<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
For the fiscal year ended December 31, 1996
or
[ ] Transition Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the transition period from to
Commission File Number 2-36292
GTE SOUTH INCORPORATED
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
VIRGINIA 56-0656680
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER IDENTIFICATION NO.)
INCORPORATION OR ORGANIZATION)
600 Hidden Ridge, HQE04B12 - Irving, Texas 75038
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE)
Registrant's telephone number, including area code 972-718-5600
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>
NONE
</TABLE>
Securities registered pursuant to Section 12(g) of the Act:
NONE
(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 21,000,000 SHARES OF $25 PAR VALUE COMMON STOCK OUTSTANDING AT
FEBRUARY 28, 1997. THE COMPANY'S COMMON STOCK IS 100% OWNED BY GTE
CORPORATION.
<PAGE> 2
TABLE OF CONTENTS
Item
<TABLE>
<CAPTION>
Part I Page
<S> <C> <C>
1. Business 1
2. Properties 5
3. Legal Proceedings 5
4. Submission of Matters to a Vote of Security Holders 5
Part II
5. Market for the Registrant's Common Equity and Related
Shareholder Matters 6
6. Selected Financial Data 7
7. Management's Discussion and Analysis of Financial
Condition and Results of Operations 8
8. Financial Statements and Supplementary Data 14
9. Changes in and Disagreements with Accountants on
Accounting and Financial Disclosure 37
Part III
10. Directors and Executive Officers of the Registrant 38
11. Executive Compensation 41
12. Security Ownership of Certain Beneficial Owners and Management 49
13. Certain Relationships and Related Transactions 49
Part IV
14. Exhibits, Financial Statement Schedules and Reports on Form 8-K 50
</TABLE>
<PAGE> 3
PART I
Item 1. Business
GTE South Incorporated (the Company) was incorporated in Virginia on July 29,
1947. The Company is a wholly-owned subsidiary of GTE Corporation (GTE) and
provides communications services in the states of Alabama, Illinois, Kentucky,
North Carolina, South Carolina and Virginia.
The Company's principal line of business is providing communications services
ranging from local telephone service for the home and office to highly complex
voice and data services for various industries. The Company provides local
telephone service within its franchise area and intraLATA (Local Access
Transport Area) toll 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. Business and residential
customers also pay access charges to connect to the local network to obtain
long distance service. The Company earns other revenues by providing such
services as billing and collection and operator services to interexchange
carriers.
The number of access lines in the states in which the Company operates as of
December 31, 1996, was as follows:
<TABLE>
<CAPTION>
Access
State Lines Served
----- ------------
<S> <C>
Virginia 604,063
Kentucky 579,119
North Carolina 499,001
South Carolina 204,851
Alabama 157,576
Illinois 42,601
---------
Total 2,087,211
=========
</TABLE>
At December 31, 1996, the Company had 4,640 employees.
The Company has written agreements with the Communications Workers of America
(CWA) and International Brotherhood of Electrical Workers (IBEW). In 1996,
agreements with the CWA and IBEW were reached on one contract each with three
expired CWA contracts still pending. During 1997, two contracts with the CWA
and one contract with the IBEW will expire.
REGULATORY AND COMPETITIVE TRENDS
The Company is subject to regulation by the regulatory bodies of the states of
Alabama, Illinois, Kentucky, North Carolina, South Carolina and Virginia as to
its intrastate business operations and by the Federal Communications Commission
(FCC) as to its interstate operations.
Advances in technology, together with a number of regulatory, legislative and
judicial actions, continue to accelerate and expand the level of competition
and opportunities available to the Company. Presently, the Company is subject
to competition from numerous sources, including competitive access providers
(CAPs) for network access services. In addition, competition from alternative
local-exchange carriers (ALECs), interexchange carriers (IXCs), wireless
carriers
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<PAGE> 4
and cable providers, as well as more recent entry by media and computer
companies, is expected to increase in the rapidly changing telecommunications
marketplace.
On February 8, 1996, the Telecommunications Act of 1996 (the Telecommunications
Act) became law. This comprehensive telecommunications reform legislation
addresses a wide range of competitive and regulatory issues that will affect
the future development of local and long distance services, cable television
and information services. The new law removes regulatory and court-ordered
barriers to competition between segments of the industry, enabling
local-exchange, long distance, wireless and cable companies to compete in
offering voice, video and information services.
The Telecommunications Act requires the FCC and state commissions to open
local-exchange markets and to set new guidelines for interconnection, loosens
restrictions barring local telephone companies from entering the cable
television market, and preserves universal service while equalizing the
responsibility for contribution among all carriers.
Following passage of the Telecommunications Act, the FCC has undertaken to
issue rules governing three areas: interconnection, universal service and
access charge reform. In August 1996, the FCC released its rules implementing
the provision of number portability and dialing parity in accord with the
Telecommunications Act. In August 1996, the FCC also adopted its rules
governing interconnection, unbundling of network elements and wholesale prices
and other terms for competitive entry into local-exchange service. These rules
generally require local-exchange carriers (LECs) to make their services
available to competitors at a wholesale discount and to make their network
elements available to competitors at below-cost prices. GTE petitioned for
judicial review of these rules on the grounds that they were inconsistent with
the Telecommunications Act. In October 1996, the U.S. Court of Appeals for the
Eighth Circuit granted GTE's request for stay of the pricing provisions of the
FCC's rules pending the Court's resolution of the merits of GTE's petition.
Oral arguments on the merits were held in January 1997, and the Court's ruling
is expected in the spring of 1997.
GTE is continuing to negotiate with requesting carriers over the terms of
interconnection, unbundled network elements and resale rates. In some cases,
the parties have been unable to agree within the statutory period for
negotiation and have gone to arbitration before various state regulatory
commissions. Since November 1996, a number of state commission decisions
determining the prices and terms of unresolved issues have been released, see
Note 13 of the Company's financial statements included in Item 8. Subsequent
decisions are expected to be issued over a period extending through the first
half of 1997.
The Company has exercised its right under the Telecommunications Act to
challenge state regulatory commission arbitration orders that govern agreements
between the Company and its competitors. The Company has filed lawsuits in
federal district courts in Virginia, Illinois and Kentucky.
In November 1996, the Federal-State Joint Board released its recommended
universal service plan, and in December 1996, the FCC issued its access reform
proposals. Both proposals incorporate a pricing methodology similar to the one
that GTE is appealing in the interconnection case. A final order in the
universal service proceeding must be adopted by early May 1997, and a decision
on the access reform proceeding is expected shortly thereafter.
A key provision of the Telecommunications Act eliminated the legal restraints
of the GTE Consent Decree which kept the Company from providing interLATA long
distance services. This action will simplify GTE's ability to market local,
intraLATA and interLATA service to its customers as a bundled service. In
February 1996, GTE executed an agreement whereby WorldCom, Inc. will provide,
on a non-exclusive basis, a full array of telecommunications services in
support of GTE's entry into the interLATA long distance market. In March 1996,
GTE, through a separate subsidiary, began offering long distance service to its
customers in selected markets. GTE now offers the service, marketed under the
name GTE Easy Savings Plan (sm), in all 50 states.
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<PAGE> 5
The Telecommunications Act forbids states from imposing any barriers to entry
into local and toll competition. To date, local competition has been
authorized in all 28 states where GTE currently offers local telephone service,
including Alabama, Illinois, Kentucky, North Carolina, South Carolina and
Virginia. In addition, nineteen states, including Illinois, Kentucky, North
Carolina and South Carolina have authorized plans that would allow customers to
pre-subscribe to a specific carrier to handle their intraLATA toll calls.
Pre-subscribed customers will simply dial "1" before the telephone number in
order to complete intraLATA calls. GTE has proposals pending in all nine of
the states, including Alabama and Virginia, which have not ordered
implementation.
Federal and state regulatory activity continued to change the traditional
cost-based, rate-of-return regulatory framework for intrastate and interstate
telephone service. 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 Company's
markets. The state regulatory commissions in Alabama, Kentucky and North
Carolina have adopted price regulation for intrastate telephone service.
Regulatory commissions in the states of Illinois, South Carolina and Virginia
continue to remain under the traditional cost-based, rate-of-return regulatory
framework for intrastate telephone service.
For the provision of interstate access 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 LEC may charge are increased or decreased each year by a price index
based upon inflation less a predetermined productivity target. LECs have
limited pricing flexibility provided they do not exceed the allowed price cap.
Further information regarding the Company's activities with the various
regulatory agencies and revenue arrangements with other telephone companies is
discussed in Note 13 of the Company's financial statements included in Item 8.
The Company continues to support greater competition in telecommunications,
provided that, overall, the actions to eliminate existing legal and regulatory
barriers benefit consumers by allowing an opportunity for all service providers
to participate equally in a competitive marketplace under comparable
conditions.
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 telephone networks. However, it is likely that such
improvements will be offset, in part, by continued strategic pricing reductions
and the effects of increased competition.
INITIATIVES
In 1996, the Company and its parent, GTE, continued to position themselves to
respond aggressively to competitive developments and benefit from new
opportunities.
GTE South Incorporated (the Company):
Restructuring and Cost Control
During 1996, the Company substantially completed the implementation of its
three-year $163 million re-engineering program. Total costs of the program
included $110 million related to improvements in customer service processes,
$39.6 million related to improvements in administrative processes and $13.4
million related to the consolidation of facilities and operations and other
related costs. These costs were primarily associated with the closure and
relocation of various service centers, software enhancements and separation
benefits related to employee reductions.
3
<PAGE> 6
GTE Corporation (GTE):
Video Services
The Telecommunications Act eliminates the telephone company programming ban and
allows GTE the flexibility to choose whether it will enter the wireline video
distribution business through an open video platform arrangement or via a
standard cable television operation (Title VI). The legislation also allows
GTE to deploy video networks which are fully integrated with its telephone
operations.
GTE, through a separate subsidiary, made its initial entry into the video
market under Title VI. The most technologically-advanced hybrid fiber/coaxial
network available is being deployed. At the end of 1996, GTE had been granted
six franchises, three in California and three in Florida. Construction of the
networks in those markets is underway and approximately 7,000 video subscribers
were acquired in 1996, bringing GTE's total video subscribers to approximately
15,000.
Internet Access
GTE, through a separate subsidiary, was the first local-exchange carrier to
introduce nationwide Internet services to residential and business customers in
1996. By year-end 1996, GTE's Internet access service, marketed as GTE
Internet Solutions, was offered in over 350 cities covering 49 states,
including Alabama, Illinois, Kentucky, North Carolina, South Carolina and
Virginia. An agreement with UUNET Technologies provides the Internet backbone
and local dialing capabilities. Over 70,000 customers were subscribing to GTE
Internet Solutions at December 31, 1996.
GTE Long Distance
One of the most significant impacts of the Telecommunications Act's passage was
the removal of certain restrictions previously included in GTE's Consent
Decree. Prior to February 8, 1996, GTE was restricted from jointly marketing
the products and services of the Company with those of GTE's interexchange
subsidiaries. With this joint marketing restriction lifted, GTE can now offer
its customers many services on one monthly bill, with one point of contact.
This opportunity facilitated GTE's entry into the long distance business, as
discussed above. By December 31, 1996, GTE, through a separate subsidiary, was
offering the service, marketed under the name GTE Easy Savings Plan (sm), in
all 50 states and was serving over 825,000 customers.
ENVIRONMENTAL MATTERS
GTE maintains monitoring and compliance programs related to environmental
matters. The Company's annual expenditures for environmental compliance have
not been and are not expected to be material. Costs incurred include outlays
required to keep existing operations in compliance with environmental
regulations and an underground storage tank replacement program.
4
<PAGE> 7
Item 2. Properties
The Company's property consists principally of land, structures and equipment
required to provide various telecommunications services. All of these
properties, located in the states of Alabama, Illinois, Kentucky, North
Carolina, South Carolina and Virginia, are generally in good operating
condition and adequate to satisfy the needs of the business. Substantially all
of the Company's property is subject to the liens of its respective mortgages
securing funded debt. From January 1, 1992 to December 31, 1996, the Company
made capital expenditures of $1.5 billion for new plant and facilities required
to meet telecommunication service needs and to modernize plant and facilities.
These additions were equal to 36% of gross plant of $4.1 billion at December
31, 1996.
In the fourth quarter of 1995, the Company discontinued the use of Statement of
Financial Accounting Standards No. 71, "Accounting for the Effects of Certain
Types of Regulation" (FAS 71).
In general, FAS 71 required the Company to depreciate its telephone plant and
equipment over lives approved by regulators which, in many cases, extended
beyond the assets' economic lives. FAS 71 also required the deferral of
certain costs based upon approvals received from regulators to recover such
costs in the future. As a result of these requirements, the recorded net book
value of certain assets and liabilities, primarily telephone plant and
equipment, were in many cases higher than that which would otherwise have been
recorded based on their economic lives. See Note 2 of the Company's financial
statements included in Item 8.
Item 3. Legal Proceedings
There are no pending legal proceedings which would have a material impact on
the Company's financial statements.
Item 4. Submission of Matters to a Vote of Security Holders
None.
5
<PAGE> 8
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 (GTE).
SHAREHOLDER SERVICES
The First National Bank of Boston, Transfer Agent and Registrar for GTE and the
Company's common stock and preferred stock, should be contacted with any
questions relating to shareholder accounts. This includes the following:
o Account information
o Dividends
o Market prices
o Transfer instructions
o Statements and reports
o Change of address
Shareholders may call toll-free at 1-800-225-5160 anytime, seven days a week.
Customer Service Representatives are available Monday through Friday between
the hours of 8 a.m. and 5 p.m. Eastern Time. Outside the United States call
1-617-575-2990.
Or write to:
Bank of Boston
c/o Boston EquiServe, L.P.
P.O. Box 9121
Boston, MA 02205-9121
For overnight delivery services, use the following address:
Bank of Boston
c/o Boston EquiServe, L.P.
Blue Hills Office Park
150 Royall Street
Canton, MA 02021
The Bank of Boston address where shareholders, banks and brokers may deliver
certificates is One Exchange Place, 55 Broadway in New York City.
PARENT COMPANY ANNUAL REPORT
To obtain a copy of the 1996 annual report of our parent company or the annual
Form 10-K filed with the Securities and Exchange Commission, call
1-800-225-5160.
