D&E COMMUNICATIONS INC - 10-K Annual Report

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SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

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FORM 10-K

(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 2002

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 000-20709

D&E COMMUNICATIONS, INC.
(Exact name of registrant as specified in its charter)

PENNSYLVANIA 23-2837108
(State or other jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
124 EAST MAIN STREET 17522-0458
P.O. BOX 458 (Zip Code)
EPHRATA, PA
(Address of principal executive offices)

REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE:
(717) 733-4101

SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:
NONE.

SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:

COMMON STOCK, PAR VALUE $0.16 PER SHARE
(TITLE OF CLASS)

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Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports) and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]

Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of the registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. Yes [X] No [ ]

Indicate by check mark whether the registrant is an accelerated filer (as
defined in Exchange Act Rule 12B-2). Yes [X] No [ ]

The aggregate market value of the voting stock held by non-affiliates of
the registrant is approximately $130,373,439. Such aggregate market value was
computed by reference to the closing price of the registrant's Common Stock as
reported on the Nasdaq National Market on June 30, 2002. For purposes of making
this calculation only, the registrant has defined affiliates to include all
directors, executive officers and beneficial owners of more than ten percent of
the Common Stock of the registrant.

The number of shares of the registrant's Common Stock outstanding as of
March 14, 2003 was 15,422,466.

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the registrant's definitive proxy statement for its 2003 annual
meeting of stockholders are incorporated by reference into Part III of this Form
10-K.
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TABLE OF CONTENTS

1

PART I

FORWARD LOOKING INFORMATION IS SUBJECT TO RISK AND UNCERTAINTY

Our disclosure and analysis in this report includes forward-looking
statements within the meaning of Section 27A of the Securities Act of 1933 and
Section 21E of the Securities Exchange Act of 1934. Forward looking statements
provide our current expectations or forecasts of future events. You can identify
these statements by the fact that they do not relate strictly to historical or
current facts. These statements may relate to our financial condition, results
of operations, plans, objectives, future performance and business. Often these
statements include words such as "believes," "expects," "anticipates,"
"estimates," "intends," "strategy," "plan," or similar words or expressions. In
particular, statements, express or implied, concerning future operating results
or the ability to generate income or cash flows are forward-looking statements.
Forward-looking statements involve certain risks and uncertainties. Our actual
performance or achievements may differ materially from those contemplated by
forward-looking statements.

You should understand that various factors, including those discussed in
the section titled "Item 1. Business -- Factors Affecting Our Prospects" and
elsewhere in this document could affect our future results and could cause
results to differ materially from those expressed in these forward-looking
statements. You are cautioned not to place undue reliance on these
forward-looking statements, which speak only as of the date of this document.
All subsequent written and oral forward-looking statements attributable to us
are expressly qualified in their entirety by the cautionary statements contained
or referred to in this report. We do not undertake any obligation to release
publicly any revisions to these forward-looking statements to reflect events or
circumstances after the date of this document or to reflect the occurrence of
unanticipated events.

ITEM 1. BUSINESS

OVERVIEW

Our common stock is listed for quotation on the National Market System of
the National Association of Securities Dealers Automated Quotation System under
the symbol "DECC". Our internet address is www.decommunications.com. Electronic
copies of the 2002 Annual Report on Form 10-K are available free of charge by
visiting the "Investor Relations" section of www.decommunications.com.
Electronic copies of quarterly reports on Form 10-Q and current reports on Form
8-K are also available at this internet address. These reports are posted as
soon as reasonably practicable after they are electronically filed with the
Securities and Exchange Commission (SEC).

We are a provider of integrated communications services to residential and
business customers in markets throughout the eastern half of Pennsylvania. We
operate incumbent rural local telephone companies, or rural local exchange
carriers ("RLECs"), in parts of Berks, Lancaster and Union counties, and smaller
portions of three other adjacent counties, in Pennsylvania, and competitive
local telephone companies, or CLECs, in the Lancaster, Harrisburg, Reading,
Altoona, Pottstown, State College and Williamsport, Pennsylvania metropolitan
areas, which we refer to as our "edge-out" markets. We offer our customers a
comprehensive package of communications services, including local and long
distance telephone services, high speed data, and Internet access services. We
also provide business customers with integrated voice and data network solutions
including the related communications and computer equipment in areas that extend
beyond the markets listed above.

We have operated as the incumbent carrier in our RLEC service territories
since the early 1900s and served 145,310 access lines through our 100% digitally
switched network as of December 31, 2002. Currently, our RLEC does not compete
directly with any other wireline company to provide local telephone service. Our
RLEC strategy is to provide basic telephone service and continue to sell
additional communications services, such as long distance, high speed data and
enhanced telephone services, including voice mail, call waiting, caller
identification and a telemarketer call-blocking service. We believe that these
services represent an additional source of revenue and cash flow growth for our
RLEC operations. As of December 31, 2002, approximately 16% of our residential
customers had two access lines and 43% of our customers subscribed to at least
one of our enhanced telephone services.

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Our CLEC operations began in 1998 and served 24,746 business and 5,454
residential access lines as of December 31, 2002. Our CLECs offer services
similar to our RLECs and target small and medium-sized business customers within
our edge-out markets. The incumbent providers in these markets are Sprint and
Verizon Communications, a regional Bell operating company, or RBOC. Our strategy
is to provide CLEC services primarily in secondary metropolitan areas near our
RLEC, where we believe customers historically have been underserved. We plan to
continue to leverage our existing RLEC network and construct new facilities in
our existing edge-out markets when we believe it is economically prudent to do
so.

As part of our strategy to provide a range of data services to our
customers, we offer dial-up and high speed Internet access services and web
hosting services. We believe that customers in our markets historically have
been underserved by national Internet providers and that we can provide
technologically advanced Internet services with a superior level of customer
service and support due to our local presence. As of December 31, 2002, we
served 12,652 dial-up Internet access subscribers, 5,615 digital subscriber
line, or DSL, subscribers and 651 web-hosting customers.

To augment our core voice and data communications services and enhance our
position as an integrated communications provider, we offer systems integration
services to businesses. We believe that the complexity of voice communications
and data networks has increased the need for small and medium-sized businesses
to seek a single provider for all of their communications and networking needs.
We also believe that the convergence of voice communications and data networks
technology further drives this outsourcing trend and increases the need for
service providers that have expertise in both voice and data networks.

Historically, we also have made investments in foreign telecommunications
service providers. We own a 38.16% interest, 9.28% through our one-third
interest in EuroTel, LLC, and 28.88% directly, in Pilicka Telephone S.A., which
operates a telephone network in a region south of Warsaw, Poland. We presently
maintain an active minority interest in these ventures. We currently are
exploring strategic alternatives with regard to our ownership interest in
Pilicka.

Our principal offices are located at 124 E. Main Street, Ephrata,
Pennsylvania 17522, and we can be reached by telephone by calling (717) 733-4101
or through our website at www.decommunications.com. We are a Pennsylvania
corporation.

RECENT DEVELOPMENTS

SALE OF WIRELESS INTERESTS

In connection with our strategy to exit the mobile, wireless, voice
communications business, on April 1, 2002, we completed the sale of our
investment in PCS ONE, whose results, along with related contract services
provided to PCS ONE, have been reported as a discontinued segment. Subsequent to
December 31, 2002, on January 14, 2003 we completed the sale of Conestoga
Wireless. During the third quarter of 2002, we committed to a plan to sell the
paging assets of Conestoga Mobile Systems' and D&E's operations. On January 28,
2003, we entered into a definitive sales agreement and expect to complete the
sale during the second quarter of 2003.

Accordingly, we have reflected our wireless assets as available-for-sale
while including the results of Conestoga Wireless as part of operating activity
because there is a continuing involvement in building out tower sites and a
lease guarantee related to certain tower sites. Our paging businesses were
reported as discontinued operations in our financial statements. We recorded a
gain on the disposal of our D&E Wireless segment in 2002 of $55,506,000 net of
taxes. Our income from discontinued operations, net of taxes in 2002 was
$55,499,000 while we had losses from discontinued operations, net of taxes of
$5,969,000 and $5,669,000, in 2001 and 2000, respectively.

MERGER WITH CONESTOGA ENTERPRISES, INC.

On May 24, 2002, we completed our acquisition of Conestoga Enterprises,
Inc., a neighboring Pennsylvania RLEC providing integrated communications
services throughout the eastern half of Pennsylvania. We paid cash consideration
of $149,422,000, and issued 7,876,655 shares of our common stock to
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Conestoga shareholders. We also assumed existing Conestoga indebtedness, which
totaled $79,178,000, and outstanding options issued pursuant to Conestoga equity
compensation plans.

In connection with the Conestoga merger, we entered into an Amended and
Restated Credit Agreement dated May 24, 2002 (the "Credit Agreement") with
CoBank, ACB ("CoBank"), as a lender and administrative agent, and certain other
lenders. The Credit Agreement provides for a new $125 million 8 1/2 year
variable rate senior secured term loan and a $25 million increase to our
existing $50 million revolving credit facility provided by CoBank. The Credit
Agreement is also the governing document for our existing $50 million term loan
from CoBank. On May 24, 2002, we borrowed the $125 million term loan and $35
million under the revolving credit facility. These borrowings, along with
proceeds from the sale of our interest in PCS ONE, were used to pay the cash
portion of the Conestoga merger as well as to repay certain existing
indebtedness and related fees and expenses. See Section titled "Factors
Affecting Our Prospects."

We believe that the acquisition of Conestoga will enable us to capitalize
on growth opportunities throughout the central Pennsylvania market and to
capitalize on the benefits of increased scale in an increasingly competitive
telecommunications industry. Such benefits are expected to include the ability
to sell additional services to a larger customer base, the ability to spread our
fixed costs over a larger revenue base and the opportunity to eliminate
redundant costs.

THE TELECOMMUNICATIONS INDUSTRY

There are two predominant types of wireline service providers in the
telecommunications industry: incumbent local exchange carriers, or ILECs, and
competitive local exchange carriers, or CLECs. Wireless service providers also
provide telephone services and more recently, cable television providers have
begun providing local telephone service in certain markets although, to the best
of our knowledge, not in any of the markets in which our RLECs operate. Within
the ILEC sector, generally, there are rural local exchange carriers, or RLECs,
that operate in rural areas, and the regional Bell operating companies, or
RBOCs, which are the telephone companies created from the break-up of AT&T in
1984.

Over the past several years, the telecommunications industry has undergone
significant change. The passage of the Telecommunications Act of 1996, with its
stated goal of encouraging the rapid deployment of new telecommunications
technologies and promoting competition to ensure lower prices and higher quality
services for U.S. telecommunications customers, substantially changed the
telecommunications industry. This change permitted newly created CLECs to
compete with ILECs. As a result, ILEC and CLEC operators increasingly are
seeking to differentiate themselves by bundling their communications service
offerings and providing better customer service. Despite the financial
difficulties for certain telecommunications companies, other CLECs continue to
gain market share from ILECs by primarily focusing on business customers in
densely populated regions.

During 2002, as a result of various factors reflective of national trends,
the demand for second lines softened. These factors are partially as a result of
customers moving their Internet access to the DSL services provided by the
Company. Other customers have moved their Internet access service to cable
modems provided by competitors in the cable television industry. Other customers
are moving their service to wireless service for second lines or, in some cases,
as their primary line.

Wireless operators, which serve as an alternative service to wireline local
and long-distance services, also pose a competitive threat to ILECs. In
addition, in certain areas of the country, cable companies have begun to offer
cable telephone service to residential customers and to bundle cable services
with a package of data and voice communications services. To the best of our
knowledge these services have not been used in our territories. Despite
increasing competition, however, many large RLECs continue to grow their
businesses by capitalizing on their extensive networks and the increasing demand
for communications services. RLECs have grown their businesses primarily through
favorable demographic trends and the introduction of new service offerings,
including high speed data and enhanced telephone services. Additionally,
consolidation among RLECs has created economies of scale and the ability to
cross-sell new products across larger platforms.

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Nationally, there are a large number of RLECs similar to ours that operate
in sparsely populated rural areas where competition from CLECs generally has
been minimal due to regulatory factors and unfavorable economics of constructing
and operating competitive systems. According to the most recent data available
from the United States Telephone Association, as of December 31, 2000, there
were over 1,300 ILECs with less than 50,000 access lines and approximately 35
ILECs with more than 50,000 access lines.

BUSINESS STRATEGY

Our primary business objective is to be a leading, regional
wireline-focused integrated communications service provider. To achieve this
objective, we will continue to pursue the following goals:

INCREASE SALES OF ENHANCED TELEPHONE SERVICES

We offer a broad array of enhanced telephone services to our RLEC customers
including caller identification, voice mail, a telemarketer call-blocking
service, call forwarding, call waiting and three-way calling. These services
offer customers a way to enhance their calling experience by satisfying their
needs for information, security and convenience. These services represent an
additional source of revenue for our RLEC operations. Additionally, we believe
our enhanced telephone services improve our general customer experience, thereby
promoting loyalty within our customer base and helping us to better retain our
customers and to cross sell additional services. As of December 31, 2002,
approximately 43% of our residential customers subscribed to at least one
enhanced telephone service product and 13% subscribed to two or more enhanced
telephone service products. We intend to continue to actively market our
enhanced telephone services to our customer base.

LEVERAGE OUR CORE ASSETS

In our "edge-out" CLEC markets, we seek to increase our market share by
offering competitive service packages to small and medium-sized business
customers that we believe traditionally have been underserved by the incumbent
provider. We intend to continue to leverage our modern network infrastructure,
established brand name, extensive local knowledge and significant operating
experience to gain new customers and increase our market share. We also intend
to continue to actively market our broad array of services to our existing CLEC
customers. As of December 31, 2002, 75% of our CLEC customers had subscribed to
our long distance service and 22% of our CLEC business customers had subscribed
to our high speed data services.

INCREASE SALES OF INTERNET SERVICES

We believe that we can further expand our market share of the Internet
services business by meeting or exceeding the customer service and technical
requirements of individual and business customers in a way not served by
national providers of Internet services. We support our local approach to
service with a technologically advanced network. We provide Internet services
that we believe are competitive with national providers with a focus on service
excellence, value-added solutions and technical expertise integrated into our
RLEC, CLEC and systems integration businesses. Our strategy is to include
Internet with telephone voice service from one provider. While we intend to grow
our dial-up Internet access customer base, we also plan to focus our sales and
marketing efforts on our high speed data and web hosting services.

CAPITALIZE ON THE CONVERGENCE OF VOICE AND DATA COMMUNICATIONS TECHNOLOGIES

We believe that the convergence and complexity of voice and data network
technologies have increased the need for small and medium-sized businesses to
seek a single provider for all of their communications and networking needs. Our
systems integration business enhances our service offerings and positions us to
be this single source provider. We believe our full range of systems integration
services augments our access services very well, and this helps position us to
be the provider of a business customer's total communications needs. We also
offer a full range of services to government agencies and educational
institutions. We believe this ability to provide full solutions to our business,
government and education customers differentiates us from our competitors.

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CONTINUE TO FOCUS ON CUSTOMER SERVICE

We believe that our commitment to customer service has strengthened our
relationships with our customers and enhanced our competitive position. We
intend to maintain this personalized customer service approach through the
continuous pursuit of technological enhancements to our operations, the ongoing
training of our customer service and sales representatives in new service
offerings and the development of brand-oriented community service programs and
sponsorships.

SELECTIVELY PURSUE STRATEGIC ACQUISITIONS

We believe that we can increase the scale and scope of our business through
acquisitions of companies that strategically fit with our integrated
communications provider strategy. Increasing critical mass offers opportunities
for improved economies of scale, operating efficiency and profitability.
Acquisition targets may include companies that deepen our industry focus and
increase the breadth of our services. Currently, the potential for such
expansion is limited by our loan covenants and would require the approval of our
lenders. See Section entitled "Factors Affecting our Prospects."

OPERATIONS

RLEC OPERATIONS

Our RLEC business offers local telephone, network access, long distance,
data and enhanced telephone services. Our geographic service territory covers
parts of Berks, Lancaster, Union and smaller portions of three other adjacent
counties in Pennsylvania. Our service area is a rural and suburban territory of
802 square miles, averaging 181 access lines per square mile as of December 31,
2002. Approximately 74% of these access lines serve residential customers and
approximately 16% of our residential customers have multiple or second lines.

We offer our customers a broad array of enhanced telephone services
including:

- - call waiting - conference calling
- - call transferring and call forwarding - voice mail
- - automatic callback - teleconferencing
- - video conferencing - DID (direct inward dial)
- - telemarketer call-blocking service - caller name and number identification
- - call trace - distinctive ringing
- - call-blocking - simultaneous ringing (in limited areas)

We offer long distance telephone service to our RLEC customers in addition
to our local telephone services. We also offer network access services that
provide other telecommunications carriers, such as local exchange carriers,
interexchange carriers and wireless companies, with the use of our local network
facilities for the completion of long distance calls. Payment for providing
these services comes either (i) directly from our customers or, (ii) from the
aforementioned other telecommunications carriers. Revenues derived from
interstate access services are subject to a pooling process administered by the
National Exchange Carrier Association, Inc. ("NECA") Under this system, we
submit our collected interstate access revenues to NECA and we are paid by NECA
based on our costs of providing the relevant access services for our use of
other companies' network facilities and their use of our facilities. We also
offer directory advertising to give our customers business service information
in addition to telephone number data.

During 2002, our access line count declined as a result of various factors
reflective of national trends. The demand for second lines softened as a result
of customers moving their Internet access to the DSL services provided by the
Company. Hence, part of the decrease in access lines reflects our success in
selling DSL services to our customer base. Other customers have moved their
Internet access service to cable modems provided by our competitors in the cable
television industry. Other customers are moving their service to wireless
service for second lines or, in some cases, as their primary line. Others have
indicated financial or rate increase reasons for not maintaining second lines.
During 2001 and 2000 our growth in access lines reflected both the population
growth in our service area and our continued efforts to sell additional access
lines to our existing customer base for dedicated fax and Internet services.
Additionally, during 2002, one customer

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relocation due to an acquisition and one business failure resulted in the
reduction of approximately 950 business access lines. The following table
reflects access line trends over the past three years on a pro forma basis,
including Conestoga line counts before the Conestoga acquisition:

CLEC OPERATIONS

Our CLEC business offers local telephone, network access, long distance,
data and enhanced telephone services in our seven regional "edge-out" markets,
including the Lancaster, Harrisburg, Reading, Altoona, Pottstown, State College
and Williamsport, Pennsylvania metropolitan areas. We also provide our CLEC
customers with an integrated combination of communications services including
local service, long distance, enhanced voice services, high speed data services,
Internet, customized extended local calling, account code billing and LAN/WAN
design, installation and support services. We plan to focus on business
customers in our edge-out markets by continuing to leverage our existing
facilities and by constructing new facilities in those markets when we believe
it is economically prudent.

The number of access lines served by our CLECs as of December 31, 2002 was
30,200. We believe that the market demand for an alternative communications
provider combined with our sales efforts and quality reputation will contribute
to continued growth. As of December 31, 2002, approximately 26% of our business
customers were served on our own facilities and the remaining 74% were served
through a combination of our facilities and leased facilities. We launched
service in our Harrisburg market in February 2002. The following table reflects
our access line growth over the past three years on a pro forma basis, including
Conestoga line counts before the Conestoga acquisition:

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Our CLEC has also been effective in cross-selling our other service
offerings. As of December 31, 2002, 75% of our CLEC customers subscribed to our
long-distance services and 22% of our CLEC business customers subscribed to our
high speed data services. We have developed an efficient approach to activating
new access lines. On average, our CLEC installs new access lines in five days
when using our own facilities and 10 days when using leased facilities.

INTERNET SERVICE OPERATIONS

Our Internet service offerings include dial-up and high speed Internet
access and web hosting services. While our high speed Internet service is
somewhat limited by geographic availability, we can offer our dial-up Internet
services to residential and business customers in a geographic region that
includes most of the state of Pennsylvania, but we focus our marketing efforts
in the counties that include and surround our RLEC and CLEC operations, which
encompasses most of eastern Pennsylvania covering a population of approximately
2.1 million. As of December 31, 2002, we served 12,652 dial-up Internet access
subscribers, 5,615 DSL subscribers and 651 web-hosting customers.

We believe that we have a significant opportunity to grow our Internet
service operations. We believe that our local presence, focus on customer
service technical support and technologically advanced services provide us with
a competitive advantage in our markets from the standpoint of the provision of
Internet service. While the national Internet service providers provide a
general national service, we believe we have a competitive advantage in the
areas of local presence, a focus on customer service and the ability to tie in
technologically advanced services. We are the only provider of DSL services in
our RLEC territories.

We offer this service entirely on our facilities in our RLEC territory and
primarily on our own facilities in our CLEC markets. As of December 31, 2002,
over 89% of our installed DSL lines were in our RLEC territories. While we
intend to grow our dial-up Internet access customer base, we also plan to focus
our sales efforts on our high speed data and web-hosting services.

SYSTEMS INTEGRATION OPERATIONS

We offer services to support the planning, design, implementation, and
maintenance of local and wide area networks and telecommunications systems. We
also sell data and voice communications equipment and we provide custom computer
programming services. We market these products and services in our RLEC and CLEC
service areas, as well as throughout the eastern half of Pennsylvania from State
College to Philadelphia.

Our sales team targets businesses, government agencies and educational
institutions with comprehensive solutions for their voice and data communication
needs. We significantly expanded this business through the strategic
acquisitions of CompuSpirit, Inc. and Alternate Solutions, Inc. in 2000 and the
Conestoga merger in 2002. As a result of these acquisitions, we now have sales
and operations support team offices in Brownstown, Mechanicsburg, King of
Prussia, Birdsboro and Lewisburg, Pennsylvania.

CUSTOMER SERVICE

We believe there is a high correlation between service quality and the
likelihood that our customers will remain with us when presented with a
competitive alternative. We use multiple customer retention measures, especially
for our larger RLEC business customers and throughout our CLEC customer base,
which is more likely to be targeted by competitors. These customer retention
measures include performance and satisfaction measures, such as monitoring
repairs and service time and customer surveys to ensure customer satisfaction
and loyalty. This focus on service resulted in 99% of survey responses
indicating a good or excellent rating of our overall service in 2002.
Additionally, in areas such as average answer time, customer out-of-service
reports, and service order completion, our performance consistently exceeds
guidelines established by the Pennsylvania Public Utility Commission.

Our call centers provide convenient access for our customers to place their
orders and make billing inquiries. Our commitment to personalized customer
service includes answering calls directly by live

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representatives and minimizing the use of automated attendant call routing
systems resulting in calls being answered directly by live representatives 24
hours a day, 7 days a week, a service that we believe sets us apart from many of
our competitors.

In addition, our network operations service center personnel coordinate
provisioning and maintenance for our customers. Our network is monitored, and
repair service is available, 24 hours a day, 365 days a year. Inbound
maintenance requests, field personnel dispatches and service order monitoring
are all coordinated through this center. Our network operations center also
provides us with remote network management, maintenance and repair capabilities,
which we believe increase our engineers' productivity and reduce potential
service interruptions for our customers.

SALES AND MARKETING

We employ a relationship-based sales and marketing approach. We believe
this approach and our commitment to customer service builds brand loyalty and
increases the effectiveness of our sales efforts. We also grow our general brand
awareness through corporate and product awareness campaigns that utilize local
television, billboard and print ads as well as sponsorship of community events.
With respect to our non-RLEC businesses, we support an aggressive integrated
communications marketing strategy with targeted direct sales efforts. Our
customer service representatives are centrally located and supported by local
sales efforts throughout our service territory.

A strategic branding initiative deployed over the next three years at a
projected cost of $1.4 million will be a key factor in achieving business
success and sustaining a competitive advantage. This effort will support D&E's
sales strategy and generate interest in D&E solutions. In addition to presenting
a common look, feel and tone for all communications, we also desire to create an
overall consistent positive brand experience for our customers.

We manage our sales organization by our two primary customer types:
residential and business. Customer service representatives proactively market
our complete service portfolio to residential customers through regular calling
programs and consultative analyses of customers' services on incoming calls.
These representatives are cross-trained to more effectively market our service
offerings and must meet monthly sales quotas. Marketing programs and sales
initiatives are coordinated with our calling efforts to maximize their
effectiveness.

Our direct sales force targets government and educational institutions as
well as small and medium-sized businesses, and is divided between communication
services and systems integration services. Both sales groups make direct calls
to existing and prospective customers, make product recommendations and offer a
cost comparison of our service package. Our sales personnel work closely with
our network engineers and systems integrators to design solutions to satisfy our
customers' needs.

NETWORK ARCHITECTURE AND OPERATIONS SUPPORT SYSTEMS

All three of our RLECs were in the forefront in deploying a 100% digitally
switched network. This established core network enables us to economically
provide a broad portfolio of advanced voice and data communications services in
all of our service regions. We continue to utilize a technologically advanced,
fiber-rich network based on digital switching, fiber optic transport technology,
and host/remote call switching architecture. We operate our own Signaling System
7 network that provides efficient call routing and enhanced features including
Advanced Intelligent Network (AIN) features we have developed in-house. During
2001, we completed our network operations center, which monitors network
performance 24 hours a day, 365 days a year and allows us to maintain high
network performance standards.

Our three RLECs have digital host switches in Ephrata, Lititz, Birdsboro
and Lewisburg, Pennsylvania and deliver dial tone to an extensive network of
remote switches and digital loop carriers that are connected with fiber optic
cable. Connection to our customers, or the "last mile," is provided over our
RLEC's copper or fiber outside plant. Our host/remote architecture concentrates
network intelligence in our four RLEC host offices, enabling our RLEC and CLEC
operations to leverage this network and provide short customer loop

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lengths in our fiber and copper cable plant. Short customer loop lengths and our
packet information delivery network system facilitate the delivery of advanced
high speed services such as DSL. We are capable of providing DSL service to over
94% of our RLEC customers. During 2002, a program to transition to a packet
based network was initiated to leverage Internet protocol technology and next
generation digital loop carriers.

