UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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: 333-51240
HORIZON PCS, INC.
(Exact name of registrant as specified in its charter)
DELAWARE 31-1707839
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
68 EAST MAIN STREET, CHILLICOTHE, OH 45601-0480
(Address of principal executive offices) (Zip Code)
(Registrant's telephone number, including area code): (740) 772-8200
Securities registered pursuant to Section 12(b) of the Act:
NONE
Securities registered pursuant to Section 12(g) of the Act:
NONE
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 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. [ ]
As of March 1, 2003, there were 26,646 shares of class A common stock
outstanding and 58,445,288 shares of class B common stock outstanding.
TABLE OF CONTENTS
PAGE
PART I 1
ITEM 1. Business.....................................................................................2
ITEM 2. Properties..................................................................................20
ITEM 3. Legal Proceedings...........................................................................20
ITEM 4. Submission of Matters to a Vote of Security Holders.........................................20
PART II 20
ITEM 5. Market for Registrant's Common Equity and Related Stockholder Matters.......................20
ITEM 6. Selected Financial Data.....................................................................22
ITEM 7. Management's Discussion and Analysis of Financial Condition and Results of Operation........23
ITEM 7A Quantitative and Qualitative Disclosures About Market Risk..................................56
ITEM 8. Financial Statements and Supplementary Data.................................................56
ITEM 9. Changes in and Disagreements With Accountants on Accounting and Financial Disclosure........56
PART III 57
ITEM 10. Directors and Executive Officers of the Registrant..........................................57
ITEM 11. Executive Compensation......................................................................59
ITEM 12. Security Ownership of Certain Beneficial Owners and Management..............................62
ITEM 13. Certain Relationships and Related Transactions..............................................64
ITEM 14. Controls and Procedures.....................................................................68
PART IV 69
ITEM 15. Exhibits, Financial Statement Schedules, and Reports on Form 8-K............................69
Horizon PCS, Inc. ("Horizon PCS") is the issuer of 14% Senior Discount
Notes due 2010 (the "discount notes"). In March 2001, the discount notes were
the subject of an exchange offer which was registered with the Securities and
Exchange Commission ("SEC") (Registration No. 333-51238). The Co-Registrants are
Horizon Personal Communications, Inc. ("HPC") and Bright Personal Communications
Services, LLC ("Bright PCS"), collectively, the "Operating Companies," which are
wholly-owned subsidiaries of Horizon PCS. Each of the Operating Companies has
provided a full, unconditional, joint and several guaranty of Horizon PCS'
obligations under the discount notes. Horizon PCS has no operations separate
from its investment in the Operating Companies. Pursuant to Rule 12h-5 of the
Securities Exchange Act, no separate financial statements and other disclosures
concerning the Operating Companies other than narrative disclosures set forth in
the Notes to the Consolidated Financial Statements have been presented herein.
Concurrent with the offering of the discount notes discussed above, Horizon PCS
issued 295,000 warrants to purchase up to 3,805,000 shares of Horizon PCS' class
A common stock. The warrants were registered with the SEC (Registration No.
333-51240). As used herein and except as the context otherwise may require, the
"Company," "we," "us," "our" or "Horizon PCS" means, collectively, Horizon PCS,
Inc., and the Operating Companies.
-i-
PART I
FORWARD-LOOKING STATEMENTS
This annual report on Form 10-K includes forward-looking statements within
the meaning of Section 27A of the Securities Act of 1933, as amended (the
Securities Act), and Section 21E of the Securities Exchange Act of 1934, as
amended (the Exchange Act), which can be identified by the use of
forward-looking terminology such as: "may", "might", "could", "would",
"believe", "expect", "intend", "plan", "seek", "anticipate", "estimate",
"project" or "continue" or the negative thereof or other variations thereon or
comparable terminology. All statements other than statements of historical fact
included in this annual report on Form 10-K, including without limitation, the
statements under "ITEM 1. Business" and "ITEM 7. Management's Discussion and
Analysis of Financial Condition and Results of Operation" and located elsewhere
herein regarding our financial position and liquidity are forward-looking
statements. These forward-looking statements also include, but are not limited
to:
o estimates of current and future population for our markets;
o forecasts of growth in the number of consumers and businesses using
personal communication services;
o estimates for churn and ARPU (defined below);
o statements regarding our plans for and costs of the build-out of our
PCS network;
o statements regarding our anticipated revenues, expense levels,
liquidity and capital resources and projections of when we will
achieve break-even or positive EBITDA and operating cash flow; and
o the anticipated impact of recent accounting pronouncements.
Although we believe the expectations reflected in such forward-looking
statements are reasonable, we can give no assurance such expectations will prove
to have been correct. Important factors with respect to any such forward-looking
statements, including certain risks and uncertainties that could cause actual
results to differ materially from our expectations (Cautionary Statements), are
disclosed in this annual report on Form 10-K, including, without limitation, in
conjunction with the forward-looking statements included in this annual report
on Form 10-K. Important factors that could cause actual results to differ
materially from those in the forward-looking statements included herein include,
but are not limited to:
o our ability to continue as a going concern;
o our significant level of indebtedness;
o the likelihood that we will fail to comply with debt covenants in our
senior secured credit facility;
o the nature and amount of the fees that Sprint charges us for back
office services;
o our potential need for additional capital or the need for refinancing
existing indebtedness;
o our dependence on our affiliation with Sprint and our dependence on
Sprint's back office services;
o the need to successfully complete the build-out of our portion of the
Sprint PCS network on our anticipated schedule;
o changes or advances in technology and the acceptance of new technology
in the marketplace;
o competition in the industry and markets in which we operate;
o the potential to continue to experience a high rate of customer
turnover;
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o our lack of operating history and anticipation of future losses;
o potential fluctuations in our operating results;
o our ability to attract and retain skilled personnel;
o changes in government regulation; and
o general political, economic and business conditions.
These forward-looking statements involve known and unknown risks,
uncertainties and other factors which may cause our actual results, performance
or achievements to be materially different from any future results, performance
or achievements expressed or implied by such forward-looking statements. All
subsequent written and oral forward-looking statements attributable to us or
persons acting on our behalf are expressly qualified in their entirety by the
Cautionary Statements. See "Item 7.Management's Discussion and Analysis of
Financial Condition and Results of Operation" for further information regarding
several of the risks and uncertainties.
ITEM 1. BUSINESS
References in this annual report on Form 10-K to us as a provider of
wireless personal communications services ("PCS") or similar phrases generally
refer to our building, owning and managing our portion of the Sprint PCS
wireless network pursuant to our PCS affiliation agreements with Sprint. Sprint
holds the spectrum licenses and controls the network through its agreements with
us.
OVERVIEW
As a PCS affiliate of Sprint, we have an exclusive right to market Sprint
PCS products and services to a total population of over 10.2 million people in
portions of twelve contiguous states. Our territory covers 54 markets in parts
of Indiana, Kentucky, Maryland, Michigan, New Jersey, New York, North Carolina,
Ohio, Pennsylvania, Tennessee, Virginia, and West Virginia. These territories
are located between Sprint's Chicago, New York and Raleigh/Durham markets and
connect or are adjacent to 15 major Sprint PCS markets that have a total
population of over 59 million people. We believe that connecting or being
adjacent to existing Sprint PCS markets is important to Sprint's and our
strategy to provide seamless, nationwide PCS. As a PCS affiliate of Sprint, we
market digital personal communications services under the Sprint and Sprint PCS
brand names. At December 31, 2002, we had approximately 270,900 PCS subscribers
in our territory.
Horizon PCS is a majority-owned subsidiary of Horizon Telcom. Horizon
Telcom is a holding company which, in addition to its common stock ownership in
Horizon PCS, owns 100% of: 1) The Chillicothe Telephone Company, a local
telephone company; 2) Horizon Services, Inc. ("Horizon Services"), which
provides administrative services to Horizon PCS and other Horizon Telcom
affiliates; and 3) Horizon Technology, Inc. ("Horizon Technology"), a long
distance and Internet services business.
RECENT DEVELOPMENTS
As of December 31, 2002, the Company was in compliance with its covenants
with regards to its outstanding debt. However, we believe that it is probable
that the Company will violate one or more covenants under its secured credit
facility in 2003. The failure to comply with a covenant would be an event of
default under our secured credit facility, and would give the lenders the right
to pursue remedies. These remedies could include acceleration of amounts due
under the facility. If the lenders elected to accelerate the indebtedness under
the facility, this would also represent a default under the indentures for our
senior notes and discount notes (see "Note 11" in the "Notes to Consolidated
Financial Statements") and would give Sprint certain remedies under our Consent
and Agreement with Sprint. See "The Sprint Agreements." The Company does not
have sufficient liquidity to repay all of the indebtedness under these
obligations. Horizon PCS's independent auditors' report dated March 4, 2003
states that these matters raise substantial doubt about the Company's ability to
continue as a going concern.
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In addition, without the additional borrowing capacity under the senior
credit facility, significant modifications in the amounts charged by Sprint
under the management agreements, significant modifications in the amounts
charged by the Alliances under the Network Service Agreement and/or a
restructuring of our capital structure, the Company likely does not have
sufficient liquidity to fund its operations so that it can pursue its desired
business plan and achieve positive cash flow from operations.
The Company plans to take the following steps (some of which it has already
commenced) within the next six months to achieve compliance under its debt
facilities and to fund its operations:
o Entering into negotiations with Sprint to adjust the amounts charged
by Sprint to the Company under the Sprint management agreements to
improve the Company's cash flow from operations.
o Entering into negotiations with the lenders under our senior credit
facility to modify our debt covenants and, if necessary, to obtain
waivers and/or a forbearance agreement with respect to defaults under
the senior credit facility.
o Entering into negotiations with the lenders under our senior credit
facility to obtain the right to borrow under the $95 million line of
credit and to modify the repayment terms of this facility.
o If the lenders under the senior credit facility accelerate the senior
secured debt, negotiating a waiver or forbearance agreement with
representatives of the holders of our senior notes and discount notes.
o Entering into negotiations or arbitration with the Alliances to reduce
the amounts charged by Alliances to the Company under the network
agreements to improve the Company's cash flow from operations.
o Pursuing means to reduce operating expenses by critically analyzing
all expenses and entering into pricing negotiations with key vendors.
The Company would need to be successful in these efforts to be in position
to execute its business plan and achieve positive cash flow. The Company can
give no assurance that it will be successful in these efforts. In its early
discussions with Sprint, Sprint has indicated reluctance in modifying the fee
structure as needed under the first item listed above.
The Company has engaged Berenson & Company, an investment banking firm, to
assist in its efforts to renegotiate or restructure its equity, debt and other
contractual obligations.
If the Company is unable to restructure its current debt and other
contractual obligations as discussed above, it would need to:
o obtain financing to satisfy or refinance its current obligations;
o find a purchaser or strategic partner for the Company's business or
otherwise dispose of its assets; and/or
o seek bankruptcy protection.
CURRENT OPERATING ENVIRONMENT AND OUR BUSINESS STRATEGY
Since the beginning of 2002, the wireless communications industry,
including Sprint and its PCS affiliates, has experienced significant declines in
per share equity prices and debt ratings. We believe that this decline in
wireless stocks and debt ratings results from a weaker outlook for the wireless
industry than previously expected. Reasons for a weaker operating environment
include:
o declining rates of subscriber growth in the United States caused by
the lack of availability of new quality subscribers, as overall
penetration rates in the wireless industry approximate 50%;
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o concerns that intense competition among wireless service providers in
the United States will continue to lead to service offerings of
increasingly large bundles of minutes at lower prices;
o higher rates of churn resulting from intense competition and programs
for lower credit rating ("sub-prime") subscribers; and
o the highly leveraged capital structures of many wireless providers and
a lack of viable financing alternatives.
Our business has been and continues to be affected by these general market
conditions. In addition, as a result of our dependence on Sprint, we are also
confronted with additional factors that have had a negative impact on our
operations such as:
o At Sprint's direction, we offered a no deposit account spending limit
("NDASL") program that attracted sub-prime subscribers and contributed
to high rates of churn. Sprint has discontinued the NDASL program and
replaced it with Clear Pay, which tightened credit restrictions, and
Clear Pay II, which re-instituted deposit requirements for most lower
credit quality customers and introduces additional controls on loss
exposure;
o The amount of the affiliation and back office fees and roaming and
other charges that we pay to Sprint expressed as a percentage of our
service revenues has increased over the years to a level of 42% for
2002. Consequently, our ability to control costs through our own cost
cutting measures is more limited;
o Over the past year, Sprint has taken a number of actions which
resulted in unanticipated charges or increases in charges to the
Company. Some of these charges resulted from prior billing errors by
Sprint, while others were charges to which we had little or no advance
notice. The effect of these actions was to reduce our liquidity and
interject a greater degree of uncertainty to our business and
financial planning;
o Our dependence on Sprint to provide customer care provides us limited
tools to improve the quality of customer care, which may contribute to
higher churn; and
o Our dependence on Sprint to provide services, including back-office
services, gives us a more limited control of our own working capital.
In reaction to these changes, we have implemented a variety of operational
management initiatives, including:
o We have reorganized our sales group and added strategic positions to
better manage our sales team;
o We have reduced planned capital expenditures and preserved cash by
delaying or eliminating plans to expand our network of company-owned
retail stores, and have held headcount steady to control operating
expenses within the retail channel;
o We have implemented several network cost control initiatives,
including a reduction of engineering and operations staffing in
recognition of a transition from network deployment activities toward
steady-state network operations;
o We are reducing advertising expenditures to preserve cash while
concurrently increasing sales productivity through the use of outbound
local marketing, business development and community relations efforts
directed through our retail stores and local marketing support staff;
o We have implemented a churn reduction initiative as a proactive
response to keep valuable customers and to assist the customer care
services provided by Sprint;
o We reinstituted the deposit on sub-prime subscribers in an effort to
focus on value added, long-term subscribers. As a result, our
percentage of higher credit rating ("prime") customers in our
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subscriber portfolio increased to 74% at December 31 2002, from 65% at
its lowest point on March 31, 2002; and
o We have commenced negotiations with Sprint for a modification in the
manner that we are charged for back office services.
As a result of the industry trends discussed above and the fact that
wireless industry acquisitions subsequent to the Company's acquisition of Bright
PCS have been valued substantially lower on a price per population and price per
subscriber basis, the Company believed that the fair value of Bright PCS and its
assets had been reduced. The Company recorded a goodwill impairment of
approximately $13.2 million during the quarter ended December 31, 2002 (See
"Note 7" under "Notes to Consolidated Financial Statements").
HISTORY AND BACKGROUND
In November 1996, we acquired PCS licenses in the Federal Communications
Commissions' ("FCC") C-Block auction giving us the right to provide service to
five markets in Ohio, West Virginia and Kentucky with a total population of
approximately 1.0 million residents. In August 1997, approximately ten months
after receiving our licenses, we launched PCS service as an independent service
provider operating under the "Horizon Personal Communications" brand name. We
were the third C-Block licensee to launch PCS service in the United States and
the first to use CDMA technology.
In June 1998, we returned all of our FCC licenses except for a portion of
the license covering our Chillicothe, Ohio, market in exchange for the
forgiveness of our FCC debt. In connection with the return of our FCC licenses,
we agreed to become one of five charter PCS affiliates of Sprint. Our initial
grant of markets from Sprint consisted of seven markets in Ohio, West Virginia
and Kentucky with a total population of approximately 1.6 million residents.
This grant included the five markets for which we originally held licenses. In
November 1998, we began offering PCS service under the Sprint licenses. However,
we continued to use "Horizon Personal Communications" as the primary brand for
marketing our PCS service.
In August 1999, Sprint granted us 17 additional markets in Virginia, West
Virginia, Tennessee, Maryland, Kentucky, North Carolina and Ohio with a total
population of approximately 3.3 million residents. In conjunction with this
second grant, we also entered into a network services agreement with the West
Virginia PCS Alliance and Virginia PCS Alliance, which we refer to as the
Alliances. The Alliances are two related, independent PCS providers offering
services under the NTELOS brand. Under this agreement, we obtained the right to
use their wireless network to provide Sprint PCS services to our customers in
most of these new markets. At December 31, 2002, the Alliances' network provided
coverage to 1.8 million residents, or 62% of their network's portion of our
total population.
In September 1999, Horizon Telcom sold its interest in the towers it owned
to SBA Communications, Corp. ("SBA"), and invested the net proceeds in Horizon
PCS. Prior to the sale, we had been leasing the towers from Horizon Telcom. We
now lease those towers from SBA.
In September 1999, we became one of the founders of Bright PCS, receiving a
26% equity interest in exchange for an equity contribution of approximately $3.1
million. Shortly after our investment, Bright PCS became the exclusive PCS
affiliate of Sprint for 13 markets in Indiana, Ohio and Michigan, with a total
population of approximately 2.4 million residents. At that time, we also entered
into a management agreement with Bright PCS under which we agreed to manage
Bright PCS' network build-out and operations. We launched service in
substantially all of the Bright PCS markets in October 2000.
In December 1999, we completed a two-month transition from a co-branded
marketing strategy to marketing and selling all of our products and services
exclusively under the "Sprint PCS" brand name, which gave us full access to
Sprint's major national retailers.
In May 2000, Sprint granted us an additional 17 markets in Pennsylvania,
New York, Ohio and New Jersey with a total population of approximately 2.9
million residents.
In June 2000, we acquired the remaining 74% of Bright PCS that we did not
already own to become a 100% owner. As consideration for the outstanding Bright
PCS equity, we exchanged 4.7 million shares of our class B common stock, equal
to 8% of our outstanding shares of all classes of our common stock prior to the
5
acquisition, and 31,912 shares of Horizon Telcom common stock, equal to 8% of
the outstanding shares of Horizon Telcom, which we acquired in February 2000.
On September 26, 2000, an investor group led by Apollo Management purchased
$126.5 million of our convertible preferred stock in a private placement.
Concurrently, holders of a $14.1 million short-term convertible note (including
accrued interest of $1.1 million) converted it into the same convertible
preferred stock purchased by the investor group. Concurrently, the Company
received $149.7 million from the issuance of $295.0 million of 14% discount
notes and negotiated a $225.0 million secured credit facility (later increased
to a $250.0 million facility) with a bank group. The discount notes were subject
to an exchange offer filed with the SEC which was completed.
In December 2001, we received $175.0 million from our offering of 13.75%
senior notes. The senior notes were subject to an exchange offer which was
completed.
The Sprint PCS agreements require the Company to interface with the Sprint
PCS wireless network by building the Company's network to operate on PCS
frequencies licensed to Sprint in the 1900 MHz range. Under the Sprint PCS
agreements, we have agreed to:
o construct and manage a network in HPCS' territory in compliance with
Sprint's PCS licenses and the terms of the management agreement;
o distribute, during the term of the management agreement, Sprint PCS
products and services; and
o conduct advertising and promotion activities in HPCS' territory.
The Company must comply with Sprint's PCS program requirements for
technical standards, customer service standards, national and regional
distribution and national accounts programs to the extent that Sprint meets
these requirements. For further discussion of the Sprint PCS agreements, see
"The Sprint PCS Agreements" below.
OPERATIONAL ANALYSIS
We focused a significant amount of our operational efforts over the past
twelve months on upgrading our wireless network to be able to provide the first
level of third generation ("3G") network services marketed by Sprint nationally
as "PCS Vision." In conjunction with Sprint's nationwide launch of PCS Vision,
we began providing 3G services across our network in mid-August 2002.
Subscribers are now able to connect to the Internet with their handsets, PDA's,
and laptops at speeds of up to 144 kilobits per second ("kbps"). The average
user will experience peak rates of 75-80 kbps, which is two to three times
faster than historical dial-up speeds. We can now offer several new products and
services to our subscribers.
In addition to the 3G upgrades, 253 cell sites were added to both
substantially complete our build-out requirements with Sprint and expand
coverage and capacity where necessary. At December 31, 2002, we covered 73% of
the total population 10.2 million in our territory.
SPRINT
Sprint operates the nation's largest all-digital, all-PCS wireless network,
serving more than 4,000 cities and communities across the country. Sprint has
licensed PCS coverage of more than 280 million people in all 50 states, Puerto
Rico and the U.S. Virgin Islands. In August 2002, Sprint became the first
wireless carrier in the country to launch next generation services nationwide
delivering faster speeds and advanced applications on Vision-enabled phones and
devices.
Sprint Affiliation. We have the exclusive right to use the Sprint and
Sprint PCS brand names for the sale of Sprint PCS products and services in our
territory. Additionally, we believe that Sprint, using CDMA technology, has
developed a path to wireless high-speed data that will ultimately benefit us as
customer demand for robust data enabled services increases. In addition,
Sprint's national advertising campaigns, national distribution channels and
developed marketing programs are provided to us under our Sprint PCS agreements.
We offer the same strategic pricing plans, promotional campaigns and handset and
accessory promotions as Sprint.
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Marketing and pricing. Our use of the Sprint national pricing strategy
offers our subscribers standardized service plans. Sprint's pricing plans are
typically structured with monthly recurring charges, large local calling areas,
bundles of minutes and service features such as voicemail, caller ID, call
waiting, call forwarding and three-way calling. We also feature Sprint Free and
Clear plans, which offer plans for consumer and business subscribers, and
include long distance calling from anywhere on the Sprint PCS nationwide
network. In addition, Sprint national Free and Clear plans include the option to
choose free long distance calling from anywhere on Sprint PCS' nationwide
network, a package of off-peak minutes or the Sprint PCS Wireless Web.
Local focus. Our local focus enables us to supplement Sprint's marketing
strategies with our own strategies tailored to each of our specific markets.
These include attracting local businesses to diversify our distribution channels
and using local radio and newspaper advertising to sell our products and
services in each of our markets. We also enhance our local focus with specific
service plans called Area-wide Plans. These plans are designed for our
territories to create a more competitive product to those offered by other
regional or local providers. We have established a local sales force to execute
our marketing strategy through company-owned Sprint PCS stores and employ a
direct sales force targeted to business sales. Our PCS affiliation with Sprint
provides us with access to major national retailers under Sprint's existing
sales and distribution agreements and other national sales and distribution
channels, including Radio Shack, Best Buy, Circuit City and Office Depot. In
addition to the Sprint provided channels above, we own and manage 44 Sprint PCS
retail stores throughout our territory. For the year ended December 31, 2002,
our retail stores provided approximately 40% of our gross customer additions.
NETWORK BUILD-OUT
Our network build-out strategy is to provide service to the largest
communities in our markets and to cover interstates and primary roads connecting
these communities to each other, and to the adjacent major markets owned and
operated by Sprint. We believe that we have substantially completed our
build-out requirements. Our network now offers service to 7.4 million residents,
or 73% of the total population in our territory.
Switching. We currently use three switching centers in Johnson City,
Tennessee, Erie, Pennsylvania, and Fort Wayne, Indiana, to provide services to
our network. We also utilize the Alliance's two switching centers under our
network services agreement (see "Alliances Network Services Agreement" below). A
switching center serves several purposes, including routing calls, managing call
handoff, managing access to the public telephone network and providing access to
voice mail. We believe the capacity of our switching centers is adequate to
accommodate our planned growth.
CDMA (Code Division Multiple Access) Technology. Sprint's network and
Sprint's network partners' networks all use CDMA technology. CDMA technology is
fundamental to accomplishing our business objective of providing high volume,
high quality airtime at a low cost. We believe that CDMA provides important
system performance benefits. CDMA systems offer more powerful error correction,
less susceptibility to fading and less interference than analog systems. Using
enhanced voice coding techniques, CDMA systems achieve voice quality that is
comparable to that of the typical wireline telephone. This CDMA vocoder
technology also employs adaptive equalization, which filters out annoying
background noise more effectively than existing wireline, analog cellular or
other digital PCS phones. CDMA technology also allows a greater number of calls
within one allocated frequency and reuses the entire frequency spectrum in each
cell. In addition, CDMA technology combines a coding scheme with a low power
signal to enhance security and privacy. As a subscriber travels from one cell
site to another cell site, the call must be "handed off" to the second cell
site. CDMA systems transfer calls throughout the network using a technique
referred to as soft hand-off, which connects a mobile subscriber's call with a
new cell site while maintaining a connection with the cell site currently in
use.
CDMA standards and products allow existing CDMA networks to be upgraded to
the next generation of wireless technology. This technology offers data speeds
of up to 144 kbps voice capacity improvements of over 50% and improved battery
life in the handset.
ALLIANCES NETWORK SERVICES AGREEMENT
The Alliances are two related, independent PCS providers offering service
under the NTELOS brand name. In August 1999, we entered into a network services
agreement with the Alliances for 13 of our markets in Virginia and West
Virginia. Under this agreement, we are entitled to use the Alliances' wireless
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network and equipment to provide services to our customers in these markets. The
Alliances are required to maintain their network to Sprint PCS technical
standards. We pay the Alliances a minimum monthly charge for a fixed number of
minutes and a per minute of use charge for minutes in excess of the fixed number
of minutes.
As of December 31, 2002, the Alliances had deployed 510 cell sites within
our markets in West Virginia and Virginia and provided coverage to approximately
62% of the total population of 2.9 million residents in the markets covered by
our network services agreement.
In the event we terminate our agreement with the Alliances because of the
Alliances' breach of the agreement, we have the right to continue to use the
Alliances' network for up to 36 months after the termination at rates which
reflect a significant discount from the standard pricing terms under our
agreement. This is intended to enable us to continue to provide services to our
customers while we build-out our own network. In addition, after December 31,
2003, we have the right to overbuild the Alliances' markets, on a
market-by-market basis, at any time for any reason.
On March 4, 2003, NTELOS and certain of its subsidiaries filed voluntarily
petitions for reorganization under Chapter 11 of the U.S. Bankruptcy Code in the
U.S. Bankruptcy Court for the Eastern District of Virginia. The results of
NTELOS' restructuring could have a material adverse impact on our operations.
Pursuant to bankruptcy law, the Alliances have the right to assume or reject the
network services agreement. If the Alliances reject the network services
agreement, we will lose the ability to provide service to our subscribers in
Virginia and West Virginia through the Alliances' Network and Sprint may take
the position that we would be in breach of our management agreements with
Sprint.
Prior to the Alliances' bankruptcy filing, Horizon had asserted that the
Alliances had overcharged Horizon approximately $4,799,000 for charges that were
neither authorized nor contemplated by the network services agreement. As a
result of the Alliances' bankruptcy filing, Horizon was at risk that any
subsequent payments that it would make for services under the network services
agreement could impair its setoff or recoupment rights with respect to its claim
for a repayment of the unauthorized charges. Consequently, Horizon declined to
make a scheduled payment of $3 million to the Alliances on March 11, 2003 for
services rendered by the Alliances in January 2003 and, on that date, filed a
motion in the Alliances' bankruptcy case to protect its rights.
On March 12, 2003, the Alliances telecopied to Horizon a letter notifying
Horizon of the failure to make payment on the January 2003 invoice, which letter
purported to be a ten-business day notice under the network services agreement
that would give the Alliances the right to terminate the agreement at the
conclusion of such ten-day period.
On March 24, 2003, Horizon and the Alliances entered into a Stipulation
which provided that Horizon would pay the January 2003 and February 2003
invoices, the bankruptcy court would provide procedural protection of Horizon's
claim, the Alliances would withdraw the default notice and the parties would
move forward to settle or arbitrate the merits of Horizon's claim. On March 26,
2003, the Court in the NTELOS bankruptcy case approved the Stipulation.
COMPETITION
Given the broad geographic coverage of our territory, we face substantial
competition from a large number of other wireless providers. We compete, to
varying degrees, with regional and national cellular, PCS and other wireless
service providers. Currently, we believe our strongest competition is from
cellular providers, many of which have been operating in our markets and
building their customer base for a number of years.
Our largest single competitor is Verizon Wireless, which offers service in
the majority of our markets. We also face significant competition from AT&T
Wireless, T-Mobile and Nextel, which operates in conjunction with their
affiliates in almost all of our markets. Our primary competitors offer a
wireless service that is generally comparable to our PCS service. The intense
competition among wireless service providers in the United States will likely
continue to lead to service offerings of increasingly large bundles of minutes
at lower prices.
8
In addition, we compete with paging, dispatch and other mobile
telecommunications companies in our markets. Potential users of PCS systems may
find their communications needs satisfied by other current and developing
technologies. One or two-way paging or beeper services that feature voice
messaging and data display as well as tone-only service may be adequate for
potential customers who do not need immediate two-way voice communications.
In the future, we expect to face increased competition from entities
providing similar services using other communications technologies, including
satellite-based telecommunications and fixed wireless providers. While few of
these technologies and services are currently operational, others are being
developed or may be developed in the near future.
INTELLECTUAL PROPERTY
"Sprint," the Sprint diamond design logo, "Sprint PCS," "Sprint Personal
Communications Services," "The Clear Alternative to Cellular" and "Experience
the Clear Alternative to Cellular Today" are service marks registered with the
United States Patent and Trademark Office. These service marks are owned by
Sprint. Pursuant to the trademark and service mark license agreements, we have
the right to use, royalty-free, the Sprint and Sprint PCS brand names and the
Sprint diamond design logo and other service marks of Sprint in connection with
marketing, offering and providing licensed services to end-users and resellers,
solely within our territory.
Except in limited instances, Sprint has agreed not to grant to any other
person a right or license to provide or resell, or act as agent for any person
offering, licensed services under the licensed marks in our market areas except
as to Sprint's PCS marketing to national accounts and the limited right of
resellers of Sprint PCS to sell their products and services in our market areas.
In all other instances, Sprint reserves for itself and its affiliates the right
to use the licensed marks in providing its services, subject to its exclusivity
obligations described above, whether within or without our territory.
The trademark license agreements contain numerous restrictions with respect
to the use and modification of any of the licensed marks. See "The Sprint PCS
Agreements: The Trademark and Service Mark License Agreements."
This annual report on Form 10-K includes product names, trade names and
trademarks of other companies. We do not have any rights with respect to these
product names, trade names and trademarks.
SUPPLIERS AND EQUIPMENT VENDORS
We do not manufacture any of the handsets or network equipment we use in
our operations. We purchase our network equipment and handsets pursuant to
various Sprint vendor arrangements that provide us with volume discounts. These
discounts have reduced the overall capital required to build our network.
We currently purchase our handsets from Sprint and our accessories from
Sprint and certain other third-party vendors. Our agreements with Sprint require
us to pay Sprint $4.00 for each 3G handset that we purchase either directly from
Sprint or from a Sprint authorized distributor. We agreed to pay this fee
starting with purchases on July 1, 2002 and ending on the earlier of December
31, 2004 or the date on which the cumulative 3G handset fees received by Sprint
from all Sprint network partners equal $25,000,000. We further agreed to
purchase 3G handsets only from Sprint or a Sprint authorized distributor during
this period.
EMPLOYEES
As of December 31, 2002, we employed 580 full-time employees, including 418
in sales and marketing, 136 technicians and 26 in executive, finance and
administration. None of our employees are represented by a labor union. We
believe we have good relations with our employees.
9
THE SPRINT PCS AGREEMENTS
The following is a summary of the material terms and provisions of the
Sprint PCS agreements. The summary applies to the Sprint PCS agreements for both
Horizon Personal Communications and Bright PCS except where otherwise indicated.
The Sprint PCS agreements, in their entirety, are included as exhibits to this
annual report of Form 10-K.
OVERVIEW OF SPRINT RELATIONSHIP AND PCS AGREEMENTS
We have eight major agreements with Sprint (collectively, the "Sprint PCS
Agreements"). Under the Sprint PCS agreements, we exclusively market PCS
services under the Sprint and Sprint PCS brand names in our markets. The Sprint
PCS agreements require us to interface with the Sprint PCS wireless network by
building our network to operate on PCS frequencies licensed to Sprint in the
1900 MHz range. The Sprint PCS agreements also give us access to Sprint's
equipment discounts, roaming revenue from Sprint PCS customers traveling into
our territory, and various other back office services. The Sprint PCS agreements
have initial terms of twenty years with three ten-year renewals which would
lengthen the contracts to a total of fifty years. The Sprint PCS agreements will
automatically renew for each additional ten-year term unless Sprint or we
provide the other with two years' prior written notice to terminate the Sprint
PCS agreements. The initial term of the agreements will expire in 2018.
The agreements consist of one of each of the following for Horizon Personal
Communications and one of each for Bright PCS:
o the management agreement;
o the services agreement; and
o the trademark and service mark license agreement with Sprint.
THE MANAGEMENT AGREEMENT
Under our Sprint PCS agreements, we have agreed to:
o construct and manage a network in our territory in compliance with
Sprint's PCS licenses and the terms of the management agreement;
o distribute, during the term of the management agreement, Sprint PCS
products and services; and
o conduct advertising and promotion activities in our territory.
Sprint will monitor our network operations and has unconditional access to
our network.
Exclusivity. We are designated as the only person or entity that can manage
or operate a PCS network for Sprint in our territory. Sprint is prohibited from
owning, operating, building or managing another wireless mobility communications
network in our territory while our management agreement is in place and no event
has occurred that would permit the agreement to terminate. Sprint is permitted
under our agreement to make national sales to companies in our territory, and as
required by the FCC, to permit resale of the Sprint PCS products and services in
our territory. We accrue the financial benefits of either of these activities.
Network build-out. The management agreement specifies the terms of the PCS
affiliation with Sprint, including the required network build-out plan. We have
agreed to operate our network to provide for a seamless handoff of a call
initiated in our territory to a neighboring Sprint PCS network.
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Our long-term affiliation agreements with Sprint, which we refer to as the
Sprint PCS agreements, require us to build and operate the portion of the Sprint
PCS network located in our territory in accordance with Sprint's technical
specifications and coverage requirements. The agreements also require us to
provide minimum network coverage to the population within each of the markets
that make up our territory by specified dates.
Under our original Sprint PCS agreements, we were required to complete the
build-out in several of our markets in Pennsylvania and New York by December 31,
2000. Sprint and HPC agreed to an amendment of the build-out requirements, which
extended the dates by which we were to launch coverage in several markets. The
amended Sprint PCS agreement provides for monetary penalties to be paid by us if
coverage is not launched by these extended contract dates.
Products and services. The management agreement identifies the products and
services that we can offer in our territory. These services include Sprint PCS
consumer and business products and services available as of the date of the
agreements, or as modified by Sprint. We are allowed to sell wireless products
and services that are not Sprint PCS products and services if those additional
products and services do not otherwise violate the terms of the agreement, cause
distribution channel conflicts, materially impede the development of the Sprint
PCS network, cause consumer confusion with Sprint's PCS products and services or
violate the trademark lease agreements. We may cross-sell services such as
Internet access, customer premise equipment and prepaid phone cards with Sprint
and other PCS affiliates of Sprint. If we decide to use third parties to provide
these services, we must give Sprint an opportunity to provide the services on
the same terms and conditions. We cannot offer wireless local loop services
specifically designed for the competitive local exchange market in areas where
Sprint owns the local exchange carrier unless we name the Sprint owned local
exchange carrier as the exclusive distributor or Sprint approves the terms and
conditions. Subject to agreements existing before we became a PCS affiliate of
Sprint, we are required to use Sprint's long distance service which we can buy
at wholesale rates.
Service pricing. We must offer Sprint PCS subscriber pricing plans
designated for regional or national offerings, including Sprint Free and Clear
plans. We are permitted to establish our own local price plans for Sprint's PCS
products and services offered only in our territory, subject to the terms of the
agreement, consistency with Sprint's PCS regional and national pricing plans,
regulatory requirements, capability and cost of implementing the rate plans in
Sprint's systems and Sprint's approval.
Fees. We are entitled to receive from Sprint an amount equal to 92% of
collected revenues under the Sprint PCS agreements. Collected revenues include
revenue from Sprint PCS subscribers based in our territory, excluding outbound
roaming, and inbound non-Sprint PCS roaming. Except in the case of taxes, we are
entitled to 100% of the following revenues that are not considered collected
revenues:
o outbound non-Sprint PCS roaming revenue;
o inbound Sprint PCS roaming fees;
o proceeds from the sales of handsets and accessories through our
distribution channels; and
o proceeds from sales not in the ordinary course of business.
Roaming. Although many Sprint PCS subscribers will purchase a bundled
pricing plan that allows roaming anywhere on the Sprint PCS network without
incremental roaming charges, we will earn roaming revenues from every minute
that a Sprint PCS subscriber not based in our territory and any non-Sprint PCS
subscriber uses our network. We will earn revenues from Sprint based on an
established per-minute rate for Sprint's PCS or its affiliates' subscribers
roaming in our territory. Similarly, we will pay for every minute our own
subscribers use the Sprint PCS nationwide network outside our territory. The
analog roaming rate onto a non-Sprint PCS provider's network is set under
Sprint's third-party roaming agreements.
Advertising and promotions. Sprint is responsible for all national
advertising and promotion of the Sprint PCS products and services. We are
responsible for advertising and promotion in our territory, including the pro
rata cost of any promotion or advertising done by any third-party retailers in
our territory pursuant to a national cooperative advertising agreement with
11
Sprint. Sprint's PCS service area includes the urban markets around our
territory. Sprint will pay for advertising in these markets. Given the proximity
of these markets to ours, we expect considerable spill-over from Sprint's PCS
advertising in surrounding urban markets.
Program requirements. We must comply with Sprint's PCS program requirements
for technical standards, customer service standards, national and regional
distribution and national accounts programs to the extent that Sprint meets
these requirements. Sprint can adjust the program requirements from time to
time. We have the right to appeal to Sprint's management adjustments which could
cause an unreasonable increase in cost to us if the adjustment: (1) causes us to
incur a cost exceeding 5% of the sum of our equity plus our outstanding
long-term debt, or (2) causes our long-term operating expenses to increase by
more than 5% (10% for Bright PCS) on a net present value basis. If Sprint denies
our appeal, we must then comply with the program adjustment, or Sprint has the
right to exercise the termination rights described below. There is no
cross-default provision between the Sprint PCS agreements for Horizon Personal
Communications and the Sprint PCS agreements for Bright PCS.
Non-competition. We may not offer Sprint PCS products and services outside
our territory without the prior written approval of Sprint. Within our territory
we may offer, market or promote telecommunications products and services only
under the Sprint PCS brands, our own brand, brands of related parties of ours or
other products and services approved under the management agreement, except that
no brand of a significant competitor of Sprint PCS or its related parties may be
used for those products and services. To the extent we have or obtain licenses
to provide PCS services outside our territory, we may not use the spectrum to
offer Sprint PCS products and services without prior written consent from
Sprint.
Termination of management agreement. The management agreement can be
terminated as a result of:
o termination of Sprint's PCS licenses;
o an uncured breach under the management agreement;
o bankruptcy of a party to the management agreement;
o the management agreement not complying with any applicable law in any
material respect;
o the termination of either of the trademark and service mark license
agreements; or
o our failure to obtain the financing necessary for the build-out of our
network and for our working capital needs.
The termination or non-renewal of either of the management agreements
triggers our rights and those of Sprint, as described below.
If we have the right to terminate the management agreement because of an
event of termination caused by a Sprint breach under the management agreement,
we may generally:
o require Sprint to purchase all of our operating assets used in
connection with our network for an amount equal to at least 80% of our
Entire Business Value as defined below;
o if Sprint was the licensee for 20MHz or more of the spectrum in a
particular market on the date the management agreement was executed,
require Sprint to sell to us, subject to governmental approval, up to
10MHz of licensed spectrum for an amount equal to the greater of (1)
the original cost to Sprint of the license plus any microwave
relocation costs paid by Sprint or (2) 9% of our Entire Business
Value; or
o sue Sprint for damages or submit the matter to arbitration and thereby
not terminate the management agreement.
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If Sprint has the right to terminate the management agreement because of an
event of termination caused by us, Sprint may generally:
o require us to sell our operating assets to Sprint for an amount equal
to 72% of our Entire Business Value;
o require us to purchase, subject to governmental approval, up to 10MHz
of licensed spectrum for an amount equal to the greater of (1) the
original cost to Sprint of the license plus any microwave relocation
costs paid by Sprint or (2) 10% of our Entire Business Value;
o take any action as Sprint deems necessary to cure our breach of the
management agreement, including assuming responsibility for and
operating our network; or
o sue us for damages or submit the matter to arbitration and thereby not
terminate the management agreement.
Non-renewal. If Sprint gives us timely notice that it does not intend to
renew the management agreement, we may:
o require Sprint to purchase all of our operating assets used in
connection with our network for an amount equal to 80% of our Entire
Business Value; or
o if Sprint was the licensee for 20MHz or more of the spectrum in a
particular market on the date the management agreement was executed,
require Sprint to sell to us, subject to governmental approval, up to
10MHz of licensed spectrum for an amount equal to the greater of (1)
the original cost to Sprint of the license plus any microwave
relocation costs paid by Sprint or (2) 10% of our Entire Business
Value.
If we give Sprint timely notice of non-renewal, or we both give notice of
non-renewal, or the management agreement can be terminated for failure to comply
with legal requirements or regulatory considerations, Sprint may:
o purchase all of our operating assets for an amount equal to 80% of our
Entire Business Value; or
o require us to purchase, subject to governmental approval, up to 10 MHz
of licensed spectrum for an amount equal to the greater of (1) the
original cost to Sprint of the license plus any microwave relocation
costs paid by Sprint or (2) 10% of our Entire Business Value.
Determination of Entire Business Value. If the Entire Business Value is to
be determined, we and Sprint will each select one independent appraiser and the
two appraisers will select a third appraiser. The three appraisers will
determine the Entire Business Value on a going concern basis using the following
guidelines:
o the Entire Business Value is based on the price a willing buyer would
pay a willing seller for the entire on-going business;
o then-current customary means of valuing a wireless telecommunications
business will be used;
o the business is conducted under the Sprint and Sprint PCS brands and
the Sprint PCS agreements;
o that we own the spectrum and frequencies presently owned by Sprint
that we use and are subject to the Sprint PCS agreements; and
o the valuation will not include any value for businesses not directly
related to the Sprint PCS products and services, and these businesses
will not be included in the sale.
Indemnification. We have agreed to indemnify Sprint and its directors,
employees and agents and related parties of Sprint and their directors,
employees and agents against any and all claims against any of these parties
arising from our violation of any law, a breach by us of any representation,
warranty or covenant contained in the management agreement or any other
agreement between us and Sprint, our ownership of the operating assets or the
13
actions or the failure to act of anyone who is employed or hired by us in the
performance of any work under the management agreement, except we will not
indemnify Sprint for any claims arising solely from their negligence or willful
misconduct. Sprint has agreed to indemnify us and our directors, employees and
agents against all claims against any of these parties arising from Sprint's
violation of any law, from Sprint's breach of any representation, warranty or
covenant contained in the management agreement or any other agreement between
Sprint and us, or the actions or the failure to act of anyone who is employed or
hired by Sprint in the performance of any work under the management agreement
except Sprint will not indemnify us for any claims arising solely from our
negligence or willful misconduct.
Sprint PCS warrants. In connection with Sprint's grant to us of our markets
in Pennsylvania, New York, Ohio and New Jersey, we agreed to grant to Sprint
warrants to acquire shares of the Company's class A common stock (See "Note 17"
under "Notes to Consolidated Financial Statements" included herein).