INFORMATION VIA THE INTERNET
Internet World Wide Web users can access information on GTE through the
following universal resource: http://www.gte.com
PRODUCTS AND SERVICES HOTLINE
Shareholders may call 1-800-828-7280 to receive information concerning GTE
products and services.
6
<PAGE> 9
Item 6. Selected Financial Data
GTE South Incorporated
<TABLE>
<CAPTION>
Years Ended December 31,
--------------------------------------------------------------
Selected Income Statement Items (a) 1996 1995 1994 1993(b)(c) 1992
----------------------------------- --------------------------------------------------------------
(Thousands of Dollars)
<S> <C> <C> <C> <C> <C>
Revenues and sales $1,417,699 $1,319,110 $1,250,404 $1,438,063 $1,426,107
Operating costs and expenses 965,343 956,958 982,056 1,225,452 1,030,994
---------- ---------- ---------- ---------- ----------
Operating income 452,356 362,152 268,348 212,611 395,113
Interest - net 46,307 57,656 57,653 90,276 91,154
Gain on disposition of assets -- -- -- (63,112) --
Other - net (15,123) (20,000) 4,200 -- --
Income taxes 160,478 121,897 77,308 85,712 108,869
---------- ---------- ---------- ---------- ----------
Income before extraordinary charges 260,694 202,599 129,187 99,735 195,090
Extraordinary charges (d) -- 509,880 -- -- --
---------- ---------- ---------- ---------- ----------
Net income (loss) $ 260,694 $ (307,281) $ 129,187 $ 99,735 $ 195,090
========== ========== ========== ========== ==========
Dividends declared on common stock $ 186,952 $ 117,892 $ 168,660 $ 341,998 $ 119,500
Dividends declared on preferred stock 153 157 171 177 186
</TABLE>
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
Years Ended December 31,
--------------------------------------------------------------
Selected Balance Sheet Items (a) 1996 1995 1994 1993(b) 1992
----------------------------------- --------------------------------------------------------------
(Thousands of Dollars)
<S> <C> <C> <C> <C> <C>
Property, plant and equipment, net (d) $1,588,038 $1,566,183 $2,402,927 $2,379,039 $2,895,282
Total assets 2,005,308 1,902,748 2,762,128 3,174,642 3,293,635
Long-term debt and preferred stock,
subject to mandatory redemption 638,683 726,060 597,213 566,705 999,848
Shareholders' equity 678,947 605,358 1,030,678 1,070,320 1,312,760
</TABLE>
- -------------------------------------------------------------------------------
(a) Per share data is omitted since the Company's common stock is 100% owned by
GTE Corporation.
(b) In 1993, the Company sold 329,000 net access lines through property
repositioning.
(c) Operating income in 1993 included a $163 million pre-tax charge for
restructuring costs which reduced net income by $100.4 million.
(d) See Note 2 to the financial statements included in Item 8.
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Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations (Dollars in Millions)
BUSINESS OPERATIONS
GTE South Incorporated (the Company), a wholly-owned subsidiary of GTE
Corporation (GTE), provides local-exchange, network access and toll services in
the states of Alabama, Illinois, Kentucky, North Carolina, South Carolina and
Virginia. At December 31, 1996, the Company served 2,087,211 access lines in
its service territories.
RESULTS OF OPERATIONS
<TABLE>
<CAPTION>
Years Ended December 31,
--------------------------------
1996 1995 1994
--------- --------- --------
<S> <C> <C> <C>
Net income (loss) $ 260.7 $ (307.3) $ 129.2
</TABLE>
The net loss for 1995 includes an extraordinary charge (net of tax) of $497.5
for the discontinuance of Statement of Financial Accounting Standards No. 71,
"Accounting for the Effects of Certain Types of Regulation" (FAS 71) in the
fourth quarter of 1995 and an extraordinary charge (net of tax) of $12.4
related to the early retirement of debt.
Excluding the extraordinary charges discussed above, net income increased 29%
or $58.1 in 1996 and 57% or $73.4 in 1995. The 1996 increase reflects higher
local and network access revenues, reflecting customer growth, and lower
interest expense, partially offset by higher operating costs and expenses and
higher income taxes. The 1995 increase is primarily attributable to continued
customer growth, lower operating costs and expenses and the reversal of
reserves related to expired warranties on properties sold during 1993,
partially offset by higher depreciation costs.
REVENUES AND SALES
<TABLE>
<CAPTION>
Years Ended December 31,
--------------------------------------
1996 1995 1994
--------- ----------- --------
<S> <C> <C> <C>
Local services $ 542.7 $ 503.0 $ 474.5
Network access services 562.1 494.9 481.6
Toll services 131.7 149.8 125.8
Other services and sales 181.2 171.4 168.5
--------- --------- --------
Total revenues and sales $ 1,417.7 $ 1,319.1 $1,250.4
</TABLE>
Total revenues and sales increased 7% or $98.6 and 5% or $68.7 during 1996 and
1995, respectively.
Local service revenues are based on fees charged to customers for providing
local-exchange service within designated franchise areas. Local service
revenues increased 8% or $39.7 in 1996 and 6% or $28.5 in 1995. The number of
access lines increased 5% in 1996, generating $14.7 of additional revenues,
which reflects customer growth, second line promotions and expansion of local
calling areas. Also contributing to the 1996 increase are growth of $8.8 in
sales of enhanced custom calling features, such as SmartCall (R), growth of $5
in sales of integrated digital services, which enable rapid transmission of
voice, data, image and text, such as Internet access, and growth of $4.7 in
sales of Centranet (R). The number of access lines increased 5% in 1995,
generating $12.7 of additional revenues. The 1995
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<PAGE> 11
increase also includes a $5.9 increase in revenues from new services, including
Integrated Services Digital Network (ISDN), a $3.9 growth in sales of Centranet
(R) services and a $3 growth in revenues from enhanced custom calling features.
Network access service revenues are based on fees charged to interexchange
carriers that use the Company's local-exchange network in providing long
distance services. In addition, business and residential customers pay access
fees to connect to the local network to obtain long distance service. Cellular
service providers and other local- exchange carriers also pay access charges
for cellular and intraLATA (Local Access and Transport Area) toll calls hauled
or terminated by the Company. Network access service revenues increased 14% or
$67.2 in 1996 and 3% or $13.3 in 1995. The 1996 increase includes the effects
of a 12% increase in minutes of use, which generated additional revenues of
$33.5, growth in intraLATA access revenues of $14.8 due largely to a change in
compensation arrangements in North Carolina with other local-exchange carriers
(LECs), and growth in dedicated lines resulting in higher special access
revenues of $11.3. Additionally, the 1996 increase reflects $6.8 of favorable
access revenue adjustments, higher end user access charge revenues of $3.4 due
to line growth, and an increase in the volume of cellular service providers
accessing the Company's network which generated revenues of $3.3. Partially
offsetting these 1996 increases is the net effect of the 1995 and 1996 Annual
Price Cap Filings which reduced rates, unfavorably impacting revenues by $5.5.
The 1995 increase is principally due to a 9% increase in minutes of use, which
generated additional revenues of $11.5. A $2.6 increase in end user access
charge revenues, a $2.5 increase in Universal Service Fund support and $2.7 of
favorable carrier settlements recorded in 1995 further contribute to the 1995
increase in network access service revenues. These increases are partially
offset by a $4.8 reduction in interstate access revenues associated with
affiliate audit price changes and a $4.7 decrease in revenues related to a
revised estimate of shareable earnings recorded in the second quarter of 1995.
Toll service revenues are based on fees charged for service beyond a customer's
local calling area but within the LATA. Toll service revenues decreased 12% or
$18.1 in 1996 and increased 19% or $24 in 1995. The 1996 decrease reflects the
impacts of optional discount calling plans, which effectively lowered
intrastate long distance rates. In addition, lower toll volumes, primarily
relating to intraLATA toll competition, contribute to the revenue decline. The
decrease is also the result of unfavorable settlements, reducing toll revenues
by $9.3. The 1995 increase is primarily attributable to $19.2 of favorable
toll settlements, partially offset by a $0.9 decline in toll activity resulting
from competition.
Other services and sales revenues increased 6% or $9.8 in 1996 and 2% or $2.9
in 1995. The 1996 increase reflects an increase of $5.9 in directory
advertising revenue due to the timing of directory publications, an increase of
$2.2 in voice and data equipment sales and growth of $1.7 in sales of voice
messaging services. The 1995 increase is driven by a $12 increase in revenues
related to voice and data equipment sales, primarily Lineskeeper (R), a
protection service for inside wiring. These increases are partially offset by
a $6.9 decrease in billing and collection revenues and a $2.8 decrease in
directory advertising revenue due to lower directory sales and timing of
directory publications.
OPERATING COSTS AND EXPENSES
<TABLE>
<CAPTION>
Years Ended December 31,
-----------------------------------------
1996 1995 1994
--------- ----------- ---------
<S> <C> <C> <C>
Cost of services and sales $ 492.0 $ 479.1 $ 506.5
Selling, general and administrative 194.8 203.5 212.7
Depreciation and amortization 278.5 274.4 262.9
------- ------- -------
Total operating costs and expenses $ 965.3 $ 957.0 $ 982.1
</TABLE>
Total operating costs and expenses increased 1% or $8.3 during 1996 and
decreased 3% or $25.1 during 1995.
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<PAGE> 12
The 1996 increase in operating costs and expenses is a result of higher material
costs of $10.3 which are directly associated with increased revenues and sales.
In addition, the increase reflects higher operating taxes of $5.9, higher
depreciation costs of $4.1 primarily resulting from increased plant investments
and a reserve of $2.3 for inside wire maintenance settlement costs recorded in
the third quarter of 1996, discussed below. The impact of $10 in pension
settlement gains recorded in 1996 is offset by settlement gains of $2.8 recorded
in 1995, which resulted from lump-sum payments from the Company's pension plans.
In addition, the 1996 increase is partially offset by the effect of
cost-reduction programs from process re-engineering activities reflected by $5.6
of lower rent expense and $2.3 of lower data processing costs.
The 1995 decrease is primarily the result of lower cost of services and sales
and selling, general and administrative costs, reflecting the favorable effects
of ongoing cost-reduction programs from process re-engineering activities,
partially offset by higher depreciation costs. The 1995 decrease is
attributable to $5.1 of lower labor and benefit costs. The decrease also
includes an $8.7 decrease in the provision for uncollectible accounts, an $8
decrease in material costs, a $7.5 decrease in charges related to unbillable
calling card calls and $12.9 of nonrecurring unfavorable settlement activities
recorded in the third quarter of 1994. These decreases are partially offset by
an $11.5 increase in depreciation costs, primarily related to higher gross
plant balances and rate changes in Kentucky and North Carolina effective in
June 1994, and a $7.1 increase in access charges, under an Originating
Responsibility Plan (ORP), to other LECs for intraLATA toll calls that are
originated by the Company and terminated by another LEC.
OTHER (INCOME) EXPENSES
<TABLE>
<CAPTION>
Years Ended December 31,
-----------------------------------------
1996 1995 1994
--------- ----------- ---------
<S> <C> <C> <C>
Interest - net $ 46.3 $ 57.7 $ 57.7
Other - net (15.1) (20.0) 4.2
Income taxes 160.5 121.9 77.3
</TABLE>
Interest - net decreased 20% or $11.4 in 1996 and remained virtually unchanged
for 1995. The 1996 decrease is primarily attributable to lower interest
expense reflecting lower interest rates associated with the high-coupon debt
refinancing program initiated during the fourth quarter of 1995.
Other - net income of $15.1 in 1996 and $20 in 1995 represents the reversal of
expired representation and warranty reserves related to certain 1993 property
dispositions. Other - net expense of $4.2 in 1994 represents fees associated
with the early retirement of debt recorded in the second and third quarters of
1994.
Income taxes increased 32% or $38.6 in 1996 and 58% or $44.6 in 1995. The
1996 and 1995 increases are primarily related to the increases in pre-tax
income. Additionally, the 1995 increase includes adjustments in prior years'
tax liabilities.
CAPITAL RESOURCES AND LIQUIDITY
Management believes that the Company has adequate internal and external
resources available to meet ongoing operating requirements for construction of
new plant, modernization of facilities and payment of dividends. The Company
generally funds its construction program from operations although external
financing is available. Short-term borrowings can be obtained through
commercial paper borrowings or borrowings from GTE. On July 1, 1996, the
Company began participating with other affiliates in a $1,500 syndicated line
of credit to back up commercial paper borrowings. Through this shared
arrangement, the Company can issue up to $300 of commercial paper. The Company
currently has an existing shelf registration statement for an additional $225
of debentures.
10
<PAGE> 13
The Company's primary source of funds during 1996 was cash from operations of
$458 compared to $437 for the same period in 1995. The year-to-year increase
in cash from operations is primarily the result of improved results from
operations, partially offset by an increase in working capital requirements.
Cash from operations was also utilized to fund the Company's re-engineering
plan.
The Company's capital expenditures during 1996 were $297.7 compared to $248.5
during the same period in 1995. The 1996 expenditures reflect the Company's
continued access line growth and modernization of current facilities to support
new products and expanded service capabilities. The Company's anticipated
construction costs for 1997 are expected to increase slightly from the 1996
level, reflecting the continued expansion of existing networks.
Net cash used in financing was $175.6 in 1996 compared to $163.8 in 1995. The
Company issued $125 of 6.0% debentures in February 1996 and $250 of 7.5%
debentures in March 1996 to refinance $248.2 of debt which was called and
redeemed in the fourth quarter of 1995. Financing included the repayment of
short-term borrowings of $414 in 1996 compared to borrowings of $277.9 in 1995,
including a reduction to commercial paper from the proceeds of the offerings.
In addition, the Company has invested funds with GTE, based on cash
requirements under its 1996 capital program. The Company retired an additional
$4.5 of long-term debt and preferred stock in 1996 compared to total
retirements of $62.5 in 1995. The Company made dividend payments of $141.2 in
1996 compared to $118.3 in 1995.
At December 31, 1995, the Company had entered into forward contracts to sell
$250 million of U.S. Treasury Bonds to hedge against changes in market interest
rates related to the debt the Company called and subsequently refinanced in
March 1996, discussed above. A gain of approximately $15 million occurred upon
settlement of the forward contracts and is being amortized over the life of the
associated refinanced debt as an offset to interest expense.
