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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-K

(Mark One)  

ý
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934.

For the fiscal year ended December 31, 2004.

or

o
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934.

For the transition period from                             to                              

Commission file number 333-56365

FairPoint Communications, Inc.
(Exact Name of Registrant as Specified in Its Charter)

Delaware
(State or Other Jurisdiction of
Incorporation or Organization)		   13-3725229
(I.R.S. Employer Identification No.)

521 East Morehead Street, Suite 250
Charlotte, North Carolina
(Address of Principal Executive Offices)
 
28202
(Zip code)

Registrant's Telephone Number, Including Area Code: (704) 344-8150

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

Title of Each Class
 Common Stock, par value $0.01 per share
 
Name of Exchange on Which Registered
 New York Stock Exchange

Securities registered pursuant to Section 12(g) of the Act: None

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

        Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (Section 229.405 of this chapter) 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. ý

        Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Securities Exchange Act of 1934). Yes o    No ý

        As of June 30, 2004, the Registrant had no equity securities registered pursuant to the Securities Exchange Act of 1934 and, accordingly, had no public float.

        As of March 15, 2005, there were 34,925,432 shares of the Registrant's common stock, par value $0.01 per share, outstanding.

        Documents incorporated by reference: None


FAIRPOINT COMMUNICATIONS, INC. ANNUAL REPORT ON FORM 10-K
FOR THE FISCAL YEAR ENDED DECEMBER 31, 2004

Item
Number
    
   Page
Number
    Index   i

PART I

1.
 
Business
 
1
2.   Properties   19
3.   Legal Proceedings   20
4.   Submission of Matters to a Vote of Security Holders   20

PART II

5.
 
Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
 
21
6.   Selected Financial Data   31
7.   Management's Discussion and Analysis of Financial Condition and Results of Operations   34
7A.   Quantitative and Qualitative Disclosures about Market Risk   69
8.   Financial Statements and Supplementary Data   70
9.   Changes in and Disagreements with Accountants on Accounting and Financial Disclosure   118
9A.   Controls and Procedures   118
9B.   Other Information   118

PART III

10.
 
Directors and Executive Officers of the Registrant
 
119
11.   Executive Compensation   124
12.   Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters   132
13.   Certain Relationships and Related Transactions   135
14.   Principal Accounting Fees and Services   136

PART IV

15.
 
Exhibits, Financial Statement Schedules
 
138
    Signatures   139
    Exhibit Index   140

i


PART I

CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS

        Some statements in this Annual Report are known as "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933, which we refer to as the Securities Act, and Section 21E of the Securities Exchange Act of 1934, which we refer to as the Exchange Act. Forward-looking statements may relate to, among other things:

        These forward-looking statements include, but are not limited to, statements about our plans, objectives, expectations and intentions and other statements contained in this Annual Report that are not historical facts. When used in this Annual Report, the words "expects," "anticipates," "intends," "plans," "believes," "seeks," "estimates," and similar expressions are generally intended to identify forward-looking statements. Because these forward-looking statements involve known and unknown risks and uncertainties, there are important factors that could cause actual results, events or developments to differ materially from those expressed or implied by these forward-looking statements, including our plans, objectives, expectations and intentions and other factors discussed under "Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations—Risk Factors" and other parts of this Annual Report. You should not place undue reliance on such forward-looking statements, which are based on the information currently available to us and speak only as of the date on which this Annual Report was filed with the Securities and Exchange Commission. We undertake no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise. However, your attention is directed to any further disclosures made on related subjects in our subsequent periodic reports filed with the Securities and Exchange Commission on Forms 10-K, 10-Q and 8-K and Schedule 14A.

ITEM 1.    BUSINESS

        Except as otherwise required by the context, references in this Annual Report to "FairPoint," "our company," "we," "us," or "our" refer to the combined business of FairPoint Communications, Inc. and all of its subsidiaries. All references to the "Company" refer to FairPoint Communications, Inc. excluding its subsidiaries.

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Our Business

        We are a leading provider of communications services in rural communities, offering an array of services, including local and long distance voice, data, Internet and broadband product offerings. We are one of the largest telephone companies in the United States focused on serving rural communities, and we are the 17th largest local telephone company, in each case based on number of access lines. We operate in 17 states with approximately 271,150 access line equivalents (including voice access lines and digital subscriber lines) in service as of December 31, 2004.

        We were incorporated in February 1991 for the purpose of operating and acquiring incumbent telephone companies in rural markets. We have acquired 30 such businesses, 26 of which we continue to own and operate. Many of our telephone companies have served their respective communities for over 75 years. The majority of the rural communities we serve have fewer than 2,500 access lines. All of our telephone company subsidiaries qualify as rural local exchange carriers under the Telecommunications Act of 1996, or the Telecommunications Act.

        Rural local exchange carriers generally are characterized by stable operating results and strong cash flow margins and operate in supportive regulatory environments. In particular, existing state and federal regulations permit us to charge rates that enable us to recover our operating costs, plus a reasonable rate of return on our invested capital (as determined by relevant regulatory authorities). Competition is typically limited because rural local exchange carriers primarily serve sparsely populated rural communities with predominantly residential customers, and the cost of operations and capital investment requirements for new entrants is high. As a result, in our markets, we have experienced virtually no wireline competition and limited competition from cable providers. While most of our markets are served by wireless service providers, their impact on our business has been limited.

Our Competitive Strengths

        We believe we are distinguished by the following competitive strengths:

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Our Strategy

        The key elements of our strategy are to:

Recent Developments

        On January 28, 2005, we effected a 5.2773714 for 1 reverse stock split of our class A common stock, par value $0.01 per share, which we refer to as our class A common stock, and our class C common stock, par value, $0.01 per share, which we refer to as our class C common stock.

3


        On February 8, 2005, we consummated an initial public offering, which we refer to as the offering, of 25,000,000 shares of our common stock, par value $.01 per share, which we refer to as our common stock, at a price to the public of $18.50 per share. On February 8, 2005, we also reclassified all of our outstanding shares of class A common stock into common stock and converted all of our outstanding shares of class C common stock, on a one-for-one basis, into shares of our common stock. All share information in this Annual Report gives effect to the 5.2773714 for 1 reverse stock split and such reclassification and conversion.

        In connection with the offering, we entered into a new senior secured credit facility with a syndicate of financial institutions, including Deutsche Bank Trust Company Americas, as administrative agent, which we refer to as our credit facility. Our credit facility is comprised of a revolving facility in an aggregate principal amount of up to $100.0 million (less amounts reserved for letters of credit) and a term loan facility in an aggregate principal amount of $588.5 million (including a $22.5 million delayed draw facility). The revolving facility has a six year maturity and the term loan facility has a seven year maturity.

        We used the gross proceeds of $462.5 million from the offering together with borrowings of $566.0 million under the term facility of our credit facility as follows:

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        In addition, on March 10, 2005, we used the $18.4 million which we had invested in temporary investments, together with $6.6 million of cash on hand, to redeem the $0.2 million aggregate principal amount of the 91/2% notes (including accrued interest and redemption premiums) that were not tendered in the tender offer for such notes and the $24.2 million aggregate principal amount of the floating rate notes (including accrued interest) that were not tendered in the tender offer for such notes.

        In this Annual Report, we refer to the offering, our credit facility and the transactions described above collectively as the transactions.

        We intend to redeem the remaining $19.9 million aggregate principal amount of the 121/2% notes on May 1, 2005 with borrowings under the delayed draw facility of our credit facility.

Our Services

        We offer a broad portfolio of high-quality communications services for residential and business customers in each of the markets in which we operate. We have a long history of operating in our markets and have a recognized identity within each of our service areas. Our companies are locally staffed, which enables us to efficiently and reliably provide an array of communications services to meet our customer needs. These include services traditionally associated with local telephone companies, as well as other services such as long distance, Internet and broadband enabled services. Based on our understanding of our local customers' needs, we have attempted to be proactive by offering bundled services designed to simplify the customer's purchasing and management process.

Generation of Revenue

        We primarily generate revenue through: (i) the provision of our basic local telephone service to customers within our service areas; (ii) the provision of network access to interexchange carriers for origination and termination of interstate and intrastate long distance phone calls; (iii) Universal Service Fund high cost loop payments; and (iv) the provision of other services such as long distance resale, data and Internet and broadband enabled services, enhanced services, such as caller name and number identification, and billing and collection for interexchange carriers.

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        The following chart summarizes our revenue sources for the year ended December 31, 2004:

Revenue Source
   % Revenue
   Description
Local Calling Services   25 % Enables the local customer to originate and receive an unlimited number of calls within a defined "exchange" area. The customer is charged a flat monthly fee for basic service and service charges for special calling features.

Network Access Charges
 
45
%
Enables long distance companies to utilize our local network to originate or terminate intrastate and interstate calls. The network access charges are paid by the interexchange carrier to us and are regulated by state regulatory agencies and the Federal Communications Commission, respectively. This also includes Universal Service Fund payments for local switching support, long term support and interstate common line support.

Universal Service Fund High Cost Loop
 
9
%
We receive payments from the Universal Service Fund to support the high cost of our operations in rural markets. This support fluctuates based upon our average cost per loop compared to the national average cost per loop.

Long Distance Services
 
7
%
We receive revenues for intrastate and interstate long distance services provided to our retail customers and our wholesale long distance customers.

Data and Internet Services
 
7
%
We receive revenues from monthly recurring charges for services, including broadband, digital subscriber line, special access, private lines, Internet and other services.

Other Services
 
7
%
We generate revenues from other services, including enhanced services and billing and collection.

        See "Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations" for more information regarding our revenue sources.

        Local calling services include basic local lines, private lines and switched data services. We provide local calling services to residential and business customers, generally for a fixed monthly charge. In a rural local exchange carriers' territory, the amount that we can charge a customer for local service is determined by rate proceedings involving the appropriate state regulatory authorities.

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        Network access charges relate to long distance, or toll calls, that typically involve more than one company in the provision of telephone service. Since toll calls are generally billed to the customer originating the call, a mechanism is required to compensate each company providing services relating to the call. This mechanism is the access charge and we bill access charges to long distance companies and other customers for the use of our facilities to access the customer, as described below.

        Intrastate Access Charges.    We generate intrastate access revenue when an intrastate long distance call involving an interexchange carrier is originated by a customer in one of our rural local exchanges to a customer in another exchange in the same state, or when such a call is terminated to a customer in one of our rural local exchanges. The interexchange carrier pays us an intrastate access payment for either terminating or originating the call. We bill the call through our carrier access billing system and receive the access payment from the interexchange carrier. The access charge for intrastate services is regulated and approved by the state regulatory authority.

        Interstate Access Charges.    We generate interstate access revenue when an interstate long distance call is originated by a customer in one of our rural local exchanges to a customer in another state, or when such a call is terminated to a customer in one of our rural local exchanges. We bill interstate access charges in the same manner as we bill intrastate access charges; however, the interstate access charge is regulated and approved by the Federal Communications Commission instead of the state regulatory authority.

        The Universal Service Fund supplements the amount of local service revenue received by us to ensure that basic local service rates for customers in high cost rural areas are consistent with rates charged in lower cost urban and suburban areas. The Universal Service Fund, which is funded by monthly fees charged to interexchange carriers and local exchange carriers, makes payments to us on a monthly basis based upon our cost support for local exchange carriers whose cost of providing the local loop connections to customers is significantly greater than the national average.

        We offer switched and dedicated long distance services throughout our service areas through resale agreements with national interexchange carriers. In addition, through our wholly-owned subsidiary FairPoint Carrier Services, Inc., or Carrier Services, we offer wholesale long distance services to communications providers that are not affiliated with us.

        We offer Internet access via digital subscriber line technology, dedicated T-1 connections, Internet dial-up, high speed cable modem and wireless broadband. Customers can utilize this access in combination with customer owned equipment and software to establish a presence on the web. In addition, we offer enhanced Internet services, which include obtaining Internet protocol addresses, basic web site design and hosting, domain name services, content feeds and web-based e-mail services. Our services include access to 24-hour, 7-day a week customer support.

        We seek to capitalize on our rural local exchange carriers' local presence and network infrastructure by offering enhanced services to customers, as well as billing and collection services for interexchange carriers.

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        Enhanced Services.    Our advanced digital switch and voicemail platforms allow us to offer enhanced services such as call waiting, call forwarding and transferring, call hunting, three-way calling, automatic callback, call hold, caller name and number identification, voice mail, teleconferencing, video conferencing, store-and-forward fax, follow-me numbers, Centrex services and direct inward dial.

        Billing and Collection.    Many interexchange carriers provide long distance services to our rural local exchange carrier customers and may elect to use our billing and collection services. Our rural local exchange carriers charge interexchange carriers a billing and collection fee for each call record generated by the interexchange carrier's customer.

        Directory Services.    Through our local telephone companies, we publish telephone directories in the majority of our locations. These directories provide white page listings, yellow page listings and community information listings. These directories generate revenues and operating cash flow from the sale of yellow page and related advertising to businesses. We contract with leading industry providers to assist in the sale of advertising, compilation of information, as well as the production, publication and distribution of these directories.

Our Markets

        Our 26 rural local exchange carriers operate as the incumbent local exchange carrier in each of their respective markets. Our rural local exchange carriers serve an average of approximately 13 access lines per square mile versus the non-rural carrier average of approximately 128 access lines per square mile. Approximately 79.3% of our access lines serve residential customers. Our business customers account for approximately 20.7% of our access lines. Our business customers are predominantly in the agriculture, light manufacturing and service industries.

        The following chart identifies the number of access line equivalents in each of our 17 states as of December 31, 2004:

State
   Access Line Equivalents
Maine   68,299
Florida   54,142
Washington   45,626
New York   44,335
Ohio   9,341
Virginia   8,216
Illinois   8,094
Vermont   7,055
Idaho   5,969
Kansas   6,089
Oklahoma   3,832
Colorado   3,132
Pennsylvania   3,060
Other States(1)   3,960
   
Total:   271,150
   
(1)
Includes Massachusetts, New Hampshire, Georgia and Alabama.

Sales and Marketing

        Our marketing approach emphasizes customer-oriented sales, marketing and service. We believe most communications companies devote their resources and attention primarily toward customers in

8


more densely populated markets. To the extent we experience competition for any of our services, we seek to differentiate ourselves from the competitors providing such services by providing a superior level of service to each of our customers.

        Each of our rural local exchange carriers has a long history in the communities it serves. It is our policy to maintain and enhance the strong identity and reputation that each rural local exchange carrier enjoys in its markets, as we believe this is a significant competitive advantage. As we market new services, we will seek to continue to utilize our identity in order to attain higher recognition with potential customers.

        To demonstrate our commitment to the markets we serve, we maintain local offices in most of the population centers within our service territories. These offices are typically staffed by local residents and provide sales and customer support services in the community. We believe that local offices facilitate a direct connection to the community, which improves customer satisfaction and loyalty.

        In addition, our strategy is to enhance our communications services by offering comprehensive bundling of services and deploying new technologies to build upon the strong reputation we enjoy in our markets and to further promote rural economic development in the rural communities we serve.

        Many of the rural local exchange carriers acquired by us traditionally have not devoted a substantial amount of their operating budget to sales and marketing activities. After acquiring such rural local exchange carriers, we typically change this practice to provide additional support for existing products and services as well as to support the introduction of new services. As of December 31, 2004, we had 207 employees engaged in sales, marketing and customer service.

        We have two basic tiers of customers: (i) local customers located in our local access and transport areas who pay for local phone service and (ii) the interexchange carriers which pay us for access to customers located within our local access and transport areas. In general, the vast majority of our local customers are residential, as opposed to business, which is typical for rural telephone companies.

Information Technology and Support Systems

        Our approach to billing and operational support systems focuses on implementing best-of-class applications that allow consistent communication and coordination throughout our entire organization. Our objective is to improve profitability by reducing individual company costs through the sharing of best practices, centralization or standardization of functions and processes, and deployment of technologies and systems that provide for greater efficiencies and profitability.

        We have begun to integrate our six billing systems into a single, outsourced billing platform. When completed, we plan to use this platform to develop a number of centralized customer service and call centers and to create a significantly improved customer data base. We believe that such call centers and customer data base will allow us to enhance our operating efficiency and optimize our marketing initiatives. The billing platform will also enable our customers to directly access, via the Internet, their accounts and will allow us to provide virtual call centers.

Network Architecture and Technology

        Our rural local exchange carrier networks consist of central office hosts and remote sites, all with advanced digital switches (primarily manufactured by Nortel and Siemens) and operating with current software. The outside plant consists of transport and distribution delivery networks connecting our host central office with remote central offices and ultimately with our customers. As of December 31, 2004, we maintained over 25,000 miles of copper plant and approximately 3,300 miles of fiber optic plant. We own fiber optic cable, which has been deployed throughout our current network and is the primary transport technology between our host and remote central offices and interconnection points with other incumbent carriers.

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        Our fiber optic transport system is primarily a synchronous optical network capable of supporting increasing customer demand for high bandwidth transport services. This system supports advanced services including Asynchronous Transfer Mode, Frame Relay and/or Internet Protocol Transport, facilitating delivery of advanced services as demand warrants.

        In our rural local exchange carrier markets, digital subscriber line-enabled integrated access technology is being deployed to provide significant broadband capacity to our customers. As of December 31, 2004, we had invested approximately $25.7 million in digital subscriber line technology and had deployed this technology in 123 of our 143 exchanges. Approximately 93% of our exchanges are capable of providing broadband services through cable modem, wireless broadband and/or digital subscriber line technology.

        Rapid and significant changes in technology are expected in the communications industry. Our future success will depend, in part, on our ability to anticipate and adapt to technological changes. We believe that our network architecture will enable us to efficiently respond to these technological changes.

Competition

        We believe that the Telecommunications Act and other recent actions taken by the Federal Communications Commission and state regulatory authorities promote competition in the provision of communications services; however, many of the competitive threats now confronting larger regulated telephone companies do not currently exist in the rural local exchange carrier marketplace. Our rural local exchange carriers historically have experienced little wireline competition as the incumbent carrier in their markets because the demographic characteristics of rural communications markets generally will not support the high cost of operations and significant capital investment required for new wireline entrants to offer competitive services. For instance, the per minute cost of operating both telephone switches and interoffice facilities is higher in rural areas, as rural local exchange carriers typically have fewer, more geographically dispersed customers and lower calling volumes. Also, the distance from the telephone switch to the customer is typically longer in rural areas, which results in increased distribution facilities costs. These relatively high costs tend to discourage other wireline competitors from entering territories serviced by our rural local exchange carriers.

        In most of our rural markets, we face competition from wireless technology. We do not expect this technology to represent a significant competitive threat to us in the near term, but as technology and economies of scale improve, we may experience increased competition from wireless carriers. In addition, the Federal Communications Commission's requirement that telephone companies offer wireline-to-wireless number portability may increase the competition we face from wireless carriers.

        We also face competition from new market entrants that provide close substitutes for the traditional telephone services we provide, such as cable television, satellite communications and electric utility companies. Cable television companies are entering the communications market by upgrading their networks with fiber optics and installing facilities to provide fully interactive transmission of broadband, voice, video and data communications. Electric utilities have existing assets and access to low cost capital that could allow them to enter a market rapidly and accelerate network development. While we have limited competition for voice services from cable providers and electric utilities for basic voice services, we cannot guarantee that we will not face increased competition from such providers in the future.

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        In addition, we could face increased competition from competitive local exchange carriers, particularly in offering services to Internet service providers.

        Voice over internet protocol service is increasingly being embraced by all industry participants. Voice over internet protocol service essentially involves the routing of voice calls, at least in part, over the Internet through packets of data instead of transmitting the calls over the existing public switched telephone network. While current voice over internet protocol applications typically complete calls using incumbent local exchange carrier infrastructure and networks, as voice over internet protocol services obtain acceptance and market penetration and technology advances further, a greater quantity of communication may be placed without utilizing the public switched telephone network. On March 10, 2004, the Federal Communications Commission issued a Notice of Proposed Rulemaking with respect to internet protocol-enabled services. Among other things, the Federal Communications Commission is considering whether voice over internet protocol services are regulated communications services or unregulated information services. We cannot predict the outcome of the Federal Communications Commission's rulemaking on this subject or the impact on the revenues of our rural local exchange carriers. The proliferation of voice over internet protocol, particularly to the extent such communications do not utilize our rural local exchange carriers' networks, may result in an erosion of our customer base and loss of access fees and other funding.

