,410) 11,105
State (4,159) (1,078) 204
------------- ------------- -------------
Total 1,833 (85,488) 11,309
------------- ------------- -------------
AMORTIZATION OF DEFERRED
INVESTMENT TAX CREDITS (7,459) (8,596) (7,531)
------------- ------------- -------------
Total $ 60,354 $ (30,661) $ 72,720
============= ============= =============
</TABLE>
The components of deferred income tax provision (benefit) are as follows:
<TABLE>
<CAPTION>
1994 1993 1992
------------- ------------- -------------
(Thousands of Dollars)
<S> <C> <C> <C>
Depreciation and
amortization $ (5,550) $ 1,016 $ (1,489)
Employee benefit
obligations (3,489) (23,019) (608)
Prepaid pension costs 4,703 5,203 3,716
Restructuring costs 16,604 (64,370) --
Other - net (10,435) (4,318) 9,690
------------- ------------- -------------
Total $ 1,833 $ (85,488) $ 11,309
============= ============= =============
</TABLE>
A reconciliation between taxes computed by applying the statutory federal income
tax rate to pretax income and income taxes provided in the Statements of Income
is as follows:
<TABLE>
<CAPTION>
1994 1993 1992
------------- ------------- -------------
(Thousands of Dollars)
<S> <C> <C> <C>
AMOUNTS COMPUTED AT STATUTORY
RATES $ 64,309 $ (6,458) $ 74,834
State income taxes,
net of federal
income tax benefits 907 341 1,415
Amortization of deferred
investment tax credits (7,459) (8,596) (7,531)
Depreciation of telephone
plant construction costs
previously deducted for
tax purposes - net 2,217 3,124 4,102
Rate differentials applied
to reversing temporary
differences (2,910) (4,221) (4,797)
Other differences,
including settlements of
prior year tax issues 3,290 (14,851) 4,697
------------- ------------- -------------
TOTAL PROVISION (BENEFIT) $ 60,354 $ (30,661) $ 72,720
============= ============= =============
</TABLE>
-23-
<PAGE> 26
As a result of implementing SFAS No. 109, the Company recorded additional
deferred income tax liabilities primarily related to temporary differences which
had not previously been recognized in accordance with established rate-making
practices. Since the manner in which income taxes are treated for rate-making
has not changed, pursuant to SFAS No. 71 a corresponding regulatory asset was
also established. In addition, deferred income taxes were adjusted and a
regulatory liability established to give effect to the current statutory federal
income tax rate and for unamortized investment tax credits. The unamortized
regulatory asset and regulatory liability balances at December 31, 1994 amounted
to $0.7 million and $41.9 million, respectively, and the unamortized regulatory
asset and regulatory liability balances at December 31, 1993 amounted to $1.1
million and $45.5 million, respectively. The regulatory assets and liabilities
are reflected as other assets and other deferred credits, respectively, in the
accompanying Balance Sheets. These amounts are being amortized over the lives of
the related depreciable assets concurrent with recovery in rates and in
conformance with the provisions of the Internal Revenue Code. The assets and
liabilities established in accordance with SFAS No. 71 have been increased for
the tax effect of future revenue requirements.
The tax effects of all temporary differences that give rise to the deferred tax
liability and deferred tax asset at December 31 are as follows:
<TABLE>
<CAPTION>
1994 1993
--------- ---------
(Thousands of Dollars)
<S> <C> <C>
Depreciation and amortization $ 390,960 $ 393,898
Employee benefit obligations (34,863) (31,374)
Prepaid pension costs 15,977 11,274
Restructuring costs (47,766) (64,370)
Investment tax credits 28,582 36,041
Other - net 1,054 11,491
--------- ---------
Total $ 353,944 $ 356,960
========= =========
</TABLE>
-24-
<PAGE> 27
9. EMPLOYEE BENEFIT PLANS
RETIREMENT PLANS
The Company has trusteed, noncontributory, defined benefit pension plans
covering substantially all employees. The benefits to be paid under these plans
are generally based on years of credited service and average final earnings. The
Company's funding policy, subject to the minimum funding requirements of U.S.
employee benefit and tax laws, is to contribute such amounts as are determined
on an actuarial basis to provide the plans with assets sufficient to meet the
benefit obligations of the plans. The assets of the plans consist primarily of
corporate equities, government securities and corporate debt securities.
The components of the net pension credit for 1994-1992 were as follows (in
thousands of dollars):
<TABLE>
<CAPTION>
1994 1993 1992
--------- --------- ---------
<S> <C> <C> <C>
Benefits earned during the year $ 18,015 $ 19,768 $ 17,513
Interest cost on projected benefit
obligations 36,136 40,662 36,128
Return on plan assets:
Actual 1,716 (123,030) (41,371)
Deferred (64,488) 59,972 (13,161)
Other - net (10,107) (12,956) (10,538)
--------- --------- ---------
Net pension credit $ (18,728) $ (15,584) $ (11,429)
========= ========= =========
</TABLE>
The expected long-term rate of return on plan assets was 8.5% for 1994 and 8.25%
for 1993 and 1992.
The funded status of the plans and the prepaid pension costs at December 31,
1994 and 1993 were as follows (in thousands of dollars):
<TABLE>
<CAPTION>
1994 1993
--------- ---------
<S> <C> <C>
Plan assets at fair value $ 770,214 $ 807,283
Projected benefit obligations 461,951 490,554
--------- ---------
Excess of assets over projected
benefit obligations 308,263 316,729
Unrecognized net transition asset (55,748) (62,698)
Unrecognized net gain (210,645) (226,014)
--------- ---------
Prepaid pension costs $ 41,870 $ 28,017
========= =========
</TABLE>
The projected benefit obligations at December 31, 1994 and 1993 include
accumulated benefit obligations of $349.6 million and $375.0 million and vested
benefit obligations of $300.6 million and $331.2 million, respectively.
Assumptions used to develop the projected benefit obligations at December 31,
1994 and 1993 were as follows:
<TABLE>
<CAPTION>
1994 1993
---- ----
<S> <C> <C>
Discount rate 8.25% 7.50%
Rate of compensation increase 5.50% 5.25%
</TABLE>
-25-
<PAGE> 28
POSTRETIREMENT BENEFITS OTHER THAN PENSIONS
As described in Note 1, effective January 1, 1993, the Company adopted SFAS No.
106, "Employers' Accounting for Postretirement Benefits Other Than Pensions."
Substantially all of the Company's employees are covered under postretirement
health care and life insurance benefit plans. The health care benefits paid
under the plans are generally based on comprehensive hospital, medical and
surgical benefit provisions. The Company funds amounts for postretirement
benefits as deemed appropriate from time to time.
The postretirement benefit cost for 1994 and 1993 included the following
components (in thousands of dollars):
<TABLE>
<CAPTION>
1994 1993
--------- ---------
<S> <C> <C>
Benefits earned during the year $ 7,538 $ 8,724
Interest cost on accumulated postretirement
benefit obligations 23,545 25,017
Amortization of transition obligation 13,320 15,480
Other - net 18 --
--------- ---------
Postretirement benefit cost $ 44,421 $ 49,221
========= =========
</TABLE>
During 1992, the cost of postretirement health care and life insurance benefits
on a pay-as-you-go basis was $5.2 million.