Cable television service, dial tone and high speed data services are
delivered to CLEC customers in the State College, Pennsylvania region via a
hybrid fiber coax cable plant. The CLEC operation maintains a digital host
switch in State College that provides local dial tone and long distance service
in both the State College and Altoona areas. The remainder of our CLEC network,
which includes Lancaster, Harrisburg, Reading, Pottstown, and Williamsport,
Pennsylvania, leverages the core switching architecture of our RLEC network. The
strategy of the CLEC is to own the key elements of a local exchange network in
order to have more control over equipment maintenance and assure quality service
delivery. These elements include the remote dial tone units and the facilities
connecting the host switches to the remote dial tone units, including both the
fiber optic cable and the optical transport electronics. In addition, where
economically viable, our CLEC builds copper/fiber distribution facilities
between the remote dial tone units and customers' premises. Our network strategy
allows our CLEC to provide high quality and reliable service and helps to
minimize customer turnover. As of December 31, 2002, our CLEC had most of its
residential and business access lines connected to our own RLEC switch and
approximately 26% of its access lines completely on our own network.

Our network is supported by computer systems, or operations support systems
that provide the ability to install service for customers on a short interval
basis and to analyze network problems in many instances before the customers are
affected. These systems include databases of all RLEC and CLEC customers and the
associated facilities such as the fiber and copper cable and the central office
switching connections that serve them. We also use geographic information
systems to map our outside plant cable and associated structure of poles and
underground conduit. These same systems allow us to verify quickly the
capability of our plant for high speed data service. We have a system that
stores the inventory of central office and transmission equipment that is
accessed for the automatic provisioning of customized services for customers.
These systems also have monitoring and troubleshooting capabilities to insure
the reliability of our network. Finally, we have recently established the
capability to interface with the operations support systems of Verizon and
Sprint to ensure fast and accurate provisioning for our CLEC customers.

COMPETITIVE ENVIRONMENT

The Telecommunications Act of 1996 established a policy of fostering
competition within the telecommunications industry by enabling customers to
choose between telecommunications offerings of various providers including local
exchange carriers, competitive local exchange carriers and cable companies.
Other factors promoting competition in local telephone service include growing
customer demand for communications products and services, development of fiber
optics and digital electronic technology, the deployment of wireless telephone
facilities, and legislation and regulations designed to promote competition.

To date, our RLECs have faced limited wireline competition and to the best
of our knowledge have not lost any access lines to a wireline competitor since
the passage of the Telecommunications Act. A primary reason for this insulation
from competition is that our RLECs, until January 2003, benefited from a limited
suspension of the more burdensome interconnection provisions of the
Telecommunications Act of 1996. In January 2003, the Pennsylvania Public Utility
Commission did not extend the limited suspension. Consequently, competitors now
will be allowed to seek removal of our rural exemption from the more burdensome
interconnection obligations for the purposes of entering our territory and using
our services and facilities through interconnection agreements to provide
competitive services. Presently, one provider is certified by the Pennsylvania
Public Utility Commission to compete with us within our RLEC territories using
their own facilities; however, to our knowledge, the company has not begun to do
so. In addition, a wireless carrier has petitioned the Pennsylvania Public
Utility Commission for the removal of the rural exemption for our three RLECs.
This was done, however, in conjunction with negotiations for a wireless traffic
exchange agreement, not for competitive entry. To the extent that other RLECs
have also been denied a suspension of their interconnection obligations, our
CLECs will have opportunity to seek termination of their rural exemption to
compete in those RLEC markets, subject to restrictions placed on us by our
credit facility.

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Wireless operators, which provide wireless services as an alternative
service to wireline local and long-distance services, also pose a competitive
threat to our RLECs. National telephone industry statistics show that access
minutes are shifting from wireline to wireless services. Consistent with the
national trend, our RLECs experienced a 5.8% decline in access minutes in 2002.

We believe that our RLECs have competitive advantages based on several
factors, including the lack of concentration of any large business customers
within their service territories, low basic service rates, our customer service
record and high level of customer satisfaction. An additional deterrent is the
high cost of facilities-based entry into our service territories due to low
population density and other regulatory factors. See the section below titled
"Regulatory Environment" for a description of those regulatory factors.

Our CLECs compete principally with the services offered by the incumbent
local exchange carrier, Verizon Communications, Sprint and other competitive
providers, including other CLECs, long-distance carriers, cable television
companies, wireless service providers and private networks built by large end
users. The edge-out markets served by our CLECs are served by one or more other
CLECs. In providing long distance service, our RLECs and CLECs are in
competition with major carriers such as AT&T, MCI and Sprint, and most recently,
Verizon. Some of these competitors have significantly greater market presence,
brand recognition and resources than we do. The existing and new sources of
competition place pressure on the pricing of these services which may cause our
revenues or margins to decline.

Our systems integration business competes with large, regional and national
companies that provide a wide variety of services to their customers. Many of
these large competitors may accept lower profit margins in an effort to capture
market share. We also compete with numerous smaller service providers that may
have lower overhead costs, enabling them to provide their services at lower
rates than we can. As a result of this competition, we may lose customers or
have difficulty acquiring new customers. Barriers to entry to the markets for
these services are generally low. As a result, new competitors may enter this
market. The existing and new sources of competition place pressure on the
pricing of these services which may cause our revenues or margins to decline.

The market for Internet services is highly competitive. Most of the
national competitors we face have significantly greater market presence, brand
recognition and resources than we do. Currently, we compete for dial-up
customers with national, regional and local Internet service providers. Our DSL
service faces competition from these national and regional Internet service
providers, cable companies and direct broadcast satellite companies. We also
compete for business customers with long distance and local communications
providers in selling our high speed data services. The existing and new sources
of competition in this market place pressure on the pricing of these services,
which may cause our revenues or margins to decline.

REGULATORY ENVIRONMENT

OVERVIEW

Our communications services are subject to federal, state and local
regulation. We hold various regulatory authorizations for our service offerings.
At the federal level, the Federal Communications Commission, or FCC, exercises
jurisdiction over all facilities of telecommunications common carriers, such as
us, to the extent those facilities are used to provide, originate, or terminate
interstate or international communications. State regulatory commissions
exercise jurisdiction over such facilities and services to the extent those
facilities are used to provide, originate or terminate intrastate
communications.

Pursuant to the Telecommunications Act of 1996, or TA-96, state and federal
regulators share responsibility for implementing and enforcing the domestic
pro-competitive policies introduced by that legislation. In particular, state
regulatory agencies have substantial oversight in the provision by ILECs of
interconnection and non-discriminatory network access to competitive
communications providers. Local governments often regulate the public
rights-of-way necessary to install and operate networks, and may require
communications services providers to obtain licenses or franchises regulating
their use of public rights-of-way.

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FEDERAL REGULATION

We must comply with the Communications Act of 1934, as amended, which
requires, among other things, that communications carriers offer services at
just and reasonable rates and on non-discriminatory terms and conditions. TA-96
brought changes in regulation at both the federal and state levels that affect
virtually every segment of the telecommunications industry. TA-96 is intended to
promote competition in all areas of telecommunications and to reduce regulation.

Although TA-96 substantially revised the Communications Act of 1934 and was
intended, among other things, to eliminate certain regulatory burdens, we and
other communications carriers remain subject to ongoing regulatory requirements.
Among other regulatory mandates, the FCC requires common carriers to file
periodic reports. The FCC also has jurisdiction over interstate and
international services.

The FCC generally must approve, in advance, transfers of control and
assignments of operating authorizations by FCC-regulated entities. Therefore, if
we seek to acquire companies that hold FCC authorizations, in most instances we
will be required to seek approval from the FCC prior to completing those
acquisitions. The FCC has the authority to condition, modify, cancel, terminate
or revoke operating authority for failure to comply with applicable federal laws
or rules, regulations and policies of the FCC. Fines or other penalties also may
be imposed for such violations.

Our RLECs are subject to FCC regulation relative to the provision of
interstate access service. As such, our RLECs are subject to rate of return
regulation as participants in the NECA pooling process.

Our CLECs are also subject to FCC regulation relative to the provision of
interstate access service and interstate and international toll service. Under
current FCC practices, our CLECs' rates and services are generally subject to
much less regulatory scrutiny than those of the RLECs.

PENNSYLVANIA REGULATION

Our RLECs are subject to regulation by the Pennsylvania Public Utilities
Commission, or Pennsylvania PUC, for intrastate rate-making purposes, which
includes rates for local telephone service, enhanced telephone services,
regional long distance services and intrastate network access services. In 2001,
we entered into an alternative method of regulation with the Pennsylvania PUC
for our intrastate operations under which we agreed to meet certain broadband
service delivery parameters in exchange for price cap regulation, rather than
rate of return regulation. As a result of the alternative method of regulation,
our RLECs' profits are not directly limited by the Pennsylvania PUC as they were
under rate of return regulation. Instead, our RLECs received the flexibility to
adjust local rates annually based on inflation less 2 percentage points, so that
increased returns arising from improved productivity and efficiency in excess of
2% per annum accrue to us. Our RLEC increased local rates accordingly in July
2002, which increased the total operating revenues of our RLECs on an annualized
basis by approximately $200,000. Our RLECs can also seek to rebalance rates
periodically within or between various intrastate service categories, such as
local telephone, long distance and network access services. Our RLECs rebalanced
rates in July 2002 and plan to do so again in July 2003. The rebalancings are
designed to be revenue-neutral, with no impact on our RLECs' total operating
revenues. Additionally, our RLECs have the ability to request relief on a
dollar-for-dollar basis for certain events deemed outside of their control that
result in reduced revenues or increased expenses.

Our CLECs are also subject to regulation by the Pennsylvania PUC in
relation to intrastate services, including local telephone, regional long
distance and network access services. Under the Pennsylvania PUC's current
practices, our CLECs' rates and services are generally subject to much less
regulatory scrutiny than those of the RLECs in their markets.

The Pennsylvania PUC must also approve any issuance of stock, incurrence of
long-term debt, or acquisition or sale of material utility assets by our RLECs
and CLECs. In addition, the Pennsylvania PUC must approve any change in
controlling interest of either our RLECs and CLECs or their holding companies.
The Pennsylvania PUC defines a "controlling interest" as an interest held by a
person or group acting in concert, which enables the beneficial holders to
control at least 20% of the voting interest in the utility or its parent,
regardless of the remoteness of the transaction.
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Under TA-96, the Pennsylvania PUC also has authority to arbitrate any
disputes over the terms and conditions of interconnection between our CLECs and
the ILECs in our CLEC markets, including the prices of various unbundled network
elements that our CLECs purchase. The Pennsylvania PUC has taken a number of
actions over the past several years affecting the prices for network elements,
as well as the terms and conditions under which these elements are provided.
Further decisions by the Pennsylvania PUC may have a material effect on our
CLECs' costs and profitability.

TELECOMMUNICATIONS ACT OF 1996

One of the key goals of TA-96 is to encourage competition in local
telephone service. To do this, TA-96 provides three means by which
communications service providers can enter the local telephone service
marketplace:

Resale. ILECs are required to permit new communications service
providers to purchase their services for resale to the public at a retail
rate or a wholesale rate that is less than the rate charged by the ILEC to
their retail customers.

Access to Network Elements. ILECs are required to lease to new
communications service providers the various elements in their network that
are used to provide local telephone service. The leased parts of the ILEC's
networks are known as "unbundled network elements." The ILEC must make
unbundled network elements available at rates that are based on their
forward-looking economic costs.

Construction of New Facilities. New communications service providers
may also enter the local telephone service market by building their own
facilities.

To facilitate new communications service providers' entry into local
telephone markets using one or more of the above three methods, TA-96 imposes on
non-rural ILECs the obligation to open their networks and markets to
competition. When requested by competitors, non-rural ILECs are required to
negotiate in good faith agreements that lay out terms governing interconnection
to their network, access to unbundled network elements and discounted resale.
Non-rural ILECs also must allow competing carriers to "co-locate", or place
their own equipment in the non-rural ILECs' central offices. Rural local
exchange carriers, including our RLECs, have a rural exemption from the
interconnection requirements of TA-96. This exemption may only be terminated by
the Pennsylvania PUC following a bona fide request for interconnection to our
RLECs and a finding that such interconnection request is not unduly economically
burdensome, is technically feasible, and is consistent with the universal
service provisions in TA-96.

As a result of the passage of TA-96, local exchange carriers, including our
RLECs, face the prospect of being subject to competition for the first time in
the provision of local telephone and regional long distance services. TA-96 also
provides for the codification of the principles of "universal service" and
establishes safeguards to foster the provision of communications services in the
areas served by ILECs by adopting a federal universal service support fund, or
USF. See "-- Promotion of Universal Service."

TA-96 makes competitive entry into the telecommunications industry more
attractive to non-ILECs by, among other things, removing most state and local
barriers to competition. Therefore, TA-96 increases the level of competition
that our RLECs face. In particular, after notice and an opportunity for comment,
the FCC may preempt any state requirement that prohibits or has the effect of
prohibiting a carrier from providing intrastate or interstate communications
services. In addition, TA-96 establishes procedures under which an RBOC can
enter the market for long-distance services within the area where it provides
local telephone service. To date, RBOCs have been granted authority by the FCC
to provide such regional long distance services in nearly every state, including
Pennsylvania. The provision of regional long distance services by RBOCs permits
them to offer "one-stop shopping" of local and long distance services, enhancing
their competitive position generally in our RLEC and edge-out markets, should
they seek to enter these markets. Currently there are no CLECs providing service
in our RLEC territories.

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PROMOTION OF LOCAL SERVICE COMPETITION

As discussed above, TA-96 provides generally for the removal of barriers to
entry into the telecommunications industry in order to promote competition for
the provision of local telephone service. Congress, however, has recognized that
states should not be prohibited from taking actions necessary to preserve and
advance universal service and has further recognized that special consideration
should be given to the appropriate conditions for competitive entry in areas
served by RLECs.

Pursuant to TA-96, local telephone companies, including both ILECs and
CLECs, are required to: (i) allow others to resell their services at retail
rates; (ii) ensure that customers can keep their telephone numbers when changing
carriers; (iii) ensure that competitors' customers can use the same number of
digits when dialing and receive nondiscriminatory access to telephone numbers,
operator service, directory assistance and directory listing; (iv) ensure access
to telephone poles, ducts, conduits and rights of way; and (v) compensate
competitors for the competitors' costs of completing calls to competitors'
customers. Competitors are required to compensate the ILEC for the cost of
providing these interconnection services.

TA-96, with certain exceptions described below, requires ILECs to: (i)
interconnect their facilities and equipment with any requesting
telecommunications carrier at any technically feasible point; (ii) unbundle and
provide nondiscriminatory access to network elements, such as local loops,
switches and transport facilities, at nondiscriminatory rates and on
nondiscriminatory terms and conditions; (iii) offer their retail services for
resale at wholesale rates; (iv) provide reasonable notice of changes in the
information necessary for transmission and routing of services over the ILEC's
facilities or in the information necessary for interoperability; and (v)
provide, at rates, terms and conditions that are just, reasonable and
nondiscriminatory, for the physical co-location of equipment necessary for
interconnection or access to unbundled network elements at the premises of the
ILEC. Competitors are required to compensate the ILEC for the cost of providing
these interconnection services.

At its February 20, 2003 public meeting, the FCC voted on rules concerning
ILECs' obligations to make elements of their networks available on an unbundled
basis to new entrants. According to the FCC press release, ILECs will not be
obligated to give competitors unbundled access to broadband and fiber lines that
the ILEC's deploy in the future to provide broadband service. The FCC plans to
limit the ILECs' obligations to unbundle access to other elements of their
systems, such as switches. The FCC is establishing an impairment standard to
determine whether ILECs must open elements of their systems to competitive
providers. The standard is whether economic and operational impairment exists in
a particular market necessitating the unbundling of elements of the ILECs'
systems for competitive providers. The state public utility commissions will
have the mandate to apply the FCC's impairment standard in the various states.
We are waiting for the FCC to release its Order so we can determine the full
impact of the rules on our company.

Congress specifically recognized that the movement towards increased
competition under TA-96 requires accommodation for the different market
characteristics of areas served by RLECs. For these areas, TA-96 included
provisions which anticipate that the public interest may be best served by
exempting RLECs from the more burdensome interconnection obligations. RLECs'
characteristics make these markets much more vulnerable to target market entry
(i.e. "cream skimming") by new entrants. TA-96 recognized that selective
customer targeting in areas served by RLECs could have an adverse impact on
universal service and the overall public interest.

Congress recognized that interconnection requirements must be carefully
constructed, modified or suspended in order to ensure that new entrants
targeting primarily lower cost, higher volume customers do not leave the RLECs
with only high cost, low volume customers from whom to recover relatively
unchanged network costs. Accordingly, TA-96 provides RLECs, including our RLECs,
an automatic blanket exemption ("rural exemption") from certain interconnection
requirements. Therefore, an RLEC is exempt from the more onerous interconnection
requirements until that RLEC receives a bona fide request for interconnection
and the state public service commission determines that the request is not
unduly economically burdensome, is technically feasible, and is consistent with
universal service principles.

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Under TA-96, ILECs with fewer than 2% of the nation's subscriber lines,
such as our RLECs, may request from state PUCs suspension or modification of any
or all of the requirements described above. A PUC may grant such a request if it
determines that such suspension or modification is consistent with the public
interest and necessary to avoid a significant adverse economic impact on
communications users and to avoid imposing a requirement that is technically
unfeasible or unduly economically burdensome. Pursuant to TA-96, our RLECs,
along with other RLECs in Pennsylvania, received a temporary suspension of
specific interconnection requirements. This suspension expired on July 10, 2002;
however, we were granted an interim extension until January 15, 2003, while the
Pennsylvania PUC contemplated our request for another three-year extension. This
request was subsequently denied by the Pennsylvania PUC. Although the extension
of the suspension was denied, the rural exemption under TA-96 is still in
effect, so that we are still exempt from the more onerous interconnection
requirements until we receive a bona fide request for interconnection and the
Pennsylvania PUC determines that the request is not unduly economically
burdensome, is technically feasible, and is consistent with universal service
principles. A wireless carrier has petitioned the Pennsylvania PUC for the
removal of the rural exemption for our three RLECs. This was done, however, in
conjunction with negotiations for a wireless traffic exchange agreement, not for
competitive entry. In addition, according to the FCC's February 20, 2003 press
release relative to the network unbundling obligations of ILECs, we will not
have to unbundle all elements of our system to competitors, including our
broadband and DSL deployment and some of our switches. However, the denial of
the renewal of our temporary suspension may put us in a position of having to
provide interconnection to other providers without adequate compensation, cause
us to incur administrative and regulatory costs as a result of administrative
proceedings to determine whether the provider requesting interconnection has met
its burden under the rural exemption of TA-96, cause our operating costs to
increase as a result of having to make such interconnections, and at the same
time cause us to suffer a loss of customers to such competitive providers.

To the extent we seek to enter the local telephone service business in
other RLEC territories, we could encounter difficulties in obtaining
interconnection with those RLECs, particularly if those RLECs are entitled to
the same protections we enjoyed in our RLEC territories. In particular, in those
circumstances, we might be unable to obtain access to the RLECs' networks, which
could significantly detract from our ability to implement our CLEC strategy in
those areas.

Even if an ILEC in a territory we wished to enter were not entitled to such
protections, we could nonetheless be unable to obtain interconnection on
favorable terms. The FCC has issued rules implementing the interconnection and
resale provisions of TA-96, but those rules have been, and continue to be,
subject to administrative and judicial appeals. Thus, there is continuing
uncertainty about individual rules governing pricing of interconnection and
unbundled network elements, and the terms and conditions of interconnection
agreements. This may make negotiating these agreements more difficult and
time-consuming. It also could require renegotiations of relevant provisions of
existing interconnection agreements or subject them to additional court or
regulatory proceedings.

PROMOTION OF UNIVERSAL SERVICE

The Federal Universal Service Support Fund ("USF") and the Pennsylvania
State Universal Fund pay our RLECs from their funds to support the high cost of
our operations in rural markets. Our three RLECs received support payments of
approximately $5,369,000 in 2002 from these funds.

Newly codified universal service principles are being implemented by the
FCC. One of the implemented principles provides that USF funds will be
distributed only to carriers that are designated as eligible telecommunications
carriers, or ETCs, by the Pennsylvania PUC. Our RLECs have been designated as
ETCs pursuant to TA-96. However, under TA-96, competitors could obtain the same
support payments as we do if the Pennsylvania PUC determined that granting such
support payments to competitors would be in the public interest. If such
universal service support payments were to become available to potential
competitors, our RLECs might not be able to compete as effectively or otherwise
continue to operate as profitably as they have historically. RLECs will receive
USF payments pursuant to existing mechanisms for determining the amounts of such
payments with some limitations, such as on the amount of corporate operating
expense that can be recovered from the USF.
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ACCESS CHARGE REFORM

For the year ended December 31, 2002, approximately 50% of our RLECs'
revenues came from network access charges, which are paid to us by intrastate
and interstate long distance carriers for originating and terminating calls in
the territory served by our RLECs. The amount of network access revenues that we
receive is calculated based on guidelines set by federal and state regulatory
bodies, and such guidelines could change at any time. Both the Pennsylvania PUC
and the FCC have made and are continuing to consider various reforms to the
existing rate structure for charges assessed on long distance carriers for
connection to local networks. These reforms are designed to move these network
access charges, over time, to lower, cost-based rate levels and structures.
These changes will reduce access charges and will shift recovery to end-user
customers rather than long distance carriers. As a result, the aggregate amount
of network access charges paid by long distance carriers to access providers,
such as our RLECs, will decrease.

In July 2000, the Pennsylvania PUC created a state universal service fund
accompanied by intrastate regulatory access reform, resulting in revenue shifts
for our RLECs among local telephone, long distance and network access service
categories. On November 9, 2001, the FCC released an order changing its
interstate access charge rules and universal service support system for
rate-of-return RLECs. The new rules change the sources of funding under the
average schedule formulas, but not the amounts paid to participants. These
modifications include a reduction in access charges to long-distance companies,
an increase in subscriber line charges to local service customers, and the
creation of a universal funding mechanism funded by all telecommunications
carriers.

POTENTIAL INTERNET REGULATORY OBLIGATIONS

In connection with our Internet access offerings, we could become subject
to laws and regulations as they are adopted or applied to the Internet. There is
currently only a small body of laws and regulations applicable to access to or
commerce on the Internet. As the significance of the Internet expands, federal,
state and local governments may adopt rules and regulations, or apply existing
laws and regulations to the Internet. We cannot predict the nature of these
regulations or their impact on our business.

EMPLOYEES

We had 791 employees as of December 31, 2002, including approximately 42
employees dedicated to the operation of Conestoga Wireless and who are no longer
employed by D&E since the sale of Conestoga Wireless in January 2003. See the
section titled "Sale of Wireless Interests." Fewer than 100 of our employees are
covered by a collective bargaining agreement.

FACTORS AFFECTING OUR PROSPECTS

Our increased indebtedness could restrict our operations.

As of December 31, 2002, we had approximately $245,098,000 of total
indebtedness, including current maturities, which increased in connection with
the Conestoga acquisition. This increased indebtedness could restrict our
operations due to the following factors, among others:

- we will use a substantial portion of our cash flow from operations, if
any, to pay principal and interest on our indebtedness, which would
reduce the funds available for working capital, capital expenditures,
acquisitions and other general corporate purposes;

- our indebtedness may limit our ability to obtain additional financing on
satisfactory terms, if at all;

- insufficient cash flow from operations may cause us to attempt to sell
assets, restructure or refinance our debt, or seek additional equity
capital, which we may be unable to do at all or on satisfactory terms;

- our level of indebtedness may make us more vulnerable to economic or
industry downturns;

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- we may not have the ability to pay dividends to our shareholders; and

- our debt service obligations increase our vulnerabilities to competitive
pressures, as we may be more leveraged than many of our competitors.

The agreements governing our indebtedness could restrict our operations and
ability to make acquisitions.

The agreements governing our indebtedness contain covenants imposing
financial and operating restriction on our business. These restrictions may
limit our ability to take advantage of potential business opportunities as they
arise and adversely affect the conduct of our business. These covenants place
restrictions on our ability and the ability of our subsidiaries to, among other
things;

- incur more indebtedness;

- pay dividends, redeem or repurchase our stock or make other
distributions;

- make acquisitions or investments;

- use assets as security in other transactions;

- enter into transactions with affiliates;

- merge or consolidate with others;

- dispose of assets or use asset sale proceeds;

- create liens on our assets;

- expand our CLEC marketing areas; and

- extend credit.

We may be unable to integrate successfully the business operations of D&E and
Conestoga, and such inability could have an adverse impact on our
profitability.

The integration of the systems and operations of D&E and Conestoga will
involve significant risks. D&E and Conestoga have different operating support
systems, including billing, accounting, order management, toll rating, trouble
reporting and customer service systems, which may be difficult to integrate. In
addition, some of Conestoga's employees are members of a labor union and are
subject to the terms of a collective bargaining agreement. Because D&E's
employees are not unionized, management of the combined company may face
difficulties in integrating employees with different work rules. Even if
integration of the operating systems and employees is ultimately successful, the
amount of management attention diverted to integration efforts may limit their
ability to work on other business matters.

We have continuing involvement in the Conestoga wireless segment after its
sale which may adversely affect the continuing operations of the business.

In connection with the acquisition of Conestoga, we committed to a plan to
sell the assets of Conestoga's wireless segment. The sale was completed on
January 14, 2003. We will have continuing involvement after the sale as a result
of our continued guarantees on cell site leases and our responsibilities under
build-to-suit agreements. Payments required under the build-to-suit agreement
and payments, if any, that become due under the cell site guarantees could
restrict our operations by reducing the funds available for working capital,
capital expenditures, acquisitions and other general corporate purposes.

17

The communications industry is increasingly competitive, and this competition
has resulted in pricing pressure on our service offerings. We may experience
increased competitive pressures which could have a negative effect on our
revenues and earnings.

As an integrated communications provider, we face competition from:

- competitive local exchange carriers, including Adelphia, Commonwealth
Telephone Enterprises and XO Communications;

- wireless service providers, including Cingular, Verizon Wireless, AT&T,
Nextel and T-Mobile

- internet service providers, including AOL, EarthLink and MSN;

- cable television companies, including Adelphia, Comcast and Pencor
Services;

- providers of communications services such as long distance services,
including, AT&T, Sprint, WorldCom and Verizon Communications; and

- systems integration providers, including Morefield, Williams, IntelliMark
and Weidenhammer Systems Corp.

