UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
|X| Quarterly report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934 for the quarterly period ended:
September 30, 2004
or
|_| Transition report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934 for the transition period from ____ to ____
Commission File Number: 0-32617
Horizon Telcom, Inc.
(Exact name of registrant as specified in its charter)
Ohio 31-1449037
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
68 East Main Street, Chillicothe, OH 45601-0480
(Address of principal executive offices) (Zip Code)
(740) 772-8200
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes |X| No |_|
Indicated by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). Yes |_| No |X|
As of November 10, 2004, there were 90,561 shares of class A common stock and
271,983 shares of class B common stock outstanding.
HORIZON TELCOM, INC.
FORM 10-Q
THIRD QUARTER REPORT
TABLE OF CONTENTS
Page No.
--------
PART I FINANCIAL INFORMATION
Item 1. Financial Statements..........................................3
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations..........................20
Item 3. Quantitative and Qualitative Disclosures About
Market Risk..................................................31
Item 4. Controls and Procedures......................................31
PART II OTHER INFORMATION
Item 1. Legal Proceedings............................................33
Item 2. Changes in Securities and Use of Proceeds....................33
Item 3. Defaults Upon Senior Securities..............................33
Item 4. Submission of Matters to a Vote of Security Holders..........33
Item 5. Other Information............................................33
Item 6. Exhibits and Reports on Form 8-K.............................37
As used herein and except as the context may otherwise require, "the
Company," "we," "us," "our" or "Horizon Telcom" means, collectively, Horizon
Telcom, Inc. and its subsidiaries: The Chillicothe Telephone Company
("Chillicothe Telephone"), Horizon Technology, Inc. ("Horizon Technology") and
Horizon Services, Inc. ("Horizon Services"). References to "Horizon PCS" refer
to Horizon PCS, Inc. and its subsidiaries: Horizon Personal Communications, Inc.
("HPC") and Bright Personal Communications Services, LLC ("Bright PCS").
On August 15, 2003, Horizon PCS filed for bankruptcy protection under
Chapter 11 of the United States Bankruptcy Code (the "Bankruptcy Code").
Therefore, the results herein include the operations of Horizon PCS through
August 14, 2003. The Company no longer includes the results of Horizon PCS in
its consolidated results. See Note 2 to the Consolidated Financial Statements.
2
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
HORIZON TELCOM, INC. AND SUBSIDIARIES
Consolidated Balance Sheets
As of September 30, 2004 and December 31, 2003
- --------------------------------------------------------------------------------
September 30, December 31,
2004 2003
------------ ------------
(unaudited)
ASSETS
CURRENT ASSETS:
Cash and cash equivalents ................................................. $ 19,626,291 $ 17,086,826
Accounts receivable - subscriber, less
allowance for doubtful accounts of
approximately $291,000 and $377,000
as of September 30, 2004 and December
31, 2003, respectively .................................................. 904,784 890,936
Accounts receivable - interexchange
carriers, access charge pools and
other, less allowance for doubtful
accounts of approximately $100,000
as of September 30, 2004 and $96,000
as of December 31, 2003 ................................................. 2,489,758 2,220,298
Accounts receivable - Horizon PCS ......................................... 38,856 --
Inventories ............................................................... 2,072,779 2,436,932
Investments, available-for-sale,
at fair value ........................................................... 943,338 1,515,900
Prepaid expenses and other current assets ................................. 2,677,460 4,149,491
------------ ------------
Total current assets .................................................. 28,753,266 28,300,383
------------ ------------
OTHER ASSETS:
Debt issuance costs, net .................................................. 312,545 336,996
Prepaid pension costs ..................................................... 3,569,456 4,171,009
Intangible assets - pension ............................................... 2,371,699 2,371,699
------------ ------------
Total other assets .................................................... 6,253,700 6,879,704
------------ ------------
PROPERTY, PLANT AND EQUIPMENT, NET ........................................... 75,839,780 75,848,610
------------ ------------
Total assets ........................................................ $110,846,746 $111,028,697
============ ============
(Continued on next page)
The accompanying notes are an integral part of
these consolidated financial statements.
3
HORIZON TELCOM, INC. AND SUBSIDIARIES
Consolidated Balance Sheets (Continued)
As of September 30, 2004 and December 31, 2003
- --------------------------------------------------------------------------------
September 30, December 31,
2004 2003
------------- -------------
(unaudited)
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
CURRENT LIABILITIES:
Accounts payable ...................................................................... $ 2,864,601 $ 1,804,400
Payable to Horizon PCS ................................................................ -- 14,966
Accrued personal property, real estate and other taxes ................................ 1,901,743 2,768,421
Accrued interest, payroll and other current liabilities ............................... 4,499,778 4,200,456
Lines of credit ....................................................................... -- 1,000,000
------------- -------------
Total current liabilities ....................................................... 9,266,122 9,788,243
------------- -------------
LONG-TERM DEBT AND OTHER LIABILITIES:
Long-term debt ........................................................................ 42,000,000 42,000,000
Deferred income taxes, net ............................................................ 10,973,874 11,158,066
Postretirement benefit obligation ..................................................... 10,315,190 8,538,689
Accrued pension costs ................................................................. 2,804,302 2,804,302
Investment in Horizon PCS ............................................................. 470,934,704 470,934,704
Other long-term liabilities ........................................................... 2,087,955 2,374,250
------------- -------------
Total long-term debt and other liabilities ...................................... 539,116,025 537,810,011
------------- -------------
Total liabilities ............................................................. 548,382,147 547,598,254
------------- -------------
COMMITMENTS AND CONTINGENCIES (Note 13)
STOCKHOLDERS' EQUITY (DEFICIT):
Common stock - class A, no par value, 200,000 shares authorized, 99,726
shares issued and 90,561 shares outstanding at September 30, 2004 and
December 31, 2003, stated at $4.25 per share ........................................ 423,836 423,836
Common stock - class B, no par value, 500,000 shares authorized, 299,507
shares issued and 271,983 shares outstanding at September 30, 2004, and
299,450 shares issued and 271,926 shares outstanding at December 31, 2003,
stated at $4.25 per share ........................................................... 1,272,905 1,272,662
Treasury stock - 36,689 shares, at cost ............................................... (5,504,700) (5,504,700)
Accumulated other comprehensive income (loss), net .................................... 49,748 318,455
Additional paid-in capital ............................................................ 73,200,389 72,197,212
Deferred stock compensation ........................................................... (13,587) (15,522)
Retained deficit ...................................................................... (506,963,992) (505,261,500)
------------- -------------
Total stockholders' equity (deficit) .......................................... (437,535,401) (436,569,557)
------------- -------------
Total liabilities and stockholders' equity (deficit) ....................... $ 110,846,746 $ 111,028,697
============= =============
The accompanying notes are an integral part of
these consolidated financial statements.
4
HORIZON TELCOM, INC. AND SUBSIDIARIES
Consolidated Statements of Operations
For the Three and Nine Months Ended September 30, 2004 and 2003 (unaudited)
- --------------------------------------------------------------------------------
For the Three Months Ended For the Nine Months Ended
September 30, September 30,
------------------------------ ------------------------------
2004 2003 2004 2003
------------- ------------- ------------- -------------
OPERATING REVENUES:
PCS subscriber and roaming .................... $ -- $ 33,106,473 $ -- $ 151,897,229
PCS equipment ................................. -- 518,841 -- 4,408,297
Basic local and long-distance service ......... 3,765,300 3,728,609 11,333,094 11,078,685
Network access ................................ 4,924,454 5,069,514 15,549,161 16,838,886
Other local exchange services ................. 2,500,386 2,160,191 7,410,423 6,362,517
Internet access and information services ...... 942,638 1,020,410 2,852,235 3,060,369
All other ..................................... 1,206,317 663,685 3,735,446 663,686
------------- ------------- ------------- -------------
Total operating revenues ................ 13,339,095 46,267,723 40,880,359 194,309,669
------------- ------------- ------------- -------------
OPERATING EXPENSES:
Cost of goods sold ............................ 236,707 1,301,568 852,172 12,387,126
Cost of services (exclusive of items shown
separately below) ......................... 4,409,774 30,152,888 13,288,035 129,102,054
Selling and marketing ......................... 505,397 4,247,596 1,459,332 29,887,977
General and administrative (exclusive of items
shown separately below) ................... 5,305,621 10,596,823 15,854,916 38,933,372
Non-cash compensation ......................... 645 81,256 1,935 274,474
(Gain) Loss on sale of property and equipment.. -- -- -- 216,312
Impairment of intangible assets and property
and equipment ............................. -- -- -- 73,760,278
Depreciation and amortization ................. 2,293,988 6,387,324 6,916,792 32,213,728
PCS restructuring charges ..................... -- 4,509,128 -- 4,509,128
------------- ------------- ------------- -------------
Total operating expenses ................ 12,752,132 57,276,583 38,373,182 321,284,449
------------- ------------- ------------- -------------
OPERATING INCOME (LOSS) ............................ 586,963 (11,008,860) 2,507,177 (126,974,780)
------------- ------------- ------------- -------------
NONOPERATING INCOME (EXPENSE):
Interest expense, net ......................... (699,317) (8,973,846) (2,101,445) (43,667,308)
Subsidiary preferred stock dividends .......... -- (1,594,948) -- (7,815,505)
Gain (loss) on sale of investment ............. -- -- 753,282 --
Interest income and other, net ................ 90,032 76,064 261,813 641,996
------------- ------------- ------------- -------------
Total nonoperating income (expense) ..... (609,285) (10,492,730) (1,086,350) (50,840,817)
------------- ------------- ------------- -------------
INCOME (LOSS) BEFORE INCOME TAX BENEFIT (EXPENSE)
and minority interest ........................... (22,322) (21,501,590) 1,420,827 (177,815,597)
INCOME TAX BENEFIT (EXPENSE) ....................... (36,537) (18,861) (709,397) 5,199,801
MINORITY INTEREST IN LOSS .......................... -- -- -- 24
------------- ------------- ------------- -------------
NET INCOME (LOSS) .................................. $ (58,859) $ (21,520,451) $ 711,430 $(172,615,772)
============= ============= ============= =============
The accompanying notes are an integral part of
these consolidated financial statements.
5
Net income (loss) per share:
Basic .............................................. $ (0.16) $ (59.37) $ 1.96 $ (476.20)
============= ============= ============= =============
Diluted ............................................ $ (0.16) $ (59.37) $ 1.96 $ (476.20)
============= ============= ============= =============
Weighted-average common shares outstanding:
Basic .............................................. 362,544 362,487 362,538 362,487
============= ============= ============= =============
Diluted ............................................ 362,544 362,487 362,699 362,487
============= ============= ============= =============
The accompanying notes are an integral part of
these consolidated financial statements.
6
HORIZON TELCOM, INC. AND SUBSIDIARIES
Consolidated Statements of Other Comprehensive Income (Loss)
For the Three and Nine Months Ended September 30, 2004 and 2003 (unaudited)
- --------------------------------------------------------------------------------
For the Three Months Ended For the Nine Months Ended
September 30, September 30,
2004 2003 2004 2003
------------- ------------- ------------- -------------
NET INCOME (LOSS) ...................................... $ (58,859) $ (21,520,451) $ 711,430 $(172,615,772)
============= ============= ============= =============
OTHER COMPREHENSIVE INCOME (LOSS)
Net unrealized gain (loss) on hedging activities ....... -- -- -- 461,644
Net unrealized gain (loss) on securities
available-for-sale, net of taxes of ($523)
and $125,305 for the three and nine months
ended September 30, 2004, and $10,434 and
$172,013 for the three and nine months ended
September 30, 2003, respectively .................. (768) (20,254) 182,792 333,907
Reclassification adjustment for gains on
securities included in net income, net of
taxes of $309,497 for the nine months
ended September 30, 2004 .......................... -- -- (451,499) --
------------- ------------- ------------- -------------
COMPREHENSIVE INCOME (LOSS) ............................ $ (59,627) $ (21,540,705) $ 442,723 $(171,820,221)
============= ============= ============= =============
The accompanying notes are an integral part of
these consolidated financial statements.
