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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
--------------
FORM 10-Q
(Mark One)
|X| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE
ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2002.
OR
|_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934.
Commission File Numbers: 333-47682, 333-47688
iPCS, Inc.
(Exact name of registrant as specified in its charter)
Delaware 36-4350876
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
Harris Tower, 233 Peachtree St. NE, Suite 1700,
Atlanta, Georgia 30303
(Address of principal executive offices) (Zip code)
(404) 525-7272
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by section 13 or 15(d) of the Securities and 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 |_|
All outstanding shares of the registrant's common stock are owned by
AirGate PCS, Inc.
The registrant meets the conditions set forth in General Instruction
H(1)(a) and (b) of Form 10-Q and is therefore filing this Form with the reduced
disclosure format that omits the following Part II Items: Item 2, Changes in
Securities; Item 3, Defaults Upon Senior Securities; and Item 4, Submission of
Matters to a Vote of Security Holders. The reduced disclosure format also omits
Item 3 of Part I, Quantitative and Qualitative Disclosures About Market Risk. In
addition, Item 2 of Part I, Management's Discussion and Analysis of Financial
Condition and Results of Operations has reduced disclosure that omits
comparative analysis of operating results for the interim comparative three
month periods.
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iPCS, INC.
THIRD QUARTER REPORT
TABLE OF CONTENTS
PART I FINANCIAL INFORMATION
Item 1. Financial Statements .............................................. 3
Condensed Consolidated Balance Sheets at June 30, 2002 and
September 30, 2001 (unaudited) .................................... 3
Condensed Consolidated Statements of Operations for the
three months and nine months ended June 30, 2002
and 2001 (unaudited) .............................................. 4
Condensed Consolidated Statements of Cash Flows for the nine
months ended June 30, 2002 and 2001 (unaudited) ................... 5
Notes to the Consolidated Financial Statements (unaudited) ........ 6
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations. ............................................ 15
PART II OTHER INFORMATION
Item 1. Legal Proceedings ................................................. 29
Item 2. Changes in Securities and Use of Proceeds ......................... 29
Item 3. Defaults Upon Senior Securities ................................... 29
Item 4. Submission of Matters to a Vote of Security Holders ............... 29
Item 5. Other Information ................................................. 29
Item 6. Exhibits and Reports on Form 8-K .................................. 39
2
PART I. FINANCIAL INFORMATION
Item 1. -- FINANCIAL STATEMENTS
iPCS, INC. AND SUBSIDIARIES
(A Wholly-Owned Unrestricted Subsidiary of AirGate PCS, Inc.)
CONDENSED CONSOLIDATED BALANCE SHEETS
(unaudited)
(dollars in thousands, except share amounts)
June 30, September 30,
2002 2001
-------- -------------
Assets
Current assets:
Cash and cash equivalents .................................................................. $ 19,631 $ 54,579
Accounts receivable, net of allowance for doubtful accounts of $5,882 and $2,713
respectively .......................................................................... 11,599 11,752
Receivable from Sprint, net of allowance for access fees of $2,286 and $ -, respectively ... 4,607 4,816
Inventories, net of reserves for excess/obsolescence of $165 and $112, respectively ........ 2,038 3,379
Prepaid expenses ........................................................................... 2,721 3,007
Direct customer activation costs ........................................................... 2,490 1,720
Other current assets ....................................................................... -- 72
--------- ---------
Total current assets ................................................................... 43,086 79,325
Property and equipment, net of accumulated depreciation of $45,253 and $22,067, respectively .... 234,986 198,161
Financing costs ................................................................................. 9,029 9,558
Intangible assets, net of accumulated amortization of $4,314 and $1,778, respectively (note 9) .. 28,278 39,934
Goodwill (note 9) ............................................................................... 8,060 --
Other assets .................................................................................... 1,521 1,778
--------- ---------
$ 324,960 $ 328,756
========= =========
Liabilities and Stockholders' Equity (Deficit)
Current liabilities:
Accounts payable and accrued expenses ...................................................... $ 23,543 $ 25,629
Payable to Sprint .......................................................................... 19,228 10,306
Payable to AirGate PCS, Inc. ............................................................... 723 --
Deferred revenue ........................................................................... 7,346 4,742
Current maturities of long-term debt and capital lease obligations (note 4) ................ 4 7
--------- ---------
Total current liabilities .............................................................. 50,844 40,684
Other long-term liabilities ..................................................................... 13,511 11,694
Long-term debt and capital lease obligations, excluding current maturities (note 4) ............. 283,573 208,709
--------- ---------
Total liabilities ...................................................................... 347,928 261,087
--------- ---------
Redeemable preferred stock $0.01 par value; 75,000,000 shares authorized; no shares and
23,090,909 shares issued and outstanding at June 30, 2002 and at September 30, 2001,
respectively ................................................................................. -- 121,548
--------- ---------
Commitments and contingencies (note 12) .............................................. -- --
--------- ---------
Stockholders' equity (deficit):
Common stock, $0.01 par value; 1000 shares and 300,000,000 shares authorized, 1000 shares and
44,869,643 shares issued and outstanding at June 30, 2002 and September 30, 2001, respectively -- 449
Additional paid-in-capital ...................................................................... 192,850 70,853
Unearned stock compensation ..................................................................... -- (3,985)
Accumulated deficit ............................................................................. (215,818) (121,196)
--------- ---------
Total stockholders' equity (deficit) ................................................... (22,968) (53,879)
--------- ---------
$ 324,960 $ 328,756
========= =========
See accompanying notes to the unaudited condensed consolidated financial statements.
3
iPCS, INC. AND SUBSIDIARIES
(A Wholly-Owned Unrestricted Subsidiary of AirGate PCS, Inc.)
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(unaudited)
(dollars in thousands, except share and per share amounts)
Three Months Ended Nine Months Ended
June 30, June 30,
--------------------------- --------------------------
2002 2001 2002 2001
--------------------------- -------------------------
Revenues:
Service revenues ............................................... $ 29,748 $ 15,710 $ 82,611 $ 30,504
Roaming revenues ............................................... 10,701 8,061 32,547 16,789
Equipment revenues ............................................. 1,042 1,798 5,158 4,333
-------------------------- -------------------------
Total revenues ............................................. 41,491 25,569 120,316 51,626
-------------------------- -------------------------
Operating Expenses
Cost of services and roaming (exclusive of depreciation,
as shown separately below) ................................... (31,808) (19,246) (92,937) (38,468)
Cost of equipment .............................................. (3,428) (3,239) (14,229) (9,397)
Selling and marketing .......................................... (11,428) (8,843) (33,272) (25,325)
General and administrative expenses ............................ (1,713) (1,982) (24,719) (8,655)
Non-cash stock compensation expense ............................ -- (507) (3,985) (1,546)
Depreciation ................................................... (9,371) (5,096) (23,613) (11,142)
Amortization of intangible assets .............................. (1,380) -- (2,537) (477)
Asset impairments (note 10) .................................... -- -- (6,395) --
-------------------------- -------------------------
Total operating expenses ................................... (59,128) (38,913) (201,687) (95,010)
-------------------------- -------------------------
Operating loss ............................................. (17,637) (13,344) (81,371) (43,384)
-------------------------- -------------------------
Interest income ..................................................... 291 926 550 4,392
Interest expense .................................................... (7,037) (4,782) (18,211) (16,164)
Other income (expense), net ......................................... -- 353 75 1,189
-------------------------- -------------------------
Loss before cumulative effect of the change in accounting
principle .................................................... (24,383) (16,847) (98,957) (53,967)
-------------------------- -------------------------
Cumulative effect of the change in accounting principle ....... -- -- 4,335 --
-------------------------- -------------------------
Net loss ....................................................... $ (24,383) $ (16,847) $(94,622) $ (53,967)
-------------------------- -------------------------
Loss before cumulative effect of the change in accounting
principle .................................................... $(24,383) $(16,847) (98,957) (53,967)
Dividends and accretion on redeemable preferred stock .......... -- (2,461) (47,624) (6,001)
-------------------------- -------------------------
Loss before cumulative effect of the change in accounting
principle available to common stockholders' .................. (24,383) (19,308) (146,581) (59,968)
Cumulative effect of the change in accounting principle ........ -- -- 4,335 --
-------------------------- -------------------------
Net loss available to common stockholders' ..................... $(24,383) $(19,308) $(142,246) $(59,968)
========================== =========================
See accompanying notes to the unaudited condensed consolidated financial statements.
4
iPCS, INC. AND SUBSIDIARIES
(A Wholly-Owned Unrestricted Subsidiary of AirGate PCS, Inc.)
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited)
(dollars in thousands)
Nine Months Ended
June 30,
2002 2001
---- ----
Cash flows from operating activities:
Net loss ..................................................................... $(94,622) $ (53,967)
Adjustments to reconcile net loss to net cash used in operating activities:
Asset impairments ............................................................ 6,395 --
Depreciation ................................................................. 23,613 11,142
Amortization of intangible assets ............................................ 2,537 477
Gain on tower sales .......................................................... -- (1,185)
Amortization of financing costs .............................................. 655 855
Provision for doubtful accounts .............................................. 6,888 1,748
Interest expense associated with accretion of discount ....................... 15,679 8,598
Non-cash stock compensation .................................................. 3,985 1,546
Cumulative effect of accounting change ....................................... (4,335) --
Changes in assets and liabilities:
Accounts receivable ...................................................... (7,921) (2,425)
Receivable from Sprint ................................................... 555 (7,108)
Inventories, net ......................................................... 1,341 (640)
Prepaid expenses, other current and long term assets ..................... (140) (1,914)
Accounts payable, accrued expenses and other long term liabilities ....... 5,824 17,229
Payable to Sprint ........................................................ 6,372 3,844
Deferred revenue ......................................................... 2,959 4,564
-------- ---------
Net cash used in operating activities ............................... (30,215) (17,236)
-------- ---------
Cash flows from investing activities:
Purchases of property and equipment .......................................... (65,559) (96,097)
Acquisition of the Iowa City/Cedar Rapids, Iowa Sprint PCS markets ........... -- (31,840)
Proceeds from tower sales .................................................... -- 11,740
Other ........................................................................ 955 1,155
-------- ---------
Net cash used in investing activities ............................... (64,604) (115,042)
-------- ---------
Cash flows from financing activities:
Proceeds from borrowings under senior credit facility ........................ 60,000 50,000
Payments made under capital lease obligations ................................ (4) (19)
Debt financing costs ......................................................... (125) (840)
Proceeds from sale of preferred stock ........................................ -- 65,730
Other ........................................................................ -- (46)
-------- ---------
Net cash provided by financing activities ........................... 59,871 114,825
-------- ---------
Net decrease in cash and cash equivalents ........................... (34,948) (17,453)
Cash and cash equivalents at beginning of period .................................. 54,579 108,233
-------- ---------
Cash and cash equivalents at end of period ........................................ $ 19,631 $ 90,780
======== =========
Supplemental disclosure of cash flow information - cash paid for interest ......... $ 2,708 $ 749
======== =========
Supplemental disclosure for non-cash investing activities:
Capitalized interest ......................................................... $ 6,044 $ 6,218
Purchase of property and equipment under capital lease obligation ............ $ 191 $ 250
Accrued dividends on preferred stock ......................................... $ 40,426 $ 5,564
Accretion to redemption of preferred stock ................................... $ 7,198 $ 437
See accompanying notes to the unaudited condensed consolidated financial statements.
5
iPCS, INC. AND SUBSIDIARIES
(A Wholly Owned Subsidiary of AirGate PCS, Inc.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
June 30, 2002
(unaudited)
(1) Business, Basis of Presentation and Summary of Significant Accounting
Policies
(a) Business and Basis of Presentation
iPCS, Inc. and subsidiaries (collectively, the "Company" or "iPCS") were created
for the purpose of becoming a leading provider of wireless Personal
Communication Services ("PCS"). On January 22, 1999, the Company entered into a
management and related agreements with Sprint whereby it became an affiliate of
Sprint with the exclusive right to market and provide Sprint PCS products and
services under the Sprint and Sprint PCS brand names in fifteen markets in
Illinois and Iowa. The Sprint agreements were amended in March 2000 to add
twenty additional markets. On February 28, 2001, the Sprint agreements were
amended to add the Iowa City and Cedar Rapids, Iowa markets to the Company's
territory. With these two amendments, the size of the Company's territory was
increased from a total population of 2.8 million residents to a total population
of 7.4 million residents. The unaudited consolidated financial statements
included herein includes the accounts of iPCS, Inc. and its subsidiaries, iPCS
Wireless, Inc. and iPCS Equipment, Inc. In the opinion of management, these
consolidated financial statements contain all of the adjustments, consisting of
normal recurring adjustments, necessary to present fairly, in summarized form,
the financial position and the results of operations of the Company. The
unaudited balance sheet as of June 30, 2002, the unaudited statements of
operations for the three and nine months ended June 30, 2002 and 2001, the
unaudited statement of cash flows for the nine months ended June 30, 2002 and
2001 and related footnotes have been prepared in accordance with accounting
principles generally accepted in the United States of America for interim
financial information and Rule 10-01 of Regulation S-X. Accordingly, they do not
include all of the information and footnotes required by accounting principles
generally accepted in the United States for complete financial statements. The
results of operations for the three months and nine months ended June 30, 2002,
are not indicative of the results that may be expected for the full fiscal
transitional year of 2002. The financial information presented herein should be
read in conjunction with the Company's Form 10-K for the year ended September
30, 2001 which includes information and disclosures not included herein. All
significant intercompany accounts and transactions have been eliminated in
consolidation. The Company did not elect the basis of push-down accounting as a
result of the merger with a subsidiary of AirGate PCS, Inc. ("AirGate"). Certain
reclassifications have been made to prior year balances to conform to the
current year presentation.
The PCS market is characterized by significant risks as a result of rapid
changes in technology, increasing competition and the cost associated with the
build-out of a PCS network. The Company's continuing operations are dependent
upon Sprint's ability to perform its obligations under the various agreements
between the Company and Sprint under which the Company has agreed to construct
and manage its Sprint PCS networks (the "Sprint Agreements"). Additionally, the
Company's ability to attract and maintain a sufficient customer base is critical
to achieving breakeven cash flow. Changes in technology, increased competition,
economic conditions or inability to achieve breakeven cash flow, among other
factors, could have an adverse effect on the Company's financial position and
results of operations.
(b) Revenue Recognition
The Company recognizes revenues when persuasive evidence of an arrangement
exists, services have been rendered, the price to the buyer is fixed or
determinable, and collectibility is reasonably assured. The Company's revenue
recognition polices are consistent with the guidance in Staff Accounting
Bulletin ("SAB") No. 101, "Revenue Recognition in Financial Statements," as
amended by SAB No. 101A and 101B. The Company records equipment revenue for the
sale of handsets and accessories to customers in its retail stores and to local
distributors in its territories. The Company does not record equipment revenue
on handsets and accessories purchased by its customers from national third party
retailers such as Radio Shack, Best Buy and Circuit City, or directly from
Sprint. 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 customers. The Company's
customers pay an activation fee when they initiate service. The Company defers
activation fee revenue over the average life of its customers, which is
estimated to be 30 months. The Company recognizes service revenue from its
customers as they use the service. The Company provides a reduction of recorded
revenue for billing adjustments and billing corrections. The Company provides
for a reduction of recorded revenue for rebates and discounts given to customers
on wireless handset sales in accordance with the Emerging Issues Task Force
("EITF"), EITF 01-9 "Accounting for Consideration Given by a Vendor to a
Customer (Including a Reseller of the Vendor's Products)". The Company
participates in the Sprint national and regional distribution program in which
national retailers such as Radio Shack sell Sprint PCS products and services. In
order to facilitate the
6
sale of Sprint PCS products and services, national retailers purchase wireless
handsets from Sprint for resale and receive compensation from Sprint for
products and services sold. For industry competitive reasons, Sprint subsidizes
the price of these handsets by selling the handsets at a price below cost. Under
the Company's management agreement with Sprint, when a national retailer sells a
handset purchased from Sprint to a subscriber in the Company's territory, the
Company is obligated to reimburse Sprint for the handset subsidy that Sprint
originally incurred. The national retailers sell Sprint wireless services under
the Sprint and Sprint PCS brands and marks. The Company does not receive any
revenues from the sale of wireless handsets by national retailers.The Company
classifies these Sprint wireless handset subsidy charges as a selling and
marketing expense for a wireless handset sale to a new customer and classifies
these subsidies as a cost of service for a wireless handset upgrade to an
existing customer.