Many of our competitors are, or are affiliated with, major communications
companies. These competitors have substantially greater financial and marketing
resources and greater name recognition and more established relationships with a
larger base of current and potential customers than we. Accordingly, it may be
more difficult to compete against these large communications providers. In
addition, we cannot assure you that we will be able to achieve or maintain
adequate technology to remain competitive. Accordingly, it may be difficult to
compete in any of our markets.

We may be unable to secure unbundled network elements at reasonable rates or
our CLEC growth may be delayed and the quality of service may decline.

In providing our CLEC service, we interconnect with and use other telephone
companies' networks to access certain of their customers. Therefore, we depend,
in certain circumstances, upon the technology and capabilities of these other
telephone companies, the quality and availability of other telephone companies'
facilities and other telephone companies' maintenance of these facilities. We
must also maintain efficient procedures for ordering, provisioning, maintaining
and repairing facilities from these other telephone companies. We may not be
able to obtain the facilities and services of satisfactory quality we require
from other telephone companies, or on other satisfactory terms and conditions,
in which case we may experience delays in the growth of our competitive local
exchange carrier networks and the degradation of the quality of our service to
customers.

We also provide digital subscriber line services. To provide unbundled
DSL-capable lines that connect each end-user to equipment, we rely on other
telephone companies. The Telecommunications Act of 1996 generally requires that
charges for these unbundled network elements be cost-based and
nondiscriminatory. Charges for DSL-capable lines and other unbundled network
elements may vary based on rates proposed by other telephone companies and
approved by state regulatory commissions. Increases in these rates could harm
our CLEC business.

If we expand our CLEC operations, the success of this expansion will be
dependent on interconnection agreements, permits and rights-of-way. The
failure to obtain these agreements and permits could hamper any such
expansion.

If we expand our CLEC operations, our success will depend, in part, on our
ability to manage existing interconnection agreements and to enter into and
implement new interconnection agreements with other telephone companies. Our
failure to obtain these agreements and permits could hamper this expansion.
Interconnection agreements are subject to negotiation and interpretation by the
parties to the agreements and are subject to state regulatory commission, FCC
and judicial oversight. If the terms of these interconnection agreements need to
be renegotiated, we may not be able to renegotiate existing or enter into new

18

interconnection agreements in a timely manner or on favorable terms. We must
also maintain existing, and obtain new, local permits, including rights to
utilize underground conduit and pole space and other rights-of-way. We may not
be able to maintain our existing permits and rights or obtain and maintain other
required permits and rights on acceptable terms. Cancellation or nonrenewal of
interconnection agreements, permits, rights-of-way or other arrangements could
significantly harm our business.

We are subject to a complex and uncertain regulatory environment that may
require us to alter our business plans and face increased competition.

The United States communications industry is subject to federal, state and
other regulations that are continually evolving. As new communications laws and
regulations are issued, we may be required to modify our business plans or
operations, and we may not be able to do so in a cost-effective manner. Federal
and state regulatory trends toward a more competitive market place through
reduced competitive entry standards are likely to have negative effects on our
business and our ability to compete. For example, the FCC is currently
considering the issue of wireless local number portability. The final
disposition of this issue is unclear at this time; however, the potential exists
for a ruling that would have a negative impact on our RLEC and CLEC operations.
In this regard, the regulatory environment governing ILEC operations has been
and will likely continue to be very liberal in its approach to promoting
competition and network access, which may increase the likelihood of new
competitors offering similar services to our service areas. The introduction of
new competitors could have a negative effect on our ILEC operating results yet
at the same time present operating benefits to our CLEC business.

We no longer have a limited suspension from certain interconnection
requirements of the Telecommunications Act of 1996. As a result, we may be
subject to additional competition for telecommunications services.

Our RLEC services held a limited suspension until January 2003 from certain
interconnection requirements of the Telecommunications Act of 1996. The
suspension protected the interconnection services in our RLEC markets by
excluding us from requirements to allow competitors to have access to our
customers by relying upon our services and facilities. Since we did not receive
additional extensions of this suspension, competitors will be allowed to seek
removal of our rural exemption for the purposes of entering our territory and
using our services and facilities through interconnection agreements to provide
competitive services. The introduction of new competitors could result in the
loss of customers and have a negative effect on our revenues and earnings.

The Systems Integration Segment could be affected by the overall economic
climate.

The sale of equipment and services in the Systems Integration business is
dependent upon the willingness of companies to invest in improvements in their
information and communications systems. General economic conditions play a role
in companies' investment decisions that directly affect the potential sales of
Systems Integration equipment and services. The current economic climate may
negatively impact the willingness of companies to make these types of
investments.

ITEM 2. PROPERTIES

Our properties consist primarily of administration buildings, central
office switch facilities, telephone lines and related equipment and other land
and buildings related to telephone operations. Our major owned facilities
include our corporate headquarters and central office switching facility,
totaling 112,900 square feet in Ephrata, Pennsylvania; an office building
including our network operations center totaling 80,000 square feet in
Brownstown, Pennsylvania; and six other buildings that serve a variety of
functions including offices, warehouse, vehicle service center and switching
facilities; totaling approximately 107,400 square feet. We lease 96,200 square
feet in seven other buildings throughout our service territories primarily for
offices, switching facilities and a garage. There are more than one hundred
other smaller locations totaling over 100,000 square feet, either owned or
leased, that are used for various purposes such as housing switching

19

equipment. All our assets are maintained and upgraded on a continuing basis to
assure our customers of receiving the highest quality service available.

We have transmission facilities referred to as our outside plant,
consisting of cables, wires, terminals and necessary supporting structures such
as poles, conduit and manholes. Our cables are installed on poles, underground
in conduit or directly buried in the earth. In addition to plant and equipment
that we wholly own, we utilize poles, towers and cable and conduit systems
wholly-owned by, or jointly-owned with, other entities.

ITEM 3. LEGAL PROCEEDINGS

In July 2002, EuroTel initiated a legal action in United States District
Court for the Southern District of New York against an investment bank, and an
individual, alleging violations of applicable law relating to the advice given
by the investment bank and the individual to a prospective buyer not to close on
the purchase of Pilicka. Management of EuroTel believes that, based on the
advice of its legal counsel, the suit is meritorious. However, the ultimate
outcome of the litigation cannot be determined and no amount has been recognized
for possible collection of any claims in the litigation. Legal costs are
expected to continue to be incurred in pursuit of such litigation.

We are involved in various legal proceedings arising in the ordinary course
of our business. In the opinion of management, the ultimate resolution of these
matters will not have a material adverse effect on our consolidated financial
condition or results of operations.

ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

There were no matters submitted to a vote of the shareholders during the
fourth quarter of 2002.

PART II

ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS

Our common stock trades on The NASDAQ Stock Market under the symbol DECC.
The table below sets forth the high and low bid prices of our common stock
during each of the periods indicated, as reported daily by the NASDAQ National
Market.

The bid quotations reflect inter-dealer quotations, do not include retail
markups, markdowns, or commissions, and may not necessarily represent actual
transactions. The bid information stated is, to our knowledge, the best
approximate value at the time indicated.

The closing price on December 31, 2002, was $8.36. Based on records that we
maintain, the approximate number of record holders of our common stock, as of
December 31, 2002, was 2,381.

During the two most recent fiscal years, cash dividends on our common stock
have been declared quarterly in the annual amount per share of $0.50 in 2002 and
in 2001. Dividends are paid as and when declared by our Board of Directors and
in accordance with restrictions set forth in covenants contained in our debt
agreements.

20

The information required under this Item relating to equity compensation
plans is incorporated by reference from the material captioned "Executive
Compensation" in our definitive proxy statement for our annual meeting which
will be filed within 120 days after the end of the fiscal year covered by this
report.

ITEM 6. SELECTED FINANCIAL DATA

The following table sets forth selected consolidated summary financial
information as of December 31 and for each of the last five fiscal years ended
December 31, 2002. This information should be read in conjunction with our
consolidated financial statements, including the notes thereto, and Management's
Discussion and Analysis of Financial Condition and Results of Operations, both
of which are included in this annual report. Certain amounts have been
reclassified for comparative purposes.

- ---------------

(1) Reflects the results of our interest in the PCS ONE joint venture and our
paging businesses as discontinued operations.

(2) The per-share data is based upon the weighted average common shares
outstanding. Computations of earnings for all years are in accordance with
Statement of Financial Accounting Standards No. 128, "Earnings per Share."

21

ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS

The following discussion should be read in conjunction with our
consolidated financial statements, including the notes thereto, included in this
annual report. Monetary amounts presented in the following discussion are in
thousands, except per share amounts.

OVERVIEW

We are a rural local telephone company providing integrated communications
services to residential and business customers in markets throughout the eastern
half of Pennsylvania. We operate an incumbent rural local exchange carrier, or
RLEC, in parts of Berks, Lancaster, Union and smaller portions of three other
adjacent counties in Pennsylvania, and a competitive local telephone company, or
CLEC, in the Lancaster, Harrisburg, Reading, Altoona, Pottstown, State College
and Williamsport, Pennsylvania metropolitan areas, which we refer to as our
"edge-out" markets. We offer our customers a comprehensive package of
communications services including local and long distance telephone services,
high speed data, and Internet access services. We also provide business
customers with integrated voice and data network solutions.

Our segments, excluding our D&E Wireless and paging services, which, as
discussed below, are reported as discontinued segments, are RLEC, CLEC, Internet
Services, Systems Integration and Conestoga Wireless. The measure of
profitability for our segments is operating income.

Our RLEC revenue is derived primarily from network access charges, local
telephone service, enhanced telephone services and regional toll service.
Network access revenue consists of charges paid by long distance and wireless
companies for access to our network in connection with the completion of long
distance telephone calls. Local telephone service revenue consists of charges
for local telephone services, including monthly charges for basic local service.
Enhanced telephone services revenue is derived from providing special calling
features, such as caller ID, call waiting and a telemarketer call-blocking
service. Regional long distance revenue is derived from providing regional long
distance services to our RLEC customers.

Our CLEC revenue is derived primarily from network access charges, local
telephone service, enhanced telephone services and long distance service
revenue. Network access revenue consists of charges paid by long distance
companies and other non-CLEC customers for access to our network in connection
with the completion of long distance telephone calls. Local telephone service
revenue consists of charges for local telephone services, including monthly
charges for basic local service. Enhanced telephone services revenue is derived
from providing special calling features, such as caller ID, call waiting and a
telemarketer call-blocking service. Long distance revenue consists of charges
for both national and regional long-distance services, a portion of which is
provided on a resale basis.

Our Internet Services revenue is derived from dial-up and high speed
Internet access services, in addition to web hosting services. We market these
services primarily in our RLEC and CLEC service areas.

Our Systems Integration revenue is derived from sales of services that
support the design, implementation and maintenance of local and wide area
networks and telecommunications systems. In addition, we sell data and voice
communications equipment and provide custom computer programming service. We
market these products and services primarily in our RLEC and CLEC service areas.

Conestoga Wireless revenue is derived from providing wireless Personal
Communication Service, including local and long distance telephone services, and
from the sale of wireless communications equipment. We market these products and
services in certain of our RLEC and CLEC markets.

Our operating costs and expenses primarily include wages and related
employee benefit costs, depreciation and amortization, selling and advertising,
software and information system services and general and administrative
expenses. Our RLEC segment incurs costs related to network access charges,
directory expense, and other operations expenses such as digital electronic
switch expense, engineering and testing costs. Our CLEC incurs costs related to
leased network facilities associated with providing local telephone service to
customers, engineering costs, and network access costs for local calls and long
distance expense. Our Internet Services segment incurs leased network facilities
costs for our dial-up Internet service and for our DSL

22

Internet service. Our Systems Integration business incurs expenses primarily
related to wages and employee benefit costs, and equipment and materials used in
the course of the installation and provision of our products and services. Our
Conestoga Wireless Segment incurs costs related to network facilities to provide
wireless Personal Communications Service, engineering costs, network access
costs and costs of wireless communications equipment sold.

We incur access line-related capital expenditures associated with access
line additions, expenditures for upgrading existing facilities and costs related
to the provision of DSL and dial-up Internet services in our RLEC and CLEC
territories. We believe that our capital expenditures related to CLEC access
line growth are generally associated with additional customers and therefore
tend to result in incremental revenue. We believe that our additional capital
expenditures relating to our investment in software and systems will provide us
with a competitive advantage in the marketplace and generally allow for
corresponding reductions in operating expenses.

As of December 31, 2001, we owned a one-third investment in EuroTel L.L.C.
(EuroTel), a domestic corporate joint venture. EuroTel held a 100% investment in
PenneCom, B.V. (PenneCom), an international telecommunications holding company
that held a 100% investment in Pilicka Telefonia, Sp.zo.o (Pilicka), a
telecommunications company located in Poland.

As of December 31, 2001, PenneCom was indebted to EuroTel and the investors
in EuroTel, including D&E. PenneCom agreed with EuroTel and the EuroTel
investors to satisfy a portion of its indebtedness to EuroTel and the founders
by transferring PenneCom's entire equity interests in Pilicka to EuroTel and the
founders. The total amount of indebtedness satisfied by PenneCom was equal to
the total estimated fair value of Pilicka at December 31, 2001. These
transactions were effective as of January 1, 2002. In February 2002, the EuroTel
founders contributed additional funds to EuroTel, which invested those funds in
Pilicka. Concurrent with the investments, the ownership of Pilicka was
restructured such that EuroTel now owns 27.85%, we own 28.88% and the other
EuroTel founders own 43.27%. We continue to own a one-third interest in EuroTel.
As a result of these transactions, we now have a 28.88% direct ownership in
Pilicka and a 9.28% indirect ownership in Pilicka, through our continuing
one-third interest in EuroTel. We account for both our investment in EuroTel and
Pilicka using the equity method of accounting. We currently are exploring
strategic alternatives with regard to these investments.

On April 1, 2002, we completed the sale of our investment in PCS ONE, whose
results, along with related contract services provided to PCS ONE, have been
reported as a discontinued segment.

On May 24, 2002, we completed our acquisition of Conestoga Enterprises,
Inc. ("Conestoga"), a neighboring rural local exchange carrier providing
integrated communications services throughout the eastern half of Pennsylvania.
The acquisition was completed through the merger of Conestoga with and into D&E
Acquisition Corp. (the "Merger Sub"), a wholly-owned subsidiary of D&E, pursuant
to the Amended and Restated Agreement and Plan of Merger, dated as of January 9,
2002 (the "Merger Agreement"), by and among D&E, Conestoga and the Merger Sub
(the "Merger"). We paid cash consideration of $149,422 and issued 7,876,655
shares of D&E common stock to Conestoga shareholders pursuant to the Merger
Agreement. We also assumed existing indebtedness of Conestoga and outstanding
options issued pursuant to Conestoga equity compensation plans.

In connection with the Merger, we entered into an Amended and Restated
Credit Agreement, dated May 24, 2002 (the "Credit Agreement"), with CoBank, ACB
("CoBank"), as a lender and administrative agent, and certain other lenders. The
Credit Agreement provides for a new $125 million 8 1/2 year variable rate senior
secured term loan and a $25 million increase to our existing $50 million
revolving credit facility provided by CoBank. The Credit Agreement is also the
governing document for our existing $50 million term loan from CoBank. On May
24, 2002, we borrowed the $125 million term loan and $35 million under the
revolving credit facility. These borrowings, along with proceeds from the sale
of our interest in PCS ONE, were used to pay the cash portion of the merger
consideration as well as to repay certain existing indebtedness and related fees
and expenses. The $125 million term loan and borrowings under the $75 million
revolving credit facility bear interest, at our option, at either the U.S. prime
rate plus 1.75% to 3.00% or at LIBOR plus 2.50% to 4.00%, depending on our total
leverage ratio. The $50 million term loan bears interest, at our option,
23

at either the U.S. prime rate plus 2.00% to 3.125% or at LIBOR plus 2.625% to
4.125%, depending on our total leverage ratio. We are also required to maintain
interest rate protection on one-half of the total amount of senior indebtedness
outstanding, with a weighted average life of at least 2 years.

Conestoga's wireless business, subsequently sold on January 14, 2003, and
Conestoga and D&E's paging businesses are classified as assets held for sale on
the balance sheet. The paging business has been reported as a discontinued
operation. On January 28, 2003, we entered into a definitive sales agreement to
sell Conestoga and D&E's paging businesses and expect to close the sale during
the second quarter of 2003. Conestoga Wireless is included as part of operating
activity and not as a discontinued operation because under accounting rules
there is deemed to be continuing involvement as a result of our commitment to
building out tower sites and a continuing lease guarantee related to certain
tower sites.

RESULTS OF OPERATIONS

The following table is a summary of our operating results by segment:

- ---------------

(1) We commenced our Internet Services operations on October 1, 2000.

(2) We acquired two Systems Integration businesses in 2000.

24

CONSOLIDATED OPERATIONS

OVERVIEW OF 2002 COMPARED TO 2001

Consolidated operating revenues from continuing operations in 2002
increased $61,279, or 80.6%, to $137,334 in 2002 from $76,055 in 2001. The
revenue increase was primarily due to the inclusion of Conestoga's revenues,
totaling approximately $60,932, for the balance of the year after the May 24,
2002, acquisition of Conestoga by D&E. The former D&E operating divisions
realized increased revenue primarily from increases in their customer bases in
the CLEC and Internet Services segments, offset by decreased service and product
sales revenues in the Systems Integration segment. Before corporate
eliminations, the former D&E segment's CLEC revenues increased $1,912 or 27.4%,
Internet Services revenue increased $1,824, or 91.5%, and D&E Systems
Integration segment's revenues decreased $3,615, or 15.5%.

Consolidated operating results from continuing operations was an income of
$7,275 compared to a loss of $530 in 2001. The increased operating income in
2002 of $7,805 was primarily attributable to Conestoga's $7,513 contribution to
income. Operating losses in our former D&E CLEC, Internet Services and Systems
Integration segments were smaller by $211, $1,220 and $1,147 respectively. We
experienced a decrease of $1,299 in operating income from our D&E RLEC primarily
due to costs of the abandoned bond offering and other merger related costs.
Goodwill amortization was discontinued as of January 1, 2002 as a result of
adopting Statement of Financial Accounting Standard No. 142, "Goodwill and Other
Intangible Assets," (FAS 142), which resulted in $1,436 less expense in 2002.

Income from continuing operations decreased $11,131 to a loss of $7,105 in
2002 from an income of $4,026 in 2001. Equity in income of affiliates decreased
$3,520 as a result of an arbitration award received by a subsidiary of our
EuroTel affiliate in 2001. Interest expense increased $9,653 to $11,895 in 2002,
primarily from increased debt incurred to complete the Conestoga acquisition.
Realized gains/losses on securities held for sale changed $6,035 to a loss of
$2,999 in 2002 from a gain of $3,036 in 2001. These increased expenses were
offset by the $7,805 increase in operating income discussed above. Income taxes
in 2002 were a benefit of $3,586. Even though there was a pre-tax income in
2001, the income taxes were a benefit of $2,190 in 2001 as a result of a
decrease in our valuation allowance for deferred tax assets.

OVERVIEW OF 2001 COMPARED TO 2000

Consolidated operating revenues from continuing operations in 2001
increased $11,110, or 17.1%, to $76,055 in 2001 from $64,945 in 2000. This
increase consisted of growth in all of our operating segments, but was primarily
attributable to revenues from a full year of operations for the Systems
Integration businesses acquired in 2000. CLEC, Internet Services and Systems
Integration revenues increased $1,600, $1,900, and $5,264 respectively, before
corporate eliminations. RLEC revenues increased $4,269, or 10.5%, from $40,728
in 2000.

Consolidated operating results from continuing operations for 2001 was a
loss of $530, compared with income of $5,160 in 2000. The loss in 2001 was
primarily attributable to increased operating losses in our CLEC, Internet
Services and Systems Integration segments, of $1,218, $865 and $1,960,
respectively, as well as a decrease of $2,005 in operating income from our RLEC.
The increased operating loss was primarily attributable to increases in general
and administrative expenses and incremental costs associated with network
operations and depreciation related to the enhancement of and relocation of
certain operations to our new building space in Brownstown, Pennsylvania, as
well as a full year of expenses for our Systems Integration businesses acquired
in 2000. The expansion of our CLEC and Internet Services operations, which
resulted in the addition of 3,640 access lines, 8,000 dial-up Internet
subscribers and 1,732 DSL subscribers in 2001, also increased our operating
expenses.

Income from continuing operations increased $9,051 to income of $4,026 in
2001 from a loss of $5,025 in 2000 primarily due to an increase in equity in
income of affiliates of $5,619 as a result of the arbitration award received by
a subsidiary of our EuroTel affiliate and an increase of $6,414 in realized
gains/losses on the disposition of securities held for sale. These increases
were offset by the $5,690 decrease in operating income

25

discussed above. Income taxes in 2001 were a benefit of $2,190 primarily as a
result of a decrease during 2001 in our valuation allowance for deferred tax
assets, versus expense of $1,160 in 2000.

RLEC SEGMENT RESULTS

SUMMARY OPERATING RESULTS -- RLEC SEGMENT

RLEC segment revenues increased $37,929 or 84.3%, to $82,926 in 2002, and
$4,269 or 10.4%, to $44,997 in 2001. In 2002, the Conestoga acquisition added
$36,516 of revenue while D&E RLEC revenues increased $1,413. D&E local telephone
service revenues increased $2,465, or 20.2%, to $14,685 in 2002, from $12,220 in
2001 as a result of rate increases in December 2001 and July 2002. The Conestoga
companies had similar increases in July 2001 and July 2002. D&E network access
revenues decreased $1,392, or 5.6%, to $23,434 in 2002, from $24,826 in 2001, as
a result of lower call volumes and a decrease in certain network access rate
elements. The Conestoga RLECs were experiencing similar trends with higher local
telephone service revenue being offset by declining network access revenues.
This shift in revenues was caused by current telecommunications policy of
decreasing network access charges and offsetting them by higher local telephone
service charges in order to more accurately reflect actual costs. D&E's network
access revenues grew in 2001 from 2000 due to several factors including
increased number of access lines and higher call volumes, which resulted in
increased minutes of use. Other revenues, which include regional long distance
service, directory advertising, and billing and collection, increased $8,630 in
2002 from $7,951 in 2001. The Conestoga acquisition added $8,289 in other
revenues while D&E increased $212. D&E's increase in 2001 from 2000 was
primarily related to an increase in long distance revenue.

RLEC segment operating expenses increased $29,230 or 80.0%, to $65,789, in
2002 and $6,274 or 20.7%, to $36,559, in 2001. The increase in 2002 was
primarily attributable to the Conestoga acquisition. The increase in 2001 was
primarily attributable to increases in general and administrative expenses, and
incremental costs associated with network operations and depreciation related to
the enhancement and relocation of certain operations to our new building space
in Brownstown, Pennsylvania. Operating income increased $8,699, or 103.1%, in
2002 to $17,137 and decreased $2,005, or 19.2%, in 2001 to $8,438.

26

CLEC SEGMENT RESULTS

SUMMARY OPERATING RESULTS -- CLEC SEGMENT

CLEC segment revenues increased $15,119 or 216.4% to $22,104 in 2002 and
$1,600 or 29.7% to $6,985 in 2001. In 2002, the Conestoga acquisition added
$13,682 of revenue while D&E revenues increased $1,437. The increases in 2002
and 2001 were also largely attributable to expanding our CLEC business customer
base.

CLEC segment operating expenses increased $16,365 or 164.6% to $26,306 in
2002 and $2,818 or 39.6% to $9,941 in 2001. The increase in 2002 was primarily
attributable to the Conestoga acquisition. The increase in 2001 was primarily
attributable to an increase in network operations expenses of $2,107 as a result
of the expansion of our fiber optic network and the migration of many of our
CLEC customers onto our own facilities. This expansion includes expenses for
engineering design and network administration. Operating losses increased
$1,246, or 42.2%, to $4,202 in 2002 and $1,218, or 70.0%, to $2,956 in 2001
primarily due to increased operating expenses.

INTERNET SERVICES SEGMENT RESULTS

SUMMARY OPERATING RESULTS -- INTERNET SERVICES SEGMENT

Internet Services segment revenues increased $2,696 or 135.3% to $4,689 in
2002 and increased $1,900 to $1,993 from $93 in 2000, its start up year. The
Conestoga acquisition added $775 to revenue in 2002. The other primary source of
the revenue increase was from the addition of new Internet subscribers.
Operating

27

expenses were $5,403 in 2002, resulting in an operating loss of $714 in 2002,
compared to a loss of $2,090 in 2001, its first full year of operation.

SYSTEMS INTEGRATION SEGMENT RESULTS

SUMMARY OPERATING RESULTS -- SYSTEMS INTEGRATION SEGMENT

Systems Integration segment revenues increased $346 or 1.5% to $23,619 in
2002 and $5,264 or 29.2% to $23,273 in 2001. The Conestoga acquisition added
$3,961 of revenue but was offset by a decrease of $3,615 in D&E. The decrease
was primarily $2,408 of communication services and $1,207 of product sales. We
believe these decreases partially relate to the effects of a slowing economy and
reductions in customer spending for communications related infrastructure and
consulting services. The increase in 2001 was primarily due to the acquisition
of two businesses during the year 2000, and therefore, 2001 reflected a full
twelve months of operations for the two new companies.

Operating expenses remained flat at $26,761 in 2002 versus $26,810 in 2001,
which increased $7,224 or 36.9% from $19,586 in 2000. The slight 2002 decrease
versus 2001 was a net of increased Conestoga expenses and lower D&E expenses,
both as a result of revenue changes. The 2001 increased expenses are primarily
due to the inclusion of the acquisitions completed in 2000. The change in
depreciation and amortization relates to increased depreciation for the assets
of companies acquired in 2000, and amortization of goodwill for those companies
in 2000 and 2001. We adopted FAS 142 in 2002 which eliminates amortization of
goodwill that amounted to $1,436 in 2001 and $825 in 2000. Operating losses
decreased $395 to $3,142 in 2002 and increased $1,960 to $3,537 in 2001
primarily due to these changes in operating revenues and expenses.

CONESTOGA WIRELESS SEGMENT RESULTS

Conestoga Wireless segment revenues were $7,640 from the May 24, 2002 date
of acquisition until December 31, 2002. The 2002 operating loss was $1,765. The
sale of this segment was completed on January 14, 2003. See Section titled
"Factors Affecting Our Prospects."