7
HORIZON TELCOM, INC. AND SUBSIDIARIES
Consolidated Statements of Cash Flows
For the Nine Months Ended September 30, 2004 and 2003 (unaudited)
- --------------------------------------------------------------------------------
Nine Months Ended September 30,
2004 2003
------------- -------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss) ...................................................................... $ 711,430 $(172,615,772)
------------- -------------
Adjustments to reconcile net income (loss) to net cash provided by (used
in) operating activities:
Depreciation and amortization ....................................................... 6,916,792 32,213,728
Impairment of intangible assets and property and equipment .......................... -- 73,760,278
Non-cash restructuring charges ...................................................... -- 2,884,062
Deferred income tax benefit ......................................................... -- (6,031,000)
Non-cash compensation expense ....................................................... 1,935 274,474
Non-cash interest expense ........................................................... 24,451 20,381,687
Loss on disposal of property, plant and equipment ................................... -- 216,312
Non-cash preferred stock dividend of subsidiary ..................................... -- 7,815,505
Minority interest in subsidiary ..................................................... -- (24)
Provision for bad debt expense ...................................................... 441,024 5,197,879
Gain on sale of investments ......................................................... (753,282) --
Decrease (Increase) in certain assets:
Accounts receivable ............................................................... (778,154) (6,461,289)
Inventories ....................................................................... 364,153 2,291,411
Prepaid expenses and other current assets ......................................... 1,472,031 (407,551)
Increase (Decrease) in certain liabilities:
Accounts payable .................................................................. 1,060,201 (3,371,225)
Payable to Sprint ................................................................. -- 7,290,020
Accrued liabilities and deferred PCS service revenue .............................. (567,356) 15,150,260
Postretirement benefit obligation ................................................. 1,776,501 946,287
Other assets and liabilities, net ................................................. 276,655 1,046,141
------------- -------------
Total adjustments ............................................................... 10,234,951 153,196,955
------------- -------------
Net cash provided by (used in) operating activities ........................... 10,946,381 (19,418,817)
------------- -------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures, net ........................................................... (6,872,519) (11,640,475)
Proceeds from sale of investments ................................................... 876,105 --
Deconsolidation of Horizon PCS ...................................................... -- (50,485,621)
------------- -------------
Net cash used in investing activities ......................................... (5,996,414) (62,126,096)
------------- -------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Borrowings on line of credit ........................................................ -- 1,000,000
Repayments on line of credit ........................................................ (1,000,000) --
Exercise of stock options ........................................................... 3,420 24
Dividends paid ...................................................................... (1,413,922) (1,413,687)
------------- -------------
Net cash used in financing activities ......................................... (2,410,502) (413,663)
------------- -------------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS ................................... 2,539,465 (81,958,576)
CASH AND CASH EQUIVALENTS, beginning of period ......................................... 17,086,826 94,948,351
------------- -------------
CASH AND CASH EQUIVALENTS, end of period ............................................... $ 19,626,291 $ 12,989,775
============= =============
The accompanying notes are an integral part of
these consolidated financial statements.
8
HORIZON TELCOM, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
As of September 30, 2004 (unaudited) and December 31, 2003
And for the Three and Nine Months Ended September 30, 2004 and 2003 (unaudited)
- --------------------------------------------------------------------------------
NOTE 1 - General
The results of operations for the periods shown are not necessarily
indicative of the results to be expected for the fiscal year (See Note 2,
Accounting Impact). In the opinion of management, the information contained
herein reflects all adjustments necessary to make a fair statement of the
periods presented. The financial information presented herein should be read in
conjunction with the Company's Form 10-K for the year ended December 31, 2003,
which includes information and disclosures not presented herein.
NOTE 2 - Bankruptcy of Horizon PCS and Liquidity
Voluntary Bankruptcy Filing
On August 15, 2003, Horizon PCS, Inc., a Delaware corporation and then
majority-owned subsidiary of Horizon Telcom, HPC, an Ohio corporation and
wholly-owned subsidiary of Horizon PCS, Inc., and Bright PCS, an Ohio limited
liability company and majority-owned subsidiary of Horizon PCS, Inc.
(collectively, the "Debtors"), filed voluntary petitions for relief under the
Bankruptcy Code in the United States Bankruptcy Court for the Southern District
of Ohio (the "Bankruptcy Court").
On June 27, 2004, the Debtors filed their plan of reorganization with the
Bankruptcy Court. The Bankruptcy Court confirmed the Debtors' reorganization
plan on September 21, 2004. The plan was consummated on October 1, 2004, at
which time the Debtors emerged from their bankruptcy proceedings. The Debtors'
reorganization plan resulted in a loss of Horizon Telcom's entire equity
investment in Horizon PCS, Inc.
While the long-term effect of the Debtors' bankruptcy proceedings cannot
be determined, management believes such proceedings will not have a material
adverse effect on the liquidity of Horizon Telcom.
Accounting Impact
In accordance with Statement of Financial Accounting Standards ("SFAS")
No. 94 "Consolidation of All Majority-Owned Subsidiaries" and Accounting
Research Bulletin ("ARB") No. 51 "Consolidated Financial Statements," when
control of a majority-owned subsidiary does not rest with the majority owners
(as, for instance, where the subsidiary is in legal reorganization or in
bankruptcy), ARB No. 51 precludes consolidation of the majority-owned
subsidiary. As a result, subsequent to August 14, 2003, Horizon Telcom no longer
consolidates the accounts and results of operations of Horizon PCS. Therefore,
Horizon Telcom's investment in Horizon PCS is the balance based on the
application of the equity method through August 14, 2003 and any cost based
activity subsequent to that date. Accordingly, the accompanying consolidated
balance sheet as of September 30, 2004 does not include the consolidated
accounts of Horizon PCS; it does however, include a negative investment of
approximately $470.9 million. In addition, the accompanying consolidated
statement of operations includes the consolidated results of operations of
Horizon PCS through August 14, 2003. As a result of the emergence of Horizon PCS
from bankruptcy proceedings in October 2004, the negative investment will be
reduced to zero as Horizon Telcom will have no ownership interest and Horizon
Telcom will recognize a corresponding gain in the statement of operations.
NOTE 3 - Organization and Business Operations
The Company is a facilities-based telecommunications carrier that provides
a variety of voice and data services to commercial, residential/small business
and local market segments. The Company provides landline telephone service,
very-high digital subscriber line ("VDSL") television service and Internet
access services to the southern Ohio region, principally in and surrounding
Chillicothe, Ohio.
9
HORIZON TELCOM, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
As of September 30, 2004 (unaudited) and December 31, 2003
And for the Three and Nine Months Ended September 30, 2004 and 2003 (unaudited)
- --------------------------------------------------------------------------------
NOTE 4 - Summary of Significant Accounting Policies
Note 2 in the Notes to Consolidated Financial Statements in the Company's
Annual Report on Form 10-K for the year ended December 31, 2003, describes the
Company's significant accounting policies in greater detail than presented
herein.
Basis of Presentation
The accompanying consolidated financial statements reflect the operations
of Horizon Telcom, and its subsidiaries, Chillicothe Telephone, Horizon PCS
through August 14, 2003, Horizon Services and Horizon Technology, and have been
prepared in accordance with the rules and regulations of the Securities and
Exchange Commission. Certain information and footnote disclosures normally
included in financial statements prepared in accordance with generally accepted
accounting principles in the United States have been condensed or omitted
pursuant to such rules and regulations. All material intercompany transactions
and balances have been eliminated in consolidation.
Inventories
Inventories consist of equipment held for resale, materials and supplies
and installation-related work in progress held by Chillicothe Telephone.
Chillicothe Telephone inventories include the cost (determined by the first-in,
first-out method) of equipment to be used in the installation of telephone
systems, as well as costs related to direct sales orders in process.
Inventories consist of the following at September 30, 2004 and at December
31, 2003:
September 30, December 31,
2004 2003
------------- ------------
Equipment held for resale.................... $ 120,975 $ 123,875
Materials, supplies and work in progress..... 1,951,804 2,313,057
----------- -----------
Total inventories....................... $ 2,072,779 $ 2,436,932
=========== ===========
Estimates
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America requires
management to make estimates and assumptions that affect the reported amounts of
assets and liabilities and disclosure of contingent assets and liabilities at
the date of the financial statements and the reported amounts of revenues and
expenses during the reporting period. Actual results could differ materially
from those estimates.
10
HORIZON TELCOM, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
As of September 30, 2004 (unaudited) and December 31, 2003
And for the Three and Nine Months Ended September 30, 2004 and 2003 (unaudited)
- --------------------------------------------------------------------------------
NOTE 4 - Summary of Significant Accounting Policies (Continued)
Accounting for Rate Regulation
Chillicothe Telephone is subject to rate regulation. SFAS No. 71
"Accounting for the Effects of Certain Types of Rate Regulation" provides that
rate-regulated public utilities account for revenues and expenses and report
assets and liabilities consistent with the economic effect of the way in which
regulators establish rates. Chillicothe
Telephone follows the accounting and reporting requirements of SFAS No.
71. The Company has recorded regulatory liabilities of approximately $997,000
and $509,000 as of September 30, 2004 and December 31, 2003, respectively.
Property, Plant and Equipment
Property, plant and equipment, including improvements that extend useful
lives, are stated at cost (Note 7), while maintenance and repairs are charged to
operations as incurred. Construction work in progress includes expenditures for
the purchase of capital equipment, construction and items such as direct payroll
and related benefits and interest capitalized during construction.
The Company capitalizes interest pursuant to SFAS No. 34 "Capitalization
of Interest Cost." The Company capitalized interest of approximately $28,000 and
$719,000 for the nine months ended September 30, 2004 and 2003, respectively. In
addition, the Company capitalized labor costs of approximately $1,790,000 and
$1,684,000 for the nine months ended September 30, 2004 and 2003, respectively.
Stock-Based Compensation
The Company applies the intrinsic value-based method of accounting
prescribed by Accounting Principles Board ("APB") Opinion No. 25, "Accounting
for Stock Issued to Employees," and related interpretations including Financial
Accounting Standards Board ("FASB") Interpretation No. 44, "Accounting for
Certain Transactions involving Stock Compensation an interpretation of APB
Opinion No. 25", to account for its fixed plan stock options. Under this method,
compensation expense is recorded on the date of grant only if the current market
price of the underlying stock exceeds the exercise price. SFAS No. 148,
"Accounting for Stock-Based Compensation -Transition and Disclosure - an
amendment of FASB Statement No. 123" established accounting and disclosure
requirements using a fair value-based method of accounting for stock-based
employee compensation plans. As allowed by SFAS No. 148, the Company has elected
to continue to apply the intrinsic value-based method of accounting described
above, and has adopted the disclosure requirements of SFAS No. 148.
11
NOTE 4 - Summary of Significant Accounting Policies (Continued)
The following table illustrates the effect on net income (loss) if the
fair-value-based method had been applied to all outstanding and unvested awards
in each of the three and nine month periods ended September 30:
Three Months Ended September 30, Nine Months Ended September 30,
2004 2003 2004 2003
----------- ------------- --------- ---------------
Net income (loss)
As reported ..................................... $ (58,859) $(21,520,451) $711,430 $(172,615,772)
Add: Stock-based employee
compensation expense included in
reported net income (loss) ...................... 645 81,256 1,935 274,474
Deduct: Total stock-based employee
compensation expense determined under
fair value base method for all awards ........... -- (99,676) -- (496,812)
--------- ------------ -------- -------------
Pro forma net income (loss) ....................... $ (58,214) $(21,538,871) $713,365 $(172,838,110)
========= ============ ======== =============
Basic income (loss) per share:
As reported ....................................... $ (0.16) $ (59.37) $ 1.96 $ (476.20)
Pro forma ......................................... $ (0.16) $ (59.42) $ 1.97 $ (476.81)
Diluted income (loss) per share:
As reported ....................................... $ (0.16) $ (59.37) $ 1.96 $ (476.20)
Pro forma ......................................... $ (0.16) $ (59.42) $ 1.97 $ (476.81)
The Company accounts for equity instruments issued to non-employees in
accordance with the provisions of SFAS No. 123 and Emerging Issues Task Force
("EITF") Issue No. 96-18, "Accounting for Equity Instruments That Are Issued to
Other Than Employees for Acquiring, or in Conjunction with Selling, Goods or
Services." All transactions in which goods or services are the consideration
received for the issuance of equity instruments are accounted for based on the
fair value of the consideration received or the fair value of the equity
instrument issued, whichever is more reliably measurable. The measurement date
of the fair value of the equity instrument issued is the earlier of the date on
which the counter-party's performance is complete or the date on which it is
probable that performance will occur.