Sprint retains 8% of collected service revenues from Sprint customers based in
the Company's markets and from non-Sprint customers who roam onto the Company's
network. The amount retained by Sprint is recorded as cost of service and
roaming. Revenues generated from the sale of handsets and accessories and from
roaming services provided to Sprint and other Sprint affiliate customers who are
not based in the Company's markets are not subject to the 8% affiliation fee for
Sprint.
The Company defers activation fee revenue and recognizes it using the
straight-line method over 30 months, which is the estimated average life of a
customer. The Company does not recognize revenue from customers for which the
likelihood of collecting such revenue is not reasonably assured. The accounting
policy for the recognition of direct customer activation costs is to defer such
costs when incurred and recognize it using the straight-line method over 30
months, which is the average life of a customer. The components of direct
customer activation costs are customer service activation fees, credit check
fees, loyalty call fees and welcome call fees charged to the Company by Sprint.
For the three months ended June 30, 2002 and 2001, the Company recognized
approximately $0.8 million and $0.2 million, respectively of activation fee
revenue. For the nine months ended June 30, 2002 and 2001, the Company
recognized approximately $2.0 million and $0.5 million, respectively of
activation fee revenue. For the three months ended June 30, 2002 and 2001, the
Company recognized approximately $0.6 million and $0.2 million, respectively of
direct customer activation costs. For the nine months ended June 30, 2002 and
2001, the Company recognized approximately $1.6 million and $0.5 million,
respectively of direct customer activation costs. As of June 30, 2002, the
Company has deferred $5.3 million of activation fee revenue and $3.9 million of
direct customer activation costs to future periods.
(c) Recently Issued Accounting Pronouncements:
In July 2002, the Financial Accounting Standards Board ("FASB") issued Statement
of Financial Accounting Standard ("SFAS") No. 146, "Accounting for Costs
Associated with Exit or Disposal Activities." SFAS No. 146 provides new guidance
on the recognition of costs associated with exit or disposal activities. The
standard requires companies to recognize costs associated with exit or disposal
activities when they are incurred rather than at the date of commitment to an
exit or disposal plan. SFAS No. 146 supercedes previous accounting guidance
provided by EITF 94-3 "Liability Recognition for Certain Employee Termination
Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred
in a Restructuring)." EITF 94-3 required recognition of costs at the date of
commitment to an exit or disposal plan. SFAS No. 146 is to be applied
prospectively to exit or disposal activities initiated after December 31, 2002.
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".
Among other things, this statement rescinds FASB Statement No. 4, "Reporting
Gains and Losses from Extinguishment of Debt" which required all gains and
losses from extinguishment of debt to be aggregated and, if material, classified
as an extraordinary item, net of related income tax effect. As a result, the
criteria in Accounting Principles Board ("APB") APB Opinion No. 30, "Reporting
the Results of Operations -- Reporting the Effects of Disposal of a Segment of a
Business, and Extraordinary, Unusual and Infrequently Occurring Events and
Transactions", will now be used to classify those gains and losses. The adoption
of SFAS No. 145 is not expected to have a material impact on the Company's
results of operations, financial position or cash flows.
In November 2001, the EITF issued EITF 01-9 "Accounting for Consideration Given
by a Vendor to a Customer (Including a Reseller of the Vendor's Products)". EITF
01-9 provides guidance on when a sales incentive or other consideration given
should be a reduction of revenue or an expense and the timing of such
recognition. The guidance provided in EITF 01-9 is effective for financial
statements for interim or annual periods beginning after December 15, 2001. The
Company occasionally offers rebates to customers that purchase wireless handsets
in its stores. The Company's historical policy regarding the recognition of
these rebates in the statement of operations is a reduction in the revenue
recognized on the sale of the wireless handset by the amount of the rebate
given. The Company's historical policy is in accordance with the guidance set
forth in EITF 01-9. Therefore, the adoption of EITF 01-9 did not have a material
impact on the Company's financial statements.
In August 2001, the FASB issued SFAS No. 144, "Accounting for the Impairment or
Disposal of Long-Lived Assets." SFAS No. 144 provides new guidance on the
recognition of impairment losses on long-lived assets with definite lives to be
held and used or
7
to be disposed of and also broadens the definition of what constitutes a
discontinued operation and how the results of a discontinued operation are to be
measured and presented. SFAS 144 is effective for fiscal years beginning after
December 15, 2001. Early adoption of this statement is permitted. The Company
has elected early adoption as of the beginning of its fiscal year on October 1,
2001. The adoption by the Company did not materially change the methods used by
the Company to measure impairment losses on long-lived assets.
In June 2001, the FASB issued SFAS No. 141, "Business Combinations", which is
effective for all business combinations initiated after June 30, 2001. SFAS No.
141 requires companies to account for all business combinations using the
purchase method of accounting, recognize intangible assets if certain criteria
are met, as well as provide additional disclosures regarding business
combinations and allocation of purchase price. The Company has adopted SFAS No.
141 as of July 1, 2001, and the impact of such adoption did not have a material
adverse impact on the Company's financial statements.
In June 2001, the FASB issued SFAS No. 142, "Goodwill and Other Intangible
Assets", which provides for non-amortization of goodwill and intangible assets
that have indefinite useful lives and annual tests of impairments of those
assets. The statement also provides specific guidance about how to determine and
measure goodwill and intangible asset impairments, and requires additional
disclosure of information about goodwill and other intangible assets. The
provisions of this statement are required to be applied starting with fiscal
years beginning after December 15, 2001 and applied to all goodwill and other
intangible assets recognized in its financial statements at that date. Goodwill
and intangible assets acquired after June 30, 2001 will be subject to the
non-amortization provisions of the statement. The Company adopted SFAS No. 142
as of October 1, 2001, and the impact of such adoption did not have a material
adverse impact on the Company's financial statements.
In June 2001, the FASB issued SFAS No. 143, "Accounting for Asset Retirement
Obligations". SFAS No. 143 requires the fair value of a liability for an asset
retirement obligation to be recognized in the period that it is incurred if a
reasonable estimate of fair value can be made. The associated asset retirement
costs are capitalized as part of the carrying amount of the long-lived asset.
SFAS No. 143 is effective for fiscal years beginning after June 15, 2002. The
adoption of SFAS No. 143 is not expected to have a material impact on the
Company's results of operations, financial position or cash flows.
(2) Change in Accounting Principle
In connection with the merger of the Company with AirGate (as discussed in Note
8), the Company changed its method of recognizing interest expense on its senior
discount notes effective as of October 1, 2001. While the Company's previous
method of accounting was in accordance with accounting principles generally
accepted in the United States of America, the Company believes it is preferable
to use the same methodology as its parent, AirGate. AirGate's method of
amortizing interest expense is also in accordance with accounting principles
generally accepted in the United States of America.
The cumulative effect of this change in accounting for the periods through
September 30, 2001, was a reduction in the carrying value of the senior notes by
$4.3 million along with a corresponding decrease in the Company's accumulated
deficit. In accordance with Accounting Principles Board Opinion No. 20,
"Accounting Changes", the change in accounting has been reflected as a
cumulative change in accounting effective as of October 1, 2001.
(3) Sprint Agreements
Under the Sprint agreements, Sprint provides the Company significant support
services such as customer service, billing, long distance transport services,
national network operations support, inventory logistics support, use of the
Sprint and Sprint PCS brand name, national advertising, national distribution
and product development. Additionally, the Company derives substantial roaming
revenue and expenses when Sprint and other Sprint affiliates' PCS wireless
customers incur minutes of use in the Company's territories and when the
Company's customers incur minutes of use in Sprint and other Sprint affiliates'
PCS territories. These transactions are recorded in the cost of service and
roaming and selling and marketing captions in the statement of operations. Cost
of service and roaming transactions relate to the 8% affiliation fee, long
distance, roaming expenses, billing support and customer care support. Purchased
inventory transactions relate to inventory purchased by the Company from Sprint
under the Sprint agreements. Selling and marketing transactions relate to
subsidized costs on wireless handsets and commissions under Sprint's national
distribution program. Amounts relating to the Sprint agreements for the three
and nine months ended June 30, 2002 and 2001, are as follows (dollars in
thousands):
Three Months Ended
---------------------
June 30, June 30,
2002 2001
-------- --------
Amounts incurred:
Cost of service and roaming ......... $17,358 $ 8,996
Purchased inventory ................. 3,421 4,819
Selling and marketing ............... 2,108 4,338
8
Nine Months Ended
---------------------
June 30, June 30,
2002 2001
-------- --------
Amounts incurred:
Cost of service and roaming ........... $51,654 $20,591
Purchased inventory ................... 15,294 16,857
Selling and marketing ................. 5,980 11,109
(4) Long-Term Debt and Capital Lease Obligations
Long-term debt consists of the following at June 30, 2002 and September 30, 2001
(dollars in thousands):
June 30, September 30,
2002 2001
--------- -------------
Senior credit facility ................................... $110,000 $ 50,000
Senior subordinated discount notes ....................... 173,007 158,336
Capital lease obligations ................................ 570 380
-------- --------
Total long-term debt and capital lease obligations .. 283,577 208,716
Current maturities of long-term debt and capital
lease obligations ................................. 4 7
-------- --------
Long-term debt and capital lease obligations,
excluding current maturities ...................... $283,573 $208,709
======== ========
As of June 30, 2002, $30.0 million remained available for borrowing under the
senior credit facility. The interest rate of the senior credit facility at June
30, 2002 was 5.6%. The interest rate is determined on a margin above either the
prime lending rate in the United States or the London Interbank Offer Rate.
On December 20, 2001, the Company entered into an amendment to the senior
secured credit facility that changed its fiscal year end from a calendar year
ending December 31 to a fiscal year ending September 30. This became effective
with the Company's new fiscal year starting October 1, 2001.
On September 28, 2001, the Company entered into an amendment to the senior
secured credit facility which included a consent to the merger with AirGate as
discussed in Note 8, and which amended certain covenant definitions and
requirements.
On February 23, 2001, the Company entered into an amendment to the senior
secured credit facility which included a consent to the expansion of its
territory to include the Iowa City and Cedar Rapids, Iowa markets which amended
certain covenant definitions and requirements.
On January 12, 2001, as required under the terms of the Company's senior secured
credit facility, the Company entered into an interest rate cap agreement. The
agreement expires in three years and caps the three-month LIBOR interest rate at
7.25%.
Following the Company's merger with AirGate, the Company proposed a new business
plan for fiscal year 2002 which would have violated the EBITDA loss covenants of
the senior secured credit facility in the second half of the fiscal year. On
February 14, 2002, the Company entered into an amendment which provided relief
under this EBITDA loss covenant and modified other requirements. At June 30,
2002, the Company was in compliance in all material respects with the covenants
under the senior secured credit facility.
(5) Reorganization
On July 12, 2000, Illinois PCS, LLC (the "Predecessor Company") reorganized its
business into a C Corporation in which members of the Predecessor Company
received 44,869,643 shares of common stock of iPCS, Inc. in exchange for their
ownership interests in the Predecessor Company. As of July 12, 2000, the
Predecessor Company merged with and into iPCS Wireless, Inc., a wholly-owned
subsidiary of iPCS, Inc. iPCS Equipment, Inc. was also formed and is a
wholly-owned subsidiary of iPCS Wireless, Inc. iPCS Wireless, Inc. will continue
the activities of the Predecessor Company and, for accounting purposes, this
transaction was accounted for as a reorganization of the Predecessor Company
into a C Corporation. iPCS, Inc. and its subsidiaries, including the Predecessor
Company, are collectively referred to as the "Company."
(6) Income Taxes
Prior to July 12, 2000, the Predecessor Company operated as a limited liability
company ("LLC") and, as a result, its losses were included in the income tax
returns of its members. Therefore, the accompanying consolidated financial
statements do not include any income tax amounts prior to July 12, 2000.
Subsequent to July 12, 2000, the date of reorganization as discussed in Note 5,
the
9
Company became a C Corporation and began accounting for income taxes in
accordance with SFAS No. 109, "Accounting for Income Taxes." The Company's
effective income tax rate for the interim periods presented is based on
management's estimate of the Company's effective tax rate for the applicable
year and differs from the federal statutory income tax rate primarily due to
nondeductible permanent differences, state income taxes and changes in the
valuation allowance for deferred income tax assets. Deferred income tax assets
and liabilities are recognized for differences between the financial statement
carrying amounts and the tax basis of assets and liabilities which result in
future deductible or taxable amounts and for net operating loss and tax credit
carryforwards. In assessing the valuation of deferred income tax assets,
management considers whether it is more likely than not that some portion of the
deferred income tax assets will be realized. The ultimate realization of
deferred income tax assets is dependent upon the generation of future taxable
income during the periods in which those temporary differences become
deductible. No benefit for federal income taxes has been recorded for the three
and nine months ended June 30, 2002, as the net deferred tax asset generated,
primarily from temporary differences related to the net operating loss carry
forwards, is offset by a full valuation allowance due to the Company's limited
operating history.
(7) Condensed Consolidating Financial Information
The senior discount notes are fully, unconditionally, and jointly and severally
guaranteed by iPCS Wireless, Inc. and iPCS Equipment, Inc., which are
wholly-owned restricted subsidiaries of iPCS, Inc. iPCS Wireless, Inc. holds the
operating assets of the Company and is the obligor under the Company's senior
secured credit facility. IPCS Equipment, Inc. holds certain tower equipment. The
following unaudited condensed consolidating financial information as of June 30,
2002 and September 30, 2001 and for the nine months ended June 30, 2002 and 2001
is presented for iPCS, Inc., iPCS Wireless, Inc., and iPCS Equipment, Inc.
