FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
(Mark One)
|X| Quarterly Report Pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934
For the period ended June 30, 1997
or
|_| Transition Report Pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934
For the transition period from to
Commission File Number 1-8609
PACIFIC BELL
A California Corporation
I.R.S. Employer Identification Number 94-0745535
140 New Montgomery Street, San Francisco, California 94105
Telephone Number: (415) 542-9000
THE REGISTRANT, A WHOLLY-OWNED SUBSIDIARY OF SBC COMMUNICATIONS INC., MEETS THE
CONDITIONS SET FORTH IN GENERAL INSTRUCTION H(1)(a) AND (b) OF FORM 10-Q AND IS
THEREFORE FILING THIS FORM WITH REDUCED DISCLOSURE FORMAT PURSUANT TO GENERAL
INSTRUCTION H(2).
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes X No
<PAGE>
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements
<TABLE>
PACIFIC BELL
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CONSOLIDATED STATEMENTS OF INCOME
Dollars in millions
(Unaudited)
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<CAPTION>
Three months ended Six months ended
June 30, June 30,
------------------------------------------
1997 1996 1997 1996
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<S> <C> <C> <C> <C>
Operating Revenues
Local service $ 1,089 $ 996 $ 2,108 $ 1,956
Network access:
Interstate 340 446 799 890
Intrastate 216 185 402 363
Long-distance service 293 317 598 629
Directory advertising 258 274 616 576
Other 158 146 320 277
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Total operating revenues 2,354 2,364 4,843 4,691
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Operating Expenses
Cost of services and products 982 832 1,833 1,711
Selling, general and administrative 1,624 450 2,070 838
Depreciation and amortization 608 453 1,086 908
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Total operating expenses 3,214 1,735 4,989 3,457
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Operating Income (Loss) (860) 629 (146) 1,234
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Other Income (Expense)
Interest expense (121) (94) (219) (182)
Other income (expense)- net (34) (2) (30) 1
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Total other income (expense) (155) (96) (249) (181)
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Income (Loss) Before Income Taxes and
Cumulative Effect of Accounting Changes (1,015) 534 (395) 1,054
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Income Taxes (368) 220 (121) 432
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Income (Loss) Before Cumulative Effect of
Accounting Changes (647) 314 (274) 622
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Cumulative Effect of Accounting Changes, net of tax - - 342 85
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Net Income (Loss) $ (647) $ 314 $ 68 $ 707
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<FN>
See Notes to Consolidated Financial Statements.
</FN>
</TABLE>
<PAGE>
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PACIFIC BELL
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CONSOLIDATED BALANCE SHEETS
Dollars in millions except per share amounts
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June 30, December 31,
-----------------------------
1997 1996
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Assets (Unaudited)
Current Assets
Cash and cash equivalents $ 83 $ 58
Accounts receivable - net of allowances for
uncollectibles of $210 and $161 2,334 2,133
Prepaid expenses 52 37
Deferred income taxes 564 119
Deferred charges 18 45
Other current assets 44 37
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Total current assets 3,095 2,429
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Property, Plant and Equipment - at cost 29,100 28,372
Less: Accumulated depreciation and amortization 17,344 16,699
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Property, Plant and Equipment - Net 11,756 11,673
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Other Assets 616 547
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Total Assets $ 15,467 $ 14,649
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Liabilities and Shareowner's Equity
Current Liabilities
Debt maturing within one year $ 801 $ 287
Accounts payable and accrued liabilities 3,648 2,546
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Total current liabilities 4,449 2,833
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Long-Term Debt 5,348 5,364
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Deferred Credits and Other Noncurrent Liabilities
Deferred income taxes 597 476
Postemployment benefit obligation 814 671
Unamortized investment tax credits 214 236
Other noncurrent liabilities 513 1,142
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Total deferred credits and other noncurrent liabilities 2,138 2,525
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Commitments and contingencies
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Shareowner's Equity
Common stock - ($1 par value) 225 225
Paid in surplus 5,637 6,100
Retained earnings (deficit) (2,330) (2,398)
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Total shareowner's equity 3,532 3,927
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Total Liabilities and Shareowner's Equity $ 15,467 $ 14,649
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See Notes to Consolidated Financial Statements.