REGULATORY AND COMPETITIVE TRENDS
The Company is subject to regulation by the regulatory bodies of the states of
Alabama, Illinois, Kentucky, North Carolina, South Carolina and Virginia as to
its intrastate business operations and by the Federal Communications Commission
(FCC) as to its interstate operations.
Significant regulatory and legislative developments occurred during 1996,
including the passage of the Telecommunications Act of 1996 (the
Telecommunications Act). The Telecommunications Act is intended to promote
competition in all sectors of the telecommunications marketplace, while
preserving and advancing universal telephone service.
As a result of the Telecommunications Act, the Company may be faced with
increased competition from numerous sources, including competitive access
providers (CAPs), alternative local-exchange carriers (ALECs), interexchange
carriers (IXCs), wireless carriers, cable providers, media and computer
companies. These companies collectively have the ability to offer a broad
array of voice, video and data services to business and residential customers.
Following passage of the Telecommunications Act, the FCC has undertaken to
issue rules governing three areas: interconnection, universal service and
access charge reform. In August 1996, the FCC adopted its rules governing
interconnection. These rules generally require LECs to make their services
available to competitors at a wholesale discount and to make their network
elements available to competitors at below-cost prices. GTE petitioned for
judicial review of these rules on the grounds that they were inconsistent with
the Telecommunications Act. In October 1996, the U.S. Court of Appeals for the
Eighth Circuit granted GTE's request for a stay of the pricing provisions of
the FCC's rules pending the Court's resolution of the merits of GTE's petition.
Oral arguments on the merits were held in January 1997, and the Court's ruling
is expected in the spring of 1997.
11
<PAGE> 14
In November 1996, the Federal-State Joint Board released its recommended
universal service plan, and in December 1996, the FCC issued its access reform
proposals. Both proposals incorporate a pricing methodology similar to the one
that GTE is appealing in the interconnection case. A final order in the
universal service proceeding must be adopted by early May 1997, and a decision
on the access reform proceeding is expected shortly thereafter.
A key provision of the Telecommunications Act eliminated the legal restraints
of the GTE Consent Decree which kept the Company from providing interLATA long
distance services. This action will simplify GTE's ability to market local,
intraLATA and interLATA service to its customers as a bundled service. In
February 1996, GTE executed an agreement whereby WorldCom, Inc. will provide,
on a non-exclusive basis, a full array of telecommunications services in
support of GTE's entry into the interLATA long distance market. In March 1996,
GTE, through a separate subsidiary, began offering long distance service to its
customers in selected markets. GTE now offers the service, marketed under the
name GTE Easy Savings Plan (sm), in all 50 states.
The Telecommunications Act forbids states from imposing any barriers to entry
into local and toll competition. To date, local competition has been
authorized in all 28 states where GTE currently offers local telephone service,
including Alabama, Illinois, Kentucky, North Carolina, South Carolina and
Virginia. In addition, nineteen states, including Illinois, Kentucky, North
Carolina and South Carolina, have authorized plans that would allow customers
to pre-subscribe to a specific carrier to handle their intraLATA toll calls.
Pre-subscribed customers will simply dial "1" before the telephone number in
order to complete intraLATA calls. GTE has proposals pending in all nine of
the states, including Alabama and Virginia, which have not ordered
implementation.
Federal and state regulatory activity continued to change the traditional
cost-based, rate-of-return regulatory framework for intrastate and interstate
telephone service. 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 Company's
markets. The state regulatory commissions in Alabama, Kentucky and North
Carolina have adopted price regulation for intrastate telephone service.
Regulatory commissions in the states of Illinois, South Carolina and Virginia
continue to remain under the traditional cost-based, rate-of-return regulatory
framework for intrastate telephone service.
For the provision of interstate access 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 LEC may charge are increased or decreased each year by a price index
based upon inflation less a predetermined productivity target. LECs have
limited pricing flexibility provided they do not exceed the allowed price cap.
Further information regarding the Company's activities with the various
regulatory agencies and revenue arrangements with other telephone companies is
discussed in Note 13 of the Company's financial statements included in Item 8.
The Company continues to support greater competition in telecommunications,
provided that, overall, the actions to eliminate existing legal and regulatory
barriers benefit consumers by allowing an opportunity for all service providers
to participate equally in a competitive marketplace under comparable
conditions.
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 telephone networks. However, it is likely that such
improvements will be offset, in part, by continued strategic pricing reductions
and the effects of increased competition.
12
<PAGE> 15
OTHER MATTERS
Eleven separate class action lawsuits were brought against GTE and twelve of its
subsidiaries (GTE Defendants), including the Company, relating to the provision
of inside wire maintenance services. On August 6, 1996, the GTE Defendants and
class counsel executed and filed a settlement agreement in one of the lawsuits.
The Court preliminarily approved the agreement and conditionally certified a
national class of plaintiffs for settlement purposes. A fairness hearing on the
settlement was held on December 18, 1996. On January 21, 1997, the Court
approved the settlement as written and issued a permanent injunction to prohibit
future lawsuits covering any claims from 1987 to the date of settlement.
Pursuant to the settlement, a proof of claim form was inserted into the March
1997 customer bills for the national class to request their benefits under the
settlement. Management believes that the Company has adequately provided for
this settlement in its financial statements for the year ended December 31,
1996.
INITIATIVES
In 1996, the Company and its parent, GTE, continued to position themselves to
respond aggressively to competitive developments and benefit from new
opportunities. Further information regarding these initiatives is discussed in
Item 1.
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.
13
<PAGE> 16
Item 8. Financial Statements and Supplementary Data
GTE South Incorporated
STATEMENTS OF INCOME (Note 4)
<TABLE>
<CAPTION>
Years ended December 31 1996 1995 1994
- ----------------------- ---------- ---------- ----------
(Thousands of Dollars)
<S> <C> <C> <C>
REVENUES AND SALES (a)
Local services $ 542,680 $ 502,975 $ 474,502
Network access services 562,158 494,892 481,555
Toll services 131,694 149,779 125,814
Other services and sales 181,167 171,464 168,533
---------- ---------- ----------
Total revenues and sales 1,417,699 1,319,110 1,250,404
---------- ---------- ----------
OPERATING COSTS AND EXPENSES (b)
Cost of services and sales 492,003 479,060 506,485
Selling, general and administrative 194,795 203,532 212,694
Depreciation and amortization 278,545 274,366 262,877
---------- ---------- ----------
Total operating costs and expenses 965,343 956,958 982,056
---------- ---------- ----------
OPERATING INCOME 452,356 362,152 268,348
OTHER (INCOME) EXPENSE
Interest - net 46,307 57,656 57,653
Other - net (15,123) (20,000) 4,200
---------- ---------- ----------
INCOME BEFORE INCOME TAXES 421,172 324,496 206,495
Income taxes 160,478 121,897 77,308
---------- ---------- ----------
INCOME BEFORE EXTRAORDINARY CHARGES 260,694 202,599 129,187
Extraordinary charges -- (509,880) --
---------- ---------- ----------
NET INCOME (LOSS) $ 260,694 $ (307,281) $ 129,187
========== ========== ==========
</TABLE>
(a) Includes billings to affiliates of $42,696, $37,247 and $39,883 for the
years 1996-1994, respectively.
(b) Includes billings from affiliates of $77,857, $85,069 and $55,823 for the
years 1996-1994, respectively.
See Notes to Financial Statements.
14
<PAGE> 17
GTE South Incorporated
BALANCE SHEETS
<TABLE>
<CAPTION>
December 31 1996 1995
- ----------- ------------ ------------
(Thousands of Dollars)
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $ 16,491 $ 31,271
Receivables, less allowances of $17,884 and $17,081 213,227 171,593
Note receivable from affiliate 28,836 --
Inventories and supplies 16,054 17,510
Deferred income tax benefits -- 13,361
Other 15,768 12,288
---------- ----------
Total current assets 290,376 246,023
---------- ----------
Property, plant and equipment, net 1,588,038 1,566,183
Employee benefit plans 115,939 83,600
Other assets 10,955 6,942
---------- ----------
Total assets $2,005,308 $1,902,748
========== ==========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Short-term obligations, including current maturities $ 98,500 $16,140
Accounts payable 58,745 68,060
Affiliate payables and accruals 37,581 24,230
Advanced billings and customer deposits 31,823 30,258
Taxes payable 8,416 35,711
Accrued interest 15,463 8,213
Accrued payroll costs 35,448 35,621
Dividends payable 45,968 18
Accrued restructuring costs -- 74,254
Deferred income tax liabilities 21,156 --
Other 73,392 60,471
---------- ----------
Total current liabilities 426,492 352,976
---------- ----------
Long-term debt 635,944 723,304
Deferred income taxes 88,635 78,722
Employee benefit plans 164,967 135,327
Other liabilities 7,584 4,305
---------- ----------
Total liabilities 1,323,622 1,294,634
---------- ----------
Preferred stock, subject to mandatory redemption 2,739 2,756
---------- ----------
Shareholders' equity:
Preferred stock 412 412
Common stock (21,000,000 shares issued) 525,000 525,000
Additional paid-in capital 58,320 58,320
Retained earnings 95,215 21,626
---------- ----------
Total shareholders' equity 678,947 605,358
---------- ----------
Total liabilities and shareholders' equity $2,005,308 $1,902,748
========== ==========
</TABLE>
See Notes to Financial Statements.
15
<PAGE> 18
GTE South Incorporated
STATEMENTS OF CASH FLOWS (Note 4)
<TABLE>
<CAPTION>
Years Ended December 31 1996 1995 1994
- ----------------------- ------------------------------------------
(Thousands of Dollars)
<S> <C> <C> <C>
OPERATIONS
Income before extraordinary charges $ 260,694 $ 202,599 $ 129,187
Adjustments to reconcile income before extraordinary
charges to net cash from operations:
Depreciation and amortization 278,545 274,366 262,877
Deferred income taxes 44,430 31,719 (24,846)
Tax payments on disposition -- -- (170,684)
Provision for uncollectible accounts 21,361 22,229 31,364
Change in current assets and current liabilities:
Receivables - net (63,901) 27,373 (21,805)
Other current assets 2,074 (7,720) 13,626
Accrued taxes and interest (24,143) (16,954) 80,604
Other current liabilities (35,506) (60,521) (32,882)
Other - net (25,568) (36,056) 10,619
----------- ----------- -----------
Net cash from operations 457,986 437,035 278,060
----------- ----------- -----------
INVESTING
Capital expenditures (297,683) (248,469) (279,791)
Other - net 521 -- --
----------- ----------- -----------
Net cash used in investing (297,162) (248,469) (279,791)
----------- ----------- -----------
FINANCING
Long-term debt issued 369,126 -- 147,792
Long-term debt and preferred stock retired (4,457) (310,652) (126,343)
Dividends (141,155) (118,321) (388,460)
Increase (decrease) in short-term obligations,
excluding current maturities (413,964) 277,900 357,481
Other - net 14,846 (12,771) --
----------- ----------- -----------
Net cash used in financing (175,604) (163,844) (9,530)
----------- ----------- -----------
Increase (decrease) in cash and cash equivalents (14,780) 24,722 (11,261)
Cash and cash equivalents:
Beginning of year 31,271 6,549 17,810
----------- ----------- -----------
End of year $ 16,491 $ 31,271 $ 6,549
=========== =========== ===========
Cash paid during the year for:
Interest $ 44,667 $ 62,625 $ 50,890
Income taxes 137,293 95,850 214,397
</TABLE>
See Notes to Financial Statements.
16
<PAGE> 19
GTE South Incorporated
STATEMENTS OF SHAREHOLDERS' EQUITY (Note 4)
<TABLE>
<CAPTION>
Additional
Preferred Common Paid-In Retained
Stock Stock Capital Earnings Total
--------- ------- ---------- -------- -----
(Thousands of Dollars)
<S> <C> <C> <C> <C> <C>
Shareholders' equity, December 31, 1993 $ 412 $525,000 $58,308 $ 486,600 $1,070,320
Net income 129,187 129,187
Dividends declared (168,831) (168,831)
Redemption of preferred stock below
stated par 2 -- 2
------- -------- ------- ----------- ----------
Shareholders' equity, December 31, 1994 412 525,000 58,310 446,956 1,030,678
Net loss (307,281) (307,281)
Dividends declared (118,049) (118,049)
Redemption of preferred stock below
stated par 10 -- 10
------- -------- ------- ----------- ----------
Shareholders' equity, December 31, 1995 412 525,000 58,320 21,626 605,358
Net income 260,694 260,694
Dividends declared (187,105) (187,105)
------- -------- ------- ----------- ----------
Shareholders' equity, December 31, 1996 $ 412 $525,000 $58,320 $ 95,215 $ 678,947
======= ======== ======= =========== ==========
</TABLE>
See Notes to Financial Statements.
17
<PAGE> 20
GTE South Incorporated
NOTES TO FINANCIAL STATEMENTS
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
DESCRIPTION OF BUSINESS
GTE South Incorporated (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 various industries. At December 31, 1996,
the Company served 2,087,211 access lines in the states of Alabama, Illinois,
Kentucky, North Carolina, South Carolina and Virginia. The Company is a
wholly-owned subsidiary of GTE Corporation (GTE).
BASIS OF PRESENTATION
The Company prepares its financial statements in accordance with generally
accepted accounting principles which require that management make estimates and
assumptions that affect reported amounts. Actual results could differ from
those estimates.
The Company discontinued applying the provisions of Statement of Financial
Accounting Standards No. 71, "Accounting for the Effects of Certain Types of
Regulation" (FAS 71), in the fourth quarter of 1995 (see Note 2).
Reclassifications of prior-year data have been made, where appropriate, to
conform to the 1996 presentation.
TRANSACTIONS WITH AFFILIATES
GTE Supply (100% owned by GTE) provides construction and maintenance equipment,
supplies and electronic repair services to the Company. These purchases and
services amounted to $91 million, $56.8 million and $73.1 million for the years
1996-1994, respectively. Such purchases and services are recorded in the
accounts of the Company, at cost, which includes a normal return realized by
GTE Supply.
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
$77.9 million, $85.1 million and $55.8 million for the years 1996-1994,
respectively. The amounts charged for these affiliated transactions are based
on a proportional cost allocation method.