(dollars in thousands):
Condensed Consolidating Balance Sheet
June 30, 2002
iPCS Wireless, iPCS Equipment,
IPCS, Inc. Inc. Inc. Eliminations Consolidated
---------- -------------- --------------- ------------ ------------
Cash and cash equivalents ................ $ 310 $ 19,323 $ (2) $ -- $ 19,631
Property and equipment, net .............. -- 199,330 35,740 (84) 234,986
Investment in subsidiaries ............... 357,532 (47,828) 14,638 (324,342) --
Other assets ............................. 13,986 56,357 -- -- 70,343
-------- -------- ------- --------- --------
Total assets ............................. $371,828 $227,182 $50,376 $(324,426) $324,960
-------- -------- ------- --------- --------
Current liabilities ...................... $ 35 $317,323 $57,828 $(324,342) $50,844
Other long-term .......................... -- 13,511 -- -- 13,511
Long-term debt ........................... 173,007 110,566 -- -- 283,573
-------- -------- ------- --------- --------
Total liabilities ........................ 173,042 441,400 57,828 (324,342) 347,928
Common stock ............................. -- -- -- -- --
Additional paid-in capital ............... 192,850 -- -- -- 192,850
Accumulated deficit ...................... 5,936 (214,218) (7,452) (84) (215,818)
-------- -------- ------- --------- --------
Total liabilities and stockholders'
equity(deficit) ................... $371,828 $227,182 $50,376 $(324,426) $324,960
======== ======== ======= ========= ========
Condensed Consolidating Statement of Operations
For the three months ended June 30, 2002
iPCS Wireless, iPCS Equipment,
IPCS, Inc. Inc. Inc. Eliminations Consolidated
---------- -------------- --------------- ------------ ------------
Total revenues .......................... $ -- $ 41,491 $ 4,680 $ (4,680) $ 41,491
Cost of revenues ........................ -- (36,141) (3,749) 4,654 (35,236)
Selling and marketing ................... -- (11,428) -- -- (11,428)
General and administrative .............. (21) (1,692) -- -- (1,713)
Other ................................... 1,696 (9,584) 1,142 -- (6,746)
Depreciation and amortization ........... (123) (9,310) (1,318) -- (10,751)
-------- -------- ------- --------- --------
Total expenses .......................... 1,552 (68,155) (3,925) 4,654 (65,874)
-------- -------- ------- --------- --------
Net income (loss) .................. 1,552 (26,664) 755 (26) (24,383)
======== ======== ======= ========= ========
10
Condensed Consolidating Balance Sheet
September 30, 2001
iPCS Wireless, iPCS Equipment,
IPCS, Inc. Inc. Inc. Eliminations Consolidated
---------- -------------- --------------- ------------ ------------
Cash and cash equivalents ................. $ 306 $ 53,890 $ 383 $ -- $ 54,579
Property and equipment, net ............... -- 160,546 37,651 (36) 198,161
Intangible assets, net .................... -- -- -- -- --
Other assets .............................. 349,169 106,414 7,692 (387,259) 76,016
-------- --------- -------- --------- ---------
Total assets ......................... $349,475 $ 320,850 $ 45,726 $(387,295) $ 328,756
======== --------- -------- --------- ---------
Current liabilities ....................... $ 739 $ 138,163 $ 3,836 $(102,054) $ 40,684
Other long-term ........................... -- 251,658 45,241 (285,205) 11,694
Long-term debt ............................ 158,336 50,373 -- -- 208,709
-------- --------- -------- --------- ---------
Total liabilities .................... 159,075 440,194 49,077 (387,259) 261,087
-------- --------- -------- --------- ---------
Redeemable preferred stock ................ 121,548 -- -- -- 121,548
-------- --------- -------- --------- ---------
Common stock .............................. 449 -- -- -- 449
Additional paid-in capital ................ 70,853 -- -- -- 70,853
Accumulated deficit ....................... 1,535 (119,344) (3,351) (36) (121,196)
Unearned stock option compensation ........ (3,985) -- -- -- (3,985)
-------- --------- -------- --------- ---------
Total liabilities and stockholders'
equity(deficit) .................... $349,475 $ 320,850 $ 45,726 $(387,295) 328,756
======== ========= ======== ========= =========
Condensed Consolidating Statement of Operations
For the nine months ended June 30, 2002
iPCS Wireless, iPCS Equipment,
IPCS, Inc. Inc. Inc. Eliminations Consolidated
---------- -------------- --------------- ------------ ------------
Total revenues ............................ $ -- $ 120,316 $ 9,887 $ (9,887) $ 120,316
Cost of revenues .......................... -- (109,128) (7,877) 9,839 (107,166)
Selling and marketing ..................... -- (33,272) -- -- (33,272)
General and administrative ................ (7,303) (17,416) -- -- (24,719)
Other ..................................... 7,739 (25,690) (3,620) -- (21,571)
Depreciation and amortization ............. (371) (23,298) (2,481) -- (26,150)
Asset impairments ......................... -- (6,395) -- -- (6,395)
Total expenses ............................ 65 (215,199) (13,978) 9,839 (219,273)
-------- --------- -------- --------- ---------
Loss before cumulative effect of the
change in accounting principle .......... 65 (94,883) (4,091) (48) (98,957)
Cumulative effect of the change in
accounting principle .................... 4,335 -- -- -- 4,335
-------- --------- -------- --------- ---------
Net Loss .................................. $ 4,400 $ (94,883) $ (4,091) $ (48) $ (94,622)
======== ========= ======== ========= =========
Condensed Consolidated Statement of Cash Flows
For the nine months ended June 30, 2002
iPCS Wireless, iPCS Equipment,
IPCS, Inc. Inc. Inc. Eliminations Consolidated
---------- -------------- --------------- ------------ ------------
Operating activities, net ................. $ 10,929 $ (39,441) (1,619) (84) $ (30,215)
Investing activities, net ................. -- (60,331) (4,357) 84 (64,604)
Financing activities, net ................. (10,925) 65,205 5,591 -- 59,871
-------- --------- -------- ---------- ---------
(Decrease) increase in cash and cash
equivalents ............................ 4 (34,567) (385) -- (34,948)
Cash and cash equivalents at beginning of
period ................................. 306 53,890 383 -- 54,579
-------- --------- -------- ---------- ---------
Cash and cash equivalents at end of period $ 310 $ 19,323 $ (2) $ -- $ 19,631
======== ========= ======== ========== =========
11
Condensed Consolidating Statement of Operations
For the nine months Ended June 30, 2001
iPCS Wireless, iPCS Equipment,
IPCS, Inc. Inc. Inc. Eliminations Consolidated
---------- -------------- --------------- ------------ ------------
Total revenues .......................... $ -- $ 51,626 $ 3,151 $(3,151) $ 51,626
Cost of revenues ........................ -- (48,116) (2,888) 3,139 (47,865)
Selling and marketing ................... -- (25,325) -- -- (25,325)
General and administrative .............. (3,300) (5,327) (28) -- (8,655)
Other ................................... 10,216 (20,254) (2,091) -- (12,129)
Depreciation and amortization ........... (371) (10,961) (287) -- (11,619)
-------- --------- ------- ------- ---------
Total expenses .......................... 6,545 (109,983) (5,294) 3,139 (105,593)
-------- --------- ------- ------- ---------
Net loss ................................ $ 6,545 $ (58,357) $(2,143) $ (12) $ (53,967)
======== ========= ======= ======= =========
Condensed Consolidating Statement of Operations
For the three months Ended June 30, 2001
iPCS Wireless, iPCS Equipment,
IPCS, Inc. Inc. Inc. Eliminations Consolidated
---------- -------------- --------------- ------------ ------------
Total revenues .......................... $ -- $ 25,569 $ 2,024 $(2,024) $ 25,569
Cost of revenues ........................ -- (22,694) (1,808) 2,017 (22,485)
Selling and marketing ................... -- (8,843) -- -- (8,843)
General and administrative .............. (136) (1,846) -- -- (1,982)
Other ................................... 3,481 (6,590) (901) -- (4,010)
Depreciation and amortization ........... (123) (4,732) (241) -- (5,096)
-------- --------- ------- ------- ---------
Total expenses .......................... 3,222 (44,705) (2,950) 2,017 (42,416)
-------- --------- ------- ------- ---------
Net loss ........................... $ 3,222 $(19,136) $ (926) $ (7) $ (16,847)
======== ========= ======= ======= =========
(8) Merger with AirGate PCS, Inc.
On August 28, 2001, the Company signed an agreement and plan of merger with
AirGate, a Sprint PCS network partner, pursuant to which a subsidiary of AirGate
and the Company combined in a tax-free stock for stock transaction on November
30, 2001. In connection with the merger, AirGate issued to the former
stockholders of iPCS approximately 12.4 million shares of AirGate common stock
and assumed options and warrants to purchase approximately 1.1 million shares of
AirGate common stock. At the effective time of the merger, each issued and
outstanding share of the Company's common stock was converted into the right to
receive approximately 0.1594 of a share of AirGate common stock, referred to as
the exchange ratio. All shares of the Company's preferred stock were converted
into the Company's common stock immediately prior to the effective time of the
merger. At the effective time of the merger, AirGate assumed each unexpired and
unexercised option and warrant to purchase shares of the Company's common stock
and converted it into an option or warrant to purchase AirGate common stock
based on one share of the Company's common stock equal to the exchange ratio of
AirGate's common stock. In addition, the exercise price per share of AirGate
common stock issuable under each converted option or converted warrant is equal
to the per share exercise price of the Company option or warrant divided by the
exchange ratio. The options became fully vested at the time of the merger and
the warrants will remain subject to the terms and conditions set forth in the
applicable warrant agreement.
(9) Goodwill and intangible assets
On January 10, 2001, the Company exercised its option to purchase from Sprint
certain telecommunications equipment and retail store assets and inventory
located in the Iowa City and Cedar Rapids, Iowa markets. Concurrently with the
closing, the Sprint management agreement which set forth the terms of the
Company's long-term affiliation with Sprint was amended to reflect the expansion
of the Company's territory to include these two additional Iowa markets. The
Company closed on this transaction on February 28, 2001 and paid approximately
$31.7 million for these two markets. The Company has accounted for this business
combination using the purchase method. The Company made a preliminary allocation
of the purchase price based on the fair values of the assets and liabilities
acquired and allocated any excess amount over fair value to the intangible asset
representing the right to provide service in the Iowa City and Cedar Rapids,
Iowa markets under the Sprint agreements. During the three months ended March
31, 2002, the Company obtained the services of a nationally recognized appraisal
firm to provide a final purchase price allocation. The final purchase price
allocation assigned approximately $14.1 million to the right to provide service
under the Sprint agreements, $5.8 million to customer base, $8.1 million to
goodwill, $2.9 million to property, plant and equipment and $0.8 million to
trade receivables. At March 31, 2002, the Company performed its annual test for
goodwill impairment as required under SFAS No. 142. There was no goodwill
impairment as a result of this test.
The changes in the carrying amount of goodwill between September 30, 2001 and
June 30, 2002 are as follows (dollars in
12
thousands):
Balance as of September 30, 2001 .................. $ --
Goodwill (from final purchase price allocation) ... 8,060
------
Balance as of June 30, 2002 ....................... $8,060
======
The carrying amount, accumulated amortization and estimated future amortization
expense of acquired definite life intangibles at June 30, 2002, are as follows
(dollars in thousands):
Gross Carrying Accumulated Amortization
Amount Amortization Period
------ ------------ ------
Amortized intangible assets:
Right to provide service under the Sprint agreements Iowa, Nebraska
and Michigan markets ..................................................... $17,645 $(2,322) 240 months
Right to provide service under the Sprint agreements - warrants issued
Iowa, Nebraska and Michigan markets ...................................... 9,147 (968) 240 months
Acquired customer base - Iowa markets ...................................... 5,800 (1,024) 30 months
------- -------
Total ............................................................... $32,592 $(4,314)
======= =======
The weighted average lives of amortized intangible assets is approximately 203
months or 16.9 years.
Estimated amortization expense for the fiscal years ended September 30,
2002 ................. $5,571
2003 ................. $3,183
2004 ................. $1,477
2005 ................. $1,477
2006 ................. $1,477
(10) Asset impairments
As a result of the Company's merger with AirGate, management committed to a new
business plan with respect to the Company's network build-out and selling and
marketing organizational structure. Accordingly, the carrying value of property
and equipment associated with identified locations affected by the committed to
business plans were adjusted to their fair value. These adjustments to fair
value resulted in impairments of approximately $6.4 million for the nine months
ended June 30, 2002. For the nine months ended June 30, 2002, approximately $3.1
million of lease obligations costs were accrued in general and administrative
costs, which represent the lease obligations associated with the exit of these
locations.
(11) Tower sales
On May 28, 1999, the Company signed a tower sale and leaseback agreement with
American Tower Corporation ("American Tower"). Under the agreement, the Company
was to locate sites for, develop and construct between sixty and eighty wireless
communications towers and then sell the towers to American Tower. The term of
this agreement, which was set to expire at the earlier of the date of the final
tower sale or December 31, 2000, was amended in November 2000 to extend the
expiration date to February 28, 2001.
During the nine months ended June 30, 2001 thirty towers were sold to American
Tower for approximately $6.9 million, resulting in a gain of approximately $3.3
million of which approximately $0.8 million was recognized at the time of the
sale and the remainder was deferred and is being amortized as a reduction to
rental expense over the initial lease term of ten years.
(12) Commitments and Contingencies
On July 3, 2002 the Federal Communications Commission (the "FCC") issued an
order in Sprint PCS 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 PCS
had such a contract with carriers such as AT&T. The Company has previously
received $1.0 million comprised of $1.1 million of terminating long distance
access revenues less $0.1 million of associated affiliation fees from Sprint
prior to the current
13
quarter, and Sprint PCS has asserted its right to recover these revenues net of
the affiliation fees from the Company. As a result of this ruling, and our
assessment of this contingency under SFAS No. 5, "Accounting for Contingencies",
we have taken a charge to current period revenue. However, we will continue to
assess the ability of Sprint, Sprint PCS or other carriers to recover these
charges and are continuing to review the availability of defenses we may have
against Sprint's claim to recover these revenues.
14
Item 2.-- MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS FORWARD-LOOKING STATEMENTS
Statements contained herein regarding expected financial results and other
planned events, including but not limited to, anticipated liquidity, churn
rates, ARPU, CPGA and CCPU (all as defined in the Results of Operations),
decreases in roaming rates, EBITDA (as defined in the Critical Accounting
Policies), capital expenditures and other statements that include words such as
"anticipate," "believe," "estimate," "expect," "intend," "plan," "seek",
"project" and similar expressions are forward-looking statements that involve
risk and uncertainties. Actual future events or results may differ materially
from these statements. Readers are referred to the documents filed by the
Company with the Securities and Exchange Commission, specifically the most
recent filings which identify important risk factors that could cause actual
results to differ from those contained in the forward-looking statements,
including:
o the ability to successfully integrate the businesses of AirGate and
iPCS;
o the competitiveness and impact of Sprint pricing plans, products and
services;
o customer credit quality;
o the ability of Sprint to provide back office, customer care and other
services and the costs of such services;
o rates of penetration in the wireless industry;
o our significant level of indebtedness;
o adequacy of bad debt and other reserves;
o the potential to experience a continued high rate of customer turnover;
o the potential need for additional sources of liquidity;
o anticipated future losses;
o customer purchasing patterns;
o potential fluctuations in quarterly results;
o an adequate supply of subscriber equipment; and
o risks related to future growth and expansion.
These and other applicable risks are summarized under the captions "Future
Trends That May Affect Operating Results and Liquidity" included in this Item 2
- - Management's Discussion and Analysis of Financial Condition and Results of
Operations" of this Form 10-Q and "Investment Considerations" included under
Item 5 - Other Information of this Form 10-Q and elsewhere in this report.
OVERVIEW
On January 22, 1999, the Company entered into a management and related
agreements with Sprint whereby it became an affiliate of Sprint with the
exclusive right to market 100% digital PCS wireless products and services under
the Sprint and Sprint PCS brand names in fifteen markets in Illinois and Iowa.
The Sprint agreements were amended in March 2000 to add twenty additional
markets. On February 28, 2001, the Sprint agreements were amended to add the
Iowa City and Cedar Rapids, Iowa markets to the Company's territory. With these
two amendments, the size of the Company's territory was increased from a total
population of 2.8 million residents to a total population of 7.4 million
residents.
The Company is a wholly-owned unrestricted subsidiary of AirGate PCS, Inc.,
which acquired the Company on November 30, 2001. As required by the terms of the
Company's and AirGate's outstanding indebtedness, the Company conducts its
business as a separate entity from AirGate.
Under the Sprint agreements, the Company manages its network on Sprint's
licensed spectrum and has the right to use the Sprint PCS brand name
royalty-free during the Company's PCS affiliation with Sprint. The Company also
has access to Sprints' national marketing support and distribution programs and
is generally entitled to buy network and customer equipment and handsets at the
same discounted rates offered by vendors to Sprint based on its large volume
purchases. In exchange for these and other benefits,
15
the Company pays an affiliation fee of 8% of collected revenues to Sprint. The
Company is entitled to 100% of revenues collected from the sale of handsets and
accessories and on roaming revenues received when Sprint and other Sprint PCS
affiliate customers from a different territory make a wireless call on the
Company's PCS network.
At June 30, 2002, the Company's Sprint PCS network covered 5.6 million of the
7.4 million residents in its Sprint PCS territory based on estimates compiled by
Equifax, Inc.
