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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-Q
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(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2003
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM ________TO _________
COMMISSION FILE NUMBER: 333-77499
333-77499-01
CHARTER COMMUNICATIONS HOLDINGS, LLC
CHARTER COMMUNICATIONS HOLDINGS CAPITAL CORPORATION *
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(Exact name of registrants as specified in their charters)
DELAWARE 43-1843179
DELAWARE 43-1843177
(State or other jurisdiction of (I.R.S. Employer Identification Number)
incorporation or organization)
12405 POWERSCOURT DRIVE
ST. LOUIS, MISSOURI 63131
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(Address of principal executive offices including zip code)
(314) 965-0555
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(Registrants' telephone number, including area code)
Indicate by check mark whether the registrants (1) have filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrants were required to file reports), and (2) have been subject to such
filing requirements for the past 90 days. YES [X] NO [ ]
Indicate by check mark whether the registrants are accelerated filers (as
defined in Rule 12b-2 of the Exchange Act). YES [ ] NO [X]
Number of shares of common stock of Charter Communications Holdings Capital
Corporation outstanding as of October 31, 2003: 100
* Charter Communications Holdings Capital Corporation meets the conditions set
forth in General Instruction H(1)(a) and (b) to Form 10-Q and is therefore
filing with the reduced disclosure format.
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CHARTER COMMUNICATIONS HOLDINGS, LLC
CHARTER COMMUNICATIONS HOLDINGS CAPITAL CORPORATION
QUARTERLY REPORT ON FORM 10-Q FOR THE PERIOD ENDED SEPTEMBER 30, 2003
TABLE OF CONTENTS
PAGE
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PART I. FINANCIAL INFORMATION
Item 1. Independent Accountants' Review Report................................................. 4
Financial Statements - Charter Communications Holdings, LLC and Subsidiaries
Condensed Consolidated Balance Sheets as of September 30, 2003 and
December 31, 2002...................................................................... 5
Condensed Consolidated Statements of Operations for the three and
nine months ended September 30, 2003 and 2002.......................................... 6
Condensed Consolidated Statements of Cash Flows for the
nine months ended September 30, 2003 and 2002.......................................... 7
Notes to Condensed Consolidated Financial Statements................................... 8
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations.. 22
Item 3. Quantitative and Qualitative Disclosures about Market Risk............................. 45
Item 4. Controls and Procedures................................................................ 45
PART II. OTHER INFORMATION
Item 1. Legal Proceedings...................................................................... 47
Item 4. Submission of Matters to a Vote of Security Holders.................................... 49
Item 6. Exhibits and Reports on Form 8-K....................................................... 49
SIGNATURES ....................................................................................... 52
EXHIBIT INDEX ....................................................................................... 53
This Quarterly Report on Form 10-Q is for the three and nine months ended
September 30, 2003. This Quarterly Report modifies and supersedes documents
filed prior to this Quarterly Report. The SEC allows Charter Holdings to
"incorporate by reference" information that Charter Holdings files with it,
which means that Charter Holdings can disclose important information to you by
referring you directly to those documents. Information incorporated by reference
is considered to be part of this Quarterly Report. In addition, information that
Charter Holdings files with the SEC in the future will automatically update and
supersede information contained in this Quarterly Report. In this Quarterly
Report, "Charter Holdings " refers to Charter Communications Holdings, LLC and
its subsidiaries, unless the context requires otherwise.
CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS:
This Quarterly Report includes forward-looking statements within the meaning of
Section 27A of the Securities Act of 1933, as amended (the "Securities Act"),
and Section 21E of the Securities Exchange Act of 1934, as amended (the
"Exchange Act"), regarding, among other things, our plans, strategies and
prospects, both business and financial including, without limitation, the
forward-looking statements set forth in the "Results of Operations" and
"Liquidity and Capital Resources" sections under Part I, Item 2 ("Management's
Discussion and Analysis of Financial Condition and Results of Operations") in
this Quarterly Report. Although we believe that our plans, intentions and
expectations reflected in or suggested by these forward-looking statements are
reasonable, we cannot assure you that we will achieve or realize these plans,
intentions or expectations. Forward-looking statements are inherently subject to
risks, uncertainties and assumptions including, without limitation, the factors
described under "Certain Trends and Uncertainties" under Part I, Item 2
("Management's Discussion and Analysis of Financial Condition and Results of
Operations") in this Quarterly Report. Many of the forward-looking statements
contained in this Quarterly Report may be identified by the use of
forward-looking words such as "believe," "expect," "anticipate," "should,"
"planned," "will," "may," "intend," "estimated" and "potential," among others.
Important factors that could cause actual results to differ materially from the
forward-looking statements we make in this Quarterly Report are set forth in
this Quarterly Report and in other reports or documents that we file from time
to time with the United States Securities and Exchange Commission, or the "SEC",
and include, but are not limited to:
o our ability to sustain and grow revenues and cash flows from operating
activities by offering video and data services and to maintain a
stable customer base, particularly in the face of increasingly
aggressive competition from other service providers;
o our and our subsidiaries' ability to comply with all covenants in our
indentures and their credit facilities and indentures, any violation
of which would result in a violation of the applicable facility or
indenture and could trigger a default of other obligations under cross
default provisions;
o our, our parent companies' and our subsidiaries' ability to refinance
remaining debt as it becomes due;
o availability of funds to meet interest payment obligations under our
and our parent and subsidiary companies' debt and to fund our
operations and necessary capital expenditures, either through cash
flows from operating activities, further borrowings or other sources;
o any adverse consequences arising out of our and our subsidiaries'
prior restatement of the financial statements described herein;
o the results of the pending grand jury investigation by the United
States Attorney's Office for the Eastern District of Missouri, the
pending SEC Division of Enforcement investigation and the putative
class action and derivative shareholders litigation against Charter
Communications, Inc.;
o our ability to obtain programming at reasonable prices or pass cost
increases on to our customers;
o general business conditions, economic uncertainty or slowdown; and
o the effects of governmental regulation, including but not limited to
local franchise taxing authorities, on our business.
All forward-looking statements attributable to us or a person acting on our
behalf are expressly qualified in their entirety by this cautionary statement.
We undertake no duty or obligation to update any of the forward-looking
statements after the date of this Quarterly Report.
3
PART I. FINANCIAL INFORMATION.
ITEM 1. FINANCIAL STATEMENTS.
---------------------------------------------------------------
INDEPENDENT ACCOUNTANTS' REVIEW REPORT
The Board of Directors and Member
Charter Communications Holdings, LLC:
We have reviewed the accompanying interim condensed consolidated balance sheet
of Charter Communications Holdings, LLC, and subsidiaries as of September 30,
2003, and the related condensed consolidated statements of operations for the
three-month and nine-month periods ended September 30, 2003 and 2002, and the
related condensed consolidated statements of cash flows for the nine-month
periods ended September 30, 2003 and 2002. These interim condensed consolidated
financial statements are the responsibility of the Company's management.
We conducted our reviews in accordance with standards established by the
American Institute of Certified Public Accountants. A review of interim
financial information consists principally of applying analytical procedures and
making inquiries of persons responsible for financial and accounting matters. It
is substantially less in scope than an audit conducted in accordance with
generally accepted auditing standards, the objective of which is the expression
of an opinion regarding the financial statements taken as a whole. Accordingly,
we do not express such an opinion.
Based on our review, we are not aware of any material modifications that should
be made to the accompanying interim condensed consolidated financial statements
referred to above for them to be in conformity with accounting principles
generally accepted in the United States of America.
As discussed in Note 4 to the interim condensed consolidated financial
statements, effective January 1, 2002, the Company adopted Statement of
Financial Accounting Standards No. 142 "Goodwill and Other Intangible Assets."
As discussed in Note 14 to the interim condensed consolidated financial
statements, effective January 1, 2003, the Company adopted Statement of
Financial Accounting Standards No. 148, "Accounting for Stock-Based Compensation
- - Transition and Disclosure."
/s/ KPMG LLP
St. Louis, Missouri
November 7, 2003
4
CHARTER COMMUNICATIONS HOLDINGS, LLC AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(DOLLARS IN MILLIONS)
SEPTEMBER 30, DECEMBER 31,
2003 2002
---------------- ----------------
(UNAUDITED)
ASSETS
CURRENT ASSETS:
Cash and cash equivalents $ 52 $ 310
Accounts receivable, less allowance for doubtful accounts of
$17 and $19, respectively 187 253
Receivables from related party 85 50
Prepaid expenses and other current assets 28 40
-------- --------
Total current assets 352 653
-------- --------
INVESTMENT IN CABLE PROPERTIES:
Property, plant and equipment, net of accumulated
depreciation of $3,515 and $2,550, respectively 6,862 7,460
Franchises, net of accumulated amortization
of $3,458 and $3,452, respectively 13,721 13,727
-------- --------
Total investment in cable properties, net 20,583 21,187
-------- --------
OTHER NONCURRENT ASSETS 307 316
-------- --------
Total assets $ 21,242 $ 22,156
======== ========
LIABILITIES AND MEMBER'S EQUITY
CURRENT LIABILITIES:
Accounts payable and accrued expenses $ 1,128 $ 1,250
-------- --------
Total current liabilities 1,128 1,250
-------- --------
LONG-TERM DEBT 17,724 17,288
-------- --------
LOANS PAYABLE - RELATED PARTIES 37 73
-------- --------
DEFERRED MANAGEMENT FEES - RELATED PARTY 14 14
-------- --------
OTHER LONG-TERM LIABILITIES 838 932
-------- --------
MINORITY INTEREST 704 693
-------- --------
MEMBER'S EQUITY:
Member's equity 872 2,011
Accumulated other comprehensive loss (75) (105)
-------- --------
Total member's equity 797 1,906
-------- --------
Total liabilities and member's equity $ 21,242 $ 22,156
======== ========
See accompanying notes to condensed consolidated financial statements.
5
CHARTER COMMUNICATIONS HOLDINGS, LLC AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(DOLLARS IN MILLIONS)
UNAUDITED
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------------ ------------------------
2003 2002 2003 2002
------- ------- ------- -------
(RESTATED) (RESTATED)
REVENUES $ 1,207 $ 1,166 $ 3,602 $ 3,377
------- ------- ------- -------
COSTS AND EXPENSES:
Operating (excluding depreciation and amortization and
other items listed below) 484 457 1,457 1,330
Selling, general and administrative 235 243 702 708
Depreciation and amortization 362 374 1,118 1,061
Option compensation expense, net 1 1 1 4
Special charges, net 8 -- 18 1
------- ------- ------- -------
1,090 1,075 3,296 3,104
------- ------- ------- -------
Income from operations 117 91 306 273
------- ------- ------- -------
OTHER INCOME AND EXPENSE:
Interest expense, net (368) (359) (1,103) (1,054)
Gain (loss) on derivative instruments and hedging 31 (76) 35 (106)
activities, net
Gain on debt exchange, net 187 -- 187 --
Other, net (2) (1) (3) (5)
------- ------- ------- -------
(152) (436) (884) (1,165)
------- ------- ------- -------
Loss before minority interest, income taxes and
cumulative effect of accounting change (35) (345) (578) (892)
MINORITY INTEREST (4) (4) (11) (11)
------- ------- ------- -------
Loss before income taxes and cumulative effect of
accounting change (39) (349) (589) (903)
INCOME TAX BENEFIT (EXPENSE) (1) 13 (3) 27
------- ------- ------- -------
Loss before cumulative effect of accounting change (40) (336) (592) (876)
CUMULATIVE EFFECT OF ACCOUNTING CHANGE, NET OF TAX -- -- -- (540)
------- ------- ------- -------
Net loss $ (40) $ (336) $ (592) $(1,416)
======= ======= ======= =======
See accompanying notes to condensed consolidated financial statements.
6
CHARTER COMMUNICATIONS HOLDINGS, LLC AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(DOLLARS IN MILLIONS)
UNAUDITED
NINE MONTHS ENDED
SEPTEMBER 30,
--------------------------------
2003 2002
------------- --------------
(RESTATED)
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $ (592) $(1,416)
Adjustments to reconcile net loss to net cash flows from operating activities:
Minority interest 11 11
Depreciation and amortization 1,118 1,061
Noncash interest expense 313 285
Loss (gain) on derivative instruments and hedging activities, net (35) 106
Gain on debt exchange, net (187) --
Deferred income taxes 3 (27)
Cumulative effect of accounting change, net -- 540
Other, net 1 6
Changes in operating assets and liabilities, net of effects from acquisitions:
Accounts receivable 66 31
Prepaid expenses and other assets 6 1
Accounts payable, accrued expenses and other (50) (35)
Receivables from and payables to related party, including deferred
management fees (64) (60)
------- -------
Net cash flows from operating activities 590 503
------- -------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property, plant and equipment (481) (1,550)
Change in accounts payable and accrued expenses related to capital expenditures (102) (89)
Payments for acquisitions, net of cash acquired -- (140)
Purchases of investments (6) (5)
Other, net (3) 1
------- -------
Net cash flows from investing activities (592) (1,783)
------- -------
CASH FLOWS FROM FINANCING ACTIVITIES:
Borrowings of long-term debt 452 2,440
Repayments of long-term debt (646) (1,486)
Proceeds from issuance of debt 30 895
Payments for debt issuance costs (30) (40)
Repayments to related parties (36) (109)
Capital contributions -- 88
Distributions (26) (6)
------- -------
Net cash flows from financing activities (256) 1,782
------- -------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS (258) 502
CASH AND CASH EQUIVALENTS, beginning of period 310 2
------- -------
CASH AND CASH EQUIVALENTS, end of period $ 52 $ 504
======= =======
CASH PAID FOR INTEREST $ 710 $ 658
======= =======
NONCASH TRANSACTIONS:
Issuance of debt by CCH II, LLC $ 1,572 $ --
======= =======
Retirement of debt $ 1,257 $ --
======= =======
CCH II, LLC notes distributed to retire parent company debt $ 521 $ --
======= =======
See accompanying notes to condensed consolidated financial statements.
7
CHARTER COMMUNICATIONS HOLDINGS, LLC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. ORGANIZATION AND BASIS OF PRESENTATION
Charter Communications Holdings, LLC (Charter Holdings) is a holding company
whose principal assets at September 30, 2003 are equity interests in its cable
operating subsidiaries. Charter Holdings is a subsidiary of Charter
Communications Holding Company, LLC (Charter Holdco), which is a subsidiary of
Charter Communications, Inc. (Charter). The consolidated financial statements
include the accounts of Charter Holdings and all of its direct and indirect
subsidiaries. Charter Holdings and its subsidiaries are collectively referred to
herein as the "Company." All material intercompany transactions and balances
have been eliminated in consolidation. The Company owns and operates cable
systems that provide a full range of video, data, telephony and other advanced
broadband services. The Company also provides commercial high-speed data, video,
telephony and Internet services and sells advertising and production services.
In June 2003, the Company commenced an organizational restructuring, which
consisted of the Company first forming CCH II, LLC (CCH II) and then
contributing all of the equity interests in all of its subsidiaries (except
Charter Communications Holdings Capital Corporation, the co-issuer of the
Company's senior notes and senior discount notes, and Charter Communications
Operating, LLC) to a newly-formed subsidiary (CCO NR Holdings, LLC), and then
contributing CCO NR Holdings, LLC to Charter Communications Operating, LLC
(Charter Operating). The Company then contributed Charter Operating to a newly
formed subsidiary (CCO Holdings, LLC), which was then contributed to CCH II.
Thereafter, CCH I, LLC (CCH I) was formed as a new subsidiary of the Company,
and the Company contributed its interest in CCH II to CCH I.
The accompanying condensed consolidated financial statements of the Company have
been prepared in accordance with accounting principles generally accepted in the
United States for interim financial information and the rules and regulations of
the Securities and Exchange Commission. Accordingly, certain information and
footnote disclosures typically included in the Company's Annual Report on Form
10-K have been condensed or omitted for this Quarterly Report. The accompanying
condensed consolidated financial statements are unaudited and are subject to
review by regulatory authorities. However, in the opinion of management, such
financial statements include all adjustments, which consist of only normal
recurring adjustments, necessary for a fair presentation of the results for the
periods presented. Interim results are not necessarily indicative of results for
a full year.
The preparation of financial statements in conformity with accounting principles
generally accepted in the United States requires management to make estimates
and assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Significant judgments and estimates include capitalization of
labor and overhead costs, depreciation and amortization costs, impairments of
property, plant and equipment, franchises and goodwill, income taxes and other
contingencies. Actual results could differ from those
estimates.
Reclassifications
Certain 2002 amounts have been reclassified to conform with the 2003
presentation.
2. LIQUIDITY AND CAPITAL RESOURCES
The Company has incurred net losses of $40 million and $592 million for the
three and nine months ended September 30, 2003, respectively, and $336 million
and $1.4 billion for the three and nine months ended September 30, 2002,
respectively. The Company's net cash flows from operating activities were $590
million and $503 million for the nine months ended September 30, 2003 and 2002,
respectively. The Company has historically required significant cash to fund
capital expenditures and debt service costs. Historically, the Company has
funded these requirements through cash flows from operating activities,
borrowings under the credit facilities of the Company's subsidiaries, equity
contributions from Charter Holdco, by issuances of debt securities and cash on
hand. The mix of funding sources changes from period to period, but for the nine
months ended September 30, 2003, approximately 70% of the Company's funding
requirements were from cash flows from operating activities and 30% was from
cash on hand. For the nine months ended September 30, 2003, the Company
decreased its borrowings under its
8
CHARTER COMMUNICATIONS HOLDINGS, LLC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
subsidiaries' credit facilities by $193 million and decreased cash on hand by
$258 million.
The Company expects that cash on hand, cash flows from operating activities and
the funds available under its subsidiaries' credit facilities will be adequate
to meet its 2003 cash needs. However, these credit facilities are subject to
certain restrictive covenants, portions of which are subject to the operating
results of the Company's subsidiaries. The Company's 2003 operating plan
anticipates maintaining compliance with these covenants. If the Company's actual
operating results do not maintain compliance with these covenants, or if other
events of noncompliance occur, funding under the bank facilities may not be
available and defaults on some or potentially all debt obligations could occur.
Additionally, no assurances can be given that the Company will not experience
liquidity problems because of adverse market conditions or other unfavorable
events or if the Company does not obtain sufficient additional financing on a
timely basis. In order to improve the Company's subsidiaries' ability to satisfy
their leverage ratio covenants under their credit facilities, the Company's
subsidiary, CCO Holdings, LLC (CCO Holdings), completed a private placement of
$500 million aggregate principal amount of 8.75% senior notes, described in Note
6.
On October 1, 2003 the Company closed on the sale of its Port Orchard,
Washington system for approximately $91 million, subject to adjustments. On
September 3, 2003, the Company signed a definitive agreement with Atlantic
Broadband Finance, LLC for the sale of various cable television systems in
Florida, Pennsylvania, Maryland, Delaware, New York and West Virginia for
approximately $765 million, subject to adjustments. The closing of this
transaction is expected to occur in the first half of 2004, but closing is
subject to the condition that revenues for the applicable systems, as reported
in the audited financial statements for the applicable systems, when issued, be
not less than 97% of amounts reported in previously-delivered unaudited
financial statements, as well as other customary closing conditions.
Charter, which is the sole manager of the Company, has a significant amount of
debt, which will mature in 2005 and 2006. Charter's ability to make interest
payments, or principal payments at maturity in 2005 and 2006, on its convertible
senior notes is dependent on its ability to obtain additional financing and on
the Company's and its other subsidiaries making distributions, loans, or
payments to Charter Holdco, and on Charter Holdco paying or distributing such
funds to Charter. Because Charter is the Company's sole manager, any financial
or liquidity problems of Charter would be likely to cause serious disruption to
the Company's business and to have a material adverse effect on the Company's
operations and results. Any such event would likely adversely impact the
Company's credit rating, and its relations with customers and suppliers, which
could in turn further impair its ability to obtain financing and operate its
business. Further, to the extent that any such event results in a change of
control of Charter (whether through a bankruptcy, receivership or other
reorganization of Charter and/or Charter Holdco, or otherwise), it could result
in an event of default under the credit facilities of the Company's subsidiaries
and require a change of control repurchase offer under the Company's outstanding
notes. As discussed in Note 6, to partially address these liquidity concerns,
the Company and its subsidiaries successfully completed a private placement of
$500 million aggregate principal amount of 8.75% senior notes due 2013 by CCO
Holdings to repay (but not to reduce permanently) principal amounts outstanding
under the Company's subsidiaries' bank credit facilities and for general
corporate purposes. Also, in September 2003, the Company and its indirect
subsidiary, CCH II completed the purchase of an aggregate of $609 million
principal amount of Charter's convertible senior notes and $1.3 billion
principal amount of the senior notes and senior discount notes issued by the
Company from institutional investors in a small number of privately negotiated
transactions. In consideration for these securities, CCH II issued an aggregate
of $1.6 billion principal amount of 10.25% notes due 2010. CCH II also issued an
additional $30 million principal amount of 10.25% notes for an equivalent amount
of cash and used the proceeds for transaction costs and for general corporate
purposes.