Net Income (Loss) per Share
The Company computes net income (loss) per common share in accordance with
SFAS No. 128, "Earnings per Share." Basic net income (loss) per share is
computed by dividing net income (loss) by the weighted-average outstanding
common shares for the period. The diluted weighted-average outstanding common
shares are calculated using the treasury stock method and take into account all
common stock equivalents. For periods in which a net loss occurs, no conversion
of common stock equivalents (options, warrants or convertible securities) has
been assumed in the calculations since the effect would be antidilutive.
Recent Accounting Pronouncements
In May 2004, FASB issued Staff Position 106-2 ("FSP 106-2"), "Accounting
and Disclosure Requirements Related to the Medicare Prescription Drug,
Improvement and Modernization Act of 2003." FSP 106-2 relates to the Medicare
Prescription Drug, Improvement and Modernization Act of 2003 signed into law on
December 8, 2003. This act introduced a prescription drug benefit under
Medicare, as well as a federal subsidy to sponsors of retiree health care
benefit plans that provide a benefit that is at least actuarially equivalent to
Medicare. During the second quarter of 2004, the Company adopted the provisions
of FSP 106-2. The impact of the adoption of FSP 106-2 has yet to be determined.
12
HORIZON TELCOM, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
As of September 30, 2004 (unaudited) and December 31, 2003
And for the Three and Nine Months Ended September 30, 2004 and 2003 (unaudited)
- --------------------------------------------------------------------------------
NOTE 4 - Summary of Significant Accounting Policies (Continued)
Reclassifications
Certain prior year amounts have been reclassified to conform with the 2004
presentation.
NOTE 5 - Segment Information
Operating segments are defined by SFAS No. 131, "Disclosures about
Segments of an Enterprise and Related Information," as components of an
enterprise about which separate financial information is available that is
evaluated regularly by the chief operating decision maker, or decision-making
group, in deciding how to allocate resources and in assessing performance.
Accordingly, the Company is organized around individual business units. For the
quarter and nine months ended September 30, 2004, the Company has determined
that its three operating segments are the local exchange company, the
information services business, and its wireless business. Prior periods have
been restated below reflecting these segments. Separate financial information is
available for these segments, and a chief decision maker resides over each
segment, regularly reviewing the operations of the segment. The information
services business segment includes one primary revenue stream: internet access.
As discussed in Note 2, subsequent to August 14, 2003, Horizon Telcom no longer
consolidates the accounts and results of operations of Horizon PCS and the
accounts of Horizon PCS are recorded as an investment using the cost method of
accounting. Accordingly, the wireless business segment does not include activity
after August 14, 2003.
Other business activities of the Company include revenue and expenses for
corporate support, including unallocated administrative expenses incurred at the
corporate level. Amounts related to these business activities are included below
under the heading "All other." All other assets represent common assets not
identified to an operating segment.
The Company evaluates the performance of the segments based on operating
earnings before the allocation of administrative expenses. Information about
interest income and expense and income taxes is not provided on a segment level.
The accounting policies of the segments are the same as described in the summary
of significant accounting policies.
The following table includes revenue, intercompany revenues, operating
earnings (loss), depreciation and amortization expense, and capital expenditures
for the quarters and periods ended September 30, 2004 and 2003, and assets as of
September 30, 2004 and December 31, 2003, for each segment and reconciling items
necessary to total to amounts reported in the financial statements:
Net Revenue
Three Months Ended September 30, Nine Months Ended September 30,
2004 2003 2004 2003
------------ ------------ ------------ ------------
Wireless business .............................. $ -- $ 33,625,314 $ -- $156,305,526
Local exchange company ......................... 11,190,140 10,958,314 34,292,678 34,280,088
Information services business .................. 942,638 1,020,410 2,852,235 3,060,369
All other ...................................... 1,206,317 663,685 3,735,446 663,686
------------ ------------ ------------ ------------
Total net revenues ......................... $ 13,339,095 $ 46,267,723 $ 40,880,359 $194,309,669
============ ============ ============ ============
13
HORIZON TELCOM, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
As of September 30, 2004 (unaudited) and December 31, 2003
And for the Three and Nine Months Ended September 30, 2004 and 2003 (unaudited)
- --------------------------------------------------------------------------------
NOTE 5 - Segment Information (Continued)
Intercompany Revenue
Three Months Ended September 30, Nine Months Ended September 30,
2004 2003 2004 2003
---------- ---------- ---------- ----------
Wireless business .................................. $ -- $ 28,341 $ -- $ 50,871
Local exchange company ............................. 148,060 242,599 440,458 851,812
Information services business ...................... 174,131 168,423 528,205 467,968
All other .......................................... -- -- -- --
---------- ---------- ---------- ----------
Total intercompany revenues .................... $ 322,191 $ 439,363 $ 968,663 $1,370,651
========== ========== ========== ==========
Operating Earnings (Loss)
Three Months Ended September 30, Nine Months Ended September 30,
2004 2003 2004 2003
------------- ------------- ------------- -------------
Wireless business .............................. $ -- $ (11,075,250) $ -- $(127,576,728)
Local exchange company ......................... 2,667,683 2,614,416 8,654,381 9,853,113
Information services business .................. (548,026) (436,665) (1,632,064) (1,279,798)
All other ...................................... (1,532,694) (2,111,361) (4,515,140) (7,971,367)
------------- ------------- ------------- -------------
Total operating income (loss) .............. $ 586,963 $ (11,008,860) $ 2,507,177 $(126,974,780)
============= ============= ============= =============
Depreciation and Amortization
Three Months Ended September 30, Nine Months Ended September 30,
2004 2003 2004 2003
----------- ----------- ----------- -----------
Wireless business ...................................... $ -- $ 4,023,504 $ -- $25,175,810
Local exchange company ................................. 2,213,411 2,285,020 6,674,747 6,804,529
Information services business .......................... 80,577 78,800 242,045 233,389
All other .............................................. -- -- -- --
----------- ----------- ----------- -----------
Total depreciation and amortization ................ $ 2,293,988 $ 6,387,324 $ 6,916,792 $32,213,728
=========== =========== =========== ===========
Capital Expenditures
Three Months Ended September 30, Nine Months Ended September 30,
2004 2003 2004 2003
----------- ----------- ----------- -----------
Wireless business .............................. $ -- $ 198,190 $ -- $ 5,255,326
Local exchange company ......................... 2,575,212 2,071,028 6,625,290 6,263,688
Information services business .................. 2,898 15,371 35,996 65,486
All other ...................................... 204,085 24,026 211,233 55,975
----------- ----------- ----------- -----------
Total capital expenditures ................. $ 2,782,195 $ 2,308,615 $ 6,872,519 $11,640,475
=========== =========== =========== ===========
Assets
September 30, December 31,
2004 2003
------------ ------------
Wireless business .............................. $ -- $ --
Local exchange company ......................... 106,334,947 105,431,823
Information services business .................. 1,197,838 1,511,220
All other ...................................... 3,313,961 4,085,654
------------ ------------
Total assets ............................... $110,846,746 $111,028,697
============ ============
14
HORIZON TELCOM, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
As of September 30, 2004 (unaudited) and December 31, 2003
And for the Three and Nine Months Ended September 30, 2004 and 2003 (unaudited)
- --------------------------------------------------------------------------------
NOTE 5 - Segment Information (Continued)
Net operating revenues by product and services were as follows for the three and
nine months ended September 30:
Three Months Ended September 30, Nine Months Ended September 30,
2004 2003 2004 2003
------------ ------------ ------------ ------------
Wireless business:
PCS subscriber revenue ................................. $ -- $ 24,229,074 $ -- $115,643,263
PCS roaming revenue .................................... -- 8,877,399 -- 36,253,966
PCS equipment sales .................................... -- 518,841 -- 4,408,297
------------ ------------ ------------ ------------
Total wireless business .............................. -- 33,625,314 -- 156,305,526
------------ ------------ ------------ ------------
Local exchange company:
Basic local service .................................... 3,575,395 3,490,871 10,752,496 10,362,212
Long-distance service .................................. 189,905 237,738 580,598 716,473
Network access ......................................... 2,268,217 2,502,440 7,049,874 8,324,805
Universal Service Support Fund ......................... 2,656,237 2,567,074 8,499,287 8,514,081
Directory advertising, VDSL and equipment
sales ................................................ 1,916,891 1,658,751 5,841,615 4,899,418
Other related telephone service ........................ 583,495 501,440 1,568,808 1,463,099
------------ ------------ ------------ ------------
Total local exchange company ......................... 11,190,140 10,958,314 34,292,678 34,280,088
------------ ------------ ------------ ------------
Information services business:
Internet access services ............................... 503,864 661,918 1,625,166 2,033,961
Horizon long distance .................................. 245,275 212,008 698,008 629,414
Other information services ............................. 193,499 146,484 529,061 396,994
------------ ------------ ------------ ------------
Total information services business .................. 942,638 1,020,410 2,852,235 3,060,369
------------ ------------ ------------ ------------
Other:
Other miscellaneous revenues ........................... 1,206,317 663,685 3,735,446 663,686
------------ ------------ ------------ ------------
Total other .......................................... 1,206,317 663,685 3,735,446 663,686
------------ ------------ ------------ ------------
Total operating revenues .......................... $ 13,339,095 $ 46,267,723 $ 40,880,359 $194,309,669
============ ============ ============ ============
15
HORIZON TELCOM, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
As of September 30, 2004 (unaudited) and December 31, 2003
And for the Three and Nine Months Ended September 30, 2004 and 2003 (unaudited)
- --------------------------------------------------------------------------------
NOTE 6 - Investments
The following summarizes gross unrealized gains and losses on investments
at September 30, 2004 and December 31, 2003:
2004:
Unrealized Unrealized Fair
Cost Gain Loss Value
--------- ----------- ---------- -----------
Equity securities available-for-sale..................................... $ 130,338 $ 813,000 $ -- $ 943,338
========= =========== ===== ===========
2003:
Unrealized Unrealized Fair
Cost Gain Loss Value
--------- ----------- ---------- -----------
Equity securities available-for-sale..................................... $ 250,000 $ 1,265,900 $ -- $ 1,515,900
========= =========== ===== ===========
NOTE 7 - Property, Plant and Equipment
Property, plant and equipment consists of the following:
September 30, December 31,
2004 2003
------------- -------------
Network assets ............................................................... $ 107,154,021 $ 103,594,174
Land and buildings ........................................................... 15,339,425 15,112,337
Computer and telecommunications equipment .................................... 11,382,573 11,162,687
Furniture, vehicles and office equipment ..................................... 5,675,369 5,008,048
------------- -------------
Property, plant and equipment in-service, at cost .......................... 139,551,388 134,877,246
Accumulated depreciation ..................................................... (65,198,908) (60,409,370)
------------- -------------
Property, plant and equipment in-service, net ........................... 74,352,480 74,467,876
Construction work in progress ................................................ 1,487,300 1,380,734
------------- -------------
Total property, plant and equipment, net ........................... $ 75,839,780 $ 75,848,610
============= =============
During the first quarter of 2003, Horizon PCS recorded a liability of
$22,600 and a cumulative change in accounting principle of $9,570 related to the
adoption SFAS No. 143 for potential costs associated with certain asset
retirement obligations. The cumulative change in accounting principle is
included in "interest income and other, net" on the accompanying statement of
operations.
During the second quarter of 2003, Horizon PCS reduced the book value of
the network assets related to an impairment recorded on property and equipment
discussed below in Note 8.
