<PAGE>
================================================================================
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 8-K
CURRENT REPORT
PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
Date of Report (Date of earliest event reported): November 5, 1999
MCI WORLDCOM, Inc.
(Exact Name of Registrant as Specified in its Charter)
Georgia 0-11258 58-1521612
(State or Other (Commission File (IRS Employer
Jurisdiction of Number) (Identification Number)
Incorporation)
500 Clinton Center Drive
Clinton, Mississippi 39056
(Address of Principal Executive Office)
Registrant's telephone number, including area code: (601) 460-5600
================================================================================
<PAGE>
Item 5. OTHER EVENTS
On October 1, 1999, MCI WORLDCOM, Inc., a Georgia corporation ("MCI WorldCom" or
the "Company"), acquired SkyTel Communications, Inc., a Delaware corporation
("SkyTel"), pursuant to the merger (the "SkyTel Merger") of SkyTel with and into
Empire Merger Inc. ("Acquisition Subsidiary"), a wholly owned subsidiary of MCI
WorldCom. Upon consummation of the SkyTel Merger, Acquisition Subsidiary was
renamed SkyTel Communications, Inc. The SkyTel Merger was effected pursuant to
an Agreement and Plan of Merger dated as of May 28, 1999, by and among MCI
WorldCom, SkyTel and Acquisition Subsidiary (the "SkyTel Merger Agreement"). The
SkyTel Merger was accounted for as a pooling-of-interests.
As a result of the SkyTel Merger, each share of SkyTel common stock was
converted into the right to receive 0.2566 shares of MCI WorldCom common stock.
Holders of SkyTel's $2.25 Cumulative Convertible Exchangeable Preferred Stock
(the "SkyTel Preferred Stock") received one share of MCI WorldCom Series C $2.25
Cumulative Convertible Exchangeable Preferred Stock (the "MCI WorldCom Preferred
Stock") for each share of SkyTel Preferred Stock held. The MCI WorldCom
Preferred Stock is convertible into MCI WorldCom common stock on a basis that
gives effect to the exchange ratio in the SkyTel Merger and otherwise has the
same terms as the SkyTel Preferred Stock.
Upon effectiveness of the SkyTel Merger, the then outstanding and unexercised
options and warrants exercisable for shares of SkyTel common stock were
converted into options and warrants, respectively, exercisable for shares of MCI
WorldCom common stock having the same terms and conditions as the SkyTel options
and warrants, except that the exercise price and the number of shares issuable
upon exercise were divided and multiplied, respectively, by 0.2566.
The basic terms of the SkyTel Merger, and the relationships between MCI WorldCom
and SkyTel were described in the proxy statement/prospectus dated August 26,
1999, filed in connection with MCI WorldCom's Registration Statement on Form S-4
(Registration No. 333-85919), which is incorporated by reference herein. The
terms of the SkyTel Merger were determined in accordance with the SkyTel Merger
Agreement and were established through arm's length negotiations between MCI
WorldCom and SkyTel.
In connection with this Form 8-K filing, MCI WorldCom is refiling its audited
consolidated financial statements for the years ended December 31, 1998, 1997
and 1996, to include supplemental financial information related to the SkyTel
Merger (see Note 18 on page F-39 of this filing). The financial information
noted above are contained in the financial statements and footnotes thereto
listed in the Index on page F-1.
<PAGE>
Item 7. Financial Statements and Exhibits
(c) Exhibits.
See Exhibit Index
<PAGE>
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned hereunto duly authorized.
Dated: November 5, 1999
MCI WORLDCOM, Inc.
By: /s/ Scott D. Sullivan
----------------------------
Scott D. Sullivan
Chief Financial Officer
<PAGE>
INDEX TO FINANCIAL STATEMENTS
Page
--------
Reports of independent public accountants F-2
Consolidated balance sheets as of December 31, 1998 and 1997 F-4
Consolidated statements of operations for the three years ended
December 31, 1998 F-5
Consolidated statements of shareholders' investment for the three
years ended December 31, 1998 F-6
Consolidated statements of cash flows for the three years ended
December 31, 1998 F-7
Notes to consolidated financial statements F-8
F-1
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Shareholders of MCI WORLDCOM, Inc.:
We have audited the accompanying consolidated balance sheets of MCI WORLDCOM,
Inc. (a Georgia corporation) and subsidiaries as of December 31, 1998 and 1997,
and the related consolidated statements of operations, shareholders' investment
and cash flows for each of the years in the three-year period ended December 31,
1998. These financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements based on our audits. We did not audit the financial statements of
Brooks Fiber Properties, Inc., a company acquired during 1998 in a transaction
accounted for as a pooling-of-interests, as discussed in Note 2, as of December
31, 1997 and 1996, and for each of the years in the two-year period ended
December 31, 1997. Such statements are included in the consolidated financial
statements of MCI WORLDCOM, Inc. and reflect total assets and total revenues of
two percent and five percent, respectively, of the related consolidated totals
in 1997 and one percent and four percent, respectively, of the related
consolidated totals in 1996. These statements were audited by other auditors
whose report has been furnished to us and our opinion, insofar as it relates to
amounts included for Brooks Fiber Properties, Inc. is based solely upon the
report of the other auditors.
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 audit and the report of the other auditors provide a
reasonable basis for our opinion.
In our opinion, based on our audit and the report of the other auditors, the
financial statements referred to above present fairly, in all material respects,
the financial position of MCI WORLDCOM, Inc. and subsidiaries as of December 31,
1998 and 1997, and the results of their operations and their cash flows for each
of the years in the three-year period ended December 31, 1998, in conformity
with generally accepted accounting principles.
ARTHUR ANDERSEN LLP
Jackson, Mississippi,
February 10, 1999 (except with respect
to the matter discussed in Note 18, as to
which the date is November 4, 1999).
F-2
<PAGE>
INDEPENDENT AUDITORS' REPORT
The Board of Directors
Brooks Fiber Properties, Inc.:
We have audited the consolidated balance sheet of Brooks Fiber Properties, Inc.
and subsidiaries (the Company) as of December 31, 1997, and the related
consolidated statements of operations, changes in shareholders' equity, and cash
flows for each of the years in the two-year period ended December 31, 1997 (not
included herein). These consolidated financial statements are the responsibility
of the Company's management. Our responsibility is to express an opinion on
these consolidated financial statements 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 consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Brooks Fiber
Properties, Inc. and subsidiaries as of December 31, 1997, and the results of
their operations and their cash flows for each of the years in the two-year
period ended December 31, 1997, in conformity with generally accepted accounting
principles.
KPMG LLP
St. Louis, Missouri
February 18, 1998
F-3
<PAGE>
MCI WORLDCOM, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(In Millions, Except Share Data)
<TABLE>
<CAPTION>
December 31,
----------------------
1998 1997
-------- --------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $ 1,710 $ 155
Marketable securities -- 54
Accounts receivable, net of allowance for bad debts of $897 in 1998
and $203 in 1997 5,226 1,241
Deferred tax asset 2,523 --
Other current assets 1,180 424
-------- --------
Total current assets 10,639 1,874
-------- --------
Property and equipment:
Transmission equipment 12,052 3,688
Communications equipment 5,256 2,493
Furniture, fixtures and other 5,986 920
Construction in progress 3,080 468
-------- --------
26,374 7,569
Accumulated depreciation (2,067) (855)
-------- --------
24,307 6,714
-------- --------
Goodwill and other intangible assets 47,018 13,882
Deferred tax asset -- 405
Other assets 4,437 721
-------- --------
$ 86,401 $ 23,596
======== ========
LIABILITIES AND SHAREHOLDERS' INVESTMENT
Current liabilities:
Short-term debt and current maturities of long-term debt $ 4,756 $ 11
Accounts payable 1,737 470
Accrued line costs 3,903 868
Accrued interest 505 119
Other current liabilities 5,128 606
-------- --------
Total current liabilities 16,029 2,074
-------- --------
Long-term liabilities, less current portion:
Long-term debt 16,083 7,413
Deferred tax liability 2,960 --
Other liabilities 1,852 308
-------- --------
Total long-term liabilities 20,895 7,721
-------- --------
Commitments and contingencies
Minority interests 3,676 --
Company obligated mandatorily redeemable preferred securities of subsidiary
trust holding solely junior subordinated deferrable interest debentures of the
Company and other redeemable preferred securities 798 --
Shareholders' investment:
Series A preferred stock, par value $.01 per share; authorized, issued and
outstanding: none in 1998 and 94,992 shares in 1997 -- --
Series B preferred stock, par value $.01 per share; authorized, issued and
outstanding: 11,643,002 shares in 1998 and 12,421,858 shares in 1997 (liquidation
preference of $1.00 per share plus unpaid dividends) -- --
Preferred stock, par value $.01 per share; authorized: 34,905,008 shares
in 1998 and 1997; none issued -- --
Common stock, par value $.01 per share; authorized: 2,500,000,000 shares; issued
and outstanding: 1,840,280,479 shares in 1998 and 981,615,661 shares in 1997 18 10
Additional paid-in capital 49,521 15,530
Retained earnings (deficit) (4,473) (1,773)
Unrealized holding gain on marketable equity securities 122 34
Treasury stock, at cost, 4,510,211 shares in 1998 and none in 1997 (185) --
-------- --------
Total shareholders' investment 45,003 13,801
-------- --------
$ 86,401 $ 23,596
======== ========
</TABLE>
The accompanying notes are an integral part of these statements.
F-4
<PAGE>
MCI WORLDCOM, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(In Millions, Except Per Share Data)
<TABLE>
<CAPTION>
For the Years Ended December 31,
------------------------------------
1998 1997 1996
-------- -------- --------
<S> <C> <C> <C>
Revenues $ 17,678 $ 7,384 $ 4,449
-------- -------- --------
Operating expenses:
Line costs 8,416 3,764 2,397
Selling, general and administrative 4,312 1,626 867
Depreciation and amortization 2,200 976 320
In-process research and development and other charges 3,725 -- 2,740
-------- -------- --------
Total 18,653 6,366 6,324
-------- -------- --------
Operating income (loss) (975) 1,018 (1,875)
Other income (expense):
Interest expense (637) (395) (253)
Miscellaneous 41 40 25
-------- -------- --------
Income (loss) before income taxes, minority interests and extraordinary items (1,571) 663 (2,103)
Provision for income taxes 876 416 130
-------- -------- --------
Income (loss) before minority interests and extraordinary items (2,447) 247 (2,233)
Minority interests (93) -- --
-------- -------- --------
Income (loss) before extraordinary items (2,540) 247 (2,233)
Extraordinary items (net of income taxes of $78, $0 and $16, respectively) (129) (3) (24)
-------- -------- --------
Net income (loss) (2,669) 244 (2,257)
Distributions on subsidiary trust mandatorily redeemable preferred securities 18 -- --
Preferred dividend requirement 13 26 1
-------- -------- --------
Net income (loss) applicable to common shareholders $ (2,700) $ 218 $ (2,258)
======== ======== ========
Earnings (loss) per common share:
Net income (loss) applicable to common shareholders before
extraordinary items:
Basic $ (2.02) $ 0.23 $ (5.02)
======== ======== ========
Diluted $ (2.02) $ 0.22 $ (5.02)
======== ======== ========
Extraordinary items $ (0.10) $ -- $ (0.05)
======== ======== ========
Net income (loss) applicable to common shareholders:
Basic $ (2.12) $ 0.23 $ (5.07)
======== ======== ========
Diluted $ (2.12) $ 0.22 $ (5.07)
======== ======== ========
</TABLE>
The accompanying notes are an integral part of these statements.
F-5
<PAGE>
MCI WORLDCOM, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' INVESTMENT
For the Three Years Ended December 31, 1998
(In Millions)
<TABLE>
<CAPTION>
Additional Retained
Preferred Common Paid-in Earnings
Stock Stock Capital (Deficit)
--------- -------- ---------- ---------
<S> <C> <C> <C> <C>
Balances, December 31, 1995 $ 107 $ 4 $ 1,903 $ 267
Exercise of stock options (9 million shares) -- -- 48 --
Tax adjustment resulting from exercise
of stock options -- -- 33 --
Conversion of IDB convertible notes (10 million shares) -- -- 191 --
Issuance of common stock (44 million shares) (107) -- 291 --
Shares issued for acquisitions (485 million shares) -- 5 12,739 --
Other comprehensive income (loss) (net of taxes and
reclassifications):
Net loss -- -- -- (2,257)
Cash dividends on preferred stock -- -- -- (1)
Net change in unrealized holding gain on
marketable equity securities -- -- -- --
Total comprehensive income
--------- -------- ---------- ---------
Balances, December 31, 1996 -- 9 15,205 (1,991)
Exercise of stock options (25 million shares) -- 1 143 --
Tax adjustment resulting from exercise
of stock options -- -- 24 --
Issuance of common stock in connection with
secondary equity offering (2 million shares) -- -- 23 --
Shares issued for acquisitions (12 million shares) -- -- 159 --
Other comprehensive income (net of taxes and
reclassifications):
Net income -- -- -- 244
Cash dividends on preferred stock -- -- -- (26)
Net change in unrealized holding gain on
marketable equity securities -- -- -- --
Foreign currency adjustment -- -- (24) --
Total comprehensive income
--------- -------- ---------- ---------
Balances, December 31, 1997 -- 10 15,530 (1,773)
Exercise of stock options (33 million shares) -- -- 463 --
Tax adjustment resulting from exercise
of stock options -- -- 208 --
Shares issued for acquisitions (788 million shares) -- 8 33,318 --
Other comprehensive income (loss) (net of taxes and
reclassifications):
Net loss -- -- -- (2,669)
Cash dividends on preferred stock and distributions
on Trust securities -- -- -- (31)
Net change in unrealized holding gain on
marketable equity securities -- -- -- --
Foreign currency adjustment -- -- 2 --
Total comprehensive income
--------- -------- ---------- ---------
Balances, December 31, 1998 $ -- $ 18 $ 49,521 $ (4,473)
========= ======== ========== =========
</TABLE>
<TABLE>
<CAPTION>
Total
Unrealized Treasury Shareholders'
Holding Gain Stock Investment
------------ -------- -------------
<S> <C> <C> <C>
Balances, December 31, 1995 -- -- $ 2,281
Exercise of stock options (9 million shares) -- -- 48
Tax adjustment resulting from exercise
of stock options -- -- 33
Conversion of IDB convertible notes (10 million shares) -- -- 191
Issuance of common stock (44 million shares) -- -- 184
Shares issued for acquisitions (485 million shares) -- -- 12,744
Other comprehensive income (loss) (net of taxes and
reclassifications):
Net loss -- -- (2,257)
Cash dividends on preferred stock -- -- (1)
Net change in unrealized holding gain on
marketable equity securities 29 -- 29
--------
Total comprehensive income (2,229)
------------ -------- --------
Balances, December 31, 1996 29 -- 13,252
Exercise of stock options (25 million shares) -- -- 144
Tax adjustment resulting from exercise
of stock options -- -- 24
Issuance of common stock in connection with
secondary equity offering (2 million shares) -- -- 23
Shares issued for acquisitions (12 million shares) -- -- 159
Other comprehensive income (net of taxes and
reclassifications):
Net income -- -- 244
Cash dividends on preferred stock -- -- (26)
Net change in unrealized holding gain on
marketable equity securities 5 -- 5
Foreign currency adjustment -- -- (24)
--------
Total comprehensive income 199
------------ -------- --------
Balances, December 31, 1997 34 -- 13,801
Exercise of stock options (33 million shares) -- -- 463
Tax adjustment resulting from exercise
of stock options -- -- 208
Shares issued for acquisitions (788 million shares) -- (185) 33,141
Other comprehensive income (loss) (net of taxes and
reclassifications):
Net loss -- -- (2,669)
Cash dividends on preferred stock and distributions
on Trust securities -- -- (31)
Net change in unrealized holding gain on
marketable equity securities 88 -- 88
Foreign currency adjustment -- -- 2
--------
Total comprehensive income (2,610)
------------ -------- --------
Balances, December 31, 1998 $ 122 $ (185) $ 45,003
============ ======== ========
</TABLE>
The accompanying notes are an integral part of these statements.