The indentures governing the Company's notes permit the Company to make
distributions up to its formulaic capacity to Charter Holdco for payment of
interest on Charter's convertible senior notes, only if, after giving effect to
the distribution, the Company can incur additional debt under the leverage ratio
of 8.75 to 1.0, there is no default under the indentures and other specified
tests are met. The Company did not meet the leverage ratio test at September 30,
2003, and as a result, distributions from the Company to Charter will be subject
to certain restrictions until that test is met. As of September 30, 2003,
Charter Holdco had $39 million in cash on hand and is owed $37
9
CHARTER COMMUNICATIONS HOLDINGS, LLC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
million in intercompany loans, which are available to Charter Holdco to service
interest on Charter's convertible senior notes.
The Company's long-term financing structure as of September 30, 2003 includes
$7.6 billion of credit facility debt and $10.1 billion of high-yield notes.
Approximately $108 million of this financing matures during the remainder of
2003, and the Company expects to fund this through availability under its credit
facilities. Note 6 summarizes the Company's current availability under its
credit facilities and its long-term debt.
3. RESTATEMENT OF CONSOLIDATED FINANCIAL RESULTS
As discussed in the Company's 2002 Form 10-K, the Company identified a series of
adjustments that have resulted in the restatement of previously announced
quarterly results for the first three quarters of fiscal 2002. In summary, the
adjustments are grouped into the following categories: (i) launch incentives
from programmers; (ii) customer incentives and inducements; (iii) capitalized
labor and overhead costs; (iv) customer acquisition costs; (v) rebuild and
upgrade of cable systems; (vi) deferred tax liabilities/franchise assets; and
(vii) other adjustments. These adjustments have been reflected in the
accompanying condensed consolidated financial statements and reduced revenues
for the three and nine months ended September 30, 2002 by $13 million and $38
million, respectively. The Company's consolidated net loss decreased by $125
million and increased by $105 million for the three and nine months ended
September 30, 2002, respectively. In addition, as a result of certain of these
adjustments, the Company's statement of cash flows for the nine months ended
September 30, 2002 has been restated. Cash flows from operating activities for
the nine months ended September 30, 2002 decreased by $29 million. The more
significant categories of adjustments relate to the following as outlined below.
Launch Incentives from Programmers. Amounts previously recognized as advertising
revenue in connection with the launch of new programming channels have been
deferred and recorded in other long-term liabilities in the year such launch
support was provided, and amortized as a reduction of programming costs based
upon the relevant contract term. These adjustments decreased revenue by $10
million and $30 million for the three and nine months ended September 30, 2002,
respectively. The corresponding amortization of such deferred amounts reduced
programming expenses by $12 million and $35 million for the three and nine
months ended September 30, 2002, respectively.
Customer Incentives and Inducements. Marketing inducements paid to encourage
potential customers to switch from satellite providers to Charter branded
services and enter into multi-period service agreements were previously deferred
and recorded as property, plant and equipment and recognized as depreciation and
amortization expense over the life of customer contracts. These amounts have
been restated as a reduction of revenues of $2 million and $5 million for the
three and nine months ended September 30, 2002, respectively. Substantially all
of these amounts are offset by reduced depreciation and amortization expense.
Capitalized Labor and Overhead Costs. Certain elements of labor costs and
related overhead allocations previously capitalized as property, plant and
equipment as part of the Company's rebuild activities, customer installations
and new service introductions have been expensed in the period incurred. Such
adjustments increased operating expenses by $13 million and $39 million for the
three and nine months ended September 30, 2002, respectively.
Customer Acquisition Costs. Certain customer acquisition campaigns were
conducted through third-party contractors in portions of 2002. The costs of
these campaigns were originally deferred and recorded as other assets and
recognized as amortization expense over the average customer contract life.
These amounts have been reported as marketing expense in the period incurred and
totaled $13 million and $32 million for the three and nine months ended
September 30, 2002, respectively. The Company discontinued this program in the
third quarter of 2002 as contracts for third-party vendors expired.
Substantially all of these amounts are offset by reduced depreciation and
amortization expense.
Rebuild and Upgrade of Cable Systems. In 2000, the Company initiated a
three-year program to replace and upgrade a substantial portion of its network.
In connection with this plan, the Company assessed the carrying value of, and
the associated depreciable lives of, various assets to be replaced. It was
determined that $1 billion of cable
10
CHARTER COMMUNICATIONS HOLDINGS, LLC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
distribution system assets, originally treated as subject to replacement, were
not part of the original replacement plan but were to be upgraded and have
remained in service. The Company also determined that certain assets subject to
replacement during the upgrade program were misstated in the allocation of the
purchase price of the acquisition. This adjustment reduced property, plant and
equipment and increased franchise costs by $627 million. In addition, the
depreciation period for the assets subject to replacement was adjusted to more
closely align with the intended service period of these assets rather than the
three-year straight-line life originally assigned. As a result, adjustments were
recorded to reduce depreciation expense by $115 million and $353 million for the
three and nine months ended September 30, 2002, respectively.
Deferred Tax Liabilities/Franchise Assets. Adjustments were made to record
deferred tax liabilities associated with the acquisition of various cable
television businesses. These adjustments increased amounts assigned to franchise
assets by $1.4 billion with a corresponding increase in deferred tax liabilities
of $0.6 billion and to member's equity of $0.8 billion. In addition, as
described above, a correction was made to reduce amounts assigned in purchase
accounting to assets identified for replacement over the three-year period of
the Company's rebuild and upgrade of its network. This reduced the amount
assigned to the network assets to be retained and increased the amount assigned
to franchise assets by $627 million with a resulting increase in amortization
expense for the years restated. Such adjustments increased the cumulative effect
of accounting change recorded upon adoption of Statement of Financial Accounting
Standards (SFAS) No. 142 by $199 million, before tax effects, for the nine
months ended September 30, 2002.
Other Adjustments. In addition to the items described above, other adjustments
of expenses include additional amounts charged to special charges related to the
2001 restructuring plan, certain tax reclassifications from tax expense to
operating costs and other miscellaneous adjustments. The net impact of these
adjustments to net loss is a decrease of $1 million and an increase of $4
million for the three and nine months ended September 30, 2002, respectively.
The following tables summarize the effects of the adjustments on the condensed
consolidated statements of operations and cash flows for the three and nine
month ended September 30, 2002 (dollars in millions).
CONDENSED CONSOLIDATED STATEMENT OF OPERATIONS
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, 2002 SEPTEMBER 30, 2002
--------------------------- ---------------------------
AS PREVIOUSLY AS PREVIOUSLY
REPORTED RESTATED REPORTED RESTATED
------------- -------- ------------- --------
Revenues $ 1,179 $ 1,166 $ 3,415 $ 3,377
Income (loss) from operations (17) 91 (47) 273
Minority interest (3) (3) (10) (11)
Cumulative effect of accounting change, net of tax -- -- (83) (540)
Net loss (461) (336) (1,311) (1,416)
CONDENSED CONSOLIDATED STATEMENT OF CASH FLOWS
NINE MONTHS ENDED
SEPTEMBER 30, 2002
------------------------------------
AS PREVIOUSLY
REPORTED RESTATED
---------------- ---------------
Net cash flows from operating activities $ 532 $ 503
Net cash flows from investing activities (1,807) (1,783)
Net cash flows from financing activities 1,778 1,782
11
CHARTER COMMUNICATIONS HOLDINGS, LLC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
4. FRANCHISES AND GOODWILL
On January 1, 2002, the Company adopted SFAS No. 142, which eliminates the
amortization of indefinite lived intangible assets. Accordingly, beginning
January 1, 2002, all franchises that qualify for indefinite life treatment under
SFAS No. 142 are no longer amortized against earnings but instead will be tested
for impairment annually, or more frequently as warranted by events or changes in
circumstances. During the first quarter of 2002, the Company had an independent
appraiser perform valuations of its franchises as of January 1, 2002. Based on
the guidance prescribed in Emerging Issues Task Force (EITF) Issue No. 02-7,
Unit of Accounting for Testing of Impairment of Indefinite-Lived Intangible
Assets, franchises were aggregated into essentially inseparable asset groups to
conduct the valuations. The asset groups generally represent geographic clusters
of the Company's cable systems, which management believes represents the highest
and best use of those assets. Fair value was determined based on estimated
discounted future cash flows using reasonable and appropriate assumptions that
are consistent with internal forecasts. As a result, the Company determined that
franchises were impaired and recorded the cumulative effect of a change in
accounting principle of $540 million (approximately $572 million before tax
effects of $32 million). The effect of adoption was to increase net loss by $540
million. SFAS No. 142 does not permit the recognition of the customer
relationship asset not previously recognized. Accordingly, the impairment
included approximately $373 million before tax effects attributable to customer
relationship values as of January 1, 2002.
In determining whether its franchises have an indefinite life, the Company
considered the exclusivity of the franchise, its expected costs of franchise
renewals, and the technological state of the associated cable systems with a
view to whether or not the Company is in compliance with any technology
upgrading requirements. Certain franchises did not qualify for indefinite-life
treatment due to technological or operational factors that limit their lives.
These franchise costs are amortized on a straight-line basis over 10 years.
The following table presents the Company's indefinite-lived and finite-lived
intangible assets as of September 30, 2003 and December 31, 2002 (dollars in
millions):
SEPTEMBER 30, 2003 DECEMBER 31, 2002
------------------------------------- ---------------------------------------
GROSS NET GROSS NET
CARRYING ACCUMULATED CARRYING CARRYING ACCUMULATED CARRYING
AMOUNT AMORTIZATION AMOUNT AMOUNT AMORTIZATION AMOUNT
------ ------------ ------ ------ ------------ ------
INDEFINITE-LIVED
INTANGIBLE ASSETS:
Franchise with
indefinite
lives $17,076 $ 3,428 $13,648 $17,076 $ 3,428 $13,648
Goodwill 54 -- 54 54 -- 54
------- ------- ------- ------- ------- -------
$17,130 $ 3,428 $13,702 $17,130 $ 3,428 $13,702
======= ======= ======= ======= ======= =======
FINITE-LIVED
INTANGIBLE ASSETS:
Franchises with
finite lives $ 103 $ 30 $ 73 $ 103 $ 24 $ 79
======= ======= ======= ======= ======= =======
Franchise amortization expense for the three and nine months ended September 30,
2003 and 2002 was $2 million and $6 million, respectively, which represents the
amortization relating to franchises that did not qualify for indefinite-life
treatment under SFAS No. 142, including costs associated with franchise
renewals. For each of the next five years, amortization expense relating to
these franchises is expected to be approximately $9 million. Actual amortization
expense to be reported in future periods could differ from these estimates as a
result of new intangible asset acquisitions, changes in useful lives and other
relevant factors.
12
CHARTER COMMUNICATIONS HOLDINGS, LLC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
5. ACCOUNTS PAYABLE AND ACCRUED EXPENSES
Accounts payable and accrued expenses consist of the following as of September
30, 2003 and December 31, 2002 (dollars in millions):
SEPTEMBER 30, DECEMBER 31,
2003 2002
---------------- ----------------
Accounts payable $137 $182
Capital expenditures 32 134
Accrued interest 315 234
Programming costs 254 282
Accrued general and administrative 100 91
Franchise fees 58 68
State sales tax 65 67
Other accrued expenses 167 192
---------------- ----------------
$1,128 $1,250
================ ================
6. LONG-TERM DEBT
Long-term debt consists of the following as of September 30, 2003 and December
31, 2002 (dollars in millions):
SEPTEMBER 30, 2003 DECEMBER 31, 2002
---------------------------- ----------------------------
ACCRETED ACCRETED
FACE VALUE VALUE FACE VALUE VALUE
------------ ------------ ----------- -------------
LONG-TERM DEBT
Charter Holdings:
March 1999
8.250% senior notes due 2007 451 450 600 599
8.625% senior notes due 2009 1,244 1,242 1,500 1,497
9.920% senior discount notes due 2011 1,108 1,056 1,475 1,307
January 2000
10.000% senior notes due 2009 640 640 675 675
10.250% senior notes due 2010 318 318 325 325
11.750% senior discount notes due 2010 450 388 532 421
January 2001
10.750% senior notes due 2009 874 873 900 900
11.125% senior notes due 2011 500 500 500 500
13.500% senior discount notes due 2011 675 501 675 454
May 2001
9.625% senior notes due 2009 290 290 350 350
10.000% senior notes due 2011 410 410 575 575
11.750% senior discount notes due 2011 939 696 1,018 693
January 2002
9.625% senior notes due 2009 350 348 350 348
10.000% senior notes due 2011 300 298 300 298
12.125% senior discount notes due 2012 330 224 450 280
CCH II:
10.250% senior notes due 2010 1,601 1,601 -- --
Renaissance:
10.00% senior discount notes due 2008 114 116 114 113
CC V Holdings:
13
CHARTER COMMUNICATIONS HOLDINGS, LLC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
SEPTEMBER 30, 2003 DECEMBER 31, 2002
---------------------------- ----------------------------
ACCRETED ACCRETED
FACE VALUE VALUE FACE VALUE VALUE
------------ ------------ ----------- -------------
11.875% senior discount notes due 2008 180 177 180 163
Other long-term debt -- -- 1 1
CREDIT FACILITIES
Charter Operating 4,483 4,483 4,542 4,542
CC VI 880 880 926 926
Falcon Cable 1,133 1,133 1,155 1,155
CC VIII Operating 1,100 1,100 1,166 1,166
------- ------- ------- -------
$18,370 $17,724 $18,309 $17,288
======= ======= ======= =======
Charter Operating Credit Facilities. The Charter Operating credit facilities
were amended and restated as of June 19, 2003 to allow for the insertion of
intermediate holding companies between the Company and Charter Operating. In
exchange for the lenders' consent to the organizational restructuring described
below, Charter Operating increased pricing by 50 basis points in the existing
Charter Operating pricing grid across all levels.
Obligations under the Charter Operating credit facilities are guaranteed by the
Company, CCO Holdings, LLC and by Charter Operating's subsidiaries, other than
the non-recourse subsidiaries, subsidiaries precluded from so guaranteeing by
reason of the provisions of other indebtedness to which they are subject, and
immaterial subsidiaries. The obligations under the Charter Operating credit
facilities are secured by pledges of all equity interests owned by Charter
Operating in its direct subsidiaries, all equity interests owned by its
guarantor subsidiaries in their respective subsidiaries, and intercompany
obligations owing to Charter Operating and/or its guarantor subsidiaries by
their affiliates. CCO Holdings has guaranteed Charter Operating's obligations
under the credit facilities and pledged its equity interest in all of its direct
subsidiaries, including Charter Operating, as collateral.
Exchange of Indebtedness. In September 2003, Charter, the Company and their
indirect subsidiary, CCH II, completed the purchase of an aggregate of $609
million principal amount of Charter's convertible senior notes and $1.3 billion
principal amount of the senior notes and senior discount notes issued by the
Company from institutional investors in a small number of privately negotiated
transactions. In consideration for these securities, CCH II issued an aggregate
of $1.6 billion principal amount of 10.25% notes due 2010. CCH II also issued an
additional $30 million principal amount of 10.25% notes for an equivalent amount
of cash and used the proceeds for transaction costs and general corporate
purposes. This transaction resulted in a gain on debt exchange of $187 million,
which is net of the write-off of deferred financing costs of $18 million
associated with the retired debt.
Private Placement. In November 2003, the Company completed a private placement
of $500 million aggregate principal amount of 8.75% senior notes due 2013 by CCO
Holdings. The 8.75% senior notes issued in the private placement have not been
and will not be registered under the Securities Act of 1933 and may not be
offered in the United States absent registration or an applicable exemption from
registration requirements.
Vulcan Inc. Commitment. The Company's subsidiary entered into a commitment
letter with Vulcan Inc., which is an affiliate of Paul Allen, pursuant to which
Vulcan Inc. agreed to lend, or cause an affiliate to lend to CCO Holdings, LLC
an aggregate amount of up to $300 million. As of September 30, 2003, the Company
has not drawn on the facility, and it intends to terminate the commitment as a
result of the recent private placement of $500 million aggregate principal
amount of 8.75% senior notes due 2013 by CCO Holdings.
14
CHARTER COMMUNICATIONS HOLDINGS, LLC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
The table below presents the unused total potential availability under each of
the Company's credit facilities and the availability as limited by financial
covenants as of September 30, 2003, which become more restrictive over the term
of each facility before becoming fixed (dollars in millions):
UNUSED TOTAL AVAILABILITY AS
POTENTIAL LIMITED BY FINANCIAL
AVAILABILITY COVENANTS
----------------------- ------------------------
Charter Operating $666 $210
CC VI 234 75
Falcon Cable 181 133
CC VIII Operating 328 317
----------------------- ------------------------
Total $1,409 $735
======================= ========================
7. COMPREHENSIVE LOSS
Certain marketable equity securities are classified as available-for-sale and
reported at market value with unrealized gains and losses recorded as
accumulated other comprehensive loss on the accompanying condensed consolidated
balance sheets. The Company reports changes in the fair value of interest rate
agreements designated as hedging instruments of the variability of cash flows
associated with floating-rate debt obligations, that meet the effectiveness
criteria of SFAS No. 133, "Accounting for Derivative Instruments and Hedging
Activities," in accumulated other comprehensive loss. Comprehensive loss for the
three months ended September 30, 2003 and 2002 was $19 million and $394 million,
respectively. Comprehensive loss for the nine months ended September 30, 2003
and 2002 was $562 million and $1.5 billion, respectively.
8. ACCOUNTING FOR DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES
The Company uses interest rate risk management derivative instruments, such as
interest rate swap agreements and interest rate collar agreements (collectively
referred to herein as interest rate agreements) as required under the terms of
its credit facilities. The Company's policy is to manage interest costs using a
mix of fixed and variable rate debt. Using interest rate swap agreements, the
Company agrees to exchange, at specified intervals through 2007, the difference
between fixed and variable interest amounts calculated by reference to an
agreed-upon notional principal amount. Interest rate collar agreements are used
to limit the Company's exposure to and benefits from interest rate fluctuations
on variable rate debt to within a certain range of rates.
The Company does not hold or issue derivative instruments for trading purposes.
The Company does, however, have certain interest rate derivative instruments
that have been designated as cash flow hedging instruments. Such instruments are
those that effectively convert variable interest payments on certain debt
instruments into fixed payments. For qualifying hedges, SFAS No. 133 allows
derivative gains and losses to offset related results on hedged items in the
condensed consolidated statement of operations. The Company has formally
documented, designated and assessed the effectiveness of transactions that
receive hedge accounting. For the three months ended September 30, 2003 and
2002, other income and expense includes gains of $0 and $2 million,
respectively, and for the nine months ended September 30, 2003 and 2002, other
expenses includes gains of $8 million and losses of $3 million, respectively,
which represent cash flow hedge ineffectiveness on interest rate hedge
agreements arising from differences between the critical terms of the agreements
and the related hedged obligations. Changes in the fair value of interest rate
agreements designated as hedging instruments of the variability of cash flows
associated with floating-rate debt obligations are reported in accumulated other
comprehensive loss and minority interest. For the three and nine months ended
September 30, 2003 a gain of $21 million and $30 million, respectively, and for
the three and nine months ended September 30, 2002, a loss of $58 million and
$70 million, respectively, related to derivative instruments designated as cash
flow hedges was recorded in accumulated other comprehensive loss. The amounts
are subsequently reclassified into interest expense as a yield adjustment in the
same period in which the related interest on the floating-rate debt obligations
affects earnings (losses).
15
CHARTER COMMUNICATIONS HOLDINGS, LLC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
Certain interest rate derivative instruments are not designated as hedges as
they do not meet the effectiveness criteria specified by SFAS No. 133. However,
management believes such instruments are closely correlated with the respective
debt, thus managing associated risk. Interest rate derivative instruments not
designated as hedges are marked to fair value with the impact recorded as a gain
or loss on interest rate agreements. For the three months ended September 30,
2003 and 2002, the Company recorded, within other income and expense, income of
$31 million and expense of $79 million, respectively, and for the nine months
ended September 30, 2003 and 2002, recorded other income of $27 million and
other expense of $103 million, respectively, for interest rate derivative
instruments not designated as hedges.
At September 30, 2003 and December 31, 2002, the Company had outstanding $3.3
billion and $3.4 billion, respectively, and $520 million and $520 million,
respectively, in notional amounts of interest rate swaps and collars,
respectively. The notional amounts of interest rate instruments do not represent
amounts exchanged by the parties and, thus, are not a measure of exposure to
credit loss. The amounts exchanged are determined by reference to the notional
amount and the other terms of the contracts.