<PAGE>
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PACIFIC BELL
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CONSOLIDATED STATEMENTS OF CASH FLOWS
Dollars in millions, increase (decrease) in cash and cash equivalents
(Unaudited)
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Six months ended
June 30,
------------------------
1997 1996
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Operating Activities
Net income $ 68 $ 707
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization 1,086 908
Provision for uncollectible accounts 148 86
Amortization of investment tax credits (22) (23)
Deferred income taxes (275) 94
Cumulative effect of accounting change, net of tax (342) (85)
Other - net 502 (564)
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Total adjustments 1,097 416
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Net Cash Provided by Operating Activities 1,165 1,123
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Investing Activities
Construction and capital expenditures (1,169) (1,057)
Other - (20)
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Net Cash Used in Investing Activities (1,169) (1,077)
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Financing Activities
Net change in short-term borrowings with
original
maturities of three months or less 494 (223)
Issuance of long-term debt - 424
Repayment of long-term debt (2) (3)
Equity received from parent 156 162
Dividends paid (619) (417)
Other - (12)
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Net Cash Provided by (Used in) Financing 29 (69)
Activities
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Net increase in cash and cash equivalents 25 (23)
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Cash and cash equivalents beginning of year 58 68
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Cash and Cash Equivalents End of Period $ 83 $ 45
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Cash paid during the six months ended June 30 for:
Interest $ 205 $ 175
Income taxes $ 50 $ 193
See Notes to Consolidated Financial Statements.
<PAGE>
PACIFIC BELL
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CONSOLIDATED STATEMENT OF SHAREOWNER'S EQUITY
Dollars in millions
(Unaudited)
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Retained
Common Paid-in Earnings
Stock Surplus (Deficit)
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Balance, December 31, 1996 $ 225 $ 6,100 $ (2,398)
Net income - - 68
Dividend to shareowner - (619) -
Net equity from parent - 156 -
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Balance, June 30, 1997 $ 225 $ 5,637 $ (2,330)
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See Notes to Consolidated Financial Statements.
* * * *
SELECTED FINANCIAL AND OPERATING DATA
At June 30, or for the six months then ended: 1997 1996
--------- ---------
Return on weighted average total capital* ..... -1.24% 18.02%
Debt ratio .................................... 63.52% 61.71%
Network access lines in service (000).......... 16,396 15,854
Access minutes of use (000,000) ............... 34,145 31,288
Number of employees ........................... 50,120 46,600
*Calculated using Income Before Cumulative Effect of Accounting Changes
<PAGE>
PACIFIC BELL
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
Dollars in millions
1. BASIS OF PRESENTATION The consolidated financial statements have been
prepared by Pacific Bell (PacBell) pursuant to the rules and regulations of
the Securities and Exchange Commission (SEC) and, in the opinion of
management, include all adjustments (consisting only of normal recurring
accruals) necessary to present fairly the results for the interim periods
shown. Certain information and footnote disclosures, normally included in
financial statements prepared in accordance with generally accepted
accounting principles, have been condensed or omitted pursuant to such SEC
rules and regulations. Certain reclassifications have been made to the 1996
consolidated financial statements to conform with the 1997 presentation. The
results for the interim periods are not necessarily indicative of results for
the full year. The consolidated financial statements contained herein should
be read in conjunction with the consolidated financial statements and notes
thereto included in PacBell's 1996 Annual Report on Form 10-K (the Form 10-K)
filed with the SEC.
2. CONSOLIDATION The consolidated financial statements include the accounts of
PacBell and its majority-owned subsidiaries. PacBell is a wholly-owned
subsidiary of Pacific Telesis Group (PAC), a wholly-owned subsidiary of SBC
Communications Inc. (SBC). All significant intercompany transactions are
eliminated in the consolidation process.
3. COMPLETION OF MERGER On April 1, 1997, SBC and PAC completed the merger of an
SBC subsidiary with PAC, in a transaction in which each outstanding share of
PAC common stock was exchanged for 0.73145 of a share of SBC common stock
(equivalent to approximately 313 million shares). With the merger, PAC became
a wholly-owned subsidiary of SBC. The transaction was accounted for by SBC as
a pooling of interests and a tax-free reorganization.