F-6
<PAGE>
MCI WORLDCOM, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In Millions)
<TABLE>
<CAPTION>
For the Year Ended December 31,
-----------------------------------
1998 1997 1996
--------- --------- ---------
<S> <C> <C> <C>
Cash flows from operating activities:
Net income (loss) $ (2,669) $ 244 $ (2,257)
Adjustments to reconcile net income (loss) to net cash
provided by operating activities:
Extraordinary items 129 3 24
Minority interests 93 -- --
In-process research and development and other charges 3,725 -- 2,740
Depreciation and amortization 2,200 976 320
Provision for losses on accounts receivable 374 111 58
Provision for deferred income taxes 787 368 59
Accreted interest on debt 25 122 30
Change in assets and liabilities, net of
effect of business combinations:
Accounts receivable (698) (453) (216)
Other current assets (248) (174) (54)
Accrued line costs (330) 97 (1)
Accounts payable and other current liabilities 741 (25) 79
Other (44) (9) (1)
--------- --------- ---------
Net cash provided by operating activities 4,085 1,260 781
--------- --------- ---------
Cash flows from investing activities:
Capital expenditures (5,418) (3,066) (875)
Sale (purchase) of short-term investments, net 54 890 (182)
Acquisitions and related costs (3,400) (1,144) 112
Increase in intangible assets (351) (141) (71)
Proceeds from disposition of long-term assets 146 93 22
Increase in other assets (320) (291) (152)
Decrease in other liabilities (144) (42) (42)
--------- --------- ---------
Net cash used in investing activities (9,433) (3,701) (1,188)
--------- --------- ---------
Cash flows from financing activities:
Principal borrowings on debt, net 6,424 1,978 568
Common stock issuance 463 164 233
Distributions on subsidiary trust
mandatorily redeemable preferred securities (18) -- --
Dividends paid on preferred stock (13) (26) (1)
Other 47 (5) (10)
--------- --------- ---------
Net cash provided by financing activities 6,903 2,111 790
--------- --------- ---------
Net increase (decrease) in cash and cash equivalents 1,555 (330) 383
Cash and cash equivalents at beginning of period 155 485 102
--------- --------- ---------
Cash and cash equivalents at end of period $ 1,710 $ 155 $ 485
========= ========= =========
</TABLE>
The accompanying notes are an integral part of these statements.
F-7
<PAGE>
MCI WORLDCOM, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1998
(1) THE COMPANY AND SIGNIFICANT ACCOUNTING POLICIES-
-----------------------------------------------
DESCRIPTION OF BUSINESS AND ORGANIZATION:
- ----------------------------------------
MCI WORLDCOM, Inc., a Georgia corporation ("MCI WorldCom" or the "Company"), is
one of the largest telecommunications companies in the United States, serving
local, long distance and Internet customers domestically and internationally.
Organized in 1983, the Company provides telecommunications services to business,
government, telecommunications companies and consumer customers through its
networks of primarily fiber optic cables, digital microwave, and fixed and
transportable satellite earth stations. Prior to September 15, 1998, the Company
was named WorldCom, Inc. ("WorldCom").
MCI WorldCom is one of the first major facilities-based telecommunications
companies with the capability to provide consumers and businesses with high
quality local, long distance, Internet, data and international communications
services over its global networks. With service to points throughout the nation
and the world, the Company provides telecommunications products and services
including: switched and dedicated long distance and local products, dedicated
and dial-up Internet access, wireless services, 800 services, calling cards,
private lines, broadband data services, debit cards, conference calling,
messaging and mobility services, advanced billing systems, enhanced fax and data
connections, high speed data communications, facilities management, local access
to long distance companies, local access to asynchronous transfer mode
("ATM")-based backbone service, Web server hosting and integration services,
dial-up networking services and interconnection via Network Access Points
("NAPs") to Internet service providers ("ISPs").
The Company's core business is communications services, which includes voice,
data, Internet and international services. During each of the last three years,
more than 90% of operating revenues were derived from communications services.
The Company serves as a holding company for its subsidiaries' operations.
References herein to the Company include the Company and its subsidiaries,
unless the context otherwise requires.
PRINCIPLES OF CONSOLIDATION:
- ---------------------------
The consolidated financial statements include the accounts of the Company and
its subsidiaries. All significant intercompany transactions and balances have
been eliminated in consolidation. Generally, investments in joint ventures and
other equity investments in which the Company owns a 20% to 50% ownership
interest, are accounted for by the equity method while investments of less than
20% ownership are accounted for under the cost method.
FAIR VALUE OF FINANCIAL INSTRUMENTS:
- -----------------------------------
The carrying amounts for cash, marketable securities, accounts receivable, notes
receivable, accounts payable and accrued liabilities approximate their fair
value. The fair value of long-term debt is determined based on quoted market
rates or the cash flows from such financial instruments discounted at the
Company's estimated current interest rate to enter into similar financial
instruments. The carrying amounts and fair values of the Company's debt were
$20.84 billion and $21.91 billion, respectively, at December 31, 1998; and $7.42
billion and $7.65 billion, respectively, at December 31, 1997.
F-8
<PAGE>
CASH AND CASH EQUIVALENTS AND MARKETABLE SECURITIES:
- ---------------------------------------------------
The Company considers cash in banks and short-term investments with original
maturities of three months or less as cash and cash equivalents. The Company has
classified all marketable securities other than cash equivalents as
available-for-sale. Proceeds from the sale of marketable securities approximated
$54 million, $1.04 billion and $176 million; respectively, for the years ended
December 31, 1998, 1997 and 1996. Realized gains and losses on marketable
securities for the years ended December 31, 1998, 1997 and 1996 were not
material.
PROPERTY AND EQUIPMENT:
- ----------------------
Property and equipment are stated at cost. Depreciation is provided for
financial reporting purposes using the straight-line method over the following
estimated useful lives:
Transmission equipment (including conduit) 5 to 45 years
Communications equipment 5 to 20 years
Furniture, fixtures, buildings and other 4 to 40 years
The Company evaluates the recoverability of property and equipment when events
and circumstances indicate that such assets might be impaired. The Company
determines impairment by comparing the undiscounted future cash flows estimated
to be generated by these assets to their respective carrying amounts.
Maintenance and repairs are expensed as incurred. Replacements and betterments
are capitalized. The cost and related reserves of assets sold or retired are
removed from the accounts, and any resulting gain or loss is reflected in
results of operations.
The Company constructs certain of its own transmission systems and related
facilities. Internal costs directly related to the construction of such
facilities, including interest and salaries of certain employees, are
capitalized. Such internal costs were $305 million ($195 million in interest),
$212 million ($82 million in interest), and $33 million ($10 million in
interest), in 1998, 1997 and 1996, respectively.
GOODWILL AND OTHER INTANGIBLE ASSETS:
- ------------------------------------
The major classes of intangible assets as of December 31, 1998 and 1997 are
summarized below (in millions):
<TABLE>
<CAPTION>
AMORTIZATION
PERIOD 1998 1997
------------- ------- -------
<S> <C> <C> <C>
Goodwill 5 to 40 years $44,076 $13,336
Tradename 40 years 1,100 --
Developed technology 5 to 10 years 2,100 400
Other intangibles 5 to 10 years 1,290 951
------- -------
48,566 14,687
Less: accumulated amortization 1,548 805
------- -------
Goodwill and other intangible assets, net $47,018 $13,882
======= =======
</TABLE>
Intangible assets are amortized using the straight-line method for the periods
noted above.
F-9
<PAGE>
Goodwill is recognized for the excess of the purchase price of the various
business combinations over the value of the identifiable net tangible and
intangible assets acquired. Realization of acquisition-related intangibles,
including goodwill, is periodically assessed by the management of the Company
based on the current and expected future profitability and cash flows of
acquired companies and their contribution to the overall operations of MCI
WorldCom.
Also included in other intangibles are costs incurred to develop software for
internal use. Such costs were $561 million, $91 million, and $43 million for the
years ended December 31, 1998, 1997 and 1996, respectively.
UNREALIZED HOLDING GAIN ON MARKETABLE EQUITY SECURITIES:
- -------------------------------------------------------
The Company's equity investment in certain publicly traded companies is
classified as available-for-sale securities. Accordingly, these investments are
included in other assets at their fair value of approximately $2.42 billion and
$113 million at December 31, 1998 and 1997, respectively. The unrealized holding
gain on these marketable equity securities, net of taxes, is included as a
component of shareholders' investment in the accompanying consolidated financial
statements. As of December 31, 1998, the gross unrealized holding gain on these
securities was $183 million. Proceeds from the sale of marketable equity
securities totaled $14 million for the year ended December 31, 1998. Gross
realized gains and losses on marketable equity securities, which represent
reclassification adjustments to other comprehensive income, were $13 million and
$31 million, respectively, for the year ended December 31, 1998. There was no
sales activity for the years ended December 31, 1997 and 1996.
RECOGNITION OF REVENUES:
- -----------------------
The Company records revenues for telecommunications services at the time of
customer usage. Service discounts and incentives are accounted for as a
reduction of revenues when granted or, where a service continuation contract
exists, ratably over the contract period. Revenues from information technology
services is recognized, depending on the service provided, on a percentage of
completion basis or as services and products are furnished or delivered.
ACCOUNTING FOR INTERNATIONAL LONG DISTANCE TRAFFIC:
- --------------------------------------------------
The Company enters into operating agreements with telecommunications carriers in
foreign countries under which international long distance traffic is both
delivered and received. The terms of most switched voice operating agreements,
as well as established Federal Communications Commission ("FCC") policy, require
that inbound switched voice traffic from the foreign carrier to the United
States be routed to United States international carriers, like MCI WorldCom, in
proportion to the percentage of United States outbound traffic routed by that
United States international carrier to the foreign carrier. Mutually exchanged
traffic between the Company and foreign carriers is settled in cash through a
formal settlement policy that generally extends over a six-month period at an
agreed upon settlement rate.
Revenues and line costs for prior periods reflect a classification change for
inbound international settlements which are now being treated as an offset to
line costs instead of revenues. Previously, both MCI Communications Corporation
("MCI") and WorldCom classified foreign post telephone and telegraph
administration settlements on a gross basis with the outbound settlement
reflected as line cost expense and the inbound settlement reflected as revenues.
This change better reflects the way in which the business is operated because
MCI WorldCom actually settles in cash through a formal net settlement process
that is inherent in the operating agreements with foreign carriers.
F-10
<PAGE>
EXTRAORDINARY ITEMS:
- -------------------
In the first quarter of 1998, the Company recorded an extraordinary item
totaling $129 million, net of income tax benefit of $78 million. The charge was
recorded in connection with the tender offers and certain related refinancings
of the Company's outstanding debt.
In 1997, the Company recognized an extraordinary loss of $3 million related to
the early extinguishment of secured indebtedness.
In the second quarter of 1996, the Company recorded charges for extraordinary
items totaling $24 million, net of income tax benefit of $16 million. The items
consisted of $4 million in connection with the Company's debt refinancing, and
$20 million related to a write-off of deferred international costs. Previously,
a portion of the outbound call fee due the foreign carrier was deferred and
accounted for as a cost attributable to the revenue associated with the inbound
call. Currently, the outbound call fee due the foreign carrier is expensed as
incurred. This change in accounting for international line costs was immaterial
to the results of operations.
INCOME TAXES:
- ------------
The Company recognizes current and deferred income tax assets and liabilities
based upon all events that have been recognized in the consolidated financial
statements as measured by the provisions of the enacted tax laws.
EARNINGS PER SHARE:
- ------------------
The following is a reconciliation of the numerators and the denominators of the
basic and diluted per share computations (in millions, except per share data):
<TABLE>
<CAPTION>
1998 1997 1996
------- ------- -------
<S> <C> <C> <C>
Basic
Income (loss) before extraordinary items $(2,540) $ 247 $(2,233)
Preferred stock dividends and distributions on Trust securities (31) (26) (1)
------- ------- -------
Net income (loss) applicable to common shareholders before
extraordinary items $(2,571) $ 221 $(2,234)
======= ======= =======
Weighted average shares outstanding 1,274 966 445
======= ======= =======
Basic earnings (loss) per share before extraordinary items $ (2.02) $ 0.23 $ (5.02)
======= ======= =======
Diluted
Net income (loss) applicable to common shareholders before
extraordinary items $(2,571) $ 221 $(2,234)
Add back:
Preferred stock dividends -- 1 --
------- ------- -------
Net income (loss) applicable to common shareholders $(2,571) $ 222 $(2,234)
======= ======= =======
Weighted average shares outstanding 1,274 966 445
Common stock equivalents -- 30 --
Common stock issuable upon conversion of:
Preferred stock -- 1 --
------- ------- -------
Diluted shares outstanding 1,274 997 445
======= ======= =======
Diluted earnings (loss) per share before extraordinary items $ (2.02) $ 0.22 $ (5.02)
======= ======= =======
</TABLE>
F-11
<PAGE>
STOCK SPLITS:
- ------------
On May 23, 1996, the Board of Directors authorized a 2-for-1 stock split in the
form of a 100% stock dividend which was distributed on July 3, 1996 to
shareholders of record on June 6, 1996. All per share data and numbers of common
shares have been retroactively restated to reflect this stock split.