The Company does not hold collateral for these instruments and is therefore
subject to credit loss in the event of nonperformance by the counterparty to the
interest rate exchange agreement. However the counterparties are banks and we do
not anticipate nonperformance by any of them on any interest rate exchange
agreement.
9. REVENUES
Revenues consist of the following for the three and nine months ended September
30, 2003 and 2002 (dollars in millions):
THREE MONTHS NINE MONTHS
ENDED SEPTEMBER 30, ENDED SEPTEMBER 30,
-------------------------- -------------------------
2003 2002 2003 2002
----------- ----------- ---------- -----------
Video $866 $862 $2,607 $2,553
High-speed data 145 91 403 231
Advertising sales 64 86 188 216
Commercial 52 41 149 117
Other 80 86 255 260
----------- ----------- ---------- -----------
$1,207 $1,166 $3,602 $3,377
=========== =========== ========== ===========
10. OPERATING EXPENSES
Operating expenses consist of the following for the three and nine months ended
September 30, 2003 and 2002 (dollars in millions):
THREE MONTHS NINE MONTHS
ENDED SEPTEMBER 30, ENDED SEPTEMBER 30,
-------------------------- -------------------------
2003 2002 2003 2002
----------- ----------- ---------- -----------
Programming costs $307 $296 $934 $873
Advertising sales 21 23 65 63
Service costs 156 138 458 394
---------- ----------- ---------- -----------
$484 $457 $1,457 $1,330
========== =========== ========== ===========
The Company has various contracts and other arrangements to obtain basic,
premium and digital programming from program suppliers that receive compensation
typically based on a monthly flat fee per customer. The cost of the
16
CHARTER COMMUNICATIONS HOLDINGS, LLC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
right to exhibit network programming under such arrangements is recorded in the
month the programming is available for exhibition.
11. SPECIAL CHARGES
In the fourth quarter of 2002, the Company recorded a special charge of $35
million, of which $31 million was associated with its workforce reduction
program and the consolidation of its operations from three divisions and ten
regions into five operating divisions, elimination of redundant practices and
streamlining its management structure. The remaining $4 million related to legal
and other costs associated with Charter's ongoing grand jury investigation,
shareholder lawsuits and SEC investigation. The $31 million charge related to
realignment activities, included severance costs of $28 million related to
approximately 1,400 employees identified for termination as of December 31, 2002
and lease termination costs of $3 million. During the three and nine months
ended September 30, 2003, an additional 400 and 1,100 employees, respectively,
were identified for termination, and additional severance costs of $8 million
and $23 million, respectively, were recorded in special charges. In total,
approximately 400 and 2,300 employees were terminated during the three and nine
months ended September 30, 2003, respectively. Severance payments are generally
made over a period of up to twelve months with approximately $11 million and $34
million, respectively, paid during the three and nine months ended September 30,
2003. As of September 30, 2003 and December 31, 2002, a liability of
approximately $19 million and $31 million, respectively, is recorded on the
accompanying condensed consolidated balance sheets related to the realignment
activities. For the nine months ended September 30, 2003, the additional
severance costs were offset by a $5 million settlement from the Internet service
provider Excite@Home related to the conversion of approximately 145,000
high-speed data customers to Charter Pipeline service in 2001, for which costs
of $15 million were recorded in the fourth quarter of 2001.
In December 2001, Charter implemented a restructuring plan to reduce its
workforce in certain markets and reorganize its operating divisions from two to
three and operating regions from twelve to ten. The restructuring plan was
completed during the first quarter of 2002, resulting in the termination of
approximately 320 employees and severance costs of $4 million, of which $1
million was recorded during the nine months ended September 30, 2002.
12. INCOME TAXES
The Company is a single member limited liability company not subject to income
tax. The Company holds all operations through indirect subsidiaries. The
majority of these indirect subsidiaries are limited liability companies that are
not subject to income tax. However, certain of the Company's indirect
subsidiaries are corporations and are subject to income tax.
As of September 30, 2003 and December 31, 2002, the Company has net deferred
income tax liabilities of approximately $238 million and $232 million,
respectively. These relate to certain of the Company's indirect subsidiaries,
which file separate income tax returns. During the three months ended September
30, 2003 and 2002, the Company recorded $1 million of income tax expense and $13
million of income tax benefit, respectively. During the nine months ended
September 30, 2003 and 2002, the Company recorded $3 million of income tax
expense and $27 million of income tax benefit, respectively. The income tax
expense recorded for the three and nine months ended September 30, 2003 is the
result of changes in the deferred tax liabilities and federal and state income
taxes payable of certain of the Company's indirect subsidiaries. The income tax
benefit recorded for the three and nine months ended September 30, 2002 was the
result of changes in deferred taxes related to the differences in accounting for
franchises.
The Company is currently under examination by the Internal Revenue Service for
the tax years ending December 31, 2000 and 1999. Management does not expect the
results of this examination to have a material adverse effect on the Company's
consolidated financial position or results of operations.
13. CONTINGENCIES
Fourteen putative federal class action lawsuits (the "Federal Class Actions")
have been filed against Charter and
17
CHARTER COMMUNICATIONS HOLDINGS, LLC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
certain of its former and present officers and directors in various
jurisdictions allegedly on behalf of all purchasers of Charter's securities
during the period from either November 8 or November 9, 1999 through July 17 or
July 18, 2002. Unspecified damages are sought by the plaintiffs. In general, the
lawsuits allege that Charter utilized misleading accounting practices and failed
to disclose these accounting practices and/or issued false and misleading
financial statements and press releases concerning Charter's operations and
prospects.
In October 2002, Charter filed a motion with the Judicial Panel on Multidistrict
Litigation (the "Panel") to transfer the Federal Class Actions to the Eastern
District of Missouri. On March 12, 2003, the Panel transferred the six Federal
Class Actions not filed in the Eastern District of Missouri to that district for
coordinated or consolidated pretrial proceedings with the eight Federal Class
Actions already pending there. The Panel's transfer order assigned the Federal
Class Actions to Judge Charles A. Shaw. By virtue of a prior court order,
StoneRidge Investment Partners LLC became lead plaintiff upon entry of the
Panel's transfer order. StoneRidge subsequently filed a Consolidated Amended
Complaint. The Court subsequently consolidated the Federal Class Actions for
pretrial purposes. On June 19, 2003, following a pretrial conference with the
parties, the Court issued a Case Management Order setting forth a schedule for
the pretrial phase of the consolidated class action. Motions to dismiss the
Consolidated Amended Complaint have been filed.
On September 12, 2002, a shareholders derivative suit (the "State Derivative
Action") was filed in Missouri state court against Charter and its then current
directors, as well as its former auditors. A substantively identical derivative
action was later filed and consolidated into the State Derivative Action. The
plaintiffs allege that the individual defendants breached their fiduciary duties
by failing to establish and maintain adequate internal controls and procedures.
Unspecified damages, allegedly on Charter's behalf, are sought by the
plaintiffs.
Separately, on February 12, 2003, a shareholders derivative suit (the "Federal
Derivative Action"), was filed against Charter and its then current directors in
the United States District Court for the Eastern District of Missouri. The
plaintiff alleges that the individual defendants breached their fiduciary duties
and grossly mismanaged Charter by failing to establish and maintain adequate
internal controls and procedures. Unspecified damages, allegedly on Charter's
behalf, are sought by the plaintiffs.
In addition to the Federal Class Actions, the State Derivative Action and the
Federal Derivative Action, six putative class action lawsuits have been filed
against Charter and certain of its then current directors and officers in the
Court of Chancery of the State of Delaware (the "Delaware Class Actions"). The
Delaware Class Actions are substantively identical and generally allege that the
defendants breached their fiduciary duties by participating or acquiescing in a
purported and threatened attempt by Defendant Paul Allen to purchase shares and
assets of Charter at an unfair price. The lawsuits were brought on behalf of
Charter's securities holders as of July 29, 2002, and seek unspecified damages
and possible injunctive relief. No such proposed transaction by Mr. Allen has
been presented.
The lawsuits discussed above are each in preliminary stages. No reserves have
been established for those matters because the Company believes they are either
not estimable or not probable. Charter has advised the Company that it intends
to vigorously defend the lawsuits.
In August 2002, Charter became aware of a grand jury investigation being
conducted by the United States Attorney's Office for the Eastern District of
Missouri into certain of its accounting and reporting practices, focusing on how
Charter reported customer numbers and its reporting of amounts received from
digital set-top terminal suppliers for advertising. The U.S. Attorney's Office
has publicly stated that Charter is not currently a target of the investigation.
Charter has also been advised by the U.S. Attorney's Office that no member of
its board of directors, including its Chief Executive Officer, is a target of
the investigation. On July 24, 2003, a federal grand jury charged four former
officers of Charter with conspiracy and mail and wire fraud, alleging improper
accounting and reporting practices focusing on revenue from digital set-top
terminal suppliers and inflated subscriber account numbers. On July 25, 2003,
one of the former officers who was indicted entered a guilty plea. Charter has
advised the Company that it is fully cooperating with the investigation.
On November 4, 2002, Charter received an informal, non-public inquiry from the
Staff of the Securities and
18
CHARTER COMMUNICATIONS HOLDINGS, LLC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
Exchange Commission (SEC). The SEC has subsequently issued a formal order of
investigation dated January 23, 2003, and subsequent document and testimony
subpoenas. The investigation and subpoenas generally concern Charter's prior
reports with respect to its determination of the number of customers, and
various of its other accounting policies and practices including its
capitalization of certain expenses and dealings with certain vendors, including
programmers and digital set-top terminal suppliers. Charter has advised the
Company that it is fully cooperating with the SEC Staff.
Charter has advised us that they are unable to predict the outcome of the
lawsuits and the government investigations described above. An unfavorable
outcome in the lawsuits or the government investigations described above could
have a material adverse effect on Charter's and the Company's results of
operations and financial condition.
Charter is generally required to indemnify each of the named individual
defendants in connection with these matters pursuant to the terms of its Bylaws
and (where applicable) such individual defendants' employment agreements.
Pursuant to the terms of certain employment agreements and in accordance with
the Bylaws of Charter, in connection with the pending grand jury investigation,
SEC investigation and the above described lawsuits, Charter's current directors
and its current and former officers have been advanced certain costs and
expenses incurred in connection with their defense.
In addition to the matters set forth above, Charter and the Company are also
party to other lawsuits and claims that arose in the ordinary course of
conducting its business. In the opinion of management, after taking into account
recorded liabilities, the outcome of these other lawsuits and claims will not
have a material adverse effect on the Company's consolidated financial position
or results of operations.
Charter has directors' and officers' liability insurance coverage that it
believes is available for these matters, where applicable, and subject to the
terms, conditions and limitations of the respective policies.
14. STOCK COMPENSATION PLANS
The Company has historically accounted for stock-based compensation in
accordance with Accounting Principles Board (APB) Opinion No. 25, "Accounting
for Stock Issued to Employees," and related interpretations, as permitted by
SFAS No. 123, "Accounting for Stock-Based Compensation." On January 1, 2003, the
Company adopted the fair value measurement provisions of SFAS No. 123 using the
prospective method under which the Company recognizes compensation expense of a
stock-based award to an employee over the vesting period based on the fair value
of the award on the grant date consistent with the method described in Financial
Accounting Standards Board Interpretation No. 28 (FIN 28), Accounting for Stock
Appreciation Rights and Other Variable Stock Option or Award Plans. Adoption of
these provisions resulted in utilizing a preferable accounting method, as the
consolidated financial statements presents the estimated fair value of
stock-based compensation in expense consistently with other forms of
compensation and other expense associated with goods and services received for
equity instruments. In accordance with SFAS No. 148, the fair value method is
applied only to awards granted or modified after January 1, 2003, whereas awards
granted prior to such date continue to be accounted for under APB No. 25, unless
they are modified or settled in cash. The adoption of these provisions did not
have a material impact on the consolidated results of operations or financial
position of the Company. The ongoing effect on consolidated results of
operations or financial position will be dependent upon future stock based
compensation awards granted by Charter. Had the Company adopted SFAS No. 123 as
of January 1, 2002, using the prospective method, option compensation expense
for the three and nine months ended September 30, 2002 would have been
approximately $7 million and $10 million, respectively.
19
CHARTER COMMUNICATIONS HOLDINGS, LLC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
SFAS No. 123 requires pro forma disclosure of the impact on earnings as if the
compensation expense for these plans had been determined using the fair value
method. The following table presents the Company's net loss as reported and the
pro forma amount that would have been reported using the fair value method under
SFAS 123 for the years presented (dollars in millions):
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
----------------------------- -------------------------------
2003 2002 2003 2002
------------ ------------- ------------- --------------
Net loss $(40) $(336) $(592) $(1,416)
Pro forma (46) (362) (614) (1,497)
In July 2003, Charter's shareholders approved an amendment to Charter's 2001
Stock Incentive Plan to increase by 30,000,000 shares the number of Class A
common stock authorized for issuance under the Plan as well as amendments to the
1999 Option Plan and the 2001 Stock Incentive Plan to authorize the repricing of
outstanding options.
15. RELATED PARTIES
Comcast Put Right. As part of the acquisition of the cable television systems
owned by Bresnan Communications Company Limited Partnership in February 2000, CC
VIII, LLC (CC VIII), the Company's indirect limited liability company
subsidiary, issued Class A Preferred Membership Interests (collectively, the "CC
VIII Interest") with a value and an initial capital account of approximately
$630 million to certain sellers affiliated with AT&T Broadband, now owned by
Comcast Corporation (the "Comcast Sellers"). While held by the Comcast Sellers,
the CC VIII Interest was entitled to a 2% priority return on its initial capital
amount and such priority return was entitled to preferential distributions from
available cash and upon liquidation of CC VIII. While held by the Comcast
Sellers, the CC VIII Interest generally did not share in the profits and losses
of CC VIII. Paul Allen granted the Comcast Sellers the right to sell to him the
CC VIII Interest for approximately $630 million plus 4.5% interest annually from
February 2000 (the "Comcast Put Right"). In April 2002, the Comcast Sellers
exercised the Comcast Put Right in full, and this transaction was consummated on
June 6, 2003. Accordingly, Mr. Allen has become the holder of the CC VIII
Interest indirectly through an affiliate. Consequently, subject to the matters
referenced in the next paragraph, Mr. Allen generally thereafter will be
allocated his pro rata share (based on the number of membership interests
outstanding) of profits or losses of CC VIII. In the event of a liquidation of
CC VIII, Mr. Allen will not be entitled to any priority distributions (except
with respect to the 2% priority return, as to which such priority will continue
to accrete), and Mr. Allen's share of any remaining distributions in liquidation
will be equal to the initial capital account of the Comcast Sellers of
approximately $630 million, increased or decreased by Mr. Allen's pro rata share
of CC VIII's profits or losses (as computed for capital account purposes) after
June 6, 2003. At September 30, 2003, Mr. Allen's CC VIII Interest was $678
million. The limited liability company agreement of CC VIII does not provide for
a mandatory redemption of the CC VIII Interest.
An issue has arisen as to whether the documentation for the Bresnan transaction
was correct and complete with regard to the ultimate ownership of the CC VIII
Interest following consummation of the Comcast Put Right. Charter's Board of
Directors formed a Special Committee initially comprised of Messrs. Tory,
Wangberg and Nelson to investigate and take any other appropriate action on its
behalf with respect to this matter. Charter's Board of Directors recently
appointed David Merritt to the Special Committee to take the place of Mr.
Nelson, who is no longer a director of Charter. After conducting an
investigation of the facts and circumstances relating to this matter, the
Special Committee has reached a preliminary determination that, due to a mistake
that occurred in preparing the Bresnan transaction documents, Charter should
seek the reformation of certain contractual provisions in such documents and has
notified Mr. Allen of this conclusion. The Special Committee also has
preliminarily determined that, as part of such contract reformation, Mr. Allen
should be required to contribute the CC VIII Interest to Charter Holdco in
exchange for Charter Holdco membership units. The Special Committee also has
recommended to the Board of Directors that, to the extent the contract
reformation is achieved, the Board should consider whether the CC VIII Interest
should ultimately be held by Charter Holdco, the Company or another entity owned
directly or
20
CHARTER COMMUNICATIONS HOLDINGS, LLC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
indirectly by them. Mr. Allen has notified the Special Committee that he
disagrees with the Special Committee's preliminary determinations. The parties
engaged in a process of non-binding mediation to seek to resolve this matter,
without success. The Special Committee is evaluating what further actions or
processes it may undertake to resolve this dispute, which may include
alternative dispute resolution proceedings or the initiation of judicial
proceedings in the Delaware Court of Chancery.
Debt Held by Affiliates. Certain related parties, including members of Charter's
Board of Directors and management, hold interests in the Company's senior notes
and discount notes of approximately $56 million of face value at September 30,
2003.
21
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
GENERAL
Charter Communications Holdings, LLC ("Charter Holdings") is a holding company
whose principal assets as of September 30, 2003 are equity interests in its
cable operating subsidiaries. Charter Holdings is a subsidiary of Charter
Communications Holding Company, LLC ("Charter Holdco"), which is a subsidiary of
Charter Communications, Inc. ("Charter"). "We," "us" and "our" refer to Charter
Holdings and its subsidiaries. We own and operate cable systems that provide a
full range of video, data, telephony and other advanced broadband services. We
also provide commercial high-speed data, video and telephony services and sell
advertising and production services.
The following table summarizes our approximate customer statistics for analog
and digital video, high-speed data, telephony, and advanced services as of
September 30, 2003, June 30, 2003 and September 30, 2002:
APPROXIMATE AS OF
--------------------------------------------------
SEPTEMBER 30, JUNE 30, SEPTEMBER 30,
2003 (A) 2003 (A) 2002 (A)
---------- ---------- ----------
CUSTOMER SUMMARY:
CUSTOMER RELATIONSHIPS:
Video customers (b)(c) 6,498,100 6,486,900 6,647,600
Non-video customers (b) 54,800 52,000 50,300
---------- ---------- ----------
Total customer relationships (d) 6,552,900 6,538,900 6,697,900
========== ========== ==========
Average monthly revenue per customer relationship (e) $ 61.46 $ 61.82 $ 57.66
Bundled customers (f) 1,434,900 1,297,000 919,600
REVENUE GENERATING UNITS:
Analog video customers (b)(c) 6,498,100 6,486,900 6,647,600
Digital video customers (g) 2,664,800 2,603,900 2,527,700
High-speed data customers (h)(i) 1,489,700 1,349,000 969,900
Telephony customers (j) 24,100 23,700 19,700
---------- ---------- ----------
Total revenue generating units (k) 10,676,700 10,463,500 10,164,900
========== ========== ==========
VIDEO SERVICES:
ANALOG VIDEO:
Estimated homes passed (l) 12,403,400 12,189,400 11,972,600
Analog video customers (b)(c) 6,498,100 6,486,900 6,647,600
Estimated penetration of analog video homes passed (b)(c)(l)(m) 52% 53% 56%
Average monthly analog revenue per analog video customer (n) $ 36.66 $ 36.98 $ 35.75
DIGITAL VIDEO:
Estimated digital homes passed (l) 12,243,300 11,958,200 11,492,800
Digital video customers (g) 2,664,800 2,603,900 2,527,700
Estimated penetration of digital homes passed (g)(l)(m) 22% 22% 22%
Digital percentage of analog video customers (b)(c)(g)(o) 41% 40% 38%
Digital set-top terminals deployed 3,749,200 3,680,000 3,537,800
Average incremental monthly digital revenue per
digital video customer (n) $ 23.41 $ 23.47 $ 23.77
Estimated video on demand homes passed (l) 3,948,700 3,371,900 1,994,700
22
NON-VIDEO SERVICES:
HIGH-SPEED DATA SERVICES:
Estimated high-speed data homes passed (l) 10,496,900 10,013,100 8,973,200
Residential high-speed data customers (h) (i) 1,489,700 1,349,000 969,900
Estimated penetration of high-speed data homes passed (h)(i)(l)(m) 14% 13% 11%
Average incremental monthly high-speed data revenue per
high-speed data customer (n) $ 34.05 $ 34.59 $ 33.70
Dial-up customers 10,900 11,700 15,800
Telephony customers (j) 24,100 23,700 19,700
(a) "Customers" include all persons corporate billing records show as
receiving service, regardless of their payment status, except for
complimentary accounts (such as our employees).