THE SERVICES AGREEMENTS
The services agreements outline back office services provided by Sprint and
available to us at established rates. Sprint can change any or all of the
service rates one time in each twelve month period. Some of the available
services include: billing, customer care, activation, credit checks, handset
logistics, home locator record, voice mail, prepaid services, directory
assistance, operator services, roaming fees, roaming clearinghouse fees,
interconnect fees and inter-service area fees. Sprint offers three packages of
available services. Each package identifies which services must be purchased
from Sprint and which may be purchased from a vendor or provided in-house.
Essentially, services such as billing, activation and customer care must either
all be purchased from Sprint or we may provide those services ourselves. When we
signed our original Sprint PCS agreements, we elected to provide billing,
activation and customer care services on our own. In connection with the May
2000 grant by Sprint of additional markets to us, we agreed to change our
arrangement under the services agreement so that Sprint will provide activation,
billing and customer care. Accordingly, in June 2001, we discontinued the use of
our own activation, billing, and customer care capabilities. We now purchase
those services from Sprint. For our Bright PCS markets and our newer markets in
Pennsylvania, New York and New Jersey, we launched these markets using Sprint's
billing and customer care services. Sprint may contract with third parties to
provide expertise and services identical or similar to those to be made
available or provided to us. We have agreed not to use the services received
under the services agreement in connection with any other business or outside
our territory. We may discontinue use of any service upon three months' prior
written notice. Sprint may discontinue a service provided that Sprint provides
us with nine months' prior notice.
We have agreed with Sprint to indemnify each other as well as officers,
directors, employees and other related parties and their officers, directors and
employees for violations of law or the services agreement except for any
liabilities resulting from the indemnitee's negligence or willful misconduct.
The services agreement also provides that no party to the agreement will be
liable to the other party for special, indirect, incidental, exemplary,
consequential or punitive damages, or loss of profits arising from the
relationship of the parties or the conduct of business under, or breach of, the
services agreement except as may otherwise be required by the indemnification
provisions. The services agreement automatically terminates upon termination of
the management agreement and neither party may terminate the services agreement
for any reason other than the termination of the management agreement.
THE TRADEMARK AND SERVICE MARK LICENSE AGREEMENTS
We have non-transferable, royalty-free licenses to use the Sprint and
Sprint PCS brand names and "diamond" symbol, and several other U.S. trademarks
and service marks such as "The Clear Alternative to Cellular" and "Clear Across
the Nation" on Sprint PCS products and services We believe that the Sprint and
Sprint PCS brand names and symbols enjoy a very high degree of awareness,
providing us an immediate benefit in the market place. Our use of the licensed
marks is subject to our adherence to quality standards determined by Sprint and
use of the licensed marks in a manner which would not reflect adversely on the
image of quality symbolized by the licensed marks. We have agreed to promptly
notify Sprint of any infringement of any of the licensed marks within our
territory of which we become aware and to provide assistance to Sprint in
connection with Sprint's enforcement of its' respective rights. We have agreed
with Sprint to indemnify each other for losses incurred in connection with a
material breach of the trademark license agreements. In addition, we have agreed
to indemnify Sprint from any loss suffered by reason of our use of the licensed
marks or marketing, promotion, advertisement, distribution, lease or sale of any
Sprint products and services other than losses arising solely out of our use of
the licensed marks in compliance with the contractual guidelines.
14
Sprint can terminate the trademark and service mark license agreements if
we file for bankruptcy, materially breach the agreement or our management
agreement is terminated. We can terminate the trademark and service mark license
agreements upon Sprint's abandonment of the licensed marks or if Sprint files
for bankruptcy, or the management agreement is terminated.
CONSENT AND AGREEMENT FOR THE BENEFIT OF THE HOLDERS OF THE SENIOR SECURED
CREDIT FACILITY
On September 26, 2000, the Company entered into a senior secured credit
facility (the "secured credit facility") with a group of financial institutions
to provide an aggregate commitment, subject to certain conditions, of up to $250
million. The secured credit facility is collateralized by a perfected security
interest in substantially all of the Company's tangible and intangible current
and future assets, including an assignment of the Company's affiliation
agreements with Sprint and a pledge of all of the capital stock of the Company
and its subsidiaries.
Sprint entered into a consent and agreement (the "senior secured consent")
for the benefit of the holders of the indebtedness under the Company's senior
secured credit facility. This agreement was acknowledged by us, and modified
Sprint's rights and remedies under our Sprint PCS agreements, for the benefit of
the existing and future holders of indebtedness under our senior secured credit
facility and any refinancing of the senior secured credit facility, which was a
condition to the funding of any amounts under our senior secured credit
facility.
The senior secured consent principally provides for the following:
o Sprint's consent to the pledge of substantially all of our assets,
including our rights in the Sprint PCS agreements;
o Sprint's consent to the pledge of all our equity interests in Horizon
Personal Communications and Bright PCS and the pledge by Horizon
Personal Communications and Bright PCS of all equity interests in each
of their subsidiaries;
o for redirection of payments due to us under our Sprint PCS agreements
to the administrative agent during the continuation of our default
under our senior secured credit facility;
o for Sprint to maintain 10 MHz of PCS spectrum in all of our markets
until our senior secured credit facility is satisfied or our operating
assets are sold after our default under our senior secured credit
facility;
o for Sprint and the administrative agent to provide each other with
notices of default by us under the Sprint PCS agreements and the
senior secured credit facility, respectively; and
o the ability to appoint interim replacements, including Sprint or a
designee of the administrative agent, to operate our portion of the
Sprint PCS network under the Sprint PCS agreements after an
acceleration of or event of default under our senior secured credit
facility or an event of termination under the Sprint PCS agreements.
Sprint's right to purchase on acceleration of amounts outstanding under our
senior secured credit facility. Subject to the requirements of applicable law,
so long as our senior secured credit facility remains outstanding, the senior
secured consent provides that Sprint may purchase our operating assets or
pledged equity of our operating subsidiaries, upon its receipt of notice of an
acceleration of our senior secured credit facility upon the following terms:
o Sprint elects to make such a purchase of our operating assets within a
specified period;
o the purchase price of our operating assets is the greater of an amount
equal to 72% of our "Entire Business Value" or the amount we owe under
our senior secured credit facility;
o if Sprint has given notice of its intention to exercise the purchase
right for our operating assets, then the administrative agent is
prohibited from enforcing its security interest for a time period
after the acceleration or until Sprint rescinds its intention to
purchase; and
15
o if we receive a written offer within a time period after acceleration
that is acceptable to us to purchase our operating assets or pledged
equity of our operating subsidiaries after the acceleration, then
Sprint has the right to purchase our operating assets or pledged
equity of our operating subsidiaries on terms at least as favorable to
us as the offer we receive.
Sale of operating assets to third parties. If Sprint does not purchase our
operating assets after an acceleration of the obligations under our senior
secured credit facility, then the administrative agent will be able to sell the
operating assets, subject to the requirements of applicable law, including the
law relating to foreclosures of security interests. The administrative agent
will have two options:
o to sell the assets to an entity that meets the requirements to be our
successor under the Sprint agreements; or
o to sell the assets to any other third-party (including competitors of
Sprint), principally subject to the condition that Sprint does not
have to accept the third party as a PCS affiliate of Sprint and may
terminate our Sprint PCS agreements.
REGULATION OF THE WIRELESS TELECOMMUNICATIONS INDUSTRY
The FCC regulates the licensing, construction, operation, acquisition and
interconnection arrangements of wireless telecommunications systems in the
United States. As an FCC licensee in our Chillicothe, Ohio, market, and as an
entity facilitating PCS operations on Sprint's PCS spectrum under our Sprint PCS
agreements, we must ensure that all of our operations comply with FCC
requirements.
The FCC has adopted, or is in the process of adopting, a series of rules,
regulations and policies to, among other things:
o grant or deny licenses for PCS frequencies;
o grant or deny PCS license renewals;
o rule on assignments and/or transfers of control of PCS licenses;
o govern the interconnection of PCS networks with the networks of other
wireless and wireline carriers;
o possibly facilitate the offering of a "calling party pays" service
which would require that a party who calls a subscriber would pay for
the call;
o establish access and universal service funding provisions in an effort
to raise funds to help defray the cost of providing telecommunications
services to rural and other high-cost areas;
o possibly permit commercial mobile radio service spectrum to be used
for transmission of programming material targeted to a limited
audience;
o impose fines and forfeitures for violations of any of the FCC's rules;
and
o regulate the technical standards of PCS networks.
The FCC had previously prohibited a single entity from having a combined
attributable interest of 20% or greater in broadband PCS, cellular, and
specialized mobile radio service licenses totaling more than 55 MHz in any urban
areas or rural areas. This "spectrum cap" was raised from 45 MHz to 55 MHz in
urban areas as the result of recent FCC action. Interests held by passive
institutional investors, small companies and rural telephone companies are not
usually deemed attributable for purposes of this prohibition if these interests
do not exceed 40%. The FCC eliminated this restriction on January 1, 2003.
Instead the FCC will consider competitive factors when licenses seek to
aggregate large amounts of spectrum in an area. We cannot predict whether this
action will lead to more consolidation in the wireless telecommunication
industry generally, or in any of our PCS service areas.
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TRANSFERS AND ASSIGNMENTS OF PCS LICENSES
The FCC must give prior approval to the assignment of, or transfers
involving, substantial changes in ownership or control of a PCS license.
Non-controlling interests in an entity that holds a PCS license or operates PCS
networks generally may be bought or sold without prior FCC approval. In
addition, a recent FCC order requires only post-consummation notification of
certain pro forma assignments or transfers of control.
CONDITIONS OF PCS LICENSES
All PCS licenses are granted for ten-year terms conditioned upon timely
compliance with the FCC's build-out requirements. Pursuant to the FCC's
build-out requirements, all 30 MHz broadband PCS licensees must construct
facilities that offer coverage to one-third of the population within five years
and to two-thirds of the population within ten years, and all 10MHz and 15 MHz
broadband PCS licensees must construct facilities that offer coverage to at
least one-quarter of the population within five years or make a showing of
"substantial service" within that five-year period. Failure to meet these
build-out requirements can result in license cancellation without a hearing.
Other rule violations could result in license revocations and/or monetary fines.
The FCC also requires licensees to maintain a certain degree of control over
their licenses. The Sprint PCS agreements reflect an arrangement that the
parties believe meets the FCC requirements for licensee control of licensed
spectrum. However, the FCC decides whether a licensee has maintained the
requisite degree of control on a case-by-case basis, upon consideration of the
"totality of circumstances." It is therefore difficult to predict in advance
with absolute certainty whether a particular arrangement will pass FCC muster.
If the FCC were to determine that our agreements with Sprint need to be modified
to increase the level of licensee control, the Sprint PCS agreements may be
modified to cure any purported deficiency regarding licensee control of the
licensed spectrum. However the business arrangement between the parties may have
to be restructured.
PCS LICENSE RENEWAL
PCS licensees can renew their licenses for additional ten-year terms. PCS
renewal applications are not subject to auctions. However, under the FCC's
rules, third parties may oppose renewal applications and/or file competing
applications. If one or more competing applications are filed, a renewal
application will be subject to a comparative renewal hearing. The FCC's rules
afford PCS renewal applicants involved in comparative renewal hearings with a
"renewal expectancy." The renewal expectancy is the most important comparative
factor in a comparative renewal hearing and is applicable if the PCS renewal
applicant has: (1) provided "substantial service" during its license term; and
(2) substantially complied with all applicable laws and FCC rules and policies.
The FCC's rules define "substantial service" in this context as service that is
sound, favorable and substantially above the level of mediocre service that
might minimally warrant renewal.
INTERCONNECTION
The FCC has the authority to order interconnection between commercial
mobile radio providers and any other common carrier. The FCC has ordered
traditional telephone companies to provide compensation to commercial mobile
radio providers for the termination of traffic. Using these new rules, we have
negotiated interconnection agreements for the Sprint PCS network in our market
area with the major regional Bell operating companies, GTE, Sprint and several
smaller independent local exchange carriers. Interconnection agreements are
negotiated on a state-wide basis. If an agreement cannot be reached, parties to
interconnection negotiations can submit outstanding disputes to state
authorities for arbitration. Negotiated interconnection agreements are subject
to state approval. On July 18, 2000, the FCC adopted an order denying requests
for mandatory interconnection between resellers' switches and commercial mobile
radio providers' networks, and declining to impose general interconnection
obligations between these networks.
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ALLOCATION OF ADDITIONAL PCS AND OTHER WIRELESS LICENSES
The FCC from time to time re-auctions PCS licenses that it has re-claimed
from other carriers, or PCS licenses that carriers have voluntarily returned to
the agency. The FCC also periodically allocates and assigns new spectrum for the
provision of wireless services. It is possible that such actions could create
new competitors in our current PCS service areas, and we cannot predict the
effect that such actions would have on our business.
OTHER FCC REQUIREMENTS
The FCC adopted rules in June 1996 that require local exchange and most
commercial mobile radio carriers, to program their networks to allow customers
to change service providers without changing telephone numbers, which is
referred to as service provider number portability. Most commercial mobile radio
carriers are required to implement nationwide roaming by November 24, 2002, as
well. The FCC currently requires most commercial mobile radio providers to be
able to deliver calls from their networks to numbers anywhere in the country,
and to contribute to the Local Number Portability Fund.
The FCC has adopted rules permitting broadband PCS and other commercial
mobile radio providers to provide wireless local loop and other fixed services
that would directly compete with the wireline services of local telephone
companies. In June 1996, the FCC adopted rules requiring broadband PCS and other
commercial mobile radio providers to implement enhanced emergency 911 (E911)
automatic location identification (ALI) capabilities within 18 months after the
effective date of the FCC's rules. Sprint's initial compliance with these rules
occurred on or before October 1, 2001. In addition, the FCC has required
implementation of Phase II emergency 911 capabilities by October 1, 2002,
including the ability to provide ALI of subscribers by latitude and longitude
with a specified accuracy. Sprint has obtained waivers of the relevant ALI
enhanced 911 requirements based on a modified deployment plan, which includes a
number of interim benchmarks and other conditions, and would provide for
completing Phase II E911 deployment by 2005. The Company's Chillicothe PCS
system, the licenses to which the Company owns, is currently exempt from E911
ALI requirements.
On June 10, 1999, the FCC initiated a regulatory proceeding (the
competitive networks proceeding) seeking comment from the public on a number of
issues related to competitive access to multiple-tenant buildings, including the
following:
o the FCC's tentative conclusion that the Communications Act of 1934, as
amended, requires utilities to permit telecommunications carriers
access to rooftop and other rights-of-way in multiple tenant buildings
under just, reasonable and nondiscriminatory rates, terms and
conditions; and
o whether building owners that make access available to a
telecommunications carrier should be required to make access available
to all other telecommunications carriers on a nondiscriminatory basis,
and whether the FCC has the authority to impose such a requirement.
On October 25, 2000, the FCC issued an order that addressed certain of the
issues in the competitive networks proceeding. Notably, the FCC:
o prohibits carriers from entering into contracts that restrict owners
of commercial office buildings from permitting access from competing
carriers;
o clarifies the FCC's rules governing control of in-building wiring;
o concludes that utilities that own conduits or rights-of-way within a
building must give non-discretionary access thereto; and
o concludes that parties with a direct or indirect ownership or
leasehold interest in property, including building tenants, should
have the ability to place antennas one meter or less in diameter used
to receive or transmit any fixed wireless service in other areas.
This proceeding could affect the availability and pricing of sites for our
antennae and those of our competitors.
18
COMMUNICATIONS ASSISTANCE FOR LAW ENFORCEMENT ACT
The Communications Assistance for Law Enforcement Act, or CALEA, was
enacted in 1994 to preserve electronic surveillance capabilities by law
enforcement officials in the face of rapidly changing telecommunications
technology. CALEA requires telecommunications carriers, including us, to modify
their equipment, facilities, and services to allow for authorized electronic
surveillance based on either industry or FCC standards. The FCC has adopted
rules implementing this statute and has established various implementation
deadlines. Like other wireless carriers, Sprint has sought certain extensions of
the deadlines, and these requests remain pending. We may be subjected to fines
of as much as $10,000 per day if we are unable to comply with a surveillance
request from law enforcement due to the lack of a required CALEA capability for
which we or Sprint have not sought or received an extension.
OTHER FEDERAL REGULATIONS
Wireless systems must comply with FCC and FAA regulations regarding the
siting, lighting and construction of transmitter towers and antennas. In
addition, FCC environmental regulations may cause some cell site locations to
become subject to regulation under the National Environmental Policy Act (NEPA).
The FCC is required to implement this Act by requiring carriers to meet land use
and radio frequency standards.
Carriers must comply with certain other FCC requirements:
o payment of annual regulatory user fees;
o submission of FCC Form 499A and 499Q reports, providing the FCC with
information needed to calculate universal service, local number
portability and other contribution amounts owed by the carrier;
o compliance with the FCC's 711 hearing-impaired access requirements by
October 1, 2001;
o compliance with the FCC's digital TTY (access for the deaf)
requirements, including purchase of necessary software and equipment
by December 31, 2001, implementation by June 30, 2002, and filing of
quarterly progress reports during the interim;
o submission of an annual Form 395 employment report;
o periodic filing of Form 602 ownership report; and
o submission of other required reports, as applicable, including Form
502 Number Utilization and Forecast Report, Form 477 Local Competition
and Broadband Reporting Worksheet, Form 478 Slamming Complaint Report,
International Traffic Data Report, and Annual Financial Report.
REVIEW OF UNIVERSAL SERVICE REQUIREMENTS
The FCC and the states are required to establish a universal service
program to ensure that affordable, quality telecommunications services are
available to all Americans. Sprint is required to contribute to the Federal
universal service program as well as existing state programs. The FCC has
determined that Sprint contribution to the Federal universal service program is
a variable percentage of "end-user telecommunications revenues." Although many
states are likely to adopt a similar assessment methodology, the states are free
to calculate telecommunications service provider contributions in any manner
they choose as long as the process is not inconsistent with the FCC's rules. At
the present time it is not possible to predict the extent of the Sprint total
Federal and state universal service assessments or its ability to recover from
the universal service fund.
WIRELESS FACILITIES SITING
States and localities are allowed to apply zoning requirements to PCS
facility and tower proposals, but are not permitted to regulate the placement of
wireless facilities so as to prohibit the provision of wireless services or to
discriminate among providers of these services. In addition, so long as a
wireless system complies with the FCC's rules, states and localities are
19
prohibited from using radio frequency health effects as a basis to regulate the
placement, construction or operation of wireless facilities. The FCC is
considering numerous requests for preemption of local actions affecting wireless
facilities siting. The Federal courts have been inconsistent in deciding such
disputes.
STATE REGULATION OF WIRELESS SERVICE
Section 332 of the Communications Act preempts states from regulating the
rates and entry of commercial mobile radio providers, like us. However, states
may attempt to regulate other aspects of our service provision. In addition,
states may petition the FCC to regulate these providers and the FCC may grant a
state's petition if the state demonstrates that (1) market conditions fail to
protect subscribers from unjust and unreasonable rates or rates that are
unjustly or unreasonably discriminatory, or (2) when commercial mobile radio is
a replacement for landline telephone service within the state. To date, the FCC
has granted no petition of this type. To the extent that we may provide fixed
wireless service in the future, we may be subject to additional state
regulation.
ITEM 2. PROPERTIES
Our principal executive offices are leased from a subsidiary of Horizon
Telcom and are located at 68 E. Main Street, Chillicothe, Ohio 45601-0480, which
is also the location of our first retail store. We lease an additional 42 retail
stores throughout our territory. We own three switching facilities in Fort
Wayne, Indiana, Erie, Pennsylvania and Johnson City, Tennessee. As of December
31, 2002, we leased 828 on-air towers. We believe our facilities are adequate
for our current operations and are in good condition and additional leased space
can be obtained if needed on commercially reasonable terms.
ITEM 3. LEGAL PROCEEDINGS
On July 3, 2002 the Federal Communications Commission (the "FCC") issued a
declaratory ruling on issues referred to it by a U.S. District Court, in the
case of Sprint Spectrum L.P. v. AT&T Corp. The FCC held that PCS wireless
carriers could not unilaterally impose terminating long distance access charges
pursuant to FCC rules. This FCC ruling order did not preclude a finding of a
contractual basis for these charges, nor did it rule whether or not Sprint had
such a contract with carriers such as AT&T. This ruling has been appealed to the
U.S. Circuit Court of Appeals for the District of Columbia. The underlying case
remains pending in the trial court, but has been stayed pending the outcome of
the appeal. Because the appeal of the FCC ruling and the underlying case are
both still pending, we cannot predict, with certainty, the final outcome of this
action. As a result, we recorded a reduction in revenue in the second quarter of
2002 of approximately $1.3 million representing previously billed and recognized
access revenue. The Company plans to cease recognition of this type of revenue
in future quarters, unless there is ultimately a favorable ruling by the courts
or the FCC on this issue. Sprint has asserted the right to recover these
revenues from us. We will continue to assess the ability of Sprint or other
carriers to recover these charges. We are also continuing to review the
availability of defenses we may have against Sprint's claim to recover these
revenues from us.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of shareholders during the fourth
quarter of 2002.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
There is no established public trading market for the Company's common
stock or for the Company's convertible preferred stock. The following table
summarizes the Company's capital stock as of December 31, 2002:
NUMBER OF SHARES
CAPITAL STOCK AUTHORIZED OUTSTANDING
- ------------- --------------- ---------------
Convertible preferred stock........ 175,000,000 30,432,329
Preferred stock.................... 10,000,000 --
Class A common stock............... 300,000,000 26,646
Class B common stock............... 75,000,000 58,445,288
--------------- ---------------
Total............................ 560,000,000 88,904,263
=============== ===============
20
An additional 148.0 million shares of convertible preferred stock are
reserved for issuance as dividends on the convertible preferred stock, if
necessary.
We intend to retain our future earnings, if any, to fund the development
and growth of our business and, therefore, do not anticipate paying cash
dividends in the foreseeable future. Our future decisions concerning the payment
of dividends on the common stock will depend upon our results of operations,
financial condition and capital expenditure plans, as well as any other factors
that the board of directors, in its sole discretion, may consider relevant. In
addition, provisions of the senior secured credit agreement and indentures
governing the senior discount notes and the senior notes restrict, and we
anticipate our future indebtedness may restrict, our ability to pay dividends.
EQUITY COMPENSATION PLAN INFORMATION
The following table provides information as of December 31, 2002 with
respect to shares of Horizon PCS common stock that may be issued under existing
equity compensation plans.
NUMBER OF
SECURITIES TO BE NUMER OF SECURITIES
ISSUED UPON WEIGHTED-AVERAGE REMAINING AVAILABLE
EXERCISE OF EXERCISE PRICE OF FOR FUTURE ISSUANCE
OUTSTANDING OPTIONS, OUTSTANDING OPTIONS, UNDER EQUITY
WARRANTS AND RIGHTS WARRANTS AND RIGHTS COMPENSATION PLANS
==================== ====================== ======================
Equity plans approved by
stockholders.................... 4,513,854 $ 0.51 7,183,029
==================== ====================== ======================
RECENT SALES OF UNREGISTERED SECURITIES:
During the past year, the Company has sold or issued the following
unregistered securities:
(1) On March 1, 2002, the Company granted to an executive officer
incentive stock options to purchase 200,000 shares of the
Company's class B common stock at an exercise price of $5.60 per
share.
(2) In May 2002 and November 2002, the Company issued an additional
1,060,201 and 1,099,958 shares, respectively, of convertible
preferred stock as a dividend-in-kind to the holders of the
outstanding convertible preferred stock.
Exemption from the registration provisions of the Securities Act for the
transactions described in paragraph (2) above was claimed on the basis that such
transaction did not constitute an "offer," "offer to sell," "sale," or "offer to
buy" under Section 5 of the Securities Act. Exemption from the registration
provisions of the Securities Act for the transactions described in paragraph (1)
above was claimed under Section 4(2) of the Securities Act and the rules and
regulations promulgated thereunder on the basis that such transactions did not
involve any public offering, the purchasers were sophisticated with access to
the kind of information registration would provide and that such purchasers
acquired such securities without a view towards distribution thereof. In
addition, exemption from the registration provisions of the Securities Act for
the transactions described in paragraph 2 was claimed under Section 3(b) of the
Securities Act on the basis that such securities were sold pursuant to a written
compensatory benefit plan or pursuant to a written contract relating to
compensation and not for capital raising purposes and exemption from the
registration provisions of the Securities Act for the transactions described in
paragraph (2) above was claimed under Rule 144A of the Securities Act.
21
ITEM 6. SELECTED FINANCIAL DATA
On April 26, 2000, Horizon Telcom formed Horizon PCS and on June 27, 2000,
transferred its 100% ownership of Horizon Personal Communications, Inc. to
Horizon PCS in exchange for 53.8 million shares of Horizon PCS class B common
stock, representing 100% of the outstanding shares of Horizon PCS. This transfer
was accounted for in the financial statements as a reorganization of companies
under common control in a manner similar to a pooling-of-interests. We have
reflected the reorganization and the adjusted number of shares outstanding
retroactively and we have presented the prior financial statements of Horizon
Personal Communications, Inc. as those of Horizon PCS.
The following tables present selected consolidated historical financial
data for Horizon PCS, as of and for the five years ended December 31, 2002. We
derived the balance sheet and statements of operations data as of and for the
five years ended December 31, 2002, for Horizon PCS from the audited
consolidated financial statements of Horizon PCS. The following information
should be read together with "ITEM 7. Management's Discussion and Analysis of
Financial Condition and Results of Operation," and "ITEM 8. Financial Statements
and Supplementary Data":
YEAR ENDED DECEMBER 31,
-----------------------------------------------------------
1998 1999 2000 2001 2002
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE AND OTHER DATA)
STATEMENTS OF OPERATIONS DATA:
Operating revenues:
Subscriber revenues................ $ 456 $ 3,665 $ 17,725 $ 77,658 $ 152,409
Roaming revenues................... 18 642 8,408 38,540 55,782
Equipment revenues................. 309 600 3,061 7,106 7,847
---------- ---------- ----------- ---------- ----------
Total revenues................... 783 4,907 29,194 123,304 216,038
Operating expenses:
Cost of service (exclusive of items
shown below)..................... 4,404 8,204 27,452 100,516 167,128
Cost of equipment.................. 994 2,444 9,775 14,872 19,189
Selling and marketing.............. 1,440 3,475 18,026 48,993 52,601
General and administrative
(exclusive of items shown below). 1,852 3,944 12,477 28,384 41,650
Non-cash compensation expense...... -- 291 490 1,434 681
Depreciation and amortization...... 1,748 2,685 6,135 18,519 40,271
Loss (gain) on sale of PCS assets.. -- (1,388) -- 1,297 632
Impairment of goodwill and impact
of acquisition-related deferred
taxes............................ -- -- -- -- 13,222
---------- ---------- ----------- ---------- ----------
Total operating expenses......... 10,438 19,655 74,355 214,015 335,374
---------- ---------- ----------- ---------- ----------
Operating loss................. (9,655) (14,748) (45,161) (90,711) (119,336)
Gain (Loss) on exchange of stock..... -- -- 11,551 (400) --
Interest income and other, net....... (1,690) 52 4,804 5,063 2,989
Interest expense, net................ (838) (1,529) (10,318) (27,434) (60,601)
---------- ---------- ----------- ---------- ----------
Loss from continuing
operations before income
taxes........................ (12,183) (16,225) (39,124) (113,482) (176,948)
Income tax benefit (expense)......... 4,145 5,275 (1,075) -- --
---------- ---------- ----------- ---------- ----------
Loss from continuing
operations................... (8,038) (10,950) (40,199) (113,482) (176,948)
Preferred stock dividend............. -- -- (2,782) (10,930) (11,756)
Loss from continuing operations
available to common
stockholders................. $ (8,038) $(10,950) $ (42,981) $(124,412) $(188,704)
========== ========== =========== ========== ==========
Basic and diluted loss per share
from continuing operations $ (0.15) $ (0.20) $ (0.76) $ (2.13) $ (3.23)
Basic and diluted loss per share
available to common stockholders $ (0.15) $ (0.20) $ (0.77) $ (2.13) $ (3.23)
22
YEAR ENDED DECEMBER 31,
-----------------------------------------------------
1998 1999 2000 2001 2002
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE AND OTHER DATA)
BALANCE SHEET DATA:
Cash and cash equivalents(3).... $ 27 $ 147 $ 191,417 $ 123,776 $ 86,137
Total property and equipment, net 17,880 22,894 109,702 214,868 239,536
Total assets.................... 26,862 32,879 385,295 481,338 443,125
Long-term debt(4)............... 21,180 24,590 185,283 384,056 516,284
Total liabilities............... 24,919 35,042 238,300 447,957 585,567
Convertible preferred stock..... -- -- 134,422 145,349 157,105
Total stockholders' equity
(deficit)..................... 1,943 (2,163) 12,573 (111,967) (299,547)
OTHER DATA:
Number of PCS subscribers(1)..... 2,100 13,700 66,400 194,100 270,900
Total population in our markets
(millions)..................... 1.6 4.9 10.2 10.2 10.2
ARPU (including roaming)(2)...... $ 46 $ 64 $ 75 $ 83 $ 75
ARPU (excluding roaming)(2)...... $ 44 $ 55 $ 51 $ 56 $ 55
- -------------
(1) Represents the approximate number of PCS subscribers at the end of each
period.
(2) Represents average monthly revenue per unit (subscriber). For more detail
on how ARPU is computed, see "ITEM 7. Management's Discussion and Analysis
of Financial Condition and Results of Operation."
(3) Excludes restricted cash of $24,063 and $48,660 at December 31, 2002 and
2001, respectively
(4) If the Company violates a covenant in the senior secured credit agreement,
is declared to be in default of the credit agreement, and does not cure the
default, then the debt will be reclassified to current liabilities.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATION
RESULTS OF OPERATIONS YEAR ENDED DECEMBER 31, 2002 COMPARED TO YEAR ENDED
DECEMBER 31, 2001
OVERVIEW
We have focused a significant amount of our operational efforts over the
past twelve months upgrading our wireless network to be able to provide the
first level of third generation ("3G") network services marketed by Sprint
nationally as "PCS Vision." In conjunction with Sprint's nationwide launch of
PCS Vision, we began providing 3G services across our network in mid-August
2002. Subscribers are now able to connect to the Internet with their handsets,
PDA's, and laptops at speeds of up to 144 kilobits per second ("kbps"). We
believe the average user will experience peak rates of 75-80 kbps, which is two
to three times faster than historical dial-up speeds.
During the second half of 2001 and first half of 2002, a significant number
of our customer additions were under the NDASL program. These lower credit
quality customers activated under the NDASL program led to higher churn rates
and an increased amount of bad debt during the second half of 2002 as a
significant number of these customers were disconnected and written-off.
Sprint has discontinued the NDASL program and replaced it with Clear Pay
and Clear Pay II which re-institutes deposit requirements for most lower credit
quality customers and introduces additional controls on loss exposure. In
addition, we have focused our marketing efforts toward recruiting higher quality
customers. As a result, our percentage of prime credit customers in our
subscriber portfolio increased to 74% at December 31, 2002, from 65% at it
lowest point on March 31, 2002.
In response to increased competition from other carriers and to improve
focus on penetrating our markets with PCS Vision, we reorganized our operations
groups on October 1, 2002. We realigned our internal geographic markets and
added a vice president to oversee our marketing and retail operations teams. We
look forward to the benefits of this new organizational alignment and believe it
will result in higher gross subscriber additions and a better customer retention
effort.
SPRINT AGREEMENTS
Under the Sprint Agreements, Sprint provides the Company significant
support services such as billing, collections, long distance, customer care,
network operations support, inventory logistics support, use of the Sprint and
Sprint PCS brand names, national advertising, national distribution and product
development. Additionally, the Company derives substantial roaming revenue and
23
expenses when Sprint's and Sprint's network partners' PCS wireless subscribers
incur minutes of use in the Company's territories and when the Company's
subscribers incur minutes of use in Sprint and other Sprint network partners'
PCS territories. These transactions are recorded in roaming revenue, cost of
service, cost of equipment and selling and marketing expense captions in the
accompanying consolidated statements of operations. Cost of service and roaming
transactions include, long distance charges, roaming expense and the costs of
services such as billing, collections, and customer service and other
pass-through expenses. Cost of equipment transactions relate to inventory
purchased by the Company from Sprint under the Sprint Agreements. Selling and
marketing transactions relate to subsidized costs on handsets and commissions
paid by the Company under Sprint's national distribution program. The 8%
management fee is included in general and administrative. Amounts recorded
relating to the Sprint Agreements for the years ended December 31, 2002 and
2001, are approximately as follows:
TOTAL REVENUES AND EXPENSES PROVIDED BY
SPRINT AGREEMENTS 2002 2001
- --------------------------------------------------- --------------- ---------------
Roaming revenue.................................... $ 51,688,000 $ 37,734,000
=============== ===============
Cost of Service:
Roaming............................................. $ 40,883,000 $ 27,007,000
Billing and customer care........................... 20,587,000 10,475,000
Long distance....................................... 10,470,000 6,640,000
--------------- ---------------
Total cost of service.............................. 71,940,000 44,122,000
Selling and marketing............................... 2,566,000 1,460,000
General and administrative:
Management fee...................................... 12,027,000 5,923,000
--------------- ---------------
Total expense..................................... $ 86,533,000 $ 51,505,000
=============== ===============
KEY METRICS
The following discussion details key operating metrics and focuses on the
details of our financial performance over the last quarter and current fiscal
year.
Customer Additions. As of December 31, 2002, we provided personal
communication service directly to approximately 270,900 customers. For the year
ended December 31, 2002 and 2001, Horizon PCS net subscribers increased by
approximately 76,800 and 127,700 customers, respectively. Gross activations
during 2002 were 12% higher than 2001. However, an increase in the churn of
NDASL and Clear Pay subscribers resulted in overall lower net customer additions
for the year ended December 31, 2002, compared to the year ended December 31,
2001.
Cost Per Gross Addition. CPGA summarizes the average cost to acquire new
customers during the period. CPGA is computed by adding the income statement
components of selling and marketing, cost of equipment and activation costs
(which are included as a component of cost of service) and reducing that amount
by the equipment revenue recorded, then dividing that net amount by the total
new customers acquired during the period. CPGA increased to $342 for the year
ended December 31, 2002, compared to $339 for the year ended December 31, 2001
due primarily to an increase in commissions.
Churn. Churn is the monthly rate of customers that both voluntarily and
involuntarily discontinued service during the month. Churn is computed by
dividing the number of customers that discontinued service during the month, net
of 30-day returns, by the beginning customer base for the period. Churn for the
year is an average of the twelve months in the year. Churn for the year ended
December 31, 2002, was 3.5% compared to 2.4% for the year ended December 31,
2001. This increase in churn is a result of an increase in the amount of
sub-prime credit quality customers the Company added whose service was
involuntarily discontinued during the period. We believe that it is likely that
churn will remain at or slightly below this level during 2003.
Average Revenue Per Unit. ARPU summarizes the average monthly revenue per
customer. ARPU is computed by dividing service revenue and roaming revenues for
the period by the average subscribers for the period.
The following summarizes ARPU for the year ended December 31:
24
2002 2001
------------- -------------
Service revenues
Recurring.......................... $ 40 $ 43
Minute sensitive................... 12 14
Features and other................. 3 (1)
------------- -------------
Total service revenues........... 55 56
------------- -------------
Roaming revenues...................... 20 27
------------- -------------
ARPU........................... $ 75 $ 83
------------- -------------
Recurring service ARPU has declined as more customers activated or migrated
to service plans in the $29.99 to $39.99 monthly recurring charge range.
Additionally, recent service plans are offering more minutes at a lower monthly
charge due to increased competition in the wireless industry. These additional
minutes have driven down the ARPU received when customers use more minutes than
their plan allows. We anticipate this trend to continue on voice-only service
plans, but we anticipate higher service ARPU in the future as subscribers
activate on data and voice plans, which offer more features, but at a higher
monthly charge. ARPU from features and other has increased as we are offering
fewer promotional credits and have charged more contract termination fees in
2002 as a result of higher deactivation and churn rates.
The reduction in the reciprocal roaming rate has caused a decline in the
roaming ARPU. On April 27, 2001, Sprint and its affiliates announced an
agreement on a new Sprint PCS roaming rate; the reciprocal roaming rate
decreased from $0.20 per minute to $0.15 per minute effective June 1, 2001, and
decreased further to $0.12 per minute effective October 1, 2001. The reciprocal
roaming rate changed to $0.10 per minute on January 1, 2002. Sprint has notified
the Company that it intends to reduce the reciprocal roaming rate to $0.058 per
minute of use in 2003. Based upon 2002 historical roaming data, a reduction in
the reciprocal roaming rate to $0.058 per minute would have substantially
reduced roaming revenue and expense. Had the lower rate been in effect for all
of 2002, roaming revenue would have been approximately 40-50% lower.
Earnings Before Interest, Taxes, Depreciation and Amortization. EBITDA is a
financial metric used to estimate cash flow available to service debt. EBITDA
can be calculated from our income statement as follows:
YEAR ENDED DECEMBER 31,
--------------------------------------
2002 2001
----------------- -----------------
Operating Loss................................. $ (119,336) $ (90,711)
Plus: Depreciation and amortization............ 40,271 18,519
Non-cash compensation.................... 681 1,434
Loss on sale of PCS assets............... 631 1,297
Impairment of goodwill and impact of
acquisition-related deferred taxes..... 13,222 --
----------------- -----------------
EBITDA................................ $ (64,531) $ (69,461)
================= =================
We believe that EBITDA is useful for lenders and shareholders in assessing
cash flow and liquidity. However, EBITDA is not a measure of financial
performance presented under accounting principles generally accepted in the
United States of America and should not be considered an alternative to net
income (loss) as a measure of performance or to cash flow as a measure of
liquidity. However, the Company's secured credit facility has a covenant
requiring EBITDA to be controlled to a certain threshold.
25
RESULTS OF OPERATIONS
The following table sets forth a breakdown of our revenues by type.
FOR THE YEARS ENDED DECEMBER 31,
(DOLLARS IN THOUSANDS) 2002 2001 2000
----------------------- ----------------------- -----------------------
AMOUNT % AMOUNT % AMOUNT %
----------- ----------- ----------- ----------- ----------- -----------
Subscriber revenues................... $ 152,410 71% $ 77,658 63% $ 17,725 61%
Roaming revenues...................... 55,782 26% 38,540 31% 8,408 29%
Equipment revenues.................... 7,846 3% 7,106 6% 3,061 10%
----------- ----------- ----------- ----------- ----------- -----------
Total revenues...................... $ 216,038 100% $ 123,304 100% $ 29,194 100%
=========== =========== =========== =========== =========== ===========
Subscriber revenues. Subscriber revenues for the year ended December 31,
2002, were $152.4 million, compared to $77.7 million for the year ended December
31, 2001, an increase of $74.7 million. The growth in subscriber revenues is
primarily the result of the growth in our customer base. We had approximately
270,900 PCS customers at December 31, 2002, compared to approximately 194,100 at
December 31, 2001. Our customer base has grown because we have launched
additional markets and increased our sales force.
Roaming revenues. Roaming revenues increased from $38.5 million during the
year ended December 31, 2001, to $55.8 million for the year ended December 31,
2002, an increase of $17.3 million. This increase resulted from the continued
expansion of our service territory as well as expanding roaming agreements with
wireless carriers.
Equipment revenues. Equipment revenues consist of handsets and accessories
sold to customers through our stores and through our direct sales force.
Equipment revenues for the year ended December 31, 2002, were $7.8 million,
compared to $7.1 million for the year ended December 31, 2001, representing an
increase of approximately $700,000. The increase in equipment revenues is the
result of an increase in the number of handsets sold by our stores and direct
sales force, somewhat offset by a lower sales price per unit.
Cost of service. Cost of service includes costs associated with operating
our network, including site rent, utilities, engineering personnel and other
expenses related to operations. Cost of service also includes interconnection
expenses, customer care, Sprint charges, Sprint PCS roaming fees and non-Sprint
roaming fees. We pay Sprint PCS roaming fees to Sprint when our customers use
Sprint's PCS network outside of our territory. We pay non-Sprint PCS roaming
fees to other wireless service providers when our customers use their networks.
Also included in cost of service are costs incurred under our network
services agreement with the Alliances. In the third quarter of 2001, Horizon PCS
negotiated an amendment to its agreement with the Alliances and a related
amendment to its Sprint agreements. Under the Alliances amendment, Horizon PCS
is obligated to pay a minimum monthly fee for a stated minimum period. Horizon
PCS expects to incur lower overall fees under this new arrangement at expected
usage levels as compared to the previous agreement that was based on a per
minute fee. The Alliances are also obligated to upgrade their networks to
provide 3G technology.
Sprint provides back-office and other services to the Company. Recently,
Sprint has sought to increase service fees in connection with its development of
3G-related back-office systems and platforms. The Company, along with the other
Sprint affiliates, is currently disputing the validity of Sprint's right to pass
through this fee to the affiliates. If this dispute is resolved unfavorably to
the Company, then Horizon PCS will incur additional expenses, which could have a
material adverse impact on our liquidity and financial results. As of December
31, 2002, the Company has been billed by Sprint for 3G development costs of
approximately $600,000, which the Company has not recorded or paid due to this
dispute.
Cost of service for the year ended December 31, 2002, was $167.1 million,
compared to $100.5 million for the year ended December 31, 2001, an increase of
$66.6 million. This increase reflects an increase in roaming expense and long
distance charges of $16.7 million and the increase in costs incurred under our
network services agreement with the Alliances of $13.7 million, both as a result
of our subscriber growth during 2002. Additionally, at December 31, 2002, our
network covered approximately 7.4 million people versus approximately 6.9
million people at December 31, 2001. As a result, cost of service in 2002 was
higher than 2001 due to the increase in network operations expense, including
tower lease expense, circuit costs and payroll expense, of approximately $22.3
26
million. Growth in our customer base resulted in increased customer care,
activations, and billing expense of approximately $11.2 million and other
variable expenses, including interconnection and national platform expenses, of
approximately $2.7 million. Overall, the average monthly cost of providing
service per the average subscriber on our network decreased from $72 to $60 for
the year ended December 31, 2001 and 2002, respectively, as we have increased
our subscriber base. In the aggregate, we expect to have substantial increases
in 2003 in charges from Sprint, both as a result of volume and pricing
increases.
Cost of equipment. Cost of equipment includes the cost of handsets and
accessories sold by our stores and direct sales force to our customers. Cost of
equipment for the year ended December 31, 2002, was $19.2 million, compared to
$14.9 million for the year ended December 31, 2001, an increase of $4.3 million.
The increase in the cost of equipment is the result of the growth in our
wireless customers, partially offset by the decreasing unit cost of the
handsets. For competitive and marketing reasons, we have sold handsets to our
customers below our cost and expect to continue to sell handsets at a price
below our cost for the foreseeable future.