The Company's financial statements include allocated expenses based on the
sharing of certain executive, administrative, financial, accounting, marketing,
personnel, engineering and other support services being performed at
consolidated work centers among the domestic GTE Telephone Operating Companies.
The amounts charged for these affiliated transactions are based on a
proportional cost allocation method as filed with the Federal Communications
Commission (FCC).
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 $42.7 million, $37.2 million and $39.9 million for the
years 1996-1994, respectively.
TELEPHONE PLANT
In 1996, the Company began providing for depreciation on a straight-line basis
over the estimated economic lives of its assets (see Note 2). The Company had
previously provided for depreciation on a straight-line basis over asset lives
approved by regulators. Maintenance and repairs of property are charged to
income as incurred. Additions to,
18
<PAGE> 21
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 or
extraordinary retirements of property where profit or loss is recognized.
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, revenues are generally recognized when services are rendered or
products are delivered to customers.
INVENTORIES AND SUPPLIES
Inventories and supplies are stated at the lower of cost, determined
principally by the average cost method, or net realizable value.
EMPLOYEE BENEFIT PLANS
Pension and postretirement health care and life insurance benefits earned
during the year as well as interest on accumulated benefit obligations are
accrued currently. Prior service costs and credits resulting from changes in
plan benefits are amortized over the average remaining service period of the
employees expected to receive benefits. Material curtailment/settlement gains
and losses associated with employee separations are recognized in the period in
which they occur.
STOCK OPTION PLANS
In 1995, the Financial Accounting Standards Board issued Statement of Financial
Accounting Standards No. 123, "Accounting for Stock-Based Compensation" (FAS
123). As permitted by FAS 123, the Company continues to apply the recognition
and measurement provisions of Accounting Principles Board Opinion No. 25,
"Accounting for Stock Issued to Employees" (APB 25). The difference between
the recognition and measurement provisions of FAS 123 and APB 25 is not
significant to the Company's results of operations.
INCOME TAXES
The Company's results are included in GTE's consolidated federal income tax
return. The Company participates in a tax-sharing agreement with GTE and remits
tax payments to GTE based on its tax liability on a separate company basis.
Deferred tax assets and liabilities are established for temporary differences
between the way certain income and expense items are reported for financial
reporting and tax purposes and subsequently adjusted to reflect changes in tax
rates expected to be in effect when the temporary differences reverse. A
valuation allowance is established for any deferred tax asset for which
realization is not likely.
CASH AND CASH EQUIVALENTS
Cash and cash equivalents include investments in short-term, highly liquid
securities, which have maturities when purchased of three months or less.
19
<PAGE> 22
2. EXTRAORDINARY CHARGES
In response to legislation (see Note 13) and the increasingly competitive
environment, the Company discontinued the use of FAS 71 in the fourth quarter
of 1995.
As a result of the decision to discontinue FAS 71, the Company recorded a
non-cash, after-tax extraordinary charge of $497.5 million (net of tax benefits
of $323.3 million) in the fourth quarter of 1995. The charge primarily
represents a reduction in the net book value of telephone plant and equipment
through an increase in accumulated depreciation. In addition to the one-time
charge, beginning in 1996, the Company shortened the depreciable lives of its
telephone plant and equipment as follows:
<TABLE>
<CAPTION>
Depreciable Lives
----------------------------------
Average
Asset Category Before After
- ----------------------- ------------- -------------
<S> <C> <C>
Copper 20-30 15
Switching 17-19 10
Circuit 11-13 8
Fiber 25-30 20
</TABLE>
In addition, during 1995, the Company redeemed prior to stated maturity,
approximately $248.2 million of long-term debt. These redemptions resulted in
an after-tax extraordinary charge of $12.4 million (net of tax benefits of $8.1
million).
3. RESTRUCTURING COSTS
During 1993, the Company recorded one-time restructuring costs of $163 million,
which reduced net income by $100.4 million, primarily for incremental costs
related to implementation of the Company's re-engineering plan to improve
customer-responsiveness and product quality, reduce the time necessary to
introduce new products and services and further reduce costs. The
restructuring costs included $110 million to re-engineer customer service
processes and $39.6 million to re-engineer administrative processes. The
restructuring costs also included $13.4 million to consolidate facilities and
operations and other related costs. These expenditures were primarily
associated with the closure and relocation of various service centers, software
enhancements and separation benefits associated with employee reductions. The
re-engineering plan was substantially completed in 1996, consistent with the
original cost estimates.
4. LEGAL ENTITY MERGER
On December 31, 1993, the Company entered into an Agreement of Merger with
Contel of Kentucky, Inc., a Kentucky corporation, Contel of North Carolina,
Inc., a North Carolina corporation, Contel of South Carolina, Inc., a South
Carolina corporation and Contel of Virginia, Inc., a Virginia corporation
(collectively, the Contel Subsidiaries). The agreement provided that the
Contel Subsidiaries would merge with and into the Company, with the Company to
be the surviving corporation (the Merger). The Merger became effective on
September 30, 1994 and has been accounted for similar to a "pooling of
interests." Accordingly, the financial statements include the combined
historical results of operations of the Company and the Contel Subsidiaries as
though the Merger had occurred for all periods.
20
<PAGE> 23
5. PREFERRED STOCK
Cumulative preferred stock, not subject to mandatory redemption, consists of
4,119 authorized and outstanding shares of the 5.20%, $100 par value Series, at
December 31, 1996 and 1995. Cumulative preferred stock, subject to mandatory
redemption, exclusive of amounts held in treasury, is as follows:
<TABLE>
<CAPTION>
Shares
------
<S> <C> <C>
Authorized
$25 par value 97,200
$50 par value 161,114
-------
Total 258,314
=======
</TABLE>
<TABLE>
<CAPTION>
December 31
------------------------------------------------------------------
1996 1995
------------------------------------------------------------------
Shares Amount Shares Amount
------------------------------------------------------------------
Outstanding (Thousands of Dollars) (Thousands of Dollars)
<S> <C> <C> <C> <C> <C>
4.64% $25 par value 68,200 $1,705 68,200 $1,705
5.00% $50 par value 9,690 484 10,025 501
5.16% $50 par value 10,986 550 10,986 550
------ ------ ------ ------
Total 88,876 $2,739 89,211 $2,756
====== ====== ====== ======
</TABLE>
The outstanding preferred stock is redeemable at a premium, at any time, in
whole or in part, on thirty days notice.
The Company is also required to purchase and retire shares each year through
the operation of a purchase fund. Shares can be acquired or tendered on a best
efforts basis at not more than $50 per share for the 5.00% and 5.16% Series and
$25 per share for the 4.64% Series. The maximum number of shares that can be
purchased and retired each year are 1,210 and 790 shares of the 5.00% and 5.16%
Series, respectively, and 3,600 shares for the 4.64% Series.
During 1996, only 335 shares of the 5.00% Series were offered to the Company
for repurchase and no shares of the 5.16% Series were offered for repurchase.
During 1995, the Company purchased 1,010 and 790 shares of the 5.00% and 5.16%
Series, respectively, and fulfilled the remainder of the requirement through
treasury stock. During 1994, the Company met this requirement through the
purchase of 1,210 and 790 shares of 5.00% and 5.16% Series, respectively. In
addition, during 1994, 200 shares of the 5.00% Series were purchased for
treasury stock. During 1996, the Company fulfilled the requirement for the
4.64% Series through treasury stock. The Company purchased 3,600 shares of the
4.64% Series in 1995 and 1994. In addition, 3,600 shares of the 4.64% Series
were purchased for treasury stock during 1995.
The aggregate retirement of preferred stock subject to a purchase fund is
$190,000 in each of the years 1997-2001.
The Company held as treasury shares 3,600 shares of 4.64% Series preferred
stock at December 31, 1995. No shares of preferred stock were reserved for
officers or employees, or for options, warrants, conversions or other rights.
The preferred shareholders are entitled to voting rights (on an equal basis
with the common shareholder) in the event that dividends in arrears are equal
to or exceed the amount of annual dividends. Otherwise, the preferred
shareholders have no voting rights. The Company is not in arrears in its
dividend payments at December 31, 1996.
21
<PAGE> 24
6. COMMON STOCK
The authorized common stock of the Company consists of 25,000,000 shares with a
par value of $25 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, 1996, $20.2 million of retained earnings were restricted as to
the payment of cash dividends on common stock under the most restrictive terms
of the Company's Articles of Incorporation.
22
<PAGE> 25
7. DEBT
Long-term debt as of December 31, was as follows:
<TABLE>
<CAPTION>
1996 1995
------------- -------------
(Thousands of Dollars)
<S> <C> <C>
First mortgage bonds:
6 1/4% Series, due 1997 $ 6,500 $ 6,500
5.875% Series K, maturing through 1997 730 740
6 3/8% Series N, due 1997 9,352 9,352
5.875% Series EE, maturing through 1997 1,900 1,925
8.0 % Series T, due 2001 20,750 20,750
7 5/8% Series U, due 2002 20,995 20,995
7 3/4% Series, due 2003 10,886 10,886
8.0 % Series V, maturing through 2003 1,705 1,870
10.54% Series VV, maturing through 2008 21,177 22,941
8.88 % Series WW, maturing through 2009 30,588 32,941
Debentures:
6 1/4%, due 1997 75,000 75,000
7.250% Series B, due 2002 150,000 150,000
6.0 % Series C, due 2008 125,000 --
7.5 % Series D, due 2026 250,000 --
Unsecured notes payable:
8.25 %, maturing through 1997 680 740
Other:
Commercial paper expected to be refinanced on a long-term basis -- 375,000
Capitalized leases 100 163
---------- ----------
Total principal amount 725,363 729,803
Premium (discount) - net 9,081 (2,059)
---------- ----------
Total 734,444 727,744
Less: current maturities (98,500) (4,440)
---------- ----------
Total long-term debt $ 635,944 $ 723,304
========== ==========
</TABLE>
On February 16, 1996, the Company issued $125 million of 6.0%, Series C
debentures, due 2008. On March 22, 1996, the Company issued $250 million of
7.5%, Series D debentures, due 2026. Net proceeds were applied toward the
repayment of short-term borrowings incurred in connection with the redemption
of long-term debt in December 1995 prior to stated maturity (see Note 2). Net
proceeds were also used to finance the Company's construction program and for
general corporate purposes.
Long-term debt as of December 31, 1995 includes $375 million of commercial
paper which was refinanced by the issuance of debentures in February and March
1996, as discussed above.
23
<PAGE> 26
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 discounts and premiums on the
Company's outstanding long-term debt are amortized over the lives of the
respective issues. Substantially all of the Company's telephone plant is
subject to the liens of the indentures under which the bonds listed above were
issued.
Estimated payments of long-term debt during the next five years are: $98.5
million in 1997; $4.3 million in 1998; $4.3 million in 1999; $4.3 million in
2000 and $25 million in 2001.
Total short-term obligations as of December 31, were as follows:
<TABLE>
<CAPTION>
1996 1995
-------- --------
(Thousands of Dollars)
<S> <C> <C>
Commercial paper - average rate 5.7% $ -- $ 11,700
Current maturities of long-term debt 98,500 4,440
-------- --------
Total $ 98,500 $ 16,140
======== ========
</TABLE>
On July 1, 1996, the Company began participating with other affiliates in a
$1.5 billion syndicated line of credit to back up commercial paper borrowings.
Through this shared arrangement, the Company can issue up to $300 million of
commercial paper.
8. FINANCIAL INSTRUMENTS
At December 31, 1995, the Company had entered into forward contracts to sell
$250 million of U.S. Treasury Bonds to hedge against changes in market interest
rates related to the debt the Company called and subsequently refinanced in
March 1996. A gain of approximately $15 million occurred upon settlement of
the forward contracts and is being amortized over the life of the associated
refinanced debt as an offset to interest expense.
The fair values of financial instruments, other than long-term debt, closely
approximate their carrying value. As of December 31, 1996, the estimated fair
value of long-term debt based on either reference to quoted market prices or an
option pricing model, was lower than the carrying value by approximately $16
million. The estimated fair value of long-term debt as of December 31, 1995
exceeded the carrying value by approximately $23 million.
24
<PAGE> 27
9. INCOME TAXES
The income tax provision (benefit) is as follows:
<TABLE>
<CAPTION>
1996 1995 1994
---------- --------- --------
(Thousands of Dollars)
<S> <C> <C> <C>
Current:
Federal $ 102,289 $ 75,796 $ 77,196
State 13,759 14,382 24,957
--------- --------- ---------
116,048 90,178 102,153
========= ========= =========
Deferred:
Federal 36,499 30,498 (19,833)
State 12,116 6,121 768
--------- --------- ---------
48,615 36,619 (19,065)
--------- --------- ---------
Amortization of deferred investment tax credits (4,185) (4,900) (5,780)
--------- --------- ---------
Total $ 160,478 $ 121,897 $ 77,308
========= ========= =========
</TABLE>
A reconciliation between taxes computed by applying the statutory federal
income tax rate to pre-tax income and income taxes provided in the statements
of income is as follows:
<TABLE>
<CAPTION>
1996 1995 1994
---------- --------- --------
(Thousands of Dollars)
<S> <C> <C> <C>
Amounts computed at statutory rates $ 147,357 $ 113,519 $ 72,273
State and local income taxes, net of federal income tax
benefits 16,819 13,327 16,721
Amortization of deferred investment tax credits, net of
federal income tax benefits (2,720) (4,900) (5,780)
Depreciation of telephone plant construction costs
previously deducted for tax purposes - net -- 3,212 4,183
Rate differentials applied to reversing temporary
differences -- (4,242) (2,450)
Other differences - net (978) 981 (7,639)
--------- --------- ---------
Total provision $ 160,478 $ 121,897 $ 77,308
========= ========= =========
</TABLE>
The tax effects of temporary differences that give rise to the current deferred
income tax benefits and deferred income tax liabilities at December 31, are as
follows:
<TABLE>
<CAPTION>
1996 1995
---------- ----------
(Thousands of Dollars)
<S> <C> <C>
Depreciation and amortization $ 93,681 $ 116,155
Employee benefit obligations (46,531) (62,786)
Prepaid pension cost 34,064 20,595
Investment tax credits 6,501 9,221
Other - net 22,076 (17,824)
--------- ---------
Total $ 109,791 $ 65,361
========= =========
</TABLE>
25
<PAGE> 28
10. EMPLOYEE BENEFIT PLANS
RETIREMENT PLANS
The Company sponsors 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 1996-1994 were as follows:
<TABLE>
<CAPTION>
1996 1995 1994
---------- --------- --------
(Thousands of Dollars)
<S> <C> <C> <C>
Benefits earned during the year $ 12,075 $ 10,170 $ 13,533
Interest cost on projected benefit obligations 34,644 32,702 32,267
Return on plan assets:
Actual (119,633) (136,846) 950
Deferred 56,427 81,932 (57,376)
Other - net (8,732) (11,162) (9,224)
--------- --------- ---------
Net pension credit $ (25,219) $ (23,204) $ (19,850)
========= ========= =========
</TABLE>
The expected long-term rate of return on plan assets was 9.0% for 1996 and 8.5%
for 1995 and 1994.
