<PAGE>
FORM 10-K/A No. 2
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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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(Mark one)
/x/ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the fiscal year ended: September 30, 1994
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/ / TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
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Commission file number: 0-15056
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COMMNET CELLULAR INC.
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(Exact name of registrant as specified in its charter)
Colorado 84-0924904
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(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
5990 Greenwood Plaza Boulevard, Suite 300, Englewood, Colorado 80111
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(Address of principal executive offices)
(Zip Code)
303/694-3234
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(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, par value $.001 per share
(Title of Class)
6-3/4% Convertible Subordinated Debentures Due 2009
(Title of Class)
Preferred Stock Purchase Rights
(Title of Class)
Indicate by check mark whether the registrant (a) 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
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Indicate by check mark if disclosure of delinquent filers pursuant to
Item 405 of Regulation S-K is not contained herein, and will not be contained,
to the best of registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [ ]
The aggregate market value of the voting stock held by nonaffiliates of
the registrant, computed by reference to the last sale price of such stock as of
the close of trading on December 14, 1994 was $231,876,164.
The number of shares of the registrant's common stock outstanding as of
December 14, 1994 was 11,725,655.
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PART I
Item 1. Business.
(a) GENERAL DEVELOPMENT OF BUSINESS.
CommNet Cellular Inc. was organized under the laws of Colorado in 1983.
Cellular, Inc. Financial Corporation ("CIFC") subsequently was organized to
provide financing to affiliates of the Company. Cellular Inc. Network
Corporation ("CINC") also subsequently was organized to acquire interests in
cellular licenses. CIFC and CINC are wholly-owned subsidiaries of CommNet
Cellular Inc. Unless the context indicates otherwise, the "Company" refers to
CommNet Cellular Inc. and its consolidated subsidiaries.
The Company operates, manages and finances cellular telephone systems,
primarily in the mountain and plains regions of the United States. The
Company's cellular interests currently represent approximately 3,161,000 net
Company pops in 94 markets located in 16 states. These markets consist of 84
RSA markets having a total of 6,331,000 pops and 10 MSA markets having a total
of 1,273,000 pops, of which the Company's interests represent 2,551,000 net
Company pops and 610,000 net Company pops, respectively. Systems in which the
Company holds an interest constitute the largest geographic collection of
contiguous cellular markets in the United States.
As used herein, "pops" means the estimated total 1993 population of a
Metropolitan Statistical Area ("MSA") or Rural Service Area ("RSA") as initially
licensed by the Federal Communications Commission ("FCC"), based upon Strategic
Marketing, Inc. 1993 population estimates. "Net Company pops" means an MSA's or
RSA's pops multiplied by the Company's net ownership interest in the entity
licensed by the FCC to operate a cellular telephone system in that MSA or RSA.
An MSA or RSA is referred to herein as a "market." As the five-year fill-in
period for each market expires, the manner of calculating the number of pops
will change to reflect the CGSA of each market instead of the geographic
boundaries originally established by the FCC. See "Federal Regulation--Cellular
Service Area." The radio signal from the Company's managed systems currently
covers approximately 85% of the total pops within the managed markets and the
Company intends to increase signal coverage to over 90% prior to expiration of
the five-year fill-in periods. The number of pops should not be confused with
the current number of users of cellular services and is not necessarily
indicative of the number of users of cellular services in the future. Those
corporations and partnerships through which the Company holds ownership
interests in cellular licensees and those cellular licensees in which the
Company holds a direct ownership interest are referred to herein as
"affiliates." Any reference herein to an "affiliate" does not necessarily imply
that the Company exercises, or has the power to exercise, control over the
management and policies of such entity.
The Company has concentrated its efforts on creating an integrated
network of contiguous cellular systems comprised of markets which are managed by
the Company (the "network"). Within the network, the Company provides
substantially all of the services typically offered by landline telephone
systems, including custom calling features such as call forwarding, call
waiting, three-way conference calling and, in most cases, voice mail services.
The network currently consists of 55 markets spanning eight states, comprised of
48 RSA markets and 7 MSA markets. The Company's interests in these managed
markets represent 2,706,000 net Company pops, constituting approximately 86% of
total net Company pops. As of September 30, 1994, the RSA and MSA markets
managed by the Company had 68,291 and 30,711 subscribers, respectively, or a
total of 99,002.
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The Company believes that certain demographic characteristics of the
rural marketplace should further facilitate commercial exploitation of the
network. As compared to urban residents, rural residents travel greater
distances by personal vehicle and have access to fewer public telephones along
drive routes. The Company believes that these factors will sustain demand for
mobile telecommunication service in the rural marketplace. These same factors
produce "roaming" revenues that are higher as a percentage of total revenues
than would likely be the case in more densely populated urban areas. Roaming
revenues tend to produce higher margins because roaming calls on average are
priced at higher rates than local calls and because there are no associated
sales commission costs.
(b) FINANCIAL INFORMATION ABOUT INDUSTRY SEGMENTS.
The Company has only one principal industry being the management,
financing and operation of cellular telephone systems. Information concerning
revenue, operating profit or loss and identifiable assets of the Company's sole
industry segment are set forth in the consolidated financial statements and
related notes included in Part II of this Report.
(c) NARRATIVE DESCRIPTION OF BUSINESS.
THE COMPANY'S OPERATIONS
GENERAL. Information regarding the Company's interests in each
affiliate, the interest of each affiliate in a cellular licensee and the market
subject to such license as of December 9, 1994, is summarized in the following
table. The table does not reflect transactions that are pending or under
negotiation. See "Management's Discussion and Analysis of Financial Condition
and Results of Operations -- Acquisitions and Sales."
<TABLE>
<CAPTION>
Company Affiliate(s) Net
MSA or Interest in Interest in 1993 Company
RSA Code (1) State Affiliate(s) (2) Licensee (3) Population (4)(9) Pops (5)
- ------------ ----- ---------------- ------------ ----------------- --------
<S> <C> <C> <C> <C> <C>
MSAs:
141 Minnesota 49.00% 16.34% LP 229,336 18,362
185 Indiana 100.00% 16.67% LP 169,124 28,193
241*(6)(7) Colorado 73.99% 100.00% GP 124,638 92,220
253*(6)(7) Iowa 74.50% 100.00% GP 117,652 87,651
267*(6)(7) South Dakota 100.00% 51.00% GP 131,561 67,096
268* Montana 49.00% 90.00% GP 119,363 52,639
279 Maine 33.33% 33.33% GP 103,417 11,488
289*(6)(7) South Dakota 100.00% 100.00% GP 111,371 111,371
297*(6)(7) Montana 100.00% 100.00% GP 80,098 80,098
298*(6)(7) North Dakota 100.00% 70.00% GP 86,977 60,884
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Total MSA 1,273,537 610,002
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<CAPTION>
Company Affiliate(s) Net
MSA or Interest in Interest in 1993 Company
RSA Code (1) State Affiliate(s) (2) Licensee (3) Population (4)(9) Pops (5)
- ------------ ----- ---------------- ------------ ----------------- --------
<S> <C> <C> <C> <C> <C>
RSAs:
348*(7) Colorado 10.00% 100.00% GP 43,672 4,367
349*(6)(7) Colorado 58.60% 100.00% GP 61,659 36,132
351*(6)(7) Colorado 61.75% 100.00% GP 62,916 38,851
352*(6)(7) Colorado 66.00% 100.00% GP 25,783 17,017
353*(6)(7) Colorado 100.00% 75.00% GP 65,251 48,938
354*(7) Colorado 61.75% 80.00% GP 44,328 21,898
355*(7) Colorado 49.00% 100.00% GP 44,194 21,655
356*(7) Colorado 49.00% 100.00% GP 27,259 13,357
389 Idaho 49.00% 50.00% LP 64,671 15,844
390 Idaho 49.00% 33.33% LP 15,485 2,529
392*(6)(7) Idaho (B1) 100.00% 100.00% LP 134,315 134,315
393*(6)(7) Idaho 91.64% 100.00% GP 280,569 257,113
415 Iowa 49.00% 20.64% LP 155,247 15,701
416 Iowa 49.00% 78.57% LP 108,129 41,629
417*(6)(7) Iowa 100.00% 100.00% GP 152,597 152,597
419* Iowa 49.00% 91.67% GP 54,659 24,552
420*(6)(7) Iowa 100.00% 100.00% GP 63,458 63,458
424 Iowa 49.00% 30.00% LP 66,743 9,811
425* Iowa 49.00% 27.11% LP 108,426 14,403
426*(7) Iowa 52.65% 93.33% GP 84,932 41,734
427*(7) Iowa 53.64% 91.66% GP 102,773 50,530
428 Kansas 100.00% 3.07% LP 28,103 863
429 Kansas 100.00% 3.07% LP 31,121 955
430 Kansas 100.00% 3.07% LP 52,640 1,616
431 Kansas 100.00% 3.07% LP 129,852 3,986
432 Kansas 100.00% 3.07% LP 118,599 3,641
433 Kansas 100.00% 3.07% LP 20,138 618
434 Kansas 100.00% 3.07% LP 81,515 2,503
435 Kansas 100.00% 3.07% LP 126,535 3,885
436 Kansas 100.00% 3.07% LP 57,937 1,779
437 Kansas 100.00% 3.07% LP 104,942 3,222
438 Kansas 100.00% 3.07% LP 81,130 2,491
439 Kansas 100.00% 3.07% LP 42,198 1,295
440 Kansas 100.00% 3.07% LP 29,155 895
441 Kansas 100.00% 3.07% LP 171,226 5,257
442 Kansas 100.00% 3.07% LP 154,341 4,738
512 Missouri (B1) 49.00% 30.00% LP 76,061 11,181
523*(7) Montana (B1) 49.00% 100.00% GP 66,841 32,752
523*(6)(7) Montana (B2) 100.00% 98.76% GP 70,350 69,478
524*(6)(7) Montana 61.75% 100.00% GP 37,386 23,086
525*(6)(7) Montana 59.20% 100.00% GP 14,877 8,807
526*(6)(7) Montana 59.20% 100.00% GP 39,843 23,587
527*(6)(7) Montana 61.75% 100.00% GP 174,631 107,835
528*(6)(7) Montana 61.75% 100.00% GP 63,009 38,908
529*(6)(7) Montana 61.75% 100.00% GP 28,742 17,748
530*(6)(7) Montana 61.75% 100.00% GP 83,488 51,554
531*(6)(7) Montana 61.75% 100.00% GP 30,990 19,136
532*(6)(7) Montana 61.75% 100.00% GP 19,431 11,999
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<CAPTION>
Company Affiliate(s) Net
MSA or Interest in Interest in 1993 Company
RSA Code (1) State Affiliate(s) (2) Licensee (3) Population (4)(9) Pops (5)
- ------------ ----- ---------------- ------------ ----------------- --------
<S> <C> <C> <C> <C> <C>
533 Nebraska 57.24% 25.52% LP 90,016 13,149
534 Nebraska 57.24% 25.52% LP 31,353 4,580
535 Nebraska 57.24% 25.52% LP 115,108 16,815
536 Nebraska 57.24% 25.52% LP 35,803 5,230
537 Nebraska 57.24% 25.52% LP 142,155 20,766
538 Nebraska 57.24% 25.52% LP 105,599 15,426
539 Nebraska 57.24% 25.52% LP 89,125 13,019
540 Nebraska 57.24% 25.52% LP 58,058 8,481
541 Nebraska 57.24% 25.52% LP 81,697 11,934
542 Nebraska 57.24% 25.52% LP 85,250 12,453
553 New Mexico 49.00% 33.33% LP 245,584 40,108
555 New Mexico 49.00% 25.00% LP 76,635 9,388
557 New Mexico 49.00% 33.33% LP 55,076 8,995
580*(6)(7) North Dakota 52.14% 100.00% GP 102,513 53,450
581*(7) North Dakota 49.00% 100.00% GP 60,131 29,464
582 North Dakota 49.00% 84.59% LP 91,629 37,979
583* North Dakota 46.96% 100.00% GP 65,783 30,892
584*(6)(7) North Dakota 61.75% 100.00% GP 49,671 30,672
611 Oregon 100.00% 25.00% LP(8) 177,438 44,360
634*(6)(7) South Dakota 61.75% 100.00% GP 35,624 21,998
635*(6)(7) South Dakota 56.29% 100.00% GP 22,563 12,701
636*(6)(7) South Dakota 57.50% 100.00% GP 53,724 30,891
638*(6)(7) South Dakota(B1) 82.99% 100.00% GP 16,443 13,646
638*(6)(7) South Dakota(B2) 82.99% 100.00% GP 8,220 6,822
639*(6)(7) South Dakota(B1) 60.66% 100.00% GP 33,390 20,254
639*(6)(7) South Dakota(B2) 60.66% 100.00% GP 5,568 3,378
640*(6)(7) South Dakota 64.49% 100.00% GP 65,549 42,273
641*(6)(7) South Dakota 61.13% 100.00% GP 71,921 43,965
642*(7) South Dakota 49.00% 100.00% GP 91,706 44,936
675*(6)(7) Utah 100.00% 100.00% GP 51,727 51,727
676*(6)(7) Utah 100.00% 100.00% GP 86,612 86,612
677*(6)(7) Utah (B3) 74.50% 100.00% GP 37,966 28,285
678*(6)(7) Utah 100.00% 80.00% GP 23,840 19,072
718*(6)(7) Wyoming 66.00% 100.00% GP 46,896 30,951
719*(6)(7) Wyoming 83.00% 100.00% GP 72,795 60,420
720*(6)(7) Wyoming 100.00% 100.00% GP 145,382 145,382
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Total RSA 6,330,697 2,550,720
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Total MSA and RSA 7,604,234 3,160,722
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<FN>
(1) MSA ranking is based on population as established by the FCC. RSAs have
been numbered by the FCC alphabetically by state.
(2) Represents the composite ownership interest held by the Company in the
respective affiliate(s). Composite ownership by the Company in
affiliate(s) of greater than 50% does not necessarily represent a
controlling interest in any affiliate.
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(3) Represents the composite ownership interest of the Company's affiliate(s)
in the licensee for a cellular telephone system in the respective market.
Composite ownership by affiliate(s) in a licensee of greater than 50% does
not necessarily represent a controlling interest in such licensee. GP
indicates that at least one affiliate has a general partner or controlling
interest in the licensee; LP indicates that the affiliate(s) has a limited
partner or minority interest.
(4) Derived from the Strategic Marketing, Inc. 1993 population estimates.
(5) Net Company Pops represents Company Interest in Affiliate(s) multiplied by
Affiliate(s) Interest in Licensee multiplied by 1993 Population.
(6) The operations of these markets are reflected on a consolidated basis in
the Company's consolidated financial statements for the fiscal year ended
September 30, 1994. The operations of the other markets in which the
Company holds an interest are reflected in such financial statements on
either an equity or a cost basis.
(7) The Company's interest in these markets is held, in whole or in part,
directly in the licensee.
(8) The ownership percentages for this market are the subject of litigation.
(9) Represents population within the market area initially licensed by the FCC.
Upon expiration of the five-year fill-in period, market boundaries and
actual service areas may not be coincident.
Markets managed by the Company are denoted by an asterisk (*).
</TABLE>
NETWORK CONSTRUCTION AND OPERATIONS. Construction of cellular
telephone systems requires substantial capital investment in land and
improvements, buildings, towers, mobile telephone switching offices ("MTSOs"),
cell site equipment, microwave equipment, engineering and installation. The
Company believes that it has achieved significant economies of scale in
constructing the network. For example, the network uses cellular switching
systems capable of serving multiple markets. As a result of the contiguous
nature of the network, only 14 MTSOs are currently required to serve all 55 of
the Company's managed markets. By consolidating and deploying high capacity
MTSOs, the Company intends to achieve further economies of scale. Economies of
scale generated by the network also have permitted the Company to use one
network operations center, to centralize services such as network design and
engineering, traffic analysis, interconnection, billing, roamer verification,
maintenance and support and to access volume discount purchasing of cellular
system equipment.
The network also affords the Company certain technical advantages in
the provision of enhanced services, such as call delivery and call forwarding.
Through the use of single switching facilities serving multiple markets, the
Company has implemented continuous coverage on an intrastate basis throughout
most of the network. The Company has widened the area of coverage within the
network by interconnecting MTSOs located in adjoining markets. The Company's
current objective is to provide subscribers with "seamless" coverage throughout
the network, which will permit subscribers, as they travel through the network,
to receive calls and otherwise use their cellular telephone as if they were in
their home market. This will occur once all of the MTSOs managed by the Company
and in adjoining markets within the eight-state area are networked. The Company
has achieved a high degree of network reliability through the deployment of
standardized components, and operating procedures, and the introduction of
redundancy in switching and cell site equipment, interconnect facilities and
power supply. Most of the Company's equipment is built by Northern Telecom,
Inc. ("NTI"), and interconnection between MTSOs has been achieved using NTI's
internal software and hardware.
The Company began implementing the "IS-41" technical interface during
fiscal 1994. This technical interface, developed by the cellular industry,
allows carriers that have different types of equipment to integrate their
systems with the eventual goals of establishing a national seamless network,
substantially reducing the cost of validating calls and reducing fraud exposure.
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The Company also has entered into and is negotiating agreements with
other cellular carriers to enhance the range of markets and quality of service
available to cellular subscribers when traveling outside the network. Pursuant
to existing agreements with other cellular carriers, the Company's subscribers
are able to "roam" throughout most MSA and RSA markets in the United States and
Canada. "Roaming" is an industry term for calls made by cellular customers when
traveling in another carrier's cellular system.
EXPANSION. The Company is in the process of "filling in" the "cellular
geographic service area" or "CGSA" (as defined by the FCC) within its managed
markets by adding network facilities to increase the coverage of the radio
signal. The Company estimates that over the past 21 months radio signal
coverage of the total population within its managed markets has increased from
approximately 60% to approximately 85%, and the Company intends to construct
approximately 40 cell sites by the end of the third fiscal quarter of 1995 to
complete the fill in project. Further expansion of signal coverage by the
construction of 60 additional cell sites is expected to add additional
subscribers, enhance use of the systems by existing subscribers, increase roamer
traffic due to the larger geographic area covered by the radio signal and
further improve the overall efficiency of the network. Under the rules and
regulations of the FCC, expansion of signal coverage will also preserve the
Company's right to provide cellular service in potentially valuable areas within
the network which are not currently covered by the Company's radio signal.
The Company also continues to evaluate acquisitions of cellular
properties in markets that will further enhance the network. In evaluating
acquisition targets, the Company considers, among other things, demographic
factors, including population size and density, traffic patterns, cell site
coverage and required capital expenditures, including the ability of the target
market to utilize existing switching capacity. In pursuing such acquisitions,
the Company may exchange interests in nonmanaged markets for interests in
existing or new markets that serve to expand the network. Certain acquisitions
and related dispositions may be subject to rights of first refusal held by the
partners in the respective partnerships in which the Company holds an interest.
Recent and pending acquisitions are described in "Management's Discussion and
Analysis of Financial Condition and Results of Operations -- Acquisitions and
Sales."
In an effort to provide comprehensive availability of mobile
communications services to its subscribers, regardless of location throughout
North America, the Company has entered into a distribution agreement with
American Mobile Satellite Corporation ("AMSC"). AMSC holds an FCC construction
permit to build and operate a mobile satellite service which will complement the
existing terrestrial cellular system by providing mobile voice, fax and data
communications in all areas not covered by cellular service. Subscribers will
access AMSC's satellite through a cellular/satellite mobile phone which will
route calls through the cellular network in those areas covered by cellular
service and will process the call via satellite in the absence of cellular
coverage. AMSC anticipates its service will be available some time after a
March 1995 launch date.
SERVICES AND PRODUCTS. Mobile subscribers in the Company's managed
markets have available to them substantially all of the services typically
provided by landline telephone systems, including custom-calling features such
as call forwarding, call waiting, three-way conference calling and, in most
cases, voice mail services. Several price plans are presented to prospective
customers so that they may choose the plan that will best fit their expected
calling needs. The plans provide specific charges for custom-calling features
and voice mail to offer value to the customer while enhancing airtime use and
revenues for the Company. The Company also sells cellular equipment at
discounted prices as a way to encourage use of its mobile services. The Company
provides warranty and repair services after the sale through regional equipment
service centers, which provide state-of-the-art test equipment and certified
repair technicians. An ongoing review of equipment and service pricing is
maintained to ensure the Company's competitiveness. Through a centralized
procurement and equipment distribution strategy, the Company obtains the
benefits of
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favorable equipment costs through bulk purchases. As appropriate, revisions to
pricing of service plans and equipment pricing are made to meet local
marketplace demands.
