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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-K

ANNUAL REPORT PURSUANT TO SECTION 13 or 15(d)

OF THE SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended December 31, 2002

Commission file number 0-30218

TIME WARNER TELECOM INC.

(Exact name of Registrant as specified in its charter)

10475 Park Meadows Drive

Littleton, CO 80124

(Address of Principal Executive Offices)

(303) 566-1000

(Registrant’s Telephone Number, Including Area Code)

Securities registered pursuant to Section 12(b) of the Act:

None

Securities registered pursuant to Section 12(g) of the Act:

Class A Common Stock, $.01 par value

Indicate by check mark whether the Registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. YES x  NO ¨

Indicate by check mark if disclosure of delinquent filer pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of Registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. ¨

Indicate by check mark whether the Registrant is an accelerated filer (as defined in Rule 12b-2 of the Act) YES x   NO ¨

As of June 30, 2002, the aggregate market value of the Registrant’s voting stock held by non-affiliates of the Registrant was approximately $82.8 million, based on the closing price of the Company’s Class A common stock on the Nasdaq National Market reported for such date. Shares of Common Stock held by each executive officer and director have been excluded since those persons may under certain circumstances be deemed to be affiliates. This determination of executive officer or affiliate status is not necessarily a conclusive determination for other purposes.

The number of shares outstanding of Time Warner Telecom Inc.’s common stock as of February 28, 2003 was:

Time Warner Telecom Inc. Class A common stock–48,990,768 shares

Time Warner Telecom Inc. Class B common stock–65,936,658 shares

CAUTION REGARDING FORWARD-LOOKING STATEMENTS

This document contains certain “forward-looking statements,” within the meaning of the Private Securities Litigation Reform Act of 1995, including statements regarding, among other items, our expected financial position, business, and financing plans. These forward-looking statements are based on our current expectations and are naturally subject to risks, uncertainties, and changes in circumstances, certain of which are beyond our control. Actual results may differ materially from those expressed or implied by such forward-looking statements.

The words “believe,” “plan,” “target,” “expect,” “intends,” and “anticipate,” and expressions of similar substance identify forward-looking statements. Although we believe that the expectations reflected in such forward-looking statements are reasonable, we can give no assurance that those expectations will prove to be correct. Important factors that could cause actual results to differ materially from the expectations described in this report are set forth under “Risk Factors” in Item 1 and elsewhere in this report. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of their dates. We undertake no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events, or otherwise.

TELECOMMUNICATIONS DEFINITIONS

In order to assist the reader in understanding certain terms relating to the telecommunications business that are used in this report, a glossary is included following Part III.

PART I

Item 1.    Business

Overview

Time Warner Telecom Inc. is a leading fiber facilities-based provider of metropolitan and regional optical broadband networks and services to business customers. We deliver broadband data, dedicated Internet access, and local and long distance voice services in 44 metropolitan markets in the United States as of December 31, 2002. Our customers are principally telecommunications-intensive businesses, long distance carriers, Internet service providers (“ISPs”), incumbent local exchange carriers (“ILECs”), competitive local exchange carriers (“CLECs”), wireless communications companies, and governmental entities. As of December 31, 2002, our networks covered 17,390 route miles, contained 823,977 fiber miles in 22 states, and offered service to 12,241 buildings served either entirely by our facilities (“on-net”) or through the use of facilities of another carrier to provide a portion of the link (“off-net”).

Our principal executive offices are located at 10475 Park Meadows Drive, Littleton, Colorado 80124, and the telephone number is (303) 566-1000. Our Internet address is http://www.twtelecom.com. We are not including the information contained on our website as a part of, or incorporating it by reference into, this Annual Report on Form 10-K. We make available free of charge (other than an investor’s own Internet access charges) through our website our Annual Report on Form 10-K, quarterly reports on Form 10-Q, and current reports on Form 8-K, and amendments to these reports, as soon as reasonably practicable after we electronically file such material with, or furnish such material to, the Securities and Exchange Commission. In addition, we intend to disclose on our website any amendments to or waivers from our code of ethics that are required to be publicly disclosed pursuant to rules of the Securities and Exchange Commission.

Time Warner Cable (now a unit of AOL Time Warner Inc.) began our business in 1993. Since 1997, our business has changed substantially into an exclusive focus on business customers, including carriers and governmental entities, and an expansion from dedicated services into switched services, Internet and data, and geographic areas beyond the Time Warner Cable footprint.

In July 1998, we were reorganized into a limited liability company, Time Warner Telecom LLC (“TWT LLC”), and conducted an offering of $400 million principal amount of 9¾% Senior Notes due July 2008.

In May 1999, in preparation for our initial public offering, TWT LLC was reconstituted as a Delaware corporation through the conversion of TWT LLC’s limited liability company interests into common stock of the newly formed corporation, Time Warner Telecom Inc. This transaction is referred to as the “Reconstitution.” Also in May 1999, in conjunction with the Reconstitution, we completed an initial public offering (“IPO”) of 20,700,000 shares of Class A common stock at a price of $14 per share.

As a result of the Reconstitution, we have two classes of common stock outstanding, Class A common stock and Class B common stock. Holders of Class A common stock have one vote per share and holders of Class B common stock have ten votes per share. Each share of Class B common stock is convertible, at the option of the holder, into one share of Class A common stock. Currently, the Class B common stock is collectively owned directly or indirectly by AOL Time Warner Inc., Advance Telecom Holdings Corporation, and Newhouse Telecom Holdings Corporation (collectively, the “Class B Stockholders”).

Business Strategy

Our primary objective is to be the leading provider of high quality telecommunications services in each of our service areas, principally utilizing our fiber facilities to offer high value products – voice, data, Internet Protocol (“IP”), and dedicated services – as the carrier of choice for medium- and large-sized business enterprises, governmental agencies, and other carriers. The key elements of our business strategy include the following:

Leverage Existing Fiber Optic Networks.    We have designed and built local and regional fiber networks to serve geographic locations where management believes there are large numbers of potential customers. Our

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network architecture reflects a convergence of circuit switched (primarily using Time Division Multiplexing or “TDM” technology), as used in the traditional public switched telephone network (“PSTN”), and packet switched (using IP technology) technologies with redundancy and diversity maintained throughout the network. The network architecture is designed to remain open and capable of supporting connections with other networks, as well as allowing for utilization of “best of breed” suppliers’ components to be integrated for enhanced diversity and availability. As of December 31, 2002, we operated networks that spanned 17,390 route miles and contained 823,977 fiber miles in 22 states. In addition, we operate a fully managed, fiber-based nationwide IP network to provide the capacity and high quality service increasingly demanded by our customers. Our IP backbone network capacity ranges from OC-3 to OC-48, depending on the specific route, and includes long haul circuits leased from other carriers. We believe that our extensive broadband network capacity allows us to:

During 2001, we expanded our footprint by launching service in five new markets and by acquiring substantially all of the assets of GST Telecommunications, Inc. (“GST”) out of bankruptcy. We plan to increase penetration in existing markets and do not currently intend to expand into additional new markets. We continue to extend our network in our present markets in order to reach additional commercial buildings directly with our fiber facilities. In addition, we have deployed technologies such as dense wave division multiplexing (“DWDM”) to provide additional bandwidth and higher speed without the need to add additional fiber capacity.

Expand Service Offerings.    We provide a broad range of switched services throughout our service area. We utilize high-capacity digital end office switches that enable us to offer both local and toll services to our customers. We have also installed “softswitches” and related network equipment – media gateways, signaling gateways, and applications servers (collectively referred to as “converged network elements”) in certain markets, which enable the switching and routing of voice calls over packet networks as well as managing the related PSTN call traffic interface. The converged network elements are collectively much smaller and more cost effective than traditional PSTN end office switches and allow us to offer traditional voice telephony services and to develop future service applications that enhance business end user customers’ voice and data networking ability.

Data services are increasingly important to our targeted business end user and carrier customer base. In particular, we believe that the demand for high-speed, high-quality local area networks (“LAN”), native (i.e., requiring no protocol conversion) LAN (“NLAN”), switched NLAN, and wide area network connectivity using Ethernet protocol will continue to grow over the long term. We expect this demand will grow in support of specific applications such as website hosting, e-commerce, intranet, and Internet access. We will continue to deliver high-speed traditional transport services (e.g., DS-1, DS-3, and OC-n) through our fiber optic networks, but intend to focus on the delivery of next generation data networking as well as voice and data applications over a common network infrastructure. We anticipate that the converged network will be capable of supporting IP-based services such as voice over IP and unified messaging as well as managed service applications such as virtual private networking.

Target Business Customers.    We operate networks in metropolitan areas with high concentrations of medium- and large-sized businesses, including other carriers. These businesses are potentially high-volume users of our services and are more likely to seek the greater reliability provided by an advanced network such as ours. We target business end user customers with value added products that enhance the customers’ data networking ability and provide a high level of customer service. As a result of weakness in the carrier sector, we have sought to broaden our revenue base by an increased focus on business end user (non-carrier) customers and

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governmental customers, while still focusing on more stable carrier customers. To achieve revenue growth from end user customers, we have established a sales group that targets national enterprise customers and also plan to leverage co-marketing arrangements with a select number of complementary vendors. We also plan to expand our direct sales force. In addition, in order to achieve further economies of scale and network utilization, we are targeting smaller business customers where we can offer a package of network services that may not otherwise be available to those customers.

Interconnect Service Areas.    We group the service areas in which we operate into geographic clusters across the United States. We selectively interconnect certain of our existing service areas within regional clusters with owned or leased fiber optic facilities. We expect the interconnection of service areas to increase our revenue potential and increase margins by addressing our customers’ regional long distance, voice, data, and video requirements.

Utilize Relationships with AOL Time Warner and its Affiliates.    We have benefited from our relationship with Time Warner Cable, one of the largest multiple system cable operators in the U.S., by licensing and sharing the cost of fiber optic facilities. This licensing arrangement allows us to benefit from Time Warner Cable’s access to rights-of-way, easements, poles, ducts, and conduits. See “Certain Relationships and Related Transactions” and “Risk Factors – The Class B Stockholders or their affiliates may compete with us.” Furthermore, we believe that the strong awareness and positive recognition of the “Time Warner” brand name contributes to our marketing programs and sales efforts by distinguishing us from our competitors. In addition, we have entered into agreements with various units of AOL Time Warner to provide switched, dedicated, data, and Internet services to those units.