(b) Analog video customers include all customers who purchase video
services (including those who also purchase high-speed data and
telephony services), but excludes approximately 54,800, 52,000 and
50,300 customer relationships, respectively, who pay for high-speed
data service only and who are only counted as high-speed data customers
(and therefore are shown as "non-video" customers). This represents a
change in our methodology from prior reports through September 30,
2002, in which high-speed data service only customers were included
within our analog video customers. We made this change because we
determined that most of these customers were unable to receive our most
basic level of analog video service because this service was physically
secured or blocked, was unavailable in certain areas or the customers
were unaware that this service was available to them. However, this
year through an ongoing study, we have determined that 13,400 of these
high-speed data customers have been receiving or were otherwise
upgraded to receive, analog video services. This resulted in 11,100
customers being added to the June 30, 2003 analog video customers and
an additional 2,300 being added to the September 30, 2003 analog video
customers. Additionally, 135,200 of our analog video customers have
been added during this quarter pursuant to promotional programs, which
include the initial two months of service for free. There is no
assurance that they will remain as customers once the period of free
service expires.
(c) Included within video customers are those in commercial and
multi-dwelling structures, which are calculated on an equivalent bulk
unit ("EBU") basis. EBU is calculated for a system by dividing the bulk
price charged to accounts in an area by the most prevalent price
charged to non-bulk residential customers in that market for the
comparable tier of service. The EBU method of estimating analog video
customers is consistent with the methodology used in determining costs
paid to programmers and has been consistently applied year over year.
As we increase our effective analog prices to residential customers
without a corresponding increase in the prices charged to commercial
service or multi-dwelling customers, our EBU count will decline even if
there is no real loss in commercial service or multi-dwelling
customers. Our policy is not to count complimentary accounts (such as
our employees) as customers.
(d) Customer relationships include the number of customers that receive at
least one level of service encompassing video and data services,
without regard to which service(s) such customers purchase. This
statistic is computed in accordance with the guidelines of the National
Cable & Telecommunications Association (NCTA) that have been adopted by
eleven publicly traded cable operators (including Charter) as an
industry standard.
(e) Average monthly revenue per customer relationship is calculated as
total quarterly revenue divided by three divided by the average number
of customer relationships during the respective quarter.
(f) Bundled customers include customers subscribing to Charter's video
service and data service. Bundled customers do not include customers
who only subscribe to video service.
23
(g) Digital video customers include all households that have one or more
digital set-top terminals. Included in digital video customers at
September 30, 2003, June 30, 2003 and September 30, 2002 are
approximately 12,600, 13,300 and 13,400 customers, respectively, that
receive digital video service directly through satellite transmission.
Additionally, 121,000 of our digital video customers have been added
during this quarter pursuant to promotional programs which include the
initial two months of service for free. There is no assurance that they
will remain as customers once the period of free service expires.
(h) As noted above, all of these customers also receive video service and
are included in the video statistics above, except that the video
statistics do not include approximately 54,800, 52,000 and 50,300 of
these customers at September 30, 2003, June 30, 2003 and September 30,
2002, respectively, who were high-speed data only customers.
Additionally, 103,800 of our high-speed data customers have been added
during this quarter pursuant to promotional programs, which include the
initial two months of service for free. There is no assurance that they
will remain as customers once the period of free service expires.
(i) During the first three quarters of 2002, commercial high-speed data
customers were calculated on an Equivalent Modem Unit or EMU basis,
which involves converting commercial revenues to residential customer
counts. Given the growth plans for our commercial data business, we do
not believe that converting commercial revenues to residential customer
counts is the most meaningful way to disclose or describe this growing
business. We, therefore, excluded 85,500 EMUs that were previously
reported in our September 30, 2002 customer totals for comparative
purposes.
(j) Telephony customers include all households purchasing telephone
service.
(k) Revenue generating units represent the sum total of all primary analog
video, digital video, high-speed data and telephony customers
(including those under promotional pricing programs that may not
generate cash revenues initially or at all), not counting additional
outlets within one household. For example, a customer who receives two
types of services (such as analog video and digital video) would be
treated as two revenue generating units, and if that customer added on
high-speed data service, the customer would be treated as three revenue
generating units. This statistic is computed in accordance with the
guidelines of the NCTA that have been adopted by eleven publicly traded
cable operators (including Charter) as an industry standard.
(l) Homes passed represents our estimate of the number of living units,
such as single family homes, apartment units and condominium units
passed by the cable distribution network in the areas in which we offer
the service indicated. Homes passed excludes commercial units passed by
the cable distribution network. The figures in this table reflect an
increase at September 30, 2003 in our estimated homes passed from that
previously reported for June 30, 2003. This increase is in part due to
a refinement of methods used to estimate homes passed and in part due
to line mileage within our network that was not previously reflected.
(m) Penetration represents customers as a percentage of homes passed.
(n) Average monthly revenue represents quarterly revenue for the service
indicated divided by three divided by average number of customers for
the service indicated during the respective quarter.
(o) Represents the number of digital video customers as a percentage of
analog video customers.
RESTATEMENT OF CONSOLIDATED FINANCIAL RESULTS
As discussed in our 2002 Form 10-K, we identified a series of adjustments that
have resulted in the restatement of previously announced quarterly results for
the first three quarters of fiscal 2002. In summary, the adjustments are grouped
into the following categories: (i) launch incentives from programmers; (ii)
customer incentives and inducements; (iii) capitalized labor and overhead costs;
(iv) customer acquisition costs; (v) rebuild and upgrade of cable systems; (vi)
deferred tax liabilities/franchise assets; and (vii) other adjustments. These
adjustments have been reflected in the accompanying condensed consolidated
financial statements and reduced revenues for the three and nine months ended
September 30, 2002 by $13 million and $38 million, respectively. Our
consolidated net loss
24
decreased by $125 million and increased by $105 million for the three and nine
months ended September 30, 2002, respectively. In addition, as a result of
certain of these adjustments, our statement of cash flows for the nine months
ended September 30, 2002 has been restated. Cash flows from operating activities
for the nine months ended September 30, 2002 decreased by $29 million. The more
significant categories of adjustments relate to the following as outlined below.
Launch Incentives from Programmers. Amounts previously recognized as advertising
revenue in connection with the launch of new programming channels have been
deferred and recorded in other long-term liabilities in the year such launch
support was provided, and amortized as a reduction of programming costs based
upon the relevant contract term. These adjustments decreased revenue by $10
million and $30 million for the three and nine months ended September 30, 2002,
respectively. The corresponding amortization of such deferred amounts reduced
programming expenses by $12 million and $35 million for the three and nine
months ended September 30, 2002.
Customer Incentives and Inducements. Marketing inducements paid to encourage
potential customers to switch from satellite providers to Charter branded
services and enter into multi-period service agreements were previously deferred
and recorded as property, plant and equipment and recognized as depreciation and
amortization expense over the life of customer contracts. These amounts have
been restated as a reduction of revenues of $2 million and $5 million for the
three and nine months ended September 30, 2002. Substantially all of these
amounts are offset by reduced depreciation and amortization expense.
Capitalized Labor and Overhead Costs. Certain elements of labor costs and
related overhead allocations previously capitalized as property, plant and
equipment as part of our rebuild activities, customer installations and new
service introductions have been expensed in the period incurred. Such
adjustments increased operating expenses by $13 million and $39 million for the
three and nine months ended September 30, 2002.
Customer Acquisition Costs. Certain customer acquisition campaigns were
conducted through third-party contractors in portions of 2002. The costs of
these campaigns were originally deferred and recorded as other assets and
recognized as amortization expense over the average customer contract life.
These amounts have been reported as marketing expense in the period incurred and
totaled $13 million and $32 million for the three and nine months ended
September 30, 2002. We discontinued this program in the third quarter of 2002 as
contracts for third-party vendors expired. Substantially all of these amounts
are offset by reduced depreciation and amortization expense.
Rebuild and Upgrade of Cable Systems. In 2000, we initiated a three-year program
to replace and upgrade a substantial portion of our network. In connection with
this plan, we assessed the carrying value of, and the associated depreciable
lives of, various assets to be replaced. It was determined that $1 billion of
cable distribution system assets, originally treated as subject to replacement,
were not part of the original replacement plan but were to be upgraded and have
remained in service. We also determined that certain assets subject to
replacement during the upgrade program were misstated in the allocation of the
purchase price of the acquisition. This adjustment reduced property, plant and
equipment and increased franchise costs by $627 million. In addition, the
depreciation period for the assets subject to replacement was adjusted to more
closely align with the intended service period of these assets rather than the
three-year straight-line life originally assigned. As a result, adjustments were
recorded to reduce depreciation expense by $115 million and $353 million for the
three and nine months ended September 30, 2002.
Deferred Tax Liabilities/Franchise Assets. Adjustments were made to record
deferred tax liabilities associated with the acquisition of various cable
television businesses. These adjustments increased amounts assigned to franchise
assets by $1.4 billion with a corresponding increase in deferred tax liabilities
of $0.6 billion and to member's equity of $0.8 billion. In addition, as
described above, a correction was made to reduce amounts assigned in purchase
accounting to assets identified for replacement over the three-year period of
our rebuild and upgrade of its network. This reduced the amount assigned to the
network assets to be retained and increased the amount assigned to franchise
assets by $627 million with a resulting increase in amortization expense for the
years restated. Such adjustments increased the cumulative effect of accounting
change recorded upon adoption of Statement of Financial Accounting Standards No.
142 by $199 million, before tax effects, for the nine months ended September 30,
2002.
Other Adjustments. In addition to the items described above, other adjustments
of expenses include additional amounts charged to special charges related to the
2001 restructuring plan, certain tax reclassifications from tax
25
expense to operating costs and other miscellaneous adjustments. The net impact
of these adjustments to net loss is a decrease of $1 million and an increase of
$4 million for the three and nine months ended September 30, 2002. The following
tables summarize the effects of the adjustments on the condensed consolidated
statements of operations and cash flows for the three and nine months ended
September 30, 2002 (dollars in millions).
CONDENSED CONSOLIDATED STATEMENT OF OPERATIONS
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, 2002 SEPTEMBER 30, 2002
------------------------- ------------------------
AS PREVIOUSLY AS PREVIOUSLY
REPORTED RESTATED REPORTED RESTATED
-------- -------- -------- --------
Revenues $ 1,179 $ 1,166 $ 3,415 $ 3,377
Income (loss) from operations (17) 91 (47) 273
Minority interest (3) (3) (10) (11)
Cumulative effect of accounting change, net of tax -- -- (83) (540)
Net loss (461) (336) (1,311) (1,416)
CONDENSED CONSOLIDATED STATEMENT OF CASH FLOWS
NINE MONTHS ENDED
SEPTEMBER 30, 2002
------------------------------
AS PREVIOUSLY
REPORTED RESTATED
------------ ----------
Net cash flows from operating activities $532 $503
Net cash flows from investing activities (1,807) (1,783)
Net cash flows from financing activities 1,778 1,782
OVERVIEW
We have had a history of net losses. Further, we expect to continue to report
net losses for the foreseeable future. The principal reasons for our prior net
losses include our depreciation and amortization expenses and interest costs,
which decreased in the aggregate by $3 million for the three months ended
September 30, 2003, as compared to the same prior year period and increased in
the aggregate by $106 million for the nine months ended September 30, 2003 as
compared to the same prior year period. Continued net losses could have a
material adverse impact on our ability to access necessary capital and to fund
ongoing operations.
For the three months ended September 30, 2003 and 2002, our income from
operations, which includes depreciation and amortization expense but excludes
interest expense, was $117 million and $91 million, respectively. For the nine
months ended September 30, 2003 and 2002, our income from operations was $306
million and $273 million, respectively. These operating margins increased from
8% for the three months ended September 30, 2002 to 10% for the three months
ended September 30, 2003, and remained constant at 8% for the nine months ended
September 30, 2003 and 2002.
Historically, our ability to conduct operations has been dependent on our
continued access to credit pursuant to our subsidiaries' credit facilities.
While our use of cash has migrated over time such that the substantial majority
of our cash now comes from cash flows from operations, we expect we will
continue to borrow under our subsidiaries' credit facilities from time to time
to fund cash needs. The occurrence of an event of default under our
subsidiaries' credit facilities could result in borrowings from these facilities
being unavailable to us and could, in the event of a payment default or
acceleration, also trigger events of default under our and our subsidiaries'
outstanding public notes and would have a material adverse effect on us. In
addition, approximately $108 million of our financing
26
matures during the remainder of 2003, which we expect to fund through
availability under our subsidiaries' credit facilities.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
We disclosed our critical accounting policies and the means by which we develop
estimates therefor in "Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations" in our 2002 Annual Report on Form 10-K.
RESULTS OF OPERATIONS
THREE MONTHS ENDED SEPTEMBER 30, 2003 COMPARED TO THREE MONTHS ENDED SEPTEMBER
30, 2002
The following table sets forth the percentages of revenues that items in the
accompanying condensed consolidated statements of operations constitute for the
periods presented (dollars in millions):
THREE MONTHS ENDED SEPTEMBER 30,
----------------------------------------------------------
2003 2002
---------------------------- --------------------------
(RESTATED)
Revenues $ 1,207 100% $ 1,166 100%
--------------- --------- -------------- -------
Costs and expenses:
Operating (excluding depreciation and amortization and other
items listed below) 484 40% 457 39%
Selling, general and administrative 235 19% 243 21%
Depreciation and amortization 362 30% 374 32%
Option compensation expense, net 1 - 1 -
Special charges, net 8 1% - -
--------------- --------- -------------- -------
1,090 90% 1,075 92%
--------------- --------- -------------- -------
Income from operations 117 10% 91 8%
--------------- --------------
Interest expense, net (368) (359)
Gain (loss) on derivative instruments and hedging activities,
net 31 (76)
Gain on debt exchange, net 187 -
Other, net (2) (1)
--------------- --------------
(152) (436)
--------------- --------------
Loss before minority interest and income taxes (35) (345)
Minority interest (4) (4)
--------------- --------------
Loss before income taxes (39) (349)
Income tax benefit (expense) (1) 13
--------------- --------------
Net loss $ (40) $ (336)
=============== ==============
REVENUES. Revenues increased by $41 million, or 4%, for the three months ended
September 30, 2003 as compared to the three months ended September 30, 2002.
This increase is principally the result of increases in the number of high-speed
data and digital video customers as well as price increases for video and data
services, and is offset somewhat by the decline in analog customers. At
September 30, 2003, we had approximately 135,200 analog video customers, 121,000
digital video customers and 103,800 high-speed data customers that were obtained
through promotional programs and are in free service periods. These free service
periods generally expire in November 2003. We believe this strategy will
reposition our services to these consumers and build a foundation for expected
27
increases in revenues in the future. We have instituted specific retention
programs in the fourth quarter for customers added from these promotional offers
which include offering additional incremental services such as video on demand,
subscription video on demand and increased speed and broadband content for our
high-speed data platform. Our goal is to increase revenues by reversing our
analog customer losses, implementing limited price increases on certain services
and packages and increasing revenues from incremental high-speed data services,
digital video and commercial services to new and existing customers.
Average monthly revenue per customer relationship increased from $57.66 for the
three months ended September 30, 2002 to $61.46 for the three months ended
September 30, 2003. Average monthly revenue per customer relationship represents
total revenue for the three months ended September 30, divided by three, divided
by the average number of customer relationships.
In the third quarter of 2003, we changed our revenue classifications. Commercial
revenue, which was included within the video, high-speed data, and other revenue
line items on our statements of operations, is now broken out as a separate
component of revenue. Revenues by service offering are as follows (dollars in
millions):
THREE MONTHS ENDED SEPTEMBER 30,
----------------------------------------------------------------------------------------------
2003 2002 2003 OVER 2002
---------------------------- ----------------------------- -----------------------------
% OF % OF % CHANGE
AMOUNT REVENUES AMOUNT REVENUES CHANGE
------------ ------------ ------------ ------------ ------------ ------------
Video $866 72% $862 74% $4 -
High-speed data 145 12% 91 8% 54 59%
Advertising sales 64 5% 86 7% (22) (26)%
Commercial 52 4% 41 4% 11 27%
Other 80 7% 86 7% (6) (7)%
------------ ------------ ------------ ------------ ------------
$1,207 100% $1,166 100% $41 4%
============ ============ ============ ============ ============
Video revenues consist primarily of revenues from analog and digital services.
Video revenues increased by $4 million, to $866 million for the three months
ended September 30, 2003 as compared to $862 million for the three months ended
September 30, 2002. The increase was primarily due to rate increases and the
addition of digital video customers, offset somewhat by the decline in analog
video customers.
High-speed data revenues increased $54 million, or 59%, from $91 million for the
three months ended September 30, 2002 to $145 million for the three months ended
September 30, 2003. The increase was primarily due to the addition of high-speed
data customers. We increased the number of our high-speed data customers within
our existing service areas. We were also able to offer this service to more of
our customers, as the estimated percentage of homes passed that could receive
high-speed data service increased from 75% as of September 30, 2002 to 85% as of
September 30, 2003 as a result of our system upgrades.
Advertising sales revenues consist primarily of revenues from commercial
advertising customers, programmers and other vendors. Advertising sales
decreased $22 million, or 26%, from $86 million for the three months ended
September 30, 2002 to $64 million for the three months ended September 30, 2003.
For the three months ended September 30, 2003 and 2002, we received $3 million
and $27 million, respectively, in advertising revenue from vendors.
Commercial revenues consist primarily of revenues from commercial video and
high-speed data services. Commercial revenues increased $11 million, or 27%,
from $41 million for the three months ended September 2002 to $52 million for
the three months ended September 30, 2003 primarily due to an increase in
commercial high-speed data revenues.
Other revenues consist primarily of revenues from franchise fees, late payment
fees, customer installations, wire maintenance fees, home shopping, equipment
rental, dial-up Internet service and other miscellaneous revenues. Other
revenues decreased $6 million, or 7%, from $86 million for the three months
ended September 30, 2002 to
28
$80 million for the three months ended September 30, 2003. The decrease was
primarily due to a decrease in processing fees and installation revenue.
OPERATING EXPENSES. Operating expenses increased $27 million, or 6%, from $457
million for the three months ended September 30, 2002 to $484 million for the
three months ended September 30, 2003. Total programming costs paid to
programmers were $307 million and $296 million, representing 28% of total costs
and expenses for the three months ended September 30, 2003 and 2002,
respectively. Key expense components as a percentage of revenues are as follows
(dollars in millions):
THREE MONTHS ENDED SEPTEMBER 30,
----------------------------------------------------------------------------------------------
2003 2002 2003 OVER 2002
---------------------------- ----------------------------- -----------------------------
% OF % OF % CHANGE
AMOUNT REVENUES AMOUNT REVENUES CHANGE
------------ ------------ ------------ ------------ ------------ ------------
Programming costs $307 25% $296 25% $11 4%
Advertising sales 21 2% 23 2% (2) (9)%
Service costs 156 13% 138 12% 18 13%
------------ ------------ ------------ ------------ ------------
$484 40% $457 39% $27 6%
============ ============ ============ ============ ============
Programming costs consist primarily of costs paid to programmers for the
provision of analog, premium and digital channels and pay-per-view programs. The
increase in programming costs of $11 million, or 4%, was primarily due to price
increases, particularly in sports programming, and an increased number of
channels carried on our systems and an increase in digital customers, partially
offset by decreases in analog video customers. Programming costs were offset by
the amortization of payments received from programmers in support of launches of
new channels against programming costs of $16 million and $15 million for the
three months ended September 30, 2003 and 2002, respectively. Programming costs
for the three months ended September 30, 2003 also included a $9 million
reduction related to changes in estimates of programmer-related disputes, which
represented 3% of quarterly programming costs.
Our cable programming costs have increased, in every year we have operated, in
excess of customary inflationary and cost-of-living type increases, and they are
expected to continue to increase due to a variety of factors, including
additional programming being provided to customers as a result of system
rebuilds that increase channel capacity, increased costs to produce or purchase
cable programming, increased costs from certain previously discounted
programming, and inflationary or negotiated annual increases. Our increasing
programming costs will result in declining video product margins to the extent
we are unable to pass on cost increases to our customers. We expect to partially
offset any resulting margin compression from our traditional core services with
revenue from other video services, increased incremental high-speed data
revenues, advertising revenues and commercial services revenues.
Advertising sales expenses consist of costs related to traditional advertising
services, including salaries and benefits and commissions. Advertising sales
expenses decreased $2 million, or 9%, primarily due to decreased sales
commissions. Service costs consist primarily of service personnel salaries and
benefits, franchise fees, system utilities, Internet service provider fees,
maintenance and pole rent expense. The increase in service costs of $18 million,
or 13%, resulted primarily from additional activity associated with on-going
infrastructure maintenance.