        The Internet services market is also highly competitive, and we expect that competition will continue to intensify. Internet services, meaning both Internet access (wired and wireless) and on-line content services, are provided by Internet service providers, satellite-based companies, long distance carriers and cable television companies. Many of these companies provide direct access to the Internet and a variety of supporting services to businesses and individuals. In addition, many of these companies, such as America Online, Inc., Microsoft Network and Yahoo, offer on-line content services consisting of access to closed, proprietary information networks. Long distance companies and cable television operators, among others, are aggressively entering the Internet access markets. Long distance carriers have substantial transmission capabilities, traditionally carry data to large numbers of customers and have an established billing system infrastructure that permits them to add new services. Satellite companies are offering broadband access to the Internet from desktop personal computers. Many of these competitors have substantially greater financial, technological, marketing, personnel, name-brand recognition and other resources than those available to us.

        The long distance communications market is highly competitive. Competition in the long distance business is based primarily on price, although service bundling, branding, customer service, billing service and quality play a role in customers' choices.

        Although we believe we offer the only comprehensive suite of communications services in our markets, existing service providers such as wireless, cable and utility companies could form strategic alliances to offer bundled services in our markets. We cannot guarantee that we will not face increased competition from such bundled service providers.

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Employees

        As of December 31, 2004, we employed a total of 847 employees. 125 employees of our rural local exchange carriers are represented by four unions. We believe the state of our relationship with our union and non-union employees is good. Within our company, 34 employees are employed at our corporate office, 804 employees are employed at our rural local exchange carriers and 9 employees are employed by Carrier Services.

Intellectual Property

        We believe we have the trademarks, trade names and licenses that are necessary for the operation of our business as we currently conduct it. We do not consider our trademarks, trade names or licenses to be material to the operation of our business.

Discontinued Operations

        On September 30, 2003, MJD Services Corp., or MJD Services, a wholly-owned subsidiary of the Company, completed the sale of all of the capital stock owned by MJD Services of Union Telephone Company of Hartford, Armour Independent Telephone Co., WMW Cable TV Co. and Kadoka Telephone Co. to Golden West Telephone Properties, Inc., or Golden West, which we refer to as the South Dakota disposition. The sale was completed in accordance with the terms of a purchase agreement between MJD Services and Golden West, dated as of May 9, 2003, which we refer to as the South Dakota purchase agreement. MJD Services received approximately $24.2 million in proceeds from the South Dakota disposition. The companies sold to Golden West provided communications services to approximately 4,150 voice access lines located in South Dakota as of the date of such disposition. The operations of these companies were presented as discontinued operations beginning in the second quarter of 2003. Therefore, the balances associated with these activities were reclassified as "held for sale." All prior period financial statements have been restated accordingly. We recorded a gain on disposal of the South Dakota companies of $7.7 million during the third quarter of 2003.

        In early 1998, we launched our competitive local exchange carrier enterprise through Carrier Services. In November 2001, we decided to discontinue such competitive local exchange carrier operations. This decision was a proactive response to the deterioration in the capital markets, the general slow-down of the economy and the slower-than-expected growth in Carrier Services' competitive local exchange carrier operations. Carrier Services completed the termination or sale of its competitive local exchange carrier operations in the second quarter of 2002. Carrier Services now provides wholesale long distance service and support to our rural local exchange carriers and to communications providers not affiliated with us. These services allow such companies to operate their own long distance communication services and sell such services to their respective customers.

Regulatory Environment

        The following summary does not describe all present and proposed federal, state and local legislation and regulations affecting the communications industry. Some legislation and regulations are currently the subject of judicial proceedings, legislative hearings and administrative proposals which could change the manner in which this industry operates. Neither the outcome of any of these developments, nor their potential impact on us, can be predicted at this time. Regulation can change rapidly in the communications industry, and such changes may have an adverse effect on us in the future. See "Item 7. Management's Discussion and analysis of Financial Condition and Results of Operations—Risk Factors—Risks Related to our Regulatory Environment."

        Our regulated communications services are subject to extensive federal, state and local regulation. We hold various regulatory authorizations for our service offerings. At the federal level, the Federal Communications Commission generally exercises jurisdiction over all facilities and services of

12


communications common carriers, such as us, to the extent those facilities are used to provide, originate, or terminate interstate or international communications. State regulatory commissions generally exercise jurisdiction over such facilities and services to the extent those facilities are used to provide, originate or terminate intrastate communications. In addition, pursuant to the Telecommunications Act, state and federal regulators share responsibility for implementing and enforcing the domestic pro-competitive policies introduced by that legislation. In particular, state regulatory agencies have substantial oversight over the provision by incumbent telephone companies of interconnection and non-discriminatory network access to competitive communications providers. Local governments often regulate the public rights-of-way necessary to install and operate networks, and may require communications services providers to obtain licenses or franchises regulating their use of public rights-of-way. Additionally, municipalities and other local government agencies may regulate limited aspects of our business, including our use of public rights of way, and by requiring us to obtain construction permits and abide by building codes.

        We believe that competition in our telephone service areas will increase in the future as a result of the Telecommunications Act, although the ultimate form and degree of competition cannot be ascertained at this time. Competition may lead to loss of revenues and profitability as a result of: loss of customers; reduced usage of our network by our existing customers who may use alternative providers for long distance and data services; and reductions in prices for our services which may be necessary to meet competition.

        We must comply with the Communications Act which requires, among other things, that communications carriers offer services at just and reasonable rates and on non-discriminatory terms and conditions. The amendments to the Communications Act contained in the Telecommunications Act dramatically changed and are expected to continue to change the landscape of the communications industry. The central aim of the Telecommunications Act was to open local communications marketplaces to competition while enhancing universal service. Most significantly, the Telecommunications Act governs the removal of barriers to market entry into local telephone services, requires incumbent local exchange carriers to interconnect with competitors, establishes procedures pursuant to which incumbent local exchange carriers may provide other services, such as the provision of long distance services by regional bell operating companies, and imposes on incumbent local exchange carriers duties to negotiate interconnection arrangements in good faith.

        Removal of Entry Barriers.    Prior to the enactment of the Telecommunications Act, many states limited the services that could be offered by a company competing with an incumbent local exchange carrier. The Telecommunications Act generally preempts state and local laws that prevent competitive entry into the provision of any communications service. However, states can modify conditions of entry into areas served by rural local exchange carriers where the state regulatory commission determines that such modification is warranted by the public interest. Since the passage of the Telecommunications Act, we have experienced only limited competition from cable and wireless service providers.

        Access Charges.    The Federal Communications Commission regulates the prices that incumbent local telephone companies charge for the use of their local telephone facilities in originating or terminating interstate transmissions. The Federal Communications Commission has structured these prices, also referred to as "access charges," as a combination of flat monthly charges paid by the end-users and usage sensitive charges paid by long distance carriers. State regulatory commissions regulate intrastate access charges. Many states generally mirror the Federal Communications Commission price structure. A significant amount of our revenues come from network access charges, which are paid to us by intrastate carriers and interstate long distance carriers for originating and terminating calls in the regions served by our rural local exchange carriers. The amount of access

13


charge revenues that we receive is based on rates set by federal and state regulatory bodies, and such rates are subject to change at any time.

        The Federal Communications Commission regulates the levels of interstate access charges by imposing price caps on larger incumbent local telephone companies. These price caps can be adjusted based on various formulae, such as inflation and productivity, and otherwise through regulatory proceedings. Smaller incumbents may elect to base access charges on price caps, but are not required to do so unless they elected to use price caps in the past or their affiliated incumbent local telephone companies base their access charges on price caps. Each of our 26 incumbent local telephone subsidiaries elected not to apply the Federal Communications Commission's price caps. Instead, our subsidiaries employ rate-of-return regulation for their interstate access charges.

        The Federal Communications Commission has made, and is continuing to consider, various reforms to the existing rate structure for charges assessed on long distance carriers for connection to local networks. States often mirror federal rules in establishing intrastate access charges. In 2001, the Federal Communications Commission adopted an order implementing the beginning phases of the Multi Association Group plan to reform the access charge system for rural carriers. The Multi Association Group plan is revenue neutral to our operating companies. Among other things, the Multi Association Group plan reduces access charges and shifts a portion of cost recovery, which historically has been based on minutes-of-use, to flat-rate, monthly per line charges on end-user customers rather than long distance carriers. As a result, the aggregate amount of access charges paid by long distance carriers to access providers, such as our rural local exchange carriers, has decreased and may continue to decrease. In adopting the Multi Association Group plan, the Federal Communications Commission also determined that rate-of-return carriers will continue to be permitted to set rates based on the authorized rate of return of 11.25%. Additionally, the Federal Communications Commission initiated a rulemaking proceeding to investigate the Multi Association Group's proposed incentive regulation plan and other means of allowing rate-of-return carriers to increase their efficiency and competitiveness. The Multi Association Group plan expires in 2006 and will need to be renewed or replaced at such time. In addition, to the extent our rural local exchange carriers become subject to competition in their own local exchange areas, such access charges could be paid to competing local exchange carriers rather than to us. Additionally, the access charges we receive may be reduced as a result of competition by other service providers such as wireless and voice over internet services. Such a circumstance could have a material adverse effect on our financial condition and results of operations. In addition, the Federal Communications Commission has sought comment on broad policy changes that could harmonize the rate structure and levels of all forms of intercarrier compensation, and could, as a result, substantially modify the current forms of carrier-to-carrier payments for interconnected traffic. Furthermore, in the notice of proposed rulemaking on voice over internet protocol services the Federal Communications Commission adopted in February 2004, the Federal Communications Commission has sought comment on whether access charges should apply to voice over internet protocol or other internet protocol based services. It is unknown at this time what additional changes, if any, the Federal Communications Commission may eventually adopt and the effect of any such changes on our business.

        Rural Local Exchange Carrier Services Regulation.    Our rural local exchange carrier services segment revenue is subject to regulation including regulation by the Federal Communications Commission and incentive regulation by various state regulatory commissions. State lawmakers will likely continue to review the statutes governing the level and type of regulation for communications services. It is expected that over the next few years, legislative and regulatory actions will provide opportunities to restructure rates, introduce more flexible incentive regulation programs and possibly reduce the overall level of regulation. We expect the election of incentive regulation plans and the expected reduction in the overall level of regulation to allow us to introduce new services and pricing changes more expeditiously than in the past. At the same time, however, the implementation of such new programs may also lead to reductions in intrastate access charges.

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

        The Federal Communications Commission has required that incumbent independent local exchange carriers that provide interstate long distance services originating from their local exchange service territories must do so in accordance with "structural separation" rules. These rules require that our long distance affiliates (i) maintain separate books of account, (ii) not own transmission or switching facilities jointly with the local exchange affiliate, and (iii) acquire any services from its affiliated local exchange telephone company at tariffed rates, terms and conditions. The Federal Communications Commission has initiated a rulemaking proceeding to examine whether there is a continuing need for such requirements; however, we cannot predict the outcome of that proceeding.

        The Telecommunications Act required all carriers to offer local number portability. This requirement allows telephone customers to change service providers but keep their existing telephone numbers. Initially, the Federal Communications Commission set November 24, 2003 as the local number portability deadline for carriers within the Top 100 Metropolitan Statistical Areas and May 24, 2004 for carriers outside the Top 100 Metropolitan Statistical Areas. On January 16, 2004, the Federal Communications Commission granted an extension of time, to May 24, 2004, to local exchange carriers with fewer than two percent of the nation's subscriber lines, regardless of whether the companies operate in a Top 100 Metropolitan Statistical Areas. Except for carriers that qualify as small entities under the Regulatory Flexibility Act whose intermodal porting obligations were recently and temporarily stayed by the United States Court of Appeals for the District of Columbia, all local exchange carriers with bona fide local number portability requests were required to be prepared to port numbers from wireline to wireless carriers on or before May 24, 2004. We are in compliance with this requirement in all of the states in which we operate or have received waivers to extend the time for implementation beyond the May 24th date in certain states where technical limitations hinder compliance by this date.

        Our operations and those of all communications carriers also may be impacted by legislation and regulation imposing new or greater obligations related to assisting law enforcement, bolstering homeland security, minimizing environmental impacts, or addressing other issues that impact our business. For example, existing provisions of the Communications Assistance for Law Enforcement Act and Federal Communications Commission regulations implementing the Communications Assistance for Law Enforcement Act require communications carriers to ensure that their equipment, facilities, and services are able to facilitate authorized electronic surveillance. We believe we are in compliance with those laws and regulations. These laws and regulations, however, are subject to both interpretation and change which may result in requirements for us to incur additional costs.

        Most states have some form of certification requirement that requires providers of communications services to obtain authority from the state regulatory commission prior to offering common carrier services. Each of our 26 rural local exchange carriers operates as the incumbent local telephone company in the states in which it operates and is certified in those states to provide local telephone services. State regulatory commissions generally regulate the rates incumbent local exchange carriers

15

charge for intrastate services, including rates for intrastate access services paid by providers of intrastate long distance services. Although the Federal Communications Commission has preempted certain state regulations pursuant to the Telecommunications Act, states have retained authority to impose requirements on carriers necessary to preserve universal service, protect public safety and welfare, ensure quality of service and protect consumers. For instance, incumbent local exchange carriers must file tariffs setting forth the terms, conditions and prices for their intrastate services, and such tariffs may be challenged by third parties. From time to time, states conduct rate cases or "earnings" reviews. These reviews may result in the disallowance of certain investments or expenses for ratemaking purposes. We currently have "earnings" reviews of our rates being conducted in Idaho, New York (including with respect to deferred pension assets) and Vermont.

        Under the Telecommunications Act, state regulatory commissions have jurisdiction to arbitrate and review interconnection disputes and agreements between incumbent local exchange carriers and competitive local exchange carriers, in accordance with rules set by the Federal Communications Commission. State regulatory commissions may also formulate rules regarding fees imposed on providers of communications services within their respective states to support state universal service programs. States often require prior approvals or notifications for certain acquisitions and transfers of assets, customers, or ownership of regulated entities. Therefore, in most instances we will be required to seek state approval prior to completing new acquisitions of rural local exchange carriers. States generally retain the right to sanction a carrier or to revoke certifications if a carrier materially violates relevant laws and/or regulations.

        We may be required to obtain from municipal authorities permits for street opening and construction or operating franchises to install and expand facilities in certain rural communities. Some of these franchises may require the payment of franchise fees. We have obtained such municipal franchises as were required. In some rural areas, we do not need to obtain such permits or franchises because the subcontractors or electric utilities with which we have contracts already possess the requisite authorizations to construct or expand our networks.

        As discussed above, the Telecommunications Act provides, in general, for the removal of barriers to entry into the communications industry in order to promote competition for the provision of local service. Congress, however, has recognized that states should not be prohibited from taking actions necessary to preserve and advance universal service, and has further recognized that special consideration should be given to the appropriate conditions for competitive entry in areas served by rural telephone companies, such as our 26 rural local exchange carrier subsidiaries.

        Pursuant to the Telecommunications Act, all local exchange carriers, including both incumbents and new competitive carriers, are required to: (i) allow others to resell their services at retail rates; (ii) ensure that customers can keep their telephone numbers when changing carriers; (iii) ensure that competitors' customers can use the same number of digits when dialing and receive nondiscriminatory access to telephone numbers, operator service, directory assistance and directory listing; (iv) ensure access to telephone poles, ducts, conduits and rights of way; and (v) compensate competitors for the competitors' costs of completing calls to competitors' customers. Competitors are required to compensate the incumbent telephone company for the cost of providing these interconnection services. Under the Telecommunications Act, our rural local exchange carriers may request from state regulatory commissions, suspension or modification of any or all of the requirements described above. A state regulatory commission may grant such a request if it determines that such exemption, suspension or modification is consistent with the public interest and necessary to avoid a significant adverse economic impact on communications users and generally avoid imposing a requirement that is technically

16


unfeasible or unduly economically burdensome. If a state regulatory commission denies some or all of any such request made by one of our rural local exchange carriers, or does not allow us adequate compensation for the costs of providing interconnection, our costs could increase and our revenues could decline. In addition, with such a denial, competitors could enjoy benefits that would make their services more attractive than if they did not receive such interconnection rights. With the exception of the previously referenced requests to modify the May 24, 2004 implementation date for local number portability in certain states, we have not encountered a need to file any such requests for suspension or modification of the interconnection requirements.

        The Telecommunications Act, with certain exceptions, imposes the following additional duties on incumbent telephone companies by requiring them to: (i) interconnect their facilities and equipment with any requesting communications carrier at any technically feasible point; (ii) unbundle and provide nondiscriminatory access to network elements such as local loops, switches and transport facilities, at nondiscriminatory rates and on nondiscriminatory terms and conditions; (iii) offer their retail services for resale at wholesale rates; (iv) provide reasonable notice of changes in the information necessary for transmission and routing of services over the incumbent telephone company's facilities or in the information necessary for interoperability; and (v) provide, at rates, terms and conditions that are just, reasonable and nondiscriminatory, for the physical co-location of equipment necessary for interconnection or access to unbundled network elements at the premises of the incumbent telephone company. Competitors are required to compensate the incumbent local exchange carrier for the cost of providing these interconnection services. However, pursuant to the Telecommunications Act, rural telephone companies, including our rural local exchange carriers, are automatically exempt from these additional incumbent telephone company requirements. The exemption remains effective until an incumbent rural local telephone company receives a bona fide request for these additional interconnection services and the applicable state authority determines whether the request is not unduly economically burdensome, technically feasible, and consistent with the universal service objectives set forth in the Telecommunications Act. This exemption remains effective for all of our incumbent local telephone operations, except in Florida where the legislature has determined that all incumbent local exchange carriers are required to provide the additional interconnection services as prescribed in the Telecommunications Act. If a request for any of these additional interconnection services is filed by a potential competitor with respect to one of our other operating territories, we are likely to ask the relevant state regulatory commission to retain the exemption. If a state regulatory commission rescinds such exemption in whole or in part and if the state regulatory commission does not allow us adequate compensation for the costs of providing the interconnection, our costs would significantly increase, we would face new competitors in that state and we could suffer a significant loss of customers and resulting declines in our revenues. In addition, we could incur additional administrative and regulatory expenses as a result of the interconnection requirements.

        The Universal Service Fund payments received by our rural local exchange carriers from the Universal Service Fund are intended to support the high cost of our operations in rural markets. Such Universal Service Fund payments related to the high cost loop represented 9% of our revenues for the year ended December 31, 2004. Under current Federal Communications Commission regulations, the total Universal Service Fund available to all rural local telephone companies, including our 26 rural local exchange carrier subsidiaries, is subject to a cap. In any given year, the cap may or may not be reached. In any year where the cap is reached, the per access line rate at which we can recover Universal Service Fund payments may decrease. In addition, the consideration of changes in the federal rules governing the distribution of Universal Service Fund is pending before the Federal Communications Commission. If our rural local exchange carriers were unable to receive Universal Service Fund payments, or if such payments were reduced, many of our rural local exchange carriers would be unable to operate as profitably as they have historically in the absence of our implementation

17

of increases in charges for other services. Moreover, if we raise prices for services to offset loss of Universal Service Fund payments, the increased pricing of our services may disadvantage us competitively in the marketplace, resulting in additional potential revenue loss. Payments from the Universal Service Fund fluctuate based upon our average cost per loop compared with the national average cost per loop. For example, if the national average cost per loop increases and our operating costs (and average cost per loop) remain constant or decrease, the payments we receive from the Universal Service Fund would decline. Conversely, if the national average cost per loop decreases and our operating costs (and average cost per loop) remain constant or increase, the payments we receive from the Universal Service Fund would increase. Over the past year, the national average cost per loop in relation to our average cost per loop has increased and we believe the national average cost per loop will likely continue to increase in relation to our average cost per loop. As a result, the payments we receive from the Universal Service Fund will likely decline.