Continue Disciplined Expenditure Program.    We increase operational efficiencies by pursuing a disciplined approach to capital and operating expenditures. The capital expenditure program requires that prior to making expenditures on a project, the project must be evaluated to determine whether it meets stringent financial criteria such as minimum recurring revenue, cash flow margins, and rate of return. As a result of the sluggish economy in 2002, we reduced our historical levels of capital spending to preserve liquidity. However, in order to drive growth, we expect to increase capital spending in 2003 to approximately $200 million compared to approximately $105 million in 2002, and invest selectively in growth prospects such as building entries, electronics, distribution rings, product expansion, and upgrades to our back office systems while maintaining sensitivity to costs and the continued unsettled economic climate. In addition, our disciplined spending approach allowed us to adjust operating expense spending appropriately, including reducing headcount, as revenue growth declined in 2002.

Services

We provide our customers with a wide range of telecommunications services, including dedicated transport, local switched, long distance, data and video transmission services, high-speed dedicated Internet access, and intercarrier services.

Dedicated Transport Services

We currently provide a complete range of dedicated transport services with transmission speeds from 1.544 megabits per second to 9.953 gigabits per second to our carrier and end user customers. These services satisfy needs for voice, data, image, and video transmission. Each uses state-of-the-art fiber optics and are available as:

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These services are available in a wide variety of configurations and capacities:

Switched Services

Our switched voice services provide business customers with local calling capabilities and connections to our IXCs. We own, house, manage, and maintain the switches used to provide the services. Our switched services include the following:

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Data Services

We offer our customers a broad array of data services that enable them to connect their own internal computer networks and access external computer networks and the Internet at very high speeds using the Ethernet protocol.

We offer the following range of NLAN services:

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The above services, except for Customer-Direct NLAN, are provided over a shared network, but the traffic from each customer is uniquely identified through the use of logical connections. These logical connections not only virtually separate one customer’s traffic from that of another, but they also provide security in such a way that each customer’s traffic is securely delivered only to that customer’s end-user Ethernet ports.

In 2002, we introduced a storage transport solution. We manage the circuits and monitor the links for this service which allows customers to transport their critical data to a remote storage facility for back up, mirroring, and disaster recovery purposes. Using DWDM technology, we are able to transport storage traffic in ESCON, Fibre Channel and Gigabit Ethernet protocols without any protocol translation to a customer’s secure site miles away.

Internet Services

We offer a wide range of dedicated high-speed Internet services to our business customers with speeds from 128 kilobits per second to 1 gigabit per second. We also offer a wide range of access services. Traditional Internet services are delivered via a TDM-based transport facility with standard offerings of DS-1, DS-3, and OC-3 connectivity. Ethernet Internet services are delivered via full duplex Ethernet connections capable of sending and receiving information at the same time with standard offerings of Ethernet (10 Mbps), Fast Ethernet (100 Mbps), and Gigabit Ethernet (1000 Mbps).

We began to offer dedicated web hosting services in late 2000 and upgraded our platforms in 2002. Customers are able to use the dedicated servers we own and operate for e-mail, web hosting, and file transfer. We offer this service in all of our markets primarily as a value add-on for our data and Internet services customers.

Intercarrier Services

By virtue of being interconnected with other telecommunications carriers, we provide traffic origination and termination services to other carriers. These services consist of the origination and termination of long distance calls and the termination of local calls.

Limitation on Residential and Content Services

Our Restated Certificate of Incorporation prohibits us from (i) engaging in the business of providing, offering, packaging, marketing, promoting, or branding (alone or jointly with or as an agent for other parties) any residential services, or (ii) producing or otherwise providing entertainment, information, or other content services, without the consent of all the Class B Stockholders. This prohibition expires in May 2004, or earlier if the Class B Stockholders no longer hold 50% of the total voting power for the Board of Directors, but a similar restriction on our use for those purposes of capacity licensed to us under the capacity license agreements continues until 2028. See “Certain Relationships and Related Transactions.” Although we do not believe that these restrictions will materially affect our business and operations in the immediate future, we cannot predict the effect of such restrictions in the rapidly changing telecommunications industry. We do not currently have plans to offer residential or content services after May 2004 in our service areas not covered by the capacity license agreements with Time Warner Cable.

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Telecommunications Networks and Facilities

Overview.    We use advanced technologies and network architectures to develop a highly reliable infrastructure for delivering high-speed, quality digital transmissions of voice, data, and video telecommunications services. Our basic transmission platform consists primarily of optical fiber equipped with high-capacity SONET and DWDM equipment deployed in fully redundant, self-healing rings. These SONET and DWDM rings give us the capability of routing customer traffic in both directions around the ring, thereby eliminating loss of service in the event of a fiber cut. We have also deployed a next generation Internet backbone using redundant core routers to deliver Internet traffic to our customers. Our networks contain softswitches and media gateways to enable voice services over IP and Ethernet switches to deliver Ethernet-based services. Our networks are also designed for remote automated provisioning, allowing us to meet customers’ real time service needs. We extend SONET rings or point-to-point links from rings to each customer’s premises over our own fiber optic cable and in some cases using customer links obtained from ILECs. We also install diverse building entry points if a customer’s security needs require such redundancy. We then place necessary customer-dedicated or shared electronic equipment at a location near or in the customer’s premises to terminate the link.

We serve our customers from one or more central offices or hubs strategically positioned throughout our networks. The central offices house the transmission, switching, and Internet equipment needed to interconnect customers with each other, the long distance carriers, and other local exchange networks. Redundant electronics and power supplies, with automatic switching to the backup equipment in the event of failure, protects against signal deterioration or outages. We continuously monitor system components from our network operations center and proactively focus on avoiding problems.

We add switched, dedicated, and data services to our basic fiber optic transmission platform by installing sophisticated softswitches and digital electronics at our central offices and nodes at customer locations. Our advanced digital telephone and IP switches are connected to multiple ILECs and long distance carrier switches to provide our customers ubiquitous access to the PSTN. We also provide routers for our Internet backbone and LAN multiplexers at our customers’ premises and in our central offices to provide high-speed LAN interconnection services.

Our strategy for adding customers is designed to maximize revenue growth while maintaining attractive rates of return on capital invested to connect customers directly to our networks. To serve a new customer initially, we may use various transitional links, such as utilizing a portion of an ILEC’s network. When these customers’ communications volumes increase, we may build our own fiber optic connection between the customer’s premises and our network to accommodate the customer’s needs and maximize our return on network investment.

Telecommunications Networks.    The following chart sets forth information regarding each of our telecommunications networks as of December 31, 2002:

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Western Long Haul Network.    As part of the GST asset acquisition, we acquired a long haul fiber optic backbone network, extending in a ring configuration from Seattle to San Diego on the west and connecting through Las Vegas and Salt Lake City on the east. This long haul network interconnects many service areas in our western region and is used to provide voice, Internet, data, and video transport services. As part of the GST transaction, we assumed certain agreements to provide long-term rights (generally 20 to 30 years) to dark fiber

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and conduit to third parties. Dark fiber consists of fiber strands contained within a fiber optic cable that are not connected to electronic equipment. As of December 31, 2002, we have delivered all of the fiber and conduit required under these agreements and we retain sufficient fiber and conduit for our own uses.

Network Monitoring and Management.    We provide a single point of contact for our customers and consolidate our systems support, expertise, and technical training for the network at our network operations center in Greenwood Village, Colorado. With 875 technicians and customer service representatives, we are generally able to quickly correct, and often anticipate, problems that may arise in our networks. We provide 24 hours-a-day, 7 days-a-week surveillance and monitoring of networks to achieve a high level of network reliability and performance. Network analysts monitor real-time alarm, status, and performance information for network circuits, which allows them to react swiftly to repair network trouble. In 2002, we completed the consolidation of the network operations center in Vancouver, Washington, acquired through the GST asset acquisition, into our Greenwood Village network operations center.

In the first quarter of 2003, we began the process of migrating the functions previously provided by our Internet network operations center in Milwaukee, Wisconsin to the Greenwood Village, Colorado network operations center. The Milwaukee center, with approximately 35 employees, handled all provisioning, call center, and surveillance functions for our IP backbone and services, including Internet access and web hosting, provided over our IP backbone. The move is intended to provide enhanced support for our data and IP services through the additional resources already available in the Greenwood Village network operations center.

Infrastructure Migration.    We continually evaluate new technologies and suppliers in order to achieve a balance between utilizing best of breed technologies and suppliers and purchasing equipment at the best available price. We continue to expand IP capabilities throughout our network through the deployment of packet telephony systems such as media gateways and softswitches. In order to prepare to deliver the next generation voice and data services, we are using these new technologies to augment traditional circuit switched systems. We offer primary rate interface voice service and digital trunks and plan to offer IP Centrex (business voice services and additional features without the need for PBX equipment at the customer’s premises) over this platform in 2003. As an extension of the Signaling System 7 (“SS7”) network that we acquired in connection with the GST asset acquisition, we extended the acquired SS7 network to our existing networks, completing the migration to our internal SS7 network in 2002. This migration decreased our dependence on other providers for signaling and related database services.

Information Systems Infrastructure.    We use a centrally deployed series of primarily web-based platforms and relational database servers to provide cost effective computing support for our business functions. These services and products enable employees to support customers directly, manage the telephony infrastructure, and report and manage trouble resolution. The computing infrastructure strategy enables us to mix and match computing platforms to meet our specific business needs including telephony ordering, design, provisioning, inventory, engineering, installation, billing, decision support, financial, procurement, human resources, and customer care business functions. The strategy of buying “off-the-shelf” products and integrating them into our existing information systems infrastructure instead of utilizing several stand-alone applications supports a more responsive and flexible environment. Our information systems provide real time support of network operations and deliver data at the network, regional and corporate level, sorted by customer and vendor. The systems selected or built utilize open system standards and architectures, allowing interoperability with third parties’ systems. Our information technology teams have developed competencies in application integration using the latest in enterprise application products and strategies. Most recently, we have implemented a custom built management platform that is integrated with an off-the-shelf enterprise workflow platform and allows us to manage our customers, accounts, orders, and products more effectively utilizing standard business processes that are enforced and measured by the enterprise workflow application.

Network Development and Application Laboratory.    Our network development and application laboratory is a comprehensive telecommunications technology, applications, and services development laboratory, equipped

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with advanced systems and equipment, including those we use in the operation of our local digital networks. The center is designed to provide a self-contained testing and integration environment, fully compatible with our digital networks, for the purposes of:

Billing Systems.    We contract with outside vendors for customer billing. We have licensed a system for transport and switched services billing that we operate on our own equipment and contract facility management and development with an outside vendor. In addition, we have a service bureau arrangement with another vendor for carrier and interconnection billing.

Customers and Sales and Marketing

Our customers are principally telecommunications-intensive medium- and large-sized business end users including financial services, health care, media and technology companies, long distance carriers, ISPs, wireless communications companies, ILECs, CLECs, and various governmental entities.