The following table sets forth the plans' funded status and the accrued
obligations as of December 31, 1994 and 1993 (in thousands of dollars):
<TABLE>
<CAPTION>
1994 1993
--------- ---------
<S> <C> <C>
Accumulated postretirement benefit obligations attributable to:
Retirees $ 169,086 $ 186,362
Fully eligible active plan participants 8,709 6,393
Other active plan participants 128,157 140,463
--------- ---------
Total accumulated postretirement benefit obligations 305,952 333,218
Fair value of plan assets 2,609 1,598
--------- ---------
Excess of accumulated obligations over plan assets 303,343 331,620
Unrecognized transition obligation (240,076) (258,247)
Unrecognized net gain (loss) 10,797 (23,301)
--------- ---------
Accrued postretirement benefit obligations $ 74,064 $ 50,072
======== =========
</TABLE>
The assumed discount rates used to measure the accumulated postretirement
benefit obligations were 8.25% at December 31, 1994 and 7.5% at December 31,
1993. The assumed health care cost trend rates in 1994 and 1993 were 12% and 13%
for pre-65 participants and 9.0% and 9.5% for post-65 retirees, each rate
declining on a graduated basis to an ultimate rate in the year 2004 of 6%. A one
percentage point increase in the assumed health care cost trend rate for each
future year would have increased 1994 costs by $4.7 million and the accumulated
postretirement benefit obligations at December 31, 1994 by $39.9 million.
-26-
<PAGE> 29
During 1993, the Company made certain changes to its postretirement health care
and life insurance benefits for non-union employees retiring on or after January
1, 1995. These changes include, among others, newly established limits to the
Company's annual contribution to postretirement medical costs and a revised cost
sharing schedule based on a retiree's years of service. The net effect of these
changes reduced the accumulated postretirement benefit obligations at December
31, 1993 by $44.7 million.
SAVINGS PLANS
The Company sponsors employee savings plans under section 401(k) of the Internal
Revenue Code. The plans cover substantially all full-time employees. Under the
plans, the Company provides matching contributions in GTE common stock based on
qualified employee contributions. Matching contributions charged to income were
$4.9 million, $4.8 million and $4.8 million in 1994-1992, respectively.
10. LEASE COMMITMENTS
The Company has noncancelable leases covering certain buildings, office space
and equipment that contain renewal options for terms up to 42 years. Rental
expense was $12.9 million, $13.0 million and $14.3 million in 1994-1992,
respectively. Minimum rental commitments under noncancelable leases through 1999
do not exceed $1.5 million annually and aggregate $3.0 million thereafter.
11. PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment, which is stated at cost, is summarized as follows
at December 31:
<TABLE>
<CAPTION>
1994 1993
---------- -----------
(Thousands of Dollars)
<S> <C> <C>
Land $ 16,133 $ 16,254
Buildings 332,755 329,656
Central office equipment 1,470,221 1,391,673
Outside plant 1,835,273 2,000,910
Other 363,332 378,940
---------- ----------
Total property, plant and equipment 4,017,714 4,117,433
Accumulated depreciation (1,521,434) (1,610,208)
---------- ----------
Net property, plant and equipment $2,496,280 $2,507,225
========== ==========
</TABLE>
-27-
<PAGE> 30
12. REGULATORY MATTERS
The Company is subject to regulation by the FCC for interstate business and is
regulated by the state regulatory commissions in Arkansas, New Mexico, Oklahoma
and Texas for intrastate business.
INTRASTATE SERVICES
The Company provides long distance services within designated geographic areas
called Local Access and Transport Areas (LATAs) in conformity with state
commission orders. The Company also provides long distance access services
directly to interexchange carriers and other customers who provide services
between LATAs. The Public Utility Commission of Texas (PUC) approved a
rulemaking procedure on December 17, 1991, with an effective date of January 1,
1991, allowing the Company and other local exchange carriers (LECs) to exit the
intraLATA toll pool with transition payments from Southwestern Bell Telephone
Company to be received through 1997.
After exiting the toll pool, the Company began participating in the Texas
Pooling Alternative Settlement Plan (PASP) effective January 1, 1994. The PASP
is also known as an Originating Responsibility Plan. Under this plan, the toll
rates billed to end users for intraLATA toll calls originating in the Company's
service area are retained by the Company. The Company, in turn, pays access
charges to the telephone company hauling and terminating the call based on that
company's approved access charge tariff. Likewise, the Company will receive
access charges for terminating any intraLATA toll call that originates outside
of its service area based on its approved access charge tariff.
An access charge restructuring plan was approved by the PUC on April 1, 1992.
The implementation of this plan resulted in a $40.6 million annual rate
reduction, effective September 1, 1992. Effective September 1, 1993, the Company
implemented an additional rate reduction of $29.0 million representing the
second step of a three year phase-out of certain access charges under the access
charge restructuring plan. The final phase became effective September 1, 1994
with an additional rate reduction of $33.0 million.
The Oklahoma Corporation Commission approved a Joint Stipulation and Settlement
Agreement in the consolidated docket to end the Toll Surcharge Pool in Oklahoma.
This will allow the Company to exit the toll pool while receiving transition
payments during a three year (1994-1996) conversion period to an access charge
arrangement. The order approving the stipulation was issued April 19, 1994 for
implementation July 1, 1994. The industry has until July 1995 to agree on an
IntraLATA Access Charge Plan or submit individual plans to the Commission.
The Company is currently involved in a New Mexico rate proceeding, filed on
September 1, 1994, that will result in a revenue reduction in mid-year 1995. The
revenue reduction proposed by the Company was approximately $1.9 million. The
New Mexico Staff and Attorney General have recommended revenue reductions of
$9.5 million and $9.2 million, respectively. The proceeding has been bifurcated
into two phases. The first phase will consider the appropriate revenue
requirement. Following completion of the revenue requirement phase, a second
phase will consider rate design. Hearings were held in January 1995. An order on
the revenue requirement phase of this proceeding is expected by March 31, 1995.
-28-
<PAGE> 31
INTERSTATE SERVICES
For the provision of interstate services, the Company operates under the terms
of the FCC's price cap incentive plan. The "price cap" mechanism serves to limit
the rates a carrier may charge, rather than just regulating the rate of return
which may be achieved. Under this approach, the maximum price that the LEC may
charge is increased or decreased each year by a price index based upon inflation
less a predetermined productivity target. LECs may, within certain ranges, price
individual services above or below the overall cap.
As a safeguard under its price cap regulatory plan, the FCC adopted a
productivity sharing feature. Because of this feature, under the minimum
productivity-gain option, the Company must share equally with its ratepayers any
realized interstate return above 12.25% up to 16.25%, and all returns higher
than 16.25%, by temporarily lowering the prospective prices. During 1995, the
FCC is scheduled to review the LEC price cap plan to determine whether it should
be continued or modified.
In 1992, the Company's network access rates were voluntarily reduced by $0.9
million effective July 1, 1992, $3.5 million effective July 17, 1992, $9.0
million effective October 2, 1992, and $10.9 million effective December 15,
1992.