CRITICAL ACCOUNTING POLICIES
The Company relies on the use of estimates and makes assumptions that impact its
financial condition and results. These estimates and assumptions are based on
historical results and trends as well as the Company's forecasts as to how these
might change in the future. Some of the most critical accounting policies that
might materially impact the Company's results include:
Allowance for Doubtful Accounts
Estimates are used in determining the Company's allowance for doubtful accounts
and are based both on historical collection experience, current trends, credit
policy and on a percentage of accounts receivables by aging category. In
determining these percentages, the Company looks at historical write-offs in
relation to the period in which the subscriber was originally billed. The
Company also reviews the average length of time that elapses between the
original billing date and the date of write-off in determining the adequacy of
the allowance for doubtful accounts by aging category. Accordingly, the Company
assigns allowance percentages to each aging category. The Company provides an
allowance for substantially all receivables over 90 days old based on the
Company's knowledge of Sprint collection policies and procedures. Bad debt
expense as a percentage of service revenues for the three and nine months ended
June 30, 2002 was 7.8% and 8.6%, respectively. Bad debt expense as a percentage
of service revenues for the three and nine months ended June 30, 2001, was 5.3%
and 5.7%, respectively. The allowance for doubtful accounts as of June 30, 2002
and September 30, 2001 was $5.9 million and $2.7 million, respectively. If the
allowance for doubtful accounts is not adequate, it would have a negative effect
on operating income, EBITDA and available cash.
The Company also reviews current trends in the credit quality of its customer
base and changes in its credit policies. For the nine months ended June 30,
2002, 50% of the Company's customer base consisted of sub-prime credit quality
customers. Under the Sprint service plans, customers who do not meet certain
credit criteria can nevertheless select any plan offered subject to an
account-spending limit, referred to as ASL, to control credit 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 of $125 that could be credited against future billings. In May 2001, the
deposit requirement was eliminated on all credit classes ("NDASL"). On November
15, 2001, the NDASL program had been replaced, in the Company's territories, by
the "Clear Pay program" which requires a $125 deposit requirement for the lowest
credit class and featured increased back-office controls with respect to credit
collection efforts. On February 24, 2002, the Clear Pay program was superceded
in the Company's territories by the "Clear Pay II program", which re-instituted
the deposit requirement across all new sub-prime credit quality customers and
not just the lowest credit class. The Company has removed the deposit
requirement from all but the lowest sub-prime credit quality customers. The
removal of the deposit requirement could increase the number of sub-prime credit
quality customers, and such increases could, in turn, increase bad debt and
uncollectible accounts.
Reserve for First Payment Default Customers
The Company reserves a portion of its new customers and related revenues from
those customers that the Company anticipates will never pay a bill. Using
historical information of the percentage of customers whose service was
cancelled for non-payment without ever making a payment, the Company estimates
the number of customers activated in the current period that will never pay a
bill. For these customers, the Company does not recognize revenue and does not
consider them as customer additions. As a result, these customers are not
included in the churn statistics or subscriber count. At June 30, 2002 and
September 30, 2001, the Company had in reserve approximately 2,461 and 4,000
customers, respectively.
Reserve for Excess Obsolete Inventory
The Company currently records a reserve for obsolete or excess handset inventory
for models that remain in inventory after 60 days of being discontinued by
Sprint PCS. With the migration to 1XRTT , the Company will need to continue to
monitor the depletion of its current inventory levels. If the Company does not
deplete the inventory that is not capable of providing 1XRTT services prior to
the complete rollout of 1XRTT, it may have to record a reserve for any remaining
obsolete inventory due to lower realizable retail prices on those handsets. If
the estimate of obsolete or excess inventory is understated, inventory,
operating income and EBITDA would be reduced.
16
Revenue Recognition
The Company recognizes revenues when persuasive evidence of an arrangement
exists, services have been rendered, the price to the buyer is fixed or
determinable, and collectibility is reasonably assured. The Company's revenue
recognition polices are consistent with the guidance in Staff Accounting
Bulletin ("SAB") No. 101, "Revenue Recognition in Financial Statements," as
amended by SAB No. 101A and 101B. The Company records equipment revenue for the
sale of handsets and accessories to customers in its retail stores and to local
distributors in its territories. The Company does not record equipment revenue
on handsets and accessories purchased by its customers from national third party
retailers such as Radio Shack, Best Buy and Circuit City, or directly from
Sprint. 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 customers. The Company's
customers pay an activation fee when they initiate service. The Company defers
activation fee revenue over the average life of its customers, which is
estimated to be 30 months. The Company recognizes service revenue from its
customers as they use the service. The Company provides a reduction of recorded
revenue for billing adjustments and billing corrections. The Company provides
for a reduction of recorded revenue for rebates and discounts given to customers
on wireless handset sales in accordance with EITF 01-9 "Accounting for
Consideration Given by a Vendor to a Customer (Including a Reseller of the
Vendor's Products)". The Company participates in the Sprint national and
regional distribution program in which national retailers such as Radio Shack
sell Sprint products and services. In order to facilitate the sale of Sprint
products and services, national retailers purchase wireless handsets from Sprint
for resale and receive compensation from Sprint for products and services sold.
For industry competitive reasons, Sprint subsidizes the price of these handsets
by selling the handsets at a price below cost. Under the Company's management
agreement with Sprint, when a national retailer sells a handset purchased from
Sprint to a subscriber in the Company's territory, the Company is obligated to
reimburse Sprint for the handset subsidy that Sprint originally incurred. The
national retailers sell Sprint wireless services under the Sprint and Sprint PCS
brands and marks. The Company does not receive any revenues from the sale of
wireless handsets by national retailers. The Company classifies these Sprint
wireless handset subsidy charges as a selling and marketing expense for a
wireless handset sale to a new customer and classifies these subsidies as a cost
of service for a wireless handset upgrade to an existing customer.
Goodwill and Intangible Assets
Purchase price accounting requires extensive use of accounting estimates and
judgments to allocate the purchase price to the fair market value of the assets
and liabilities purchased. In the Company's recording of the purchase of the
Iowa City and Cedar Rapids, Iowa markets, the Company engaged a nationally
recognized valuation expert to assist in determining the fair value of these
assets and liabilities. Included in the asset valuation for this purchase was
the valuation of three intangible assets: the Iowa City and Cedar Rapids, Iowa
customer base, the right to be the exclusive provider of Sprint services in the
Iowa City and Cedar Rapids territories and goodwill. For the customer base and
the right to provide service under the Sprint Agreements, finite useful lives of
thirty months and 205 months, respectively, have been assigned to these
intangible assets and they will each be amortized over these respective useful
lives. The Company evaluates acquired businesses for potential impairment
indicators whenever events or changes in circumstances indicate that the
carrying value may not be recoverable. Factors that management considers
important which could trigger an impairment review include the following:
o Significant decrease in the market value of an asset;
o Significant changes in the manner of use of the acquired assets or the
strategy for the overall business;
o Significant adverse change in legal factors or negative industry or
economic trends; and
o Significant underperformance relative to current period and/or
projected future operating profits or cash flows associated with
an asset; or
o Significant decline in the AirGate's stock price for a sustained period
of time.
The Company engaged a nationally recognized appraisal firm to perform the
required transitional goodwill impairment testing under SFAS 142. The Company
did not recognize any goodwill impairment as the appraised fair value of iPCS
exceeded the carrying value at March 31, 2002.
The Company continually monitors the fair value of its goodwill and intangible
assets. Future events could cause the Company to conclude that impairment
indicators exist and that goodwill or intangibles associated with the Company's
acquired businesses are impaired. Any resulting impairment loss could have a
material adverse impact on our financial condition and results of operations.
17
Income Taxes
As part of the process of preparing the Company's consolidated financial
statements' the Company is required to estimate its taxes in each of the
jurisdictions of operation. This process involves management estimating the
actual current tax exposure together with assessing temporary differences
resulting from differing treatment of items for tax and accounting purposes.
These differences result in deferred tax assets and liabilities, which are
included within the consolidated balance sheets. The Company must then assess
the likelihood that the deferred tax assets will be recovered from future
taxable income and to the extent the Company believes that recovery is not
likely, the Company must establish a valuation allowance. Future taxable income
depends on the Company's ability to generate income in excess of allowable
deductions. To the extent the Company establishes a valuation allowance or
increases this allowance in a period, an expense is recorded within the tax
provision in the consolidated statement of operations. Significant management
judgment is required in determining the Company's provision for income taxes,
its deferred tax assets and liabilities and any valuation allowance recorded
against net deferred tax assets. In the event that actual results differ from
these estimates or the Company adjusts these estimates in future periods, the
Company may need to establish an additional valuation allowance that could
materially impact the Company's financial condition and results of operations.
Reliance on the Timeliness and Accuracy of Data Received From Sprint
The Company places significant reliance on the timeliness and accuracy of
revenue and cost data related to its customer base that it receives on a monthly
basis from Sprint. The Company makes significant revenue, allowance for doubtful
accounts, cost of service and selling and marketing cost estimates based on data
it receives from Sprint. The Company obtains assurance to the accuracy of this
data through reliance on the "Statement of Attestation Services" (SAS) 70 report
on Sprint's internal control processes. Errors that are not reconciled on a
timely basis by Sprint could have a material adverse effect on the results of
operations and cash flows of the Company.
EBITDA
The Company defines EBITDA as earnings before interest, taxes, non-cash stock
compensation expense, depreciation, amortization of intangibles and asset
impairment losses. EBITDA as defined by the Company may not be comparable to
similarly titled measures by other companies.
NEW ACCOUNTING PRONOUNCEMENTS
In July 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated
with Exit or Disposal Activities." SFAS No. 146 provides new guidance on the
recognition of costs associated with exit or disposal activities. The standard
requires companies to recognize costs associated with exit or disposal
activities when they are incurred rather than at the date of commitment to an
exit or disposal plan. SFAS No. 146 supercedes previous accounting guidance
provided by the EITF 94-3 "Liability Recognition for Certain Employee
Termination Benefits and Other Costs to Exit an Activity (including Certain
Costs Incurred in a Restructuring)." EITF 94-3 required recognition of costs at
the date of commitment to an exit or disposal plan. SFAS No. 146 is to be
applied prospectively to exit or disposal activities initiated after December
31, 2002.
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".
Among other things, this statement rescinds FASB Statement No. 4, "Reporting
Gains and Losses from Extinguishment of Debt" which required all gains and
losses from extinguishment of debt to be aggregated and, if material, classified
as an extraordinary item, net of related income tax effect. As a result, the
criteria in Accounting Principles Board ("APB") APB Opinion No. 30, "Reporting
the Results of Operations -- Reporting the Effects of Disposal of a Segment of a
Business, and Extraordinary, Unusual and Infrequently Occurring Events and
Transactions", will now be used to classify those gains and losses. The adoption
of SFAS No. 145 is not expected to have a material impact on the Company's
results of operations, financial position or cash flows.
In November 2001, the EITF issued EITF 01-9 "Accounting for Consideration Given
by a Vendor to a Customer (Including a Reseller of the Vendor's Products)". EITF
01-9 provides guidance on when a sales incentive or other consideration given
should be a reduction of revenue or an expense and the timing of such
recognition. The guidance provided in EITF 01-9 is effective for financial
statements for interim or annual periods beginning after December 15, 2001. The
Company occasionally offers rebates to customers that purchase wireless handsets
in its stores. The Company's historical policy regarding the recognition of
these rebates in the statement of operations is a reduction in the revenue
recognized on the sale of the wireless handset by the amount of the rebate
given. The Company's historically policy is in accordance with the guidance set
forth in EITF 01-9. Therefore, the adoption of EITF 01-9 did not have a material
impact on the Company's financial statements.
In August 2001, the FASB issued SFAS No. 144, "Accounting for the Impairment or
Disposal of Long-Lived Assets." SFAS No. 144 provides new guidance on the
recognition of impairment losses on long-lived assets with definite lives to be
held and used or
18
to be disposed of and also broadens the definition of what constitutes a
discontinued operation and how the results of a discontinued operation are to be
measured and presented. SFAS 144 is effective for fiscal years beginning after
December 15, 2001. Early adoption of this statement is permitted. The Company
has elected early adoption as of the beginning of its fiscal year on October 1,
2001. The adoption by the Company did not materially change the methods used by
the Company to measure impairment losses on long-lived assets.
In June, 2001, the FASB issued SFAS No. 141, "Business Combinations", which is
effective for all business combinations initiated after June 30, 2001. SFAS No.
141 requires companies to account for all business combinations using the
purchase method of accounting, recognize intangible assets if certain criteria
are met, as well as provide additional disclosures regarding business
combinations and allocation of purchase price. The Company has adopted SFAS No.
141 as of July 1, 2001, and the impact of such adoption did not have a material
adverse impact on the Company's financial statements.
In June 2001, the FASB issued SFAS No. 142, "Goodwill and Other Intangible
Assets", which provides for non-amortization of goodwill and intangible assets
that have indefinite useful lives and annual tests of impairments of those
assets. The statement also provides specific guidance about how to determine and
measure goodwill and intangible asset impairments, and requires additional
disclosure of information about goodwill and other intangible assets. The
provisions of this statement are required to be applied starting with fiscal
years beginning after December 15, 2001 and applied to all goodwill and other
intangible assets recognized in its financial statements at that date. Goodwill
and intangible assets acquired after June 30, 2001 will be subject to the
non-amortization provisions of the statement. The Company adopted SFAS No. 142
as of October 1, 2001, and the impact of such adoption did not have a material
adverse impact on the Company's financial statements.
In June 2001, the FASB issued SFAS No. 143, "Accounting for Asset Retirement
Obligations". SFAS No. 143 requires the fair value of a liability for an asset
retirement obligation to be recognized in the period that it is incurred if a
reasonable estimate of fair value can be made. The associated asset retirement
costs are capitalized as part of the carrying amount of the long-lived asset.
SFAS No. 143 is effective for fiscal years beginning after June 15, 2002. The
adoption of SFAS No. 143 is not expected to have a material impact on the
Company's results of operations, financial position or cash flows.
RESULTS OF OPERATIONS
For the nine months ended June 30, 2002, compared to the nine months ended June
30, 2001:
Terms such as customer net additions, average revenue per user, churn, cost per
gross addition and cash cost per user are important operating metrics used in
the wireless telecommunications industry. None of these terms are measures of
financial performance under accounting principles generally accepted in the
United States. These terms, as used by the Company, may not be comparable to
similar terms used by other companies.
Customer Net Additions
As of June 30, 2002, the Company provided personal communication services to
195,143 customers compared to 134,927 customers as of September 30, 2001, a net
addition of 60,216 customers. The Company does not include in its customer base
an estimate of first payment default customers. The increase in net customers is
due to customers attracted from other wireless carriers and demand for wireless
services from new customers.
Average Revenue Per User
An important operating metric in the wireless industry is Average Revenue Per
User (ARPU). ARPU summarizes the average monthly service revenue per user,
excluding roaming revenue. ARPU is computed by dividing service revenue for the
period by the average subscribers for the period, which is net of an adjustment
for first payment default customers. For the nine months ended June 30, 2002,
ARPU was $55. For the nine months ended June 30, 2001, ARPU was $54. The
increase in ARPU is associated with the Company selling a higher proportion of
service plans greater than $49.99 a month during the nine months ended.
Offsetting this increase was the effect of the Company not recording terminating
access revenues paid by Sprint on behalf of long distance carriers for the nine
months ended June 30, 2002, and an out-of-period revenue adjustment for
terminating access revenues paid by Sprint on behalf of long distance carriers.
The effect of the out-of-period revenue adjustment for historical terminating
access revenues paid by Sprint on behalf of long distance carriers was
approximately $1.37 of ARPU. See note 12 of Item 1 of this report for a further
discussion.
Churn
Churn is the monthly rate of customer turnover expressed as the percentage of
the total customer base that both voluntarily and involuntarily discontinued
service during the month. Churn is computed by dividing the number of customers
that discontinued
19
service during the month, net of 30 day returns and an adjustment for estimated
first payment default customers, by the average customer base for the period.