NOTE 8 - Impairment of Horizon PCS Intangible Assets and Property and Equipment
Horizon PCS was not in compliance with the loan covenants as of June 30,
2003. This created the need for an impairment assessment of its intangible
assets and property and equipment as required by SFAS No. 144. Therefore,
Horizon PCS projected future undiscounted cash flows and determined they were
insufficient to recover the carrying amounts for the intangible assets and
property and equipment. This required Horizon PCS to recognize an impairment
loss for the excess of carrying value over fair value. To determine fair value,
Horizon PCS performed a valuation utilizing a cost approach adjusted for items
such as technological and functional obsolescence as appropriate.
16
HORIZON TELCOM, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
As of September 30, 2004 (unaudited) and December 31, 2003
And for the Three and Nine Months Ended September 30, 2004 and 2003 (unaudited)
- --------------------------------------------------------------------------------
NOTE 8 - Impairment of Horizon PCS Intangible Assets and Property and Equipment
(Continued)
Horizon PCS determined that the carrying value of the intangible assets
exceeded the fair value of the assets. As a result, Horizon PCS recorded
impairment on the intangible assets of approximately $39,152,000. As a result of
the impairment charge, Horizon PCS recorded a tax benefit of $6,031,000 due to
the reduction of a deferred tax liability related to the intangibles. As of
September 30, 2003, net deferred income taxes were zero.
Additionally, Horizon PCS determined the fair market value of the property
and equipment was less than the carrying value of the assets. As a result,
Horizon PCS recorded an impairment on property and equipment of approximately
$34,609,000.
NOTE 9 - Other Current Liabilities
Accrued personal property, real estate and other taxes consisted of the
following as of:
September 30, December 31,
2004 2003
---------- ----------
Accrued real estate and personal property taxes .................................... $1,258,339 $2,360,235
All other accrued taxes ............................................................ 643,404 408,186
---------- ----------
Total accrued personal property, real estate,
and other taxes ........................................................ $1,901,743 $2,768,421
========== ==========
Accrued interest, payroll and other current liabilities consisted of the
following as of:
September 30, December 31,
2004 2003
---------- ----------
Accrued directory commissions ........................................................ $ 380,754 $ 151,295
Accrued interest ..................................................................... 399,200 903,222
Accrued vacation and payroll ......................................................... 1,466,921 1,232,321
Deferred revenue ..................................................................... 846,694 331,179
Postretirement benefit obligation - current .......................................... 592,416 592,416
All other accrued liabilities ........................................................ 813,793 990,023
---------- ----------
Total accrued interest, payroll and other current
liabilities .............................................................. $4,499,778 $4,200,456
========== ==========
NOTE 10 - Lines of Credit
On December 15, 2002, Chillicothe Telephone entered into an agreement with
Huntington National Bank for a line of credit that provides for a maximum
borrowing of $15,000,000, payable on demand. Interest accrues on the outstanding
balance at a fluctuating rate tied to the LIBOR and is due and payable monthly.
At September 30, 2004, the interest rate on the line of credit was 3.625%. As of
September 30, 2004, Chillicothe Telephone had repaid all amounts previously
drawn under the line of credit. The line of credit expires October 15, 2005. The
line of credit contains several covenants including minimum tangible net worth,
and fixed charge coverage, funded debt to consolidated total capitalization and
interest coverage ratios. As of September 30, 2004, Chillicothe Telephone was in
compliance with all covenants under the line of credit.
17
HORIZON TELCOM, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
As of September 30, 2004 (unaudited) and December 31, 2003
And for the Three and Nine Months Ended September 30, 2004 and 2003 (unaudited)
- --------------------------------------------------------------------------------
NOTE 11 - Long-Term Debt
The components of long-term debt outstanding are as follows:
Interest Rate at
September 30, September 30, December 31,
2004 2004 2003
---------------- ----------- -----------
Chillicothe Telephone:
2002 Senior Notes ....................................... 6.64% $30,000,000 $30,000,000
1998 Senior Notes ....................................... 6.72% 12,000,000 12,000,000
----------- -----------
Total long-term debt ................................. $42,000,000 $42,000,000
----------- -----------
NOTE 12 - Pension Plans and Other Retirement Benefits
Pension Benefits Other Benefits Pension Benefits Other Benefits
------------------- ------------------ ------------------- ------------------
For the Three Months Ended September 30, For the Nine Months Ended September 30,
2003 2004 2003* 2004 2003 2004 2003* 2004
------- ------- ------- ------- ------- ------- ------- -------
(in thousands) (in thousands)
Components of net
periodic benefit cost:
Service cost ........................ $ 140 $ 197 $ 206 $ 66 $ 420 $ 591 $ 620 $ 532
Interest cost ....................... 296 339 345 241 888 1,017 1,035 987
Expected return on
plan assets ....................... (334) (372) -- -- (1,002) (1,116) -- --
Amortization of
transition
obligation ........................ -- (2) 56 -- -- (6) 168 112
Amortization of prior
service cost ...................... 23 55 52 (172) 69 165 156 (68)
Recognized net
actuarial loss .................... 61 63 117 245 183 189 353 509
------- ------- ------- ------- ------- ------- ------- -------
Net periodic
benefit cost ...................... $ 186 $ 280 $ 776 $ 380 $ 558 $ 840 $ 2,332 $ 2,072
======= ======= ======= ======= ======= ======= ======= =======
*Amounts in the other benefits column exclude Horizon PCS.
The Company previously disclosed in its financial statements for the year
ended December 31, 2003 that it expected to contribute $239,056 to its pension
plans and $592,416 to other benefit plans in 2004. As of September 30, 2004,
$239,056 and $262,011 were contributed for pension plans and other benefit
plans, respectively.
In accordance with FSP 106-2, the Company has yet to determine whether its
post-retirement health plan is actuarially equivalent to the Medicare
prescription-drug benefit. The Company will continue to make a determination of
its plan's equivalency and account for the effect of any subsidy in the period
corresponding to the plan's next measurement date. Accordingly, the numbers
included in the tables above and in the financial statements do not reflect any
effect from the accounting requirements of FSP 106-2.
During the second quarter of 2004, the Company announced the reduction of
benefits available to future retirees. Employees who retire after July 15, 2004,
will no longer be eligible for medical benefits under the Horizon Retiree
Medical Plan. They will be eligible to participate in the Horizon Prescription
Drug plan until Medicare Part D takes effect in 2006. The Company has realized a
reduction of benefit expense beginning in the results of operations for the
quarter ended September 30, 2004.
18
HORIZON TELCOM, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
As of September 30, 2004 (unaudited) and December 31, 2003
And for the Three and Nine Months Ended September 30, 2004 and 2003 (unaudited)
- --------------------------------------------------------------------------------
NOTE 13 - Commitments and Contingencies
Operating Leases
The Company leases office space and various equipment under several
operating leases.
Stock Splits and Subsequent Cash Out
On August 19, 2004, Horizon Telcom announced that its board of directors
unanimously approved stock splits of its shares of Class B common stock. The
stock splits would consist of a reverse stock split at a ratio to be determined
followed immediately by a forward stock split utilizing the same ratio. Each
stockholder owning less than one share of Horizon Telcom Class B common stock
immediately after the reverse stock split would, instead of participating in the
forward stock split, receive a cash payment in an amount to be determined. Each
stockholder owning one or more shares of Class B common stock following the
reverse stock split would not receive any cash payment and would remain a
stockholder of Horizon Telcom. The completion of the stock splits is subject to
approval by the affirmative vote of at least two-thirds (2/3) of Horizon
Telcom's Class A and Class B common stock.
The stock splits will reduce the number of record holders of Horizon
Telcom's Class B common stock to below 300, thereby allowing Horizon to suspend
its obligation to file periodic reports and other documents with the Securities
and Exchange Commission. Horizon Telcom incurs substantial accounting, legal and
compliance costs by being a public company. These costs would decrease
significantly after Horizon Telcom suspends its reporting obligations.
Legal Matters
The Company is party to legal claims arising in the normal course of
business. Although the ultimate outcome of the claims cannot be ascertained at
this time, it is the opinion of management that none of these matters, when
resolved, will have a material adverse impact on the Company's results of
operations or financial condition.
19
ITEM 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
FORWARD-LOOKING STATEMENTS
This quarterly report on Form 10-Q includes forward-looking statements
within the meaning of Section 27A of the Securities Act of 1933, as amended (the
"Securities Act"), and Section 21E of the Securities Exchange Act of 1934, as
amended (the "Exchange Act"), which can be identified by the use of
forward-looking terminology such as: "may", "might", "could", "would",
"believe", "expect", "intend", "plan", "seek", "anticipate", "estimate",
"project" or "continue" or the negative thereof or other variations thereon or
comparable terminology. All statements other than statements of historical fact
included in this quarterly report on Form 10-Q, including without limitation,
the statements under "ITEM 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations" regarding our financial position and
liquidity are forward-looking statements. These forward-looking statements also
include, but are not limited to:
o changes in industry conditions created by the Federal
Telecommunications Act of 1996 (the "Telecom Act") and related state
and federal legislation and regulations;
o recovery of the substantial costs which will result from the
implementation and expansion of our new businesses;
o retention of our existing customer base and our ability to attract
new customers;
o rapid changes in technology;
o our future compliance with debt covenants;
o actions of our competitors;
o estimates of current and future population for our markets;
o statements regarding the effects of, or the outcome of, the Horizon
PCS bankruptcy filing and related proceedings;
o statements regarding our anticipated revenues, expense levels,
liquidity and capital resources and projections; and
o the anticipated impact of recent accounting pronouncements.
Although we believe the expectations reflected in such forward-looking
statements are reasonable, we can give no assurance such expectations will prove
to have been correct. Important factors with respect to any such forward-looking
statements, including certain risks and uncertainties that could cause actual
results to differ materially from our expectations ("Cautionary Statements"),
are disclosed in this quarterly report on Form 10-Q, including, without
limitation, in conjunction with the forward-looking statements included in this
quarterly report on Form 10-Q. Important factors that could cause actual results
to differ materially from those in the forward-looking statements included
herein include, but are not limited to:
o changes or advances in technology and the acceptance of new
technology in the marketplace;
o competition in the industry and markets in which we operate;
o changes in government regulation;
o general political economic and business conditions; and
o the impact and outcome of the Horizon PCS bankruptcy filing and
related proceedings.
20
These forward-looking statements involve known and unknown risks,
uncertainties and other factors which may cause our actual results, performance
or achievements to be materially different from any future results, performance
or achievements expressed or implied by such forward-looking statements. All
subsequent written and oral forward-looking statements attributable to us or
persons acting on our behalf are expressly qualified in their entirety by the
Cautionary Statements.
Overview
Horizon Telcom is a holding company, which owns 100% of 1) Chillicothe
Telephone, a local telephone company, 2) Horizon Services, which provides
administrative services to other Horizon Telcom affiliates and Horizon PCS, and
3) Horizon Technology, a long-distance and Internet services business. As of
October 1, 2004, the effective date of Horizon PCS' emergence from bankruptcy
proceedings, Horizon Telcom's entire equity investment in Horizon PCS, Inc. was
eliminated.
Horizon Telcom provides a variety of voice and data services to
commercial, residential/small business and local market segments. Horizon Telcom
provides landline telephone service, VDSL television service and Internet access
services to the southern Ohio region, principally in and surrounding
Chillicothe, Ohio.
At September 30, 2004, Chillicothe Telephone serviced approximately 36,700
access lines in Chillicothe, Ohio and the surrounding area. Horizon Technology
provided Internet service to approximately 8,100 customers through its
bright.net Internet service.
Critical Accounting Policies and Estimates
See Note 2 to the Consolidated Financial Statements for a discussion of
Horizon PCS' recently concluded bankruptcy proceedings.
While the long-term effect of Horizon PCS' bankruptcy proceedings cannot
be determined, management believes that such proceedings will not have a
material adverse effect on the liquidity of Horizon Telcom. See the "Risk
Factors" below for further discussion.