OTHER RATE MATTERS
On June 19, 1991 the Texas Third District Court of Appeals (Court of Appeals)
affirmed in part and reversed in part a decision by the District Court of Travis
County (District Court) regarding the Company's rate proceeding - Docket No.
5610. The Court of Appeals affirmed the portion of the District Court's order
which determined that the PUC had no authority to retroactively adjust the
Company's rates. That portion of the PUC's order would have resulted in
customer refunds of approximately $140.0 million. The Court of Appeals also
affirmed the District Court's determination relating to the manner in which the
PUC had calculated the Company's rate of return in setting its rates. The Court
of Appeals, however, reversed the District Court's determination that the PUC
had made appropriate findings related to payments made by the Company to two
of its affiliates. In addition, the Court of Appeals reversed the District
Court's determination related to the PUC's treatment of the Company's federal
income tax expense. The Court of Appeals remanded the case to the PUC for
proceedings consistent with the court's decision.
On April 15, 1992, the Company filed a Motion for Rehearing with the Court of
Appeals which was denied without comment on August 26, 1992. On October 2, 1992,
the Company filed an application for Writ of Error with the Texas Supreme Court.
The Supreme Court denied all Writs of Error on December 31, 1992.
On January 15, 1993, the Company filed a Motion for Rehearing with the Texas
Supreme Court. On June 9, 1993, the Supreme Court granted all Motions for
Rehearing and the Company's Application for Writ of Error. On September 13,
1993, the Supreme Court heard oral arguments of the issues. The Company filed
additional briefs in October 1993 and February 1994 with the Supreme Court. The
Court will review the issues and a decision is expected to be reached sometime
in 1995.
-29-
<PAGE> 32
The Company, as a result of the Court of Appeals' decision, established in June
1991 an initial reserve of $33.3 million (including interest), a portion of
which related to the period prior to 1991. In July 1991, the Company began
recording a monthly pretax reserve of approximately $1.3 million. In December
1992, as a result of the Texas Supreme Court's initial denial of the Company's
Writ of Error, the Company recorded an additional pretax reserve of $14.3
million (including interest). This reserve, combined with the monthly reserves,
resulted in a total of $30.7 million (including interest) in reserves
established during 1992. Of this amount, a portion related to the period prior
to 1992. An additional $21.8 million was reserved in 1993 and $23.6 million in
1994 (including interest). The Texas rate case reserve at December 31, 1994 is
$117.2 million.
Management is of the opinion that the reserves that have been established for
this issue are reasonable and prudent and it is unlikely that this issue will
have any further material adverse effect on the Company's financial position or
results of operations.
SIGNIFICANT CUSTOMER
Revenues received from AT&T Corp. include amounts for access, billing and
collection and interexchange leased facilities during the years 1994-1992 under
various arrangements and amounted to $171.6 million, $172.9 million and $197.6
million, respectively.
13. SUPPLEMENTAL CASH FLOW DISCLOSURES
Set forth below is information with respect to changes in current assets and
current liabilities, and cash paid for interest and income taxes:
<TABLE>
<CAPTION>
1994 1993 1992
-------- -------- --------
(Thousands of Dollars)
<S> <C> <C> <C>
(INCREASE) DECREASE IN CURRENT ASSETS:
Accounts receivable - net $(60,498) $ 8,326 $(21,448)
Materials and supplies 5,977 7,019 5,393
Prepayments and other current assets (13,763) 873 (1,649)
INCREASE (DECREASE) IN CURRENT LIABILITIES:
Accounts payable 30,425 (336) 8,126
Affiliate payables and accruals 11,796 (2,496) (3,209)
Advanced billings and customer deposits (2,641) (1,894) 1,259
Accrued liabilities (19,520) 14,471 5,963
Reserves for rate refunds 19,298 28,555 6,191
Other (35,180) 6,537 (2,612)
-------- -------- --------
Total $(64,106) $ 61,055 $ (1,986)
======== ======== ========
CASH PAID DURING THE YEAR FOR:
Interest $ 57,007 $ 72,857 $ 69,711
Income taxes 73,251 46,162 71,539
</TABLE>
-30-
<PAGE> 33
14. QUARTERLY FINANCIAL DATA (UNAUDITED)
Summarized 1994 and 1993 quarterly financial data is as follows:
<TABLE>
<CAPTION>
Net
Operating Operating Net Income
Revenues Income (Loss) (Loss)
----------- ------------- -----------
(Thousands of Dollars)
<S> <C> <C> <C>
1994
First Quarter $ 296,015 $ 55,519 $ 27,114
Second Quarter 309,582 64,645 39,030
Third Quarter 303,292 51,081 24,967
Fourth Quarter 301,731 42,977 32,275
----------- ----------- -----------
Total $ 1,210,620 $ 214,222 $ 123,386
=========== =========== ===========
1993
First Quarter $ 282,739 $ 56,264 $ 26,146
Second Quarter 279,123 39,745 13,615
Third Quarter (a) 295,394 68,226 3,686
Fourth Quarter (b) 305,109 (107,178) (62,488)
----------- ----------- -----------
Total $ 1,162,365 $ 57,057 $ (19,041)
=========== =========== ===========
</TABLE>
(a) Net income includes a $31.3 million extraordinary charge for the early
retirement of debt. Income before extraordinary charge was $34.9 million.
(b) Net operating income includes a $172.0 million pretax charge for
restructuring costs which reduced net income by $105.9 million.
-31-
<PAGE> 34
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Board of Directors and Shareholders of
GTE Southwest Incorporated:
We have audited the accompanying balance sheets of GTE Southwest Incorporated (a
Delaware corporation and wholly-owned subsidiary of GTE Corporation) as of
December 31, 1994 and 1993, and the related statements of income, reinvested
earnings and cash flows for each of the three years in the period ended December
31, 1994. These financial statements and the schedule referred to below are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements and the schedule based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of GTE Southwest Incorporated as
of December 31, 1994 and 1993, and the results of its operations and its cash
flows for each of the three years in the period ended December 31, 1994, in
conformity with generally accepted accounting principles.
As discussed in Note 1 to the financial statements, effective January 1, 1993,
the Company changed its method of accounting for postretirement benefits other
than pensions. Also as discussed in Note 1, effective January 1, 1992, the
Company changed its method of accounting for income taxes.
Our audit was made for the purpose of forming an opinion on the basic financial
statements taken as a whole. The supporting schedule listed under Item 14 is
presented for purposes of complying with the Securities and Exchange
Commission's rules and is not a required part of the basic financial statements.
This supporting schedule has been subjected to the auditing procedures applied
in the audit of the basic financial statements and, in our opinion, fairly
states in all material respects the financial data required to be set forth
therein in relation to the basic financial statements taken as a whole.
ARTHUR ANDERSEN LLP
Dallas, Texas
January 25, 1995.
-32-
<PAGE> 35
MANAGEMENT REPORT
To Our Shareholders:
The management of the Company is responsible for the integrity and objectivity
of the financial and operating information contained in this Annual Report,
including the financial statements covered by the Report of Independent Public
Accountants. These statements were prepared in conformity with generally
accepted accounting principles and include amounts that are based on the best
estimates and judgments of management.