        Universal service rules have been adopted by both the Federal Communications Commission and some state regulatory commissions. Universal Service Fund funds may be distributed only to carriers that are designated as eligible communications carriers by a state regulatory commission. All of our rural local exchange carriers have been designated as eligible communications carriers pursuant to the Telecommunications Act. However, under the Telecommunications Act, competitors could obtain the same support payments as we do if a state regulatory commission determined that granting such support payments to competitors would be in the public interest.

        Two notable regulatory changes enacted by the Federal Communications Commission in the last four years are the adoption, with certain modifications, of the Rural Task Force proposed framework for rural high-cost universal service support and the implementation of the beginning phases of the Multi Association Group plan. The Federal Communications Commission's Rural Task Force order modifies the existing universal service support mechanism for rural local exchange carriers and adopts an interim embedded, or historical, cost mechanism for a five-year period that provides predictable levels of support to rural carriers. The Federal Communication Commission has stated its intention to develop a long-term plan based on forward looking costs when the five-year period expires in 2006. The Multi Association Group plan created a new universal service support mechanism, Interstate Common Line Support, to replace carrier common line access charges and the recovery of certain costs formerly recovered through traffic sensitive access charges. A recent Federal Communications Commission order merged long term support into its interstate common line support mechanism without reducing (at least initially) the aggregate universal service support from the two mechanisms (both of which had been previously transformed from access charge revenue streams into universal service support mechanisms). As a result of these changes, when a competitor is designated an eligible communications carrier, it also receives an increased level of Universal Service Fund support equal to the level received by the incumbent on a per line basis.

        The Federal State Joint Board is currently considering recommendations on the question of which carriers can obtain Universal Service Fund support in a market. The Federal State Joint Board recommended that:

        On February 28, 2005, the Federal Communications Commission issued a press release announcing additional requirements for the designation of competitive Eligible Telecommunications Carriers for

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receipt of high-cost support. Although the written text of the Federal Communications Commission order has not been released, the Federal Communications Commission has adopted additional mandatory requirements for Eligible Telecommunications Carriers designation in cases where it has jurisdiction, and encourages states that have jurisdiction to designate Eligible Telecommunications Carriers to adopt similar requirements. The Federal Communications Commission is still considering revisions to the methodology by which contributions to the Universal Service Fund are determined. These revisions will be part of an overall rulemaking regarding Universal Service Support which will be dealt with sometime in the next year.

        In addition, there are a number of judicial appeals challenging several aspects of the Federal Communications Commission's universal service rules. It is not possible to predict at this time whether the Federal Communications Commission or Congress will require modification to those rules, or the ultimate impact any such modification might have on us.

        In connection with our Internet access offerings, we could become subject to laws and regulations as they are adopted or applied to the Internet. There is currently only limited regulations applicable to the Internet. As the significance of the Internet expands, federal, state and local governments may adopt rules and regulations, or apply existing laws and regulations to the Internet, and related matters are under consideration in both federal and state legislative and regulatory bodies. The Federal Communications Commission is currently reviewing the appropriate regulatory framework governing broadband access to the Internet through telephone and cable operators' communications networks. We cannot predict whether the outcome will prove beneficial or detrimental to our competitive position. In February 2004, the Federal Communications Commission initiated a proceeding to examine the regulatory implications of voice over Internet protocol technology. We cannot predict the results of these proceedings, the nature of these regulations or their impact on our business.

        Like all other local telephone companies, our 26 rural local exchange carrier subsidiaries are subject to federal, state and local laws and regulations governing the use, storage, disposal of, and exposure to hazardous materials, the release of pollutants into the environment and the remediation of contamination. As an owner of property, we could be subject to environmental laws that impose liability for the entire cost of cleanup at contaminated sites, regardless of fault or the lawfulness of the activity that resulted in contamination. We believe, however, that our operations are in substantial compliance with applicable environmental laws and regulations.

ITEM 2.    PROPERTIES

        We own all of the properties material to our business. Our headquarters is located in Charlotte, North Carolina in a leased facility. We also have administrative offices, maintenance facilities, rolling stock, central office and remote switching platforms and transport and distribution network facilities in each of the 17 states in which we operate our rural local exchange carrier business. Our administrative and maintenance facilities are generally located in or near the rural communities served by our rural local exchange carriers and our central offices are often within the administrative building and/or outlying customer service centers. Auxiliary battery or other non-utility power sources are at each central office to provide uninterrupted service in the event of an electrical power failure. Transport and distribution network facilities include fiber optic backbone and copper wire distribution facilities, which connect customers to remote switch locations or to the central office and to points of presence or interconnection with the long distance carriers. These facilities are located on land pursuant to permits, easements or other agreements. Our rolling stock includes service vehicles, construction equipment and other required maintenance equipment.

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        We believe each of our respective properties is suitable and adequate for the business conducted therein, is being appropriately used consistent with past practice and has sufficient capacity for the present intended purposes.

ITEM 3.    LEGAL PROCEEDINGS

        We currently and from time to time are involved in litigation and regulatory proceedings incidental to the conduct of our business, but currently we are not a party to any lawsuit or proceeding which, in our opinion, is likely to have a material adverse effect on us.

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

        No matters were submitted to a vote of our security holders during the fourth quarter of fiscal 2004.

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PART II

ITEM 5.    MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES

General

        Our common stock began trading on the New York Stock Exchange under the symbol "FRP" on February 4, 2005. Prior to that time, there was no trading market for our common stock. The high trading price for our common stock during the period from February 4, 2005 to March 22, 2005 was $18.55 per share. The low trading price for our common stock during the period from February 4, 2005 to March 22, 2005 was $15.55 per share.

        On March 3, 2005, we declared a dividend of $0.22543 per share of our common stock, payable on April 15, 2005 to holders of record as of March 31, 2005. This dividend represents a partial-quarter proration (for the period from February 8, 2005 to March 31, 2005) of the indicated annual dividend of $1.59125 per share. For an explanation of our dividend policy, see "—Dividend Policy and Restrictions" below.

        As of March 15, 2005, there were approximately 88 holders of record of our common stock.

Dividend Policy and Restrictions

        Our board of directors has adopted a dividend policy under which a substantial portion of the cash generated by our business in excess of operating needs, interest and principal payments on our indebtedness, dividends on our future senior classes of capital stock, if any, capital expenditures, taxes and future reserves, if any, would in general be distributed as regular quarterly dividend payments to the holders of our common stock, rather than retained by us and used for other purposes, including to finance growth opportunities. This policy reflects our judgment that our stockholders would be better served if we distributed to them such substantial portion of the excess cash generated by our business instead of retaining it in our business. However, as described more fully below, our stockholders may not receive any dividends as a result of the following factors:

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        We believe that our dividend policy limits, but does not preclude, our ability to pursue growth. If we continue paying dividends at the level currently anticipated under our dividend policy, we expect that we would need additional financing to fund significant acquisitions or to pursue growth opportunities requiring capital expenditures that are significantly beyond our current expectations. However, we intend to retain sufficient cash after the distribution of dividends to permit the pursuit of growth opportunities that do not require material capital investment. For further discussion of the relationship of our dividend policy to our ability to pursue potential growth opportunities, see "—Assumptions and Considerations" below.

        On March 3, 2005, we declared a dividend of $0.22543 per share of our common stock, payable on April 15, 2005 to holders of record as of March 31, 2005. In accordance with our dividend policy, we currently intend to continue to pay quarterly dividends at an annual rate of $1.59125 per share for the four fiscal quarters ending March 31, 2006. In respect of the four fiscal quarters ending March 31, 2006, this would be $54.8 million in the aggregate. This aggregate amount of dividends does not include any dividends with respect to 115,733 shares of our common stock issuable upon the exercise of fully vested, exercisable and in-the-money stock options or 473,716 shares of restricted stock awarded under our 2005 stock incentive plan on February 15, 2005, which shares will begin to vest on April 1, 2006 and will not be entitled to receive dividends for any period prior to April 1, 2006. Dividends on our common stock will not be cumulative. Consequently, if dividends on our common stock are not declared and/or paid at the targeted level, our stockholders will not be entitled to receive such payments in the future. In determining our initial dividend level, we reviewed and analyzed, among other things, our operating and financial performance in recent years, the anticipated cash requirements associated with our capital structure, our anticipated capital expenditure requirements, our other anticipated cash needs, the terms of our credit facility, applicable provisions of Delaware law, other potential sources of liquidity and various other aspects of our business.

        Prior to the dividend which will be paid on April 15, 2005, we had not paid dividends on our common stock in the past.

        We do not as a matter of course make public projections as to future sales, earnings or other results. However, our management has prepared the estimated financial information set forth below to present the estimated minimum Adjusted EBITDA required to generate sufficient cash to pay dividends on our common stock in accordance with our dividend policy. See "Item 6. Selected Financial Data" for a definition of, and other information with respect to, Adjusted EBITDA. The accompanying estimated financial information was not prepared with a view toward complying with the rules and regulations of the Securities and Exchange Commission with respect to prospective financial information, but, in the view of our management, was prepared on a reasonable basis, reflects the best currently available estimates and judgments, and presents, to the best of our management's knowledge and belief, our expected course of action and our expected future financial performance. However, this information is not fact and should not be relied upon as being necessarily indicative of future results, and readers of this Annual Report are cautioned not to place undue reliance on the estimated financial information.

        The assumptions and estimates underlying the estimated financial information below are inherently uncertain and, though considered reasonable by our management as of the date of its preparation, are subject to a wide variety of significant business, economic, and competitive risks and uncertainties, including those described under "Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations—Risk Factors." Accordingly, there can be no assurance that the estimated financial information is indicative of our future performance or that the actual results will not differ materially from the estimated financial information presented below.

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        We believe that in order to fund dividend payments to holders of our common stock at the level described above solely from cash generated by our business, our Adjusted EBITDA for the four fiscal quarters ending March 31, 2006 would need to be at least $120.7 million and our average Adjusted EBITDA with respect to each such quarter would need to be at least $30.2 million. Based on a review and analysis conducted by our management and our board of directors as described under "—Assumptions and Considerations" below, we believe that our Adjusted EBITDA for the four fiscal quarters ending March 31, 2006 will be at least $120.7 million and our average Adjusted EBITDA with respect to each such quarter will be at least $30.2 million. If our Adjusted EBITDA with respect to such periods were at or above these levels, we would be able to make the full targeted dividend payments on our common stock and we would be permitted to make such payments under the leverage ratio and restricted payment covenants in our credit facility.

        The table below sets forth our calculation that a minimum of $120.7 million of Adjusted EBITDA would be sufficient to fund dividend payments at the targeted levels on our common stock for the four fiscal quarters ending March 31, 2006 (excluding any dividends payable with respect to 115,733 shares of our common stock issuable upon the exercise of fully vested, exercisable and in-the-money stock options and 473,716 shares of restricted stock awarded under our 2005 stock incentive plan, which shares will begin to vest on April 1, 2006 and will not be entitled to receive dividends for any period prior to April 1, 2006) and would satisfy the leverage ratio and restricted payment covenants in our credit facility.

Estimated Cash Available to Pay Dividends on Common Stock Based on Minimum Adjusted EBITDA

 
   (Dollars in
thousands)
Minimum Adjusted EBITDA(1)(2)   $ 120,662
Less:      
Estimated cash interest expense on credit facility(3)     33,738
Estimated cash interest expense on other debt     453
Estimated capital expenditures(4)     31,000
Estimated cash income taxes(5)     650
Estimated cash available to pay dividends on outstanding common stock(6)   $ 54,821
Estimated leverage ratio derived from above(7)     4.9x

        The table below sets forth for the year ended December 31, 2004 the amount of cash that would have been available for distributions to our stockholders subject to the assumptions described in such table. The information in the table below should be read in conjunction with our consolidated historical financial statements and notes thereto contained elsewhere in this Annual Report.

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Cash Available to Pay Dividends for the Year Ended December 31, 2004

 
   Year Ended
December 31,
2004
  
 
   (dollars in
thousands)

  
Net cash provided by operating activities of continuing operations   $ 45,975  
Adjustments:        
  Depreciation and amortization     (50,287 )
  Other non-cash items     (20,618 )
  Impairment of investments     (349 )
  Changes in assets and liabilities arising from continuing operations net of acquisitions     926  
   
 

Loss from continuing operations
 
 
(24,353
)
Adjustments:        
  Interest expense     104,315  
  Provision for income tax expense     516  
  Depreciation and amortization     50,287  
  Net gain on sale of investments and other assets     (104 )
  Impairment of investments     349  
  Equity in earnings of investee     (10,899 )
  Distributions from investments(8)     15,017  
  Realized and unrealized losses on interest rate swaps     112  
  Non-cash stock based compensation     49  
  Write-off of cost associated with an abandoned offering of Income Deposit Securities and related transactions     5,951  
  Deferred patronage dividends     (84 )
   
 

Adjusted EBITDA
 
 
141,156
 
Cash interest expense on credit facility(3)     (33,738 )
Cash interest expense on other debt     (453 )
Capital expenditures(4)(9)     (36,492 )
Income tax expense(5)     (650 )
Additional public company costs(2)     (1,000 )
   
 

Cash that would have been available to pay dividends
 
 
68,823
 
Cash required to pay dividends on common stock in accordance with our dividend policy     54,821  
(1)
To pay the targeted dividends on our common stock, our average Adjusted EBITDA with respect to each quarter must be at least $30.2 million.

(2)
Takes into account estimated incremental ongoing expenses of $1.0 million associated with being a public common stock issuer, including estimated audit fees, director and officer liability insurance premiums, expenses relating to stockholders' meetings, printing expenses, investor relations expenses, registrar and transfer agent fees, directors' fees, additional legal fees and listing fees.

(3)
Represents interest of approximately 5.75% per annum on $589.0 million of outstanding borrowings under our credit facility and a commitment fee of 0.5% per annum on the average unused balance of $98.6 million under our credit facility's revolving facility. This assumed rate is based on indicative LIBOR rates as of February 28, 2005, assumes the redemption of the

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(4)
Capital expenditures in fiscal 2004 were approximately $36.5 million, which includes $4.4 million of non-recurring capital expenditures relating to the conversion of our six billing systems into an integrated billing platform and the centralization of our customer service records and $9.0 million of non-recurring capital expenditures relating to the final stages of our digital subscriber line initiative. We expect that our annual capital expenditures for our existing operations will be approximately $31.0 million for fiscal 2005 through fiscal 2009. We estimate that approximately $28.0 million of this amount will be used to maintain and enhance our network infrastructure and operate our business. This includes expenditures to meet our network, product offering and customer requirements, such as investments in equipment, central office technology (which includes both hardware and software), inside and outside plant upgrades to meet network capacity requirements and normal repair and maintenance to our infrastructure. In addition, approximately $3.0 million of this amount will be available for one-time or discretionary capital expenditures, such as the billing systems conversion. We expect to fund all of these capital expenditures through our cash flow from operations. If cash is available beyond what is required to support our dividend policy, we may consider additional capital expenditures if we believe they are beneficial. Although the amount of our capital expenditures can fluctuate from quarter to quarter, on an annual basis we do not expect capital expenditures for our existing operations through fiscal 2009 to vary significantly from our estimated amounts. We do not believe that our dividend policy will materially affect our ability to maintain and enhance our network infrastructure and operate our business.

(5)
We expect cash taxes during the four fiscal quarters ending March 31, 2006 to be approximately $0.7 million. Based on certain assumptions, our net operating loss carry forwards as of December 31, 2004 were approximately $251.9 million. We have estimated cash taxes after giving effect to the transactions based on an estimate of our net operating loss carry forwards (including an "ownership change" under Section 382 of the Internal Revenue Code limiting the usage of our net operating loss carry forwards) and interest and amortization of deferred financing fees based on our new capital structure. At such time as our net operating loss carry forwards have been fully used, our cash tax liability will increase and may impact our ability to pay dividends. Our tax liability may also be affected by limitations on the use of our net operating loss carry forwards under Section 382 of the Internal Revenue Code by reason of the offering and earlier ownership changes. See "Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations—Risk Factors—Limitations on usage of our net operating loss carry forwards, and other factors requiring us to pay cash taxes in future periods, may affect our ability to pay dividends to you" and "Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations—Critical Accounting Policies—Accounting for Income Taxes."

(6)
The table below sets forth the number of shares of our common stock which were outstanding as of February 28, 2005 (excluding 115,733 shares of our common stock issuable upon the exercise of fully vested, exercisable and in-the-money stock options and 473,716 shares of restricted stock awarded under our 2005 stock incentive plan, which shares will begin to vest on April 1, 2006 and will not be entitled to receive dividends for any period prior to April 1, 2006) and the estimated

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   Dividends
 
   Number of
Outstanding
Shares
 
   Per Share
   Aggregate
 
    
    
   (in thousands)
Estimated dividends on our common stock   34,451,716   $ 1.59125   $ 54,821
(7)
The leverage ratio is calculated as total indebtedness divided by pro forma Adjusted EBITDA. Under our credit facility, we may not pay dividends on our common stock if our leverage ratio is above 5.00 to 1.00. See "—Restrictions on Payment of Dividends and "Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations—Description of Certain Indebtedness—Credit Facility."

(8)
We have a number of minority investments and passive partnership interests from which we receive distributions. We do not control the amount or timing of such distributions. Includes a non-recurring $2.5 million distribution.

(9)
Includes non-recurring capital expenditures of $13.4 million for the year ended December 31, 2004 related to the conversion of our six billing systems into an integrated billing platform and the centralization of our customer service records. Also includes non-recurring capital expenditures of $4.8 million for the year ended December 31, 2004 related to capital investments in digital subscriber line access multiplexers and other plant upgrades associated with our accelerated digital subscriber line initiative that began during the third quarter of 2003. As a result, approximately 93% of our exchanges are broadband capable as of December 31, 2004 and management expects that digital subscriber line investments will decrease significantly in 2005. Our management views non-recurring capital expenditures as either one-time capital expenditures or discretionary capital expenditures which are not necessary to maintain and enhance our network infrastructure or operate our business, such as the billing systems conversion and the digital subscriber line initiative described above. Our dividend policy may cause us to reduce or eliminate such one-time or discretionary capital expenditures in the future or to incur indebtedness to fund such capital expenditures. To the extent we finance capital expenditures with indebtedness, we will begin to incur incremental interest and principal obligations which would reduce our cash available for future dividend payments and other purposes. In addition, if we reduce or eliminate capital expenditures, the regulatory settlement payments we receive may decline.

        Based on a review and analysis conducted by our management and our board of directors, we believe that our Adjusted EBITDA for the four fiscal quarters ending March 31, 2006 will be at least $120.7 million and our average Adjusted EBITDA with respect to each such quarter will be at least $30.2 million, and we have determined that our assumptions as to capital expenditures, cash interest expense and income taxes in the above tables are reasonable. We considered numerous factors in making such determination, including the following factors which we considered material in making such determination:

26

        We have also assumed:

        If our Adjusted EBITDA with respect to the four fiscal quarters ending March 31, 2006 were to fall below $120.7 million or our average Adjusted EBITDA with respect to each such quarter were to fall below $30.2 million (or if our assumptions as to capital expenditures, principal repayments, interest expense or tax expense were too low), we would need to either reduce or eliminate dividend payments on our common stock or, to the extent we were permitted to do so under our credit facility, fund a portion of the dividends on our common stock with borrowings or from other sources. If we were to use working capital or permanent borrowings under our credit facility's revolving facility to fund dividend payments, we would have less cash available for future dividend payments and other purposes, which could negatively impact our financial condition, our results of operations and our ability to maintain or expand our business. In addition, to the extent we finance capital expenditures or acquisitions with indebtedness, we will begin to incur incremental interest and principal obligations.

        There can be no assurance that our Adjusted EBITDA will equal or exceed the minimum levels set forth above, and our belief that it will equal or exceed such levels are subject to all of the risks, considerations and factors identified in other sections of this Annual Report, including those identified in "Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations—Risk Factors."