Selling and marketing expenses. Selling and marketing expenses consist of
costs associated with operating our retail stores, including marketing,
advertising, payroll and sales commissions. Selling and marketing expense also
includes commissions paid to national and local third party distribution
channels and subsidies on handsets sold by third parties for which we do not
record revenue. Selling and marketing expenses rose to $52.6 million for the
year ended December 31, 2002, compared to $49.0 million for the year ended
December 31, 2001, an increase of $3.6 million. This increase reflects the
increase in the costs of operating our 44 retail stores, 6 of which were
launched during 2002. The costs include an increase in marketing and advertising
in our sales territory of $6.5 million, the increase in commissions paid to
third parties of $1.4 million and is offset by the decrease in subsidies on
handsets sold by third parties of $4.3 million. We expect selling and marketing
expense to increase in the aggregate as we compete to add new customers.
General and administrative expenses. General and administrative costs
include the Sprint management fee (which is 8% of "collected revenues" as
described under the "Sprint PCS Agreements" above), a provision for doubtful
accounts and costs related to corporate support functions, including costs
associated with functions performed for us by Horizon Services under our
services agreement. These include finance functions, accounting services,
computer access and administration, executive, supervisory, consulting, customer
relations, human resources and other administrative services. Horizon Services'
costs for these functions are charged to us using a standard FCC cost allocation
methodology. Under this methodology, all costs that can be specifically
identified to us are directly charged to us, and all costs that are specifically
identified to other subsidiaries of Horizon Telcom are charged to them. Costs
incurred by Horizon Services that cannot be specifically identified to a company
for which Horizon Services provides service are apportioned among the Horizon
Telcom subsidiaries based on appropriate measures. Because of the economies of
scale inherent in a centralized service company, we believe we are able to
receive these services less expensively through this arrangement than if we
provided them ourselves.
General and administrative expenses for the year ended December 31, 2002,
were approximately $41.7 million compared to approximately $28.4 million in
2001, an increase of approximately $13.3 million. The increase reflects an
increase in the provision for doubtful accounts of approximately $9.1 million,
primarily due to the write-off of NDASL and ClearPay customers, and an increase
in the Sprint management fee of approximately $6.1 million, as a result of
higher subscriber revenues in 2002, offset by a decrease in other general
expenses of approximately $1.9 million due primarily to a decrease in the use of
professional services.
Non-cash compensation expense. For the year ended December 31, 2002 and
2001, we recorded stock-based compensation expense of approximately $700,000 and
$1.4 million, respectively. The expense recorded in 2001 includes approximately
$725,000 related to the distribution of 7,249 shares of Horizon Telcom stock to
employees of Horizon PCS and approximately $709,000 for certain stock options
granted in November 1999. Stock-based compensation expense will continue to be
recognized through the conclusion of the vesting period for these options in
2005. The annual non-cash compensation expense expected to be recognized for
these stock options is approximately $620,000 in 2003, $193,000 in 2004, and
$71,000 in 2005.
Depreciation and amortization expense. Depreciation and amortization
expenses increased by $21.8 million to a total of $40.3 million in 2002. The
increase reflects the continuing construction of our network as we funded
approximately $63.1 million of capital expenditures during 2002.
27
During 2002, the Company launched switches in Tennessee and Pennsylvania
and disconnected some switching equipment in Chillicothe, Ohio. As a result,
approximately $6.2 million of switching equipment is considered an impaired
asset as defined by Statements of Financial Accounting Standards ("SFAS") No.
144. Accordingly, depreciation and amortization expense for the year ended
December 31, 2002, includes approximately $3.5 million of expense related to
accelerated depreciation on the impaired asset.
Amortization expense of the intangible asset related to the Bright PCS'
acquisition was approximately $1.7 million during the years ended December 31,
2002 and 2001. Goodwill amortization was approximately $400,000 during the year
ended December 31, 2001. Goodwill amortization ceased as of December 31, 2001,
with the adoption of SFAS No. 142.
Amortization expense also includes amortization of an intangible asset
recorded in September 2000 related to the new markets granted to us by Sprint in
September 2000. We agreed to grant warrants to Sprint in exchange for the right
to provide service in additional markets. The warrants will be issued to Sprint
at the earlier of an initial public offering of the Company's common stock or
July 31, 2003. The intangible asset is being amortized over the remaining term
of the Sprint management agreement, resulting in approximately $800,000 of
amortization expense per year. Amortization expense related to this intangible
asset was approximately $800,000 for the years ended December 31, 2002 and 2001.
Loss on disposal of PCS assets. During the year ended December 31, 2002, we
incurred a loss of approximately $600,000 related to the sale of network
equipment and corporate-owned vehicles. These sales resulted in proceeds of
approximately $1.6 million. The vehicles were subsequently leased back from the
purchaser.
Impairment of goodwill and impact of acquisition-related deferred taxes. On
December 31, 2002, the Company performed the annual valuation assessment of
goodwill. As a result of this valuation the Company recorded goodwill impairment
of approximately $13.2 million, which eliminates the entire balance of goodwill
at December 31, 2002. The fair value was measured based on projected discounted
future operating cash flows using a discount rate reflecting the Company's
average cost of funds.
Gain (Loss) on exchange of stock. On April 2, 2001, the Company distributed
7,249 shares of Horizon Telcom stock to employees of Horizon PCS. In conjunction
with this transaction, the Company recognized a non-operating loss of
approximately $400,000 representing the reduced fair market value of the stock
at the time of the transaction compared to the original holding value of the
investment.
Interest income and other, net. Interest income and other for the year
ended December 31, 2002, was approximately $3.0 million compared to
approximately $5..1 million in 2001. This decrease was due primarily to a lower
average balance of cash investments during 2002, as compared to the same period
in 2001 and due to a lower short-term interest rate environment in 2002.
Interest expense, net. Interest expense for the year ended December 31,
2002, was approximately $60.6 million, compared to approximately $27.4 million
in 2001. The increase in interest expense was a result of our additional
indebtedness. We will incur additional interest expense and do not anticipate
lower debt levels in 2003.
Interest on the outstanding balance of our secured credit facility accrues
at LIBOR plus a specified margin. On June 29, 2002, we agreed to several changes
in the secured credit facility including a 25 basis point increase in the margin
on the annual interest rate. At December 31, 2002, the interest rate on the
$105.0 million term loan A borrowed under our secured credit facility was 5.40%,
while the interest rate on the $50.0 million term loan B was 6.33%. Interest
expense on the secured credit facility was $9.3 million and $4.8 million during
the year ended December 31, 2002 and 2001, respectively.
We accrue interest at a rate of 14.00% annually on our discount notes
issued in September 2000 and will pay interest semi-annually in cash beginning
in October 2005. Unaccreted interest expense on the discount notes was
approximately $108.7 million at December 31, 2002. Interest expense on the
discount notes was approximately $27.2 million and $23.8 million during the year
ended December 31, 2002 and 2001, respectively.
28
On June 15, 2002, we began making semi-annual interest payments on our
senior notes issued in December 2001 at an annual rate of 13.75%. Interest
expense accrued on the senior notes was approximately $24.1 million and $1.5
million during the years ended December 31, 2002 and 2001, respectively. Under
the terms of the senior notes, cash to cover the first four semi-annual interest
payments was placed in an escrow account.
Interest expense also includes approximately $2.8 million and $1.1 million
during the year ended December 31, 2002 and 2001, respectively, of amortization
from the deferred financing fees related to our secured credit facility, our
discount notes and our senior notes. Also contributing to interest expense was
approximately $1.6 million and $2.8 million during the year ended December 2002
and 2001, respectively, in commitment fees paid on the unused portion of our
secured credit facility.
Capitalized interest during the year ended December 31, 2002 and 2001, was
approximately $4.4 million and $6.6 million, respectively.
Income tax (expense) benefit. We did not record any income tax benefit for
the years ended December 31, 2002 and 2001, because of the uncertainty of
generating future taxable income to be able to recognize current net operating
loss carryforwards.
Loss on continuing operations. Our loss on continuing operations for the
year ended December 31, 2002, was $176.9 million compared to $113.5 million for
the year ended December 31, 2001. The increase in our loss reflects the
continued expenses related to launching our markets and building our customer
base, as well as the factors discussed in "Business - Current Developments" and
"Business - Current Operating Environment and Our Business Strategy." We expect
to incur significant operating losses and to generate significant negative cash
flow from operating activities due to these factors.
Preferred stock dividend. Our convertible preferred stock pays a stock
dividend at the rate of 7.5% per annum, payable semi-annually commencing May 1,
2001. The dividends are paid with additional shares of convertible preferred
stock. Through December 31, 2002, we have issued an additional 4,345,092 shares
of convertible preferred stock in payment of dividends, including 1,060,201
shares on May 1, 2002 and 1,099,958 shares on November 1, 2002.
Other comprehensive income (loss). During 2001, we entered into two
two-year interest rate swaps, effectively fixing $50.0 million of the term loan
B borrowed under the secured credit facility. We do not expect the effect of
these swaps to have a material impact to interest expense for the remainder of
their lives. Other comprehensive income of approximately $400,000 and a loss of
approximately $800,000 were recorded for the years ended December 31, 2002 and
2001, respectively.
RESULTS OF OPERATIONS YEAR ENDED DECEMBER 31, 2001 COMPARED TO YEAR ENDED
DECEMBER 31, 2000
SPRINT AGREEMENTS
Amounts recorded relating to the Sprint Agreements for the years ended
December 31, 2001 and 2000, are approximately as follows:
TOTAL REVENUES AND EXPENSES PROVIDED BY
SPRINT AGREEMENTS 2001 2000
- ----------------------------------------------- -------------- -------------
Roaming revenue................................ $ 37,734,000 $ 7,662,000
============== =============
Cost of Service:
Roaming....................................... $ 27,007,000 $ 5,180,000
Billing and customer care..................... 10,475,000 960,000
Long distance................................. 6,640,000 574,000
-------------- -------------
Total cost of service....................... 44,122,000 6,714,000
Selling and marketing.......................... 1,460,000 322,000
General and administrative:
Management fee................................ 5,923,000 1,302,000
-------------- -------------
Total expense............................... $ 51,505,000 $ 8,338,000
============== =============
29
KEY METRICS
The following discussion details key operating metrics and focuses on the
details of our financial performance during 2001.
Customer Additions. As of December 31, 2001, we provided personal
communication service directly to approximately 194,100 customers. For the year
ended December 31, 2001 and 2000, Horizon PCS net subscribers increased by
approximately 127,700 and 52,700 customers, respectively. Gross activations
during 2001 were 153% higher than 2000 due in part to the launching of
additional markets and changes in deposit requirements for new low credit
quality subscribers.
Cost Per Gross Addition. CPGA was $339 for the year ended December 31,
2001, compared to $373 for the year ended December 31, 2000. This decrease is
primarily the result of more gross activations in 2001 compared to 2000.
Churn. Churn for the year ended December 31, 2001, was 2.4% compared to
2.6% for the year ended December 31, 2000.
Average Revenue Per Unit. The following summarizes ARPU for the year ended
December 31:
2001 2000
-------------- -------------
Service revenues
Recurring.......................... $ 43 $ 38
Minute sensitive................... 14 13
Features and other................. (1) --
-------------- -------------
Total service revenues........... 56 51
------------- -------------
Roaming revenues...................... 27 24
------------- -------------
ARPU........................... $ 83 $ 75
------------- -------------
Recurring service ARPU has increased as more customers activated or
migrated to service plans carrying higher monthly recurring charges.
Earnings Before Interest, Taxes, Depreciation and Amortization. EBITDA is a
financial metric used to estimate cash flow available to service debt. EBITDA
can be calculated from our income statement as follows:
YEAR ENDED DECEMBER 31,
-----------------------------------
2001 2000
---------------- ---------------
Operating Loss......................... $ (90,711) $ (45,161)
Plus: Depreciation and amortization.. 18,519 6,134
Non-cash compensation.......... 1,434 490
Loss on sale of PCS assets..... 1,297 --
---------------- ----------------
EBITDA...................... $ (69,461) $ (38,537)
================ ================
EBITDA is not a measure of financial performance presented under accounting
principles generally accepted in the United States of America and should not be
considered an alternative to net income (loss) as a measure of performance or to
cash flow as a measure of liquidity. However, the Company's secured credit
facility has a covenant requiring EBITDA to be controlled to a certain
threshold.
Subscriber revenues. Subscriber revenues for the year ended December 31,
2001, were $77.7 million, compared to $17.7 million for the year ended December
31, 2000, an increase of $60.0 million. The growth in subscriber revenues is
primarily the result of the growth in our customer base. We had approximately
194,100 PCS customers at December 31, 2001, compared to approximately 66,400 at
December 31, 2000. Our customer base has grown because we have launched
30
additional markets and increased our sales force. ARPU excluding roaming
increased in 2001 to $56 from $51 in 2000 as customers chose plans carrying a
higher monthly recurring charge.
Roaming revenues. Roaming revenues increased from $8.4 million during the
year ended December 31, 2000, to $38.5 million for the year ended December 31,
2001, an increase of $30.1 million. ARPU including roaming increased from $75 to
$83 for the year ended December 31, 2000, and December 31, 2001, respectively.
This increase primarily resulted from the continued build-out of our network,
including highways covering northwest Ohio, northern Indiana and Pennsylvania.
Equipment revenues. Equipment revenues consist of handsets and accessories
sold to customers through our stores and through our direct sales force.
Equipment revenues for the year ended December 31, 2001, were $7.1 million,
compared to $3.1 million for the year ended December 31, 2000, representing an
increase of $4.0 million. The increase in equipment revenues is the result of an
increase in the number of handsets sold by our stores and direct sales force,
somewhat offset by a lower sales price per unit.
Cost of service. Cost of service for the year ended December 31, 2001, was
$100.5 million, compared to $27.5 million for the year ended December 31, 2000,
an increase of $73.0 million. This increase reflects an increase in roaming
expense and long distance charges of $29.9 million and the increase in costs
incurred under our network services agreement with the Alliances of $12.4
million, both as a result of our subscriber growth during 2001. Additionally,
cost of service in 2001 was higher than 2000 due to the increase in network
operations, including tower lease expense, circuit costs and payroll expense, of
$18.1 million, increased customer care, activations, and billing expense of $9.6
million and the increase in other variable expenses, including switching and
national platform expenses, of $3.0 million.
Cost of equipment. Cost of equipment includes the cost of handsets and
accessories sold by our stores and direct sales force to our customers. Cost of
equipment for the year ended December 31, 2001, was $14.9 million, compared to
$9.8 million for the year ended December 31, 2000, an increase of $5.1 million.
The increase in the cost of equipment is the result of the growth in our
wireless customers, partially offset by the decreasing unit cost of the
handsets. For competitive and marketing reasons, we have sold handsets to our
customers below our cost and expect to continue to sell handsets at a price
below our cost for the foreseeable future.
Selling and marketing expenses. Selling and marketing expenses consist of
costs associated with operating our retail stores, including marketing,
advertising, payroll and sales commissions. Selling and marketing expense also
includes commissions paid to national and local third party distribution
channels and subsidies on handsets sold by third parties for which we do not
record revenue. Selling and marketing expenses rose to $49.0 million for the
year ended December 31, 2001, compared to $18.0 million for the year ended
December 31, 2000, an increase of $31.0 million. This increase reflects the
increase in the costs of operating our 38 retail stores, 22 of which were
launched during 2001. The costs include marketing and advertising in our sales
territory of $17.6 million, the increase in subsidies on handsets sold by third
parties of $10.1 million and the increase in commissions paid to third parties
of $3.3 million. We expect selling and marketing expense to increase in the
aggregate as we expand our coverage, launch additional stores and add customers.
General and administrative expenses General and administrative expenses for
the year ended December 31, 2001, were $28.4 million compared to $12.5 million
in 2000, an increase of $15.9 million. The increase reflects an increase in the
provision for doubtful accounts of $5.0 million, an increase in the Sprint
management fee of $4.6 million as a result of higher subscriber revenues in
2001, increased professional fees, including non-recurring costs related to
pursuing strategic business alternatives of $1.3 million, increased headcount
and professional services at Horizon Services of $1.8 million needed to support
our growth, and other general expenses, including property and franchise taxes,
of $3.2 million.
Non-cash compensation expense. For the year ended December 31, 2001 and
2000, we recorded stock-based compensation expense of approximately $1.4 million
and $500,000, respectively. The $1.4 million includes approximately $725,000
related to the distribution of 7,249 shares of Horizon Telcom stock to employees
of Horizon PCS and approximately $709,000 for certain stock options granted in
November 1999. Stock-based compensation expense will continue to be recognized
through the conclusion of the vesting period for these options in 2005.
31
Depreciation and amortization expense. Depreciation and amortization
expenses increased by $12.4 million to a total of $18.5 million in 2001. The
increase reflects the continuing construction of our network as we funded
approximately $116.6 million of capital expenditures during 2001. In addition,
because our acquisition of Bright PCS was accounted for as a purchase
transaction, amortization has increased as a result of amortizing the related
goodwill and intangible assets. Amortization expense of the intangible asset was
approximately $1.7 million and $900,000 during 2001 and 2000, respectively.
Related goodwill amortization was approximately $400,000 and $200,000 in 2001
and 2000, respectively. Goodwill amortization ceased as of December 31, 2001,
with the adoption of SFAS No. 142.
Amortization expense also includes amortization of an intangible asset
recorded in September 2000 related to the new markets granted to us by Sprint in
September 2000. Amortization expense related to this intangible asset was
approximately $800,000 and $200,000 for the years ended December 31, 2001 and
2000, respectively.
Loss on disposal of PCS assets. During 2001, we incurred a loss of
approximately $1.3 million related to the upgrade of network equipment to 3G
technology. The loss represents the net book value of the assets disposed of,
less proceeds received for the equipment.
Gain (Loss) on exchange of stock. On April 2, 2001, the Company distributed
7,249 shares of Horizon Telcom stock to employees of Horizon PCS. In conjunction
with this transaction, the Company recognized a non-operating loss of
approximately $400,000 representing the reduced fair market value of the stock
at the time of the transaction compared to the original holding value of the
investment. The related compensation expense is recorded as a component of
non-cash compensation expense in 2001. In 2000, the Company recognized a gain of
approximately $11.6 million on Horizon Telcom stock used in the acquisition of
Bright PCS.
Interest income and other, net. Interest income and other for the year
ended December 31, 2001, was $5.0 million. Interest income was generated from
the short-term investment of cash proceeds from our private equity sales,
discount notes and drawings under the secured credit facility, all completed on
September 26, 2000. Additionally, in conjunction with our offering of $175.0
million in senior notes in December 2001, we were required to escrow
approximately $48.7 million of the proceeds (in an interest bearing account) for
the first four interest payments due under the notes' terms. We recorded $69,000
of interest income on the escrow funds.
Interest expense, net. Interest expense for the year ended December 31,
2001, was $27.4 million, compared to $10.3 million in 2000. Interest on the
outstanding balance of our secured credit facility accrues at LIBOR plus a
specified margin. On June 29, 2001, we agreed to several changes in the secured
credit facility including a 25 basis point increase in the annual interest rate.
At December 31, 2001, the interest rate on the amount borrowed on our secured
credit facility was 6.16%. Interest expense on the secured credit facility was
$4.8 million and $1.2 million during 2001 and 2000, respectively.
We accrue interest at a rate of 14.00% per annum on our discount notes
through October 1, 2005, and will pay interest semi-annually in cash thereafter.
Unaccreted interest expense on the discount notes was $135.9 million at December
31, 2001. Interest expense on the discount notes was $23.8 million and $5.1
million during 2001 and 2000, respectively.
On June 15, 2002, we began making semi-annual interest payments on our
senior notes issued in December 2001 at an annual rate of 13.75%. Interest
expense accrued on the senior notes was $1.5 million during 2001. Under the
terms of the senior notes, cash to cover the first four semi-annual interest
payments was placed in an escrow account.
Interest expense also includes approximately $1.1 million and $1.0 million
in 2001 and 2000, respectively, of amortization from the deferred financing fees
related to our secured credit facility, our discount notes and our senior notes.
Also contributing to the increase in interest expense during 2001 was $2.8
million in commitment fees we paid on the unused portion of our secured credit
facility.
The increase in interest expense as a result of our additional indebtedness
was somewhat offset by capitalized interest related to our network build-out.
Capitalized interest during 2001 and 2000 was approximately $6.6 million and
32
$1.5 million, respectively. We expect our interest expense to increase in the
future as we borrow under our secured credit facility to fund our network
build-out and operating losses.
Income tax (expense) benefit. Until September 26, 2000, we were included in
the consolidated Federal income tax return of Horizon Telcom. We provided for
Federal income taxes on a pro rata basis, consistent with a consolidated
tax-sharing agreement. As a result of the sale of the convertible preferred
stock on September 26, 2000, we will not be able to participate in the
tax-sharing agreement. Additionally, we will not be able to recognize any net
operating loss benefits until we generate taxable income. We did not record any
income tax benefit for the year ended December 31, 2001, because of the
uncertainty of generating future taxable income to be able to recognize current
net operating loss carryforwards.
In 2000, we recorded an income tax expense of $1.1 million from continuing
operations, resulting primarily from the recognition of an excess loss account
on the deconsolidation from the Horizon Telcom affiliated group, reduced by the
benefit of the carryback net operating losses and an increase in the valuation
allowance. In addition, we generated a tax of $4.3 million on a stock dividend
of 10% of Horizon Telcom stock held by us to Horizon Telcom. The tax on the
stock dividend was charged directly to equity and not recorded as an income tax
expense.
Loss on continuing operations. Our loss on continuing operations for the
year ended December 31, 2001, was $113.5 million compared to $40.2 million for
the year ended December 31, 2000. The increase in our loss reflects the
continued expenses related to launching our markets and building our customer
base.
Discontinued operations. In April 2000, we transferred our Internet, long
distance and other businesses unrelated to PCS wireless operations to Horizon
Technology (formerly United Communications), a separate subsidiary of Horizon
Telcom, at net book value. Accordingly, the results of operations for these
business units have been reported as discontinued operations in the prior
period, net of tax benefits.
Extraordinary loss. As a result of the September 26, 2000, financings, we
retired long-term debt payable to financial institutions. As a result of the
debt extinguishments, we expensed the unamortized portion of the related
financing costs, as well as fees associated with the debt extinguishments. These
fees and expenses amounted to approximately $748,000 and are shown on the
statement of operation net of a tax benefit of $262,000.
Preferred stock dividend. Our convertible preferred stock pays a stock
dividend at the rate of 7.5% per annum, payable semi-annually commencing May 1,
2001. The dividends are paid with additional shares of convertible preferred
stock. On May 1, 2001, we issued an additional 1,163,051 shares of preferred
stock in payment of the stock dividends through April 30, 2001, and on November
1, 2001, we issued an additional 1,021,882 shares of preferred stock in payment
of the stock dividends through October 31, 2001.
Other comprehensive income (loss). In the first quarter of 2001, we entered
into a two-year interest rate swap, effectively fixing $25.0 million of our term
loan borrowed under the secured credit facility at a rate of 9.4%. In the third
quarter of 2001, we entered into another two-year interest rate swap,
effectively fixing the remaining $25.0 million of our term loan borrowed under
the secured credit facility at 7.65%. Other comprehensive income may fluctuate
based on changes in the fair value of the swap instrument. Other comprehensive
loss of approximately $800,000 and an other expense of approximately $200,000
were recorded for the year ended December 31, 2001. We do not expect the effect
of these swaps to have a material impact to interest expense for the remainder
of their lives.
LIQUIDITY AND CAPITAL RESOURCES
As of December 31, 2002, the Company was in compliance with its covenants
with regards to its outstanding debt. However, we believe that it is probable
that the Company will violate one or more covenants under its secured credit
facility in 2003. The failure to comply with a covenant would be an event of
default under our secured credit facility, and would give the lenders the right
to pursue remedies. These remedies could include acceleration of amounts due
under the facility. If the lenders elected to accelerate the indebtedness under
the facility, this would also represent a default under the indentures for our
senior notes and discount notes (see "Note 11" in the "Notes to Consolidated
Financial Statements") and would give Sprint certain remedies under our Consent
33
and Agreement with Sprint. See "The Sprint Agreements." The Company does not
have sufficient liquidity to repay all of the indebtedness under these
obligations. Horizon PCS's independent auditors' report dated March 4, 2003
states that these matters raise substantial doubt about the Company's ability to
continue as a going concern.
In addition, without the additional borrowing capacity under the senior
credit facility, significant modifications in the amounts charged by Sprint
under the management agreements, significant modifications in the amounts
charged by the Alliances under the Network Service Agreement and/or a
restructuring of our capital structure, the Company likely does not have
sufficient liquidity to fund its operations so that it can pursue its desired
business plan and achieve positive cash flow from operations.
The Company plans to take the following steps (some of which it has already
commenced) within the next six months to achieve compliance under its debt
facilities and to fund its operations:
o Entering into negotiations with Sprint to adjust the amounts charged
by Sprint to the Company under the Sprint management agreements to
improve the Company's cash flow from operations.
o Entering into negotiations with the lenders under our senior credit
facility to modify our debt covenants and, if necessary, to obtain
waivers and/or a forbearance agreement with respect to defaults under
the senior credit facility.
o Entering into negotiations with the lenders under our senior credit
facility to obtain the right to borrow under the $95 million line of
credit and to modify the repayment terms of this facility.
o If the lenders under the senior credit facility accelerate the senior
secured debt, negotiating a waiver or forbearance agreement with
representatives of the holders of our senior notes and discount notes.
o Entering into negotiations or arbitration with the Alliances to reduce
the amounts charged by Alliances to the Company under the network
agreements to improve the Company's cash flow from operations.
o Pursuing means to reduce operating expenses by critically analyzing
all expenses and entering into pricing negotiations with key vendors.
The Company would need to be successful in these efforts to be in position
to execute its business plan and achieve positive cash flow. The Company can
give no assurance that it will be successful in these efforts. In its early
discussions with Sprint, Sprint has indicated reluctance in modifying the fee
structure as needed under the first item listed above.
The Company has engaged Berenson & Company, an investment banking firm, to
assist in its efforts to renegotiate or restructure its equity, debt and other
contractual obligations.
If the Company is unable to restructure its current debt and other
contractual obligations as discussed above, it would need to:
o obtain financing to satisfy or refinance its current obligations;
o find a purchaser or strategic partner for the Company's business or
otherwise dispose of its assets; and/or
o seek bankruptcy protection.
Financing Overview. In 2000, Horizon Telcom formed Horizon PCS, to which it
transferred its subsidiary Horizon Personal Communications. In June 2000,
Horizon PCS acquired the remaining 74% of Bright PCS. Horizon PCS also entered
into several major financing transactions in September 2000 and December 2001.
On September 26, 2000, an investor group led by Apollo Management purchased
$126.5 million of Horizon PCS' convertible preferred stock in a private
placement. Concurrent with the closing, the holder of Horizon PCS' $14.1 million
short-term convertible note (including accrued interest of $1.1 million)
converted the note into the same convertible preferred stock purchased by the
investor group.
34
On September 26, 2000, Horizon PCS received $149.7 million from the
issuance of $295.0 million of senior discount notes due October 1, 2010 (the
"discount notes"). The discount notes accrete in value until October 1, 2005, at
a rate of 14.00% compounded semi-annually. The discount notes do not require us
to pay cash interest until the fifth year after they are issued, at which point
we will pay semi-annual interest until maturity. The discount notes are general
unsecured obligations and are guaranteed by our existing and future domestic
restricted subsidiaries. The guarantees are senior subordinated obligations of
our existing and future domestic restricted subsidiaries. The rights of the
holders of our discount notes to receive payments pursuant to the guarantees are
subordinated in right of payment to the holders of our existing and future
senior indebtedness, including our $250.0 million secured credit facility
described below.
Also on September 26, 2000, Horizon PCS received $50.0 million as part of a
$225.0 million secured credit facility with a bank group led by First Union
National Bank. The borrowing capacity of the secured credit facility was
increased to $250.0 million in November 2000. The secured credit facility
consists of the following two loans:
o a $155.0 million term loan, available in a $50.0 million tranche and a
$105.0 million tranche, under which we may borrow to finance (i) the
direct cost of the construction and operation of a regional digital
wireless telecommunications network on the Sprint PCS system; (ii)
transaction costs and expenses; and (iii) working capital and other
general corporate purposes; and
o a $95.0 million revolving credit facility, the proceeds of which may
be used to fund working capital.
The $50.0 million tranche was drawn on September 26, 2000, and had an
interest rate of 6.33% at December 31, 2002. As required, we drew the remaining
$105.0 million tranche in March, 2002. The interest rate on the $105.0 million
tranche was 5.40% at December 31, 2002.
On December 7, 2001, Horizon PCS received $175.0 million from the issuance
of unsecured senior notes (the "senior notes") due on June 15, 2011. Interest is
paid semi-annually on June 15 and December 15 at 13.75% annually, with interest
payments commencing June 15, 2002. Approximately $48.7 million of the offering's
proceeds were placed in an escrow account to fund the first four semi-annual
interest payments. The first of these payments were made on June 15, 2002, and
December 15, 2002. The senior notes were subject to an exchange offer that was
completed in 2002.
The following table presents the estimated future outstanding long-term
debt at the end of each year and future required annual principal payments for
each year then ended associated with our financing based on contractual level of
long-term indebtedness:
(Dollars in millions) Years Ending December 31,
-------------------------------------------------------------------
2003 2004 2005 2006 2007 Thereafter
------------ ------------ ------------- ------------ ------------ -------------
Secured credit facility,
due 2008..................... $ 155.0 $ 146.7 $ 126.5 $ 99.7 $ 71.6 $ --
Variable interest rate (1) 5.70% 5.70% 5.70% 5.70% 5.70% 5.70%
Principal payments........ $ -- $ 8.3 $ 20.2 $ 26.8 $ 28.1 $ 71.6
Discount notes, due 2010 (2)... $ 217.5 $ 253.1 $ 283.7 $ 286.1 $ 288.5 $ --
Fixed interest rate....... 14.00% 14.00% 14.00% 14.00% 14.00% 14.00%
Principal payments........ $ -- $ -- $ -- $ -- $ -- $ 295.0
Senior notes, due 2011......... $ 175.0 $ 175.0 $ 175.0 $ 175.0 $ 175.0 $ --
Fixed interest rate....... 13.75% 13.75% 13.75% 13.75% 13.75% 13.75%
Principal payments........ $ -- $ -- $ -- $ -- $ -- $ 175.0
______________________
(1) Interest rate on the secured credit facility equals LIBOR plus a margin
that varies from 400 to 450 basis points. At December 31, 2002, $50.0
million was effectively fixed at 8.53% through two interest rate swaps
discussed in "ITEM 3. Quantitative and Qualitative Disclosures About Market
Risk". The nominal interest rate is assumed to equal 5.70% for all periods
($50.0 million at 6.33% and $105.0 million at 5.40%).
(2) Face value of the discount notes is $295.0 million. End of year balances
presented herein are net of the discount and net of the related warrant
value and assume accretion of the discount as interest expense at an annual
rate of 14.00%.
35
Statement of Cash Flows. At December 31, 2002, we had cash and cash
equivalents of approximately $86.1 million and working capital of approximately
$87.6 million. At December 31, 2001, we had cash and cash equivalents of
approximately $123.8 million and working capital of approximately $117.0
million. The decrease in cash and cash equivalents of approximately $37.7
million is primarily attributable to the funding of our loss from continuing
operations of approximately $176.9 million (this loss includes certain non-cash
charges) and funding our capital expenditures of approximately $63.1 million
during 2002, offset by the $105.0 million draw on the secured credit facility.
The Company was also required to escrow funds sufficient to cover the first
four interest payments on the senior notes. These funds are presented as
restricted cash on the consolidated balance sheet. Net cash used in operating
activities for the year ended December 31, 2002, was approximately $78.8
million. This reflects the continuing use of cash for our operations to build
our customer base, including but not limited to providing service in our markets
and the costs of acquiring new customers. The net loss of approximately $176.9
million was partially offset by increases to depreciation, increases in accrued
liabilities and offset by increases to accounts receivable.
Net cash used in investing activities for the year ended December 31, 2002,
was approximately $61.5 million. Our capital expenditures for that period were
approximately $63.1 million, reflecting the continuing build-out and upgrade of
our network. At December 31, 2002, we operated approximately 828 cell sites in
our network (an additional 510 cell sites were operated by the Alliances in our
territories). This represents an addition of approximately 224 sites during the
year ended December 31, 2002. In addition to the sites, we have increased the
number of switching stations in our territory and have increased our number of
retail stores from 38 at the end of 2001 to 44 at December 31, 2002. We expect
future capital expenditures to be much less than 2002 as we focus more on
operational and maintenance of our network and less on build out and expansion.
During 2002, the Company entered into a sale-leaseback transaction with an
unrelated third party on vehicles used in the network and sales operations
teams. As a result of this transaction, the Company recorded a loss on disposal
of approximately $300,000. The vehicles disposed had a net book value of $1.5
million.
Net cash provided by financing activities for the year ended December 31,
2002, was $102.7 million consisting mostly of the March 2002 draw on the term
loan A required under our secured credit facility of $105.0 million. We incurred
$2.3 million of deferred financing fees related to the amendment of our
covenants under the secured credit facility discussed above.
Debt Covenants. Horizon PCS' secured credit facility includes financial
covenants that must be met each quarter. The Company did not meet the covenant
for EBITDA for the first quarter of 2002. As a result of higher than expected
gross and net additions to Horizon PCS subscribers for that quarter, the Company
incurred additional expenses to add those customers. Although the Company
ultimately benefits from the revenues generated by new subscribers, the Company
incurs one-time expenses associated with new subscribers, including commissions,
handset subsidies, set up costs for the network and marketing expenses. As a
result, these new subscriber costs negatively affect EBITDA in the short-term
during the period of the addition of new subscribers, which led to
non-compliance with the EBITDA covenant for the first quarter of 2002.
On June 27, 2002, the Company entered into a fourth amendment to its
secured credit agreement with the bank group. The amendment adjusts certain
financial covenants and increases the margin on the base interest rate by 25
basis points to LIBOR plus 400 to 450 basis points, while also providing for the
payment of fees to the banking group, an increase in post-default interest
rates, a new financial covenant regarding minimum available cash, additional
prepayment requirements, restrictions on Horizon PCS' borrowings under the
remaining $95.0 million line of credit and deposit requirements on the $105.0
million we borrowed under the secured credit facility in March 2002.
36
The following table details the maximum amount available to be borrowed on
the line of credit for the period then ended:
MAXIMUM AMOUNT
AVAILABLE TO BE
BORROWED
----------------
December 31, 2002.......................... --
March 31, 2003.............................. --
June 30, 2003............................... $ 16,000,000
September 30, 2003.......................... 26,000,000
December 31, 2003........................... 33,000,000
March 31, 2004.............................. 52,000,000
April 1, 2004............................... 95,000,000
The following table details the minimum balance requirements placed on cash
and cash equivalents under the amended terms of the secured credit facility:
DEPOSIT BALANCE
REQUIREMENT
---------------
November 16, 2002, through December 31, 2002. $ 55,000,000
January 1, 2003, through February 15, 2003... 33,000,000
February 16, 2003, through March 31, 2003.... 11,000,000
April 1, 2003, through May 15, 2003.......... 5,500,000
As of December 31, 2002, the Company is in compliance with all of the
applicable covenants, as amended. However as described above, the Company
believes it is probable the Company will violate one or more of the covenants
during 2003.
Contractual Obligations. The following table summarizes contractual
principal maturities of long-term debt outstanding (which is recorded net of
unaccreted interest on the balance sheet) and minimum payments required under
operating leases and other long-term commitments as of December 31, 2002:
LONG-TERM
DEBT AND ALLIANCES
CURRENT OPERATING NETWORK
YEAR MATURITIES LEASES AGREEMENT TOTAL
- ------------------------- -------------- -------------- -------------- --------------
2003...................... $ -- $ 16,122,000 $ 38,600,000 $ 54,722,000
2004...................... 8,250,000 15,295,000 -- 23,545,000
2005...................... 20,187,500 12,590,000 -- 32,777,500
2006...................... 26,750,000 7,783,000 -- 34,533,000
2007...................... 28,062,500 3,320,000 31,382,500
Thereafter................ 541,750,000 7,027,000 -- 548,777,000
-------------- -------------- -------------- --------------
Total.................. $ 625,000,000 $ 62,137,000 $ 38,600,000 $ 725,737,000
============== ============== ============== ==============
Credit Ratings. At December 31, 2002, the discount notes were rated by
Standard and Poors ("S&P") as "CCC+" with a negative outlook, which means an
obligation "is currently vulnerable to nonpayment and is dependent upon
favorable business, financial, and economic conditions for the obligor to meet
its financial commitment on the obligation. In the event of adverse business,
financial, or economic conditions, the obligor is not likely to have the
capacity to meet its financial commitment on the obligation." At December 31,
2002, Moody's Investors Services ("Moody's") rated the notes as "C", which is
Moody's lowest bond rating. The CUSIP on the discount notes is 44043UAC4.
At December 31, 2002, the senior notes were rated by S&P as "CCC+" with a
negative outlook. Moody's rated the senior notes as "C," which is Moody's lowest
bond rating. The CUSIP on the senior notes is 44043UAH3.
Funding Requirements. At December 31, 2002, we had a $95.0 million line of
credit, with certain restrictions discussed above, committed under our secured
credit facility. However, if we violate our debt covenants this line will not be
37
available. We believe the increase in churn and subsequent write-offs of
involuntary NDASL deactivations combined with a slow down in activation growth
during the second and third quarters of 2002 has extended the time it will take
to reach positive EBITDA.
EBITDA is not a measure of financial performance under accounting
principles generally accepted in the United States of America and should not be
considered an alternative to net income (loss) as a measure of performance or to
cash flows as a measure of liquidity.
For the year ended December 31, 2003, we anticipate our funding needs will
be between $80.0 and $90.0 million, including projected operating cash losses,
cash interest payments and capital expenditures. The actual funds required to
build-out and upgrade our network and to fund operating losses, working capital
needs and other capital needs may vary materially from these estimates and
additional funds may be required because of unforeseen delays, cost overruns,
unanticipated expenses, regulatory changes, engineering design changes and
required technological upgrades and other technological risks. Additionally,
Sprint is planning to continually upgrade their nationwide network to deploy
higher data rate speeds that may require us to outlay additional capital
expenditures in future years that have not been determined at this point. Should
the Company be required to upgrade its network to provide additional 3G services
that meet Sprint's standards, we may need to obtain additional financing to fund
those capital expenditures.
If we are unable to obtain any necessary additional financing or if we
incur further restrictions on the availability of our current funding and we are
unable to complete our network upgrades and build-out as required by the
management agreements, Sprint may terminate our agreements; we will no longer be
able to offer Sprint PCS products and services. In this event, Sprint may
purchase our operating assets or capital stock under terms defined in our
agreements with Sprint. Also, any delays in our build-out may result in
penalties under our Sprint agreements, as amended.
Other risk factors that may impact liquidity are:
o We may not be able to sustain our growth or obtain sufficient revenue
to achieve and sustain positive cash flow from operations or
profitability;
o We may experience a higher churn rate, which could result in lower
revenue;
o New customers may be of lower credit quality, which may require a
higher provision for doubtful accounts;
o Increased competition causing declines in ARPU;
o Our failure to comply with restrictive financial and operational
covenants under the secured credit facility; and
o Our upgrade to 3G services, due to which we have incurred significant
capital expenditures, may not be successful in the marketplace and may
not result in incremental revenue.
SEASONALITY
Our business is subject to seasonality because the wireless industry has
historically been heavily dependent on calendar fourth quarter results. Among
other things, the industry relies on significantly higher customer additions and
handset sales in the calendar fourth quarter as compared to the other three
calendar quarters. A number of factors contribute to this trend, including:
o the increasing use of retail distribution, which is more dependent
upon the year-end holiday shopping season;
o the timing of new product and service announcements and introductions;
o competitive pricing pressures; and
38
o aggressive marketing and promotions.
INFLATION
We believe that inflation has not had and will not have a material adverse
effect on our results of operation.
CRITICAL ACCOUNTING POLICIES & ESTIMATES
Allowance for Doubtful Accounts. Estimates are used in determining our
allowance for doubtful accounts receivable, which are based on a percentage of
our accounts receivables by aging category. The percentage is derived by
considering our historical collections and write-off experience, current aging
of our accounts receivable and credit quality trends, as well as Sprint's credit
policy. However, our historical write-off and receivables trends for our
wireless customers are limited due to the recent launch of new markets. The
following table provides certain statistics on our allowance for doubtful
accounts receivable for the year ended December 31:
2002 2001 2000
------------- ------------- -------------
Provision as a % of subscriber revenue............... 10% 8% 8%
Write-offs, net of recoveries as a % of subscriber
revenue............................................ 10% 7% 5%
Allowance for doubtful accounts as a % of
accounts receivable................................ 11% 11% 22%
Under Sprint's service plans, wireless customers who do not meet certain
credit criteria can select any plan offered subject to an account spending
limit, referred to as ASL, to control credit risk exposure. Account spending
limits range from $125 to $200 depending on the credit quality of the customer.
Prior to May 2001, all of these customers were required to make a deposit that
could be credited against future billings. In May 2001, the deposit requirement
was eliminated on certain, but not all, credit classes ("No Deposit ASL" or
"NDASL"). As a result, a significant amount of our new wireless customer
additions (approximately 59%) were NDASL subscribers during the program's
available period.
This increase in sub-prime credit customers under the NDASL program has led
to higher churn rates (defined below) and an increase in account write-offs.
While the average balance written-off for an NDASL customer is lower than the
average write-off balances of non-account spending limit customers, the number
of NDASL write-offs has caused an increase in the total amount written-off each
quarter, resulting in the need for a higher allowance and provision for doubtful
accounts receivable.
Beginning in November 2001, the NDASL program was replaced by "Clear Pay",
which had tightened credit criteria. In April 2002, we replaced Clear Pay with
"Clear Pay II," which re-instated the deposit requirement for most credit
classes with account spending limits and featured increased back-office controls
with respect to credit qualification and account collections. We anticipate the
implementation of the Clear Pay II program will reduce our future bad debt
exposure. If the deposit requirement is later removed or if these allowances for
doubtful accounts receivable estimates are insufficient for any reason, our
operating income and available cash could be reduced. At December 31, 2002, the
allowance for doubtful accounts was $2,308,000. At December 31, 2002,
approximately 30% of the subscribers in our markets were account spending limit
customers with no deposit paid.
Revenue Recognition. The Company records equipment revenue from the sale of
handsets and accessories to subscribers in our retail stores and to local
distributors in our territories upon delivery. The Company does not record
equipment revenue on handsets and accessories purchased from national
third-party retailers or directly from Sprint by subscribers in our territory.
After the handset has been purchased, the subscriber purchases a service
package, revenue from which is recognized monthly as service is provided and is
included in subscriber revenue, net of credits related to the billed revenue.
The Company believes the equipment revenue and related cost of equipment
associated with the sale of wireless handsets and accessories is a separate
earnings process from the sale of wireless services to subscribers. For industry
competitive reasons, the Company sells wireless handsets at a loss. Because such
arrangements do not require a customer to subscribe to the Company's wireless
services and because the Company sells wireless handsets to existing customers
at a loss, the Company accounts for these transactions separately from
agreements to provide customers wireless service.