OTHER INCOME (EXPENSE)

Other income (expense), net for 2002, was expense of $17,901 compared with
income of $2,431 in 2001. The primary reasons for this $20,332 change are as
follows:

- Our equity in net income (loss) of affiliates decreased to a loss of
$3,429 in 2002 from income of $91 in 2001. The change was primarily a
result of the recording of our share of a $40,000 arbitration award
received by a subsidiary of EuroTel partially offset by our share of a
$31,517 impairment charge recorded by EuroTel on its underlying
investments in 2001.

- Our interest expense increased $9,653 in 2002 to $11,895 primarily as a
result of additional borrowing to complete the Conestoga acquisition.

- In 2002, we recognized a loss of $2,999 on the other-than-temporary
impairment of certain available-for-sale securities, while in 2001 we
recognized income of $3,036 on the disposition of certain
available-for-sale securities. These two transactions resulted in a net
decrease to other income of $6,035 in 2002.

28

Other income (expense), net for 2001, was $2,431, compared with a loss of
$8,960 in 2000. This increase of $11,391 is primarily attributable to the
following:

- Our equity in net income of affiliates increased to income of $91 in 2001
from a loss of $5,528 in 2000. The change was primarily the result of our
share of a $40,000 arbitration award received by a subsidiary of EuroTel
partially offset by our share of a $31,517 impairment charge recorded by
EuroTel on its underlying investments.

- In 2001, we recorded a gain of $3,036 on the disposition of certain
available-for-sale securities, while in 2000 we recognized a loss of
$3,378 on the disposition of certain available-for-sale securities. These
two transactions resulted in a net increase to other income of $6,414 in
2001.

INCOME TAXES

Federal and state income tax benefits on the loss from continuing
operations increased $1,396 to $3,586 in 2002 from $2,190 in 2001. The effective
tax rates were 33.7% in 2002 and a negative percentage of 115.2% in 2001.

Federal and state income taxes on income from continuing operations
decreased $3,350 to a benefit of $2,190 in 2001 from an expense of $1,160 in
2000. The decrease in income tax expense is attributable to a $1,991 reduction
in our deferred tax asset valuation allowance. We reduced our valuation
allowance because the likelihood of using our net operating loss carryforwards
had increased primarily due to the pending sale of our interest in PCS ONE. The
effective tax rates were a negative percentage of 115.2% in 2001 and a positive
rate of 30.5% in 2000.

DISCONTINUED OPERATIONS, EXTRAORDINARY ITEMS AND ACCOUNTING CHANGES

In 2002, our discontinued D&E Wireless segment operations was sold
resulting in a $55,506 gain, net of $29,337 in taxes. In 2001 D&E Wireless
segment incurred a loss of $5,955, net of $2,585 in taxes. The pre-tax loss in
2001 primarily comprised of our equity losses from PCS ONE of $9,914, offset by
$1,374 of income for providing support services to PCS ONE. In 2000, our
discontinued D&E Wireless segment operations incurred a loss of $5,653, net of
$2,766 in taxes. The pre-tax loss in 2001 was primarily comprised of our equity
losses from PCS ONE of $9,214, offset by $795 of income for providing support
services to PCS ONE.

In 2002, a plan was entered into to sell our paging business. On January
28, 2003, we entered into a definitive sales agreement and expect to close
during the second quarter of 2003. Paging assets are classified as held for sale
and the results of operations were reclassified to discontinued operations. The
discontinued losses were $7, $14, and $16 net of tax benefits of $3, $9, and $10
in 2002, 2001 and 2000, respectively.

In 2001, we recorded an extraordinary loss on extinguishment of debt of
$2,216, net of a $1,407 tax benefit, as well as a $107 extraordinary gain for a
tax benefit on the discontinuation of regulatory accounting.

On January 1, 2002, the Company adopted Statement of Financial Accounting
Standard No. 142 "Goodwill and Other Intangible Assets" (FAS 142). FAS 142
provides guidance on impairment testing for goodwill and intangible assets. Upon
the adoption of FAS 142, goodwill and indefinite-lived intangibles are no longer
subject to amortization. As of January 1, 2002, the results of the first step
indicated no potential impairment of D&E's goodwill. The Company completed its
annual impairment review and determined that no impairment charge was required.
We continually evaluate whether events and circumstances have occurred that
indicate the remaining balances of goodwill and indefinite-lived intangibles may
not be recoverable.

In the fourth quarter of 2000, we adopted Securities and Exchange
Commission Staff Accounting Bulletin No. 101, "Revenue Recognition in Financial
Statements" (SAB 101), retroactive to January 1, 2000, as required by the SEC.
SAB 101 provides guidance on recognition of certain non-recurring fees and
associated incremental direct expenses over the expected term of the customer
relationship. As of January 1, 2000, the total cumulative effect of the
adoption, which was recorded as a change in accounting principle, was

29

$391, net of income taxes of $267. Our share of EuroTel's cumulative effect of
the adoption of SAB 101 was $521.

EFFECTS OF INFLATION

It is the opinion of management that the effects of inflation on operating
expenses over the past three years have been immaterial and have been partially
offset by growth in operating and other revenues. Management anticipates that
this trend will continue in 2003.

FINANCIAL CONDITION

LIQUIDITY AND CAPITAL RESOURCES

We have historically generated significant cash from our operating
activities. Our overall capital resource strategy is to finance capital
expenditures for new and existing lines of businesses and acquisitions partly
with operating cash and through external sources, such as bank borrowings and
offerings of debt or equity securities.

Net cash provided by continuing operations was $25,161 in 2002. Cash
provided by continuing operations has increased from $13,684 in 2001 and $14,755
in 2000. Additional cash flow from the Conestoga acquisition was the primary
reason for the current year increase, and start-up and expansion efforts in 2001
caused the decrease in cash flows from continuing operations in 2000. Increased
competition in the telecommunications industry could affect future cash flows
related to continuing operations. See "BUSINESS -- Factors Affecting Our
Prospects" on page 16.

Net cash used in investing activities was $177,579 in 2002 and consisted
primarily of $156,819 for the Conestoga business acquisition payments and
$19,240 of capital expenditures. The capital additions were primarily:

- digital switching and circuit equipment, computers and software, and
poles and cable purchases to upgrade our RLEC, CLEC and Internet
operating systems -- $13,115;

- computers and software separate from the telephone network operations
primarily for an upgrade to our operating system and software for the
billing system and expanded office locations -- $2,526.

Net cash used in investing activities was $36,256 in 2001 and consisted
primarily of capital expenditures of $34,068 and an increase in investments in
affiliates to $10,769, primarily related to working capital requirements and the
repayment of bank borrowings for EuroTel, partially offset by net cash of $8,669
received on the sale of temporary investments. Our capital expenditures in 2001
were concentrated in the following areas:

- digital switching and circuit equipment, computers and software, and
poles and cable purchases to upgrade our RLEC, CLEC and Internet
operating systems -- $14,270;

- additions related to our new building in Brownstown,
Pennsylvania -- $8,864; and

- computers and software separate from the telephone network operations
primarily for an upgrade to our operating system and software for the
billing system and expanded office locations -- $6,227.

Net cash used in investing activities was $5,436 in 2000. Capital
expenditures in 2000 were significantly less than in 2001. The major capital
additions were for digital switching and circuit equipment, computers and
software, and poles and cable purchases to continually upgrade the telephone
operating system. The 2000 capital additions also included the final 10% of the
cost to complete construction of a building addition used by the Lancaster
County 911 emergency control center and the beginning of construction of a new
office building to accommodate employee growth. During 2000, two businesses were
acquired for a combination of stock and cash. The cash portion of the payments
made in 2000 was $5,955. Net cash provided by temporary investments was $3,056
in 2000. In 2000, net cash of $12,202 was provided from affiliates primarily
from the distribution of EuroTel proceeds on the sale of its Hungarian telephone
business.

30

Cash provided by financing activities in 2002 was $88,997, consisting
primarily of $160,000 in increased long-term borrowing that, in addition to
helping finance the Conestoga acquisition, was used to pay other long-term debt
of $45,022, repay revolving lines of credit of $11,757, and to pay $8,152 of
related debt issuance costs. Payment of dividends used $6,414 and $687 of net
cash was provided from issuing common stock and repurchasing treasury shares.

Financing activities provided cash of $26,904 in 2001, consisting primarily
of bank borrowings of $58,000 under a new credit facility, which were then used
to refinance $25,378 in long-term debt. In addition, we paid $2,546 in 2001 in
debt issuance costs related to the refinancing. Other financing activities in
2001 included the payment of $3,433 in common stock dividends and treasury stock
purchases of $1,082, consisting of $482 in purchases pursuant to our open market
purchase program and $600 in a privately negotiated share purchase.

In 2000, net cash used by financing activities was $5,372. Cash dividends
in 2000 were $3,094. Also, payments of long-term debt were $1,005. Uses of cash
also included treasury stock purchases of $1,574 in 2000.

The operation and sale of PCS ONE in 2002 provided $78,320 of net cash
versus usage from PCS ONE operations of $7,244 in 2001 and $2,094 in 2000.

External Sources of Capital at December 31, 2002

During 2002, we abandoned an offering of senior notes due to market
conditions. We completed an amendment to our existing credit facility to
increase our long-term debt and draw down $160,000 from our increased credit
facility. The expanded credit facility consists of a $50,000 single draw 10-year
senior term loan, a $125,000 single draw 8.5-year senior term loan and a $75,000
8.5-year senior reducing revolving credit facility. The $125,000 term loan and
additional borrowing on the revolving loan was used to complete the Conestoga
acquisition. The revolving credit facility, of which $42,750 was available as of
December 31, 2002, is expected to fund capital expenditures, acquisitions,
general corporate purposes and working capital needs. On March 14, 2003, we
borrowed $12,000 to use along with cash from operations to pay $20,700 of
federal taxes primarily related to the sale of our D&E wireless business. In
connection with the amendment and later syndication of the debt, we incurred
debt issuance costs of approximately $8,152, which will be amortized over the
8.5-year life of the debt. We amended our credit facility to, among other
things, increase certain interest rate provisions, grant the lenders a secured
position with respect to all credit facility borrowings and include additional
financial covenants. In connection with the Conestoga acquisition, we acquired
their long-term loan of $35,000.

The term A loan for $50,000 requires interest only payments for three years
with increasing quarterly principal payments from the third quarter of 2004
through the second quarter 2011. The term B loan for $125,000 requires interest
only payments for two years with increasing quarterly principal payments from
the third quarter of 2004 through the fourth of quarter 2010. The revolving
credit facility requires interest only payments for two years with increasing
quarterly principal repayments from the third quarter of 2003 through the fourth
quarter of 2010. Interest on both the loan and the revolving credit facility is
payable at a base rate or at LIBOR rates plus an applicable margin based on our
leverage ratio. A commitment fee must be paid on the unused portion of the
revolving credit facility. The $35,000 Conestoga loan requires interest only
payments for three years with equal quarterly payments from the first quarter of
2005 through the fourth quarter of 2014.

The credit facility includes a number of significant covenants that impose
restrictions on our business. These covenants include, among others,
restrictions on expansion of our CLEC business into new markets, additional
indebtedness, mergers, acquisitions and the disposition of assets, sale and
leaseback transactions and capital lease payments. In addition, we are required
to comply with financial covenants with respect to the maximum indebtedness to
total capitalization ratio and maximum leverage ratio.

Upon completion of the sale of our interest in PCS ONE on April 1, 2002, we
received approximately $74,168 and subsequently repaid the outstanding balances
on our revolving credit facility and our bank lines of credit. As of May 24,
2002 we discontinued the previous two lines of credit totaling $20,000. As of
December 31, 2002, we had no other unsecured lines of credit.

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The following summarizes our borrowing capacity at December 31, 2002, as
limited by our covenants:

- $50,000 single draw 10-year term loan, of which $50,000 was outstanding,

- $75,000 senior reducing revolving credit loan for 8.5 years, of which
$32,250 was drawn,

- $125,000 single draw 8.5-year term loan, of which $125,000 was
outstanding,

- $35,000 single draw 12-year term loan, of which $35,000 was outstanding.

As of December 31, 2002, the full amount of the revolver was available for
borrowing without breaking any of the covenants. For further information
regarding our long-term debt, see note 12 to our consolidated financial
statements. Our ratio of total debt to total debt plus capital decreased to
54.7% at December 31, 2002 from 56.9% at December 31, 2001 due primarily to an
increase in our debt over the period, which was not as great as the increase in
capital caused by the issuance of stock in the Conestoga acquisition and net
income in 2002 largely from the sale of PCS ONE.

Commitments, Contingencies and Projected Uses of Capital

Our most significant commitment for 2003 other than for operations, include
capital expenditures, the payment of common stock dividends, when and if
declared, payment of interest on our outstanding debt and other contractual
obligations and commitments which are presented below. On March 14, 2003, we
borrowed $12,000 to use along with cash from operations to pay $20,700 of
federal taxes primarily related to the sale of PCS ONE. Based on the amended
agreement with CoBank, we believe that we will have sufficient resources to meet
these commitments, contingencies and projected uses of funds.

We hold a 33% interest in EuroTel and a 28.8% interest in Pilicka, both of
which we account for under the equity method of accounting. Thus, neither the
assets nor the liabilities of EuroTel or Pilicka are presented on a consolidated
basis on our balance sheets. We have also committed to loan EuroTel, on an equal
basis with the other investors in EuroTel, certain of its operating cash needs.
In 2002, we made advances of $1,477 pursuant to this commitment and expect that
our 2003 funding requirements for EuroTel will be approximately $1,200. We have
provided a letter of commitment to advance funds to Pilicka for 2003.

The following table sets forth our obligations and commitments, including
debt maturities, to make future payments under contracts, as of December 31,
2002:

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

Our discussion and analysis of our results of operations and financial
condition is based upon our consolidated financial statements, which have been
prepared in accordance with accounting principles generally accepted in the
United States of America. The preparation of the financial statements requires
us to make estimates and judgments that affect the reported amounts. On an
on-going basis, we evaluate our estimates, including those related to intangible
assets, income taxes, revenues, contingencies and impairment of long-lived
assets. We base our estimates on historical experience and other assumptions
that are believed to be reasonable under the circumstances. Actual results may
differ from these estimates under different assumptions or conditions, as
further described below.

32

Note 2 to the consolidated financial statements provides a summary of all
significant accounting policies that we follow in the preparation of our
financial statements. We have identified the following critical accounting
policies as those that are the most significant to our financial statement
presentation and that require difficult, subjective and complex judgments.

REVENUE RECOGNITION

Revenues for all of our business segments are generally recorded when
services are provided or products are delivered. Our RLEC and CLEC pricing is
subject to oversight by both state and federal regulatory commissions.

Such regulation also covers services, competition and other public policy
issues. Different interpretations by regulatory bodies may result in adjustments
in future periods to revenues derived from our RLEC and CLEC operations. We
monitor these proceedings closely and make adjustments to revenue accordingly.

We receive a portion of our interstate access revenues in our RLEC segments
from settlement pools in which we participate with other telephone companies
through the National Exchange Carrier Association, Inc. (NECA). These pools were
established at the direction of the FCC and are funded by interstate access
service revenues, which the FCC regulates. Revenues earned through this pooling
process are initially recognized based on estimates and are subject to
adjustments that may either increase or decrease the amount of interstate access
revenues. If the actual amounts that we receive from the settlement pools differ
from the amounts that we have recorded as accounts receivables on our balance
sheets, we would be required to record the amount of such a reduction or
increase as an adjustment to our earnings. Historically, we have not experienced
significant adjustments to our revenues as a result of our participation in
these pools.

REGULATED ASSET DEPRECIATION

We use a composite group remaining life method and straight-line composite
rates to depreciate the regulated property assets of our RLEC and CLEC segments.
Under this method, when we replace or retire such assets, we deduct the net book
value of these assets and charge it to accumulated depreciation. The effect of
this accounting is to amortize any gains or losses on dispositions over the
service lives of the remaining regulated telephone property assets rather than
recognizing such gain or loss in the period of retirement.

In addition, use of the composite group remaining life method requires that
we periodically revise our depreciation rates. Such revisions are based on asset
retirement activity, cost of removal and salvage values and often require that
we make related estimates and assumptions. If actual outcomes differ from our
estimates and assumptions, we may be required to adjust depreciation and
amortization expense, which could impact our earnings.

IMPAIRMENT OF LONG-LIVED ASSETS

Long-lived assets, including our property, plant and equipment and our
finite-lived intangibles, are reviewed for impairment whenever events or changes
in circumstances indicate that the carrying value of an asset may not be
recoverable. Recoverability is assessed based on future cash flows expected to
result from the use of the asset and its eventual disposition. If the sum of the
undiscounted cash flows is less than the carrying value of the asset, an
impairment loss is recognized. Any impairment loss, if indicated, would be
measured as the amount by which the carrying amount of the asset exceeds the
estimated fair value of the asset. While we have never recorded a material
impairment charge for long-lived assets, future events or changes in
circumstances could result in a material charge to earnings.

IMPAIRMENT OF GOODWILL AND INDEFINITE-LIVED INTANGIBLES

Upon the adoption of SFAS 142, "Goodwill and Other Intangible Assets," on
January 1, 2002, goodwill and indefinite-lived intangibles are no longer subject
to amortization. Goodwill and indefinite-lived intangibles are subject to at
least an annual assessment for impairment by comparing carrying value to fair
value. There is a two-step process for goodwill. The first step is to identify a
potential impairment by comparing the fair value

33

of reporting units to their carrying value. If the results of the first step of
the impairment testing indicate a potential impairment, the second step would be
completed to measure the amount of any impairment loss. We continually evaluate
whether events and circumstances have occurred that indicate the remaining
balances of goodwill and indefinite-lived intangibles may not be recoverable. In
evaluating impairment, we estimate the sum of the expected future cash flows
derived from such goodwill and indefinite-lived intangibles. Such evaluations
for impairment are significantly impacted by estimates of future revenues, costs
and expenses, the market price of our stock and other factors. While we have
never recorded a material impairment charge for goodwill and indefinite-lived
intangibles, future events or changes in circumstances could result in a
material charge to earnings.

INVESTMENT IN UNCONSOLIDATED AFFILIATES

We have investments and advances to affiliated entities that are accounted
for under the equity method of accounting. We periodically evaluate whether
there have been declines in value in these investments, and if so, whether these
declines are considered temporary or other-than-temporary. Other-than-temporary
declines would be recognized as realized losses in earnings. Evidence of a loss
in value includes, but is not limited to, our inability to recover the carrying
amount of the investment or the inability of the investee to sustain an earnings
capacity which would justify the carrying amount of the investment. The fair
value of an investment that is less than its book value may indicate a loss in
value of the investment. Our evaluations are based on many factors, including
the duration and extent to which the fair value is less than carrying amount;
the financial health of and business outlook for the investee, including
industry performance, changes in technology, and operational and financing cash
flow factors; and our intent and ability to hold the investment, including
strategic factors.

RETIREMENT BENEFITS

Retirement benefits are a significant cost of doing business and yet
represent obligations that will be settled in the future. Retirement benefit
accounting is intended to reflect the recognition of future benefit costs over
the employee's approximate service period based on the terms of the plans and
the investment and funding decisions made by a company. We record the costs of
providing retirement benefits in accordance with SFAS No. 87 "Employers'
Accounting for Pensions". Our estimates include assumptions regarding the
discount rate to value the future obligation and the expected return on our plan
assets. We use discount rates in line with current market interest rates on high
quality fixed rate debt securities. Our return on assets is based on our current
expectation of the long-term returns on assets held by the plan. Changes in
these key assumptions can have a significant impact on the projected benefit
obligations, funding requirements and periodic benefit costs that we incur.

INCOME TAXES

We file a consolidated federal income tax return. We have two categories of
income taxes: current and deferred. Current taxes are those amounts we expect to
pay when we file our tax returns. Since we must report some of our revenues and
expenses differently for our financial statements than we do for income tax
purposes, we record the tax effects of those differences as deferred tax assets
and liabilities in our consolidated balance sheets. These deferred tax assets
and liabilities are measured using the enacted tax rates that are currently in
effect.

Management judgment is required in determining the provision for current
income taxes, deferred tax assets and liabilities, and any valuation allowance
recorded against the net deferred tax assets. A valuation allowance is
established for any deferred tax asset that we may not be able to use in the
preparation and filing of our future tax returns. We have recorded a valuation
allowance due to uncertainties related to the ability to utilize some of the
deferred tax assets, consisting primarily of equity income losses carried
forward before they expire.

34

RECENT ACCOUNTING PRONOUNCEMENTS

In June 2002, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 146, "Accounting for
Costs Associated with Exit or Disposal Activities," which requires companies to
recognize costs associated with exit or disposal activities when they are
incurred rather than at the date of a commitment to an exit or disposal plan.
The provisions of this Statement are effective for exit or disposal activities
initiated after December 31, 2002 and are not expected to have a material
adverse effect on our results of operations, financial position or cash flows.

In April 2002, the FASB issued SFAS No. 145, "Rescission of FASB Statements
No. 4, 44 and 64, Amendment of FASB Statement No. 13, and Technical Corrections
as of April 2002" ("SFAS No. 145"), which rescinded or amended various existing
standards. One change addressed by this Statement pertains to treatment of
extinguishments of debt as an extraordinary item. SFAS No. 145 rescinds SFAS No.
4, "Reporting Gains and Losses from Extinguishment of Debt," and states that an
extinguishment of debt cannot be classified as an extraordinary item unless it
meets the unusual or infrequent criteria outlined in Accounting Principles Board
("APB") Opinion No. 30, "Reporting the Effects of Disposal of a Segment of a
Business, and Extraordinary, Unusual and Infrequently Occurring Events and
Transactions" ("APB No. 30"). The provisions of SFAS 145 are effective for
fiscal years beginning after May 15, 2002 and provide that extinguishments of
debt that were previously classified as an extraordinary item in prior periods
that do not meet the criteria of APB No. 30 for classification as an
extraordinary item shall be reclassified. The adoption of SFAS No. 145 is not
expected to have a material affect on our results of operations, financial
position or cash flows, however D&E will reclassify an extraordinary loss on the
extinguishment of debt in 2001 to other expense.

In June 2001, the FASB issued SFAS No. 143, "Accounting for Asset
Retirement Obligations" ("SFAS No. 143"). This Statement establishes common
accounting practices relating to legal obligations associated with the
retirement of tangible long-lived assets that result from the acquisition,
construction, development or normal operation of a long-lived asset. SFAS No.
143 requires that companies recognize the fair value of a liability for asset
retirement obligations in the period in which the legal obligations are incurred
and capitalize that amount as a part of the book value of the long-lived asset.
That cost is then depreciated over the remaining life of the underlying
long-lived asset. D&E is required to adopt SFAS No. 143 effective January 1,
2003 and will record an after-tax benefit of approximately $260 as a cumulative
effect accounting adjustment in the first quarter 2003. The adjustment
represents the cumulative estimate of cost of removal charged to depreciation
expense in earlier years. Further, D&E believes that the adoption of this
pronouncement will not have a material effect on our ongoing financial position
or results of operations.

In January 2003, the FASB issued FASB Interpretation No. 46, "Consolidation
of Variable Interest Entities -- An Interpretation of Accounting Research
Bulletin (ARB) No. 51" ("FIN 46"). This interpretation clarifies how to identify
variable interest entities and how a company should assess its interests in a
variable interest entity to decide whether to consolidate the entity. FIN 46
applies to variable interest entities created after January 31, 2003, in which a
company obtains an interest after that date. Also, FIN 46 applies in the first
fiscal quarter or interim period beginning after June 15, 2003, to variable
interest entities in which a company holds a variable interest that it acquired
before February 1, 2003. D&E does not have any ownership in variable interest
entities.

In January 2003, the Emerging Issues Task Force issued EITF 00-21 "Revenue
Arrangements with Multiple Deliverables" (EITF 00-21"). EITF 00-21 primarily
addresses certain aspects of the accounting by a vendor for arrangements under
which it will perform multiple revenue-generating activities. Specifically, it
addresses how to determine whether an arrangement involving multiple
deliverables contains more than one unit of accounting. In applying EITF 00-21,
separate contracts with the same entity or related parties that are entered into
at or near the same time are presumed to have been negotiated as a package and
should, therefore, be evaluated as a single arrangement in considering whether
there are one or more units of accounting. That presumption may be overcome if
there is sufficient evidence to the contrary. EITF 00-21 also addresses how
arrangement consideration should be measured and allocated to the separate units
of accounting in the arrangement. The provisions of EITF 00-21 are effective for
revenue arrangements entered

35

into in fiscal periods beginning after June 15, 2003. D&E is currently
evaluating the impact this statement will have on its financial position or
results of operations.

ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISKS.

We are highly leveraged and, as a result, our cash flows and earnings are
exposed to fluctuations in interest rates. Our debt obligations are U.S. dollar
denominated. Our market risk, therefore, is the potential loss arising from
adverse changes in interest rates and changes in our leverage ratio which may
increase the margin added to the interest rate as provided in our loan
agreement. As of December 31, 2002, our debt can be categorized as follows:

Fixed interest rates:
Secured Term Loans........................................ $ 35,000,000
Subject to interest rate fluctuations:
Senior Secured Revolving Credit Facility.................. $ 32,250,000
Senior Secured Term Loans................................. $175,000,000

As part of our loan covenant conditions, we have arranged interest rate
protection on one-half of the total amount of senior indebtedness outstanding,
with a weighted average life of at least 2 years. As of December 31, 2002, our
bank debt is as follows:

If interest rates rise above the rates fixed by these swaps, we could
realize other income of $511,000 for each 50 basis points above the fixed rates.
If rates were to decline, we would realize other expense of approximately
$511,000 for each 50 basis point decrease in rates.

The interest rate swaps were arranged to hedge against the effect of
interest rate fluctuations. The swaps were arranged with three banks that
participate in our senior indebtedness. Under these interest rate swap
contracts, we agree to pay an amount equal to a specified fixed-rate of interest
times a notional principal amount and to receive in turn an amount equal to a
specified variable-rate of interest times the same notional amount. The notional
amounts of the contracts are not exchanged. Net interest positions are settled
quarterly.