27


        As noted above, we have presented our initial dividend payment level and our minimum Adjusted EBITDA only for the four fiscal quarters ending March 31, 2006. Moreover, there can be no assurance that during or following such period that we will pay dividends at the level set forth above, or at all. In the future, our capital and cash needs will invariably change, which could impact the level of any dividends we pay.

        We are not required to pay dividends, and our board of directors may modify or revoke our dividend policy at any time. Dividend payments are within the sole discretion of our board of directors and will depend upon, among other things, our results of operations, our financial condition and future developments that could differ materially from our current expectations. We expect that our general policy will be to distribute rather than retain a substantial portion of our cash in excess of operating needs, interest and principal payments on our indebtedness, dividends on our future senior classes of capital stock, if any, capital expenditures, taxes and future reserves, if any. These policies are based upon our current assessment of our business and the environment in which it operates, and that assessment could change based on competitive or technological developments (which could, for example, increase our need for capital expenditures), acquisition opportunities or other factors. We believe that our dividend policy limits, but does not preclude, our ability to pursue growth. If we continue paying dividends at the level currently anticipated under our dividend policy, we expect that we would need additional financing to fund significant acquisitions or to pursue growth opportunities requiring capital expenditures significantly beyond our current expectations. Such additional financing could include, among other transactions, the issuance of additional shares of common stock. However, we intend to retain sufficient cash after the distribution of dividends to permit the pursuit of growth opportunities that do not require material capital investments. In the recent past, such growth opportunities have included investments in the roll-out of new services such as digital subscriber line internet access to our existing customer base and the selective expansion of our business into new and/or adjacent markets. Management currently has no specific plans to make a significant acquisition or to increase capital spending to expand our business materially. However, management will evaluate potential growth opportunities as they arise and, if our board of directors determines that it is in our best interest to use cash that would otherwise be available for distribution as dividends to pursue an acquisition opportunity, to materially increase capital spending or for some other purpose, the board would be free to depart from or change our dividend policy at any time. Management currently does not anticipate pursuing growth opportunities, including acquisitions, unless they are expected to be at least neutral or accretive to our ability to pay dividends to the holders of our common stock.

        Borrowings under our credit facility will bear interest at variable interest rates. In connection with the offering, we entered into three interest rate swap agreements which fixed the interest rate on approximately $130.0 million of the term loans under our credit facility at 6.11% until December 31, 2009, fixed the interest rate on approximately $130.0 million of the term loans under our credit facility at 5.98% until December 31, 2008 and fixed the interest rate on approximately $130.0 million of the term loans under our credit facility at 5.76% until December 31, 2007. After these interest rate swap agreements expire, our annual debt service obligations on such portion of the term loans will vary from year to year unless we enter into a new interest rate swap or purchase an interest rate cap or other interest rate hedge. An increase of ten percent in the annual interest rate applicable to borrowings under the term loan facility of our credit facility would result in an increase of approximately $0.9 million in our annual cash interest expense, and a corresponding decrease in cash available to pay dividends on our common stock. If we choose to enter into a new interest rate swap or purchase an interest rate cap or other interest rate hedge in the future, the amount of cash available to pay dividends on our common stock may decrease. However, to the extent interest rates increase in the future, we may not be able to enter into a new interest rate swap or purchase an interest rate cap or other interest rate hedge on acceptable terms. In addition, our credit facility's revolving facility will need to be refinanced prior to February 2011 and our credit facility's term loan facility will need to be refinanced prior to February 2012. We may not be able to refinance our credit facility, or if refinanced,

28


the refinancing may occur on less favorable terms, which may materially adversely affect our ability to pay dividends. If we were unable to refinance our credit facility, our failure to repay all amounts due on the maturity date would cause a default under our credit facility. We expect our required principal repayments under the term loan facility of our credit facility to be approximately $588.5 million at its maturity in February 2012. Our interest expense may increase significantly if we refinance our credit facility on terms that are less favorable to us than the terms of our credit facility.

        We generally have the ability to issue additional common stock, other equity securities or preferred stock for such consideration and on such terms and conditions as are established by our board of directors in its sole discretion and without the approval of the holders of our common stock. It is possible that we will fund acquisitions, if any, through the issuance of additional common stock, other equity securities or preferred stock. Holders of any additional common stock or other equity securities issued by us may be entitled to share equally with the existing holders of our common stock in dividend distributions. The certificate of designation of any preferred stock issued by us may provide that the holders of preferred stock are senior to the holders of our common stock with respect to the payment of dividends. If we were to issue additional common stock, other equity securities or preferred stock, it would be necessary for us to generate additional cash in order for us to distribute dividends at the same rate per share as distributed prior to any such additional issuance.

        Under Delaware law, our board of directors may declare dividends only to the extent of our "surplus" (which is defined as total assets at fair market value minus total liabilities, minus statutory capital) or, if there is no surplus, out of our net profits for the then current and/or immediately preceding fiscal year. We do not anticipate that we will have (and in prior years we would not have had) sufficient earnings, for purposes of Delaware law, to pay dividends at the levels described above and therefore expect that we will pay dividends out of surplus. Although we believe we will have sufficient surplus to pay dividends at the anticipated levels during the four fiscal quarters ending March 31, 2006, our board of directors will seek periodically to assure itself of this before actually declaring any dividends.

        Our credit facility restricts our ability to declare and pay dividends on our common stock as follows:

•
For the period ending March 31, 2005, we will be permitted to pay dividends as long as no default or event of default under our credit facility has occurred and is continuing and we have at least $10 million of cash on hand (including unutilized commitments under our credit facility's revolving facility);

•
After March 31, 2005, we may use all of our available cash accumulated after April 1, 2005 plus certain incremental funds to pay dividends, but we may not in general pay dividends in excess of such amount. "Available cash" is defined in our credit facility as Adjusted EBITDA minus interest expense, capital expenditures (unless funded by long-term debt, equity or the proceeds from asset sales or insurance recovery events), cash taxes, repayments of our indebtedness, cash consideration paid for acquisitions (unless funded by debt or equity) and cash paid to make certain investments. We may not pay dividends if a default or event of default under our credit facility has occurred and is continuing or would occur as a consequence of such payment, if our leverage ratio is above 5.00 to 1.00 or if we do not have at least $10 million of cash on hand (including unutilized commitments under our credit facility's revolving facility).

See "Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations—Description of Certain Indebtedness—Credit Facility."

29


        Available cash (as defined in our credit facility) does not represent the amount we intend to distribute as dividends for any period but rather is a restriction on the maximum level of dividend payments, if any, that we will be permitted to declare and pay under the terms of our credit facility.

Equity Compensation Plan Information

        The table below provides information, as of the end of the most recently completed fiscal year, concerning securities authorized for issuance under our equity compensation plans.

Plan Category
   Number of shares
to be issued
upon exercise of
outstanding options,
warrants and rights
   Weighted average exercise
price of outstanding
options, warrants, and
rights
   Number of shares remaining
available for future
issuance under equity
compensation plans
(excluding shares reflected
in the first column)
  
Equity compensation plan approved by our stockholders   1,215,701 (1)(2) $ 14.88 (1) 2,166,323 (3)
Equity compensation plans not approved by our stockholders   0   $ 0   0  
(1)
Includes 832,888 options to purchase our common stock issued under the FairPoint Communications, Inc. (formerly MJD Communications, Inc.) Stock Incentive Plan which are vested but not currently exercisable, with a weighted average exercise price of $10.80. Also includes 240,638 options to purchase our common stock under the FairPoint Communications, Inc. 2000 Employee Stock Incentive Plan which are vested and exercisable, with a weighted average exercise price of $36.94.

(2)
Does not include 473,716 shares of restricted stock issued on February 15, 2005 under the FairPoint Communications, Inc. 2005 Stock Incentive Plan.

(3)
Does not include 473,725 shares of our common stock which may be issued in the future pursuant to awards which may be granted under the FairPoint Communications, Inc. 2005 Stock Incentive Plan.

        For a description of our equity compensation plans, see "Item 11. Executive Compensation."

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ITEM 6.    SELECTED FINANCIAL DATA

        The following financial information should be read in conjunction with "Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations" and our consolidated financial statements and notes thereto contained elsewhere in this Annual Report. Amounts in thousands, except access lines and ratios.

 
   Year Ended December 31,
  
 
   2004
   2003
   2002
   2001
   2000
  
Statement of Operations:                                
Revenues   $ 252,645   $ 231,432   $ 230,819   $ 230,176   $ 190,786  
Operating expenses:                                
  Operating expenses     128,755     111,188     110,265     115,763     95,540  
  Depreciation and amortization(1)     50,287     48,089     46,310     55,081     46,146  
  Stock based compensation expense     49     15     924     1,337     12,323  
Total operating expenses     179,091     159,292     157,499     172,181     154,009  
Income from operations     73,554     72,140     73,320     57,995     36,777  
Interest expense(2)     (104,315 )   (90,224 )   (69,520 )   (76,314 )   (59,556 )
Other income (expense), net(3)     6,926     9,600     (11,974 )   (6,670 )   13,198  
Loss from continuing operations before income taxes     (23,835 )   (8,484 )   (8,174 )   (24,989 )   (9,581 )
Income tax (expense) benefit(3)     (516 )   236     (518 )   (431 )   (5,607 )
Minority interest in income of subsidiaries     (2 )   (2 )   (2 )   (2 )   (3 )
Loss from continuing operations     (24,353 )   (8,250 )   (8,694 )   (25,422 )   (15,191 )
Income (loss) from discontinued operations     671     9,921     21,933     (186,178 )   (73,926 )
Net income (loss)     (23,682 )   1,671     13,239     (211,600 )   (89,117 )
Redeemable preferred stock dividends and accretion(2)     —     (8,892 )   (11,918 )   —     —  
Gain on repurchase of redeemable preferred stock     —     2,905     —     —     —  
Net income (loss) attributable to common shareholders     (23,682 ) $ (4,316 ) $ 1,321   $ (211,600 ) $ (89,117 )
Basic and diluted shares outstanding(4)     9,468     9,483     9,498     9,499     9,357  
Basic and diluted loss from continuing operations per share(4)   $ (2.57 ) $ (1.50 ) $ (2.17 ) $ (2.68 ) $ (1.62 )

Operating Data:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
EBITDA(5)   $ 130,765   $ 129,827   $ 107,654   $ 106,404   $ 96,118  
Adjusted EBITDA(5)     141,156     132,574     131,656     120,951     100,034  
Capital expenditures     36,492     33,595     38,803     43,175     49,601  
Access line equivalents(6)     271,150     264,308     248,581     247,862     237,294  
  Residential access lines     189,668     196,145     189,803     191,570     184,798  
  Business access lines     49,606     50,226     51,810     53,056     51,025  
  Digital subscriber lines     31,876     17,937     6,968     3,236     1,471  

Summary Cash Flow Data:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Net cash provided by operating activities of continuing operations   $ 45,975   $ 32,834   $ 55,632   $ 35,717   $ 44,706  
Net cash used in investing activities of continuing operations     (20,986 )   (54,010 )   (30,258 )   (57,161 )   (284,953 )
Net cash provided by (used in) financing activities of continuing operations     (23,966 )   (1,976 )   (12,546 )   101,234     300,088  
Net cash contributed (from) to continuing operations (to) from discontinued operations     (3,031 )   23,361     (10,353 )   (80,862 )   (64,466 )
                                 

31


Balance Sheet Data (at period end):
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Cash   $ 3,595   $ 5,603   $ 5,394   $ 2,919   $ 3,991  
Property, plant and equipment, net     252,262     266,706     271,690     278,277     272,228  
Total assets     819,136     843,068     829,253     875,015     863,547  
Total long term debt     810,432     825,560     804,190     907,602     756,812  
Preferred shares subject to mandatory redemption     116,880     96,699     90,307     —     —  
Total stockholders' equity (deficit)     (172,952 )   (147,953 )   (146,150 )   (149,510 )   64,378  
(1)
On January 1, 2002, we adopted SFAS No. 142, "Goodwill and Other Intangible Assets." Pursuant to the requirements of SFAS No. 142, we ceased amortizing goodwill beginning January 1, 2002, and instead test for goodwill impairment annually. Amortization expense for goodwill and equity method goodwill was $9,762 and $11,962 in fiscal 2000 and 2001, respectively. Depreciation and amortization excludes amortization of debt issue costs.

(2)
Interest expense includes amortization of debt issue costs aggregating $2,362, $4,018, $3,664, $4,171 and $4,603 for the fiscal years ended December 31, 2000, 2001, 2002, 2003 and 2004. We prospectively adopted the provisions of SFAS No. 150, "Accounting for Certain Financial Instruments with Characteristics of Liabilities and Equity," effective July 1, 2003. SFAS No. 150 requires us to classify as a long-term liability our series A preferred stock and to reclassify dividends and accretion from the series A preferred stock as interest expense. Such stock is now described as "Preferred Shares Subject to Mandatory Redemption" in the balance sheet and dividends and accretion on these shares are now included in pre-tax income whereas previously they were presented as a reduction to equity (a dividend), and, therefore, a reduction of net income available to common stockholders. For the years ended December 31, 2004 and 2003, interest expense includes $20,181 and $9,049, respectively, related to dividends and accretion on preferred shares subject to mandatory redemption.

(3)
On January 1, 2001, we adopted the provisions of SFAS No. 133, "Accounting for Derivative Instruments and Certain Hedging Activities," as amended by SFAS No. 138. On the date of adoption, we recorded a cumulative adjustment of $4,664 in accumulated other comprehensive income for the fair value of interest rate swaps. Because the interest rate swaps did not qualify as accounting hedges under SFAS No. 133, the change in fair value of the interest rate swaps were recorded as non operating gains or losses, which we classify in other income (expense). We also recorded other income (expense) in 2001, 2002 and 2003 for the amortization of the transition adjustment of the swaps initially recognized in accumulated other comprehensive income. In the second quarter of 2002, we adopted SFAS No. 145 "Rescission of FASB Statements No. 4, 44, and 64, Amendment of FASB Statement No. 13 and Technical Corrections." This statement eliminates the requirement that gains and losses from the extinguishment of debt be required to be aggregated and, if material, classified as an extraordinary item, net of related income tax effect. In 2003, other income (expense) includes a $3,465 gain on the extinguishment of debt and a $4,967 loss for the write-off of debt issue costs related to this extinguishment of debt. In 2004, other income (expense) includes a $5,951 loss for the write-off of debt issuance and offering costs associated with an abandoned offering of Income Deposit Securities.

(4)
In connection with the offering, we effected a 5.2773714 for 1 reverse stock split of our common stock. All share and per share amounts related to our common stock have been restated to reflect the reverse stock split.

(5)
EBITDA means net income (loss) before income (loss) from discontinued operations, interest expense, income taxes, and depreciation and amortization. We believe EBITDA is useful to investors because EBITDA is commonly used in the communications industry to analyze companies on the basis of operating performance, liquidity and leverage. We believe EBITDA allows a standardized comparison between companies in the industry, while minimizing the differences from depreciation policies, financial leverage and tax strategies. We also believe that EBITDA is useful as a means to evaluate our ability to pay dividends. While providing useful information, EBITDA should not be considered in isolation or as a substitute for consolidated statement of operations and cash flows data prepared in accordance with accounting principles generally accepted in the United States of America. See "Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources."

32

 
   Year Ended December 31,
  
 
   2004
   2003
   2002
   2001
   2000
  
Net cash provided by operating activities of continuing operations   $ 45,975   $ 32,834   $ 55,632   $ 35,717   $ 44,706  
Adjustments:                                
  Depreciation and amortization     (50,287 )   (48,089 )   (46,310 )   (55,081 )   (46,146 )
  Impairment of investments     (349 )   —     (12,568 )   —     —  
  Other non-cash items     (20,618 )   1,866     1,281     (9,712 )   7,439  
  Changes in assets and liabilities arising from continuing operations, net of acquisitions     926     5,139     (6,729 )   3,654     (21,190 )
   
 
 
 
 
 

Loss from continuing operations
 
 
(24,353
)
 
(8,250
)
 
(8,694
)
 
(25,422
)
 
(15,191
)
Adjustments:                                
Interest expense(2)(3)     104,315     90,224     69,520     76,314     59,556  
Provision (benefit) for income tax expense     516     (236 )   518     431     5,607  
Depreciation and amortization     50,287     48,089     46,310     55,081     46,146  
   
 
 
 
 
 

EBITDA
 
$
130,765
 
$
129,827
 
$
107,654
 
$
106,404
 
$
96,118
 
   
 
 
 
 
 
 
   Year Ended December 31,
  
 
   2004
   2003
   2002
   2001
   2000
  
EBITDA   $ 130,765   $ 129,827   $ 107,654   $ 106,404   $ 96,118  
Net (gain) loss on sale of investments and other assets     (104 )   (608 )   (34 )   648     (6,642 )
Impairment on investments     349     —     12,568     —     —  
Equity in net earnings of investees     (10,899 )   (10,092 )   (7,798 )   (4,930 )   (4,807 )
Distributions from investments(7)     15,017     10,775     9,018     5,013     3,155  
Realized and unrealized losses on interest rate swaps     112     1,387     9,577     12,873     —  
Loss on early retirement of debt     —     1,503     —     —     —  
Non-cash stock based compensation     49     15     924     1,337     12,323  
Write-off of cost associated with an abandoned offering of Income Deposit Securities     5,951     —     —     —     —  
Deferred patronage dividends     (84 )   (233 )   (253 )   (394 )   (113 )
   
 
 
 
 
 
Adjusted EBITDA   $ 141,156   $ 132,574   $ 131,656   $ 120,951   $ 100,034  
   
 
 
 
 
 
(6)
Total access line equivalents includes voice access lines and digital subscriber lines.

33

(7)
Includes distributions relating to minority investments and passive partnership interests. We do not control the timing or the amount of such distributions. The $15.0 million in distributions received in the year ended December 31, 2004 includes a non-recurring distribution of approximately $2.5 million. See "Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources."

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

        The following discussion should be read in conjunction with our financial statements and the notes thereto included elsewhere in this Annual Report. The following discussion includes certain forward-looking statements. For a discussion of important factors, including the continuing development of our business, actions of regulatory authorities and competitors and other factors which could cause actual results to differ materially from the results referred to in the forward-looking statements, see "—Risk Factors."

Overview

        We are a leading provider of communications services in rural communities, offering an array of services, including local and long distance voice, data, Internet and broadband product offerings. We are one of the largest telephone companies in the United States focused on serving rural communities and we are the 17th largest local telephone company, in each case based on number of access lines. We operate in 17 states with approximately 271,150 access line equivalents (including voice access lines and digital subscriber lines) in service as of December 31, 2004.

        We were incorporated in February 1991 for the purpose of operating and acquiring incumbent telephone companies in rural markets. Since 1993, we have acquired 30 such businesses, 26 of which we continue to own and operate. Many of our telephone companies have served their respective communities for over 75 years. The majority of the rural communities we serve have fewer than 2,500 access lines. All of our telephone company subsidiaries qualify as rural local exchange carriers under the Telecommunications Act.

        Rural local exchange carriers generally are characterized by stable operating results and strong cash flow margins and operate in supportive regulatory environments. In particular, existing state and federal regulations permit us to charge rates that enable us to recover our operating costs, plus a reasonable rate of return on our invested capital (as determined by relevant regulatory authorities). Competition is typically limited because rural local exchange carriers primarily serve sparsely populated rural communities with predominantly residential customers, and the cost of operations and capital investment requirements for new entrants is high. As a result, in our markets, we have experienced virtually no wireline competition and limited competition from cable providers. While most of our markets are served by wireless service providers, their impact on our business has been limited.

        Access lines are an important element of our business. Historically, rural telephone companies have experienced consistent growth in access lines because of positive demographic trends, insulated rural local economies and little competition. Recently, however, many rural telephone companies have experienced a loss of access lines due to challenging economic conditions, increased competition and the introduction of digital subscriber line services. We have not been immune to these conditions. We have been able to mitigate our access line loss through bundling services, win-back programs, increased community involvement and a variety of other programs.

        Despite our net loss of voice access lines, we have generated growth in our revenues each year since 1999. We have accomplished this by providing our customers with services not previously available in most of our markets, such as enhanced voice services and data services, including digital subscriber line services, and through acquisitions.