39
The Company's accounting policy for the recognition of activation fee
revenue is to record the revenue over the periods such revenue is earned in
accordance with the current interpretations of SEC Staff Accounting Bulletin
("SAB") No. 101, "Revenue Recognition in Financial Statements." Accordingly,
activation fee revenue and direct customer activation expense is deferred and
will be recorded over the average life for those customers (30 months) that are
assessed an activation fee.
A management fee of 8% of collected PCS revenues from Sprint PCS
subscribers based in the Company's territory, is accrued as services are
provided and remitted to Sprint and recorded as general and administrative.
Revenues generated from the sale of handsets and accessories, inbound and
outbound Sprint PCS roaming fees, and roaming services provided to Sprint PCS
customers who are not based in the Company's territory are not subject to the 8%
management fee.
Impairment of Long-Lived Assets and Goodwill. The Company accounts for
long-lived assets and goodwill in accordance with the provisions of Statement of
Financial Accounting Standards ("SFAS") No. 144, "Accounting for the Impairment
or Disposal of Long-Lived Assets" and SFAS No. 142, "Goodwill and Other
Intangible Assets." SFAS No. 144 requires that long-lived assets and certain
identifiable intangibles be reviewed for impairment whenever events or changes
in circumstances indicate that the carrying amount of an asset may not be
recoverable. Recoverability of assets to be held and used is measured by a
comparison of the carrying amount of an asset to future net cash flows expected
to be generated by the asset. If such assets are considered to be impaired, the
impairment to be recognized is measured by the amount by which the carrying
amount of the assets exceeds the fair value of the assets. Assets to be disposed
of are reported at the lower of the carrying amount or fair value less costs to
sell. As a result, the Company recorded approximately $3.5 million related to
accelerated depreciation on an impaired asset for the year ended December 31,
2002. SFAS No. 142 requires annual tests for impairment of goodwill and
intangible assets that have indefinite useful lives and interim tests when an
event has occurred that more likely than not has reduced the fair value of such
assets. The Company recorded a goodwill impairment of $13.2 million during the
year ended December 31, 2002.
RECENT ACCOUNTING PRONOUNCEMENTS
In December 2002, the Financial Accounting Standards Board ("FASB") issued
SFAS No. 148, "Accounting for Stock-Based Compensation - Transition and
Disclosure - an amendment of FASB Statement No. 123." This Statement provides
alternative methods of transition for a voluntary change to the fair value based
method of accounting for stock-based employee compensation. In addition, this
Statement requires prominent disclosures in both annual and interim financial
statements about the method of accounting for stock-based employee compensation
and the effect of the method used on reported results. The Company adopted the
disclosure requirements of SFAS No. 148 on December 31, 2002, but continues to
account for stock compensation costs in accordance with APB Opinion No. 25 (See
Note 18 in the "Notes to Consolidated Financial Statements").
In June 2002 the FASB issued SFAS No. 146, "Accounting for Costs Associated
with Exit or Disposal Activities." This Statement addresses financial accounting
and reporting for costs associated with exit or disposal activities by requiring
that expenses related to the exit of an activity or disposal of long-lived
assets be recorded when they are incurred and measurable. Prior to SFAS No. 146,
these charges were accrued at the time of commitment to exit or dispose of an
activity. The Company will adopt SFAS 146 on January 1, 2003, and it is not
expected to have a material effect on the Company's financial position, results
of operations 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." SFAS No. 145 addresses the accounting for gains and losses from
the extinguishment of debt, economic effects and accounting practices of
sale-leaseback transactions and makes technical corrections to existing
pronouncements. The Company will adopt SFAS No. 145 on January 1, 2003, and it
is not expected to have a material effect on the Company's financial position,
results of operations or cash flows.
In June 2001, the FASB issued SFAS No. 143, "Accounting for Asset
Retirement Obligations." This statement addresses financial accounting and
reporting for obligations associated with the retirements of tangible long-lived
assets and the associated asset retirement costs. It applies to legal
obligations associated with the retirement of long- lived assets that result
40
from the acquisition, construction, development and the normal operation of a
long-lived asset. The Company will adopt this statement effective January 1,
2003. Management is currently in the process of evaluating its impact on the
Company's financial position, results of operations or cash flows.
RISK FACTORS
WE DO NOT HAVE SUFFICIENT CASH AND CASH COMMITMENTS TO ENABLE US TO PURSUE OUR
DESIRED BUSINESS PLAN TO ACHIEVE POSITIVE CASH FLOW.
Our business and prospects have been significantly adversely affected by a
number of factors. These factors include the general economic recession in the
U.S., the significant slow down in subscriber acquisition over the past two
quarters throughout most of the wireless telecommunications industry, aggressive
pricing competition which has developed within the wireless telecommunications
industry, the greater than expected churn which we have suffered and several
factors which arise from our relationship with Sprint. As a result of these and
other factors, we likely will not have sufficient cash and cash commitments to
enable us to pursue our desired business plan to achieve positive cash flow.
As a result of this situation, we have embarked on a number of initiatives
to attempt to:
o reduce operating expenses,
o reduce churn,
o negotiate a modification in the fees we pay to Sprint,
o negotiate or otherwise achieve a reduction in the fees we pay to
NTELOS,
o negotiate modifications to the covenants and payment terms of our
senior secured facility, and
o negotiate the right to obtain funding under our $95 million revolving
line of credit under our senior secured facility.
There can be no assurance that we will achieve any of these goals or that
we will be able to develop a business plan which is reasonably designed to
achieve positive cash flow.
Because of the status of the financing market for telecommunications
companies, we believe that it is unlikely that we could raise a sufficient
amount of financing to cure our anticipated cash shortfall.
We have retained Berenson & Company, a financial advisory firm, to assist
us in analyzing and developing our business plan, in addressing our strategic
relationships with Sprint and NTELOS and in considering potential restructurings
of our capital structure.
WE ANTICIPATE THAT DURING 2003 WE WILL BECOME IN NON-COMPLIANCE WITH ONE OR MORE
OF THE FINANCIAL COVENANTS UNDER OUR SENIOR SECURED FACILITY.
Our secured credit facility provides for aggregate borrowings of $250.0
million of which $155.0 million was borrowed as of December 31, 2002. Horizon
PCS' secured credit facility includes financial covenants that must be met each
quarter.
We anticipate that, during 2003, we will become in non-compliance with one
or more of the financial covenants under our senior secured facility. This may
occur as soon as the determination of our covenant compliance as of the end of
the first quarter of 2003. If we do so, we will not have the right to borrow
under our revolving line of credit. In addition, the banks would have the right
to accelerate the indebtedness under the senior secured facility and to pursue
remedies. In the event that the lenders under the senior secured facility
accelerate our indebtedness, such an acceleration would cause an event of
default under the indentures for our senior discount notes and our senior notes.
41
We did not meet the covenant for EBITDA for the first quarter of 2002. On
June 27, 2002, Horizon PCS obtained a waiver of the non-compliance with the
EBITDA covenant for the first quarter of 2002 and entered into an amendment of
the secured credit facility. The amended facility primarily adjusts certain
financial covenants and increases the margin on the base interest by 25 basis
points, while also providing for the payment of fees to the banking group, an
increase in post-default interest rates, a new financial covenant regarding
minimum available cash, additional prepayment requirements, restrictions on
Horizon PCS' borrowings under the remaining $95.0 million revolving credit
facility and deposit requirements on the $105.0 million borrowed under the
secured credit facility in March 2002.
OUR SUBSTANTIAL INDEBTEDNESS COULD ADVERSELY AFFECT OUR FINANCIAL HEALTH AND
PREVENT US FROM FULFILLING OUR LONG-TERM DEBT OBLIGATIONS.
As of December 31, 2002, our total debt outstanding was $625.0 million,
comprised of $155.0 million borrowed under our secured credit facility, $175.0
million due under our senior notes issued in December 2001 and $295.0 million
represented by our discount notes (which are reported on our balance sheet at
December 31, 2002, net of a discount of approximately $108.7 million).
Our substantial debt will have a number of important consequences,
including the following:
o we may not have sufficient funds to pay interest on, and principal of,
our debt;
o we have to dedicate a substantial portion of any positive cash flow
from operations to the payment of interest on, and principal of, our
debt, which will reduce funds available for other purposes;
o we may not be able to obtain additional financing for currently
unanticipated capital requirements, capital expenditures, working
capital requirements and other corporate purposes;
o some borrowings likely will be at variable rates of interest, which
will result in higher interest expense in the event of increases in
market interest rates;
o due to the liens on substantially all of our assets and the pledges of
equity ownership of our subsidiaries that secure our secured credit
facility, our lenders may control our assets upon a default;
o our debt increases our vulnerability to general adverse economic and
industry conditions;
o our debt limits our flexibility in planning for, or reacting to,
changes in our business and the industry in which we operate; and
o our debt places us at a competitive disadvantage compared to our
competitors that have less debt.
TO SERVICE OUR INDEBTEDNESS, WE WILL REQUIRE A SIGNIFICANT AMOUNT OF CASH. OUR
ABILITY TO GENERATE CASH DEPENDS ON MANY FACTORS BEYOND OUR CONTROL.
Our ability to make payments on and to refinance our indebtedness, and to
fund our network build-out, anticipated operating losses and working capital
requirements will depend on our ability to generate cash in the future. This, to
a certain extent, is subject to general economic, financial, competitive,
legislative, regulatory and other factors that are beyond our control.
We cannot be certain that our business will generate sufficient cash flow
from operations or that future borrowings will be available to us under our
secured credit facility in an amount sufficient to enable us to pay our
indebtedness or to fund our other liquidity needs. We may need to refinance all
or a portion of our indebtedness, including the notes, on or before maturity. We
may not be able to refinance any of our indebtedness on commercially reasonable
terms, or at all.
42
IF WE FAIL TO PAY OUR DEBT, OUR LENDERS MAY SELL OUR LOANS TO SPRINT GIVING
SPRINT THE RIGHTS OF A CREDITOR TO FORECLOSE ON OUR assets.
If the lenders accelerate the amounts due under our secured credit
facility, Sprint has the right to purchase our obligations under that facility
and become a senior lender. To the extent Sprint purchases these obligations,
Sprint's interests as a creditor could conflict with ours. Sprint's rights as a
senior lender would enable it to exercise rights with respect to our assets and
Sprint's continuing relationship in a manner not otherwise permitted under the
Sprint PCS agreements.
IF WE FAIL TO COMPLETE THE BUILD-OUT OF OUR NETWORK, SPRINT MAY TERMINATE THE
SPRINT PCS AGREEMENTS AND WE WOULD NO LONGER BE ABLE TO OFFER SPRINT PCS
PRODUCTS AND SERVICES FROM WHICH WE GENERATE SUBSTANTIALLY ALL OUR REVENUES.
Our long-term affiliation agreements with Sprint, which we refer to as the
Sprint PCS agreements, require us to build and operate the portion of the Sprint
PCS network located in our territory in accordance with Sprint's technical
specifications and coverage requirements. The agreements also require us to
provide minimum network coverage to the population within each of the markets
that make up our territory by specified dates.
Under our original Sprint PCS agreements, we were required to complete the
build-out in several of our markets in Pennsylvania and New York by December 31,
2000. Sprint and HPC agreed to an amendment of the build-out requirements, which
extended the dates by which we were to launch coverage in several markets. The
amended Sprint PCS agreement provides for monetary penalties to be paid by us if
coverage is not launched by these extended contract dates. The amounts of the
penalties depends on the market and length of delay in launch, and in some
cases, whether the shortfall relates to an initial launch in the market or
completion of the remaining build-out. The penalties must be paid in cash or, if
both Horizon PCS and Sprint agree, in shares of Horizon PCS stock.
Under the amended Sprint PCS agreement, portions of the New York, Sunbury,
Williamsport, Oil City, Dubois, Erie, Meadville, Sharon, Olean, Jamestown,
Scranton, State College, Stroudsburg, Allentown and Pottsville markets were
required to be completed and launched by October 31, 2001. Although we launched
service in portions of each of these markets, we did not complete all of the
build-out requirements. We notified Sprint in November 2001 that it was our
position that the reasons for the delay constitutes events of "force majeure" as
described in the Sprint PCS agreements and that, consequently, no monetary
penalties or other remedies were applicable. The delay was primarily caused due
to delays in obtaining the required backhaul services from local exchange
carriers and zoning and other approvals from governmental authorities. On
January 30, 2002, Sprint notified us that, as a result of these force majeure
events, it does not consider our build-out delay to be a breach of the Sprint
PCS agreement. We agreed to use commercially reasonable efforts to complete the
build-out by June 30, 2002. Although we have not been able to complete some of
the sites in some markets due to continuing force majeure issues, we believe
that we are in substantial compliance with our build-out requirements.
We will require additional expenditures of significant funds for the
continued development, construction, testing, deployment and operation of our
network. These activities are expected to place significant demands on our
managerial, operational and financial resources. A failure to meet our build-out
requirements for any of our markets, or to meet Sprint's technical requirements,
would constitute a breach of the Sprint PCS agreements that could lead to their
termination if not cured. If Sprint terminates these agreements, we will no
longer be able to offer Sprint PCS products and services.
IF SPRINT TERMINATES THE SPRINT PCS AGREEMENTS, THE BUY-OUT PROVISIONS OF THOSE
AGREEMENTS MAY DIMINISH THE VALUATION OF OUR COMPANY.
Provisions of the Sprint PCS agreements could affect our valuation and
decrease our ability to raise additional capital. If Sprint terminates these
agreements, the Sprint PCS agreements provide that Sprint may purchase our
operating assets or capital stock for 80% of the "Entire Business Value" as
defined by the agreement. If the termination is due to our breach of the Sprint
PCS agreements, the percent is reduced to 72% instead of 80%. Under our Sprint
PCS agreements, the Entire Business Value is generally the fair market value of
our wireless business valued on a going concern basis as determined by an
independent appraiser and assumes that we own the FCC licenses in our territory.
In addition, the Sprint PCS agreements provide that Sprint must approve any
43
change of control of our ownership and consent to any assignment of the Sprint
PCS agreements. Sprint also has a right of first refusal if we decide to sell
our operating assets in our Bright PCS markets. We are also subject to a number
of restrictions on the transfer of our business including a prohibition on
selling our company or our operating assets to a number of identified and yet to
be identified competitors of Sprint. These and other restrictions in the Sprint
PCS agreements may limit the marketability of and reduce the price a buyer may
be willing to pay for the Company and may operate to reduce the Entire Business
Value of the Company.
THE TERMINATION OF OUR STRATEGIC AFFILIATION WITH SPRINT OR SPRINT'S FAILURE TO
PERFORM ITS OBLIGATIONS UNDER THE SPRINT PCS AGREEMENTS WOULD SEVERELY RESTRICT
OUR ABILITY TO CONDUCT OUR BUSINESS.
Because Sprint owns the FCC licenses that we use in our territory, our
ability to offer Sprint PCS products and services on our network is dependent on
the Sprint PCS agreements remaining in effect and not being terminated. Sprint
may terminate the Sprint PCS agreements for breach by us of any material terms.
We also depend on Sprint's ability to perform its obligations under the Sprint
PCS agreements. The termination of the Sprint PCS agreements or the failure of
Sprint to perform its obligations under the Sprint PCS agreements would severely
restrict our ability to conduct our wireless digital communications business.
IF THE WEST VIRGINIA PCS ALLIANCE AND VIRGINIA PCS ALLIANCE FAIL TO PROVIDE
THEIR NETWORK TO US IN THEIR MARKETS, OR IF OUR NETWORK SERVICES AGREEMENT WITH
THE ALLIANCES IS OTHERWISE TERMINATED, WE WILL LOSE THE ABILITY TO USE THE
ALLIANCES' NETWORKS.
West Virginia PCS Alliance and Virginia PCS Alliance, which we refer to as
the Alliances, are two related, independent PCS providers whose network is
managed by NTELOS. On March 4, 2003, NTELOS and certain of its subsidiaries
filed voluntarily petitions for reorganization under Chapter 11 of the U.S.
Bankruptcy Code in the U.S. Bankruptcy Court for the Eastern District of
Virginia. The results of NTELOS' restructuring could have a material adverse
impact on our operations. Pursuant to bankruptcy law, the Alliances have the
right to assume or reject the network services agreement. If the Alliances
reject the network services agreement, we will lose the ability to provide
service to our subscribers in Virginia and West Virginia through the Alliances'
Network, and Sprint may take the position that we would be in breach of our
management agreements with Sprint.
Prior to the Alliances' bankruptcy filing, Horizon had asserted that the
Alliances had overcharged Horizon approximately $4,799,000 for charges that were
neither authorized nor contemplated by the network services agreement. As a
result of the Alliances' bankruptcy filing, Horizon was at risk that any
subsequent payments that it would make for services under the network services
agreement could impair its setoff or recoupment rights with respect to its claim
for a repayment of the unauthorized charges. Consequently, Horizon declined to
make a scheduled payment of $3 million to the Alliances on March 11, 2003 for
services rendered by the Alliances in January 2003 and, on that date, filed a
motion in the Alliances' bankruptcy case to protect its rights.
On March 12, 2003, the Alliances telecopied to Horizon a letter notifying
Horizon of the failure to make payment on the January 2003 invoice, which letter
purported to be a ten-business day notice under the network services agreement
that would give the Alliances the right to terminate the agreement at the
conclusion of such ten-day period.
On March 24, 2003, Horizon and the Alliances entered into a Stipulation
which provided that Horizon would pay the January 2003 and February 2003
invoices, the bankruptcy court would provide procedural protection of Horizon's
claim, the Alliances would withdraw the default notice and the parties would
move forward to settle or arbitrate the merits of Horizon's claim. On March 26,
2003, the Court in the NTELOS bankruptcy case approved the Stipulation.
Under our network services agreement, the Alliances provide us with the use
of and access to key components of their network in most of our markets in
Virginia and West Virginia. We directly compete with the Alliances in the
markets where we use their network. If the Alliances fail to maintain the
standards for their network as set forth in our network services agreement with
them or otherwise fail to provide their network for our use, our ability to
provide wireless services in these markets may be adversely affected, and we may
not be able to provide seamless service for our customers. If we breach our
obligations to the Alliances, or if the Alliances otherwise terminate the
network services agreement, we will lose our right to use the Alliances' network
to provide service in these markets. In that event, it is likely that we will be
44
required to build our own network in those markets and incur the substantial
costs associated with doing so.
IF OTHER SPRINT NETWORK PARTNERS HAVE FINANCIAL DIFFICULTIES, THE SPRINT PCS
NETWORK COULD BE DISRUPTED.
Sprint's national network is a combination of networks. The large
metropolitan areas are owned and operated by Sprint, and the areas in between
them are owned and operated by Sprint network partners, all of which are
independent companies like we are. We believe that most, if not all, of these
companies have incurred substantial debt to pay the large cost of building out
their networks. If other network partners experience financial difficulties,
Sprint's PCS network could be disrupted. If Sprint's agreements with those
network partners are like ours, Sprint would have the right to exercise various
remedies in the event of such disruptions. In such event, there can be no
assurance that Sprint or the network partner could restore the disrupted service
in a timely and seamless manner.
One of the network partners, iPCS, Inc., recently filed a chapter 11
bankruptcy petition. In connection with its bankruptcy filing, iPCS filed a
Complaint against Sprint Corporation and Sprint PCS alleging that Sprint PCS
breached its management agreement and services agreement with iPCS, seeking an
equitable accounting of alleged overcharges and underpayments by Sprint PCS to
iPCS, and seeking specific performance of (i) Sprint PCS' obligation to purchase
the operating assets of iPCS by virtue of iPCS' purported exercise of its
contractual "put" right as a result of the alleged material breaches, and (ii)
Sprint's obligation to pay an increased share of Collected Revenue as a result
of iPCS' lenders issuing a notice of acceleration. Finally, iPCS alleges that
Sprint Corporation is liable on each of the claims because it allegedly
controls, authorizes, directs and/or ratifies the conduct of Sprint PCS under
the management agreement and services agreement. Because we believe that the
iPCS claims allege conduct under agreements which are similar to our Sprint
agreements, we are reviewing the iPCS lawsuit to determine the extent to which
the factual and legal assertions of iPCS have similarities to our relationship
with Sprint.
IF SPRINT DOES NOT COMPLETE THE CONSTRUCTION OF ITS NATIONWIDE PCS NETWORK, WE
MAY NOT BE ABLE TO ATTRACT AND RETAIN CUSTOMERS, WHICH WOULD ADVERSELY AFFECT
OUR REVENUES.
Sprint's PCS network may not provide nationwide coverage to the same extent
as its competitors' networks, which could adversely affect our ability to
attract and retain customers. Sprint is creating a nationwide PCS network
through its own construction efforts and those of its affiliates. Today, neither
Sprint nor any other PCS provider offers service in every area of the United
States. Sprint has entered into affiliation agreements similar to ours with
companies in other territories pursuant to its nationwide PCS build-out
strategy. Our business and results of operations depend on Sprint's national PCS
network and, to a lesser extent, on the networks of its other affiliates. Sprint
and its affiliate program are subject, in varying degrees, to the economic,
administrative, logistical, regulatory and other risks described in this
document. Sprint and its other affiliates' PCS operations may not be successful,
which in turn could adversely affect our ability to generate revenues.
OUR REVENUES MAY BE LESS THAN WE ANTICIPATE WHICH COULD MATERIALLY ADVERSELY
AFFECT OUR LIQUIDITY, FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Revenue growth is primarily dependent on the size of our subscriber base,
average monthly revenues per user and roaming revenue. During the year ended
December 31, 2002, we experienced slower net subscriber growth rates than
planned, which we believe is due in large part to increased churn, declining
rates of wireless subscriber growth in general, the re-imposition of deposits
for most sub-prime credit subscribers during the last half of the year, the
current economic slowdown and increased competition. Other carriers also have
reported slower subscriber growth rates compared to prior periods. We have seen
a continuation of competitive pressures in the wireless telecommunications
market causing some major carriers to offer plans with increasingly large
bundles of minutes of use at lower prices which may compete with the calling
plans we offer, including the Sprint calling plans we support. While our
business plan anticipates lower subscriber growth, it assumes average monthly
revenues per user will remain relatively stable. Increased price competition may
lead to lower average monthly revenues per user than we anticipate. In addition,
the lower reciprocal roaming rate that Sprint has announced for 2003 will reduce
our roaming revenue, which may not be offset by the reduction in our roaming
expense. If our revenues are less than we anticipate, it could materially
adversely affect our liquidity, financial condition and results of operation.
45
WE ARE DEPENDENT UPON SPRINT'S BACK OFFICE SERVICES AND ITS THIRD-PARTY VENDORS'
BACK OFFICE SYSTEMS. PROBLEMS WITH THESE SYSTEMS, OR TERMINATION OF THESE
ARRANGEMENTS, COULD DISRUPT OUR BUSINESS AND POSSIBLY INCREASE OUR COSTS.
Because Sprint provides our back office systems such as billing, customer
care and collections, our operations could be disrupted if Sprint is unable to
maintain and expand its back office services, or to efficiently outsource those
services and systems through third-party vendors. The rapid expansion of
Sprint's business will continue to pose a significant challenge to its internal
support systems. Additionally, Sprint has relied on third-party vendors for a
significant number of important functions and components of its internal support
systems and may continue to rely on these vendors in the future. We depend on
Sprint's willingness to continue to offer these services to us and to provide
these services at competitive costs. We paid Sprint approximately $20.6 million
for these services during 2002. The Sprint PCS agreements provide that, upon
nine months' prior written notice, Sprint may elect to terminate any of these
services. If Sprint terminates a service for which we have not developed a
cost-effective alternative, our operating costs may increase beyond our
expectations and restrict our ability to operate successfully.
Further, our ability to replace Sprint in providing back office services
may be limited. While the services agreements allow the Company to use
third-party vendors to provide certain of these services instead of Sprint, the
high startup costs and necessary cooperation associated with interfacing with
Sprint's system may significantly limit our ability to use back office services
provided by anyone other than Sprint. This could limit our ability to lower our
operating costs.
WE DEPEND ON OTHER TELECOMMUNICATIONS COMPANIES FOR SOME SERVICES THAT, IF
DELAYED, COULD DELAY OUR PLANNED NETWORK BUILD-OUT AND DELAY OUR EXPECTED
INCREASES IN CUSTOMERS AND REVENUES.
We depend on other telecommunications companies to provide facilities and
transport to interconnect portions of our network and to connect our network
with the landline telephone system. American Electric Power, Ameritech, AT&T,
Verizon and Sprint (long distance) are our primary suppliers of facilities and
transport. Without these services, we could not offer Sprint PCS services to our
customers in some areas. From time to time, we have experienced delays in
obtaining facilities and transport from some of these companies, and in
obtaining local telephone numbers for use by our customers, which are sometimes
in short supply, and we may continue to experience delays and interruptions in
the future. Delays in obtaining facilities and transport could delay our
build-out and capacity plans and our business may suffer. Delays could also
result in a breach of our Sprint PCS agreements, subjecting these agreements to
potential termination by Sprint.
MATERIAL RESTRICTIONS IN OUR DEBT INSTRUMENTS MAY MAKE IT DIFFICULT TO OBTAIN
ADDITIONAL FINANCING OR TAKE OTHER NECESSARY ACTIONS TO REACT TO CHANGES IN OUR
BUSINESS.
The indenture governing the senior notes contains various covenants that
limit our ability to engage in a variety of transactions. In addition, the
indenture governing our discount notes and the secured credit agreement both
impose additional material operating and financial restrictions on us. These
restrictions, subject to ordinary course of business exceptions, limit our
ability to engage in some transactions, including the following:
o designated types of mergers or consolidations;
o paying dividends or other distributions to our stockholders;
o making investments;
o selling assets;
o repurchasing our common stock;
o changing lines of business;
o borrowing additional money; and
46
o transactions with affiliates.
In addition, our secured credit facility requires us to maintain certain
ratios, including:
o leverage ratios;
o an interest coverage ratio; and
o a fixed charges ratio,
and to satisfy certain tests, including tests relating to:
o minimum covered population;
o minimum number of PCS subscribers in our territory;
o minimum total revenues; and
o minimum EBITDA.
These restrictions could limit our ability to obtain debt financing,
repurchase stock, refinance or pay principal or interest on our outstanding
debt, consummate acquisitions for cash or debt or react to changes in our
operating environment. An event of default under the secured credit facility may
prevent the Company and the guarantors of the senior notes and the discount
notes from paying those notes or the guarantees of those notes.
THE TERMS OF THE CONVERTIBLE PREFERRED STOCK MAY AFFECT OUR FINANCIAL RESULTS.
The terms of the convertible preferred stock give the holders of the
preferred stock the following principal rights:
o to initially designate two members of our board of directors, subject
to reduction based on future percentage ownership;
o to approve or disapprove fundamental corporate actions and
transactions;
o to receive dividends in the form of additional shares of our
convertible preferred stock, which may increase and accelerate upon a
change in control; and
o to require us to redeem the convertible preferred stock in 2005.
If we become subject to the repurchase right or change of control
redemption requirements under the convertible preferred stock while our secured
credit facility, our discount notes or the senior notes are outstanding, we will
be required to seek the consent of the lenders under our secured credit
facility, the holders of the discount notes and the holders of the senior notes
to repurchase or redeem the convertible preferred stock, or attempt to refinance
the secured credit facility, the discount notes and the senior notes. If we fail
to obtain these consents, there will be an event of default under the terms
governing our secured credit facility. In addition, if we do not repurchase or
redeem the convertible preferred stock and the holders of the convertible
preferred stock obtain a judgment against us, any judgment in excess of $5.0
million would constitute an event of default under the indentures governing the
discount notes and the senior notes.
IF WE BREACH OUR AGREEMENT WITH SBA COMMUNICATIONS CORP. ("SBA"), OR IT
OTHERWISE TERMINATES ITS AGREEMENT WITH US, OUR RIGHT TO PROVIDE WIRELESS
SERVICE FROM MOST OF OUR CELL SITES WILL BE LOST.
We lease cell sites from SBA. We rely on our contract with SBA to provide
us with access to most of our cell sites and to the towers located on these
sites. If SBA were to lose its underlying rights to these sites, our ability to
47
provide wireless service from these sites would end, subject to our right to
cure defaults by SBA. If SBA terminates our agreement as a result of our breach,
we may lose our right to provide wireless services from most of our cell sites.
WE MAY HAVE DIFFICULTY OBTAINING INFRASTRUCTURE EQUIPMENT AND HANDSETS, WHICH
COULD RESULT IN DELAYS IN OUR NETWORK BUILD-OUT, DISRUPTION OF SERVICE OR LOSS
OF CUSTOMERS.
If we cannot acquire the equipment required to build or upgrade our network
in a timely manner, we may be unable to provide wireless communications services
comparable to those of our competitors or to meet the requirements of the Sprint
PCS agreements. Manufacturers of this equipment could have substantial order
backlogs. Accordingly, the lead-time for the delivery of this equipment may be
longer than anticipated. In addition, the manufacturers of specific types
handsets may have to distribute their limited supply of products among their
numerous customers. Some of our competitors purchase large quantities of
communications equipment and may have established relationships with the
manufacturers of this equipment. Consequently, they may receive priority in the
delivery of this equipment. If we do not obtain equipment or handsets in a
timely manner, we could suffer delays in the build-out of our network,
disruptions in service and a reduction in customers.
SPRINT'S VENDOR DISCOUNTS MAY BE DISCONTINUED, WHICH COULD INCREASE OUR
EQUIPMENT COSTS AND REQUIRE MORE CAPITAL THAN WE HAD PROJECTED TO BUILD-OUT OR
UPGRADE OUR NETWORK.
We intend to continue to purchase our infrastructure equipment under
Sprint's vendor agreements that include significant volume discounts. If Sprint
were unable to continue to obtain vendor discounts for its affiliates, the loss
of vendor discounts could increase our equipment costs for our network
build-out.
CONFLICTS WITH SPRINT MAY NOT BE RESOLVED IN OUR FAVOR, WHICH COULD RESTRICT OUR
ABILITY TO MANAGE OUR BUSINESS AND PROVIDE SPRINT PCS PRODUCTS AND SERVICES,
ADVERSELY AFFECTING OUR RELATIONSHIPS WITH OUR CUSTOMERS, INCREASE OUR EXPENSES
OR DECREASE OUR REVENUES.
Under the Sprint PCS agreements, Sprint has a substantial amount of control
over the conduct of our business. Conflicts between us may arise, and as Sprint
owes us no duties except as set forth in the Sprint PCS agreements, these
conflicts may not be resolved in our favor. The conflicts and their resolution
may harm our business. For example:
o Sprint may price its national plans based on its own objectives and
may set price levels and customer credit policies that may not be
economically sufficient for our business;
o Sprint may increase the prices we pay for our back office services;
and
o Sprint may make decisions that adversely affect our use of the Sprint
and Sprint PCS brand names, products or services.
WE MAY NOT BE ABLE TO COMPETE WITH LARGER, MORE ESTABLISHED WIRELESS PROVIDERS
WHO HAVE RESOURCES TO COMPETITIVELY PRICE THEIR PRODUCTS AND SERVICES, WHICH
COULD IMPAIR OUR ABILITY TO ATTRACT AND RETAIN CUSTOMERS.
Our ability to compete will depend in part on our ability to anticipate and
respond to various competitive factors affecting the telecommunications
industry, including new services that may be introduced, changes in consumer
preferences, demographic trends, economic conditions and discount pricing
strategies by competitors. In each market, we compete with at least two cellular
providers that have had their infrastructure in place and have been operational
for a number of years. They may have significantly greater financial and
technical resources than we do, they could offer attractive pricing options and
they may have a wider variety of handset options. We expect existing cellular
providers will continue to upgrade their systems and provide expanded digital
services to compete with the Sprint PCS products and services we offer. Many of
these wireless providers generally require their customers to enter into
long-term contracts, which may make it more difficult for us to attract
customers away from them.
We will also compete with several PCS providers and other existing
communications companies in our markets and expect to compete with new entrants
as the FCC licenses additional spectrum to mobile services providers. A number
of our cellular, PCS and other wireless competitors have access to more licensed
spectrum than the amount licensed to Sprint in most of our territory and
48
therefore will be able to provide greater network call volume capacity than our
network to the extent that network usage begins to reach or exceed the capacity
of our licensed spectrum. Our inability to accommodate increases in call volume
could result in more dropped or disconnected calls. In addition, any competitive
difficulties that Sprint may experience could also harm our competitive position
and success.
We anticipate that market prices for two-way wireless voice services and
products generally will continue to decline as a result of increased
competition. Consequently we may be forced to increase spending for advertising
and promotions. Increased competition also may lead to continued increases in
customer churn. Those trends could cause further delays in our expected dates to
achieve positive EBITDA.
WE MAY NOT BE ABLE TO OFFER COMPETITIVE ROAMING CAPABILITY, WHICH COULD IMPAIR
OUR ABILITY TO ATTRACT AND RETAIN CUSTOMERS.
We rely on agreements with competitors to provide automatic roaming
capability to our PCS customers in many of the areas of the United States not
covered by the Sprint PCS network, which primarily serves metropolitan areas.
Some competitors may be able to offer coverage in areas not served by the Sprint
PCS network or may be able to offer roaming rates that are lower than those
offered by Sprint and its affiliates. Some of our competitors are seeking to
reduce access to their networks through actions pending with the FCC. Moreover,
the engineering standard for the dominant air interface upon which PCS customers
roam is currently being considered for elimination by the FCC as part of a
streamlining proceeding. If the FCC eliminates this standard, our Sprint PCS
customers may have difficulty roaming in some markets.
THERE IS NO UNIFORM SIGNAL TRANSMISSION TECHNOLOGY AND IF WE DECIDE TO USE OTHER
TECHNOLOGIES IN THE FUTURE, THIS DECISION COULD SUBSTANTIALLY INCREASE OUR
EQUIPMENT EXPENDITURES TO REPLACE THE TECHNOLOGY USED ON OUR NETWORK.
The wireless telecommunications industry is experiencing evolving industry
standards. We have employed code division multiple access (CDMA) technology,
which is the digital wireless communications technology selected by Sprint for
its network. CDMA may not provide the advantages expected by us and by Sprint.
In addition to CDMA, there are two other principal signal transmission
technologies, time division multiple access, or TDMA, and global systems for
mobile communications, or GSM. These three signal transmission technologies are
not compatible with each other. If one of these technologies or another
technology becomes the preferred industry standard, we may be at a competitive
disadvantage and competitive pressures may require Sprint to change its digital
technology which, in turn, may require us to make changes at substantially
increased costs.
WE MAY NOT RECEIVE AS MUCH SPRINT PCS ROAMING REVENUE AS WE ANTICIPATE AND OUR
NON-SPRINT PCS ROAMING REVENUE IS LIKELY TO BE LOW.
We are paid a fee from Sprint or a PCS affiliate of Sprint for every minute
that a Sprint PCS subscriber based outside of our territory uses our network.
Similarly, we pay a fee to Sprint PCS or a PCS affiliate of Sprint for every
minute that our customers use the Sprint PCS network outside our territory. Our
customers may use the Sprint PCS network outside our territory more frequently
than we anticipate, and Sprint PCS subscribers based outside our territory may
use our network less frequently than we anticipate. As a result, we may receive
less Sprint PCS roaming revenue in the aggregate, than we previously anticipated
or we may have to pay more Sprint PCS roaming fees in the aggregate than we
anticipate. The fee for each Sprint PCS roaming minute used was decreased from
$0.20 per minute before June 1, 2001, to $0.15 per minute effective June 1,
2001, and further decreased to $0.12 per minute effective October 1, 2001. The
Sprint PCS roaming rate was changed to $0.10 per minute in 2002. After 2002, the
rate will be changed to "a fair and reasonable return." Sprint has notified us
that it intends to reduce the reciprocal roaming rate to $0.058 per minute of
use in 2003. As a result, we may receive less Sprint PCS roaming revenue in the
aggregate, than we previously anticipated. Furthermore, we do not expect to
receive substantial non-Sprint PCS roaming revenue.
49
IF SPRINT PCS CUSTOMERS ARE NOT ABLE TO ROAM INSTANTANEOUSLY OR EFFICIENTLY ONTO
OTHER WIRELESS NETWORKS, WE MAY SUFFER A REDUCTION IN OUR REVENUES AND NUMBER OF
CUSTOMERS.
The Sprint PCS network operates at a different frequency and uses or may
use a different signal transmission technology than many analog cellular and
other digital systems. To access another provider's analog cellular, TDMA or GSM
digital system when outside the territory served by the Sprint PCS network, a
Sprint PCS customer is required to utilize a dual-band/dual-mode handset
compatible with that provider's system. Generally, because dual-band/dual-mode
handsets incorporate two radios rather than one, they are more expensive, larger
and heavier than single-band/single-mode handsets. The Sprint PCS network does
not allow for call hand-off between the Sprint PCS network and another wireless
network, so a customer must end a call in progress on the Sprint PCS network and
initiate a new call when outside the territory served by the Sprint PCS network.
In addition, the quality of the service provided by a network provider during a
roaming call may not approximate the quality of the service provided by Sprint.
The price of a roaming call may not be competitive with prices of other wireless
companies for roaming calls, and Sprint customers may not be able to use Sprint
PCS advanced features, such as voicemail notification, while roaming. These
roaming issues may cause us to suffer a reduction in our revenues and number of
customers.
PARTS OF OUR TERRITORIES HAVE LIMITED LICENSED SPECTRUM, WHICH MAY ADVERSELY
AFFECT THE QUALITY OF OUR SERVICE.
In the majority of our markets, Sprint has licenses covering 20 MHz or 30
MHz of spectrum. However, Sprint has licenses covering only 10 MHz in parts of
our territory covering approximately 3.8 million residents out of a total
population of over 10.2 million residents. In the future, as our customers in
those areas increase in number, this limited licensed spectrum may not be able
to accommodate increases in call volume and may lead to increased dropped calls
and may limit our ability to offer enhanced services.
NON-RENEWAL OR REVOCATION BY THE FCC OF THE SPRINT PCS LICENSES WOULD
SIGNIFICANTLY HARM OUR BUSINESS BECAUSE WE WOULD NO LONGER HAVE THE RIGHT TO
OFFER WIRELESS SERVICE THROUGH OUR NETWORK.
We are dependent on Sprint's PCS licenses, which are subject to renewal and
revocation by the FCC. Sprint's PCS licenses in many of our territories will
expire as early as 2005 but may be renewed for additional ten-year terms. There
may be opposition to renewal of Sprint's PCS licenses upon their expiration and
the Sprint PCS licenses may not be renewed. The FCC has adopted specific
standards to apply to PCS license renewals. For example, if Sprint does not
demonstrate to the FCC that Sprint has met the five-year construction
requirements for each of its PCS licenses, it can lose those licenses. Failure
to comply with these standards in our territory could cause the imposition of
fines on Sprint by the FCC or the revocation or forfeiture of the Sprint PCS
licenses for our territory, which would prohibit us from providing service in
our markets.
IF THE SPRINT PCS AGREEMENTS DO NOT COMPLY WITH FCC REQUIREMENTS, SPRINT MAY
TERMINATE THE SPRINT PCS AGREEMENTS, WHICH COULD RESULT IN OUR INABILITY TO
PROVIDE SERVICE.
The FCC requires that licensees like Sprint maintain control of their
licensed spectrum and not delegate control to third-party operators or managers
like us. Although the Sprint PCS agreements reflect an arrangement that the
parties believe meets the FCC requirements for licensee control of licensed
spectrum, we cannot be certain the FCC will agree with us. If the FCC determines
that the Sprint PCS agreements need to be modified to increase the level of
licensee control, we have agreed with Sprint to use our best efforts to modify
the Sprint PCS agreements to comply with applicable law. If we cannot agree with
Sprint to modify the Sprint PCS agreements, they may be terminated. If the
Sprint PCS agreements are terminated, we would no longer be a part of the Sprint
PCS network and we would have extreme difficulty in conducting our business.
WE MAY NEED MORE CAPITAL THAN WE CURRENTLY ANTICIPATE TO COMPLETE THE BUILD-OUT
AND UPGRADE OF OUR NETWORK, AND A DELAY OR FAILURE TO OBTAIN ADDITIONAL CAPITAL
COULD DECREASE OUR REVENUES.
The completion of our network build-out will require substantial capital.
Additional funds would be required in the event of:
o significant departures from our current business plan;
o unforeseen delays, cost overruns, unanticipated expenses; or
50
o regulatory, engineering design and other technological changes.
For example, it is possible that we will need substantial funds if we find
it necessary or desirable to overbuild the territory currently served through
our arrangements with the Alliances. Due to our highly leveraged capital
structure, additional financing may not be available or, if available, may not
be obtained on a timely basis or on terms acceptable to us or within limitations
permitted under our existing debt covenants. Failure to obtain additional
financing, should the need for it develop, could result in the delay or
abandonment of our development and expansion plans, and we may be unable to fund
our ongoing operations.
BECAUSE SPRINT HAS RECENTLY REQUIRED US TO UPGRADE OUR NETWORK TO PROVIDE "THIRD
GENERATION" TECHNOLOGY, WE WILL FACE ADDITIONAL CAPITAL EXPENSES.
The wireless industry is seeking to implement new "third generations," or
"3G", technology. Sprint has selected a version of 3G technology (1XRTT) for its
own networks and required us to upgrade our network to provide those services.
We currently estimate the network upgrade to 1XRTT will cost approximately $35
million, but actual costs could exceed this estimate. Sprint launched the new 3G
technology in August 2002. We participated in that launch along with other
Sprint PCS affiliates. We still have additional expenditures pending to complete
the full implementation of 3G in all of our markets. If other wireless carriers
implement their 3G upgrades on a more rapid timetable, or on a more cost
efficient basis, or on a more advanced technology basis, we will likely suffer
competitive disadvantages in our markets. While there are potential advantages
with 3G technology, such as increased network capacity and additional
capabilities for wireless data applications, the technology has not been proven
in the marketplace and has the risks inherent in other technological
innovations.
Recently, Sprint has sought to increase service fees during the remainder
of 2002 and beyond in connection with its development of 3G-related back-office
systems and platforms. The Company, along with other PCS affiliates of Sprint,
is currently disputing the validity of Sprint's right to pass through this fee
to the affiliates. If this dispute is resolved unfavorably to the Company, then
Horizon PCS will incur additional expenses.
UNAUTHORIZED USE OF OUR NETWORK AND OTHER TYPES OF FRAUD COULD DISRUPT OUR
BUSINESS AND INCREASE OUR COSTS.
We will likely incur costs associated with the unauthorized use of our
network, including administrative and capital costs associated with detecting,
monitoring and reducing the incidence of fraud. Fraud impacts interconnection
costs, capacity costs, administrative costs, fraud prevention costs and payments
to other carriers for unbillable fraudulent roaming. Although we believe that
Sprint has implemented appropriate controls to minimize the effect to us of
fraudulent usage, our efforts may not be successful.
EXPANDING OUR TERRITORY MAY HAVE A MATERIAL ADVERSE EFFECT ON OUR BUSINESS.