We have substantial business relationships with a few large customers. For the year ended December 31, 2002, our top ten customers accounted for approximately 45% of our total revenue. Our largest customer for the year ended December 31, 2002, WorldCom Inc. and its affiliates (“WorldCom”), accounted for 11% of our total revenue in 2002. A portion of that revenue results from traffic that is directed to us by customers that have selected WorldCom as their long distance carrier. No other customer, including customers that direct their business through long distance carriers, accounted for 10% or more of revenue in 2002. The Chapter 11 reorganization of WorldCom has begun to impact our recurring revenue and is expected to continue to do so. See “Risk Factors—Several customers account for a significant portion of our revenue and our largest customer is in bankruptcy.”

We maintain a direct sales effort in each of our service areas along with regional and national sales support. The number of sales account executives totaled 225 at December 31, 2002. Commissions for our sales representatives are linked to recurring revenue from services installed. We provide enhanced commissions for executing service contracts with terms of two years or greater and for services entirely on our network. Currently, more than half of our revenue from services subject to service agreements is provided under agreements with an initial duration of three years or greater.

In addition to our direct sales channels, we have begun to enter into joint marketing arrangements with vendors of complementary products in order to develop additional sales opportunities. We plan to retain control of the sales and contracting process after receiving leads from the co-marketers. Since our co-marketing arrangements are still being developed, there is no assurance that this program will generate significant additional revenue for us. In addition, we market our services through advertisements, trade journals, media relations, direct mail, and participation in trade conferences.

Through our national sales organization, we target long distance carriers, ISPs, ILECs, large strategic business accounts, and wireless telephone companies. We have master services agreements with a significant number of the long distance carriers, including AT&T, WorldCom, Sprint Corporation, and Qwest Communications Inc. By providing long distance carriers with a local connection to our customers, we enable them to avoid complete dependence on the ILECs for access to customers and to obtain a high-quality and reliable local connection. We provide a variety of transport services and arrangements that allow long distance carriers to connect their own switches in both local areas, or intra-city, and wide areas, or inter-city. Additionally, long distance carriers may purchase our transport services that allow them to connect their switch to an ILEC

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switch and to end user locations directly. Our networks allow us to offer high volume business customers and long distance carriers uniformity of services, pricing, quality standards, and customer service throughout our 22 state service area.

Beginning in 2001, we have experienced significant customer disconnections (churn) as a result of bankruptcies, customers contracting their operations, and customers optimizing their existing networks in response to the economic downturn. As a result, we increased our focus on established carrier customers and on end user customers to replace the revenue lost to disconnections.

Our marketing emphasizes our:

Our centrally managed customer support operations are designed to facilitate the processing of orders for changes and upgrades in customer services. To reduce the risk in bringing new and untested telecommunications services to a dynamically changing market, we introduce our services once market demand develops, and offer them in diversified, competitively-priced bundles in order to increase usage among our existing customers and to attract new customers. The traditional switched and dedicated services we offer are typically priced at a discount to the ILECs’ prices for comparable services.

Customer Service

With 875 technicians and customer service representatives at December 31, 2002, we provide customers with continuous support and superior service. To provide customer service, account representatives are assigned to our customers to act as effective liaisons. Technicians and other support personnel are available in each of our service areas to react to any network failures or problems. In addition, the network operations center provides 24 hours-a-day, 7 days-a-week surveillance and monitoring of networks to maintain network reliability and performance. See “Telecommunications Networks and Facilities—Network Monitoring and Management.”

Competition

We believe that the principal competitive factors affecting our business are and will continue to be:

We believe that we compete favorably with other companies in the industry or are generally impacted favorably with respect to each of these factors. Although we compete with other carriers primarily on service quality and customer service rather than price, intense price competition for certain products such as long distance service, inter-city point-to-point services, and POP to POP dedicated services has driven down prices for these products. Also, we typically price our traditional switched and dedicated services at a discount to the ILEC’s prices for comparable services. With several facilities-based carriers providing the same service in a given market, price competition is likely and can be severe. As a result, we have experienced price competition that is expected to continue. In addition, we believe that weakness in the CLEC sector has led to below-cost pricing as certain competitors seek to meet revenue targets without regard to profit margin. During 2001 and continuing in 2002, due to business failures and contractions, the overall number of competitors declined, and competitors slowed or stopped their build-out plans. A number of our CLEC competitors have been undergoing restructuring either in the context of Chapter 11 bankruptcy proceedings or as a result of serious liquidity

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problems. Some of these competitors have or could emerge from these restructuring transactions with little or no indebtedness but with existing network capacity for new sales, which could lead to further downward pricing pressure.

The ILECs—Verizon Corporation, BellSouth Corporation, Qwest Communications Inc., and SBC Communications Inc., among others, – offer services substantially similar to those we offer. We believe that the ILECs may have competitive advantages over us, such as their long-standing relationships with customers, greater technical and financial resources, and the potential to subsidize services of the type we offer from service revenue in unrelated businesses. However, we believe that our customers are increasingly interested in alternate providers for redundancy of networks, enhanced disaster recovery, and advanced services. In light of the bankruptcies in the CLEC sector, some customers are seeking financially stable providers to a greater extent than in prior years. In most of the metropolitan areas in which we currently operate, at least one, and sometimes several other CLECs offer substantially similar services at substantially similar, and in the case of some products, substantially lower prices than we offer.

We also face competition from electric utilities, long distance carriers, wireless telephone system operators, private networks built by large end users, and cable television companies that presently, and may in the future, offer services similar to those we offer. See “Risk Factors—The Class B Stockholders or their affiliates may compete with us.”

The Telecommunications Act of 1996 (the “1996 Act”) allows the regional Bell operating companies (“RBOCs”) and others, such as electric utilities, to enter the long distance market. Certain of the RBOCs have begun providing out-of-region long distance services. When a RBOC obtains authority to provide in-region interLATA services, it will be able to offer customers both local and long distance telephone services. Given the market power the RBOCs currently possess in the local exchange market, the ability to provide both local and long distance services is expected to make the RBOCs even stronger competitors. The Federal Communications Commission (“FCC”) has granted authority to RBOCs in 35 states to provide in-region interLATA services, 14 of which are states in which we operate. Regulatory environments at both the state and federal level differ widely and have considerable influence on our market and economic opportunities and resulting investment decisions. We believe we must continually monitor regulatory developments and remain active in our participation in regulatory issues. Some regulatory decisions have or may in the future have negative impacts on our revenue or expenses, and may favor certain classes of competitors over us. See “Government Regulation.”

We believe that certain IXCs have and may continue to pursue alternatives to their practices with regard to obtaining local telecommunications services from ILECs and CLECs, including acquisition of their own facilities. In addition, IXCs may be able to provide local service by reselling the facilities or services of an ILEC or the services of another CLEC, which may be more cost effective for an IXC than using our services.

To the extent we interconnect with and use ILEC networks to service our customers, we depend on the technology and capabilities of the ILECs to meet certain telecommunications needs of our customers and to maintain our service standards. We also use ILEC special access services to reach certain customer locations that are not served by our network. Although the 1996 Act imposes interconnection obligations on ILECs, the regulation of ILEC performance standards and the imposition of non-performance remedies is still developing and there is no assurance that we will be able to obtain all of the ILEC services we need on a timely basis or that the quality of service we receive will be acceptable. In the event that we experience difficulties in obtaining high-quality, reliable, and reasonably priced service from the ILECs, the attractiveness of certain of our services to our customers could be impaired.

Government Regulation

Historically, interstate and foreign communication services were subject to the regulatory jurisdiction of the FCC, and intrastate and local telecommunications services were subject to regulation by state public service commissions. With enactment of the 1996 Act, competition in all telecommunications market segments, including local, toll, and long distance, became matters of national policy even though the states continue to have

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a significant role in administering policy. We believe that the national policy fostered by the 1996 Act has contributed to significant market opportunities for us. However, since 1996, various ILEC legal challenges and lobbying efforts have resulted in state and federal regulatory decisions affecting implementation of the 1996 Act that favor other competitors. Since federal and state regulatory commissions have largely implemented the provisions of the 1996 Act, we believe that future regulatory activity relating to the 1996 Act will focus largely on enforcement of carrier-to-carrier requirements under the law and on consumer protection measures.

Telecommunications Act of 1996.    The 1996 Act is intended to increase competition in local telecommunications services by requiring ILECs to interconnect their networks with CLECs. The 1996 Act imposes a number of access and interconnection requirements on all LECs, including CLECs, with additional requirements imposed on ILECs. Under the 1996 Act, ILECs are required to attempt to negotiate with CLECs wanting to interconnect with their networks. We have negotiated interconnection agreements with the ILECs in each of the markets in which we offer switched services and have negotiated, or are negotiating, secondary interconnection arrangements with carriers whose territories are adjacent to ours for intrastate intraLATA toll traffic and extended area services. To the extent agreements have expired, we have either renegotiated or are in the process of negotiating new contracts. Typically, expired agreements allow us to continue to exchange traffic with the other carrier pending execution of a new agreement.

In August 1996, the FCC promulgated rules to govern interconnection, resale, dialing parity, unbundled network elements (“UNE”), and the pricing of those facilities and services, including the Total Element Long Run Incremental Cost (“TELRIC”) standard for UNEs. Most recently, as part of its Triennial Review, the FCC has revisited its rules relating to UNEs, as discussed below.

Reciprocal compensation revenue is an element of switched services revenue that represents compensation from LECs for local exchange traffic terminated on our facilities originated by other LECs. Historically, a portion of the reciprocal compensation revenue payable to us has resulted from the termination of calls to our ISP customers. As dial-up Internet traffic grew, ILECs have challenged the requirement to pay reciprocal compensation for ISP-bound traffic under various legal theories.

In June 2001, the FCC reaffirmed its jurisdiction over dial-up Internet-bound traffic, and adopted an interim carrier-to-carrier cost recovery scheme for such traffic. The new regulatory scheme phases in reductions on the maximum compensation rate for dial-up Internet-bound traffic over a three-year period beginning in 2001. The FCC initiated a rulemaking to consider whether it should replace all existing intercarrier compensation schemes with some form of “bill and keep”. “Bill and keep” means that neither carrier receives compensation for Internet-bound traffic. The FCC has completed an initial comment cycle, but there has been no further activity on this proceeding to date. The interim carrier-to-carrier cost recovery rule has negatively impacted and will continue to have a negative impact on our revenue stream. The FCC’s order also imposed bill and keep payment arrangements for Internet-bound traffic as carriers enter new markets. As a result of the FCC’s order, state commissions lack authority over Internet-bound traffic compensation issues, except that state commission decisions regarding this traffic for prior periods were not affected by the order. Although challenges filed by CLECs to the FCC’s order in federal court resulted in a federal appeals court ruling in May 2002 precluding the FCC’s stated statutory basis for the reciprocal compensation order, the court did not vacate the FCC’s order. As a result, the order remains in effect pending further FCC action on the court’s remand. The outcome of the remand is uncertain.