34


Revenues

        We derive our revenues from:

35

        The following summarizes our revenues and percentage of revenues from continuing operations from these sources:

 
   Year ended December 31,
   Year ended December 31,
  
 
   2004
   2003
   2002
   2004
   2003
   2002
  
 
   Revenue (in thousands)

   % of Revenue

  
Local calling services   $ 63,150   $ 56,078   $ 54,000   25 % 24 % 23 %
Universal Service Fund high cost loop     22,151     18,903     22,429   9   8   10  
Interstate access     70,297     66,564     65,769   28   29   29  
Intrastate access     42,389     43,969     43,848   17   19   19  
Long distance services     17,766     15,440     16,763   7   7   7  
Data and Internet services     19,054     13,431     10,257   7   6   4  
Other services     17,838     17,047     17,753   7   7   8  
   
 
 
 
 
 
 
Total   $ 252,645   $ 231,432   $ 230,819   100 % 100 % 100 %
   
 
 
 
 
 
 

Operating Expenses

        Our operating expenses are categorized as operating expenses; depreciation and amortization; and stock based compensation.

Acquisitions

        We intend to continue to pursue selective acquisitions:

36


        In the normal course of business, we evaluate selective acquisitions and may enter into non-binding letters of intent with respect to such acquisitions, subject to customary conditions. Management currently intends to fund future acquisitions through additional financing. However, our substantial amount of indebtedness and our dividend policy could restrict our ability to obtain such financing on acceptable terms or at all.

Stock Based Compensation

        In February 2005, we issued 473,716 shares of restricted stock under our 2005 Stock Incentive Plan. This issuance will result in recognition of an additional compensation expense of approximately $2.2 million in 2005. In addition, 473,725 shares of our common stock may be issued in the future pursuant to awards authorized under our 2005 Stock Incentive Plan which could result in an additional compensation expense.

        Non-cash compensation charges associated with restricted stock units were $0.2 million for 2004. In October 2004, we recorded a non-cash compensation charge of $0.3 million in connection with the modification of employee stock options of one of our officers. In December 2004, we recognized a non-cash compensation benefit of $0.4 million associated with the reduction in estimated fair market value of the stockholder appreciation rights agreements.

        In 2003, we did not recognize any material non-cash compensation charges, primarily due to the fact that the fair market value per share of our common stock remained relatively stable.

        In March 2002, we recognized a non-cash compensation benefit of $0.2 million associated with the reduction in estimated fair market value of the stockholder appreciation rights agreements. In December 2002, an additional benefit of $0.1 million was recognized in connection with these agreements. This benefit was offset by a non-cash compensation charge of $1.2 million in connection with the modification of employee stock options by one of our officers.

Discontinued Operations

        On September 30, 2003, MJD Services completed the sale of all of the capital stock owned by MJD Services of Union Telephone Company of Hartford, Armour Independent Telephone Co., WMW Cable TV Co. and Kadoka Telephone Co. to Golden West. The sale was completed in accordance with the terms of the South Dakota purchase agreement. MJD Services received approximately $24.2 million in proceeds from the South Dakota disposition. The companies sold to Golden West provided communication services to approximately 4,150 voice access lines located in South Dakota as of the date of such disposition. The operations of these companies were presented as discontinued operations beginning in the second quarter of 2003. Therefore, the balances associated with these activities were reclassified as "held for sale." All prior period financial statements have been restated accordingly. We recorded a gain on disposal of the South Dakota companies of $7.7 million during the third quarter of 2003.

        In November 2001, we decided to discontinue the competitive local exchange carrier operations of Carrier Services. This decision was a proactive response to the deterioration in the capital markets, the general slow-down of the economy and the slower-than-expected growth in Carrier Services' competitive local exchange carrier operations. Carrier Services now provides wholesale long distance services and support to our rural local exchange carriers and communications providers not affiliated with us. These services allow such companies to operate their own long distance communication services and sell such services to their respective customers. Our long distance business is included as part of continuing operations in the accompanying financial statements.

        The information in our year to year comparisons below represents only our results from continuing operations.

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Results of Operations

        The following table sets forth the percentages of revenues represented by selected items reflected in our consolidated statements of operations. The year to year comparison of financial results are not necessarily indicative of future results:

 
   Year Ended December 31,
  
 
   2004
   2003
   2002
  
Revenues   100.0 % 100.0 % 100.0 %
  Operating expenses   50.9   48.0   47.8  
  Depreciation and amortization   19.9   20.8   20.1  
  Stock based compensation   0.1   —   0.4  
   
 
 
 

Total operating expenses
 
70.9
 
68.8
 
68.3
 
   
 
 
 

Income from operations
 
29.1
 
31.2
 
31.7
 
   
 
 
 
  Net gain on sale of investments and other assets   —   0.3   —  
  Interest and dividend income   0.9   0.8   0.8  
  Interest expense   (41.3 ) (39.0 ) (30.1 )
  Impairment of investments   0.1   —   (5.4 )
  Equity in net earnings of investees   4.3   4.4   3.4  
  Realized and unrealized losses on interest rate swaps   —   (0.6 ) (4.1 )
  Other non-operating, net   (2.5 ) (0.7 ) 0.2  
   
 
 
 

Total other expense
 
(38.5
)
(34.8
)
(35.2
)
   
 
 
 

Loss from continuing operations before income taxes
 
(9.4
)
(3.6
)
(3.5
)
Income tax benefit (expense)   (0.2 ) 0.1   (0.3 )
   
 
 
 

Loss from continuing operations
 
(9.6
)%
(3.5
)%
(3.8
)%
   
 
 
 

Year Ended December 31, 2004 Compared with Year Ended December 31, 2003

        Revenues.    Revenues increased $21.2 million to $252.6 million in 2004 compared to $231.4 million in 2003. Of this increase, $8.2 million was attributable to the Maine acquisition and $13.0 million was attributable to our existing operations. We derived our revenues from the following sources:

        Local calling services.    Local calling service revenues increased $7.1 million from $56.1 million in 2003 to $63.2 million in 2004. Revenue from our existing operations increased $4.2 million. Of this increase, $3.6 million is attributable to the implementation of Basic Service Calling Areas in the state of Maine, which changes and expands basic service calling areas and has the effect of shifting revenues from intrastate access to local services. The remaining increase of $0.6 million in local revenues from existing operations is due to increases in local calling features and local interconnection revenues, despite a 2.9% decline in net voice access lines. The remaining increase in local calling service revenues was attributable to the Maine acquisition.

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        Universal Service Fund high cost loop support.    Universal Service Fund high cost loop payments increased $3.3 million to $22.2 million in 2004 from $18.9 million in 2003. Our existing operations accounted for all of this increase. A reclassification of plant has increased our Universal Service Fund payments in our Maine and Idaho companies that has more than offset a drop in payments from the Universal Service Fund related to increases in the national average cost per loop.

        Interstate access.    Interstate access revenues increased $3.7 million from $66.6 million in 2003 to $70.3 million in 2004. Of the increase, $3.1 million was attributable to the Maine acquisition. Our existing operations accounted for the remaining $0.6 million increase. This increase was due to expense increases from our regulated operations that resulted in higher interstate revenue requirements.

        Intrastate access.    Intrastate access revenues decreased from $44.0 million in 2003 to $42.4 million in 2004. The decrease from our existing operations was $2.6 million before being offset by $1.0 million in revenues contributed by the Maine acquisition. The decrease was mainly attributable to the Basic Service Calling Areas plan implemented in Maine as discussed above in local calling services.

        Long distance services.    Long distance services revenues increased $2.3 million from $15.4 million in 2003 to $17.7 million in 2004. This increase was all attributable to our existing operations as a result of promotional efforts and bundles with unlimited long distance designed to generate more revenue.

        Data and Internet services.    Data and internet services revenues increased $5.7 million from $13.4 million in 2003 to $19.1 million in 2004. The increase is due primarily to increases in digital subscriber line customers as we continue to aggressively market our broadband services. Our digital subscriber line customer base increased from 17,937 customers as of December 31, 2003 to 31,876 customers as of December 31, 2004, a 78% increase during this period. The Maine acquisition contributed the remaining revenue increase of $0.6 million.

        Other services.    Other revenues increased from $17.0 million in 2003 to $17.8 million in 2004. Of the increase, $0.6 million was attributed to the Maine acquisition. An increase of $0.2 million from existing operations was due to a $1.2 million one-time sale and installation of E911 system equipment. This was offset by approximately $1.0 million of reductions in billing and collections revenues, as inter-exchange carriers continue to take back the billing function for their more significant long distance customers. We expect the billing and collection trend to continue.

        Operating expenses and cost of goods sold, excluding depreciation and amortization. Operating expenses increased $17.6 million to $128.8 million in 2004 from $111.2 million in 2003. Of the increase, $13.5 million is related to our existing operations and $4.1 million is related to expenses of the companies we acquired in 2003 in the Maine acquisition. Wages and benefits increased $4.4 million due to merit salary increases, an increase in our bonus compensation and an increase in the number of our employees compared to a year ago. Network operations expense, wholesale digital subscriber line charges and transport and network costs associated with our broadband initiatives increased $4.0 million. Cost of goods sold associated with the one-time sale and installation of E911 system equipment was $1.0 million in 2004. Bad debt expense was $1.6 million higher in 2004 than 2003 due primarily to a $0.9 million recovery received in 2003. Marketing and promotion expenses increased $0.6 million due to higher levels of activity related to the promotion of custom calling features, data services and other products. Billing costs have increased $1.0 million as we incurred costs associated with the conversion of our billing systems into an integrated platform. The balance of the increase is attributable to smaller miscellaneous items.

        Depreciation and amortization.    Depreciation and amortization from continuing operations increased $2.2 million to $50.3 million in 2004 from $48.1 million in 2003. The Maine acquisition

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accounted for $1.2 million of the increase and $0.3 million was attributable to the increased investment in our communications network for existing operations we acquired prior to 2003. The other $0.7 million was related to accelerated depreciation on wireless equipment due to a decision to exit certain wireless markets.

        Stock based compensation.    For the year ended December 31, 2004, stock based compensation of $49,000 was incurred as a result of modification of an employee stock option agreement with an executive officer and compensation expense from restricted stock units, offset by the decrease in the estimated value of fully vested stockholder appreciation rights agreements. The restricted stock units issued in December of 2003 resulted in a compensation charge of $0.2 million. Stock based compensation for the year ended December 31, 2003 was $15,000.

        Income from operations.    Income from operations increased $1.5 million to $73.6 million in 2004 from $72.1 million in 2003. A $1.5 million decrease attributable to our existing operations was offset by a $3.0 million increase attributable to the Maine acquisition.

        Other income (expense).    Total other expense increased $16.8 million to $97.4 million in 2004 from $80.6 million in 2003. The increase consisted primarily of interest expense on long-term debt, which increased $14.1 million to $104.3 million in 2004 from $90.2 million in 2003, which was mainly attributable to the issuance of the 117/8% notes during the first quarter of 2003 at a higher interest rate than prior debt financings and the adoption of Statement of Financial Accounting Standards 150 as of July 1, 2003, the latter of which resulted in our recording $20.2 million in interest expense related to dividends and accretion on our series A preferred stock for the year ended December 31, 2004 compared to $9.0 million for the year ended December 31, 2003. Earnings from equity investments increased $0.8 million to $10.9 million in 2004 from $10.1 million in 2003. For the twelve months ended December 31, 2004, other non-operating income (expense) includes the write-off of debt issuance and offering costs of $6.0 million associated with an abandoned offering of Income Deposit Securities. For the year ended December 31, 2003, other non-operating income (expense) of $1.5 million represents the net loss on the extinguishment of debt and expenses related to the loss on the write-off of loan origination costs. In conjunction with the issuance of $225.0 million of the 117/8% notes during the first quarter of 2003, we recorded $3.5 million in non-operating gains on the extinguishment of a portion of the 91/2% notes, the 121/2% notes and loans under Carrier Services' credit facility. These gains were offset by a non-operating loss of $5.0 million for the write-off of debt issue costs related to this extinguishment of debt in 2003.

        The following is a summary of amounts included in realized and unrealized gains (losses) on interest rate swaps (dollars in thousands):

 
   2004
   2003
  
Change in fair value of interest rate swaps   $ 874   $ 7,693  
Reclassification of transition adjustment included in other comprehensive income (loss)     (103 )   (1,029 )
Realized losses     (883 )   (8,051 )
   
 
 
  Total   $ (112 ) $ (1,387 )
   
 
 

        Income tax expense.    Income tax expense from continuing operations increased $0.7 million to $0.5 million in 2004 from a benefit of $0.2 million in 2003. The income tax expense relates primarily to income taxes owed in certain states offset by investment tax credits in certain states.

        Discontinued operations.    Net income from discontinued operations of our existing operations sold in the South Dakota disposition was $1.9 million in 2003. The companies were sold on September 30, 2003 and resulted in the recognition of a gain on disposal of the discontinued operations of

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$7.7 million during 2003. During the twelve months ended December 31, 2004 and 2003, we recorded a reduction to our liability associated with the discontinuation of our competitive local exchange carrier operations of $0.7 million and $0.3 million, respectively. This was mainly attributable to excise tax refunds received from the Internal Revenue Service as well as a reduction in liabilities associated with potential property tax payments.

        Net income (loss).    Net loss attributable to common stockholders for the year ended December 31, 2004 was $23.7 million. Our 2003 net loss attributable to common shareholders was $4.3 million after giving effect to $8.9 million in dividends and accretion related to our series A preferred stock and the repurchase of our series A preferred stock at a discount of $2.9 million. The difference between 2004 and 2003 is a result of the factors discussed above.

Year Ended December 31, 2003 Compared with Year Ended December 31, 2002

        Revenues.    Revenues increased $0.6 million to $231.4 million in 2003 compared to $230.8 million in 2002. Of this increase, $0.7 million was attributable to the Maine acquisition and $1.5 million in revenues from our existing operations. This was offset by a decrease to revenues of $1.6 million from our wholesale long distance company. We derived our revenues from the following sources:

        Local calling services.    Local calling service revenues increased $2.1 million from $54.0 million in 2002 to $56.1 million in 2003. Despite a 0.5% decline in net voice access lines, revenues from our existing operations increased $1.8 million due to increases in local calling features and local interconnection revenues. The remaining increase in local calling service revenues of $0.3 million was attributable to the Maine acquisition.

        Universal Service Fund high cost loop support.    Universal Service Fund high cost loop payments decreased $3.5 million to $18.9 million in 2003 from $22.4 million in 2002. Our existing operations accounted for all of this decrease. The support from the high cost loop fund is associated with historical expense levels of our companies that exceed the national average cost per loop. The historical expenses occur two years prior to the receipt of the Universal Service Fund revenues. Historical expenses related to a performance share plan paid in 2000 by an acquired company resulted in Universal Service Fund payments in 2002 which did not recur in 2003. In addition to this decrease, the Universal Service Fund payments declined due to increases in the national average cost per loop.

        Interstate access.    Interstate access revenues increased $0.8 million from $65.8 million in 2002 to $66.6 million in 2003. Our existing operations accounted for $0.5 million of this increase due to operating expense increases that resulted in higher interstate revenue requirements and $0.3 million was attributable to the Maine acquisition.

        Intrastate access.    Intrastate access revenues increased slightly from $43.8 million in 2002 to $44.0 million in 2003. This slight increase was attributable to the Maine acquisition. While consolidated access revenues were relatively flat, lower access rates in a few of the states in which we operate were generally offset by higher minutes of use in other states in which we operate.

        Long distance services.    Long distance services revenues decreased $1.4 million from $16.8 million in 2002 to $15.4 million in 2003. An approximately $0.2 million increase was attributable to our existing rural local exchange carrier operations. Carrier Services revenues decreased by $1.6 million as a result of rate increases from its underlying toll carriers, which resulted in the loss of wholesale customers by Carrier Services.

41


        Data and Internet services.    Data and Internet services revenues increased $3.1 million from $10.3 million in 2002 to $13.4 million in 2003. This increase is primarily from an increase of digital subscriber line customers from 6,659 to 17,937, an increase of 169%.

        Other services.    Other revenues decreased by $0.8 million from $17.8 million in 2002 to $17.0 million in 2003 at our existing operations. This decrease is mainly associated with reductions in billing and collections revenues, as interexchange carriers continue to take back the billing function for their more significant long distance customers. We expect this trend to continue.

        Operating expenses, excluding depreciation and amortization.    Operating expenses increased $0.9 million to $111.2 million in 2003 from $110.3 million in 2002. Expenses of our wholesale long distance company decreased $0.7 million as a result of lower minutes of use from our wholesale customers. This decrease was offset by an increase of $1.3 million related to our existing operations and $0.3 million related to expenses of the companies we acquired in 2003 in the Maine acquisition. Several items contributed to the expense increase, including network operations expense, transport and network costs associated with our broadband initiatives. Expenses also increased because of an increase in the Universal Service Fund life line fund contribution expense which is directly assigned to the interstate revenue requirement and is fully recovered via our interstate revenues. Marketing and promotion expenses increased due to higher levels of activity related to the promotion of custom calling features, data services and other performance products. The increased expenses in 2003 would have been larger except for lower compensation costs in 2003 as a result of employee termination costs incurred in 2002, as well as a $1.9 million bad debt expense incurred in 2002 when a carrier declared bankruptcy and a $0.6 million recovery of this write-off received in 2003 resulting in a year over year decrease in bad debt expense of $2.5 million.

        Depreciation and Amortization.    Depreciation and amortization from continuing operations increased $1.8 million to $48.1 million in 2003 from $46.3 million in 2002. An increase of $1.7 million was attributable to the increased investment in our communications network by existing operations we acquired prior to 2003 and $0.1 million was attributable to the Maine acquisition.

        Stock Based Compensation.    For the year ended December 31, 2002, stock based compensation of $0.9 million was incurred, including $1.2 million resulting from a modification of an employee stock option agreement with an executive officer, offset by the decrease in the estimated value of fully vested stockholder appreciation rights agreements of $0.3 million. Stock based compensation for the year ended December 31, 2003 was $15,000.

        Income from Operations.    Income from continuing operations decreased $1.2 million to $72.1 million in 2003 from $73.3 million in 2002. A $0.5 million decrease attributable to our existing operations and a decrease of $1.0 million from our wholesale long distance company was offset by a $0.3 million increase attributable to the Maine acquisition.

        Other Income (Expense).    Total other expense from continuing operations decreased $0.9 million to $80.6 million in 2003 from $81.5 million in 2002. The expense consisted primarily of interest expense on long-term debt. Interest expense increased $20.7 million to $90.2 million in 2003 from $69.5 million in 2002, mainly attributable to our March 2003 debt refinancing and our early adoption of SFAS 150, as of July 1, 2003, the latter of which resulted in our recording $9.0 million in interest expense related to dividends and accretion on preferred shares subject to mandatory redemption. During 2002, we recorded non-cash impairment of investments of $12.6 million which is associated with other than temporary declines in fair value of approximately $8.2 million of Choice One stock and a write-down of $4.4 million for certain investments accounted for under the equity method. There were no similar impairment losses recorded in 2003. Earnings in equity investments increased $2.3 million to

42


$10.1 million in 2003 from $7.8 million in 2002. Other non-operating income (expense) includes net gain (loss) on the extinguishment of debt and expenses related to the loss on the write-off of loan origination costs. As a result of the issuance of $225.0 million of the 117/8% notes during the first quarter of 2003, we recorded $2.8 million and $0.7 million of non-operating gains on the extinguishment of a portion of the 91/2% notes and the 121/2% notes and loans under Carrier Services' credit facility, respectively. Additionally, we recorded a non-operating loss of $5.0 million for the write-off of debt issue costs related to this extinguishment of debt in 2003.

        The following is a summary of amounts included in realized and unrealized gains (losses) on interest rate swaps (dollars in thousands):

 
   2003
   2002
  
Change in fair value of interest rate swaps   $ 7,693   $ 2,135  
Reclassification of transition adjustment included in other comprehensive income (loss)     (1,029 )   (1,437 )
Realized gains (losses)     (8,051 )   (10,275 )
   
 
 
  Total   $ (1,387 ) $ (9,577 )
   
 
 

        Income Tax Benefit.    Income tax benefit from continuing operations increased $0.7 million to $0.2 million in 2003 from an expense of $0.5 million in 2002. The income tax benefit related primarily to income taxes owed in certain states offset by investment tax credits in certain states.