Conforming Accounting Changes
PacBell's results include merger transaction costs and the effects of changes
to conform accounting methodologies between PacBell and SBC for, among other
items, pensions and postretirement benefits. These changes were recorded by
PacBell in the second quarter of 1997, retroactive to January 1, 1997, as a
cumulative effect of accounting changes of $342 net of deferred taxes of
$238, and increased income before cumulative effect of accounting changes for
the first six months of 1997 by $22. Had these changes been adopted January
1, 1996 they would have increased income before cumulative effect of
accounting changes by $44, net of deferred taxes of $33 for the six months
ended June 30, 1996. The changes in accounting for pension and postretirment
benefits were to adopt SBC's methodology of amortizing gains and losses on
assets held within those benefit plans. Among other costs relating to the
close of the merger, PacBell recorded the present value of amounts to be
returned to California ratepayers as a condition of the merger of $276 ($173
net of tax).
Post-merger initiatives
During the second quarter 1997, PacBell recorded after-tax charges of $943
related to SBC's June 19, 1997 announcement of several strategic decisions
resulting from the merger integration process that began with the April 1
closing of its merger with PAC which included $107 ($65 after tax) of charges
related to recent regulatory rulings and $276 ($173 after tax) for the
present value of amounts to be returned to California ratepayers as a
condition of the merger. The decisions resulted from an extensive review of
operations throughout the merged company and include significant integration
of operations and consolidation of some administrative and support functions.
Following is a discussion of the most significant of these charges.
<PAGE>
PACIFIC BELL
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED - Continued
Dollars in millions
Reorganization SBC will centralize several key functions that will support
the operations of PacBell, Nevada Bell and Southwestern Bell Telephone
Company (SWBell), including network planning, strategic marketing and
procurement. It is also consolidating a number of corporate-wide support
activities, including research and development, information technology,
financial transaction processing and real estate management. PacBell, Nevada
Bell and SWBell will continue as separate legal entities. These initiatives
will result in the creation of some jobs and the elimination and realignment
of others, with many of the affected employees changing job responsibilities
and in some cases assuming positions in other locations.
PacBell recognized a charge of approximately $154 ($97 net of tax) during the
second quarter of 1997 in connection with these initiatives. This charge was
comprised mainly of postemployment benefits, primarily related to severance,
and costs associated with closing down duplicate operations, primarily
contract cancellations. Other charges arising out of the merger related to
relocation, retraining and other effects of consolidating certain operations
will be recognized in future periods as those charges are incurred.
Impairments/asset valuation As a result of SBC's merger integration plans,
strategic review of domestic operations and organizational alignments,
PacBell reviewed the carrying values of related long-lived assets. This
review included estimating remaining useful lives and cash flows and
identifying assets to be abandoned. Where this review indicated impairment,
discounted cash flows related to those assets were analyzed to determine the
amount of the impairment. As a result of these reviews, PacBell wrote off
some assets and recognized impairments to the value of other assets with a
combined charge of $416 ($262 after tax) recorded in the second quarter of
1997. These impairments and writeoffs related to certain analog switching
equipment, selected wireless equipment, duplicate or obsolete equipment,
cable within commercial buildings, certain non-operating plant and other
assets.
Video curtailment/purchase commitments SBC also announced it is scaling back
its limited direct investment in video services. As part of this curtailment,
PacBell has halted construction on the Advanced Communications Network (ACN)
in California. As part of an agreement with the ACN vendor, PacBell will pay
the liabilities of the ACN trust that owns and finances ACN construction,
incur costs to shut down all construction previously conducted under the
trust and receive certain consideration from the vendor. In the second
quarter of 1997, PacBell recognized its total expense of $553 ($346 after
tax) associated with these activities.
4. CUMULATIVE EFFECT OF CHANGE IN DIRECTORY ACCOUNTING Prior to January 1, 1996,
Pacific Bell Directory (a subsidiary of PacBell) recognized revenues and
expenses related to publishing directories in California using the
"amortization" method, under which revenues and expenses were recognized over
the lives of the directories, generally one year. Under the new "issue basis"
method, revenues and expenses are recognized when the directories are issued.