The network affords the Company the opportunity to offer service over
expanded geographic territories at favorable rates. Customers that subscribe to
a stand-alone cellular system generally are charged premium roaming rates when
using a cellular system outside of their home service area. The Company's
subscribers are able to roam within the network and are afforded "home rate
follows" pricing, whereby subscribers are charged the rate applicable in their
home service area when traveling within the network. In addition, the Company's
simplified retail roaming rate structure allows the customer to roam on certain
adjacent carriers' systems at a preferred rate and minimizes confusion by
consolidating the remainder of the country into a uniform rate. Finally, the
Company offers toll-free calling across single or multiple states to its
subscribers for a nominal monthly fee, due to favorably negotiated interconnect
agreements.
Because the licensed radio spectrum available to the Company was
designed to serve densely populated metropolitan areas, demand for "traditional"
cellular service within the network is not expected to use all available
spectrum. The Company expects that this excess capacity may be adapted for data
transmission, monitoring, control transaction processing and other
nontraditional cellular uses that are well suited for agriculture, energy and
other industries that have widespread operations within the Company's rural
marketplace, such as wireless network systems for mobile office applications,
credit card verifications, telemetry and polling systems. The Company is
working with equipment manufacturers, system integrators and value added
resellers to develop and deploy these systems. The Company also is exploring
the potential uses of packet data systems, an efficient method of multi-point,
simultaneous polling of wireless monitoring devices, to expand the potential
market for nontraditional uses of cellular technology.
In 1992 the Company began investing in TVX, Inc., which holds the
distribution rights for the TVX camera systems in North, Central and South
America. The TVX system provides visual verification of the cause of an alarm
at the time of an incident to distinguish actual emergencies from false alarms.
The TVX camera takes four pictures within five seconds and transmits them to a
host computer via either the cellular or wireline networks. The Company intends
to work closely with TVX, Inc. to market cellular service in conjunction with
the TVX system for use at locations where phone lines are not available or as a
backup when phone lines have been disabled. The Company and Automated Security
Holdings, PLC ("ASH") each hold a 41% equity interest in TVX, Inc. TVX has
filed a registration statement to sell shares of its common stock to the public
in an initial public offering. TVX has asked the SEC not to act on the filing
pending changes to market conditions.
The Company is committed to providing consistently high quality
customer service. The Company maintains a comprehensive, centralized customer
assistance department which offers the advantages of expanded customer service
hours, specialized roaming and key account representatives and an automated
customer information database that allows for efficiency and accuracy, while
decreasing the time spent on each customer contact. The customer assistance
department also supports the administrative functions required to activate a
customer's phone through a high speed, call-in process and to enter the customer
into the informational databases required for customer service and billing. The
Company believes this centralized approach provides cost efficiencies while also
addressing the critical need for quality control. To ensure that it is
delivering a consistently high level of quality service, the Company monitors
customer satisfaction with its network quality, sales and customer service
support, billing and quality of roaming through regular surveys conducted by an
independent research firm.
INDUSTRY ALLIANCE PARTICIPATION. To enhance its service offerings and
marketing efforts, the Company has allied itself with other U.S., Canadian and
Mexican cellular telecommunication companies to market its services in wireline
markets and has been licensed to use the "MobiLink"
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name in connection with such services. The Company and other members of the
alliance have agreed to meet a consistent set of operating and service quality
standards for the wireline areas they serve and are currently developing an
additional consistent set of service quality standards which will result in a
virtual U.S. and Mexican network for alliance customers. As a result, CommNet
Cellular customers will experience an expanded home coverage area with similar
calling features, access to home customer service, compatible system technology
and preferential service rates.
MARKETING. The Company coordinates the marketing strategy for each of
its managed markets. The Company markets cellular telephone service principally
under the CommNet Cellular name. The use of a single service mark over a broad
geographic territory creates a strong brand-name awareness, allowing for
standardization of advertising programs which communicate the Company's
expertise and address the unique wireless telecommunications needs of its rural
customers. To establish name recognition and develop a customer base, the
Company employs a four-pronged marketing strategy. The first element introduces
the CommNet Cellular service to prospective customers utilizing a wide range of
mixed media including radio, print, billboards and television, as well as more
specifically targeted sales techniques, such as referral programs and direct
mail, coupled with a customer-specific pricing and service package. The second
element of the marketing strategy includes a direct communication program
utilizing sales and customer support literature, bill and on-hold messages and
newsletters. The third element is a public relations program which communicates
specific Company benefits and enhances its image both to the prospective and
current customer as well as within the industry. The final element comprises
marketing and customer retention programs based on ongoing prospective and
current customer research.
The Company believes that a key competitive advantage in marketing its
service is the large geographic area covered by the network. The seamless
coverage being developed in the network is critical to marketing, as customers
are attracted to the higher percentage of delivered calls that such coverage
provides. Furthermore, the Company's "home rate follows" pricing allows
customers to make calls from anywhere in the network without incurring
additional daily fees or surcharges which usually occur when customers roam
outside of their home market. Additionally, the Company has entered into a
licensing agreement with GTE Telecommunication Services, Inc. ("GTE") which
allows the Company to provide GTE's "Follow Me Roaming" service. This service
permits customers to receive calls in any market that is part of the Follow Me
Roaming system without having to dial complicated access codes. The Company also
offers discounted roaming prices, and expects to be able to offer enhanced
services, in certain markets as a result of agreements with U S West NewVector
and other cellular carriers. See "Business -- The Company's Operations --
Network Construction and Operations." In addition, the Company offers toll-free
calling statewide or across multiple states to its subscribers for a nominal
monthly fee. In a majority of the Company's managed RSA markets, the Company
was the first cellular system operator to provide service in the market, thereby
affording a significant competitive advantage.
In order to implement its cellular sales strategy, the Company
maintains a sales training program which is designed to train a core group of
sales representatives selected from the managed markets. The Company believes
that by using individuals familiar with the local markets, it will be able to
build its subscriber base more quickly than if sales people were newly
introduced to these markets. The program includes classroom instruction in
sales techniques specific to cellular and alternative wireless communications, a
general introduction to the technical aspects of cellular equipment and practice
on field sales calls. The Company has invested in decentralized retail sales
centers, which generate low cost customer activations from direct response
advertising, equipment accessory sales and in-field service support
capabilities.
The Company has established marketing agreements with independent sales
agents, including nationwide mass retail and automotive chains located at
various retail and wholesale
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<PAGE>
distribution outlets throughout the Company's managed markets. Such outlets
include Sears, Radio Shack, Target, General Motors, Ford and Chrysler
dealerships, and Warren Supply. These independent sales agents give the Company
over 500 points of presence throughout the managed markets and presently account
for over 50% of subscriber activations. In general, such agents earn a fixed
commission which can vary depending upon the price plan sold when a customer
subscribes to the Company's cellular service and remains a subscriber for a
certain period of time. Being first to market in the majority of the Company's
managed RSA markets has also allowed the Company to obtain exclusive marketing
agreements with the leading telecommunication retailers in a particular market
and to obtain prime locations for its sales centers.
SUBSCRIBERS. To date, a substantial majority of the subscribers who
use cellular service in markets in which the Company holds interests have been
business users of mobile communication services. This trend is consistent with
the experience of the cellular industry generally, although given the Company's
geographic presence in the mountain and plains states, its customers have tended
to include proportionally more persons in the agricultural and energy
industries. The Company believes that certain demographic characteristics of
the rural marketplace will enhance the Company's ability to market cellular
service to its primary customer base within its managed RSA markets. On
average, rural residents spend a higher percentage of their annual household
income on transportation and travel a relatively greater distance by personal
vehicle than do urban residents. The relatively large average distance between
public telephones in the rural marketplace is an additional factor that
increases the need for mobile telecommunication services in that market.
Information regarding the number of subscribers to the RSA and MSA
cellular systems managed by the Company is summarized by the following table:
<TABLE>
<CAPTION>
Number of Managed Quarterly
Operating Systems Number of Subscribers Subscriber Growth*
------------------ --------------------- -----------------
RSA MSA Total RSA MSA Total
--- --- ----- --- --- -----
<S> <C> <C> <C> <C> <C> <C> <C>
September 30, 1991 44 5 49 11,565 6,387 17,952 24.6%
December 31, 1991 44 5 49 14,307 7,271 21,578 20.2%
March 31, 1992 44 5 49 17,352 8,370 25,722 19.2%
June 30, 1992 44 5 49 20,901 9,825 30,726 19.5%
September 30, 1992 44 5 49 24,765 11,119 35,884 16.8%
December 31, 1992 44 7 51 29,450 15,931 45,381 26.5%
March 31, 1993 44 7 51 33,112 17,387 50,499 11.3%
June 30, 1993 44 7 51 37,514 19,375 56,889 12.7%
September 30, 1993 45 6 51 42,438 17,898 60,381 11.6%
December 31, 1993 47 7 54 49,097 21,857 70,954 14.7%
March 31, 1994 47 7 54 53,729 24,767 78,496 10.6%
June 30, 1994 47 7 54 60,792 27,894 88,686 13.0%
September 30, 1994 48 7 55 68,291 30,711 99,002 11.6%
<FN>
* Excluding acquisitions and dispositions.
</TABLE>
MANAGEMENT AGREEMENTS. The Company has entered into management
agreements to operate 39 markets. The management agreements appoint the Company
as exclusive management agent of the licensee with specifically enumerated
responsibilities relating to the day-to-day business operation of the licensee,
although the licensee retains ultimate control over its cellular system.
Generally, the RSA management agreements are for an initial term of five years
and are automatically renewed for additional terms unless terminated by notice
from either party prior to expiration of the then current term. The agreements
provide for reimbursement to the Company of expenses incurred on behalf of the
affiliate or licensee.
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<PAGE>
The Company has entered into management agreements with three MSA
affiliates pursuant to which the Company has been appointed the exclusive
management agent for each such affiliate. The MSA management agreements appoint
the Company as managing agent of the respective MSA affiliate with specifically
enumerated responsibilities relating to the day-to-day business operation of the
affiliate. In cases in which the affiliate is the general partner in the
licensee, the Company acts as exclusive management agent for the licensee,
although the licensee retains ultimate control over its cellular system. The
MSA management agreements provide for compensation to the Company in an amount
equal to 10% of the distributions to the affiliate derived from the affiliate's
interest in the licensee, although compensation to date under these agreements
has not been material. The agreements also provide for reimbursement for
reasonable administrative and overhead expenses. In cases in which the
affiliate is a general partner in the licensee, the agreements generally were
for an initial term of two years, were extended for an additional three years
and are automatically renewed for one-year terms thereafter unless terminated by
notice from either party prior to expiration of the then current term. In cases
in which the affiliate is a limited partner in the licensee, the agreements
generally were for an initial term of five years and are automatically renewed
for additional five-year terms unless terminated by notice from either party
prior to expiration of the then current term.
The Company has also entered into a management agreement with CINC,
whereby it manages all systems owned by CINC and in which CINC is the general
partner.
HISTORY. The Company initially acquired its cellular interests by
participating in the wireline licensing process conducted by the FCC. In order
to participate in that process, the Company formed affiliates which were
originally owned at least 51% by one or more independent telcos and no more than
49% by the Company. In exchange for the Company's 49% interest, the Company
provided a financing commitment to the affiliates for their capital needs, as
well as certain management services. In addition to obtaining interests in
cellular markets through participation in the FCC licensing process, the Company
also has purchased direct interests in additional markets in order to expand the
network.
FINANCING ARRANGEMENTS WITH AFFILIATES; CIFC. CIFC has entered into
loan agreements with RSA and MSA affiliates to finance or refinance the costs
related to the construction, operation and expansion of cellular telephone
systems in which such affiliates own an interest. The loans are financed with
funds borrowed by CIFC from National Bank for Cooperatives ("CoBank") and the
Company. As of September 30, 1994, CIFC had entered into loan agreements with
50 RSA affiliates, 5 MSA affiliates and CINC and had advanced $180,000,000
thereunder, including $93,492,000 to entities which are consolidated for
financial reporting purposes. All loans to affiliates from CIFC bear interest
at 1% over the average cost of CoBank borrowings and are secured by a lien upon
all assets of the entity to which funds are advanced. Loans from CIFC to
affiliates will be repaid from funds generated by operations of the licensee or
distributions to affiliates by licensees in which such affiliates own an
interest. Amounts paid to CIFC will be applied by CIFC towards payment of its
obligations to CoBank and the Company. The repayments allocated to the Company
will be retained by CIFC and used to offset future loans which would otherwise
have been made by the Company. The Company has made and will continue to make
advances to affiliates on an interim basis. Funds borrowed from CIFC by
affiliates are used to repay the Company for such interim advances. As of
September 30, 1994, the Company had outstanding interim advances of $33,170,000
to affiliates, which advances bear interest at 2% over the prime rate.
As of September 30, 1994, the Company and CIFC had advanced a total of
$184,324,000 to RSA and MSA affiliates and to finance switches. Based on its
proportionate ownership interests in these affiliates, the Company's share of
total affiliate and switch loans and advances was
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<PAGE>
$129,689,000. The assets of the affiliates in which the Company has investments
or advances represent 4,464,000 pops, which include 3,161,000 net Company pops.
THE CELLULAR TELEPHONE INDUSTRY. Cellular telephone service is a form
of wireless telecommunication capable of providing high quality, high capacity
service to and from mobile, portable and fixed radio telephones. Cellular
telephone technology is based upon the division of a given market area into a
number of regions, or "cells," which in most cases are contiguous. Each cell
contains a low-power transmitter-receiver at a "base station" or "cell site"
that communicates by radio signal with cellular telephones located in the cell.
The cells are typically designed on a grid, although terrain factors, including
natural and man-made obstructions, signal coverage patterns and capacity
constraints may result in irregularly shaped cells and overlaps or gaps in
coverage. Cells generally have radiuses ranging from two miles to more than 25
miles. Cell boundaries are determined by the strength of the signal emitted by
the cell's transmitter-receiver. Each cell site is connected to a MTSO, which,
in turn, is connected to the local landline telephone network.
When a cellular subscriber in a particular cell dials a number, the
cellular telephone sends the call by radio signal to the cell's transmitter-
receiver, which then sends it to the MTSO. The MTSO completes the call by
connecting it with the landline telephone network or another cellular telephone
unit. Incoming calls are received by the MTSO, which instructs the appropriate
cell to complete the communications link by radio signal between the cell's
transmitter-receiver and the cellular telephone. By leaving the cellular
telephone on, a signal is emitted so the MTSO can sense in which cell the
cellular telephone is located. The MTSO also records information on system
usage and subscriber statistics.
The FCC has allocated the cellular telephone systems frequencies in the
800 MHz band of the radio spectrum. Each of the two licensees in each cellular
market is assigned 416 frequency pairs. Each conversation on a cellular system
occurs on a pair of radio talking paths, thus providing full duplex (I.E.,
simultaneous two-way) service. Two distinguishing features of cellular
telephone systems are: (i) frequency reuse, enabling the simultaneous use of
the same frequency in two adequately separated cells, and (ii) call hand-off,
occurring when a deteriorating transmission path between a cell site and a
cellular telephone is rerouted to an adjacent cell site on a different channel
to obtain a stronger signal and maintain the call. A cellular telephone
system's frequency reuse and call hand-off features result in far more efficient
use of available frequencies and enable cellular telephone systems to process
more simultaneous calls and service more users over a greater area than pre-
cellular mobile telephone systems.
Frequency reuse is one of the most significant characteristics of
cellular telephone systems. Each cell in a cellular telephone system is
assigned a specific set of frequencies for use between that cell's base station
and cellular telephones located within the cell, so that the radio signals being
used in one cell do not interfere with those being used in adjacent cells.
Because of the relatively low transmission power of the base stations and
cellular telephones, two cells sufficiently far apart can use the same
frequencies in the same market without interfering with one another.
A cellular telephone system's capacity can be increased in various
ways. Within certain limitations, increasing demand may be met by simply adding
available frequency capacity to cells as required or, by using directional
antennas, dividing a cell into discrete multiple sectors or coverage areas,
thereby facilitating frequency reuse in other cells. Furthermore, an area
within a system may be served by more than one cell through procedures which
utilize available channels in adjacent cells. When all possible channels are in
use, further growth can be accomplished through a process called "cell
splitting." Cell splitting entails dividing a single cell into a number of
smaller cells serviced by lower-power transmitters, thereby increasing the reuse
factor and the number of calls that can be handled in a given area. Expected
digital transmission technologies will provide cellular licensees with
additional capacity to handle calls on cellular frequencies. As a result of
present technology and assigned spectrum, however, there are limits to the
number of signals that
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<PAGE>
can be transmitted simultaneously in a given area. In highly populated MSAs,
the level of demand for mobile and portable service is often large in relation
to the existing capacity. Because the primary objective of the cellular
licensing process is to address mobile and portable uses, operators in highly
populated MSAs may have capacity constraints which limit their ability to
provide alternate cellular service. The Company does not anticipate that the
provision of mobile and portable services within the network will require as
large a proportion of the systems' available spectrum and, therefore, the
systems will have more available spectrum with which to pursue data
applications, which may enhance revenues. In addition, because fixed cellular
applications do not require hand-off capability, the cell sites and switches use
less capacity in providing such service.
Call hand-off in a cellular telephone system is automatic and virtually
unnoticeable to either party to the call. The MTSO and base stations
continuously monitor the signal strength of calls in progress. The signal
strength of the transmission between the cellular telephone and the base station
declines as the caller moves away from the base station in that cell. When the
signal strength of a call declines to a predetermined threshold level, the MTSO
automatically determines if the signal strength is greater in another cell and,
if so, hands off the cellular telephone to that cell. The automatic hand-off
process within the system takes a fraction of a second. However, if the
cellular telephone leaves the reliable service areas of the cellular telephone
system, the call is disconnected unless an appropriate technical interface is
established with an adjacent system through intersystem networking arrangements.
FCC rules require that all cellular telephones be functionally
compatible with cellular telephone systems in all markets within the United
States and with all frequencies allocated for cellular use, so that a cellular
telephone may be used wherever a subscriber is located, subject to appropriate
arrangements for service charges. Changes to cellular telephone numbers or
other technical adjustments to cellular telephones by the manufacturer or local
cellular telephone service businesses may be required, however, to enable the
subscriber to change from one cellular service provider to another within a
service area.
Because cellular telephone systems are fully interconnected with the
landline telephone network and long distance networks, subscribers can receive
and originate both local and long-distance calls from their cellular telephones.
Cellular telephone systems operate under interconnection agreements
with various local exchange carriers and interexchange carriers. The
interconnection agreements establish the manner in which the cellular telephone
system integrates with other telecommunications systems. The cellular operator
and the local landline telephone company must cooperate in the interconnection
between the cellular and landline telephone systems, to permit cellular
subscribers to call landline subscribers and vice versa. The technical and
financial details of such interconnection arrangements are subject to
negotiation and vary from system to system.
While most MTSOs process information digitally, most radio transmission
of cellular telephone calls are done on an analog basis. Digital technology
offers advantages, including improved voice quality, larger system capacity, and
perhaps lower incremental costs for additional subscribers. The conversion from
analog to digital radio technology is expected to be an industry-wide process
that will take a number of years. Because of the uncertainty surrounding the
selection of an agreed-upon digital standard, the timing and costs of such a
conversion for the Company are presently unknown.
COMPETITION
GENERAL. The cellular telephone business is a regulated duopoly. The
FCC awarded only two licenses in each market, although certain markets have been
subdivided as a result of voluntary settlements. One of these licenses
initially was awarded to an entity that was majority
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<PAGE>
owned by local telephone companies or their affiliates and the other license was
awarded to an entity that did not provide such service. Each licensee has the
exclusive use of a defined frequency band within its market.
The primary competition for the Company's mobile cellular service in
any market comes from the other licensee in such market, which may have
significantly greater resources than the Company and its affiliates.
Competition is principally on the basis of coverage, services and enhancements
offered, technical quality of the system, quality and responsiveness of customer
service and price. Such competition may increase to the extent that licenses
pass from weaker stand-alone operators into the hands of better capitalized and
more experienced cellular operators who may be able to offer consumers certain
network advantages similar to those offered by the Company. Within the network,
the Company has three primary direct competitors, in addition to a number of
stand-alone operators. The Company also faces competition from other
communications technologies that now exist, such as specialized mobile radio
systems ("SMR") and paging services, and may face competition from technologies
introduced in the future.
COMPETITION FROM OTHER TECHNOLOGIES. Potential users of cellular
systems may find an increasing number of current and developing technologies
able to meet their communication needs. For example, SMRs, such as are
generally used by taxicab and tow truck services, and other communications
services, have the technical capability to handle mobile telephone calls
(including interconnection to the landline telephone network) and may provide
competition in certain markets.