        Discontinued Operations.    In November 2001, we decided to discontinue the competitive local exchange carrier operations of Carrier Services. Net income from discontinued operations of our competitive local exchange carrier operations was $0.3 million and $19.5 million for 2003 and 2002, respectively. The income in 2002 was a result of a gain on extinguishment of debt attributable to Carrier Services. Net income from discontinued operations of our existing operations sold in the South Dakota disposition was $1.9 million and $2.4 million for 2003 and 2002, respectively. We recorded a gain on disposal in connection with the South Dakota disposition of $7.7 million in 2003.

        Net Income (Loss).    Our 2003 net loss attributable to common shareholders was $4.3 million after giving effect to $8.9 million in dividends and accretion related to our series A preferred stock and the repurchase of series A preferred stock at a discount of $2.9 million. Additionally, as a result of the adoption of SFAS 150 on July 1, 2003, the dividends and accretion of $9.0 million related to these instruments is included as a reduction of net income for the third and fourth quarters of 2003. Our 2002 net income attributable to common shareholders was $1.3 million after giving effect to $11.9 million in dividends and accretion related to our series A preferred stock. The differences between the 2003 and 2002 net income (loss) are a result of the factors discussed above.

Liquidity and Capital Resources

        Our short-term and long-term liquidity needs arise primarily from: (i) interest payments, which are expected to be approximately $39.0 million to $40.0 million in 2005, primarily related to our credit facility; (ii) capital expenditures, which are expected to be approximately $31.0 million in 2005; (iii) working capital requirements as may be needed to support the growth of our business; (iv) dividend payments on our common stock; and (v) potential acquisitions. Our board of directors has adopted a dividend policy which reflects our judgment that our stockholders would be better served if we distributed a substantial portion of our cash available for distribution to them instead of retaining it in our business.

        We intend to fund our operations, interest expense, capital expenditures, working capital requirements and dividend payments on our common stock from cash from operations. To fund future acquisitions, we intend to use borrowings under our credit facility, or, subject to the restrictions in our

43


credit facility, to arrange additional funding through the sale of public or private debt and/or equity securities, or obtain additional senior bank debt.

        For the years ended December 31, 2004, 2003 and 2002, cash provided by operating activities of continuing operations was $46.0 million, $32.8 million and $55.6 million, respectively.

        Our ability to service our indebtedness depends on our ability to generate cash in the future. We are not required to make any scheduled amortization payments under our credit facility's term loan facility which matures in February 2012. We will need to refinance all or a portion of our indebtedness on or before maturity. We may not be able to refinance our indebtedness on commercially reasonable terms or at all. If we were unable to renew or refinance our credit facility, our failure to repay all amounts due on the maturity date would cause a default under our credit facility. In addition, borrowings under our credit facility bear interest at variable interest rates. In connection with the offering, we entered into three interest rate swap agreements which fixed the interest rate on approximately $130.0 million of the term loans under our credit facility at 6.11% until December 31, 2009, fixed the interest rate on approximately $130.0 million of the term loans under our credit facility at 5.98% until December 31, 2008 and fixed the interest rate on approximately $130.0 million of the term loans under our credit facility at 5.76% until December 31, 2007. After these interest rate swap agreements expire, our annual debt service obligations on such portion of the term loans will vary from year to year unless we enter into a new interest rate swap or purchase an interest rate cap or other interest rate hedge. An increase of ten percent in the annual interest rate applicable to borrowings under the term loan facility of our credit facility would result in an increase of approximately $0.9 million in our annual cash interest expense, and a corresponding decrease in cash available to pay dividends on our common stock. If we choose to enter into a new interest rate swap or purchase an interest rate cap or other interest rate hedge in the future, the amount of cash available to pay dividends on our common stock may decrease. However, to the extent interest rates increase in the future, we may not be able to enter into a new interest rate swap or to purchase an interest rate cap or other interest rate hedge on acceptable terms.

        Based on the dividend policy with respect to our common stock, we may not have any significant cash available to meet any unanticipated liquidity requirements, other than available borrowings, if any, under our new revolving facility. As a result, we may not retain a sufficient amount of cash to finance growth opportunities, including acquisitions, or unanticipated capital expenditures or to fund our operations. If we do not have sufficient cash for these purposes, our financial condition and our business will suffer. However, our board of directors may, in its discretion, amend or repeal the dividend policy to decrease the level of dividends provided for or discontinue entirely the payment of dividends.

        We used net proceeds received from the offering, together with approximately $566.0 million of borrowings under the term loan facility of our credit facility, to, among other things, repay all outstanding loans under our old credit facility, repurchase all of our series A preferred stock and consummate tender offers and consent solicitations in respect of our outstanding 91/2% notes, floating rate notes, 121/2% notes and 117/8% notes. On March 10, 2005, we redeemed the remaining outstanding 91/2% notes and floating rate notes. We intend to redeem the remaining outstanding 121/2% notes on May 1, 2005 with borrowings under the delayed draw facility of our credit facility.

        Net cash used in investing activities from continuing operations was $21.0 million, $54.0 million and $30.3 million for the years ended December 31, 2004, 2003 and 2002, respectively. These cash flows primarily reflect capital expenditures of $36.5 million, $33.6 million and $38.8 million for the years ended December 31, 2004, 2003 and 2002, respectively, and acquisitions of telephone properties, net of cash acquired of $33.1 million for the year ended December 31, 2003. There were no acquisitions during 2004 or 2002.

44


        Offsetting capital expenditures were distributions from investments of $15.0 million, $10.8 million and $9.0 million for the years ended December 31, 2004, 2003 and 2002, respectively. The $15.0 million received in the year ended December 31, 2004 includes a non-recurring $2.5 million distribution to one of our subsidiaries, Chouteau Telephone Company, indirectly from Independent Cellular Telephone LLC resulting from the sale of Independent Cellular Telephone LLC's membership interest in an operating cellular limited liability company. These investments represent minority investments and passive partnership interests. We do not control the timing or amount of distributions from such investments or interests. In addition, we have been advised that one of these partnerships has adjusted its pricing structure. Based on such adjustments, the amount of future distributions from this partnership will decrease. Future price adjustments, if any, may result in a significant decrease in distributions from this partnership. Historically, the amount of distributions from this partnership represented a material portion of our cash flow.

        Net cash used in financing activities from continuing operations was $24.0 million, $2.0 million and $12.5 million for the years ended December 31, 2004, 2003 and 2002, respectively. These cash flows primarily represent net repayment of long-term debt of $15.2 million and $7.8 million in debt issuance and offering related costs for the year ended December 31, 2004. For the year ended December 31, 2003, net proceeds from the issuance of long term debt of $23.3 million were offset by debt issuance costs of $15.6 million and the repurchase of our series A preferred stock and class A common stock of $8.6 million. For the year ended December 31, 2002, net repayments of long-term debt were $11.5 million.

        Our annual capital expenditures for our rural telephone operations have historically been significant. Because existing regulations allow us to recover our operating and capital costs, plus a reasonable return on our invested capital in regulated telephone assets, capital expenditures have historically constituted an attractive use of our cash flow. Capital expenditures were approximately $36.5 million, $33.6 million and $38.8 million for the years ended December 31, 2004, 2003 and 2002, respectively. These amounts include $4.4 million and $2.0 million for the years ended December 31, 2004 and 2003, respectively, of non-recurring capital expenditures related to the conversion of our six billing systems into an integrated billing platform and the centralization of our customer service records. These amounts also include $9.0 million and $4.8 million for the years ended December 31, 2004 and 2003, respectively, of non-recurring capital expenditures related to capital investments in digital subscriber line access multiplexers and other plant upgrades associated with our accelerated digital subscriber line initiative that began during the third quarter of 2003. As a result, approximately 93% of our exchanges are broadband capable as of December 31, 2004 and management expects that digital subscriber line investments will decrease significantly in 2005. Our management views non-recurring capital expenditures as either one-time capital expenditures or discretionary capital expenditures which are not necessary to maintain and enhance our network infrastructure or operate our business.

        We expect that our annual capital expenditures for our existing operations will be approximately $31.0 million for fiscal 2005 through fiscal 2009. We estimate that approximately $28.0 million of this amount will be used to maintain and enhance our network infrastructure and operate our business. This includes expenditures to meet our network, product offering and customer requirements, such as investments in equipment, central office technology (which includes both hardware and software), inside and outside plant upgrades to meet network capacity requirements and normal repair and maintenance to our infrastructure. In addition, approximately $3.0 million of this amount will be available for one-time or discretionary capital expenditures, such as the billing systems conversion. We expect to fund all of these capital expenditures through our cash flow from operations. If cash is available beyond what is required to support our dividend policy, we may consider additional capital expenditures if we believe they are beneficial. Although the amount of our capital expenditures can fluctuate from quarter to quarter, on an annual basis we do not expect capital expenditures for our existing operations through fiscal 2009 to vary significantly from our estimated amounts.

45


        We intend to use borrowings under our credit facility's revolving facility to fund the acquisition of Berkshire, which we expect to close in the second quarter of 2005.

        Our old credit facility consisted of an $85.0 million revolving loan facility, of which $45.0 million was available at December 31, 2004, and two term facilities, a tranche A term loan facility of $40.0 million with $40.0 million outstanding at December 31, 2004 that matured on March 31, 2007 and a tranche C term loan facility with $102.4 million principal amount outstanding as of December 31, 2004 that matured on March 31, 2007. We repaid all of the borrowings under our old credit facility with a portion of net proceeds from the offering, together with borrowings under our credit facility.

        Our credit facility consists of a $100.0 million revolving loan facility, of which $99.0 million was available at March 15, 2005 (a $1.0 million letter of credit was issued as of such date), that matures in February 2011 and a term loan facility of $588.5 million (including a $22.5 million delayed draw facility) with $566.0 million outstanding at March 15, 2005 that matures in February 2012.

        In 1998, the Company issued $125.0 million aggregate principal amount of the 91/2% notes and $75.0 million aggregate principal amount of the floating rate notes. Both series of these notes mature on May 1, 2008. These notes are general unsecured obligations of the Company, subordinated in right of payment to all of the Company's senior debt. On February 9, 2005, we repurchased $115.0 million principal amount of the 91/2% notes and $50.8 million principal amount of the floating rate notes tendered pursuant to the tender offers for such notes. We redeemed the remaining $0.2 million principal amount of the outstanding 91/2% notes and $24.2 million principal amount of the floating rate notes on March 10, 2005.

        In 2000, the Company issued $200.0 million aggregate principal amount of the 121/2% notes. These notes mature on May 10, 2010. These notes are general unsecured obligations of the Company, subordinated in right of payment to all of the Company's senior debt. On February 9, 2005, we repurchased $173.1 million principal amount of the 121/2% notes tendered pursuant to the tender offer for such notes. We intend to redeem the remaining outstanding 121/2% notes on May 1, 2005.

        In 2003, the Company issued $225.0 million aggregate principal amount of the 117/8% notes. These notes mature on March 1, 2010. These notes are general unsecured obligations of the Company, ranking pari passu in right of payment with all existing and future senior debt of the Company, including all obligations under our credit facility, and senior in right of payment to all existing and future subordinated indebtedness of the Company. On February 9, 2005, we repurchased $223.0 million principal amount of the 117/8% notes tendered pursuant to the tender offer for such notes.

        For a summary description of our debt, see "—Description of Certain Indebtedness."

        In May 2002, Carrier Services entered into an amended and restated credit facility with its lenders to restructure its obligations under its credit facility. In the restructuring, (i) Carrier Services paid certain of its lenders $5.0 million to satisfy $7.0 million of obligations under the credit facility, (ii) the lenders converted approximately $93.9 million of the loans under the credit facility into shares of our series A preferred stock and (iii) the remaining loans under the credit facility and certain swap obligations were converted into $27.9 million of new term loans. In March 2003, we used a portion of the proceeds from the offering of the 117/8% notes and borrowings under our old credit facility's tranche A term loan facility to repay $2.2 million principal amount of loans under Carrier Services' credit facility, at approximately a 30% discount to par. On January 30, 2004, we used additional borrowings under our old credit facility's tranche A loan facility and a portion of the borrowings under our old credit facility's revolving loan facility to repay in full all indebtedness under Carrier Services' credit facility.

        In December 2004, we wrote off debt issuance and offering costs of $6.0 million associated with our abandoned offering of Income Deposit Securities. The offering of Income Deposit Securities was abandoned in favor of the offering. Debt issue and offering costs of $1.4 million that are a direct and incremental benefit to the transactions remain capitalized at December 31, 2004.

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        The tables set forth below contain information with regard to disclosures about contractual obligations and commercial commitments.

        The following table discloses aggregate information about our contractual obligations as of December 31, 2004 and the periods in which payments are due:

 
   Payments due by period
 
   Total
   Less than
1 year
   1-3
years
   3-5
years
   More than
5 years
 
   (Dollars in thousands)
Contractual obligations:                              
Debt maturing within one year   $ 27,256   $ 27,256   $ —   $ —   $ —
Long term debt     783,176     —     168,768     193,737     420,671
Preferred shares subject to mandatory redemption     126,750     —     —     —     126,750
Operating leases(1)     10,037     3,291     4,935     1,222     589
Deferred transaction fee(2)     8,445     —     —     —     8,445
Common stock subject to put options     1,136     1,000     136     —     —
Minimum purchase contract     7,766     5,828     1,938     —     —
   
 
 
 
 
Total contractual cash obligations   $ 964,566   $ 37,375   $ 175,777   $ 194,959   $ 556,455
   
 
 
 
 
(1)
Real property lease obligations of $5.8 million associated with the discontinued operations discussed in note 13 to our consolidated financial statements which are stated in this table at total contractual amounts. However, we have negotiated lease terminations or subleases on these properties to reduce the total obligation. Operating leases from continuing operations of $4.2 million are also included.

(2)
Payable to Kelso & Company upon the occurrence of certain events, which include the offering. See "Item 13. Certain Relationships and Related Transactions—Financial Advisory Agreements."

        The following table discloses aggregate information about our contractual obligations as of December 31, 2004 after giving effect to the transactions and the periods in which payments are due:

 
   Payments due by period
 
   Total
   Less than
1 year
   1-3
years
   3-5
years
   More than
5 years
 
   (Dollars in thousands)
Contractual obligations:                              
Debt maturing within one year   $ 524   $ 524   $ —   $ —   $ —
Long term debt     592,810     —     1,132     622     591,056
Operating leases(1)     10,037     3,291     4,935     1,222     589
Minimum purchase contract     7,766     5,828     1,938     —     —
   
 
 
 
 
Total contractual cash obligations   $ 611,137   $ 9,643   $ 8,005   $ 1,844   $ 591,645
   
 
 
 
 
(1)
Real property lease obligations of $5.8 million associated with the discontinued operations discussed in note 13 to our consolidated financial statements which are stated in this table at total contractual amounts. However, we have negotiated lease terminations or subleases on these properties to reduce the total obligation. Operating leases from continuing operations of $4.2 million are also included.

        As of December 31, 2004, we did not have any derivative financial instruments.

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Description of Certain Indebtedness

        Our credit facility consists of a credit agreement among the Company and certain financial institutions, with Deutsche Bank Trust Company Americas, as administrative agent. The Company is the borrower under the credit facility and each of the Company's direct subsidiaries is a guarantor of the Company's obligations.

        The credit facility consists of:

        The revolver has a swingline subfacility in an amount of $5.0 million and a letter of credit subfacility in an amount of $10.0 million, which will allow issuances of standby letters of credit for our account. The credit facility also permits interest rate and currency exchange swaps and similar arrangements that we may enter into with the lenders under the credit facility and/or their affiliates.

        We expect to borrow under the revolver from time to time to provide for working capital and general corporate needs, including to finance permitted acquisitions. The delayed draw facility was not drawn at the closing of the offering but may be drawn for a period of one year following the closing of the offering to redeem or repurchase any 121/2% notes or 117/8% notes not purchased in the tender offers for such notes, subject to the terms and conditions of the credit facility.

        The term loan matures in February 2012 and the revolver matures in February 2011.

        Features of the credit facility include:

        Interest Rate and Fees.    Borrowings bear interest, at our option, for the revolver and for the term loan at either (a) the Eurodollar rate plus an applicable margin or (b) a base rate, as such term is defined in the credit agreement, plus an applicable margin.

        The Eurodollar rate applicable margin and the base rate applicable margin for loans under our credit facility are 2.0% and 1.0%, respectively. Interest on swing line loans bear interest at the base rate plus the base rate applicable margin. Interest with respect to base rate loans is payable quarterly in arrears and interest with respect to Eurodollar loans is payable at the end of the applicable interest period and every three months in the case of interest periods in excess of three months.

        The credit facility provides for payment to the lenders of a commitment fee on any unused commitments equal to 0.5% per annum, payable quarterly in arrears, as well as other fees.

        We entered into three interest rate swap agreements which fixed the interest rate on approximately $130.0 million of the floating rate borrowings under the term loan at 6.11% until December 31, 2009, fixed the interest rate on approximately $130.0 million of floating rate borrowings under the term loan at 5.98% until December 31, 2008 and fixed the interest rate on approximately $130.0 million of the floating rate borrowings under the term loan at 5.76% until December 31, 2007. The floating rate borrowings under our credit facility bear interest at the Eurodollar rate plus 2.0%. These interest rate swap agreements effectively fixed the interest rate on 66% of our floating rate debt to a blended interest rate of not more than 5.95% per annum until December 31, 2007.

        Mandatory Prepayments.    The credit facility requires us first to prepay outstanding term loans under the credit facility and, thereafter, to repay loans under the new revolver and/or to reduce revolver commitments (or commitments under the delayed draw facility) under the credit facility with, subject to certain conditions and exceptions, 100% of the net cash proceeds we receive from any sale, transfer or other disposition of any assets, 100% of net casualty insurance proceeds and 100% of the

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net cash proceeds we receive from the issuance of permitted securities and, at certain times if we are not permitted to pay dividends, with 50% of the increase in our cumulative distributable cash (as defined below) during the prior fiscal quarter. Reductions to the revolving commitments under the credit facility from the foregoing recapture events will not reduce the revolving commitments under the credit facility below $50.0 million.

        Voluntary Prepayments.    The credit facility provides for voluntary prepayments of the revolver and the term loan and voluntary commitment reductions of the revolver (and the delayed draw facility), subject to giving proper notice and compensating the lenders for standard Eurodollar breakage costs, if applicable.

        Covenants.    The credit facility contains financial covenants, including, without limitation, the following tests: a minimum interest coverage ratio equal to or greater than 3.0:1 and a maximum leverage ratio equal to or less than 5.25:1.

        The credit facility contains customary affirmative covenants. The credit facility also contains negative covenants and restrictions, including, among others, with respect to redeeming and repurchasing our other indebtedness, loans and investments, additional indebtedness, liens, capital expenditures, changes in the nature of our business, mergers, acquisitions, asset sales and transactions with affiliates.

        Payment of Dividends.    Subject to the second sentence of the first paragraph under "Suspension of Dividend Payments" below, under the credit facility we are permitted to pay dividends for the period from the closing date of the offering through March 31, 2005. In addition, we may use all of our Cumulative Distributable Cash accumulated after April 1, 2005 to pay dividends, but we may not in general pay dividends in excess of such amount.

        Set forth below is a summary of certain of the defined terms that are used in the provisions governing the payment of dividends and mandatory payments during suspension of dividends under our credit facility.