In accordance with SFAS No. 94 "Consolidation of All Majority-Owned
Subsidiaries" and ARB No. 51 "Consolidated Financial Statements," when control
of a majority-owned subsidiary does not rest with the majority owners (as, for
instance, where the subsidiary is in legal reorganization or in bankruptcy), ARB
No. 51 precludes consolidation of the majority-owned subsidiary. As a result,
subsequent to August 14, 2003, Horizon Telcom no longer consolidates the
accounts and results of operations of Horizon PCS. Therefore, Horizon Telcom's
investment in Horizon PCS is the balance based on the application of the equity
method through August 14, 2003 and any cost based activity subsequent to that
date. Accordingly, the accompanying consolidated balance sheet as of September
30, 2004 does not include the consolidated accounts of Horizon PCS; it does
however, include a negative investment of approximately $470.9 million. In
addition, the accompanying consolidated statement of operations for the period
ended September 30, 2004 includes the consolidated results of operations of
Horizon PCS through August 14, 2003. As a result of the emergence of Horizon PCS
from bankruptcy proceedings in October 2004, the negative investment will be
reduced to zero as Horizon Telcom will have no ownership interest and Horizon
Telcom will recognize a corresponding gain in the statement of operations.
Chillicothe Telephone is subject to rate regulation. SFAS No. 71
"Accounting for the Effects of Certain Types of Rate Regulation" provides that
rate-regulated public utilities account for revenues and expenses and report
assets and liabilities consistent with the economic effect of the way in which
regulators establish rates. Chillicothe Telephone follows the accounting and
reporting requirements of SFAS No. 71.
21
Results of Operations for the Three Months Ended September 30, 2004 Compared to
the Three Months Ended September 30, 2003
This discussion and analysis is presented on an operating segment basis.
The following unaudited table details the consolidated statements of income by
operating segment for the three months ended September 30, 2004 and 2003:
For the Three Months Ended September 30,
---------------------------------------------
Wireless Business(1) Local Exchange Company
(Dollars in thousands) -------------------- ----------------------
2004 2003 2004 2003
-------- -------- -------- --------
OPERATING REVENUES:
PCS subscriber and
roaming ............................. $ -- $33,10 $ -- $ --
PCS equipment ......................... -- 519 -- --
Basic local and
long-distance ....................... -- -- 3,765 3,729
Network access ........................ -- -- 4,925 5,070
Other local exchange
services ............................ -- -- 2,500 2,160
Internet access and
informational services .............. -- -- -- --
All other ............................. -- -- -- --
-------- -------- -------- --------
Total operating revenues ............ -- 33,625 11,190 10,959
-------- -------- -------- --------
OPERATING EXPENSES:
Cost of PCS and other
equipment sales ..................... -- 1,207 145 80
Cost of services ...................... -- 25,852 3,668 3,521
Selling and marketing ................. -- 3,794 377 338
General and administrative ............ -- 5,237 2,119 2,120
Non-cash compensation ................. -- 77 -- 1
Loss on disposal of assets ............ -- -- -- --
Depreciation and amortization ......... -- 4,024 2,213 2,284
Restructuring charges ................. -- 4,509 -- --
-------- -------- -------- --------
Total operating expenses ............ -- 44,700 8,522 8,344
-------- -------- -------- --------
OPERATING INCOME (LOSS) ................. -- (11,075) 2,668 2,615
-------- -------- -------- --------
NONOPERATING INCOME (EXPENSE):
Interest expense, net ................. -- (8,269) (699) (705)
Subsidiary preferred stock
dividends ........................... -- (1,595) -- --
Gain on sale of investment ............ -- -- -- --
Interest income and other, net ........ -- 70 77 5
-------- -------- -------- --------
Total nonoperating expense ............ -- (9,794) (622) (700)
-------- -------- -------- --------
INCOME (LOSS) BEFORE INCOME
TAX EXPENSE and minority
interest .............................. -- (20,869) 2,046 1,915
INCOME TAX (EXPENSE) BENEFIT ............ -- -- (270) (226)
MINORITY INTEREST IN LOSS ............... -- -- -- --
-------- -------- -------- --------
NET INCOME (LOSS) ....................... $ -- $(20,869) $ 1,776 $ 1,689
======== ======== ======== ========
OTHER COMPREHENSIVE
INCOME (LOSS)
Net realized gain (loss) on
hedging activities .................... -- -- -- --
Net unrealized gain (loss)
on securities available-for-sale,
net of taxes ............................ -- -- (1) (21)
Reclassification adjustment for
gains included in net income,
net of taxes .......................... -- -- -- --
-------- -------- -------- --------
COMPREHENSIVE INCOME (LOSS) ............. $ -- $(20,869) $ 1,775 $ 1,668
======== ======== ======== ========
For the Three Months Ended September 30,
---------------------------------------------
Information
Services Business All Other Services
(Dollars in thousands) -------------------- ----------------------
2004 2003 2004 2003
-------- -------- -------- --------
OPERATING REVENUES:
PCS subscriber and
roaming ............................. $ -- $ -- $ -- $ --
PCS equipment ......................... -- -- -- --
Basic local and
long-distance ....................... -- -- -- --
Network access ........................ -- -- -- --
Other local exchange
services ............................ -- -- -- --
Internet access and
informational services .............. 943 1,020 -- --
All other ............................. -- -- 1,206 664
-------- -------- -------- --------
Total operating revenues ............ 943 1,020 1,206 664
-------- -------- -------- --------
OPERATING EXPENSES:
Cost of PCS and other
equipment sales ..................... 92 15 -- --
Cost of services ...................... 837 875 (95) (95)
Selling and marketing ................. 126 112 2 4
General and administrative ............ 355 376 2,832 2,864
Non-cash compensation ................. -- -- -- 3
Loss on disposal of assets ............ -- -- -- --
Depreciation and amortization ......... 81 79 -- --
Restructuring charges ................. -- -- -- --
-------- -------- -------- --------
Total operating expenses ............ 1,491 1,457 2,739 2,776
-------- -------- -------- --------
OPERATING INCOME (LOSS) ................. (548) (437) (1,533) (2,112)
-------- -------- -------- --------
NONOPERATING INCOME (EXPENSE):
Interest expense, net ................. -- -- -- --
Subsidiary preferred stock
dividends ........................... -- -- -- --
Gain on sale of investment ............ -- -- -- --
Interest income and other, net ........ -- -- 13 2
-------- -------- -------- --------
Total nonoperating expense ............ -- -- 13 2
-------- -------- -------- --------
INCOME (LOSS) BEFORE INCOME
TAX EXPENSE and minority
interest .............................. (548) (437) (1,520) (2,110)
INCOME TAX (EXPENSE) BENEFIT ............ 218 179 15 28
MINORITY INTEREST IN LOSS ............... -- -- -- --
-------- -------- -------- --------
NET INCOME (LOSS) ....................... $ (330) $ (258) $ (1,505) $ (2,082)
======== ======== ======== ========
OTHER COMPREHENSIVE
INCOME (LOSS)
Net realized gain (loss) on
hedging activities .................... -- -- -- --
Net unrealized gain (loss)
on securities available-for-sale,
net of taxes ............................ -- -- -- --
Reclassification adjustment for
gains included in net income,
net of taxes .......................... -- -- -- --
-------- -------- -------- --------
COMPREHENSIVE INCOME (LOSS) ............. $ (330) $ (258) $ (1,505) $ (2,082)
======== ======== ======== ========
(1) Amounts in the wireless business column include the results of Horizon PCS
through August 14, 2003 (Note 2).
22
Local Exchange Company Segment and All Other Services
The following discussion details the results of operations of our local
exchange company segment and all other services not assigned to a segment for
the last fiscal quarter.
Results of Operations
Revenues. Network access revenue decreased by approximately $200,000 for
the three months ended September 30, 2004, to approximately $4.9 million. This
decrease was due to significantly lower rates for special access interstate and
intrastate revenues. Basic local and long distance revenues were essentially
flat at approximately $3.8 million for the three months ended September 30, 2004
and 2003.
Other local exchange services revenue for the local exchange company
segment increased by approximately $300,000 to approximately $2.5 million for
the three months ended September 30, 2004. Approximately $200,000 of the
increase was related to an increased number of VDSL customers, and approximately
$100,000 was related to a contract awarded to Chillicothe Telephone involving
equipment installation. This contract should be completed in 2004.
All other revenues for the all other services segment increased by
approximately $500,000 to approximately $1.2 million for the three months ended
September 30, 2004. The increase was related to Horizon Services revenue derived
from certain support services provided to Horizon PCS. This revenue was
eliminated in consolidation prior to Horizon PCS' August 15, 2003 bankruptcy
petition filing.
Cost of equipment sales. Cost of goods sold primarily consists of business
system sales and customer maintenance expenses. Cost of goods sold for the local
exchange company segment was essentially flat at approximately $100,000 for the
three months ended September 30, 2004 as compared to the same period in 2003.
Cost of services. Cost of services includes customer care support and
network-related costs, including switching, access and circuit expenses. Cost of
services also includes expenses related to the installation of our VDSL service.
Cost of services for the three months ended September 30, 2004 for the
local exchange company segment increased approximately $200,000 to approximately
$3.7 million as compared to the three months ended September 30, 2003. This
increase was due to increased payroll costs and programming fees related to
VDSL.
Cost of services for the three months ended September 30, 2004 for all
other services was essentially flat at approximately ($100,000) compared to the
same period in 2003. This credit is from amortizing our deferred gain on sale of
towers.
Selling and marketing expenses. Selling and marketing expenses consist of
costs associated with local marketing and advertising programs including
marketing for VDSL. Selling and marketing expenses for the local exchange
company segment and all other services increased approximately $100,000 to
approximately $400,000 for the three months ended September 30, 2004 as compared
to the same three months in 2003. This increase was primarily related to
increased payroll related to selling and marketing for VDSL.
General and administrative expenses. General and administrative expenses
include the costs related to corporate support functions. These include finance
functions, billing and collections, accounting services, computer access and
administration, executive, supervisory, consulting, customer relations, human
resources and other administrative services. General and administrative expenses
for the local exchange company segment were essentially flat at approximately
$2.1 million for the three months ended September 30, 2004 and 2003.
General and administrative expenses for all other services decreased by
approximately $100,000 to approximately $2.8 million for the three months ended
September 30, 2004. This decrease was the result of a decrease in the number of
leased computers. We expect general and administrative expenses to increase in
the fourth quarter of 2004 and the first quarter of 2005 as a result of
professional fess associated with the potential stock splits of our Class B
common stock.
23
Non-cash compensation expense. Non-cash compensation expense is the
amortization of the value of stock options granted in November 1999. Stock-based
compensation expense will continue to be recognized through the conclusion of
the vesting period for these options in 2005. Non-cash compensation expense for
the local exchange company segment and all other services was essentially flat
for the three months ended September 30, 2004 as compared to the same three
months in 2003.
Depreciation and amortization expense. Depreciation and amortization
expense for the local exchange company segment decreased approximately $100,000
to approximately $2.2 million for the three months ended September 30, 2004 as
compared to the same period in 2003. This decrease was related to property and
equipment that reached the end of their useful lives.
Interest expense, net. Interest expense for the local exchange company
segment and all other services for the three months ended September 30, 2004,
was essentially flat at approximately $700,000, as compared to the three months
ended September 30, 2003. Capitalized construction interest was approximately
$10,000 and $75,000, for the three months ended September 30, 2004 and 2003,
respectively.
Interest income and other, net. The local exchange company segment
recorded approximately $80,000 of other income consisting of interest income and
rental revenue in the three months ended September 30, 2004 as compared to
approximately $5,000 during the same period in 2003. The rental revenue from
Horizon PCS was eliminated in consolidation prior to Horizon PCS' August 15,
2003 bankruptcy petition filing.
Income tax expense. Income tax expense for the local exchange company
segment was essentially flat at approximately $300,000 for the three months
ended September 30, 2004 and 2003.
Net Income. The local exchange company segment reported net income of
approximately $1.8 million for the three months ended September 30, 2004,
compared to approximately $1.7 million for the same period in 2003. The increase
in net income is a result of increased VDSL and rental revenue. We expect net
income to be essentially flat for the remainder of 2004 as we expect network
access revenue to continue decreasing along with increasing operating costs,
offset by the increase in VDSL and rental revenue.