Churn for the nine months ended June 30, 2002, was 2.8%, compared to 2.0% for
the nine months ended June 30, 2001. Churn for the three months ended June 30,
2002, was 2.9%, compared to 2.0% for the three months ended June 30, 2001. The
increase in churn is primarily a result of an increase in the number of
sub-prime credit quality customers the Company added whose service was
involuntarily discontinued during the period.
Cost Per Gross Addition
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. That net amount is then divided by the total
new customers acquired during the period, reduced for the reserve for first
payment default customers. CPGA was $376 for the nine months ended June 30,
2002, compared to $354 for the nine months ended June 30, 2001. The increase in
CPGA is the result of increased handset subsidies caused by greater handset
sales incentives and rebates and increased advertising.
Cash Cost Per User
Cash Cost Per User (CCPU) is a measure of the cash costs to operate the business
on a per user basis consisting of customer support, network operations, service
delivery, roaming expense, bad debt expense, wireless handset upgrade subsidies
and other general and administrative costs, divided by average subscribers. CCPU
was $62 for the nine months ended June 30, 2002, compared to $80 for the nine
months ended June 30, 2001. The decrease in CCPU is the result of the fixed
network and administrative cost component of CCPU being covered over a larger
average customer base.
Revenues
Service revenue and equipment revenue were $82.6 million and $32.5 million,
respectively, for the nine months ended June 30, 2002, compared to $30.5 million
and $16.8 million, respectively, for the nine months ended June 30, 2001, an
increase of $52.1 million and $15.7 million, respectively. These increased
revenues reflect the substantially higher average number of customers using the
Company's network. Service revenue consists of monthly recurring access and
feature charges and monthly non-recurring charges for local, wireless long
distance and roaming airtime usage in excess of the subscribed usage plan.
Equipment revenue is derived from the sale of handsets and accessories from
Company owned stores, net of sales incentives, rebates and an allowance for
returns. The Company's handset return policy allows customers to return their
handsets for a full refund within 14 days of purchase. When handsets are
returned to the Company, the Company may be able to reissue the handsets to
customers at little additional cost. However, when handsets are returned to
Sprint for refurbishing, the Company receives a credit from Sprint, which is
less than the amount the Company originally paid for the handset. For the three
months ended June 30, 2002, the Company did not record revenues from terminating
long distance access charges. Additionally, the Company recorded an out of
period revenue adjustment for terminating access revenue previously paid to the
Company by Sprint on behalf of long distance carriers. Sprint has made a claim
to these historical revenues that were remitted to the Company for the period
from January 2000 to March 2002. See note 12 of Item 1 for a further discussion.
Terminating access revenue not recorded by the Company for the three months
ended June 30, 2002 was approximately $0.8 million. Terminating access revenue
for which the Company reserved an out-of-period revenue adjustment was
approximately $0.6 million.
The Company recorded roaming revenue of $32.5 million during the nine months
ended June 30, 2002 (see roaming expense in Cost of Service and Roaming below),
compared to $16.8 million for the nine months ended June 30, 2001, an increase
of $15.7 million. The increase is attributable to the larger wireless customer
base for Sprint and its other Sprint PCS affiliates and additional covered
territory, partially offset by a lower average roaming rate per minute. The
Company receives roaming revenue at a per-minute rate from Sprint or other
Sprint PCS affiliates when Sprint PCS subscribers outside of the Company's
territory use the Company's network. For the nine months ended June 30, 2002,
such roaming revenue was $30.5 million, or 94% of the roaming revenue recorded
in the period. The Company also receives non-Sprint roaming revenue when
subscribers of other wireless service providers who have roaming agreements with
Sprint roam on the Company's network.
For the calendar year 2001, the Company's reciprocal roaming rate was $0.20 per
minute of use. Under an agreement in principle with Sprint, the roaming rate
with respect to calendar year 2002 is $0.10 per minute. For calendar year 2003
and beyond, the details of the agreement in principle reached by Sprint and its
affiliates has not yet been finalized. The Company believes that the reciprocal
roaming rate could decrease to between $0.06 and $0.065 per minute in 2003 and
further thereafter. The expected reduction in revenues will be partially offset
by a lower cost of roaming expense.
20
Cost of Service and Roaming
The cost of service and roaming was $92.9 million for the nine months ended June
30, 2002, compared to $38.5 million for the nine months ended June 30, 2001, an
increase of $54.4 million. Cost of service and roaming principally consists of
costs to support the Company's customer base including: (i) network operating
costs (including salaries, cell site lease payments, fees related to the
connection of the Company's switches to the cell sites that they support,
inter-connect fees and other expenses related to network operations), (ii) back
office services provided by Sprint PCS such as customer care, billing and
activation, (iii) the 8% of collected service revenue representing the Sprint
affiliation fee, (iv) bad debt related to uncollectible accounts receivable, (v)
wireless handset subsidies on existing customer upgrades through national third
party retailers, and (vi) long distance expense relating to inbound roaming
revenue and the Company's own customer's long distance usage and roaming expense
when customers from the Company's territory place calls on Sprint's network.
Roaming expense included in the cost of service and roaming was $24.9 million
for the nine months ended June 30, 2002, compared to $12.4 million for the nine
months ended June 30, 2001, an increase of $12.5 million as a result of the
substantial increase in the Company's customer base partially offset by a lower
average roaming rate per minute. As discussed above, the per-minute rate the
Company pays Sprint when customers from the Company's territory roam onto the
Sprint PCS network decreased beginning January 1, 2002. The increased roaming
minutes resulting from increasing subscriber levels will be partially offset by
the lower per minute rate paid to Sprint.
The Company was supporting 195,143 customers at June 30, 2002, compared to
107,412 customers at June 30, 2001. At June 30, 2002, the Company's network
consisted of 604 active cell sites and three switches compared to 395 active
cell sites and one switch at June 30, 2001. There were approximately 54
employees performing network operations functions at June 30, 2002, compared to
40 employees at June 30, 2001. The 8% Sprint affiliation fee totaled $6.5
million in the nine months ended June 30, 2002, compared to $2.6 million for the
nine months ended June 30, 2001, a $3.9 million increase related to the growth
in service revenues.
Cost of Equipment
Cost of equipment was $14.2 million for the nine months ended June 30, 2002, and
$9.4 million for the nine months ended June 30, 2001, an increase of $4.8
million. This increase is attributable to the increase in the number of
customers added during the period, as cost of equipment includes the cost of
handsets and accessories sold to customers from the Company's Sprint stores. The
cost of handsets exceeds the amount received from customers because the Company
subsidizes the price of handsets to remain competitive in the marketplace.
Selling and Marketing
The Company incurred selling and marketing expenses of $33.3 million during the
nine months ended June 30, 2002, compared to $25.3 million in the nine months
ended June 30, 2001, an increase of $8.0 million. These amounts include retail
store costs such as salaries and rent in addition to promotion, advertising and
commission costs, and handset subsidies on units sold by national third party
retailers for which the Company does not record revenue. Under the management
agreement with Sprint, when a national retailer sells a handset purchased from
Sprint to a subscriber in the Company's territory, the Company is obligated to
reimburse Sprint for the handset subsidy that Sprint originally incurred. The
national retailers sell Sprint wireless services under the Sprint and Sprint PCS
brands and marks. At June 30, 2002, there were approximately 182 employees
performing sales and marketing functions, compared to 65 employees as of June
30, 2001. A net 64,737 customers were added in the nine months ended June 30,
2002 (net of expected first payment default customers), compared to 67,853 net
customers added in the nine months ended June 30, 2001.
General and Administrative
For the nine months ended June 30, 2002, the Company incurred general and
administrative expenses of $24.7 million, compared to $8.7 million for the nine
months ended June 30, 2001, an increase of $16.0 million. This increase was
attributable to $19.4 million of merger related expenses associated with the
Company's merger with AirGate on November 30, 2001. Included in general and
administrative costs are administrative wages and benefits, legal fees,
insurance expense and other professional services. Exclusive of the merger
related costs, general and administrative costs declined by $3.2 million. This
was a result of a non-recurring banking and professional fees incurred during
the nine months ended June 30, 2001 associated with prospective merger related
activities and a reduction in personnel overhead costs subsequent to the
acquisition by AirGate.
Non-Cash Stock Compensation
Non-cash stock compensation expense was $4.0 million for the nine months ended
June 30, 2002, and $1.5 for the nine months
21
ended June 30, 2001. The Company applies the provisions of APB Opinion No. 25
and related interpretations in accounting for the Company's stock option plans.
Unearned stock compensation is recorded for the difference between the exercise
price and the fair market value of the Company's common stock at the date of
grant and is recognized as non-cash stock compensation expense in the period in
which the related services are rendered. All stock options became fully vested
at the time of the merger with AirGate and therefore all unearned stock option
compensation at the time of the merger was recognized as expense.
22
Depreciation
For the nine months ended June 30, 2002, depreciation increased to $23.6
million, compared to $11.1 million for the nine months ended June 30, 2001, an
increase of $12.5 million. The increase in depreciation expense relates
primarily to additional network assets placed in service in 2001 and 2002.
Depreciation will continue to increase as additional portions of the Company's
network and development costs for 1XRTT are placed into service. The Company
incurred capital expenditures of $66.9 million in the nine months ended June 30,
2002, compared to capital expenditures of $101.9 million in the nine months
ended June 30, 2001. Included in capital expenditures for the nine months ended
June 30, 2002 and 2001 was capitalized interest of $6.0 and $6.2 million,
respectively.
Amortization of Intangible Assets
Amortization of intangible assets relates to the amounts recorded in July 2000
for the right to provide Sprint PCS service in twenty additional Iowa, Nebraska
and Michigan markets and in February 2001 for the right to provide Sprint PCS
service in the Iowa City and Cedar Rapids, Iowa markets. For the nine months
ended June 30, 2002, the Company recorded approximately $2.5 million of
amortization expense compared to approximately $0.5 million for the nine months
ended June 30, 2001. The increase is due to the amortization expense related to
the Iowa markets that were purchased in February 2001.
Asset Impairments
As a result of the Company's merger with AirGate, management proposed new
business plans with respect to the Company's network build-out and selling and
marketing organizational structure. Accordingly, the carrying value of property
and equipment associated with identified locations affected by the proposed
business plans were adjusted to their fair value. These adjustments to fair
value resulted in impairments of approximately $6.4 million for the nine months
ended June 30, 2002.
Interest Income
For the nine months ended June 30, 2002, interest income was $0.6 million
compared to $4.4 million for the nine months ended June 30, 2001, a decrease of
$3.8 million. The Company had higher average cash and cash equivalent balances
for the nine months ended June 30, 2001, resulting from the remaining proceeds
from the Company's debt offering and proceeds from the sale of preferred stock.
As capital expenditures were required to complete the build-out of the Company's
PCS network, and as working capital and operating losses were funded, decreasing
cash balances and lower interest rates resulted in lower interest income.
Interest Expense
For the nine months ended June 30, 2002, interest expense was $18.2 million,
compared to $16.2 million for the nine months ended June 30, 2001, an increase
of $2.0 million. The increase is primarily attributable to increased average
borrowings on the senior credit facility partially offset by lower interest
rates on variable borrowings. The Company had borrowings outstanding of $110.0
million as of June 30, 2002, compared to $50.0 million as of June 30, 2001.
Cumulative Effect of a Change in Accounting Principle
In connection with the merger of the Company with AirGate (as discussed in Note
8), the Company changed its method of amortizing interest expense on its senior
discount notes effective as of October 1, 2001. While the Company's previous
method of accounting was in accordance with accounting principles generally
accepted in the United States of America, the Company believes it is preferable
to use the same methodology as its parent, AirGate. AirGate's method of
amortizing interest expense is also in accordance with accounting principles
generally accepted in the United States of America.
The cumulative effect of this change in accounting for the periods through
September 30, 2001, was a reduction in the carrying value of the senior notes by
$4.3 million along with a corresponding decrease in the Company's accumulated
deficit. In accordance with Accounting Principles Board Opinion No. 20,
"Accounting Changes", the change in accounting has been reflected as a
cumulative change in accounting effective as of October 1, 2001.
Net Loss
For the nine months ended June 30, 2002, the net loss was $94.6 million, an
increase of $40.6 million from a net loss of $54.0 million for the nine months
ended June 30, 2001.
23
LIQUIDITY AND CAPITAL RESOURCES
As of June 30, 2002, the Company had $19.6 million in cash and cash equivalents,
compared to $54.6 million in cash and cash equivalents at September 30, 2001.
The Company's net working capital deficit was $7.8 million at June 30, 2002,
compared to positive working capital of $38.6 million at September 30, 2001.
Net Cash Used in Operating Activities
The $30.2 million of cash used in operating activities in the nine months ended
June 30, 2002, was the result of the Company's $94.6 million net loss offset by
$55.3 million of asset impairments, depreciation, amortization of note
discounts, financing costs, amortization of intangibles, cumulative effect of
accounting change, provision for doubtful accounts, non-cash stock option
compensation and positive net working capital changes of $9.1 million. The $17.2
million of cash used in operating activities in the nine months ended June 30,
2001 was the result of the Company's $54.0 million net loss being partially
offset by a net $13.6 million in cash provided by changes in net working capital
and $23.2 million of depreciation, amortization of note discounts, provision for
doubtful accounts, amortization of financing costs and non-cash stock option
compensation.
Net Cash Used in Investing Activities
The $64.6 million of cash used in investing activities during the nine months
ended June 30, 2002, includes $65.6 million for purchases of property and
equipment. Purchases of property and equipment during the nine months ended June
30, 2002, related to investments to upgrade the Company's network to 1XRTT,
expansion of switch capacity and expansion of coverage in the Company's
territories. For the nine months ended June 30, 2001, cash used in investing
activities of $115.0 million includes cash payments of $96.1 made for purchases
of property and equipment, $31.8 million for the acquisition of the Iowa
City/Cedar Rapids, Iowa markets offset by proceeds of $11.7 million from the
sale of tower assets.
Net Cash Provided by Financing Activities
The $59.9 million in cash provided by financing activities during the nine
months ended June 30, 2002, includes $60.0 million in borrowings under the
senior credit facility. The $114.8 million of cash provided by financing
activities in the nine months ended June 30, 2001 includes $50.0 million
borrowed under the senior credit facility and $65.7 million of proceeds from the
sale of redeemable convertible preferred stock.
Liquidity
At June 30, 2002, the Company had $19.6 million of cash and cash equivalents and
total availability under the Company's senior credit facility of $30.0 million.
iPCS is an unrestricted subsidiary of AirGate. As a result of this designation,
funds available under each of AirGate's and iPCS' senior credit facilities and
cashflows from AirGate and iPCS can only be used by AirGate or iPCS, as
applicable. To date, the Company has used proceeds from the senior subordinated
discount notes, proceeds from the sale of redeemable convertible preferred stock
and borrowings from the senior credit facility to fund capital expenditures,
operating losses, working capital and cash interest needs while the Company
built out its digital PCS network and acquired customers.
Due to a number of factors, including the rapidly changing wireless industry,
general economic uncertainty, lower than expected net new subscribers and
continuing higher rates of customer turnover than anticipated, management is
reviewing the assumptions underlying the long-range business plan for iPCS.
While these long-term projections are being refined, they indicate that cash and
cash equivalents and cash availability under the iPCS senior credit facility,
combined with cash flows from operations, are expected to be sufficient to fund
working capital, meet capital expenditure needs and to service debt requirements
until the Company obtains free cash flow positive. As a result of these changes
to the assumptions underlying the long-range plan, management anticipates
attaining free cash flow positive several years later than originally projected.
Management anticipates that the long-range business plan will be sufficiently
refined to provide more definitive guidance in its Annual Report of Form 10-K.