CONCENTRATION OF CREDIT RISK:
- ----------------------------
A portion of the Company's revenues is derived from services provided to others
in the telecommunications industry, mainly resellers of long distance
telecommunications service and Internet online services. As a result, the
Company has some concentration of credit risk among its customer base. The
Company performs ongoing credit evaluations of its larger customer's financial
condition and, at times, requires collateral from its customers to support its
receivables, usually in the form of assignment of its customers' receivables to
the Company in the event of nonpayment.
RECENTLY ISSUED ACCOUNTING STANDARDS:
- ------------------------------------
In June 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standard ("SFAS") No. 133, "Accounting for Derivative
Instruments and Hedging Activities." This statement establishes accounting and
reporting standards requiring that every derivative instrument (including
certain derivative instruments embedded in other contracts) be recorded in the
balance sheet as either an asset or liability measured at its fair value. This
statement requires that changes in the derivative's fair value be recognized
currently in earnings unless specific hedge accounting criteria are met. Special
accounting for qualifying hedges allows a derivative's gains and losses to
offset related results on the hedged item in the income statement, and requires
a company to formally document, designate and assess the effectiveness of
transactions that receive hedge accounting. This statement is effective for
fiscal years beginning after June 15, 1999 and cannot be applied retroactively.
SFAS No. 133 must be applied to (a) derivative instruments and (b) certain
derivative instruments embedded in hybrid contracts that were issued, acquired,
or substantively modified after December 31, 1997 (and, at the Company's
election, before January 1, 1998). The Company believes that the adoption of
this standard will not have a material effect on the Company's consolidated
results of operation or financial position.
USE OF ESTIMATES:
- ----------------
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements and
revenues and expenses during the period reported. Actual results could differ
from those estimates. Estimates are used when accounting for long-term
contracts, allowance for doubtful accounts, accrued line costs, depreciation and
amortization, taxes, restructuring accruals and contingencies.
RECLASSIFICATIONS:
- -----------------
Certain consolidated financial statement amounts have been reclassified for
consistent presentation.
(2) BUSINESS COMBINATIONS -
---------------------
The Company has acquired other telecommunications companies offering similar or
complementary services to those offered by the Company. Such acquisitions have
been accomplished through the purchase of the
F-12
<PAGE>
outstanding stock or assets of the acquired entity for cash, notes, shares of
the Company's common stock, or a combination thereof. The cash portion of
acquisition costs has generally been financed through the Company's bank credit
facilities. In addition to the business combinations described below, the
Company or its predecessors completed smaller acquisitions during the three
years ended December 31, 1998.
On September 14, 1998, the Company acquired MCI for approximately $40 billion,
pursuant to the merger (the "MCI Merger") of MCI with and into TC Investments
Corp. ("Acquisition Subsidiary"), a wholly owned subsidiary of the Company. Upon
consummation of the MCI Merger, the Acquisition Subsidiary was renamed MCI
Communications Corporation. Through the MCI Merger, the Company acquired one of
the world's largest and most advanced digital networks, connecting local markets
in the United States to more than 280 countries and locations worldwide.
As a result of the MCI Merger, each outstanding share of MCI common stock was
converted into the right to receive 1.2439 shares of MCI WorldCom common stock,
par value $.01 per share (the "MCI WorldCom Common Stock"), or approximately 755
million MCI WorldCom common shares in the aggregate, and each share of MCI Class
A common stock outstanding (all of which were held by British Telecommunications
plc ("BT")) was converted into the right to receive $51.00 in cash or
approximately $7 billion in the aggregate. The funds paid to BT were obtained by
the Company from (i) available cash as a result of the Company's $6.1 billion
public debt offering in August 1998; (ii) the sale of MCI's Internet backbone
facilities and wholesale and retail Internet business (the "iMCI Business") to
Cable and Wireless plc ("Cable & Wireless") for $1.75 billion in cash on
September 14, 1998; (iii) the sale of MCI's 24.9% equity stake in Concert
Communications Services ("Concert") to BT for $1 billion in cash on September
14, 1998; and (iv) availability under the Company's commercial paper program and
credit facilities.
Upon effectiveness of the MCI Merger, the then outstanding and unexercised
options exercisable for shares of MCI common stock were converted into options
exercisable for an aggregate of approximately 83 million shares of MCI WorldCom
Common Stock having the same terms and conditions as the MCI options, except
that the exercise price and the number of shares issuable upon exercise were
divided and multiplied, respectively, by 1.2439. The MCI Merger was accounted
for as a purchase; accordingly, operating results for MCI have been included
from the date of acquisition.
The purchase price in the MCI Merger was allocated based on estimated fair
values at the date of acquisition. This resulted in an excess of purchase price
over net assets acquired of which $3.1 billion was allocated to in-process
research and development ("IPR&D") and $1.7 billion to developed technology,
which will be depreciated over 10 years on a straight-line basis. The remaining
excess of $29.7 billion, as of December 31, 1998, has been allocated to goodwill
and tradename, which are being amortized over 40 years on a straight-line basis.
On August 4, 1998, MCI acquired a 51.79% voting interest and a 19.26% economic
interest in Embratel Participacoes S.A. ("Embratel"), Brazil's only
facilities-based national communications provider, for approximately R$2.65
billion (US$2.3 billion). The purchase price will be paid in local currency
installments, of which R$1.06 billion (US$916 million) was paid on August 4,
1998 with the remaining R$1.59 billion (US$1.32 billion at December 31, 1998) to
be paid in two equal installments over the next two years. Embratel provides
interstate long distance and international telecommunications services in
Brazil, as well as over 40 other communications services, including leased
high-speed data, satellite, Internet, frame relay and packet-switched services.
Operating results for Embratel are consolidated in the accompanying consolidated
financial statements and are included from the date of the MCI Merger.
F-13
<PAGE>
On January 31, 1998, MCI WorldCom acquired CompuServe Corporation
("CompuServe"), for approximately $1.3 billion, pursuant to the merger (the
"CompuServe Merger") of a wholly owned subsidiary of the Company with and into
CompuServe. Upon consummation of the CompuServe Merger, CompuServe became a
wholly owned subsidiary of MCI WorldCom.
As a result of the CompuServe Merger, each share of CompuServe common stock was
converted into the right to receive 0.40625 shares of MCI WorldCom Common Stock,
or approximately 37.6 million MCI WorldCom common shares in the aggregate. Prior
to the CompuServe Merger, CompuServe operated primarily through two divisions:
Interactive Services and Network Services. Interactive Services offered
worldwide online and Internet access services for consumers, while Network
Services provided worldwide network access, management and applications, and
Internet service to businesses. The CompuServe Merger was accounted for as a
purchase; accordingly, operating results for CompuServe have been included from
the date of acquisition.
On January 31, 1998, the Company also acquired ANS Communications, Inc. ("ANS"),
from America Online, Inc. ("AOL"), for approximately $500 million, and has
entered into five year contracts with AOL under which MCI WorldCom and its
subsidiaries provide network services to AOL (collectively, the "AOL
Transaction"). As part of the AOL Transaction, AOL acquired CompuServe's
Interactive Services division and received a $175 million cash payment from MCI
WorldCom. MCI WorldCom retained the CompuServe Network Services division. ANS
provides Internet access to AOL and AOL's subscribers in the United States,
Canada, the United Kingdom, Sweden and Japan. The AOL Transaction was accounted
for as a purchase; accordingly, operating results for ANS have been included
from the date of acquisition.
The purchase price in the CompuServe Merger and AOL Transaction was allocated
based on estimated fair values at the date of acquisition. This resulted in an
excess of purchase price over net assets acquired of which $429 million was
allocated to IPR&D. The remaining excess of $994 million, as of December 31,
1998, has been recorded as goodwill, which is being amortized over 10 years on a
straight-line basis.
On January 29, 1998, MCI WorldCom acquired Brooks Fiber Properties, Inc.
("BFP"), pursuant to the merger (the "BFP Merger") of a wholly owned subsidiary
of MCI WorldCom, with and into BFP. Upon consummation of the BFP Merger, BFP
became a wholly owned subsidiary of MCI WorldCom. BFP is a leading
facilities-based provider of competitive local telecommunications services,
commonly referred to as a competitive local exchange carrier, in selected cities
within the United States. BFP acquires and constructs its own state-of-the-art
fiber optic networks and facilities and leases network capacity from others to
provide long distance carriers, ISPs, wireless carriers and business, government
and institutional end users with an alternative to the incumbent local exchange
carriers ("ILECs") for a broad array of high quality voice, data, video
transport and other telecommunications services.
As a result of the BFP Merger, each share of BFP common stock was converted into
the right to receive 1.85 shares of MCI WorldCom Common Stock or approximately
72.6 million MCI WorldCom common shares in the aggregate. The BFP Merger was
accounted for as a pooling-of-interests and, accordingly, the Company's
financial statements for periods prior to the BFP Merger have been restated to
include the results of BFP for all periods presented.
On December 31, 1996, MCI WorldCom, through a wholly owned subsidiary, merged
with MFS Communications Company, Inc. ("MFS"). Through the acquisition of MFS
(the "MFS Merger"), valued at approximately $12.5 billion, the Company acquired
local network access facilities via digital fiber optic cable networks installed
in and around major United States cities, and in several major European cities.
The Company also acquired a network platform, which consists of Company-owned
transmission and switching
F-14
<PAGE>
facilities, and network capacity leased from other carriers primarily in the
United States and Western Europe. The excess purchase price over net tangible
assets acquired was allocated as follows: $2.14 billion to IPR&D projects, $8.9
billion to goodwill, $400 million to developed technology and $42 million to
assembled workforce. Goodwill is being amortized on a straight-line basis over 5
to 40 years. The MFS Merger was accounted for as a purchase; accordingly,
operating results for MFS have been included from the date of acquisition.
As a result of the MFS Merger, each share of MFS common stock was converted into
the right to receive 2.1 shares of MCI WorldCom Common Stock or approximately
471 million MCI WorldCom common shares in the aggregate. Each share of MFS
Series A 8% Cumulative Convertible Preferred Stock ("MFS Series A Preferred
Stock") was converted into the right to receive one share of Series A 8%
Cumulative Convertible Preferred Stock of MCI WorldCom ("MCI WorldCom Series A
Preferred Stock"), or 94,992 shares of MCI WorldCom Series A Preferred Stock in
the aggregate. Each share of MFS Series B Convertible Preferred Stock was
converted into the right to receive one share of Series B Convertible Preferred
Stock of MCI WorldCom ("MCI WorldCom Series B Preferred Stock"), or
approximately 12.7 million shares of MCI WorldCom Series B Preferred Stock in
the aggregate. In addition, each depositary share representing 1/100th of a
share of MFS Series A Preferred Stock was exchanged for a depositary share
representing 1/100th of a share of MCI WorldCom Series A Preferred Stock.
On August 12, 1996, MFS acquired UUNET Technologies, Inc. ("UUNET"), through a
merger of a subsidiary of MFS with and into UUNET. UUNET is a leading worldwide
provider of a comprehensive range of Internet access options, applications, and
value added services to businesses, other telecommunications companies and
online services providers.
During 1998 and 1997, the Company recorded other liabilities of $2.18 billion
and $461 million, respectively, related to estimated costs of unfavorable
commitments of acquired entities, and other non-recurring costs arising from
various acquisitions and mergers. At December 31, 1998 and 1997, other
liabilities related to these accounts totaled $2.02 billion and $412 million,
respectively.
The initial purchase price allocations for the 1998 business combinations are
based on current estimates. The Company will make final purchase price
allocations based upon final values for certain assets and liabilities and plans
for exiting certain activities of MCI. As a result, the final purchase price
allocations may differ from the presented estimate.
The following unaudited pro forma combined results of operations for the Company
assumes that the MCI Merger was completed on January 1, 1997 (in millions,
except per share data):
<TABLE>
<CAPTION>
FOR THE YEAR ENDED
DECEMBER 31,
---------------------------
1998 1997
-------- --------
<S> <C> <C>
Revenues $ 31,968 $ 25,773
Income (loss) before extraordinary items (2,543) 2
Net income (loss) attributable to common shareholders (2,672) (1)
Dilutive income (loss) per common share:
Income (loss) before extraordinary items $ (1.42) $ 0.00
Net income (loss) (1.49) 0.00
</TABLE>
F-15
<PAGE>
These pro forma amounts represent the historical operating results of MCI
combined with those of the Company with appropriate preliminary adjustments
which give effect to an in-process research and development charge of $3.1
billion in 1998, depreciation, amortization, interest and the common shares
issued. These pro forma amounts do not include amounts with respect to the
CompuServe Merger, AOL Transaction or Embratel prior to their respective
business combination dates because they are individually, and in the aggregate,
not material to MCI WorldCom. These pro forma amounts are not necessarily
indicative of operating results which would have occurred if MCI had been
operated by current management during the periods presented because these
amounts do not reflect cost savings related to full network optimization and the
redundant effect on operating, selling, general and administrative expenses.