The Company has a system of internal accounting controls which provides
management with reasonable assurance that transactions are recorded and executed
in accordance with its authorizations, that assets are properly safeguarded and
accounted for, and that financial records are maintained so as to permit
preparation of financial statements in accordance with generally accepted
accounting principles. This system includes written policies and procedures, an
organizational structure that segregates duties, and a comprehensive program of
periodic audits by the internal auditors. The Company has also instituted
policies and guidelines which require employees to maintain the highest level of
ethical standards.
KATHERINE J. HARLESS
President
GERALD K. DINSMORE
Senior Vice President - Finance and Planning
-33-
<PAGE> 36
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure
None.
-34-
<PAGE> 37
PART III
Item 10. Directors and Executive Officers of the Registrant
a. Identification of Directors
The names, ages and positions of the directors of the Company as of March 27,
1995 are listed below along with their business experience during the past five
years.
<TABLE>
<CAPTION>
Director
Name Age Since Business Experience
----------------- --- -------- ---------------------------------------------------------
<S> <C> <C> <C>
Kent B. Foster 51 1994 Vice Chairman of the Board of Directors, GTE Corporation,
October 1993; President, GTE Telephone Operations, 1989;
Director, GTE Corporation, 1992; Director, all GTE
domestic telephone subsidiaries, 1993 and/or 1994;
Director, BC Telecom, Inc.; Director, Compania Anonima
Nacional Telefonos de Venezuela; Director, NationsBank of
Texas; Director, Dallas Symphony Orchestra.
Richard M. Cahill 56 1994 Vice President - General Counsel, GTE Telephone
Operations, 1988; Director, all GTE domestic telephone
subsidiaries, 1993 and/or 1994; former Director, GTE
Vantage Incorporated, 1991.
Gerald K. Dinsmore 45 1994 Senior Vice President - Finance and Planning, GTE
Telephone Operations, 1994; former Vice President -
Finance, GTE Telephone Operations, 1993; former Vice
President - Intermediary Customer Markets, GTE Telephone
Operations, 1988; former President of all South Area
companies, GTE Telephone Operations, 1992; Director, GTE
Florida Incorporated and GTE South Incorporated, 1992;
Director, all other GTE domestic telephone subsidiaries,
1993 and/or 1994.
</TABLE>
-35-
<PAGE> 38
<TABLE>
<CAPTION>
Director
Name Age Since Business Experience
----------------- --- -------- ---------------------------------------------------------
<S> <C> <C> <C>
Michael B. Esstman 48 1991 Executive Vice President - Customer Segments, GTE
Telephone Operations, 1994; former Executive Vice
President - Operations, GTE Telephone Operations, 1993;
former President and Director of all Central Area
companies, GTE Telephone Operations, 1991; former
President, Contel Eastern Region, Telephone Operations
Sector, 1983; Director, AG Communications Systems;
Director, all other GTE domestic telephone subsidiaries,
1993 and/or 1994.
Thomas W. White 48 1994 Executive Vice President - Network Operations, GTE
Telephone Operations, 1994; former Executive Vice
President - Telephone Operations, GTE Telephone
Operations, 1993; former Senior Vice President - General
Office Staff, GTE Telephone Operations, 1989; Director,
all GTE domestic telephone subsidiaries, 1993 and/or 1994;
Director, Quebec - Telephone.
</TABLE>
Directors are elected annually. The term of each director expires on the date of
the next annual meeting of shareholders, which is to be held on the fourth
Wednesday in March.
There are no family relationships between any of the directors or executive
officers of the Company.
b. Identification of Executive Officers
The Company's policies are established not only by the Company's executive
officers, but also by the executive officers of GTE Telephone Operations
(Telops). Accordingly, the list below contains the names, ages and positions of
the executive officers of both the Company and GTE Telephone Operations as of
March 27, 1995.
<TABLE>
<CAPTION>
Year Assumed
Present Position
----------------
the
Name Age Telops Company Position
------------------- --- ------ ------- ------------------------------
<S> <C> <C> <C> <C>
Kent B. Foster 51 1989 -- President of GTE Telephone
Operations
John C. Appel 46 1994 1995 Senior Vice President -
Regional Operations of GTE
Telephone Operations and the
Company
Mary Beth Bardin(1) 40 1994 1995 Vice President - Public Affairs
of GTE Telephone Operations
and the Company
</TABLE>
-36-
<PAGE> 39
<TABLE>
<CAPTION>
Year Assumed
Present Position
----------------
the
Name Age Telops Company Position
------------------- --- ------ ------- --------------------------------
<S> <C> <C> <C> <C>
Clarence F. Bercher 51 1994 1995 President - Consumer Markets of
GTE Telephone Operations and
Vice President - Consumer
Markets of the Company
Richard M. Cahill 56 1989 1995 Vice President - General
Counsel of GTE Telephone
Operations and the Company
Robert C. Calafell 53 1993 -- Vice President - Video Services
of GTE Telephone Operations
Gerald K. Dinsmore 45 1994 1994 Senior Vice President - Finance
and Planning of GTE Telephone
Operations and the Company
William M. Edwards, III 46 -- 1994 Controller of the Company
Michael B. Esstman 48 1994 -- Executive Vice President -
Customer Segments of GTE
Telephone Operations
Bruce E. Haddad 41 1994 -- Senior Vice President -
International of GTE
Telephone Operations
Katherine J. Harless(2) 44 -- 1995 President of the Company
Donald A. Hayes 57 1992 -- Vice President - Information
Technology of GTE Telephone
Operations
Gregory D. Jacobson 43 -- 1994 Treasurer of the Company
Andrew T. Jones 54 1992 -- Vice President - International
of GTE Telephone Operations
Brad M. Krall 53 1993 1995 Vice President - Centralized
Operations of GTE Telephone
Operations and the Company
Michael J. McDonough 45 1994 1995 President - Business Markets of
GTE Telephone Operations and
Vice President - Business
Markets of the Company
Paul E. Miner 50 1993 1995 Vice President - Network
Operations Support of GTE
Telephone Operations and the
Company
Barry W. Paulson 43 -- 1991 Vice President - Midwest Region
of the Company
Richard L. Schaulin 52 1989 1995 Vice President - Human
Resources of GTE Telephone
Operations and the Company
Leland W. Schmidt 61 1989 -- Vice President - Industry
Affairs of GTE Telephone
Operations
Charles J. Somes 49 -- 1994 Secretary of the Company
Larry J. Sparrow 51 1994 1995 President - Carrier Markets of
GTE Telephone Operations and
Vice President - Carrier
Markets of the Company
</TABLE>
-37-
<PAGE> 40
<TABLE>
<CAPTION>
Year Assumed
Present Position
-----------------
the
Name Age Telops Company Position
------------------- --- ------ ------- ------------------------------
<S> <C> <C> <C> <C>
Alex Stadler 44 1994 1995 Vice President - Strategy &
Technology Planning of GTE
Telephone Operations and the
Company
Thomas W. White 48 1994 -- Executive Vice President -
Network Operations of GTE
Telephone Operations
</TABLE>
Each of these executive officers has been an employee of the Company or an
affiliated company for the last five years.
Except for duly elected officers and directors, no other employees had a
significant role in decision making.
All officers are appointed for a term of one year.