The change to the issue basis method was made because it is the method
generally followed in the publishing industry and better reflects the
operating activity of the business.
The change was adopted during fourth quarter 1996. The cumulative after-tax
effect of applying the change in method to prior years was recognized as of
January 1, 1996 as a one-time, non-cash gain applicable to continuing
operations of $85. The gain is net of deferred taxes of $58. The first three
quarters of 1996 were restated in the Form 10-K to reflect the new method.
<PAGE>
5. COMMITMENTS AND CONTINGENCIES
Purchase Commitments As of June 30, 1997, PacBell had purchase commitments of
about $220 remaining in connection with its previously announced program for
deploying an all digital switching platform with ISDN and SS-7 capabilities.
Property Tax Investigation In 1992, a settlement agreement was reached among
the State Board of Equalization, all California counties, the State Attorney
General, and 28 utilities, including PacBell, on a specific methodology for
valuing utility property for property tax purposes for a period of eight
years. The California Public Utilities Commission (CPUC) opened an
investigation to determine if any resulting property tax savings should be
returned to customers. Intervenors have asserted that as much as $20 of
annual property tax savings should be treated as an exogenous cost reduction
in PacBell's annual price cap filings. These intervenors have also asserted
that past property tax savings totaling as much as approximately $80 as of
June 30, 1997, plus interest, should be returned to customers. Management
believes that, under the CPUC's regulatory framework, any property tax
savings should be treated only as a component of the calculation of shareable
earnings and not as an exogenous cost. In an Interim Opinion issued in June
1995, the CPUC decided to defer a final decision on this matter pending
resolution in a separate proceeding of the criteria for exogenous cost
treatment under its regulatory framework.
<PAGE>
PACIFIC BELL
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Dollars in millions
RESULTS OF OPERATIONS
Overview Financial results for Pacific Bell (PacBell) for the first six months
of 1997 and 1996 are summarized as follows:
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Six-Month Period
---------------------------
Percent
1997 1996 Change
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Operating revenues $ 4,843 $ 4,691 3.2%
Operating expenses $ 4,989 $ 3,457 44.3
Income (loss) before cumulative effect of $ (274) $ 622 -
accounting changes
Cumulative effect of accounting changes $ 342 $ 85 -
Net income $ 68 $ 707 -
===============================================================================
Net income for the six months ended June 30, 1997 includes a cumulative net
benefit of $342 resulting from accounting changes related to conforming
accounting between PacBell and SBC Communications Inc. (SBC) for, among other
items, pensions and postretirement benefits. The first six months of 1996
included a cumulative effect of a change in accounting for directory publishing
revenues and expenses.
PacBell's six-month loss before cumulative effect of accounting changes of $274
includes after-tax charges of $943 reflecting strategic initiatives resulting
from SBC's comprehensive review of operations of the merged company and the
impact of several recent regulatory rulings. Excluding these items, PacBell
reported income before cumulative effect of accounting changes of $669 or 7.6%
higher than the first six months of 1996 income before cumulative effect of
accounting changes of $622. PacBell currently anticipates incurring additional
after-tax charges for ongoing merger integration costs, primarily related to
movement of employees, and customer number portability of $125 to $200 during
the remainder of 1997.
Excluding these second quarter charges, the primary factors contributing to the
increase in income before cumulative effect of accounting changes during the
first six months of 1997 were growth in demand for services and products at
PacBell and first quarter 1997 $87 after-tax settlement gain associated with
lump-sum pension payments that exceeded the projected service and interest costs
for 1996 retirements. These increases were partially offset by increased
expenses including expenses for the introduction of Personal Communications
Services (PCS) operations in California and Nevada.