Free cash flow is defined as EBITDA minus capital expenditures, cash interest
payments and required amortization of principal under the senior credit
facilities. Management's projections contains significant assumptions including
projections for gross new customer additions, CPGA, capital expenditures, ARPU,
churn, bad debt expense, wireless handset upgrade costs, fees charged by Sprint
and roaming expense and roaming revenue. If these assumptions do not occur, iPCS
may not reach free cash flow positive when projected.
Future Trends That May Affect Operating Results, Liquidity and Capital Resources
In addition to the Investment Considerations included herein, the following risk
factors could materially and adversely affect the Company's future operating
results and could cause actual events to differ materially from those predicted
in forward-looking statements related to our business.
24
The Company may not be able to sustain its growth or obtain sufficient revenue
to achieve and sustain profitability. Recently the Company has experienced
slowing net customer growth. Net customer growth was 33,108 for the three months
ended December 31, 2001, 16,954 for the three months ended March 31, 2002 and
14,675 for the three months ended June 30, 2002. This trend is attributable to
increased churn and competition, slowing wireless subscriber growth and weakened
consumer confidence. Additionally, the Company currently operates with EBITDA
losses. For the three and nine months ended June 30, 2002, the Company incurred
an EBITDA loss of $(6.8) and $(44.8) million, respectively, which includes an
out-of-period revenue adjustment net of the 8% affiliation fee of $(1.1) and
$(0.6) million, respectively. See note 12 in Item 1 of this report for a further
discussion. Additionally, EBITDA for the nine months ended includes merger
related costs of $19.4 million. If the current trend of net customer growth
continues, it will lengthen the amount of time it will take for the Company to
reach a sufficient number of customers to reach EBITDA and free cash flow
positive which in turn will have negative effect on capital resources. The
Company's business projections reflect continuing growth in its subscriber base
and a reduction and eventual elimination of EBITDA losses as the cash flow
generated by the growing subscriber base exceeds costs incurred to acquire new
customers. If the Company acquires more new customers than projected, the
upfront costs to acquire those customers (including the handset subsidy,
commissions and promotional expenses) may result in greater EBITDA losses in the
near term but higher cash flows in later periods. Conversely, if there is a
slowdown in new subscriber growth in the wireless industry, the Company may
acquire fewer new customers, which would result in lower EBITDA losses in the
near term but lower cash flows in later periods.
The Company may continue to experience higher costs to acquire customers
(including handset subsidy, commissions and promotional expenses). For the three
months ended March 31, 2002, CPGA was $359 and for the three months ended June
30, 2002, CPGA was $443. If the Company incurs higher costs to acquire new
customers than projected over the long term, these upfront costs may result in
greater EBITDA losses and lower cash flows.
The Company may continue to experience a higher churn rate. The Company's
average customer monthly churn (net of 30 day returns and a reserve for first
payment default customers) for the three months ended June 30, 2002 was 2.9%.
This rate of churn was higher than the 2.6% churn rate reported for the three
months ended March 31, 2002. The Company expects that in the near term, churn
will remain higher than historical levels. This expectation is the result of a
greater percentage of subprime versus prime credit class customers comprising
the Company's subscriber base. As a result of this increase, the Company has
experienced greater involuntary deactivations. If the rate of churn continues or
increases over the long-term, the Company would lose the cash flow attributable
to these customers and have greater EBITDA losses.
The Company may receive a significantly lower roaming rate in 2003 and
thereafter. The Company is paid a fee from Sprint for every minute that a Sprint
subscriber based outside of the Company's territory uses the Company's network;
the Company refers to such fees as roaming revenue. Similarly, the Company pays
a fee to Sprint for every minute that the Company's customers use the Sprint
network outside of the Company's markets; the Company refers to such fees as
roaming expense. Under the Company's original agreements with Sprint, Sprint had
the right to change the reciprocal roaming rate exchanged for customers who roam
into the other party's or another Sprint affiliate. iPCS and Sprint had an
agreement which fixed the reciprocal roaming rate exchanged between Sprint and
iPCS for customers who roam into the other party's, or another network
partner's, territory at $0.20 per minute of use through December 31, 2001. Under
an agreement in principle reached in April 2001, the roaming rate for iPCS with
respect to calendar year 2002 is $0.10 per minute. The Company believes this
rate may decrease to between $0.06 and $0.065 per minute in 2003, and further
thereafter. The ratio of roaming revenue to expense for the three months ended
June 30, 2002, was 1.4 to one.
The Company's ability to borrow funds under the senior credit facility may be
terminated due to its failure to maintain or comply with the restrictive
financial and operating covenants contained in the agreements governing the
senior credit facilities. The senior credit facility contains covenants
specifying the maintenance of certain financial ratios, reaching defined
subscriber growth and network covered population goals, minimum quarterly
service revenues, maximum EBITDA losses and limiting capital expenditures. The
Company believes that it is currently in compliance in all material respects,
with all financial and operational covenants relating to the senior credit
facility. During February 2002, the Company completed an amendment to the senior
credit facility, primarily to provide additional relief under the maximum EBITDA
losses covenant, which the Company anticipated not meeting in future quarters.
As part of attaining this EBITDA covenant relief, performance thresholds
contained in other covenants under the senior credit facility were increased,
such as the minimum number of total subscribers. To satisfy the minimum
subscriber covenant at September 30, 2002, the Company must have 218,600
subscribers before the reserve for first payment default customers. At June 30,
2002, the Company had 197,604 subscribers before the reserve for first payment
default customers of 2,461. This is an increase in subscribers before first
payment default customers of 20,996. If the Company is unable to operate the
business within the covenants specified in the credit facility, as amended, as
applicable, the Company's ability to obtain future amendments to the covenants
in the senior credit facility is not guaranteed and the ability to make
borrowings required to operate the business could be restricted or
terminated. Such a restriction or termination would have a material adverse
affect on liquidity.
The Company may incur significant wireless handset subsidy costs for existing
customers who upgrade to a new handset. As the
25
Company's customer base matures and technological innovations occur, more
existing customers will begin to upgrade to new wireless handsets for which the
Company subsidizes the price. The Company experienced approximately $0.8 million
associated with wireless handset upgrade costs for the three months ended June
30, 2002. The Company does not have any historical experience regarding the
adoption rate for wireless handset upgrades. If more customers upgrade to new
wireless handsets than the Company projects, EBITDA and cash flows would be
lower than projected.
On July 3, the FCC issued an order in Sprint PCS 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 PCS had such a contract with carriers such as AT&T.
The Company has previously received $1.0 million comprised of $1.1 million of
terminating long distance access revenues less $0.1 million of associated
affiliation fees from Sprint PCS prior to the current quarter, and Sprint PCS
has asserted its right to recover these revenues net of the affiliation fees
from the Company. The Company will continue to assess the ability of Sprint,
Sprint PCS or other carriers to recover these charges and the Company is
continuing to review the availability of defenses we may have against Sprint
PCS's claim to recover these revenues from us. For the three months ended June
30, 2002, billings that were not collected associated with terminating long
distance access charges were approximately $0.8 million. The Company has not
projected collecting access revenues on future billings.
In its business plan, the Company has assumed that a sale of its towers will
provide funds of at least $10.0 million. The Company owns 87 towers. The Company
does not consider towers a strategic asset and plans on selling some or all of
these assets as market terms and conditions permit. There are several companies
that have traditionally been purchasers of towers in the wireless industry.
However, the financial condition of these tower companies and their willingness
and ability to purchase towers the Company owns is not certain. The Company may
not be able to sell enough towers at an adequate price to generate proceeds
projected and if so, the Company's liquidity would be materially adversely
affected.
Sprint provides back-office and many other services to the Company. For the
quarter ended June 30, 2002, these expenses accounted for more than 39% of
operating expenses. There is no formula established in the agreements with
Sprint for the cost of these services and Sprint may adjust these expenses at
least annually. For example, Sprint has sought to increase service fees during
the remainder of 2002 and beyond in connection with the launch of 1XRTT. If
Sprint were to increase its fees significantly, we may seek other third parties
to provide some of the services currently provided by Sprint. Any such change
may not be effected quickly or at all, and these increased operating expenses
would have an adverse effect on the Company's EBITDA and cash flow.
Variable interest rates may increase substantially. At June 30, 2002, the
Company had borrowed $110.0 million under the senior credit facility. The rate
of interest on the senior credit facility is based on a margin above either the
alternate bank rate (the prime lending rate in the United States) or the London
Interbank Offer Rate (LIBOR). The Company's weighted average borrowing rate on
variable rate borrowings at June 30, 2002, was 5.6%. If the Company were to
default under the senior credit facility, the rate of interest would increase by
an additional 2%.
The Company operates with negative working capital because of amounts owed to
Sprint. Each month the Company pays Sprint amounts relating to: (i) roaming
expense, (ii) the 8% affiliation fee, (iii) costs for customer support and
billing, (iv) handsets purchased from Sprint, (v) reimbursements for commissions
paid to national third party retailers such as Radio Shack, Best Buy and Circuit
City, (vi) reimbursement for subsidies related to handsets sold by national
third party retailers, and (vii) wholesale long distance expense that the
Company's customers incur and that Sprint customers incur related to roaming
revenue. A reduction in the amounts the Company owes Sprint may result in a
greater use of cash for working capital purposes than the business plan
currently projects.
The Company may not be able to access the credit markets for additional capital
if the liquidity discussed above is insufficient for the cash needs of the
business. The Company frequently evaluates options for additional financings to
supplement its liquidity position and maintain maximum financial flexibility.
However, the Company may be unable to raise additional capital if the need
arises, whether its actual results differ from those projected or for any other
reason.
Capital Resources
The senior secured discount notes due 2010 will require cash payments of
interest beginning on January 15, 2006. The senior secured discount notes carry
bond ratings of Caa1/CCC. The $140.0 million senior credit facility provides for
a $90.0 million senior secured term loan which matures on December 31, 2008,
which is the first installment of the loan, or tranche A. The second
installment, or tranche B, under the senior credit facility is for a $50.0
million senior secured term loan, which matures on December 31, 2008. The senior
credit facility requires quarterly payments of principal beginning June 30, 2004
for tranche A and tranche B, initially in the amount of 2.5% of the loan balance
then outstanding and increasing thereafter. The commitment fee on unused
borrowings ranges from 1.00% to 1.50%, payable quarterly. As of June 30, 2002,
$30.0 million remained available for
26
borrowing under the senior credit facility. The Company's obligations under the
senior credit facility are secured by all of the Company's operating assets.
As of June 30, 2002, management believes that the Company is in compliance in
all material respects with the covenants associated with the senior credit
facility, senior subordinated discount notes, and Sprint agreements.
Contractual Obligations
The Company is obligated to make future payments under various contracts it has
entered into, including amounts pursuant to the senior credit facility, the
senior secured discount notes, capital leases and non-cancelable operating lease
agreements for office space, cell sites, vehicles and office equipment. Future
minimum contractual cash obligations for the next five years and in the
aggregate at June 30, 2002, are as follows (dollars in thousands):
Payments Due By Period
Years Ended June 30,
----------------------
Contractual Obligation Total 2003 2004 2005 2006 2007 Thereafter
- ---------------------- ----- ---- ---- ---- ---- ---- ----------
Senior credit facility (1) ............... 110,000 -- 5,500 13,750 22,000 27,500 41,250
Operating leases (2) ..................... 70,442 11,430 11,271 10,714 9,483 6,331 21,213
Capital leases ........................... 953 71 74 77 80 83 568
Senior subordinated discount notes ....... 300,000 -- -- -- -- -- 300,000
-------- ------- ------- ------- ------- ------- --------
Total ............................... $481,395 $11,501 $16,845 $24,541 $31,563 $33,914 $363,031
======== ------- ------- ------- ------- ------- --------
(1) Total repayments are based upon borrowings outstanding as of June 30, 2002,
not projected borrowings under the respective senior credit facility.
(2) Does not include payments due under renewals to the original lease term.
There are provisions in the agreements governing the senior credit facility and
the senior subordinated discount notes providing for an acceleration of
repayment upon an event of default, as defined in the respective agreements.
Seasonality
The Company's business is subject to seasonality because the wireless industry
historically has been heavily dependent on fourth calendar quarter results.
Among other things, the industry relies on significantly higher customer
additions and handset sales in the fourth calendar quarter as compared to the
other three calendar quarters. A number of factors contribute to this trend,
including: the increasing use of retail distribution, which is heavily dependent
upon the year-end holiday shopping season; the timing of new product and service
announcements and introductions; competitive pricing pressures; and aggressive
marketing and promotions. The increased level of activity requires a greater use
of available financial resources during this period.
RELATED PARTY TRANSACTIONS
Sprint Agreements:
Under the Sprint agreements, Sprint provides the Company significant support
services such as customer service, billing, long distance transport services,
national network operations support, inventory logistics support, use of the
Sprint and Sprint PCS brand name, national advertising, national distribution
and product development. Additionally, the Company derives substantial roaming
revenue and expenses when Sprint and other Sprint affiliates' PCS wireless
customers incur minutes of use in the Company's territories and when the
Company's customers incur minutes of use in Sprint and other Sprint affiliates'
PCS territories. These transactions are recorded in the cost of service and
roaming and selling and marketing captions in the statement of operations. Cost
of service and roaming transactions relate to the 8% affiliation fee, long
distance, roaming expenses, billing support and customer care support. Purchased
inventory transactions relate to inventory purchased by the Company from Sprint
under the Sprint agreements. Selling and marketing transactions relate to
subsidized costs on wireless handsets and commissions under
27
Sprint's national distribution program. Amounts relating to the Sprint
agreements for the three and nine months ended June 30, 2002 and 2001, are as
follows (dollars in thousands):
Three Months Ended
---------------------
June 30, June 30,
2002 2001
-------- --------
Amounts incurred:
Cost of service and roaming ....... $17,358 $8,996
Purchased inventory ............... 3,421 4,819
Selling and marketing ............. 2,108 4,338
Nine Months Ended
----------------------
June 30, June 30,
2002 2001
-------- ---------
Amounts incurred:
Cost of service and roaming ....... $51,654 $20,591
Purchased inventory ............... 15,294 16,857
Selling and marketing ............. 5,980 11,109
Transactions with AirGate
The Company has completed transactions at arms-length in the normal course of
business with its parent AirGate. These transactions are comprised of roaming,
inventory purchases and sales of network operating equipment. In the normal
course of business under the Sprint agreements, customers of the Company incur
minutes of use in AirGate's territory causing the Company to incur roaming
expense. In addition, AirGate customers incur minutes of use in the Company's
territory for which the Company receives roaming revenue. The Company recorded
$0.1 million of roaming revenue and $0.1 million of roaming expense with AirGate
during the nine months ended June 30, 2002. The roaming rate charged was in
accordance with the rates under the Sprint agreements.
In order to optimize the most efficient use of certain models of wireless
handset inventory in relation to regional demand, the Company sold approximately
$184,000 of wireless handset inventory to AirGate and AirGate sold approximately
$32,000 of wireless handset inventory to the Company. These sales were completed
at market prices at the time. At June 30, 2002, the Company was not carrying any
wireless handset inventory it had acquired from AirGate.
The Company purchased $224,000 of network operating equipment from AirGate at
market prices at the time. The Company had a need for such equipment and it had
become recently idled by AirGate.
The Company sold $717,000 of network operating equipment to AirGate at market
prices at the time. This equipment had been idled by the Company and AirGate had
a need for the equipment at the time.
COMMITMENTS AND CONTINGENCIES
On July 3, the FCC issued an order in Sprint PCS 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. The
Company has previously received $1.0 million comprised of $1.1 million of
terminating long distance access revenues less $0.1 million of associated
affiliation fees from Sprint PCS prior to the current quarter, and Sprint has
asserted its right to recover these revenues net of the affiliation fees from
the Company. As a result of this ruling, and our assessment of this contingency
under SFAS No. 5, "Accounting for Contingencies", we have taken a charge to
current period revenue. However, we will continue to assess the ability of
Sprint, Sprint PCS or other carriers to recover these charges and are continuing
to review the availability of defenses we may have against Sprint's claim to
recover these revenues.