Although SMRs have limitations that make their usage more appropriate
for short dispatch messages, the FCC has granted waivers of its rules to permit
the construction and operation of low powered "cellular-like" services using a
collection of SMR frequencies ("ESMR") in a number of markets in the United
States. Recent legislation permits commercial mobile service providers,
including SMR providers, to obtain upon demand physical interconnection with the
landline telephone network. Such interconnection enhances an SMR provider's
ability to compete with cellular operators, including the Company. The FCC has
encouraged ESMR activities and has amended its rules to establish an Expanded
Mobile Service Provider ("EMSP") licensing approach that would facilitate such
operations. The new rates grant a new type of 800 MHz wide-area license that
would permit channels to be aggregated for operation of systems throughout
defined geographic areas. A new rulemaking is underway to determine what
protections will be afforded to existing SMR licensees that may now be subject
to relocation.
One-way paging or beeper services that feature voice message and data-
display as well as tones may be adequate for potential cellular subscribers who
do not need to transmit back to the caller. SMR and paging systems are in
operation in many of the service areas within the network.
The FCC is now licensing commercial personal communications services
("PCS"). PCS is not a specific technology, but a variety of potential
technologies that could compete with cellular telephone systems. The FCC has
identified two categories of PCS: broadband and narrowband. In 1993, congress
enacted legislation requiring the FCC to adopt final rules for licensing
wideband and narrowband PCS by February 1994. This legislation also required
the FCC to commence issuing licenses for narrowband PCS by October 1994 and
broadband PCS by December 1994. The auctions are now being held. See "Recent
Legislation."
The FCC has adopted rules to authorize the operation of new narrowband
PCS systems in the 900 MHz band. The new services possible using this 900 MHz
band spectrum include advanced voice paging, two-way acknowledgment paging, data
messaging, electronic mail and facsimile transmissions. These services most
likely will be provided using a variety of devices, such as laptop and palmtop
computers and computerized "personal organizers" that allow receipt of office
messages, calendar planning, and document editing from remote locations.
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<PAGE>
The FCC also has adopted rules to authorize the operation of new,
wideband PCS systems in the 2 GHz band. Equipment proposed for wideband PCS
includes small, lightweight and wireless telephone handsets; computers that can
communicate over the airwaves wherever they are located; and portable facsimile
machines and other graphic devices. The regulatory plan adopted for broadband
PCS includes an allocation of spectrum, a flexible regulatory structure,
eligibility restrictions and technical and operational rules. In a related
matter in the same proceeding, the FCC revised its cellular rules to explicitly
state that cellular licensees may provide any PCS-type services (including
wireless PBX, data transmission and telepoint services) on their 800 MHz band
cellular channels without prior notification to the FCC (other than the
notification required to report the construction of new cell sites).
The FCC has allocated 140 MHz of spectrum in the 2 GHz band for the
provision of licensed and unlicensed wideband PCS. Much of the spectrum
allocated for wideband PCS is already occupied by microwave licensees. As a
general proposition, wideband PCS licensees will be required to pay the costs
associated with relocating these existing microwave users to other portions of
the radio spectrum.
Of the 140 MHz of spectrum allocated to wideband PCS, 120 MHz has been
allocated for licensed PCS. The 120 MHz of spectrum allocated to licensed PCS
has been channelized into six channel blocks, as follows: i) two channel blocks
(Blocks A and B) have been allocated 30 MHz of spectrum each, and will be
licensed on the basis of 51 Major Trading Areas ("MTAs"), iii) three channel
blocks (Blocks D, E and F) have been allocated 10 MHz of spectrum each and will
be licensed on the basis of 493 Basic Trading Areas ("BTAs"). In a separate
proceeding dealing with spectrum auctions and consistent with a directive
contained in recently-enacted legislation, the FCC has granted licensing
preferences on the Block C and F spectrum allocations for small businesses,
rural telephone companies and minority/woman-owned businesses. The Company is
analyzing FCC rules as proposed to determine its eligibility for the Block C 30
MHz channel block and the Block F 10 MHz channel block.
Subject to a five percent cross-ownership benchmark, spectrum
aggregation will be permitted in wideband PCS, but will be limited to 40 MHz of
spectrum per service area to prevent any one person or entity from exercising
undue market power.
As a general rule, cellular licensees will be permitted to participate
in wideband PCS on the 30 MHz frequency block outside of their existing cellular
service areas or in any area where the cellular licensee serves less than ten
percent of the 1990 census population of the PCS service area. Under this
criterion, a cellular licensee will be ineligible to apply for one of the 30 MHz
spectrum blocks if the composite reliable service area contour of its cellular
system embraces ten percent or more of the 1990 census population of the PCS
service area. Generally, with respect to PCS service areas in which there is
ten percent or more cumulative 1990 census population overlap between the
cellular and PCS service areas, the cellular carrier will be eligible to hold
only one 10 MHz BTA license in addition to its cellular interest.
The ownership attribution benchmark for cellular interests has been set
at 20%. Therefore, for eligibility purposes, cellular licensees are defined as
entities which have an ownership interest of 20% or more in a cellular system.
Wideband PCS licensees will be subject to minimum construction
requirements. Wideband PCS licenses will be awarded for a period of ten years,
with provisions for a license renewal expectancy similar to the rules that
currently apply to cellular licensees.
Of the 160 MHz of spectrum allocated for wideband PCS, the remaining 40
MHz has been allocated for unlicensed devices. These unlicensed devices will be
used in a variety of contexts, such as office environments, to provide such
services as high and low speed data links between
I-14
<PAGE>
computing devices, cordless telephones and wireless PBXs. The unlicensed
devices will be governed under Part 15 of the FCC's rules, and will not be
subject to auctions.
It is uncertain what the effect on the Company of these new personal
communications services will be. The Company believes that PCS likely will not
compete directly with cellular telephone service in the rural marketplace, but
there can be no assurance that this will be the case. Management of the Company
believes that technological advances in present cellular telephone technology in
conjunction with buildout of the present cellular systems throughout the nation
with cell splitting and microcell technology would provide essentially the same
services as the proposals described above, but there is no assurance that this
will happen. The FCC may issue operating authority for personal communications
services competitive to the Company's services in the markets in which the
Company holds interests in cellular systems. This could result in one or more
additional competitors in each of the Company's markets.
Technological advances in the communications field continue to occur
and make it difficult to predict the extent of additional future competition for
cellular systems. For example, several mobile satellite systems are planning to
initiate service in the 1995 - 1999 time frame. Although satellite service may
offer a customer worldwide coverage, the substantial investments required to
initiate service, as well as significant technical, political, and regulatory
hurdles that need to be overcome may impede the early growth of this technology.
Recent legislation may make available up to 200 MHz of spectrum for new
communications systems. See "Federal Regulation -- Recent Legislation." Each
of these systems could provide services that compete with those provided by the
Company. The FCC has also authorized Basic Exchange Telecommunications Radio
Service to make basic telephone service more accessible to rural households and
businesses.
FEDERAL REGULATION
OVERVIEW. The construction, operation and acquisition of cellular
systems in the United States are regulated by the FCC pursuant to the
Communications Act and the rules and regulations promulgated thereunder (the
"FCC rules"). The FCC rules govern applications to construct and operate
cellular systems, licensing and administrative appeals and technical standards
for the provision of cellular telephone service. The FCC also regulates
coordination of proposed frequency usage, height and power of base station
transmitting facilities and types of signals emitted by such stations. In
addition, the FCC regulates (or forbears from regulating) certain aspects of the
business operations of cellular systems. It has declined to regulate the price
and terms of offerings to the public, although states may do so to assure
development of competitive markets, provided certain conditions are met. See
"Recent Legislation."
INITIAL REGULATION. For licensing purposes, the FCC established 734
discrete geographically defined market areas comprising 306 MSAs and 428 RSAs.
In each market area, the FCC awarded only two licenses authorizing the use of
radio frequencies for cellular telephone service. The allocated cellular
frequencies were divided into two equal 25 MHz blocks. One block of
frequencies, and the associated operating license, was initially reserved for
exclusive use by an entity that was majority owned and controlled by local
landline telephone companies or their affiliates. The second block of
frequencies initially was reserved for use by entities that did not provide
landline telephone service in the market area. Upon the issuance of a
construction permit, either wireline or nonwireline, such construction permit
could be sold to any qualified buyer, regardless of telco affiliation. The FCC
generally prohibits a single entity from holding an interest in both the
wireline and the nonwireline licensee in the same market.
RSAs were divided along county lines and consist of one or more
contiguous counties within a single state. The RSAs were numbered
alphabetically by state, rather than on the basis of population. The FCC
applied a licensing policy for RSA markets similar to that utilized in the MSAs.
Applications for both the wireline and nonwireline license in each RSA were
filed
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<PAGE>
simultaneously. In RSAs, the FCC allowed only wireline applicants to form pre-
lottery settlement entities. If a full market wireline settlement was not
negotiated, the FCC chose among mutually exclusive applicants for each license
through the use of a lottery.
Upon favorable review of the lottery winner or settlement entity,
designation of the tentative selectee and following a public comment period, the
FCC issued a construction permit for the cellular telephone system on each
frequency block in a specified market. An operating license was then granted
for an initial term of ten years (although a license may be revoked during its
term for cause after formal proceedings by the FCC).
LICENSE RENEWAL. The FCC has established rules and procedures to
process cellular renewal applications filed by existing carriers and the
competing applications filed by renewal challengers. Subject to one exception
discussed below, the renewal proceeding is a two-step hearing process. The
first step of the hearing process is to determine whether the existing cellular
licensee is entitled to a renewal expectancy, and otherwise remains basically
qualified to hold a cellular license. Two criteria are evaluated to determine
whether the existing licensee will receive a renewal expectancy. The first
criterion is whether the licensee has provided "substantial" service during its
past license term, defined as service which is sound, favorable and
substantially above a level of mediocre service which minimally might justify
renewal. The second criterion requires that the licensee must have
substantially complied with applicable FCC rules and policies and the
Communications Act. Under this second criterion, the FCC determines whether the
licensee has demonstrated a pattern of compliance. The second criterion does
not require a perfect record of compliance, but if a licensee has demonstrated a
pattern of noncompliance it will not receive a renewal expectancy. If the FCC
grants the licensee a renewal expectancy during the first step of the hearing
process and the licensee is basically qualified, its license renewal application
will be automatically granted and any competing applications will be denied. If
however, the FCC denies the licensee's request for renewal expectancy, the
licensee's application will be comparatively evaluated under specifically
enumerated criteria with the applications filed by competing applicants.
The exception to the two-step renewal hearing process allows a
competing applicant proposing to provide service that far exceeds the service
presently being provided by the incumbent licensee to request a waiver of the
two-step process. If the waiver request is granted, the FCC will hold only a
comparative hearing, I.E., it will not make a threshold determination in the
first instance as to whether the incumbent licensee is entitled to a renewal
expectancy.
CELLULAR SERVICE AREA. Under FCC rules, the authorized service area
for a cellular licensee in a market is referred to as the CGSA. The CGSA may be
coincident with or smaller than the related FCC-designated market. In all FCC-
designated markets, at least one cell site must have been placed into commercial
service within 18 months after the award of the construction permit. The CGSA
is defined as the area served by the cellular licensee (as computed by a
mathematical formula based on the height and power of operating cell sites).
Cellular licensees do not need to obtain FCC authority prior to increasing the
CGSA within their FCC-designated market during the five-year period after the
construction permit is initially granted for the market. However, FCC
notification of construction is still required. After the five-year exclusive
period has expired, any entity may apply to serve the unserved areas of the
market that comprises at least 50 contiguous square miles and are outside of the
licensees' CGSA (an "unserved area application"). The Company has selected
target expansion areas based upon specific financial criteria and does not plan
to expand in areas where these criteria are not projected to be met.
Unserved area applications are filed in two phases, Phase I and Phase
II. During the first half of 1993, the FCC accepted Phase I unserved area
applications for frequency blocks in all markets where: the five-year fill-in
period had already expired or would expire on or before March 15, 1993; no
applications for initial authorizations were filed; and authorizations were
surrendered,
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<PAGE>
or canceled for failure to meet the 18-month construction deadline or other
reasons. For all other markets, Phase I applications are due on the 31st day
following expiration of the five-year fill-in period. All Phase I applications
for a given market are deemed mutually exclusive even if their proposed CGSAs do
not overlap. Once an authorization has been granted to a Phase I applicant, the
permittee has 90 days within which to file an application requesting FCC
authority to make major modifications to the unserved area system. The FCC will
not accept applications that are mutually exclusive with the Phase I carrier's
major modification application.
Phase II unserved area applications for any remaining area may be filed
on the 121st day after the Phase I authorization has been granted (or if no
Phase I applications are filed, on the first day after Phase I applications for
that market are permitted). In the event mutually exclusive applications are
filed the authorization will be issued by auction. Phase II applications may
propose CGSAs that cover area in more than one market. Phase II applications
are deemed to be mutually exclusive only if their CGSAs overlap in such a way
that the grant of one would preclude the grant of the other. Currently, Phase
II applications are processed on a first-come, first-served basis. Effective
January 1995, the first Phase II application filed in a market will be placed on
public notice by the FCC and all interested parties will have an opportunity to
apply for the same market.
Third party unserved area applicants must propose to serve a minimum of
50 contiguous square miles and must demonstrate their financial qualifications
to construct the proposed system and to operate it for one year (assuming no
revenues). Existing licensees proposing to expand their systems through the
filing of an unserved area application are not subject to the 50 square mile
minimum coverage rule, nor are they required to make a financial qualifications
showing. Under recent legislation described below, mutually exclusive unserved
area applications are processed by lottery selection procedures (for
applications filed prior to July 26, 1993) or by auctions (for applications
filed after July 26, 1993), and existing cellular carriers receive no preference
in the lottery selection or auction process.
Unserved area cellular carriers (both Phase I and Phase II) are
accorded one year within which to complete construction of their systems.
Unserved area cellular carriers are not accorded a five-year fill-in period. If
an unserved area cellular carrier forfeits its authorization for failure to
construct, the areas which thereby revert to "unserved" status may be applied
for under Phase II procedures.
ALIEN OWNERSHIP RESTRICTIONS. The Communications Act prohibits the
issuance of a license to, or the holding of a license by, any corporation of
which any officer or director is a non-U.S. citizen or of which more than 20% of
the capital stock is owned of record or voted by non-U.S. citizens or their
representatives or by a foreign government or a representative thereof, or by
any corporation organized under the laws of a foreign country. The
Communications Act also prohibits the issuance of a license to, or the holding
of a license by, any corporation directly or indirectly controlled by any other
corporation of which any officer or more than 25% of the directors are non-U.S.
citizens or of which more than 25% of the capital stock is owned of record or
voted by non-U.S. citizens or their representatives or by a foreign government
or representative thereof, or by any corporation organized under the laws of a
foreign country, although the FCC has the power in appropriate circumstances to
waive these restrictions. The FCC has interpreted these restrictions to apply
to partnerships and other business entities as well as corporations, subject to
certain modifications. Failure to comply with these requirements may result in
denial or revocation of licenses. The Articles of Incorporation of the Company
contain prohibitions on foreign ownership or control of the Company that are
substantially similar to those contained in the Communications Act.
RECENT LEGISLATION. The Omnibus Budget Reconciliation Act of 1993 (the
"Budget Act"), among other things, generally requires the FCC to work with the
Department of Commerce to reallocate at least 200 MHz of spectrum from federal
government use to private commercial use; to
I-17
<PAGE>
issue initial licenses for radio spectrum for which mutually exclusive
applications have been filed for the purpose of offering commercial
communications services to subscribers either by comparative hearing or
competitive bidding (I.E., auctions); to treat as common carriers PCS licensees
as well as providers of commercial mobile services (including SMR services) that
previously were regulated as private carriers; to issue final rules relating to
the licensing of PCS; and to impose regulatory fees upon virtually all FCC
licensees, including cellular licensees, to help recover the FCC's
administrative costs in regulating such entities (the "Spectrum Legislation").
In devising a methodology for auctions between mutually exclusive
applicants, the Spectrum Legislation directs the FCC, among other things, to
promote the development and rapid deployment of new technologies, products and
services to the public, including those residing in rural areas. Further, the
Spectrum Legislation prohibits the FCC from conducting lotteries to issue
initial licenses for commercial services for which mutually exclusive
applications are filed, unless one or more applications for such license were
accepted for filing prior to July 26, 1993. Thus, all future initial
applications for cellular unserved areas (if deemed to be mutually exclusive)
and all applications for PCS licenses, would be issued by a competitive bidding
process. Competitive bidding will not apply to applications for license renewal
or applications to assign or transfer control of existing licenses.
The Spectrum Legislation also preempts state rate or entry regulation
on commercial mobile services unless a particular state petitions the FCC for
authority to exercise (or continue exercising) such regulatory authority and the
FCC grants the petition. The Spectrum Legislation also directs the FCC to
assess and collect regulatory fees from virtually all FCC licensees, including
cellular carriers. Under the initial fee schedule, cellular carriers are
required to pay an annual fee of $60.00 per 1,000 subscribers.
STATE, LOCAL AND OTHER REGULATION
STATE. Following receipt of an FCC construction permit and prior to
the commencement of commercial service (prior to construction in certain
states), a cellular licensee must also obtain any necessary approvals from the
appropriate regulatory bodies in each of the states in which it will offer
cellular service. Certain states require cellular system operators to be
certified by such state to serve as common carriers. In addition, certain state
authorities regulate the rates as well as certain service practices of cellular
system operators. While such state regulations may affect the manner in which
the Company's affiliates conduct their business and could adversely affect their
profitability, they should not place the Company's affiliates at a competitive
disadvantage with other service providers in the same markets. The Company has
not experienced and does not presently contemplate any regulatory constraints,
difficulties or delays.
FAA, ZONING AND OTHER LAND USE. The location and construction of
cellular transmitter towers and antennas are subject to Federal Aviation
Administration ("FAA") regulations and may be subject to federal, state and
local environmental regulation as well as state or local zoning, land use and
other regulation. Before a system can be put into commercial operation, the
grantee of a construction permit must obtain all necessary zoning and building
permit approvals for the cell sites and MTSO locations and must secure state
certification and tariff approvals, if required. The time needed to obtain
zoning approvals and requisite state permits varies from market to market and
state to state. Likewise, variations exist in local zoning processes. There
can be no assurance that any state or local regulatory requirements currently
applicable to the systems in which the Company's affiliates have an interest
will not be changed in the future or that regulatory requirements will not be
adopted in those states and localities which currently have none.
I-18
<PAGE>
EMPLOYEES
As of December 15, 1994, the Company had 404 full-time employees. The
Company engages the services of independent contractors on an as-needed basis.
Item 2. Properties.
In addition to the direct and attributable interests in cellular
licensees discussed in this Report, the Company leases its principal executive
offices (consisting of approximately 46,000 square feet) located in Englewood,
Colorado. The Company and its affiliates lease and own locations for inventory
storage, microwave, cell site and switching equipment and administrative
offices.
Item 3. Legal Proceedings.
Two competing applicants for the wireline cellular license to serve the
Portland, Maine, MSA filed petitions with the FCC to deny the grant of authority
to Portland Cellular Partnership (the "Portland Partnership"), in which an
affiliate of the Company is a partner. The competing applicants alleged that
the Portland Partnership had failed to demonstrate its financial qualifications
after its designation as the tentative selectee by the FCC. In February 1989,
the FCC waived compliance by the Portland Partnership with the applicable rules
on financial qualification, denied the petitions of the competing applicants and
granted the application of the Portland Partnership for authority to establish a
wireline cellular system in the Portland MSA. The competing applicants then
appealed to the United States Court of Appeals for the District of Columbia
Circuit ("Court of Appeals"). In March 1990, the Court of Appeals held that the
FCC's waiver was improper and remanded the case to the FCC for further
proceedings. On April 30, 1991, the FCC vacated the grant of authority to the
Portland Partnership and dismissed its application. The FCC also dismissed the
application of one competing applicant and designated the remaining competing
applicant as tentative selectee. The FCC also granted the Portland Partnership
interim authority to provide service until the grant of a new construction
permit. On May 31, 1991, the Company's affiliated telco filed a Petition for
Reconsideration with the FCC requesting reconsideration of the FCC's vacation of
the grant of the Portland Partnership's application and alternatively seeking
the opportunity to prosecute its own application and requesting the FCC to name
it as tentative selectee. The affiliated telco contemporaneously filed a
petition with the FCC seeking dismissal of the application of the designated
tentative selectee. The Portland Partnership filed an appeal of the
Commission's order in the Court of Appeals. The Portland Partnership
subsequently filed a petition for reconsideration and the reinstatement of its
license.
On June 4, 1993, the FCC dismissed the Portland Partnership's petition
for reconsideration and reinstatement on jurisdictional grounds and granted a
construction permit for the Portland market to the tentative selectee
("Northeast"). In its June 4 order, the FCC also continued Portland
Partnership's authority to operate the Portland system until ten days after the
date Northeast notifies the Portland Partnership that it is ready to commence
service and denied the petitions of the Company's affiliated telco to deny the
application of Northeast.