29
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. Selling, general and
administrative expenses decreased by $8 million, or 3%, from $243 million for
the three months ended September 30, 2002 to $235 million for the three months
ended September 30, 2003. Key components of expense as a percentage of revenues
are as follows (dollars in millions):
THREE MONTHS ENDED SEPTEMBER 30,
----------------------------------------------------------------------------------------------
2003 2002 2003 OVER 2002
---------------------------- ----------------------------- -----------------------------
% OF % OF % CHANGE
AMOUNT REVENUES AMOUNT REVENUES CHANGE
------------ ------------ ------------ ------------ ------------ ------------
General and administrative $ 204 17% $ 201 17% $ 3 1%
Marketing 31 2% 42 4% (11) (26)%
----------- ------------- ----------- ------------ -----------
$ 235 19% $ 243 21% $ (8) (3)%
=========== ============= =========== ============ ===========
General and administrative expenses consist primarily of salaries and benefits,
rent expense, billing costs, bad debt expense and property taxes. The increase
in general and administrative expenses of $3 million, or 1%, resulted primarily
from small increases in several expense categories. These increases were
partially offset by a decrease in bad debt expense of $7 million as we continue
to realize benefits from our strengthened credit policies.
Marketing expenses decreased $11 million, or 26%, due to reduced promotional
activity related to our service offerings including reductions in advertising,
telemarketing and direct sales activities. We expect marketing expenses to
increase in subsequent quarters.
DEPRECIATION AND AMORTIZATION. Depreciation and amortization expense decreased
by $12 million, or 3%, from $374 million for the three months ended September
30, 2002 to $362 million for the three months ended September 30, 2003. This
decrease was due primarily to a decrease in depreciation expense related to the
recording of a gain on sales of certain assets.
OPTION COMPENSATION EXPENSE, NET. Option compensation expense remained constant
at approximately $1 million for the three months ended September 30, 2003 and
2002. Option compensation expense represents expense related to exercise prices
on certain options that were issued prior to Charter's initial public offering
in 1999 that were less than the estimated fair values of Charter's common stock
at the time of grant. Compensation expense is being accrued over the vesting
period of such options and will continue to be recorded until the last vesting
period lapses in April 2004. On January 1, 2003, we adopted SFAS No. 123
"Accounting for Stock-Based Compensation" using the prospective method under
which we recognize compensation expense of a stock-based award to an employee
over the vesting period based on the fair value of the award on the grant date.
SPECIAL CHARGES, NET. Special charges of $8 million for the three months ended
September 30, 2003 primarily represents severance, lease costs and other related
costs of our on-going initiative to reduce our workforce. We expect to continue
to record additional special charges in 2003 related to the continued
reorganization of our operations.
INTEREST EXPENSE, NET. Net interest expense increased by $9 million, or 3%, from
$359 million for the three months ended September 30, 2002 to $368 million for
the three months ended September 30, 2003. The increase in net interest expense
was a result of a $0.9 billion increase in average debt outstanding to $17.7
billion for the third quarter of 2003 compared to $16.8 billion for the third
quarter of 2002, partially offset by a decrease in our average borrowing rate
from 8.27% in the third quarter of 2002 to 8.10% in the third quarter of 2003.
The increased debt was primarily used for capital expenditures.
GAIN (LOSS) ON DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES, NET. Net gain on
derivative instruments and hedging activities increased $107 million from a loss
of $76 million for the three months ended September 30, 2002 to a gain of $31
million for the three months ended September 30, 2003. The increase is primarily
due to an increase in gains on interest rate agreements, which do not qualify
for hedge accounting under Statement of Financial Accounting Standards (SFAS)
No. 133, which increased from a loss of $79 million for the three months ended
September 30, 2002 to a gain of $31 million for the three months ended September
30, 2003.
30
GAIN ON DEBT EXCHANGE, NET. Net gain on debt exchange of $187 million for the
three months ended September 30, 2003 represents the gain realized on the
purchase of an aggregate of $1.3 billion principal amount of Charter Holdings'
senior notes and senior discount notes in consideration for an aggregate of $1.1
billion principal amount of 10.25% notes due 2010 issued by CCH II, LLC (CCH
II). The gain is net of the write-off of deferred financing costs associated
with the retired debt of $18 million.
OTHER, NET. Net other expense increased by $1 million from $1 million for the
three months ended September 30, 2002 to $2 million for the three months ended
September 30, 2003. This increase is primarily due to an increase in loss on
investments.
MINORITY INTEREST. Minority interest expense represents the 2% accretion of the
preferred membership interests in CC VIII, LLC (CC VIII) and since June 6, 2003,
the pro rata share of the profits of CC VIII.
INCOME TAX BENEFIT (EXPENSE). Income tax expense of $1 million was recognized
for the three months ended September 30, 2003. The income tax expense is
realized through increases in deferred tax liabilities and federal and state
income taxes related to our indirect subsidiaries. The income tax benefit of $13
million recognized for the three months ended September 30, 2002 was the result
of changes in deferred taxes related to the differences in accounting for
franchises.
NET LOSS. Net loss decreased by $296 million, from $336 million for the three
months ended September 30, 2002 to $40 million for the three months ended
September 30, 2003 as a result of the factors described above.
31
NINE MONTHS ENDED SEPTEMBER 30, 2003 COMPARED TO NINE MONTHS ENDED SEPTEMBER 30,
2002
The following table sets forth the percentages of revenues that items in the
accompanying condensed consolidated statements of operations constitute for the
periods presented (dollars in millions):
NINE MONTHS ENDED SEPTEMBER 30,
----------------------------------------------------------
2003 2002
---------------------------- --------------------------
(RESTATED)
Revenues $ 3,602 100% $ 3,377 100 %
--------------- --------- -------------- -------
Costs and expenses:
Operating (excluding depreciation and amortization and other
items listed below) 1,457 41% 1,330 39%
Selling, general and administrative 702 19% 708 21%
Depreciation and amortization 1,118 31% 1,061 32%
Option compensation expense, net 1 - 4 -
Special charges, net 18 1% 1 -
--------------- --------- -------------- -------
3,296 92% 3,104 92%
--------------- --------- -------------- -------
Income from operations 306 8% 273 8%
--------------- --------------
Interest expense, net (1,103) (1,054)
Gain (loss) on derivative instruments and hedging activities, 35 (106)
net
Gain on debt exchange, net 187 -
Other, net (3) (5)
--------------- --------------
(884) (1,165)
--------------- --------------
Loss before minority interest, income taxes and
cumulative effect of accounting change (578) (892)
Minority interest (11) (11)
--------------- --------------
Loss before income taxes and cumulative effect of
accounting change (589) (903)
Income tax benefit (expense) (3) 27
--------------- --------------
Loss before cumulative effect of accounting change (592) (876)
Cumulative effect of accounting change, net of tax - (540)
--------------- --------------
Net loss $ (592) $ (1,416)
=============== ==============
REVENUES. Revenues increased by $225 million, or 7%, from $3.4 billion for the
nine months ended September 30, 2002 to $3.6 billion for the nine months ended
September 30, 2003. This increase is principally the result of increases in the
number of high-speed data and digital video customers as well as price increases
for video and data services, and is offset somewhat by the decline in analog
customers. At September 30, 2003, we had approximately 135,200 analog video
customers, 121,000 digital video customers and 103,800 high-speed data customers
that were obtained through promotional programs and are in free service periods.
These free service periods generally expire in November 2003. We believe this
strategy will reposition our services to these consumers and build a foundation
for expected increases in revenues in the future. We have instituted specific
retention programs in the fourth quarter for customers added from these
promotional offers which include offering additional incremental services such
as video on demand, subscription video on demand and increased speed and
broadband content for our high-speed data platform. Our goal is to increase
revenues by reversing our analog customer losses, implementing limited price
32
increases on certain services and packages and increasing revenues from
incremental high-speed data services, digital video and commercial services to
new and existing customers.
Average monthly revenue per customer relationship increased from $55.49 for the
nine months ended September 30, 2002 to $61.02 for the nine months ended
September 30, 2003. Average monthly revenue per customer relationship represents
total revenue for the nine months ended September 30, divided by nine, divided
by the average number of customer relationships.
In the third quarter of 2003, we changed our revenue classifications. Commercial
revenue, which was included within the video, high-speed data, and other revenue
line items on our statements of operations, is now broken out as a separate
component of revenue. Revenues by service offering are as follows (dollars in
millions):
NINE MONTHS ENDED SEPTEMBER 30,
----------------------------------------------------------------------------------------------
2003 2002 2003 OVER 2002
---------------------------- ----------------------------- -----------------------------
% OF % OF % CHANGE
AMOUNT REVENUES AMOUNT REVENUES CHANGE
------------ ------------ ------------ ------------ ------------ ------------
Video $2,607 73% $ 2,553 76% $ 54 2%
High-speed data 403 11% 231 7% 172 74%
Advertising sales 188 5% 216 6% (28) (13)%
Commercial 149 4% 117 3% 32 27%
Other 255 7% 260 8% (5) (2)%
------------ ------------ ------------ ------------ ------------
$ 3,602 100% $ 3,377 100% $ 225 7%
============ ============ ============ ============ ============
Video revenues consist primarily of revenues from analog and digital services.
Video revenues increased by $54 million, or 2%, for the nine months ended
September 30, 2003 as compared to the nine months ended September 30, 2002. The
increase was primarily due to rate increases and the addition of digital video
customers, offset somewhat by the decline in analog video customers.
High-speed data revenues increased $172 million, or 74%, from $231 million for
the nine months ended September 30, 2002 to $403 million for the nine months
ended September 30, 2003. The increase was primarily due to the addition of
high-speed data customers. We increased the number of our high-speed data
customers within our existing service areas. We were also able to offer this
service to more of our customers, as the estimated percentage of homes passed
that could receive high-speed data service increased from 75% as of September
30, 2002 to 85% as of September 30, 2003 as a result of our system upgrades.
Advertising sales revenues consist primarily of revenues from commercial
advertising customers, programmers and other vendors. Advertising sales
decreased $28 million, or 13%, from $216 million for the nine months ended
September 30, 2002 to $188 million for the nine months ended September 30, 2003.
For the nine months ended September 30, 2003 and 2002, we received $10 million
and $49 million, respectively, in advertising revenue from vendors.
Commercial revenues consist primarily of revenues from commercial video and
high-speed data services. Commercial revenues increased $32 million, or 27%,
from $117 million for the nine months ended September 30, 2002 to $149 million
for the nine months ended September 30, 2003 primarily due to an increase in
commercial high-speed data revenues.
Other revenues consist primarily of revenues from franchise fees, late payment
fees, customer installations, wire maintenance fees, home shopping, equipment
rental, dial-up Internet service and other miscellaneous revenues. Other
revenues decreased $5 million, or 2%, from $260 million for the nine months
ended September 30, 2002 to $255 million for the nine months ended September 30,
2003. The decrease was primarily due to a decrease in franchise fees due to a
Federal Communications Commission ruling in March 2002, no longer requiring the
collection of franchise fees for high-speed data services.
33
OPERATING EXPENSES. Operating expenses increased $127 million, or 10%, from
approximately $1.3 billion for the nine months ended September 30, 2002 to
approximately $1.5 billion for the nine months ended September 30, 2003. Total
programming costs paid to programmers were $934 million and $873 million,
representing 28% of total costs and expenses for the nine months ended September
30, 2003 and 2002, respectively. Key expense components as a percentage of
revenues are as follows (dollars in millions):
NINE MONTHS ENDED SEPTEMBER 30,
----------------------------------------------------------------------------------------------
2003 2002 2003 OVER 2002
---------------------------- ----------------------------- -----------------------------
% OF % OF % CHANGE
AMOUNT REVENUES AMOUNT REVENUES CHANGE
------------ ------------ ------------ ------------ ------------ ------------
Programming costs $ 934 26% $ 873 26% $ 61 7%
Advertising sales 65 2% 63 2% 2 3%
Service costs 458 13% 394 11% 64 16%
------------ ------------ ------------ ------------ ------------
$ 1,457 41% $ 1,330 39% $ 127 10%
============ ============ ============ ============ ============
Programming costs consist primarily of costs paid to programmers for the
provision of analog, premium and digital channels and pay-per-view programs. The
increase in programming costs of $61 million, or 7%, was primarily due to price
increases, particularly in sports programming, and an increased number of
channels carried on our systems and an increase in digital video customers,
partially offset by decreases in analog video customers. Programming costs were
offset by the amortization of payments received from programmers in support of
launches of new channels against programming costs of $47 million and $42
million for the nine months ended September 30, 2003 and 2002, respectively.
Programming costs for the nine months ended September 30, 2003 also included a
$9 million reduction related to changes in estimates of programmer-related
disputes, which represented 1% of the nine months programming costs.
Our cable programming costs have increased, in every year we have operated, in
excess of customary inflationary and cost-of-living type increases, and they are
expected to continue to increase due to a variety of factors, including
additional programming being provided to customers as a result of system
rebuilds that increase channel capacity, increased costs to produce or purchase
cable programming, increased costs from certain previously discounted
programming, and inflationary or negotiated annual increases. Our increasing
programming costs will result in declining video product margins to the extent
we are unable to pass on cost increases to our customers. We expect to partially
offset any resulting margin compression from our traditional core services with
revenue from other video services, increased incremental high-speed data
revenues, advertising revenues and commercial services revenue.
Advertising sales expenses consist of costs related to traditional advertising
services, including salaries and benefits and commissions. Advertising sales
expenses increased $2 million, or 3%, primarily due to increased sales
commissions. Service costs consist primarily of service personnel salaries and
benefits, franchise fees, system utilities, Internet service provider fees,
maintenance and pole rent expense. The increase in service costs of $64 million,
or 16%, resulted primarily from additional activity associated with on-going
infrastructure maintenance.
34
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. Selling, general and
administrative expenses decreased by $6 million from $708 million for the nine
months ended September 30, 2002 to $702 million for the nine months ended
September 30, 2003. Key components of expense as a percentage of revenues are as
follows (dollars in millions):
NINE MONTHS ENDED SEPTEMBER 30,
----------------------------------------------------------------------------------------------
2003 2002 2003 OVER 2002
---------------------------- ----------------------------- -----------------------------
% OF % OF % CHANGE
AMOUNT REVENUES AMOUNT REVENUES CHANGE
------------ ------------ ------------ ------------ ------------ ------------
General and administrative $ 622 17% $ 595 18% $ 27 5%
Marketing 80 2% 113 3% (33) (29)%
----------- ------------- ----------- ------------ -----------
$ 702 19% $ 708 21% $ (6) 1%
=========== ============= =========== ============ ===========
General and administrative expenses consist primarily of salaries and benefits,
rent expense, billing costs, bad debt expense and property taxes. The increase
in general and administrative expenses of $27 million, or 5%, resulted primarily
from increases in salaries and benefits of $13 million, call center costs of $16
million and legal fees of $6 million. These increases were partially offset by a
decrease in bad debt expense of $22 million as we continue to realize benefits
from our strengthened credit policies.
Marketing expenses decreased $33 million, or 29%, due to reduced promotional
activity related to our service offerings including reductions in advertising,
telemarketing and direct sales activities. However, we expect marketing expenses
to increase in subsequent quarters.
DEPRECIATION AND AMORTIZATION. Depreciation and amortization expense increased
by $57 million, or 5%, primarily due to an increase in depreciation expense
related to additional capital expenditures in 2003 and 2002.
OPTION COMPENSATION EXPENSE, NET. Option compensation expense decreased by
approximately $3 million for the nine months ended September 30, 2003 as
compared to the nine months ended September 30, 2002. Option compensation
expense represents expense related to exercise prices on certain options that
were issued prior to Charter's initial public offering in 1999 that were less
than the estimated fair values of Charter's common stock at the time of grant.
Compensation expense is being accrued over the vesting period of such options
and will continue to be recorded until the last vesting period lapses in April
2004. On January 1, 2003, we adopted SFAS No. 123 "Accounting for Stock-Based
Compensation" using the prospective method under which we recognize compensation
expense of a stock-based award to an employee over the vesting period based on
the fair value of the award on the grant date.
SPECIAL CHARGES, NET. Special charges of $18 million for the nine months ended
September 30, 2003 represents $23 million of severance and related costs of our
on-going initiative to reduce our workforce partially offset by a $5 million
credit from a settlement from the Internet service provider Excite@Home related
to the conversion of about 145,000 high-speed data customers to our Charter
Pipeline service in 2001. We expect to continue to record additional special
charges in 2003 related to the continued reorganization of our operations.
INTEREST EXPENSE, NET. Net interest expense increased by $49 million, or 5%, for
the nine months ended September 30, 2002 compared to the nine months ended
September 30, 2003. The increase in net interest expense was a result of a $1.8
billion increase in average debt outstanding to $17.7 billion for the nine
months ended September 30, 2003 compared to $15.9 billion for the nine months
ended September 30, 2002, partially offset by a decrease in our average
borrowing rate from 8.32% in the nine months ended September 30, 2002 to 8.14%
in the nine months ended September 30, 2003. The increased debt was primarily
used for capital expenditures.
GAIN (LOSS) ON DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES, NET. Net gain on
derivative instruments and hedging activities increased $141 million from a loss
of $106 million for the nine months ended September 30, 2002 to a gain of $35
million for the nine months ended September 30, 2003. The increase is primarily
due to an increase in gains on interest rate agreements, which do not qualify
for hedge accounting under SFAS No. 133, which increased from a loss of $103
million for the nine months ended September 30, 2002 to a gain of $27 million
for the nine months ended September 30, 2003.
35
GAIN ON DEBT EXCHANGE, NET. Net gain on debt exchange of $187 million for the
nine months ended September 30, 2003 represents the gain realized on the
purchase of an aggregate of $1.3 billion principal amount of Charter Holdings'
senior notes and senior discount notes in consideration for an aggregate of $1.1
billion principal amount of 10.25% notes due 2010 issued by CCH II. The gain is
net of the write-off of deferred financing costs associated with the retired
debt of $18 million.
OTHER, NET. Net other expense decreased by $2 million from $5 million for the
nine months ended September 30, 2002 to $3 million for the nine months ended
September 30, 2003. This decrease is primarily due to a decrease in loss on
investments.
MINORITY INTEREST. Minority interest expense represents the 2% accretion of the
preferred membership interests in CC VIII and since June 6, 2003, the pro rata
share of the profits of CC VIII.
INCOME TAX BENEFIT (EXPENSE). Income tax expense of $3 million was recognized
for the nine months ended September 30, 2003. The income tax expense is realized
through increases in deferred tax liabilities and federal and state income taxes
related to our indirect subsidiaries. The income tax benefit of $27 million
recognized for the nine months ended September 30, 2002 was the result of
changes in deferred taxes related to the differences in accounting for
franchises.
CUMULATIVE EFFECT OF ACCOUNTING CHANGE, NET OF TAX. Cumulative effect of
accounting change in 2002 represents the impairment charge recorded as a result
of adopting SFAS No. 142.
NET LOSS. Net loss decreased by $824 million, or 58%, from $1.4 billion for the
nine months ended September 30, 2002 to $592 million for the nine months ended
September 30, 2003 as a result of the factors described above.
LIQUIDITY AND CAPITAL RESOURCES
INTRODUCTION
This section contains a discussion of our liquidity and capital resources,
including a discussion of our cash position, sources and uses of cash, access to
debt facilities and other financing sources, historical financing activities,
cash needs, capital expenditures and outstanding debt. The first part of this
section, entitled "Overview" provides an overview of these topics. The second
part of this section, entitled "Long-Term Debt" provides an overview of
long-term debt. The third part of this section, entitled "Historical Operating,
Financing and Investing Activities" provides information regarding the cash
provided from or used in our operating, financing and investing activities
during the nine months ended September 30, 2003 and 2002. The fourth part of
this section, entitled "Capital Expenditures" provides more detailed information
regarding our historical capital expenditures and our planned capital
expenditures going forward.
OVERVIEW
Our business requires significant cash to fund capital expenditures, debt
service costs and ongoing operations. We have funded these requirements through
cash flows from operating activities, borrowings under the credit facilities of
our subsidiaries, equity contributions from Charter Holdco, issuances of debt
securities by us and our subsidiaries and cash on hand. The mix of funding
sources changes from period to period, but for the nine months ended September
30, 2003, approximately 70% of our funding requirements was from cash flows from
operating activities and 30% was from cash on hand. We expect that our mix of
sources of funds will continue to change in the future based on our overall
needs relative to our cash flow and on the availability under the credit
facilities of our subsidiaries, our access to the debt markets and our ability
to generate cash flows from operating activities.
We have a significant level of debt and, as the principal amounts owing under
our various debt obligations become due, sustaining our liquidity may depend
upon our ability to access additional sources of capital over time.
Approximately $108 million of our financing matures during the remainder of
2003, which we expect to fund through availability under our subsidiaries'
credit facilities. In subsequent years, substantial additional amounts will
36
become due under our remaining obligations. In addition, a default under the
covenants governing any of our debt instruments could result in the acceleration
of our payment obligations under that debt and, under certain circumstances, in
cross-defaults under our other debt obligations.