28
PART II. OTHER INFORMATION
Item 1. LEGAL PROCEEDINGS
From time to time, we are subject to legal proceedings and claims in the
ordinary course of business, including contract disputes and employment matters.
We currently are not aware of any such legal proceedings or claims that we
believe will have, individually or in the aggregate, a material adverse effect
on our business, financial condition or operating results.
Item 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
Omitted Pursuant to General Instruction H (1) (a) and (b).
Item 3. DEFAULTS UPON SENIOR SECURITIES
Omitted Pursuant to General Instruction H (1) (a) and (b).
Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Omitted Pursuant to General Instruction H (1) (a) and (b).
Item 5. OTHER INFORMATION
Investment Considerations
Risks Related to Our Business, Strategy and Operations
We have a limited operating history and we may not achieve or sustain operating
profitability or positive cash flows
We have a limited operating history. Our ability to achieve and sustain
operating profitability will depend upon many factors, including our ability to
market Sprint PCS products and services and manage customer turnover rates and
our operating expenses. In addition, a key factor in our operational performance
depends upon our ability to manage our growth and our expenses through the
completion of our network build-out and through implementing the best practices
of AirGate and iPCS to increase market penetration in our current and future
markets. We will require additional expenditures for the continued development,
construction, testing, deployment and operation of our network. These activities
are expected to place demands on our managerial, operational and financial
resources. If we do not achieve and maintain positive cash flows from operations
when projected, our results of operations may be adversely affected.
The integration of AirGate and iPCS following the merger will present
significant challenges that could adversely affect our results of operations
AirGate acquired us with the expectation that it would result in expanding
AirGate's existing network and customer base and leveraging the best operating
practices of both organizations. Achieving the benefits of the merger with
AirGate will depend in part on integrating the operations of the two businesses
in an efficient and timely manner. We cannot assure you that this will occur. To
realize the anticipated benefits of this combination, our management team must
develop strategies and implement a business plan that will successfully:
o manage our networks and markets;
o maintain adequate focus on existing business and operations while
working to integrate the management of the two companies;
o combine two companies with limited operating histories;
o manage our company's cash and available credit lines for use in
financing future growth and working capital needs of our company;
o manage our marketing and sales;
o manage the transition of iPCS' senior management expertise to the
combined company; and
o retain and attract key employees of the combined company during a
period of transition.
29
We cannot assure you that combining the businesses of AirGate and iPCS, even if
achieved in an efficient, effective and timely manner, will result in combined
results of operations and financial conditions superior to those that we could
have achieved independently. The diversion of management's attention from
ongoing operations and any difficulties encountered in the transition and
integration process could have a material adverse effect on our financial
condition and results of operations.
We may experience a higher rate of customer turnover in the future compared to
historical rates which would adversely affect our financial performance
The wireless personal communications services industry in general and Sprint in
particular have experienced a higher rate of customer turnover, commonly known
as churn, as compared to cellular industry averages. This churn rate has been
driven higher in recent months due to the introduction of NDASL and Clear Pay
programs. In addition, due to significant competition in our industry and
general economic conditions, among other things, our future rate of customer
turnover may be higher than our historical rate. Factors which may contribute to
higher churn include:
o inability of customers to pay which results in involuntary
deactivations, which accounted for approximately 82% of our
deactivations in the quarter ended June 30, 2002;
o customer mix and credit class, particularly sub-prime credit
customers which accounted for 50% of our customer additions since
May, 2001, including those choosing NDASL and Clear Pay programs;
o our handset return policy that allows customers to return used
handsets within 14 days of purchase and receive a full refund;
o the attractiveness of our competitors' products and services;
o network performance;
o customer service;
o increased prices; and
o any future changes by us in the products and services we offer,
especially to the Clear Pay program.
A high rate of customer turnover could adversely affect our competitive
position, liquidity, results of operations and our costs of, or losses incurred
in obtaining new subscribers, especially because we subsidize some of the costs
of initial purchases of handsets by 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 will
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 our churn rate exceeds our estimates;
o adverse changes in the economy from our expectations; or
o unanticipated changes in Sprint 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.
The loss of the officers and skilled employees who we depend upon to operate our
business could adversely affect our results of operations
Our business is managed by a small number of executive officers. We believe that
our future success depends in part on our continued ability to attract and
retain highly qualified technical and management personnel. We may not be
successful in retaining our key personnel or in attracting and retaining other
highly qualified technical and management personnel. We currently have "key man"
life insurance for our President and Chief Executive Officer. We do not have
long-term employment or change of control agreements with any of our executive
officers and most of the stock options granted to senior management are at
exercise prices above current market prices of AirGate common stock.
Parts of our territories have limited amounts of spectrum which may adversely
affect the quality of our service and our results of operations.
30
Sprint has licenses covering 30 MHz of spectrum throughout most of our
territory, but it has licenses covering only 10 MHz or 20 MHz in parts of
Illinois. As the number of customers in our territory increases, this limited
amount of licensed spectrum may not be able to accommodate increases in call
volume, may lead to increased dropped and blocked calls and may limit our
ability to offer enhanced services, all of which could result in increased
customer turnover and adversely affect our results of operations.
If we lose the right to install our equipment on certain wireless towers or are
unable to renew expiring leases or locate new sites for wireless towers on
favorable terms, our business and results of operations could be adversely
impacted.
Many of our cell sites are co-located on leased tower facilities shared with one
or more wireless providers. In addition, a large portion of these leased tower
sites are owned by a few tower companies. If a master co-location agreement with
one of these tower companies were to terminate, or if one of these tower
companies were unable to support our use of its tower sites, we would have to
find new sites or we may be required to rebuild that portion of our network. In
addition, the concentration of our cell sites with a few tower companies could
adversely affect our results of operations if we are unable to renew expiring
leases with such tower companies on favorable terms.
Because our former stockholders did not provide any indemnification following
the merger, we will be responsible for any of our undisclosed prior liabilities
We made certain representations and warranties to AirGate in the merger
agreement concerning our business and operations. The merger agreement did not
provide AirGate with any contractual indemnification from our former
stockholders for any breaches of our representations and warranties or any
failure to comply with our obligations under the merger agreement. As a result,
we will be responsible for any of our undisclosed prior liabilities. Such
liabilities could materially impact our future consolidated results of
operations.
Risks Particular to Our Indebtedness
We have substantial debt that we may not be able to service; a failure to
service such debt may result in the lenders under such debt controlling our
assets
Our substantial debt has a number of important consequences for our operations
and our investors, including the following:
o we have to dedicate a substantial portion of any cash flow from
our 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 if the
assumptions underlying the business plan are not correct and
existing sources of funds, together with cash flow, are
insufficient for capital requirements, capital expenditures,
working capital requirements and other corporate purposes;
o some of our debt, including financing under our senior credit
facility, will be at variable rates of interest, which could
result in higher interest expense in the event of increases in
market interest rates; and
o due to the liens on substantially all of our assets and the
pledges of stock of our existing and future subsidiaries that
secure our senior debt and senior discount notes, lenders or
holders of such senior discount notes may control our assets or
the assets of our subsidiaries in the event of a default.
Our ability to make payments on our debt will depend upon our future operating
performance which is subject to general economic and competitive conditions and
to financial, business and other factors, many of which we cannot control. If
the cash flow from our operating activities is insufficient, we may take
actions, such as delaying or reducing capital expenditures, attempting to
restructure or refinance our debt, selling assets or operations or seeking
additional equity capital. Any or all of these actions may not be sufficient to
allow us to service our debt obligations. Further, we may be unable to take any
of these actions on satisfactory terms, in a timely manner or at all. The credit
facility and indenture governing our debt limits our ability to take several of
these actions. Our failure to generate sufficient funds to pay our debts or to
successfully undertake any of these actions could, among other things,
materially, adversely affect our results of operations.
If we do not meet all of the conditions required under our senior secured credit
facility, we may not be able to draw down all of the funds we anticipate
receiving from our senior lenders and we may not be able to fund operating
losses and working capital needs
As of June 30, 2002, we had borrowed $110.0 million under our senior secured
credit facility. The remaining $30.0 million available under our senior secured
credit facility, a portion of which we expect to borrow in the future, is
subject to us meeting all of the conditions specified in our financing
documents. During February 2002, the Company completed an amendment to its
31
senior credit facility, primarily to provide additional relief under the maximum
EBITDA loss covenant, which the Company anticipated not meeting in future
quarters. As part of attaining this EBITDA covenant relief, performance
thresholds contained in other covenants under the senior credit facility were
increased, such as the minimum number of total subscribers. To satisfy the
minimum subscriber covenant at September 30, 2002, the Company must have 218,600
subscribers before the reserve for first payment default customers. At June 30,
2002, the Company had 197,604 subscribers before the reserve for first payment
default customers of 2,461. This is an increase in subscribers before first
payment default customers of 20,996.
In addition, additional borrowings are subject to specific conditions on each
finding date, including the following;
o that certain of our financial covenant tests are satisfied,
including leverage and operating performance covenants and loss
covenants relating to earnings before interest, taxes,
depreciation and amortization; and
o the absence of a default under our loan documents.
If we do not meet these conditions at each funding date, our senior lenders may
not lend some or all of the remaining amounts under our senior secured credit
facility. If other sources of funds are not available, we may not be in a
position to meet our operating cash needs.
The ability of AirGate and iPCS to operate as a combined company is limited by
the separate public debt indentures and senior secured credit facilities of
AirGate and iPCS
In order to assure continued compliance with the indenture governing AirGate's
senior subordinated discount notes, AirGate has designated us as an
"unrestricted subsidiary." As a result, for purposes of our respective public
debt indentures, AirGate and we will operate as separate business entities. Due
to restrictions in AirGate's indenture, AirGate will be unable to provide direct
or indirect credit support to us and will be significantly limited in its
ability to maintain or preserve our financial condition or cause us to achieve a
specified level of operating results. Likewise, we will be restricted under our
debt instruments from paying dividends or freely transferring money to AirGate.
These restrictions may hinder the ability of iPCS to meet its working capital
requirements, the combined company's ability to achieve the anticipated benefits
of the merger, react to developments in either company's business or take
advantage of business opportunities.
If we fail to pay the debt under our senior secured credit facility, Sprint has
the option of purchasing our loans, giving Sprint certain rights of a creditor
to foreclose on our assets
Sprint has contractual rights, triggered by an acceleration of the maturity of
the debt under our senior secured credit facility, pursuant to which Sprint may
purchase our obligations to our senior lenders and obtain the rights of a senior
lender. To the extent Sprint purchases these obligations, Sprint's interests as
a creditor could conflict with our interests. Sprint's rights as a senior lender
would enable it to exercise rights with respect to our assets and continuing
relationship with Sprint in a manner not otherwise permitted under our Sprint
agreements.
Risks Particular to Our Relationship with Sprint
The termination of our affiliation with Sprint would severely restrict our
ability to conduct our business
We do not own the licenses to operate our wireless network. Our ability to offer
Sprint PCS products and operate a PCS network is dependent on our Sprint
agreements remaining in effect and not being terminated. All of our customers
have purchased Sprint PCS products and services to date, and we do not
anticipate any change in the future. The management agreement between Sprint and
us is not perpetual. Sprint can choose not to renew our management agreement at
the expiration of the 20-year initial term or any ten-year renewal term. In any
event, our management agreement terminates in 50 years.
In addition, the management agreement can be terminated for breach of any
material term, including, among others, build-out, network and operational
requirements. Many of these operational and network requirements are technical
and detailed in nature, and may apply to each retail store, cell site and switch
site. In addition, many of these requirements can be changed by Sprint with
little notice. As a result, we may not always be in compliance with all
provisions of our Sprint agreement. For example, Sprint conducts periodic audits
of compliance with various aspects of its program guidelines and identifies
issues it believes needs to be addressed. There may be substantial costs
associated with remedying any non-compliance, and such costs may adversely
affect the Company's operating results and ability to achieve free cash flow.
We also are dependent on Sprint's ability to perform its obligations under the
Sprint agreements. The non-renewal or termination of any of the Sprint
agreements or the failure of Sprint to perform its obligations under the Sprint
agreements would severely restrict our ability to conduct business.
32
Sprint may make business decisions that are not in our best interests, which may
adversely affect our relationships with customers in our territory, increase our
expenses and/or decrease our revenues
Sprint, under the Sprint agreements, has a substantial amount of control over
the conduct of our business. Accordingly, Sprint may make decisions that
adversely affect our business, such as the following:
o Sprint could price its national plans based on its own objectives
and could set price levels or other terms that may not be economically
sufficient for our business;
o Sprint could develop products and services or establish credit
policies, such as NDASL, which could adversely affect our results
of operations;
o Sprint could raise the costs to perform back office services,
reduce levels of services or expenses or otherwise seek to
increase expenses and other amounts charged and has sought to
raise these costs in connection with the launch of 1XRTT;
o Sprint could limit our ability to develop local and other
promotional plans to enable us to attract sufficient customers;
o Sprint could, subject to limitations under our Sprint agreements,
alter its network and technical requirements or request that we
build out additional areas within our territories, which could
result in increased equipment and build-out costs;
o Sprint could make decisions which could adversely affect the Sprint
and Sprint PCS brand names, products or services; and
o Sprint could decide not to renew the Sprint agreements or to no
longer perform its obligations, which would severely restrict our
ability to conduct business.
The occurrence of any of the foregoing could adversely affect our relationship
with customers in our territories, increase our expenses and/or decrease our
revenues.
Change in Sprint PCS products and services may reduce customer additions or
increase customer turnover
The competitiveness of Sprint PCS products and services is a key factor in our
ability to attract and retain customers, and we believe was a factor in the
slowing subscriber growth in the most two recent quarters.
Certain Sprint pricing plans, promotions and programs may result in higher
levels of customer turnover and reduce the credit quality of our customer base.
For example, under certain Sprint PCS service plans, customers who do not meet
certain credit criteria can nevertheless select any plan offered subject to an
account-spending limit, referred to as ASL, to control credit 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 ranging from $125 to $200 that could be credited against future
billings. In May 2001, the deposit requirement was eliminated on all credit
classes ("NDASL"). As a result, a significant amount of our new customer
additions (approximately 50% since May 2001) have been under the NDASL program.
On November 15, 2001, the NDASL program was replaced by the "Clear Pay program"
which requires a $125 deposit requirement for the lowest credit class and
featured increased back-office controls with respect to credit collection
efforts. We believe these programs resulted in increased churn and an increase
in sub-prime credit customers.
The inability of Sprint to maintain high quality back office services, or our
inability to use Sprint's back office services and third party vendors' back
office systems, could lead to customer dissatisfaction, increased churn or
otherwise increase our costs
We rely on Sprint's support systems, including customer care, billing and back
office support. Our operations could be disrupted if Sprint is unable to
maintain and expand its internal support systems in a high quality manner, or to
efficiently outsource those services and systems through third party vendors.
The rapid expansion of Sprint's PCS business is expected to continue to pose a
significant challenge to its internal support systems. Additionally, Sprint has
made reductions in its customer service support structure and may continue to do
so in the future, which may have an adverse effect on our churn rate. Further,
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 will depend on Sprint's willingness to
continue to offer these services and to provide these services effectively and
at competitive costs. These costs accounted for 39% of our operating expenses
for the three months ended June 30, 2002. Our Sprint agreement provides that,
upon nine months' prior written notice, Sprint may elect to terminate any of
these services. The inability of Sprint to maintain high quality back office
services, or our inability to use Sprint's back office services and third party
vendors' back office systems, could lead to customer dissatisfaction, increase
churn or otherwise increase our costs.