The funded status of the plans and the net prepaid pension cost at December 31,
were as follows:
<TABLE>
<CAPTION>
1996 1995
--------- ---------
(Thousands of Dollars)
<S> <C> <C>
Vested benefit obligations $ 367,895 $ 324,482
========= =========
Accumulated benefit obligations $ 403,395 $ 365,376
========= =========
Plan assets at fair value $ 850,424 $ 749,916
Less: projected benefit obligations 488,658 449,488
--------- ---------
Excess of assets over projected obligations 361,766 300,428
Unrecognized net transition asset (26,985) (31,172)
Unrecognized net gain (218,842) (185,656)
--------- ---------
Net prepaid pension cost $ 115,939 $ 83,600
========= =========
</TABLE>
Assumptions used to develop the projected benefit obligations at December 31,
were as follows:
<TABLE>
<CAPTION>
1996 1995
------ ------
<S> <C> <C>
Discount rate 7.50% 7.50%
Rate of compensation increase 5.25% 5.25%
</TABLE>
26
<PAGE> 29
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 1996-1994 included the following
components:
<TABLE>
<CAPTION>
1996 1995 1994
---------- --------- --------
(Thousands of Dollars)
<S> <C> <C> <C>
Benefits earned during the year $ 3,686 $ 3,632 $ 4,811
Interest on accumulated postretirement benefit obligations 22,294 22,822 23,393
Actual (return) loss on plan assets (709) (1,873) 381
Amortization of transition obligation 9,437 9,879 10,770
Other - net (523) 1,081 (4,257)
-------- -------- --------
Postretirement benefit cost $ 34,185 $ 35,541 $ 35,098
======== ======== ========
</TABLE>
The following table sets forth the plans' funded status and the accrued
postretirement benefit obligations as of December 31:
<TABLE>
<CAPTION>
1996 1995
--------- ---------
(Thousands of Dollars)
<S> <C> <C>
Accumulated postretirement benefit obligations attributable to:
Retirees $ 217,763 $ 214,614
Fully eligible active plan participants 21,962 19,587
Other active plan participants 77,635 81,590
--------- ---------
Total accumulated postretirement benefit obligations 317,360 315,791
Less: fair value of plan assets 28,501 18,634
--------- ---------
Excess of accumulated obligations over plan assets 288,859 297,157
Unrecognized transition obligation (147,202) (163,990)
Unrecognized net loss 19,664 (2,045)
--------- ---------
Accrued postretirement benefit obligations $ 161,321 $ 131,122
========= =========
</TABLE>
The assumed discount rates used to measure the accumulated postretirement
benefit obligations were 7.5% at December 31, 1996 and December 31, 1995. The
assumed health care cost trend rate was 8.75% in 1996 and averaged 9.75% in
1995 and is assumed to decrease gradually to an ultimate rate of 6.0% in the
year 2004. A one percentage point increase in the assumed health care cost
trend rates for each future year would have increased 1996 costs by $2.9
million and the accumulated postretirement benefit obligations as of December
31, 1996 by $32.1 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 $4.3 million, $3.8 million and $4 million in 1996-1994,
respectively.
27
<PAGE> 30
11. PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment is summarized as follows at December 31:
<TABLE>
<CAPTION>
1996 1995
----------- -----------
(Thousands of Dollars)
<S> <C> <C>
Land $ 18,149 $ 17,794
Buildings 207,843 208,362
Plant and equipment 3,587,851 3,381,721
Other 323,019 319,972
----------- -----------
Total 4,136,862 3,927,849
Accumulated depreciation (see Note 2) (2,548,824) (2,361,666)
----------- -----------
Total property, plant and equipment - net $ 1,588,038 $ 1,566,183
=========== ===========
</TABLE>
Depreciation expense was equivalent to a composite average percentage of 6.9%
in 1996 and 7.1% in 1995-1994.
12. OTHER - NET
The components of other - net for the years ended December 31, are as follows:
<TABLE>
<CAPTION>
1996 1995 1994
-------- -------- --------
(Thousands of Dollars)
<S> <C> <C> <C>
Income from the reversal of expired representation
and warranty reserves $(15,123) $(20,000) $ --
Expense associated with the early retirement of debt -- -- 4,200
-------- -------- --------
Total $(15,123) $(20,000) $ 4,200
======== ======== ========
</TABLE>
28
<PAGE> 31
13. REGULATORY AND COMPETITIVE MATTERS
The Company's intrastate business is regulated by the state regulatory
commissions in Alabama, Illinois, Kentucky, North Carolina, South Carolina and
Virginia. The Company is subject to regulation by the FCC for its interstate
business operations.
INTRASTATE SERVICES
The Company provides local-exchange services to customers within its designated
franchise area. The Company provides toll 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
service between LATAs. Provisioning of intrastate long distance services
within the Company is accomplished by either (i) arrangements whereby the
Company acts or is a provider of long distance services directly to the
customers (Virginia), (ii) receiving access revenues from the primary toll
carrier within the LATA (Alabama and Illinois), (iii) participation in an
intraLATA compensation plan, called an Originating Responsibility Plan (ORP)
(North Carolina, South Carolina and Kentucky). Under the ORP 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 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. The Company receives
transitional support payments from any revenue loss created by these changes in
compensation arrangements under the terms of various industry agreements. In
late 1996, the Company canceled its intraLATA toll agreement with BellSouth
Corporation (BellSouth) in Alabama, wherein BellSouth served as the primary
toll carrier within LATAs, and began to provide intraLATA toll services
directly to its own customers through its own toll tariff. It is anticipated
that the Company will enter an ORP for intraLATA toll compensation in Alabama
in early 1997.
Alabama
On September 20, 1995, the Alabama Public Service Commission (APSC) adopted a
mandatory price regulation plan for South Central Bell (SCB) and an optional
price regulation plan for the other local-exchange carriers (LECs), including
the Company. The Company, via a letter dated December 19, 1995, indicated its
intention to participate in the optional plan. This plan includes no earnings
limitations. Basic local-exchange rates are capped at their present level for
five years, and thereafter are adjusted in accordance with a formula utilizing
an inflation factor (measured by GDP-PI) less 1.0%. Intrastate access prices
must be reduced by the plan participants. The Company reduced its intrastate
access charges by $1.5 million on July 1, 1996, and must reduce access charges
by an estimated additional $3 million over the 1996-1998 time period. This
order also authorizes the introduction of local-exchange competition in
Alabama. The APSC can now allow new competitors in SCB's service territory.
The Company and other LECs were granted a three-year grace period from
competition in their service territories. However, the APSC has determined
that passage of the Telecommunications Act of 1996 (the Telecommunications Act)
has removed the protection from competition for the Company. This order also
stated that APSC approval of depreciation rate changes would continue during
the period of protection from competition. With the removal of this
protection, the depreciation approval provision of the order has also been
removed. In December 1996, the Company implemented economic life depreciation
for rate-making purposes retroactive to January 1, 1996, with an annual impact
of $12 million in additional annual regulatory depreciation expense.
Illinois
On December 3, 1996, the Illinois Commerce Commission (ICC) issued its decision
in the Company's arbitration with AT&T Corp. (AT&T) to determine
interconnection, resale, and unbundling terms and conditions. Interim discount
rates for the Company's resold services were set equal to Ameritech's average
rate of 20.07%. Where the Company does not have services similar to
Ameritech's, a default discount of 17.5% is to be used. The Company's cost
studies are to be used in the interim until permanent discounts are established
in a separate generic cost proceeding. The Company has filed a lawsuit in the
U.S. District Court challenging portions of the ICC's arbitration
determinations.
29
<PAGE> 32
Kentucky
On September 26, 1996, the Kentucky Public Service Commission (KPSC) issued an
order pertaining to local competition and universal service concerns in
Kentucky. With regard to the local competition issues of interconnection and
unbundling, the KPSC declined to issue specific rules, instead deferring to the
process of negotiations and arbitration contemplated by the Telecommunications
Act. Regarding the resale of local services, the KPSC adopted some resale
restrictions and adopted the FCC's proposed proxy rates for wholesale pricing
purposes on an interim basis until Kentucky-specific resale discount rates
could be determined. The Company filed a Petition for Rehearing with the KPSC
on October 17, 1996 regarding the use of the FCC's proxy rates, which was denied
on October 31, 1996. The KPSC established a competitively neutral, portable
intrastate Universal Service Fund (USF) to cover the incumbent LECs non-
traffic sensitive (NTS) costs and the cost of a new statewide Lifeline service
offering. As a result, the Company will reduce access and toll rates
approximately $25 million to remove NTS costs and will instead recover this
amount from the USF. The USF will be funded by all telecommunications
providers operating in Kentucky. The KPSC will also allow all incumbent LECs
to combine their current touch call rates into the basic local-exchange rate
structure. All of these rate changes are expected to be revenue-neutral for
the Company. The timing and further details of the implementation of the USF
will be determined in industry workshops held during 1997.
On December 23, 1996, the KPSC issued its decision in the Company's arbitration
with MCI Communications Corporation (MCI) to determine interconnection, resale,
and unbundling terms and conditions. The interim discount rate for the
Company's resold services was set at 18.81%. The Company has filed a lawsuit
in the U.S. District Court challenging portions of the KPSC's arbitration
determinations.
On January 17, 1997, the KPSC issued its decision in the Company's arbitration
with American Communications Services, Inc., and on February 14, 1997, the KPSC
issued its decision in the Company's arbitration with AT&T on many of the same
issues that were submitted by MCI. These decisions reaffirmed the rate issued
in the previous arbitration proceedings. The Company has filed a lawsuit in
the U.S. District Court challenging portions of the KPSC's arbitration
determinations.
On December 29, 1994, the KPSC issued an order requiring the implementation of
intraLATA 1+ pre-subscription. This order requires all exchanges within
Kentucky to be converted to intraLATA 1+ within a three-year period extending
from July 1995 to June 1998.
North Carolina
On April 6, 1995, local competition and regulatory reform legislation was
enacted in North Carolina. The North Carolina Utilities Commission (NCUC) can
authorize local-exchange competition since a price regulation plan has been
approved for the Company. Effective June 24, 1996, the Company began operating
under an intrastate price regulation plan in North Carolina. The plan
eliminates earnings regulation and regulation of depreciation rates, provides a
price index mechanism to increase service rates, allows contract service
arrangements (CSA) without commission approval and shortens the tariff approval
period. The commission will review the operation of the plan within five years
of its effective date. Also, the Company may file for a new plan or
modifications to the existing plan when circumstances warrant.
Under the plan, residential basic local service rates are capped at their
initial rates for three years, and switched access and carrier common line
rates are capped in the aggregate for the life of the plan. Increases in rates
for other services are limited to both service category and service specific
price indexes (calculated from an inflation index), except for CentraNet (R),
billing and collection, and enhanced digital switch service rates which are not
limited.
For those services subject to the price indexes, the Company may increase
prices at any time, but only one increase per year is permitted. Tariffs must
be filed with documentation demonstrating that all price changes comply with
the price indexes. Also, the Company must file annually to update the indexes.
30
<PAGE> 33
In February 1997, the Company converted all capable offices in North Carolina
to 1+ pre-subscription.
On February 4, 1997, the NCUC issued its decision in the Company's arbitration
with AT&T and with MCI to determine interconnection, resale, and unbundling
terms and conditions. The interim discount rate for the Company's resold
services was set at 19.97%. The Company has filed a lawsuit in the U.S.
District Court challenging portions of the NCUC's arbitration determinations.
South Carolina
On May 29, 1996, South Carolina amended its laws to allow local competition and
alternative regulation. The amendment establishes certain requirements
regarding interconnection, number portability, unbundling and resale,
consistent with the Telecommunications Act. It also requires the Public
Service Commission of South Carolina (PSCSC) to issue final guidelines for
carrier of last resort and universal service by May 29, 1997, but the PSCSC may
extend that period by ninety days.
The amendment allows any LEC to elect an alternative regulatory framework (ARF)
if the PSCSC has approved a local interconnection agreement between the LEC and
another carrier. Under the ARF, residential and single-line business rates
would be capped for two years, after which, the rates may be adjusted annually
per an inflation-based index.
Per the amendment, the PSCSC has established an Interim LEC Fund (ILF).
Effective April 1, 1997, the Company will reduce its intrastate switched access
rate to that of BellSouth in South Carolina and receive payment from the ILF in
an amount equal to the revenue reduction. The ILF will be funded by those
companies that realize a benefit from the rate reduction.
In March 1997, the Company converted all capable offices in South Carolina to
1+ pre-subscription.
Virginia
On February 23, 1995, legislation was enacted in Virginia which allowed
local-exchange competition, effective January 1, 1996. This statute requires
that firms desiring to compete in the local marketplace must be certified by
the Virginia State Corporation Commission (VSCC). Upon granting a certificate
to a new entrant, the VSCC must develop a new methodology for the incumbent and
new entrant which does not regulate the earnings of either party. On June 9,
1995, the Company filed a rate case application with the VSCC seeking to
restructure and rebalance its prices in Virginia in anticipation of this local
competition and the VSCC's impending approval of intraLATA toll competition. In
this filing, the Company proposed a revenue-neutral rate design. The proposed
rate design reduces toll and access charges and includes a restructuring of the
basic local-exchange pricing. The Company has also proposed bringing the
business and residential prices closer together. In addition, the separate GTE
and Contel tariffs will be merged, eliminating the VSCC's current requirement
that GTE's and Contel's earnings be regulated separately. Evidentiary hearings
regarding this application were held in June 1996 and a final VSCC decision is
expected in the second quarter of 1997. Several alternative local-exchange
companies (ALECs), including AT&T, MCI, MFS Communications Company, Inc. and
Jones Intercable, have been certified to compete for local-exchange service
customers in Virginia.