On June 25, 1993, the Portland Partnership filed with the FCC a motion
to stay the effectiveness of the June 4 order and a petition for further
reconsideration. Thereafter, the Portland Partnership filed a petition for
reconsideration of the FCC's grant of a construction permit to Northeast and the
Company's affiliated telco filed a petition for reconsideration of the FCC's
action on its April 1991 order. On August 18, 1993, the Commission denied the
motion to stay the effectiveness of the June 4 order. The Partnership
subsequently sought a stay of that order from the Court of Appeals. That
request was also denied. The FCC also denied the Partnership's petition for
further reconsideration of the FCC's revocation of the Partnership's cellular
license. The Partnership appealed that denial to the Court of Appeals, but its
appeal was dismissed by the
I-19
<PAGE>
Court as premature until the FCC rules on the Partnership's petition for
reconsideration of the FCC's grant of a license to Northeast. That petition for
reconsideration has not yet been acted on by the FCC. The Partnership is
required to cease operation of its cellular system ten days after it receives
notice that Northeast is ready to commence operation of its system.
There are no other material, pending legal proceedings to which the
Company or any of its subsidiaries is a party or of which any of their property
is the subject which, if adversely decided, would have a material adverse effect
on the Company.
Item 4. Submission of Matters to a Vote of Security Holders.
There were no matters submitted to a vote of security holders during
the quarter ended September 30, 1994.
I-20
<PAGE>
PART II
Item 5. Market for Registrant's Common Stock and Related Security Holder
Matters.
The common stock of the Company ("Common Stock") is traded on the
NASDAQ National Market System under the symbol "CELS." The following table sets
forth the range of high and low closing sale prices of the Common Stock for each
fiscal quarter since October 1, 1992 as reported by NASDAQ.
<TABLE>
<CAPTION>
Fiscal Year 1993: High Low
---- ---
<S> <C> <C>
First Quarter. . . . . . . . . . . . . $15 1/8 $11 1/8
Second Quarter . . . . . . . . . . . . 16 1/4 13
Third Quarter. . . . . . . . . . . . . 14 12 1/2
Fourth Quarter . . . . . . . . . . . . 19 5/8 13 1/4
Fiscal Year 1994: High Low
---- ---
First Quarter. . . . . . . . . . . . . $21 1/2 $16 7/8
Second Quarter . . . . . . . . . . . . 21 16 3/4
Third Quarter. . . . . . . . . . . . . 18 15 3/8
Fourth Quarter . . . . . . . . . . . . 25 3/4 17 7/8
</TABLE>
As of December 14, 1994, there were 492 holders of record of the Common
Stock.
The Company has not paid cash dividends on the Common Stock and does
not anticipate that any cash dividends will be paid on the Common Stock in the
foreseeable future. Furthermore, certain financing agreements to which the
Company is a party contain provisions which restrict the payment by the Company
of dividends or distributions on the Common Stock (other than dividends or
distributions payable in shares of Common Stock).
II-1
<PAGE>
Item 6. Selected Financial Data.
Statement of Operations Data (1):
<TABLE>
<CAPTION>
Years Ended September 30,
-----------------------------------------------------------------------------------------
1994 1993 1992 1991 1990
---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C>
Revenues $ 61,360,051 $ 33,689,311 $ 14,906,349 $ 4,908,170 $ 1,024,676
Costs and expenses (net
of amounts allocated
to affiliates):
Cellular operations 50,855,637 30,288,634 18,138,532 11,940,438 2,419,515
Corporate 406,638 (1,119,298) 997,157 (592,798) 1,518,498
Total depreciation
and amortization 12,650,855 19,950,508 14,114,817 8,569,325 1,855,678
Write-down of
investment in
cellular system
equipment 3,116,256 - - - -
------------- ------------- ------------- ------------- -------------
Operating loss (5,669,335) (15,430,533) (18,344,157) (15,008,795) (4,769,015)
Equity in net loss of
affiliates (5,092,484) (6,339,145) (8,851,753) (10,931,161) (5,071,980)
Minority interest in equity
of affiliates (543,607) - - - -
Gains on sales of affiliates 3,811,943 7,821,424 14,339,063 - -
Interest expense (21,338,505) (16,427,796) (14,800,908) (11,245,394) (6,894,329)
Interest income 12,080,836 10,701,511 10,616,024 8,484,298 9,028,813
Loss before extraordinary
charge (16,751,152) (19,674,539) (17,041,731) (28,701,052) (7,706,511)
Extraordinary charge - (2,991,673) - - -
------------- ------------- ------------- ------------- -------------
Net loss $ (16,751,152) $ (22,666,212) $ (17,041,731) $ (28,701,052) $ (7,706,511)
------------- ------------- ------------- ------------- -------------
------------- ------------- ------------- ------------- -------------
Loss per common share
before extraordinary
charge $ (1.45) $ (2.30) $ (2.44) $ (6.00) $ (1.68)
------------- ------------- ------------- ------------- -------------
------------- ------------- ------------- ------------- -------------
Extraordinary charge - (.35) - - -
Net loss per common share $ (1.45) $ (2.65) $ (2.44) $ (6.00) $ (1.68)
------------- ------------- ------------- ------------- -------------
------------- ------------- ------------- ------------- -------------
Weighted average
shares outstanding 11,577,191 8,551,785 6,984,541 4,780,674 4,594,778
</TABLE>
Balance Sheet Data (1):
<TABLE>
<CAPTION>
Years Ended September 30,
------------------------------------------------------------------------------------------
1994 1993 1992 1991 1990
---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C>
Working capital $ 25,524,500 $ 63,560,591 $ 29,477,995 $ 15,317,636 $ 32,058,078
Investments in and
advances to affiliates 61,908,761 55,892,372 52,019,577 50,745,576 39,456,182
Net property and
equipment 79,917,727 53,460,296 44,209,682 33,555,291 13,923,725
Total assets 281,752,821 269,290,185 208,363,573 181,972,276 149,528,094
Long-term debt 243,913,168 259,676,224 189,430,430 183,208,596 131,299,631
Total liabilities 265,846,354 278,711,956 204,123,685 204,059,999 143,221,602
Stockholders' equity
(deficit) (2) 15,906,467 (9,421,771) 4,239,888 (22,087,723) 6,306,492
</TABLE>
II-2
<PAGE>
Item 6. Selected Financial Data (Continued).
(1) Markets in which the Company holds a greater than 50% net interest are
reflected on a consolidated basis in the Company's consolidated
financial statements. Markets in which the Company holds a net
interest which is 50% or less but 20% or greater are accounted for
under the equity method. Markets in which the Company holds a less
than 20% interest are accounted for under the cost method. The
following table sets forth the number of markets and relevant
accounting methods at the end of each of the last five fiscal years.
<TABLE>
<CAPTION>
September 30,
------------------------------------------------------------------------
1994 1993 1992 1991 1990
---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C>
Consolidated 42 36 28 22 4
Equity 35 38 37 47 63
Cost 18 6 18 18 18
--- --- --- --- ---
95 80 83 87 85
--- --- --- --- ---
--- --- --- --- ---
</TABLE>
(2) No cash dividends were declared or paid during any period presented.
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations.
General
Cellular systems typically experience losses and negative cash flow in
their initial years of operation and, consistent with this pattern, the Company
has incurred losses and negative cash flow since its inception. However,
operating losses have declined recently as the Company's focus has shifted from
construction and initial operation of cellular systems to increasing penetration
and subscriber usage, and the Company expects that operating income before
depreciation and amortization ("EBITDA"), which was positive during the fiscal
year ended September 30, 1994, will also be positive in future fiscal years
(although there can be no assurance that this will be the case). Certain
financial analysts consider EBITDA a meaningful measure of an entity's ability
to meet long-term financial obligations, and growth in EBITDA a meaningful
barometer of future profita-bility, especially in a capital-intensive industry
such as cellular telecommunications. However, EBITDA should not be considered
in isolation to, or be construed as having greater significance than, other
indicators of an entity's performance. The results discussed below may not be
indicative of future results.
Consolidated results of operations include the revenues and expenses of
those markets in which the Company holds a greater than 50% interest. The
results of operations of 42 markets, 36 of which were consolidated for the
entire period, are included in the consolidated results for the fiscal year
ended September 30, 1994. The results of operations of 36 markets, 28 of which
were consolidated for the entire period, are included in the consolidated
results for the fiscal year ended September 30, 1993. The increase in the
number of markets included in consolidated results is due to acquisitions
consummated subsequent to September 30, 1993. Consolidated results of
operations also include the operations of Cellular, Inc. Financial Corporation
("CIFC") and Cellular, Inc. Network Corporation ("CINC").
Equity in net loss of affiliates includes the Company's share of net
loss in the markets in which the Company's interest is 50% or less but 20% or
greater. For the fiscal year ended September 30, 1994, 35 markets were
accounted for under the equity method, compared to 38 such markets for the
fiscal year ended September 30, 1993. Markets in which the Company's interest
is less than 20% are accounted for under the cost method. Eighteen markets were
accounted for
II-3
<PAGE>
under the cost method for the fiscal year ended September 30, 1994, compared to
six such markets for the fiscal year ended September 30, 1993.
Interest income reflects interest income derived from the financing
activities of CIFC and the Company with nonconsolidated affiliates, as well as
interest income derived from the Company's short-term investments. CIFC has
entered into loan agreements with the Company's affiliates pursuant to which
CIFC makes loans to such entities for the purpose of financing or refinancing
the affiliates' costs of construction and operation of cellular telephone
systems. Such loans are financed with funds borrowed by CIFC from CoBank and
from the Company and bear interest at a rate 1% above CoBank's average rate.
From time to time, the Company advances funds on an interim basis to affiliates.
These advances typically are refinanced through CIFC. To the extent that the
cellular markets in which the Company holds an interest mature and generate
positive cash flow, the cash will be used to repay borrowings by the affiliates
from CIFC and thereafter to make cash distributions to equity holders, including
the Company.
RESULTS OF OPERATIONS
FISCAL YEAR 1994 COMPARED WITH FISCAL YEAR 1993. As of September 30,
1994, the Company held interests in 84 RSA markets and 10 MSA markets compared
to 70 RSA markets and 10 MSA markets as of September 30, 1993. All markets in
which the Company held an interest were operational as of such dates.
Cellular service revenues, including roaming revenues, increased 82%
from $28,861,000 in fiscal year 1993 to $52,586,000 in fiscal year 1994. The
growth was due to the increase in the number of subscribers in consolidated
markets. In addition to increases in market penetration, growth resulted from
an increase in the number of markets consolidated during the fiscal year from 36
at September 30, 1993 to 42 at September 30, 1994. Growth in subscribers
accounted for 75% of the increase and the number of consolidated markets
accounted for 25% of the increase.
Average monthly revenue per subscriber decreased 1% from $75 in fiscal
year 1993 to $74 in fiscal year 1994. The decline reflects the fact that
initial subscribers in a market tend to use more cellular service than those who
subscribe after a system has been in operation for a period of time.
Cost of cellular service includes four major components: the variable
cost of interconnection to the landline telephone system, the semi-fixed cost of
leasing facilities, the semi-fixed cost related to switching capacity and the
operational overhead cost to maintain and monitor the cellular network, which
tends to be fixed. Cost of service decreased as a percentage of service
revenues from 21% in fiscal year 1993 to 18% in fiscal year 1994. Cost of
service as a percentage of revenues is expected to continue to decline slightly
from this level as revenues derived from the growing subscriber base continue to
outpace the fixed components of cost of service.
Cellular equipment revenues increased 82% from $4,829,000 in fiscal
year 1993 to $8,774,000 in fiscal year 1994. The growth was due to the increase
in the number of subscribers added as compared to the number of subscribers
added during the prior fiscal year, which accounted for $2,923,000, or 74%, of
the increase. In addition, growth resulted from an increase in the number of
consolidated markets operated during the year which represented $1,022,000, or
26%, of the increase. Cost of equipment sales increased 69% from $5,218,000 in
fiscal year 1993 to $8,835,000 in fiscal year 1994. To enhance subscriber
growth, the Company has sold cellular equipment sometimes below cost. The
equipment sales margin improved in fiscal year 1994, as compared to fiscal year
1993, as the Company focused on minimizing equipment discounting.
General and administrative costs of cellular operations increased 60%
from $10,505,000 in fiscal year 1993 to $16,768,000 in fiscal year 1994, due to
the growth in the customer base and the
II-4
<PAGE>
number of consolidated markets. The majority of these costs were incremental
customer billing expense, roaming validation services and customer service
support staff. General and administrative costs as a percentage of service
revenues decreased from 36% in fiscal year 1993 to 32% in fiscal year 1994. The
decrease is primarily due to revenues increasing at a faster rate than
incremental general and administrative costs.
Marketing and selling costs increased 86% from $8,465,000 in fiscal
year 1993 to $15,786,000 in fiscal year 1994, primarily as a result of the
number of subscribers added in consolidated markets. The majority of these
costs were incremental sales commissions, advertising costs and incremental
sales staff. Marketing costs per net new subscriber decreased 6% from $606 in
fiscal year 1993 to $568 in fiscal year 1994, as a result of subscriber
additions which outpaced increases in costs incurred.
Depreciation and amortization relating to cellular operations decreased
40% from $17,582,000 in fiscal year 1993 to $10,541,000 in fiscal year 1994,
primarily as a result of the change, effective October 1, 1993, in the Company's
estimate of the useful life of acquired FCC license costs from the remaining
initial ten-year term to 40 years from the date of acquisition. The change is
predicated upon the FCC's establishment of procedures to grant a renewal
expectancy to incumbent cellular licensees virtually assuring that the initial
ten-year term of an FCC license to provide cellular telephone service will be
renewed if a licensee meets broadly defined public service benchmarks. Other
publicly-held cellular telephone companies also treat a cellular license as
economically perpetual. Commencing October 1, 1993, the net book value of
acquired license costs at September 30, 1993 will be amortized over 40 years
less the number of months from the date of the acquisition which gave rise to
such costs. Management believes this treatment complies with accounting
literature given current facts and circumstances and will reevaluate this
estimate as changes in facts and circumstances occur.
During the year ended September 30, 1994, the Company recognized a
$3,116,000 write-down of equipment associated with a program of upgrades to
switching capacity and features, the relocation of certain cell sites to
increase coverage and other nonrecurring events. The program of upgrades to
switching capacity and features will continue into the next fiscal year and will
cause a further write-down of approximately $234,000 when new equipment is
placed into service.
Corporate costs and expenses in fiscal year 1993 were $1,249,000, which
represented gross expenses of $9,491,000 less amounts allocated to
nonconsolidated affiliates of $8,242,000. Corporate costs and expenses in
fiscal year 1994 were $2,516,000, which represented gross expenses of $9,054,000
less amounts allocated to nonconsolidated affiliates of $6,538,000. The
decrease in expenses and amounts allocated to nonconsolidated affiliates
reflects the decrease in the number of nonconsolidated managed markets as
consolidation caused corporate costs and expenses to be reclassified as cellular
costs and expenses.
Equity in net loss of affiliates decreased 20% from $6,339,000 in
fiscal year 1993 to $5,092,000 in fiscal year 1994. The decrease is principally
attributable to decreasing losses in markets being accounted for under the
equity method at September 30, 1994, compared to September 30, 1993, due to the
shift in focus in these markets from construction and initial operation to
increasing penetration and subscriber usage. This shift has caused a consistent
trend of improved operating results.
Interest expense increased 30% from $16,428,000 in fiscal year 1993 to
$21,339,000 in fiscal year 1994. The increase is a result of the issuance in
August 1993 of the Company's 11 3/4% Senior Discount Notes Due 2003. However,
cash paid for interest decreased 37% from $15,455,000 in fiscal year 1993 to
$9,731,000 in fiscal year 1994 as interest accretes during the first five years
of the term of the discount notes.
II-5
<PAGE>
Interest income increased 13% from $10,702,000 in fiscal year 1993 to
$12,081,000 in fiscal year 1994. The modest increase in interest income was the
result of higher note balances owed to the Company by nonconsolidated
affiliates, offset by lower cash and short-term investment balances, declining
interest rates and the consolidation of six additional markets during fiscal
year 1994. Consolidation caused the interest earned on advances to the related
affiliates to be eliminated as an intercompany transaction.
During fiscal year 1994, the Company recognized a permanent write-down
of certain short-term government bond investments of approximately $744,000 due
to market conditions.
During fiscal year 1994, the Company recognized gains on sales of
affiliates of $2,905,000, primarily related to the sale of its limited
partnership interest in MSA 239 (Joplin, MO) during the second quarter of fiscal
1994 ($1,921,000) and a multimarket transaction with Contel Cellular, Inc.
during the third quarter of fiscal 1994 ($841,000). An additional $907,000 gain
was recognized due to the write-off of contingent liabilities related to stock
price guarantees. See "Acquisitions and Sales." During fiscal year 1993, the
Company recognized gains on sales of affiliates of $7,821,000 primarily related
to the multimarket exchanges with U S West NewVector during the second quarter
of fiscal 1993 ($3,812,000) and Pacific Telecom Cellular, Inc. ("PTI") during
the fourth quarter of fiscal 1993 ($4,889,000).
At September 30, 1994, the Company had net operating loss carryforwards
for income tax purposes of $54,725,000, compared to $46,578,000 at September 30,
1993.
FISCAL YEAR 1993 COMPARED WITH FISCAL YEAR 1992. As of September 30,
1993, the Company held interests in 70 RSA markets and 10 MSA markets compared
to 72 RSA markets and 11 MSA markets as of September 30, 1992. All markets in
which the Company held an interest were operational as of such dates.
Cellular service revenues, including roaming revenues, increased 135%
from $12,302,000 in fiscal year 1992 to $28,861,000 in fiscal year 1993. The
growth was due to the increase in the number of subscribers in consolidated
markets. In addition to increases in market penetration, growth resulted from
an increase in the number of markets consolidated during the fiscal year from 28
at September 30, 1992 to 36 at September 30, 1993. Growth in subscribers
accounted for 69% of the increase and the number of consolidated markets
accounted for 31% of the increase.
Average monthly revenue per subscriber decreased 6% from $80 in fiscal
year 1992 to $75 in fiscal year 1993. This decline was consistent with industry
trends and reflects the fact that initial subscribers in a market tend to use
more cellular service than those who subscribe after a system has been in
operation for a period of time.
Cost of cellular service includes four major components: the variable
cost of interconnection to the landline telephone system, the semi-fixed cost of
leasing facilities, the semi-fixed cost related to switching capacity and the
operational overhead cost to maintain and monitor the cellular network, which
tends to be fixed. Cost of service decreased as a percentage of service
revenues from 35% in fiscal year 1992 to 21% in fiscal year 1993.
Cellular equipment revenues increased 85% from $2,605,000 in fiscal
year 1992 to $4,829,000 in fiscal year 1993. The growth was due to the increase
in the number of subscribers added as compared to the number of subscribers
added during the prior fiscal year, which accounted for $1,381,000, or 62%, of
the increase. In addition, growth resulted from an increase in the number of
consolidated markets operated during the year which represented $843,000, or
38%, of the increase. Cost of equipment sales increased 57% from $3,320,000 in
fiscal year 1992 to $5,218,000 in fiscal year 1993. The equipment sales margin
improved in fiscal year 1993, as compared to fiscal year 1992, as the Company
focused on minimizing equipment discounting.
II-6
<PAGE>
General and administrative costs of cellular operations increased 100%
from $5,260,000 in fiscal year 1992 to $10,505,000 in fiscal year 1993, due to
the growth in the customer base and the number of consolidated markets. The
majority of these costs were incremental customer billing expense, roaming
validation services and customer service support staff. General and
administrative costs as a percentage of service revenues decreased from 43% in
fiscal year 1992 to 36% in fiscal year 1993.
Marketing and selling costs increased 62% from $5,236,000 in fiscal
year 1992 to $8,465,000 in fiscal year 1993, primarily as a result of the number
of subscribers added in consolidated markets. The majority of these costs were
incremental sales commissions, advertising costs and incremental sales staff.
Marketing costs per net new subscriber decreased 6% from $647 in fiscal year
1992 to $606 in fiscal year 1993.
Depreciation and amortization relating to cellular operations increased
51% from $11,611,000 in fiscal year 1992 to $17,582,000 in fiscal year 1993,
primarily as a result of amortization of intangible assets related to markets
acquired subsequent to September 30, 1992. The Company amortized intangible
assets related to acquired license rights over the remainder of the initial ten-
year license term which in the case of the majority of additions to license
rights from 1993 acquisitions was less than four years.
Corporate costs and expenses in fiscal year 1992 were $3,501,000, which
represented gross expenses of $12,973,000 less amounts allocated to
nonconsolidated affiliates of $9,472,000. Corporate costs and expenses in
fiscal year 1993 were $1,249,000, which represented gross expenses of $9,491,000
less amounts allocated to nonconsolidated affiliates of $8,242,000. The
decrease in expenses and amounts allocated to nonconsolidated affiliates
reflects the decrease in the number of nonconsolidated managed markets as
consolidation caused corporate costs and expenses to be reclassified as cellular
costs and expenses.