As part of our business strategy, we may expand our territory through the
grant of additional markets from Sprint or through acquisitions of other Sprint
PCS affiliates. We will evaluate strategic acquisitions and alliances
principally relating to our current operations. These transactions may require
the approval of Sprint and commonly involve a number of risks, including:
o difficulty assimilating acquired operations and personnel;
o diversion of management attention;
o disruption of ongoing business;
o inability to retain key personnel;
o inability to successfully incorporate acquired assets and rights into
our service offerings;
o inability to maintain uniform standards, controls, procedures and
policies; and
o impairment of relationships with employees, customers or vendors.
51
Failure to overcome these risks or any other problems encountered in these
transactions could have a material adverse effect on our business. In connection
with these transactions, we may also issue additional equity securities and
incur additional debt.
THE SPRINT PCS AGREEMENTS AND OUR RESTATED CERTIFICATE OF INCORPORATION INCLUDE
PROVISIONS THAT MAY DISCOURAGE, DELAY OR RESTRICT ANY SALE OF OUR OPERATING
ASSETS OR COMMON STOCK TO THE POSSIBLE DETRIMENT OF OUR NOTEHOLDERS.
The Sprint PCS agreements restrict our ability to sell our operating assets
and common stock. Generally, Sprint must approve a change of control of our
ownership and consent to any assignment of the Sprint PCS agreements. The Sprint
PCS agreements also give Sprint a right of first refusal if we decide to sell
the operating assets of our Bright PCS markets to a third party. In addition,
provisions of our restated certificate of incorporation could also operate to
discourage, delay or make more difficult a change in control of our company. For
example, our restated certificate of incorporation provides for:
o two classes of common stock, with our class B common stock having ten
votes per share;
o the issuance of preferred stock without stockholder approval; and
o a classified board, with each board member serving a three-year term.
The restrictions in the Sprint PCS agreements and the provisions of our
restated certificate of incorporation could discourage any sale of our operating
assets or common stock.
HORIZON TELCOM WILL BE ABLE TO CONTROL THE OUTCOME OF SIGNIFICANT MATTERS
PRESENTED TO STOCKHOLDERS AS A RESULT OF ITS OWNERSHIP POSITION, WHICH COULD
POTENTIALLY IMPAIR OUR ATTRACTIVENESS AS A TAKEOVER TARGET.
Horizon Telcom beneficially owns approximately 56.3% of our outstanding
common stock on fully diluted basis as of December 31, 2002. In addition, the
shares held by Horizon Telcom are class B shares, which have ten votes per
share. The class A shares have only one vote per share. As a result, Horizon
Telcom holds approximately 83.1% of the voting power on a fully diluted basis at
December 31, 2002. Horizon Telcom will have the voting power to control the
election of our board of directors and it will be able to cause amendments to
our restated certificate of incorporation or our restated bylaws. Horizon Telcom
also may be able to cause changes in our business without seeking the approval
of any other party. These changes may not be to the advantage of our company or
in the best interest of our other stockholders or the holders of our notes. For
example, Horizon Telcom will have the power to prevent, delay or cause a change
in control of our company and could take other actions that might be favorable
to Horizon Telcom, but not necessarily to other stockholders. This may have the
effect of delaying or preventing a change in control. In addition, Horizon
Telcom is controlled by members of the McKell family, who collectively own
approximately 60.7% of the voting interests of Horizon Telcom. Therefore, the
McKell family, acting as a group, may be able to exercise indirect control over
us.
WE MAY FACE CONFLICTS OF INTEREST WITH HORIZON TELCOM, WHICH MAY HARM OUR
BUSINESS.
Conflicts of interest may arise between Horizon Telcom, and us or its other
affiliates, in areas relating to past, ongoing and future relationships,
including:
o corporate opportunities;
o tax and intellectual property matters;
o potential acquisitions;
o financing transactions, sales or other dispositions by Horizon Telcom
of shares of our common stock held by it; and
o the exercise by Horizon Telcom of its ability to control our
management and affairs.
52
Horizon Telcom controls approximately 83.1% of the voting power of our
shares on a fully diluted basis. Horizon Telcom is engaged in a diverse range of
telecommunications-related businesses, such as local telephone services and
Internet services, and these businesses may have interests that conflict or
compete in some manner with our business. Horizon Telcom is under no obligation
to share any future business opportunities available to it with us, unless
Delaware law requires it to do so. Any conflicts that may arise between us and
Horizon Telcom or any of its affiliates or any loss of corporate opportunity to
Horizon Telcom that may otherwise be available to us may impact our financial
condition or results of operations because these conflicts of interest or losses
of corporate opportunities could result in a loss of customers and, therefore,
business. Because Horizon Telcom will be able to control the outcome of most
conflicts upon which stockholders could vote and because it will have the voting
power to control our board of directors, conflicts may not be resolved in our
favor.
PRESENT AND FUTURE TRANSACTIONS WITH HORIZON TELCOM MAY BE ON TERMS THAT ARE NOT
AS FAVORABLE AS COULD BE OBTAINED FROM THIRD PARTIES.
In the past, we have entered into transactions with Horizon Telcom
including the leasing of towers by Horizon Telcom to us and the advancing of
cash to us to finance our operations. In addition, Horizon Services, a
subsidiary of Horizon Telcom provides administrative services to us including
finance and accounting services, computer access and human resources. Although
these transactions were on terms that we believe are fair, because Horizon
Telcom currently owns 56.3% of our outstanding common stock on a fully diluted
basis, third parties with whom we wish to enter into agreements or the
marketplace in general may not perceive these transactions with Horizon Telcom
to be fair. In addition, because Horizon Telcom has the power to control our
board of directors, we may not be able to renew these agreements on terms
favorable to us.
WE MAY EXPERIENCE A HIGH RATE OF CUSTOMER TURNOVER, WHICH WOULD INCREASE OUR
COSTS OF OPERATIONS AND REDUCE OUR REVENUE AND PROSPECTS FOR GROWTH.
Our strategy to minimize customer turnover, commonly known as churn, may
not be successful. As a result of customer turnover, we lose the revenue
attributable to these customers and increase the costs of establishing and
growing our customer base. The PCS industry has experienced a higher rate of
customer turnover as compared to cellular industry averages. We have experienced
an increase in churn during 2002, primarily caused by NDASL customers' inability
to pay for services billed. Current and future strategies to reduce customer
churn may not be successful.
The rate of customer turnover is affected by the following factors, several
of which are not within our ability to address:
o credit worthiness of customers;
o extent of network coverage;
o reliability issues such as blocked calls, dropped calls and handset
problems;
o non-use of phones;
o change of employment;
o a lack of affordability;
o price competition;
o Sprint's PCS customer credit policies;
o customer care concerns; and
o other competitive factors.
53
A high rate of customer turnover could adversely affect our competitive
position, results of operations and our costs of, or losses incurred in,
obtaining new customers, especially because we subsidize some of the cost of the
handsets purchased by our customers.
OUR ALLOWANCE FOR DOUBTFUL ACCOUNTS MAY NOT BE SUFFICIENT TO COVER UNCOLLECTIBLE
ACCOUNTS.
On an ongoing basis, we estimate the amount of customer receivables that we
may not collect to reflect the expected loss on such accounts in the current
period. However, our allowance for doubtful accounts may underestimate actual
unpaid receivables for various reasons, including:
o adverse changes in our churn rate exceeding our estimates;
o adverse changes in the economy generally exceeding our expectations;
or
o unanticipated changes in Sprint's PCS products and services.
If our allowance for doubtful accounts is insufficient to cover losses on
our receivables, our business, financial position or results of operations could
be materially adversely affected.
BECAUSE THE WIRELESS INDUSTRY HAS EXPERIENCED HIGHER CUSTOMER ADDITIONS AND
HANDSET SALES IN THE FOURTH CALENDAR QUARTER AS COMPARED TO THE OTHER THREE
CALENDAR QUARTERS, A FAILURE BY US TO ACQUIRE SIGNIFICANTLY MORE CUSTOMERS IN
THE FOURTH QUARTER COULD HAVE A DISPROPORTIONATE NEGATIVE EFFECT ON OUR RESULTS
OF OPERATIONS.
The wireless industry is historically dependent on fourth calendar quarter
results. Our overall results of operations could be significantly reduced if we
have a worse than expected fourth calendar quarter for any reason, including the
following:
o our inability to match or beat pricing plans offered by competitors;
o our failure to adequately promote Sprint's PCS products, services and
pricing plans;
o our inability to obtain an adequate supply or selection of handsets;
o a downturn in the economy of some or all of the markets in our
territory; or
o a generally poor holiday shopping season.
REGULATION BY GOVERNMENT AGENCIES MAY INCREASE OUR COSTS OF PROVIDING SERVICE OR
REQUIRE US TO CHANGE OUR SERVICES, WHICH COULD IMPAIR OUR FINANCIAL PERFORMANCE.
The licensing, construction, use, operation, sale and interconnection
arrangements of wireless telecommunications systems are regulated to varying
degrees by the FCC, the Federal Aviation Administration and, depending on the
jurisdiction, state and local regulatory agencies and legislative bodies.
Adverse decisions regarding these regulatory requirements could negatively
impact our operations and our cost of doing business.
USE OF HAND-HELD PHONES MAY POSE HEALTH RISKS, REAL OR PERCEIVED, WHICH COULD
RESULT IN THE REDUCED USE OF OUR SERVICES OR LIABILITY FOR PERSONAL INJURY
CLAIMS.
Media reports have suggested that radio frequency emissions from wireless
handsets may be linked to various health problems, including cancer, and may
interfere with various electronic medical devices, including hearing aids and
pacemakers. Concerns over radio frequency emissions may discourage use of
wireless handsets or expose us to potential litigation. Any resulting decrease
in demand for our services, or costs of litigation and damage awards, could
impair our ability to profitably operate our business
54
REGULATION BY GOVERNMENT OR POTENTIAL LITIGATION RELATING TO THE USE OF WIRELESS
PHONES WHILE DRIVING COULD ADVERSELY AFFECT OUR RESULTS OF OPERATIONS
Some studies have indicated that some aspects of using wireless phones
while driving may impair drivers' attention in certain circumstances, making
accidents more likely. These concerns could lead to litigation relating to
accidents, deaths or serious bodily injuries, or to new restrictions or
regulations on wireless phone use, any of which also could have material adverse
effects on our results of operations. A number of U.S. states and local
governments are considering or have recently enacted legislation that would
restrict or prohibit the use of a wireless handset while driving a vehicle or,
alternatively, require the use of a hands-free telephone. Legislation of this
sort, if enacted, would require wireless service providers to provide hands-free
enhanced services, such as voice activated dialing and hands-free speaker phones
and headsets, so that they can keep generating revenue from their subscribers,
who make many of their calls while on the road. If we are unable to provide
hands-free services and products to our subscribers in a timely and adequate
fashion, the volume of wireless phone usage would likely decrease, and our
ability to generate revenues would suffer.
55
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We do not engage in commodity futures trading activities and do not enter
into derivative financial instruments for speculative trading purposes. We also
do not engage in transactions in foreign currencies that would expose us to
additional market risk. We manage the interest rate risk on our outstanding
long-term debt through the use of fixed and variable-rate debt and interest rate
swaps.
In the normal course of business, our operations are exposed to interest
rate risk. Our primary interest rate risk exposure relates to (i) the
variable-rate secured credit facility, (ii) our ability to refinance our
fixed-rate discount and senior notes at maturity at market rates, and (iii) the
impact of interest rate movements on our ability to meet interest expense
requirements and meet financial covenants under our debt instruments.
In the first quarter of 2001, we entered into a two-year interest rate
swap, effectively fixing $25.0 million of term loan B borrowed under the secured
credit facility. In the third quarter of 2001, we entered into another two-year
interest rate swap, effectively fixing the remaining $25.0 million of term loan
B. The table below compares current market rates on the balances subject to the
swap agreements:
(Dollars in millions) At December 31, 2002
---------------------------------------
Balance Market rate Swap rate
------------ ------------ ------------
Swap 1................. $25.0 6.33% 9.40%
Swap 2................. $25.0 6.33% 7.65%
Since our swap interest rates are currently greater than the market
interest rates on our underlying debt, our results from operations currently
reflect a higher interest expense than had we not hedged our position. At
December 31, 2002, the Company recorded approximately $395,000 in other
comprehensive losses on the balance sheet.
While we cannot predict our ability to refinance existing debt, we continue
to evaluate our interest rate risk on an ongoing basis. If we do not renew our
swaps, or, if we do not hedge incremental variable-rate borrowings under our
secured credit facility, we will increase our interest rate risk, which could
have a material impact on our future earnings. As of December 31, 2002,
approximately 83% of our long-term debt is fixed rate or is variable rate that
has been swapped under fixed-rate hedges, thus reducing our exposure to interest
rate risk. Currently, a 100 basis point increase in interest rates would
increase our interest expense approximately $1.1 million.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Financial statements and supplementary data required by this item are
submitted as a separate section of this annual report on Form 10-K. See "Index
to Consolidated Financial Statements" commencing on page F-1 herein.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
Horizon PCS engaged the services of KPMG LLP ("KPMG") as its new
independent auditors to replace Arthur Andersen LLP, effective June 26, 2002.
For additional information, see Horizon PCS' Current Report on Form 8-K dated
June 28, 2002.
56
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The following are our directors and executive officers:
NAME AGE POSITION
---- --- --------
William A. McKell......... 42 Chairman of the Board, President and
Chief Executive Officer
Peter M. Holland.......... 37 Director, Chief Financial Officer
Alan G. Morse............. 44 Chief Operating Officer
Joseph E. Corbin.......... 47 Vice President, Engineering and Operations
Joseph J. Watson.......... 37 Vice President, Sales and Marketing
Monesa S. Skocik.......... 41 Vice President, External Affairs
Robert A. Katz............ 36 Director
Thomas McKell............. 67 Director
Lonnie D. Pedersen........ 45 Director
Eric L. Zinterhofer....... 31 Director
William A. McKell has served as Chairman of the Board, President and Chief
Executive Officer of Horizon PCS since its inception in April 2000 and has
served as President, Chief Executive Officer and Chairman of the Board of
Horizon Personal Communications since May 1996 and as President of Bright PCS
since its formation in September 1999. Mr. McKell has 14 years of
telecommunications experience. Mr. McKell served as Vice President of Network
Services from January 1996 to April 1996 and Director of Network Services from
August 1994 to December 1995 for The Chillicothe Telephone Company, a
traditional local telephone company. Mr. McKell is a graduate of Ohio Northern
University and is the son of Thomas McKell.
Peter M. Holland has served as the Chief Financial Officer of Horizon PCS
since its inception in April 2000 and has served as the Chief Financial Officer
of Horizon Personal Communications since November 1999. Mr. Holland has served
as Vice President of Finance and Treasurer of Horizon Telcom since November
1999. Mr. Holland has been a member of the management committee of Bright PCS
since its formation in September 1999. Mr. Holland has nearly 14 years of
telecommunications experience. From May 1996 to December 1999, Mr. Holland was a
principal and owner of The Pinnacle Group located in Langley, Washington.
Pinnacle provides strategic business planning and regulatory consulting services
to independent wireless and wireline companies, including Horizon PCS. Prior to
joining Pinnacle in May 1996, Mr. Holland was a manager in Nextel
Communications' Business Development and Corporate Strategy groups. Mr. Holland
started his career in telecommunications with Ernst & Young's telecommunications
consulting group and was a Certified Public Accountant. Mr. Holland received his
Bachelor of Business Administration with an accounting concentration from
Pacific Lutheran University.
Alan G. Morse was appointed Chief Operating Officer of the Company on March
1, 2002. Previously, Mr. Morse was chief operating officer of TelePacific
Communications, Inc., an integrated telecommunications provider operating in
California and Nevada. Prior to that, he was area vice president for Sprint PCS,
where he managed the buildout, launch and operation of Sprint PCS businesses in
Cleveland, Cincinnati, Columbus and Indianapolis. He has held management
positions with Nextel Communications, Inc., Lightbridge, Inc., and New Par, Inc.
(Cellular One of Ohio and Michigan). Mr. Morse earned a Bachelor of Arts in
social and behavioral sciences and a minor in marketing from The Ohio State
University.
Joseph E. Corbin has served as Vice President, Engineering and Operations
since June 2001. He previously served as Vice President of Technology of Horizon
PCS from its inception in April 2000 and of Horizon Personal Communications
since May 1996. He is responsible for the engineering, build-out and operations
of our PCS network. Mr. Corbin also was Manager of Information Technology for
The Chillicothe Telephone Company and then Horizon Services from January 1993 to
April 2000 and has been in the telecommunications industry for 23 years
including various management and technical positions at The Chillicothe
Telephone Company.
Joseph J. Watson has served as Vice President of Sales, since October 2002.
Mr. Watson is currently responsible for all sales efforts for the company. From
May 1996 to October 2002, Mr. Watson held various senior management positions
with Horizon Personal Communications, including the positions of Vice President
of Sales and Marketing, Vice President of Business Development, Vice President
57
of Administration, Director of Finance and General Manager -- Horizon Long
Distance. Mr. Watson has been in the telecommunications industry for more than
twelve years including various management positions at The Chillicothe Telephone
Company and began his career with Cincinnati Bell. Mr. Watson holds a bachelors
degree in Communication Systems Management and an MBA from Ohio University..
Monesa S. Skocik has served as a Vice President of Horizon PCS since its
inception in April 2000 and of Horizon Personal Communications since August
1999. Ms. Skocik has over four years of telecommunications experience. Ms.
Skocik is responsible for our coordination, management and implementation of
Sprint PCS new product launches, compliance monitoring and other corporate
customer service functions. Since March 1997, Ms. Skocik held various positions
with Horizon Personal Communications, including Vice President of Customer
Operations, Director-Customer Service and Manager-Customer Care. From August
1995 to February 1997, Ms. Skocik was the Administrator for Riverside
Professional Corporation, Inc., a physician medical facility, where she was
responsible for all operational aspects of the practice. Ms. Skocik is a
graduate of The Ohio State University and received a master's degree in
Communications from Ohio University.
Robert A. Katz was appointed a director of Horizon PCS in September 2000.
Mr. Katz is also a director of Vail Resorts, Inc. and Sprectrasite, Inc. Mr.
Katz has been associated with Apollo Advisors since 1990. Apollo Advisors,
together with affiliated investment managers, manages the Apollo investment
funds, including Apollo Investment Fund IV, LP. Mr. Katz was appointed to the
board pursuant to the terms of the Investors Rights and Voting Agreement entered
into in connection with the sale of convertible preferred stock in September
2000. See "ITEM 13. Certain Relationships and Related Transactions." Mr. Katz
received a Bachelor of Science in Economics from the University of Pennsylvania.
Thomas McKell has served as the President and a Director of Horizon Telcom
since its inception in 1996 and of The Chillicothe Telephone Company since 1988.
Mr. McKell has 46 years of telecommunications experience and received a Bachelor
of Science in Electrical Engineering. Mr. McKell is the father of William A.
McKell.
Lonnie D. Pedersen has served as President of Telephone Service Company
since 1993. Mr. Pedersen has 23 years of telecommunications experience. He began
his career in the Air Force and has since held management positions in the
independent telephone industry in Iowa and Ohio. Mr. Pedersen has served as
President of the Rural Iowa Independent Telephone Association and is currently
on the board of the Ohio Telecommunications Industry Association. He is also
director and president of Com Net, a consortium of companies that provide
Internet service (bright.net), long distance resale and other telecommunications
services. Mr. Pedersen has served as a director of Minster Bank, a community
bank based in Minster, Ohio since 1995. Mr. Pedersen was appointed to the board
pursuant to the terms of our agreement to purchase the remaining 74% of Bright
PCS. Prior to the Bright PCS acquisition, Mr. Pedersen was Vice President of
Bright PCS and served as a member of the Bright PCS management committee. Mr.
Pedersen received his Bachelor of Arts in business administration from Buena
Vista University and has an associate degree in Technology from Fort Steilacoom
Community College.
Eric L. Zinterhofer was appointed a director of Horizon PCS in November
2001. Mr. Zinterhofer is a principal of Apollo Advisors, with which he has been
associated since 1998, and which, together with affiliated investment managers,
manages the Apollo investment funds, including Apollo Investment Fund IV, L.P.
Prior to joining Apollo, he was a member of the corporate finance department at
Morgan Stanley and Co. and the investment management group at J.P. Morgan. Mr.
Zinterhofer also serves on the board of directors of Clark Retail Enterprises,
Inc. Mr. Zinterhofer was appointed to the board pursuant to the terms of the
Investors Rights and Voting Agreement entered into in connection with the sale
of convertible preferred stock in September 2000. See "ITEM 13. Certain
Relationships and Related Transactions." Mr. Zinterhofer holds Bachelor of Arts
degrees in Economics and European History from the University of Pennsylvania.
He received his Masters in Business Administration from Harvard University.
BOARD OF DIRECTORS
There are presently six members of the board of directors. Pursuant to
Horizon PCS' Certificate of Incorporation, the board of directors is divided
into three classes of directors -- Class I, Class II and Class III. Eric
58
Zinterhofer serves as Class I. Peter M. Holland and Thomas McKell serve as Class
II directors. Robert A. Katz, William A. McKell and Lonnie Pedersen serve as
Class III directors. Directors in each class will serve for a term of three
years, or until their successors have been elected and qualified. Directors may
be compensated at the discretion of the board of directors. Executive officers
are ordinarily elected annually and serve at the discretion of the board of
directors. On February 20, 2003, Phoebe McKell resigned as a class I director.
BOARD COMMITTEES
The Company has an audit committee which is responsible for recommending to
the board of directors the engagement of our independent auditors and reviewing
with the independent auditors the scope and results of the audits, our internal
accounting controls, audit practices and the professional services furnished by
the independent auditors. The current members of the audit committee are Messrs.
Pedersen, Holland and Zinterhofer . Horizon will maintain at least two
independent directors.
LIMITATION ON LIABILITY AND INDEMNIFICATION
Our certificate of incorporation limits the liability of directors to the
maximum extent permitted by Delaware law. Our certificate of incorporation
provides that we shall indemnify our directors and executive officers and may
indemnify our other officers and employees and agents and other agents to the
fullest extent permitted by law. Our certificate of incorporation also permits
us to secure insurance on behalf of any officer, director, employee or other
agent for any liability arising out of actions in his or her official capacity.
We have entered into agreements to indemnify our directors and officers in
addition to indemnification provided for in our certificate of incorporation.
These agreements indemnify our directors and officers for certain expenses,
including attorneys' fees, judgments, fines and settlement amounts incurred by
any of these persons in any action or proceeding, including any action by us or
in our right, arising out of that person's services as a director or officer of
ours, any subsidiary of ours, or any other company or enterprise to which the
person provides services at our request. In addition, we have directors' and
officers' insurance providing indemnification for certain of our directors,
officers and employees for these types of liabilities. We believe that these
provisions, agreements and insurance are necessary to attract and retain
qualified directors and officers.
At present, there is no pending litigation or proceeding involving any
director, officer, employee or agent of ours where indemnification will be
required or permitted. We are not aware of any threatened litigation or
proceeding that might result in a claim for indemnification.
ITEM 11. EXECUTIVE COMPENSATION
The following table presents summary information with respect to the
compensation paid to our Chief Executive Officer and our four other highest paid
executive officers whose salary and bonus exceeded $100,000 during the year
ended December 31, 2002.
LONG-TERM
COMPENSATION
NAME AND PRINCIPAL ANNUAL COMPENSATION SECURITIES UNDERLYING ALL OTHER
POSITION YEAR SALARY($) BONUS($) OPTIONS(#) COMPENSATION($)
- ---------------------------- ----------- ----------- ----------- ---------------------- --------------------
William A. McKell........... 2002 $ 207,500 $ 50,103 -- $ 13,075 (1)
Chairman of the Board, 2001 195,833 65,935 -- 116,885 (2)
President and Chief 2000 154,167 21,458 -- 12,497 (3)
Executive Officer
Peter M. Holland............ 2002 $ 181,562 $ 43,819 -- $ 12,676 (5)
Chief Financial Officer(4) 2001 170,833 57,479 -- 129,032 (6)
2000 150,000 20,625 -- 11,971 (7)
Alan G. Morse............... 2002 $ 150,000 $ 36,627 200,000 $ 10,193 (8)
Chief Operating Officer 2001 -- -- -- --
2000 -- -- -- --
59
LONG-TERM
COMPENSATION
NAME AND PRINCIPAL ANNUAL COMPENSATION SECURITIES UNDERLYING ALL OTHER
POSITION YEAR SALARY($) BONUS($) OPTIONS(#) COMPENSATION($)
- ---------------------------- ----------- ----------- ----------- ---------------------- --------------------
Joseph E. Corbin............ 2002 $ 129,688 $ 33,752 -- $ 8,631 (9)
Vice President, 2001 121,667 44,428 -- 126,797 (10)
Engineering/Operations 2000 105,000 14,438 -- 20,254 (11)
Monesa S. Skocik............ 2002 $ 129,688 $ 33,119 -- $ 11,171 (12)
Vice President, 2001 121,667 40,733 -- 126,501 (13)
External Affairs 2000 105,000 14,438 -- 12,692 (14)
- ----------
(1) Includes a yearly car allowance of $9,368 and a 401(k) contribution of
$3,707.
(2) Includes an award of Horizon Telcom shares valued at $100,900 at the date
of the award, a yearly car allowance of $10,985 and a 401(k) contribution
of $5,000.
(3) Includes a yearly car allowance of $7,784 and a 401(k) contribution of
$4,713.
(4) Mr. Holland became Chief Financial Officer on November 17, 1999, but did
not receive any compensation in 1999. See "ITEM 13. Certain Relationships
and Related Transactions" for a discussion of consulting fees received by
the Pinnacle Group, a company that was 50% owned by Mr. Holland. Pinnacle
received consulting fees of $267,000 in 1999, $204,000 in 1998 and $419,000
in 1997.
(5) Includes a yearly car allowance of $8,103 and a 401(k) contribution of
$4,573.
(6) Includes an award of Horizon Telcom shares valued at $116,000 at the date
of the award, a yearly car allowance of $7,892 and a 401(k) contribution of
$5,140.
(7) Includes a yearly car allowance of $7,578 and a 401(k) contribution of
$4,393.
(8) Includes a yearly car allowance of $6,443 and a 401(k) contribution of
$3,750.
(9) Includes a yearly car allowance of $8,631.
(10) Includes an award of Horizon Telecom shares valued at $116,000 at the date
of the award, a yearly car allowance of $7,839 and a 401(k) contribution of
$2,958
(11) Includes a yearly car allowance of $9,981 and a 401(k) contribution of
$10,273.
(12) Includes a yearly car allowance of $7,211 and a 401(k) contribution of
$3,960.
(13) Includes an award of Horizon Telcom shares valued at $116,000 at the date
of the award, a yearly car allowance of $6,807 and a 401(k) contribution of
$3,694.
(14) Includes a yearly car allowance of $6,330 and a 401(k) contribution of
$6,362.
Grant of Options. During 2002, options were granted to Alan Morse. No stock
appreciation rights (SARs) have been granted by the Company. The following table
sets forth information regarding the grants of options in 2002:
OPTION/SAR GRANTS IN LAST FISCAL YEAR (2002)
NUMBER OF
SECURITIES
UNDERLYING % OF TOTAL POTENTIAL REALIZABLE VALUE
OPTIONS/ OPTIONS/SARS AT ASSUMED ANNUAL RATES OF
SARS GRANTED TO EXERCISE APPRECIATION FOR OPTION TERM
GRANTED EMPLOYEES IN PRICE EXPIRATION -----------------------------
NAME (#) FISCAL YEAR ($/SH) DATE 5%($) 10%($)
-------------------------------- ------------ ------------- ------------ ------------ -----------------------------
Alan Morse...................... 200,000 100% $5.60 3/01/12 $704,362 $1,784,992
2000 STOCK OPTION PLAN
The 2000 Stock Option Plan has been adopted by our board of directors and
stockholders. The option plan permits the granting of both incentive stock
options and nonqualified stock options to employees. The aggregate number of
shares of common stock that may be issued pursuant to options granted under the
option plan is 7,500,000 shares of class A common stock and 4,196,883 shares of
class B common stock, subject to adjustments in the event of certain changes in
the outstanding shares of common stock. On December 1, 1999, our subsidiary,
Horizon Personal Communications, granted options to purchase 3,588,000 shares of
its class B common stock with an exercise price of $0.1414 per share to 13
individuals under its 1999 Stock Option Plan. After we were incorporated, we
issued options to replace those initial options, on the same economic terms
adjusted for the fact that Horizon Personal Communications was our subsidiary.
After taking into account the adjustment, we issued 4,196,883 substituted
options on class B common stock at an exercise price of $0.1209. In 2000, we
granted options to purchase 116,971 shares of class A common stock at an
exercise price of $5.88 per share. In March, 2002, Horizon PCS granted options
to purchase shares of Horizon PCS' class A common stock at an exercise price of
$5.60 per share.
60
The option plan will be administered by our board of directors or by a
compensation committee appointed by our board of directors, which will be
authorized, subject to the provisions of the option plan, to grant options and
establish rules and regulations as it deems necessary for the proper
administration of the option plan and to make whatever determinations and
interpretations it deems necessary or advisable.
An incentive option may not have an exercise price less than the fair
market value of the common stock on the date of grant or an exercise period that
exceeds ten years from the date of grant. In the case of option holders that own
more than 10% of Horizon PCS' stock, the exercise price for an inactive option
cannot be less than 110% of the fair market value of the common stock on the
date of grant and the exercise period cannot exceed five years from the date of
grant. Incentive options are also subject to other limitations which allow the
option holder to qualify for favorable tax treatment. Nonqualified options may
have an exercise price of less than, equal to or greater than the fair market
value of the underlying common stock on the date of grant but are limited to an
exercise period of no longer than ten years. However, we will not grant
non-qualified options with an exercise price less than 85% of fair market value
of the common stock on the date of the grant.
The board of directors or the compensation committee will determine the
persons to whom options will be granted and the terms, provisions, limitations
and performance requirements of each option granted, and the exercise price of
an option.
An option will not be transferable except by will or by the laws of descent
or distribution or unless determined otherwise by our board of directors or the
compensation committee.
Unless previously exercised, a vested option granted under the option plan
will terminate automatically:
o twelve months after the employee's termination of employment by reason
of disability or death; and
o three months after an employee's termination of employment for reasons
other than disability or death.
The plan contains provisions that give the compensation committee or our
board of directors or the acquiring entity's board of directors discretion to
take specified actions if Horizon PCS is acquired, unless the individual option
grants provide otherwise. Those actions can include the authorization to
purchase option grants from plan participants, or make adjustments or
modifications to outstanding options granted to protect and maintain the rights
and interests of the plan participants or accelerate the vesting of outstanding
options. To date, all individual option grants have provided that the options
will accelerate and become fully exercisable upon an acquisition of Horizon PCS.
The board of directors has undertaken not to grant options (other than
under the 2000 Stock Option Plan) with a term of longer than 5 years until the
class A common stock is listed on either the New York Stock Exchange, the
American Stock Exchange, or the NASDAQ National Market.
None of our named executive officers exercised stock options in the fiscal
year ended December 31, 2002. The following table sets forth information
concerning the number and value of unexercised options held by each of our named
executive officers on December 31, 2002. There was no public market for our
common stock as of December 31, 2002. Accordingly, the fair market value of the
Company on December 31, 2002, based on the valuation analysis performed in
conjunction with SFAS 142, was assumed to be less than $0.12 per share.
61
AGGREGATED OPTION EXERCISES IN FISCAL YEAR 2002
FISCAL YEAR-END OPTION VALUES
NUMBER OF SECURITIES VALUE OF UNEXERCISED
UNDERLYING UNEXERCISED IN-THE-MONEY
OPTIONS AT YEAR END (#) OPTIONS AT YEAR END ($)
NAME EXERCISABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE
---- --------------- ---------------- ---------------- ---------------
William A. McKell..................... 1,008,866 605,320 $ -- $ --
Peter M. Holland...................... 1,008,866 605,320 -- --
Alan G. Morse......................... -- 200,000 -- --
Joseph E. Corbin...................... 153,011 35,310 -- --
Monesa S. Skocik...................... 153,011 35,310 -- --
COMPENSATION OF DIRECTORS
Currently, we do not compensate our directors. We do reimburse directors
for their expenses incurred in connection with attending board meetings.
EMPLOYMENT AGREEMENTS
We entered into employment agreements with Mr. McKell, Mr. Holland and Mr.
Morse, Horizon PCS' Chief Executive Officer, Chief Financial Officer and Chief
Operating Officer, respectively. The employment agreements provide for an annual
base salary of $200,000 to Mr. McKell, $175,000 to Mr. Holland and $180,000 to
Mr. Morse beginning in 2002. In addition to their base salary, Mr. McKell, Mr.
Holland and Mr. Morse are eligible to receive an annual bonus up to 40% of their
base salary. In addition, Mr. McKell, Mr. Holland and Mr. Morse are eligible to
participate in all of our employee benefit plans.
The employment agreements provide that Mr. McKell's, Mr. Holland's or Mr.
Morse's employment may be terminated with or without cause, as defined in the
agreements. If Mr. McKell, Mr. Holland or Mr. Morse is terminated without cause,
he is entitled to receive 24 months of base salary, the vesting of all of his
stock options on the date of termination and 24 months of health and dental
benefits. Under the employment agreements, Mr. McKell, Mr. Holland and Mr. Morse
have agreed to a restriction on their present and future employment. They have
agreed not to compete in the business of wireless telecommunications either
directly or indirectly within our markets while employed by us and for a period
of twelve months after termination of employment.
COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION
For the year ended December 31, 2002, the entire board of directors of
Horizon Personal Communications, Inc. determined executive compensation. None of
our executive officers served as a director or member of the compensation
committee or other board committee performing equivalent functions of another
corporation.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The following table sets forth information regarding the beneficial
ownership of our voting securities, as of December 31, 2002, by:
o each person who, to our knowledge, is the beneficial owner of 5% or
more of a class of our outstanding common stock;
o each of our directors;
o each of the executive officers; and
o all executive officers and directors as a group.
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Beneficial ownership is determined in accordance with Rule 13d-3 of the
Securities Exchange Act. A person is deemed to be the beneficial owner of any
shares of common stock if that person has or shares voting power or investment
power with respect to the common stock, or has the right to acquire beneficial
ownership at any time within 60 days of the date of the table. "Voting power" is
the power to vote or direct the voting of shares and "investment power" is the
power to dispose or direct the disposition of shares.
CLASS A CLASS B
COMMON STOCK COMMON STOCK
-------------------------- -------------------------- PERCENTAGE OF TOTAL VOTING
NAME AND ADDRESS NUMBER PERCENT NUMBER PERCENT POWER (ALL CLASSES)(2)
- ---------------- ------------ ------------ ------------ ------------ --------------------------
Horizon Telcom (1)................... -- -- 53,806,200 92.0% 87.5%
Apollo Management VI, L.P. (3)....... 24,610,412 80.8% -- -- 4.0%
Ares Management II L.P. (4).......... 2,801,550 9.2% -- -- *
First Union (5)...................... 3,054,397 10.0% -- -- *
William A. McKell (6)................ -- -- 1,008,866 1.7% 1.6%
Peter M. Holland (6)................. -- -- 1,008,866 1.7% 1.6%
Alan G. Morse (6).................... -- -- -- -- --
Joseph E. Corbin (6)................. -- -- 153,011 * *
Joseph J. Watson (6)................. -- -- 153,011 * *
Monesa S. Skocik (6)................. -- -- 153,011 * *
Thomas McKell (7).................... -- -- 53,806,200 92.0% 87.5%
Lonnie D. Pedersen (8)............... -- -- 1,519,907 2.6% 2.5%
Robert A. Katz (9)................... -- -- -- -- --
Eric L. Zinterhofer (9).............. -- -- -- -- --
All Executive Officers and
Directors as a Group (10
persons)(9)(10).................... -- -- 57,802,872 94.8% 90.3%
- ----------
* Less than one percent.
(1) The address for Horizon Telcom and each executive officer and director is
68 E. Main Street, Chillicothe, Ohio, 45601-0480.
(2) Holders of class A common stock are entitled to one vote per share and
holders of class B common stock are entitled to ten votes per share.
Holders of both classes of common stock will vote together as a single
class on all matters presented for a vote, except as otherwise required by
law. Each share of class B common stock is convertible into one share of
class A common stock.
(3) Represents 24,610,403 shares of common stock issuable upon the conversion
of the convertible preferred stock. Assuming conversion of all the
convertible preferred stock held by the Apollo stockholders, the shares of
common stock would consist of 23,315,909 shares of common stock
beneficially owned by Apollo Investment Fund IV, L.P., and 1,294,503 shares
of common stock beneficially owned by Apollo Overseas Partners IV, L.P.
Apollo Management IV, L.P. manages these two Apollo funds. The holders of
the convertible preferred stock are entitled to one vote per share of
convertible preferred stock. Messrs. Katz and Zinterhofer, directors of
Horizon PCS and associated with Apollo Advisers IV, L.P., disclaim
beneficial ownership of the shares held by the Apollo stockholders. The
managing general partner of the Apollo funds is Apollo Advisors, a Delaware
limited partnership, the general partner of which is Apollo Capital
Management, Inc., a Delaware corporation. The address for the Apollo
stockholders is 1301 Avenue of the Americas, 38th Floor, New York, New
York, 10019.
(4) Includes 2,776,550 shares of common stock issuable upon the conversion of
the convertible preferred stock. Assuming conversion of all the convertible
preferred stock held by the Ares stockholders, the shares of common stock
would consist of 1,388,275 shares of common stock beneficially owned by
Ares Leveraged Investment Fund, L.P., and 1,388,275 shares of common stock
beneficially owned by Ares Leveraged Investment Fund II, L.P. The holders
of the convertible preferred stock are entitled to one vote per share of
convertible preferred stock. The managing general partner of the Ares funds
is Ares Management II, L.P., a Delaware corporation, which together with
its affiliate investment manager, serves as investment manager of the Ares
funds. Also includes warrants to purchase 12,500 shares held by each of
these two funds which are not exercisable within 60 days of the date of
this Annual Report on Form 10-K. The address for the Ares stockholders is
1999 Avenue of the Stars, Suite 1900, Los Angeles, California, 90067.
(5) Includes 3,045.367 shares issuable upon the assumed conversion of the
convertible preferred stock and 9,030 shares issuable upon the assumed
exercise of warrants issued with the September 2000 discount notes. Each
share of convertible preferred stock is convertible into one share of class
A common stock and each warrant may be exercised at $5.88 per share of
class A common stock. Each holder of convertible preferred stock is
entitled to one vote per share. The address for First Union is 301 South
College Street, Charlotte, North Carolina, 28288.
(6) Reflects shares of class B common stock issuable upon exercise of stock
options that are presently exercisable or exercisable within 60 days of the
date of this Annual Report on Form 10-K.
(7) Includes 53,806,200 shares held by Horizon Telcom. Thomas McKell is the
President of Horizon Telcom, and shares voting and investment power with
regard to these shares. Mr. McKell disclaims beneficial ownership of these
shares.
(8) Includes 1,455,678 shares of class B common stock held by Telephone Service
Company. Mr. Pedersen is the President of Telephone Service Company and
shares voting and investment power with regard to these shares. Mr.
Pedersen disclaims beneficial ownership of these shares.
(9) Does not include shares held by Apollo. Each of Messrs. Katz and
Zinterhofer, directors of Horizon PCS and associated with Apollo Advisors,
L.P., disclaims beneficial ownership of the securities held by Apollo.
(10) Includes 2,476,765 shares of class B common stock issuable upon exercise of
stock options that are presently exercisable or exercisable within 60 days
of the date of this Annual Report on Form 10-K.
63
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
SERVICE AGREEMENTS WITH HORIZON TELCOM SUBSIDIARIES
Horizon Personal Communications and Bright PCS, our subsidiaries, have
entered into service agreements with Horizon Services, Inc. and a separate
services agreement with Horizon Technology (formerly United Communications,
Inc.). Horizon Services and Horizon Technology are both wholly-owned
subsidiaries of Horizon Telcom.
Under our agreement with Horizon Services, Horizon Services provides
services to Horizon Personal Communications and Bright PCS including insurance
functions, billing services, accounting services, computer access and other
customer relations, human resources, and other administrative services that
Horizon Personal Communications and Bright PCS would otherwise be required to
undertake on their own. These agreements have a term of three years, with the
right to renew the agreement for additional one-year terms each year thereafter.
We have the right to terminate each agreement during its term by providing 90
days written notice to Horizon Services. Horizon Services may terminate the
agreement prior to its expiration date only in the event that we breach our
obligations under the services agreement and we do not cure the breach within 90
days after we receive written notice of breach from Horizon Services. Horizon
Services is entitled to the following compensation from Horizon Personal
Communications for services provided:
o direct labor charges at cost; and
o expenses and costs which are directly attributable to the activities
covered by the agreement on a direct allocation basis.
The agreement provides that Horizon Services' obligations do not relieve
Horizon Personal Communications of any of their rights and obligations to their
customers and to regulatory authorities having jurisdiction over them.
Additionally, Horizon Services, upon request, is required to provide Horizon
Personal Communications with access to Horizon Services' records with respect to
the provision of services, and Horizon Services is also required to provide
regular reports to Horizon Personal Communications, as it may request. Horizon
Services received compensation from Horizon Personal Communications of
approximately $5.2 million, $6.2 million and $4.4 million in the years ending
December 31, 2002, 2001 and 2000, respectively. As of December 31, 2002, Horizon
Personal Communications, Inc. had a receivable from Horizon Services of
approximately $8,000. As of December 31, 2002, Horizon Personal Communications,
Inc. did not have a receivable from Horizon Telcom.
Horizon Personal Communications, our subsidiary, entered into a services
agreement with Horizon Technology, Inc., a wholly-owned subsidiary of Horizon
Telcom. Under the services agreement, Horizon Personal Communications provided
services to Horizon Technology including customer activation and deactivation,
customer care support and other administrative services that Horizon Technology
would otherwise have been required to undertake on its own. Under the agreement,
Horizon Technology paid Horizon Personal Communications $4,000 each month of the
term of the services agreement. This agreement was terminated in August 2001.
Horizon Technology paid a total of $32,000 to the Company during 2001.
OFFICE LEASE
Horizon PCS leases its principal office space, the space for one of our
retail locations and the space for certain equipment from The Chillicothe
Telephone Company, a wholly-owned subsidiary of Horizon Telcom. Under the lease,
Horizon PCS paid The Chillicothe Telephone Company $120,000, $120,000 and
$97,500 in 2002, 2001 and 2000, respectively. We believe the lease was made on
terms no less favorable to Horizon PCS than would have been obtained from a
non-affiliated third party. The lease term expires in May 2005. Horizon PCS has
the option to renew the lease for an additional two year period. The Company
expects that the lease will be renewed.
STOCK DIVIDEND
Prior to September 2000, we owned 46,988 shares of common stock of Horizon
Telcom, representing approximately 12% of the total outstanding Horizon Telcom
stock. In September 2000, we distributed 39,890 of these shares to the Horizon
64
PCS stockholders as a dividend, retaining approximately 2% of the total
outstanding Horizon Telcom stock. We made this distribution so that our existing
stockholders could receive the full value of the distributed shares prior to the
issuance of the convertible preferred stock. This distribution resulted in the
recognition of a gain of $1.0 million. In April 2001, we distributed the
remaining 2% of the Horizon Telcom stock that we owned to a group of officers
and key employees in the form of a bonus. The officer group included each of the
named executive officers. See "ITEM 11. Executive Compensation."