In some cases our right to receive reciprocal compensation for traffic terminated to our ISP customers was contractually dependent on the outcome of regulatory proceedings addressing reciprocal compensation for ISP traffic. The impact of the FCC’s 2001 ruling on the payment of reciprocal compensation under some of those agreements is still in dispute with certain ILECs. The rate reductions resulting from the FCC order, including a further reduction scheduled for June 2003, and exclusion of ISP-bound traffic from reciprocal compensation requirements in new markets will continue to reduce the revenue we receive for terminating ISP-bound traffic originated by ILECs. The adoption of a bill and keep regime for all existing intercarrier compensation schemes would further reduce our revenue, and to a much lesser extent, our expenses.

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Federal Regulation.    Switched access is the connection between a long distance carrier’s POP and an end user’s premises provided through the switching facilities of a LEC. Historically, the FCC has regulated the access rates imposed by the ILECs while the CLEC access rates have been less regulated. In May 2000, the FCC ordered a substantial reduction in ILEC per-minute access charges and an increase in the flat monthly charge paid by local residential service subscribers for access to interstate long distance service. The FCC also released an order effective in June 2001 that subjects CLECs’ interstate switched access charges to regulation. Effective with that order, our rates were reduced and will continue to decline through June 2004 to parity with the ILEC rates competing in each area. In addition, when a CLEC enters a new market its access charges may be no higher than the ILEC’s. This order does not affect rates subject to contracts that we have entered into with certain long distance carriers. We and several other CLECs have filed petitions with the FCC for reconsideration of the provisions of the order relating to new markets, and other carriers have challenged the order in federal court. There is no assurance that any legal challenge will be successful or that a successful challenge will change the trend toward lower access charges. The ILEC access reform decision, as well as the CLEC access charge regulation have resulted in reductions in the per-minute rates we receive for switched access service in 2001 and 2002 and will result in further reductions through June 2004. There is no assurance that we will be able to compensate for reductions in switched access revenue resulting from the FCC order with revenue from other sources.

During 2001, the FCC initiated a Triennial Review of UNEs to determine which of these elements the ILECs must continue to provide under sections 251 and 252 of the 1996 Act. The FCC rendered a decision on February 13, 2003, although the full text of the Order and details of that decision have not yet been released. The FCC appears to have largely left the issue of the availability of local switching as an UNE up to the states. The UNE Platform is a combination of loops and switching and ancillary services that allows a carrier to deliver end-to-end services without owning any telecommunications facilities. The UNE Platform, obtained from ILECs at TELRIC prices, is used primarily by IXCs to resell ILEC local exchange service and bundle such service with their long-distance offerings. While many states are expected to retain UNE offerings over the next few years, we cannot predict what any particular state may decide. The FCC did establish limits on competitors’ access to interoffice transport as an UNE and also limited CLEC access to ILEC broadband facilities as UNEs. We do not use any UNE Platform and have used UNEs very minimally. While the full extent of the FCC’s ruling will not be known until the FCC Order is released, we do not expect any material impact on our revenues or costs.

Federal legislation entitled “Internet Freedom and Broadband Deployment Act of 2001,” which passed the U.S. House of Representatives in the previous Congress, was not enacted into law and is pending before the Senate. This legislation, commonly referred to as the Tauzin-Dingell bill, was designed to prohibit the FCC and each state from regulating high-speed data services. We believe that this or similar legislation would harm telecommunications competition by removing existing regulation that protects consumers and carriers from monopoly abuses. We believe that, if passed, legislation like the Tauzin-Dingell bill could adversely affect us. We cannot predict whether the legislation will become law in 2003 or ever.

In a February 1999 order, the FCC allowed for increases to commingled cable and telephony pole attachment rates beginning in February 2001. While we have seen some rate increases, there has been no significant impact to us to date. This order could result in future increases to our costs associated with pole attachments.

State Regulation.    We have obtained all state government authority needed to conduct our business as currently contemplated. Most state public service commissions require carriers that wish to provide local and other common carrier services provided within the state to be authorized to provide such services. Our operating subsidiaries and affiliates are authorized as common carriers in 24 states. These certifications cover the provision of switched services including local basic exchange service, point-to-point private line, competitive access services, and long distance services.

Local Government Authorizations.    We may be required to obtain from municipal authorities street opening and construction permits and other rights-of-way to install and expand our networks in certain cities. In

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some cities, our affiliates or subcontractors already possess the requisite authorizations to construct or expand our networks. Any increase in the difficulty or cost of obtaining these authorizations and permits could adversely affect us, particularly where we must compete with companies that already have the necessary permits.

In some of the metropolitan areas where we provide network services, we pay rights-of-way or franchise fees based on a percent of gross revenue or other metrics such as access lines. Municipalities that do not currently impose fees may seek to impose fees in the future, and following the expiration of existing franchises, fees may be increased. Under the 1996 Act, municipalities are required to impose such fees on a competitively neutral and nondiscriminatory basis. Municipalities that have fee structures that currently favor the ILECs may or may not conform their practices in a timely manner or without legal challenges by us or other CLECs. Moreover, ILECs with which we compete may be exempted from such local franchise fee requirements by previously-enacted legislation that allows the ILECs to utilize rights-of-way throughout their states without being required to pay franchise fees to local governments.

If any of our existing franchise or license agreements for a particular metropolitan area are terminated prior to their expiration date and we are forced to remove our fiber optic cables from the streets or abandon our network in place, even with compensation, such termination could have a material adverse effect on our operation’s in that metropolitan area and could have a material adverse effect on us.

We are party to various regulatory and administrative proceedings. Subject to the discussion above, we do not believe that any such proceedings will have a material adverse effect on our business.

Employees

As of December 31, 2002, we had 1,893 employees, compared to 2,661 employees at December 31, 2001. The reduced workforce came primarily from the elimination of positions resulting from the consolidation of our network operations center from Vancouver, Washington to Greenwood Village, Colorado in late 2001 and early 2002 and two additional workforce reductions in April and August 2002. We believe that our relations with our employees are good. By succession to certain operations of Time Warner Cable, our operation in New York City is party to a collective bargaining agreement that covers our technicians in New York City. In connection with the construction and maintenance of our networks and the conduct of our other business operations, we use third party contractors, some of whose employees may be represented by unions or collective bargaining agreements. We believe that our success will depend in part on our ability to attract and retain highly qualified employees and maintain good working relations with our current employees.

Risk Factors

We may be unable to significantly grow our revenue and cash flow despite the implementation of several initiatives in 2003 designed to do so.

We believe that we must expand our business and revenue to achieve greater scale in order to generate sufficient cash flow from operating activities which, together with funds available under our existing credit facility, will be sufficient to fund our capital expenditures and our debt service requirements. In 2003, we intend to pursue several growth initiatives, including the following:

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Although we believe that these initiatives are well-timed and will position us for future growth, our ability to manage this expansion depends on many factors, including the ability to:

There is no assurance that these initiatives will result in an improvement in our financial position or our results of operations.

Some of our customer agreements may not continue, and customers may continue to disconnect services.

Some of our service agreements with customers are subject to termination on short notice and do not require the customer to maintain the services at current levels. We cannot assure that customers will continue to purchase the same services or level of services. In fact, we experienced significant service disconnections in 2001 and 2002 due to customer bankruptcies, customers contracting their operations, and customers optimizing their existing networks in response to the economic downturn. A number of our customers are other CLECs and ISPs, which are sectors that have been particularly depressed over the past two years.

During 2002, a number of our customers filed bankruptcy proceedings, including our largest customer, WorldCom. In connection with those proceedings, customers in bankruptcy may choose to assume or reject their contracts with us. If they choose to reject those contracts, our only recourse is an unsecured claim for rejection damages that is likely to result in little or no compensation to us for the lost revenue. As of December 31, 2002, approximately 14% of our monthly revenue was represented by customers that had filed bankruptcy proceedings and that could reject or otherwise terminate their agreements with us. Revenue from WorldCom represents approximately 10% of this amount.

We may have difficulty achieving the benefits intended from the acquisition of the GST assets.

Our acquisition of the GST assets was considerably larger than the transactions we had completed in the past. In addition, the networks we purchased in most of the former GST markets are less extensive than those in many of our previously existing markets and may require further build out in order to perform in accordance with the standards of our other markets. Our gross margins from the acquired operations have been worse than the margins for our core business (meaning our historic regions and operations). Although we believe we are in a position in 2003 to improve those margins, potential risks include our inability to achieve sufficient revenue growth from the acquired assets and our inability to achieve operating efficiencies. In addition, further price erosion, particularly related to long haul services, may impede our ability to recover our investment. In the fourth quarter of 2002, we recorded an impairment charge of $213 million in accordance with Statement of Financial Accounting Standards No. 144, to reflect lower than previously projected cash flows from certain assets acquired from GST, primarily the long haul network, as well as other network assets. We completed the asset acquisition with the expectation that the purchase would result in certain benefits, including expansion of the markets we serve and increasing our operational efficiencies. Achieving the benefits of the asset purchase will depend upon our ability to generate substantial additional revenue from those assets. We cannot assure that we will be able to successfully overcome the risks associated with generating sufficient additional revenue at attractive margins, particularly since the telecommunications markets changed significantly since the acquisition.

We will require substantial capital to expand our operations.

The development and expansion of our networks requires substantial capital investment. If this capital is not available when needed, our business will be adversely affected. We expect our 2003 capital expenditures to be as

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much as $200 million, compared to 2002 capital expenditures of $105 million. We expect that the increase in 2003 capital expenditures will primarily be devoted to network expansion and building entries in our existing markets. In 2002, we concentrated on preserving liquidity and limited our capital expenditures to additional building entries and distribution rings needed to reach additional customers, and upgrades to our management information and back office systems. However, we believe that we must implement growth initiatives as well as continue to contain costs in order to generate sufficient cash flow from operating activities which together with funds available under our existing credit facility, will be sufficient to fund our capital expenditures and debt service requirements. We also expect to have substantial capital expenditures subsequent to 2003.