(3) IN-PROCESS RESEARCH AND DEVELOPMENT AND OTHER CHARGES -
-----------------------------------------------------
The following table reflects the components of the significant items included in
in-process research and development ("IPR&D") and other charges in 1998 and 1996
(in millions):
<TABLE>
<CAPTION>
1998 1996
-------------- --------------
<S> <C> <C>
In-process R&D $ 3,529 $ 2,140
Provision to reduce the carrying value of certain assets 49 402
Severance and other employee related costs 21 58
BFP direct merger costs 17 -
Alignment and other exit activities 109 140
-------------- --------------
$ 3,725 $ 2,740
-------------- --------------
</TABLE>
In 1998, the Company recorded a pre-tax charge of $196 million in connection
with the BFP Merger, the MCI Merger and certain asset write-downs and loss
contingencies. Such charges included $21 million for employee severance, $17
million for BFP direct merger costs, $38 million for conformance of BFP
accounting policies, $56 million for exit costs under long-term commitments, $31
million for write-down of a permanently impaired investment and $33 million
related to certain asset write-downs and loss contingencies. The $56 million
related to long-term commitments includes $33 million of minimum commitments
over the next one to ten years for leased facilities that the Company has or
will abandon, $19 million related to certain minimum contractual network lease
commitments that expire over the next one to three years, for which the Company
will receive no future benefit due to the migration of traffic to owned
facilities, and $4 million of other commitments. Additionally, the $33 million
related to certain asset write-downs and loss contingencies includes $9 million
for the decommission of certain information systems that have no alternative
future use, $9 million for the write-down to fair value of certain assets held
for sale that were disposed of in 1998 and $15 million related to legal costs
and other items related to BFP. The Company completed its plans for alignment
and exit activities in the first quarter of 1999. In connection with the above
charges, $35 million ($7 million related to severance), $16 million and $15
million are included in other current liabilities, accrued line costs and other
liabilities, respectively, in the accompanying consolidated financial statements
as of December 31, 1998.
In 1996, the Company recorded charges for employee severance, employee
compensation charges, alignment charges and costs to exit unfavorable
telecommunications contracts. Also in 1996, the Company incurred non-cash
charges related to a write-down in the carrying value of certain assets,
including goodwill and equipment. Because of events resulting from the passage
of the Telecommunications Act of 1996 (the
F-16
<PAGE>
"Telecom Act"), and changes in circumstances impacting certain non-core
operations, management estimates of the Company's fair value of operating assets
within its core and non-core businesses resulted in a non-cash charge of $344
million after-tax. On a pre-tax basis, the write-down was $402 million and
included $139 million for network facilities and $263 million for non-core
businesses, primarily operator services goodwill. Fair value of the non-core
business was determined by estimating the present value of future cash flows to
be generated from those operations while the majority of the network facilities
were recorded at net salvage value due to anticipated early disposal.
CHARGE FOR IN-PROCESS RESEARCH AND DEVELOPMENT:
- ----------------------------------------------
In connection with certain business combinations, the Company made allocations
of the purchase price to acquired IPR&D totaling $429 million in the first
quarter of 1998 related to the CompuServe Merger and AOL Transaction and $3.1
billion in the third quarter of 1998 related to the MCI Merger.
The Company used professional appraisal consultants to assess and allocate
values to the in-process research and development. These allocations represent
the estimated fair value based on risk-adjusted future cash flows related to the
incomplete projects. At the date of the respective business combinations, the
development of these projects had not yet reached technological feasibility and
the R&D in progress had no alternative future uses. Accordingly, these costs
were expensed as of the respective acquisition dates.
In the fourth quarter of 1996, the Company recorded a $2.14 billion charge for
IPR&D related to the MFS Merger. The charge was based upon a valuation analysis
of the technologies of MFS' worldwide information system, the Internet network
expansion system of UUNET, and certain other identified research and development
projects purchased in the merger. At the date of the MFS Merger, the
technological feasibility of the acquired technology had not yet been
established and the technology had no future alternative uses. The expense
includes $1.6 billion associated with UUNET and $0.54 billion related to MFS.
(4) INVESTMENTS-
-----------
In connection with the MCI Merger, the Company acquired a 44.5% investment in
Avantel, S.A. de C.V. ("Avantel"), a business venture with Grupo Financiero
Banamex-Accival formed to provide competitive domestic and international
telecommunications services in Mexico. At December 31, 1998, the net investment
in Avantel was approximately $506 million. The Company's share of Avantel's net
losses, recorded since the MCI Merger date, was approximately $25 million. The
Company and Avantel conduct business through the exchange of domestic and
international interconnection services at prevailing market rates in the
ordinary course of business. During 1998, the amounts associated with these
transactions were not material.
In connection with the MCI Merger, the Company acquired an investment in The
News Corporation Limited ("News Corp."), valued at $1.38 billion at December 31,
1998, comprised of cumulative convertible preferred securities and warrants. The
Company recorded dividend income of approximately $17 million in 1998, on its
News Corp. investment.
With News Corp., the Company would form a Direct Broadcast Satellite ("DBS")
joint venture in which the Company would own at 19.9% interest. DBS is a
point-to-multipoint broadcast service that uses highpowered Ku band satellites
placed in geosynchronous orbit. DBS service is capable of delivering a wide
F-17
<PAGE>
range of services, including subscription television, pay-per-view services,
such as movies, concerts and sporting events, and digitized content, such as
magazines. The Company holds a DBS license from the FCC which it will contribute
to the joint venture. The DBS license grants the Company the right to use 28 of
32 channels in the satellite slot located at 110 degrees west longitude, which
provides coverage to all fifty states in the U.S. and Puerto Rico. News Corp.
and the Company would contribute to the joint venture the other DBS related
assets they each own.
In November 1998, the Company and News Corp. entered into an agreement with
EchoStar Communications Corp. ("EchoStar") for the sale and transfer of the
Company's and News Corp.'s DBS assets (the "EchoStar Transaction"). Concurrent
with the consummation of the EchoStar Transaction, the Company will acquire
preferred shares in a subsidiary of News Corp. for a face amount equal to the
Company's cost of obtaining the FCC license, plus interest thereon. The Company
will also receive from EchoStar approximately 6.0 million shares of EchoStar
Class A Common Stock. The EchoStar Transaction is subject to approval by the FCC
and is expected to close in the second quarter of 1999. As of December 31, 1998,
the Company's investment in DBS was approximately $886 million.
(5) LONG-TERM DEBT-
--------------
Outstanding debt as of December 31, 1998 and 1997 consists of the following (in
millions):
<TABLE>
<CAPTION>
1998 1997
--------------------------------------------- -----------
EXCLUDING
EMBRATEL EMBRATEL CONSOLIDATED
---------- --------- ------------
<S> <C> <C> <C> <C>
Commercial paper and credit facilities $ 4,586 $ - $ 4,586 $ 3,208
6.13% - 6.95% Notes Due 2001 - 2028 6,100 - 6,100 -
7.55% - 7.75% Notes Due 2004 - 2027 2,000 - 2,000 2,000
8.88% - 9.38% Senior Notes Due 2004 - 2006 1,358 - 1,358 1,358
7.13% - 8.25% MCI Senior Debentures Due 2023 - 2027 1,441 - 1,441 -
6.13% - 7.50% MCI Senior Notes Due 1999 - 2012 2,653 - 2,653 -
15% note payable due in annual installments through 2000 - 1,317 1,317 -
10.00% - 10.88% BFP Notes Due 2006-2007 9 - 9 811
Capital lease obligations, 7.00% - 11.00%
(maturing through 2002) 639 - 639 33
Other debt (maturing through 2008) 184 552 736 14
---------- --------- ------------ -----------
18,970 1,869 20,839 7,424
Short-term debt and current maturities of long-term debt (3,970) (786) (4,756) (11)
---------- --------- ------------ -----------
$ 15,000 $ 1,083 $ 16,083 $ 7,413
========== ========= ============ ===========
</TABLE>
In connection with the BFP Merger, the Company announced in February 1998 that
it had commenced offers (the "Tender Offers") to purchase for cash various
series of BFP outstanding notes (the "BFP Notes"). Concurrently with the Tender
Offers, MCI WorldCom obtained the requisite consents to eliminate certain
restrictive covenants and amend certain other provisions of the respective
indentures of the BFP Notes. In March 1998, the Company accepted all BFP Notes
validly tendered. As of the expiration of the Tender Offers, MCI WorldCom had
received valid tenders and consents from holders of approximately $1.1 billion
of BFP Notes (over 99% of total outstanding). The funds required to pay all
amounts required under the
F-18
<PAGE>
Tender Offers were obtained by MCI WorldCom from available working capital and
lines of credit. In connection with the Tender Offers and related refinancings,
MCI WorldCom recorded an extraordinary item of $129 million, net of income tax
benefit of $78 million, in the first quarter of 1998.
On August 6, 1998, MCI WorldCom replaced its existing $3.75 billion and $1.25
billion revolving credit facilities (the "Old Credit Facilities") with $12.0
billion in credit facilities consisting of a $3.75 billion Amended and Restated
Facility A Revolving Credit Agreement ("Facility A Loans"), a $1.25 billion
Amended and Restated Facility B Term Loan Agreement ("Facility B Loans") and a
new $7 billion 364-Day Revolving Credit and Term Loan Agreement ("Facility C
Loans"). In the fourth quarter of 1998, the Company elected to repay the
Facility B Loans and cancel the facility commitment of $1.25 billion. The funds
used to repay the Facility B Loans were obtained by the Company from
availability under the Facility A Loans and Facility C Loans (collectively, the
"Credit Facilities") and the commercial paper program. The Credit Facilities
provide liquidity support for the Company's commercial paper program and will be
used for other general corporate purposes. The Facility A Loans mature on June
30, 2002. The Facility C Loans have a 364-day term, which may be extended for up
to two successive 364-day terms thereafter to the extent of the committed
amounts from those lenders consenting thereto, with a requirement that lenders
holding at least 51% of the committed amounts consent. Additionally, effective
as of the end of such 364-day term, the Company may elect to convert up to $4
billion of the principal debt outstanding under the Facility C Loans from
revolving loans to term loans with a maturity date no later than one year after
the conversion. The Credit Facilities bear interest payable in varying periods,
depending on the interest period, not to exceed six months, or with respect to
any Eurodollar Rate borrowing, 12 months if available to all lenders, at rates
selected by the Company under the terms of the Credit Facilities, including a
Base Rate or Eurodollar Rate, plus the applicable margin. The applicable margin
for the Eurodollar Rate borrowing varies from 0.35% to 0.75% as to Facility A
Loans and from 0.25% to 0.45% as to Facility C Loans, in each case based upon
the better of certain debt ratings. At December 31, 1998 and 1997, the weighted
average interest rates under the Company's credit facilities were 6.0% and 6.1%,
respectively. The Credit Facilities are unsecured but include a negative pledge
of the assets of the Company and its subsidiaries (subject to certain
exceptions). The Credit Facilities require compliance with a financial covenant
based on the ratio of total debt to total capitalization, calculated on a
consolidated basis. The Credit Facilities require compliance with certain
operating covenants which limit, among other things, the incurrence of
additional indebtedness by the Company and its subsidiaries, sales of assets and
mergers and dissolutions, which covenants are generally less restrictive than
those contained in the Old Credit Facilities and which do not restrict
distributions to shareholders, provided the Company is not in default under the
Credit Facilities. At December 31, 1998, the Company was in compliance with
these covenants. The Facility A Loans and the Facility C Loans are subject to
annual commitment fees not to exceed 0.25% and 0.12%, respectively, of any
unborrowed portion of the facilities.
In 1998, the Company approved the issuance of commercial paper notes in the
aggregate principal amount not to exceed $10.0 billion, which notes have a
maturity not to exceed 364 days from the date of issuance. The Company maintains
unused credit facilities equal to 100% of the commercial paper notes
outstanding. As of December 31, 1998, $2.59 billion was outstanding under the
commercial paper program.
On August 11, 1998, the Company completed a public debt offering of $6.1 billion
principal amount of debt securities. The net proceeds of $6.04 billion were used
to pay down commercial bank debt, finance a portion of the approximately $7
billion payment to BT and for general corporate purposes.
F-19
<PAGE>
The public debt offering consisted of $1.5 billion principal amount of 6.125%
Notes Due 2001 (the "Notes Due 2001"), which mature August 15, 2001, $600
million principal amount of 6.25% Notes Due 2003 (the "Notes Due 2003"), which
mature on August 15, 2003, $2.25 billion principal amount of 6.40% Notes Due
2005 (the "Notes Due 2005"), which mature August 15, 2005 and $1.75 billion
principal amount of 6.95% Notes Due 2028 (the "Notes Due 2028" and collectively
with the Notes Due 2001, the Notes Due 2003 and the Notes Due 2005, the
"Notes"), which mature August 15, 2028. The Notes bear interest payable
semiannually in arrears on February 15 and August 15 of each year, commencing
February 15, 1999.
The Notes are redeemable, as a whole or in part, at the option of the Company,
at any time or from time to time, at respective redemption prices equal to the
greater of (i) 100% of the principal amount of the Notes to be redeemed or (ii)
the sum of the present values of the Remaining Scheduled Payments (as defined
therein) plus (a) 10 basis points for the Notes Due 2001, (b) 15 basis points
for the Notes Due 2003 and the Notes Due 2005, or (c) 20 basis points for the
Notes Due 2028, plus in the case of each of clause (i) and (ii), accrued
interest to the date of redemption.
At the time of the MCI Merger, MCI had outstanding $1.44 billion of MCI Senior
Debentures with rates ranging from 7.125% to 8.25% and maturing from January
2023 through June 2027 (the "MCI Senior Debentures"), and $2.65 billion of MCI
Senior Notes with rates ranging from 6.125% to 7.5% and maturing from March 1999
through April 2012 (the "MCI Senior Notes"). Additionally, MCI had outstanding a
note payable in annual local currency installments (US$1.32 billion at December
31, 1998) as a result of MCI's purchase of Embratel on August 4, 1998 and other
debt including, without limitation, capital leases.
As of December 31, 1998, Embratel had $552 million of long-term debt
outstanding, of which approximately $496 million was denominated in U.S. dollars
and $56 million denominated in other currencies including the French Franc,
Deutsche Mark and Japanese Yen. The Embratel debt bears fixed interest rates
ranging from 5.7% to 10.1% and variable interest rates ranging from 0.25% to
3.30% per annum over LIBOR. The LIBOR rate at December 31, 1998 was 5.06%.
Certain of Embratel's credit agreements contain covenants restricting, among
other things, (i) the ability of Telecomunicacacoes Brasileiras S.A., Telebras
("Telebras"), Embratel's former parent, to dispose of all or a substantial part
of its assets or to cease to control a company that was an operating subsidiary
of Telebras and (ii) the ability of the Brazilian Federal Government to dispose
of its controlling interest in Telebras. The breakup of Telebras on May 22, 1998
and the privatization of Embratel constituted an event of default under such
credit agreements. In addition, most of Embratel's other credit agreements
include cross-default provisions and cross-acceleration provisions that would
permit the holders of such indebtedness to declare the indebtedness to be in
default and to accelerate the maturity thereof if a significant portion of the
principal amount of Embratel's debt is in default or accelerated. A substantial
portion of Embratel's outstanding debt is currently in default or expected to be
in default as a result of the privatization. Embratel is currently in
negotiations with the appropriate creditors with respect to this indebtedness.