If interest rates rise above the rates fixed by these swaps, we could
realize other income of $525,000 for each 50 basis points above the fixed rates.
If rates were to decline, we would realize other expense of approximately
$525,000 for each 50 basis point decrease in rates.

Our cash and cash equivalents consist of cash and highly liquid investments
having initial maturities of three months or less. While these investments are
subject to a degree of interest rate risk, it is not considered to be material.

36

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

Information called for by this Item is set forth beginning on page F-1. See
Index to Financial Statements.

ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE

There were no changes in or disagreements with accountants on accounting
and financial disclosure.

PART III

ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

The information required under this Item relating to Executive Officers is
incorporated by reference from the material captioned "Directors",
"Identification of Executive Officers", and "Section 16(A) Beneficial Ownership
Reporting Compliance" in our definitive proxy statement for our annual meeting
which will be filed within 120 days after the end of the fiscal year covered by
this report.

ITEM 11. EXECUTIVE COMPENSATION

The information required under this Item is incorporated by reference from
the material captioned "Executive Compensation" in our definitive proxy
statement for our annual meeting which will be filed within 120 days after the
end of the fiscal year covered by this report.

ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT

The information required under this Item is incorporated by reference from
the material captioned "Security Ownership of Management" and "Security
Ownership of Certain Beneficial Owners" in our definitive proxy statement for
our annual meeting which will be filed within 120 days after the end of the
fiscal year covered by this report.

ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

The information required under this Item is incorporated by reference from
the material captioned "Certain Relationships and Related Transactions" in our
definitive proxy statement for our annual meeting which will be filed within 120
days after the end of the fiscal year covered by this report.

ITEM 14. CONTROLS AND PROCEDURES

Within the 90 days prior to the filing date of this report, the Corporation
carried out an evaluation, under the supervision and with the participation of
the Corporation's management, including the Corporation's Chief Executive
Officer and Chief Financial Officer, of the effectiveness of the design and
operation of our disclosure controls and procedures pursuant to Exchange Act
Rule 13a-15. Based upon that evaluation, the Corporation's Chief Executive
Officer and Chief Financial Officer concluded that the Corporation's disclosure
controls and procedures are effective. Disclosure controls and procedures are
controls and procedures that are designed to ensure that information required to
be disclosed in Corporation reports filed or submitted under the Exchange Act is
recorded, processed, summarized and reported within the time periods specified
in the Securities and Exchange Commission's rules and forms.

There have been no significant changes in our internal controls or in other
factors that could significantly affect internal controls subsequent to the date
we carried out this evaluation.

PART IV

37

ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K

(a) The following documents are filed as a part of this Annual Report on
Form 10-K in the following manner:

(1) The consolidated financial statements of the Registrant and its
subsidiaries filed as part of this report are listed in the attached Index
to Financial Statements on page F-1.

(2) The financial schedules of the Registrant and its subsidiaries
filed as part of this report are listed in the attached Index to Financial
Statements on page F-1.

(3) The exhibits filed as part of this report are listed in the Index
to Exhibits.

(b) Reports on Form 8-K. The Registrant filed one current report on Form
8-K during the last quarter of 2002 as follows: a Form 8-K dated November 19,
2002 reporting that the Voting Trust Agreement dated, November 19, 1992, was
amended to extend the term of the agreement to November 19, 2007.

(c) Exhibits. See Index to Exhibits.

(d) Financial statement schedules of subsidiaries not consolidated and 50%
or less owned. The information called for by this Item (15) is set forth in the
Index to Financial Statements on page F-1.

38

INDEX TO EXHIBITS

42

SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.

Date: March 31, 2003

D&E COMMUNICATIONS, INC.

By: /s/ ANNE B. SWEIGART
------------------------------------
Anne B. Sweigart
President and Chairman of the Board

Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.

44

CERTIFICATIONS

I, G. William Ruhl, certify that:

1. I have reviewed this annual report on Form 10-K of D&E Communications,
Inc.;

2. Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statement made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this annual
report;

3. Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this annual report;

4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:

(a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities,
particularly during the period in which this annual report is being
prepared;

(b) evaluate the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date of this
annual report (the "Evaluation Date"); and

(c) present in this annual report our conclusion about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;

5. The registrant's other certifying officer and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit committee
of registrant's board of directors (or persons performing the equivalent
function):

(a) all significant deficiencies in the design or operation of
internal controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have identified
for the registrant's auditors any material weaknesses in internal controls;
and

(b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's internal
controls; and

6. The registrant's other certifying officer and I have indicated in this
annual report whether or not there were significant changes in internal controls
or in other factors that could significantly affect internal controls subsequent
to the date of our most recent evaluation, including any corrective actions with
regard to significant deficiencies and material weaknesses.

/s/ G. WILLIAM RUHL
--------------------------------------
G. William Ruhl
Chief Executive Officer

Date: March 31, 2003

45

CERTIFICATIONS

I, Thomas E. Morell, certify that:

1. I have reviewed this annual report on Form 10-K of D&E Communications,
Inc.;

2. Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statement made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this annual
report;

3. Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this annual report;

4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:

(a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities,
particularly during the period in which this annual report is being
prepared;

(b) evaluate the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date of this
annual report (the "Evaluation Date"); and

(c) present in this annual report our conclusion about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;

5. The registrant's other certifying officer and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit committee
of registrant's board of directors (or persons performing the equivalent
function):

(a) all significant deficiencies in the design or operation of
internal controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have identified
for the registrant's auditors any material weaknesses in internal controls;
and

(b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's internal
controls; and

6. The registrant's other certifying officer and I have indicated in this
annual report whether or not there were significant changes in internal controls
or in other factors that could significantly affect internal controls subsequent
to the date of our most recent evaluation, including any corrective actions with
regard to significant deficiencies and material weaknesses.

/s/ THOMAS E. MORELL
--------------------------------------
Thomas E. Morell
Chief Financial Officer

Date: March 31, 2003

46

INDEX TO FINANCIAL STATEMENTS

F-1

REPORT OF INDEPENDENT ACCOUNTANTS

To the Board of Directors and Shareholders
of D&E Communications, Inc.:

In our opinion, the consolidated financial statements listed in the index
appearing under Item 8 on page F-1 of this Form 10-K present fairly, in all
material respects, the financial position of D&E Communications, Inc. and its
subsidiaries at December 31, 2002 and 2001, and the results of their operations
and their cash flows for each of the three years in the period ended December
31, 2002 in conformity with accounting principles generally accepted in the
United States of America. In addition, in our opinion, the financial statement
schedule listed in the index appearing under Item 15(a)(2) on page F-1 of this
Form 10-K, presents fairly, in all material respects, the information set forth
therein when read in conjunction with the related consolidated financial
statements. These financial statements and financial statement schedule are the
responsibility of the Company's management; our responsibility is to express an
opinion on these financial statements and financial statement schedule based on
our audits. We conducted our audits of these statements in accordance with
auditing standards generally accepted in the United States of America, which
require that we plan and perform the audit to obtain reasonable assurance about
whether the financial statements are free of material misstatement. An audit
includes examining, on a test basis, evidence supporting the amounts and
disclosures in the financial statements, assessing the accounting principles
used and significant estimates made by management, and evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.

As discussed in Note 2, the Company adopted Statements of Financial
Accounting Standards No. 142 "Goodwill and Other Intangibles" in 2002, and the
Company changed its method of accounting for the recognition of certain
non-recurring fees and associated incremental direct expenses in 2000.

/s/ PRICEWATERHOUSECOOPERS LLP

Philadelphia, PA
March 21, 2003

F-2

D&E COMMUNICATIONS, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS

See notes to consolidated financial statements.
F-3

D&E COMMUNICATIONS, INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

See notes to consolidated financial statements.
F-4

D&E COMMUNICATIONS, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

See notes to consolidated financial statements.
F-5

D&E COMMUNICATIONS, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY

See notes to consolidated financial statements.
F-6

D&E COMMUNICATIONS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(DOLLARS IN THOUSANDS, EXCEPT PER-SHARE AMOUNTS)

1. NATURE OF BUSINESS

DESCRIPTION AND PRINCIPLES OF CONSOLIDATION

D&E Communications, Inc. (D&E) provides integrated communications services
to residential and business customers in markets throughout the eastern half of
Pennsylvania. On May 24, 2002, D&E completed the acquisition of Conestoga
Enterprises, Inc. (Conestoga) (see Note 4). D&E's consolidated financial
statements include the accounts of Denver and Ephrata Telephone and Telegraph
Company; D&E Systems; D&E Networks, Inc.; D&E Wireless, Inc. and D&E
Investments, Inc. for all periods presented. The consolidated financial
statements also include the accounts of Conestoga Telephone and Telegraph
Company; Buffalo Valley Telephone Company; Inc.; CEI Networks, Inc.; Infocore,
Inc.; Conestoga Wireless Company; Conestoga Mobile Systems, Inc.; and Conestoga
Investment Corporation from May 24, 2002 to December 31, 2002. All significant
intercompany balances and transactions are eliminated in consolidation.

D&E's business segments are as follows: incumbent rural local exchange
carrier (RLEC), competitive local exchange carrier (CLEC), internet services,
systems integration, Conestoga Wireless, and corporate and other. The RLEC
provides local and long distance telephone services in a franchised territory,
including custom calling features, directory advertising and billing and
collection services. The CLEC provides telecommunication services in markets
near those served by the RLEC. Internet services include internet access and
web-hosting services. Systems integration provides computer networking services
and programming and the sale and installation of communications equipment to
business customers. Conestoga Wireless services include the wireless telephony
services of Conestoga Wireless Company since date of acquisition. Corporate and
other includes D&E's cable television operations in State College, PA and D&E's
share of the earnings or losses of investments accounted for on the equity
method and corporate eliminations between the other segments.

D&E has a one-third interest in EuroTel, L.L.C. (EuroTel), a domestic
corporate joint venture, that holds an investment in Pilicka Telefonia Sp. z
o.o. (Pilicka), a telecommunications company located in Poland. D&E also owns a
direct investment in Pilicka (see Note 7). D&E accounts for its investments in
EuroTel and Pilicka using the equity method of accounting. Under the equity
method, D&E reports its interest in the entity as an investment in its
consolidated balance sheets and its percentage share of the earnings or losses
from the entity in its consolidated statements of operations.

Until the sale on April 1, 2002, D&E owned a 50% interest in D&E/Omnipoint
Wireless Joint Venture, L.P., doing business as PCS ONE, a partnership that
provided Personal Communications Services (PCS) and related equipment for
digital wireless voice and data communications, which was accounted for on the
equity method. D&E's interest in PCS ONE and related contract services provided
to PCS ONE that were discontinued subsequent to sale are reported as
discontinued operations.

REGULATORY ENVIRONMENT AND COMPETITION

D&E's RLEC and CLEC operations are subject to regulation at both the
federal and state levels by the Federal Communications Commission (FCC) and the
Pennsylvania Public Utility Commission (PUC). The passage of the
Telecommunications Act of 1996 (TA-96) provided comprehensive changes to federal
and state regulations that govern telecommunications. In January 2003, the PUC
did not extend the limited suspension that exempted Pennsylvania RLECs from
certain interconnection provisions of TA-96. Consequently, competitors now will
be allowed to seek removal of D&E's rural exemption from the more burdensome
interconnection obligations for the purposes of entering D&E's territory and
using its services and facilities through interconnection agreements to provide
competitive services.

D&E files its own tariff rates with the PUC for such services as dial tone
and custom calling features. D&E joined in a petition to the PUC in July 1998
for an alternative form of regulation with a network modernization plan commonly
known as Chapter 30. On July 31, 2001, the PUC approved D&E's Chapter 30
F-7

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

plan and a new ratemaking process that adjusts prices using the Gross Domestic
Product Price Index with a productivity offset, instead of a rate base/rate of
return methodology. Upon the adoption of the Chapter 30 plan, D&E was no longer
subject to the requirements of Statement of Financial Accounting Standards No.
71 (SFAS 71), "Accounting for the Effects of Certain Types of Regulation" and,
therefore, D&E removed certain regulatory tax liabilities from its accounts
pursuant to SFAS 101, "Regulated Enterprises -- Accounting for the
Discontinuation of Application of FASB No. 71". As a result, the elimination of
regulatory tax liabilities resulted in a one-time cumulative income effect for
income taxes of $107 in 2001, which is recorded as an extraordinary item in
accordance with SFAS 101.

D&E expects to experience an increasing amount of both competitive
pressures and opportunities in its markets. No estimate can be made of the
financial impacts of these changes.

CONCENTRATIONS OF CREDIT RISK

Financial instruments that subject D&E to concentrations of credit risk
consist primarily of trade receivables. Concentrations of credit risk with
respect to trade receivables are limited due to the large number of residential
and business customers in D&E's customer base.

2. SIGNIFICANT ACCOUNTING POLICIES

USE OF ESTIMATES

The preparation of financial statements under generally accepted accounting
principles requires management to make estimates and assumptions that affect the
reported amounts or certain disclosures. Actual results could differ from those
estimates.

RECENT ACCOUNTING PRONOUNCEMENTS

In June 2002, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 146, "Accounting for
Costs Associated with Exit or Disposal Activities," which requires companies to
recognize costs associated with exit or disposal activities when they are
incurred rather than at the date of a commitment to an exit or disposal plan.
The provisions of this Statement are effective for exit or disposal activities
initiated after December 31, 2002 and are not expected to have a material
adverse effect on D&E's results of operations, financial position or cash flows.

In April 2002, the FASB issued SFAS No. 145, "Rescission of FASB Statements
No. 4, 44 and 64, Amendment of FASB Statement No. 13, and Technical Corrections
as of April 2002" ("SFAS No. 145"), which rescinded or amended various existing
standards. One change addressed by this Statement pertains to treatment of
extinguishments of debt as an extraordinary item. SFAS No. 145 rescinds SFAS No.
4, "Reporting Gains and Losses from Extinguishment of Debt," and states that an
extinguishment of debt cannot be classified as an extraordinary item unless it
meets the unusual or infrequent criteria outlined in Accounting Principles Board
("APB") Opinion No. 30, "Reporting the Effects of Disposal of a Segment of a
Business, and Extraordinary, Unusual and Infrequently Occurring Events and
Transactions" ("APB No. 30"). The provisions of SFAS 145 are effective for
fiscal years beginning after May 15, 2002 and provide that extinguishments of
debt that were previously classified as an extraordinary item in prior periods
that do not meet the criteria of APB No. 30 for classification as an
extraordinary item shall be reclassified. The adoption of SFAS No. 145 is not
expected to have a material affect on D&E's results of operations, financial
position or cash flows, however D&E will reclassify an extraordinary loss on the
extinguishment of debt in 2001 to other expense.

In June 2001, the FASB issued SFAS No. 143, "Accounting for Asset
Retirement Obligations" ("SFAS No. 143"). This Statement establishes accounting
practices relating to legal obligations associated with the retirement of
tangible long-lived assets that result from the acquisition, construction,
development or normal operation of a long-lived asset. SFAS No. 143 requires
that companies recognize the fair value of a
F-8

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

liability for asset retirement obligations in the period in which the legal
obligations are incurred and capitalize that amount as a part of the book value
of the long-lived asset. That cost is then depreciated over the remaining life
of the underlying long-lived asset. D&E is required to adopt SFAS No. 143
effective January 1, 2003 and will record an after-tax benefit of approximately
$260 as a cumulative effect accounting adjustment in the first quarter 2003. The
adjustment represents the cumulative estimate of cost of removal charged to
depreciation expense in earlier years. Further, D&E believes that the adoption
of this pronouncement will not have a material effect on its ongoing financial
position or results of operations.

In 2002, the FASB issued FASB Interpretation No. 45, "Guarantor's
Accounting and Disclosure Requirements for Guarantees, Including Indirect
Guarantees of Indebtedness of Others". We will apply the initial recognition and
measurement provisions on a prospective basis effective January 1, 2003. This
interpretation requires that at the time a Company issues a guarantee, the
company must recognize a liability for the fair value of that obligation under
the guarantee. We are in the process of evaluating the provisions under this
Interpretation and we do not expect the adoption of these provisions will have a
significant impact on our financial condition, liquidity, or results of
operations.

In January 2003, the FASB issued FASB Interpretation No. 46, "Consolidation
of Variable Interest Entities -- An Interpretation of Accounting Research
Bulletin (ARB) No. 51" ("FIN 46"). This interpretation clarifies how to identify
variable interest entities and how a company should assess its interests in a
variable interest entity to decide whether to consolidate the entity. FIN 46
applies to variable interest entities created after January 31, 2003, in which a
company obtains an interest after that date. Also, FIN 46 applies in the first
fiscal quarter or interim period beginning after June 15, 2003, to variable
interest entities in which a company holds a variable interest that it acquired
before February 1, 2003. D&E does not have any ownership in variable interest
entities.

In January 2003, the Emerging Issues Task Force issued EITF 00-21 "Revenue
Arrangements with Multiple Deliverables" (EITF 00-21"). EITF 00-21 primarily
addresses certain aspects of the accounting by a vendor for arrangements under
which it will perform multiple revenue-generating activities. Specifically, it
addresses how to determine whether an arrangement involving multiple
deliverables contains more than one unit of accounting. In applying EITF 00-21,
separate contracts with the same entity or related parties that are entered into
at or near the same time are presumed to have been negotiated as a package and
should, therefore, be evaluated as a single arrangement in considering whether
there are one or more units of accounting. That presumption may be overcome if
there is sufficient evidence to the contrary. EITF 00-21 also addresses how
arrangement consideration should be measured and allocated to the separate units
of accounting in the arrangement. The provisions of EITF 00-21 are effective for
revenue arrangements entered into in fiscal periods beginning after June 15,
2003. D&E is currently evaluating the impact this statement will have on its
financial position or results of operations.

REVENUE RECOGNITION

Revenues for all business segments are generally recognized when services
are rendered or products are delivered to customers. D&E's RLEC and CLEC pricing
is subject to oversight by both state and federal regulatory commissions. Such
regulation also covers services, competition and other public policy issues.
Different interpretations by regulatory bodies may result in adjustments in
future periods to revenues derived from D&E's RLEC and CLEC operations. D&E
monitors these proceedings closely and makes adjustments to revenue accordingly.
Certain non-recurring fees, such as service activation and installation fees,
and associated incremental direct costs up to the amount of fees are deferred
and recognized over the expected term of the customer relationship, which is
deemed to be 3 to 8.5 years. Any direct costs in excess of fees deferred are
expensed immediately. In 2000, D&E adopted Staff Accounting Bulletin No. 101,
"Revenue Recognition in Financial Statements" (SAB 101) which provides guidance
on recognition of certain non-recurring fees, such as service activation and
installation fees, and associated incremental direct expenses.

F-9

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

Adoption resulted in a cumulative effect of deferred net revenues of $391, net
of income taxes of $267. Similarly, D&E's share of EuroTel's deferred net
revenue included in the cumulative change was $521.

The RLEC business segment receives a portion of its interstate access
revenues from settlement pools in which it participates with other telephone
companies through the National Exchange Carrier Association, Inc. (NECA). These
pools were established at the direction of the FCC and are funded by access
service charges, which the FCC regulates. Revenues earned through this pooling
process are initially recognized based on estimates and are subject to
adjustments that may either increase or decrease the amount of interstate access
revenues. If the actual amounts that the Company receives from the settlement
pools differ from the estimated amounts recorded, the Company records the change
as a current adjustment to earnings. Historically, the Company has not
experienced significant adjustments to revenues as a result of participation in
the pools.

The systems integration long-term contracts are accounted for using the
percentage-of-completion method, with revenues recognized in the proportion of
costs incurred to total estimated costs at completion.

CASH AND SHORT-TERM INVESTMENTS

Cash and cash equivalents consist of all highly liquid investments
purchased with a maturity of three months or less. Cash balances may exceed
F.D.I.C. insured limits at times.

INVESTMENTS AVAILABLE-FOR-SALE

All marketable equity securities are classified as investments
available-for-sale. Marketable securities available-for-sale are recorded at
fair market value, based on market quotes from national exchanges. Any
unrealized holding gains or losses, net of deferred taxes, are reported as a
separate component of shareholders' equity. Any realized gains or losses,
including other than temporary impairment losses, are included in the statement
of operations.

PREPAID DIRECTORY

Directory advertising revenues and costs are deferred and amortized over
the 12-month period related to the directory publication. Prepaid costs at
December 31, 2002 and 2001 were $4,768 and $226, respectively. Deferred
directory revenues at December 31, 2002 and 2001 were $4,884 and $233,
respectively.

PROPERTY, PLANT AND EQUIPMENT

Property, plant and equipment is stated at cost and depreciated using a
composite group remaining life method and straight-line composite rates for the
regulated telephone property of the RLEC and CLEC segments and the straight-line
method of depreciation for other depreciable property. The estimated useful
lives are 24 to 40 years for buildings, 5 to 27 years for digital switching
equipment, 11 to 48 years for outside plant facilities and 3 to 26 years for
other equipment.

Depreciation expense as a percentage of average depreciable plant in
service amounted to 10.4% in 2002, 8.4% in 2001 and 8.1% in 2000. The costs of
maintenance and repairs are charged to operating expense.

When depreciable regulated telephone property is retired, the original cost
of the asset, net of salvage, is charged to accumulated depreciation. Any gains
or losses on disposition are amortized over the useful lives of the remaining
regulated telephone property rather than recognizing such gain or loss in the
period of retirement. When other depreciable property is retired, the gain or
loss is recognized in the statement of operations.

F-10

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

CAPITALIZED INTEREST

The cost of funds used to finance construction projects is reflected as
part of the construction costs and a reduction of interest expense. Capitalized
interest on regulated telephone construction projects prior to January 2001 was
recorded as Allowance for Funds Used During Construction, a noncash element of
other income. Interest costs capitalized on assets were $110 for 2002, $509 for
2001 and $265 for 2000.

INTANGIBLE ASSETS

Intangible assets represent the estimated value of franchises, acquired
customer bases, trademarks and non-compete agreements at the dates of
acquisitions. Franchise intangible assets are determined to have indefinite
lives. Finite-lived intangible assets are amortized over their estimated useful
lives: 10 to 15 years for customer bases, 3 years for trademarks and 5 years for
non-compete agreements.

IMPAIRMENT OF LONG-LIVED ASSETS

Long-lived assets, including finite-lived intangibles, are reviewed for
impairment whenever events or changes in circumstances indicate that the
carrying value of an asset may not be recoverable. Recoverability is assessed
based on future cash flows expected to result from the use of the asset and its
eventual disposition. If the sum of the undiscounted cash flows is less than the
carrying value of the asset, an impairment loss is recognized. Any impairment
loss, if indicated, would be measured as the amount by which the carrying amount
of the asset exceeds the estimated fair value of the asset.

IMPAIRMENT OF GOODWILL AND INDEFINITE-LIVED INTANGIBLES

Upon the adoption of SFAS 142, "Goodwill and Other Intangible Assets," on
January 1, 2002, goodwill and indefinite-lived intangibles are no longer subject
to amortization. Goodwill and indefinite-lived intangibles are subject to at
least an annual assessment for impairment by comparing carrying value to fair
value. There is a two-step process for goodwill. The first step is to identify a
potential impairment by comparing the fair value of reporting units to their
carrying value. If the results of the first step of the impairment testing
indicate a potential impairment, the second step would be completed to measure
the amount of any impairment loss. As of January 1, 2002, the results of the
first step indicated no potential impairment of D&E's goodwill. The Company
completed its annual impairment review and determined that no impairment charge
was required. D&E continually evaluates whether events and circumstances have
occurred that indicate the remaining balances of goodwill and indefinite-lived
intangibles may not be recoverable. In evaluating impairment, D&E estimates the
sum of the expected future cash flows derived from such goodwill and
indefinite-lived intangibles. Such evaluations for impairment are significantly
impacted by estimates of future revenues, costs and expenses and other factors.

F-11

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

The elimination of goodwill amortization would have reduced the net loss.
Pro forma net loss and loss per share information are shown as if the provisions
of SFAS No. 142 were in effect for the years ended 2001 and 2000.

INVESTMENTS IN AND ADVANCES TO UNCONSOLIDATED AFFILIATES

Investments in and advances to unconsolidated affiliates consist of the
Company's investments and loans to EuroTel and Pilicka. The investments are
accounted for under the equity method of accounting. The Company periodically
evaluates whether there have been declines in value in these investments, and if
so, whether these declines are considered temporary or other-than-temporary.
Other-than-temporary declines would be recognized as realized losses in
earnings. Evidence of a loss in value includes, but is not limited to, the
Company's inability to recover the carrying amount of the investment or the
inability of the investee to sustain an earnings capacity, which would justify
the carrying amount of the investment. The fair value of an investment that is
less than its book value may indicate a loss in value of the investment. The
Company's evaluations are based on many factors, including the duration and
extent to which the fair value is less than carrying amount; the financial
health of and business outlook for the investee, including industry performance,
changes in technology, and operational and financing cash flow factors; and the
Company's intent and ability to hold the investment, including strategic
factors.

ADVERTISING

D&E expenses advertising costs as incurred. Advertising expense was $1,664
for 2002, $1,497 for 2001 and $1,255 for 2000.

INCOME TAXES

D&E files a consolidated federal income tax return. D&E has two categories
of income taxes: current and deferred. Current taxes are those amounts D&E
expects to pay when it files its tax returns. Since D&E must report some of our
revenues and expenses differently for its financial statements than it does for
income tax purposes, it records the tax effects of those differences as deferred
tax assets and liabilities in its consolidated balance sheets. These deferred
tax assets and liabilities are measured using the enacted tax rates that are

F-12

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

currently in effect. A valuation allowance is established for any deferred tax
asset for which realization is not more likely than not.

DERIVATIVE FINANCIAL INSTRUMENTS

The Company's derivative financial instruments are comprised of interest
rate swap agreements that the Company utilizes to manage changes in interest
rate payments on its variable rate debt obligations. These derivative financial
instruments, which qualify as cash flow hedges, are reflected on the balance
sheet at their fair market value and changes in their fair value are reflected
in Accumulated Other Comprehensive Income and reclassified into interest expense
as the underlying hedged variable rate interest payments are reflected in
interest expense. The ineffective portion of the gain or loss on a derivative,
if any, is recognized into earnings within other income or expense. No hedge
ineffectiveness for existing derivative instruments has been recorded.