In the fourth quarter of 2002, we executed an amendment to our $1 billion senior secured credit facility reducing the maximum commitment of the lenders to $800 million and relaxing certain financial covenants. We also increased our borrowings by $170 million. As of December 31, 2002, we have drawn $420 million of the $800 million senior secured credit facility. We may be required to seek additional financing if:

If we were to seek additional financing, the terms offered may place significant limits on our financial and operating flexibility, or may not be acceptable to us. The failure to raise sufficient funds if needed and on reasonable terms may require us to modify or significantly curtail our business plan. This could have a material adverse impact on our growth, ability to compete, and ability to service our existing debt.

Our senior secured credit facility and the indentures for our 9¾% Senior Notes and the 10 ¹/8% Senior Notes contain restrictive covenants that may limit our flexibility, and breach of those covenants may cause us to be in default under those agreements.

The senior secured credit facility and indentures limit, and in some circumstances prohibit, our ability to:

These covenants may limit our financial and operating flexibility. In addition, if we do not comply with these covenants and financial covenants in the senior secured credit facility that require us to maintain certain minimum financial ratios, the lenders under the senior secured credit facility and the holders of the 9¾% and 10 ¹/8% Senior Notes may accelerate repayment of our debt. The financial ratios include interest coverage, leverage, senior leverage, and debt service coverage ratios. See “Item 7. Management’s Discussion and Analysis of Financial Conditions and Results of Operations – Liquidity and Capital Resources” for a description of these ratios. In addition, the lenders under the senior secured credit facility could refuse to lend additional funds if we are not in compliance. In October 2002, we and our lenders amended the secured credit agreement to relax certain covenants. Although we complied with the covenants as amended as of December 31, 2002, we could be in non-compliance with financial covenants in the future due to factors beyond our control such as losses of revenue, reduction in margins, or impairment of assets.

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Our substantial indebtedness, and servicing our indebtedness, may impair our financial and operating flexibility.

As of December 31, 2002, we had approximately $1.2 billion of consolidated total long-term debt. This substantial indebtedness may have an adverse impact on us. For example:

We may be required to record additional impairment charges in the future.

Under generally accepted accounting principles, we are required to review the carrying amounts of our assets to determine whether current events or circumstances warrant adjustments to those amounts. These determinations are based in part on our judgments regarding the cash flow potential of various assets, and involve projections that are inherently subject to change based on future events. If we conclude in the future that the cash flow potential of any of our assets is significantly less than we believed at the time of purchase, and that conclusion is based on a long-term rather than short-term trend, we may need to record an impairment charge. As a result of that analysis, we recorded a non-cash impairment charge of $213 million in the fourth quarter of 2002 with respect to certain long haul network assets acquired from GST and certain other local network assets. Although we do not believe that any other assets are currently impaired, that judgment could change based on changed circumstances. An impairment charge would have a negative impact on our earnings but would not directly impact cash flow.

To service our indebtedness and to fund planned capital expenditures, we will require a significant amount of cash, and our ability to generate cash depends on many factors beyond our control.

Our ability to make payments on our indebtedness and to fund planned capital expenditures will depend on our ability to generate cash in the future. Our historical financial results have been, and our future financial results might be, subject to substantial fluctuations. We cannot assure that our business will generate sufficient cash flow from operations, that currently anticipated cost savings and operating improvements will be realized on schedule, or that future borrowings will be available to us in an amount sufficient to enable us to pay our indebtedness or fund our other liquidity needs. These uncertainties are exacerbated by the current economic downturn. If we are unable to pay our debts, we will be required to pursue one or more alternative strategies, such as selling assets, refinancing or restructuring our indebtedness, or selling equity capital. However, we cannot assure that any alternative strategies will be feasible when needed due to market conditions or other factors, or that such strategies would prove adequate or be economically attractive. Also, certain alternative strategies will require prior consent of our debt holders.

Several customers account for a significant portion of our revenue, and our largest customer is in bankruptcy.

We have substantial business relationships with a few large customers. For the year ended December 31, 2002, our top ten customers accounted for approximately 45% of our total revenue. Our largest customer for the year ended December 31, 2002, WorldCom, accounted for 11% of our total revenue. The Chapter 11 reorganization of WorldCom has begun to impact our recurring revenue from WorldCom and is expected to continue to do so. As of December 31, 2002, we received disconnect notices from WorldCom for services representing approximately 1.2% of our fourth quarter 2002 recurring revenue of $169.9 million. We expect further disconnection of WorldCom services in 2003, and based on current estimates, we anticipate that we are likely to lose at least half of the remaining recurring revenue from WorldCom over the course of 2003.

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We expect the majority of this revenue loss to occur during the first half of the year. No other customer, including customers that direct their business through long distance carriers, accounted for 10% or more of our revenue in 2002. In 2002, our five largest customers, each of which represented more than 4% of total 2002 revenue, were WorldCom Inc., AT&T Corp., Qwest Communications Inc., AOL Time Warner, and AT&T Wireless.

We are dependent on Time Warner Cable’s and Advance/Newhouse’s permits, licenses, and rights-of-way.

We currently license fiber optic capacity from Time Warner Cable and an affiliate of the Advance/Newhouse group in 23 of our markets. Municipalities that regulate these licensors may or may not seek to impose additional franchise fees or otherwise charge them for the capacity we license. We must reimburse Time Warner Cable and Advance/Newhouse for any new fees. Neither we, Time Warner Cable, nor Advance/Newhouse may be able to obtain all necessary permits, licenses, or agreements from governmental authorities or private rights-of-way providers necessary to effect future license transactions. This would hinder our ability to expand our existing networks or develop new networks successfully in locations served by Time Warner Cable or Advance/Newhouse. Furthermore, neither Time Warner Cable nor Advance/Newhouse is under any obligation to renew the capacity license agreements when they expire in 2028.

Our quarterly operating results will fluctuate.

As a result of the limited revenue and significant expenses associated with the expansion and development of our networks and services, we anticipate that our operating results could vary significantly from quarter to quarter. Changes in the usage or payment patterns of significant customers and customer bankruptcies may also cause operating results to vary.

Terrorism or other business disruptions could affect our future operating results.

Our operating results and financial condition could be materially and adversely affected in the event of a catastrophic event such as another terrorist attack on the United States, or a major earthquake, fire, or similar event that affects our central offices, corporate headquarters, or network operations center. Although we have implemented measures that are designed to mitigate the effects of a catastrophic event, we cannot predict the impact of such events. In addition, the uncertainty caused by the possibility of a war may create further economic weakness that may negatively affect our customers’ buying decisions or lead to further customer disconnections.

We depend on third party vendors for information systems.

We have entered into agreements with vendors that provide for the development and operation of back office systems such as ordering, provisioning, and billing systems. The failure of those vendors to perform their services in a timely and effective manner at acceptable costs could have a material adverse effect on our growth and our ability to monitor costs, bill customers, provision customer orders, and achieve operating efficiencies.

If we do not adapt to rapid changes in the telecommunications industry, we could lose customers or market share.

The telecommunications industry has experienced, and is expected to continue to experience, rapid and significant changes in technology. While we believe that, for the foreseeable future, these changes will neither materially affect the continued use of fiber optic cable or digital switches and transmission equipment, nor materially hinder our ability to acquire necessary technologies, we cannot predict the effect of technological changes on our business and operations. We believe that our future success will depend, in part, on our ability to anticipate or adapt to these changes and to offer, on a timely basis, services that meet customer demands on a competitive basis. There can be no assurance that we will obtain access to new technologies on a timely basis or on satisfactory terms. Our failure to obtain new technologies could have a material adverse impact on our business, financial condition, and results of operations.

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We are controlled by the Class B Stockholders.

Subsidiaries of AOL Time Warner and the Advance/Newhouse stockholder group, the Class B Stockholders, hold all the outstanding shares of our Class B common stock. At February 28, 2003, the AOL Time Warner stockholder group held 71.1% of our voting power and 43.8 % of our outstanding common stock, and the Advance/Newhouse stockholder group held 22.0% of our voting power and 13.6% of our outstanding common stock. The Class B Stockholders generally have the collective ability to control all matters requiring stockholder approval, including the nomination and election of directors. The Class B common stock is not subject to any mandatory conversion provisions other than pursuant to certain transfer restrictions. The disproportionate voting rights of the Class B common stock relative to the Class A common stock may delay or prevent a change in control of the Company, and may make us a less attractive takeover target.

Our Board of Directors consists of nine director positions. We currently have one vacancy due to the resignation on December 31, 2002 of Mary Agnes Wilderotter, an independent director, and have begun the search for a replacement. Under the Stockholders’ Agreement, the AOL Time Warner stockholder group has the right to designate four nominees for the Board of Directors and the Advance/Newhouse stockholder group has the right to designate one nominee. Under the Stockholders’ Agreement, Class B Stockholders agree to vote in favor of all nominees selected by the Class B Stockholders. Class B Stockholders also have the power to elect the other members of our Board of Directors.

Each of the Class B Stockholders has veto rights over certain actions.

Under our Restated Certificate of Incorporation, as long as the outstanding Class B common stock represents at least 50% of the aggregate voting power of both classes of common stock outstanding, the approval of 100% of the Class B Stockholders is required:

The approval of 100% of the Class B Stockholders is also required for the issuance of any additional shares of Class B common stock or any capital stock having more than one vote per share. Under our Capacity License Agreements (see “Certain Relationships and Related Transactions – Capacity License Agreement”), we would also need the consent of the licensor (either Time Warner Cable or Advance/Newhouse) to provide residential service or content services using the licensed capacity during the terms of those agreements, which currently last until at least 2028.

The holders of Class B common stock can sell control of the Company at a time when they do not have a majority economic interest in the Company, and exclude the holders of Class A common stock from participating in the sale.

The Stockholders’ Agreement provides that, subject to the rights of first refusal of the other holders of Class B common stock, the Class B Stockholders may transfer their Class B common stock. If a holder sells all, but not less than all, of its Class B common stock as shares of Class B common stock, such holder may transfer its right to nominate Class B nominees for election to the Board of Directors. In addition, all of the holders of Class B common stock have the right to participate in certain sales by the AOL Time Warner stockholder group of its Class B common stock. Accordingly, majority control of the Company could be transferred by one or more holders of Class B common stock at a time when such holder or holders of Class B common stock do not have a majority of the economic interest in the Company and with no assurance that the holders of Class A common stock would be given the opportunity to participate in the transaction, or if they were permitted to participate in the transaction, to receive the same amount and type of consideration for their stock in the Company as the holders of Class B common stock.

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In addition, we have elected not to be subject to Section 203 of the Delaware General Corporation Law, which would otherwise provide certain restrictions on “business combinations” between the Company and any person acquiring a significant, 15% or greater, interest in the Company other than in a transaction approved by our Board of Directors and in certain cases by our stockholders.