<PAGE>
PACIFIC BELL
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Dollars in millions
RESULTS OF OPERATIONS - Continued
Revenues PacBell's operating revenues for the first six months of 1997 reflect
reductions of $114 related primarily to the impact of several recent regulatory
rulings. Excluding these items, PacBell's operating revenues increased $266, or
5.7%. Components of operating revenues for the first six months of 1997 and 1996
are as follows:
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Six-Month Period
--------------------------
Percent
1997 1996 Change
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Local service $ 2,108 $ 1,956 7.8%
Network access
Interstate 799 890 -10.2
Intrastate 402 363 10.7
Long-distance service 598 629 -4.9
Directory advertising 616 576 6.9
Other 320 277 15.5
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Total $ 4,843 $ 4,691 3.2%
========================================================================
Local service revenues increased for the first six months of 1997 due
primarily to increases in demand, including increases in access lines and
vertical services revenues. The number of access lines increased by 3.4%
since June 30, 1996, with approximately 43.1% of access line growth due to
the sales of additional access lines to existing residential customers.
Vertical services revenues, which include custom calling options, Caller
ID and other enhanced services, increased by approximately 16.1%. Local
service revenues also reflect the implementation of the California High
Cost Fund (CHCFB) that went into effect February 1, 1997. The California
Public Utilities Commission (CPUC) has stated the CHCFB is intended to
directly subsidize the provision of service to high cost areas and allow
PacBell to set competitive rates for other services. Amounts received from
the CHCFB resulted in a shift of equivalent revenues from intraLATA
long-distance and intrastate network access revenues to local service
revenues in the first six months of 1997. This shift is subject to final
CPUC approval, expected in third quarter 1997. For further information on
the operations of the CHCFB, see the discussion under the heading
"Regulatory Environment-California" on page 10 of SBC's Current Report on
Form 8-K dated May 8, 1997. Rate reductions due to CPUC price cap orders
and revenue sharing accruals partially offset increases in local service
revenues. Wireless revenues also contributed to the increase in local
service revenues due to product introduction of PCS in the first six
months of 1997.
Network Access Interstate network access revenues decreased $134 in the
first six months of 1997 due to one-time charges. These one-time charges
included billing claim settlements related to the Percentage Interstate
Usage (PIU) factor and several Federal regulatory issues including end
user charges, 800 data base charges, recovery of certain employee-related
expenses and the retroactive effect of the productivity factor adjustment
in the Federal price cap filing. While the change in PIU factor, which is
used to allocate network access revenues between interstate and intrastate
jurisdictions, also had the effect of increasing intrastate network access
revenues, it resulted in a slight decline in total network access
revenues. Without these impacts, interstate access revenues increased in
the first six months of 1997 due to demand for access services by
interexchange carriers and growth in revenues from end user charges
attributable to an increasing access line base. Partially offsetting these
increases in interstate network access revenues were the effects of
revenue sharing adjustments made in 1996.
Intrastate network access revenues increased in the first six months of
1997 due primarily to the PIU settlements described above. Excluding this
impact, intrastate network access revenues were relatively unchanged in
the first six months of 1997 as increases in demand, including usage by
alternative intraLATA toll carriers, were offset by the effects of the
CHCFB discussed above.
Long-Distance Service revenues decreased for the first six months of 1997
primarily due to the effects of the CHCFB described under Local Service,
and were primarily offset by increases in demand resulting from
California's growing economy.
Directory advertising revenues increased for the first six months of 1997
due mainly to the publication of books not published in 1996 and, to a
lesser extent, increased demand.
Other operating revenues increased for the first six months of 1997 due
primarily to increased demand for voice messaging services and other
non-regulated services and products.
Expenses PacBell's operating expenses for the first six months of 1997 reflect
$1,335 of charges related to strategic initiatives from a comprehensive review
of operations of the merged company and the impact of several recent regulatory
rulings (see Note 3 to the financial statements). Excluding these charges,
operating expenses increased $198, or 5.7%, over the first six months of 1996.
Components of operating expenses for the first six months of 1997 and 1996 are
as follows:
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Six-Month Period
-------------------------------------
Percent
1997 1996 Change
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Cost of services and products $ 1,833 $ 1,711 7.1%
Selling, general and administrative 2,070 838 147.0
Depreciation and amortization 1,086 908 19.6
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Total $ 4,989 $ 3,457 44.3%
===============================================================================
Costs of services and products for the first six months of 1997 reflect
charges of $33 relating to SBC's strategic initiatives and operational
reviews. Excluding these charges, cost of services and products increased
$89, or 5.2%, in the first six months of 1997 due primarily to increases
in employee compensation including increases related to force additions,
increases in contract labor and the introduction of PCS operations. These
increases were somewhat offset by a first quarter 1997 $105 settlement
gain associated with lump-sum pension payments that exceeded the projected
service and interest costs for 1996 retirements.