Equity in net loss of affiliates decreased 28% from $8,852,000 in
fiscal year 1992 to $6,339,000 in fiscal year 1993. The decrease is principally
attributable to decreasing losses in markets being accounted for under the
equity method at September 30, 1993, compared to September 30, 1992, due to the
shift in focus in these markets from construction and initial operation to
increasing penetration and subscriber usage which has caused a consistent trend
of improved operating results.
Interest expense increased 11% from $14,801,000 in fiscal year 1992 to
$16,428,000 in fiscal year 1993. The increase was commensurate with increases
in long-term debt.
Interest income increased 1% from $10,616,000 in fiscal year 1992 to
$10,702,000 in fiscal year 1993. The modest increase in interest income was the
result of higher note balances owed to the Company by nonconsolidated
affiliates, offset by lower cash and short-term investment balances, declining
interest rates and the consolidation of eight additional markets during fiscal
year 1993. Consolidation caused the interest earned on advances to the related
affiliates to be eliminated as an intercompany transaction.
During fiscal year 1993, the Company recognized gains on sales of
affiliates of $7,821,000, primarily related to the multimarket exchanges with U
S West NewVector during the second quarter of fiscal 1993 ($3,812,000) and with
PTI during the fourth quarter of fiscal 1993 ($4,889,000). During fiscal year
1992, the Company recognized gains on sales of affiliates of $14,339,000 of
which $8,711,000 was related to the disposition of the Company's interest in the
Colorado Springs, Colorado wireline cellular system during the first quarter of
fiscal 1992, $4,157,000 was related primarily to an exchange of interests with
U S West NewVector during the
II-7
<PAGE>
second quarter of fiscal 1992 and $2,310,000 was related to the disposition of
the Company's interest in one limited partnership during the third quarter of
fiscal year 1992.
At September 30, 1993, the Company had net operating loss carryforwards
for income tax purposes of $46,578,000, compared to $42,202,000 at September 30,
1992.
ACQUISITIONS AND SALES
In December 1993, the Company acquired 100% of the stock of a
corporation which owns and operates the Rapid City, South Dakota MSA market and
owns general partnership interests in two partitioned RSA markets (South Dakota
5 (B2) and South Dakota 6 (B2)) for approximately $10,420,000 in cash plus
property valued at approximately $400,000.
In December 1993, the Company sold its interests in affiliates which
held a 44.44% limited partnership interest in the wireline licensee for RSA 608
(Oregon 3) for approximately $2,076,000 in cash. The sale resulted in a gain of
approximately $630,000.
In December 1993, the Company acquired additional interests in two
affiliated corporations for approximately $139,000.
In February 1994, the Company acquired an additional 51% of the stock
of an affiliate which held a 28.6% limited partnership interest in MSA 239
(Joplin, MO) for 69,051 shares of the Company's common stock, then sold the
limited partnership interest for $4,494,000 in cash. The sale resulted in a
gain of approximately $1,921,000.
In March 1994, the Company acquired an additional interest in an
affiliated corporation for 2,732 shares of the Company's common stock.
In April 1994, the Company acquired three affiliated corporations which
hold limited partnership interests in Utah RSA markets for 80,145 shares of the
Company's common stock.
In May 1994, the Company sold its interest in an affiliate which held a
8.125% limited partnership interest in three nonmanaged RSA markets for
approximately $2,468,000 in cash. The sale resulted in a gain of approximately
$841,000. Contemporaneously, the Company acquired additional limited
partnership interests in four managed RSA markets for approximately $373,000.
In July 1994, the Company acquired an additional interest in an
affiliated corporation for approximately $199,000 in cash.
In August 1994, the Company acquired an aggregate of 3.07% of the stock
of a corporation which operates cellular systems throughout Kansas from two
unrelated corporations for approximately $3,000,000 in cash.
Subsequent to September 30, 1994, the Company acquired an additional
interest in an affiliated corporation for $1,600,000 in cash. Pursuant to the
terms of a shareholder's agreement, the Company has offered to (i) sell the
interest to the other shareholders on a pro rata basis and (ii) buy the
interests of such shareholders at the same price per share.
The Company has also entered into agreements to acquire the interests
of one or more independent telephone companies in 10 entities which are
affiliates of the Company for an aggregate purchase price of approximately
$3,440,000 payable by the issuance of shares of the Company's Common Stock. In
addition, the Company has entered into agreements to acquire additional limited
partnership interests in two managed RSA markets for approximately $1,233,000
payable in cash.
II-8
<PAGE>
In addition, the Company has initiated discussions regarding possible
acquisition of markets or interests in Iowa, North Dakota, Kansas, Nebraska and
Wyoming. Such acquisitions will be pursued to the extent they enhance or extend
the Company's network, but there can be no assurance that any such acquisition
will be consummated. The Company's goal is to double its pops during fiscal
1995.
CHANGES IN FINANCIAL CONDITION
FISCAL YEAR 1994. Net cash used by operating activities was $7,170,000
during the year ended September 30, 1994. The rapid increase in subscribers and
revenues caused an increase of $2,912,000 in accounts receivable and an increase
of $4,363,000 in inventory and other current assets. Working capital increases
will likely require cash in future periods as growth in the subscriber base
continues.
Net cash used by investing activities was $49,864,000 for the year
ended September 30, 1994. This was due primarily to $31,455,000 of cash
required to fund the purchase of property and equipment related to the Company's
expansion efforts, including $6,789,000 related to nonconsolidated affiliates
reflected as additions to investments in and advances to affiliates. In
addition, the Company acquired the Rapid City MSA and interests in other managed
markets using $13,992,000, and sold nonmanaged interests providing cash of
$9,037,000.
Net cash provided by financing activities was $13,455,000 for the year
ended September 30, 1994. These proceeds include $11,149,000 of incremental
secured bank financing and $1,479,000 of cash from the issuance of Common Stock
upon exercise of options.
FISCAL YEAR 1993. Net cash used by operating activities was
$18,579,000 during the year ended September 30, 1993. The rapid increase in
subscribers and revenues caused an increase of $3,721,000 in accounts receivable
and an increase of $789,000 in inventory and other current assets. Working
capital increases will likely require cash in future periods as growth in the
subscriber base continues.
Net cash used by investing activities was $29,831,000 for the year
ended September 30, 1993. This was due primarily to $7,547,000 of cash required
to fund the purchase of property and equipment related to the Company's
expansion efforts, including $9,274,000 related to nonconsolidated affiliates
reflected as additions to investments in and advances to affiliates. In
addition, the Company acquired interests in other managed markets using
$12,082,000, and sold nonmanaged interests providing cash of $7,334,000.
Net cash provided by financing activities was $69,535,000 for the year
ended September 30, 1993. These proceeds include $100,000,000 from the issuance
of senior discount notes, and $4,950,000 of cash from the issuance of
convertible subordinated debentures. In addition, the Company paid down a net
of $35,629,000 of secured bank financing.
LIQUIDITY AND CAPITAL RESOURCES
The Company's capital requirements consist primarily of its obligations
to fund capital and operating requirements of its affiliates and interest
payments on the Company's indebtedness. The Company historically has met these
requirements through sales of debt and equity securities and through bank and
vendor financing.
CIFC has entered into loan agreements ("Credit Agreements") pursuant to
which CoBank has agreed to loan up to $130,000,000 to CIFC to be reloaned by
CIFC to affiliates of the Company for the construction, operation and expansion
of cellular telephone systems and to the Company for
II-9
<PAGE>
the construction and expansion of switches. As of September 30, 1994, the
outstanding balance under the Credit Agreements was $51,343,000. The Credit
Agreements provide for interest at 1% over prime on variable-rate loans or 2.25%
over the London Interbank Offered Rate ("LIBOR") on fixed-rate loans. The loans
are secured by a first lien upon all of the assets of CIFC and each of the
affiliates to which funds are advanced by CIFC. In addition, the Company has
guaranteed the obligations of CIFC to CoBank and has granted CoBank a first lien
on all of the assets of the Company as security for such guaranty.
In accordance with the Company's desire to minimize interest rate
fluctuations and to improve the predictability of costs incurred throughout its
growth stage, CIFC has exercised options to fix interest rates on approximately
$35,090,000 of its long-term debt payable to CoBank. Rates were fixed between
10.8% and 10.9% for five-year periods terminating in 1996.
The Credit Agreements prohibit the payment of cash dividends, prohibit
any other senior borrowings, limit the use of borrowings, restrict expenditures
for certain acquisitions and investments, require the maintenance of certain
minimum levels of net worth, working capital, cash and operating cash flow and
require the maintenance of certain liquidity, capitalization, debt, debt service
and operating cash flow ratios. The requirements of the Credit Agreements were
established in relation to the anticipated capital and financing needs of the
Company's affiliates and their anticipated results of operations. The Company
is currently in compliance with all covenants and anticipates it will continue
to meet the requirements of the Credit Agreements. CoBank has sold
participations in the Credit Agreements to two other financial institutions
whose approval may be required for waivers or other amendments to the Credit
Agreements requested by CIFC or the Company.
The Company plans to continue to construct additional cell sites over
the next 12 months to expand cellular coverage within its managed markets. The
additional coverage will increase the Company's covered pops to approximately
90% of the total population of the managed markets and will increase the covered
highway miles to approximately 16,000. Based on the current operating plan, the
Company believes its estimated future operating cash flow as well as existing
cash balances, short-term investments and unused commitments under the Credit
Agreements will be sufficient to meet estimated future capital requirements,
including construction of additional cell sites.
As of September 30, 1994, the Company had funding sources of
approximately $101,937,000 which consisted of cash, cash equivalents and short-
term investments of $23,280,000 and unused commitments under the Credit
Agreements of $78,657,000.
Certain financial analysts consider operating loss before depreciation
and amortization ("EBITDA") an indicator of an entity's ability to meet long-
term financial obligations as they become due and also of the underlying value
of the entity. EBITDA is a measure of operating performance that does not
reflect equity in net income or loss of affiliates, minority interest, interest
income, interest expense or deferred charges relating to debt financing, working
capital fluctuations or other items involving operating cash or adjustments to
reconcile net income or loss to net cash provided or used by operating
activities. It should not be considered in isolation to, or be construed as
having greater significance than, net cash provided or used by operating
activities or other indicators of an entity's performance. For the year ended
September 30, 1994, EBITDA was $6,982,000 compared to $4,520,000 for the year
ended September 30, 1993. For the year ended September 30, 1994, operating loss
was $5,689,000 compared to a loss of $15,481,000 for the year ended September
30, 1993. The Company expects EBITDA to be positive for the fiscal year 1995
based on current Company trends in subscriber revenues and expense growth. A
continuation of these trends would be consistent with the historical operating
performance of more established industry operators, particularly larger MSA
operators with longer operating histories. However, there can be no assurance
that these trends will continue and will result in sufficient operating cash
flow to meet
II-10
<PAGE>
debt service and capital expenditure requirements. If such trends do not
continue, the Company will have to raise funds through other means, including
refinancing or securities offerings, or reduced capital expenditures.
Supplemental Information:
SELECTED COMBINED AND PROPORTIONATE OPERATING
RESULTS OF CELLULAR LICENSEES
The following table presents operating data for all cellular licensees
in which the Company holds an interest. The "Combined," "Financed
Proportionate" and "Company Proportionate" operating results, which are not
included in the Company's consolidated financial statements, are provided to
assist in understanding the results of the licensees in which the Company holds
an interest. Generally accepted accounting principles ("GAAP") prescribe
inclusion of revenues and expenses for consolidated interests (generally
involving interests of more than 50%), but not for equity interests (generally
involving interests of 20% to 50%) or cost interests (generally involving
interests of less than 20%). Equity accounting results in the same net income
as consolidation, however the net operating results are reflected on one line.
In contrast, in a GAAP operating statement the equity in net income or loss of
an interest accounted for under the equity method is presented below operating
income and any operating activity related to interests accounted for under the
cost method are not reflected at all.
The amounts included in the respective columns are as follows:
Combined - Includes 100% of the operating activity of all licensees,
regardless of the Company's ownership interest. This is essentially
equivalent to consolidating all licensees regardless of ownership
percentage.
Financed Proportionate - Includes only that percentage of a licensee's
operating results which equals the Company's ownership interest as well
as the ownership interest held by affiliates of the Company that are
financed by CIFC.
Company Proportionate - Includes only that percentage of a licensee's
operating results which corresponds to the Company's ownership
interest. This is essentially equivalent to a pro rata consolidation.
II-11
<PAGE>
<TABLE>
<CAPTION>
Years Ended September 30,
------------------------------------------------------------------------------------------
1994 1993 1994 1993 1994 1993
------------------------------ ---------------------------- ----------------------------
Combined Financed Proportionate Company Proportionate
------------------------------ ---------------------------- ----------------------------
<S> <C> <C> <C> <C> <C> <C>
Managed Markets (1)
Revenues:
Cellular service $ 46,628,193 $ 29,635,917 $ 42,682,463 $ 26,374,172 $ 32,766,412 $ 19,454,354
Roaming 21,724,739 14,357,892 19,845,947 12,813,518 14,881,347 9,249,813
Equipment sales 5,082,082 5,830,780 4,661,880 5,124,328 3,501,916 3,611,838
------------ ------------ ------------ ------------ ------------ ------------
Total revenues 73,435,014 49,824,589 67,190,290 44,312,018 51,149,675 32,316,005
Expenses:
Cost of sales:
Cellular service
(including
roaming) 11,871,044 10,082,848 11,077,524 9,152,718 8,015,495 6,843,566
Equipment sales 5,330,514 6,393,571 4,879,149 5,601,091 3,665,013 3,938,476
General and
administrative 21,777,015 16,953,198 20,026,263 15,116,346 15,189,078 11,158,734
Marketing and selling 20,160,573 13,198,287 18,447,497 11,707,982 14,078,272 8,471,407
Depreciation and
amortization 11,644,595 9,929,373 10,751,809 8,828,162 8,052,904 5,302,061
Write down of cellular
system equipment 3,096,100 - 2,820,163 - 2,513,136 -
------------ ------------ ------------ ------------ ------------ ------------
Total costs and
expenses 73,879,841 56,557,277 68,002,405 50,406,299 51,513,898 35,714,244
------------ ------------ ------------ ------------ ------------ ------------
Loss from operations (444,827) (6,732,688) (812,115) (6,094,281) (364,223) (3,398,239)
Interest expense (net) (9,872,126) (6,825,197) (9,614,192) (6,529,744) (6,997,829) (4,394,170)
------------ ------------ ------------ ------------ ------------ ------------
Net loss $(10,316,953) $(13,557,885) $(10,426,307) $(12,624,025) $ (7,362,052) $ (7,792,409)
------------ ------------ ------------ ------------ ------------ ------------
------------ ------------ ------------ ------------ ------------ ------------
Capital expenditures $ 38,590,797 $ 14,663,546 $ 37,990,560 $ 14,198,732 $ 30,777,363 $ 11,372,540
Subscriber count 99,002 63,500 90,163 56,524 68,378 41,126
Total markets 55 51 55 51 55 51
<FN>
(1) 1993 Managed Markets include results and statistics related to the Eau
Claire, WI (232) MSA and exclude results and statistics related to the
Montana B1 (523) RSA, which were sold and purchased, respectively, in
August 1993. The Company continued to manage the Eau Claire MSA through
September 30, 1993, and had not yet commenced management of the Montana B1
RSA as of that date. Had 1993 Managed Markets included Montana B1 and
excluded Eau Claire, combined subscriber count would have been 60,381.
</TABLE>
II-12
<PAGE>
<TABLE>
<CAPTION>
Years Ended September 30,
------------------------------------------------------------------------------------------------
1994 1993 1994 1993 1994 1993
---------------------------- ----------------------------- -----------------------------------
Combined Financed Proportionate Company Proportionate
---------------------------- ----------------------------- -----------------------------------
<S> <C> <C> <C> <C> <C> <C>
Nonmanaged Markets (1)
Revenues:
Cellular service
(including roaming) $51,913,569 $46,250,589 $15,063,941 $13,162,799 $ 7,557,907 $ 6,645,574
Equipment sales 3,129,756 2,603,860 933,368 748,607 493,465 384,230
------------ ------------ ------------ ------------ ------------ ------------
Total revenues 55,043,325 48,854,449 15,997,309 13,911,406 8,051,372 7,029,804
Expenses:
Cost of sales:
Cellular service 17,184,198 14,715,247 5,121,737 4,537,081 2,509,440 2,180,221
Equipment sales 1,865,154 3,226,711 660,441 956,915 340,680 484,417
General and
administrative 13,007,116 11,548,977 3,914,072 3,517,485 2,030,094 1,794,766
Marketing and selling 13,203,205 9,972,847 3,814,477 2,828,569 1,875,793 1,382,380
Depreciation and
amortization 5,589,516 5,717,644 1,771,347 1,729,420 923,921 911,085
------------ ------------ ------------ ------------ ------------ ------------
Total costs and
expenses 50,849,189 45,181,426 15,282,074 13,569,470 7,679,928 6,752,869
------------ ------------ ------------ ------------ ------------ ------------
Income (Loss) from
operations 4,194,136 3,673,023 715,235 341,936 371,444 276,935
Interest expense (net) (744,269) (744,485) (268,876) (234,457) (139,768) (100,382)
------------ ------------ ------------ ------------ ------------ ------------
Net income (loss) $ 3,449,867 $ 2,928,538 $ 446,359 $ 107,479 $ 231,676 $ 176,553
------------ ------------ ------------ ------------ ------------ ------------
------------ ------------ ------------ ------------ ------------ ------------
Capital expenditures $ 18,343,851 $ 9,368,475 $ 5,605,325 $ 2,860,677 $ 2,753,255 $ 1,348,543
Subscriber count 78,984 49,786 22,845 14,695 11,198 7,579
Total markets 40 30 40 30 40 30
Reconciliation From Company
Proportionate to
Consolidated Reporting
Total proportionate loss
(managed and non-
managed markets) $ (7,130,376) $ (7,615,856)
Equity in nonlicensee
affiliates (4,361,848) (3,892,280)
Minority interests (1,310,177) (1,897,072)
Intercompany interest 5,021,225 3,317,736
Amortization of license
costs not owned by
affiliates (1,892,465) (11,038,663)
Unallocated corporate
expenses (2,516,017) (678,927)
Gains on sales of
affiliates 3,811,943 7,821,424
Interest expense (net)
and other (8,373,437) (8,682,574)
------------ ------------
Consolidated net loss $(16,751,152) $(22,666,212)
------------ ------------
------------ ------------
<FN>
(1) Includes the operations and subscribers of the Portland, Maine MSA market.
The license held by the Company's affiliated partnership has been vacated.
Subsequent to September 30, 1994, the Company will no longer recognize an
interest in this market. See "Legal Proceedings."
</TABLE>
II-13
<PAGE>
Item 8. Financial Statements and Supplementary Data.
The consolidated financial statements of the Company are filed under
this item, beginning on page II-15. The consolidated financial statement
schedules required under Regulation S-X are filed pursuant to Item 14 of this
report.
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure.
None.
II-14
<PAGE>
REPORT OF INDEPENDENT AUDITORS
The Board of Directors and Shareholders
CommNet Cellular Inc.
We have audited the accompanying consolidated balance sheets of CommNet Cellular
Inc. (formerly Cellular, Inc.) as of September 30, 1994 and 1993, and the
related consolidated statements of operations, stockholders' equity (deficit),
and cash flows for each of the three years in the period ended September 30,
1994. Our audits also included the financial statement schedules listed in the
Index at Item 14 (a). These financial statements and schedules are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements and schedules 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 listed in the accompanying
index to financial statements (Item 14 (a)) present fairly, in all material
respects, the consolidated financial position of CommNet Cellular Inc. at
September 30, 1994 and 1993, and the consolidated results of its operations and
its cash flows for each of the three years in the period ended September 30,
1994, in conformity with generally accepted accounting principles. Also, in our
opinion, the related financial statement schedules, when considered in relation
to the basic financial statements taken as a whole, present fairly in all
material respects the information set forth therein.
As discussed in Note 1 to the financial statements, in the fiscal year ended
September 30, 1994, the Company changed its methods of accounting for income
taxes and short-term investments.
ERNST & YOUNG LLP
Denver, Colorado
December 2, 1994
II-15
<PAGE>
COMMNET CELLULAR INC.