NOTES:
(1) Mary Beth Bardin was elected Vice President - Public Affairs of GTE
Telephone Operations replacing G. Bruce Redditt who was appointed Vice
President - Public Affairs and Communications, GTE Corporation.
(2) Katherine J. Harless was elected President replacing John C. Appel who
was elected Senior Vice President - Regional Operations of GTE
Telephone Operations and the Company.
During 1994, the organizational structure of GTE Telephone Operations was
restructured to include 11 regions, eliminating the previous Area management
structure.
-38-
<PAGE> 41
Item 11. Executive Compensation
Executive Compensation Tables
The following tables provide information about executive compensation.
SUMMARY COMPENSATION TABLE
The following table sets forth information about the compensation of the 1994
Chief Executive Officer and each of the other four most highly compensated
executive officers (the named executive officers) of the Company in 1994 for
services in all capacities to the Company.
<TABLE>
<CAPTION>
Long-Term Compensation
-------------------------------------------------
Annual Compensation(1) Awards Payouts
------------------------------- ----------------------- -----------------------
(a) (b) (c) (d) (e) (f) (g) (h) (i)
Securities
Other Annual Restricted Underlying LTIP All Other
Name and Principal Salary Compensation Stock Options/ Payouts Compensation
Position in Group Year ($) Bonus($) ($) Awards(#) SARs(#) ($)(2) ($)(3)
------------------ ---- -------- -------- ------------ ---------- --------- -------- ------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
John C. Appel (4) 1994 136,236 128,738 -- -- 24,800 24,491 4,430
President 1993 14,365 5,384 -- -- 7,300 -- 432
J. Bruce Cole (5) 1994 131,999 55,258 -- -- 4,000 -- 4,469
State Vice President - 1993 78,157 30,402 -- -- 4,000 -- 2,345
Sales 1992 71,989 37,931 -- -- 4,400 -- 763
Dennis F. Myers (6) 1994 123,348 54,637 -- -- 4,000 -- 4,165
State Vice President - 1993 95,283 35,362 -- -- 2,700 -- --
Operations 1992 89,695 44,094 -- -- -- -- --
Oscar C. Gomez (7) 1994 117,645 50,639 -- -- 4,000 -- 3,973
State Vice President - 1993 66,444 23,670 -- -- 2,700 -- 2,031
External Affairs 1992 60,873 29,877 -- -- -- -- --
William G. Mundy (8) 1994 112,916 43,176 -- -- 4,000 -- 3,387
State Vice President - 1993 65,691 19,219 -- -- 2,700 -- 2,071
General Counsel 1992 60,474 26,344 -- -- -- -- --
</TABLE>
(1) Annual Compensation represents the Company's pro rata share of salaries,
bonuses and other annual compensation. Total annual cash compensation for
Messrs. Appel, Cole, Myers, Gomez and Mundy, for whom allocated amounts
are shown above, is $375,423; $210,781; $200,342; $189,423 and $175,700
for 1994, respectively.
(2) 1994 Long-Term Incentive Plan (LTIP) Payouts include transition awards
for the 1994 period, which were established by the Committee as a special
grant to allow for the smooth transitioning from a single long-term
performance measure (return on equity) to a combined measure (return on
equity and operating cash flow margin).
(3) All other compensation includes Company contributions to defined
contribution plans.
(4) Mr. Appel served as President until February 15, 1995. In May 1994, he
was also elected Senior Vice President - Regional Operations, GTE
Telephone Operations. Ms. Harless was elected President of the Company on
February 15, 1995.
(5) Mr. Cole served as State Vice President - Sales until February 1995. In
November 1994, he was also appointed Project Director - Carrier Markets
- Quality, GTE Telephone Operations.
(6) Mr. Myers served as State Vice President - Operations until February
1995. In August 1994, he was also appointed Regional President - South
Region, GTE Telephone Operations.
(7) Mr. Gomez served as State Vice President - External Affairs until
February 1995. In August 1994, he was also appointed Assistant Vice
President - Regional Regulatory and Governmental Affairs - Central
Regions, GTE Telephone Operations.
(8) Mr. Mundy served as State Vice President - General Counsel until February
1995. In October 1994, he was also appointed Associate General Counsel -
Texas and New Mexico, GTE Telephone Operations.
-39-
<PAGE> 42
OPTION/SAR GRANTS IN LAST FISCAL YEAR
The following table shows all grants of options and tandem stock appreciation
rights (SARs) to the named executive officers of the Company in 1994, whether or
not specifically allocated to the Company. The options and SARs were granted
under the LTIP. Pursuant to Securities and Exchange Commission rules, the table
also shows the value of the options granted at the end of the option terms (ten
years) if the stock price were to appreciate annually by 5% and 10%,
respectively. There is no assurance that the stock price will appreciate at the
rates shown in the table. The table also indicates that if the stock price does
not appreciate, there will be no increase in the potential realizable value of
the options granted.
<TABLE>
<CAPTION>
Potential Realizable Value at
Assumed Annual Rate of Stock
Price Appreciation For
Individual Grants(1) Option Term
------------------------------------------------------ ----------------------------------
(a) (b) (c) (d) (e) (f) (g) (h)
Percent of
Number of Total Options/
Securities SARs Granted Exercise
Underlying to All GTE Or Base
Option/SARs Employees in Price Expiration
Name Granted (1) Fiscal Year ($/SH) Date 0% 5% 10%
---- ----------- ------------ -------- --------- -------- ---------- ----------
<S> <C> <C> <C> <C> <C> <C> <C>
John C. Appel 14,300 0.35% $ 32.44 02/16/04 $ -- $ 291,616 $ 738,953
10,500 0.26 31.13 06/01/04 -- 205,531 820,955
J. Bruce Cole 4,000 0.10 32.44 02/16/04 -- 81,571 206,700
Dennis F. Myers 4,000 0.10 32.44 02/16/04 -- 81,571 206,700
Oscar C. Gomez 4,000 0.10 32.44 02/16/04 -- 81,571 206,700
William G. Mundy 2,600 0.06 32.44 02/16/04 -- 53,021 134,355
</TABLE>
(1) Each option was granted in tandem with a SAR, which will expire upon
exercise of the option. Under the LTIP, one-third of these grants vest
annually commencing one year after the date of grant.
AGGREGATED OPTION/SAR EXERCISES
IN LAST FISCAL YEAR AND FY-END OPTION/SAR VALUES
The following table provides information as to options and SARs exercised by
each of the named executive officers of the Company during 1994. The table sets
forth the value of options and SARs held by such officers at year-end measured
in terms of the closing price of GTE Corporation (GTE) common stock on December
30, 1994.