The Class B Stockholders or their affiliates may compete with us.

Both AOL Time Warner and Advance/Newhouse are diversified communications providers. They are not restricted from competing with us. We are aware that an affiliate of AOL Time Warner offers Internet access and data services for smaller business customers that are functionally, but not technologically, similar to services that we offer and that Time Warner Cable has competed with us to gain business customers for transport services in some of our markets. They may, now or in the future, provide these or other services in competition with our services. We, on the other hand, are currently precluded by our Restated Certificate of Incorporation from offering any residential services or providing any entertainment, information, or content services without the consent of the Class B Stockholders until May 2004 or earlier if the Class B Stockholders no longer hold 50% of total voting power for the Board of Directors. A similar provision in the capacity license agreements continues until 2028 for the service areas in which we license capacity under those agreements. Our business may be adversely affected if the Class B Stockholders or their affiliates chose to offer additional competing services.

Some of our directors may have conflicts of interest.

Some of our directors are also directors, officers, or employees of the Class B Stockholders or their affiliates. Although these directors have fiduciary obligations to us under Delaware law, they may face conflicts of interest. For example, conflicts of interest may arise with respect to certain business opportunities available to, and certain transactions involving, the Company. The Class B Stockholders have not adopted any special voting procedures to deal with such conflicts of interest. The resolution of these conflicts may be unfavorable to us. Our Restated Certificate of Incorporation provides for the allocation of corporate opportunities between the Class B Stockholders and us.

We will experience a reduction in switched access and reciprocal compensation revenue as a result of regulatory rate reform.

The FCC has established a framework for the regulation of CLEC interstate access charges, which has reduced, and will continue to reduce, our interstate access rates. In addition, the FCC has established an interim carrier-to-carrier cost recovery scheme for dial-up Internet traffic that has reduced, and will continue to reduce, our reciprocal compensation revenue. The FCC is considering replacing the current intercarrier compensation scheme with bill and keep at some time in the future, which would eliminate our switched access and reciprocal compensation revenue. If we exclude the effects of the recognition of $19.1 million in reciprocal compensation settlements, switched access and reciprocal compensation each represented 5% of our 2002 revenue. We anticipate that the contribution to revenue and EBITDA from these services will continue to decline over time due to further rate reductions scheduled for June 2003 and June 2004, and reduced minutes of use terminating to us due to certain ISP customers and WorldCom disconnecting their primary rate interface services. We cannot assure that we will be able to compensate for the reduction in switched access and reciprocal compensation revenue from regulatory rate reform with other revenue sources or increased volume.

We depend on governmental and other authorizations.

The development, expansion, and maintenance of our networks will depend on, among other things, our ability to obtain rights-of-way and other required governmental authorizations and permits. Any increase in the difficulty or cost of obtaining these authorizations and permits could adversely affect us, particularly in areas where we must compete with companies that already have the necessary permits. In order to compete effectively, we must obtain these authorizations in a timely manner, at reasonable costs, and on satisfactory terms and conditions. In certain cities or municipalities where we provide network services, we pay license or franchise fees. The 1996 Act permits municipalities to charge these fees only if they are competitively neutral and

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nondiscriminatory, but certain municipalities may not conform their practices to the requirements of the 1996 Act in a timely manner or without legal challenge. We also face the risks that other cities may start imposing fees, fees will be raised, or franchises will not be renewed. Some of our franchise agreements also provide for increases or renegotiation of fees at certain intervals. Increases in these fees may have a negative impact on our financial condition.

If we are required to account for the fair value of options under our employee stock plans as a compensation expense, our net income and earnings per share could be significantly reduced.

There has been an increasing public debate about the accounting treatment for employee stock options. Currently, we record compensation expense only in connection with option grants that have an exercise price below fair market value at the date of grant. In accordance with generally accepted accounting principles, we have not elected to record compensation expense under the fair value method in our consolidated statements of operations for option grants that have an exercise price at or in excess of fair market value, which represents the vast majority of options we have granted. It is possible that future accounting rules will require us to record the fair market value of all stock options as compensation expense in our consolidated statements of operations and that such a requirement could have a material impact on our results of operations. However, such a change would not impact our cash flow.

Item 2.    Properties

We lease network hub sites and other facility locations and sales and administrative offices, some from Time Warner Cable, in each of the cities in which we operate networks. During 2002, 2001, and 2000, rental expense for our facilities and offices totaled approximately $29.7 million, $27.5 million, and $15.2 million, respectively. We believe that our properties, taken as a whole, are in good operating condition and are suitable and adequate for our business operations. We currently lease approximately 94,000 square feet of space in Littleton, Colorado, where our corporate headquarters are located, and approximately 130,000 square feet of space in Greenwood Village, Colorado, and approximately 41,000 square feet of space in Englewood, Colorado, where our national operations center and other administrative functions are located.

Item 3.    Legal Proceedings

We currently have no material legal proceedings pending.

No matters were submitted to a vote of security holders during the quarter ended December 31, 2002.

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PART II

Item 5.    Market for Registrant’s Common Equity and Related Stockholder Matters

Market Information

Our Class A common stock has traded on the Nasdaq National Market under the symbol “TWTC” since May 12, 1999. The following table sets forth the high and low sales prices for the Class A common stock for each of the quarters of 2002 and 2001 as reported on the Nasdaq National Market:

Dividends

We have never paid or declared any dividends and do not anticipate paying any dividends in the foreseeable future. The decision whether to pay dividends will be made by our Board of Directors in light of conditions then existing, including our results of operations, financial condition and requirements, business conditions, covenants under loan agreements and other contractual arrangements, and other factors. In addition, the indentures for our 9¾% and 10 ¹/8% Senior Notes and the credit agreement governing our senior secured credit facility contain covenants that effectively prevent us from paying dividends on the common stock for the foreseeable future.

Number of Stockholders

As of February 28, 2003, there were 316 holders of record of the Company’s Class A common stock and eight holders of record of the Class B common stock. We believe that there are in excess of 18,000 beneficial owners of the Company’s Class A common stock in addition to the record owners.

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Item 6.    Selected Financial Data

Selected Consolidated and Combined Financial and Other Operating Data

The following table is derived in part from our audited consolidated financial statements. This information should be read in conjunction with “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and the audited consolidated financial statements and the notes thereto.

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Item 7.    Management’s Discussion and Analysis of Financial Condition and Results of Operations

You should read the following discussion and analysis in conjunction with our audited consolidated financial statements, including the notes thereto, appearing elsewhere in this report.

Overview

We are a leading fiber facilities-based provider of metropolitan and regional optical broadband networks and services to business customers. We deliver broadband data, dedicated Internet access, and local and long distance voice services. As of December 31, 2002, we served customers in 22 states in the United States.

Time Warner Cable began our business in 1993. In May 1999, our predecessor limited liability company was reconstituted as a Delaware corporation under the name Time Warner Telecom Inc. and the outstanding limited liability company interests were converted into common stock of the newly formed corporation, Time Warner Telecom Inc. In May 1999, we completed our initial public offering of 20,700,000 shares of Class A common stock at a price of $14 per share.

Time Warner Telecom has two classes of common stock outstanding, Class A common stock and Class B common stock. Holders of Class A common stock have one vote per share and holders of Class B common stock have ten votes per share. Each share of Class B common stock is convertible, at the option of the holder, into one share of Class A common stock. The Class B common stock is collectively owned by subsidiaries of AOL Time Warner and Advance Telecom Holdings Corporation and Newhouse Telecom Holdings Corporation. Holders of Class A common stock and Class B common stock generally vote together as a single class. However, some matters require the approval of 100% of the holders of the Class B common stock, voting separately as a class, and some matters require the approval of a majority of the holders of the Class A common stock, voting separately as a class. As of December 31, 2002, the Class B stockholders had approximately 93% of the combined voting power of the outstanding common stock.

On January 25, 2001, we completed a public offering of 7,475,000 shares of Class A common stock at a price of $74 ⁷/16 per share. This offering generated $532 million in proceeds, net of underwriting discounts and

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expenses. Also on January 25, 2001, we completed a private placement of $400 million principal amount of 10 ¹/8% Senior Notes due February 2011 (the “Old Notes”). In an exchange offer in March 2001, all of the holders of the Old Notes exchanged their Old Notes for new 10 ¹/8% Senior Notes due February 2011 (the “10 ¹/8% Senior Notes”) with the same financial terms that were registered under the Securities Act of 1933. We used all of the net proceeds from the stock offering and a portion of the net proceeds from the note offering to repay the $700 million senior unsecured bridge facility that initially financed the acquisition of substantially all of the assets of GST.

Since 1997, our business has changed substantially into an exclusive focus on business customers, including carriers and governmental entities, and an expansion into switched and data services and geographic areas beyond the Time Warner Cable footprint. From our inception through 2001, we constructed networks in 29 markets. In January 2001, we expanded our geographic coverage by acquiring substantially all of the assets of GST, which added networks in 15 western markets. See “Acquisition” below. We operate in metropolitan areas that have high concentrations of medium- and large-sized businesses. Historically, our customers have been telecommunications-intensive businesses, long distance carriers, ISPs, ILECs, wireless communications companies, CLECs, and governmental agencies, as they are potentially high volume users of our services. These customers are more likely to seek greater reliability provided by advanced networks such as ours. Our revenue has been derived primarily from business communications services, including dedicated transport, local switched, long distance, data, and high-speed Internet access services.

As of December 31, 2002, our networks spanned 17,390 route miles and contained 823,977 fiber miles. We offered service to 12,241 buildings served entirely by our facilities (on-net) or through the use of another carrier’s facilities to provide a portion of the link (off-net) in 22 states. We continue to expand our footprint within our existing markets by expanding our network into new buildings. We have also selectively interconnected existing service areas within regional clusters with fiber optic facilities that we own or lease and we provide on-net inter-city switched services that provide customers the ability to offer a virtual presence in a remote city.

We currently plan to expand our revenue base by increasing penetration and using available network capacity in our existing markets rather than through geographic expansion. We also plan to broaden our revenue base by continuing to develop and selectively tailor new services in competitively-priced packages to meet the needs of our medium- and large-sized business customers. We intend to expand our service offerings on a continuous basis to achieve a diverse revenue base, and to deploy new services and technologies when technically proven and when customer demand is evident. As new technologies that enable the switching of voice calls over an IP and LAN infrastructure are becoming commercially viable, we are integrating these technologies into our infrastructure. There is no assurance that we will bring all or any of these services to market successfully or profitably.