TAX-SHARING AGREEMENT
In 1997, HPC entered into a tax-sharing agreement with Horizon Telcom. This
agreement provides that Horizon Telcom and its subsidiaries will file a
consolidated tax return as long as they are eligible to do so, and that HPC will
be paid for the amount of its taxable net operating losses used by Horizon
Telcom to offset taxable income. For 2000, HPC had taxable net income of $18.6
million. For the years ended December 31, 2000 and 1999, Horizon Telcom paid an
aggregate of $4.5 million and $5.2 million, respectively, to HPC under the
agreement. Due to the sale of the convertible preferred stock in September 2000,
the Company will no longer be included in the consolidated tax return of Horizon
Telcom. This change in our tax status is referred to as a tax deconsolidation.
The tax-sharing agreement provides that Horizon Telcom will indemnify Horizon
PCS to the extent of any aggregate tax liability in excess of $11.5 million
related to the tax deconsolidation and the dividend of the Horizon Telcom stock.
For the year ended December 31, 2001 and 2000, the Company paid $338,000 and
$5.2 million, respectively, to Horizon Telcom for taxes. As of December 31, 2001
and 2000, we had a receivable and a payable to Horizon Telcom of approximately
$484,000 and $338,000, respectively, for Federal income taxes attributable
primarily to the tax liability for the tax deconsolidation and the dividend of
the Horizon Telcom stock offset by the utilization of net operating losses.
POLICY REGARDING RELATED PARTY TRANSACTIONS
We have established a policy that all future related party transactions
(including transactions with Horizon Telcom and its affiliates) will be reviewed
by our board of directors. Our policy is that all related party transactions
will be on terms no less favorable to Horizon PCS than a similar transaction
with unrelated parties, and must be approved by a majority of the directors,
including a majority of the disinterested directors.
Horizon believes that the terms of the related party transactions disclosed
above were as favorable as those generally available from unaffiliated third
parties. Each transaction was approved by the entire board of directors of
Horizon PCS. However, at those times our board did not include at least two
"disinterested directors," as defined by the North American Securities
Administrators Association, and therefore lacked the required directors to
ratify the transactions under their policy on such related party transactions.
The board of directors has adopted a policy that all future material affiliated
transactions and loans will be made or entered into on terms that are not less
favorable to Horizon than those that can be obtained from unaffiliated third
parties. In addition, all future material affiliated transactions and any
forgiveness of loans must be approved by Horizon's independent directors who
have no interest in the transactions and who have access, at Horizon's expense,
to Horizon's counsel.
ISSUANCE OF CONVERTIBLE PREFERRED STOCK
In September 2000, an investor group led by Apollo Management purchased
approximately $126.5 million of our convertible preferred stock in a private
placement. Prior to the investment this group had no relationship with Horizon
PCS. This investment consisted of 9.2 million shares of Series A Convertible
Preferred Stock, with an issue price of $5.88 per share, and 14.3 million shares
of Series A-1 Convertible Preferred Stock, with an issue price of $5.07 per
share. The convertible preferred stock is convertible into shares of our class A
common stock (on a share-for-share basis subject to anti-dilution adjustments)
at any time by the holders thereof. The convertible preferred stock also is
convertible automatically upon the occurrence of a public offering of our common
stock with aggregate gross proceeds of at least $65.0 million in which we
receive a per share price that exceeds 1.75 multiplied by the conversion price
of the convertible preferred stock or the consummation of a business combination
transaction that results in a change in control of the Company.
Assuming full conversion of the convertible preferred stock outstanding at
December 31, 2002, the investor group or its successors will beneficially own
approximately 34.2% of our outstanding class A and class B common stock on a
combined basis, based on the number of class A and class B common stock
65
outstanding at December 31, 2002. This percentage represents approximately 5.0%
of the combined voting power of our class A and class B common stock. These
percentages do not give effect to the warrants to be issued to Sprint, the
warrants issued as part of the discount note offering and the options which have
been granted under the 2000 stock option plan.
Securities Purchase Agreement. The Securities Purchase Agreement between
the investor group and us limits actions relating to our business, our capital
stock and other aspects of our operations without the prior approval of the
investor group. Among the types of actions that we cannot take are the
following:
o the declaration or payment of dividends or distributions;
o entering into business combination transactions, including mergers or
consolidations;
o amending the terms of our class B common stock or issue any new shares
of our class B common stock, other than pursuant to the exercise of
outstanding options;
o engaging in any business other than the business we currently engage
in;
o entering into transactions with affiliates or making disallowed
payments to related parties under existing services agreements;
o acquiring or disposing of assets or a business with an aggregate value
in excess of $5.0 million;
o adopting a new employee option or incentive plan;
o issuing or selling shares of our capital stock or the capital stock of
our subsidiaries, other than in a public offering of our class A
common stock, pursuant to an employee benefit plan or in connection
with mergers and acquisitions;
o increasing the size of our board of directors;
o incurring any indebtedness for borrowed money;
o subject to fiduciary duties, retaining or terminating senior executive
officers including the chief executive officer and the chief financial
officer; and
o making capital expenditures, unless permitted by the senior secured
credit facility.
If we have not completed either (i) a public offering of our class A common
stock in which we receive at least $50.0 million or (ii) a merger or
consolidation with a publicly listed company that has a market capitalization of
at least $100.0 million, in each case by September 26, 2005, the investor group
may request that we repurchase all of their shares of convertible preferred
stock at fair market value, as determined by three investment banking
institutions. If the investor group requests that we repurchase their
convertible preferred stock and we decline, we will be required to auction
Horizon PCS. If no bona fide offer is received upon an auction, the repurchase
right of the investor group expires. If, however, a bona fide offer is received
upon the auction, we must sell Horizon PCS or the dividend rate on the
convertible preferred stock will increase from 7.5% to 18.0% and we will be
required to re-auction the Company annually until the convertible preferred
stock is repurchased or the repurchase right expires. The secured credit
facility and the senior notes prohibit us from repurchasing any convertible
preferred stock.
The approval rights of the investor group under the securities purchase
agreement relating to its ownership of our convertible preferred stock will
terminate upon the earlier to occur of (a) the closing of an underwritten public
offering of our class A common stock in which we receive aggregate gross
proceeds of at least $65.0 million and in which we receive a price per share
that exceeds 1.75 multiplied by the conversion price of the convertible
preferred stock (at which time the convertible preferred stock will convert into
class A common stock), and (b) the date upon which no convertible preferred
stock remains outstanding.
66
Investors' Rights and Voting Agreement. In connection with the purchase and
sale of our convertible preferred stock, we entered into an Investors' Rights
and Voting Agreement with the investor group and Horizon Telcom. This agreement
principally provides for the following:
o rights in favor of the investor group allowing it to participate in
sales of our capital stock by Horizon Telcom;
o rights in favor of Horizon Telcom requiring the investor group to sell
all of their shares of Horizon PCS stock if Horizon Telcom accepts an
offer to sell all of its shares of Horizon PCS stock;
o rights in favor of Horizon Telcom requiring the investor group to sell
all of our capital stock owned by them if Horizon Telcom accepts an
offer to sell all of our capital stock owned by Horizon Telcom to a
non-affiliated purchaser;
o as long as the investor group beneficially owns at least 5% of our
fully diluted common stock, the right of the investor group to
designate at least one member of our board of directors;
o as long as the investor group beneficially owns at least 12.5% of our
fully diluted common stock, the right of the investor group to
designate up to two members of our board of directors; and
o as long as the investor group beneficially owns at least 5% of our
fully diluted common stock, the requirement that Horizon Telcom vote
all of our capital stock owned by it to ensure that the size of our
board of directors is set and remains at seven directors unless the
designee members of the investor group of our board of directors agree
to an increase in the size of our board of directors.
Under the terms of this agreement, we appointed Robert Katz and Eric
Zinterhofer as Apollo's designees to our board of directors. See "ITEM 10.
Directors and Executive Officers of the Registrant."
Registration rights agreement. We also entered into a registration rights
agreement in connection with the purchase and sale of our convertible preferred
stock in which we granted to holders of our convertible preferred stock the
following registration rights:
o demand registration rights that entitle them to require us to
register, at our expense, the resale of their shares under the
Securities Act; and
o piggyback registration rights that entitle them to require us to
include, at our expense, their shares in a registration of any of our
equity securities for sale by us or by any of our other security
holders, other than in connection with an initial public offering and
other than pursuant to the registration of the warrants comprising
part of the units or the warrants to be issued to Sprint.
Policy regarding preferred stock. All future issuances of preferred stock
must be approved by a majority of Horizon's independent directors who do not
have an interest in the transaction and who have access, at Horizon's expense,
to Horizon's counsel.
OTHER FEES PAID TO STOCKHOLDERS
An affiliate of Donaldson, Lufkin & Jenrette, now known as Credit Suisse
First Boston, entered into an engagement letter with us in late July 2000 to act
as placement agent for the placement of private equity. The commitment letter
provided that the affiliate of Credit Suisse First Boston would be paid a fee
upon the closing of our private equity offering. We paid the placement fee of
$3.6 million on September 26, 2000. Credit Suisse First Boston and First Union
Securities were also initial purchasers under our sale of units of warrants and
senior discount notes in September 2000, for which they received approximately
$5.2 million for performing these services. In September 2000, an affiliate of
First Union Securities acted as sole lead arranger for our senior secured credit
facility and received fees totaling $7.0 million for these services. Donaldson,
Lufkin & Jenrette Securities Corporation, a predecessor of Credit Suisse First
Boston, and First Union Securities also acted as the lead managers of our
proposed initial public offering. In 2000, we entered into engagement letters
with Credit Suisse First Boston and First Union Securities to act as our
co-advisors in possible strategic transactions, for which they expected to
67
receive fees customarily charged by investment bankers of international standing
in similar transactions. We have paid a total of $450,000 in fees under this
arrangement. Credit Suisse First Boston, First Union Securities and two other
firms acted as initial purchasers under our sale of senior notes in December
2001, for which they received approximately $5.3 million for performing these
services.
ITEM 14. CONTROL AND PROCEDURES
Our Chief Executive Officer and Chief Financial Officer are responsible for
establishing and maintaining "disclosure controls and procedures" (as defined in
the Securities Exchange Act of 1934 Rules 13a-14(c) and 15d-14(c)) for the
Company. With the participation of management, the Company's Chief Executive
Officer and Chief Financial Officer evaluated the Company's disclosure controls
and procedures within 90 days preceding the filing date of this annual report.
Based upon this evaluation, the Chief Executive Officer and Chief Financial
Officer concluded that the Company's disclosure controls and procedures are
effective in ensuring that material information required to be disclosed is
included in the reports that it files with the Securities and Exchange
Commission.
Under our agreements with Sprint, Sprint provides us with billing,
collections, customer care and other back office services. As a result, Sprint
remits approximately 96% of our revenues to us. In addition, approximately 43%
of cost of service in our consolidated financial statements relate to charges
for services provided under our agreements with Sprint such as billing, customer
care, roaming expense, and long-distance. The Company, as a result, necessarily
relies on Sprint to provide accurate, timely and sufficient data and information
to properly record our revenues, expenses and accounts receivable which underlie
a substantial portion of our periodic financial statements and other financial
disclosures. The relationship with Sprint is established by our agreements and
our flexibility to use a service provider other than Sprint is limited.
Because of our reliance on Sprint for financial information, the Company
must depend on Sprint to design adequate internal controls with respect to the
processes established to provide this data and information to the Company and
Sprint's other network partners. To address this issue, Sprint engages its
independent auditors to perform a periodic evaluation of these controls and to
provide a "Report on Controls Placed in Operation and Tests of Operating
Effectiveness for Affiliates" under guidance provided in Statement of Auditing
Standards No. 70. These reports are provided annually to the Company and covers
the Company's entire fiscal year.
There were no significant changes in the Company's internal controls or, to
the knowledge of the management of the Company, in other factors that could
significantly affect these controls subsequent to the evaluation date.
68
PART IV
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(A) THE FOLLOWING DOCUMENTS ARE FILED AS PART OF THIS ANNUAL REPORT ON FORM
10-K:
1. Financial Statements
Reports of Independent Public Accountants, Consolidated Balance Sheets
as of December 31, 2002 and 2001, Consolidated Statements of
Operations for the Years Ended December 31, 2002, 2001 and 2000,
Consolidated Statements of Comprehensive Income (Loss) for the Years
Ended December 31, 2002, 2001 and 2000, Consolidated Statements of
Stockholders' Equity (Deficit) for the Years Ended December 31, 2002,
2001 and 2000, Consolidated Statements of Cash Flows for the Years
Ended December 31, 2002, 2001 and 2000, and Notes to Consolidated
Financial Statements.
2. Exhibits
See the Index to Exhibits immediately preceding the exhibits filed
with this Report.
(B) REPORTS ON FORM 8-K
On November 12, 2002, the Company filed a Current Report on Form 8-K
regarding its earnings press release for the third quarter of 2002.
69
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.
HORIZON PCS, INC.
By: /s/ WILLIAM A. MCKELL
-------------------------------
William A. McKell
Chairman of the Board, President
and Chief Executive Officer
Date: March 28, 2002
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.
NAME TITLE DATE
---- ----- ----
/s/ WILLIAM A. MCKELL Chairman of the Board, March 28, 2003
- ------------------------------- President, Chief Executive Officer
William A. McKell
(Principal Executive Officer)
/s/ PETER M. HOLLAND Chief Financial Officer, March 28, 2003
- ------------------------------- Director
Peter M. Holland
(Principal Financial and
Accounting Officer)
/s/ THOMAS MCKELL Director March 28, 2003
- -------------------------------
Thomas McKell
/s/ LONNIE D. PEDERSEN Director March 28, 2003
- -------------------------------
Lonnie D. Pedersen
/s/ ROBERT A. KATZ Director March 28, 2003
- -------------------------------
Robert A. Katz
/s/ ERIC L. ZINTERHOFER Director March 28, 2003
- -------------------------------
Eric L. Zinterhofer
70
Horizon PCS, Inc., Certification for Annual Report on Form 10-K
I, William A. McKell, certify that:
1. I have reviewed this annual report on Form 10-K of Horizon PCS, 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 statements 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 registrants 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) evaluated 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) presented in this annual report our conclusions 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.
Date: March 28, 2003
----------------------------------
/s/ William A McKell
--------------------------------
William A. McKell
Chairman of the Board, President
and Chief Executive Officer
71
Horizon PCS, Inc., Certification for Annual Report on Form 10-K
I, Peter M. Holland, certify that:
1. I have reviewed this annual report on Form 10-K of Horizon PCS, 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 statements 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 registrants 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) evaluated 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) presented in this annual report our conclusions 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.
Date: March 28, 2003
----------------------------------
/s/ Peter M. Holland
--------------------------
Peter M. Holland
Chief Financial Officer
72
INDEX TO EXHIBITS
EXHIBIT
NUMBER DESCRIPTION
-------- -----------
1.1* Purchase Agreement dated September 18, 2000 between Horizon PCS,
Inc. and Donaldson, Lufkin & Jenrette Securities Corporation and
First Union Securities, Inc.
2.1**(1) Asset Purchase Agreement, dated May 19, 2000, by and between
Sprint PCS, Inc. and Horizon Personal Communications, Inc.
2.2**(1) Contribution and Exchange Agreement, as amended, dated May 4,
2000, by and among Horizon Personal Communications, Inc., Horizon
Telcom, Inc., the Registrant and those persons listed on the
attachment to the Contribution and Exchange Agreement.
3.1** Amended and Restated of Certificate of Incorporation of Horizon
PCS.
3.2** Bylaws of Horizon PCS.
4.1** Specimen Common Stock Certificate.
4.2* Indenture dated as of September 26, 2000 between Horizon PCS,
Inc. , Horizon Personal Communications, Inc., Bright Personal
Communications, Inc. and Wells Fargo Bank Minnesota, National
Association.
4.3* A/B Exchange Registration Rights Agreement made as of September
26, 2000 by and among Horizon PCS, Inc. and Donaldson, Lufkin &
Jenrette Securities Corporation and First Union Securities, Inc.
4.4* Form of Registered Note (included in Exhibit 4.2).
4.5* Note Guarantee of Horizon Personal Communications, Inc.
4.6* Note Guarantee of Bright Personal Communications Services, LLC
10.1* Form of Employment Agreement, dated September 26, 2000, by and
between Registrant and William A. McKell.
10.2* Form of Employment Agreement, dated September 26, 2000, by and
between Registrant and Peter M. Holland.
10.3**+ Sprint PCS Management Agreement between Sprint Spectrum, L.P.,
SprintCom, Inc. and Horizon Personal Communications, Inc., dated
June 8, 1998.
10.3.1** Letter Agreement, dated July 3, 2000, between Sprint Spectrum,
L.P., SprintCom, Inc. and Horizon Personal Communications, Inc.
10.3.2 Addendum VI to Sprint PCS Management Agreement between the
Registrant and Sprint PCS, Inc. (incorporated herein by reference
to the Registrant's Current Report on Form 8-K filed on August
24, 2001).
10.3.3+ Addendum V to Sprint PCS Management Agreement between Horizon PCS
and Sprint PCS, Inc. as of June 1, 2001 (incorporated by
reference Exhibit 10.3.3 to the Registrant's Quarterly Report on
Form 10-Q for the quarter ended June 30, 2002).
10.4**+ Sprint PCS Services Agreement between Sprint Spectrum L.P. and
Horizon Personal Communications, Inc., dated June 8, 1998.
10.5** Sprint Trademark and Service Mark License Agreement between
Sprint Communications Company, L.P. and Horizon Personal
Communications, Inc., dated June 8, 1998.
10.6** Sprint Spectrum Trademark and Service Mark License Agreement
between Sprint Spectrum L.P. and Horizon Personal Communications,
Inc., dated June 8, 1998.
10.7**+ Sprint PCS Management Agreement between Wirelessco, L.P.,
SprintCom, Inc., Sprint Spectrum, L.P. and Bright Personal
Communications Services, LLC, dated October 13, 1999.
10.8**+ Sprint PCS Services Agreement between Sprint Spectrum, L.P. and
Bright Personal Communications Services, LLC, dated October 13,
1999.
10.9** Sprint Trademark and Service Mark License Agreement between
Sprint Communications Company, L.P. and Bright Personal
Communications Services, LLC, dated October 13, 1999.
10.10** Sprint Spectrum Trademark and Service Mark License Agreement
between Sprint Spectrum, L.P. and Bright Personal Communications
Services, LLC, dated October 13, 1999.
73
EXHIBIT
NUMBER DESCRIPTION
-------- -----------
10.18** Registration Rights Agreement, dated June 27, 2000, by and among
the Registrant and those persons listed on the attachment to the
Contribution and Exchange Agreement.
10.19**+ Network Services Agreement by and between West Virginia PCS
Alliance, L.C., Virginia PCS Alliance, L.C. and Horizon Personal
Communications, Inc., dated August 12, 1999.
10.19.1+ Amendment to Network Services Agreement by and among the
Registrant, West Virginia PCS Alliance, L.C. and Virginia PCS
Alliance, L.C. (incorporated herein by reference to the
Registrant's Current Report on Form 8-K filed on August 24,
2001).
10.21**+ PCS CDMA Product Supply Contract by and between Motorola, Inc.
and Horizon Personal Communications, Inc.
10.25** Form of Horizon PCS, Inc. 2000 Stock Option Plan.
10.26**+ Site Development Agreement by and between Horizon Personal
Communications, Inc. and SBA Towers, Inc., dated August 17, 1999.
10.27**+ Master Site Agreement by and between SBA Towers, Inc. and Horizon
Personal Communications, Inc., dated July 1999.
10.28**+ Master Design Build Agreement by and between Horizon Personal
Communications, Inc. and SBA Towers, Inc., dated August 17, 1999.
10.29**+ Master Site Agreement by and between SBA Towers, Inc. and Bright
Personal Communications Services, LLC, dated October 1, 1999.
10.30**+ Master Design Build Agreement by and between Bright Personal
Communications Services, LLC and SBA Towers, Inc., dated October
1, 1999.
10.31** Services Agreement, dated May 1, 2000, between Horizon Personal
Communication, Inc. and Horizon Services, Inc.
10.32** Lease Agreement, dated May 1, 2000 between Chillicothe Telephone
Company and Horizon Personal Communications, Inc.
10.33** Services Agreement, dated May 1, 2000 between Horizon Personal
Communications, Inc. and United Communications, Inc.
10.34** Form of Indemnification Agreement.
10.35** Amended and Restated Tax Allocation Agreement dated May 1, 2000
by and among Horizon Telcom, Inc., Chillicothe Telephone Company,
Horizon Personal Communications, Inc., United Communications,
Inc., Horizon Services, Inc., and Horizon PCS, Inc.
10.35.1* First Amendment to the Amended and Restated Tax Allocation
Agreement dated as of September 26, 2000 by and among Horizon
Telcom, Inc., Chillicothe Telephone Company, Horizon Personal
Communications, Inc., United Communications, Inc., Horizon
Services, Inc., and Horizon PCS, Inc.
10.37* Securities Purchase Agreement dated September 26, 2000 by and
among Horizon PCS, Inc. Apollo Investment Fund IV, L.P., Apollo
Overseas Partners IV, L.P., Ares Leveraged Investment Fund, L.P.,
Ares Leveraged Investment Fund II, L.P. and First Union Capital
Partners, LLC.
10.38* Investors Rights and Voting Agreement dated September 26, 2000 by
and among Horizon PCS, Inc. Apollo Investment Fund IV, L.P.,
Apollo Overseas Partners IV, L.P., Ares Leveraged Investment
Fund, L.P., Ares Leveraged Investment Fund II, L.P. and First
Union Capital Partners, LLC.
10.39* Registration Rights Agreement dated September 26, 2000 by and
among Horizon PCS, Inc. Apollo Investment Fund IV, L.P., Apollo
Overseas Partners IV, L.P., Ares Leveraged Investment Fund, L.P.,
Ares Leveraged Investment Fund II, L.P. and First Union Capital
Partners, LLC.
74
EXHIBIT
NUMBER DESCRIPTION
-------- -----------
10.40* Credit Agreement, dated as of September 26, 2000, by and among
Horizon Personal Communications, Inc., and Bright Personal
Communications Services, LLC, Horizon PCS, Inc. (the "Parent")
and certain Subsidiaries of the Parent, the several banks and
other financial institutions as may from time to time become
parties to this Agreement, First Union National Bank, as
Administrative Agent, Westdeutsche Landesbank Girozentrale, as
Syndication Agent and Arranger and Fortis Capital Corp., as
Documentation Agent.
10.40.1** First Amendment to Credit Agreement and Assignment dated November
20, 2000, by and among Horizon Personal Communications, Inc. and
Bright Personal Communications Services, LLC, Horizon PCS, Inc.
(the "Parent") and certain subsidiaries of the Parent, Existing
Lenders, New Lenders, First Union National Bank, as
Administrative agent, Westdeutsche Landesbank Girozentrale, as
Syndication Agent and Arranger and Fortis Capital Corp., as
Documentation Agent.
10.40.2 Second Amendment to Credit Agreement and Assignment, dated June
29, 2001, by and among Horizon Personal Communications, Inc. and
Bright Personal Communications Services, LLC, Horizon PCS, Inc.
(the "Parent") and certain Subsidiaries of the Parent, Existing
Lenders, New Lenders, First Union National Bank, as
Administrative Agent, Westdeutsche Landesbank Girozentrale, as
Syndication Agent and Arranger, and Fortis Capital Corp., as
Documentation Agent (incorporated herein by reference to the
Registrant's Current Report on Form 8-K filed on July 3, 2001).
10.40.3 Third Amendment to Credit Agreement and Waiver dated as of
November 26, 2001 by and among Horizon Personal Communications,
Inc., and Bright Personal Communications Services, LLC, Horizon
PCS, Inc. (the "Parent") and certain Subsidiaries of the Parent,
the several banks and other financial institutions as may from
time to time become parties to the Agreement, First Union
National Bank, as Administrative Agent, Westdeutsche Landesbank
Girozentrale, as Syndication Agent and Arranger and Fortis
Capital Corp., as Documentation Agent (incorporated by reference
to Exhibit 10.40.3 filed with the Registrant's Current Report on
Form 8-K filed on November 28, 2001).
10.40.4 Waiver Agreement dated May 9, 2002 by and among Horizon Personal
Communications, Inc. (the "Company"), Bright Personal
Communications Services, LLC, an Ohio limited liability company
("Bright") (each of the Company and Bright, individually a
"Borrower" and collectively, the "Borrowers"), Horizon PCS, Inc.,
a Delaware corporation (the "Parent"), those Subsidiaries of the
Parent listed on the signature pages hereto (together with the
Parent, individually a "Guarantor" and collectively the
"Guarantors"; the Guarantors, together with the Borrowers,
individually a "Credit Party" and collectively the "Credit
Parties"), the lenders party hereto (the "Lenders"), First Union
National Bank, as Administrative Agent (the "Administrative
Agent"), Westdeutsche Landesbank Girozentrale, as Syndication
Agent and Arranger (the "Syndication Agent"), and Fortis Capital
Corp., as Documentation Agent (the "Documentation Agent")
(incorporated by reference Exhibit 10.40.3 to the Registrant's
Quarterly Report on Form 10-Q for the quarter ended March 31,
2002).
10.40.5 Second Waiver Agreement dated as of June 7, 2002, by and among
Horizon Personal Communications, Inc., and Bright Personal
Communications Services, LLC, Horizon PCS, Inc. (the "Parent")
and certain Subsidiaries of the Parent, the several banks and
other financial institutions as may from time to time become
parties to the Agreement, First Union National Bank, as
Administrative Agent, Westdeutsche Landesbank Girozentrale, as
Syndication Agent and Arranger and Fortis Capital Corp., as
Documentation Agent. (incorporated by reference to the
Registrant's Current Report on Form 8-K filed on June 10, 2002).
75
EXHIBIT
NUMBER DESCRIPTION
-------- -----------
10.40.6 Fourth Amendment to Credit Agreement and Waiver dated as of June
27, 2002 by and among Horizon Personal Communications, Inc., and
Bright Personal Communications Services, LLC, Horizon PCS, Inc.
(the "Parent") and certain Subsidiaries of the Parent, the
several banks and other financial institutions as may from time
to time become parties to the Agreement, Wachovia Bank, National
Association (successor to First Union National Bank), as
Administrative Agent, Westdeutsche Landesbank Girozentrale, as
Syndication Agent and Arranger and Fortis Capital Corp., as
Documentation Agent (incorporated by reference to the
Registrant's Current Report on Form 8-K filed on June 27, 2002).
10.40.7*** Consent and Agreement for Benefit of Holders of Senior Security
Facility dated as of September 26, 2000, by and among Horizon
Personal Communications, Inc. and Bright Personal Communications
Services, LLC, Horizon PCS, Inc. (the "Parent") and certain
Subsidiaries of the Parent, Existing Lenders, New Lenders, First
Union National Bank, as Administrative Agent, Westdeutsche
Landesbank Girozentrale, as Syndication Agent and Arranger, and
Fortis Capital Corp., as Documentation Agent.
10.41* Warrant Agreement dated as of September 26, 2000 between Horizon
PCS, Inc. and Wells Fargo Bank Minnesota, National Association.
10.42* Warrant Registration Rights Agreement made as of September 26,
2000 by and among Horizon PCS, Inc. and Donaldson, Lufkin &
Jenrette Securities Corporation and First Union Securities, Inc.
10.43* Pledge and Escrow Agreement dated December 7, 2001 by and among
Horizon PCS, Inc., Bright Personal Communications Services, LLC,
Wells Fargo and Minnesota, National Association, as Escrow Agent.
10.44* Registration Rights Agreement dated December 7, 2001 by and among
Horizon PCS, Inc., Horizon Personal Communications, Inc., Bright
Personal Communications Services, LLC, and Credit Suisse First
Boston Corporation, First Union Securities, Inc., Bear, Stearns &
Co., Inc. and Lehman Brothers, Inc.
10.45* Indenture dated December 7, 2001 by and among Horizon PCS, Inc.,
as Issuer, Horizon Personal Communications, Inc., and Bright
Personal Communications Services, LLC, as Guarantors, and Wells
Fargo Bank Minnesota, National Association, as Trustee.
10.46* Purchase Agreement dated December 4, 2001 between Horizon PCS,
Inc., Horizon Personal Communications, Inc., Bright Personal
Communications Services, LLC, and Credit Suisse First Boston
Corporation, First Union Securities, Inc., Bear, Stearns & Co.,
Inc., Lehman Brothers, Inc.
10.47 Employment Agreement between Horizon PCS, Inc., and Alan G. Morse
(incorporated by reference Exhibit 10.47 to the Registrant's
Quarterly Report on Form 10-Q for the quarter ended June 30,
2002).
21.1** Subsidiaries of Horizon.
99.1*** Certification, under Section 906 of the Sarbanes-Oxley Act of
2002.
99.2*** Certification, under Section 906 of the Sarbanes-Oxley Act of
2002.
* Incorporated by reference to the same exhibit number previously filed with
the Registration Statement on Form S-1 of the Registrant (File No.
333-51240).
** Incorporated by reference to the same exhibit number previously filed with
the Registration Statement on Form S-1 of the Registrant (File No.
333-37516).
*** Filed herewith.
(1) In accordance with Item 601(b)(2) of Regulation S-K, the schedules have
been omitted and a list briefly describing the schedules is at the end of
the Exhibit. The Registrant will furnish supplementally a copy of any
omitted schedule to the commission upon request.
+ The Registrant has requested confidential treatment for certain portions of
this exhibit pursuant to Rule 406 of the Securities Act of 1933, as
amended.
76
HORIZON PCS, INC.
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
PAGE
Independent Auditors' Report......................................... F-2
Report of Independent Public Accountants............................. F-3
Consolidated Balance Sheets as of December 31, 2002 and 2001......... F-4
Consolidated Statements of Operations for the Years Ended
December 31, 2002, 2001 and 2000................................... F-6
Consolidated Statements of Comprehensive Income (Loss)
for the Years Ended December 31, 2002, 2001 and 2000............... F-7
Consolidated Statements of Stockholders' Equity (Deficit)
for the Years Ended December 31, 2002, 2001 and 2000............... F-8
Consolidated Statements of Cash Flows for the Years Ended
December 31, 2002, 2001 and 2000................................... F-9
Notes to Consolidated Financial Statements........................... F-11
F-1
INDEPENDENT AUDITORS' REPORT
The Board of Directors and Stockholders
Horizon PCS, Inc.:
We have audited the accompanying consolidated balance sheet of Horizon PCS,
Inc. and subsidiaries as of December 31, 2002, and the related consolidated
statements of operations, comprehensive income (loss), stockholders' equity
(deficit) and cash flows for the year then ended. These consolidated financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these consolidated financial
statements based on our audit. The consolidated balance sheet of Horizon PCS,
Inc. and subsidiaries as of December 31, 2001, and the related consolidated
statements of operations, comprehensive income (loss), stockholders' equity
(deficit) and cash flows for the years ended December 31, 2001 and 2000 were
audited by other auditors who have ceased operations. Those auditors expressed
an unqualified opinion on those financial statements, before the revision
described in Note 7 to the financial statements, in their report dated February
12, 2002.
We conducted our audit in accordance with auditing standards generally
accepted in the United States of America. Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the
consolidated financial statements are free of material misstatement. An audit
includes examining, on a test basis, evidence supporting the amounts and
disclosures in the consolidated financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Horizon PCS,
Inc. and subsidiaries as of December 31, 2002, and the results of their
operations and their cash flows for the year then ended in conformity with
accounting principles generally accepted in the United States of America.
The accompanying consolidated financial statements have been prepared
assuming that the Company will continue as a going concern. As discussed in Note
1 to the consolidated financial statements, the Company has suffered recurring
losses from operations, has a stockholders' deficit, and management believes
that it is probable that the Company will violate one or more of its debt
covenants in 2003 which raise substantial doubt about its ability to continue as
a going concern. Management's plans in regard to these matters are also
described in Note 1. The consolidated financial statements do not include any
adjustments that might result from the outcome of this uncertainty.
As discussed above, the consolidated balance sheet of Horizon PCS, Inc. and
subsidiaries as of December 31, 2001, and the related consolidated statements of
operations, comprehensive income (loss), stockholders' equity (deficit) and cash
flows for the years ended December 31, 2001 and 2000 were audited by other
auditors who have ceased operations. As described in Note 7, these financial
statements have been revised to include the transitional disclosures required by
Statement of Financial Accounting Standards No. 142, Goodwill and Other
Intangible Assets, which was adopted by the Company as of January 1, 2002. In
our opinion, the disclosures for 2001 and 2000 in Note 7 are appropriate.
However, we were not engaged to audit, review, or apply any procedures to the
2001 and 2000 financial statements of Horizon PCS, Inc. and subsidiaries other
than with respect to such disclosures and, accordingly, we do not express an
opinion or any other form of assurance on the 2001 and 2000 financial statements
taken as a whole.
/s/ KPMG LLP
Columbus, Ohio
March 4, 2003
F-2
THE FOLLOWING REPORT OF ARTHUR ANDERSEN, LLP ("ANDERSEN") IS A COPY OF THE
REPORT PREVIOUSLY ISSUED BY ANDERSEN ON FEBRUARY 12, 2002. THE REPORT OF
ANDERSEN IS INCLUDED IN THIS ANNUAL REPORT ON FORM 10-K PURSUANT TO RULE 2-02(E)
OF REGULATIONS S-X. AFTER REASONABLE EFFORTS THE COMPANY HAS NOT BEEN ABLE TO
OBTAIN REISSUED REPORT FROM ANDERSEN. ANDERSEN HAS NOT CONSENTED TO THE
INCLUSION OF ITS REPORT IN THIS ANNUAL FORM 10-K. BECAUSE ANDERSEN HAS NOT
CONSENTED TO THE INCLUSION OF ITS REPORT IN THIS ANNUAL REPORT, IT MAY BE
DIFFICULT FOR SHAREHOLDERS TO SEEK REMEDIES AGAINST ANDERSEN AND SHAREHOLDERS'
ABILITY TO SEEK RELIEF AGAINST ANDERSEN MAY BE IMPAIRED.
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Shareholders of Horizon PCS, Inc.:
We have audited the accompanying consolidated balance sheets of Horizon
PCS, Inc. (a Delaware corporation) and Subsidiaries as of December 31, 2001 and
2000, and the related consolidated statements of operations, comprehensive
income (loss), changes in stockholders' equity (deficit) and cash flows for each
of the three years in the period ended December 31, 2001. These consolidated
financial statements and the schedule referred to below are the responsibility
of the Company's management. Our responsibility is to express an opinion on
these consolidated financial statements and schedule based on our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States. Those standards require that we plan and perform
the audit to obtain reasonable assurance about whether the consolidated
financial statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the consolidated financial statements. An audit also includes assessing the
accounting principles used and significant estimates made by management, as well
as evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Horizon PCS,
Inc. and Subsidiaries as of 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.
Our audit was made for the purpose of forming an opinion on the basic
financial statements taken as a whole. The schedule listed in the index to
consolidated financial statements is presented for purposes of complying with
the Securities and Exchange Commission's rules and is not part of the basic
financial statements. This schedule has been subjected to the auditing
procedures applied in the audit of the basic financial statements and, in our
opinion, fairly states in all material respects the financial data required to
be set forth therein in relation to the basic financial statements taken as a
whole.
ARTHUR ANDERSEN LLP
Columbus, Ohio
February 12, 2002
F-3
HORIZON PCS, INC.
Consolidated Balance Sheets
As of December 31, 2002 and 2001
- --------------------------------------------------------------------------------
DECEMBER 31, DECEMBER 31,
2002 2001
---------------- ----------------
ASSETS
- ------
CURRENT ASSETS:
Cash and cash equivalents (includes $55,000,000 on deposit in
accordance with covenant amendment in 2002)............................... $ 86,137,284 $ 123,775,562
Restricted cash............................................................. 24,063,259 24,597,222
Accounts receivable-- subscriber, less allowance for
doubtful accounts of approximately $2,308,000 and $1,804,000 at
December 31, 2002 and 2001, respectively.................................. 19,524,527 14,293,771
Receivable from affiliate and Parent........................................ 8,497 584,222
Equipment inventory......................................................... 4,082,795 3,845,433
Prepaid expenses and other current assets................................... 2,671,458 840,970
---------------- ----------------
Total current assets.................................................. 136,487,820 167,937,180
---------------- ----------------
OTHER ASSETS:
Restricted cash............................................................. -- 24,062,500
Intangible asset-- Sprint PCS licenses, net of amortization................. 40,381,201 42,840,534
Goodwill, net of amortization............................................... -- 7,191,180
Debt issuance costs, net of amortization 19,995,818 20,437,556
Deferred activation expense and other assets................................ 6,723,827 4,001,436
---------------- ----------------
Total other assets.................................................... 67,100,846 98,533,206
---------------- ----------------
PROPERTY AND EQUIPMENT, NET 239,536,593 214,867,858
---------------- ----------------
Total assets...................................................... $ 443,125,259 $ 481,338,244
================ ================
(Continued on next page)
F-4
HORIZON PCS, INC.
Consolidated Balance Sheets (Continued)
As of December 31, 2002 and 2001
- --------------------------------------------------------------------------------
DECEMBER 31, DECEMBER 31,
2002 2001
---------------- ----------------
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
- ----------------------------------------------
CURRENT LIABILITIES:
Accounts payable............................................................ $ 23,280,465 $ 26,444,888
Accrued liabilities......................................................... 6,903,055 8,182,461
Accrued real estate and personal property taxes............................. 3,438,037 2,401,044
Payable to Sprint........................................................... 9,910,262 10,244,529
Deferred service revenue.................................................... 5,308,457 3,712,734
---------------- ----------------
Total current liabilities............................................. 48,840,276 50,985,656
---------------- ----------------
OTHER LONG-TERM LIABILITIES:
Long-term debt.............................................................. 516,284,349 384,055,643
Other long-term liabilities................................................. 14,350,141 9,106,625
Deferred activation revenue................................................. 6,092,645 3,808,618
---------------- ----------------
Total other long-term liabilities..................................... 536,727,135 396,970,886
---------------- ----------------
Total liabilities................................................... 585,567,411 447,956,542
---------------- ----------------
COMMITMENTS AND CONTINGENCIES (Note 14)
CONVERTIBLE PREFERRED STOCK................................................... 157,105,236 145,349,043
STOCKHOLDERS' EQUITY (DEFICIT):
Preferred stock, 10,000,000 shares authorized, none issued
or outstanding, at $0.0001 par value...................................... -- --
Common stock-- class A, 300,000,000 shares authorized,
26,646 issued and outstanding in 2001 and 2002, at $0.0001 par value...... 3 3
Common stock-- class B, 75,000,000 shares authorized,
58,458,354 issued and 58,445,288 outstanding in 2001 and 2002, at
$0.0001 par value......................................................... 5,846 5,846
Treasury stock-- class B, 13,066 shares, at $8.50 per share................. (111,061) (111,061)
Accumulated other comprehensive income (loss)............................... (394,575) (837,851)
Additional paid-in capital.................................................. 91,852,117 91,852,117
Deferred stock option compensation.......................................... (885,747) (1,566,496)
Retained deficit............................................................ (390,013,971) (201,309,899)
---------------- ----------------
Total stockholders' equity (deficit)................................ (299,547,388) (111,967,341)
---------------- ----------------
Total liabilities and stockholders' equity (deficit).............. $ 443,125,259 $ 481,338,244
================ ================
The accompanying notes are an integral part of these
consolidated financial statements/
F-5
HORIZON PCS, INC.
Consolidated Statements of Operations
For the Years Ended December 31, 2002, 2001 and 2000
- --------------------------------------------------------------------------------
2002 2001 2000
---------------- ---------------- -----------------
OPERATING REVENUES:
Subscriber revenues............................................. $ 152,409,453 $ 77,657,971 $ 17,724,816
Roaming revenues................................................ 55,781,574 38,540,276 8,408,102
Equipment revenues.............................................. 7,846,573 7,105,457 3,061,021
---------------- ---------------- -----------------
Total operating revenues................................. 216,037,600 123,303,704 29,193,939
---------------- ---------------- -----------------
OPERATING EXPENSES:
Cost of service (exclusive of items shown below)................ 167,128,087 100,515,780 27,452,382
Cost of equipment............................................... 19,188,975 14,871,647 9,774,881
Selling and marketing........................................... 52,601,068 48,992,817 18,025,868
General and administrative (exclusive of items shown below)..... 41,650,367 28,384,548 12,477,034
Non-cash compensation........................................... 680,749 1,433,848 490,202
Depreciation and amortization................................... 40,271,034 18,518,948 6,134,458
Loss on disposal of PCS assets.................................. 631,417 1,296,834 --
Impairment of goodwill and impact of acquisition-related
deferred taxes................................................ 13,222,180 -- --
---------------- ---------------- -----------------
Total operating expenses................................. 335,373,877 214,014,422 74,354,825
---------------- ---------------- -----------------
OPERATING LOSS.................................................... (119,336,277) (90,710,718) (45,160,886)
Gain (Loss) on exchange of stock.................................. -- (399,673) 11,550,866
Interest income and other, net.................................... 2,989,026 5,062,780 4,803,820
Interest expense, net of capitalized interest..................... (60,600,568) (27,434,076) (10,317,473)
---------------- ---------------- -----------------
LOSS ON CONTINUING OPERATIONS BEFORE INCOME TAX (EXPENSE) BENEFIT. (176,947,819) (113,481,687) (39,123,673)
INCOME TAX (EXPENSE) BENEFIT...................................... -- -- (1,075,711)
---------------- ---------------- -----------------
LOSS ON CONTINUING OPERATIONS..................................... (176,947,819) (113,481,687) (40,199,384)
DISCONTINUED OPERATIONS:
Income from discontinued operations, net of tax
expense of $73,000 in 2000.................................... -- -- 141,245
---------------- ---------------- -----------------
LOSS BEFORE EXTRAORDINARY ITEM.................................... (176,947,819) (113,481,687) (40,058,139)
EXTRAORDINARY LOSS, NET OF TAX
BENEFIT OF $262,000 in 2000..................................... -- -- (486,323)
---------------- ---------------- -----------------
NET LOSS.......................................................... (176,947,819) (113,481,687) (40,544,462)
PREFERRED STOCK DIVIDEND.......................................... (11,756,253) (10,929,852) (2,782,048)
---------------- ---------------- -----------------
NET LOSS AVAILABLE TO COMMON STOCKHOLDERS......................... $ (188,704,072) $ (124,411,539) $ (43,326,510)
================ ================ =================
Basic and diluted loss per share on continuing operations
available to common stockholders................................ $ (3.23) $ (2.13) $ (0.76)
Basic and diluted income per share from discontinued operations... -- -- --
Basic and diluted loss per share from extraordinary item.......... -- -- (0.01)
---------------- ---------------- -----------------
Basic and diluted net loss per share available to common
stockholders.................................................... $ (3.23) $ (2.13) $ (0.77)
================ ================ =================
Weighted-average common shares outstanding........................ 58,471,934 58,471,934 56,177,948
================ ================ ================
The accompanying notes are an integral part of these
consolidated financial statements/
F-6
HORIZON PCS, INC.