        "Available Cash" means, for any reference period, an amount of cash equal to the sum (which may be negative) of (without duplication) (I) our Adjusted EBITDA for such reference period minus (II) the sum of (i) our consolidated interest expense during such reference period, to the extent included in determining such Adjusted EBITDA, (ii) all scheduled, mandatory and voluntary principal repayments in respect of our indebtedness made during such reference period (other than (x) repayments made during such reference period with the proceeds of indebtedness, equity issuances, asset sales or insurance recovery events, (y) repayments of revolving and swingline loans during such reference period, except to the extent resulting in a corresponding reduction of the total revolving commitment in an amount equal to such repayment) and (z) certain mandatory prepayments of term loans during such reference period, (iii) capital expenditures made by us in cash during such reference period (other than capital expenditures financed with the proceeds of indebtedness (other than revolving loans or swingline loans), equity issuances, assets sales and insurance recovery events), (iv) tax payments paid in cash during such reference period, (v) cash consideration paid by us during such reference period for acquisitions of equity interests and/or assets comprising a business or product line (whether pursuant to a permitted acquisition or otherwise), except to the extent financed with the proceeds of indebtedness or issuances of equity, (vi) investments (other than certain excluded investments) made by us during such reference period, (vii) the cash cost of any extraordinary losses and of any losses on sales of assets (other than in the ordinary course of business) during such reference period, in any such case to the extent included in determining Adjusted EBITDA for such reference period and (viii) cash payments made by us during such reference period on account of non-cash losses or non-cash charges accrued or expensed during or prior to such reference period, plus (III) the sum of (i) the cash amount of any extraordinary gains, and the cash amount realized on gains

49


on asset sales other than in the ordinary course of business, during such reference period, in any such case to the extent deducted in determining Adjusted EBITDA for such reference period, and (ii) cash received by us during such reference period on account of non-cash gains or non-cash income excluded from Adjusted EBITDA during or prior to such reference period.

        "Adjusted EBITDA" means, for any period, Consolidated Net Income for such period adjusted by (A) adding thereto (in each case (other than for purposes of clauses (v) and (vi) below), to the extent deducted in determining Consolidated Net Income for such period), without duplication, the sum of the amounts for such period of (i) provisions for taxes based on income, (ii) consolidated interest expense, (iii) amortization and depreciation expense (including any amortization or write-off related to the write-up of any assets as a result of purchase accounting and the write-off of deferred financing costs), (iv) losses on sales of assets (excluding sales in the ordinary course of business) and other extraordinary losses, (v) non-core income relating to non-core assets, to the extent not included in any determination of Consolidated Net Income for such period, (vi) dividends paid by CoBank to us on common stock of CoBank held by us, to the extent not included in any determination of Consolidated Net Income, (vii) the non-cash portion of any retirement or pension plan expense incurred by us, (viii) all one-time costs and expenses paid during such period in respect of the transactions and our abandoned offering of income deposit securities and (ix) any other non-cash charges (including non-cash costs arising from implementation of SFAS 106 and SFAS 109) accrued by us during such period (except to the extent any such charge will require a cash payment in a future period) and (B) subtracting therefrom (to the extent included in arriving at Consolidated Net Income for such period), without duplication, the sum of the amounts for such period of (i) gains on sales of assets (excluding sales in the ordinary course of business) and other extraordinary gains and (ii) all non-cash gains and non-cash income, all as determined for us on a consolidated basis in accordance with GAAP. Notwithstanding the foregoing, for purposes of determining the leverage ratio, Adjusted Consolidated EBITDA shall be determined on a pro forma basis.

        "Consolidated Net Income" means, for any period, our net income (or loss) on a consolidated basis for such period (taken as a single accounting period) determined in conformity with GAAP (after any deduction for minority interests), provided that there shall be excluded from the calculation thereof (without duplication) (i) the income (or loss) of any person (other than our subsidiaries) in which any other person (other than us) has a joint interest, except to the extent of the amount of dividends or other distributions actually paid to us by such person during such period, (ii) except for determinations expressly required to be made on a pro forma basis, the income (or loss) of any person accrued prior to the date it becomes a subsidiary of us or is merged into or consolidated with us or that person's assets are acquired by us and (iii) the income of any of our subsidiaries to the extent that the declaration or payment of dividends or similar distributions by that subsidiary of that income is not at the time permitted by operation of the terms of its charter or any agreement, instrument, judgment, decree, order, statute, rule or governmental regulation applicable to that subsidiary.

        "Cumulative Distributable Cash" means, as at any date of determination, an amount equal to the remainder of (i) Available Cash for the reference period most recently ended prior to such date less (ii) the sum of the aggregate amount of dividends paid by us during such reference period (other than dividends paid by us during the period from the closing of the offering through March 31, 2005) and the amount used to make certain investments.

        Suspension of Dividend Payments.    If we fail to meet the leverage ratio test of equal to or less than 5.00 to 1.00 (or fail to timely deliver financial statements with respect to such test), we will be required to suspend the payment of dividends on our common stock after the payment covering the period from the closing date of the offering through March 31, 2005. In addition, the payment of dividends will be suspended at any time a default or event of default exists under our credit facility or when we do not have at least $10.0 million of cash on hand (including unutilized commitments under the new revolver).

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        The leverage ratio will be tested quarterly. A determination as to whether dividend payments may be made will be based on the leverage ratio as of the end of the quarter ending immediately prior to the date of the proposed dividend payment.

        As of December 31, 2004, on a pro forma basis after giving effect to the transactions, our leverage ratio would have been 4.2:1.

        If we fail to achieve any of these financial levels for any quarter but resume compliance thereafter, we may resume dividend payments unless some other event described in the credit facility requiring suspension of dividend payments occurs.

        Guarantees/Collateral.    The credit facility is guaranteed, jointly and severally, subject to certain exceptions, by all first tier subsidiaries of the Company. We have provided to Deutsche Bank Trust Company Americas, as collateral agent for the benefit of the lenders under the credit facility and certain hedging creditors under permitted hedging agreements, collateral consisting of (subject to certain exceptions) 100% of our equity interests in the subsidiary guarantors and certain other intermediate holding company subsidiaries. Newly acquired or formed direct or indirect subsidiaries of the Company which own equity interests of any subsidiary that is an operating company will be required to provide the collateral described above.

        Events of Default.    The credit facility contains customary events of default, including but not limited to, failure to pay principal, interest or other amounts when due, breach of covenants or representations, cross-defaults to certain other indebtedness in excess of specified amounts, judgment defaults in excess of specified amounts, certain ERISA defaults, the failure of any guaranty or security document supporting the credit facility and certain events of bankruptcy and insolvency.

        The Company issued $125.0 million aggregate principal amount of the 91/2%% notes and $75.0 million of the floating rate notes in 1998. In March 2003, we repurchased $9.8 million aggregate principal amount of the 91/2% notes. The 91/2% notes bear interest at the rate of 91/2%% per annum and the floating rate notes bear interest at a rate per annum equal to LIBOR plus 418.75 basis points, in each case payable semi-annually in arrears. The LIBOR rate on the floating rate notes is determined semi-annually.

        The 91/2% notes and floating rate notes mature on May 1, 2008.

        The 91/2% notes and floating rate notes are general unsecured obligations of the Company, subordinated in right of payment to all existing and future senior indebtedness of the Company, including all obligations under our credit facility.

        The indenture governing the 91/2% notes and floating rate notes contains certain customary covenants and events of default.

        In connection with the offering, on January 5, 2005, we commenced a tender offer and consent solicitation for all of the outstanding principal amount of the 91/2% notes and the floating rate notes. On January 20, 2005, we executed a supplemental indenture, which became effective as of the closing of the offering, with respect to the indenture governing the 91/2% notes and the floating rate notes which eliminated substantially all of the covenants and the events of default in such indenture. On February 9, 2005, we repurchased $115.0 million principal amount of the 91/2%% notes and $50.8 million principal amount of the floating rate notes tendered pursuant to the tender offers for such notes. We redeemed the remaining $0.2 million aggregate principal amount of the 91/2%% notes and $24.2 million aggregate principal amount of the floating rate notes on March 10, 2005.

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        The Company issued $200.0 million aggregate principal amount of the 121/2% notes in 2000. In March 2003, we repurchased $7.0 million aggregate principal amount of the 121/2% notes. The 121/2% notes bear interest at the rate of 121/2% per annum payable semi-annually in arrears.

        The 121/2% notes mature on May 1, 2010. We may redeem the 121/2% notes at any time on or after May 1, 2005 at the redemption prices stated in the indenture under which the 121/2% notes were issued, together with accrued and unpaid interest, if any, to the redemption date. In the event of a change of control, we must offer to repurchase the outstanding 121/2% notes for cash at a purchase price of 101% of the principal amount of such notes, together with all accrued and unpaid interest, if any, to the date of repurchase.

        The 121/2% notes are general unsecured obligations of the Company, subordinated in right of payment to all existing and future senior indebtedness of the Company, including all obligations under our credit facility.

        The indenture governing the 121/2% notes contains certain customary covenants and events of default.

        In connection with the offering, on January 5, 2005, we commenced a tender offer and consent solicitation for all of the outstanding principal amount of the 121/2% notes. On January 20, 2005, we executed a supplemental indenture, which became effective as of the closing of the offering, with respect to the indenture governing the 121/2% notes which eliminated substantially all of the covenants and the events of default in such indenture. On February 9, 2005, we repurchased $173.1 million principal amount of the 121/2% notes tendered pursuant to the tender offer for such notes. We intend to redeem the remaining outstanding 121/2% notes on May 1, 2005.

        The Company issued $225.0 million aggregate principal amount of the 117/8% notes in 2003. The 117/8% notes bear interest at the rate of 117/8% per annum payable semi-annually in arrears.

        The 117/8% notes mature on March 1, 2010. We may redeem the 117/8% notes at any time on or after March 1, 2007 at the redemption prices stated in the indenture under which the 117/8% notes were issued, together with accrued and unpaid interest, if any, to the redemption date. In the event of a change of control, we must offer to repurchase the outstanding 117/8% notes for cash at a purchase price of 101% of the principal amount of such notes, together with all accrued and unpaid interest, if any, to the date of repurchase.

        The 117/8% notes are general unsecured obligations of the Company, ranking pari passu in right of payment with all existing and future senior debt of the Company, including all obligations under our credit facility, and senior in right of payment to all existing and future subordinated indebtedness of the Company.

        The indenture governing the 117/8% notes contains certain customary covenants and events of default.

        In connection with the offering, on January 5, 2005, we commenced a tender offer and consent solicitation for all of the outstanding principal amount of the 117/8% notes. On January 20, 2005, we executed a supplemental indenture, which became effective as of the closing of the offering, with respect to the indenture governing the 117/8% notes which eliminated substantially all of the covenants and the events of default in such indenture. On February 9, 2005, we repurchased $223.0 million principal amount of the 117/8% notes tendered pursuant to the tender offer for such notes.

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Critical Accounting Policies

        Our critical accounting policies are as follows:

        Revenue recognition.    Certain of our interstate network access and data revenues are based on tariffed access charges filed directly with the Federal Communications Commission; the remainder of such revenues are derived from revenue sharing arrangements with other local exchange carriers administered by the National Exchange Carrier Association.

        The Telecommunications Act allows local exchange carriers to file access tariffs on a streamlined basis and, if certain criteria are met, deems those tariffs lawful. Tariffs that have been "deemed lawful" in effect nullify an interexchange carrier's ability to seek refunds should the earnings from the tariffs ultimately result in earnings above the authorized rate of return prescribed by the Federal Communications Commission. Certain of the Company's telephone subsidiaries file interstate tariffs directly with the Federal Communication Commission using this streamlined filing approach. The settlement period related to (i) the 2001 to 2002 monitoring period lapses on September 30, 2005 and (ii) the 2003 to 2004 monitoring period lapses on September 30, 2007. We will continue to monitor the legal status of any pending or future proceedings that could impact its entitlement to these funds, and may recognize as revenue some or all of the over-earnings at the end of the settlement period or as the legal status becomes more certain.

        Allowance for doubtful accounts.    In evaluating the collectibility of our accounts receivable, we assess a number of factors, including a specific customer's or carrier's ability to meet its financial obligations to us, the length of time the receivable has been past due and historical collection experience. Based on these assessments, we record both specific and general reserves for uncollectible accounts receivable to reduce the related accounts receivable to the amount we ultimately expect to collect from customers and carriers. If circumstances change or economic conditions worsen such that our past collection experience is no longer relevant, our estimate of the recoverability of our accounts receivable could be further reduced from the levels reflected in our accompanying consolidated balance sheet.

        Accounting for income taxes.    As part of the process of preparing our consolidated financial statements we were required to estimate our income taxes. This process involves estimating our actual current tax exposure and assessing temporary differences resulting from different treatment of items for tax and accounting purposes. These differences result in deferred tax assets and liabilities, which are included within our consolidated balance sheets. We must then assess the likelihood that our deferred tax assets will be recovered from future taxable income and to the extent we believe the recovery is not likely, we must establish a valuation allowance. Further, to the extent that we establish a valuation allowance or increase this allowance in a financial accounting period, we must include a tax provision, or reduce our tax benefit in our consolidated statement of operations. In performing the assessment, management considers the scheduled reversal of deferred tax liabilities, projected future taxable income, and tax planning strategies. We use our judgment to determine our provision or benefit for income taxes, deferred tax assets and liabilities and any valuation allowance recorded against our net deferred tax assets.

        There are various factors that may cause those tax assumptions to change in the near term. We cannot predict whether future U.S. federal income tax laws and regulations might be passed that could have a material effect on our results of operations. We assess the impact of significant changes to the

53


U.S. federal and state income tax laws and regulations on a regular basis and update the assumptions and estimates used to prepare our financial statements when new regulation and legislation is enacted.

        Based on certain assumptions, we had $251.9 million in federal and state net operating loss carry forwards as of December 31, 2004. On February 8, 2005, we completed the offering which resulted in an "ownership change" within the meaning of the U.S. federal income tax laws addressing net operating loss carry forwards, alternative minimum tax credits and other similar tax attributes. As a result of such ownership change, there will be specific limitations on our ability to use our net operating loss carry forwards and other tax attributes. In order to fully utilize the deferred tax assets, mainly generated by the net operating losses, we will need to generate future taxable income of approximately $180.9 million prior to the expiration of the net operating loss carry forwards beginning in 2019 through 2024. Based upon the level of projections for future taxable income over the periods in which the deferred tax assets are deductible, we believe we will realize the benefits of these deductible differences, net of the valuation allowance of $66.0 million at December 31, 2004. The transactions and related anticipated reduction in interest expense and corresponding increase in taxable income was not considered when evaluating the valuation allowance at December 31, 2004. We will continue to reevaluate future taxable income and determine when and how much of the valuation allowance can be reversed in future periods.

        Valuation of long-lived assets, including goodwill.    We review our long-lived assets, including goodwill for impairment whenever events or changes in circumstances indicate that the carrying value may not be recoverable. Several factors could trigger an impairment review such as:

        Goodwill was $468.5 million at December 31, 2004.

        We are required to perform an annual impairment review of goodwill as required by Statement of Financial Accounting Standards (SFAS) No. 142, Goodwill and Other Intangible Assets. No impairment of goodwill or other long-lived assets resulted from the annual valuation of goodwill.

New Accounting Standards

        In January 2003, the FASB issued FASB Interpretation No. 46, Consolidation of Variable Interest Entities, an interpretation of ARB No. 51. In December 2003, the FASB revised Interpretation No. 46, which clarifies the application of Accounting Research Bulletin (ARB) No. 51, Consolidated Financial Statements. As per ARB No. 51, a general rule for preparation of consolidated financial statements of a parent and its subsidiary is ownership by the parent, either directly or indirectly, of over fifty percent of the outstanding voting shares of a subsidiary. However, application of the majority voting interest requirement of ARB No. 51 to certain types of entities may not identify the party with a controlling financial interest because the controlling financial interest may be achieved through arrangements that do not involve voting interest. Interpretation No. 46 clarifies applicability of ARB No. 51 to entities in which the equity investors do not have the characteristics of a controlling financial interest or do not have sufficient equity at risk for the entity to finance its activities without additional subordinated financial support. Interpretation No. 46 requires an entity to consolidate a variable interest entity even though the entity does not, either directly or indirectly, own over fifty percent of the outstanding voting shares. Interpretation No. 46 is applicable for financial statements issued for reporting periods that end after March 15, 2004. The implementation of Interpretation No. 46 did not have a significant impact on our financial statements.

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        In May 2003, the FASB issued SFAS No. 150, Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity. SFAS No. 150 establishes standards for how an issuer classifies and measures certain financial instruments with characteristics of both liabilities and equity. SFAS No. 150 applies specifically to a number of financial instruments that companies have historically presented within their financial statements either as equity or between the liabilities section and the equity section, rather than as liabilities. SFAS No. 150 is effective for financial instruments entered into or modified after May 31, 2003, and otherwise is effective at the beginning of the first interim period beginning after June 15, 2003, except for mandatorily redeemable financial instruments of a non-public entity, in which case this statement shall be effective for fiscal periods beginning after December 15, 2003. For purposes of adoption of SFAS No. 150, we met the definition of a nonpublic entity. As described in note 8 to our consolidated financial statements contained elsewhere in this Annual Report, we adopted SFAS No. 150 early, as of July 1, 2003.

        In March 2004, the EITF reached a consensus on the remaining portions of EITF 03-01, The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments with an effective date of June 15, 2004. EITF 03-01 provides new disclosure requirements for other-than-temporary impairments on debt and equity investments, including cost method investments. Investors are required to disclose quantitative information about: (i) the aggregate amount of unrealized losses, and (ii) the aggregate related fair values of investments with unrealized losses, segregated into time periods during which the investment has been in an unrealized loss position of less than 12 months and greater than 12 months. In addition, investors are required to disclose the qualitative information that supports their conclusion that the impairments noted in the qualitative disclosure are not other-than temporary. We determined that EITF 03-01 did not have a material impact on the financial statements and has enhanced its disclosures as required by this consensus.

        In December 2004, the FASB issued SFAS No. 123(R). This new standard requires companies to adopt the fair value methodology of valuing stock-based compensation and recognizing that valuation in the financial statements from the date of grant. Accordingly, the adoption of SFAS No. 123(R)'s fair value method will have a significant impact on the Company's result of operations, although it will have no impact on the Company's overall financial position. The impact of adoption of SFAS No. 123(R) cannot be predicted at this time because it will partially depend on levels of share-based payments granted in the future. However, had the Company adopted SFAS No. 123(R) in prior periods, the impact of that standard would have approximated the impact of SFAS No. 123 as shown in the Stock-based Compensation table (see Note 1(o)). SFAS No. 123(R) also requires the benefits of tax deductions in excess of recognized compensation cost to be reported as a financing cash flow, rather than as an operating cash flow as required under current literature. We expect to adopt the provisions of SFAS No. 123(R) on a modified prospective application method effective July 1, 2005, with no restatement of any prior periods. SFAS No. 123(R) is effective for us as of the beginning of the first interim reporting period that begins after June 15, 2005.

Inflation

        We do not believe inflation has a significant effect on our operations.

Risk Factors

        Any of the following risks could materially and adversely affect our business, consolidated financial condition, results of operations or liquidity. The risks described below are not the only risks facing us. Additional risks and uncertainties not currently known to us or that we currently deem to be immaterial may also materially and adversely affect our business operations.

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        Our stockholders may not receive the level of dividends provided for in the dividend policy our board of directors has adopted or any dividends at all.

        Our board of directors has adopted a dividend policy which reflects an intention to distribute a substantial portion of the cash generated by our business in excess of operating needs, interest and principal payments on our indebtedness, dividends on our future senior classes of capital stock, if any, capital expenditures, taxes and future reserves, if any, as regular quarterly dividends to our stockholders. Our board of directors may, in its discretion, amend or repeal this dividend policy. Our dividend policy is based upon our directors' current assessment of our business and the environment in which we operate, and that assessment could change based on competitive or technological developments (which could, for example, increase our need for capital expenditures) or new growth opportunities. In addition, future dividends with respect to shares of our common stock, if any, will depend on, among other things, our cash flows, cash requirements, financial condition, contractual restrictions, provisions of applicable law and other factors that our board of directors may deem relevant. Our board of directors may decrease the level of dividends provided for in the dividend policy or entirely discontinue the payment of dividends. Our credit facility contains significant restrictions on our ability to make dividend payments. There can be no assurance that we will generate sufficient cash from continuing operations in the future, or have sufficient surplus or net profits, as the case may be, under Delaware law, to pay dividends on our common stock in accordance with the dividend policy established by our board of directors. If we were to use borrowings under our credit facility's revolving facility to fund dividends, we would have less cash available for future dividends. The reduction or elimination of dividends may negatively affect the market price of our common stock.