Other comprehensive income (loss). The local exchange company recognized a
loss of approximately $1,000 in the third quarter of 2004, compared to a loss of
approximately $21,000 for the same period in 2003, related to the change in fair
market value of its investments available-for-sale, net of taxes of
approximately $500 and $10,400, respectively.
Information Services Business Segment
The following discussion details the results of operations of our
information services business segment for the last fiscal quarter.
Results of Operations
Revenues. Internet access and information services declined approximately
$100,000 to $900,000 for the three months ended September 30, 2004 as compared
to the same period in 2003. This decrease was related to the decrease in
bright.net revenues as the customer base continues to shift from bright.net to
other high speed services, including VDSL provided by Chillicothe Telephone.
Cost of equipment sales. Cost of goods sold primarily consists of business
system sales and customer maintenance expenses. Cost of goods sold increased
approximately $100,000 for the three months ended September 30, 2004 as compared
to the same period in 2003. This increase was related to increased sales for
Sights, Sounds, and Solutions. Sights, Sounds and Solutions designs, installs,
and services audio and visual systems for residential and commercial
applications.
Cost of services. Cost of services includes customer care support and
network-related costs. Cost of services for the three months ended September 30,
2004 for the information services business segment was essentially flat as
compared to the same period in 2003.
24
Selling and marketing expenses. Selling and marketing expenses consist of
costs associated with local marketing and advertising programs. Selling and
marketing expenses for the information services business segment were
approximately $100,000, essentially flat for the three months ended September
30, 2004 as compared to the same three months in 2003.
General and administrative expenses. General and administrative expenses
include the costs related to corporate support functions. These include finance
functions, billing and collections, accounting services, computer access and
administration, executive, supervisory, consulting, customer relations, human
resources and other administrative services. General and administrative expenses
for the information services business segment were essentially flat at $400,000
for the three months ended September 30, 2004 as compared to the same period in
2003.
Depreciation and amortization expense. Depreciation and amortization
expense was essentially flat at approximately $100,000 for the three months
ended September 30, 2004 and 2003.
Income tax benefit. Income tax benefit for the information services
business segment was essentially flat at approximately $200,000 for the three
months ended September 30, 2004 and 2003.
Net Loss. The information services business segment lost approximately
$300,000 during the three months ended September 30, 2004, slightly higher than
the same period in 2003. This loss does not include the corporate allocations
from Horizon Services of approximately $100,000. We expect these losses to
continue at this level for the remainder of 2004 as the information services
segment continues to build its customer base and expand its product offering.
25
Results of Operations for the Nine Months Ended September 30, 2004 Compared to
the Nine Months Ended September 30, 2003
This discussion and analysis is presented on an operating segment basis.
The following unaudited table details the consolidated statements of income by
operating segment for the nine months ended September 30, 2004 and 2003:
For the Nine Months Ended September 30,
------------------------------------------------
Wireless Business(1) Local Exchange Company
(Dollars in thousands) ---------------------- ----------------------
2004 2003 2004 2003
--------- --------- --------- ---------
OPERATING REVENUES:
PCS subscriber and
roaming ...................... $ -- $ 151,897 $ -- $ --
PCS equipment .................. -- 4,408 -- --
Basic local and
long-distance ................ -- -- 11,333 11,079
Network access ................. -- -- 15,549 16,839
Other local exchange
services ..................... -- -- 7,411 6,363
Internet access and
information services ......... -- -- -- --
All other ...................... -- -- -- --
--------- --------- --------- ---------
Total operating revenues ..... -- 156,305 34,293 34,281
--------- --------- --------- ---------
OPERATING EXPENSES:
Cost of PCS and other
equipment sales .............. -- 12,035 570 267
Cost of services ............... -- 116,490 11,068 10,314
Selling and marketing .......... -- 28,585 1,130 993
General and administrative ..... -- 22,848 6,195 6,044
Non-cash compensation .......... -- 263 -- 4
Loss on disposal of assets ..... -- 216 -- --
Depreciation and amortization .. -- 25,176 6,675 6,805
Restructuring charges .......... -- 4,509 -- --
Impairment of Horizon
PCS assets ................... -- 73,760 -- --
--------- --------- --------- ---------
Total operating expenses ..... -- 283,882 25,639 24,427
--------- --------- --------- ---------
OPERATING INCOME (LOSS) .......... -- (127,577) 8,654 9,854
--------- --------- --------- ---------
NONOPERATING INCOME (EXPENSE):
Interest expense, net .......... -- (41,553) (2,101) (2,114)
Subsidiary preferred
stock dividends .............. -- (7,816) -- --
Gain on sale of investment ..... -- -- 753 --
Interest income and
other, net ................... -- 595 219 39
--------- --------- --------- ---------
Total nonoperating expense ..... -- (48,774) (1,129) (2,075)
--------- --------- --------- ---------
LOSS BEFORE INCOME TAX EXPENSE
and minority interest .......... -- (176,351) 7,525 7,779
INCOME TAX (EXPENSE) BENEFIT ..... -- 6,031 (1,383) (1,388)
MINORITY INTEREST IN LOSS ........ -- -- -- --
--------- --------- --------- ---------
NET INCOME (LOSS) ................ $ -- $(170,320) $ 6,142 $ 6,391
========= ========= ========= =========
OTHER COMPREHENSIVE INCOME (LOSS)
Net realized gain on hedging
activities ..................... -- 462 -- --
Net unrealized gain (loss) on
securities available-for-sale,
net of taxes ................... -- -- 184 334
Reclassification adjustment for
gains included in net income,
net of taxes ................... -- -- (452) --
--------- --------- --------- ---------
COMPREHENSIVE INCOME (LOSS) ...... $ -- $(169,858) $ 5,874 $ 6,725
========= ========= ========= =========
For the Nine Months Ended September 30,
------------------------------------------------
Information
Services Business All Other Services
(Dollars in thousands) ---------------------- ----------------------
2004 2003 2004 2003
--------- --------- --------- ---------
OPERATING REVENUES:
PCS subscriber and
roaming ...................... $ -- $ -- $ -- $ --
PCS equipment .................. -- -- -- --
Basic local and
long-distance ................ -- -- -- --
Network access ................. -- -- -- --
Other local exchange
services ..................... -- -- -- --
Internet access and
information services ......... 2,852 3,060 -- --
All other ...................... -- -- 3,735 664
--------- --------- --------- ---------
Total operating revenues ..... 2,852 3,060 3,735 664
--------- --------- --------- ---------
OPERATING EXPENSES:
Cost of PCS and other
equipment sales .............. 282 85 -- --
Cost of services ............... 2,507 2,584 (287) (286)
Selling and marketing .......... 325 300 4 9
General and administrative ..... 1,128 1,138 8,532 8,904
Non-cash compensation .......... -- -- 1 8
Loss on disposal of assets ..... -- -- -- --
Depreciation and amortization .. 242 233 -- --
Restructuring charges .......... -- -- -- --
Impairment of Horizon
PCS assets ................... -- -- -- --
--------- --------- --------- ---------
Total operating expenses ..... 4,484 4,340 8,250 8,635
--------- --------- --------- ---------
OPERATING INCOME (LOSS) .......... (1,632) (1,280) (4,515) (7,971)
--------- --------- --------- ---------
NONOPERATING INCOME (EXPENSE):
Interest expense, net .......... -- -- -- --
Subsidiary preferred
stock dividends .............. -- -- -- --
Gain on sale of investment ..... -- -- -- --
Interest income and
other, net ................... (1) (1) 44 9
--------- --------- --------- ---------
Total nonoperating expense ..... (1) (1) 44 9
--------- --------- --------- ---------
LOSS BEFORE INCOME TAX EXPENSE
and minority interest .......... (1,633) (1,281) (4,471) (7,962)
INCOME TAX (EXPENSE) BENEFIT ..... 650 512 23 44
MINORITY INTEREST IN LOSS ........ -- -- -- --
--------- --------- --------- ---------
NET INCOME (LOSS) ................ $ (983) $ (769) $ (4,448) $ (7,918)
========= ========= ========= =========
OTHER COMPREHENSIVE INCOME (LOSS)
Net realized gain on hedging
activities ..................... -- -- -- --
Net unrealized gain (loss) on
securities available-for-sale,
net of taxes ................... -- -- -- --
Reclassification adjustment for
gains included in net income,
net of taxes ................... -- -- -- --
--------- --------- --------- ---------
COMPREHENSIVE INCOME (LOSS) ...... $ (983) $ (769) $ (4,448) $ (7,918)
========= ========= ========= =========
(1) Amounts in the wireless business column include the results of Horizon PCS
through August 14, 2003 (Note 2).
26
Local Exchange Company Segment and All Other Services
The following discussion details the results of operations of our local
exchange company segment and all other services not assigned to a segment for
the past three fiscal quarters.
Results of Operations
Revenues. Network access revenues decreased by approximately $1.3 million
for the nine months ended September 30, 2004, to approximately $15.5 million.
This decrease in access revenues was due to rate decreases in interstate and
intrastate special access revenues for the nine months ended September 30, 2004
compared to the same period in 2003. Basic local and long distance revenue
increased by approximately $200,000 to approximately $11.3 million for the nine
months ended September 30, 2004. This increase was the result of increased
asymmetrical digital subscriber line customers.
Other local exchange revenue for the local exchange company segment
increased by approximately $1.0 million to $7.4 million for the nine months
ended September 30, 2004. This increase was driven by a contract awarded to
Chillicothe Telephone involving equipment installation of approximately
$400,000. This project should be completed in 2004. VDSL revenue increased
approximately $500,000 as we continued to build our VDSL customer base.
Miscellaneous local exchange revenue, including directory advertising, increased
approximately $100,000 for the nine months ended September 30, 2004 as compared
to the nine months ended September 30, 2003.
All other revenues for the all other services segment increased by
approximately $3.0 million to approximately $3.7 million for the nine months
ended September 30, 2004. The increase was related to Horizon Services revenue
derived from certain support services provided to Horizon PCS. This revenue was
eliminated in consolidation prior to Horizon PCS' August 15, 2003 bankruptcy
petition filing.
Cost of equipment sales. Cost of goods sold primarily consists of business
system sales and customer maintenance expenses. Cost of goods sold for the local
exchange company segment increased approximately $300,000 for the nine months
ended September 30, 2004 as compared to the same period in 2003. This increase
is due to the contract mentioned above.
Cost of services. Cost of services includes customer care support, and
network-related costs, including switching, access and circuit expenses. Cost of
services also includes expenses related to the installation of our VDSL service.
Cost of services for the nine months ended September 30, 2004, was
approximately $11.1 million for the local exchange company segment, compared to
approximately $10.3 million for the nine months ended September 30, 2003, an
increase of approximately $800,000. The increase is related to the continued
installation and programming expenses associated with our VDSL service and to
increased personnel wages and other related expenses.
Cost of services for the nine months ended September 30, 2004 for all
other services was essentially flat at approximately ($300,000) compared to the
same period in 2003, due to amortizing a gain on sale of towers.
Selling and marketing expenses. Selling and marketing expenses consist of
costs associated with local marketing and advertising programs including
marketing for VDSL. Selling and marketing expenses for the local exchange
company segment was approximately $1.1 million for the nine months ended
September 30, 2004, compared to approximately $1.0 million for the nine months
ending September 30, 2003. The increase is related to additional payroll and
related benefit expenses.
General and administrative expenses. General and administrative expenses
include the costs related to corporate support functions. These include finance
functions, billing and collections, accounting services, computer access and
administration, executive, supervisory, consulting, customer relations, human
resources and other administrative services. General and administrative expenses
for the local exchange company segment increased by approximately $200,000 to
approximately $6.2 million for the nine months ended September 30, 2004,
primarily due to an increase in payroll and related benefits.
General and administrative expenses for all other services was
approximately $8.5 million for the nine
27
months ended September 30, 2004 as compared to $8.9 million for the nine months
ended September 30, 2003. This decrease was the result of a decrease in the
number of leased computers. We expect general and administrative expenses to
increase in the fourth quarter of 2004 and the first quarter of 2005 as a result
of professional fess associated with the potential stock splits of our Class B
common stock.