CONSOLIDATED BALANCE SHEETS
September 30, 1994 and 1993
<TABLE>
<CAPTION>
ASSETS (Note 5) 1994 1993
- ------ ---- ----
<S> <C> <C>
Current assets:
Cash and cash equivalents $ 2,081,591 $ 45,660,761
Available-for-sale securities (Note 3) 21,198,698 21,092,859
Accounts receivable, net of allowance for doubtful
accounts of $2,677,124 and $1,384,181 in
1994 and 1993, respectively 12,706,452 9,397,055
Inventory and other 7,316,770 2,945,485
------------ ------------
Total current assets 43,303,511 79,096,160
Investment in and advances to affiliates (Notes 2 and 4) 61,908,761 55,892,372
Investment in cellular system equipment 9,732,075 4,366,362
Property and equipment, at cost (Note 7):
Cellular system equipment 79,215,294 53,976,077
Land, buildings and improvements 17,361,917 11,377,969
Furniture and equipment 14,796,494 10,463,838
------------ ------------
111,373,705 75,817,884
Less accumulated depreciation 31,455,978 22,357,588
------------ ------------
Net property and equipment 79,917,727 53,460,296
Other assets, less accumulated amortization of
$25,979,913 and $24,361,752 in 1994 and
1993, respectively:
FCC licenses and filing rights (Note 2) 80,458,461 68,174,551
Deferred loan costs and other 6,432,286 8,300,444
------------ ------------
Total other assets 86,890,747 76,474,995
------------ ------------
$281,752,821 $269,290,185
------------ ------------
------------ ------------
</TABLE>
See accompanying notes
II-16
<PAGE>
COMMNET CELLULAR INC.
CONSOLIDATED BALANCE SHEETS (continued)
September 30, 1994 and 1993
<TABLE>
<CAPTION>
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT) 1994 1993
---- ----
<S> <C> <C>
Current liabilities:
Accounts payable $ 10,327,933 $ 5,791,135
Accrued liabilities 3,441,149 4,401,151
Accrued interest 2,331,034 4,031,780
Current portion of long-term debt 1,090,870 1,071,330
Obligation under capital leases due within one year 588,025 240,173
------------ ------------
Total current liabilities 17,779,011 15,535,569
Long-term debt:
Secured bank financing (Note 5) 50,448,361 39,318,703
Obligation under capital leases due after one year
(Note 7) 785,082 306,127
11 3/4% senior subordinated discount notes (Note 6) 112,979,725 100,846,570
Convertible subordinated debentures (Note 6) 79,700,000 117,572,181
Obligations under purchase agreements - 1,632,643
Minority interests 4,154,175 3,500,163
Commitments (Note 8)
Stockholders' equity (deficit)
(Notes 2, 3, 5, 6, 10, 11 and 12):
Preferred Stock, $.01 par value; 1,000,000 shares
authorized; no shares issued - -
Common Stock, $.001 par value; 40,000,000 shares
authorized; 11,739,108 and 8,911,579 shares issued
at September 30, 1994 and 1993, respectively 11,739 8,911
Capital in excess of par value 117,146,376 74,619,503
Unrealized losses on available-for-sale securities (450,311) -
Accumulated deficit (100,801,337) (84,050,185)
------------ ------------
Total stockholders' equity (deficit) 15,906,467 (9,421,771)
------------ ------------
$281,752,821 $269,290,185
------------ ------------
------------ ------------
</TABLE>
See accompanying notes.
II-17
<PAGE>
COMMNET CELLULAR INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
Years ended September 30, 1994, 1993 and 1992
<TABLE>
<CAPTION>
1994 1993 1992
---- ---- ----
<S> <C> <C> <C>
Revenues:
Cellular service $ 52,586,139 $ 28,860,530 $ 12,301,564
Equipment sales 8,773,912 4,828,781 2,604,785
------------ ------------ ------------
61,360,051 33,689,311 14,906,349
Costs and expenses:
Cellular operations:
Cost of cellular service 9,467,025 6,100,229 4,322,152
Cost of equipment sales 8,834,865 5,218,012 3,319,903
General and administrative 16,767,717 10,505,106 5,260,148
Marketing and selling 15,786,030 8,465,287 5,236,329
Depreciation and amortization 10,541,476 17,581,946 11,611,460
Write-down of property and equipment 2,864,589 - -
Corporate:
General and administrative 6,944,193 7,122,454 10,469,437
Depreciation and amortization 2,109,379 2,368,562 2,503,357
Write-down of property and equipment 251,667 - -
Less amounts allocated to
nonconsolidated affiliates (6,537,555) (8,241,752) (9,472,280)
------------ ------------ ------------
67,029,386 49,119,844 33,250,506
------------ ------------ ------------
Operating loss (5,669,335) (15,430,533) (18,344,157)
Equity in net loss of affiliates (Note 4) (5,092,484) (6,339,145) (8,851,753)
Minority interest in net income of
consolidated affiliates (543,607) - -
Gains on sales of affiliates and other (Note 2) 3,811,943 7,821,424 14,339,063
Interest expense (21,338,505) (16,427,796) (14,800,908)
Interest income (Note 4) 12,080,836 10,701,511 10,616,024
------------ ------------ ------------
Loss before extraordinary charge (16,751,152) (19,674,539) (17,041,731)
Extraordinary charge related to early
extinguishment of secured bank
financing (Note 5) - (2,991,673) -
------------ ------------ ------------
Net loss $(16,751,152) $(22,666,212) $(17,041,731)
------------ ------------ ------------
------------ ------------ ------------
Loss per common share:
Loss before extraordinary charge $ (1.45) $ (2.30) $ (2.44)
Extraordinary charge - (.35) -
------------ ------------ ------------
Net loss per common share $ (1.45) $ (2.65) $ (2.44)
------------ ------------ ------------
------------ ------------ ------------
Weighted average shares outstanding 11,577,191 8,551,785 6,984,541
------------ ------------ ------------
------------ ------------ ------------
</TABLE>
See accompanying notes.
II-18
<PAGE>
COMMNET CELLULAR INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)
Years ended September 30, 1992, 1993 and 1994
<TABLE>
<CAPTION>
Capital in
Common Stock Excess of Unrealized Accumulated
Shares Amount Par Value Gains (Losses) Deficit
------------------------- ----------- -------------- ------------
<S> <C> <C> <C> <C> <C>
Balance at
September 30, 1991 4,801,610 $4,802 $22,249,717 $ - $(44,342,242)
Exercise of options 54,375 54 534,321 - -
Issuance of Common
Stock - public
offering (Note 12) 2,875,000 2,875 37,256,375 - -
Offering costs - - (656,155) - -
Issuance of Common
Stock - acquisitions
(Note 2) 559,009 559 5,967,011 - -
Issuance of Common
Stock - ESOP
(Note 11) 21,798 22 264,280 - -
Net loss - - - - (17,041,731)
---------- ------- ------------ ------------- -------------
Balance at
September 30, 1992 8,311,792 8,312 65,615,549 - (61,383,973)
Exercise of options 35,000 35 636,077 - -
Issuance of Common
Stock - acquisitions
(Note 2) 405,226 405 5,942,965 - -
Issuance of Common
Stock - ESOP
(Note 11) 17,232 17 297,235 - -
Debenture conversion 142,329 142 2,127,677 - -
Net loss - - - - (22,666,212)
---------- ------- ------------ ------------- -------------
Balance at
September 30, 1993 8,911,579 8,911 74,619,503 - (84,050,185)
Exercise of options 121,250 122 1,478,587 - -
Issuance of Common
Stock - acquisitions
(Note 2) 156,132 156 2,761,396 - -
Issuance of Common
Stock - ESOP
(Note 11) 20,953 21 477,969 - -
Debenture conversion 2,529,194 2,529 37,808,921 - -
Unrealized losses - - - (450,311) -
Net loss - - - - (16,751,152)
---------- ------- ------------ ------------- -------------
Balance at
September 30, 1994 11,739,108 $11,739 $117,146,376 $ (450,311) $(100,801,337)
---------- ------- ------------ ------------- -------------
---------- ------- ------------ ------------- -------------
</TABLE>
See accompanying notes.
II-19
<PAGE>
COMMNET CELLULAR INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years ended September 30, 1994, 1993 and 1992
<TABLE>
<CAPTION>
1994 1993 1992
---- ---- ----
<S> <C> <C> <C>
Operating activities:
Net loss $(16,751,152) $(22,666,212) $(17,041,731)
Adjustments to reconcile net loss
to net cash used by operating
activities:
Minority interest 543,607 - -
Compensation expense related
to ESOP and option grants 477,990 554,648 264,302
Depreciation and amortization 12,650,855 19,950,508 14,114,817
Equity in net loss of affiliates 5,092,484 6,339,145 8,851,753
Gains on sales of affiliates and other (3,811,943) (7,821,424) (14,339,063)
Interest expense on 11 3/4%
senior discount notes 12,133,155 846,205 -
CoBank patronage income (814,837) (719,005) (329,002)
Accrued interest on advances to
affiliates (11,380,231) (9,542,484) (9,151,074)
Write-down of property and equipment 3,116,256 - -
Write-down of short-term
investments 743,511 - -
Change in operating assets and liabilities,
net of effects from consolidating acquired
interests (Note 2):
Accounts receivable (2,912,318) (3,721,023) 235,471
Inventory and other (4,363,083) (789,336) 46,673
Accounts payable and
accrued liabilities (1,230,322) 2,368,345 (2,136,240)
Accrued interest (663,529) 126,982 577,287
Offering costs related to issuance of
senior discount notes - (3,260,396) -
Offering cost related to issuance of
convertible subordinated debentures - (245,000) -
----------- ----------- -----------
Net cash used by operating activities (7,169,557) (18,579,047) (18,906,807)
</TABLE>
See accompanying notes.
II-20
<PAGE>
COMMNET CELLULAR INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS (continued)
Years ended September 30, 1994, 1993 and 1992
<TABLE>
<CAPTION>
1994 1993 1992
---- ---- ----
<S> <C> <C> <C>
Investing activities:
Purchases of available-for-sale
securities $(16,788,067) $(28,994,122) $(40,466,570)
Sales of available-for-sale
securities 15,488,406 21,692,323 37,853,347
Additions to investments in and
advances to affiliates (6,789,273) (9,274,470) (9,544,385)
Reductions in (additions to)
investment in cellular system
equipment (5,365,713) 98,370 126,873
Additions to property and equipment (31,455,008) (7,547,311) (7,512,126)
Disposals of (additions to) other assets - (1,057,834) -
Proceeds from sales of interests in
affiliates (Note 2) 9,037,328 7,334,198 4,642,920
Purchase of interests in affiliates, net
of cash acquired and net of assets
and liabilities recorded due to
consolidation (Note 2) (13,992,000) (12,082,316) (6,276,406)
----------- ----------- -----------
Net cash used by investing activities (49,864,327) (29,831,162) (21,176,347)
</TABLE>
See accompanying notes.
II-21
<PAGE>
COMMNET CELLULAR INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS (continued)
Years ended September 30, 1994, 1993 and 1992
<TABLE>
<CAPTION>
1994 1993 1992
---- ---- ----
<S> <C> <C> <C>
Financing activities:
Proceeds from secured bank financing $ 13,779,086 $ 38,566,144 $ 9,612,445
Payments of secured bank financing (2,629,888) (74,195,558) (2,342,770)
Additions (reductions) of obligation
under capital leases 826,807 (163,989) (301,603)
Proceeds from issuance of senior
discount notes - 100,000,000 -
Issuance of convertible subordinated
debentures - 4,950,000 -
Issuance of Common Stock, net of
offering costs 1,478,709 378,716 37,401,772
----------- ----------- -----------
Net cash provided by financing
activities 13,454,714 69,535,313 44,369,844
----------- ----------- -----------
Net increase (decrease) in cash and
cash equivalents (43,579,170) 21,125,104 4,286,690
Cash and cash equivalents at beginning
of year 45,660,761 24,535,657 20,248,967
----------- ----------- -----------
Cash and cash equivalents at end of year $ 2,081,591 $45,660,761 $24,535,657
----------- ----------- -----------
----------- ----------- -----------
</TABLE>
See accompanying notes.
II-22
<PAGE>
COMMNET CELLULAR INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS (continued)
Years ended September 30, 1994, 1993 and 1992
Supplemental schedule of additional cash flow information and noncash
activities:
<TABLE>
<CAPTION>
1994 1993 1992
---- ---- ----
<S> <C> <C> <C>
Cash paid during the year for interest $ 9,731,301 $ 15,454,609 $ 14,223,623
Purchase of cellular system equipment
through accounts payable 4,112,406 1,158,791 1,633,069
Purchase of cellular system equipment
through vendor long-term debt - - 988,465
Impact on investments and advances to
affiliates from minority interest recorded
due to reorganization of eight Nebraska
affiliates, six of which were accounted for
under the equity method, into one
consolidated Nebraska affiliate - 1,839,571 -
Purchases of interests in affiliates by
issuance of Common Stock 2,761,552 6,532,467 7,011,116
Addition to deferred loan costs
related to convertible subordinated
debentures and senior discount notes - 3,505,761 -
Conversion of convertible subordinated
debentures to Common Stock 37,811,450 2,127,819 -
</TABLE>
See accompanying notes.
II-23
<PAGE>
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Organization and basis of presentation
CommNet Cellular Inc. (formerly Cellular, Inc.) and its majority-owned
affiliates (the "Company") operates, manages and finances cellular telephone
systems principally in the mountain and plains regions of the United States.
Cellular telephone systems are capable of providing a wide variety of
telecommunication services including high quality wireless local and long-
distance telephone service within a specified market area through mobile,
portable or fixed telephone equipment.
The Federal Communications Commission ("FCC") initially granted only
two licenses in each cellular market area, one to a telephone company with an
exchange presence in the area ("wireline" license), and one to an entity other
than a telephone company ("nonwireline" license).
The Company initially acquired its cellular interests by participating
in the wireline licensing process conducted by the FCC. In order to participate
in that process, the Company formed affiliates which were originally owned at
least 51% by one or more independent telephone companies and no more than 49% by
the Company. In addition to obtaining interests in cellular markets through
participation in the FCC licensing process, the Company also has purchased
direct interests in additional markets in order to expand the network.
All affiliate investments in which the Company has greater than a 50%
interest are consolidated. All affiliate investments in which the Company has a
50% or less but 20% or greater interest are accounted for under the equity
method. All affiliate investments in which the Company has less than a 20%
interest are accounted for under the cost method.
The Company and its affiliates participated in the following markets as
of September 30, 1994:
<TABLE>
<CAPTION>
Company Affiliate(s)
MSA or Interest in Interest in
RSA Code (1) State Affiliate(s) (2) Licensee (3)
------------ --------------------- ---------------- ------------
<S> <C> <C> <C>
MSAs: 141 Minnesota 49.00% 16.34% LP
152 Maine (4) 33.33% 33.33% LP
185 Indiana 100.00% 16.67% LP
241 Colorado 73.99% 100.00% GP
253 Iowa 74.50% 100.00% GP
267 South Dakota 100.00% 51.00% GP
268 Montana 49.00% 90.00% GP
279 Maine 33.33% 33.33% GP
289 South Dakota 100.00% 100.00% GP
297 Montana 100.00% 100.00% GP
298 North Dakota 100.00% 70.00% GP
</TABLE>
II-24
<PAGE>
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
Organization and basis of presentation (continued)
<TABLE>
<CAPTION>
Company Affiliate(s)
MSA or Interest in Interest in
RSA Code (1) State Affiliate(s) (2) Licensee (3)
------------ --------------------- ---------------- ------------
<S> <C> <C> <C>
RSAs: 348 Colorado 10.00% 100.00% GP
349 Colorado 58.60% 100.00% GP
351 Colorado 61.75% 100.00% GP
352 Colorado 66.00% 100.00% GP
353 Colorado 100.00% 75.00% GP
354 Colorado 61.75% 80.00% GP
355 Colorado 49.00% 100.00% GP
356 Colorado 49.00% 100.00% GP
389 Idaho 49.00% 50.00% LP
390 Idaho 49.00% 33.33% LP
392 Idaho (B1) 100.00% 100.00% LP
393 Idaho 91.64% 100.00% GP
415 Iowa 49.00% 20.64% LP
416 Iowa 49.00% 78.57% LP
417 Iowa 100.00% 100.00% GP
419 Iowa 49.00% 91.67% GP
420 Iowa 100.00% 100.00% GP
424 Iowa 49.00% 30.00% LP
425 Iowa 49.00% 27.11% LP
426 Iowa 52.65% 93.33% GP
427 Iowa 53.64% 91.66% GP
428 Kansas 100.00% 3.07% LP
429 Kansas 100.00% 3.07% LP
430 Kansas 100.00% 3.07% LP
431 Kansas 100.00% 3.07% LP
432 Kansas 100.00% 3.07% LP
433 Kansas 100.00% 3.07% LP
434 Kansas 100.00% 3.07% LP
435 Kansas 100.00% 3.07% LP
436 Kansas 100.00% 3.07% LP
437 Kansas 100.00% 3.07% LP
438 Kansas 100.00% 3.07% LP
439 Kansas 100.00% 3.07% LP
440 Kansas 100.00% 3.07% LP
441 Kansas 100.00% 3.07% LP
442 Kansas 100.00% 3.07% LP
512 Missouri (B1) 49.00% 30.00% LP
523 Montana (B1) 49.00% 100.00% GP
523 Montana (B2) 100.00% 98.11% GP
</TABLE>
II-25
<PAGE>
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
Organization and basis of presentation (continued)
<TABLE>
<CAPTION>
Company Affiliate(s)
MSA or Interest in Interest in
RSA Code (1) State Affiliate(s) (2) Licensee (3)
------------ --------------------- ---------------- ------------
<S> <C> <C> <C>
524 Montana 61.75% 100.00% GP
525 Montana 59.20% 100.00% GP
526 Montana 59.20% 100.00% GP
527 Montana 61.75% 100.00% GP
528 Montana 61.75% 100.00% GP
529 Montana 61.75% 100.00% GP
530 Montana 61.75% 100.00% GP
531 Montana 61.75% 100.00% GP
532 Montana 61.75% 100.00% GP
533 Nebraska 51.27% 25.52% LP
534 Nebraska 51.27% 25.52% LP
535 Nebraska 51.27% 25.52% LP
536 Nebraska 51.27% 25.52% LP
537 Nebraska 51.27% 25.52% LP
538 Nebraska 51.27% 25.52% LP
539 Nebraska 51.27% 25.52% LP
540 Nebraska 51.27% 25.52% LP
541 Nebraska 51.27% 25.52% LP
542 Nebraska 51.27% 25.52% LP
553 New Mexico 49.00% 33.33% LP
555 New Mexico 49.00% 25.00% LP
557 New Mexico 49.00% 33.33% LP
580 North Dakota 52.14% 100.00% GP
581 North Dakota 49.00% 100.00% GP
582 North Dakota 49.00% 84.59% LP
583 North Dakota 46.96% 100.00% GP
584 North Dakota 61.75% 100.00% GP
611 Oregon 100.00% 25.00% LP(5)
634 South Dakota 61.75% 100.00% GP
635 South Dakota 56.29% 100.00% GP
636 South Dakota 57.50% 100.00% GP
638 South Dakota(B1) 82.99% 100.00% GP
638 South Dakota(B2) 82.99% 100.00% GP
639 South Dakota(B1) 60.66% 100.00% GP
639 South Dakota(B2) 60.66% 100.00% GP
640 South Dakota 64.49% 100.00% GP
641 South Dakota 61.13% 100.00% GP
642 South Dakota 49.00% 100.00% GP
675 Utah 100.00% 100.00% GP
676 Utah 100.00% 100.00% GP
</TABLE>
II-26
<PAGE>
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
Organization and basis of presentation (continued)
<TABLE>
<CAPTION>
Company Affiliate(s)
MSA or Interest in Interest in
RSA Code (1) State Affiliate(s) (2) Licensee (3)
------------ --------------------- ---------------- ------------
<S> <C> <C> <C>
677 Utah (B3) 74.50% 100.00% GP
678 Utah 100.00% 80.00% GP
718 Wyoming 66.00% 100.00% GP
719 Wyoming 83.00% 100.00% GP
720 Wyoming 100.00% 100.00% GP
<FN>
(1) Metropolitan Statistical Area ("MSA") ranking is based on
population as established by the FCC. Rural Service Area ("RSAs")
have been numbered by the FCC alphabetically by state.
(2) Represents the composite ownership interest held by the Company in
the respective affiliate(s).
(3) Represents the composite ownership interest of the Company's
affiliate(s) in the licensee for a cellular telephone system in
the respective market. GP indicates that at least one affiliate
has a general partner or controlling interest in the licensee; LP
indicates that the affiliate(s) has (have) a limited partner or
minority interest.
(4) The license for the Portland, Maine, market has been vacated. See
"Legal Proceedings."
(5) The ownership percentages for the market are the subject of
litigation.
</TABLE>
Principles of consolidation
The consolidated financial statements include the accounts of the
Company and its majority-owned affiliates. All significant intercompany
transactions have been eliminated.