EARNINGS PER COMMON SHARE

Basic earnings per common share is calculated by dividing net income (the
numerator) by the weighted average number of common shares outstanding (the
denominator) during the period. The computation of diluted earnings per share is
similar to basic earnings per share except the denominator is increased to
include the number of additional common shares that would have been outstanding
for dilutive potential common shares. D&E has potential common shares as a
result of outstanding stock option grants to purchase our common stock,
outstanding since the acquisition of Conestoga. However, including potential
common shares in the denominator of a diluted per-share computation for
continuing operations always will result in an antidilutive per-share amount
when D&E has a loss from continuing operations. Although including those
potential common shares in the other diluted per-share computations may be
dilutive to their comparable basic per-share amounts, no potential common shares
are included in the computation of any diluted per-share amount when a loss from
continuing operations exists, even if D&E reports net income. D&E has had losses
from continuing operations for all periods where the common stock options were
outstanding and, as such, diluted earnings per share is equivalent to basic
earnings per share, and the 328,432 common stock options outstanding are
excluded from the calculation of diluted earnings per share.

F-13

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

STOCK COMPENSATION

The Company accounts for stock compensation under the intrinsic value
method of APB Opinion 25 and related interpretations. Based on the additional
disclosure requirements of SFAS No. 148, the following table illustrates the
effect on net income and earnings per share if the Company had applied the fair
value recognition provisions of SFAS No. 123.

The fair value of option grants of $4.46 and $6.20 in the year ended
December 31, 2002 and options converted at the Conestoga acquisition of $7.20 is
estimated using the Black-Scholes option price model with the following weighted
average assumptions:

COMPREHENSIVE INCOME (LOSS)

Comprehensive income (loss) consists of net income or loss and other gains
and losses affecting shareholders' equity that, under generally accepted
accounting principles, are excluded from net income. Other gains and losses
excluded from net income in D&E's financial statements include unrealized gains
or losses on investments, an equity adjustment for a minimum pension liability,
changes in the fair value of derivative financial instruments and the Company's
share of currency translation adjustments from EuroTel.

FOREIGN CURRENCY TRANSLATIONS AND TRANSACTIONS

The functional currency for PenneCom B.V. and Pilicka, EuroTel's foreign
operations, is the local currency. For the foreign operations, EuroTel
translates assets and liabilities at end-of-period exchange rates. EuroTel
records these translation adjustments in cumulative other comprehensive income
(loss), a separate component of equity in the consolidated balance sheet. For
revenues, expenses, gains and losses, the weighted average exchange rate for the
period is used to translate those elements. Foreign currency transaction gains
and losses related to the foreign operations are reported in earnings. D&E
records its share of foreign currency transaction gains and losses as part of
its equity in net income or losses of affiliates. In addition, D&E has recorded
its share of currency translation adjustments in accumulated other comprehensive
income (loss).

F-14

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

RECLASSIFICATIONS

For comparative purposes, certain amounts have been reclassified to conform
to the current-year presentation. The reclassifications had no impact on net
income.

3. CASH FLOW INFORMATION

Cash paid for income taxes and interest expense for the years ended
December 31 was as follows:

D&E recorded noncash transactions in connection with its investing and
financing activities. At December 31, 2002, accounts payable included capital
expenditures of $440. During 2002, D&E issued common stock of $274 for dividends
reinvested, $114,763 for the acquisition of Conestoga Enterprises, Inc (see Note
4) and $1,348 under the 1999 Long-Term Incentive Plan. D&E also received $2,014
of equipment as part of the proceeds from the sale of PCS ONE. During 2002, D&E
also recognized a non-cash realized loss on investments of $2,999 due to the
other than temporary decline in the value of available for sale investments.

At December 31, 2001, accounts payable included capital expenditures of
$2,517 and advances to PCS ONE of $1,499. During 2001, D&E issued common stock
of $244 for dividends reinvested and exchanged $2,800 of accounts receivable
from PCS ONE to an investment in PCS ONE. Also during 2001, D&E recognized a
non-cash realized gain on investments of $3,036 as a result of the exchange of
shares of an available-for-sale investment.

At December 31, 2000, accounts payable included capital expenditures of
$3,580 and advances to PCS ONE of $1,807. During 2000, D&E issued common stock
for the following: $1,768 for business acquisitions, $80 for incentive
compensation and $217 for dividends reinvested. D&E also recorded long-term
notes payable in 2000 of $1,572 in connection with business acquisitions (see
Note 4).

4. ACQUISITIONS

CONESTOGA ENTERPRISES, INC.

On May 24, 2002, D&E completed the acquisition of Conestoga Enterprises,
Inc., a neighboring rural local telephone company providing integrated
communications services in markets throughout the eastern half of Pennsylvania.
The acquisition was completed through the merger of Conestoga with and into D&E
Acquisition Corp., a wholly owned subsidiary of D&E, pursuant to the Amended and
Restated Agreement and Plan of Merger, dated as of January 9, 2002.

As of December 31, 2002, the purchase price allocation has been determined
by D&E based on reports of independent appraisers. The allocation includes
recognition of adjustments to tangible assets and liabilities to state them at
their fair values, and recognition of additional identifiable intangible assets
at their fair values. The purchase-price allocation for the Conestoga
acquisition follows:

Consideration paid:
Cash consideration to Conestoga stockholders.............. $149,422
Transaction costs ($937 paid in 2001 and $5,781 paid in
2002).................................................. 6,718
D&E stock to Conestoga stockholders (7,876,655 shares) at
$14.57 per share based on 3-day average market price
per share prior to close of the merger on May 24,
2002................................................... 114,763
Fair value of Conestoga stock options..................... 2,165
--------
Purchase price.................................... $273,068
========

F-15

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

Assets acquired:
Cash...................................................... $ 989
Accounts receivable....................................... 9,542
Inventories............................................... 1,918
Prepaid expenses.......................................... 14,596
Other current assets...................................... 103
Property, plant and equipment............................. 111,788
Other non-current assets.................................. 1,601
Net assets of wireless and paging operations, held for
sale................................................... 6,665
Customer base (10-15 year life)........................... 75,700
Franchise (indefinite life)............................... 104,800
Trademarks (3 year life).................................. 1,200
Goodwill.................................................. 142,362
--------
Total assets acquired............................. 471,264
--------
Liabilities assumed:
Long-term debt and lines of credit........................ 79,178
Accounts payable and accrued liabilities.................. 8,542
Accrued transactions costs ($2,605 paid through December
31, 2002).............................................. 2,605
Accrued taxes............................................. 10,298
Advance billings, customer deposits and other............. 1,208
Deferred income taxes..................................... 86,172
Other..................................................... 7,427
Capital lease obligations................................. 2,766
--------
Total liabilities assumed......................... 198,196
--------
Net assets acquired......................................... $273,068
========

The statement of operations for the year ended December 31, 2002 includes
$973 of costs related to the merger including $839 of costs related to an
abandoned debt offering contemplated to finance the acquisition, as well as $134
of severance costs for terminating approximately 50 D&E employees as a result of
the merger.

The following unaudited pro forma combined results of operations is
provided for illustrative purposes only and assumes that the Conestoga
acquisition had occurred as of the beginning of each of the periods presented.
The following unaudited pro forma information should not be relied upon as
necessarily being indicative of the historical results that would have been
obtained if this acquisition had actually occurred during those periods, nor of
the results that the Company may experience in the future.

F-16

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

SYSTEMS INTEGRATION BUSINESSES

On April 28, 2000, D&E acquired substantially all of the assets and
liabilities of CompuSpirit, Inc. a computer network service provider. On August
1, 2000, D&E acquired all of the outstanding shares of Alternate Solutions,
Inc., a computer network service provider. The acquisitions were financed by
payments of $5,973 cash, 93,388 shares of D&E common stock valued at $1,768 and
future payments to sellers of $1,800 with a net present value of $1,572.
Payments of $400 and $1,000 were made in 2002 and 2001 respectively, and an
annual payment of $400 is due in 2003. The transactions were accounted for under
the purchase method of accounting. Neither of the individual company's results
of operations nor their combined results of operations prior to the acquisitions
would have made a material change in D&E's earnings if such results had been
included from the beginning of the year. Goodwill and non-compete agreements of
$8,649 were recorded.

5. SALE OF CONESTOGA WIRELESS ASSETS

In connection with the acquisition of Conestoga (see Note 4), the Company
had committed to a plan to sell the assets of Conestoga's wireless segment. As
such, these assets are reported as held for sale in accordance with SFAS No. 144
"Accounting for the Impairment or Disposal of Long-Lived Assets." The assets are
not depreciated while they are held for sale.

On November 12, 2002, D&E entered into a definitive agreement to sell
substantially all of the assets of the Conestoga wireless segment to Keystone
Wireless, LLC ("Keystone"), a Delaware limited liability company. Keystone is an
affiliate of PC Management, Inc., a Ft. Myers, Florida-based company that owns
and manages wireless communications systems throughout the United States. The
sale was completed on January 14, 2003. Upon completion of the sale, and subject
to certain purchase price adjustments to be determined after closing, D&E
received $10,000 in cash and a $10,000 face value secured promissory note issued
by Keystone. The promissory note requires monthly principal payments for 48
months beginning in January 2005. The note bears interest at the 60 day LIBOR
rate plus 5% and is receivable beginning on December 31, 2003 and on the last
day of each quarter thereafter. As this note receivable is from a highly
leveraged entity and the business sold has not generated positive cash flows,
D&E will record value to the note when cash recoveries are received. The note
carries certain rights where we can convert a portion or all of the principal
balance of the note into equity interests of Keystone. The conversion period
begins on December 31, 2004 and ends May 1, 2005.

The results of operations of the Conestoga wireless segment held for sale
are not reported in discontinued operations because D&E will have continuing
involvement after the sale as a result of D&E's continued guarantees on cell
site leases and D&E's responsibilities under build-to-suit agreements which are
more fully described in Note 14. No gain or loss was recorded as a result of the
sale, however a loss of $675 related to D&E's estimated commitments in the
build-to-suit agreement has been recorded in communication services expenses.
The fair value of the Conestoga wireless segment of $6,450 included in the final
purchase price allocation was determined as follows:

Cash........................................................ $10,000
Less: costs to sell......................................... (350)
Fair value of lease guarantees (See Note 14)................ (3,200)
-------
Total....................................................... $ 6,450
=======

F-17

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

The carrying amounts of the major classes of assets included as part of the
Conestoga wireless business sold are as follows:

6. DISCONTINUED OPERATIONS

D&E WIRELESS

D&E's fifty percent partnership interest in PCS ONE and the related
contract services D&E provided to PCS ONE constituted a separate segment of
D&E's business. On October 17, 2001, D&E entered into a definitive agreement to
sell its interest in PCS ONE to VoiceStream Wireless Corporation for $117,000
less working capital and long-term debt adjustments.

The assets and liabilities and results of operations of D&E Wireless are
reported as discontinued operations in accordance with APB Opinion No. 30 with a
measurement date of December 31, 2001. The only assets or liabilities held for
sale were the equity in net losses of PCS ONE, which were classified as equity
in net losses of discontinued D&E Wireless operations in excess of investments
and advances in the balance sheet at December 31, 2001.

Losses from discontinued operations prior to December 31, 2001 have been
reclassified for one-line presentation in the statements of operations. In
accordance with EITF 85-36, beginning January 1, 2002, through disposal date
(the phase-out period), losses from PCS ONE were deferred because it was
reasonably assured that the ultimate disposition of this business would result
in the recognition of a gain.

On April 1, 2002, D&E consummated the sale of PCS ONE. The related contract
services D&E provided to PCS ONE were terminated subsequent to the sale, after a
six-month post closing period.

Upon completion of the sale, D&E received $74,168 in cash, subject to post
closing adjustments as set forth in the sale agreement. These adjustments were
finalized in the third quarter of 2002 and resulted in additional cash proceeds
of $2,294, which were collected in October 2002. In addition, we received
equipment with a fair value of approximately $2,014. Selling and other estimated
costs were approximately $3,836 and the gain on sale was $84,738 after
eliminating the $10,098 liability for the equity in net losses of discontinued
D&E Wireless operations in excess of investments and advances. The associated
income taxes were $29,301 resulting in an after tax gain of $55,437. The
proceeds from the sale of PCS ONE were used to help finance the acquisition of
Conestoga Enterprises, Inc. (see Note 4).

F-18

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

Summarized financial information for the discontinued operations of D&E
Wireless Services is as follows:

Summarized financial information for PCS ONE for the period from January 1,
2002 through April 1, 2002 (date of sale) and for the years ended December 31,
2001 and 2000 is presented as follows:

F-19

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

A summary of changes for our investment in and advances to PCS ONE is as
follows:

D&E provided support services to PCS ONE. The accounts receivable from PCS
ONE at December 31, 2001 for working capital provided and support services
totaled $5,938. This amount is reported on the balance sheets as accounts
receivable-affiliated companies. In addition, D&E provided management services
to PCS ONE. The amount owed to D&E for management services at December 31, 2001
was $2,578. This amount is included in equity in net losses of discontinued
operations in excess of investments and advances. All amounts owed to us for
support and management services to PCS ONE were paid in full in 2002.

PAGING SERVICES

During the third quarter of 2002, D&E committed to a plan to sell the
assets of Conestoga Mobile Systems' ($205) and D&E's paging operations ($10). As
such, the assets are reported as held for sale and the results of operations are
reported in discontinued operations in accordance with SFAS No. 144 "Accounting
for the Impairment or Disposal of Long-Lived Assets." The assets are not
depreciated while they are held for sale. In January 2003, we entered into an
agreement to sell our paging operations' assets for $215. D&E expects that the
transaction will close in the second quarter of 2003. No liabilities are
expected to be included as part of the sale.

The carrying amounts of the major classes of assets included as part of the
paging operations to be sold are as follows:

F-20

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

Summarized income statement information for the discontinued operations of
the paging services, including Conestoga Mobile Systems' operations post D&E's
acquisition on May 24, 2002 were as follows:

7. INVESTMENTS IN AFFILIATED COMPANIES

D&E owns a one-third investment in EuroTel, a domestic corporate joint
venture. EuroTel holds a 100% investment in PenneCom, B.V. (PenneCom), an
international telecommunications holding company, and holds a 27.85% investment
in Pilicka, a telecommunications company located in Poland. D&E also owns a
28.88% direct investment in Pilicka. D&E accounts for both its investment in
EuroTel and its investment in Pilicka using the equity method of accounting.

Until January 1, 2002, PenneCom held a 100% interest in Pilicka. As of
December 31, 2001, PenneCom was indebted to EuroTel for $10,656 and to the
investors in EuroTel for $36,751 (including $14,623 to D&E). PenneCom agreed
with EuroTel and the EuroTel investors to satisfy a portion of its indebtedness
to EuroTel and the EuroTel investors by transferring PenneCom's entire equity
interests in Pilicka to EuroTel and the investors. PenneCom satisfied $3,384 of
its indebtedness to EuroTel by transferring 22.56% of the capital stock of
Pilicka to EuroTel, satisfied $4,650 of its indebtedness to D&E by transferring
31.00% of the capital stock of Pilicka to D&E, and satisfied $6,966 of
indebtedness to the other EuroTel investors by transferring 46.44% of the
capital stock of Pilicka to the other EuroTel investors. The total amount of
indebtedness satisfied by PenneCom was equal to the total estimated fair value
of Pilicka at December 31, 2001. These transactions were effective as of January
1, 2002. In February 2002, the EuroTel investors contributed additional funds to
EuroTel, which invested those funds in Pilicka. Concurrent with the investments,
the ownership of Pilicka was restructured such that EuroTel now owns 27.85%, D&E
owns 28.88% and the other EuroTel investors own 43.27%. D&E continues to own a
one-third interest in EuroTel. As a result of these transactions, D&E now have a
28.88% direct ownership in Pilicka and an indirect 9.28% ownership in Pilicka,
through its continuing one-third interest in EuroTel.

In April 1999, PenneCom had entered into an agreement to sell its entire
investment in Pilicka to Elektrim S.A. (Elektrim) for $140,000 in cash and
notes. In July 1999, Elektrim issued written notice to PenneCom that it was
repudiating the purchase agreement. In August 1999, PenneCom filed an
arbitration request with the International Court of Arbitration seeking specific
performance of the agreement as well as compensatory and punitive damages. In
2001, an award of approximately $40,000 plus interest at 10% per annum from
August 1999 and reimbursement of arbitration costs was granted in favor of
PenneCom. PenneCom used a portion of the proceeds to reduce outstanding loans
with a domestic bank. D&E's share of the gain on the award settlement is
included in the equity in net income or losses of affiliates in the consolidated
statements of operations. In July 2002, EuroTel initiated a legal action against
an investment bank, and an individual, alleging violations of applicable law
relating to the advice given by the investment bank and the individual to a
prospective buyer not to close on the purchase of Pilicka. Management of EuroTel
believes that, based on the advice of its legal counsel, the suit is
meritorious. However, the ultimate outcome of the litigation cannot be
determined and no amount has been recognized for possible collection of any
claims in the litigation. Legal costs are expected to continue to be incurred in
pursuit of such litigation.

F-21

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

During 2001, EuroTel also recorded a $31,517 charge for an impairment to
EuroTel's investment in Pilicka. D&E's share of the impairment charge is
included in the equity in net income or losses of affiliates in the consolidated
statements of operations.

The equity investment in EuroTel is subject to the risks of foreign
currency transactions, which are included in the results of PenneCom and
Pilicka.

Summarized financial information for EuroTel is presented as follows:

In 2001 and 2000, EuroTel consolidated the financial information of
Pilicka. As of January 1, 2002, EuroTel and D&E account for their investments in
Pilicka under the equity method of accounting.

Summarized financial information for Pilicka is presented as follows:

F-22

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

A summary of changes for the investments in and advances to EuroTel,
Pilicka and affiliates follows:

In addition to loans, D&E provides support services to EuroTel and its
affiliates. Amounts owed to D&E for services performed for EuroTel, PenneCom and
Pilicka at December 31, 2002 and 2001 were $4,942 and $4,899, respectively.
These amounts are included in advances to EuroTel and affiliates above.

8. INVESTMENTS AVAILABLE-FOR-SALE

The following is a summary of our investments in marketable equity
securities:

During the second quarter of 2002, D&E determined that the decline in value
of some of its investments available-for-sale was other than temporary and
recorded a realized loss of $2,999. In December 2001, D&E exchanged its
investment in Illuminet Holdings, Inc. for an investment in VeriSign, Inc. The
exchange generated a gain of $3,036.

F-23

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

9. PROPERTY, PLANT AND EQUIPMENT

Property, plant and equipment is summarized as follows at December 31:

10. INTANGIBLE ASSETS

Intangible assets and related accumulated amortization recorded on the
Company's balance sheets are as follows:

F-24

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

Amortization expense related to intangible assets was $3,727, $290 and $143
for the years ended December 31, 2002, 2001 and 2000. Estimated amortization
expense for the succeeding five years is as follows:

11. ACCOUNTS PAYABLE AND ACCRUED LIABILITIES

Accounts payable and accrued liabilities are summarized as follows at
December 31:

12. LONG-TERM DEBT

On November 1, 2001, D&E completed a long-term financing agreement with a
syndicate of financial institutions for a $50,000 8.5-year senior reducing
revolving credit facility and a $50,000 10-year senior term note. On May 24,
2002 in connection with the Conestoga acquisition (see Note 4), the financing
agreement was amended to provide for an increase in the revolving credit
facility from $50,000 to $75,000 and an additional $125,000 8.5-year senior term
note. The additional indebtedness was used to finance a portion of the Conestoga
acquisition and to repay certain existing indebtedness and related fees. D&E
also assumed certain existing long-term indebtedness of Conestoga of $81,944,
including $2,766 of capital lease obligations.

Long-term debt at December 31 consisted of the following:

The Senior Secured Revolving Credit Facility ("Credit Facility") is a
$75,000 8.5-year senior secured reducing revolving credit facility. The Credit
Facility requires interest only payments for two years initially with increasing
quarterly principal reductions of the amount available to borrow beginning in
the third quarter

F-25

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

of 2004 and continuing through the fourth quarter of 2009. Interest is payable
at a base rate or at one, two, three or six month LIBOR rates plus an applicable
margin based on our leverage ratio. At December 31, 2002 the average interest
rate was 5.74%. The Credit Facility also requires a quarterly commitment fee on
the unused portion.

The Senior Secured Term Loan B ("Term Loan B") is a $125,000 8.5-year term
note. Term Loan B bears interest at our option at either the U.S. prime rate
plus 1.75% to 3.00% or at LIBOR plus 2.50% to 4.00%, depending on our total
leverage ratio. At December 31, 2002 the average interest rate was 6.06%. Term
Loan B requires interest only payments for two years initially with increasing
quarterly principal payments beginning in the third quarter of 2004 and
continuing through the fourth quarter of 2010.

The Senior Secured Term Loan A ("Term Loan A") is a $50,000 10-year term
note. Term Loan A bears interest at a base rate or at either the U.S. prime rate
plus 2.00% to 3.125% or at LIBOR plus 2.625% to 4.125%, depending on our
leverage ratio. At December 31, 2002 the average interest rate was 6.44%. The
Term Loan A requires interest only payments for three years initially with
increasing quarterly principal payments beginning in the third quarter of 2004
and continuing through the second quarter of 2011.

The 9.34% Secured Term Loan in the amount of $20,000 was assumed as a
result of the Conestoga acquisition (see Note 4) and has been recorded at its
book value, which approximates fair value. The 9.34% Secured Term Loan requires
interest to be paid quarterly at the stated rate and also requires principal to
be paid in quarterly installments of $500 beginning in 2005 and continuing
through 2014.

The 9.36% Secured Term Loan in the amount of $15,000 was assumed as a
result of the Conestoga acquisition (see Note 4) and has been recorded at its
book value, which approximates fair value. The 9.36% Secured Term Loan requires
interest to be paid quarterly at the stated rate and also requires principal to
be paid in quarterly installments of $375 beginning in 2005 and continuing
through 2014.

D&E's indebtedness requires the Company to maintain compliance with certain
financial and operational covenants. The most restrictive covenant is the total
leverage ratio. At December 31, 2002, D&E was in compliance with all covenants.
As of November 24, 2002, D&E was also required to maintain interest rate
protection on one-half of the total amount of senior indebtedness outstanding,
with a weighted average life of at least 2 years. At December 31, 2002, $140,000
of D&E's senior indebtedness was protected from interest rate fluctuations. Of
this amount, $35,000 of the Company's senior indebtedness has fixed interest
rates. The Company also entered interest rate swap agreements as interest rate
protection for $105,000 of debt (see Note 13).

A portion of the proceeds from the Term Loan A and the Credit Facility were
used to extinguish outstanding indebtedness including lines of credit and notes
due to an insurance company. D&E recorded a 2001 extraordinary loss on the early
extinguishment of indebtedness of $2,216, net of taxes of $1,514.

Based on the borrowing rate currently available to the Company for bank
loans, the fair market value of long-term debt is $251,775.

Maturities of long-term debt for each year ending December 31, 2003 through
2007, excluding capital lease obligations, are as follows:

F-26

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

At December 31, 2001, D&E had $1,757 outstanding under our lines of credit
with domestic banks. In connection with the amendment to our Credit Facility on
May 24, 2002, D&E terminated the lines of credit and repaid all amounts
outstanding.

Capital lease obligations include a long-term lease agreement assumed as a
result of the Conestoga acquisition (see Note 4) for a building that requires
monthly rent payments of $24 including interest at 7.95% through April 2020 and
an equipment lease that requires monthly payments of $5 through October 2004.

13. DERIVATIVE FINANCIAL INSTRUMENTS

Beginning in November 2002, the Company utilizes interest rate swap
derivatives to manage changes in market conditions related to interest rate
payments on its variable rate debt obligations. These swap agreements provide
for the exchange of variable rate payments for fixed rate payments without the
exchange of the underlying notional amounts by agreeing to pay an amount equal
to a specified fixed rate of interest times the notional principal amount and to
receive in turn an amount equal to a specified variable rate of interest times
the same notional amount.

As of December 31, 2002, the Company had interest rate swap agreements with
a total notional amount of $105,000 with maturity dates ranging from November
2004 to November 2006. The Company recognizes all derivatives on the balance
sheet at fair value. Changes in the fair value for the effective portion of the
gain or loss on a derivative that is designated as, and meets all the required
criteria for, a cash flow hedge are recorded in Accumulated Other Comprehensive
Income and reclassified into earnings as the underlying hedged items affect
earnings. Amounts reclassified into earnings related to interest rate swap
agreements are included in interest expense. The ineffective portion of the gain
or loss on a derivative is recognized in earnings within other income or
expense. As of December 31, 2002, the fair value of the derivatives was recorded
as a $2,279 other long-term liability and unrealized net losses of $2,279
($1,354 net of tax) related to these interest rate swaps were included in
Accumulated Other Comprehensive Income. No hedge ineffectiveness has been
recorded for existing derivative instruments based on calculations in accordance
with SFAS No. 133, as amended.

14. COMMITMENTS AND CONTINGENCIES

D&E leases buildings and other property under various operating lease
agreements that expire between 2003 and 2026. Future minimum lease payments
under operating leases are as follows:

Total rent expense for the years ended December 31, was approximately
$4,080 in 2002, $1,327 in 2001 and $868 in 2000.

Effective May 24, 2002, pursuant to the merger agreement with Conestoga
Enterprises, Inc., we entered into or acquired obligations under existing
agreements for compensation, retention bonuses and change of

F-27

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

control payments due to former officers, employees and existing employees. These
agreements require future annual payments as listed below. Interest is imputed
at 6.5%.

On May 24, 2002, pursuant to the merger agreement with Conestoga, D&E
assumed Conestoga's obligations under a Build-to-Suit agreement ("BTS") with
Mountain Union Telecom LLC ("Mountain Union"). The obligations related to the
construction of 20 cellular tower sites for Conestoga's wireless subsidiary,
Conestoga Wireless Company ("CWC"). In November 2002, D&E entered into an asset
purchase agreement with Keystone Wireless LLC ("Keystone Wireless") for the sale
of CWC. Although D&E sold the assets of this business, its obligations under the
BTS were not assumed by Keystone Wireless. Under the BTS, D&E is obligated to
work with Mountain Union to find and develop 20 cellular tower sites and after
construction of each site, enter into a long-term operating lease with Mountain
Union for the site. Keystone is also contractually obligated to assume any
operating leases entered into under the BTS. Should any of the obligations under
the BTS remain unfulfilled at June 30, 2004, D&E could be subject to penalties
for nonperformance. Because the underlying assets of CWC are sold under the
asset purchase agreement, D&E has considered any remaining obligations and
potential penalties under the BTS a contingent liability. At of December 31,
2002, D&E has recorded $675 for its remaining commitment under the BTS.