The consolidated financial statements do not include any adjustments relating to
the recoverability of assets and classification of liabilities that might be
necessary should Embratel be unable to renegotiate its credit agreements. The
Company believes that once the privatization is finalized, Embratel's creditors
will renegotiate the terms of these credit agreements and/or provide appropriate
waivers regarding such defaults.
The Company has designated the remaining $1.32 billion note payable in local
currency installments, resulting from the Embratel investment, as a hedge of its
investment in Embratel. Accordingly, as of
F-20
<PAGE>
December 31, 1998, the Company recorded the change in value of $25 million,
resulting from foreign currency fluctuations, as a reduction of the note payable
with the offset through foreign currency translation adjustment in shareholders'
investment.
The aggregate principal repayments and reductions required in each of the years
ending December 31, 1999 through December 31, 2003 and thereafter for the
Company's long-term debt is as follows (in millions):
<TABLE>
<S> <C>
1999 $ 4,756
2000 1,174
2001 1,674
2002 146
2003 2,694
Thereafter 10,395
-------
$20,839
=======
</TABLE>
(6) COMPANY OBLIGATED MANDATORILY REDEEMABLE PREFERRED SECURITIES OF SUBSIDIARY
---------------------------------------------------------------------------
TRUST HOLDING SOLELY JUNIOR SUBORDINATED DEFERRABLE INTEREST DEBENTURES OF
--------------------------------------------------------------------------
THE COMPANY AND OTHER REDEEMABLE PREFERRED SECURITIES-
-----------------------------------------------------
In connection with the MCI Merger, the Company acquired $750 million aggregate
principal amount of 8% Cumulative Quarterly Income Preferred Securities, Series
A, representing 30 million shares outstanding ("preferred securities") due June
30, 2026 which were previously issued by MCI Capital I, a wholly owned Delaware
statutory business trust (the "Trust"). The Trust exists for the sole purpose of
issuing the preferred securities and investing the proceeds in the Company's 8%
Junior Subordinated Deferrable Interest Debentures, Series A ("Subordinated Debt
Securities") due June 30, 2026, the only assets of the Trust.
Holders of the preferred securities are entitled to receive preferential
cumulative cash distributions from the Trust on a quarterly basis, provided the
Company has not elected to defer the payment of interest due on the Subordinated
Debt Securities to the Trust. The Company may elect this deferral from time to
time, provided that the period of each such deferral does not exceed five years.
The preferred securities are subject to mandatory redemption, in whole or in
part, upon repayment of the Subordinated Debt Securities at maturity or earlier
in an amount equal to the amount of Subordinated Debt Securities maturing or
being repaid. In addition, in the event the Company terminates the Trust, the
Subordinated Debt Securities will be distributed to the then holders of the
preferred securities of the Trust. The Trust assets had an estimated fair market
value of $804 million at December 31, 1998.
The Company and MCI have executed various guarantee agreements and supplemental
indentures which agreements, when taken together with the issuance of the
Subordinated Debt Securities, constitute a full, irrevocable, and unconditional
guarantee by the Company and MCI of all of the Trust's obligations under the
preferred securities (the "Guarantee"). A Guarantee Agreement and Supplement No.
1 thereto covers payment of the preferred securities' quarterly distributions
and payments on maturity or redemption of the preferred securities, but only in
each case to the extent of funds held by the Trust. If the Company does not make
interest payments on the Subordinated Debt Securities held by the Trust, the
Trust will have insufficient funds to pay such distributions. The obligations of
the Company and MCI under the Guarantee and the Subordinated Debt Securities are
subordinate and junior in right of payment to all senior debt of the Company and
MCI, respectively.
F-21
<PAGE>
OTHER REDEEMABLE PREFERRED SECURITIES:
- -------------------------------------
On December 28, 1998, MCI WORLDCOM Synergies Management Company, Inc. ("SMC"), a
wholly owned subsidiary of the Company, issued 475 shares of an authorized 500
shares of 6.375% cumulative preferred stock, Class A ("SMC Class A Preferred
Stock") in a private placement. Each share of SMC Class A Preferred Stock has a
par value of $0.01 per share and a liquidation preference of $100,000 per share.
The SMC Class A Preferred Stock is mandatorily redeemable by SMC at the
redemption price of $100,000 per share plus accumulated and unpaid dividends on
January 1, 2019. Dividends on the SMC Class A Preferred Stock are cumulative
from the date of issuance and are payable quarterly commencing April 1, 1999 at
a rate per annum equal to 6.375% of the liquidation preference of $100,000 per
share when, as and if declared by the Board of Directors of SMC.
(7) PREFERRED STOCK-
---------------
In connection with the MFS Merger, the Company issued 9,499,200 depositary
shares (the "Depositary Shares"), each representing 1/100th interest in a share
of Series A 8% Cumulative Convertible Preferred Stock ("the MCI WorldCom Series
A Preferred Stock") and 12.7 million shares of MCI WorldCom Series B Preferred
Stock.
In May 1998, the Company exercised its option to redeem all of the outstanding
MCI WorldCom Series A Preferred Stock and related Depositary Shares. Prior to
the redemption date, substantially all of the holders of MCI WorldCom Series A
Preferred Stock elected to convert the preferred stock into MCI WorldCom Common
Stock, resulting in the issuance of approximately 32.7 million shares of MCI
WorldCom Common Stock.
The MCI WorldCom Series B Preferred Stock is convertible into shares of MCI
WorldCom Common Stock at any time at a conversion rate of 0.0973912 shares of
MCI WorldCom Common Stock for each share of MCI WorldCom Series B Preferred
Stock (an effective initial conversion price of $10.268 per share of MCI
WorldCom Common Stock). Dividends on the MCI WorldCom Series B Preferred Stock
accrue at the rate per share of $0.0775 per annum and are payable in cash.
Dividends will be paid only when, as and if declared by the Board of Directors.
The Company has not declared any dividends on the MCI WorldCom Series B
Preferred Stock to date, and anticipates that future dividends will not be
declared but will continue to accrue. Upon conversion, accrued but unpaid
dividends are payable in cash or shares of MCI WorldCom Common Stock at the
Company's election. To date, the Company has elected to pay all accrued
dividends in cash, upon conversion.
The MCI WorldCom Series B Preferred Stock is also redeemable at the option of
the Company at any time after September 30, 2001 at a redemption price of $1.00
per share, plus accrued and unpaid dividends. The redemption price will be
payable in cash or shares of MCI WorldCom Common Stock at the Company's
election.
The MCI WorldCom Series B Preferred Stock is entitled to one vote per share with
respect to all matters. The MCI WorldCom Series B Preferred Stock has a
liquidation preference of $1.00 per share plus all accrued and unpaid dividends
thereon to the date of liquidation. There is no established market for the MCI
WorldCom Series B Preferred Stock.
F-22
<PAGE>
In 1996, the Company exercised its option to redeem its Series 2 Preferred
Stock. Prior to the redemption date, all of the remaining outstanding Series 2
Preferred Stock was converted into 5,266,160 shares of MCI WorldCom Common
Stock.
(8) SHAREHOLDER RIGHTS PLAN-
-----------------------
On August 25, 1996, the Board of Directors of MCI WorldCom declared a dividend
of one preferred share purchase right (a "Right") for each outstanding share of
MCI WorldCom Common Stock. Each Right entitles the registered holder to purchase
from the Company one one-thousandth of a share of Series 3 Junior Participating
Preferred Stock, par value $.01 per share (the "Junior Preferred Stock"), of the
Company at an initial price of $160.00 per one one-thousandth of a share of
Junior Preferred Stock (the "Purchase Price"), subject to adjustment.
The Rights generally will be exercisable only after the close of business on the
tenth business day following the date of public announcement or the date on
which the Company first has notice or determines that a person or group of
affiliated or associated persons (an "Acquiring Person") has acquired, or
obtained the right to acquire, 15% or more of the outstanding shares of voting
stock of the Company without the prior express written consent of the Company,
by a person which, upon consummation, would result in such party's control of
15% or more of the Company's voting stock. The Rights will expire, if not
previously exercised, exchanged or redeemed, on September 6, 2001.
If any person or group acquires 15% or more of the Company's outstanding voting
stock without prior written consent of the Board of Directors, each Right,
except those held by such persons, would entitle each holder of a Right to
acquire such number of shares of MCI WorldCom's Common Stock as shall equal the
result obtained by multiplying the then current Purchase Price by the number of
one one-thousandths of a share of Junior Preferred Stock for which a Right is
then exercisable and dividing that product by 50% of the then current per-share
market price of MCI WorldCom Common Stock.
If any person or group acquires more than 15% of the outstanding MCI WorldCom
Common Stock without prior written consent of the Board of Directors, each
Right, except those held by such persons, may be exchanged by the Board of
Directors for one share of MCI WorldCom Common Stock.
If the Company were acquired in a merger or other business combination
transaction where the Company is not the surviving corporation or where MCI
WorldCom Common Stock is exchanged or changed for 50% or more of the Company's
assets or earnings power is sold in one or several transactions without the
prior written consent of the Board of Directors, each Right would entitle the
holders thereof (except for the Acquiring Person) to receive such number of
shares of the acquiring company's common stock as shall be equal to the result
obtained by multiplying the then current Purchase Price by the number one one-
thousandths of a share of Junior Preferred Stock for which a Right is then
exercisable and dividing that product by 50% of the then current market price
per share of the common stock of the acquiring company on the date of such
merger or other business combination transaction.
At any time prior to the time an Acquiring Person becomes such, the Board of
Directors of the Company may redeem the Rights in whole, but not in part, at a
price of $.01 per Right (the "Redemption Price"). The redemption of the Rights
may be made effective at such time, on such basis and with such conditions as
the Board of Directors in its sole discretion may establish. Immediately upon
any redemption of the Rights, the right to exercise the Rights will terminate
and the only right of the holders of the Rights will be to receive the
Redemption Price.
F-23
<PAGE>
The terms of the Rights may be amended by the Board of Directors of the Company
without the consent of the holders of the Rights, including an amendment to
lower certain thresholds described above to not less than the greater of (i) any
percentage greater than the largest percentage of the voting power of all
securities of the Company then known to the Company to be beneficially owned by
any person or group of affiliated or associated persons (other than an excepted
person) and (ii) 10%, except that from and after such time as any person or
group of affiliated or associated persons becomes an Acquiring Person no such
amendment may adversely affect the interests of the holders of the Rights.
(9) LEASES AND OTHER COMMITMENTS-
----------------------------
The Company leases office facilities and certain equipment under noncancellable
operating leases having initial or remaining terms of more than one year. In
addition, the Company leases a right-of-way from a railroad company under a
fifteen-year lease with three fifteen-year renewal options. The Company is also
obligated under rights-of-way and franchise agreements with various entities for
the use of their rights-of-way for the installation of the Company's
telecommunications systems. Rental expense under these operating leases was $184
million, $140 million, and $60 million in 1998, 1997 and 1996, respectively.
At December 31, 1998, minimum lease payments under noncancellable operating
leases and commitments and capital leases were as follows (in millions):
<TABLE>
<CAPTION>
OPERATING AND CAPITAL LEASES
-------------------------------------------------------------------
TELECOMMUNICATIONS
OFFICE FACILITIES FACILITIES CAPITAL
YEAR AND EQUIPMENT AND RIGHTS OF WAY TOTAL LEASES
- ----------------------- ----------------- ------------------ -------------- --------------
<S> <C> <C> <C> <C>
1999 $ 363 $ 1,151 $ 1,514 $ 169
2000 331 1,040 1,371 111
2001 277 831 1,108 103
2002 221 631 852 65
2003 182 430 612 35
Thereafter 500 648 1,148 420
---------- -------------- -------------- --------------
Total $ 1,874 $ 4,731 $ 6,605 903
========== ============== ==============
Less: imputed interest (264)
--------------
$ 639
==============
</TABLE>
Certain of the Company's facility leases include renewal options, and most
leases include provisions for rent escalation to reflect increased operating
costs and/or require the Company to pay certain maintenance and utility costs.
MCI WorldCom also has agreements with a company that installs, operates and
maintains certain MCI WorldCom data processing, telecommunications and billing
systems. The agreements expire in 2003 and are renewable on an annual basis
thereafter. The agreements require minimum annual payments of approximately $27
million.
F-24
<PAGE>
Additionally, MCI WorldCom has an agreement with a company that develops,
constructs and maintains facilities based communications systems. The agreement
expires in 2003 and includes minimum annual commitments of $40 million with a
minimum aggregate commitment during the term of the contract of $325 million.
In 1998, the Company's existing receivables purchase agreement generated
additional proceeds of $83 million, bringing the total amount outstanding to
$500 million. The Company used these proceeds to reduce outstanding debt under
the Company's Credit Facilities. As of December 31, 1998, the purchaser owned an
undivided interest in a $1.25 billion pool of receivables which includes the
$500 million sold.
(10) CONTINGENCIES -
-------------
The Company is involved in legal and regulatory proceedings generally
incidental to its business and has included loss contingencies in other current
liabilities and other liabilities for certain of these matters. In some
instances, rulings by regulatory authorities in some states may result in
increased operating costs to the Company. Except as described herein, and while
the results of these various legal and regulatory matters contain an element of
uncertainty, MCI WorldCom believes that the probable outcome of these matters
should not have a material adverse effect on the Company's consolidated results
of operations or financial position.
GENERAL. MCI WorldCom is subject to varying degrees of federal, state, local and
international regulation. In the United States, the Company's subsidiaries are
most heavily regulated by the states, especially for the provision of local
exchange services. The Company must be certified separately in each state to
offer local exchange and intrastate long distance services. No state, however,
subjects MCI WorldCom to price cap or rate of return regulation, nor is the
Company currently required to obtain FCC authorization for installation or
operation of its network facilities used for domestic services, other than
licenses for specific terrestrial microwave and satellite earth station
facilities that utilize radio frequency spectrum. FCC approval is required,
however, for the installation and operation of its international facilities and
services. MCI WorldCom is subject to varying degrees of regulation in the
foreign jurisdictions in which it conducts business including authorization for
the installation and operation of network facilities. Although the trend in
federal, state and international regulation appears to favor increased
competition, no assurance can be given that changes in current or future
regulations adopted by the FCC, state or foreign regulators or legislative
initiatives in the United States or abroad would not have a material adverse
effect on MCI WorldCom.