We increased our revenue from $55.4 million in 1997 to $737.7 million in 2001. In early 2001, general economic conditions and the downturn in the telecommunications sector began to negatively impact our revenue growth. Total revenue, exclusive of the effects of intercarrier compensation, was $610.5 million in 2002 compared to $606.9 million in 2001. Our intercarrier compensation decreased 35% in 2002 compared to 2001 and is explained in greater detail later in this section. Bankruptcies and other financial difficulties among telecommunications carriers have resulted in those customers looking for opportunities to cut costs. As a result, we are seeking to broaden our revenue base by an increased focus on end-user (non-carrier) customers. Despite carrier bankruptcies and business contractions, carrier customers remain an important part of our business.

As part of the process of diversifying our revenue base, we are targeting the expansion of data and Internet services offered on our existing network. These services include high-speed dedicated Internet access and a broad array of data transmission services that enable customers to create their own internal computer networks and access external networks over Internet and Ethernet protocols. Our annual revenue from data and Internet services for 2002 grew 42% over the comparable period in 2001 and represented 13% of our total revenue for 2002. We expect an increasing portion of our future revenue to be contributed by data and Internet services.

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Since the beginning of 2001, we have experienced a significant increase in customers disconnecting service, which has resulted in downward pressure on our revenue performance. Throughout 2002, we lost monthly recurring revenue of approximately $14.0 million due to customer disconnects and bankruptcies, however, we were able to replace this revenue with new sales. “Recurring revenue” refers to our total revenue less reciprocal compensation settlements. Approximately 14% of our monthly recurring revenue at December 31, 2002 was represented by customers in bankruptcy proceedings, comprised of 10% for WorldCom and its affiliates and 4% for other customers in bankruptcy. WorldCom, which filed for Chapter 11 bankruptcy protection in July 2002, is our largest customer. In the fourth quarter of 2002, we received notices from WorldCom to disconnect certain services representing approximately 1.2% of our fourth quarter recurring revenue of $169.9 million. We expect further disconnections of WorldCom service in 2003, and based on current estimates, we anticipate we are likely to lose at least half of the remaining recurring revenue from WorldCom over the course of 2003, with the majority occurring in the first half of the year. We anticipate that other customers will disconnect services due to network optimization, cost cutting efforts, and additional customer bankruptcies or other customer financial difficulties but we cannot predict the total impact to revenue from these disconnects. While we expect to have revenue growth from other sources, there is no assurance that we will be able to replace revenue lost to customer disconnections.

Our bad debt expense has increased due to credit deterioration among telecommunications carriers and an increase in the number of customers filing for bankruptcy protection. Bad debt expense represented 5% of total revenue in 2002, compared to 4% in 2001 and 3% in 2000. Our allowance for doubtful accounts represented 27% and 28% of accounts receivable as of December 31, 2002 and 2001, respectively. We monitor the status of significant customers and increase our allowance for doubtful accounts when there is evidence that a customer may not meet its obligations. We believe that we have adequately reserved for our doubtful accounts as of December 31, 2002. We continue to provide services to WorldCom and several other customers that are in bankruptcy as they restructure their businesses. Our policy is to write off receivables from these customers for services provided prior to their bankruptcy filing and file pre-petition claims with the bankruptcy courts. However, due to the higher priority accorded to post-petition claims under the bankruptcy laws, we continue to carry post-filing receivable balances when the customers continue service following their bankruptcy filings. Although many of these customers continue to pay following bankruptcy, we assign a higher risk of collectability to these accounts and provide for an allowance for doubtful accounts for a large percentage of the outstanding post-bankruptcy receivables, resulting in an increase in the allowance for doubtful accounts. We have put in place additional controls to improve the collectability of accounts receivable, such as more thorough credit checks on all new and existing customers, discontinuing sales of new services to high risk customers, and, in some instances, requiring deposits on new services. Although we believe these efforts will result in improved collection of receivables, there is no assurance that these efforts will improve our financial results.

In response to the impact of the downturn in the telecommunications sector and revenue performance, we have undertaken several cost containment efforts. These efforts include the consolidation of our network operations centers in October 2001, resulting in the elimination of approximately 200 positions, and further workforce reductions in April 2002 and August 2002 that eliminated approximately 360 positions. We also reduced our travel, advertising, and consulting expenses. Our combined operating and selling, general, and administrative costs decreased from $553.4 million in 2001 to $506.4 million in 2002. We limited our capital spending during 2002 primarily to expenditures related to specific revenue opportunities in existing markets, capital items for infrastructure maintenance, and upgrades to certain back office systems. In addition, we are emphasizing the re-use of equipment recovered when customers disconnect service. Our 2002 capital expenditures totaled $104.8 million compared to $425.5 million in 2001 and $320.7 million in 2000.

While we believe our cost containment efforts have been successful and were critical to preserve liquidity in 2002, we are also focusing on future revenue growth initiatives. In 2003, we intend to pursue several growth initiatives, including the following:

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Reciprocal compensation is an element of intercarrier compensation revenue that represents compensation from LECs for local exchange traffic originated on another LECs’ facilities and terminated on our facilities. Reciprocal compensation rates are established by interconnection agreements between the parties based on federal and state regulatory and judicial rulings. A 2001 FCC ruling on reciprocal compensation for traffic bound for ISPs has reduced reciprocal compensation rates and capped the number of minutes for which ISP-bound traffic can be compensated. Rates will be further reduced in 2003. As a result, and because of reduced traffic to our ISP customers, we expect further declines in our reciprocal compensation revenue. Reciprocal compensation, exclusive of the effects of reciprocal compensation settlements of $19.1 million, $37.0 million, and $27.3 million, represented 5% of total revenue in 2002 compared to 6% in each of 2001 and 2000. The settlement amounts reflect recognition of reciprocal compensation revenue, previously deferred pursuant to our revenue recognition policy, resulting from resolution of billing disputes with other LECs. As of December 31, 2002, we had deferred recognition of $12.8 million in reciprocal compensation revenue for payments received associated with pending disputes and amounts that are subject to adjustments based on regulatory rulings.

Switched access is also an element of intercarrier compensation revenue and represents the connection between a long distance carrier’s point of presence and an end-user’s premises provided through our switching facilities. Historically, the FCC has regulated the access rates imposed by the ILECs, while the access rates of CLECs have been less regulated. Effective June 2001, the FCC began regulating CLECs’ interstate switched access charges. Pursuant to the FCC’s order, our rates were reduced and will continue to decline, through June 2004, to parity with the ILEC rates competing in each area. In addition, when a CLEC enters a new market, its access charges may be no higher than the ILEC’s. This order does not affect the rates stipulated in our contracts with certain long distance carriers. The CLEC access charge regulation and related regulatory developments resulted in reductions in the per-minute rates we receive for switched access service and will result in further reductions through June 2004. In addition, our contracts with certain carriers have access rate reductions in relationship to volume commitments. We expect that switched access revenue will continue to decline as a percentage of revenue due to mandated and contractual rate reductions. There is no assurance that we will be able to compensate for reductions in switched access revenue with revenue from other sources. Switched access revenue represented 5%, 7%, and 11% of total revenue, in 2002, 2001, and 2000, respectively, exclusive of the effects of reciprocal compensation settlements.

We benefit from our relationship with Time Warner Cable both through access to local rights-of-way and construction cost-sharing. In the normal course of business, we engage in various transactions with AOL Time Warner and its affiliates, generally on negotiated terms among the affected units that, in management’s view, result in reasonable arms-length terms. We have constructed 23 of our 44 metropolitan networks substantially through the use of fiber capacity licensed from Time Warner Cable. As of December 31, 2002, our property, plant, and equipment included $181.7 million in licenses of fiber capacity pursuant to the capacity license agreements. We capitalize the cost of fiber under the license agreements, and it is included in property, plant, and equipment and amortized over the useful life as depreciation and amortization expense. We reimburse Time Warner Cable for facility maintenance and pole rental costs on an ongoing basis. These maintenance and pole rental costs are included in our operating expenses. We believe that certain regulatory decisions regarding the pole rental rates that Time Warner Cable passes through to us pose a risk that our expenses for these items could increase over time. Our revenue includes services provided to AOL Time Warner and its affiliates totaling $31.8 million, $25.5 million, and $11.2 million in 2002, 2001, and 2000, respectively. Our selling, general, and

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administrative expenses include charges from affiliates of AOL Time Warner for office rent and overhead charges for limited administrative functions they perform for us. We also benefit from discounts available to AOL Time Warner and its affiliates by aggregating our purchases of long distance services, car rental services, overnight delivery services, and wireless usage with those of AOL Time Warner.

The transactions described above include capacity license agreements and leases with the Time Warner Entertainment-Advance/Newhouse Partnership (“TWE-A/N”), a partnership between affiliates of AOL Time Warner and Advance/Newhouse that owns or has interests in cable television systems that were previously all managed by the AOL Time Warner affiliates. As a result of a restructuring of the TWE-A/N partnership at year-end 2002, TWE-A/N assigned our capacity license agreements and leases covering certain TWE-A/N markets, including Tampa and Orlando, Florida and Indianapolis, Indiana to a new subsidiary of TWE-A/N that is managed by the affiliates of Advance/Newhouse.

Acquisition

In January 2001, we completed the acquisition of substantially all of the assets of GST out of bankruptcy for a contractual purchase price of $690 million, approximately $6 million in transaction expenses, and approximately $17 million in liabilities primarily related to capital leases. Through this acquisition, we added 15 markets, approximately 4,210 route miles, and approximately 227,674 fiber miles in the western United States.

A portion of the purchase price we paid was deposited in various escrow accounts established to discharge certain liabilities that were contingent or undetermined at the closing date, including certain tax liabilities arising prior to closing or in connection with the transaction, and to provide for the completion of certain fiber routes that were delayed prior to closing. While most of these escrow accounts have been closed out, others, including the tax escrow account, remain outstanding pending the resolution of certain proceedings between GST and tax authorities. The cash held in escrow in these accounts is not included in the accompanying consolidated balance sheets, as these funds will either be paid to GST or other third parties.

Our acquisition of the GST assets increased our geographic presence, expanded our service offerings, and enlarged the capacity of our networks. This transaction was considerably larger than the transactions we had completed in the past and therefore presented greater risk. Achieving the benefits of the asset purchase will largely depend upon the successful generation of new revenue from the acquired markets. The networks purchased in most of the markets are less extensive than those in many of our previously existing markets and may require further build out in order to perform in accordance with the standards of our other markets. In the fourth quarter of 2002, we recorded an impairment charge primarily related to certain assets acquired from GST.