As part of the Company's acquisition of Conestoga, D&E assumed a guarantee
agreement with Mountain Union for lease obligations on the cellular tower sites
of Conestoga's wireless subsidiary. When D&E entered into the asset purchase
agreement with Keystone Wireless, whereby Keystone Wireless was assigned the
responsibility for the leases, Mountain Union declined to release D&E from its
guarantee. In the event of a default by Keystone Wireless, D&E continues to
guarantee the cellular tower site lease payments, which cover a 10-year period
commencing upon usage of each tower. As such, the guarantee is a continuing
guarantee provided on an individual tower site basis. The lease payments start
at $1.5 per site per month, with provision for an increase of 4% per year. The
majority of these tower site leases and our guarantee will expire in 2011 and
thereafter. D&E has estimated and recorded the fair value of the liability for
the lease guarantees of $3,200 that is presented in net assets held for sale.

During 2002, D&E committed to provide additional funding to EuroTel and
Pilicka for up to $1,200 in the year 2003.

D&E entered into various business acquisition agreements during the year
2000. These agreements require annual payments to the sellers of $400 in 2003.
Interest is imputed at 7.7%.

F-28

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

15. INCOME TAXES

The provision for income taxes consists of the following:

The effective income tax rate on consolidated pre-tax earnings from
continuing operations differs from the federal income tax statutory rate for the
following reasons:

Approximately $167,926 of state net operating loss carryforwards remained
at December 31, 2002. These carryforwards are due to the operations of D&E's
subsidiaries and will expire in the years 2005 through 2022. The benefit of
these carryforwards is dependent on the taxable income of these subsidiaries
during the carryforward period. A valuation allowance has been provided because
realization of tax carryforwards is not likely.

F-29

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

The significant components of the net deferred income tax liability were as
follows at December 31:

D&E historically maintained a 100% valuation allowance on the deferred tax
assets related to the book/tax differences of its international affiliate
investments due to the uncertainty of realization. As a result of incurring
realized tax losses in 2001 on its international affiliates in excess of book
losses recognized in 2001, D&E's deferred tax assets related to book/tax
differences of its international affiliates decreased $3,289. As a result, D&E
correspondingly decreased its valuation allowance on these deferred tax assets.
The amount of the deferred tax asset valuation could change if estimates of
future taxable income during the carryforward period are revised.

16. SHAREHOLDERS' EQUITY

In October 1998 and 2000, the Board of Directors authorized the repurchase
of up to $2,000 and $1,000, respectively, of our common stock. The shares
reacquired may be used for incentive compensation programs, Employee Stock
Purchase Plan, Dividend Reinvestment Plan and for other corporate purposes. As
of December 31, 2002, we had purchased 126,100 shares of treasury stock for a
total cost of $2,630. Separately, the Board of Directors may authorize
acquisition of shares outside of the open market repurchase plan when the market
price warrants it. D&E purchased $178, $662 and $612 of treasury stock during
2002, 2001 and 2000, respectively, from related parties at fair market value.

In January 1998, D&E issued 1.3 million shares of our common stock to a
subsidiary of Citizens Communications Company (Citizens) in consideration for
$27,015. All such shares are unregistered but have certain registration rights.
Under the terms of the agreement, Citizens has certain restrictions relating to
future purchases or sales of our common stock. Additionally, in connection with
this agreement, we issued warrants to acquire 65,000 shares of common stock at
$20.78 per share. These warrants expired on January 7, 2003. None of these
warrants were exercised.

D&E has an Employee Stock Purchase Plan (ESPP), which provides D&E's
eligible employees the opportunity to purchase shares of D&E's common stock
through payroll deductions. There are 511,886 shares of common stock reserved
for issuance pursuant to the ESPP at December 31, 2002. The total number of
shares purchased pursuant to the ESPP during 2002 and 2001 was 26,144 and
12,971, respectively.

F-30

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

D&E offers a Dividend Reinvestment and Stock Purchase Plan (DRP) to D&E's
shareholders. The DRP provides all shareholders of D&E's common stock the
opportunity to purchase additional shares of common stock by: 1) reinvesting all
cash dividends paid on their shares of common stock; 2) making optional cash
purchases of common stock, up to a maximum amount per quarter, while continuing
to receive cash dividends; or 3) both reinvesting all cash dividends and making
such optional cash purchases. There are 130,448 shares of common stock reserved
for issuance pursuant to the DRP at December 31, 2002. The total number of
shares purchased through the DRP during 2002 and 2001 was 41,946 and 16,868,
respectively. Shares for the DRP are purchased by participants at fair market
value, which is defined as the average of the highest and lowest per-share sale
prices as reported by the NASDAQ National Market on the day of the purchase.
Shares for the ESPP may be purchased at a 10% discount from fair market value as
approved by the shareholders on April 27, 2000. If no shares were traded on the
day of purchase, then the prices on the previous day are used to compute the
per-share price.

D&E has a Stock Compensation Plan and Policy for Non-Employee Directors.
Certain non-employee directors receive common stock in payment for their
services as a director of the company. There are 12,660 shares of common stock
reserved for issuance pursuant to the plan at December 31, 2002. The total
number of shares issued under this plan during 2002 and 2001 was 1,300 and
1,040, respectively.

There are 368,418 shares of D&E's common stock reserved for issuance under
the 1999 Long-Term Incentive Plan (LTIP) at December 31, 2002. There were 93,082
shares issued and 59,500 stock options granted through the LTIP in 2002. There
were no shares issued in 2001 and 4,000 issued in 2000.

At December 31, 2002 and 2001, shares of D&E's common stock of 2,406,168
and 2,846,922, respectively, were held in a voting trust. Certain of D&E's
officers and Directors are trustees of the voting trust.

17. STOCK OPTION PLAN

The stock options outstanding under the Conestoga stock option plan were
converted to options to purchase D&E's common stock upon the acquisition of
Conestoga. The stock options have an expiration term of 10 years. The per share
exercise price of a stock option shall be not less than the fair market value of
the underlying common stock on the date the option is granted. Additionally, the
Company has shares available to grant as options under its 1999 Long-Term
Incentive Plan. There was a combined total of 695,021 options available for
grant at December 31, 2002.

A summary of the stock option activity and related information for the year
ended December 31, 2002 follows:

There were 258,328 options exercisable at December 31, 2002. Exercise
prices for options outstanding ranged from $8.24 to $14.50 per share. The
weighted average remaining contractual life is approximately 7.7 years.

D&E applies APB Opinion 25 and related interpretations in accounting for
the stock option plan. All options are issued with an exercise price equal to
the fair market value of the stock at the date of grant; accordingly, no
compensation cost has been recognized.

F-31

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

18. EMPLOYEE BENEFIT PLANS

EMPLOYEES' RETIREMENT PLAN

D&E's pension plans are noncontributory defined benefit plans computed on
an actuarial basis covering all eligible employees. Pension benefits are based
upon length of service and the employee's average pensionable compensation as
defined by the plans. Accrued benefits are vested after five years of
participation in the plan. Assets of the pension plan consist primarily of
stocks and bonds.

The following schedules reconcile the beginning and ending balances of the
pension benefit obligation and related plan assets.

F-32

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

In the fourth quarter of 2002, in accordance with SFAS No. 87, "Employers'
Accounting for Pensions," D&E recorded an additional minimum pension liability
of $1,035 representing the difference between the unfunded accumulated benefit
obligation and the fair value of the Plan assets at December 31, 2002. Also, a
pension intangible equal to the unrecognized prior service cost of $148 was
recognized. A charge to equity in the amount of $3,426 after-tax represents the
excess of additional minimum pension liability over unrecognized prior service
cost.

EMPLOYEES' 401(K) SAVINGS PLAN

D&E has employee savings plans available to all eligible employees (Savings
Plans). Participating employees may contribute a portion of their compensation,
up to 15%, to the Savings Plans, and the Company makes matching contributions
based upon the employee's contribution. D&E may also make discretionary
profit-sharing contributions.

On October 1, 2002, the Conestoga Telephone & Telegraph Company 401(k)
Plan, the Buffalo Valley Telephone Co. 401(k) Plan, the Telebeam, Inc. 401(k)
Plan, the Infocore, Inc. 401(k) Plan and the D&E Communications, Inc. Employee
Stock Ownership Plan were merged into the D&E Communications, Inc. Employees'
401(k) Savings Plan. As of December 31, 2002, the Company sponsors two Savings
Plans: the D&E Communications, Inc. Employees' 401(k) Savings Plan and the
Conestoga Telephone & Telegraph Co. Local 1671 Tax Deferred Retirement Plan.

Company contributions amounted to $1,124 in 2002, $941 in 2001 and $536 in
2000.

F-33

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

EMPLOYEE STOCK OWNERSHIP PLAN

In July 1992, D&E established the Employee Stock Ownership Plan (ESOP),
covering all eligible employees. Unallocated shares were held in a "suspense
account" in the ESOP's trust fund until allocated to participants' accounts. The
Company made quarterly contributions to the ESOP, which, along with the
dividends on unallocated shares, were used to repay the ESOP Note. As principal
payments on the ESOP Note were made, unallocated shares held in the suspense
account were released and allocated among the participants' accounts. The ESOP
Note was paid in full in December 2000. Due to the Board of Directors' decision
to discontinue contributions to the ESOP, all non-vested participants became
fully vested in their accrued benefits effective January 1, 2001. As of December
31, 2000, all shares were allocated to participants. Dividends on shares
allocated to participants' accounts are reinvested in D&E common stock through
the purchase of treasury shares.

The shares in the ESOP are considered outstanding for purposes of
calculating earnings per share. Principal and interest payments on the ESOP
Note, offset by unallocated dividends, were reported as compensation and
interest expense. The common shares allocated were measured based on the fair
market value of the shares committed to be released.

Information related to the ESOP is summarized as follows:

Allocated D&E shares held by the ESOP at December 31, 2001 were 217,622.
The ESOP was merged into the D&E Communications, Inc. Employees' 401(K) Savings
Plan effective October 1, 2002.

POSTRETIREMENT HEALTH CARE BENEFITS

D&E provides certain basic health care benefits to eligible individuals who
retired under the D&E Communications, Inc. Employees' Retirement Plan between
the period of December 31, 1972, and July 1, 1992. Those benefits are provided
by the Employee Benefit Plan Trust, a self-insured plan, and by individual
policies from an insurance company. Additionally, an insurance company provides
specific and aggregate stop-loss coverage, the costs of which are based on
benefits paid during the year.

Effective July 1992, retiree health care benefits were discontinued for
active employees participating in the D&E Communications, Inc. Employees'
Retirement Plan. As a result, the applicable annual accruals represent the
estimated cost of health care benefits for certain eligible retired employees
determined on an actuarial basis. Those costs amounted to $24 in 2002, $9 in
2001 and $12 in 2000.

D&E provides an opportunity for retiring members of the Pension Plan for
Employees of Buffalo Valley and the Conestoga Telephone & Telegraph Company
Pension Plan for Members of Local 1671 to purchase health care benefits under
the Company's fully-insured plan. Members of these Plans who elect to continue
their coverage at retirement pay 100% of the applicable premiums. D&E also
provides an opportunity for retiring members of the Conestoga Telephone &
Telegraph Company Pension Plan to purchase health care benefits under the
Company's fully-insured plan. The Company pays 50% of the premium for members of
this Plan who elect to continue coverage at retirement. The applicable annual
accruals represent the estimated cost of providing these benefits to future
retirees and is determined on an actuarial basis. The net periodic
postretirement benefit cost was $162 in 2002. The accumulated postretirement
benefit obligation associated with this plan at December 31, 2002 was $2,107.
The discount rate used in determining the accumulated postretirement benefit
obligation was 7.00% in 2002.

F-34

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

The accrued postretirement benefit liability is included in other long-term
liabilities in the accompanying consolidated balance sheets.

1999 LONG-TERM INCENTIVE PLAN

The 1999 Long-Term Incentive Plan (the Plan) was approved by the
shareholders of the Company during 1999. Officers and other key employees of the
Company are eligible for participation in the Plan. Awards under the Plan are
made at the discretion of the Board of Directors and/or the Board's Compensation
Committee. There were 525,000 shares registered for issuance under the Plan.

Awards granted under the Plan were in the form of Performance Restricted
Shares of common stock and cash which entitles a participant to receive a target
number of shares of common stock and a cash payment based upon the Company's
attainment of predetermined goals over a specified performance period. If the
minimum goals are not met, no performance-restricted shares will be earned by
the participant. If the performance goals are fully achieved, 100% of the
performance-restricted shares will be earned by the participant. During the
performance period, each performance-restricted share will be considered equal
to one share of common stock for dividend (but not voting) purposes and the
participant shall be entitled to dividend equivalents that are reinvested in
additional performance-restricted shares. At the end of the performance period,
any performance-restricted shares that have been earned will be converted to
shares of common stock.

The total number of performance-restricted shares granted to participants
were none in 2002, 49,167 in 2001 and 46,940 in 2000. The cost of the Plan
amounted to $818 in 2002, $364 in 2001 and $720 in 2000. The
performance-restricted shares granted in 1999 were forfeited since the goal for
the 1999 grant was not met in 2001 and resulted in a reversal of $569 of
compensation expense previously recognized in 2000 and 1999. All shares granted
in 2001 and 2000 became fully vested and payable on May 24, 2002 as a result of
the Conestoga acquisition.

19. DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS

The following methods and assumptions were used to estimate the fair value
of each class of financial instruments for which it is practicable to estimate
that value:

a. Cash and temporary cash investments -- The carrying amount
approximates fair value because of the short maturity of these instruments.

b. Investments -- Investments consist primarily of investments in and
advances to affiliated companies accounted for accounted for under the
equity method for which disclosure of fair value is not required. Also
included in investments are marketable equity securities. These securities
are marked to market. The balance at December 31, 2002 reflects any
unrealized gains or losses.

c. Debt -- The fair value of fixed rate long-term debt was estimated
based on our current incremental borrowing rate for debt of the similar
remaining maturities. The fair value of floating rate debt approximates
carrying value since the debt has been repriced no less frequently than
every three months during 2002.

d. Interest rate swaps -- The fair value has been calculated by the
counterparties using appropriate valuation methodologies.

F-35

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

The estimated fair value of our financial instruments is as follows:

F-36

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

20. SEGMENT REPORTING

D&E's business segments are as follows: incumbent rural local exchange
carrier (RLEC), competitive local exchange carrier (CLEC), internet services,
systems integration and Conestoga Wireless. The segments are more fully
described in Note 1. For more information on significant noncash items, see Note
3. Intersegment revenues are recorded at the same rates charged to external
customers.

F-37

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

21. QUARTERLY RESULTS OF OPERATIONS (UNAUDITED)

The following table summarizes D&E's quarterly financial data for the years
ended December 31, 2002 and December 31, 2001.

- ---------------

(1) The quarterly financial information for the second and third quarters of
2002 has been restated for changes in the Company's purchase price
allocation and changes in depreciable lives on Conestoga assets acquired as
a result of final determinations made by the Company in conjunction with
independent appraisers. Such changes resulted in reductions to operating
income from increases to D&E's depreciation and amortization expense of $258
in the second quarter and $2,338 in the third quarter. Such changes, net of
tax, reduced net income $149 in the second quarter and increased the net
loss $1,324 in the third quarter. The changes also reduced earnings per
share by $0.02 in the second quarter and increased the net loss per share by
$0.09 in the third quarter.

Also, D&E has reclassified the Conestoga's wireless segment from
discontinued operations to continuing operations for the second and third
quarters of 2002. This reclassification had no impact on net income (loss)
or earnings (loss) per common share.

(2) As described in Note 6, in the third quarter of 2002, D&E began to report
the results of Conestoga Mobile Systems' and D&E's paging operations as
discontinued operations. All periods have been reclassified to be
comparative and the reclassifications had no impact on net income (loss) or
earnings (loss) per common share.

F-38

ITEM 14(a)(2). FINANCIAL STATEMENT SCHEDULES

D&E COMMUNICATIONS, INC.

SCHEDULE II -- VALUATION AND QUALIFYING ACCOUNTANTS

All other schedules for which provision is made in the applicable
accounting regulations of the Securities and Exchange Commission are not
required under the related instructions or are inapplicable, and therefore have
been omitted.

F-39

EUROTEL L.L.C.

CONSOLIDATED FINANCIAL STATEMENTS
AS OF AND FOR THE YEAR ENDED DECEMBER 31, 2002

F-40

EUROTEL L.L.C.

CONSOLIDATED BALANCE SHEET
DECEMBER 31, 2002

ASSETS
Current assets:
Cash and cash equivalents................................. $ 147,663
Accounts receivable....................................... 17,312
------------
Total current assets................................... 164,975
------------
Other assets:
Property, plant and equipment, net........................ 1,881
Investment in affiliate (Note 5).......................... 3,343,134
------------
Total other assets..................................... 3,345,015
------------
$ 3,509,990
============

LIABILITIES AND MEMBERS' EQUITY
Current liabilities:
Accounts payable.......................................... $ 188,031
Due to founders (Note 7).................................. 29,413,958
------------
Total current liabilities.............................. 29,601,989
------------
Members' equity (deficit):
Members' capital.......................................... (25,918,251)
Cumulative other comprehensive loss....................... (173,748)
------------
Total members' equity (deficit)........................ (26,091,999)
------------
$ 3,509,990
============

See accompanying notes to consolidated financial statements.
F-41

EUROTEL L.L.C.

CONSOLIDATED STATEMENT OF OPERATIONS
FOR THE YEAR ENDED DECEMBER 31, 2002

Equity in income (loss) of Pilicka (Note 5)................. $ (966,704)
-----------
Interest and other income................................... 22,333
-----------
Expenses:
Wages and benefits........................................ 1,276,062
Litigation costs.......................................... 2,173,178
General and administrative................................ 399,485
Investment loss........................................... 278,110
Interest expense.......................................... 50,571
Loss on note receivable and accrued interest (Note 6)..... 596,849
-----------
Total expenses....................................... 4,774,255
-----------
Net loss............................................... $(5,718,626)
===========

See accompanying notes to consolidated financial statements.
F-42

EUROTEL L.L.C.

CONSOLIDATED STATEMENT OF MEMBERS' EQUITY (DEFICIT) AND
COMPREHENSIVE INCOME (LOSS)
FOR THE YEAR ENDED DECEMBER 31, 2002

See accompany notes to consolidated financial statements.
F-43

EUROTEL L.L.C.

CONSOLIDATED STATEMENT OF CASH FLOWS
FOR THE YEAR ENDED DECEMBER 31, 2002

Cash flows from operating activities:
Net loss.................................................. $(5,718,626)
Adjustments to reconcile net loss to net cash used by
operating activities:
Depreciation........................................... 4,025
Equity in loss of affiliate............................ 966,704
Loss on disposal of equipment.......................... 6,143
Loss on write-off of notes receivable.................. 596,849
Change in assets and liabilities:
Receivables.......................................... (14,456)
Accounts payable..................................... (1,135,801)
Accounts payable to Founders......................... 4,279,714
Other liabilities.................................... (394,023)
-----------
Total cash used in operating activities........... (1,409,471)
-----------
Cash flows from investing activities:
Investment in Pilicka..................................... (1,100,000)
Cash transferred to Pilicka............................... (696,334)
-----------
Total cash used in investing activities........... (1,796,334)
-----------
Cash flows from investing activities:
Proceeds from member contributions........................ 2,344,331
-----------
Net decrease in cash and cash equivalents................... (861,474)
Cash and cash equivalents at beginning of year.............. 1,009,137
-----------
Cash and cash equivalents at end of year.................... $ 147,663
===========
Cash paid for interest...................................... $ 50,751
===========
Noncash investing activity -- Transfer of assets and
liabilities of Pilicka:
Current assets............................................ $ 1,729,662
Noncurrent assets......................................... 15,014,449
Current liabilities....................................... (3,116,947)
Noncurrent liabilities.................................... (1,356,890)
Cumulative translation adjustment......................... 2,033,392
-----------
14,303,666
-----------

See accompanying notes to consolidated financial statements.
F-44

EUROTEL L.L.C.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

1. ORGANIZATION

EuroTel L.L.C. (the Company) was organized in December 1996 to act as a
holding company for a foreign investment in Pilicka Telefonia Sp. z.o.o.
(Pilicka). The Company directly held this investment until May 1998. In 1998,
the Company organized a subsidiary, PenneCom B.V. (PenneCom), to act as a Dutch
holding company for foreign investments. PenneCom is a wholly owned subsidiary
of the Company.

On December 31 2001, the Company and the Founders entered into an agreement
with PenneCom whereby PenneCom transferred 100% of its shares in Pilicka to the
Company and the Founders in exchange for partial satisfaction of loans and
interest payable. The Company now owns 27.85% of Pilicka and for the year ended
December 31, 2002, accounted for its investment under the equity method of
accounting.

2. LIQUIDITY

The Company is dependent upon the Founders to provide the liquidity
necessary for the Company to meet its cash flow requirements for the year 2003.
In 2002, the Founders made capital contributions of $2,344,331.

3. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:

PRINCIPLES OF CONSOLIDATION

The consolidated financial statements include the accounts of the Company
and its wholly-owned subsidiary, PenneCom. All significant intercompany accounts
and transactions have been eliminated in consolidation.

CASH AND CASH EQUIVALENTS

Cash and cash equivalents include cash and highly liquid debt instruments
with an original maturity of three months or less and are carried at cost which
approximates fair value due to the short maturities.

INVESTMENT IN AFFILIATES

The equity method of accounting is used when the Company has a 20% to 50%
interest in other entities. Under the equity method, original investments are
recorded at cost and adjusted by the Company's share of undistributed earnings
or losses of these entities.

COMPREHENSIVE INCOME (LOSS)

The Company has elected to present comprehensive income (loss) in the
statement of changes in members' equity. Comprehensive income (loss) consists of
the income (loss) for the period and the change in the foreign currency
translation adjustment.

INCOME TAXES

EuroTel's taxable income passes to its members and therefore no taxes are
recognized related to its operation. PenneCom B.V. is subject to 35% Dutch
corporate tax. Since PenneCom has no taxable income in 2002, no Dutch taxes have
been recorded.

USE OF ESTIMATES

The preparation of financial statements in conformity with generally
accepted accounting principles in the United States 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

F-45

EUROTEL L.L.C.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

and the reported amounts of revenues and expenses during the period. Actual
results could differ from those estimates.

4. SALE OF PILICKA

On December 31, 2001, the Company and the Founders entered into an
agreement with PenneCom whereby PenneCom transferred 100% of its shares in
Pilicka to the Company and the Founders in exchange for satisfaction of loans
and interest payable totaling $15,000,000. The Company received a 22.56%
ownership interest in Pilicka, valued at $3,383,586, as a result of the share
transfer. The net assets of Pilicka at December 31, 2001 which were
deconsolidated in 2002 are as follows:

Cash........................................................ $ 696,334
Receivables and other current assets........................ 1,729,662
Property, plant and equipment............................... 13,265,980
Intangible assets........................................... 1,563,054
Other non-current assets.................................... 185,415
Payables and accrued liabilities............................ (3,064,387)
Deferred revenues........................................... (1,409,450)
Cumulating translation adjustment........................... 2,033,392
-----------
Total net assets............................................ $15,000,000
===========

5. INVESTMENT IN AFFILIATE

As disclosed in Note 4, the Company received an ownership interest in
Pilicka in exchange for the partial satisfaction of loans and interest payable.
In addition, the Company contributed additional capital of $1,100,000 during
2002 to increase its ownership percentage to 27.85%. The investment is being
accounted for using the equity method.

F-46

EUROTEL L.L.C.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

The financial position and results of operations of the Company's equity
basis investment are summarized below:

6. LOAN RECEIVABLE

In July 2000, the Company loaned United food Technologies BV $500,000 to
expand its network of Wendy's restaurants in Hungary. UFT owns equity interests
in companies operating Wendy's franchises. The loan earned interest at 20% (10%
during the first year) and was due in July 2002.

During 2002, it was determined that the note receivable and related accrued
interest were uncollectible. A loss of $596,849 was recognized in 2002 based on
the write-off of the note receivable and accrued interest.

7. DUE TO FOUNDERS

Due to Founders consists of the following at December 31, 2002:

Accounts payable to Founders................................ $10,393,247
Accrued interest on accounts payable to Founders............ 1,757,182
Loans payable to Founders................................... 17,263,529
-----------
$29,413,958
===========

F-47

EUROTEL L.L.C.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

Accounts payable to Founders represent operating costs paid on behalf of
the Company by those entities. Interest accrued on the accounts payable through
December 2001 at the rate of 15% (7% through February 1999). Beginning in 2002,
interest no longer accrues on these obligations and the Company discontinued the
interest accrual on these obligations. Total operating expenses incurred through
the Founders was $1,049,375 during 2002.

Through December 2001, the loans payable bear interest at a fixed rate of
15%. Like the accounts payable, the Company discontinued the accrual on interest
on these obligations in 2002.

As mentioned in Notes 1 and 3, upon PenneCom's transfer of 100% of
Pilicka's shares to the Founders and EuroTel per the December 31, 2001
agreement, the total payable to the Founders was reduced by $11,616,414.

In 2003, the Founders have advanced funds in the amount of $486,000.

8. CONCENTRATION OF CREDIT RISK

The Company maintains its checking accounts in three commercial banks. Cash
in these checking accounts at times exceed $100,000. The checking accounts are
secured by the Federal Deposit Insurance Corporation (FDIC) up to $100,000. As
of December 31, 2002, the Company had cash deposits in excess of the amount
insured of $136,183.

9. GAIN CONTINGENCY

In July 2002, the Company initiated a legal action against an investment
bank alleging violations of applicable law relating to the investment bank's
advice to a prospective buyer not to close on the purchase of Pilicka in
connection with a 1999 transaction whereby the Company entered into an agreement
to sell Pilicka. Management believes based on the advise of the Company's legal
counsel that the suit is meritorious. However, the ultimate outcome of the
litigation cannot be determined and no amount has been recognized for possible
collection of any claims asserted in the litigation.