In implementing the Telecom Act, the FCC established nationwide rules designed
to encourage new entrants to participate in the local services markets through
interconnection with the ILECs, resale of ILECs' retail services and use of
individual and combinations of unbundled network elements. Appeals of the FCC
order adopting those rules were consolidated before the United States Court of
Appeals for the Eighth Circuit (the "Eighth Circuit"). Thereafter, the Eighth
Circuit held that constitutional challenges to various practices implementing
cost provisions of the Telecom Act that were ordered by certain Public Utility
Commissions ("PUCs") were premature; it vacated, however, significant portions
of the FCC's nationwide pricing rules and an FCC rule requiring that unbundled
network elements be provided on a combined basis. The United States Supreme
Court (the "Supreme Court") reviewed the decision of the Eighth Circuit and on
January 25, 1999, reversed the Eighth Circuit in part and reinstated, with one
exception, all of the FCC local competition rules. The Court vacated and
remanded to the FCC for reconsideration the rule determining which unbundled
F-25
<PAGE>
network elements must be provided by incumbent local exchange carriers to new
entrants. The Eighth Circuit will now consider the ILECs' challenges to the
substance of pricing rules which it previously had found to be premature.
Certain BOCs have also raised constitutional challenges to sections of the
Telecom Act restricting BOC provisioning of long distance services, and their
manufacturing of telecommunications equipment, electronic publishing and alarm
monitoring services. On December 31, 1997, the U.S. District Court for the
Northern District of Texas (the "District Court") ruled that these restrictions
violate the Bill of Attainder Clause of the U.S. Constitution. The decision only
applied to SBC Corporation ("SBC"), US WEST Communications Group ("US WEST") and
Bell Atlantic Corporation ("Bell Atlantic"). At the request of various parties,
on February 11, 1998, the District Court issued a stay of its decision pending
appeal. On September 4, 1998, the U.S. Court of Appeals for the Fifth Circuit
(the "Fifth Circuit") reversed the decision of the District Court and upheld the
constitutionality of the challenged provisions. On October 19, 1998, SBC, US
WEST and Bell Atlantic filed petitions requesting the Supreme Court review the
Fifth Circuit decision. On January 19, 1999, the Supreme Court denied these
petitions for review. BellSouth Corporation ("BellSouth") also raised the Bill
of Attainder issue in its appeal before the United States Court of Appeals for
the D.C. Circuit of the FCC's denial of BellSouth's application to provide
access long distance service in South Carolina. On December 22, 1998, the U.S.
Court of Appeals for the D.C. Circuit, in a 3-0 opinion, denied BellSouth's
constitutional challenges.
The FCC has denied applications filed by Regional Bell Operating Companies
("RBOCs") seeking authority to provide interLATA long distance service. In its
denial of an Ameritech Corporation ("Ameritech") application and a BellSouth
application, the FCC provided detailed guidance to applicants regarding the
obligations of the applicants, the format of future applications, the content of
future applications, and the review standards that it will apply in evaluating
any future applications. The National Association of Regulatory Utility
Commissioners and several state regulatory commissions appealed jurisdictional
aspects of that Ameritech application denial to the Eighth Circuit. On January
22, 1998, the Eighth Circuit granted the various appeals and held that the FCC
does not have jurisdiction to consider pricing issues when deciding RBOC
interLATA long distance applications. On February 22, 1999, the Supreme Court
vacated the Eighth Circuit's decision, re-establishing the jurisdiction of the
FCC to use forward-looking pricing methodology when reviewing RBOC entry into
the long distance market.
Access charges, both interstate and intrastate, are a principal component of MCI
WorldCom's telecommunications expense. On the interstate side, the U.S. Court of
Appeals for the D.C. Circuit is presently considering multiple appeals of the
FCC's 1997 changes to the price cap system for regulating interstate access
charges. Several PUCs have initiated proceedings to address reallocation of
implicit subsidies contained in the access rate and retail service rates to
state universal service funds. In addition, the FCC is presently considering
further universal service reforms, access reform, and pricing flexibility for
ILEC access charges. MCI WorldCom cannot predict the outcome of these
proceedings or whether or not the result(s) will have a material adverse impact
upon its consolidated financial position or results of operations.
In August 1998, in response to petitions filed by several ILECs under the guise
of Section 706 of the Telecom Act, the FCC issued its Advanced Services Order.
This order clarifies that the interconnection, unbundling, and resale
requirements of Section 251(c) of the Telecom Act, and the interLATA
restrictions of Section 271 of this Act, apply fully to so-called "advanced
telecommunications services," such as Digital Subscriber Line ("DSL"). In a
companion notice, the FCC sought comment on how to implement Section 706 of the
Telecom
F-26
<PAGE>
Act, which directs the FCC to (1) encourage the deployment of advanced
telecommunications capability to Americans on a reasonable and timely basis, and
(2) complete an inquiry concerning the availability of such services no later
than February 8, 1999. The Commission's rulemaking notice included a proposal
that, if adopted, would allow the ILECs the option of providing advanced
services via a separate subsidiary free from the unbundling and resale
obligations of Section 251(c), as well as other dominant carrier regulatory
requirements.
In early February 1999, the FCC issued its report to Congress, concluding that
the deployment of advanced services is proceeding at a reasonable and timely
pace. The FCC has not yet issued its Section 706 rulemaking order.
On February 26, 1999, the FCC issued a Declaratory Ruling and Notice of Proposed
Rulemaking regarding the regulatory treatment of calls to ISPs. Prior to the
FCC's order, approximately thirty PUCs issued orders unanimously finding that
carriers, including MCI WorldCom, are entitled to collect reciprocal
compensation for completing calls to ISPs under the terms of their
interconnection agreements with ILECs. Many of these PUC decisions have been
appealed by the ILECs and, since the FCC's order, many have filed new cases at
the PUCs or in court. Moreover, MCI WorldCom has appealed the FCC's order to the
Court of Appeals for the D.C. Circuit. MCI WorldCom cannot predict either the
outcome of these appeals and the FCC's rulemaking proceeding or whether or not
the result(s) will have a material adverse impact upon its consolidated
financial position or results of operations.
INTERNATIONAL. In December 1996, the FCC adopted a new policy that makes it
easier for United States international carriers to obtain authority to route
international public switched voice traffic to and from the United States
outside of the traditional settlement rate and proportionate return regimes. In
August 1998, the FCC proposed to modify its rules to make it even easier for
U.S. international carriers to engage in alternative traffic routing. In
February 1997, the United States entered into a World Trade Organization
Agreement (the "WTO Agreement") that is designed to have the effect of
liberalizing the provision of switched voice telephone and other
telecommunications services in scores of foreign countries over the next several
years. The WTO Agreement became effective in February 1998. In light of the
United States commitments to the WTO Agreement, the FCC implemented new rules in
February 1998 that liberalize existing policies regarding (1) the services that
may be provided by foreign affiliated United States international common
carriers, including carriers controlled or more than 25 percent owned by foreign
carriers that have market power in their home markets, and (2) the provision of
alternative traffic routing. The new rules make it much easier for foreign
affiliated carriers to enter the United States market for the provision of
international services.
In August 1997, the FCC adopted mandatory settlement rate benchmarks. These
benchmarks are intended to reduce the rates that United States carriers pay
foreign carriers to terminate traffic in their home countries. The FCC will also
prohibit a United States carrier affiliated with a foreign carrier from
providing facilities-based service to the foreign carrier's home market until
and unless the foreign carrier has implemented a settlement rate at or below the
benchmark. The FCC also adopted new rules that will liberalize the provision of
switched services over private lines to World Trade Organization ("WTO") member
countries. These rules allow such services on routes where 50% or more of United
States billed traffic is being terminated in the foreign country at or below the
applicable settlement rate benchmark or where the foreign country's rules
concerning provision of international switched services over private lines are
deemed equivalent to United States rules. On January 12, 1999, the FCC's
benchmark rules were upheld in their entirety by the U.S. Court of Appeals for
the D.C. Circuit. On March 11, 1999 the D. C. Circuit denied petitions for
rehearing of the case.
F-27
<PAGE>
Although the FCC's new policies and implementation of the WTO Agreement may
result in lower settlement payments by MCI WorldCom to terminate international
traffic, there is a risk that the payment that MCI WorldCom will receive from
inbound international traffic may decrease to an even greater degree. The
implementation of the WTO Agreement may also make it easier for foreign carriers
with market power in their home markets to offer United States and foreign
customers end-to-end services to the disadvantage of MCI WorldCom. The Company
meanwhile, may continue to face substantial obstacles in obtaining from foreign
governments and foreign carriers the authority and facilities to provide such
end-to-end services.
EMBRATEL. The 1996 General Telecommunications Law (the "General Law") provides a
framework for telecommunications regulation for Embratel. Article 8 of the
General Law created Agencia Nacional de Telecomunicacoes ("Anatel") to implement
the General Law through development of regulations and to enforce such
regulations. According to the General Law, companies wishing to offer
telecommunications services to consumers are required to apply to Anatel for a
concession or an authorization. Concessions are granted for the provision of
services under the public regime (the "Public Regime") and authorizations are
granted for the provision of services under the private regime (the "Private
Regime"). The Public Regime is differentiated from the Private Regime primarily
by the obligations imposed on the companies rather than the type of services
offered by those companies. Service providers subject to the Public Regime
(concessionaires) are subject to obligations concerning network expansion and
continuity of service provision and are subject to rate regulation. These
obligations and the tariff conditions are provided in the General Law and in
each company's concession contract. The network expansion obligations (called
universal service obligations) are also provided in the Plano Geral de
Universalizacao ("General Plan on Universal Service").
The only services provided under the Public Regime are the switched fixed
telephone services (local and national and international long distance) provided
by Embratel and the three regional Telebras holding companies. All other
telecommunications companies, including other companies providing switched fixed
telephone services ("SFTS"), operate in the Private Regime and, although they
are not subject to the Public Regime, individual authorizations may contain
certain specific expansion and continuity obligations.
Therefore, when providing SFTS, Embratel and the three Telebras holding
companies ("Teles") established with the privatization, are subject to the
Public Regime obligations provided in the General Law, in their concession
contracts and in the General Plan on Universal Service, among other regulations.
The main restriction imposed on these companies by the General Grant Plan, is
that, until December 31, 2003, the three Teles are prohibited from offering
inter-regional and international long distance service, while Embratel is
prohibited from offering local services. These companies can start providing the
mentioned services two years sooner if they meet their network expansion
obligations by December 31, 2001.
Embratel and the three Teles were granted their concessions at no fee, until
2005. After 2005, the concessions may be renewed for a period of 20 years, upon
the payment, every two years, of a fee equal to 2% of annual net revenues
calculated based on the provision of SFTS in the prior year, excluding taxes and
social contributions, during the 20-year renewal period.
Embratel also offers a number of ancillary telecommunications services pursuant
to authorizations granted in the Private Regime. The principal such services are
the provision of dedicated analog and digital lines, packet switched network
services, circuit switched network services, mobile marine telecommunications,
telex and telegraph, radio signal satellite retransmission and television signal
satellite retransmission. Some of these services are subject to some specific
continuity obligations and rate conditions, provided in the respective
authorization.
F-28
<PAGE>
All providers of telecommunications services are subject to quality and
modernization obligations provided in the Plan Geral de Qualidade ("General Plan
on Quality").
LITIGATION. On November 4, 1996, and thereafter, and on August 25, 1997, and
thereafter, MCI and all of its directors were named as defendants in a total of
15 complaints filed in the Court of Chancery in the State of Delaware. BT was
named as a defendant in 13 of the complaints. The complaints were brought by
alleged stockholders of MCI, individually and purportedly as class actions on
behalf of all other stockholders of MCI. In general, the complaints allege that
MCI's directors breached their fiduciary duty in connection with the MCI BT
Merger Agreement, dated November 3, 1996 (the "MCI BT Merger Agreement"), that
BT aided and abetted those breaches of duty, that BT owes fiduciary duties to
the other stockholders of MCI and that BT breached those duties in connection
with the MCI BT Merger Agreement. The complaints seek damages and injunctive and
other relief.
On or about October 8, 1997, all of MCI's directors were named as defendants in
a purported derivative complaint filed in the Court of Chancery in the State of
Delaware. BT and Tadworth Corporation were also named as defendants, and MCI was
named as a nominal defendant. The plaintiff, derivatively and on behalf of MCI,
alleges breach of fiduciary duty by the MCI directors and aiding and abetting
those breaches of duty by BT in connection with the MCI BT Merger Agreement and
MCI WorldCom's exchange offer. The complaint seeks injunctive relief, damages
and other relief.
One of the purported stockholder class actions pending in Delaware Chancery
Court has been amended and plaintiffs in four of the other purported stockholder
class actions have moved to amend their complaints to name MCI WorldCom and
Acquisition Subsidiary as additional defendants. These plaintiffs generally
allege that the defendants breached their fiduciary duties to stockholders in
connection with the MCI Merger and the agreement to pay a termination fee to
WorldCom. They further allege discrimination in favor of BT in connection with
the MCI Merger. The plaintiffs seek, inter alia, damages and injunctive relief
prohibiting the consummation of the MCI Merger and the payment of the inducement
fee to BT.
Three complaints were filed in the U.S. District Court for the District of
Columbia, as class actions on behalf of purchasers of MCI shares. The three
cases were consolidated on April 1, 1998. On or about May 8, 1998, the
plaintiffs in all three cases filed a consolidated amended complaint alleging,
on behalf of purchasers of MCI's shares between July 11, 1997 and August 21,
1997, inclusive, that MCI and certain of its officers and directors failed to
disclose material information about MCI, including that MCI was renegotiating
the terms of the MCI BT Merger Agreement. The consolidated amended complaint
seeks damages and other relief. The Company and the other defendants have moved
to dismiss the consolidated amended complaint.
On May 7, 1998, GTE Corporation and three of its subsidiaries filed suit in the
U.S. District Court for the District of Columbia against MCI and WorldCom. The
complaint alleges that the MCI Merger would have the effect of substantially
lessening competition or tending to create a monopoly, and thereby violate
section 7 of the Clayton Act, with respect to the markets for Internet backbone
services, facilities to extend the reach of the Internet backbone, wholesale and
retail long distance services and international calling services. The complaint
requested declaratory and injunctive relief. On or about October 14, 1998, GTE
filed an amended complaint seeking declaratory and injunctive relief and
damages; MCI and WorldCom moved to dismiss the amended complaint in its
entirety. On February 22, 1999, the parties filed a joint stipulation of
dismissal with prejudice.