Selling, general and administrative expenses for the first six months of
1997 reflect $1,144 of charges relating to SBC's strategic initiatives and
operational reviews. As discussed in Note 3 to the financial statements,
the most significant of these charges included shut down of the Advanced
Communications Network, regulatory costs related to the approval of the
merger with SBC by California regulators, and reorganization initiatives.
Excluding these one-time charges, selling, general and administrative
costs increased $88, or 10.5%, in the first six months of 1997 due to
increases for expenses associated with the introduction of PCS operations,
employee compensation, contract labor and advertising. These increases
were partially offset by first quarter $41 settlement gain associated with
lump-sum pension payments that exceeded the projected service and interest
costs for 1996 retirements.
Depreciation and amortization for the first six months of 1997 reflects
charges totaling $158 to record impairment of plant and intangibles. As
discussed in Note 3 to the financial statements, the most significant of
these impairments related to certain analog switching equipment and cable
within commercial buildings. Excluding these charges, depreciation and
amortization increased $20, or 2.2% in the first six months of 1997. The
increases were primarily due to overall higher plant levels partially
offset by reduced depreciation during the second quarter on analog
switching equipment in California.
Interest Expense increased $37 or 20.3% for the first six months of 1997 due to
interest of $27 associated with one-time charges, increased long term debt
compared to the first six months of 1996 and increased interest on capital
leases. These increases were somewhat offset by increased capitalized interest
related to PCS construction.
Other Income (Expense) - net was net expense of $30 for the first six months of
1997. The increased expenses include $30 in expenses related to SBC's strategic
initiatives, primarily writeoffs of nonoperating plant. Income taxes for the
first six months of 1997 reflect the tax effect of charges for strategic
initiatives resulting from SBC's comprehensive review of operations of the
merged company and the impact of several recent regulatory rulings.
Cumulative Effect of Accounting Changes, as discussed in Note 3 to the financial
statements, include the effect of changes applied retroactively to conform
accounting methodologies between PAC and SBC effective January 1, 1997. The
cumulative after-tax effect of these one-time changes is $342.
<PAGE>
PACIFIC BELL
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Dollars in millions
OPERATING ENVIRONMENT AND TRENDS OF THE BUSINESS
COMPETITIVE AND REGULATORY ENVIRONMENT
Access Reform/Price Caps On June 3, 1997, SBC filed with the Federal
Communications Commission (FCC) a Petition for Partial Stay (Petition) of
aspects of the orders adopted on May 7, 1997 by the FCC on access reform and
local exchange carrier price caps. The Petition asked the FCC to stay the
application of the 6.5% productivity offset to all price cap Local Exchange
Carriers (LECs), its retroactive application to the 1996 annual tariff filings,
and exogenous reductions associated with the completion of equal access
amortization. The FCC denied the stay on June 18, 1997. The impact of the
retroactive portion of the FCC orders was recorded in the second quarter of
1997.
On June 16, 1997, SBC and several other parties filed court appeals regarding
several aspects of the Access Reform and Price Cap Orders. The appeal related to
access reform has been assigned to the U.S. Court of Appeals for the Eighth
Circuit in St. Louis (8th Circuit). The appeal related to price caps and the
productivity offset decision had been assigned to the U.S. Court of Appeals for
the 10th Circuit in Denver, but on July 28, 1997 it was transferred to the U.S.
Court of Appeals for the D.C. Circuit.
Interconnection Agreements PacBell continues to enter into interconnection
agreements with companies desiring to provide local service in its operating
territory. Agreements have been reached and approved by the CPUC.
On July 18, 1997, the 8th Circuit set aside key parts of the FCC interconnection
order that attempted to set prices for local exchange services, holding that the
right to set such prices is reserved exclusively to the states. PacBell is in
agreement with the 8th Circuit's ruling on the order and believes the intent of
the Telecommunications Act of 1996 (Telecom Act) retained state regulators'
jurisdiction over pricing of intrastate service and local interconnection. The
FCC has indicated it will appeal the 8th Circuit's decision to the Supreme
Court.