10. RELATED-PARTY TRANSACTIONS

PenneCom paid $399,184 to a law firm for legal services during the year
ended December 31, 2002, where one of the lawyers was a former director of the
Company.

F-48

EUROTEL L.L.C.

CONSOLIDATED FINANCIAL STATEMENTS
AS OF DECEMBER 31, 2001 AND 2000 AND
FOR EACH OF THE THREE YEARS IN THE PERIOD ENDED DECEMBER 31, 2001

F-49

REPORT OF INDEPENDENT ACCOUNTANTS

To the Members of
EuroTel L.L.C.

In our opinion, the accompanying consolidated balance sheets and the
related consolidated statements of operations, members' equity (deficit) and
comprehensive income (loss) and cash flows present fairly, in all material
respects, the financial position of EuroTel L.L.C. and its subsidiaries at
December 31, 2001 and 2000, and the results of their operations and their cash
flows for each of the three years in the period ended December 31, 2001 in
conformity with accounting principles generally accepted in the United States of
America. These financial statements are the responsibility of the Company's
management; our responsibility is to express an opinion on these financial
statements based on our audits. We conducted our audits of these financial
statements in accordance with auditing standards generally accepted in the
United States of America, which require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements, assessing
the accounting principles used and significant estimates made by management, and
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for our opinion.

As described in Note 2, the Company is dependent upon the Founders to meet
its cash flow requirements for the year 2002.

PRICEWATERHOUSECOOPERS SPA
Nicola Di Benedetto
(Partner)

Rome, February 25, 2002

F-50

EUROTEL L.L.C.

CONSOLIDATED BALANCE SHEETS
AS OF DECEMBER 31, 2001 AND 2000

The accompanying notes are an integral part of these financial statements.
F-51

EUROTEL L.L.C.

CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE YEARS ENDED DECEMBER 31, 2001, 2000 AND 1999

The accompanying notes are an integral part of the consolidated financial
statements.
F-52

EUROTEL L.L.C.

CONSOLIDATED STATEMENTS OF MEMBERS' EQUITY (DEFICIT) AND
COMPREHENSIVE INCOME (LOSS)
FOR THE YEARS ENDED DECEMBER 31, 2001, 2000 AND 1999

The accompanying notes are an integral part of the consolidated financial
statements.
F-53

EUROTEL L.L.C.

CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31, 2001, 2000, AND 1999

The accompanying notes are an integral part of the consolidated financial
statements.
F-54

EUROTEL L.L.C.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2001, 2000 AND 1999

1. ORGANIZATION:

EuroTel L.L.C. (the Company) was organized in December 1996 to act as a
holding company for a foreign investment in Pilicka Telefonia Sp. z.o.o.
(Pilicka). The Company directly held this investment until May 1998. In 1998,
the Company organized a subsidiary, PenneCom B.V. (PenneCom), to act as a Dutch
holding company for foreign investments. PenneCom is an indirect wholly owned
subsidiary of the Company. During 1998 and 1999, PenneCom's investments were
comprised of Pilicka and Monor Telefon Tarasasag Rt. (MTT). In May 1998, Pilicka
was contributed to PenneCom by the Company at its net book value, as the Company
and PenneCom were entities under common control. Results of operations include
the operations of the Company, PenneCom and Pilicka for the entire years ended
December 31, 2001, 2000 and 1999. In August 1998, the Founders (see definition
below) contributed a 48.7% financial interest in Monor Communications Group,
Inc. (MCG) at its book value to PenneCom. MCG held a 92.7% interest in MTT at
the time of contribution. On December 31, 1998, MCG was dissolved and its equity
was distributed. As a result, PenneCom held an interest ranging from 46.4% to
48.3% in MTT during 1998 and 1999, prior to the sale of MTT effective December
14, 1999. PenneCom's results of operations include the equity in the income of
MTT through December 14, 1999.

MTT provided telecommunication services to the Monor region of Hungary.
Pilicka is involved in the design, construction and operation of a
telecommunications network in the Radom, Piotrkow Trybunalski and Tarnobrzeg
regions in Poland. The Company's founding members are comprised of three
companies: Consolidated Companies, Inc.; D&E Investments, Inc., a wholly-owned
subsidiary of D&E Communications, Inc.; and HunTel Systems, Inc. (the Founders).
During 1999, Pilicka was converted from a Polish S.A. to a Polish Sp. zo.o.

On December 31, 2001, the Company and the Founders entered into an
agreement with PenneCom whereby PenneCom will transfer 100% of its shares in
Pilicka to the Company and the Founders in exchange for partial satisfaction of
loans and interest payable with an intended economic effect date of December 31,
2001. The agreement is irrevocable and there are no conditions to closing of
this transaction. Final share transfer is anticipated in March 2002. The full
year results of Pilicka are included in the Company's financial statements for
2001. See also Note 4.

2. LIQUIDITY:

The Company is dependent upon the Founders to provide the liquidity
necessary for the Company to meet its cash flow requirements for the year 2002.
The Founders also have historically provided guarantees and collateral for the
Company's long-term debt. See Notes 12 and 14.

3. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:

PRINCIPLES OF CONSOLIDATION

The consolidated financial statements include the accounts of the Company,
PenneCom and the Company's other direct and indirect wholly owned subsidiaries.
All significant intercompany accounts and transactions have been eliminated in
consolidation. PenneCom's interest in MTT was accounted for by the equity method
prior to its sale in December 1999.

FOREIGN CURRENCY TRANSLATION

The financial position and results of operations of Pilicka are measured
using the local currency, Polish zlotys, as the functional currency. Assets and
liabilities of this subsidiary are translated at the exchange rate in effect at
year-end. Income statement accounts are translated at the average rate of
exchange prevailing during the year. Translation adjustments arising from
differences in exchange rates from period to period are included
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

in the cumulative other comprehensive income (loss) account in shareholder's
equity. Foreign currency transaction gains and losses, as well as translation
adjustments for monetary assets and liabilities of Pilicka that are denominated
in currencies other than the Polish zloty, are recognized in the statement of
operations. Foreign exchange gains/(losses) in 2001, 2000 and 1999 include
$576,463 and $(339,899) and $(740,113), respectively, of unrealized foreign
exchange gains/(losses) resulting primarily from the translation of foreign
denominated payables at the balance sheet date.

CASH AND CASH EQUIVALENTS

Cash and cash equivalents include cash and highly liquid debt instruments
with an original maturity of three months or less and are carried at cost which
approximates fair value due to the short maturities.

DERIVATIVE INSTRUMENTS

Effective January 1, 2001, the Company adopted SFAS No. 133, "Accounting
for Derivative Instruments and Hedging Activities," and its related amendment,
SFAS No. 138, "Accounting for Certain Derivative Instruments and Certain Hedging
Activities" (collectively referred to as "SFAS No. 133"). These standards
require that all derivative instruments be recorded on the balance sheet at
their fair value as either assets or liabilities. When the Company purchases a
financial instrument or enters into other agreements in which a derivative
instrument is "embedded", it assesses whether the economic characteristics of
the embedded derivative are clearly and closely related to the economic
characteristics of the remaining components of the financial instrument (i.e.,
the host contract) and whether a separate, non-embedded instrument with the same
terms as the embedded instrument would meet the definition of a derivative
instrument. When it is determined that (1) the embedded derivative possesses
economic characteristics that are not clearly and closely related to the
economic characteristics of the host contract and (2) a separate, stand-alone
instrument with the same terms would qualify as a derivative instrument, the
embedded derivative is separated from the host contract, carried at fair value,
and designated as either (a) a fair-value, cash flow or foreign-currency hedge
or (b) a trading or non-hedging derivative instrument. Changes in fair value of
derivatives are recorded each period in earnings or comprehensive losses.

FAIR VALUE ESTIMATION

In assessing the fair value of non-traded derivative and other financial
instruments, the Company uses a variety of methods and makes assumptions that
are based on market conditions existing at each balance sheet date. Other
techniques, such as option pricing models and estimated discounted value of
future cash flows are used to determine fair value of the remaining financial
instruments.

The face value less any estimated credit adjustments for financial assets
and liabilities with maturity of less than one year are assumed to approximate
their fair value.

PROPERTY, PLANT AND EQUIPMENT

Property, plant and equipment are stated at cost. Construction-in-progress
represents the accumulation of costs associated with the construction of
telephone networks and other tangible fixed assets. The Company continually
monitors the progress of these construction projects and tracks each project by
location. The Company includes all costs that are directly attributable to the
network development in construction-in-progress. Expenditures for repairs and
maintenance, which do not materially extend the useful lives of the related
asset, are charged to expense as incurred. The cost of assets retired or
otherwise disposed of, and the accumulated depreciation thereon, is removed from
the accounts with any gain or loss realized upon sale or disposal charged or
credited to operations.

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

Depreciation expense is recorded in the month following the commencement of
use by applying the straight-line method over the estimated useful life of the
assets: leasehold improvements and buildings (10-25 years), telecommunication
equipment (10 years), and vehicles and other equipment (5-10 years).

INTANGIBLE ASSETS

Intangible assets include acquisition costs incurred in connection with the
acquisition of licenses to provide telecommunication services, software and
deferred financing costs. The licenses for the former Radom and Piotrkow
Trybunalski Voivodships were acquired through the Company's purchase of Pilicka.
Intangible assets also include amounts paid and payable to the Ministry of
Communications of Poland for the purchase of the former Tranobrzeg Voivodship
license. Licenses are stated at costs less accumulated amortization. If payment
for the license is deferred beyond normal credit terms, its cost is the net
present value of the obligation. The present value of the obligation is
calculated using the Company's effective borrowing rates at the moment the
license is granted. Any differences between the nominal price of the license and
its net present value are treated as interest costs. Interest costs are
capitalized up until the time when the network in that license territory becomes
operational or are recognized as interest expense over the period of the
obligation. Amortization is recorded on a straight-line basis over the period
for which the license is granted (15 years).

The deferred financing costs are related to long-term debt and are
amortized over the term of the debt.

The Company also has acquired the right for Pilicka to use a billing system
software, which is being amortized over the estimated period of use of three
years.

INCOME TAXES

The differences between the amounts included in these financial statements
for Pilicka and the tax basis of assets and liabilities, prepared in accordance
with the Polish Corporate Income Tax Law, have been recognized as temporary
differences for the purpose of recording deferred income taxes. All net
operating loss carryforwards are recognized as deferred tax assets. Valuation
allowances are recorded for deferred tax assets resulting from tax losses and
temporary timing differences of tax recognition when it is more likely than not
that the benefits will not be realized.

DUTCH TAX EXPENSE

Dutch tax expense was recognized as a result of the distribution paid from
PenneCom to EuroTel LLC in 1999.

RECOVERABILITY OF LONG-LIVED ASSETS

Management periodically reviews long-lived assets, property, plant and
equipment and intangible assets to be held and used in the business, for the
purpose of determining and measuring impairment on a recurring basis or when
events or changes in circumstances indicate that the carrying value of an asset
or group of assets may not be recoverable. Assets are grouped and evaluated for
possible impairment, and impairment is measured on the basis of the forecasted
discounted cash flows from operating results of the business over the estimated
remaining lives of the assets.

ACCOUNTING FOR LEASES

Leases of assets where a significant portion of the risks and rewards of
ownership are retained by the lessor are classified as operating leases.
Payments made under operating leases are charged to the income statement on a
straight-line basis over the period of the lease.

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

When an operating lease is terminated before the lease period has expired,
any payment required to be made to the lessor by way of penalty is recognized as
an expense in the period in which termination takes place.

REVENUES

Telecommunication service revenue from access to and the usage of networks
are recognized when services are provided. Commencing on January 1, 2000, the
Company recognizes revenue from installation fees over the period of the average
life of the customer, which is estimated to be five years for Pilicka. The
Company records revenue from the sale of equipment when the customer accepts
delivery. All revenues included in the consolidated statements of operations are
related to Pilicka's operations in Poland. See also Note 10.

CONCENTRATION OF RISK

Financial instruments, which potentially subject the Company to
concentrations of risk, include cash and cash equivalents and trade receivables.
The Company limits its risk associated with cash and cash equivalents by placing
its investments with highly rated financial institutions, usually as short-term
deposits. With respect to trade receivables, the Company limits its credit risk
by disconnecting service for certain customers who are past due with respect to
their payments.

Included in the consolidated balance sheet at December 31, 2001 and 2000
are the net assets of Pilicka's operations, all of which are located in Poland
and which total approximately $15,000,000 and $42,230,136, respectively,
including the cumulative translation adjustment.

COMPREHENSIVE INCOME (LOSS)

The Company has elected to present comprehensive income (loss) in the
statement of changes in members' equity. Comprehensive income (loss) consists of
the income (loss) for the period and the change in the foreign currency
translation adjustment.

USE OF ESTIMATES

The preparation of financial statements in conformity with generally
accepted accounting principles in the United States 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 period. Actual results could differ from those estimates.

RECLASSIFICATIONS

Certain 2000 amounts have been reclassified to conform to the 2001
presentation.

4. SALE OF PILICKA:

On December 31, 2001, the Company and the Founders entered into an
agreement with PenneCom whereby PenneCom will transfer 100% of its shares in
Pilicka to the Company and the Founders in exchange for satisfaction of loans
and interest payable totaling $15,000,000 with an intended economic effect date
of December 31, 2001. As a result of this agreement, the Company has recognized
a loss of $31,517,480 in 2001, which represents the excess of the carrying value
of the net assets over their net realizable value. The actual

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

share transfer is expected in March 2002. The net assets of Pilicka at December
31, 2001 and 2000 are as follows:

The Company will retain a 22.56% ownership interest in Pilicka after the
share transfer in March 2002 and will account for this investment under the
equity method.

All operating revenue of the Company is attributable to Pilicka. Pilicka's
full year results for 2001, 2000 and 1999 are included in the Consolidated
Statements of Operations of the Company and are summarized as follows:

5. RECEIVABLES:

Receivables consist of the following at December 31, 2001 and 2000:

VAT receivables relate to VAT refunds due on the purchase of property,
plant and equipment.

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

6. PROPERTY, PLANT AND EQUIPMENT:

Property, plant and equipment consists of the following at December 31,
2001 and 2000:

The write down of $28,195,381 relates to the transaction described in Note
4 and is recorded in the income statement as part of the loss on assets held for
sale.

The Company recorded a write down of $164,002 and $427,053 during 2001 and
2000, respectively, in relation to certain telecommunication equipment not
expected to be utilized. This loss amount has been presented in general and
administrative expenses. There have been no other events or changes in
circumstances that suggest that the recoverability of the carrying amount of
long-lived assets should be assessed.

Depreciation expense for the years ended December 31, 2001, 2000 and 1999
was $4,102,723, $3,210,484 and $1,940,646, respectively.

7. INTANGIBLE ASSETS:

Intangible assets consist of the following at December 31, 2001 and 2000:

The write down of $3,322,099 relates to the transaction described in Note 4
and is recorded in the income statement as part of the loss on assets held for
sale.

During the year ended December 31, 2000, Pilicka was notified by the
Ministry of Communications ("MOC") that, effective December 29, 2000, its
telecommunication license obligations originally payable in two equal
installments on March 31, 2001 and March 31, 2002 were deferred until March 31,
2011. As a result of the extension of these payment terms, Pilicka reduced the
amount of its intangible assets and the corresponding license obligations by
$590,403 based on the present value of these non-interest-bearing liabilities as
at December 31, 2000.

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EUROTEL L.L.C.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

Amortization expense for the years ended December 31, 2001, 2000 and 1999
was $736,572, $744,586 and $1,731,351, respectively, of which amortized
financing costs of $47,500, $47,500 and $916,378, respectively, were classified
as interest expense.

8. LOAN RECEIVABLE:

In July 2000, the Company loaned United Food Technologies BV (UFT),
$500,000 to expand its network of Wendy's restaurants in Hungary. UFT owns
equity interests in companies operating Wendy's franchises. The loan earns
interest at 20% (10% during the first year) and is due in July 2002. During 2001
and 2000, interest income related to the loan was $73,425 and $23,425,
respectively.

9. EMBEDDED DERIVATIVE INSTRUMENTS:

Pilicka has entered into lease agreements in the prior years that require
payments denominated in a currency other than the functional currency of Pilicka
or the lessor. These embedded foreign currency derivatives must be bifurcated
from the lease agreements and separately accounted for under the provisions of
FAS 133. As of January 1, 2001, the adoption of FAS 133 resulted in a cumulative
effect of an accounting change that increased the Company's net loss by $52,416,
net of income tax of $0. As at December 31, 2001, the positive fair value of
this embedded foreign currency derivative was $219,765. The fair value of this
embedded foreign currency derivative has been classified as current assets of
$34,350 and other long-term assets of $185,415.

10. INSTALLATION AND EQUIPMENT SALES REVENUE RECOGNITION:

Prior to January 1, 2000, the Company recorded installation revenue when a
customer was connected to the network. On January 1, 2000, the Company adopted
SAB 101 and changed its accounting policy with respect to the recognition of
installation revenue. The Company now recognizes revenue from installation fees
over the period of the average life of the customer, which is estimated to be
five years for Pilicka. In this regard during the year ended December 31, 2000
the Company has recorded an adjustment of $1,564,384 for the cumulative effect
on prior years as a result of this change. The Company recorded deferred revenue
at December 31, 2001 and 2000 of $1,409,450 and $1,813,571, respectively, in
connection with this change in accounting policy.

11. INVESTMENT IN MTT:

On December 14, 1999, the Company sold its investment in MTT, headquartered
in Budapest, Hungary, for cash and recorded a gain of $35,410,444. A summary of
MTT's financial information for the year ending December 31, 1999 is as follows:

The Company's equity in income (loss) is for the period January 1, 1999
through December 14, 1999.

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

12. DUE TO FOUNDERS:

Due to Founders consist of the following at December 31, 2001 and 2000:

Accounts payable to the Founders represent operating costs paid on behalf
of the Company by those entities. These amounts bear interest at a fixed rate of
15% (7% through February 1999). Interest expense incurred by the Company related
to these payables in 2001, 2000 and 1999 was $783,735, $618,089 and $330,825,
respectively. Beginning in 2002, the Company will not accrue interest on these
obligations. Total operating expenses incurred through related party
transactions by the Company were $1,517,632, $2,454,123 and $1,782,594 during
2001, 2000 and 1999, respectively.

The loans payable bear interest at a fixed rate of 15%. Interest expense
related to these loans recognized during 2001, 2000 and 1999 was $1,905,773,
$328,897 and $788,942, respectively. These loans are subordinate to the
long-term debt discussed in Note 14 and are due on demand. Beginning in 2002,
the Company will not accrue interest on these obligations.

As mentioned in Notes 1 and 4, upon PenneCom's transfer of 100% of
Pilicka's shares to the Founders and EuroTel per the December 31, 2001
agreement, the total payable to Founders will be reduced by $11,616,414.

Other related party transactions are described in Note 16.

13. CONVERTIBLE BONDS PAYABLE:

During 1999, the Company repaid convertible bonds in their entirety by
paying a premium of $3,222,740 as an incentive to the bondholders to terminate
certain rights under the bonds and the bond subscription agreement. The premium,
unamortized deferred financing costs, and expenses related to the extinguishment
are presented as an extraordinary item. The bonds accrued interest at 30% of
which $6,627,948 was expensed during 1999.

14. LONG-TERM DEBT:

In December 1999, the Company entered into a revolving credit agreement
with a bank which provided for borrowings through December 31, 2001 of up to
$40,000,000, and which increased to $50,000,000 in July 2000, with interest at
the Bank's base rate (9.5% at December 31, 2000). The Founders guaranteed the
debt and individually pledged investment securities to the Bank with a total
fair value of $26,000,000. The debt was also collateralized by the Company's
deposits at the Bank. The agreement restricts loans and advances to related
parties, the use of the proceeds from the sale of Pilicka and other transactions
with the parent company's members. Total borrowings under the agreement at
December 31, 2000 of $46,620,447 have been classified as current. In September
2001, the Company repaid the loan with proceeds from the arbitration award
discussed in Note 19 and with loans from the Founders.

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

15. INCOME TAXES:

UNITED STATES

EuroTel's taxable income passes to its members and therefore no taxes are
recognized related to its operations.

NETHERLANDS

PenneCom is subject to 35% Dutch corporate tax. However, any benefits
derived from "qualifying subsidiaries," which includes Pilicka, are exempt from
Dutch tax. All proceeds derived from the arbitration relating to the sale of
Pilicka fall within that exempt category. In conjunction with the above, all
costs that are attributable to such qualifying subsidiaries are not deductible
for Dutch tax purposes. Also, the loss that PenneCom has recorded on the
transfer of Pilicka in partial satisfaction of its debt to its various
creditors, will not be deductible. As a result, PenneCom has no taxable profit
or loss for 2001 and 2000. Therefore, no Dutch taxes have been recorded related
to PenneCom.

POLAND

Pilicka incurred tax losses since June 17, 1997 and, therefore, has not
paid income taxes in Poland.

Below is the analysis of deferred tax balances related to taxes in Poland:

Tax losses incurred in 2001, 2000 and 1999 are permitted to be utilized
over five years with 50% utilization restricted per annum. A full valuation
allowance was recorded as the Company does not expect to recover any deferred
tax assets through future tax deductions.

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EUROTEL L.L.C.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

16. RELATED PARTY TRANSACTIONS:

The Company paid $1,744,371, $2,426,754 and $594,917 to a law firm for
legal services during the years ended December 31, 2001, 2000 and 1999,
respectively, where one of the lawyers is a managing director of the Company.

Pilicka paid $195,400, $231,641 and $247,409 to an affiliated entity for
management services and the purchase of rights to use software during the years
ended December 31, 2001, 2000 and 1999, respectively. The amount payable to this
affiliate at December 31, 2001 and 2000 was $24,144 and $50,503, respectively.
Pilicka also made rental payments of $180,444, $193,513 and $173,351 during the
years ended December 31, 2001, 2000 and 1999, respectively, to a company
partially owned by a relative of a member of Pilicka's management board. The
amount payable to this affiliate at December 31, 2001 was $14,726. There was no
amount payable to this affiliate at December 31, 2000.

Other related party transactions with Founders are included in Note 12.

17. TELECOMMUNICATION LICENSES:

Pilicka has three licenses for the provision of telecommunications services
in the former Voivodships of Radom, Piotrkow Trybunalski, and Tarnobrzeg. Under
the license agreements, Pilicka is obliged to provide public telecommunications
services through its network for local traffic and through interconnection with
the regional and international networks of Telekomunikacja Polska S.A. for long
distance traffic. The terms of interconnection in each license area are
negotiated separately subject to guidelines established by the Minister of
Communications of Poland.

The licenses set forth requirements as to establishing the availability of
services to a specified number of customers. At December 31, 2000, Pilicka has
met the specified requirements in relation to the former Voivodships of Radom
and Piotrkow Trybunalski. However, Pilicka has not met the license requirements
for the former Voivodship of Tarnobrzeg. Pilicka believes that the likelihood
that the failure to meet these build-out milestones will have a material adverse
impact on the financial position of the company is remote. This assessment is
based on Pilicka's progress in this area as well as past governmental practice,
the market conditions in Poland and the uncertain nature of possible sanctions
and the regulatory process.

18. CONTINGENCIES AND COMMITMENTS:

Pilicka has certain long-term agreements to purchase telecommunication
equipment with domestic and foreign suppliers. The total amount of equipment
that Pilicka has committed to purchase after December 31, 2001 is $507,186.

Pilicka is contesting the quality of performance of telecommunications
equipment provided by one of its principal equipment suppliers. In accordance
with the terms of the contract, Pilicka has put the supplier on notice of
alleged performance deficiencies and has suspended its work under the contract.
The supplier previously had contested Pilicka's assertions and had indicated
that Pilicka would be subject to cancellation fees and penalties if the contract
was terminated. Pilicka and the supplier engaged in negotiations during the
second and third quarters of 1999, after which discussions ended. Pilicka
considers this dispute over and does not expect any further action by the
supplier to have a material adverse impact on the financial position or results
of operations of Pilicka.

Rent expense for the years ended December 31, 2001, 2000 and 1999 was
$551,783, $491,889 and $399,785, respectively.

On May 26, 2000, PenneCom settled a dispute with an investment banking firm
regarding the sale of Pilicka and MTT by paying $1,250,000 in an effort to avoid
the expense and uncertainties of litigation.

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

19. ARBITRATION AWARD:

On April 8, 1999, the Company signed an agreement to sell its interest in
Pilicka for consideration of $140,000,000, with an expected close in August
1999. In connection with the agreement, the Company received a $10,000,000
nonrefundable downpayment, which was recorded as deferred revenue. The
counterparty failed to perform under the contract. The Company commenced
arbitration before the International Court of Arbitration of the International
Chamber of Commerce (ICC) against the counterparty, seeking specific performance
by the counterparty, plus damages, interest and costs. During 2001, the Company
received an award, with amendments, which held in favor of PenneCom on the issue
of liability and awarded damages to PenneCom as follows: (1) $30,000,000 with
interest at 10% per annum from 1 August 1999 to the date of payment; (2)
$367,500 in respect of the costs of the ICC; and (3) $2,000,000 for PenneCom's
legal costs. On September 4, 2001, PenneCom received cash of $38,655,171, which
is reflected in the statement of operations as follows:

- Gain on arbitration award of $40,000,000. The total consists of
$30,000,000 from the award plus the $10,000,000 of deferred revenue.

- Interest income of $6,287,671, which represents the interest from August
1, 1999 until the date payment was received.

- A reduction of $2,367,500 in litigation costs relating to the sale of a
subsidiary as a result of the reimbursement of legal costs and ICC costs.

20. FAIR VALUE OF FINANCIAL INSTRUMENTS:

The fair value of financial instruments was estimated based on the
following methods and assumptions:

Cash and cash equivalents, accounts receivable and accounts payable: The
carrying amount approximates fair value due to the short maturity of these
instruments.

Loan receivable: The fair value approximates the carrying value due to the
variable interest-rate feature of this instrument.

Due to Founders: It is not practicable to estimate fair value of these
instruments due to the related party nature and unique features of the
instruments.

Long-term debt: Based on the variable interest rate, fair value is
estimated to approximate carrying value.

F-65