F-29
<PAGE>
At least nine class action complaints have been filed that arise out of the
FCC's decision in Halprin, Temple, Goodman and Sugrue v. MCI Telecommunications
-------------------------------------------------------------
Corp., and allege that MCI WorldCom has improperly charged "Pre-Subscribed"
- -----
customers "Non-Subscriber" or so-called "casual" rates for certain direct-dialed
calls. Plaintiffs assert that this conduct violates the Communications Act and
various state laws; they seek rebates to all affected customers and (in some
cases) punitive damages. MCI WorldCom has filed a motion with the Judicial Panel
on Multi-District Litigation to consolidate these matters in the U.S. District
Court for the District of Columbia. The Company intends to move to dismiss the
cases or, in the alternative, to stay them, pending the FCC's resolution of MCI
WorldCom's outstanding motion for reconsideration and any subsequent appeals of
the FCC decision.
The Company believes that all of the complaints are without merit, and based on
information currently available, MCI WorldCom presently does not expect that the
above actions will have a material adverse effect on the Company's consolidated
results of operations or financial position.
(11) EMPLOYEE BENEFIT PLANS-
----------------------
STOCK OPTION PLANS:
- ------------------
The Company has several stock option plans under which options to acquire up to
317 million shares may be granted to directors, officers and certain employees
of the Company including the stock option plans acquired through various
acquisitions. The Company accounts for these plans under APB Opinion No. 25,
under which no compensation cost is recognized. Terms and conditions of the
Company's options, including exercise price and the period in which options are
exercisable, generally are at the discretion of the Compensation and Stock
Option Committee of the Board of Directors; however, no options are exercisable
for more than 10 years after date of grant. As of December 31, 1998, 245 million
options had been granted under these plans.
Prior to the MCI Merger, certain executives of MCI were granted incentive stock
units ("ISUs") that vested over a three-year period and entitled the holder to
receive shares of common stock. At December 31, 1998, there were approximately
2.1 million ISUs outstanding.
Additionally, there are outstanding warrants to acquire shares of MCI WorldCom
Common Stock at $6.25 per share which were granted by MFS prior to the MFS
Merger.
Additional information regarding options and warrants granted and outstanding is
summarized below (in millions, except per share data):
<TABLE>
<CAPTION>
WEIGHTED-
NUMBER AVERAGE
OF OPTIONS EXERCISE PRICE
---------- ---------------
<S> <C> <C>
Balance, December 31, 1995 30 $ 8.52
Granted to employees/directors 10 15.65
Assumed in connection with acquisition 55 8.74
Exercised (11) 6.62
Expired or canceled (1) 10.43
--- -----------
</TABLE>
F-30
<PAGE>
<TABLE>
<CAPTION>
WEIGHTED-
NUMBER AVERAGE
OF OPTIONS EXERCISE PRICE
---------- ---------------
<S> <C> <C>
Balance, December 31, 1996 83 10.05
Granted to employees/directors 32 25.14
Exercised (24) 5.72
Expired or canceled (6) 14.68
--- -----------
Balance, December 31, 1997 85 16.54
Granted to employees/directors 32 30.51
Assumed in connection with acquisitions 84 28.02
Exercised (32) 14.75
Expired or canceled (6) 24.65
--- -----------
Balance, December 31, 1998 163 $ 25.25
=== ===========
</TABLE>
The following table summarizes information about the shares outstanding at
December 31, 1998:
<TABLE>
<CAPTION>
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
-------------------------------------------------------- -----------------------------------
NUMBER REMAINING WEIGHTED- NUMBER WEIGHTED-
RANGE OF EXERCISE OUTSTANDING CONTRACTUAL AVERAGE OUTSTANDING AVERAGE
PRICES (IN MILLIONS) LIFE (YEARS) EXERCISE PRICE (IN MILLIONS) EXERCISE PRICE
- ----------------------- ------------- ------------ -------------- ------------- --------------
<S> <C> <C> <C> <C> <C>
$ 0.01 - 9.95 14 4.5 $ 6.28 12 $ 6.33
9.96 - 19.90 33 5.8 14.66 24 14.40
19.91 - 29.85 54 7.2 25.47 36 25.23
29.86 - 39.80 47 8.6 33.04 1 36.12
39.81 - 48.75 15 9.3 40.39 - 41.52
---------------- -----------
163 73
================ ===========
</TABLE>
In October 1995, the FASB issued SFAS No. 123, "Accounting for Stock-Based
Compensation." SFAS No. 123 requires disclosure of the compensation cost for
stock-based incentives granted after January 1, 1995 based on the fair value at
grant date for awards. Applying SFAS No. 123 would result in pro forma net
income (loss) and earnings (loss) per share ("EPS") amounts as follows (in
millions, except share data):
<TABLE>
<CAPTION>
1998 1997 1996
---- ---- ----
<S> <C> <C> <C> <C>
Net income (loss) before extraordinary items As reported $ (2,571) $ 221 $ (2,234)
Pro forma (2,681) 166 (2,251)
Basic EPS As reported (2.02) 0.23 (5.02)
Pro forma (2.10) 0.17 (5.06)
Diluted EPS As reported (2.02) 0.22 (5.02)
Pro forma (2.10) 0.17 (5.06)
</TABLE>
F-31
<PAGE>
The fair value of each option or restricted stock grant is estimated on the date
of grant using an option-pricing model with the following weighted-average
assumptions used for grant:
<TABLE>
<CAPTION>
WEIGHTED-
EXPECTED RISK-FREE AVERAGE GRANT-
DATE GRANTED VOLATILITY INTEREST RATE DATE FAIR VALUE
------------ ---------- ------------- ---------------
<S> <C> <C> <C> <C>
1996 21.6% 5.4% $ 5.62
1997 22.8% 6.4% $ 7.99
1998 23.7% 5.6% $ 10.07
</TABLE>
Additionally, for all options, a 15% forfeiture rate was assumed with an
expected life of 5 years and no dividend yield.
Because the SFAS No. 123 method of accounting has been applied only to grants
after December 31, 1994, the resulting pro forma compensation cost may not be
representative of that to be expected in future periods.
401(K) PLANS:
- ------------
The Company and its subsidiaries offer its qualified employees the opportunity
to participate in one of its defined contribution retirement plans qualifying
under the provisions of Section 401(k) of the Internal Revenue Code. Each
employee may contribute on a tax deferred basis a portion of annual earnings not
to exceed $10,000. The Company matches individual employee contributions in
certain plans, up to a maximum level which in no case exceeds 6% of the
employee's compensation. Expenses recorded by the Company relating to its 401(k)
plans were $26 million, $7 million, and $6 million for the years ended December
31, 1998, 1997 and 1996, respectively.
(12) PENSION AND OTHER POST-RETIREMENT BENEFIT PLANS-
-----------------------------------------------
As a result of the MCI Merger, MCI WorldCom has a noncontributory defined
benefit pension plan (the "MCI Plan") and a supplemental pension plan (the
"Supplemental Plan") and Western Union International, Inc. ("WUI"), a subsidiary
of MCI, has a defined benefit pension plan (the "WUI Plan"). Collectively, these
plans cover substantially all MCI employees who became MCI WorldCom employees as
a result of the MCI Merger and who work 1,000 hours or more in a year. Effective
January 1, 1999, no future compensation credits will be earned by participants
of the MCI Plan.
Annual service cost is determined using the Projected Unit Credit actuarial
method, and prior service cost is amortized on a straight-line basis over the
average remaining service period of employees. The MCI Plan accumulated benefit
obligation exceeds the fair value of assets by $27 million. There is no
additional minimum pension liability required to be recognized.
Additionally, Embratel sponsors a contributory defined benefit pension plan and
a post-retirement benefit plan. Approximately 97% of Embratel's employees are
covered by these plans. The defined benefit pension plan has an accumulated
benefit obligation in excess of fair value of assets of $340 million at December
31, 1998. There is no additional minimum pension liability to be recognized.
F-32
<PAGE>
Embratel health care cost trend rates of increase were projected at annual rates
excluding inflation ranging from 6.48% in 1998 to 2.00% in 2047. The effect of a
one percentage point increase in the assumed health care cost trend rates would
increase the Embratel accumulated post-retirement benefit obligation at December
31, 1998 by $63 million and the aggregate service and interest cost components
by $7 million on an annual basis. The effect of a one percentage point decrease
in the assumed health care cost trend rate would reduce the accumulated
post-retirement benefit obligation by $51 million and reduce the total service
and interest cost component by $6 million.
The following table sets forth information for the MCI pension plans and
Embratel defined benefit pension and post-retirement plans' assets and
obligations (in millions):
<TABLE>
<CAPTION>
EMBRATEL PLANS
-----------------------------
MCI
PENSION PENSION OTHER
PLANS BENEFITS BENEFITS
---------- ---------- ----------
<S> <C> <C> <C>
CHANGE IN BENEFIT OBLIGATION
Benefit obligation at January 1, 1998 $ 563 $ 1,231 $ 265
Service cost 54 47 10
Interest cost 39 67 16
Actuarial (gain) loss 39 (80) 11
Benefits paid (39) (39) (3)
Foreign currency exchange -- (24) (5)
Assumption change (74) (178) --
Curtailment/settlement -- (567) (162)
---------- ---------- ----------
Benefit obligation at December 31, 1998 $ 582 $ 457 $ 132
========== ========== ==========
CHANGE IN PLAN ASSETS
Fair value at January 1, 1998 $ 494 $ 550 $ 29
Actual return on plan assets 63 (14) 7
Employer contributions 63 40 71
Employee contributions -- 30 --
Foreign currency exchange -- (12) --
Benefits paid (39) (39) (3)
Effect of settlement -- (403) (65)
---------- ---------- ----------
Fair value of assets at December 31, 1998 $ 581 $ 152 $ 39
========== ========== ==========
Funded status $ (1) $ (305) $ (93)
Unrecognized net actuarial gain (83) (123) 44
Unrecognized prior service cost 1 -- --
Unrecognized transition liability -- 5 --
---------- ---------- ----------
Accrued benefit cost $ (83) $ (423) $ (49)
========== ========== ==========
WEIGHTED AVERAGE ACTUARIAL ASSUMPTIONS:
Discount rate 6.50% 6.00% 6.00%
Expected return on plan assets 9.00% 9.00% 9.00%
Rate of compensation increase 5.75% 3.25% N/A
</TABLE>
F-33
<PAGE>
The components of the Embratel net post-retirement benefit and pension costs for
the year ended December 31, 1998 (in millions):
<TABLE>
<CAPTION>
PENSION OTHER
BENEFITS BENEFITS
----------- ----------
<S> <C> <C>
Service cost $ 4 $ 2
Interest cost on accumulated postretirement benefit
obligation 17 4
Expected return on plan assets (13) (1)
Amortization of transition obligation 7 --
Amortization of net loss (gain) (1) 1
--------- --------
Net periodic post-retirement benefit cost $ 14 $ 6
========= ========
</TABLE>
Embratel has created a new defined contribution plan (the "New Plan") which has
been approved by the Brazilian government. Effective November 19, 1998, all
newly hired employees of Embratel automatically enter the New Plan and entry
into the existing Embratel pension and post-retirement plans has been frozen.
Current Embratel employees were given the option to migrate from the existing
defined benefit pension and post-retirement benefit plans to the New Plan. The
option expired on December 31, 1998 and is effective on January 1, 1999. The New
Plan will provide an employer match on employee contributions based on certain
limits, transfer of the defined benefit account balance, employee directed
investment, and a lump sum payment from the post-retirement plan, which can be
used to assist with medical coverage in the future. Any employees not electing
to migrate to the New Plan will remain in the existing plans and will not have a
future opportunity to move to the New Plan.
(13) INCOME TAXES -
------------
The provision for income taxes is composed of the following (in millions):
<TABLE>
<CAPTION>
1998 1997 1996
--------- -------- -------
<S> <C> <C> <C>
Current $ 89 $ 48 $ 71
Deferred 787 368 59
--------- -------- -------
Total provision for income taxes $ 876 $ 416 $ 130
========= ======== =======
</TABLE>
The following is a reconciliation of the provision for income taxes to the
expected amounts using the statutory rate:
<TABLE>
<CAPTION>
1998 1997 1996
------- ------- -------
<S> <C> <C> <C>
Expected statutory amount (35.0)% 35.0% (35.0)%
Nondeductible amortization of excess of cost over net
tangible assets acquired 11.3 14.8 1.0
State income taxes (2.6) 2.4 0.4
Charge for in-process research and development 84.5 -- 35.6
Write-down of assets -- -- 4.1
Valuation allowance -- 7.1 (1.0)
Other (2.4) 3.4 1.1
------- ------- -------
Actual tax provision 55.8% 62.7 % 6.2%
======= ======= =======
</TABLE>
F-34
<PAGE>
Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets and liabilities for financial reporting
purposes and amounts used for income tax purposes and the impact of available
net operating loss carryforwards.
At December 31, 1998, the Company had unused net operating loss ("NOL")
carryforwards for federal income tax purposes of approximately $3.5 billion
which expire in various amounts during the years 2002 through 2012. These NOL
carryforwards together with state and other NOL carryforwards result in a
deferred tax asset of approximately $1.32 billion at December 31, 1998. A
valuation allowance of $109 million has been established related to deferred tax
assets due to the uncertainty of realizing the full benefit of the NOL
carryforwards. In evaluating the amount of valuation allowance needed, the
Company considers the acquired companies' prior operating results and future
plans and expectations. The utilization period of the NOL carryforwards and the
turnaround period of other temporary differences are also considered.
Approximately $544 million of the Company's deferred tax assets are related to
preacquisition NOL carryforwards attributable to entities acquired in
transactions accounted for as purchases. Accordingly, any future reductions in
the valuation allowance related to such deferred tax assets will result in a
corresponding reduction in goodwill. If, however, subsequent events or
conditions dictate an increase in the valuation allowance attributable to such
deferred tax assets, income tax expense for the period of the increase will be
increased accordingly.