Non-cash compensation expense. Non-cash compensation expense is the
amortization of the value of stock options granted in November 1999. Stock-based
compensation expense will continue to be recognized through the conclusion of
the vesting period for these options in 2005. Non-cash compensation expense for
the local exchange company segment and all other services was essentially flat
for the nine months ended September 30, 2004 compared to the same nine months in
2003.
Depreciation and amortization expense. Depreciation and amortization
expense for the local exchange company segment decreased approximately $100,000
to approximately $6.7 million for the nine months ended September 30, 2004.
This decrease was related to a switch that became fully amortized in 2003 and
property and equipment that reached the end of their useful lives.
Interest expense, net. Interest expense for the local exchange company
segment and all other services for the nine months ended September 30, 2004 and
2003 remained unchanged at approximately $2.1 million. Capitalized construction
interest was approximately $28,000 and $24,000, for the nine months ended
September 30, 2004 and 2003, respectively.
Gain on sale of investment. The local exchange company segment recorded a
gain of approximately $800,000 related to the sale of approximately 50% of its
investments available for sale.
Interest income and other, net. The local exchange company segment
recorded approximately $220,000 of other income in the nine months ended
September 30, 2004. In the nine months ended September 30, 2003, income of
approximately $40,000 was recorded related to non-operating corporate activity.
Income tax expense. Income tax expense for the local exchange company
segment was approximately $1.4 million for the nine months ended September 30,
2004 and 2003. All other services was essentially flat at an approximate tax
benefit of $23,000 and $44,000 for the nine months ended September 30, 2004 and
2003, respectively.
Net Income. The local exchange company segment reported net income of
approximately $6.1 million for the nine months ended September 30, 2004,
compared to approximately $6.4 million for the same period in 2003. Net income
has declined as a result of higher operating expenses, including cost of
service. We expect this trend to continue for the remainder of 2004.
Other comprehensive income (loss). The local exchange company segment
recognized approximately $184,000 of income for the nine months ended September
30, 2004, compared to income of approximately $334,000 for the same period in
2003, related to the increase in fair market value of its investments
available-for-sale, net of tax expense of approximately $125,000 and
approximately $172,000, respectively. The increase in fair market value was
offset by the sale of approximately $452,000, or 50%, of the investments
available-for-sale during the nine months ended September 30, 2004.
Information Services Business Segment
The following discussion details the results of operations of our
information services business for the past three fiscal quarters.
Results of Operations
Revenues. Internet access and other revenues decreased by approximately
$200,000 to $2.9 million for the nine months ended September 30, 2004. Other
revenues were impacted by decreased bright.net dial-up Internet service
subscribers. We believe a number of these lost dial-up customers have switched
to high-speed VDSL service on our local exchange company segment.
28
Cost of equipment sales. Cost of goods sold primarily consists of business
system sales and customer maintenance expenses. Cost of goods sold increased
approximately $200,000 for the nine months ended September 30, 2004 as compared
to the same period in 2003. This increase was related to increased sales for
Sights, Sounds, and Solutions, and other consulting.
Cost of services. Cost of services includes customer care support, and
network-related costs. Cost of services for the nine months ended September 30,
2004, decreased approximately $100,000 to approximately $2.5 million for the
nine months ended September 30, 2004 as compared to the same period for 2003.
This decrease related to the decline in bright.net access expense.
Selling and marketing expenses. Selling and marketing expenses consist of
costs associated with local marketing and advertising programs. Selling and
marketing expense was essentially flat at approximately $300,000 for the nine
months ended September 30, 2004 and 2003.
General and administrative expenses. General and administrative expenses
include the costs related to corporate support functions. These include finance
functions, billing and collections, accounting services, computer access and
administration, executive, supervisory, consulting, customer relations, human
resources and other administrative services. General and administrative expenses
for the information services business segment were essentially flat at
approximately $1.1 million for the nine months ended September 30, 2004 and
2003.
Depreciation and amortization expense. Depreciation and amortization
expense for the information services business segment was essentially flat at
approximately $200,000 for the nine months ended September 30, 2004 and 2003.
Income tax benefit. Income tax benefit for the information services
business segment was approximately $650,000 for the nine months ended September
30, 2004, compared to approximately $510,000 for the same period in 2003, due to
a higher net loss before tax in 2004.
Net Loss. The information services business segment lost approximately
$1.0 million during the nine months ended September 30, 2004, as compared to a
net loss of approximately $800,000 during the same period in 2003. These losses
do not include the corporate allocations from Horizon Services of approximately
$300,000 for both the nine months ended September 30, 2004 and 2003. We expect
these losses to continue at this level for the remainder of 2004 as the
information services segment continues to build its customer base and expand its
product offering.
Investment in Horizon PCS
At September 30, 2004, Horizon Telcom has an investment in Horizon PCS on
its balance sheet of $470.9 million. This investment represents the cumulative
losses and cumulative investments made in Horizon PCS. On October 1, 2004, the
effective date of Horizon PCS' emergence from bankruptcy, Horizon Telcom ceased
to be the majority owner of Horizon PCS. As a result, this amount will be
recognized as a gain on the deconsolidation of Horizon PCS in the fourth quarter
of 2004.
Horizon Services currently performs functions for all related companies
and Horizon PCS. Should service to Horizon PCS be discontinued, or should
Horizon PCS outsource these functions to another party, Horizon Services will
need to restructure its staffing and other support services.
29
Liquidity and Capital Resources
The following table presents the estimated future outstanding long-term
debt at the end of each year and future required annual principal payments for
each year then ended based on our contractual level of long-term indebtedness:
(Dollars in millions) Years Ending December 31,
------------------------------------------------------------------
2004 2005 2006 2007 2008 Thereafter
------ ------ ------ ------ ------ ----------
Chillicothe Telephone:
1998 Senior notes, due 2018 .............. $ 12.0 $ 12.0 $ 12.0 $ 12.0 $ 12.0 $ --
Fixed interest rate ................. 6.72% 6.72% 6.72% 6.72% 6.72% 6.72%
Principal payments .................. $ -- $ -- $ -- $ -- $ -- $ 12.0
2002 Senior notes, due 2012 .............. $ 30.0 $ 30.0 $ 30.0 $ 30.0 $ 30.0 $ --
Fixed interest rate ................. 6.64% 6.64% 6.64% 6.64% 6.64% 6.64%
Principal payments .................. $ -- $ -- $ -- $ -- $ -- $ 30.0
Cash and working capital for Horizon Telcom is approximately $19.6 million
and approximately $19.5 million, respectively. We feel that this level of
working capital is adequate to maintain Horizon Telcom's operations for the next
twelve months. Horizon Telcom generated approximately $10.9 million of cash flow
from operations during the nine months of 2004. Horizon Telcom, through its
Horizon Services subsidiary, received approximately $3.7 million from Horizon
PCS for the nine months ended September 30, 2004. Future liquidity of Horizon
Services will be impacted, perhaps materially, from the successful
reorganization of Horizon PCS. Horizon Telcom, Chillicothe Telephone, Horizon
Technology, and Horizon Services are not obligated to assist Horizon PCS.
Cash flow from operations for the local exchange company and other related
segments has historically been positive, but has been declining in recent years.
Operating income has also been declining over the past 3 years. We expect
operating income will continue to decline in the near term, as revenues will
remain flat to slightly lower and expenses may increase slightly. Should this
trend continue or should conditions worsen, liquidity may be impacted. We have
taken steps internally to try to contain our rising costs. Beginning in July
2004, we reduced the benefits to be offered to future retirees. Employees who
retire after July 15, 2004, will no longer be eligible for medical benefits
under the Horizon Retiree Medical Plan. They will be eligible to participate in
the Horizon Prescription Drug plan until Medicare Part D takes effect in 2006.
In September 2004, we offered an early retirement incentive package to a number
of employees. We continue to review other areas in an effort to improve our
operating income.
We have not been subject to income tax payments over the last 3 years, due
to higher tax depreciation resulting in a net taxable loss. We expect this trend
to reverse in the next several years, at which time we will become obligated to
pay income taxes. In addition, in 2004, Chillicothe Telephone became subject to
state income taxes.
We have made a pension contribution in the first quarter of 2004. The
amount of this contribution, while immaterial to the overall liquidity of
Horizon Telcom, could increase in future years if the pension plan does not
return favorable results. This contribution could have an impact on our future
liquidity. Future payments related to our post retirement benefit plans may
increase substantially which will also have an impact on our future liquidity.
If a number of employees elect the early retirement option mentioned above, our
pension contribution will increase in future years.
Statement of Cash Flows. At September 30, 2004, we had cash and cash
equivalents of approximately $19.6 million, and working capital of approximately
$19.5 million. At December 31, 2003, we had cash and cash equivalents of
approximately $17.1 million and working capital of approximately $18.5 million.
The increase in cash and cash equivalents of approximately $2.5 million is
primarily attributable to proceeds from the sale of our investment of
approximately $850,000 and by cash provided by operating activities of
approximately $10.9 million, offset by the payment of $1.0 million on the line
of credit, the payment of approximately $1.4 million in dividends and funding
our capital expenditures of approximately $6.9 million.
Net cash provided by operating activities for the nine months ended
September 30, 2004 was approximately $10.9 million represented by net income of
approximately $711,000, and the impact of depreciation, accrued
30
liabilities and post retirement benefits, offset by increases to accounts
receivable. We expect this amount of cash flow from operations to remain at the
same, or slightly lower, level for the rest of 2004.
Net cash used in investing activities was approximately $6.0 million for
the nine months ended September 30, 2004, reflecting $6.9 million for the
deployment of capital necessary for our plant operations, offset by proceeds
received from the partial sale of investments. We expect capital expenditures
for the remainder of 2004 to continue at this pace.
Net cash used in financing activities for the nine months ended September
30, 2004 was approximately $2.4 million, reflecting Chillicothe Telephone's
payment on its line of credit for $1.0 million and Horizon Telcom's payment of
dividends of approximately $1.4 million.
Debt Covenants. As of September 30, 2004, Chillicothe Telephone was in
compliance with the covenants set forth in its senior notes.
Funding Requirements. The actual funds required to fund operating losses,
working capital needs and other capital needs may vary materially from our
estimates and additional funds may be required because of unforeseen delays,
cost overruns, unanticipated expenses, regulatory changes, engineering design
changes and required technological upgrades and other technological risks.
Inflation
We believe that inflation has not had and will not have an adverse
material effect on our results of operations.
Recent Accounting Pronouncements
In May 2004, FASB issued FSP 106-2. FSP 106-2 relates to the Medicare
Prescription Drug, Improvement and Modernization Act of 2003 signed into law on
December 8, 2003. This act introduced a prescription drug benefit under
Medicare, as well as a federal subsidy to sponsors of retiree health care
benefit plans that provide a benefit that is at least actuarially equivalent to
Medicare. During the second quarter of 2004, the Company adopted the provisions
of FSP 106-2. The impact of the adoption of FSP 106-2 has yet to be determined.
ITEM 3. Quantitative and Qualitative Disclosures About Market Risk
We do not engage in commodity futures trading activities and do not enter
into derivative financial instruments for trading purposes. We also do not
engage in transactions in foreign currencies that would expose us to market
risk.
In the normal course of business, our operations are exposed to interest
rate risk on our secured credit facility. Our primary interest rate risk
exposures relate to the impact of interest rate movements on our ability to meet
interest expense requirements and meet financial covenants under our debt
instruments.
While we cannot predict our ability to refinance existing debt, we
continue to evaluate our interest rate risk on an ongoing basis. As of September
30, 2004, our $42,000,000 total debt is at a fixed rate.
ITEM 4. Controls and Procedures
Our Chief Executive Officer ("CEO") and Chief Financial Officer ("CFO")
are responsible for establishing and maintaining "disclosure controls and
procedures" (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the
Company. With the participation of management, the Company's CEO and CFO
evaluated the Company's disclosure controls and procedures as of September 30,
2004.