Other Billing and Collecting Allocation Methodology Changes On June 13, 1997,
PacBell filed a waiver request with the FCC that if approved, would allow it to
reverse an other billing and collection adjustment resulting from a recently
adopted FCC separations ruling that shifts recovery of substantial other billing
and collecting costs from the intrastate to the interstate jurisdiction. The FCC
has released this waiver request for Public Notice but no comments were filed.
If PacBell's request for a waiver is denied, the separations change could reduce
PacBell's revenues by about $30 in 1997 and about $45 in each subsequent year.
Portions of Telecom Act Challenged On July 2, 1997, SBC sued in U.S. District
Court for the Northern District of Texas to declare a portion of the Telecom Act
unconstitutional on the grounds the Telecom Act improperly discriminates against
SBC by imposing restrictions that prohibit SBC from offering interLATA
long-distance and other services that other local exchange companies are free to
provide. The suit challenges only that portion of the Telecom Act which excludes
SBC from competing in certain lines of business.
<PAGE>
OTHER BUSINESS MATTERS
Restructuring Reserve PacBell established a restructuring reserve at the end of
1993 to provide for the incremental cost of force reductions associated with
restructuring business processes through 1997. A total of $43 in cash outlays
was charged to the reserve in the first six months of 1997. As of June 30, 1997,
$51 remained in the restructuring reserve.
Local Number Portability/Interconnection Over the next few years, PacBell is
expecting to incur significant capital and software expenditures for customer
number portability and interconnection. PacBell expects capital costs and
expenses associated with customer number portability, which allows customers to
switch to local competitors and keep the same phone number, to total up to $750
on a pre-tax basis over the next four years. Full recovery of customer number
portability costs is required under the Telecom Act; however, the FCC has not
yet determined when or how those significant costs will be recovered. The FCC
has suspended the tariff filed by PacBell for recovery of these costs until
September 1997, pending the issuance of its order on customer number
portability. PacBell is unable to predict the likelihood of the FCC permitting
the tariff to become effective. Capital costs and expenses associated with
interconnection will vary based on the number of competitors seeking
interconnection and customers served and markets entered by those competitors.
Accordingly, PacBell is currently unable to reasonably estimate these costs.
<PAGE>
PACIFIC BELL
PART II - OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
Exhibit 12 Computation of Ratios of Earnings to Fixed Charges.
Exhibit 18 Preferability Letter on Change in Accounting
Exhibit 27 Financial Data Schedule.
(b) Reports on Form 8-K
On April 4, 1997, Pacific Bell (PacBell) filed a Current Report on Form
8-K, reporting on Item 4 Change in Registrant's Certifying Accountant. In
the Report, PacBell indicated that Ernst & Young LLP would replace Coopers
& Lybrand L.L.P. as the certifying accountants.
<PAGE>
================================================================================
================================================================================
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Pacific Bell
August 13, 1997 /s/ Michael F. G. Ashby
-----------------------
Michael F. G. Ashby
Vice President and Chief
Financial Officer
<PAGE>
<TABLE>
====================================================================================================================
====================================================================================================================
EXHIBIT 12
PACIFIC BELL
COMPUTATION OF RATIOS OF EARNINGS TO FIXED CHARGES
Dollars in Millions
<CAPTION>
SIX MONTHS ENDED
JUNE 30, YEAR ENDED DECEMBER 31,
------------------ ---------------------------------------------------
1997 1996 1996 1995 1994 1993 1992
--------- --------- ---------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C>
Income (Loss) From Continuing Operations Before
Income Taxes and Cumulative Effect of
Accounting Changes $ (395) $ 1,054 $ 1,945 $ 1,538 $ 1,692 $ (39) $ 1,738
Add: Interest Expense 219 182 363 410 439 429 460
1/3 Rental Expense 30 23 46 28 40 37 35
--------- --------- -------- --------- -------- -------- ---------
Adjusted Earnings $ (146) $ 1,259 $ 2,354 $ 1,976 $ 2,171 $ 427 $ 2,233
========= ========= ======== ========= ======== ======== =========
Total Interest Charges $ 252 $ 201 $ 411 $ 410 $ 439 $ 429 $ 460
1/3 Rental Expense 30 23 46 28 40 37 35
--------- --------- -------- --------- -------- -------- ---------
Adjusted Fixed Charges $ 282 $ 224 $ 457 $ 438 $ 479 $ 466 $ 495
========= ========= ========= ========= ======== ======== =========
Ratio of Earnings to Fixed Charges (0.52) 5.62 5.15 4.51 4.53 0.92 4.51
</TABLE>
Exhibit 18
August 8, 1997
Mr. Donald Kiernan
Senior Vice President, Treasurer and
Chief Financial Officer
SBC Communications, Inc.