The following is a summary of the significant components of the Company's
deferred tax assets and liabilities as of December 31, 1998 and 1997 (in
millions):
<TABLE>
<CAPTION>
1998 1997
---------------------------- ----------------------------
ASSETS LIABILITIES ASSETS LIABILITIES
------ ----------- ------ -----------
<S> <C> <C> <C> <C>
Allowance for bad debts $ 89 $ -- $ 12 $ --
Fixed assets -- (2,448) -- (143)
Goodwill and other intangibles -- (92) -- (278)
Software -- (116) -- (64)
Investments 91 -- -- (23)
Line installation costs -- (277) -- (40)
Accrued liabilities 921 -- 267 --
NOL carryforwards 1,321 -- 689 --
Minimum tax credits 102 -- -- --
Research and development credits 40 -- -- --
Stock options -- -- 146 --
Other 68 (27) 11 (36)
---------- ---------- ---------- ----------
2,632 (2,960) 1,125 (584)
Valuation allowance (109) -- (195) --
---------- ---------- ---------- ----------
$ 2,523 $ (2,960) $ 930 $ (584)
========== ========== ========== ==========
</TABLE>
(14) SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION -
------------------------------------------------
Interest paid by the Company during the years ended December 31, 1998, 1997 and
1996 amounted to $496 million, $265 million and $236 million, respectively.
Income taxes paid, net of refunds, during the years ended December 31, 1998,
1997 and 1996 were $38 million, $14 million and $6 million, respectively.
F-35
<PAGE>
In conjunction with business combinations during the years ended December 31,
1998, 1997 and 1996, assets acquired, liabilities assumed and common stock
issued were as follows (in millions):
<TABLE>
<CAPTION>
1998 1997 1996
------------ ------------ ------------
<S> <C> <C> <C>
Fair value of assets acquired $ 21,913 $ 309 $ 3,284
Goodwill and other intangible assets 37,104 998 9,207
Liabilities assumed (22,476) (4) (2,011)
Common stock issued (33,141) (159) (10,592)
------------ ------------ ------------
Net cash paid $ 3,400 $ 1,144 $ (112)
============ ============ ============
</TABLE>
(15) SEGMENT AND GEOGRAPHIC INFORMATION-
----------------------------------
The Company adopted SFAS No. 131, "Disclosure about Segments of an Enterprise
and Related Information," as of December 31, 1998. SFAS No. 131 establishes
annual and interim reporting standards for an enterprise's operating segment and
related disclosures about is products, services, geographic areas and major
customers.
Based on its organizational structure, the Company operates in five reportable
segments: MCI WorldCom Communications, MCI WorldCom International Operations,
Embratel, Operations and technology and Other. The Company's reportable segments
represent business units that primarily offer similar products and services;
however, the business units are managed separately due to the geographic
dispersion of their operations. MCI WorldCom Communications provides voice, data
and other types of domestic communications services including Internet services.
MCI WorldCom International Operations provides voice, data, Internet and other
similar types of communications services to customers primarily in Europe.
Embratel provides communications services in Brazil. Operations and technology
includes network operations, information services, engineering and technology,
and customer service. Other includes primarily the operations of SHL and other
non-communications services.
The Company's chief operating decision maker utilizes revenue information in
assessing performance and making overall operating decisions and resource
allocations. Communications services are generally provided utilizing the
Company's fiber optic networks, which do not make a distinction between the
types of services. As a result, the Company does not allocate line costs or
assets by segment. Profit and loss information is reported only on a
consolidated basis to the chief operating decision maker and the Company's board
of directors.
The accounting policies of the segments are the same as those described in the
summary of significant accounting policies. Information about the Company's
segments is as follows:
F-36
<PAGE>
<TABLE>
<CAPTION>
REVENUES FROM EXTERNAL CUSTOMERS CAPITAL EXPENDITURES
---------------------------------- ----------------------------------
1998 1997 1996 1998 1997 1996
---------- ---------- ---------- ---------- ---------- ----------
<S> <C> <C> <C> <C> <C> <C>
MCI WorldCom Communications $ 14,792 $ 6,246 $ 4,023 $ -- $ -- $ --
MCI WorldCom International
Operations 1,130 726 225 -- -- --
Operations and technology -- -- -- 4,740 2,995 827
Other 574 412 201 28 34 20
Corporate -- -- -- 316 37 28
---------- ---------- ---------- ---------- ---------- ----------
Total before Embratel 16,496 7,384 4,449 5,084 3,066 875
Embratel 1,182 -- -- 334 -- --
---------- ---------- ---------- ---------- ---------- ----------
Total $ 17,678 $ 7,384 $ 4,449 $ 5,418 $ 3,066 $ 875
========== ========== ========== ========== ========== ==========
</TABLE>
The following is a reconciliation of the segment information to income (loss)
before income taxes, minority interests and extraordinary items:
<TABLE>
<CAPTION>
1998 1997 1996
----------------- ------------- ------------
<S> <C> <C> <C>
Revenues $ 17,678 $ 7,384 $ 4,449
Operating expenses 18,653 6,366 6,324
----------------- ------------- ------------
Operating income (loss) (975) 1,018 (1,875)
Other income (expense):
Interest expense (637) (395) (253)
Miscellaneous 41 40 25
----------------- ------------- ------------
Income (loss) before income taxes,
minority interests and extraordinary items $ (1,571) $ 663 $ (2,103)
================= ============= ============
</TABLE>
Information about the Company's operations by geographic areas are as follows
(in millions):
<TABLE>
<CAPTION>
1998 1997 1996
------------------------------ ---------------------------- -------------------------------
LONG-LIVED LONG-LIVED LONG-LIVED
REVENUES ASSETS REVENUES ASSETS REVENUES ASSETS
------------- ------------ ----------- ------------ ---------- ---------------
<S> <C> <C> <C> <C> <C> <C>
United States $ 14,766 $ 17,747 $ 6,534 $ 6,030 $ 4,166 $ 3,893
Brazil 1,182 5,049 -- -- -- --
All other international 1,730 1,511 850 684 283 294
------------- ------------ ----------- ------------ ---------- ---------------
Total $ 17,678 $ 24,307 $ 7,384 $ 6,714 $ 4,449 $ 4,187
============= ============ =========== ============ ========== ===============
</TABLE>
F-37
<PAGE>
(16) UNAUDITED QUARTERLY FINANCIAL DATA -
----------------------------------
<TABLE>
<CAPTION>
QUARTER ENDED
-----------------------------------------------------------------------------------------
MARCH 31, JUNE 30, SEPTEMBER 30, DECEMBER 31,
--------- -------- ------------- ------------
1998 1997 1998 1997 1998 1997 1998 1997
---- ---- ---- ---- ---- ---- ---- ----
(in millions, except per share data)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Revenues $ 2,322 $ 1,678 $ 2,581 $ 1,776 $ 3,758 $ 1,911 $ 9,017 $ 2,019
Operating income (loss) (71) 156 495 219 (2,632) 288 1,233 355
Net income (loss) before
extraordinary items (281) 25 228 44 (2,944) 76 457 102
Net income (loss) (410) 25 228 41 (2,944) 76 457 102
Preferred dividend
requirement 7 7 7 7 3 7 15 7
Earnings (loss) per
common share before
extraordinary items:
Basic $ (0.28) $ 0.02 $ 0.21 $ 0.04 $ (2.44) $ 0.07 $ 0.24 $ 0.10
Diluted (0.28) 0.02 0.21 0.04 (2.44) 0.07 0.23 0.10
</TABLE>
In the first quarter of 1998, the Company recorded a pre-tax charge of $38
million for employee severance, alignment charges, loss contingencies and direct
merger costs associated with the BFP Merger and $31 million for write-down of a
permanently impaired asset. Additionally, in the third quarter of 1998, the
Company recorded a pre-tax charge of $127 million primarily in connection with
the MCI Merger. The third quarter charge included severance costs associated
with the termination of certain employees which was completed in the first
quarter of 1999. Also included are other exit activities which include exit
costs under long-term commitments and certain asset write-downs. In connection
with recent business combinations, the Company made allocations of the purchase
price to acquired in-process research and development totaling $429 million in
the first quarter of 1998 related to the CompuServe Merger and AOL Transaction
and $3.1 billion in the third quarter of 1998 related to the MCI Merger. See
Note 3.
In connection with certain debt refinancings, the Company recognized in the
first quarter of 1998 and the second quarter of 1997, extraordinary items of
approximately $129 million and $3 million, respectively, net of taxes,
consisting of unamortized debt discount, unamortized issuance cost and
prepayment fees.
(17) SUBSEQUENT EVENTS -
-----------------
In February 1999, the Company and EDS announced the signing of a definitive
agreement to sell MCI Systemhouse Corp. and SHL Systemhouse Co., wholly-owned
subsidiaries of the Company, to EDS for approximately $1.65 billion in cash. In
addition, both companies agreed to significant outsourcing contracts which will
capitalize on the individual strengths of each company. The definitive
agreements for the outsourcing contracts will most likely be finalized in the
second quarter of 1999. Both transactions are subject to customary closing
conditions and regulatory approvals.
F-38
<PAGE>
(18) Subsequent Event - SkyTel Merger
On October 1, 1999, MCI WorldCom acquired SkyTel Communications, Inc., a
Delaware corporation ("SkyTel"), pursuant to the merger (the "SkyTel Merger") of
SkyTel with and into Empire Merger, Inc. ("Acquisition Subsidiary"), a wholly
owned subsidiary of MCI WorldCom. Upon consummation of the SkyTel merger,
Acquisition Subsidiary was renamed SkyTel Communications, Inc. SkyTel is a
leading provider of nationwide messaging services in the United States. SkyTel's
principal operations include one-way messaging services in the United States,
advanced messaging services on the narrow band personal communications services
network in the United States and international one-way messaging operations.
As a result of the SkyTel Merger, each share of SkyTel common stock was
converted into the right to receive 0.2566 shares of MCI WorldCom Common Stock.
Holders of SkyTel's $2.25 Cumulative Convertible Exchangeable Preferred Stock
(the "SkyTel Preferred Stock") received one share of MCI WorldCom Series C
$2.25 Cumulative Convertible Exchangeable Preferred Stock (the "MCI WorldCom
Preferred Stock") for each share of SkyTel Preferred Stock held. The MCI
WorldCom Preferred Stock is convertible into MCI WorldCom Common Stock on a
basis that gives effect to the exchange ratio in the SkyTel Merger and otherwise
has the same terms as the SkyTel Preferred Stock.
SkyTel's net loss for the years ended December 31, 1998, 1997 and 1996, has been
restated due to the anticipated utilization of previously reserved NOLs as a
result of the SkyTel Merger. Separate and combined results of operations are as
follows (in millions, except per share data):
<TABLE>
<CAPTION>
For the Year Ended December 31,
-------------------------------
1998 1997 1996
---- ---- ----
<S> <C> <C> <C>
Revenues:
MCI WorldCom $17,678 $ 7,384 $ 4,449
SkyTel 518 408 351
Intercompany elimination (29) (2) (1)
------- ------- -------
Combined 18,167 7,790 4,799
======= ======= =======
Net income (loss) before extraordinary items
and cumulative effect of a change in
accounting principle:
MCI WorldCom $(2,571) $ 221 $(2,234)
SkyTel (31) (75) (133)
------- ------- -------
Combined (2,602) 146 (2,367)
======= ======= =======
Combined earnings (loss) per share before
extraordinary items and cumulative effect of
a change in accounting principle:
Basic $ (2.02) $ 0.15 $ (5.16)
======= ======= =======
Diluted (2.02) 0.15 (5.16)
======= ======= =======
</TABLE>
F-39
<PAGE>
EXHIBIT INDEX
Exhibit No. Description of Exhibit
- ----------- ----------------------
2.1 Agreement and Plan of Merger by and among MCI WorldCom, Empire
Merger Inc. and SkyTel dated as of May 28, 1999 (filed as
Annex A to the Proxy Statement/Prospectus dated August 26,
1999 included in MCI WorldCom's Registration Statement on Form
S-4, Registration No. 333-85919 and incorporated herein by
reference.) *
23.1 Consent of Arthur Andersen LLP
23.2 Consent of KPMG LLP
99.1 Proxy Statement/Prospectus dated August 26, 1999, filed in
connection with MCI WorldCom's Registration Statement on Form
S-4 (No. 333-85919) and incorporated herein by reference.
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* The registrant hereby undertakes to furnish supplementally a copy of any
omitted schedule to this Agreement to the Securities and Exchange Commission
upon request.
<PAGE>
Exhibit 23.1
CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS
As independent public accountants, we hereby consent to the incorporation of our
report included in the Form 8-K dated November 5, 1999, into the Company's
previously filed Registration Statements on Form S-8 (File Nos. 33-52168, 33-
69322, 33-71450, 33-89072, 333-02115, 333-10349, 333-16531, 333-16015, 333-
30279, 333-30281, 333-45079, 33-45095, 333-45083, 333-62609, 333-62613, 333-
36901, 333-85393, 333-85389 and 333-85919) and Form S-3 (File Nos. 33-77964,
333-10455, 333-10459, 333-20911, 333-45067, 33-71510, 333-45127, 333-56895, 333-
60859, and 333-85431).
ARTHUR ANDERSEN LLP
Jackson, Mississippi
November 5, 1999
<PAGE>
Exhibit 23.2
INDEPENDENT AUDITORS' CONSENT
The Board of Directors and Shareholders
MCI WORLDCOM, Inc.
We consent to incorporation by reference in the registration statements on Form
S-8 (File Nos. 33-52168, 33-69322, 33-71450, 33-89072, 333-02115, 333-10349,
333-16531, 333-16015, 333-30279, 333-30281, 333-45079, 333-45095, 333-45083,
333-62609, 333-62613, 333-36901, 333-85393, 333-85389 and 333-85919) and Form
S-3 (File Nos. 33-71510, 33-77964, 333-10455, 333-10459, 333-20911, 333-45067,
333-45127, 333-56895, 333-60859 and 333-85431) of MCI WORLDCOM, Inc. of our
report dated February 18, 1998 relating to the consolidated balance sheets of
Brooks Fiber Properties, Inc. and subsidiaries as of December 31, 1997 and 1996,
and the related consolidated statements of operations, changes in shareholders'
equity and cash flows for each of the fiscal years in the two-year period ended
December 31, 1997, and the related schedule, which report appears in the current
report on Form 8-K dated November 5, 1999, of MCI WORLDCOM, Inc.
KPMG LLP
St. Louis, Missouri
November 5, 1999