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If Sprint does not complete the construction of its nationwide PCS network, we
may not be able to attract and retain customers
Sprint currently intends to cover a significant portion of the population of the
United States, Puerto Rico and the U.S. Virgin Islands by creating a nationwide
PCS network through its own construction efforts and those of its network
partners. Sprint is still constructing its nationwide network and does not offer
PCS services, either on its own network or through its roaming agreements, in
every city in the United States. Sprint has entered into management agreements
similar to ours with companies in other markets under its nationwide PCS
build-out strategy. Our results of operations are dependent on Sprint's national
network and, to a lesser extent, on the networks of Sprint's other network
partners. Sprint's network may not provide nationwide coverage to the same
extent as its competitors, which could adversely affect our ability to attract
and retain customers.
Certain provisions of the Sprint agreements may diminish the value of our
company and restrict the sale of our business
Under limited circumstances and without further stockholder approval, Sprint may
purchase the operating assets of our company at a discount. In addition, Sprint
must approve any change of control of our ownership and must consent to any
assignment of our Sprint agreements. Sprint also has a right of first refusal if
we decide to sell our operating assets to a third party. We are also subject to
a number of restrictions on the transfer of our business, including a
prohibition on the sale of us or our operating assets to competitors of Sprint
or Sprint PCS. These restrictions and other restrictions contained in the Sprint
agreements may limit our ability to sell our business, may reduce the value a
buyer would be willing to pay for our business and may reduce the "entire
business value," as described in our Sprint agreements.
We may have difficulty in obtaining an adequate supply of certain handsets from
Sprint, which could adversely affect our results of operations
We depend on our relationship with Sprint to obtain handsets, and we have agreed
to purchase all of our 3G handsets from Sprint through December 31, 2004. Sprint
orders handsets from various manufacturers. We could have difficulty obtaining
specific types of handsets in a timely manner if:
o Sprint does not adequately project the need for handsets for
itself, its Sprint PCS network partners and its other third party
distribution channels, particularly in a transition to new
technologies, such as "one times radio transmission technology,"
or "1XRTT";
o Sprint gives preference to other distribution channels;
o we do not adequately project our need for handsets;
o Sprint modifies its handset logistics and delivery plan in a manner
that restricts or delays our access to handsets; or
o there is an adverse development in the relationship between Sprint and
its suppliers or vendors.
The occurrence of any of the foregoing could disrupt our customer service and/or
result in a decrease in our subscribers, which could adversely affect our
results of operations.
Reliance on the Timeliness and Accuracy of Data Received From Sprint
The Company places significant reliance on the timeliness and accuracy of
revenue and cost data related to its customer base that it receives on a monthly
basis from Sprint. The Company makes significant revenue, allowance for doubtful
accounts, cost of service and selling and marketing cost estimates based on data
it receives from Sprint. The Company obtains assurance to the accuracy of this
data through reliance on the "Statement of Attestation Services" (SAS) 70 report
on Sprint's internal control processes. Errors that are not reconciled on a
timely basis by Sprint could have a material adverse effect on the results of
operations and cash flows of the Company.
Non-renewal or revocation by the Federal Communications Commission of the Sprint
PCS licenses would significantly harm our business
PCS licenses are subject to renewal and revocation by the Federal Communications
Commission, referred to as the FCC. Sprint PCS licenses in our territories will
begin to expire in 2007 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. Any failure by Sprint or us to
comply with these standards could cause revocation or forfeiture of the Sprint
PCS licenses for our territories. If Sprint loses any of its licenses in our
territories, we would be severely restricted in our ability to conduct business.
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If Sprint does not maintain control over its licensed spectrum, the Sprint
agreements may be terminated, which would 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. Although
the Sprint agreements with us reflect an arrangement that the parties believe
meets the FCC requirements for licensee control of licensed spectrum, we cannot
assure you that the FCC will agree. If the FCC were to determine that the Sprint
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 agreements
to comply with applicable law. If we cannot agree with Sprint to modify the
Sprint agreements, they may be terminated. If the Sprint agreements are
terminated, we would no longer be a part of the Sprint PCS network and would be
severely restricted in our ability to conduct business.
Risks Particular to Our Industry
Significant competition in the wireless communications services industry may
result in our competitors offering new or better products and services or lower
prices, which could prevent us from operating profitably
Competition in the wireless communications industry is intense. Competition has
caused, and we anticipate that competition will continue to cause, the market
prices for two-way wireless products and services to decline in the future. Our
ability to compete will depend, in part, on our ability to anticipate and
respond to various competitive factors affecting the telecommunications
industry.
Our dependence on Sprint to develop competitive products and services and the
requirement that we obtain Sprint's consent to sell local pricing plans and
non-Sprint approved PCS equipment may limit our ability to keep pace with
competitors on the introduction of new products, services and equipment. Some of
our competitors are larger than us, possess greater resources and more extensive
coverage areas, and may market other services, such as landline telephone
service, cable television and Internet access, with their wireless
communications services. Furthermore, there has been a recent trend in the
wireless communications industry towards consolidation of wireless service
providers through joint ventures, reorganizations and acquisitions. We expect
this consolidation to lead to larger competitors over time. We may be unable to
compete successfully with larger companies that have substantially greater
resources or that offer more services than we do. In addition, we may be at a
competitive disadvantage since we may be more highly leveraged than some of our
competitors.
Increased penetration rates could limit or decrease our rate of net additions
Intense competition in the wireless communications industry could cause prices
for wireless products and services to decline. If prices drop, then our rate of
net customer additions will take on greater significance in improving our
financial condition and results of operations. However, as our markets become
more saturated with our and our competitor's customers, our rate in adding net
customers could decrease. If this decrease were to happen, our business and
financial results could be materially adversely affected.
Alternative technologies and current uncertainties in the wireless market may
reduce demand for PCS
The wireless communications industry is experiencing significant technological
change, as evidenced by the increasing pace of digital upgrades in existing
analog wireless systems, evolving industry standards, ongoing improvements in
the capacity and quality of digital technology, shorter development cycles for
new products and enhancements and changes in end-user requirements and
preferences. Technological advances and industry changes could cause the
technology used on our network to become obsolete. Sprint may not be able to
respond to such changes and implement new technology on a timely basis, or at an
acceptable cost.
If Sprint is unable to keep pace with these technological changes or changes in
the wireless communications market based on the effects of consolidation from
the Telecommunications Act of 1996 or from the uncertainty of future government
regulation, the technology used on our network or our business strategy may
become obsolete. In addition, wireless carriers are seeking to implement an
upgrade to "one times radio transmission technology", or "1XRTT", as well as
"third generation," or "3G," technology throughout the industry. The 3G
technology promises high-speed, always-on Internet connectivity and high-quality
video and audio. We cannot assure you that we or Sprint PCS can implement
"1XRTT" or "3G" technology successfully or on a cost-effective basis.
We are a consumer business and a recession in the United States involving
significantly lowered spending could negatively affect our results of operations
Our primary customer base is individual consumers and our accounts receivable
represent unsecured credit. We believe the
35
economic downturn has had an adverse affect on our operations. In the event that
the economic downturn that the United States and our territory have recently
experienced becomes more pronounced or lasts longer than currently expected and
spending by individual consumers drops significantly, our business may be
further negatively affected.
Regulation by government and taxing agencies may increase our costs of providing
service or require us to change our services, either of which could impair our
financial performance
Our operations and those of Sprint may be subject to varying degrees of
regulation by the FCC, the Federal Trade Commission, the Federal Aviation
Administration, the Environmental Protection Agency, the Occupational Safety and
Health Administration and state and local regulatory agencies and legislative
bodies. Adverse decisions or regulation of these regulatory bodies could
negatively impact our operations and our costs of doing business. For example,
changes in tax laws or the interpretation of existing tax laws by state and
local authorities could subject us to increased income, sales, gross receipts or
other tax costs or require us to alter the structure of our current relationship
with Sprint.
Use of hand-held phones may pose health risks, which could result in the reduced
use of wireless services or liability for personal injury claims
Media reports have suggested that certain 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 wireless services, or costs of litigation and damage
awards, could impair our ability to achieve and sustain profitability.
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 potential litigation relating to
accidents, deaths or serious bodily injuries, or to new restrictions or
regulations on wireless phone use, any of which could also have material adverse
effects on our results of operations.
Risks Relating to our Senior Discount Notes
Our senior discount notes may not have an active market and the price may be
volatile, so our noteholders may be unable to sell their notes at the price they
desire or at all
We cannot ensure that a liquid market will develop for our senior discount notes
or that our noteholders will be able to sell any of their notes at a particular
time, if at all, or that the price that they receive when they sell will be
favorable. Future trading prices of the notes will depend on many factors,
including our operating performance and financial condition, prevailing interest
rates and the market for similar securities.
We are a holding company and because the guarantees are unsecured and
subordinated to debt that encumbers our guarantor subsidiaries' assets, the
notes may not be fully repaid if we or our guarantor subsidiaries become
insolvent
The notes are unsecured obligations of ours. On November 30, 2001, we were
acquired by AirGate through the merger of a wholly owned subsidiary of AirGate
with us. As a result, we are now a wholly owned subsidiary of AirGate. The
assets of AirGate, however, are not available to meet our obligations with
respect to the notes. In addition, we are a holding company for operating
subsidiaries and derive all our operating income from our subsidiaries. We are
dependent on the earnings and cash flow of our subsidiaries to meet our
obligations with respect to the notes. If we or our guarantor subsidiaries
become insolvent, we or our guarantor subsidiaries may not have sufficient
assets to make payments on amounts due on any or all of the notes or the
subsidiary guarantees. In addition, the right to payment on the guarantees will
be subordinated to all of our guarantor subsidiaries' existing and future senior
debt. The senior secured credit facility is secured by liens on substantially
all of the assets of our guarantor subsidiaries. If our guarantor subsidiaries
were to default on the senior secured credit facility, such lenders could
foreclose on the collateral regardless of any default with respect to the notes.
These assets would first be used to repay in full all amounts outstanding under
the senior secured credit facility. If our guarantor subsidiaries become
bankrupt, liquidate, dissolve, reorganize or undergo a similar proceeding, such
guarantor subsidiaries' assets will be available to pay obligations on the notes
or the applicable guarantee only after all outstanding senior debt of such party
has been paid in full. In addition, an event of default under the senior secured
credit facility may prohibit us and the guarantors of the notes from paying the
notes or the guarantees of the notes.
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Our agreements with Sprint and the infrastructure equipment used in our network
create the value of our assets. These assets are highly specialized and, taken
individually, have limited marketability, particularly as a result of some of
the provisions in the Sprint agreements. Therefore, in a foreclosure sale, these
assets are likely to be sold as an entirety, and the lender may not realize
enough money to satisfy all senior debt.
Because federal and state statutes may allow courts to void the guarantees of
the notes, our noteholders may not have the right to receive any money pursuant
to the guarantees
Although the guarantees of the notes provide our noteholders with a direct claim
against the assets of the applicable guarantor, they are subordinate to claims
under our senior secured credit facility secured by a first priority security
interest in substantially all of our assets. In addition, creditors of a
bankrupt guarantor may challenge the guarantee. If a challenge to a guarantee
were upheld, then the applicable guarantee would be invalid and unenforceable,
junior to all creditors, including trade creditors, of that guarantor.
The creditors of a bankrupt guarantor could challenge a guarantee on the grounds
that the guarantee constituted a fraudulent conveyance under bankruptcy law. If
a court were to rule that the guarantee did constitute a fraudulent conveyance,
then the court could void the obligations under the guarantee or further
subordinate the guarantee to other debt of the guarantor or take other action
detrimental to holders of the notes. In addition, any of the guarantees could be
subject to the claim that, since the guarantee was incurred for our benefit, and
only indirectly for the benefit of our subsidiary that provided the guarantee,
the obligations of the applicable guarantor were incurred for less than fair
consideration.
The indenture and the senior secured credit facility contain provisions and
requirements that could limit our ability to pursue borrowing opportunities
The restrictions contained in the indenture governing our senior discount notes,
and the restrictions contained in our senior secured credit facility, may limit
our ability to implement our business plan, finance future operations, respond
to changing business and economic conditions, secure additional financing, if
needed, and engage in opportunistic transactions. The senior secured credit
facility also restricts our ability and the ability of our subsidiaries and our
future subsidiaries to do the following: o create liens;
o make certain payments, including payments of dividends and
distributions in respect of capital stock;
o consolidate, merge and sell assets;
o engage in certain transactions with affiliates; and
o fundamentally change our business.
In addition, our senior 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 number of subscribers to our services; and
o minimum revenues.
We may not satisfy the financial ratios and tests under the senior secured
credit facility due to events that are beyond our control. If we fail to satisfy
any of the financial ratios and tests, we could be in a default under the senior
secured credit facility or may be limited in our ability to access additional
funds under our senior secured credit facility which could result in our being
unable to make payments on the notes.
Because the notes were issued with original issue discount, our noteholders will
have to include interest in their taxable income before they receive cash
The notes were issued at a substantial discount from their principal amount at
maturity. Consequently, although cash interest on the notes generally is not
payable prior to January 15, 2006, original issue discount will be includible in
the gross income of
37
holders of notes for U.S. federal income tax purposes in
advance of the receipt of such cash payments on the notes. The amount of
original issue discount will be greater than the difference between the stated
principal amount at maturity of the notes and the issue price of the notes.
We will not be able to deduct a portion of our borrowing expense for federal
income tax purposes because the original issue discount on the notes exceeds
certain limitations
The notes are classified as "applicable high yield discount obligations" for
United States federal income tax purposes. We will not be entitled to deduct
original issue discount accruing on the notes until such amounts are actually
paid. In addition, because the yield to maturity of the notes is in excess of
the sum of the applicable federal rate plus six percentage points, we are
permanently precluded from deducting the original issue discount equal to such
excess.
The bankruptcy laws may reduce our noteholders claim in the event of our
insolvency
If a bankruptcy case were commenced by or against us under the United States
Bankruptcy Code, your claim with respect to the principal amount of the notes
may be limited to an amount equal to the sum of the initial offering price and
that portion of the original issue discount that is not deemed to constitute
unmatured interest for purposes of the United States Bankruptcy Code. Any
original issue discount that had not amortized as of the date of the bankruptcy
filing could constitute unmatured interest for purposes of the United States
Bankruptcy Code. To the extent that the United States Bankruptcy Code differs
from the Internal Revenue Code of 1986, as amended in determining the method of
amortization of original issue discount, our noteholders may recognize taxable
gain or loss upon payment of their claim in bankruptcy.
If an event constituting a change in control of us occurs, we may be unable to
fulfill our obligation to purchase the notes
Our senior secured credit facility restricts distributions to us from our
subsidiaries and we may not have other sources of funds to purchase any of the
notes before their stated maturity. In addition, the senior secured credit
facility prohibits us from prepaying debt, including the notes. Under the
indenture, upon a change in control we will be required to make an offer to
repurchase all of the notes. Our merger with AirGate did not constitute a change
of control under the indenture. In the event we become subject to a change in
control at a time when we do not have funds to purchase the notes or when any
such prepayment would otherwise not be permitted, we may seek consent under the
senior secured credit facility to have our subsidiary make a distribution to us
so that we would have sufficient funds to purchase the notes and consent to make
the prepayment or attempt to refinance the senior secured credit facility that
contains the prohibition. Moreover, a change of control under the indenture
governing the notes constitutes an event of default under the senior secured
credit facility. If we do not obtain a consent, a waiver or repay the senior
secured credit facility, our failure to purchase the tendered notes would
constitute an event of default under the indenture, which would in turn result
in a default under the senior secured credit facility. Even if we obtain the
consent, we cannot be assured that we will have sufficient resources to
repurchase the notes following the change in control.
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Item 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
99.1 Certification of Periodic Report - Chief Executive Officer
99.2 Certification of Periodic Report - Chief Financial Officer
(b) Reports on Form 8-K
None.
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned officer thereunto duly authorized.
iPCS, Inc.
Date: August 14, 2002 By: /s/ Alan B. Catherall
------------------------------------
Name: Alan B. Catherall
Title: Chief Financial Officer
(Duly Authorized Officer, Principal
Financial and Chief Accounting
Officer)
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