Minority interest, occurring only when other stockholders or partners
provide funding to the affiliates, is classified with noncurrent liabilities in
the accompanying balance sheets. For all other majority-owned affiliates, the
Company records all operating losses given that the minority interests have no
funding obligations. At such time as the cumulative net income attributed to
these nonfunding minority interests exceeds the cumulative net losses previously
absorbed, the Company will record a minority interest liability for such
entities.
Cash and cash equivalents
The Company considers all highly liquid debt instruments purchased with
a maturity of three months or less to be cash equivalents.
II-27
<PAGE>
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
Short-term investments
The Company adopted the provisions of Statement of Financial Accounting
Standards (SFAS) No. 115, "Accounting for Certain Investments in Debt and Equity
Securities," as of September 30, 1994. In accordance with the Statement, prior-
period financial statements have not been restated to reflect the change in
accounting principle. The cumulative effect as of September 30, 1994 of
adopting Statement 115, including the reversal of $450,311 of lower of cost or
market adjustments recorded in the current year, decreased net loss by $450,311.
The ending balance of shareholders' equity also was decreased by $450,311 to
reflect the net unrealized holding loss on securities classified as available-
for-sale that were previously classified as held for investment and held for
sale, and carried at amortized cost and lower of cost or market, respectively.
All of the Company's short-term investments are classified as available-for-sale
at September 30, 1994.
Accounts receivable
The Company performs periodic credit evaluations of its customers'
financial condition and generally does not require collateral. Receivables
generally are due within 30 days. Credit losses relating to the Company's
customers consistently have been within management's expectations and comparable
to losses for the portfolio as a whole.
Inventory
Inventories are stated at the lower of cost (first-in, first-out) or
market and are comprised of cellular communication equipment and accessories
held for resale to the Company's subscribers.
Investment in cellular system equipment
Investment in cellular system equipment relates to cellular system
equipment under construction or held in inventory at the Company's warehouse
facility.
During the twelve months ended September 30, 1994, the Company replaced
and upgraded certain cellular system equipment. As a result, the Company has
realized a loss representing the excess of net book over realizable values
totaling $3,116,000.
Deferred loan costs
Deferred loan costs relate to the offerings of senior notes and
convertible subordinated debentures and to the CoBank loan agreements (see Notes
5 and 6). These costs are being amortized over the respective terms of the
debentures, notes and loans.
II-28
<PAGE>
COMMNET CELLULAR INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
FCC licenses and filing rights
FCC licenses represent the costs of the FCC licenses acquired by
consolidated affiliates. Filing rights represent costs associated with
acquiring the rights to file for cellular telephone licenses. The excess of the
purchase price of affiliate interests acquired over the fair market value of the
related net assets acquired is included as the cost of FCC licenses and filing
rights.
Effective October 1, 1993, the Company revised its estimate of the
useful life of FCC license acquisition costs from the remaining initial ten-year
term to 40 years from the date of acquisition to conform with industry
practices. This change in estimate was accounted for prospectively and resulted
in a reduction of amortization expense for the year ended September 30, 1994 of
approximately $11,024,000, or $.95 per common share.
Revenue recognition
Cellular service revenues based upon subscriber usage are recognized at
the time service is provided. Access and special feature cellular service
revenues are recognized when earned. Equipment sales are recognized at the time
equipment is delivered to the subscriber or to an unaffiliated agent.
Depreciation and amortization
Depreciation of property and equipment is provided principally on the
straight-line method over estimated useful lives as follows:
YEARS
-----
Cellular system equipment 8-15
Building and improvements 6-10
Furniture and equipment 3-5
Cost allocations
The Company allocates shared operating costs to its managed affiliates.
Costs which bear an identifiable causal relationship are allocated directly to
the affiliate. Indirect costs are allocated based on a methodology negotiated
with the affiliates and applied consistently to all managed markets. This
methodology allocates functional cost pools on a pro rata basis taking into
consideration total property, plant and equipment, population, subscribers and
other attributes of the managed markets. In addition, effective October 1,
1993, and for all comparative periods presented, the Company reclassified
allocated cellular operations depreciation from cellular operations cost of
cellular service, general and administrative and marketing and selling to
cellular operations depreciation and amortization. This change does not impact
operating or net loss.
During the twelve months ended September 30, 1994, the Company incurred
certain overhead costs related to expansion. As a result, the Company
capitalized $3,991,000, which is included in property and equipment, and
investment in cellular system equipment. In addition, the Company allocated
$713,000 to nonconsolidated affiliates.
II-29
<PAGE>
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
Income taxes
Effective October 1, 1993, the Company changed its method of accounting
for income taxes from the deferred method to the liability method required by
SFAS No. 109, "Accounting for Income Taxes" (see Note 9 - "Income taxes").
Net loss per Common share
Net loss per Common share is based on the weighted average number of
Common shares outstanding during the periods, excluding Common Stock equivalents
which are anti-dilutive. Fully diluted earnings per share are not presented
because conversion of the convertible subordinated debentures and notes would be
anti-dilutive. The convertible subordinated debentures and notes are not
considered to be Common Stock equivalents.
2. BUSINESS ACQUISITIONS AND DISPOSITIONS
1992
In October 1991, the Company disposed of its interest in the Colorado
Springs, Colorado wireline cellular system in satisfaction of its promissory
notes to U S West NewVector totaling $8,400,000 and accrued interest. As a
result, the Company realized a gain in the approximate amount of $8,700,000.
In December 1991, the Company acquired, by merger, the outstanding
shares of a corporation which was the 51% general partner of the Company's
affiliates holding an interest in three RSA markets and one MSA market in
Indiana for approximately $1,463,000 paid through the issuance of 147,192 shares
of Common Stock to the corporation's shareholder.
In December 1991 and January 1992, the Company acquired, by merger, the
outstanding shares of two corporations each of which owned a 51% general
partnership interest in an affiliate of the Company for approximately $1,614,000
paid through the issuance of 149,085 shares of Common Stock to the shareholders
of the two corporations. The Company subsequently transferred its interests in
the affiliates to U S West NewVector in connection with the multimarket exchange
discussed below.
In January 1992, the Company consummated a series of transactions
pursuant to which it divested itself of 100% of the nonwireline license for RSA
392 (Idaho 5) and acquired a 71.4% interest in the wireline license for such
market. In addition, the Company acquired a 33.33% interest in the wireline
licensee for RSA 675 (Utah 3), bringing the Company's net ownership interest in
such market to 57.83%. The Company also received cash proceeds of approximately
$2,493,000, but recognized a $467,000 loss.
In February 1992, the Company acquired the assets of an independent
telephone company in South Dakota for $425,000 in cash.
II-30
<PAGE>
2. BUSINESS ACQUISITIONS AND DISPOSITIONS (continued)
In March 1992, the Company completed a multimarket exchange with US
West NewVector in which the Company acquired from U S West NewVector interests
in 13 managed markets within the states of Idaho, Iowa, Utah and South Dakota,
in exchange for limited partnership interests in three markets and $2,645,000 in
cash. The exchange resulted in a gain of approximately $4,157,000.
In May 1992, the Company sold its 49% limited partnership interest in
the entity which owned a 36.5% interest in the wireline licensee for RSA 350
(Colorado 3) for approximately $3,080,000. The sale resulted in a gain of
approximately $2,311,000.
In June 1992, the Company acquired 75.41% of the outstanding shares of
a corporation which is the 51% general partner of an entity which owns 66.67% of
the wireline licensee for RSA 393 (Idaho 6) for $3,700,000 consisting of
$1,685,000 in cash and 161,200 shares of the Company's Common Stock. As a
result of this acquisition, the Company holds, directly and indirectly, 91.64%
of the licensee for this market.
In July 1992, the Company acquired a 7.15% interest in the wireline
license for RSA 392 (Idaho 5) for $629,000 in cash. As a result, the Company
holds 78.55% of the license for this market.
In August 1992, the Company acquired the nonwireline cellular system
serving RSA 420 (Iowa 9) for approximately $1,910,000. The Company issued
101,532 shares of Common Stock and assumed approximately $590,000 in
liabilities.
1993
In December 1992, the Company acquired from U S West NewVector its 70%
general partner interest in the licensee for MSA 298 (Bismarck, North Dakota),
its 51% general partner interest in the licensee for MSA 267 (Sioux Falls, South
Dakota) and its 16.66% general partner interest in the licensee for RSA 642
(South Dakota 9). The aggregate purchase price was approximately $10,800,000
paid in cash by the Company. In May 1993, the remaining partners in the
licensee for RSA 642 exercised an option to purchase such interest and paid the
Company a total of $1,074,000 in cash.
In December 1992, the Company acquired an additional 16.07% interest in
the licensee for RSA 640 (South Dakota 7) and an additional 11.28% interest in
the licensee for RSA 641 (South Dakota 8) for approximately $469,000 which was
paid by the issuance of 31,491 shares of Common Stock of the Company.
In December 1992, the Company acquired the outstanding shares of a
corporation which is a limited partner in two Colorado MSA markets for 40,252
shares of Common Stock valued at approximately $563,000. In December 1992, the
Company also acquired the 51% general partner interest in the affiliate which
was a limited partner in one Utah RSA market for $1,261,000 paid by the issuance
of 43,025 shares of Common Stock and $615,000 in cash. In February 1993, the
Company acquired the outstanding shares of two affiliates which were limited
partners in two Colorado MSA markets for 94,811 shares of Common Stock valued at
approximately $1,268,000. The Company subsequently transferred such affiliates'
interest in certain licensees to U S West NewVector pursuant to the multimarket
exchange discussed below.
II-31
<PAGE>
2. BUSINESS ACQUISITIONS AND DISPOSITIONS (continued)
In March 1993, the Company completed an additional multimarket exchange
with U S West NewVector in which the Company transferred to U S West NewVector
the Company's interest in one nonmanaged RSA market and two nonmanaged MSA
markets in exchange for U S West NewVector's interest in seven RSA markets and
one MSA market managed by the Company plus approximately $3,418,000 in cash.
The exchange resulted in a gain to the Company of approximately $3,812,000.
In March 1993, the Company acquired all of the outstanding shares of a
corporation which is the 51% general partner of the affiliate which is the 50%
general partner of the wireline licensee for RSA 353 (Colorado 6) for $228,000
in cash.
In June 1993, RSA 392 (Idaho 5) was partitioned by the FCC into two
markets and the Company exchanged its 78.55% interest in the Sun Valley (B2)
portion of the market for U S West NewVector's 21.45% interest in the Twin Falls
(B1) portion of the market and $12,000 in cash.
In August 1993, the Company transferred its interest in two affiliates
which held interests in one nonmanaged RSA market and one managed MSA market in
exchange for a 98.11% interest in an RSA market which will be managed by the
Company and $3,916,000 in cash pursuant to an exchange agreement with Pacific
Telecom Cellular, Inc. ("PTI"). In order to fulfill its obligations under the
agreement, the Company acquired the outstanding shares of four corporations for
approximately $3,499,000 paid by the issuance of 194,474 shares of Common Stock
of the Company and approximately $478,000 in cash. The exchange resulted in a
gain to the Company of approximately $4,889,000. The agreement also provides
for the sale by the Company of its interest in two additional affiliates which
hold interests in nonmanaged RSA markets. The sale of one interest was
consummated in December 1993 (see below). The sale of the second interest is
the subject of pending litigation and, accordingly, there can be no assurance
that such sale will be consummated.
1994
In December 1993, the Company acquired 100% of the stock of a
corporation which owns and operates the Rapid City, South Dakota MSA market and
owns general partnership interests in two partitioned RSA markets (South Dakota
5 (B2) and South Dakota 6 (B2)) for approximately $10,420,000 in cash plus
property valued at approximately $400,000.
In December 1993, the Company sold its interests in affiliates which
held a 44.44% limited partnership interest in the wireline licensee for RSA 608
(Oregon 3) for approximately $2,076,000 in cash. The sale resulted in a gain of
approximately $630,000.
In December 1993, the Company acquired additional interests in two
affiliated corporations for approximately $139,000.
In February 1994, the Company acquired an additional 51% of the stock
of an affiliate which held a 28.6% limited partnership interest in MSA 239
(Joplin, MO) for 69,051 shares of the Company's Common Stock, then sold the
Company's entire limited partnership interest for $4,494,000 in cash. The sale
resulted in a gain of approximately $1,921,000.
In March 1994, the Company acquired an additional interest in an
affiliated corporation for 2,732 shares of the Company's Common Stock.
II-32
<PAGE>
2. BUSINESS ACQUISITIONS AND DISPOSITIONS (continued)
In April 1994, the Company acquired three affiliated corporations which
hold limited partnership interests in Utah RSA managed markets for 80,145 shares
of the Company's Common Stock.
In May 1994, the Company sold its interest in an affiliate which held
an 8.125% limited partnership interest in three nonmanaged RSA markets for
approximately $2,468,000 in cash. The sale resulted in a gain of approximately
$841,000. Contemporaneously, the Company acquired additional limited
partnership interests in four managed RSA markets for approximately $373,000.
In July 1994, the Company acquired an additional interest in an
affiliated corporation for approximately $199,000 in cash.
In August 1994, the Company acquired an aggregate of 3.07% of the stock
of a corporation which operates cellular systems throughout Kansas from two
unrelated corporations for approximately $3,000,000 in cash.
During fiscal year 1994, the Company recognized a gain of approximately
$907,000 due to the write-off of contingent liabilities related to stock price
guarantees in acquisition agreements.
Each of the above acquisitions was accounted for using the purchase
method of accounting. The applicable results of operations of the acquired
interests have been included in the Company's consolidated statements of
operations from the respective acquisition dates.
The following represents the pro forma results of operations as if the
above noted acquisitions had occurred at the beginning of the respective period
in which the acquisition occurred, as well as at the beginning of the
immediately preceding period:
<TABLE>
<CAPTION>
Year Ended September 30,
1994 1993 1992
---- ---- ----
<S> <C> <C> <C>
Revenues $62,273,235 $41,241,051 $23,371,759
Equity in net loss of affiliates (4,479,329) (4,854,046) (6,989,099)
Net loss (17,480,917) (20,019,844) (11,165,859)
Loss per common share (1.50) (2.25) (1.46)
</TABLE>
In addition, the Company has initiated discussions with other cellular
telephone carriers regarding acquisition of markets or interests in Iowa, North
Dakota, Kansas, Nebraska and Wyoming. Such acquisitions will be pursued to the
extent that enhancement or extension of the Company's network is accomplished,
although there can be no assurance any such acquisitions will be consummated.
II-33
<PAGE>
3. SHORT-TERM INVESTMENTS
On September 30, 1994, the Company adopted SFAS No. 115, "Accounting
for Certain Investments in Debt and Equity Securities," and classified all
short-term investments as available-for-sale.
The following is a summary of available-for-sale securities:
<TABLE>
<CAPTION>
Available-for-Sale Securities
-----------------------------
Gross Gross Estimated
Unrealized Unrealized Fair
Cost Gains Losses Value
---- ----- ------ -----
<S> <C> <C> <C> <C>
U.S. treasury securities
and obligations of U.S.
government agencies $ 9,182,411 $ - $ 242,151 $ 8,940,260
U.S. government treasuries
and agencies funds 11,500,000 - 184,098 11,315,902
U.S. corporate bonds 966,597 - 24,062 942,535
----------- ----------- ----------- -----------
$21,649,008 $ - $ 450,311 $21,198,697
----------- ----------- ----------- -----------
----------- ----------- ----------- -----------
</TABLE>
The gross realized loss on sales of available-for-sale securities
totaled $744,000 for the year ended September 30, 1994. The net adjustment to
unrealized holding gains (losses) on available-for-sale securities included as a
separate component of shareholders' equity totaled $450,000 as of September 30,
1994.
The amortized cost and estimated fair value of debt and marketable
equity securities at September 30, 1994 are shown below. Expected maturities
will differ from contractual maturities because the issuers of the securities
may have the right to prepay obligations without prepayment penalties.
<TABLE>
<CAPTION>
Estimated
Fair
Cost Value
---- -----
<S> <C> <C>
Available-for-Sale:
Due in one year or less $16,620,000 $16,378,522
Due after one year through three years 170,000 171,074
Due after three years 4,859,008 4,649,101
----------- -----------
$21,649,008 $21,198,697
----------- -----------
----------- -----------
</TABLE>
II-34
<PAGE>
4. INVESTMENT IN AND ADVANCES TO AFFILIATES
Investment in and advances to the Company's nonconsolidated affiliates
consisted of the following:
<TABLE>
<CAPTION>
September 30,
1994 1993
---- ----
<S> <C> <C>
Investment $12,605,395 $13,170,362
Equity in loss - cumulative (24,049,632) (23,410,622)
Advances and other 73,352,998 66,132,632
----------- -----------
$61,908,761 $55,892,372
----------- -----------
----------- -----------
</TABLE>
The combined financial position of the nonconsolidated affiliates is
as follows:
<TABLE>
<CAPTION>
September 30,
1994 1993
---- ----
<S> <C> <C>
Current assets $ 8,597,246 $ 9,699,996
Investment in affiliated limited partnerships 10,446,767 7,803,769
Property and equipment, net of accumulated
depreciation 33,162,750 25,245,274
Other assets 4,079,497 3,607,741
------------ ------------
Total assets $ 56,286,260 $ 46,356,780
------------ ------------
------------ ------------
Due to CommNet Cellular Inc. $ 11,981,737 $ 4,835,411
Due to Cellular, Inc. Financial Corporation 55,428,739 57,433,612
Other liabilities 21,389,471 12,627,438
Minority interest 859,823 1,788,098
Stockholders' deficit (33,373,510) (30,327,779)
------------ ------------
Total liabilities and stockholders' deficit $ 56,286,260 $ 46,356,780
------------ ------------
------------ ------------
</TABLE>
Combined operations of these nonconsolidated affiliates are summarized
as follows:
<TABLE>
<CAPTION>
Year Ended September 30,
1994 1993 1992
---- ---- ----
<S> <C> <C> <C>
Revenues $ 42,160,218 $ 27,121,816 $ 9,093,887
Operating costs (50,519,584) (36,205,918) (23,902,180)
Minority interest 7,333 324,259 951,514
Equity in income (loss) of affiliates 369,495 (660,397) (2,681,979)
------------ ------------ ------------
Net loss $ (7,982,538) $ (9,420,240) $(16,538,758)
------------ ------------ ------------
------------ ------------ ------------
</TABLE>
II-35
<PAGE>
4. INVESTMENT IN AND ADVANCES TO AFFILIATES (continued)
Interest income from affiliates on advances was $11,380,231,
$9,542,484, and $9,543,783 for the years ended September 30, 1994, 1993 and
1992, respectively.
Certain advances to affiliates bear interest at the prime rate of
Norwest Bank (7.75% at September 30, 1994 and 6% at September 30, 1993) plus 2%.
These advances to and receivables from affiliates are temporary. They are
generally refinanced under loan agreements with the Company's financing
subsidiary, Cellular, Inc. Financial Corporation ("CIFC"). Advances made under
such loan agreements have a term of ten years with interest only payable until
December 31, 1995. Principal and interest payments are payable thereafter,
until December 31, 2000. These loans bear interest at 1% over CIFC's average
cost of borrowing from nonaffiliated lenders. Such advances will be repaid from
income derived from the operation of the cellular system or income derived from
the affiliates' interest in the partnership providing cellular service.
5. SECURED BANK FINANCING
Secured bank financing consists of the following:
<TABLE>
<CAPTION>
September 30,
1994 1993
---- ----
<S> <C> <C>
Secured bank financing due December 31, 2000,
interest only payable quarterly through March 31,
1996, thereafter quarterly principal and interest
payments payable through maturity $47,516,124 $35,295,597
Secured bank financing (MSA switch loans) due
September 30, 1997; quarterly principal and
interest payments payable through maturity 2,476,577 3,238,600
Secured bank financing (RSA switch loans) due
June 30, 1999; quarterly principal and interest
payments payable through maturity 1,546,530 1,855,836
----------- -----------
51,539,231 40,390,033
Less current portion (1,090,870) (1,071,330)
----------- -----------
Totals $50,448,361 $39,318,703
----------- -----------
----------- -----------
</TABLE>
II-36
<PAGE>
5. SECURED BANK FINANCING (continued)
The bank credit agreements are between CIFC and CoBank. Under the
terms of these agreements, CoBank has agreed to loan to CIFC a maximum of
$130,000,000 to be reloaned by CIFC to affiliates of the Company for the
construction, operation and expansion of cellular telephone systems. Interest
is payable at either the Chase Manhattan Bank prime rate plus 1.00% for variable
rate loans (8.75% at September 30, 1994) or LIBOR (London InterBank Offered
Rate) plus 2.25% for fixed rate loans (5.767% at the six-month rate at September
30, 1994). CIFC continues to maintain fixed interest rates on $35.1 million of
loans terminating in 1996 at interest rates of 10.8% and 10.9%. The loans are
secured by a first lien on all assets of CIFC, as well as all assets of each of
the affiliates to which loans are made by CIFC. CIFC's assets totaled
approximately $197,100,000 and $179,400,000 at September 30, 1994 and 1993,
respectively. In addition, the Company has guaranteed the obligations of CIFC
to CoBank and has granted CoBank a first security interest in all of the assets
of the Company as security for such guaranty. A commitment fee of .5% per annum
is payable by CIFC to CoBank on the average daily unborrowed commitment.