175 W. Houston Street
San Antonio, Texas 78205
Dear Mr. Kiernan:
Note 3 of Notes to Consolidated Financial Statements of Pacific Bell (PacBell)
included in its Form 10-Q for the six months ended June 30, 1997 describes
changes in the methods of accounting for pensions and postretirement benefits.
You have advised us that you believe that the changes are to conform the
accounting of SBC Communications Inc. (SBC) and PacBell and that the new methods
are preferable because the new methods for pensions and postretirement benefits
are more widely used. These changes were made by SBC in its consolidated
financial statements reflecting the business combination with Pacific Telesis
Group accounted for as a pooling of interests, as reported in SBC's Form 8-K
dated May 8, 1997.
We conclude that the changes in the methods for accounting for the items
described above are to acceptable alternative methods which, based on your
business judgment to make these changes for the reasons cited above, are
preferable in your circumstances. We have not conducted an audit in accordance
with generally accepted auditing standards of any financial statements of
PacBell as of any date or for any period and therefore we do not express any
opinion on any financial statements of Pacific Bell.
ERNST & YOUNG LLP
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM PACIFIC
BELL'S QUARTERLY REPORT ON FORM 10-Q AND IS QUALIFIED IN ITS ENTIRETY BY
REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<S> <C>
<FISCAL-YEAR-END> DEC-31-1997
<PERIOD-START> JAN-01-1997
<PERIOD-TYPE> 6-MOS
<PERIOD-END> JUN-30-1997
<CASH> 83,000
<SECURITIES> 0
<RECEIVABLES> 2,544,000
<ALLOWANCES> 210,000
<INVENTORY> 0 <F1>
<CURRENT-ASSETS> 3,095,000
<PP&E> 29,100,000
<DEPRECIATION> 17,344,000
<TOTAL-ASSETS> 15,467,000
<CURRENT-LIABILITIES> 4,449,000
<BONDS> 5,348,000
<COMMON> 225,000
0
0
<OTHER-SE> 3,307,000
<TOTAL-LIABILITY-AND-EQUITY> 15,467,000
<SALES> 0 <F2>
<TOTAL-REVENUES> 4,843,000
<CGS> 0
<TOTAL-COSTS> 1,833,000
<OTHER-EXPENSES> 1,086,000
<LOSS-PROVISION> 148,000
<INTEREST-EXPENSE> 219,000
<INCOME-PRETAX> (395,000)
<INCOME-TAX> (121,000)
<INCOME-CONTINUING> (274,000)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 342,000
<NET-INCOME> 68,000
<EPS-PRIMARY> 0
<EPS-DILUTED> 0
<FN>
<F1> THIS AMOUNT IS IMMATERIAL.
<F2> NET SALES OF TANGIBLE PRODUCTS IS NOT MORE THAN 10% OF TOTAL OPERATING
REVENUES AND THEREFORE HAS NOT BEEN STATED SEPARATELY IN THE FINANCIAL
STATEMENTS PURSUANT TO REGULATION S-X, RULE 5-03(B).
THIS AMOUNT IS INCLUDED IN THE "TOTAL REVENUES' TAG.
<F3> COST OF TANGIBLE GOODS SOLD IS INCLUDED IN COST OF SERVICES AND PRODUCTS IN
THE FINANCIAL STATEMENTS AND THE "TOTAL COST" TAG, PURSUANT TO REGULATION 2-X,
RULE 5-03(B).
</FN>
</TABLE>