In November 2003, we completed a private placement of $500 million aggregate
principal amount of 8.75% senior notes due 2013 by CCO Holdings, LLC (CCO
Holdings) to repay (but not to reduce permanently) principal amounts outstanding
under the Company's subsidiaries' bank credit facilities and for general
corporate purposes. Also, in September 2003, Charter, we and our indirect
subsidiary, CCH II completed the purchase of an aggregate of approximately $609
million principal amount of Charter's convertible senior notes and $1.3 billion
principal amount of the senior notes and senior discount notes issued by us from
institutional investors in a small number of privately negotiated transactions.
In consideration for these securities, CCH II issued an aggregate of $1.6
billion principal amount of 10.25% notes due 2010. CCH II also sold an
additional $30 million principal amount of 10.25% notes for an equivalent amount
of cash and used the proceeds for transaction costs and general corporate
purposes. As a result of the transaction, we recorded a $187 million gain and
maturities were extended for a majority of the debt exchanged.
As an additional means of enhancing our liquidity, on October 1, 2003 we closed
on the sale of our Port Orchard, Washington system for approximately $91
million, subject to adjustments. On September 3, 2003, we signed a definitive
agreement with Atlantic Broadband Finance, LLC for the sale of various cable
television systems in Florida, Pennsylvania, Maryland, Delaware, New York and
West Virginia for approximately $765 million, subject to adjustments. The
closing of this transaction is expected to occur in the first half of 2004, but
closing is subject to the condition that revenues for the applicable systems, as
reported in the audited financial statements for the applicable systems, when
issued, be not less than 97% of amounts reported in previously-delivered
unaudited financial statements, as well as other customary closing conditions.
We expect to remain in compliance with the covenants under the credit facilities
of our subsidiaries and our indentures and those of our subsidiaries throughout
2003. We expect that our cash on hand, cash flows from operating activities and
the amounts available under our subsidiaries' credit facilities should be
sufficient to satisfy our liquidity needs through the end of 2003. However, we
do not expect that cash flows from operating activities and amounts available
under credit facilities will be sufficient, on their own, to permit us to
satisfy our principal repayment obligations which are scheduled to come due in
future years. In addition, our debt levels may limit future access to the debt
markets. In addition, the maximum allowable leverage ratios under our credit
facilities will decline over time and the total potential borrowing available
under our subsidiaries' current credit facilities (subject to covenant
restrictions and limitations) will decrease from approximately $9.0 billion as
of the end of 2003 to $8.7 billion and $7.7 billion by the end of 2004 and 2005,
respectively. Although Mr. Allen and his affiliates have purchased equity from
Charter and Charter Holdco in the past, except for the commitment of Vulcan
Inc., an affiliate of Mr. Allen, described below (which we expect to terminate
as a result of the completion of the offering by CCO Holdings of $500 million of
its 8.75% senior notes described above), Mr. Allen and his affiliates are not
obligated to purchase equity from or contribute or loan funds to us or to our
subsidiaries in the future.
No assurances can be given that we will not experience liquidity problems
because of adverse market conditions or other unfavorable events or if we do not
obtain sufficient additional financing on a timely basis. If, at any time,
additional capital or borrowing capacity is required beyond amounts internally
generated or available through existing credit facilities or in traditional debt
financings, we would consider:
o requesting waivers or amendments with respect to our credit
facilities, the availability and terms of which would be subject to
market conditions;
o further reducing our expenses and capital expenditures, which would
likely impair our ability to increase revenue;
o selling assets;
o issuing debt securities which may have structural or other
priorities over our existing notes; or
o issuing debt or equity at the Charter or Charter Holdco level, the
proceeds of which could be loaned or contributed to us.
37
If the above strategies were not successful, ultimately, we could be forced to
restructure our obligations or seek protection under the bankruptcy laws. In
addition, if we find it necessary to engage in a recapitalization or other
similar transaction, our noteholders might not receive all principal and
interest payments to which they are contractually entitled.
LONG-TERM DEBT
As of September 30, 2003 and December 31, 2002, long-term debt totaled
approximately $17.7 billion and $17.3 billion, respectively. This debt was
comprised of approximately $7.6 billion and $7.8 billion of bank debt and $10.1
billion and $9.5 billion of high-yield bonds, respectively. As of September 30,
2003 and December 31, 2002, the weighted average rate on the bank debt was
approximately 5.6% while the weighted average rate on the high-yield debt was
approximately 10.3% and 10.2%, respectively, resulting in a blended weighted
average rate of 8.2% and 8.1%, respectively. Approximately 78% and 77% of our
debt was effectively fixed including the effects of our interest rate hedge
agreements as of September 30, 2003 and December 31, 2002, respectively. Our
outstanding debt and Charter's liquidity and corporate credit ratings have been
downgraded by Moody's Investors Service Inc. and Standard and Poor's Rating
Services.
Our subsidiary entered into a commitment letter with Vulcan Inc., which is an
affiliate of Paul Allen, pursuant to which Vulcan Inc. agreed to lend, or cause
an affiliate to lend to CCO Holdings, LLC an aggregate amount of up to $300
million. As of September 30, 2003, we have not drawn on the facility, and we
intend to terminate the commitment as a result of the recent private placement
of $500 million aggregate principal amount of 8.75% senior notes by CCO
Holdings.
As noted above, our access to capital from the credit facilities of our
subsidiaries is contingent on compliance with a number of restrictive covenants,
including covenants tied to our operating performance, and there can be no
assurance that we will remain in compliance with these covenants. If there is an
event of default under our subsidiaries' credit facilities, such as the failure
to maintain the applicable required financial ratios, we would be unable to
borrow under these credit facilities, which could materially adversely impact
our ability to operate our business and to make payments under our debt
instruments. In addition, an event of default under certain of our debt
obligations, if not waived, may result in the acceleration of those debt
obligations, which could in turn result in the acceleration of other debt
obligations, and could result in exercise of remedies by our creditors and could
force us to seek the protection of the bankruptcy laws.
We may need additional capital to fund business expansion opportunities, changes
in capital needs or debt amortization, or if we do not achieve our projected
revenues, or if our operating expenses increase. If we are not able to obtain
such capital from increases in our cash flows from operating activities,
additional borrowings or other sources, our financial condition and results of
operations could suffer materially. See the section "Liquidity and Capital
Resources" of "Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations" included in our 2002 Annual Report on Form
10-K for a description of our credit facilities and other long-term debt,
including certain terms, restrictions and covenants.
HISTORICAL OPERATING, FINANCING AND INVESTING ACTIVITIES
We held $52 million in cash and cash equivalents as of September 30, 2003
compared to $310 million as of December 31, 2002.
OPERATING ACTIVITIES. Net cash provided by operating activities increased 17%,
from $503 million for the nine months ended September 30, 2002 to $590 million
for the nine months ended September 30, 2003. For the nine months ended
September 30, 2003, net cash provided by operating activities increased
primarily due to increased revenues of $225 million offset by an increase in
operating expenses of $127 million during the nine months ended September 30,
2003 compared to the corresponding period in 2002.
INVESTING ACTIVITIES. Net cash used in investing activities for the nine months
ended September 30, 2003 and 2002 was $592 million and $1.8 billion,
respectively. Investing activities used $1.2 billion less cash during the nine
months ended September 30, 2003 than the corresponding period in 2002 primarily
as a result of reductions in
38
capital expenditures and acquisitions. Expenditures for property, plant and
equipment including capitalized labor and overhead used $1.1 billion less cash
during the nine months ended September 30, 2003 than the corresponding period in
2002 as a result of our efforts to reduce capital expenditures and the
completion of the majority of our rebuild plan in fiscal 2002. Payments for
acquisitions used $140 million less cash during the nine months ended September
30, 2003 than the corresponding period in 2002.
FINANCING ACTIVITIES. Net cash used by financing activities for the nine months
ended September 30, 2003 was $256 million and net cash provided by financing
activities for the nine months ended September 30, 2002 was $1.8 billion. The
decrease in cash provided during the nine months ended September 30, 2003 as
compared to the corresponding period in 2002 was primarily due to a decrease in
borrowings of long-term debt and in issuances of debt.
CAPITAL EXPENDITURES
We have substantial ongoing capital expenditure requirements; however, we have
experienced a significant decline in such requirements in 2003 as compared to
prior years. This decline in 2003 is the result of a substantial reduction in
rebuild costs as our network has been upgraded and rebuilt in prior years,
consumption of inventories, negotiated savings in contract labor and network
components including digital set-top terminals and cable modems, reduced
capitalized labor and overhead and reduced volume of installation related
activities. Additions to property, plant and equipment, excluding acquisitions
of cable systems, totaled $227 million and $528 million for the three months
ended September 30, 2003 and 2002, respectively, and $481 million and $1.6
billion for the nine months ended September 30, 2003 and 2002, respectively. The
majority of the capital expenditures relates to our customer premise equipment
and rebuild and upgrade program. Upgrading our cable systems has enabled us to
offer digital television, high-speed data services, video on demand, high
definition television, interactive services, additional channels and tiers, and
expanded pay-per-view options to a larger customer base. Our capital
expenditures have been funded primarily from cash flows from operating
activities, the issuance of debt and borrowings under credit facilities. During
the three months ended September 30, 2003 and 2002, our liabilities related to
capital expenditures decreased $1 million and increased $21 million,
respectively, and decreased $102 million and $89 million, respectively, during
the nine months ended September 30, 2003 and 2002.
During 2003, we expect to spend approximately $800 million to $925 million in
the aggregate on capital expenditures. We expect our capital expenditures in
2003 will be lower than 2002 levels because our rebuild and upgrade activities
are largely completed, as a greater portion of our workforce is focused on
maintenance and period related activities, our purchases of digital set-top
terminals have declined and the volume of installation related activities has
declined.
As first reported in our Form 10-Q for the third quarter of 2002, we adopted
capital expenditure disclosure guidance, which was developed by eleven publicly
traded cable system operators, including Charter Communications, Inc., with the
support of the National Cable & Telecommunications Association ("NCTA"). The new
disclosure is intended to provide more consistency in the reporting of operating
statistics in capital expenditures and customer relationships among peer
companies in the cable industry. These disclosure guidelines are not required
disclosure under GAAP, nor do they impact our accounting for capital
expenditures under GAAP.
39
The following table presents our major capital expenditures categories in
accordance with NCTA disclosure guidelines for the three and nine months ended
September 30, 2003 and 2002 (dollars in millions):
THREE MONTHS ENDED SEPTEMBER 30, NINE MONTHS ENDED SEPTEMBER 30,
--------------------------------- --------------------------------
2003 2002 2003 2002
--------------- -------------- -------------- --------------
Customer premise equipment (a) $118 $177 $253 $587
Scalable infrastructure (b) 15 60 35 179
Line extensions (c) 38 26 69 69
Upgrade/Rebuild (d) 33 214 76 558
Support capital (e) 23 51 48 157
--------------- -------------- -------------- --------------
Total capital expenditures (f) $227 $528 $481 $1,550
=============== ============== ============== ==============
(a) Customer premise equipment includes costs incurred at the customer
residence to secure new customers, revenue units and additional
bandwidth revenues. It also includes customer installation costs in
accordance with SFAS 51 and customer premise equipment (e.g., digital
set-top terminals and cable modems, etc.).
(b) Scalable infrastructure includes costs, not related to customer premise
equipment or our network, to secure growth of new customers, revenue
units and additional bandwidth revenues or provide service enhancements
(e.g., headend equipment).
(c) Line extensions include network costs associated with entering new
service areas (e.g., fiber/coaxial cable, amplifiers, electronic
equipment, make-ready and design engineering).
(d) Upgrade/rebuild includes costs to modify or replace existing
fiber/coaxial cable networks, including betterments.
(e) Support capital includes costs associated with the replacement or
enhancement of non-network assets due to technological and physical
obsolescence (e.g., non-network equipment, land, buildings and
vehicles).
(f) Represents all capital expenditures made during the three and nine
months ended September 30, 2003 and 2002, respectively.
CERTAIN TRENDS AND UNCERTAINTIES
The following discussion highlights a number of trends and uncertainties, in
addition to those discussed elsewhere in this Quarterly Report and in the
Critical Accounting Policies and Estimates section of Item 7. "Management's
Discussion and Analysis of Financial Condition and Results of Operations" in our
2002 Annual Report on Form 10-K, that could materially impact our business,
results of operations and financial condition.
SUBSTANTIAL LEVERAGE. We and our subsidiaries have a significant amount of debt.
As of September 30, 2003, our total debt was approximately $17.7 billion. In the
fourth quarter of 2003, we will be required to repay approximately $66 million
of accreted interest on the CC V bonds. In subsequent years, substantial
additional amounts will become due under our subsidiaries' remaining
obligations. If current debt levels increase, the related risks that we now face
will intensify, including a potential further deterioration of our existing
credit ratings. We believe that as a result of our significant levels of debt,
our access to the debt markets could be limited when substantial amounts of our
current indebtedness become due. If our business does not generate sufficient
cash flow from operating activities, and sufficient funds are not available to
us from borrowings under our credit facilities or from other sources, we may not
be able to repay our debt, grow our business, respond to competitive challenges,
or to fund our other liquidity and capital needs. Further, if we are unable to
refinance that debt, ultimately, we could be forced to restructure our
obligations or seek protection under the bankruptcy laws. If we find it
necessary to engage in a recapitalization or other similar transaction, our
noteholders might not receive all principal and interest payments to which they
are contractually entitled. For more information, see the section above entitled
"Liquidity and Capital Resources."
RESTRICTIVE COVENANTS. The credit facilities of our subsidiaries and the
indentures governing the publicly held notes of our subsidiaries contain a
number of significant covenants that could adversely impact our business. In
particular, the credit facilities and indentures of our subsidiaries restrict
our subsidiaries' ability to:
40
o pay dividends or make other distributions;
o make certain investments or acquisitions;
o enter into related party transactions;
o dispose of assets or merge;
o incur additional debt;
o issue equity;
o repurchase or redeem equity interests and debt;
o grant liens; and
o pledge assets.
Furthermore, our subsidiaries' credit facilities require our subsidiaries to
maintain specified financial ratios and meet financial tests. These financial
ratios tighten and may become more difficult to maintain over time. The ability
to comply with these provisions may be affected by events beyond our control.
The breach of any of these covenants or obligations will result in a default
under the applicable debt agreement or instrument and could trigger acceleration
of the related debt under the applicable agreement, and in certain cases under
other agreements governing our indebtedness. Any default under the credit
facilities or indentures applicable to us or our subsidiaries could adversely
affect our growth, our financial condition and our results of operations and the
ability to make payments on our publicly held notes and those of our
subsidiaries, and on the credit facilities of our subsidiaries.
LIQUIDITY. Our business requires significant cash to fund capital expenditures,
debt service costs and ongoing operations. Our ongoing operations will depend on
our ability to generate cash and to secure financing in the future. We have
historically funded liquidity and capital requirements through cash flows from
operating activities, borrowings under the credit facilities of our
subsidiaries, issuances of debt securities by us or our subsidiaries, loans or
equity contributions from Charter Holdco and cash on hand.
Our ability to conduct operations is dependent on our continued access to credit
under our subsidiaries' credit facilities. Our total potential borrowing
availability under the current credit facilities of our subsidiaries totaled
$1.4 billion as of September 30, 2003, although the actual availability per the
covenant restrictions at that time was only $735 million. Our access to those
funds is subject to our satisfaction of the covenants in those credit facilities
and the indentures governing our and our subsidiaries' public debt. Although we
have completed a private placement of $500 million aggregate principal amount of
8.75% senior notes by CCO Holdings to improve our ability to satisfy leverage
ratio covenants in our subsidiaries' credit facilities, we may not be able to
comply with all of the financial ratios and restrictive covenants in our
subsidiaries' credit facilities. If there is an event of default under our
subsidiaries' credit facilities, such as the failure to maintain the applicable
required financial ratios, we would be unable to borrow under these credit
facilities, which could materially adversely impact our ability to operate our
business and to make payments under our debt instruments. In addition, an event
of default under the credit facilities and indentures, if not waived, could
result in the acceleration of those debt obligations, which would in turn result
in the acceleration of other debt obligations, and could result in the exercise
of remedies by our creditors and could force us to seek the protection of the
bankruptcy laws.
If at any time additional capital or capacity is required beyond amounts
internally generated or available through existing credit facilities or in
traditional debt or equity financings, we would consider:
o requesting waivers or amendments with respect to our credit facilities,
the availability and terms of which would be subject to market
conditions;
o further reducing our expenses and capital expenditures, which would
likely impair our ability to increase revenue;
o selling assets;
o issuing debt securities which may have structural or other priorities
over our existing notes; or
o issuing debt or equity at the Charter or Charter Holdco level, the
proceeds of which could be loaned or contributed to us.
41
CHARTER LIQUIDITY CONCERNS. Charter has a substantial amount of debt. Following
completion of the previously described CCH II offering, Charter still has
approximately $774 million aggregate principal amount of convertible senior
notes outstanding, which mature in 2005 and 2006, following this debt exchange.
Charter's ability to make payments on its convertible senior notes is dependent
on its ability to obtain additional financing and on us and its other
subsidiaries making distributions, loans, or payments to Charter Holdco, and on
Charter Holdco paying or distributing such funds to Charter. The indentures
governing our notes permit us to make distributions up to our formulaic capacity
to Charter Holdco only if, after giving effect to the distribution, we can incur
additional debt under the leverage ratio of 8.75 to 1.0, there is no default
under the indentures and other specified tests are met. We did not meet the
leverage ratio test at September 30, 2003 and as a result, distributions from us
to Charter are subject to certain restrictions. However, in the event that we
could not incur any additional debt under the 8.75 to 1.0 leverage ratio, the
indentures governing our notes permit us and our subsidiaries to make specified
investments in Charter Holdco or Charter, up to its formulaic capacity, if there
is no default under the indentures. Because Charter is our sole manager, any
financial or liquidity problems of Charter would be likely to cause serious
disruption to our business and to have a material adverse effect on our
operations and results. Any such event would likely adversely impact our own
credit rating, and our relations with customers and suppliers, which could in
turn further impair our ability to obtain financing and operate our business.
Further, to the extent that any such event results in a change of control of
Charter (whether through a bankruptcy, receivership or other reorganization of
Charter and/or Charter Holdco, or otherwise), it could result in an event of
default under the credit facilities of our subsidiaries and require a change of
control repurchase offer under our outstanding notes.
ACCELERATION OF INDEBTEDNESS OF OUR SUBSIDIARIES. In the event of a default
under our subsidiaries' credit facilities or public notes, our subsidiaries'
creditors could elect to declare all amounts borrowed, together with accrued and
unpaid interest and other fees, to be due and payable. In such event, our
subsidiaries' credit facilities and indentures will not permit our subsidiaries
to distribute funds to us to pay interest or principal on our public notes. If
the amounts outstanding under such credit facilities or public notes are
accelerated, all of our subsidiaries' debt and liabilities would be payable from
our subsidiaries' assets, prior to any distribution of our subsidiaries' assets
to pay the interest and principal amounts on our public notes. In addition, the
lenders under our subsidiaries' credit facilities could foreclose on their
collateral, which includes equity interests in our subsidiaries, and exercise
other rights of secured creditors. In any such case, we might not be able to
repay or make any payments on our public notes. Additionally, an acceleration or
payment default under our subsidiaries' credit facilities would cause a
cross-default in the indentures governing our notes and would trigger the
cross-default provision of the Charter Operating Credit Agreement. Any default
under any of our subsidiaries' credit facilities or public notes might adversely
affect the holders of our public notes and our growth, financial condition and
results of operations and could force us to examine all options, including
seeking the protection of the bankruptcy laws.
SECURITIES LITIGATION AND GOVERNMENT INVESTIGATIONS. A number of Federal Class
Actions were filed against Charter and certain of its former and present
officers and directors alleging violations of securities law. The Federal Class
Actions have been consolidated for pretrial purposes into a Consolidated Federal
Class Action. In addition, a number of other lawsuits have been filed against
Charter in other jurisdictions. A shareholders derivative suit was filed in the
United States District Court for the Eastern District of Missouri, and several
class action lawsuits were filed in Delaware state court against Charter and
certain of its then current directors and officers. Finally, two derivative
suits were filed in Missouri state court against Charter, its then current
directors and its former independent auditor; these actions were consolidated
during the fourth quarter of 2002. The federal derivative suit, the Delaware
class actions and the consolidated derivative suit each allege that the
defendants breached their fiduciary duties.
In August 2002, Charter became aware of a grand jury investigation being
conducted by the United States Attorney's Office for the Eastern District of
Missouri into certain of its accounting and reporting practices focusing on how
it reported customer numbers and its reporting of amounts received from digital
set-top terminal suppliers for advertising. The U.S. Attorney's Office has
publicly stated that Charter is not currently a target of the investigation.