<TABLE>
<CAPTION>
(a) (b) (c) (d) (e)
Number of Securities Value of Unexercised
Shares Underlying Unexercised In-the-Money Options/SARs
Acquired Value Options/SARs at FY-End At FY-End($)
Name On Exercise(#) Realized($) Exercisable Unexercisable Exercisable Unexercisable
---- -------------- ----------- ------------ -------------- ------------ -------------
<S> <C> <C> <C> <C> <C> <C>
John C. Appel -- $ -- 4,433 29,667 $ -- $ --
J. Bruce Cole -- -- 12,966 8,134 30,250 --
Dennis F. Myers -- -- 900 5,800 -- --
Oscar C. Gomez -- -- 8,300 5,800 30,250 --
William G. Mundy -- -- 8,300 4,400 30,250 --
</TABLE>
-40-
<PAGE> 43
Long-Term Incentive Plan - Awards in Last Fiscal Year
The GTE 1991 LTIP provides for awards, currently in the form of stock options
with tandem SARs and cash bonuses, to participating employees. The primary
purpose of the LTIP is to offer participants an incentive to cause GTE to
achieve superior financial performance, thereby helping to assure superior
performance for the shareholders. The stock options and tandem SARs awarded
under the LTIP to the named executive officers in 1994 are shown in the table on
page 39.
The named executive officers are eligible to receive annual grants of
performance bonuses which are earned during a 36-month performance cycle. The
performance bonuses are paid in cash. Awards for the three-year performance
cycle ending in 1994 are based on GTE's financial performance during the
relevant cycle as measured by GTE's average return on equity (ROE) against
pre-established target levels. In 1994, the Executive Compensation and
Organizational Structure Committee of the Board of Directors of GTE (the
Committee) established an additional measure of corporate performance -
operating cash flow margin (OCFM). The Committee views OCFM as an excellent
complement to ROE due to its capacity to accurately measure profitable revenue
growth, a key determinant of financial strength, especially for high growth
businesses. To transition from awards based solely on performance against ROE
targets to awards based on a combination of ROE and OCFM performance, the
Committee established two performance periods - a one-year period to run
concurrently with the final year of the three-year ROE performance cycle ending
in 1994 and a two-year period to run concurrently with the final two years of
the three-year ROE performance cycle ending in 1995. The awards for the two
award periods will be based on GTE's performance against ROE and OCFM
performance for the one- and two-year periods. Awards for the three-year
performance cycle ending in 1996 will be based on GTE's performance against the
ROE and OCFM targets established for the full three-year cycle. Seventy-five
percent of the award is determined based on ROE performance and 25% of the award
is determined based on OCFM performance.
At the time performance targets for the current LTIP cycles are established, a
Common Stock Unit account is set up for each participant in the LTIP. An initial
dollar amount for each account (target award) is determined based on the
competitive performance bonus grant practices of other major companies in the
telecommunications industry and with practices of other major corporations not
involved in the telecommunications industry that have a reputation for
excellence, are comparable to GTE in terms of such quantitative measures as
revenues, market value and total shareholder return and are viewed as direct
competitors for executive talent in the overall labor market as well as GTE's
past and projected financial performance. That amount is then divided by the
average market price of GTE common stock for the calendar week preceding the day
the account is established to determine the number of Common Stock Units in the
account. The value of the account increases or decreases based on the market
price of the GTE common stock. An amount equal to the dividends paid on an
equivalent number of shares of GTE common stock is added on each dividend
payment date. This amount is then converted into the number of Common Stock
Units obtained by dividing the amount of the dividend by the average price of
the GTE common stock on the composite tape of the New York Stock Exchange on the
dividend payment date and added to the Common Stock Unit account. Mr. Appel is
the only individual of the named executive officers eligible to receive a cash
award under the LTIP. The number of Common Stock
-41-
<PAGE> 44
Units initially allocated in 1994 to the named executive officers' accounts and
estimated future payouts under the LTIP are shown in the following table:
<TABLE>
<CAPTION>
Estimated Future Payouts
Under Non-Stock Price Based Plans(1)
-------------------------------------
(a) (b) (c) (d) (e) (f)
Performance
Number of Or Other
Shares, Units Period Until
Or Other Maturation
Name Rights Or Payout Threshold(2) Target(3) Maximum(4)
------------------ ------------- ------------ ------------ --------- ----------
<S> <C> <C> <C> <C> <C>
John C. Appel 1,900 3 Years 457 2,283
1,035 31 Months 245 1,225
595 19 Months 132 662
235 7 Months 49 246
J. Bruce Cole -- N/A -- --
Dennis F. Myers -- N/A -- --
Oscar C. Gomez -- N/A -- --
William G. Mundy -- N/A -- --
</TABLE>
(1) It is not possible to predict future dividends and, accordingly, estimated
Common Stock Unit accruals in this table are calculated for illustrative
purposes only and are based upon the dividend rate and price of GTE common
stock at the close of business on December 30, 1994. The target award is
the dollar amount derived by multiplying the Common Stock Unit balance at
the end of the award cycle by the price of GTE common stock.
(2) The Threshold is the level of the average ROE and the average OCFM during
the relevant cycle which represents the minimum acceptable performance
level for both the ROE and OCFM performance measures. If the Threshold is
attained with respect to both performance measures, the award will be
equal to 20% of the combined target award for ROE and OCFM. Because ROE
and OCFM are separate performance measures, it is possible to receive an
award if the Threshold is achieved with respect to only one of the
performance measures. If the actual results for one, but not both,
performance measures is at the Threshold level, the portion of the award
determined by the measure performing at the Threshold level will be at 20%
of the target award for that performance measure, and no award will be
made for the portion of the award determined by the measure performing at
less than the Threshold level. However, if the actual results for both
performance measures are below the minimum acceptable performance level,
no award will be earned.
(3) The Target is the level of the average ROE and the average OCFM during the
cycle which represents outstanding performance for both the ROE and OCFM
performance measures. If the Target is attained with respect to both
performance measures, the award will be equal to 100% of the target award
for ROE and OCFM. If the actual results for one, but not both, performance
measures is at the Target level, the portion of the award determined by
the measure performing at the Target level will be at 100% of the target
award for that performance measure, and the portion of the award
determined by the measure performing at less than 100% will be determined
accordingly.
(4) This column has intentionally been left blank because it is not possible
to determine the maximum award until the award cycle has been completed.
The maximum amount of the award is limited by the amount the actual ROE
and the actual OCFM exceed the targeted ROE and the targeted OCFM. If
GTE's average ROE and OCFM during the cycle exceed their performance
-42-
<PAGE> 45
targets, additional bonuses may be earned according to the following
schedule:
<TABLE>
<CAPTION>
Performance Increment Above Added Percentage
Maximum ROE and OCFM Performance Targets to Maximum Awards
----------------------------------------------------------------------------
<S> <C>
First and Second 0.1% +2%
Third and Fourth 0.1% +3%
Fifth and above 0.1% +4%
</TABLE>
For example, if average ROE and OCFM performance each exceed the ROE and
OCFM targets by 0.5%, respectively, the performance bonus will equal 114%
of the combined target award.
Executive Agreements
GTE has entered into an agreement (the Agreement) with Mr. Appel regarding
benefits to be paid in the event of a change in control of GTE (a Change in
Control).