On September 8, 1993, CIFC paid down $57.1 million of its outstanding
loans from CoBank. The loan repayment was funded by an advance from the
Company, the proceeds of which were provided by the issuance of senior
subordinated discount notes (see Note 6). As a result of this repayment, CIFC
terminated all but one $2.5 million interest rate swap agreement previously
entered into with CoBank, which resulted in an extraordinary charge of
$2,992,000 in the fiscal year ended September 30, 1993. The remaining swap
agreement was entered into on July 1, 1993 for a three-year period ending July
1, 1996. The swap agreement requires CIFC to pay a fixed rate of 7.01% over the
term of the swap, and CoBank to pay a floating rate of prime (7.75% at September
30, 1994).
The CoBank credit agreements prohibit the payment of cash dividends,
prohibit any other senior borrowings, limit the use of borrowings, restrict
expenditures for certain acquisitions and investments, require the maintenance
of certain minimum levels of net worth, working capital, cash and operating cash
flow and require the maintenance of certain liquidity, capitalization, debt,
debt service and operating cash flow ratios. The requirements of the credit
agreements were established in relation to the anticipated capital and financing
needs of the Company's affiliates and their anticipated results of operations.
The Company is currently in compliance with all covenants and anticipates it
will continue to meet the requirements of the credit agreements. CoBank has
sold participations in the credit agreements to two other financial institutions
whose approval may be required for waivers or other amendments to the credit
agreements requested by CIFC or the Company.
Aggregate maturities of the secured bank financing for each of the next
five years ending September 30 are as follows: 1995 - $1,090,870; 1996 -
$4,819,063; 1997 - $9,153,564; 1998 - $9,419,608; 1999 - $10,156,571; and
thereafter - $16,899,555.
6. CONVERTIBLE SUBORDINATED DEBENTURES AND SENIOR NOTES
In August 1989, the Company completed a public offering of $74,750,000
aggregate principal amount of 6 3/4% Convertible Subordinated Debentures due
2009. The debentures are convertible at any time prior to maturity, unless
previously redeemed or repurchased, into Common Stock of the Company at a
conversion price of $27 5/8 per share, subject to adjustment under certain
conditions.
II-37
<PAGE>
6. CONVERTIBLE SUBORDINATED DEBENTURES AND SENIOR NOTES (continued)
The 6 3/4% debentures are redeemable, in whole or in part, at any time,
at the option of the Company at the redemption prices (together with accrued
interest) of 106.75% if redeemed in 1989, decreasing to 100% of the principal
amount in 1999. The debentures will also be redeemable through operation of a
sinking fund at 100% of the principal amount thereof. Mandatory annual sinking
fund payments, sufficient to retire 10% of the aggregate principal amount of the
debentures issued, will be made on each July 15, commencing July 15, 2004.
These payments are calculated to retire 50% of the issue prior to maturity. The
debenture holders may require the Company to repurchase the debentures, in whole
or in part, upon the occurrence of a change in control of the Company (as
defined in the Indenture) prior to July 15, 1999. The debentures are unsecured
and subordinated to all existing and future Senior Debt of the Company.
In May 1990, the Company completed an offering of $40,000,000 in
aggregate principal amount of 8% Convertible Subordinated Debentures due 2000.
The 8% debentures were convertible at any time prior to maturity, unless
previously redeemed or repurchased, into Common Stock of the Company at a
conversion price of $14.95 per share, subject to adjustment under certain
circumstances. On September 8, 1993, the Company called all outstanding 8%
debentures for redemption. As of September 30, 1993, $2,127,800 of the
debentures had been converted into 142,329 shares of the Company's Common Stock.
In October 1993, the remaining $37,812,200 of 8% debentures were converted into
2,529,194 shares of the Company's Common Stock, and the Company paid
approximately $60,000 to the remaining holders of the debentures.
In January 1993, the Company completed a private placement of
$4,950,000 of 8.75% Convertible Senior Subordinated Notes Due 2001. The Notes
are general unsecured obligations of the Company and are subordinate in right of
payment to all Senior Debt of the Company. The Notes may be redeemed at the
option of the Company at the redemption prices (together with accrued interest)
of 105 15/32% if redeemed in 1996 decreasing to 101 3/32% of the principal
amount in 2001. The Note holders may convert the Notes into shares of the
Company's Common Stock at the price of $15.00 per share. Subsequent to year
end, the majority holder of Notes exercised its right to demand registration,
which is expected to occur during the second fiscal quarter of 1995.
In September 1993, the Company completed an offering of $176,651,000
aggregate principal amount of 11 3/4% Senior Subordinated Discount Notes Due
2003. The Notes were issued at a substantial discount from their principal
amount resulting in gross proceeds to the Company of approximately $100,000,000.
After deducting offering costs, net proceeds were $96,739,604. The Notes are
general unsecured obligations of the Company and are subordinate in right of
payment to all Senior Debt of the Company.
Commencing September 1, 1998, interest will accrue until maturity on
the Notes at the rate of 11 3/4% per annum. Interest on the Discount Notes is
payable semi-annually on March 1 and September 1, commencing March 1, 1999. The
Discount Notes mature on September 1, 2003 and are redeemable, in whole at any
time or in part from time to time, at the option of the Company at the
redemption prices (together with accrued interest) of 105.87% if redeemed in
1998 decreasing to 101.46% of the principal amount in 2001. The Discount Note
holders may require the Company to repurchase the Discount Notes, in whole or in
part, in certain instances constituting a change of control of the Company.
The Company has reserved the appropriate number of shares for any
conversions prior to maturity on the convertible debt issues.
II-38
<PAGE>
7. CAPITAL LEASES
The Company leases assets, primarily computer equipment, under capital
leases of $2,466,711 (less accumulated depreciation of $913,687) at September
30, 1994.
Future minimum lease payments under capital leases at September 30,
1994 are as follows:
<TABLE>
<S> <C>
1995 $ 655,450
1996 334,555
1997 285,979
1998 179,991
1999 -
-----------
1,455,975
Less amount representing interest
and sales tax 82,868
-----------
1,373,107
Obligation under capital leases due
within one year 588,025
-----------
$ 785,082
-----------
-----------
</TABLE>
8. COMMITMENTS
The Company leases office space and equipment under agreements which
provide for rental payments based on lapse of time. Rent expense was
$1,366,169, $1,135,849 and $1,172,115 for the years ended September 30, 1994,
1993 and 1992, respectively.
The aggregate annual rental commitment as of September 30, 1994 is as
follows:
<TABLE>
<S> <C>
1995 $1,694,418
1996 1,163,884
1997 826,727
1998 753,762
1999 410,417
Future years 1,738,899
----------
$6,588,107
----------
----------
</TABLE>
On May 15, 1989, the Company adopted a retirement savings plan
(pursuant to Section 401(k) under the Internal Revenue Code) providing for a
deferred compensation and Company matching provision. Under the plan, eligible
employees are permitted to contribute up to 15% of gross compensation into the
retirement plan and the Company will match at the minimum 25% of each employee's
contribution up to 3% of the employee's eligible compensation. The expense
under the retirement savings plan was approximately $77,871, $55,920 and $52,480
for the years ended September 30, 1994, 1993 and 1992, respectively.
II-39
<PAGE>
9. INCOME TAXES
As permitted under SFAS No. 109, prior years' financial statements have
not been restated. The adoption of SFAS No. 109 as of October 1, 1993 had no
cumulative effect on net loss, and has no effect on operating loss and net loss
for the year ended September 30, 1994.
At September 30, 1994, the Company had cumulative net operating loss
carryforwards of $54,725,000 for income tax purposes. If not offset against
taxable income, the tax loss carryforwards will expire between 2001 and 2009.
Prior net operating losses have been restated to reflect the impact of entities
consolidated in 1994 that incurred NOLs prior to becoming part of the
consolidated reporting group. The Company has no liability for regular tax
expense due to tax net operating losses.
Deferred income taxes reflect the net tax effects of temporary
differences between the carrying amounts of assets and liabilities for financial
reporting purposes and the amounts used for income tax purposes. As of
September 30, 1994 and 1993, the Company's net deferred tax asset has been fully
reserved with a valuation allowance. Significant components of the Company's
deferred tax assets and liabilities as of September 30, 1994 are as follows:
<TABLE>
<CAPTION>
<S> <C>
Deferred tax assets:
Equity method investments $ 2,953,000
Intangible asset differences 8,621,000
Inventory adjustments 456,000
Accrued liabilities 700,000
Interest expense on zero coupon bonds 4,932,000
Other - net 537,000
Net operating loss carryforwards 20,796,000
------------
Total deferred tax assets 38,995,000
------------
Deferred tax liabilities:
Difference in license costs 21,573,000
Fixed asset differences 3,599,000
------------
Total deferred tax liabilities 25,172,000
Net deferred tax asset 13,823,000
Valuation allowance (13,823,000)
------------
Net deferred taxes $ -
------------
------------
</TABLE>
II-40
<PAGE>
10. COMMON STOCK OPTIONS
In 1987, the Company adopted a Key Employees' Nonqualified Stock Option
Plan whereby employees may be granted options to purchase up to 500,000 shares
of the Company's Common Stock. All outstanding options were granted at an
exercise price which represented at least 100% of the quoted market value of the
Company's Common Stock at the date of grant and were exercisable for a period of
five years from the date of grant. In November 1992, the Company terminated the
Key Employees' Nonqualified Stock Option Plan as to future grants.
The Company adopted an Omnibus Stock and Incentive Plan, effective
November 1, 1991, pursuant to which 500,000 shares of the Company's Common Stock
are reserved for issuance pursuant to Options, Stock Appreciation Rights, Stock
Bonuses or Phantom Stock Rights. In February 1993, the Company's shareholders
approved an increase of an additional 500,000 shares of the Company's Common
Stock to be reserved for issuance pursuant to the Omnibus Stock and Incentive
Plan plus 1% of the number of shares outstanding at the end of each fiscal year.
An analysis of options related to the Company's benefit plans is as
follows:
<TABLE>
<CAPTION>
Key Employees' Omnibus Stock
Nonqual. Stock and Exercise
Option Plan Incentive Plan Price Range
-------------- -------------- -----------
<S> <C> <C> <C>
Outstanding options at
September 30, 1992 133,500 216,500 $ 7.00 - $26.00
Granted - 296,000 $13.00 - $14.88
Forfeitures (24,000) (188,000)
Exercised (10,000) - $ 8.50
--------- ---------
Outstanding options at
September 30, 1993 99,500 324,500 $ 7.00 - $26.00
Granted - 261,000 $19.50 - $19.63
Forfeitures (2,500) (28,875)
Exercised (8,000) (12,000) $ 8.50 - $15.75
--------- ---------
Outstanding options at
September 30, 1994 89,000 544,625 $ 7.00 - $26.00
--------- ---------
--------- ---------
Options available for grant
at September 30, 1994 - 615,217
--------- ---------
--------- ---------
Options exercisable at
September 30, 1994 67,625 110,500
--------- ---------
--------- ---------
</TABLE>
II-41
<PAGE>
10. COMMON STOCK OPTIONS (continued)
Subsequent to September 30, 1994, the Company granted 689,000 options
to officers and employees of the Company at an exercise price of $25.625
pursuant to the Company's Omnibus Stock and Incentive Plan. Contemporaneously,
the Board of Directors authorized 750,000 additional shares for grant pursuant
to the Omnibus Stock and Incentive Plan, subject to approval by the shareholders
at the 1994 Annual Meeting to be held February 28, 1995.
In July 1993, the Company granted options to purchase 152,500 shares of
Common Stock to two former officers at exercise prices ranging from $7.00 to
$15.75. As a result, the Company recognized compensation expense of
approximately $370,000. The options become exercisable at various intervals
through November 1995 and expire on June 30, 1996. During the fiscal years
ended September 30, 1994 and 1993, options to purchase 101,250 and 25,000 shares
were exercised, respectively. As of September 30, 1994, none of the options
were exercisable. Subsequent to year end, 7,500 of the options were exercised.
11. EMPLOYEE STOCK OWNERSHIP PLAN
On October 1, 1988, the Company adopted an Employee Stock Ownership
Plan ("ESOP"). The cost of the ESOP is borne by the Company through annual
contributions to a Trustee in amounts determined by the Board of Directors.
Employees are eligible to participate in the ESOP after one year of service.
Shares of Common Stock acquired by the ESOP are to be allocated to each employee
and held until the employee's retirement or death. The employee can also choose
early partial withdrawal under certain circumstances. Each employee's account
vests ratably over a period of five years. Contributions totaling approximately
$478,000 (20,953 shares), $297,000 (17,232 shares) and $264,000 (21,798 shares)
were made to the ESOP for the years ended September 30, 1994, 1993 and 1992,
respectively. Shares are deemed issued for accounting purposes in the year that
ESOP contributions expense is recognized.
12. STOCKHOLDERS' EQUITY
In December 1990, the Board of Directors declared a dividend
distribution of one right (a "Right") attached to each outstanding share of the
Company's Common Stock at any point in time. Each Right, when exercisable,
entitles the registered holder to purchase from the Company one one-hundredth of
a share of Series A Preferred Stock, at a price of $45 per one one-hundredth of
a share, subject to adjustment (the "Purchase Price").
II-42
<PAGE>
12. STOCKHOLDERS' EQUITY (continued)
The Rights will detach from the Common Stock and a "Distribution Date"
will occur upon the earliest of (i) ten days following a public announcement
that a person or group has acquired, or obtained the right to acquire,
beneficial ownership of 20% or more of the outstanding shares of the Company's
Common Stock (the "Stock Acquisition Date"), (ii) ten business days following
commencement of a tender offer or exchange offer that would result in a person
or group beneficially owning 30% or more of the Company's Common Stock, or (iii)
ten business days after the Board of Directors have made a determination that
someone has become the beneficial owner of a substantial amount of the Company's
Common Stock and that such ownership is adverse to the Company's interest.
Should these events occur, each holder of a Right will thereafter have the right
to receive, upon exercise, the Company's Common Stock (or, in certain
circumstances, cash, property or other securities of the Company) having a value
equal to two times the Purchase Price. Similarly, in the event that at any time
following a Stock Acquisition Date, the Company is acquired in a merger or other
business combination transaction in which the Company is not the surviving
corporation or 50% or more of its assets, cash flow or earning power is sold or
transferred, each holder of a Right shall thereafter have the right to receive,
upon exercise, Common Stock of the acquiring entity having a value equal to two
times the Purchase Price. Under certain circumstances, any Rights that are
owned by the acquiring person or the adverse person will be null and void.
In general, the Company may redeem the Rights in whole, but not in
part, at a price of $.01 per Right, at any time until ten days following the
acquisition by a person or group of 20% or more of the Company's outstanding
Common Stock or the declaration by the Board of Directors that a person is an
adverse person. The Rights will expire on December 24, 2000, unless earlier
redeemed.
In February 1992, the Company completed a public offering of 2,875,000
shares of Common Stock at $13.75 per share for aggregate proceeds of
$39,531,000. The Company incurred $2,272,000 in underwriting discounts and
commissions, and $656,000 in other costs associated with this offering.
13. SUBSEQUENT EVENTS
Subsequent to September 30, 1994, the Company acquired an additional
interest in an affiliated corporation for $1,600,000 in cash. Pursuant to the
terms of a shareholder's agreement, the Company has offered to (i) sell the
interest to the other shareholders on a pro rata basis and (ii) buy the
interests of such shareholders at the same price per share.
II-43
<PAGE>
14. FAIR VALUES OF FINANCIAL INSTRUMENTS
SFAS No. 107, "Disclosures about Fair Value of Financial Instruments,"
requires disclosure of fair value information about financial instruments for
which it is practicable to estimate that value, whether or not recognized in the
balance sheet. In cases where quoted market prices are not available, fair
values are based on estimates using present value or other valuation techniques.
Statement 107 excludes certain financial instruments and all nonfinancial
instruments from its disclosure requirements. Accordingly, the aggregate fair
value amounts do not represent the underlying value of the Company.
The following methods and assumptions were used by the Company in
estimating its fair value disclosures for financial instruments:
ADVANCES TO AFFILIATES: The fair value of advances to and receivables
from affiliates are estimated using discounted cash flow analyses, based on the
Company's borrowing rate at September 30, 1994, plus 1%.
LONG AND SHORT-TERM DEBT: The carrying amounts of the Company's
variable rate borrowings under its credit agreements approximate their fair
value. The fair value of the Company's fixed rate debt is estimated using
discounted cash flow analyses, based on the Company's current incremental
borrowing rates. Other long-term debt is valued based on quoted market prices.
The carrying amounts and fair values of the Company's financial
instruments at September 30, 1994 are as follows:
<TABLE>
<CAPTION>
Carrying Amount Fair Value
--------------- ----------
<S> <C> <C>
Advances to affiliates $ 73,352,998 $ 57,589,914
Secured bank financing:
Variable rate loans 6,520,244 6,520,244
Fixed rate loans 45,018,987 40,460,098
11 3/4% senior discount notes 112,979,725 73,436,821
Convertible subordinated debentures 79,700,000 75,962,500
</TABLE>
II-44
<PAGE>
15. QUARTERLY FINANCIAL DATA (UNAUDITED)
Quarterly financial data and per share data are presented below:
<TABLE>
<CAPTION>
First Second Third Fourth
Quarterly Financial Data Quarter Quarter Quarter Quarter
------------------------ ------- ------- ------- -------
<S> <C> <C> <C> <C>
1993
Revenues $ 6,074,174 $ 6,378,024 $ 9,674,191 $11,562,922
Operating loss (3,681,022) (5,620,661) (4,493,216) (1,635,634)
Loss before extra-
ordinary charge (7,180,130) (5,268,089) (6,635,441) (590,879)
Net loss (7,180,130) (5,268,089) (6,635,441) (3,582,552)
Loss per share:
Loss before extra-
ordinary charge $ (0.86) $ (0.62) $ (0.77) $ (0.07)
Net loss (0.86) (0.62) (0.77) (0.41)
------------------------------------------------------------------------------------------------
1994
Revenues $12,770,278 $13,685,245 $15,305,934 $19,598,594
Operating loss (1,721,297) (3,388,686) (530,441) (28,911)
Net loss (4,713,227) (4,570,536) (2,966,006) (4,501,383)
Net loss per share $ (0.42) $ (0.39) $ (0.25) $ (0.39)
</TABLE>
The Company capitalized $648,000 and $985,000 of corporate costs and
expenses related to construction projects in process at September 30, 1994 and
1993, respectively. In addition, as described in Note 5, CIFC terminated all
but $2.5 million of interest rate swap agreements previously entered into with
CoBank, which resulted in an extraordinary charge of $2,992,000 in the fourth
fiscal quarter of 1993.
II-45
<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.
COMMNET CELLULAR INC. (Registrant)
Date: May 25, 1995 By: /s/Daniel P. Dwyer
----------------------------------------
Daniel P. Dwyer
Executive Vice President, Treasurer &
Chief Financial Officer
Date: May 25, 1995 By: /s/Andrew J. Gardner
----------------------------------------
Andrew J. Gardner
Senior Vice President and Controller
(Principal Accounting Officer)
<PAGE>
EXHIBIT 23.1
CONSENT OF INDEPENDENT AUDITORS
We consent to the incorporation by reference in the following
registration statements of CommNet Cellular Inc. and in the related prospectuses
of our report dated December 2,1994, with respect to the consolidated financial
statements and schedules of CommNet Cellular Inc. included in this Annual Report
on Form 10-K/A No. 2 for the year ended September 30, 1994:
1. Registration Statement on Form S-8 (No. 33-35192) pertaining to the
Directors' Non-Qualified Stock Option Plan and Informal Non-Qualified
Stock Option Plan and Key Employees Non-Qualified Stock Option Plan.
2. Registration Statement on Form S-8 (No. 33-40500) pertaining to the
Employee Stock Ownership Plan.
3. Registration Statement on Form S-8 (No. 33-47755) pertaining to the
CommNet Cellular Inc. Omnibus Stock and Incentive Plan.
4. Registration Statement on Form S-4 (No. 33-54590).
5. Registration Statement on Form S-8 (No. 33-62236) pertaining to the
CommNet Cellular Inc. Omnibus Stock and Incentive Plan.
ERNST & YOUNG LLP
Denver, Colorado
May 25, 1995