Charter has also been advised by the U.S. Attorney's Office that no member of
its board of directors, including its Chief Executive Officer, is a target of
the investigation. On July 24, 2003, a federal grand jury charged four former
officers of Charter with conspiracy and mail and wire fraud, alleging improper
accounting and reporting practices focusing on revenue from digital set-top
terminal suppliers and inflated subscriber account numbers. On July 25,
42
2003, one of the former officers who was indicted entered a guilty plea. Charter
has advised us that it is fully cooperating with the investigation.
In November 2002, Charter received an informal, non-public inquiry from the
Staff of the Securities and Exchange Commission (SEC). The SEC has subsequently
issued a formal order of investigation dated January 23, 2003, and subsequent
document and testimony subpoenas. The investigation and subpoenas generally
concern Charter's prior reports with respect to the determination of the number
of its customers, and various of its other accounting policies and practices,
including its capitalization of certain expenses and dealings with certain
vendors, including programmers and digital set-top terminal suppliers. Charter
has advised us that it is fully cooperating with the SEC staff.
Due to the inherent uncertainties of litigation and investigations, Charter has
advised us that it cannot predict the ultimate outcome of these proceedings. In
addition, its restatement may lead to additional allegations in the pending
securities class and derivative actions against Charter, or to additional claims
being filed or to investigations being expanded or commenced. These proceedings,
and Charter's actions in response to these proceedings, could result in
substantial costs, substantial potential liabilities and the diversion of
management's attention, all of which could affect adversely the market price of
our publicly-traded notes, as well as our ability to meet future operating and
financial estimates and to execute our business and financial strategies.
COMPETITION. The industry in which we operate is highly competitive. In some
instances, we compete against companies with fewer regulatory burdens, easier
access to financing, greater personnel resources, greater brand name recognition
and long-established relationships with regulatory authorities and customers.
Increasing consolidation in the cable industry and the repeal of certain
ownership rules may provide additional benefits to certain of our competitors,
either through access to financing, resources or efficiencies of scale.
Our principal competitor for video services throughout our territory is direct
broadcast satellite television services, also known as DBS. Competition from
DBS, including intensive marketing efforts and aggressive pricing, has had an
adverse impact on our ability to retain customers. Local telephone companies and
electric utilities can compete in this area, and they increasingly may do so in
the future. The subscription television industry also faces competition from
free broadcast television and from other communications and entertainment media.
With respect to our Internet access services, we face competition, including
intensive marketing efforts and aggressive pricing, from telephone companies and
other providers of "dial-up" and digital subscriber line technology, also known
as DSL. Further loss of customers to DBS or other alternative video and data
services could have a material negative impact on our business.
Mergers, joint ventures and alliances among franchise, wireless or private cable
operators, satellite television providers, local exchange carriers and others,
and the repeal of certain ownership rules may provide additional benefits to
some of our competitors, either through access to financing, resources or
efficiencies of scale, or the ability to provide multiple services in direct
competition with us.
VARIABLE INTEREST RATES. At September 30, 2003, excluding the effects of
hedging, approximately 43% of our debt bears interest at variable rates that are
linked to short-term interest rates. In addition, a significant portion of our
existing debt, assumed debt or debt we might arrange in the future will bear
interest at variable rates. If interest rates rise, our costs relative to those
obligations will also rise. As of September 30, 2003 and December 31, 2002, the
weighted average rate on the bank debt was approximately 5.6%, while the
weighted average rate on the high-yield debt was approximately 10.3% and 10.2%,
respectively, resulting in a blended weighted average rate of 8.2% and 8.1%,
respectively. Approximately 78% and 77% of our debt was effectively fixed
including the effects of our interest rate hedge agreements as of September 30,
2003 and December 31, 2002, respectively.
STREAMLINING OF OPERATIONS. In the past, we experienced rapid growth from
acquisitions of a number of smaller cable operators and the rapid rebuild and
rollout of advanced services. Our future success will depend in part on our
ability to standardize and streamline our operations. The failure to implement a
consistent corporate culture and management, operating or financial systems or
procedures necessary to standardize and streamline our operations and
effectively operate our enterprise could have a material adverse effect on our
business, results of operations and financial condition. In addition, our
ability to properly manage our operations will be impacted by our ability to
43
attract, retain and incentivize experienced, qualified, professional management.
SERVICES. We expect that a substantial portion of our near term growth will be
achieved through revenues from high-speed data services, digital video, bundled
service packages, and to a lesser extent various commercial services that take
advantage of cable's broadband capacity. The technology involved in our product
and service offerings generally requires that we have permission to use
intellectual property and that such property not infringe on rights claimed by
others. We may not be able to offer these advanced services successfully to our
customers or provide adequate customer service and these advanced services may
not generate adequate revenues. Also, if the vendors we use for these services
are not financially viable over time, we may experience disruption of service
and incur costs to find alternative vendors. In addition, if it is determined
that the product being utilized infringes on the rights of others, we may be
sued or be precluded from using the technology.
INCREASING PROGRAMMING COSTS. Programming has been, and is expected to continue
to be, our largest operating expense item. In recent years, the cable industry
has experienced a rapid escalation in the cost of programming, particularly
sports programming. This escalation may continue, and we may not be able to pass
programming cost increases on to our customers. The inability to pass these
programming cost increases on to our customers would have an adverse impact on
our cash flow and operating margins.
PUBLIC NOTES PRICE VOLATILITY. The market price of the publicly-traded notes
issued by us and our subsidiaries has been and is likely to continue to be
highly volatile. We expect that the price of our securities may fluctuate in
response to various factors, including the factors described throughout this
section and various other factors, which may be beyond our control. These
factors beyond our control could include: financial forecasts by securities
analysts; new conditions or trends in the cable or telecommunications industry;
general economic and market conditions and specifically, conditions related to
the cable or telecommunications industry; any further downgrade of our debt
ratings; announcement of the development of improved or competitive
technologies; the use of new products or promotions by us or our competitors;
changes in accounting rules; and new regulatory legislation adopted in the
United States.
In addition, the securities market in general, and the market for cable
television securities in particular, have experienced significant price
fluctuations. Volatility in the market price for companies may often be
unrelated or disproportionate to the operating performance of those companies.
These broad market and industry factors may seriously harm the market price of
our and our subsidiaries' public notes, regardless of our operating performance.
In the past, securities litigation has often commenced following periods of
volatility in the market price of a company's securities, and recently such
purported class action lawsuits were filed against Charter.
ECONOMIC SLOWDOWN; GLOBAL CONFLICT. It is difficult to assess the impact that
the general economic slowdown and global conflict will have on future
operations. However, the economic slowdown has resulted and could continue to
result in reduced spending by customers and advertisers, which could reduce our
revenues, and also could affect our ability to collect accounts receivable and
maintain customers. In addition, any prolonged military conflict would
materially and adversely affect our revenues from our systems providing services
to military installations. If we experience reduced operating revenues, it could
negatively affect our ability to make expected capital expenditures and could
also result in our inability to meet our obligations under our financing
agreements. These developments could also have a negative impact on our
financing and variable interest rate agreements through disruptions in the
market or negative market conditions.
LONG-TERM INDEBTEDNESS - CHANGE OF CONTROL PAYMENTS. We and Charter may not have
the ability to raise the funds necessary to fulfill the obligations under
Charter's convertible senior notes, our public notes or the public notes and
credit facilities of our subsidiaries following a change of control. Under the
indentures governing Charter's convertible senior notes, upon the occurrence of
specified change of control events, including certain specified dispositions of
Charter's stock by Mr. Allen, Charter is required to offer to repurchase all of
the outstanding Charter convertible senior notes. However, Charter may not have
sufficient funds at the time of the change of control event to make the required
repurchase of Charter's convertible senior notes and we and our subsidiaries are
limited in our ability to make distributions or other payments to Charter to
fund any required repurchase. In addition, a change of control under our
subsidiaries' credit facilities and indentures governing their and our public
notes would require the repayment of borrowings under those credit facilities
and indentures. Because
44
such credit facilities and public notes are obligations of us and our
subsidiaries, the credit facilities and the public notes would have to be repaid
by us and our subsidiaries before the assets could be available to Charter to
repurchase Charter's convertible senior notes. Charter's failure to make or
complete a change of control offer would place it in default under Charter's
convertible senior notes. The failure of us or our subsidiaries to make a change
of control offer or repay the amounts outstanding under their credit facilities
would place them in default of these agreements and could result in a default
under the indentures governing Charter's convertible senior notes.
REGULATION AND LEGISLATION. Cable systems are extensively regulated at the
federal, state, and local level, including rate regulation of basic service and
equipment and municipal approval of franchise agreements and their terms, such
as franchise requirements to upgrade cable plant and meet specified customer
service standards. Cable operators also face significant regulation of their
channel carriage. They currently can be required to devote substantial capacity
to the carriage of programming that they would not carry voluntarily, including
certain local broadcast signals, local public, educational and government access
programming, and unaffiliated commercial leased access programming. This
carriage burden could increase in the future, particularly if the Federal
Communications Commission were to require cable systems to carry both the analog
and digital versions of local broadcast signals or multiple channels added by
digital broadcasters. The Federal Communications Commission is currently
conducting a proceeding in which it is considering this channel usage
possibility, although it recently issued a tentative decision against such dual
carriage. In addition, the carriage of new high-definition broadcast and
satellite programming services over the next few years may consume significant
amounts of system capacity without contributing to proportionate increases in
system revenue.
There is also uncertainty whether local franchising authorities, state
regulators, the Federal Communications Commission, or the U.S. Congress will
impose obligations on cable operators to provide unaffiliated Internet service
providers with regulated access to cable plant. If they were to do so, and the
obligations were found to be lawful, it could complicate our operations in
general, and our Internet operations in particular, from a technical and
marketing standpoint. These open access obligations could adversely impact our
profitability and discourage system upgrades and the introduction of new
products and services. The United States Court of Appeals for the Ninth Circuit
recently vacated in part a Federal Communications Commission ruling defining
cable modem service as an "information service" and remanded for further
proceedings. The Ninth Circuit held that cable modem service is not "cable
service" but is part "telecommunications service" and part "information
service." The decision will likely be appealed, but it may possibly lead to
cable operators having to contribute to the federal government's universal
service fund, to open access requirements, and to other common carrier
regulations. As we offer other advanced services over our cable system, we are
likely to face additional calls for regulation of our capacity and operation.
These regulations, if adopted, could adversely affect our operations.
A recent court decision concerning the Digital Millenium Copyright Act ("DMCA")
has enabled copyright owners to obtain expedited subpoenas compelling disclosure
by Internet service providers of the names of customers that are otherwise known
only by an Internet protocol, or IP, address or screen name. This has led to a
marked increase in the volume of subpoenas received by us, as copyright owners
seek to constrain the use of peer-to-peer networks for unauthorized copying and
distribution of copyrighted works. Internet service providers also have a DMCA
obligation to adopt and implement a policy of terminating the accounts of repeat
copyright infringers. The increased activity and responsibilities in this area
pose an additional burden on our operations.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
No material changes in reported market risks have occurred since the filing of
our December 31, 2002 Form 10-K.
ITEM 4. CONTROLS AND PROCEDURES.
As of the end of the period covered by this report, management, including our
Chief Executive Officer and interim Chief Financial Officer, evaluated the
effectiveness of the design and operation of our disclosure controls and
procedures with respect to the information generated for use in this Quarterly
Report. The evaluation was based in part upon reports and affidavits provided by
a number of executives. Based upon, and as of the date of that evaluation, our
Chief Executive Officer and interim Chief Financial Officer concluded that the
disclosure controls and procedures were effective to provide reasonable
assurances that information required to be disclosed in the
45
reports we file or submit under the Securities Exchange Act of 1934 is recorded,
processed, summarized and reported within the time periods specified in the
Commission's rules and forms.
There was no change in our internal control over financial reporting during the
quarter ended September 30, 2003 that has materially affected, or is reasonably
likely to materially affect, our internal control over financial reporting.
In designing and evaluating the disclosure controls and procedures, our
management recognized that any controls and procedures, no matter how well
designed and operated, can provide only reasonable, not absolute, assurance of
achieving the desired control objectives and management necessarily was required
to apply its judgment in evaluating the cost-benefit relationship of possible
controls and procedures. Based upon the above evaluation, our management
believes that our controls do provide such reasonable assurances.
46
PART II. OTHER INFORMATION.
ITEM 1. LEGAL PROCEEDINGS.
SECURITIES CLASS ACTIONS AND DERIVATIVE SUITS.
Fourteen putative federal class action lawsuits (the "Federal Class Actions")
have been filed against Charter Communications, Inc. and certain of its former
and present officers and directors in various jurisdictions allegedly on behalf
of all purchasers of Charter Communications, Inc.'s securities during the period
from either November 8 or November 9, 1999 through July 17 or July 18, 2002.
Unspecified damages are sought by the plaintiffs. In general, the lawsuits
allege that Charter Communications, Inc. utilized misleading accounting
practices and failed to disclose these accounting practices and/or issued false
and misleading financial statements and press releases concerning Charter
Communications, Inc.'s operations and prospects. The Federal Class Actions were
specifically and individually identified in prior public filings made by Charter
Communications, Inc. In October 2002, Charter Communications, Inc. filed a
motion with the Judicial Panel on Multidistrict Litigation (the "Panel") to
transfer the Federal Class Actions to the United States District Court for the
Eastern District of Missouri. On March 12, 2003, the Panel transferred the six
Federal Class Actions not filed in the Eastern District of Missouri to that
district for coordinated or consolidated pretrial proceedings with the eight
Federal Class Actions already pending there. The Panel's transfer order assigned
the Federal Class Actions to Judge Charles A. Shaw. By virtue of a prior court
order, StoneRidge Investment Partners LLC became lead plaintiff upon entry of
the Panel's transfer order. StoneRidge subsequently filed a Consolidated Amended
Complaint. The Court subsequently consolidated the Federal Class Actions into a
single consolidated action (the "Consolidated Federal Class Action") for
pretrial purposes. On June 19, 2003, following a pretrial conference with the
parties, the Court issued a Case Management Order setting forth a schedule for
the pretrial phase of the Consolidated Federal Class Action. Motions to dismiss
the Consolidated Amended Complaint have been filed.
The Consolidated Federal Class Action is entitled:
o In re Charter Communications, Inc. Securities Litigation, MDL Docket No.
1506 (All Cases), Stoneridge Investment Partners LLC, Individually and
On Behalf Of All Others Similarly Situated, v. Charter Communications,
Inc., Paul Allen, Jerald L. Kent, Carl E. Vogel, Kent Kalkwarf, David G
Barford, Paul E. Martin, David L. McCall, Bill Shreffler, Chris Fenger,
Scientific-Atlanta, Inc. and Arthur Andersen, LLP, Consolidated Case No.
4:02-CV-1186-CAS.
On September 12, 2002, a shareholders derivative suit (the "State Derivative
Action") was filed in Missouri state court against Charter Communications, Inc.
and its then current directors, as well as its former auditors. A substantively
identical derivative action was later filed and consolidated into the State
Derivative Action. The plaintiffs allege that the individual defendants breached
their fiduciary duties by failing to establish and maintain adequate internal
controls and procedures. Unspecified damages, allegedly on Charter's behalf, are
sought by the plaintiffs.
The State Derivative Action is entitled:
o Kenneth Stacey, Derivatively on behalf of Nominal Defendant Charter
Communications, Inc., v. Ronald L. Nelson, Paul G. Allen, Marc B.
Nathanson, Nancy B. Peretsman, William Savoy, John H. Tory, Carl E.
Vogel, Larry W. Wangberg, and Charter Communications, Inc.
Separately, on February 12, 2003, a shareholders derivative suit (the "Federal
Derivative Action"), was filed against Charter Communications, Inc. and its then
current directors in the United States District Court for the Eastern District
of Missouri. The plaintiff alleges that the individual defendants breached their
fiduciary duties and grossly mismanaged Charter Communications, Inc. by failing
to establish and maintain adequate internal controls and procedures. Unspecified
damages, allegedly on Charter's behalf, are sought by the plaintiffs.
47
The Federal Derivative Action is entitled:
o Arthur Cohn, Derivatively on behalf of Nominal Defendant Charter
Communications, Inc., v. Ronald L. Nelson, Paul G. Allen, Marc B.
Nathanson, Nancy B. Peretsman, William Savoy, John H. Tory, Carl E.
Vogel, Larry W. Wangberg, and Charter Communications, Inc.
In addition to the Federal Class Actions, the State Derivative Action and the
Federal Derivative Action, six putative class action lawsuits have been filed
against Charter Communications, Inc. and certain of its then current directors
and officers in the Court of Chancery of the State of Delaware (the "Delaware
Class Actions"). The Delaware Class Actions are substantively identical and
generally allege that the defendants breached their fiduciary duties by
participating or acquiescing in a purported and threatened attempt by Defendant
Paul Allen to purchase shares and assets of Charter Communications, Inc. at an
unfair price. The lawsuits were brought on behalf of Charter Communications,
Inc.'s securities holders as of July 29, 2002, and seek unspecified damages and
possible injunctive relief. No such purported or threatened transaction by Mr.
Allen has been presented.
The Delaware Class Actions consist of:
o Eleanor Leonard, v. Paul G. Allen, Larry W. Wangberg, John H. Tory, Carl
E. Vogel, Marc B. Nathanson, Nancy B. Peretsman, Ronald L. Nelson,
William Savoy, and Charter Communications, Inc., filed on August 12,
2002;
o Helene Giarraputo, on behalf of herself and all others similarly
situated, v. Paul G. Allen, Carl E. Vogel, Marc B. Nathanson, Ronald L.
Nelson, Nancy B. Peretsman, William Savoy, John H. Tory, Larry W.
Wangberg, and Charter Communications, Inc., filed on August 13, 2002;
o Ronald D. Wells, Whitney Counsil and Manny Varghese, on behalf of
themselves and all others similarly situated, v. Charter Communications,
Inc., Ronald L. Nelson, Paul G. Allen, Marc B. Nathanson, Nancy B.
Peretsman, William Savoy, John H. Tory, Carl E. Vogel, Larry W.
Wangberg, filed on August 13, 2002;
o Gilbert Herman, on behalf of himself and all others similarly situated,
v. Paul G. Allen, Larry W. Wangberg, John H. Tory, Carl E. Vogel, Marc
B. Nathanson, Nancy B. Peretsman, Ronald L. Nelson, William Savoy, and
Charter Communications, Inc., filed on August 14, 2002;
o Stephen Noteboom, on behalf of himself and all others similarly
situated, v. Paul G. Allen, Larry W. Wangberg, John H. Tory, Carl E.
Vogel, Marc B. Nathanson, Nancy B. Peretsman, Ronald L. Nelson, William
Savoy, and Charter Communications, Inc., filed on August 16, 2002; and
o John Fillmore on behalf of himself and all others similarly situated, v.
Paul G. Allen, Larry W. Wangberg, John H. Tory, Carl E. Vogel, Marc B.
Nathanson, Nancy B. Peretsman, Ronald L. Nelson, William Savoy, and
Charter Communications, Inc., filed on October 18, 2002.
All of the lawsuits discussed above are each in preliminary stages. Charter
Communications, Inc. has advised us that it intends to vigorously defend the
lawsuits.
GOVERNMENT INVESTIGATIONS. In August of 2002, Charter Communications, Inc.
became aware of a grand jury investigation being conducted by the U.S.
Attorney's Office for the Eastern District of Missouri into certain of its
accounting and reporting practices, focusing on how it reported customer numbers
and its reporting of amounts received from digital set-top terminal suppliers
for advertising. The U.S. Attorney's Office has publicly stated that Charter is
not currently a target of the investigation. Charter has also been advised by
the U.S. Attorney's Office that no member of its board of directors, including
its Chief Executive Officer, is a target of the investigation. On July 24, 2003,
a federal grand jury charged four former officers of Charter with conspiracy and
mail and wire fraud, alleging improper accounting and reporting practices
focusing on revenue from digital set-top terminal suppliers and inflated
subscriber account numbers. On July 25, 2003, one of the former officers who was
indicted entered a guilty plea. Charter has advised us that it is fully
cooperating with the investigation.
48
On November 4, 2002, Charter Communications, Inc. received an informal,
non-public inquiry from the Staff of the Securities and Exchange Commission. The
SEC has subsequently issued a formal order of investigation dated January 23,
2003, and subsequent document and testimony subpoenas. The investigation and
subpoenas generally concern Charter Communications, Inc.'s prior reports with
respect to its determination of the number of customers, and various of its
accounting policies and practices including its capitalization of certain
expenses and dealings with certain vendors, including programmers and digital
set-top terminal suppliers. Charter has advised us that it is fully cooperating
with the SEC Staff.