The Company's management, including the CEO and CFO, does not expect that
its disclosure controls and procedures will prevent all error and all fraud. A
control system, no matter how well conceived and operated, can provide only
reasonable, not absolute, assurance that the objectives of the control system
are met. Further, the design of a control system must reflect the fact that
there are resource constraints, and the benefits of controls must be considered
relative to their costs. Because of the inherent limitations in all control
system, no evaluation of controls
31
can provide absolute assurance that all control issues and instances of fraud,
if any, within the Company have been detected. These inherent limitations
include the realities that judgments in decision-making can be faulty, and that
breakdown can occur because of simple error or mistake. The design of any system
of controls also is based in part upon certain assumptions about the likelihood
of future events, and there can be no assurance that any design will succeed in
achieving its stated goals under all potential future conditions.
Based upon the Company's disclosure controls and procedures evaluation,
the CEO and CFO have concluded that, subject to the limitations noted above, the
Company's disclosure controls and procedures are effective to give reasonable
assurance that the information required to be disclosed by the Company in its
periodic reports is accumulated and communicated to management, including the
CEO and CFO, as appropriate to allow timely decisions regarding disclosure and
is recorded, processed, summarized and reported within the time periods
specified in the Securities and Exchange Commission's rules and forms.
There were no significant changes in the Company's internal controls or,
to the knowledge of the management of the Company, in other factors that could
significantly affect these controls during the quarter ended September 30, 2004.
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PART II. OTHER INFORMATION
ITEM 1. Legal Proceedings
None.
ITEM 2. Changes in Securities and Use of Proceeds
None.
ITEM 3. Defaults Upon Senior Securities
None.
ITEM 4. Submission of Matters to a Vote of Security Holders
None.
ITEM 5. Other Information
RISK FACTORS
You should carefully consider the risks described below in evaluating our
businesses.
RISKS RELATED TO CHILLICOTHE TELEPHONE, LONG DISTANCE AND INTERNET BUSINESSES
The information set forth under this heading describes risk factors
relating to the business of our wholly-owned subsidiaries the Chillicothe
Telephone Company, Horizon Technology and Horizon Services. References under
this heading to "we," "us" and "our" are to those subsidiaries.
Significant competition in telecommunications services in our markets may cause
us to lose customers, or incur lower network access service minutes of use.
We face, or will face, significant competition in the markets in which we
currently provide local telephone, long distance, data and Internet services.
Many of our competitors are substantially larger and have greater financial,
technical and marketing resources than we do. In particular, larger competitors
have certain advantages over us, which could cause us to lose customers and
impede our ability to attract new customers, including:
o long-standing relationships and greater name recognition with
customers;
o financial, technical, marketing, personnel and other resources
substantially greater than ours;
o more capital to deploy services; and
o potential to lower prices of competitive services.
These factors place us at a disadvantage when we respond to our
competitors' pricing strategies, technological advances and other initiatives.
Additionally, our competitors may develop services that are superior to ours or
that achieve greater market acceptance.
We face competition from other current and potential market entrants,
including:
o domestic and international long distance providers seeking to enter,
re-enter or expand entry into our local communications marketplace;
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o other domestic and international competitive communications
providers, resellers, cable television companies and electric
utilities; and
o providers of broadband and Internet services.
A continuing trend toward combinations and strategic alliances in the
communications industry could give rise to significant new competitors. This
could cause us to lose customers and impede our ability to attract new
customers.
The restructuring of Horizon PCS may have adverse effects on Horizon Telcom.
Horizon Telcom has agreements and relationships with third parties,
including suppliers, subscribers and vendors that are integral to conducting its
day to day operations. Horizon PCS' recently concluded bankruptcy proceedings
could have a material adverse affect on the perception of Horizon Telcom and the
Horizon Telcom business and its prospects in the eyes of subscribers, employees,
suppliers, creditors and vendors. These persons may perceive that there is
increased risk in doing business with Horizon Telcom as a result of Horizon PCS'
recently concluded bankruptcy proceedings. Some of these persons may terminate
their relationships with Horizon Telcom which would make it more difficult for
Horizon Telcom to conduct its business.
In the event that the services agreement between Horizon Telcom and Horizon PCS
is terminated for any reason, Horizon Telcom may not be able to reduce its
general and administrative costs in an amount sufficient to subsidize the
portion of the combined Company's costs currently borne by Horizon PCS.
On a net basis, we estimate that Horizon PCS will incur approximately $5.0
million of charges from Horizon Services (a subsidiary of Horizon Telcom) in
fiscal 2004. If the services agreement between Horizon Telcom and Horizon PCS is
terminated for any reason, Horizon Telcom and its subsidiaries (excluding
Horizon PCS) will lose this source of revenue and will be required to lower its
costs and expenses to meet its business plan. Horizon Telcom may have little
notice of any such termination. A failure to reduce these expenses in a timely
manner could adversely affect Horizon Telcom's liquidity, financial condition
and results of operations.
We may not be able to successfully integrate new technologies or respond
effectively to customer requirements.
The communications industry is subject to rapid and significant changes in
technology, frequent new service introductions and evolving industry standards.
We cannot predict the effect of these changes on us or our industry.
Technological developments may reduce the competitiveness of our networks and
require unbudgeted upgrades or the procurement of additional products that could
be expensive and time consuming. If we fail to adapt successfully to
technological changes or obsolescence or fail to obtain access to important new
technologies, we could lose customers and be limited in our ability to attract
new customers.
Chillicothe Telephone may lose landline customers as more households are
foregoing landlines completely in favor of wireless service.
If our back office and customer care systems are unable to meet the needs of our
customers, we may lose customers.
Sophisticated back office processes and information management systems are
vital to our anticipated growth and our ability to achieve operating
efficiencies. We cannot assure you that our systems will perform as expected as
we increase our number of customers. If these systems fail to perform as
expected, we could lose customers. The following could prevent our back office
and customer care systems from meeting the needs of our customers:
o failure of third-party vendors to deliver products and services in a
timely manner at acceptable costs;
o our failure to identify key information and processing needs;
o our failure to integrate products or services effectively;
o our failure to upgrade systems as necessary; or
34
o our failure to attract and retain qualified systems support
personnel.
Furthermore, as our suppliers revise and upgrade their hardware, software
and equipment technology, we could encounter difficulties in affording and
integrating this new technology into our business or find that such new
hardware, software and technology is not appropriate for our business. In
addition, our right to use such hardware, software and technology depends upon
license agreements with third-party vendors. Vendors may cancel or elect not to
renew some of these agreements, which may adversely affect our business.
Because we operate in a heavily regulated industry, changes in regulation could
have a significant effect on our revenues and compliance costs.
We are subject to significant regulation that could change in a manner
adverse to us. We operate in a heavily regulated industry, and the
majority of our revenues generally have been supported by regulations,
including in the form of support for the provision of telephone services
in rural areas. Laws and regulations applicable to us and our competitors
may be, and have been, challenged in the courts, and could be changed by
Congress or regulators at any time. In addition, any of the following have
the potential to have a significant impact on us:
Risk of loss or reduction of network access charge revenues. Approximately
21% of Chillicothe Telephone's total revenues for the nine months ended
September 30, 2004 came from network access charges which are paid to us
by intrastate carriers and interstate long distance carriers for
originating and terminating calls in the regions we serve. The amount of
access charge revenues that we receive is calculated based on guidelines
set by federal and state regulatory bodies, and such guidelines could
change at any time. The FCC continues to reform the federal access charge
system. States often mirror these federal rules in establishing intrastate
access charges. It is unknown at this time how changes to the FCC's access
charge regime will affect us. Federal policies being implemented by the
FCC strongly favor access charge reform, and our revenues from this source
could be at risk. Regulatory developments of this type could adversely
affect our business.
Risk of loss or reduction of Universal Service Support Fund. We receive
Universal Service Support Fund ("USSF") revenues to support the high cost
of our operations in rural markets. For the nine months ended September
30, 2004, USSF revenues accounted for approximately 25% of the total
revenues of Chillicothe Telephone. If we were unable to receive support
from the USSF, or if such support was reduced, we would be unable to
operate as profitably as before such reduction.
In addition, potential competitors generally cannot, under current laws,
receive the same USSF support enjoyed by Chillicothe Telephone.
Chillicothe Telephone therefore enjoys a competitive advantage, which
could, however, be removed by regulators at any time. The Telecom Act
provides that competitors could obtain the same support as we do if the
Public Utilities Commission of Ohio determines that granting such support
to competitors would be in the public interest. If such USSF support were
to become available to potential competitors, we might not be able to
compete as effectively or otherwise continue to operate as profitably in
our Chillicothe Telephone markets. Any shift in USSF regulation could,
therefore, have an adverse effect on our business.
The method for calculating the amount of USSF support could change in
2004. It is unclear whether the chosen methodology will accurately reflect
the costs incurred by Chillicothe Telephone, and whether it will provide
for the same amount of USSF support that Chillicothe Telephone enjoyed in
the past. The outcome of any of these proceedings or other legislative or
regulatory changes could affect the amount of USSF support that we
receive, and could have an adverse effect on our business.
Risk of loss of protected status under interconnection rules. Chillicothe
Telephone takes the position that it does not have to comply with more
burdensome requirements in the Telecom Act governing the rights of
competitors to interconnect to our traditional telephone companies'
networks due to our status as a rural telephone company. If state
regulators decide that it is in the public's interest to impose these
interconnection requirements on us, more competitors could enter our
traditional telephone markets than are currently expected and we could
incur additional administrative and regulatory expenses as a result of
such newly imposed interconnection requirements.
35
Risks posed by costs of regulatory compliance. Regulations create
significant compliance costs for us. Chillicothe Telephone, which provides
intrastate services, is generally subject to certification, tariff filing
and other ongoing regulatory requirements by state regulators. Challenges
to these tariffs by regulators or third parties could cause us to incur
substantial legal and administrative expenses.
Regulatory changes in the telecommunications industry involve uncertainties, and
the resolution of these uncertainties could adversely affect our business by
facilitating greater competition against us, reducing potential revenues or
raising our costs.
The Telecom Act provides for significant changes in the telecommunications
industry, including the local telecommunications and long distance industries.
This federal statute and the related regulations remain subject to judicial
review and additional rulemakings of the FCC, thus making it difficult to
predict what effect the legislation will have on us, our operations and our
competitors. Several regulatory and judicial proceedings have recently
concluded, are underway or may soon be commenced, that address issues affecting
our operations and those of our competitors, which may cause significant changes
to our industry. We cannot predict the outcome of these developments, nor can we
assure that these changes will not have a material adverse effect on us.
RISKS RELATED TO HORIZON PCS
Horizon PCS emerged from bankruptcy proceedings on October 1, 2004. While
Horizon Telcom requested an equity participation in such proceedings, Horizon
Telcom's entire equity investment in Horizon PCS, Inc. was eliminated.
36
ITEM 6. Exhibits and Reports on Form 8-K
Exhibits and Reports on Form 8-K
(A) Exhibits
3.1(a) Articles of Incorporation of Horizon Telcom, Inc.
3.2(a) Bylaws of Incorporation of Horizon Telcom, Inc.
4.1(a) Form of Stock Certificate.
31.1(b) Certification of Chief Executive Officer pursuant to Section 302
of the Sarbanes-Oxley Act of 2002.
31.2(b) Certification of Chief Financial Officer pursuant to Section 302
of the Sarbanes-Oxley Act of 2002.
32.1(b) Certification pursuant to Section 906 of the Sarbanes-Oxley Act
of 2002.
32.2(b) Certification pursuant to Section 906 of the Sarbanes-Oxley Act
of 2002.
----------
(a) Incorporated by reference to the exhibit with the same number
previously filed by the Registrant on Form 10 (Reg. No.
0-32617).
(b) Filed herewith.
(B) Reports on Form 8-K
On August 19, 2004, Horizon Telcom, Inc. filed a Current Report on Form
8-K regarding the announcement that its board of directors unanimously
approved reverse and forward stock splits of its shares of Class B common
stock.
37
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.
HORIZON TELCOM, INC.
(Registrant)
Date: November 10, 2004 By: _______________________________
Thomas McKell
Chief Executive Officer
Date: November 10, 2004 By: _______________________________
Thomas McKell
Interim Chief Financial Officer
(Principal Financial and
Chief Accounting Officer)
38