On December 11, 1996, the VSCC issued its decision in the Company's arbitration
with AT&T to determine interconnection, resale, and unbundling terms and
conditions. The interim discount rate for the Company's resold services was
set at 20.6%, which includes operator service and directory assistance. The
Company filed a lawsuit in the U.S. District Court challenging portions of the
VSCC's arbitration determinations. The lawsuit was dismissed and will be
refiled once a contract between the Company and AT&T has been approved by the
VSCC.
On December 16, 1996, the VSCC issued its decision in the Company's arbitration
with Cox Fibernet Commercial Services. On January 3, 1997, the VSCC issued its
decision in the Company's arbitration with MCI and on January 21, 1997, the
VSCC issued its decision in the Company's arbitration with Sprint Corporation
on many of the same issues that were submitted by AT&T. These decisions
reaffirmed the rate issued in the previous arbitration proceedings. The
Company has filed a lawsuit in the U.S. District Court challenging portions of
the VSCC's arbitration determinations.
31
<PAGE> 34
On July 24, 1995, the VSCC issued an order allowing intraLATA toll competition,
on a 10XXX basis only, effective October 1, 1995. All interexchange carriers
with existing interLATA toll certificates were authorized to provide intraLATA
10XXX service as of that date. This order also determines that intraLATA 1+
calling should remain exclusively with the LECs, primarily based on the fact
that the Company and Bell Atlantic continue to be prohibited from entering the
interLATA market. The ultimate effect on toll revenue is dependent, in part,
on the extent that 10XXX is utilized.
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 have limited pricing
flexibility provided they do not exceed the allowed price cap.
In March 1995, the FCC adopted interim rules to be utilized by LECs, including
the Company, for their 1995 Annual Price Cap Filing. The interim rules allowed
LECs to select from three productivity/sharing options for each tariff entity.
Each of the three options reflected an increase to the 3.3% productivity factor
used since 1991. The Company selected the following productivity factors and
sharing thresholds for use in the 1996-1997 and 1995-1996 tariff years:
<TABLE>
<CAPTION> Sharing Parameters
Tariff Productivity -------------------------------
Entity Factor 50% 100%
- ------------------------------------ --------------- --------------------------------
<S> <C> <C> <C>
1996-1997 Tariff Year
---------------------
Kentucky (Contel) and Virginia 4.0% 12.25 - 13.25% ROR Over 13.25% ROR
(GTE)
Alabama, Illinois, Kentucky (GTE),
North Carolina, South Carolina and
Virginia (Contel) 5.3% None None
1995-1996 Tariff Year
---------------------
Alabama, Illinois, Kentucky, North
Carolina, South Carolina and 5.3% None None
Virginia
</TABLE>
Under the interim rules, the Company filed tariffs to reduce rates by $10.2
million annually, effective August 1, 1995. On September 20, 1995, the FCC
released its proposed rulemaking proceeding on price caps which proposes
specific changes to reflect and encourage emerging competition in local and
access services markets and to establish the path towards decreased regulation
of LECs' services. On September 27, 1995, the FCC solicited comments on a
number of specific issues regarding methods for establishing the price caps,
such as productivity measurements, sharing, the common line formula and
exogenous costs.
The Company submitted its 1996 annual interstate access filing on April 2,
1996, utilizing the FCC's interim price cap rules. In doing so, the Company
changed its productivity factor from 5.3% to 4.0% for its Kentucky (Contel) and
Virginia (GTE) tariff entities. On June 24, 1996, the FCC ordered all LECs
subject to price cap regulation, including the Company, to update their GDP-PI
inflation factors through the fourth quarter of 1995. Overall, the final 1996
interstate access filing resulted in an annual price reduction of $1.3 million,
effective July 1, 1996.
32
<PAGE> 35
On February 8, 1996, the Telecommunications Act became law. This comprehensive
telecommunications reform legislation addresses a wide range of competitive and
regulatory issues that will affect the future development of local and long
distance services, cable television and information services. The new law
removes regulatory and court-ordered barriers to competition between segments
of the industry, enabling local-exchange, long distance, wireless and cable
companies to compete in offering voice, video and information services.
The Telecommunications Act requires the FCC and state commissions to open
local-exchange markets and to set new guidelines for interconnection, loosens
restrictions barring local telephone companies from entering the cable
television market, and preserves universal service while equalizing the
responsibility for contribution among all carriers.
On August 8, 1996, the FCC published its First Report and Order (the Order)
containing rules implementing Section 251 of the Telecommunications Act dealing
with interconnection, unbundling of network elements and wholesale prices and
other terms for competitive entry into local-exchange service. On August 9,
1996, the FCC released its Second Report and Order implementing the provision
of number portability and dialing parity in accord with the Telecommunications
Act.
On September 16, 1996, GTE filed an appeal and motion for stay of the Order
with the United States Court of Appeals for the District of Columbia. This
appeal argued that the FCC had no jurisdiction to impose national pricing rules
for what is essentially local service. This appeal was subsequently
transferred to the Court of Appeals for the Eighth Circuit together with
appeals by other LECs and state regulatory commissions. On October 15, 1996,
the Eighth Circuit granted a partial stay. The stay delays implementation of
the Order's pricing provisions and associated rules, as well as the rules
requiring GTE and other LECs to permit requesting carriers to select terms and
conditions from various agreements between them and other carriers for purposes
of interconnection. On November 12, 1996, the Supreme Court denied
applications to vacate the stay filed by the FCC and various companies seeking
to enter the local-exchange business. Additionally, the Court held oral
arguments on the merits on January 17, 1997. The Court's ruling is expected in
the spring of 1997.
While GTE cannot predict the outcome of the Court's final decision, GTE intends
to continue to vigorously present its position in Court.
In November 1996, the Federal-State Joint Board released its recommended
universal service plan, and in December 1996, the FCC issued its access reform
proposals. Both proposals incorporate a pricing methodology similar to the one
that GTE is appealing in the interconnection case. A final order in the
universal service proceeding must be adopted by early May 1997, and a decision
on the access reform proceeding is expected shortly thereafter.
SIGNIFICANT CUSTOMER
Revenues received from AT&T include amounts for access and billing and
collection during the years 1996-1994 under various arrangements and amounted
to $188.3 million, $196.7 million and $189.2 million, respectively.
33
<PAGE> 36
14. COMMITMENTS AND CONTINGENCIES
The Company has noncancelable leases covering certain buildings, office space
and equipment. Rental expense was $11.2 million, $16.8 million and $18.2
million in 1996-1994, respectively. Minimum rental commitments for
noncancelable leases through 2001 do not exceed $2.9 million annually and
aggregate $0.4 million thereafter.
The Company is subject to a number of proceedings arising out of the conduct of
its business, including those relating to regulatory actions, commercial
transactions and/or environmental, safety and health matters. Management
believes that the ultimate resolution of these matters will not have a material
adverse effect on the results of operations or the financial position of the
Company.
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. The Company continues to support greater competition in
telecommunications, provided that, overall, the actions to eliminate existing
legal and regulatory barriers benefit consumers by allowing an opportunity for
all service providers to participate in a competitive marketplace under
comparable conditions.
34
<PAGE> 37
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Board of Directors and Shareholders of
GTE South Incorporated:
We have audited the accompanying balance sheets of GTE South Incorporated (a
Virginia corporation and wholly-owned subsidiary of GTE Corporation) as of
December 31, 1996 and 1995, and the related statements of income, shareholders'
equity and cash flows for each of the three years in the period ended December
31, 1996. These financial statements and the schedule and exhibit 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 and
exhibit 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 South Incorporated as of
December 31, 1996 and 1995, and the results of its operations and its cash
flows for each of the three years in the period ended December 31, 1996, in
conformity with generally accepted accounting principles.
As discussed in Note 2 to the financial statements, in 1995, the Company
discontinued applying the provisions of Statement of Financial Accounting
Standards No. 71, "Accounting for the Effects of Certain Types of Regulation".
Our audit was made for the purpose of forming an opinion on the basic financial
statements taken as a whole. The supporting schedule and exhibit listed under
Item 14 are presented for purposes of complying with the Securities and
Exchange Commission's rules and are not a required part of the basic financial
statements. The supporting schedule and exhibit have been subjected to the
auditing procedures applied in the audit of the basic financial statements and,
in our opinion, fairly state 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 28, 1997
35
<PAGE> 38
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 on
Form 10-K, 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.
JOHN C. APPEL
President
GERALD K. DINSMORE
Senior Vice President-Finance and Planning
36
<PAGE> 39
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure
None.
37
<PAGE> 40
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 1,
1997 are listed below along with their business experience during the past five
years.
<TABLE>
<CAPTION>
Name Age Director Since Business Experience
- ---------------------- ----- ---------------- --------------------------------------------------------------------
<S> <C> <C> <C>
John C. Appel 48 1996 Executive Vice President - Network Operations, GTE
Telephone Operations, 1996; Executive Vice President -
Network Operations, all GTE domestic telephone
subsidiaries of which he is not President, 1996;
Director, all GTE domestic telephone subsidiaries,
1996; President - GTE South Incorporated and GTE North
Incorporated, 1995; Senior Vice President - Regulatory
Operations, GTE Telephone Operations, 1994; President -
GTE Southwest Incorporated, 1994; State President -
Texas/New Mexico, 1993; Vice President and General
Manager - California, GTE Telephone Operations West
Area, 1992.
Richard M. Cahill 58 1993 Vice President - General Counsel, GTE Telephone
Operations, 1988; Director, all GTE domestic telephone
subsidiaries, 1993 and/or 1994; Director, GTE Vantage
Incorporated, 1991; Vice President - General Counsel,
all GTE domestic telephone subsidiaries, 1995.
Gerald K. Dinsmore 47 1993 Senior Vice President - Finance and Planning, GTE
Telephone Operations, 1994; Senior Vice President -
Finance and Planning, all GTE domestic telephone
subsidiaries, 1994; Vice President - Finance, GTE
Telephone Operations, 1993; 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.
Michael B. Esstman 50 1993 Executive Vice President - Customer Segments, GTE
Telephone Operations, 1994; Executive Vice President -
Operations, GTE Telephone Operations, 1993; Director,
all Central Area Companies, 1991; Director, all other
GTE domestic telephone subsidiaries, 1993 and/or 1994.
Thomas W. White 50 1993 President, GTE Telephone Operations, 1995; Executive
Vice President - Network Operations, GTE Telephone
Operations, 1994; Executive Vice President - GTE
Telephone Operations, 1993; Director, all GTE domestic
telephone subsidiaries, 1993 and/or 1994; Director,
Quebec-Telephone.
</TABLE>
Directors are elected annually. There are no family relationships between any
of the directors or executive officers of the Company, except that Mr. Jacobson
and Ms. Jacobson are married to one another.
38
<PAGE> 41
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.
Accordingly, the list below contains the names, ages and positions of the
executive officers of both the Company and GTE Telephone Operations (Telops) as
of March 1, 1997.
<TABLE>
<CAPTION>
Year Assumed
Present Position
------------------------
the
Name Age Telops Company Position
- ------------------------ -------- -------- ----------- ------------------------------------------------------
<S> <C> <C> <C> <C>
Thomas W. White 50 1995 -- President of GTE Telephone Operations
John C. Appel 48 1996 1995 President of the Company and Executive
Vice President - Network Operations of GTE
Telephone Operations
James G. Badders 44 1994 -- Vice President-Consumer Customer Contact
of GTE Telephone Operations
Mary Beth Bardin 42 1994 1995 Vice President - Public Affairs of GTE
Telephone Operations and the Company
C. F. Bercher 53 1994 -- President - Consumer Markets of GTE
Telephone Operations
-- 1995 Vice President - Consumer Markets of the
Company
Richard M. Cahill 58 1988 1995 Vice President - General Counsel of GTE
Telephone Operations and the Company
Terri L. Compton 40 1996 -- Vice President-Business Development of GTE
Telephone Operations
C. Michael Crawford 50 1996 -- Vice President-Information Technology of
GTE Telephone Operations
Gerald K. Dinsmore 47 1994 1993 Senior Vice President - Finance and
Planning of GTE Telephone Operations and
the Company
William M. Edwards, III 48 -- 1993 Vice President-Controller of the Company
Oscar C. Gomez 50 1997 -- Vice President-Diversity Marketing and
Management of GTE Telephone Operations
Stephen A. Inkrott (1) 54 -- 1996 Vice President-South Region of the Company
Michael B. Esstman 50 1994 -- Executive Vice President - Customer
Segments of GTE Telephone Operations
Gregory D. Jacobson 45 -- 1994 Treasurer of the Company
Pamela S. Jacobson 39 1996 -- Vice President-Strategic Planning of GTE
Telephone Operations
Brad M. Krall 55 1993 1995 Senior Vice President - Centralized
Operations of GTE Telephone Operations and
the Company
Michael J. McDonough 47 1996 -- Vice President-Market Integration of GTE
Telephone Operations
Paul E. Miner 52 1995 -- Vice President-Program Management Office
of GTE Telephone Operations
Christopher D. Owens 41 1996 1996 Vice President-Regulatory and Governmental
Affairs of GTE Telephone Operations and
the Company
Barry W. Paulson 45 1996 1996 Vice President-Network Operations Planning
and Support of GTE Telephone Operations
and the Company
Richard L. Schaulin 54 1989 1995 Vice President - Human Resources of GTE
Telephone Operations and the Company
Leland W. Schmidt 63 1987 -- Vice President-Industry Affairs of GTE
Telephone Operations
Charles J. Somes 50 -- 1994 Secretary of the Company
Larry J. Sparrow 53 1994 -- President - Carrier Markets of GTE
Telephone Operations
-- 1995 Vice President - Carrier Markets of the
Company
Edward J. Weise 52 -- 1991 Vice President - Virginia Region of the
Company
Lewis O. Wilks (2) 43 1996 -- President - Business Markets of GTE
Telephone Operations
-- 1996 Vice President - Business Markets of the
Company
William A. Zielke 50 -- 1994 Vice President - North Region of the
Company
</TABLE>
(1) Stephen A. Inkrott was appointed Vice President-South Region of the
Company replacing Dennis F. Myers.