OUTCOME. Charter has advised us that it is unable to predict the outcome of the
lawsuits and the government investigations described above. An unfavorable
outcome in the lawsuits or the government investigations described above could
have a material adverse effect on its and our results of operations and
financial condition.
INDEMNIFICATION. Charter is generally required to indemnify each of the named
individual defendants in connection with these matters pursuant to the terms of
our Bylaws and (where applicable) such individual defendants' employment
agreements. Pursuant to the terms of certain employment agreements and in
accordance with the Bylaws of Charter Communications, Inc., in connection with
the pending grand jury investigation, SEC investigation and the above described
lawsuits, Charter's current directors and its current and former officers have
been advanced certain costs and expenses incurred in connection with their
defense. Certain of the individual defendants also serve or have served as our
officers and directors. The limited liability company agreements of the Company
and its limited liability company subsidiaries, and the bylaws of its corporate
subsidiary, may require each such entity to indemnify Charter and the individual
named defendants in connection with the matters set forth above.
INSURANCE. Charter Communications, Inc. has directors' and officers' liability
insurance coverage that it believes is available for these matters, where
applicable, and subject to the terms, conditions and limitations of the
respective policies.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
On July 23, 2003, at the annual meeting of Charter Communications Holdings
Capital Corp., the sole shareholder voted 1 share (100% of outstanding shares)
in favor of electing Carl E. Vogel as the sole director.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(A) EXHIBITS
Exhibit
Number Description of Document
------ -----------------------
2.1 Purchase Agreement, dated May 29, 2003, by and between Falcon
Video Communications, L.P. and WaveDivision Holdings, LLC
(Incorporated by reference to Exhibit 2.1 to Charter
Communications, Inc.'s current report on Form 8-K filed on May 30,
2003 (File No. 000-27927)).
2.2 Asset Purchase Agreement, dated September 3, 2003, by and between
Charter Communications VI, LLC, The Helicon Group, L.P., Hornell
Television Service, Inc., Interlink Communications Partners, LLC,
Charter Communications Holdings, LLC and Atlantic Broadband
Finance, LLC (Incorporated by reference to Exhibit 2.1 to Charter
Communications, Inc.'s current report on Form 8-K/A filed on
September 3, 2003 (File No. 000-27927)).
3.1(a) Certificate of Formation of Charter Communications Holdings, LLC
(Incorporated by reference to Exhibit 3.1 to Amendment No. 2 to
the registration statement on Form S-4 of Charter Communications
Holdings, LLC and Charter Communications Holdings Capital
Corporation filed on June 22, 1999 (File No. 333-77499)).
3.2 Second Amended and Restated Limited Liability Company Agreement of
Charter Communications Holdings, LLC, dated as of June 30, 2003
(Incorporated by reference to Exhibit 3.2 to the quarterly report
on Form 10-Q filed by Charter Communications Holdings, LLC and
Charter Communications Holdings Capital Corporation on August 12,
2003 (File No. 333-77499)).
3.3 Certificate of Incorporation of Charter Communications Holdings
Capital Corporation (Incorporated by reference to Exhibit 3.3 to
Amendment No. 2 to the registration statement on Form S-4 of
Charter Communications Holdings, LLC and Charter Communications
Holdings Capital Corporation filed on
49
June 22, 1999 (File No. 333-77499)).
3.4(a) By-Laws of Charter Communications Holdings Capital Corporation
(Incorporated by reference to Exhibit 3.4 to Amendment No. 2 to
the registration statement on Form S-4 of Charter Communications
Holdings, LLC and Charter Communications Holdings Capital
Corporation filed on June 22, 1999 (File No. 333-77499)).
3.4(b) Amendment to By-Laws of Charter Communications Holdings Capital
Corporation, dated as of October 30, 2001. (Incorporated by
reference to Exhibit 3.4(b) to the annual report on Form 10-K
filed by Charter Communications Holding Company on March 29, 2002
(File No. 333-77499)).
4.1 Indenture, dated as of September 23, 2003, by and among CCH II,
LLC, CCH II Capital Corp. and Wells Fargo Bank, National
Association, as trustee (Incorporated by reference to Exhibit 10.1
to Charter Communications, Inc.'s current report on Form 8-K filed
on September 26, 2003 (File No. 000-27927)).
4.2 Exchange and Registration Rights Agreement, dated as of September
23, 2003, by and between CCH II, LLC and CCH II Capital Corp.
(Incorporated by reference to Exhibit 10.2 to Charter
Communications, Inc.'s current report on Form 8-K filed on
September 26, 2003 (File No. 000-27927)).
4.3 CCH II Note Purchase Agreement, dated as of September 18, 2003, by
and between CCH II, LLC and CCH II Capital Corp. (Incorporated by
reference to Exhibit 10.3 to Charter Communications, Inc.'s
current report on Form 8-K filed on September 26, 2003 (File No.
000-27927)).
4.4 CCI Senior Notes Exchange Agreement, dated as of September 18,
2003, by and between Charter Communications, Inc., CCH II, LLC and
CCH II Capital Corp. (Incorporated by reference to Exhibit 10.4 to
Charter Communications, Inc.'s current report on Form 8-K filed on
September 26, 2003 (File No. 000-27927)).
4.5 Holdings Senior Notes Exchange Agreement, dated as of September
18, 2003, by CCH II, LLC and CCH II Capital Corp. (Incorporated by
reference to Exhibit 10.5 to Charter Communications, Inc.'s
current report on Form 8-K filed on September 26, 2003 (File No.
000-27927)).
4.6 Indenture, dated as of November 10, 2003, by and among CCO
Holdings, LLC, CCO Holdings Capital Corp. and Wells Fargo Bank,
National Association, as trustee (Incorporated by reference to
Exhibit 4.1 to Charter Communications, Inc.'s current report on
Form 8-K filed on November 12, 2003 (File No. 000-27927)).
4.7 Exchange and Registration Rights Agreement, dated as of November
10, 2003, by and between CCO Holdings, LLC and CCO Holdings
Capital Corp. (Incorporated by reference to Exhibit 4.2 to Charter
Communications, Inc.'s current report on Form 8-K filed on
November 12, 2003 (File No. 000-27927)).
4.8 Purchase Agreement, dated as of November 4, 2003, by and between
CCO Holdings, LLC and CCO Holdings Capital Corp. (Incorporated by
reference to Exhibit 4.3 to Charter Communications, Inc.'s current
report on Form 8-K filed on November 12, 2003 (File No.
000-27927)).
10.1 Second Amended and Restated Credit Agreement, dated as of March
18, 1999, as amended and restated as of January 3, 2002 and as
further amended and restated as of June 19, 2003, among Charter
Communications Operating, LLC, Charter Communications Holdings,
LLC and several financial institutions or entities named therein
(Incorporated by reference to Exhibit 10.1 to Charter
Communications, Inc. quarterly report on Form 10-Q filed on August
5, 2003 (File No. 000-27927)).
10.2 Amended and Restated Limited Liability Company Agreement of
Charter Communications Operating, LLC, dated as of June 19, 2003
(Incorporated by reference to Exhibit 10.2 to Charter
Communications, Inc. quarterly report on Form 10-Q filed on August
5, 2003 (File No. 000-27927)).
10.3a Commitment Letter, dated April 14, 2003, from Vulcan Inc. to
Charter Communications VII, LLC (Incorporated by reference to
Exhibit 10.3a to Charter Communications, Inc. quarterly report on
Form 10-Q filed on August 5, 2003 (File No. 000-27927)).
10.3b Letter from Vulcan Inc. dated June 30, 2003 amending the
Commitment Letter, dated April 14, 2003 (Incorporated by reference
to Exhibit 10.3b to Charter Communications, Inc. quarterly report
on Form 10-Q filed on August 5, 2003 (File No. 000-27927)).
10.4 Amended and Restated Management Agreement dated as of June 19,
2003 by and between Charter Communications Operating, LLC and
Charter Communications, Inc. (Incorporated by reference to
50
Exhibit 10.4 to Charter Communications, Inc. quarterly report on
Form 10-Q filed on August 5, 2003 (File No. 000-27927)).
10.5a Second Amended and Restated Mutual Services Agreement dated as of
June 19, 2003 by and between Charter Communications, Inc. and
Charter Communications Holding Company, LLC (Incorporated by
reference to Exhibit 10.5a to Charter Communications, Inc.
quarterly report on Form 10-Q filed on August 5, 2003 (File No.
000-27927)).
10.5b Letter Agreement regarding Mutual Services Agreement dated June
19, 2003 between Charter Investment, Inc., Charter Communications,
Inc. and Charter Communications Holding Company, LLC (Incorporated
by reference to Exhibit 10.5b to Charter Communications, Inc.
quarterly report on Form 10-Q filed on August 5, 2003 (File No.
000-27927)).
+10.6 Employment Agreement between Charter Communications, Inc. and
Margaret A. "Maggie" Bellville, entered into as of April 27, 2003
(Incorporated by reference to Exhibit 10.1 to the quarterly report
on Form 10-Q filed by Charter Communications, Inc. on November 3,
2003 (File No. 000-27927)).
+10.7 Amendment No. 4 to the Charter Communications, Inc. 2001 Stock
Incentive Plan (Incorporated by reference to Exhibit 10.11(e) to
the annual report on Form 10-K filed by Charter Communications,
Inc. on April 14, 2003 (File No. 000-27927)).
+10.8 Amendment No. 5 to the Charter Communications, Inc. 2001 Stock
Incentive Plan (Incorporated by reference to Exhibit 10.11(f) to
the annual report on Form 10-K filed by Charter Communications,
Inc. on April 14, 2003 (File No. 000-27927)).
15.1 Letter re Unaudited Interim Financial Statements. *
31.1 Certificate of Chief Executive Officer pursuant to Rule
13a-14(a)/Rule 15d-14(a) under the Securities Exchange Act of
1934. *
31.2 Certificate of Chief Financial Officer pursuant to Rule
13a-14(a)/Rule 15d-14(a) under the Securities Exchange Act of
1934. *
32.1 Certification pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (Chief
Executive Officer). *
32.2 Certification pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (Chief
Financial Officer). *
* filed herewith
+ Management compensatory plan or arrangement
(B) REPORTS ON FORM 8-K
On July 11, 2003, the registrant filed a current report on Form 8-K
dated July 10, 2003 to announce the status of the issue as to whether the
documentation was correct and complete with regard to the ultimate ownership of
the CC VIII Interest following consummation of the Comcast Put Right.
On September 19, 2003, the registrant furnished a current report on
Form 8-K dated September 19, 2003 to announce that it and its indirect
subsidiary, CCH II, LLC have entered into agreements to exchange certain
indebtedness.
On September 26, 2003, the registrant filed a current report on Form
8-K dated September 23, 2003 to announce that it and its indirect subsidiary,
CCH II, LLC have closed on the exchange of certain indebtedness.
51
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, as
amended, Charter Communications Holdings, LLC and Charter Communications
Holdings Capital Corporation have duly caused this Quarterly Report to be signed
on their behalf by the undersigned, thereunto duly authorized.
CHARTER COMMUNICATIONS HOLDINGS, LLC
Registrant
By: CHARTER COMMUNICATIONS, INC., Sole Manager
Dated: November 12, 2003 By: /s/ STEVEN A. SCHUMM
----------------------------------------
Name: Steven A. Schumm
Title: Executive Vice President and
Chief Administrative Officer and
Interim Chief Financial Officer
(Principal Financial Officer)
By: /s/ PAUL E. MARTIN
----------------------------------------
Name: Paul E. Martin
Title: Senior Vice President and
Corporate Controller
(Principal Accounting Officer)
CHARTER COMMUNICATIONS HOLDINGS CAPITAL
CORPORATION
Registrant
Dated: November 12, 2003 By: /s/ STEVEN A. SCHUMM
----------------------------------------
Name: Steven A. Schumm
Title: Executive Vice President and
Chief Administrative Officer and
Interim Chief Financial Officer
(Principal Financial Officer)
By: /s/ PAUL E. MARTIN
----------------------------------------
Name: Paul E. Martin
Title: Senior Vice President and
Corporate Controller
(Principal Accounting Officer)
52
EXHIBIT INDEX
Exhibit
Number Description of Document
------ -----------------------
2.1 Purchase Agreement, dated May 29, 2003, by and between Falcon
Video Communications, L.P. and WaveDivision Holdings, LLC
(Incorporated by reference to Exhibit 2.1 to Charter
Communications, Inc.'s current report on Form 8-K filed on May 30,
2003 (File No. 000-27927)).
2.2 Asset Purchase Agreement, dated September 3, 2003, by and between
Charter Communications VI, LLC, The Helicon Group, L.P., Hornell
Television Service, Inc., Interlink Communications Partners, LLC,
Charter Communications Holdings, LLC and Atlantic Broadband
Finance, LLC (Incorporated by reference to Exhibit 2.1 to Charter
Communications, Inc.'s current report on Form 8-K/A filed on
September 3, 2003 (File No. 000-27927)).
3.1(a) Certificate of Formation of Charter Communications Holdings, LLC
(Incorporated by reference to Exhibit 3.1 to Amendment No. 2 to
the registration statement on Form S-4 of Charter Communications
Holdings, LLC and Charter Communications Holdings Capital
Corporation filed on June 22, 1999 (File No. 333-77499)).
3.2 Second Amended and Restated Limited Liability Company Agreement of
Charter Communications Holdings, LLC, dated as of June 30, 2003
(Incorporated by reference to Exhibit 3.2 to the quarterly report
on Form 10-Q filed by Charter Communications Holdings, LLC and
Charter Communications Holdings Capital Corporation on August 12,
2003 (File No. 333-77499)).
3.3 Certificate of Incorporation of Charter Communications Holdings
Capital Corporation (Incorporated by reference to Exhibit 3.3 to
Amendment No. 2 to the registration statement on Form S-4 of
Charter Communications Holdings, LLC and Charter Communications
Holdings Capital Corporation filed on June 22, 1999 (File No.
333-77499)).
3.4(a) By-Laws of Charter Communications Holdings Capital Corporation
(Incorporated by reference to Exhibit 3.4 to Amendment No. 2 to
the registration statement on Form S-4 of Charter Communications
Holdings, LLC and Charter Communications Holdings Capital
Corporation filed on June 22, 1999 (File No. 333-77499)).
3.4(b) Amendment to By-Laws of Charter Communications Holdings Capital
Corporation, dated as of October 30, 2001. (Incorporated by
reference to Exhibit 3.4(b) to the annual report on Form 10-K
filed by Charter Communications Holding Company on March 29, 2002
(File No. 333-77499)).
4.1 Indenture, dated as of September 23, 2003, by and among CCH II,
LLC, CCH II Capital Corp. and Wells Fargo Bank, National
Association, as trustee (Incorporated by reference to Exhibit 10.1
to Charter Communications, Inc.'s current report on Form 8-K filed
on September 26, 2003 (File No. 000-27927)).
4.2 Exchange and Registration Rights Agreement, dated as of September
23, 2003, by and between CCH II, LLC and CCH II Capital Corp.
(Incorporated by reference to Exhibit 10.2 to Charter
Communications, Inc.'s current report on Form 8-K filed on
September 26, 2003 (File No. 000-27927)).
4.3 CCH II Note Purchase Agreement, dated as of September 18, 2003, by
and between CCH II, LLC and CCH II Capital Corp. (Incorporated by
reference to Exhibit 10.3 to Charter Communications, Inc.'s
current report on Form 8-K filed on September 26, 2003 (File No.
000-27927)).
4.4 CCI Senior Notes Exchange Agreement, dated as of September 18,
2003, by and between Charter Communications, Inc., CCH II, LLC and
CCH II Capital Corp. (Incorporated by reference to Exhibit 10.4 to
Charter Communications, Inc.'s current report on Form 8-K filed on
September 26, 2003 (File No. 000-27927)).
4.5 Holdings Senior Notes Exchange Agreement, dated as of September
18, 2003, by CCH II, LLC and CCH II Capital Corp. (Incorporated by
reference to Exhibit 10.5 to Charter Communications, Inc.'s
current report on Form 8-K filed on September 26, 2003 (File No.
000-27927)).
4.6 Indenture, dated as of November 10, 2003, by and among CCO
Holdings, LLC, CCO Holdings Capital Corp. and Wells Fargo Bank,
National Association, as trustee (Incorporated by reference to
Exhibit 4.1 to Charter Communications, Inc.'s current report on
Form 8-K filed on November 12, 2003 (File No. 000-27927)).
4.7 Exchange and Registration Rights Agreement, dated as of November
10, 2003, by and between CCO Holdings, LLC and CCO Holdings
Capital Corp. (Incorporated by reference to Exhibit 4.2 to Charter
Communications, Inc.'s current report on Form 8-K filed on
November 12, 2003 (File No.
53
000-27927)).
4.8 Purchase Agreement, dated as of November 4, 2003, by and between
CCO Holdings, LLC and CCO Holdings Capital Corp. (Incorporated by
reference to Exhibit 4.3 to Charter Communications, Inc.'s current
report on Form 8-K filed on November 12, 2003 (File No.
000-27927)).
10.1 Second Amended and Restated Credit Agreement, dated as of March
18, 1999, as amended and restated as of January 3, 2002 and as
further amended and restated as of June 19, 2003, among Charter
Communications Operating, LLC, Charter Communications Holdings,
LLC and several financial institutions or entities named therein
(Incorporated by reference to Exhibit 10.1 to Charter
Communications, Inc. quarterly report on Form 10-Q filed on August
5, 2003 (File No. 000-27927)).
10.2 Amended and Restated Limited Liability Company Agreement of
Charter Communications Operating, LLC, dated as of June 19, 2003
(Incorporated by reference to Exhibit 10.2 to Charter
Communications, Inc. quarterly report on Form 10-Q filed on August
5, 2003 (File No. 000-27927)).
10.3a Commitment Letter, dated April 14, 2003, from Vulcan Inc. to
Charter Communications VII, LLC (Incorporated by reference to
Exhibit 10.3a to Charter Communications, Inc. quarterly report on
Form 10-Q filed on August 5, 2003 (File No. 000-27927)).
10.3b Letter from Vulcan Inc. dated June 30, 2003 amending the
Commitment Letter, dated April 14, 2003 (Incorporated by reference
to Exhibit 10.3b to Charter Communications, Inc. quarterly report
on Form 10-Q filed on August 5, 2003 (File No. 000-27927)).
10.4 Amended and Restated Management Agreement dated as of June 19,
2003 by and between Charter Communications Operating, LLC and
Charter Communications, Inc. (Incorporated by reference to Exhibit
10.4 to Charter Communications, Inc. quarterly report on Form 10-Q
filed on August 5, 2003 (File No. 000-27927)).
10.5a Second Amended and Restated Mutual Services Agreement dated as of
June 19, 2003 by and between Charter Communications, Inc. and
Charter Communications Holding Company, LLC (Incorporated by
reference to Exhibit 10.5a to Charter Communications, Inc.
quarterly report on Form 10-Q filed on August 5, 2003 (File No.
000-27927)).
10.5b Letter Agreement regarding Mutual Services Agreement dated June
19, 2003 between Charter Investment, Inc., Charter Communications,
Inc. and Charter Communications Holding Company, LLC (Incorporated
by reference to Exhibit 10.5b to Charter Communications, Inc.
quarterly report on Form 10-Q filed on August 5, 2003 (File No.
000-27927)).
+10.6 Employment Agreement between Charter Communications, Inc. and
Margaret A. "Maggie" Bellville, entered into as of April 27, 2003
(Incorporated by reference to Exhibit 10.1 to the quarterly report
on Form 10-Q filed by Charter Communications, Inc. on November 3,
2003 (File No. 000-27927)).
+10.7 Amendment No. 4 to the Charter Communications, Inc. 2001 Stock
Incentive Plan (Incorporated by reference to Exhibit 10.11(e) to
the annual report on Form 10-K filed by Charter Communications,
Inc. on April 14, 2003 (File No. 000-27927)).
+10.8 Amendment No. 5 to the Charter Communications, Inc. 2001 Stock
Incentive Plan (Incorporated by reference to Exhibit 10.11(f) to
the annual report on Form 10-K filed by Charter Communications,
Inc. on April 14, 2003 (File No. 000-27927)).
15.1 Letter re Unaudited Interim Financial Statements. *
31.1 Certificate of Chief Executive Officer pursuant to Rule
13a-14(a)/Rule 15d-14(a) under the Securities Exchange Act of
1934. *
31.2 Certificate of Chief Financial Officer pursuant to Rule
13a-14(a)/Rule 15d-14(a) under the Securities Exchange Act of
1934. *
32.1 Certification pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (Chief
Executive Officer). *
32.2 Certification pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (Chief
Financial Officer). *
* filed herewith
+ Management compensatory plan or arrangement
54