Consolidated Statements of Comprehensive Income (Loss)
For the Years Ended December 31, 2002, 2001 and 2000
- --------------------------------------------------------------------------------
2002 2001 2000
----------------- ----------------- ----------------
NET LOSS................................................ $ (176,947,819) $ (113,481,687) $ (40,544,462)
OTHER COMPREHENSIVE INCOME (LOSS):
Net unrealized gain (loss) on hedging activities...... 443,276 (837,851) --
----------------- ----------------- ----------------
COMPREHENSIVE INCOME (LOSS)............................. $ (176,504,543) $ (114,319,538) $ (40,544,462)
================ ================ ================
The accompanying notes are an integral part of these
consolidated financial statements/
F-7
HORIZON PCS, INC.
Consolidated Statements of Stockholders' Equity (Deficit)
For the Years Ended December 31, 2002, 2001 and 2000
- --------------------------------------------------------------------------------
ACCUMULATED
OTHER
COMPRE- TOTAL
CLASS A CLASS B HENSIVE ADDITIONAL DEFERRED STOCKHOLDERS'
PREFERRED COMMON COMMON TREASURY INCOME PAID-IN STOCK OPTION RETAINED EQUITY
STOCK STOCK STOCK STOCK (LOSS) CAPITAL COMPENSATION DEFICIT (DEFICIT)
--------- ------- -------- -------- ---------- ----------- ------------ ------------- ------------
Balance,
December 31, 1999.... -- -- 5,381 -- -- 21,916,312 (1,803,723) (22,281,259) (2,163,289)
------- ------- ------- --------- ---------- ------------ ----------- -------------- ------------
Equity contribution.. -- -- -- -- -- 1,373,703 -- -- 1,373,703
Acquisition of
Bright PCS.......... -- -- 468 -- -- 33,999,532 -- -- 34,000,000
Issuance of
warrants............ -- -- -- -- -- 33,600,647 -- -- 33,600,647
Acquisition of
treasury stock...... -- -- -- (111,061) -- -- -- -- (111,061)
Deferred stock
option compensation. -- -- -- -- -- 961,923 (961,923) -- --
Stock option
compensation expense -- -- -- -- -- -- 490,202 -- 490,202
Dividends............ -- -- -- -- -- -- -- (7,033,773) (7,033,773)
Tax on dividend...... -- -- -- -- -- -- -- (4,256,818) (4,256,818)
Net loss............. -- -- -- -- -- -- -- (40,544,462) (40,544,462)
Preferred dividend... -- -- -- -- -- -- -- (2,782,048) (2,782,048)
------- ------- ------- ---------- ---------- ------------ ----------- -------------- --------------
Balance,
December 31, 2000.... -- -- 5,849 (111,061) -- 91,852,117 (2,275,444) (76,898,360) 12,573,101
------- ------- ------- ---------- ---------- ------------ ----------- -------------- --------------
Stock option
compensation expense -- -- -- -- -- -- 708,948 -- 708,948
Net loss............. -- -- -- -- -- -- -- (113,481,687) (113,481,687)
Other comprehensive
income (loss)....... -- -- -- -- (837,851) -- -- -- (837,851)
Conversion of class
B common stock...... -- 3 (3) -- -- -- -- -- --
Preferred dividend... -- -- -- -- -- -- -- (10,929,852) (10,929,852)
------- ------- ------- ---------- ---------- ------------ ----------- -------------- --------------
Balance,
December 31, 2001.... -- 3 5,846 (111,061) (837,851) 91,852,117 (1,566,496) (201,309,899) (111,967,341)
------- ------- ------- ---------- ---------- ------------ ----------- -------------- --------------
Stock option
compensation expense -- -- -- -- -- -- 680,749 -- 680,749
Net loss............. -- -- -- -- -- -- -- (176,947,819) (176,947,819)
Other comprehensive
income (loss)....... -- -- -- -- 443,276 -- -- -- 443,276
Preferred dividend... -- -- -- -- -- -- -- (11,756,253) (11,756,253)
------- ------- ------- ---------- ---------- ------------ ----------- -------------- --------------
Balance,
December 31, 2002.... $ -- $ 3 $5,846 $(111,061) $(394,575) $91,852,117 $ (885,747) $(390,013,971) $(299,547,388)
======= ======= ======== ========== ========== ============ =========== ============== ==============
The accompanying notes are an integral part of these
consolidated financial statements/
F-8
HORIZON PCS, INC.
Consolidated Statements of Cash Flows
For the Years Ended December 31, 2002, 2001 and 2000
- --------------------------------------------------------------------------------
2002 2001 2000
---------------- ---------------- ----------------
CASH FLOWS FROM OPERATING ACTIVITIES
Net loss.................................................. $ (176,947,819) $ (113,481,687) $ (40,544,462)
---------------- ---------------- ----------------
Adjustments to reconcile net loss to net cash used in
operating activities, net of effect of acquisition:
Depreciation and amortization............................. 40,271,034 18,518,948 6,189,073
Impairment of goodwill and impact of acquisition related
deferred taxes.......................................... 13,222,180 -- --
Extraordinary loss........................................ -- -- 486,323
Non-cash compensation expense............................. 680,749 1,433,848 490,202
Non-cash interest expense................................. 27,986,604 19,344,515 5,635,498
Non-cash loss (gain) on exchange of stock................. -- 399,673 (11,550,866)
Bad debt expense.......................................... 15,518,084 6,409,561 1,407,028
Loss on hedging activities................................ 48,536 176,322 --
Loss on disposal of PCS assets............................ 631,417 1,296,834 --
Change in:
Accounts receivable..................................... (20,748,840) (17,443,698) (6,075,589)
Equipment inventory..................................... (237,362) 4,902 (1,712,998)
Interest receivable and other........................... (1,830,488) 3,732,072 (2,316,514)
Accounts payable........................................ (3,164,423) (4,867,437) 26,692,915
Accrued liabilities and deferred service revenue........ 25,330,341 7,805,642 8,081,565
Payable to Sprint....................................... (334,267) 5,285,401 4,959,128
Receivable/payable from affiliates and Parent........... 575,725 (1,577,577) 2,837,997
Other assets and liabilities, net....................... 189,283 97,028 (167,593)
---------------- --------------- ----------------
Total adjustments...................................... 98,138,573 40,616,034 34,956,169
---------------- --------------- ----------------
Net cash used in operating activities.............. (78,809,246) (72,865,653) (5,588,293)
---------------- --------------- ----------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures, net................................. (63,082,910) (116,574,323) (83,629,782)
Decrease (increase) in restricted cash.................... -- (48,659,722) --
Proceeds from redemption of RTFC capital certificates..... -- 2,895,646 --
Investment in Parent...................................... -- -- (11,835,000)
Investment in joint venture............................... -- -- (1,032,000)
Proceeds from the sale of property and equipment.......... 1,563,970 -- 734,000
Dividends received........................................ -- (4,311) (160,923)
Cash acquired in acquisition of Bright PCS................ -- -- 4,926,803
Equity loss in investments, net........................... -- -- 28,555
---------------- --------------- ----------------
Net cash used in investing activities.............. (61,518,940) (162,342,710) (90,968,347)
---------------- ---------------- ----------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Convertible preferred stock............................... -- -- 126,500,000
Cash dividends paid....................................... -- -- (18,309)
Capital contributions..................................... -- -- 1,373,703
Stock issuance costs...................................... -- -- (9,161,242)
Deferred financing fees................................... (2,310,092) (7,433,469) (15,410,327)
Intercompany advances (repayments) to Parent.............. -- -- (3,927,545)
Notes payable-- borrowings, net of repayments............. 105,000,000 175,000,000 188,470,948
---------------- ---------------- ----------------
Net cash provided by financing activities.......... 102,689,908 167,566,531 287,827,228
---------------- ---------------- ----------------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS........ (37,638,278) (67,641,832) 191,270,588
CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR................ 123,775,562 191,417,394 146,806
---------------- ---------------- ----------------
CASH AND CASH EQUIVALENTS, END OF YEAR...................... $ 86,137,284 $ 123,775,562 $ 191,417,394
================ =============-== ================
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Cash paid during the year for:
Interest, net of amounts capitalized...................... $ 33,081,907 $ 6,571,184 $ 2,579,986
Income taxes.............................................. -- 338,141 5,174,949
(Continued on next page)
F-9
HORIZON PCS, INC.
Consolidated Statements of Cash Flows (Continued)
For the Years Ended December 31, 2002, 2001 and 2000
- --------------------------------------------------------------------------------
SUPPLEMENTAL DISCLOSURE OF NONCASH INVESTING AND FINANCING ACTIVITIES:
During 2002, the Company paid $24,596,463 of interest on the senior notes
with restricted cash (Notes 4 and 11).
During 2002 and 2001, the Company paid $11,636,969 and $11,775,917 of
dividends, respectively, on convertible preferred stock. The dividends were paid
in additional shares of convertible preferred stock. During 2002 and 2001, the
Company accrued $2,055,267 and $1,935,983, respectively, to be paid in 2003 and
2002, respectively.
The purchase of Horizon Telcom, Inc. (the "Parent") common stock in 2000
(Note 6) was financed through a $13,000,000, one year, unsecured 13% senior
subordinated promissory note to a third party lender. The lender converted 100%
of the outstanding principal and unpaid interest into the Company's convertible
preferred stock valued at $14,066,611 (Note 15).
The proceeds from the issuance of the discount notes in 2000 have been
allocated to long-term debt and the value of the warrants ($20,245,000 or $5.32
per share) has been allocated to additional paid-in capital (Note 11).
During 2000, the Company agreed to grant to Sprint warrants to acquire
2,510,460 shares of class A common stock, valued at approximately $13,356,000,
in exchange for the right to service PCS markets in additional areas. The
warrants will be issued to Sprint at the earlier of an initial public offering
of the Company's common stock or July 31, 2003 (Note 17).
F-10
HORIZON PCS, INC.
Notes to Consolidated Financial Statements
As of December 31, 2002 and 2001,
And for the Years Ended December 31, 2002, 2001 and 2000
- --------------------------------------------------------------------------------
NOTE 1 - LIQUIDITY
As of December 31, 2002, Horizon PCS was in compliance with its covenants
with regards to all outstanding debt. However, the Company believes that it is
probable that Horizon PCS will violate one or more covenants under the secured
credit facility in 2003. The failure to comply with a covenant would be an event
of default under the secured credit facility, and would give the lenders the
right to pursue remedies. These remedies could include acceleration of amounts
due under the facility. If the lender elected to accelerate the amounts due
under the facility, this would also represent a default under the indentures for
the senior notes and discount notes (Note 11). Horizon PCS' independent
auditors' report states these matters raise substantial doubt about the
Company's ability to continue as a going concern. The consolidated financial
statements do not include any adjustments that might result from the outcome of
this uncertainty.
To address the liquidity and going concern issue, management has embarked
on a number of initiatives to attempt to:
o reduce operating expenses,
o reduce churn,
o negotiate a modification in the fees the Company pays to Sprint,
o negotiate a reduction in the fees the Company pays to NTELOS,
o negotiate modifications to the covenants in the senior secured
facility, and
o negotiate the right to obtain funding under the Company's $95 million
revolving line of credit under its senior secured facility (Note 14).
The Company's ability to raise funding at this time may be dependent upon
other factors including, without limitation, market conditions, and such funds
may not be available or be available on acceptable terms. There can be no
assurance that the Company will achieve these goals or that it will be able to
develop a business plan which is reasonably designed to achieve positive cash
flow.
NOTE 2 - ORGANIZATION
On April 26, 2000, Horizon Telcom, Inc. (the "Parent") formed Horizon PCS,
Inc. (the "Company" or "HPCS"). On June 27, 2000, Horizon Telcom, Inc.
transferred its 100% ownership of Horizon Personal Communications, Inc. ("HPC")
to HPCS in exchange for 53,806,200 shares of stock of HPCS (as adjusted for the
1.1697-for-one stock split in the form of a stock dividend effective on
September 8, 2000). This transfer was accounted for as a reorganization of
companies under common control in a manner similar to pooling-of-interests in
the consolidated financial statements. Accordingly, the reorganization and the
adjusted number of shares outstanding have been reflected retroactively and the
prior financial statements of Horizon Personal Communications, Inc. are
presented as those of HPCS. HPC will continue to exist and conduct business as a
wholly-owned subsidiary of the Company.
The accompanying consolidated financial statements include the accounts of
the Company and its wholly-owned subsidiaries, including HPC and Bright Personal
Communications Services, LLC ("Bright PCS"), from the date of its acquisition in
June 2000. All material intercompany transactions and balances have been
eliminated.
NOTE 3 - BUSINESS OPERATIONS
The Company primarily provides wireless personal communications services
("PCS") as a PCS affiliate of Sprint. At December 31, 2002, approximately
270,900 (unaudited) PCS subscribers were in the Company's territory.
F-11
HORIZON PCS, INC.
Notes to Consolidated Financial Statements
As of December 31, 2002 and 2001,
And for the Years Ended December 31, 2002, 2001 and 2000
- --------------------------------------------------------------------------------
NOTE 3 - BUSINESS OPERATIONS (CONTINUED)
In October 1996, the Federal Communications Commission ("FCC") conditionally
granted the Company licenses to provide personal communications services in
various parts of Ohio, West Virginia and Kentucky (a total of five licenses).
The FCC financed the licenses. According to FCC rules, the licenses were
conditional upon the full and timely payment of the licenses' cost. The licenses
were subject to a requirement that the Company construct and operate facilities
that offer coverage to a defined population within the relevant license areas
within a defined period. The Company began the engineering and design phase in
1996 and began the construction of the personal communications network in early
1997. The Company began providing personal communications services in August
1997.
In 1997, the FCC offered four options to certain PCS license holders to
change the payment terms of the FCC financed debt. These options were:
continuing with the current installment plan (status quo); return half of the
spectrum from any or all of the licenses in exchange for a proportionate
reduction in debt (disaggregation); turning in all licenses in exchange for
total debt forgiveness (amnesty); or prepay for as many licenses as the Company
can afford at face value while returning other licenses in exchange for debt
forgiveness (prepayment).
During 1998, the Company elected to return all of the spectrum from four
licenses and half of the spectrum from the fifth license. In connection with the
return of the spectrum, the Company entered into management agreements with
Sprint during 1998. These agreements provide the Company with the exclusive
right to build, own and manage a wireless voice and data services network in
certain markets located in Ohio, West Virginia, Kentucky, Virginia, Tennessee
and Maryland under the Sprint PCS brand. HPCS is required to build-out the
wireless network according to Sprint's PCS specifications. The term of the
agreements is 20 years with three successive 10-year renewal periods unless
terminated by either party under provisions outlined in the management
agreements. The management agreements commenced in June 1998, but payments of
the management fee (Note 9) did not commence until HPCS converted to a fully
branded PCS affiliate of Sprint in October 1999. The management agreements
included indemnification clauses between the Company and Sprint to indemnify
each party against claims arising from violations of laws or the management
agreements, other than liabilities resulting from negligence or willful
misconduct of the party seeking to be indemnified.
In May 2000, the Company expanded its management agreement with Sprint.
This allows the Company to have the exclusive right to build, own and manage a
wireless voice and data services network in markets located in Pennsylvania, New
York, Ohio and New Jersey.
The Sprint agreements require the Company to interface with the Sprint
wireless network by building the Company's network to operate on PCS frequencies
licensed to Sprint in the 1900 MHz range. Under the Sprint agreements, HPCS has
agreed to:
o construct and manage a network in HPCS' territory in compliance with
Sprint's PCS licenses and the terms of the management agreement;
o distribute, during the term of the management agreement, Sprint PCS
products and services;
o conduct advertising and promotion activities in HPCS' territory; and
o manage that portion of Sprint's PCS customer base assigned to HPCS'
territory.
F-12
HORIZON PCS, INC.
Notes to Consolidated Financial Statements
As of December 31, 2002 and 2001,
And for the Years Ended December 31, 2002, 2001 and 2000
- --------------------------------------------------------------------------------
NOTE 4 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
ESTIMATES
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America requires
management to make estimates and assumptions that affect the reported amounts of
assets and liabilities and disclosure of contingent assets and liabilities at
the date of the financial statements and the reported amounts of revenues and
expenses during the reporting period. Actual results could differ materially
from those estimates.
CASH AND CASH EQUIVALENTS
Cash and cash equivalents include cash on hand, money market accounts, U.S.
treasury bills, corporate bonds and investments in commercial paper with
original maturities of three months or less.
The breakout of cash and cash equivalents at December 31, 2002, is detailed
below;
2002
---------------
Cash on hand................................... $ 17,533,118
Money market accounts.......................... 100,080
U.S. treasury bills............................ 349,696
Corporate bonds and commercial paper........... 68,154,390
---------------
Cash and cash equivalents...................... $ 86,137,284
===============
RESTRICTED CASH
In connection with the Company's December 2001 offering of $175,000,000 of
senior notes due in 2011 (Note 11), approximately $48,660,000 of the offering's
proceeds were placed in an escrow account to be used toward the first four
semi-annual interest payments due under the terms of the notes. During 2002, the
Company paid approximately $24,596,000 representing the first two installments.
The remaining two interest payments have been classified as short-term and will
be paid in 2003. The funds are invested in a government security money market
account. Interest earned on the escrow funds totaled approximately $673,000 and
$69,000 in 2002 and 2001, respectively.
ALLOWANCE FOR ACCOUNTS RECEIVABLE
Estimates are used in determining our allowance for doubtful accounts
receivable, which is based on a percentage of our accounts receivable by aging
category. The percentage is derived by considering our historical collections
and write-off experience, current aging of our accounts receivable and credit
quality trends, as well as Sprint's credit policy. The breakout of the activity
recorded to the allowance for accounts receivable is detailed below:
YEAR ENDED DECEMBER 31,
------------------------------------------------
2002 2001 2000
--------------- -------------- --------------
(IN THOUSANDS)
Balance at beginning of year........... $ 1,804 $ 901 $ 371
Provisions charged to expense.......... 15,518 6,410 1,382
Write-offs, net of recoveries.......... (15,014) (5,507) (852)
--------------- -------------- --------------
Balance at end of year................. $ 2,308 $ 1,804 $ 901
=============== ============== ==============
F-13
HORIZON PCS, INC.
Notes to Consolidated Financial Statements
As of December 31, 2002 and 2001,
And for the Years Ended December 31, 2002, 2001 and 2000
- --------------------------------------------------------------------------------
NOTE 4 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
EQUIPMENT INVENTORY
Equipment inventory consists of handsets and related accessories.
Inventories are carried at the lower of cost (determined by the weighted average
method) or market (replacement cost).
PROPERTY AND EQUIPMENT
Property and equipment, including improvements that extend useful lives,
are stated at cost (Note 8), while maintenance and repairs are charged to
operations as incurred. Construction work in progress includes expenditures for
the purchase of capital equipment, construction and items such as direct payroll
and related benefits and interest capitalized during construction. The Company
capitalizes interest pursuant to Statement of Financial Accounting Standards
("SFAS") No. 34, "Capitalization of Interest Cost." The Company capitalized
interest of approximately $4,437,000, $6,579,000 and $1,476,000 for the years
ended December 31, 2002, 2001 and 2000, respectively. In addition, the Company
capitalized labor costs of approximately $2,339,000for the year ended December
31, 2002.
DEPRECIATION AND AMORTIZATION OF PROPERTY AND EQUIPMENT
The Company provides for depreciation and amortization of property and
equipment under the straight-line method, based on the estimated service lives
of the various classes of property. Estimated useful lives are as follows:
YEARS
-----
Network Assets................................ 5-15
Switching Equipment........................... 5-8
Furniture, vehicles and office equipment...... 3-5
DEBT ISSUANCE COSTS
In connection with the issuance of long-term debt (Note 11), the Company
has incurred approximately $24,072,000 in deferred financing costs through
December 31, 2002, including approximately $2,310,000 during 2002. These debt
issuance costs are amortized using the effective interest method over the term
of the underlying obligation, ranging from eight to ten years. For the years
ended December 31, 2002, 2001 and 2000, approximately $2,752,000, $1,120,000 and
$690,000 of amortization of debt issuance costs, including subsequently retired
financings, was included in interest expense.
GOODWILL
On January 1, 2002, the Company adopted SFAS No. 142, "Goodwill and other
intangible assets" (Note 7). Prior to January 1, 2002, the Company amortized
goodwill on a straight-line basis over a 20 year period. Under SFAS No. 142, the
Company ceased amortization of goodwill and conducted an impairment test of the
goodwill balance. As of January 1, 2002, the goodwill balance was deemed not to
be impaired. However, the December 31, 2002 goodwill balance was deemed impaired
and was written off during the fourth quarter of 2002. See Note 7 for further
details on the impairment of goodwill.
F-14
HORIZON PCS, INC.
Notes to Consolidated Financial Statements
As of December 31, 2002 and 2001,
And for the Years Ended December 31, 2002, 2001 and 2000
- --------------------------------------------------------------------------------
NOTE 4 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
IMPAIRMENT OF LONG-LIVED ASSETS
Long-lived assets such as property, plant and equipment, and purchased
intangibles subject to amortization, are reviewed for impairment whenever events
or changes in circumstances indicate that the carrying amount of an asset may
not be recoverable. Recoverability of assets to be held and used is measured by
a comparison of the carrying amount of an asset to estimated undiscounted future
cash flows expected to be generated by the asset. If the carrying amount of an
asset exceeds its estimated future cash flows, an impairment charge is
recognized by the amount by which the carrying amount of the asset exceeds the
fair value of the asset. Assets to be disposed of are reported at the lower of
the carrying amount or fair value less costs to sell, and depreciation ceases.
Goodwill and intangible assets not subject to amortization are tested
annually for impairment. An impairment loss is recognized to the extent that the
carrying amount exceeds the asset's fair value (Note 7).
During 2002, the Company launched switches in Tennessee and Pennsylvania
and disconnected some switching equipment in Chillicothe, Ohio. As a result,
approximately $6.2 million of switching equipment is considered an impaired
asset as defined by SFAS No. 144, "Accounting for the Impairment or Disposal of
Long-Lived Assets." Accordingly, depreciation and amortization expense for the
year ended December 31, 2002, includes approximately $3.5 million related to
accelerated depreciation on the impaired asset. The total amount of depreciation
recorded to date on this equipment is approximately $5.8 million. The residual
book value of $400,000 approximates fair market value at December 31, 2002,
based on quoted market price, and is included in other assets in the
accompanying balance sheet
DERIVATIVE FINANCIAL INSTRUMENTS
The Company's policies do not permit the use of derivative financial
instruments for speculative purposes. The Company uses interest rate swaps to
manage interest rate risk. The net amount paid or received on interest rate
swaps is recognized as an adjustment to interest income and other (Note 21).
The Company has adopted SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities," as amended by SFAS No. 138, "Accounting for
Derivative Instruments and Certain Hedging Activities." These statements require
an entity to recognize all derivative and hedging activities as an asset or
liability measured at fair value. Depending on the intended use of the
derivative, changes in its fair value will be reported in the period of change
as either a component of earnings or a component of other comprehensive income.
The Company uses interest rate swaps, designated as cash flow hedges, to manage
interest rate risk. The net amount paid or received on interest rate swaps is
recognized as an adjustment to interest expense. Changes in the fair value of a
derivative that is highly effective and that is designated and qualifies as a
cash-flow hedge are recorded in other comprehensive income to the extent that
the derivative is effective as a hedge, until earnings are affected by the
variability in cash flows of the designated hedged item. The ineffective portion
of the change in fair value of a derivative instrument that qualifies as either
a fair-value hedge or a cash-flow hedge is reported in earnings. Changes in the
fair value of derivative trading instruments are reported in current period
earnings. Outstanding temporary gains and losses are netted together and shown
as either a component of other assets or accrued liabilities.
REVENUE RECOGNITION
The Company records equipment revenue from the sale of handsets and
accessories to subscribers in its retail stores and to local distributors in its
territories upon delivery. The Company does not record equipment revenue on
handsets and accessories purchased or sold by national third-party retailers or
directly from Sprint by subscribers in our territory. After the handset has been
purchased, the subscriber purchases a service package, revenue from which is
recognized monthly as service is provided and is included in subscriber revenue,
F-15
HORIZON PCS, INC.
Notes to Consolidated Financial Statements
As of December 31, 2002 and 2001,
And for the Years Ended December 31, 2002, 2001 and 2000
- --------------------------------------------------------------------------------
NOTE 4 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
net of credits related to the billed revenue. The Company believes the equipment
revenue and related cost of equipment associated with the sale of wireless
handsets and accessories is a separate earnings process from the sale of
wireless services to subscribers. For industry competitive reasons, the Company
sells wireless handsets at a loss. Because such arrangements do not require a
customer to subscribe to the Company's wireless services and because the Company
sells wireless handsets to existing customers at a loss, the Company accounts
for these transactions separately from agreements to provide customers wireless
service.
The Company's accounting policy for the recognition of activation fee
revenue is to record the revenue over the periods such revenue is earned in
accordance with the current interpretations of SEC Staff Accounting Bulletin
("SAB") No. 101, "Revenue Recognition in Financial Statements." Accordingly,
activation fee revenue and direct customer activation expense is deferred and
will be recorded over the average life for those customers (30 months) that are
assessed an activation fee. The Company recognized approximately $2,992,000,
$695,000 and $47,000 of both activation fee revenue and customer activation
expense during 2002, 2001 and 2000, respectively, and had deferred approximately
$6,093,000 and $3,809,000 of activation fee revenue and direct customer
activation expense at December 31, 2002 and 2001, respectively.
A management fee of 8% of collected PCS revenues from Sprint PCS
subscribers based in the Company's territory, is accrued as services are
provided and remitted to Sprint and recorded as general and administrative.
Revenues generated from the sale of handsets and accessories, inbound and
outbound Sprint PCS roaming fees, and roaming services provided to Sprint PCS
customers who are not based in the Company's territory are not subject to the 8%
management fee. Expense related to the management fees charged under the
agreement was approximately $12,027,000, $5,923,000 and $1,302,000 for the years
ended December 31, 2002, 2001 and 2000 respectively.
ADVERTISING COSTS
Costs related to advertising and other promotional expenditures are
expensed as incurred. Advertising and promotional costs totaled approximately
$10,632,000, $10,345,000 and $4,506,000 for the years ended December 31, 2002,
2001 and 2000, respectively.
STOCK-BASED COMPENSATION
The Company applies the intrinsic value-based method of accounting
prescribed by Accounting Principles Board ("APB") Opinion No. 25, "Accounting
for Stock Issued to Employees," and related interpretations including FASB
Interpretation No. 44, "Accounting for Certain Transactions involving Stock
Compensation an interpretation of APB Opinion No. 25" issued in March 2000, to
account for its fixed plan stock options. Under this method, compensation
expense is recorded on the date of grant only if the current market price of the
underlying stock exceeded the exercise price. SFAS No. 123, "Accounting for
Stock-Based Compensation," established accounting and disclosure requirements
using a fair value-based method of accounting for stock-based employee
compensation plans. As allowed by SFAS No. 123, the Company has elected to
continue to apply the intrinsic value-based method of accounting described
above, and has adopted the disclosure requirements of SFAS No. 148 "Accounting
for Stock-Based Compensation - Transition and Disclosure - an amendment of FASB
Statement No. 123." The following table illustrates the effect on net income if
the fair-value-based method had been applied to all outstanding and unvested
awards in each period.
F-16
HORIZON PCS, INC.
Notes to Consolidated Financial Statements
As of December 31, 2002 and 2001,
And for the Years Ended December 31, 2002, 2001 and 2000
- --------------------------------------------------------------------------------
NOTE 4 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
2002 2001 2000
---------------- --------------- --------------
Net loss available to common stockholders, as
reported............................................. $ (188,704,072) $ (124,411,539) $ (43,326,510)
Add: Stock-based employee compensation expense
included in reported net loss........................ 680,749 1,433,848 490,202
Deduct: Total stock-based employee compensation
expense determined under fair value base method
for all awards, net of related tax effects........... (1,150,666) (1,797,868) (1,184,070)
---------------- --------------- --------------
Pro Forma net loss available to common
stockholders......................................... $ (189,173,989) $ (124,775,559) $ 44,020,378)
================ =============== ==============
Basic and diluted loss per share available to common
stockholders - as reported $ (3.23) $ (2.13) (0.77)
================ =============== ==============
Basic and diluted loss per share available to common
stockholders - pro forma $ (3.24) $ (2.13) (0.78)
================ =============== ==============
The Company accounts for equity instruments issued to non-employees in
accordance with the provisions of SFAS No. 123 and Emerging Issues Task Force
("EITF") Issue No. 96-18, "Accounting for Equity Instruments That Are Issued to
Other Than Employees for Acquiring, or in Conjunction with Selling, Goods or
Services." All transactions in which goods or services are the consideration
received for the issuance of equity instruments are accounted for based on the
fair value of the consideration received or the fair value of the equity
instrument issued, whichever is more reliably measurable. The measurement date
of the fair value of the equity instrument issued is the earlier of the date on
which the counter-party's performance is complete or the date on which it is
probable that performance will occur.
SITE BONUSES
During 2001 and 2000, the Company received $740,000 and $7,220,000,
respectively, for site bonuses from SBA, which constructs towers leased by the
Company. The Company defers and amortizes the site bonus over the life of the
respective lease. During 2002, 2001 and 2000, the Company recorded approximately
$941,000 and $916,000 and $320,000, respectively, as a reduction to lease
expense.
OTHER POSTRETIREMENT PLANS
The Company sponsors a defined benefit health care plan for substantially
all retirees and employees. The Company measures the costs of its obligation
based on its best estimate. The net periodic costs are recognized as employees
render the services necessary to earn the postretirement benefits.
INCOME TAXES
Income taxes are accounted for under the asset and liability method.
Deferred tax assets and liabilities are recognized for the future tax
consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective tax
bases and operating loss and tax credit carryforwards. Deferred tax assets and
liabilities are measured using enacted tax rates expected to apply to taxable
income in the years in which those temporary differences are expected to be
recovered or settled. The effect on deferred tax assets and liabilities of a
change in tax rates is recognized in income in the period that includes the
enactment date.
F-17
HORIZON PCS, INC.
Notes to Consolidated Financial Statements
As of December 31, 2002 and 2001,
And for the Years Ended December 31, 2002, 2001 and 2000
- --------------------------------------------------------------------------------
NOTE 4 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
CONCENTRATION OF CREDIT RISK
The Company maintains cash and cash equivalents in an account with a
financial institution in excess of the amount insured by the Federal Deposit
Insurance Corporation. The financial institution is one of the largest banks in
the United States and management does not believe there is significant credit
risk associated with deposits in excess of Federally insured amounts.
Restricted cash is invested in short-term government money market funds.
The Company does not believe there is significant credit risk associated with
the funds as the underlying securities are issued by the U.S. Treasury
Department.
The Company maintains accounts with nationally recognized investment
managers. The Federal Deposit Insurance Corporation does not insure such
deposits. Management does not believe there is significant credit risk
associated with these uninsured deposits.
Other financial instruments that potentially subject the Company to
concentrations of credit risk consist primarily of accounts receivable from
subscribers. Management believes the risk is limited due to the number of
customers comprising the Company's customer base and its geographic diversity.
A significant amount of the Company's financial transactions result from
the Company's relationship with Sprint. Additionally, Sprint holds approximately
four to eleven days of the Company's subscriber lockbox receipts prior to
remitting those receipts to the Company weekly. The Company does not record
these lockbox receipts until Sprint remits them.
NET LOSS PER SHARE
The Company computes net loss per common share in accordance with SFAS No.
128, "Earnings per Share" and SAB No. 98. Basic and diluted loss per share from
continuing operations is computed by dividing loss on continuing operations,
less preferred stock dividends, for each period by the weighted-average
outstanding common shares. Basic and diluted net loss per share available to
common stockholders is computed by dividing net loss available to common
stockholders for each period by the weighted-average outstanding common shares.
No conversion of common stock equivalents (options, warrants or convertible
securities) has been assumed in the calculations since the effect would be
antidilutive. As a result, the number of weighted-average outstanding common
shares as well as the amount of net loss per share is the same for basic and
diluted net loss per share calculations for all periods presented. There are
three items that could potentially dilute basic earnings per share in the
future. These items include the common stock options (Note 18), the stock
purchase warrants (Notes 11 and 17) and the convertible preferred stock (Note
15). These items will be included in the diluted earnings per share calculation
when dilutive.
RECENT ACCOUNTING PRONOUNCEMENTS
In December 2002, the Financial Accounting Standards Board ("FASB") issued
SFAS No. 148, "Accounting for Stock-Based Compensation - Transition and
Disclosure - an amendment of FASB Statement No. 123." This Statement provides
alternative methods of transition for a voluntary change to the fair value based
method of accounting for stock-based employee compensation. In addition, this
Statement requires prominent disclosures in both annual and interim financial
statements about the method of accounting for stock-based employee compensation
and the effect of the method used on reported results. The Company adopted the
disclosure requirements of SFAS No. 148 as of December 31, 2002, but continues
to account for stock compensation costs in accordance with APB Opinion No. 25
(Note 18).
F-18
HORIZON PCS, INC.
Notes to Consolidated Financial Statements
As of December 31, 2002 and 2001,
And for the Years Ended December 31, 2002, 2001 and 2000
- --------------------------------------------------------------------------------
NOTE 4 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs
Associated with Exit or Disposal Activities." This Statement addresses financial
accounting and reporting for costs associated with exit or disposal activities
by requiring that expenses related to the exit of an activity or disposal of
long-lived assets be recorded when they are incurred and measurable. Prior to
SFAS No. 146, these charges were accrued at the time of commitment to exit or
dispose of an activity. The Company will adopt SFAS 146 on January 1, 2003, and
it is not expected to have a material effect on the Company's financial
position, results of operations 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." SFAS No. 145 addresses the accounting for gains and losses from
the extinguishment of debt, economic effects and accounting practices of
sale-leaseback transactions and makes technical corrections to existing
pronouncements. The Company will adopt SFAS No. 145 on January 1, 2003, and it
is not expected to have a material effect on the Company's financial position,
results of operations or cash flows.
In June 2001, the FASB issued SFAS No. 143, "Accounting for Asset
Retirement Obligations." This statement addresses financial accounting and
reporting for obligations associated with the retirements of tangible long-lived
assets and the associated asset retirement costs. It applies to legal
obligations associated with the retirement of long- lived assets that result
from the acquisition, construction, development and the normal operation of a
long-lived asset. The Company will adopt this statement effective January 1,
2003. Management is currently in the process of evaluating its impact on the
Company's financial position, results of operations and cash flows.
RECLASSIFICATIONS
Certain prior year amounts have been reclassified to conform with the 2002
presentation.
NOTE 5 - ACQUISITIONS
During 1999, the Company entered into a joint venture agreement through the
purchase of 25.6% of Bright Personal Communications Services, LLC ("Bright
PCS"). The investment was accounted for under the equity method. The joint
venture was established in October 1999 to provide personal communications
services in Ohio, Indiana and Michigan.
On June 27, 2000, the Company acquired the remaining 74.4% of Bright PCS in
exchange for approximately 8% of the Company's class B common stock (4,678,800
shares valued at approximately $34,000,000) and approximately 40% of the Horizon
Telcom, Inc. common stock owned by HPC (31,912 shares valued at approximately
$15,300,000) (Note 6). This acquisition was treated as a purchase for accounting
purposes. The consolidated statements of operations include the results of
Bright PCS from June 28, 2000.
In conjunction with this transaction, the Company also acquired the Bright
PCS management agreement with Sprint and, with it, the right to operate using
Sprint PCS licenses in Bright PCS' markets. The Company has recognized an
intangible asset totaling approximately $33,000,000 related to this licensing
agreement which is being amortized over 20 years, the initial term of the
underlying management agreement (Note 7). Amortization commenced in June 2000.
The purchase price exceeded the fair market value of the net assets
acquired by approximately $7,778,000. The resulting goodwill was being amortized
on a straight-line basis over 20 years. Amortization commenced in June 2000.
Amortization expense for the years ended December 31, 2001 and 2000, was
$389,000 and $198,000, respectively. Accumulated amortization of goodwill was
approximately $587,000 and $198,000 at December 31, 2001 and 2000, respectively.
The Company adopted SFAS No. 142 on January 1, 2002. As a result of the
adoption, goodwill amortization ceased as of December 31, 2001, and the Company
is now required to complete an impairment test of the remaining goodwill balance
F-19
HORIZON PCS, INC.
Notes to Consolidated Financial Statements
As of December 31, 2002 and 2001,
And for the Years Ended December 31, 2002, 2001 and 2000
- --------------------------------------------------------------------------------
NOTE 5 - ACQUISITIONS (CONTINUED)
annually (or more frequently if impairment indicators arise). On December 31,
2002, the Company completed its annual impairment test of goodwill and recorded
an impairment charge for the full amount of unamortized goodwill as a result of
this acquisition. As required by SFAS 109, goodwill should be increased for the
deferred taxes arising from assets recorded in excess of their tax basis for an
acquisition. This amounted to $6,031,000 for this acquisition and accordingly
the goodwill impairment of $13,232,180 included such amounts (Note 7).
NOTE 6 - INVESTMENTS
In February 2000, the Company purchased 78,900 shares of common stock of
its parent, Horizon Telcom, Inc. from the Parent's largest unaffiliated
stockholder for approximately $11,835,000. This represented a 19.78% interest in
Horizon Telcom, Inc. The Company exchanged 40% of the shares owned (31,912
shares) to the former members as consideration for the acquisition of Bright PCS
(Note 5). This transaction resulted in a gain of approximately $10,513,000 and
reduced the ownership in Horizon Telcom, Inc. to 11.78%.
On September 26, 2000, the Company distributed 10% of its 11.78% ownership
of Horizon Telcom, Inc. in the form of a dividend, payable pro rata to the
stockholders of record on September 26, 2000. This transaction resulted in a
gain of approximately $1,038,000, as part of the stock was distributed to owners
other than the Parent.
During 2001, the Company distributed its remaining 7,249 shares of Horizon
Telcom, Inc. to employees of HPC as an award. As a result, the Company recorded
non-cash compensation expense of approximately $725,000 and a non-operating loss
of approximately $400,000 representing the reduced fair market value of the
stock at the time of the transaction compared to the original holding value of
the investment.
As part of the term loan facility for the construction of the personal
communications network (Note 11), the Company was required to purchase Rural
Telephone Finance Cooperative's (RTFC, the lender) subordinated capital
certificates with each draw on the loan. The balance of these certificates at
December 31, 2000, was approximately $2,896,000. The certificates were redeemed
in March 2001 for approximately $2,896,000 with no recognized gain or loss on
the redemption.
NOTE 7 - GOODWILL AND INTANGIBLE ASSETS
During 1999, the Company entered into a joint venture agreement through the
purchase of 25.6% of Bright PCS. On June 27, 2000, the Company acquired the
remaining 74.4% of Bright PCS. The total purchase price was approximately
$49,300,000 and was treated as a purchase method acquisition for accounting
purposes. The purchase price exceeded the fair market value of the net assets
acquired by approximately $7,778,000. The resulting goodwill was amortized on a
straight-line basis over 20 years until December 31, 2001.
The Company adopted SFAS No. 142 on January 1, 2002 (See Note 4). As a
result of the adoption, goodwill amortization ceased as of December 31, 2001,
and the Company was required to complete an impairment test on its remaining
goodwill balance as of the date of adoption. The Company completed the first
step required by SFAS No. 142 and determined the goodwill remaining at January
1, 2002, was not impaired.
On December 31, 2002, the Company performed the annual valuation assessment
of goodwill. This valuation determined that the carrying amount of the goodwill
exceeded the fair value of the assets. As a result the Company recorded goodwill
impairment of $13,222,180, related to the impairment of goodwill and impact of
acquisition-related deferred taxes. The impairment eliminated the entire balance
of goodwill as of December 31, 2002. The fair value was measured based on
projected discounted future operating cash flows using a discount rate
reflecting the Company's average cost of funds.
F-20
HORIZON PCS, INC.
Notes to Consolidated Financial Statements
As of December 31, 2002 and 2001,
And for the Years Ended December 31, 2002, 2001 and 2000
- --------------------------------------------------------------------------------
NOTE 7 - GOODWILL AND INTANGIBLE ASSETS (CONTINUED)
The following pro forma disclosure reconciles net loss available to common
stockholders, as presented on the accompanying consolidated statements of
operations, excluding the effect of goodwill amortization:
YEAR ENDED DECEMBER 31,
---------------------------------------------------------
2002 2001 2000
---------------- ---------------- -----------------
Reported net loss................................. $ (176,947,819) $ (113,481,687) $ (40,544,462)
Goodwill amortization............................. -- 388,887 197,685
----------------- ----------------- ----------------
Adjusted net loss............................. (176,947,819) (113,092,800) (40,346,777)
Preferred stock dividend.......................... (11,756,253) (10,929,852) (2,782,048)
----------------- ----------------- ----------------
Adjusted net loss available to common
stockholders................................ $ (188,704,072) $ (124,022,652) $ (43,128,825)
================= ================= ================
In conjunction with the acquisition discussed in Note 5, the Company
recognized an intangible asset totaling approximately $33,000,000 related to the
licensing agreement which will be amortized on a straight-line basis over 20
years, the initial term of the underlying management agreement. In addition, the
Company agreed to grant Sprint warrants to acquire shares of common stock in
exchange for the right to service additional PCS markets. These warrants were
recorded as an intangible asset of approximately $13,356,000 and are being
amortized on a straight-line basis over approximately 18 years (Note 17). The
breakout of these intangible assets is detailed below:
SPRINT LICENSES SPRINT WARRANTS
---------------------------------- --------------------------------
2002 2001 2002 2001
---------------- ---------------- --------------- ---------------
Gross intangible value................... $ 33,000,000 $ 33,000,000 $ 13,355,647 $ 13,355,647
Amortization expense recognized.......... (1,706,897) (1,706,897) (752,436) (752,436)
Beginning accumulated amortization....... (2,574,569) (867,672) (940,544) (188,108)
---------------- ---------------- ---------------- --------------
Net intangible value.................... $ 28,718,534 $ 30,425,431 $ 11,662,667 $ 12,415,103
================ ================ ================ ===============
Estimated amortization expense for the next five years is approximately
$2,459,000 each year.
NOTE 8 - PROPERTY AND EQUIPMENT
Property and equipment consists of the following at December 31:
2002 2001
---------------- ----------------
Network assets........................................ $ 196,548,216 $ 134,257,789
Switching equipment................................... 63,294,413 35,253,986
Furniture, vehicles and office equipment.............. 10,348,364 10,137,175
Land.................................................. 966,689 966,689
---------------- ----------------
Property and equipment in service, cost............. 271,157,682 180,615,639
Accumulated depreciation.............................. (46,273,707) (22,478,698)
---------------- ----------------
Property and equipment in service, net............ 224,883,975 158,136,941
Construction work in progress......................... 14,652,618 56,730,917
---------------- ----------------
Total property and equipment, net............... $ 239,536,593 $ 214,867,858
================ ================
During 2002 and 2001, the Company retired certain network assets and
replaced them with equipment required to upgrade the network. As a result of
these retirements, the Company recorded a loss on disposal of $631,417 and
$1,296,834 for the years ended December 31, 2002 and 2001, respectively.