39
<PAGE> 42
(2) Lewis O. Wilks was appointed President-Business Markets of GTE
Telephone Operations and Vice President-Business Markets of the Company
replacing Michael J. McDonough, who was appointed Senior Vice
President-Market Integration of GTE Telephone Operations.
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.
40
<PAGE> 43
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 1996
Principal Executive Officers of the Company and each of the other four most
highly compensated executive officers (the named executive officers) of GTE
Telephone Operations in 1996. The information in this table under the caption
"Annual Compensation" sets forth all compensation paid to the named executive
officers by GTE Telephone Operations. The caption "Long-Term Compensation" in
this table sets forth all long-term compensation paid to the named executive
officers under employee benefit plans administered by GTE Corporation or GTE
Service Corporation. Footnote 1 to this table sets forth the actual 1996
annual compensation for each of the named executive officers that was allocated
to the Company.
<TABLE>
<CAPTION>
Long-Term Compensation
--------------------------------------------------
Annual Compensation (1) Awards Payouts
------------------------------ ----------------------- -------------------------
Restricted Securities
Other Annual Stock Underlying LTIP All Other
Name and Principal Salary Bonus Compensation Awards Options/ Payouts Compensation
Position in Group Year ($) (2) ($) (3) ($) ($) (4) SARs (#) ($) ($) (5)
- --------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
John C. Appel 1996 295,977 380,700 -- 51,229 124,400 439,200 10,572
President 1995 239,600 258,100 -- -- 63,500 162,800 10,194
1994 193,023 182,400 -- -- 24,800 34,700 6,230
Thomas W. White 1996 463,115 533,700 -- 81,511 183,400 770,000 10,613
President - 1995 418,884 443,800 -- -- 98,800 331,800 10,613
GTE Telephone 1994 353,508 368,200 -- -- 53,700 164,100 7,075
Operations
Michael B. Esstman 1996 369,958 359,600 -- 61,702 124,400 627,400 10,613
Executive Vice President- 1995 350,731 349,400 -- -- 63,500 305,900 7,238
Customer Segments 1994 327,546 358,200 -- -- 53,700 158,300 4,998
GTE Telephone
Operations
Larry J. Sparrow 1996 294,812 260,800 -- 41,561 81,400 404,100 10,613
President- 1995 261,866 255,600 -- -- 36,400 211,300 10,613
Carrier Markets 1994 260,662 233,800 -- -- 30,900 117,200 7,075
GTE Telephone
Operations
Gerald K. Dinsmore 1996 288,619 263,700 -- 41,751 81,400 404,100 10,613
Senior Vice President - 1995 265,125 255,600 -- -- 36,400 211,300 10,613
Finance and Planning 1994 248,438 233,800 -- -- 30,900 97,800 7,075
GTE Telephone
Operations
</TABLE>
(1) Annual Compensation represents the total annual cash compensation of
salaries, bonuses and other compensation. The Company's allocated
share for Messrs. Appel, White, Esstman, Sparrow and Dinsmore, for
whom total annual amounts are shown above, is $43,551; $61,359;
$45,627; $34,748 and $34,542, respectively.
(2) The data in the table includes fees of $15,692 and $16,607 received by
Mr. White for serving as director of BC TEL during 1996 and 1995. BC
TEL, a Canadian company, is an indirectly-owned subsidiary of GTE
Corporation.
41
<PAGE> 44
(3) The data in this column represents the annual bonus received by each
of the named executive officers under the GTE Corporation Executive
Incentive Plan (the EIP) in 1996. In connection with GTE's Equity
Participation Program (EPP), a portion of this amount has been
deferred into restricted stock units payable at maturity (generally, a
minimum of three years) in GTE Common Stock (Restricted Stock Units).
The number of Restricted Stock Units received was calculated by
dividing the amount of the annual bonus deferred by the average
closing price of GTE Common Stock on the NYSE composite tape for the
20 consecutive trading days following the release to the public of
GTE's financial results for the fiscal year in which the bonus was
earned (the Average Closing Price). Additional Restricted Stock Units
are received on each dividend payment date based upon the amount of
the dividend paid and the closing price of GTE Common Stock on the
composite tape of NYSE issues on the dividend declaration date.
(4) The data in this column represents the dollar value of the matching
Restricted Stock Units based upon the Average Closing Price. Matching
Restricted Stock Units are received on the basis of one additional
Restricted Stock Unit for every four Restricted Stock Units deferred
through annual bonus deferrals described in footnote 3 above. The
matching Restricted Stock Units were designed as an inducement to
encourage full participation in the EPP and to compensate the
executives for their agreement not to realize the economic value
associated with the Restricted Stock Units representing deferred
annual bonus for a minimum of three years. Additional Restricted Stock
Units are received on each dividend payment date based upon the amount
of the dividend paid and the closing price of GTE Common Stock on the
composite tape of NYSE issues on the dividend declaration date.
Messrs. Appel, White, Esstman, Sparrow and Dinsmore each hold a total
of 5,406; 8,598; 6,509; 4,385 and 4,404 Restricted Stock Units,
respectively, which had a dollar value of $245,298; $390,134;
$295,346; $198,970 and $199,832, respectively, based solely upon the
closing price of GTE Common Stock on December 31, 1996.
(5) The column "All Other Compensation" includes, for 1996, contributions
by GTE and its related companies to the GTE Savings Plan of $6,750 for
each of Messrs. Appel, White, Esstman, Sparrow and Dinsmore and
contributions by GTE and its related companies to the GTE Executive
Salary Deferral Plan of $3,822 for Mr. Appel, and $3,863 for each of
Messrs. White, Esstman, Sparrow and Dinsmore.
42
<PAGE> 45
OPTION/SAR GRANTS IN LAST FISCAL YEAR
The following table shows all grants of options and tandem stock appreciation
rights (SARs) to the named executive officers of the Company in 1996, whether
or not specifically allocated to the Company. The options and SARs were
granted under the Long-Term Incentive Plan (LTIP). Pursuant to Securities and
Exchange Commission rules, the table also shows the value of the options
granted at the end of the option terms (ten years) if the stock price were to
appreciate annually by 5% and 10%, respectively. There is no assurance that the
stock price will appreciate at the rates shown in the table. The table also
indicates that if the stock price does not appreciate, there will be no
increase in the potential realizable value of the options granted.
<TABLE>
<CAPTION>
Potential Realizable Value at
Assumed Annual Rate of Stock
Price Appreciation For
Individual Grants Option Term
--------------------------------------------------------- ------------------------
Percent of
Number of Total Options/
Securities SARs Granted Exercise
Underlying to Or Base
Options / SARs Employees in Price Expiration
Name Granted Fiscal Year ($/SH) Date 0% 5% 10%
- -------------------- --------------------------------------------------------- ----- ----------- -----------
<S> <C> <C> <C> <C> <C> <C> <C>
John C. Appel 62,200 (1) .47% 43.75 2/20/06 -- $1,710,787 $4,335,129
62,200 (2) .47% 43.06 6/05/06 -- 1,683,903 4,267,005
Thomas W. White 91,700 (1) .69% 43.75 2/20/06 -- 2,522,173 6,391,179
91,700 (2) .69% 43.06 6/05/06 -- 2,482,539 6,290,746
Michael B. Esstman 62,200 (1) .47% 43.75 2/20/06 -- 1,710,787 4,335,129
62,200 (2) .47% 43.06 6/05/06 -- 1,683,903 4,267,005
Larry J. Sparrow 40,700 (1) .31% 43.75 2/20/06 -- 1,119,438 2,836,652
40,700 (2) .31% 43.06 6/05/06 -- 1,101,847 2,792,076
Gerald K. Dinsmore 40,700 (1) .31% 43.75 2/20/06 -- 1,119,438 2,836,652
40,700 (2) .31% 43.06 6/05/06 -- 1,101,847 2,792,076
</TABLE>
(1) Each option was granted in tandem with a SAR, which will expire upon
exercise of the option. Under the LTIP, each option granted may be
exercised with respect to one-third of the aggregate number of shares
subject to the grant each year, commencing one year after the date of
grant.
(2) Messrs. Appel, White, Esstman, Sparrow and Dinsmore also received a
special "performance-based" stock option grant during 1996. The
options were granted in tandem with SARs at a price equal to the fair
market value on the date of grant. They are intended both to motivate
the executives to remain with GTE during a period of unprecedented
opportunities and challenges, and to give them an opportunity to
accelerate the enhancement of their equity position in GTE, but only
if specific and aggressive shareholder returns are met. Unlike the
three-year graduated vesting schedule that applies to the other
options reflected in the table, each performance-based option grant
will vest in three stages according to the following schedule: (i)
each option may be exercised with respect to one-third of the
aggregate number of shares represented by the grant if the closing
price of GTE Common Stock on the NYSE is $60 or more per share for 20
consecutive days (or, if earlier, on the fifth anniversary of the
grant date); (ii) each option may be exercised with respect to an
additional one-third of the aggregate number of shares represented by
the grant if the closing price of GTE Common Stock on the NYSE is $70
or more per share for 20 consecutive days (or, if earlier, on the
sixth anniversary of the grant date); and (iii) each option may be
exercised with respect to the final one-third of the aggregate number
of shares represented by the grant if the closing price of GTE Common
Stock on the NYSE is $80 or more per share for 20 consecutive days
(or, if earlier, on the seventh anniversary of the grant date).
43
<PAGE> 46
AGGREGATED OPTION/SAR EXERCISES
IN LAST FISCAL YEAR AND FY-END OPTION/SAR VALUES
The following table provides information as to options and SARs exercised by
each of the named executive officers of the Company during 1996. The table
sets forth the value of options and SARs held by such officers at year-end
measured in terms of the closing price of GTE Corporation (GTE) Common Stock on
December 31, 1996.
<TABLE>
<CAPTION> Number of Securities Value of Unexercised
Underlying Unexercised In-the-Money Options/SARs
Shares Options/SARs at FY-End at FY-End ($)
Acquired Value ------------------------------ ----------------------------
Name On Exercise(#) Realized ($) Exercisable Unexercisable Exercisable Unexercisable
- ------------------- ----------- ------------- ------------- --------------- ------------ --------------
<S> <C> <C> <C> <C> <C> <C>
John C. Appel 25,467 316,222 6,400 175,001 62,400 841,706
Thomas W. White 43,800 697,575 120,132 267,168 1,474,402 1,377,266
Michael B. Esstman -- -- 95,766 184,634 1,180,292 1,019,121
Larry J. Sparrow 48,466 601,963 37,567 115,967 469,003 606,460
Gerald K. Dinsmore 40,100 462,995 -- 115,967 -- 606,460
</TABLE>
LONG-TERM INCENTIVE PLAN - AWARDS IN LAST FISCAL YEAR
The LTIP provides for awards, currently in the form of stock options with
tandem SARs, other stock-based awards and dollar denominated awards, to
participating employees. The stock options and tandem SARs awarded under the
LTIP to the named executive officers are shown in the table on page 43.
<TABLE>
<CAPTION>
Performance Estimated Future Payouts
Or Other Under Non-Stock Price Based Plans (1)
Number of Period Until ------------------------------------------------
Shares, Units Maturation Threshold (2) Target (3)
Name Or Other Rights Or Payout (# of Units) (# of Units) Maximum (4)
- ---------------------- ------------------- ------------- ---------------- -------------- --------------
<S> <C> <C> <C> <C>
John C. Appel 7,400 3 Years 2,148 8,262
Thomas W. White 10,900 3 Years 3,164 12,169
Michael B. Esstman 7,400 3 Years 2,148 8,262
Larry J. Sparrow 4,900 3 Years 1,422 5,471
Gerald K. Dinsmore 4,900 3 Years 1,422 5,471
</TABLE>
(1) An individual's award may not exceed the applicable individual award
limit, which is expressed as a percentage of the LTIP Award Pool (the
Award Limit). The Award Limit depends on the individual's base salary
at the end of the cycle, and may not exceed 3.5% of the LTIP Award
Pool. The amounts described in footnotes 2 through 4 below are subject
to and cannot exceed the Award Limit. An individual is initially
granted a specified number of GTE Common Stock equivalent units
(Equivalent Units) at the beginning of an award cycle. During the
award cycle, additional Equivalent Units are added based upon the
price of GTE Common Stock and the amount of the per share dividend
paid on each dividend payment date. It is not possible to predict
future dividends and, accordingly, estimated Equivalent 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 31, 1996. The Target future payout or
award is the dollar amount derived by multiplying the Equivalent Unit
balance credited to the participant at the end of the award cycle by
the price of GTE Common Stock. The Target award measures performance
attainment as described in footnote 3.
44
<PAGE> 47
(2) The Threshold represents attainment of minimum acceptable levels of
performance (the Threshold Levels) with respect to the five Long-Term
Performance Bonus measures (the Measures) adopted for the 1996-1998
Performance Bonus award cycle -- revenue growth; earnings per share
(EPS) growth; earnings before interest, taxes, depreciation and
amortization (EBITDA) growth; average return on investment (ROI); and
relative total shareholder return (TSR). If the Threshold Level is
attained with respect to each of the Measures, the award will be equal
to approximately 25% of the combined Target award (the TSR Threshold
is set at 50%, while the Threshold for the other four Measures is set
at 20%). Because performance is measured separately for each Measure,
it is possible to receive an award if the Threshold Level is achieved
with respect to at least one but not all of the Measures. If the
actual results for all Measures are below the Threshold Levels, no
award will be paid.
(3) The Target represents attainment of levels of three-year revenue
growth, EPS growth, EBITDA growth, ROI and TSR established at the
beginning of a cycle (the Target Levels). If GTE's actual results for
each of the Measures are equivalent to the Target Levels, this would
represent outstanding performance, and the award will be equal to 100%
of the combined Target award. GTE's performance is measured separately
for each Measure. Accordingly, if the actual result for any Measure is
at the applicable Target Level, the portion of the award determined by
that Measure will be at 100% of the Target award for that Measure.