A Change in Control is deemed to have occurred if a majority of the members of
the Board do not consist of members of the incumbent Board (as defined in the
Agreement) or if, in any 12-month period, three or more directors are elected
without the approval of the incumbent Board. An individual whose initial
assumption of office occurred pursuant to an agreement to avoid or settle a
proxy or other election contest is not considered a member of the incumbent
Board. In addition, a director who is elected pursuant to such a settlement
agreement will not be deemed a director who is elected or nominated by the
incumbent Board for purposes of determining whether a Change in Control has
occurred. A Change in Control will not occur in the following situations: (1)
certain merger transactions in which there is at least 50% GTE shareholder
continuity in the surviving corporation, at least a majority of the members of
the board of directors of the surviving corporation consists of members of the
Board of GTE and no person owns more than 20% (or under certain circumstances, a
lower percentage, not less than 10%) of the voting power of the surviving
corporation following the transaction, and (2) transactions in which GTE's
securities are acquired directly from GTE.
The Agreement provides for benefits to be paid in the event this individual
separates from service and has a "good reason" for leaving or is terminated
without "cause" within two years after a Change in Control.
Good reason for leaving includes but is not limited to the following events:
demotion, relocation or a reduction in total compensation or benefits, or the
new entity's failure to expressly assume obligations under the Agreement.
Termination for cause includes certain unlawful acts on the part of the
executive or a material violation of his or her responsibilities to the
Corporation resulting in material injury to the Corporation.
An executive who experiences a qualifying separation from service will be
entitled to receive up to two times the sum of (i) base salary and (ii) the
average of his or her other percentage awards under the EIP for the previous
three years. The executive will also continue to receive medical and life
insurance coverage for up to two years and will be provided with financial and
outplacement counseling.
-43-
<PAGE> 46
In addition, the Agreement with Mr. Appel provides that in the event of a
separation from service, he will receive service credit in the following
amounts: two times years of service otherwise credited if the executive has five
or fewer years of credited service; ten years if credited service is more than
five and not more than ten years; and, if the executive's credited service
exceeds ten years, the actual number of credited years of service. These
additional years of service will apply towards vesting, retirement eligibility,
benefit accrual and all other purposes under the Supplemental Executive
Retirement Plan (SERP) and the Executive Retired Life Insurance Plan. In
addition, each executive will be considered to have not less than 76 points and
15 years of accredited service for the purpose of determining his or her
eligibility for early retirement benefits. However, there will be no duplication
of benefits.
The Agreement remains in effect until the earlier of July 1 of each successive
year or the date on which the executive reaches age 65, unless the Agreement is
terminated earlier pursuant to its terms. The Agreement will be automatically
renewed on each successive July 1 unless, not later than December 31 of the
preceding year, one of the parties notifies the other that he does not wish to
extend the Agreement. If a Change in Control occurs, the Agreement will remain
in effect until the obligations of GTE (or its successor) under the Agreement
has been satisfied.
Retirement Programs
Pension Plans
The estimated annual benefits payable, calculated on a single life annuity
basis, under GTE's defined benefit pension plans at normal retirement at age 65,
based upon final average earnings and years of employment, are illustrated in
the table below:
PENSION PLAN TABLE
<TABLE>
<CAPTION>
Years of Service
Final Average -------------------------------------------------------------------------------
Earnings 15 20 25 30 35
------------ -------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
$ 150,000 $ 31,532 $ 42,042 $ 52,553 $ 63,063 $ 73,574
200,000 42,407 56,542 70,678 84,813 98,949
300,000 64,157 85,542 106,928 128,313 149,699
400,000 85,907 114,542 143,178 171,813 200,449
500,000 107,657 143,542 179,428 215,313 251,199
</TABLE>
GTE Service Corporation, a wholly-owned subsidiary of GTE, maintains the GTE
Service Corporation Plan for Employees' Pensions (the Service Corporation Plan),
a noncontributory pension plan for the benefit of GTE employees based on years
of service. Pension benefits to be paid from the Service Corporation Plan and
contributions to this plan are related to basic salary exclusive of overtime,
differentials, incentive compensation (except as otherwise described) and other
similar types of payment. Under the Service Corporation Plan, pensions are
computed on a two-rate formula basis of 1.15% and 1.45% for each year of
service, with the 1.15% service credit being applied to that portion of the
average annual salary for the five highest consecutive years that does not
exceed the Social Security Integration Level (the portion of salary subject to
the Federal Security Act), and the 1.45% service credit
-44-
<PAGE> 47
being applied to that portion of the average annual salary that exceeds said
level. As of February 15, 1995, the credited years of service under the plan for
Messrs. Appel, Cole, Myers, Gomez and Mundy are 23, 30, 33, 20, and 14,
respectively.
Under Federal law, an employee's benefits under a qualified pension plan such as
the Service Corporation Plan are limited to certain maximum amounts. GTE
maintains a SERP, which supplements, on an unfunded basis, the benefits of any
participant in the Service Corporation Plan in an amount by which any
participant's benefits under the Service Corporation Plan are limited by law. In
addition, the SERP includes a provision permitting the payment of additional
retirement benefits determined in a similar manner as under the Service
Corporation Plan on remuneration accrued under management incentive plans as
determined by the Committee. SERP benefits are payable in a lump sum or an
annuity.
Executive Retired Life Insurance Plan
The Executive Retired Life Insurance Plan (ERLIP) provides Mr. Appel a
postretirement life insurance benefit of three times final base salary, Messrs.
Cole and Myers a postretirement life insurance benefit of one and one-half times
final base salary and Messrs. Gomez and Mundy a postretirement life insurance
benefit of one times final base salary. Upon retirement, ERLIP benefits may be
paid as life insurance, or optionally, an equivalent amount equal to the present
value of the life insurance amount (based on actuarial factors and the interest
rate then in effect), as a lump sum payment, as an annuity or as installment
payments.
Directors' Compensation
The current directors, all of whom are employees of GTE, are not paid any fees
or remuneration, as such, for services on the Board.
-45-
<PAGE> 48
Item 12. Security Ownership of Certain Beneficial Owners and Management
(a) Security Ownership of Certain Beneficial Owners as of February 28, 1995:
<TABLE>
<CAPTION>
Name and Shares of
Title Address of Beneficial Percent
of Class Beneficial Owner Ownership of Class
-------- ---------------- ---------- ---------
<S> <C> <C> <C>
Common Stock of GTE Corporation 6,450,000 100%
GTE Southwest One Stamford Forum shares of
Incorporated Stamford, Connecticut record
06904
</TABLE>
(b) Security Ownership of Management as of December 31, 1994:
<TABLE>
<CAPTION>
Name of Director or Nominee(1)(2)
---------------------------------
<S> <C> <C> <C>
Common Stock of Kent B. Foster 268,305 No director
GTE Corporation Richard M. Cahill 36,287 or nominee or
Gerald K. Dinsmore 41,529 executive
Michael B. Esstman 67,631 officer owns
Thomas W. White 120,994 as much as
--------- 1/10 of
534,746 1 percent.
=========
Executive Officers(1)(2)
------------------------
John C. Appel 14,114
J. Bruce Cole 17,885
Dennis F. Myers 9,684
Oscar C. Gomez 13,872
William G. Mundy 11,835
---------
67,390
=========
All directors and executive
officers as a group(1)(2) 1,207,047 Represents
========= less than 1/5
of 1 percent
of outstanding
common stock.
</TABLE>
(1) Includes shares acquired through participation in GTE's Consolidated
Employee Stock Ownership Plan and/or the GTE Savings Plan.
(2) Included in the number of shares beneficially owned by Messrs.