F-21
HORIZON PCS, INC.
Notes to Consolidated Financial Statements
As of December 31, 2002 and 2001,
And for the Years Ended December 31, 2002, 2001 and 2000
- --------------------------------------------------------------------------------
NOTE 9 - SPRINT AGREEMENTS
Under the Sprint Agreements, Sprint provides the Company significant
support services such as billing, collections, long distance, customer care,
network operations support, inventory logistics support, use of the Sprint and
Sprint PCS brand names, national advertising, national distribution and product
development. Additionally, the Company derives substantial roaming revenue and
expenses when Sprint's and Sprint's network partners' PCS wireless subscribers
incur minutes of use in the Company's territories and when the Company's
subscribers incur minutes of use in Sprint and other Sprint network partners'
PCS territories. These transactions are recorded in roaming revenue, cost of
service, cost of equipment and selling and marketing expense captions in the
accompanying consolidated statements of operations. Cost of service and roaming
transactions include, long distance charges, roaming expense and the costs of
services such as billing, collections, and customer service and other
pass-through expenses. Cost of equipment transactions relate to inventory
purchased by the Company from Sprint under the Sprint Agreements. Selling and
marketing transactions relate to subsidized costs on handsets and commissions
paid by the Company under Sprint's national distribution program. The 8%
management fee is included in general and administrative. Amounts recorded
relating to the Sprint Agreements for the year ended December 31, 2002, are
approximately as follows:
TOTAL REVENUES AND EXPENSES PROVIDED BY
SPRINT AGREEMENTS 2002
- -------------------------------------------------- ---------------
Roaming revenue.............................. $ 51,688,000
===============
Cost of Service:
Roaming..................................... $ 40,883,000
Billing and customer care................... 20,587,000
Long distance............................... 10,470,000
---------------
Total cost of service...................... 71,940,000
Selling and marketing........................ 2,566,000
General and administrative:
Management fee.............................. 12,027,000
---------------
Total expense............................. $ 86,533,000
===============
The Sprint Agreements require the Company to maintain certain minimum
network performance standards and to meet other performance requirements. The
Company was in compliance in all material respects with these requirements at
December 31, 2002.
NOTE 10 - LINES OF CREDIT
On September 26, 2000, the Company entered into a $95,000,000 line of
credit that expires on September 30, 2008, as part of its senior secured credit
facility agreement (Note 11). As of December 31, 2002, the Company had not
borrowed on this line of credit.
As discussed in Note 11 below the Company did not meet the covenant for
earnings before interest, taxes, depreciation and amortization for the first
quarter of 2002. The Company obtained a waiver of non-compliance and entered
into an amendment of the secured credit facility. This amendment restricted the
maximum amount available to be borrowed for certain periods (Note 14)
F-22
HORIZON PCS, INC.
Notes to Consolidated Financial Statements
As of December 31, 2002 and 2001,
And for the Years Ended December 31, 2002, 2001 and 2000
- --------------------------------------------------------------------------------
NOTE 11 - LONG-TERM DEBT
On December 7, 2001, the Company received $175,000,000 from the issuance of
unsecured senior notes (the "senior notes") due on June 15, 2011. Interest is
paid semi-annually on June 15 and December 15 at an annual rate of 13.75%, with
interest payments commencing June 15, 2002. Approximately $48,660,000 of the
offering's proceeds was placed in an escrow account to fund the first four
semi-annual interest payments. The senior notes may be redeemed at the Company's
election on or after December 15, 2006, at redemption prices defined in the
senior note agreement. Additionally, on or before December 15, 2004, the Company
may redeem up to 35% of the aggregate principal amount of the senior notes
originally issued at a redemption price of 113.75%, plus accrued and unpaid
interest to the date of redemption with the proceeds of certain equity offerings
as long as 65% of the aggregate principal amount originally issued remains
outstanding after that redemption.
On September 26, 2000, the Company received $149,680,050 from the issuance
of $295,000,000 of unsecured senior discount notes due on October 1, 2010 (the
"discount notes"). The discount notes accrete in value until October 1, 2005, at
a rate of 14% compounded semi-annually. Cash interest on the notes will become
payable on April 1 and October 1 of each year, beginning on April 1, 2006. The
discount notes may be redeemed at the Company's election on or after October 1,
2005, at redemption prices defined in the discount note agreement. Additionally,
on or before October 1, 2003, the Company may redeem up to 35% of the aggregate
principal amount of the discount notes originally issued at a redemption price
of 114%, plus accrued and unpaid interest to the date of redemption with the
proceeds of certain equity offerings as long as 65% of the aggregate principal
amount originally issued remains outstanding after that redemption. The discount
notes include warrants to purchase 3,805,500 shares of the Company's class A
common stock at $5.88 per share. The warrants represent the right to purchase an
aggregate of approximately 4.0% of the issued and outstanding common stock of
the Company on a fully diluted basis, assuming the exercise of all outstanding
options and warrants to purchase common stock and the conversion of the
convertible preferred stock (Note 15) into shares of class A common stock. The
proceeds from the issuance of the discount notes were allocated to long-term
debt and the value of the warrants ($20,245,000 or $5.32 per share) was
allocated to additional paid-in capital. The fair value of the warrants was
estimated on the date of the grant using the Black-Scholes option-pricing model
with the following weighted average assumptions: expected dividend yield of
0.0%, a risk-free interest rate of 6.5%, expected life of 10 years (equal to the
term of the warrants) and a volatility of 95%.
On September 26, 2000, and concurrent with the issuance of the convertible
preferred stock (Note 15) and the discount notes described above, the Company
entered into a senior secured credit facility (the "secured credit facility")
with a financial institution to provide an aggregate commitment, subject to
certain conditions, of up to $250,000,000 (including a $95,000,000 line of
credit described in Note 10, a $50,000,000 term note and a $105,000,000 term
note) expiring on September 30, 2008. The secured credit facility bears interest
at various floating rates, which approximate one to six month LIBOR rates plus
400 to 450 basis points. The secured credit facility is collateralized by a
perfected security interest in substantially all of the Company's tangible and
intangible current and future assets, including an assignment of the Company's
affiliation agreements with Sprint and a pledge of all of the capital stock of
the Company and its subsidiaries. At December 31, 2002, the outstanding balance
on the secured credit facility was $155,000,000. The Company pays a commitment
fee of 1.375% on the unused portion of the $250,000,000 note. Amounts recorded
relating to this commitment fee expense for the year ended December 31, 2002,
are as follows:
2002
---------------
Secured credit facility - term loan A....... $ 325,000
Line of credit.............................. 1,324,000
---------------
Total commitment fee expense $ 1,649,000
===============
F-23
HORIZON PCS, INC.
Notes to Consolidated Financial Statements
As of December 31, 2002 and 2001,
And for the Years Ended December 31, 2002, 2001 and 2000
- --------------------------------------------------------------------------------
NOTE 11 - LONG-TERM DEBT (CONTINUED)
The components of long-term debt outstanding are as follows:
INTEREST RATE AT
DECEMBER 31, 2002 DECEMBER 31, 2002 DECEMBER 31, 2001
----------------- ----------------- -----------------
Discount notes.............................. 14.00% $ 295,000,000 $ 295,000,000
Senior notes................................ 13.75% 175,000,000 175,000,000
Secured credit facility - term loan A....... 5.40% 105,000,000 --
Secured credit facility - term loan B....... 6.33% 50,000,000 50,000,000
----------------- -----------------
Long-term debt, face value.................. 625,000,000 520,000,000
Less: unaccreted interest portion of
discount notes........................... (108,715,651) (135,944,357)
----------------- -----------------
Total long-term debt, net.............. $ 516,284,349 $ 384,055,643
================= =================
Scheduled maturities of long-term debt outstanding at December 31, 2002,
are as follows:
YEAR AMOUNT
---- ----------------
2003..................................... $ --
2004..................................... 8,250,000
2005..................................... 20,187,500
2006..................................... 26,750,000
2007..................................... 28,062,500
Thereafter............................... 541,750,000
---------------
Total maturities of long-term debt..... 625,000,000
Less: Unaccreted interest portion of
long-term debt......................... (108,715,651)
---------------
Total long-term debt................ $ 516,284,349
===============
As of December 31, 2002, Horizon PCS had $95.0 million committed under the
Company's secured credit facility in the form of a line of credit at a variable
interest rate equal to the London Interbank Offered Rate ("LIBOR") plus 400
basis points (Notes 10 and 14).
The senior notes, discount notes and secured credit facility contain
various financial covenants. Among other restrictions, the most restrictive
covenants relate to maximum capital expenditures, minimum EBITDA ("earnings
before interest, taxes, depreciation and amortization") requirements, maximum
financial leverage ratios and minimum revenues. There are also limitations on
restricted payments, asset sales, additional debt incurrence and equity
issuance. In June 2001, December 2001 and June 2002, the Company amended its
secured credit facility with the bank group. These modifications amended and
restated certain financial covenants.
The Company did not meet the covenant for earnings before interest, taxes,
depreciation and amortization ("EBITDA") for the first quarter of 2002. As a
result of higher than expected gross and net additions to Horizon PCS
subscribers for that quarter, the Company incurred additional expenses to add
those customers. Although the Company ultimately benefits from the revenues
generated by new subscribers, the Company incurs one-time expenses associated
with new subscribers, including commissions, handset subsidies, set up costs for
the network and marketing expenses. As a result, these new subscriber costs
negatively affect EBITDA in the short-term during the period of the addition of
new subscribers, which led to non-compliance with the EBITDA covenant for the
first quarter of 2002.
F-24
HORIZON PCS, INC.
Notes to Consolidated Financial Statements
As of December 31, 2002 and 2001,
And for the Years Ended December 31, 2002, 2001 and 2000
- --------------------------------------------------------------------------------
NOTE 11 - LONG-TERM DEBT (CONTINUED)
On June 27, 2002, the Company obtained a waiver of the non-compliance with
the EBITDA covenant for the first quarter of 2002 and entered into an amendment
of the secured credit facility. The amended facility primarily adjusts certain
financial covenants and increases the margin on the base interest rate by 25
basis points to LIBOR plus 400 to 450, while also providing for the payment of
fees to the banking group, an increase in post-default interest rates, a new
financial covenant regarding minimum available cash, additional prepayment
requirements, restrictions on the Company's borrowings committed under the
remaining $95.0 million revolving credit facility and deposit requirements on
the use of the $105.0 million borrowed under the secured credit facility in
March 2002 (Note 14).
As of December 31, 2002, the Company was in compliance with the amended
covenants under each agreement, therefore, debt was classified as long-term.
However as described in Note 1, the Company believes it is probable that the
Company will violate one or more of its covenants during 2003. If the Company
violates a covenant, is declared to be in default of the credit agreement, and
does not cure the default, then the debt will be reclassified to current
liabilities.
NOTE 12 - INCOME TAXES
The Company's Federal income tax expense (benefit) consists of:
YEAR ENDED DECEMBER 31,
-----------------------------------------------
2002 2001 2000
------------- -------------- -------------
Continuing Operations:
Current............................... $ -- $ -- $ 1,075,711
Deferred.............................. -- -- --
--------------- -------------- -------------
-- -- 1,075,711
Discontinued Operations:
Current............................... -- -- 72,762
Deferred.............................. -- -- --
--------------- -------------- -------------
72,762
Extraordinary Loss:
Current............................... -- -- (261,863)
Deferred.............................. -- -- --
--------------- -------------- -------------
-- -- (261,863)
--------------- -------------- -------------
Tax expense (benefit).................. $ -- $ -- $ 886,610
=============== ============== =============
The effective income tax expense (benefit) from continuing operations
varies from the statutory rate as follows:
YEAR ENDED DECEMBER 31,
-------------------------------------------------
2002 2001 2000
---------------- --------------- ---------------
Tax at statutory rate applied to pretax book
loss from continuing operations................ $ (60,162,258) $ (38,583,774) $ (13,693,286)
Increase in tax from:
Non-deductible goodwill amortization........... -- 444,227 302,968
Goodwill impairment............................ 4,495,519 -- --
Non-deductible interest........................ 2,221,649 -- --
Tax on excess loss account..................... -- -- 11,463,395
Change in valuation allowance.................. 53,399,909 37,163,536 2,484,155
Tax on rate difference......................... -- -- 116,296
Other, net..................................... 45,181 976,011 402,183
--------------- -------------- --------------
Total tax expense from continuing
operations............................... $ -- $ -- $ 1,075,711
=============== =============== ==============
F-25
HORIZON PCS, INC.
Notes to Consolidated Financial Statements
As of December 31, 2002 and 2001,
And for the Years Ended December 31, 2002, 2001 and 2000
- --------------------------------------------------------------------------------
NOTE 12 - INCOME TAXES (CONTINUED)
Deferred income taxes result from temporary differences between the
financial reporting and the tax basis amounts of existing assets and
liabilities. The source of these differences and tax effect of each are as
follows, as of December 31:
2002 2001
-------------- --------------
Deferred income tax assets:
Deferred income -- site bonuses................ $ 1,965,993 $ 2,285,961
Unrealized loss on hedging activity............ 210,607 284,869
Allowance for doubtful accounts................ 784,720 662,084
Accrued vacation............................... 279,076 142,427
Net operating loss carryforwards............... 99,465,755 36,089,387
Interest expense............................... 14,690,303 9,523,013
Other.......................................... 3,291,770 965,141
-------------- --------------
Total deferred income tax assets........... $ 120,688,224 $ 49,952,882
============== ==============
Deferred income tax liabilities:
Property and equipment......................... $ (20,725,719) $ (7,469,716)
Sprint PCS Licenses - Bright acquisition....... (6,273,286) --
Capitalized interest........................... (4,244,207) (2,723,264)
Other.......................................... (136,065) (172,667)
-------------- --------------
Total deferred income tax liabilities...... $ (31,379,277) $ (10,365,647)
============== ==============
Deferred income taxes, net...................... $ 89,308,947 $ 39,587,235
Less: valuation allowance....................... (95,339,882) (39,587,235)
-------------- --------------
Total deferred income taxes, net........... $ (6,030,935) $ --
============== ==============
Until September 26, 2000, HPCS was included in the consolidated Federal
income tax return of the Horizon Telcom affiliated group. HPCS provided for
Federal income taxes on a pro-rata basis, consistent with a consolidated
tax-sharing agreement. As a result of the sale of the convertible preferred
stock, HPCS will not be able to participate in the tax-sharing agreement nor the
filing of a consolidated Federal income tax return with the Horizon Telcom
affiliated group. Thus, HPCS filed a separate Federal income tax return for the
period after deconsolidation through December 31, 2000, and will file a separate
return for all subsequent periods.
HPCS recorded income tax expense of $886,610 for the year ended December
31, 2000. This expense was primarily a result of the recognition by HPCS of an
excess loss account on the deconsolidation from the Horizon Telcom affiliated
group, reduced by the benefit of net operating losses, and the increase in the
valuation reserve.
HPCS generated a tax of $4,256,818 on the stock dividend of 10% of Horizon
Telcom stock held by HPCS to Horizon Telcom. The tax on the stock dividend was
charged directly to equity and not recorded as income tax expense during 2000.
The Company has generated net operating losses ("NOL") that may be used to
offset future taxable income. Each year's NOL has a maximum carryforward period
of twenty years. The Company's ability to use its NOL carryforwards is dependent
on the future taxable income of the Company. At December 31, 2002, the Company
has NOL carryforwards of approximately $293,000,000 expiring in 2021 through
2022. The future tax benefit of these NOL carryforwards of approximately
$99,000,000 has been recorded as a deferred tax asset. As a result of the
Company's operating losses and its deconsolidation from the Horizon Telcom
affiliated group for tax purposes, the Company does not expect to record future
tax benefits of operating losses and other net deferred tax assets until such
time its operations become profitable and, accordingly, has recognized a
valuation allowance of $95,339,882.
F-26
HORIZON PCS, INC.
Notes to Consolidated Financial Statements
As of December 31, 2002 and 2001,
And for the Years Ended December 31, 2002, 2001 and 2000
- --------------------------------------------------------------------------------
NOTE 13 - POSTRETIREMENT BENEFITS
Certain employees of the Company participate in the Parent's postretirement
plan. The plan is maintained by the Parent and the Company is charged based on
its employee participation in the plan. The Company applies the accounting and
measurement practices prescribed by SFAS No. 106, "Employers' Accounting for
Postretirement Benefits Other Than Pensions" and the disclosure requirements of
SFAS No. 132, "Employers' Disclosures about Pensions and Other Postretirement
Benefits," which superceded the disclosure requirements of SFAS No. 106. As
permitted by SFAS No. 106, the Company has elected to amortize the accumulated
postretirement benefit obligation existing at the date of adoption (the
transition obligation) over a the estimated remaining service life of employees.
The accrued benefit cost is included in other long-term liabilities in the
accompanying consolidated balance sheets.
The plan provides coverage of postretirement medical, prescription drug,
telephone service and life insurance benefits to eligible retirees whose status,
at retirement from active employment, qualifies for postretirement benefits.
Coverage of postretirement benefits is also provided to totally and permanently
disabled active employees whose status, at disablement, qualified for
postretirement benefits as a retiree from active employment (retired disabled).
Certain eligible retirees are required to contribute toward the cost of coverage
under the postretirement health care and telephone service benefits plans. No
contribution is required for coverage under the postretirement life insurance
benefits plan. Unrecognized prior service cost is being amortized over the
estimated remaining service life of employees.
The funding status of the Company's participation in the postretirement
benefit plan as of December 31, 2002 and 2001, is as follows:
2002 2001
----------- -----------
(IN THOUSANDS)
CHANGE IN BENEFIT OBLIGATION
Benefit obligation, beginning of year........... $ 457 $ 90
Service cost................................... 247 183
Interest cost.................................. 34 17
Actuarial loss................................. 149 167
----------- -----------
Benefit obligation, end of year................. $ 887 $ 457
----------- -----------
CHANGE IN PLAN ASSETS
Fair value of plan assets, beginning of -- --
year...........................................
Employer contributions......................... -- --
Benefits paid.................................. -- --
----------- -----------
Fair value of plan assets, end of year.......... -- --
----------- -----------
Funded status................................... (887) (457)
Unrecognized transition obligation.............. 65 71
Unrecognized prior service cost................. 70 75
Unrecognized actuarial (gain) or loss........... 192 42
----------- -----------
Accrued benefit cost............................ $ (560) $ (269)
=========== ===========
WEIGHTED-AVERAGE ASSUMPTIONS AT DECEMBER 31:
Discount rate.................................... 6.50% 6.50%
The assumed medical benefit cost trend rate used in measuring the
accumulated postretirement benefit obligation for the under age 65 retirees and
their spouses was 10.0% in 2002, 8.0% in 2001 and 7.0% in 2000, declining
gradually to 5.0% for all periods presented. For the over 65 retirees and their
spouses, the assumed medical benefit cost trend rate was 10.0% in 2002, 7.0% in
2001 and 6.5% in 2000, declining gradually to 5.0% for all periods presented.
The assumed dental and vision benefit cost trend rates used in measuring the
accumulated postretirement benefit obligation was 5.8% in 2002 and 6.0% in 2001
and 2000, declining gradually to 5.0%, for retirees and their spouses. The
telephone service benefit cost trend rate for retirees and their spouses in
2002, 2001 and 2000, was estimated at 5% for all future years.
F-27
HORIZON PCS, INC.
Notes to Consolidated Financial Statements
As of December 31, 2002 and 2001,
And for the Years Ended December 31, 2002, 2001 and 2000
- --------------------------------------------------------------------------------
NOTE 13 - POSTRETIREMENT BENEFITS (CONTINUED)
The following summarizes the components of net periodic benefit costs of
the Company's participation in the postretirement benefit plan for the years
ended December 31:
2002 2001 2000
--------- --------- -------
COMPONENTS OF NET PERIODIC BENEFIT COST (IN THOUSANDS)
Service cost................................. $ 247 $ 104 $ 15
Interest cost................................ 34 17 5
Amortization of transition obligation........ 5 5 5
Amortization of prior service cost........... 4 4 --
Recognized net actuarial gain (loss)......... -- (2) (8)
--------- --------- ---------
Net periodic benefit cost.................... $ 290 $ 128 $ 17
========= ========= =========
Assumed health care cost trend rates have a significant effect on the
amounts reported for the health care plans. A one-percentage-point change in
assumed health care cost trend rates would have the following effects:
1-PERCENTAGE- 1-PERCENTAGE-
POINT POINT
INCREASE DECREASE
------------- -------------
(IN THOUSANDS)
Effect on total of service and interest cost components............. $ 93 $ (67)
Effect on postretirement benefit obligation......................... $ 275 $ (204)
In May 1999, the Company adopted a defined contribution plan covering
certain eligible employees. The plan provides for participants to defer up to
15% of the annual compensation, as defined under the plan, as contributions to
the plan. The Company has the option, at the direction of the Board of
Directors, to make a matching contribution to the plan of up to 50% of an
employee's contribution to the plan, limited to a maximum of 3% of the
employee's salary. A matching contribution of approximately $361,000, $309,000
and $115,000 was recognized during 2002, 2001 and 2000, respectively.
NOTE 14 - COMMITMENTS AND CONTINGENCIES
SPRINT 3G DEVELOPMENT FEES
Recently, Sprint increased service fees in connection with its development
of 3G-related back-office systems and platforms. The Company, along with other
PCS affiliates of Sprint, is currently disputing the validity of Sprint's right
to pass through this fee to the affiliates. If this dispute is resolved
unfavorably to the Company, then Horizon PCS will incur additional expenses. As
of December 31, 2002, the Company has not recorded or paid amounts billed by
Sprint for 3G development costs of approximately $591,000.
OPERATING LEASES
The Company leases office space and various equipment under several
operating leases. In addition, the Company has tower lease agreements with third
parties whereby the Company leases towers for substantially all of the Company's
cell sites. The tower leases are operating leases with a term of five to ten
years with three consecutive five-year renewal option periods.
F-28
HORIZON PCS, INC.
Notes to Consolidated Financial Statements
As of December 31, 2002 and 2001,
And for the Years Ended December 31, 2002, 2001 and 2000
- --------------------------------------------------------------------------------
NOTE 14 - COMMITMENTS AND CONTINGENCIES (CONTINUED)
The Company also leases space for its retail stores. At December 31, 2002,
the Company leased 43 of its 44 retail stores operating throughout its
territories.
The following table summarizes the annual lease payments required under the
Company's existing lease agreements at December 31, 2002.
PERIOD ENDING
YEAR DECEMBER 31
---- -----------------
2003.................................. $ 16,122,000
2004.................................. 15,295,000
2005.................................. 12,590,000
2006.................................. 7,783,000
2007.................................. 3,320,000
Thereafter............................ 7,027,000
-----------------
Future operating lease obligation..... $ 62,137,000
=================
Rental expense for all operating leases was approximately $15,241,000,
$8,461,000 and $3,056,000 for years ended December 31, 2002, 2001 and 2000,
respectively.
LEGAL MATTERS
On July 3, 2002 the Federal Communications Commission (the "FCC") issued an
order in Sprint v. AT&T for declaratory judgment holding that PCS wireless
carriers could not unilaterally impose terminating long distance access charges
pursuant to FCC rules. This FCC order did not preclude a finding of a
contractual basis for these charges, nor did it rule whether or not Sprint had
such a contract with carriers such as AT&T. This case has been remanded to a
U.S. District Court for further proceedings. Because the case is still pending,
the Company cannot predict, with certainty, the final outcome of this action. As
a result, the Company recorded a reduction in revenue in the second quarter of
2002 of approximately $1.3 million representing previously billed and recognized
access revenue. The Company plans to cease recognition of this type of revenue
in future quarters, unless there is ultimately a favorable ruling by the courts
or the FCC on this issue. Sprint has asserted the right to recover these
revenues from the Company. The Company will continue to assess the ability of
Sprint or other carriers to recover these charges. The Company is also
continuing to review the availability of defenses it may have against Sprint's
claim to recover these revenues from the Company.
GUARANTEES
The discount notes and the senior notes (Note 11) are guaranteed by the
Company's existing subsidiaries, Horizon Personal Communications, Inc., and
Bright Personal Communications Services, LLC, and will be guaranteed by the
Company's future domestic restricted subsidiaries. The Company has no
independent assets or operations apart from its subsidiaries. The guarantees are
general unsecured obligations. Each guarantor unconditionally guarantees,
jointly and severally, on a senior subordinated basis, the full and punctual
payment of principal premium and liquidated damages, if any, and interest on the
discount notes when due. If the Company creates or acquires unrestricted
subsidiaries and foreign restricted subsidiaries, these subsidiaries need not be
guarantors.
NTELOS NETWORK AGREEMENT
In August 1999, the Company entered into a wholesale network services
agreement with the West Virginia PCS Alliance and the Virginia PCS Alliance (the
"Alliances"), two related, independent PCS providers whose network is managed by
NTELOS. Under the network services agreement, the Alliances provide the Company
F-29
HORIZON PCS, INC.
Notes to Consolidated Financial Statements
As of December 31, 2002 and 2001,
And for the Years Ended December 31, 2002, 2001 and 2000
- --------------------------------------------------------------------------------
NOTE 14 - COMMITMENTS AND CONTINGENCIES (CONTINUED)
with the use of and access to key components of their network in most of HPCS'
markets in Virginia and West Virginia. The initial term was through June 8,
2008, with four automatic ten-year renewals.
This agreement was amended in the third quarter of 2001 to provide for a
minimum monthly fee to be paid by the Company through December 31, 2003. The
minimum monthly fee includes a fixed number of minutes to be used by the
Company's subscribers. The Company incurs additional per minute charges for
minutes used in excess of the fixed number of minutes allotted each month. The
aggregate amount of future minimum payments through December 31, 2003 is
$38,600,000. Total costs recorded, for both fixed and variable charges incurred
by the NTELOS agreement, were approximately $33,036,000, for the year ended
December 31, 2002.
On March 4, 2003, NTELOS and certain of its subsidiaries filed voluntarily
petitions for reorganization under Chapter 11 of the U.S. Bankruptcy Code in the
U.S. Bankruptcy Court for the Eastern District of Virginia. The results of
NTELOS' restructuring could have a material adverse impact on our operations.
Pursuant to bankruptcy law, the Alliances have the right to assume or reject the
network services agreement. If the Alliances reject the network services
agreement, we will lose the ability to provide service to our subscribers in
Virginia and West Virginia and will be in breach of our management agreements
with Sprint.
LONG-TERM DEBT COVENANTS
As discussed in Note 11 above, the Company entered into a covenant
amendment under its secured credit facility in June 2002. In addition to a
number of changes to the secured credit facility, including an increase in the
margin on the base interest rate, this amendment placed restrictions on the
Company's ability to draw on the $95.0 million line of credit and deposit
requirements on the $105.0 million term loan A borrowed under the secured credit
facility in March 2002. These amounts are summarized below.
The following table details the maximum amount available to be borrowed on
the line of credit for the period then ended:
MAXIMUM AMOUNT
AVAILABLE TO BE
BORROWED
---------------
December 31, 2002..................................... --
March 31, 2003......................................... --
June 30, 2003.......................................... 16,000,000
September 30, 2003..................................... 26,000,000
December 31, 2003...................................... 33,000,000
March 31, 2004........................................ 52,000,000
April 1, 2004.......................................... 95,000,000
The following table details the minimum balance requirements placed on cash
and cash equivalents under the amended terms of the secured credit facility:
DEPOSIT BALANCE
REQUIREMENT
---------------
November 16, 2002, through December 31, 2002.......... 55,000,000
January 1, 2003, through February 15, 2003............ 33,000,000
February 16, 2003, through March 31, 2003............. 11,000,000
April 1, 2003, through May 15, 2003................... 5,500,000
F-30
HORIZON PCS, INC.
Notes to Consolidated Financial Statements
As of December 31, 2002 and 2001,
And for the Years Ended December 31, 2002, 2001 and 2000
- --------------------------------------------------------------------------------
NOTE 15 - CONVERTIBLE PREFERRED STOCK
The Company has authorized 175,000,000 shares of convertible preferred
stock at $0.0001 par value. On September 26, 2000, an investor group led by
Apollo Management purchased 23,476,683 shares of convertible preferred stock for
approximately $126,500,000 in a private placement offering. Concurrent with the
closing, holders of the $14,100,000 short-term convertible note converted the
principal and unpaid interest into 2,610,554 shares of the same convertible
preferred stock purchased by the investor group. Holders of the convertible
preferred stock have the option to convert their shares (on a share for share
basis) into class A common stock at any time. In addition, the convertible
preferred stock converts automatically upon the completion of a public offering
of class A common stock meeting specified criteria or upon the occurrence of
certain business combination transactions. The convertible preferred stock pays
a 7.5% stock dividend semi-annually, commencing April 30, 2001. The dividends
are payable in additional preferred stock. Through December 31, 2002, the
Company paid a cumulative total $23,412,886 of dividends in additional shares of
convertible preferred stock. At December 31, 2002, there were 30,432,329 shares
of convertible preferred stock outstanding.
If the Company has not completed either (i) a public offering of its class
A common stock in which the Company receives at least $50,000,000 or (ii) a
merger or consolidation with a publicly-listed company that has a market
capitalization of at least $100,000,000 by the fifth anniversary of the date the
Company issued the convertible preferred stock, the investor group may request
that the Company repurchase all of their shares of convertible preferred stock
at fair market value, as determined by three investment banking institutions. If
the investor group requests the Company repurchase their convertible preferred
stock and the Company declines, the Company will be required to auction Horizon
PCS. If no bona fide offer is received upon an auction, the repurchase right of
the investor group expires. If, however, a bona fide offer is received upon the
auction, the Company must sell Horizon PCS or the dividend rate on the
convertible preferred stock will increase from 7.5% to 18.0% and the Company
will be required to re-auction Horizon PCS annually until the convertible
preferred stock is repurchased. The Company's secured credit facility and the
discount notes, both described in Note 11, prohibit the Company from
repurchasing any convertible preferred stock. Due to a mandatory redemption
clause, this stock is considered a mezzanine financing and is recorded outside
of stockholders' equity (deficit).
Holders of the Company's convertible preferred stock are entitled to vote
on all matters on an as-converted basis. In addition, the vote of at least a
majority of the outstanding shares of convertible preferred stock, voting as a
single class, shall be necessary for effecting or validating significant
corporate actions specified in the certificate of incorporation.
The Company has agreed that until the conversion of the preferred stock,
the Company will adhere to certain restrictive covenants. Among other
restrictions, the most significant covenants relate to capital expenditures,
asset sales, restricted payments, additional debt incurrence and equity
issuance. As of December 31, 2002, the Company was in compliance with the
covenants under the agreement.
NOTE 16 - COMMON STOCK
Due to the reorganization discussed in Note 2, the Company has authorized
300,000,000 shares of class A common stock at $0.0001 par value. Additionally,
the Company has authorized 75,000,000 shares of class B common stock at $0.0001
par value. Each holder of class A common stock is entitled to one vote per share
and each holder of class B common stock is entitled to ten votes per share. Both
classes of common stock have equal dividend rights. As of December 31, 2002, the
Company had issued 26,646 and 58,458,354 shares of class A and class B stock,
respectively, and had granted warrants to acquire 6,315,960 shares of class A
common stock (Notes 11 and 17).
F-31
HORIZON PCS, INC.
Notes to Consolidated Financial Statements
As of December 31, 2002 and 2001,
And for the Years Ended December 31, 2002, 2001 and 2000
- --------------------------------------------------------------------------------
NOTE 16 - COMMON STOCK (CONTINUED)
In June 2000, in conjunction with the Bright PCS purchase (Note 5), the
Company received a distribution of its own stock from a former Bright PCS
stockholder, valued at $111,061. The 13,066 shares of class B common stock
distributed by the former Bright PCS stockholder are held in treasury stock. At
December 31, 2002, 58,445,288 shares of class B common stock remain outstanding.
In September 2001, a previous owner of Bright PCS gifted 26,646 shares of
the Company's class B common stock. This transaction resulted in the conversion
of the class B shares into 26,646 shares of the Company's class A common stock.
NOTE 17 - SPRINT PCS WARRANTS
The Company agreed to grant to Sprint warrants to acquire 2,510,460 shares
of class A common stock in exchange for the right to service PCS markets in
additional areas. By September 30, 2000, Sprint had substantially completed its
obligations under the agreement and the Company completed the required purchase
of certain Sprint assets. The Company valued the warrants and recorded an
intangible asset of approximately $13,356,000 (based on a share price of $5.88
per share, valued using the Black-Scholes pricing model using an expected
dividend yield of 0.0%, a risk-free interest rate of 6.5%, expected life of 10
years and a volatility of 95%). The intangible asset is being amortized over the
remaining term of the Sprint management agreement resulting in approximately
$752,000 of amortization expense per year. The warrants will be issued to Sprint
at the earlier of an initial public offering of the Company's common stock or
July 31, 2003.
NOTE 18 - STOCK OPTION PLANS
In 1999, the Company adopted a stock option plan (the "Plan") pursuant to
which the Company's Board of Directors may grant stock options to officers, key
employees and certain non-employees. The Plan authorizes grants of options to
purchase up to 11,696,883 shares authorized but unissued common stock (7,500,000
shares of class A common stock and 4,196,883 shares of class B common stock).
Stock options are granted with an exercise price equal to the stock's fair
market value at the date of grant. All stock options have 10-year terms and vest
and become fully exercisable after four to six years from the date of grant.
At December 31, 2002, there were 7,183,030 additional shares available for
grant under the Plan. The per share weighted-average fair value of stock options
granted during 2002 and 2000 was $5.02 and $4.75 on the date of grant using the
Black Scholes option-pricing model with the following weighted-average
assumptions: 2002 - expected dividend yield 0%, risk-free interest rate of 5%,
volatility of 95% and an expected life of 10 years; 2000 - expected dividend
yield 0%, risk-free interest rate of 5.5%, volatility of 95% and an expected
life of 10 years.
The Company applies APB Opinion No. 25 in accounting for the options
granted to officers and key employees under its Plan. The Company applies SFAS
No. 123 in accounting for the options granted to certain non-employees under its
Plan. Pursuant to this, the Company will recognize approximately $3,057,000 in
compensation expense over the exercise period of the options (through 2005). The
accompanying consolidated financial statements reflect a non-cash compensation
charge relating to the Plan of approximately $631,000, $709,000 and $490,000 for
the years ended December 31, 2002, 2001 and 2000, respectively.
F-32
HORIZON PCS, INC.
Notes to Consolidated Financial Statements
As of December 31, 2002 and 2001,
And for the Years Ended December 31, 2002, 2001 and 2000
- --------------------------------------------------------------------------------
NOTE 18 - STOCK OPTION PLANS (CONTINUED)
Stock option activity during the periods indicated is as follows:
NUMBER OF WEIGHTED- NUMBER OF WEIGHTED-
CLASS A AVERAGE CLASS B AVERAGE
OPTIONS EXERCISE PRICE OPTIONS EXERCISE PRICE
-------------- -------------- -------------- --------------
Balance at December 31, 1999......................... -- $ -- 4,196,883 $ 0.12
Granted............................................. 116,971 5.88 -- --
Exercised........................................... -- -- -- --
Forfeited........................................... -- -- -- --
------------ ------------- ------------ -------------
Balance at December 31, 2000......................... 116,971 5.88 4,196,883 0.12
------------ ------------- ------------- -------------
Granted............................................. -- -- -- --
Exercised........................................... -- -- -- --
Forfeited........................................... -- -- -- --
------------ ------------- ------------ -------------
Balance at December 31, 2001......................... 116,971 5.88 4,196,883 0.12
------------ ------------- ------------- -------------
Granted............................................. 200,000 5.60 -- --
Exercised........................................... -- -- -- --
Forfeited........................................... -- -- -- --
------------ ------------- ------------ -------------
Balance at December 31, 2002......................... 316,971 $ 5.70 4,196,883 $ 0.12
============ ============= ============= =============
The following table summarizes information about employee options
outstanding at December 31, 2002:
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
----------------------------------------------------- ----------------------------------
WEIGHTED-
AVERAGE
WEIGHTED- REMAINING WEIGHTED-
RANGE OF AVERAGE CONTRACTUAL AVERAGE
EXERCISE PRICE NUMBER EXERCISE PRICE LIFE NUMBER EXERCISE PRICE
- ------------------- ---------------- ---------------------------------- ---------------- ----------------
$ 0.12(1) 4,196,883 $ 0.12 5.88 2,804,648 $ 0.12
5.60 - 5.88(2) 316,971 5.70 8.58 51,175 5.88
---------------- ---------------- ---------------- ---------------- ----------------
4,513,854 $ 0.51 6.07 2,855,823 $ 0.22
================ ================ ================ ================ ================
(1) class B common stock
(2) class A common stock
NOTE 19 - DISCONTINUED OPERATIONS
Effective April 1, 2000, the Company transferred its Internet, long
distance and other businesses unrelated to its wireless operations to Horizon
Technology (formerly United Communications, Inc.), a wholly-owned subsidiary of
the Parent. Accordingly, the results of operations for these business units have
been reported as discontinued operations. At December 31, 2000, the Company had
an interest bearing note receivable of approximately $700,000 from Horizon
Technology which was repaid during 2001.
Operating results for the year ended December 31, 2000 for these businesses
are as follows:
2000
--------------
Total revenue.......................................... $ 1,046,313
Operating income before income taxes................... 214,008
Earnings before income taxes........................... 214,008
Income tax expense..................................... (72,763)
--------------
Net income from discontinued operations................ $ 141,245
==============
F-33
HORIZON PCS, INC.
Notes to Consolidated Financial Statements
As of December 31, 2002 and 2001,
And for the Years Ended December 31, 2002, 2001 and 2000
- --------------------------------------------------------------------------------
NOTE 20 - EXTRAORDINARY LOSS
As a result of the September 26, 2000, financings described in Note 11, the
Company retired long-term debt payable to financial institutions. As a result of
these early debt extinguishments, the Company expensed the unamortized portion
of the related financing costs as well as fees associated with the debt
extinguishments. These fees and expenses amounted to approximately $748,000
during 2000 and are shown on the consolidated statements of operations net of a
tax benefit of approximately $262,000.
NOTE 21 - DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS
SFAS No. 107 requires disclosure of the fair value of all financial
instruments. For purposes of this disclosure, the fair value of a financial
instrument is the amount at which the instrument could be exchanged in a current
transaction between willing parties, other than in a forced or liquidation sale.
Fair value may be based on quoted market prices for the same or similar
financial instruments or on valuation techniques such as the present value of
estimated future cash flows using a discount rate commensurate with the risks
involved.
The estimates of fair value required under SFAS No. 107 require the
application of broad assumptions and estimates. Accordingly, any actual exchange
of such financial instruments could occur at values significantly different from
the amounts disclosed. As cash and cash equivalents, current receivables,
current payables and certain other short-term financial instruments are all
short term in nature, their carrying amounts approximate fair value. The
carrying values of restricted cash approximate fair value as the investment
funds are short-term. The Company's secured credit facility is based on
market-driven rates and, therefore, its carrying value approximates fair value.
The fair values of the senior and discount notes, set forth below, were based on
market rates for the Company's notes.
RECORDED
FAIR VALUE VALUE
---------------- ---------------
December 31, 2002................... $ 18,100,000 $ 361,284,349
December 31, 2001................... 316,600,000 334,055,642
In the first quarter of 2001, the Company entered into a two-year interest
rate swap, effectively fixing $25,000,000 of a term loan under the secured
credit facility (Note 11) at a rate of 9.4%. In the third quarter of 2001, the
Company entered into a two-year interest rate swap, effectively fixing the
remaining $25,000,000 borrowed under the secured credit facility at 7.65%. The
swaps have been designated as a hedge of a portion of the future variable
interest cash flows expected to be paid under the secured credit facility
borrowings. A gain of approximately $443,000 was recorded in other comprehensive
income during the year ended December 31, 2002. The Company also recognized a
loss of approximately $49,000 and $176,000, as interest income and other and
other in the statement of operations during 2002 and 2001, respectively, related
to the ineffectiveness of the hedge. Other comprehensive income may fluctuate
based on changes in the fair value of the swap instrument. The Company has
recorded a liability in accrued liabilities in the accompanying consolidated
balance sheet of approximately $619,000 at December 31, 2002, related to the
swaps. These mature in 2003.
NOTE 22 - RELATED PARTIES
The Company has non-interest bearing receivables from and payables to other
subsidiaries of the Parent related to advances made to and received from or for
services received from those affiliated companies. As a result of the sale of
convertible preferred stock (Note 15), the Company is not able to participate in
the tax-sharing agreement discussed in Note 12. At December 31, 2001, the
Company had a net receivable from the Parent for Federal income taxes. During
2002, the Company received payment from the Parent for this receivable. The
balances due to and due from related parties as of December 31, 2002 and 2001,
are as follows:
F-34
HORIZON PCS, INC.
Notes to Consolidated Financial Statements
As of December 31, 2002 and 2001,
And for the Years Ended December 31, 2002, 2001 and 2000
- --------------------------------------------------------------------------------
NOTE 22 - RELATED PARTIES (CONTINUED)
DECEMBER 31, DECEMBER 31,
2002 2001
--------------- -----------------
Receivable from affiliates............................ $ 8,497 $ 100,437
Receivable from Parent................................ -- 483,785
During 2002, 2001 and 2000, affiliated companies provided the Company
management, supervision and administrative services including financial,
regulatory, human resource and other administrative and support services. These
agreements have a term of three years, with the right to renew the agreement for
additional one-year terms each year thereafter. The cost of the management
services, excluding amounts allocated to discontinued operations, for the years
ended December 31, 2002, 2001, and 2000 was approximately $5,244,000,
$6,217,000, and $4,444,000, respectively.
NOTE 23 - SUPPLEMENTARY FINANCIAL INFORMATION (UNAUDITED)
The quarterly results of operations for the years ended December, 31 2002
and 2001:
FOR THE THREE MONTHS ENDED
-----------------------------------------------------------
MARCH 31 JUNE 30 SEPTEMBER 30 DECEMBER 31
------------- ------------- ------------- -------------
(Dollars in thousands, except per share data)
Fiscal Year 2002:
- ----------------
Total revenues................................ $ 48,210 $ 51,814 $ 56,061 $ 59,953
Operating loss................................ (24,755) (28,215) (25,142) (41,224)
Impairment of goodwill and impact of
acquisition-related deferred taxes.......... -- -- -- (13,222)
Net loss available to common shareholders..... (39,607) (45,526) (43,318) (60,253)
Basic and diluted net loss per share available
to common shareholders...................... $ (0.68) $ (0.78) $ (0.74) $ (1.03)
Fiscal Year 2001:
- ----------------
Total revenues................................ $ 19,254 $ 24,771 $ 35,204 $ 44,075
Operating loss................................ (16,194) (21,739) (23,271) (29,507)
Net loss available to common shareholders..... (22,094) (30,004) (31,503) (40,811)
Basic and diluted net loss per share available
to common shareholders....................... $ (0.38) $ (0.51) $ (0.54) $ (0.70)
F-35
1589938