Similarly, the portion of the award determined by any Measure
performing at less than the applicable Target Level, but above the
Threshold, will be less than the Target award for that Measure.
(4) This column has intentionally been left blank because it is not
possible to determine the maximum number of Equivalent Units until the
award cycle has been completed. Subject to the Award Limit discussed
in footnote 1 above, the maximum amount of the award is limited by the
extent to which GTE's actual results for the five Measures exceed the
Target Levels. If GTE's actual results during the cycle for the five
Measures exceed the respective Target Levels, additional awards may be
paid, based on a linear interpolation. For example, for revenue
growth, the schedule is as follows:
<TABLE>
<CAPTION>
Performance Increment Above
Revenue Performance Target Added Percentage to Combined Awards
-------------------------- -----------------------------------
<S> <C>
Each 0.1% improvement in cumulative
revenue growth +2%
</TABLE>
Thus, if the revenue growth Measure exceeds its Target Level by .5%
while the remaining four Measures are precisely at their respective Target
Levels, then the performance bonus will equal 110% of the combined
Target award.
45
<PAGE> 48
Executive Agreements
GTE has entered into agreements (the Agreements) with Messrs. Appel, White,
Esstman and Dinsmore 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) any person or group of
persons acquires, other than from GTE or as described below, 20% (or under
certain circumstances, a lower percentage, not less than 10%) of GTE's voting
power, (b) three or more directors are elected in any twelve-month period
without the approval of a majority of the members of GTE's Incumbent Board (as
defined in the Agreements) then serving as members of the Board, (c) the
members of the Incumbent Board no longer constitute a majority of the Board of
Directors or (d) GTE's shareholders approve (i) a merger, consolidation or
reorganization involving GTE, (ii) a complete liquidation or dissolution of GTE
or (iii) an agreement for the sale or other disposition of all or substantially
all of the assets of the Corporation to any person other than a subsidiary of
GTE. 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. Notwithstanding the foregoing, 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 consist of members of the Board 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 Agreements provide for benefits to be paid in the event these individuals
separate from service and have a "good reason" for leaving or are terminated
without "cause" within two years after a Change in Control of GTE.
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 Agreements.
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 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.
In addition, the Agreements with Messrs. Appel, White, Esstman and Dinsmore
provide that in the event of a separation from service, they 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; 10 years
if credited service is more than five and not more than 10 years; and, if the
executive's credited service exceeds 10 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 GTE Corporation
Executive Retired Life Insurance Plan (ERLIP). In addition, each executive
covered under an Agreement 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. The Agreements provide that there
will be no duplication of benefits.
Each of the Agreements remain in effect until July 1, 1999 unless terminated
earlier pursuant to its terms. The Agreements 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 his
respective Agreement. If a Change in Control occurs, the Agreements will
remain in effect until the obligations of GTE (or its successor) under the
Agreements have been satisfied.
46
<PAGE> 49
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 (integrated with social security as
described below) and years of service, is illustrated in the following table:
PENSION PLAN TABLE
<TABLE>
<CAPTION> Years of Service
Final Average ----------------------------------------------------------------------
Earnings 15 20 25 30 35
- ------------- ----------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
$ 150,000 $ 31,388 $ 41,850 $ 52,313 $ 62,775 $ 73,238
200,000 42,263 56,350 70,438 84,525 98,613
300,000 64,013 85,350 106,688 128,025 149,363
400,000 85,763 114,350 142,938 171,525 200,113
500,000 107,513 143,350 179,188 215,025 250,863
600,000 129,263 172,350 215,438 258,525 301,613
700,000 151,013 201,350 251,688 302,025 352,363
800,000 172,763 230,350 287,938 345,525 403,113
900,000 194,513 259,350 324,188 389,025 453,863
1,000,000 216,263 288,350 360,438 432,525 504,613
1,200,000 259,763 346,350 432,938 519,525 606,113
1,500,000 325,013 433,350 541,688 650,025 758,363
2,000,000 433,763 578,350 722,938 867,525 1,012,113
</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 all GTE employees
based on years of service and earnings. Pension benefits to be paid from the
Service Corporation Plan and contributions to the Service Corporation Plan are
related to basic salary exclusive of overtime, differentials, incentive
compensation (except as otherwise described) and other similar types of
payments. 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 Social
Security Act), and the 1.45% service credit being applied to that portion of
the average annual salary for the five highest consecutive years that exceeds
said level up to the statutory limit on compensation. As of December 31, 1996,
the credited years of service under the Service Corporation Plan for Messrs.
Appel, White, Esstman, Sparrow and Dinsmore are 25, 28, 28, 29 and 21,
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 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.
47
<PAGE> 50
Executive Retired Life Insurance Plan
The ERLIP provides Messrs. Appel, White, Esstman, Sparrow and Dinsmore a
postretirement life insurance benefit of three times final base salary. Upon
retirement, ERLIP benefits may be paid as life insurance or, alternatively, an
equivalent amount equal to the present value of the life insurance amount
(based on actuarial factors and the interest rate then in effect), may be paid
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 service on the Board.
48
<PAGE> 51
Item 12. Security Ownership of Certain Beneficial Owners and Management
(a) Security Ownership of Certain Beneficial Owners as of February 28,
1997:
<TABLE>
<CAPTION>
Name and Address of Shares of
Title of Class Beneficial Owner Beneficial Ownership Percent of Class
-------------------- ----------------------- ----------------------- ----------------
<S> <C> <C> <C>
Common Stock of GTE GTE Corporation 21,000,000 100%
South Incorporated One Stamford Forum shares of record
Stamford, Connecticut 06904
</TABLE>
(b) Security Ownership of Management as of December 31, 1996:
<TABLE>
<CAPTION>
Title of Class Name of Director or Nominee (1) (2) (3)
-------------------- ------------------------------------------------------
<S> <C> <C>
Common Stock of GTE John C. Appel 45,162
Corporation Richard M. Cahill 78,150
Gerald K. Dinsmore 37,724
Michael B. Esstman 162,084
Thomas W. White 203,785
---------
526,905
=========
Executive Officers (1) (2) (3)
------------------------------------------------------
John C. Appel 45,162
Thomas W. White 203,785
Michael B. Esstman 162,084
Larry J. Sparrow 86,892
Gerald K. Dinsmore 37,724
---------
535,647
=========
All directors and executive
officers as a group (1) (2) (3) 1,442,682
=========
</TABLE>
(1) Includes shares acquired through participation in the GTE Savings
Plan.
(2) Included in the number of shares beneficially owned by Messrs. Appel,
Cahill, Dinsmore, Esstman, White, Sparrow and all directors and
executive officers as a group are 41,667; 72,100; 35,999; 155,566;
189,765; 73,566 and 1,261,616 shares, respectively, which such persons
have the right to acquire within 60 days pursuant to stock options.
(3) No director, nominee for director or executive officer owns as much as
one-tenth of one percent of the total outstanding shares of GTE Common
Stock, and all directors and executive officers as a group own less
than one- fifth of one percent of the total outstanding shares of GTE
Common Stock.
(c) There were no changes in control of the Company during 1996.
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.
49
<PAGE> 52
PART IV
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K
(a) (1) Financial Statements - See GTE South 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,
1996-1994 (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.
2.1* Agreement of Merger, dated December 31, 1993, between
GTE South Incorporated, Contel of Kentucky, Inc.,
Contel of North Carolina, Inc., Contel of South
Carolina, Inc. and Contel of Virginia, Inc. (Exhibit
2.1 of the June 10, 1994 Form 8-K, File No. 2-36292)
3.1* Restated Articles of Incorporation dated August 24,
1989. (Exhibit 3.1 of the 1989 Form 10-K, File No.
2-36292)
3.2* Amended By-Laws, effective September 20, 1995.
(Exhibit 3.1 of the September 30, 1995 Form 10- Q,
File No. 2-36292)
4* Indenture dated as of May 1, 1994 between GTE South
Incorporated and NationsBank of Georgia, National
Association, as Trustee (Exhibit 4.1 of the Company's
Registration Statement on Form S-3, File No.
33-54167)
10* Material Contracts - Agreements Between GTE and
Certain Executive Officers (Exhibit 10 of the 1995
Form 10-K, File No. 2-36292)
12 Statements re: Calculation of the Ratio of Earnings
to Fixed Charges
23 Consent of Independent Public Accountants
27 Financial Data Schedule
(b) Reports on Form 8-K
No reports on Form 8-K were filed during the fourth quarter of 1996.
* Denotes exhibits incorporated herein by reference to previous filings
with the Securities and Exchange Commission as designated.
50
<PAGE> 53
GTE South Incorporated
SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS
For the Years Ended December 31, 1996, 1995 and 1994
(Thousands of Dollars)
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------------------
Column A Column B Column C Column D Column E
- -------------------------------------------------------------------------------------------------------
Additions
------------------------------
Deductions
Balance at Charged Charged from
Beginning (Credited) (Credited) to Reserves Balance at
Description of Year to Income Other Accounts (Note 1) Close of Year
- -------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Allowance for uncollectible accounts
for the years ended:
December 31, 1996 $17,081 $21,361 $23,561 (2) $44,119 $ 17,884
===================================================================
December 31, 1995 $24,090 $22,229 $19,954 (2) $49,192 $ 17,081
===================================================================
December 31, 1994 $11,334 $31,364 $21,252 (2) $39,860 $ 24,090
===================================================================
Accrued restructuring costs for the
years ended (Note 4):
December 31, 1996 $ 74,254 $ -- $(21,892) (3) $ 52,362 $ --
===================================================================
December 31, 1995 $127,950 $ -- $ -- $ 53,696 $ 74,254
===================================================================
December 31, 1994 $162,993 $ -- $ -- $ 35,043 $127,950
===================================================================
</TABLE>
NOTES:
(1) Charges for which reserve was created.
(2) Recoveries of previously written-off amounts.
(3) Represents amounts necessary to satisfy commitments related to the
re-engineering program that have been reclassified to Accounts Payable and
Accrued Expenses.
(4) See Note 3 to the financial statements included elsewhere herein.
51
<PAGE> 54
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 SOUTH INCORPORATED
----------------------------------
(Registrant)
Date March 26, 1997 By John C. Appel
--------------- ----------------------------------
John C. Appel
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>
John C. Appel President and Director March 26, 1997
- ------------------------------ (Principal Executive Officer)
John C. Appel
Gerald K. Dinsmore Senior Vice President - Finance and March 26, 1997
- ------------------------------ Planning and Director
Gerald K. Dinsmore (Principal Financial Officer)
William M. Edwards, III Vice President - Controller March 26, 1997
- ------------------------------ (Principal Accounting Officer)
William M. Edwards, III
Richard M. Cahill Director March 26, 1997
- ------------------------------
Richard M. Cahill
Michael B. Esstman Director March 26, 1997
- ------------------------------
Michael B. Esstman
Thomas W. White Director March 26, 1997
- ------------------------------
Thomas W. White
</TABLE>
52
<PAGE> 55
EXHIBIT INDEX
<TABLE>
<CAPTION>
Exhibit
Number Description
------- -----------
<S> <C>
12 Statements re: Calculation of the Ratio of Earnings to Fixed
Charges
23 Consent of Independent Public Accountants
27 Financial Data Schedule
</TABLE>
<PAGE> 1
Exhibit 12
GTE South Incorporated
STATEMENTS OF THE RATIO OF EARNINGS TO FIXED CHARGES
(Thousands of Dollars)
<TABLE>
<CAPTION>
Years Ended December 31,
--------------------------------------------------------------------
1996 1995 1994 1993(a) 1993 1992
--------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Net earnings available for fixed
charges:
Income before extraordinary charges $260,694 $202,599 $129,187 $205,898 $ 99,735 $195,090
Add - Income taxes 160,478 121,897 77,308 151,757 85,712 108,869
- Fixed charges 55,631 64,164 66,105 99,716 99,716 100,382
-------- -------- -------- -------- -------- --------
Adjusted earnings $476,803 $388,660 $272,600 $457,371 $285,163 $404,341
======== ======== ======== ======== ======== ========
Fixed charges:
Interest expense $ 51,914 $ 58,553 $ 60,038 $ 92,822 $ 92,822 $ 93,731
Portion of rent expense
representing interest 3,717 5,611 6,067 6,894 6,894 6,651
-------- -------- -------- -------- -------- --------
Adjusted fixed charges $ 55,631 $ 64,164 $ 66,105 $ 99,716 $ 99,716 $100,382
======== ======== ======== ======== ======== ========
RATIO OF EARNINGS TO FIXED
CHARGES 8.57 6.06 4.12 4.59 2.86 4.03
</TABLE>
(a) Results for 1993 exclude an after-tax restructuring charge of approximately
$100 million for the implementation of a re-engineering plan and a one-time
after-tax charge of approximately $6 million related to the enhanced early
retirement and voluntary separation programs offered to eligible employees
in 1993.
<PAGE> 1
Exhibit 23
CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS
As independent public accountants, we hereby consent to the incorporation of
our report, dated January 28, 1997, on the financial statements and supporting
schedule and exhibit of GTE South Incorporated included in this Form 10-K, into
the Registration Statements previously filed on Form S-3 (File No. 33-65011).
ARTHUR ANDERSEN LLP
Dallas, Texas
March 26, 1997
<TABLE> <S> <C>
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1996
<PERIOD-START> JAN-01-1996
<PERIOD-END> DEC-31-1996
<CASH> 16,491
<SECURITIES> 0
<RECEIVABLES> 259,947
<ALLOWANCES> 17,884
<INVENTORY> 16,054
<CURRENT-ASSETS> 290,376
<PP&E> 4,136,862
<DEPRECIATION> 2,548,824
<TOTAL-ASSETS> 2,005,308
<CURRENT-LIABILITIES> 426,492
<BONDS> 635,944
2,739
412
<COMMON> 525,000
<OTHER-SE> 153,535
<TOTAL-LIABILITY-AND-EQUITY> 2,005,308
<SALES> 1,417,699
<TOTAL-REVENUES> 1,417,699
<CGS> 492,003
<TOTAL-COSTS> 965,343
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 46,307
<INCOME-PRETAX> 421,172
<INCOME-TAX> 160,478
<INCOME-CONTINUING> 260,694
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 260,694
<EPS-PRIMARY> 0
<EPS-DILUTED> 0
</TABLE>