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Results of Operations

The following table sets forth certain data from our consolidated financial statements presented in thousands of dollars and expressed as a percentage of total revenue. This table should be read together with our audited financial statements, including the notes thereto, appearing elsewhere in this report:

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Critical Accounting Policies

We prepare consolidated financial statements in accordance with accounting principles generally accepted in the United States, which require us to make estimates and assumptions. We believe that of our significant accounting policies, which are described in Note 1 to the consolidated financial statements included herein, the following involved a higher degree of judgment and complexity, and are therefore considered critical.

Revenue Recognition.    We generally bill our customers in advance for dedicated transport, data, Internet, and the majority of switched services on a fixed rate basis and recognize the revenue over the period the services are provided. We generally bill switched access, a component of intercarrier compensation revenue, and long distance on a transactional basis determined by customer usage with some fixed rate elements. We bill the transactional elements of switched services in arrears and use estimates to recognize revenue in the period earned.

As part of the revenue recognition process, we evaluate whether receivables are reasonably assured of collection based on certain factors, including the likelihood of billings being disputed by customers. In situations where a dispute is likely, we generally defer recognition until cash is collected. We recognize reciprocal compensation revenue primarily on a cash basis, except in those cases where the payment is under dispute or at risk, in which case we defer recognition until the outstanding issues are resolved. We utilize the cash basis because changes in, and interpretations of, regulatory rulings create disputes and often result in significant delays in payments. As of December 31, 2002, we had deferred recognition of $12.8 million in reciprocal compensation revenue for payments received associated with pending disputes and amounts that are subject to adjustments based on regulatory rulings. We pay reciprocal compensation expense to other LECs for local exchange traffic we terminate on their facilities and we recognize these costs as incurred.

Receivables.    We are required to estimate the collectability of our receivables. We perform ongoing credit evaluations of our customers’ financial conditions and provide an allowance for doubtful accounts based on the expected collectability of all receivables. We assign a higher risk of collectability to certain customers with deteriorating financial conditions and customers in bankruptcy that continue service subsequent to filing bankruptcy, resulting in greater allowance for doubtful accounts. Our policy is to write off receivables from bankrupt customers for services provided prior to their bankruptcy filing and file pre-petition claims with the bankruptcy courts. However, due to the higher priority accorded to post-petition claims under the bankruptcy laws, we continue to carry post-filing receivable balances when the customers continue service following their bankruptcy filings. Although many of these customers continue to pay following bankruptcy, we assign a higher risk of collectability to these accounts and provide for an allowance for doubtful accounts for a large percentage of the outstanding post-bankruptcy receivables, resulting in an increase in the allowance for doubtful accounts. Evaluating the collectability of receivables and establishing the related allowance for doubtful accounts requires considerable management judgment. Our allowance for doubtful accounts is based on the best information

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available to us and is re-evaluated and adjusted when additional information becomes available. If the financial condition of our customers continues to deteriorate, our bad debt expense and cash collections will be negatively impacted. Our provision for bad debts totaled $32.5 million, $26.7 million, and $16.0 million in 2002, 2001, and 2000, respectively. The allowance for doubtful accounts was $21.9 million and $29.8 million at December 31, 2002 and 2001, respectively.

Impairment of Long-Lived Assets.    We periodically review the carrying amounts of property, plant, and equipment and intangible assets to determine whether current events or circumstances warrant adjustments to the carrying amounts. As part of this review, we analyze the projected undiscounted cash flows associated with our property, plant, and equipment and intangible assets. Considerable management judgment is necessary in establishing the assumptions required to complete this analysis. Although we believe these estimates to be reasonable, actual results could vary significantly from these estimates and our estimates could change based on market conditions. Variances in results or estimates could result in changes to the carrying value of our assets including, but not limited to, recording additional impairment charges for some of these assets in future periods. In the fourth quarter of 2002, we recorded a $213 million impairment charge primarily related to the long haul network acquired from GST, and, to a lesser extent, certain local network assets. In the third quarter of 2002, we recorded an impairment charge of $3.5 million for obsolete assets taken out of service. In the first quarter of 2001, we recorded a $9.6 million impairment charge when we abandoned a software system we were developing for use in our back office operations.

Deferred Taxes.    Significant management judgment is required in determining our provision for income taxes and in determining whether deferred tax assets will be realized in full or in part. When it is more likely than not that all or some portion of deferred tax assets will not be realized, we are required to establish a valuation allowance for the amount of the deferred tax assets that we determine not to be realizable. As of December 31, 2002, we recorded a net deferred tax asset of $58.8 million, net of a valuation allowance of $140.5 million that we established in 2002. We have concluded that it is more likely than not that the net deferred tax asset of $58.8 million will be realized because we could utilize tax-planning strategies to realize this amount. However, we believe there may be risks in realizing amounts in excess of the $58.8 million through utilization of available tax planning strategies. Accordingly, we have established a valuation allowance for amounts in excess of $58.8 million. Our treatment of deferred taxes and our tax planning strategies are based on certain assumptions that we believe are reasonable. However, actual results could vary significantly from current assumptions and could result in changes to the accounting treatment of these items, including, but not limited to, the necessity to record a greater valuation allowance.

Legal and Other Contingencies.    We are subject to regulatory proceedings, lawsuits, and other claims, including proceedings under laws and government regulations related to rights-of-way, employment service contracts, and other matters. We are required to assess the likelihood of any adverse judgments or outcomes to these matters, as well as potential ranges of probable losses. A determination of the amount of reserves required, if any, for these contingencies is based on a careful analysis of individual issues with the assistance of legal and regulatory counsel. These determinations are often made early in the course of a proceeding when we do not know all of the relevant facts and involve difficult predictions of possible outcomes. Since these matters are inherently unpredictable, the reserves we establish may prove to be either too high or too low. Also, the required reserves may change in the future due to new developments in each matter or changes in regulatory rulings.

Year Ended December 31, 2002 Compared to Year Ended December 31, 2001

Revenue.    Revenue decreased $42.1 million, or 6%, to $695.6 million for 2002 from $737.7 million for 2001. Revenue from the provision of dedicated transport services decreased $17.5 million, or 4%, to $373.9 million for 2002 from $391.5 million for 2001. Switched service revenue decreased $5.7 million, or 4%, to $146.3 million for 2002 from $152.0 million for 2001. Transport and switched services revenue in 2001 included $8.6 million in revenue related to services provided to the GST bankruptcy estate and transitional customers which ceased during the fourth quarter of 2001. The remaining decrease in transport and switched services

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resulted primarily from the impact of a slowing economy, and in particular, continued customer disconnections due to bankruptcies, business contractions, and regrooming efforts.

Data and Internet services revenue increased $26.9 million, or 42%, to $90.3 million for 2002 from $63.4 million for 2001. The increase primarily resulted from an increase in demand for Internet services and the upgrade of our IP backbone during 2001, which benefited us in 2002, as well as increased demand for metropolitan Ethernet services.

Intercarrier compensation revenue, including reciprocal compensation and switched access, decreased $45.7 million, or 35%, to $85.0 million for 2002 from $130.8 million for 2001. Excluding the impact of reciprocal compensation settlements of $19.1 million and $37.0 million in 2002 and 2001, respectively, intercarrier compensation revenue decreased $27.8 million. The decrease in intercarrier compensation revenue primarily reflects a reduction in rates resulting from FCC orders and customer agreements. We anticipate that intercarrier compensation will continue to decline due to mandated and contractual rate reductions and reduced minutes of use due to customer disconnections.

Operating Expenses.    Our operating expenses consist of costs directly related to the operation and maintenance of our networks and the provisioning of our services. These costs include the salaries and related expenses of operations and engineering personnel, as well as costs incurred from the ILECs, other carriers, and long distance providers for facility leases and interconnection. Operating expenses decreased $36.3 million, or 12%, to $279.4 million for 2002 from $315.7 million for 2001. As a percentage of total revenue, operating expenses decreased to 40% for 2002 from 43% for 2001. The decrease in operating expenses is primarily due to a decrease in employee costs of $11.4 million, including cost reductions from the consolidation of our network operations centers in the fourth quarter of 2001 and workforce reductions in April and August 2002, decreases in rights-of-way expenses of $18.1 million, and efficiencies gained in integrating the acquired GST assets.

Selling, General, and Administrative Expenses.    Selling, general, and administrative expenses consist of salaries and related costs for employees other than those involved in operations and engineering, and other expenses related to sales and marketing, bad debt, information technology, billing, regulatory, administrative, and legal functions. Selling, general, and administrative expenses decreased $10.7 million, or 4%, to $227.0 million for 2002 from $237.7 million for 2001. Selling, general, and administrative expenses were 33% and 32% of revenue for 2002 and 2001, respectively. The decrease in the dollar amount of selling, general, and administrative expenses primarily results from a decrease in employee costs of $5.3 million, consulting expenses of $5.2 million, travel costs of $2.6 million and advertising of $2.0 million. These decreases were partially offset by a $5.8 million increase in bad debt expense resulting from an increase in customer bankruptcies and other customer financial difficulties. Bad debt expense represented 5% and 4% of total revenue for 2002 and 2001, respectively.

Restructure Charge.    In the fourth quarter of 2001, we recorded a restructure charge of $6.8 million as a result of a decision to consolidate our network operations centers by closing a facility in Vancouver, Washington, and eliminating approximately 200 positions. In addition, we decided to consolidate our offices in Houston, Texas, into one facility. These decisions were made to create efficiencies in our sales, billing, customer care, network surveillance, and maintenance processes, and to reduce overhead by centralizing offices. The $6.8 million charge included $2.7 million in severance-related costs, a $2.4 million impairment charge to write down the value of facilities to be sold, $0.6 million in operating costs related to the facilities, $0.6 million in contractual lease expenses, and $0.6 million in other costs related to the restructuring activities.

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The components of the restructure charge and the amounts paid and accrued as of December 31, 2002 are as follows:

The building and related facilities were sold in December 2002 for net proceeds of approximately $2.2 million, approximately $0.7 million less than initially anticipated. Actual expenses related to facility operating costs and other restructure expenses were less than initially anticipated by $0.6 million. The $0.1 million net amount of 2002 expenses, consisting of $0.7 million in additional losses on the sale of facilities and the reversal of $0.6 million in accruals for other restructure expenses, was classified as selling, general, and administrative expense in the 2002 statement of operations.

EBITDA.    EBITDA increased $11.7 million, or 6%, to $189.2 million for 2002 from $177.5 million for 2001. This improvement was primarily the result of economies of scale generated in existing markets, including increased utilization of networks and facilities, and the implementation of cost reduction efforts. Operating, selling, general, and administrative, and restructure costs decreased by a combined $53.8 million in 2002 compared to 2001. These cost efficiencies were partially offset by a $42.1 million decrease in revenue.