Foster, Cahill, Dinsmore, Esstman, White, Appel, Cole, Myers, Gomez
and Mundy and all directors and executive officers as a group are
214,539; 32,616; 39,499; 46,466; 109,299; 10,532; 17,099; 3,133;
10,533; 10,066 and 923,660 shares, respectively, which such persons
have the right to acquire within 60 days pursuant to stock options.
(c) There were no changes in control of the Company during 1994.
The Federal securities laws require the Company's directors and executive
officers, and persons who own more than 10% of a registered class of the
Company's equity securities, to file with the Securities and Exchange Commission
initial reports of ownership and reports of changes in ownership of any equity
securities of the Company.
-46-
<PAGE> 49
To the Company's knowledge, based solely on review of the copies of such reports
furnished to the Company and representations that no other reports were
required, all persons subject to these reporting requirements filed the required
reports on a timely basis. All of the Company's common stock is owned by GTE
and, to the Company's knowledge, none of such directors or executive officers
currently owns, or has ever owned, any shares of the Company's registered
preferred stock (which is the only registered class of the Company's equity
securities).
Item 13. Certain Relationships and Related Transactions
The Company's executive officers or directors were not materially indebted to
the Company or involved in any material transaction in which they had a direct
or indirect material interest. None of the Company's directors were involved in
any business relationships with the Company.
-47-
<PAGE> 50
PART IV
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K
(a) (1) Financial Statements - See GTE Southwest Incorporated's
financial statements and report of independent accountants
thereon in the Financial Statements section included elsewhere
herein.
(2) Financial Statement Schedules - Schedules supporting the
financial statements for the years ended December 31, 1994-1992
(as required):
II - Valuation and Qualifying Accounts
Note: Schedules other than the one listed above are omitted as not
applicable, not required, or the information is included in the
financial statements or notes thereto.
(3) Exhibits - Included in this report or incorporated by reference.
3* Articles of Incorporation and amended By-Laws (Exhibit 3 of
the 1993 Form 10-K, File No. 1-7077).
4* Indenture dated as of November 15, 1993 between GTE
Southwest Incorporated and Nations Bank of Georgia,
National Association, as Trustee (Exhibit 4.1 of the
Company's Registration Statement on Form S-3, File No.
33-50939).
27 Financial Data Schedule.
(b) Reports on Form 8-K - No reports on Form 8-K were filed during
the fourth quarter of 1994.
* Denotes exhibits incorporated herein by reference to previous filings
with the Securities and Exchange Commission as designated.
-48-
<PAGE> 51
GTE SOUTHWEST INCORPORATED
SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS
FOR THE YEARS ENDED DECEMBER 31, 1994, 1993 AND 1992
(Thousands of Dollars)
<TABLE>
<CAPTION>
-------------------------------------------------------------------------------------------------------------------
Column A Column B Column C Column D Column E
-------------------------------------------------------------------------------------------------------------------
Additions
------------------------ Deductions
Balance at Charged Charged from Balance at
Beginning to to Other Reserves Close of
Description of Year Income Accounts (Note 1) Year
--------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Allowance for uncollectible
accounts for the year ended:
December 31, 1994 $ 18,144 $ 25,567 $ 14,612(2) $ 41,108 $ 17,215
========================================================================
December 31, 1993 $ 5,092 $ 21,424 $ 20,391(2) $ 28,763 $ 18,144
========================================================================
December 31, 1992 $ 4,120 $ 16,949 $ 22,263(2) $ 38,240 $ 5,092
========================================================================
Accrued restructuring costs for
the year ended (Note 3):
December 31, 1994 $ 171,954 $ 0 $ 0 $ 37,403 $ 134,551
========================================================================
December 31, 1993 $ 0 $ 171,954 $ 0 $ 0 $ 171,954
========================================================================
December 31, 1992 $ 0 $ 0 $ 0 $ 0 $ 0
========================================================================
</TABLE>
-------------------------
NOTES:
(1) Charges for purpose for which reserve was created.
(2) Recoveries of previously written-off amounts.
(3) See Note 2 to the Financial Statements included elsewhere herein.
-49-
<PAGE> 52
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.
GTE SOUTHWEST INCORPORATED
------------------------------
(Registrant)
Date March 27, 1995 By KATHERINE J. HARLESS
-------------- ----------------------------
KATHERINE J. HARLESS
President
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
is signed below by the following persons on behalf of the registrant and in the
capacities and on the dates indicated.
<TABLE>
<S> <C> <C>
KATHERINE J. HARLESS March 27, 1995
----------------------------- President
KATHERINE J. HARLESS (Principal Executive Officer)
GERALD K. DINSMORE March 27, 1995
----------------------------- Senior Vice President- Finance
GERALD K. DINSMORE and Planning and Director
(Principal Financial Officer)
WILLIAM M. EDWARDS, III March 27, 1995
----------------------------- Controller
WILLIAM M. EDWARDS, III (Principal Accounting Officer)
RICHARD M. CAHILL Director March 27, 1995
-----------------------------
RICHARD M. CAHILL
MICHAEL B. ESSTMAN Director March 27, 1995
-----------------------------
MICHAEL B. ESSTMAN
KENT B. FOSTER Director March 27, 1995
-----------------------------
KENT B. FOSTER
THOMAS W. WHITE Director March 27, 1995
-----------------------------
THOMAS W. WHITE
</TABLE>
-50-
<PAGE> 53
Exhibit Index
Exhibit No.
-----------
3* Articles of Incorporation and amended By-Laws (Exhibit 3 of
the 1993 Form 10-K, File No. 1-7077).
4* Indenture dated as of November 15, 1993 between GTE
Southwest Incorporated and NationsBank of Georgia, National
Association, as Trustee (Exhibit 4.1 of the Company's
Registration Statement on Form S-3, File No. 33-50939).
27 Financial Data Schedule.
* Denotes exhibits incorporated herein by reference to previous filings
with the Securities and Exchange Commission as designated.
<TABLE> <S> <C>
<ARTICLE> 5
<CIK> 0000040874
<NAME> 0
<MULTIPLIER> 1,000
<CURRENCY> 0
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1994
<PERIOD-START> JAN-01-1994
<PERIOD-END> DEC-31-1994
<EXCHANGE-RATE> 1
<CASH> 9,333
<SECURITIES> 0
<RECEIVABLES> 219,042
<ALLOWANCES> 17,215
<INVENTORY> 18,449
<CURRENT-ASSETS> 268,194
<PP&E> 4,017,714
<DEPRECIATION> 1,521,434
<TOTAL-ASSETS> 2,831,535
<CURRENT-LIABILITIES> 544,458
<BONDS> 673,346
<COMMON> 645,000
10,330
7,600
<OTHER-SE> 362,191
<TOTAL-LIABILITY-AND-EQUITY> 2,831,535
<SALES> 1,210,620
<TOTAL-REVENUES> 1,210,620
<CGS> 341,746
<TOTAL-COSTS> 996,398
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 56,499
<INCOME-PRETAX> 183,740
<INCOME-TAX> 60,354
<INCOME-CONTINUING> 123,386
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 123,386
<EPS-PRIMARY> 0
<EPS-DILUTED> 0
</TABLE>