        To expand our business through acquisitions and service our indebtedness, we will require a significant amount of cash. Our ability to generate cash depends on many factors beyond our control. We may not generate sufficient funds from operations to consummate acquisitions, pay dividends with respect to shares of our common stock or repay or refinance our indebtedness at maturity or otherwise.

        We may not retain a sufficient amount of cash to finance a material expansion of our business, or to fund our operations consistent with past levels of funding in the event of a significant business downturn. In addition, because a substantial portion of cash available to pay dividends will be distributed to holders of our common stock under our dividend policy, our ability to pursue any material expansion of our business, including through acquisitions or increased capital spending, will depend more than it otherwise would on our ability to obtain third party financing. There can be no assurance that such financing will be available to us at all, or at an acceptable cost.

        Our ability to consummate acquisitions and to make payments on our indebtedness will depend on our ability to generate cash flow from operations in the future. This ability, to a certain extent, is subject to general economic, financial, competitive, legislative, regulatory and other factors that are beyond our control. There can be no assurance, however, that our business will generate sufficient cash flow from operations or that future borrowings will be available to us in an amount sufficient to enable us to pay our indebtedness or to fund our other liquidity needs.

        A significant portion of our cash flow from operations will be dedicated to capital expenditures and debt service. In addition, we currently expect to distribute a significant portion of our cash earnings to our stockholders in the form of quarterly dividends. As a result, we may not retain a sufficient amount of cash to finance growth opportunities, including acquisitions, or unanticipated capital expenditures or to fund our operations. In addition, if we reduce capital expenditures, the regulatory settlement payments we receive may decline.

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        Borrowings under our credit facility will bear interest at variable interest rates. Accordingly, if any of the base reference interest rates for the borrowings under our credit facility increase, our interest expense will increase, which could negatively impact our ability to pay dividends on our common stock. In connection with the offering, we entered into three interest rate swap agreements which fixed the interest rates on a substantial portion of the term loans under our credit facility for a period of approximately three to five years after the closing of the offering. After the interest rate swap agreements expire, our annual debt service obligations on such portion of the term loans will vary from year to year unless we enter into a new interest rate swap or purchase an interest rate cap or other interest rate hedge. If we choose to enter into a new interest rate swap or purchase an interest rate cap or other interest rate hedge in the future, the amount of cash available to pay dividends on our common stock may decrease. However, to the extent interest rates increase in the future, we may not be able to enter into a new interest rate swap or purchase an interest rate cap or other interest rate hedge on acceptable terms.

        In addition, prior to the maturity of our credit facility, we will not be required to make any payments of principal on our credit facility, and it is not likely that we will generate sufficient funds from operations to repay the principal amount of our indebtedness at maturity. We therefore will need to refinance our debt. We may not be able to refinance our credit facility, or if refinanced, the refinancing may occur on less favorable terms, which may materially adversely affect our ability to pay dividends. If we were unable to refinance our credit facility, our failure to repay all amounts due on the maturity date would cause a default under our credit facility. We expect our required principal repayments under the term loan facility of our credit facility to be approximately $588.5 million at its maturity in February 2012. Our interest expense may increase significantly if we refinance our credit facility on terms that are less favorable to us than the terms of our credit facility.

        We may also be forced to raise additional capital or sell assets and, if we are forced to pursue any of these options under distressed conditions, our business and the value of your investment in our common stock could be adversely affected. In addition, these alternatives may not be available to us when needed or on satisfactory terms due to prevailing market conditions, a decline in our business, legislative and regulatory factors or restrictions contained in the agreements governing our indebtedness.

        If we have insufficient cash flow to cover the expected dividend payments under our dividend policy we would need to reduce or eliminate dividends or, to the extent permitted under the agreements governing our indebtedness, fund a portion of our dividends with additional borrowings.

        If we do not have sufficient cash to fund dividend payments, we would either reduce or eliminate dividends or, to the extent we were permitted to do so under our credit facility and the agreements governing future indebtedness we may incur, fund a portion of our dividends with borrowings or from other sources. If we were to use working capital or permanent borrowings under our credit facility's revolving facility to fund dividends, we would have less cash available for future dividends and other purposes, which could negatively impact our financial condition, our results of operations and our ability to maintain or expand our business.

        Our substantial indebtedness could restrict our ability to pay dividends on our common stock and have an adverse impact on our financing options and liquidity position.

        As of December 31, 2004, after giving effect to the transactions, we would have had approximately $592.8 million of total consolidated indebtedness. Our substantial indebtedness could have important adverse consequences to the holders of our common stock, including:

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        Despite our substantial indebtedness, we may still be able to incur substantially more indebtedness, which could further exacerbate the risks described above.

        Subject to certain covenants, our credit facility will permit us to incur additional indebtedness. Any additional indebtedness that we may incur would exacerbate the risks described in the preceding risk factor.

        Our credit facility contains significant limitations on distributions and other payments.

        Our credit facility contains significant restrictions on our ability to pay dividends on our common stock based on meeting a total leverage ratio, satisfying a restricted payment covenant and compliance with other conditions. See "—Description of Certain Indebtedness—Credit Facility."

        We may amend the terms of our credit facility, or we may enter into new agreements that govern our indebtedness, and the amended terms or new agreements may further significantly affect our ability to pay dividends to our stockholders.

        As a result of general economic conditions, conditions in the lending markets, the results of our business or for any other reason, we may elect or be required to amend or refinance our credit facility, at or prior to maturity, or enter into additional agreements for indebtedness. Any such amendment, refinancing or additional agreement may contain covenants which could limit in a significant manner our ability to pay dividends to you.

        The Company is a holding company and relies on dividends, interest and other payments, advances and transfers of funds from its operating subsidiaries and investments to meet its debt service and other obligations.

        The Company is a holding company and conducts all of its operations through its operating subsidiaries. The Company currently has no significant assets other than equity interests in its first tier subsidiaries. These first tier subsidiaries have no significant assets other than a direct or indirect equity interest in the Company's operating subsidiaries. As a result, the Company will rely on dividends and other payments or distributions from its operating subsidiaries to pay dividends with respect to its common stock and to meet its debt service obligations generally. The ability of the Company's subsidiaries to pay dividends or make other payments or distributions to the Company will depend on their respective operating results and may be restricted by, among other things:

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        The Company's operating subsidiaries have no obligation, contingent or otherwise, to make funds available to the Company, whether in the form of loans, dividends or other distributions. In addition, we have a number of minority investments and passive partnership interests from which we receive distributions. For example, in 2004 and 2003, we received $15.0 million and $10.8 million, respectively, of distributions from such investments and interests, which represented a material portion of our cash flow. The $15.0 million received in the year ended December 31, 2004 includes a non-recurring $2.5 million distribution. We do not control the timing or amount of distributions from such investments or interests and we may not have access to the cash flows of these entities.

        Accordingly, our ability to pay dividends with respect to shares of our common stock and to repay our credit facility at maturity or otherwise may be dependent upon factors beyond our control. Subject to limitations in our credit facility, the Company's subsidiaries may also enter into agreements that contain covenants prohibiting them from distributing or advancing funds or transferring assets to the Company under certain circumstances, including to pay dividends.

        Our credit facility contains covenants that limit our business flexibility by imposing operating and financial restrictions on our operations.

        Covenants in our credit facility impose significant operating and financial restrictions on us. These restrictions prohibit or limit, among other things:

        Our credit facility also contains covenants which require us to maintain specified financial ratios and satisfy financial condition tests, including, without limitation, a maximum total leverage ratio and a minimum interest coverage ratio.

        If we are unable to comply with the covenants in the agreements governing our indebtedness, we could be in default under our indebtedness which could result in our inability to make dividend payments on our common stock.

        Our ability to comply with the covenants, ratios or tests contained in our credit facility or in the agreements governing our future indebtedness may be affected by events beyond our control, including prevailing economic, financial and industry conditions. A breach of any of these covenants, ratios or tests could result in a default under our credit facility. Certain events of default under our credit

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facility would prohibit us from making dividend payments on our common stock. In addition, upon the occurrence of an event of default under our credit facility, the lenders could elect to declare all amounts outstanding under our credit facility, together with accrued interest, to be immediately due and payable. If we were unable to repay those amounts, the lenders could proceed against the security granted to them to secure that indebtedness. If the lenders accelerate the payment of the indebtedness under our credit facility, our assets may not be sufficient to repay in full the indebtedness under our credit facility and our other indebtedness, if any.

        Limitations on usage of net operating loss carry forwards, and other factors requiring us to pay cash taxes in future periods, may affect our ability to pay dividends to you.

        The offering resulted in an "ownership change" within the meaning of the U.S. federal income tax laws addressing net operating loss carry forwards, alternative minimum tax credits and other similar tax attributes. As a result of such ownership change, there are specific limitations on our ability to use our net operating loss carry forwards and other tax attributes from periods prior to the transactions. Although it is not expected that such limitations will materially affect our U.S. federal and state income tax liability in the near-term, it is possible in the future that such limitations could limit our ability to utilize such tax attributes and, therefore, result in an increase in our U.S. federal and state income tax liability. In addition, in the future we may be required to pay cash income taxes because all of our net operating loss carry forwards have been used or have expired. Limitations on our usage of net operating loss carry forwards, and other factors requiring us to pay cash taxes in the future, would reduce the funds available for the payment of dividends and might require us to reduce or eliminate the dividends on our common stock.

        The price of our common stock may fluctuate substantially, which could negatively affect holders of our common stock.

        It is possible that an active trading market for our common stock will not develop or be sustained. Even if an active trading market develops, the market price of our common stock may fluctuate widely as a result of various factors, such as period-to-period fluctuations in our operating results, sales of our common stock by principal stockholders, developments in the communications industry, the failure of securities analysts to cover our common stock or changes in financial estimates by analysts, competitive factors, regulatory developments, economic and other external factors, general market conditions and market conditions affecting the stock of communications companies in particular. Communications companies have in the past experienced extreme volatility in the trading prices and volumes of their securities, which has often been unrelated to operating performance. Any such market volatility may have a significant adverse effect on the market price of our common stock.

        Future sales or the possibility of future sales of a substantial amount of our common stock may depress the price of our common stock.

        Future sales, or the availability for sale in the public market, of substantial amounts of our common stock could adversely affect the prevailing market price of our common stock, and could impair our ability to raise capital through future sales of equity securities.

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        As of February 28, 2005, there were 34,925,432 shares of our common stock outstanding (including 473,716 shares of restricted stock which will begin to vest on April 1, 2006). The 25,000,000 shares of our common stock sold in the offering are freely transferable without restriction or further registration under the Securities Act unless such shares are held by our "affiliates," as that term is defined in Rule 144 under the Securities Act. The shares of our common stock owned by our equity investors, our directors, certain members of our management and our current and former employees are restricted securities within the meaning of Rule 144 under the Securities Act, but are eligible for resale subject to the applicable provisions of Rule 144. We, our executive officers and directors and substantially all of our significant equity holders have agreed to a "lock-up," meaning that, subject to specified exceptions, neither we nor they will sell any shares without the prior consent of the representatives of the underwriters for 180 days after the closing of the offering. Following the expiration of this 180-day lock-up period, all of these shares of our common stock will be eligible for future sale, subject to the applicable provisions of Rule 144. In addition, as of February 28, 2005, members of our management and other employees held fully vested, exercisable and in-the-money stock options to purchase a total of 115,733 shares of our common stock. See "Item 11. Executive Compensation." Finally, our existing equity investors and certain members of management have certain registration rights with respect to our common stock. See "Item 13. Certain Relationships and Related Transactions."

        We may issue shares of our common stock, or other securities, from time to time as consideration for future acquisitions and investments. In the event any such acquisition or investment is significant, the number of shares of our common stock, or the number or aggregate principal amount, as the case may be, of other securities that we may issue may in turn be significant. We may also grant registration rights covering those shares or other securities in connection with any such acquisitions and investments.

        Our restated certificate of incorporation and amended and restated by-laws and several other factors could limit another party's ability to acquire us and deprive our investors of the opportunity to obtain a takeover premium for their securities.

        A number of provisions in our restated certificate of incorporation and amended and restated by-laws make it difficult for another company to acquire us and for you to receive any related takeover premium for your securities. For example, our restated certificate of incorporation provides that certain provisions of our restated certificate of incorporation can only be amended by a vote of two-thirds or more in voting power of all the outstanding shares of capital stock and that stockholders generally may not act by written consent and only stockholders representing at least 50% in voting power may request that our board of directors call a special meeting. Our restated certificate of incorporation provides for a classified board of directors and authorizes the issuance of preferred stock without stockholder approval and upon such terms as the board of directors may determine. The rights of the holders of shares of our common stock will be subject to, and may be adversely affected by, the rights of holders of any class or series of preferred stock that may be issued in the future.

        We may, under certain circumstances, suspend the rights of stock ownership the exercise of which would result in any inconsistency with, or violation of, any applicable communications law.

        Our restated certificate of incorporation provides that so long as we hold any authorization, license, permit, order, filing or consent from the Federal Communications Commission or any state regulatory commission having jurisdiction over us, we will have the right to request certain information from our stockholders. If any stockholder from whom such information is requested should fail to respond to such a request or we conclude that the ownership of, or the existence or exercise of any rights of stock ownership with respect to, shares of our capital stock by such stockholder, could result in any inconsistency with, or violation of, any applicable communications law, we may suspend those rights of stock ownership the existence or exercise of which would result in any inconsistency with, or violation of, any applicable communications law, and we may exercise any and all appropriate remedies,

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at law or in equity, in any court of competent jurisdiction, against any stockholder, with a view towards obtaining such information or preventing or curing any situation which would cause an inconsistency with, or violation of, any provision of any applicable communications law.

        We provide services to our customers over access lines, and if we lose access lines, our business and results of operations may be adversely affected.

        Our business generates revenue by delivering voice and data services over access lines. We have experienced net voice access line loss, adjusted for acquisitions and divestitures, of 4.7% for the period from December 31, 2001 through December 31, 2004 and 2.9% for the period from December 31, 2003 through December 31, 2004 due to challenging economic conditions, increased competition and the introduction of digital subscriber line services. We may continue to experience net access line loss in our markets. Our inability to retain access lines could adversely affect our business and results of operations.

        As an incumbent carrier, we historically have experienced little competition in our rural telephone company markets. Nevertheless, the market for communications services is highly competitive. Regulation and technological innovation change quickly in the communications industry, and changes in these factors historically have had, and may in the future have, a significant impact on competitive dynamics. In certain of our rural markets, we face competition from wireless telephone system operators, which may increase as wireless technology improves. We also face competition from cable television operators. We may face additional competition from new market entrants, such as providers of wireless broadband, voice over internet protocol, satellite communications and electric utilities. The Internet services market is also highly competitive, and we expect that competition will intensify. Some of our competitors have brand recognition and financial, personnel, marketing and other resources that are significantly greater than ours. In addition, consolidation and strategic alliances within the communications industry or the development of new technologies could affect our competitive position. We cannot predict the number of competitors that will emerge, especially as a result of existing or new federal and state regulatory or legislative actions, but increased competition from existing and new entities could have a material adverse effect on our business.

        Competition may lead to loss of revenues and profitability as a result of numerous factors, including:

        In addition, our provision of long distance service is subject to a highly competitive market served by large nation-wide carriers that enjoy brand name recognition.

        We may not be able to successfully integrate new technologies, respond effectively to customer requirements or provide new services.

        The communications industry is subject to rapid and significant changes in technology, frequent new service introductions and evolving industry standards. We cannot predict the effect of these

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changes on our competitive position, profitability or industry. Technological developments may reduce the competitiveness of our networks and require unbudgeted upgrades or the procurement of additional products that could be expensive and time consuming. In addition, new products and services arising out of technological developments may reduce the attractiveness of our services. If we fail to adapt successfully to technological changes or obsolescence or fail to obtain access to important new technologies, we could lose customers and be limited in our ability to attract new customers and/or sell new services to our existing customers. An element of our business strategy is to deliver enhanced and ancillary services to customers. The successful delivery of new services is uncertain and dependent on many factors, and we may not generate anticipated revenues from such services.

        We rely on a limited number of key suppliers and vendors to operate our business. If these suppliers or vendors experience problems or favor our competitors, we could fail to obtain sufficient quantities of products and services we require to operate our business successfully.

        We depend on a limited number of suppliers and vendors for equipment and services relating to our network infrastructure. If these suppliers experience interruptions or other problems delivering these network components on a timely basis, subscriber growth and our operating results could suffer significantly. If proprietary technology of a supplier is an integral component of our network, we could be effectively locked into one of a few suppliers for key network components. As a result we have become reliant upon a limited number of network equipment manufacturers, including Nortel Networks Corporation and Siemens Information and Communication Networks, Inc. In addition, when our new billing platform is completed, we will rely on a single outsourced supplier to support our billing and related customer care services. In the event it becomes necessary to seek alternative suppliers and vendors, we may be unable to obtain satisfactory replacement suppliers or vendors on economically attractive terms, on a timely basis, or at all, which could increase costs and may cause disruptions in services.

        Our relationships with other communications companies are material to our operations and their financial difficulties may adversely affect our business and results of operations.

        We originate and terminate calls for long distance carriers and other interexchange carriers over our network and for that service we receive payments for access charges. These payments represent a significant portion of our revenues. Should these carriers go bankrupt or experience substantial financial difficulties, our inability to then collect access charges from them could have a negative effect on our business and results of operations.

        We face risks associated with acquired businesses and potential acquisitions.

        We have grown rapidly by acquiring other businesses. Since 1993, we have acquired 30 rural telephone businesses and we continue to own and operate 26 such businesses. We expect that a portion of our future growth will result from additional acquisitions, some of which may be material. Growth through acquisitions entails numerous risks, including:

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        In addition, future acquisitions by us could result in the incurrence of indebtedness or contingent liabilities, which could have a material adverse effect on our business and our ability to pay dividends on our common stock, provide adequate working capital and service our indebtedness.

        There can be no assurance that we will be able to successfully complete the integration of the businesses that we have already acquired or successfully integrate any businesses that we might acquire in the future. If we fail to do so, or if we do so but at greater cost than we anticipated, or if our acquired businesses do not experience significant growth, there will be a risk that our business may be adversely affected.

        We may need additional capital to continue growing through acquisitions.

        We may need additional financing to continue growing through acquisitions. Such additional financing may be in the form of additional debt, which would increase our leverage. We may not be able to raise sufficient additional capital at all or on terms that we consider acceptable.

        A system failure could cause delays or interruptions of service, which could cause us to lose customers.

        To be successful, we will need to continue to provide our customers reliable service over our network. Some of the risks to our network and infrastructure include:

        Disruptions may cause interruptions in service or reduced capacity for customers, either of which could cause us to lose customers and incur expenses.

        Our new integrated billing platform may not be completed on time or may not function properly.

        We are in the process of converting our six billing systems into a single integrated billing platform for our end-user customers. As of December 31, 2004, we had made capital expenditures of approximately $5.1 million with respect to such conversion. We expect to make an additional $3.4 million of capital expenditures to complete such conversion. One of the primary reasons for undertaking this conversion is to consolidate and streamline our internal controls so that we will be able to comply with the management certification and auditor attestation requirements of Section 404 of the Sarbanes-Oxley Act of 2002. The portion of the conversion that will enable us to comply with these requirements is expected to be completed by the end of 2005 and the full conversion is expected to be completed in the second quarter of 2006. The failure to successfully complete this conversion could disrupt our billing process, which could have a material adverse effect on our business, financial condition and results of operations, and could cause us not to be in compliance with the requirements

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of Section 404 of the Sarbanes-Oxley Act. See "—We will be exposed to risks relating to evaluations of controls required by Section 404 of the Sarbanes-Oxley Act of 2002."

        We depend on third parties for our provision of long distance services.

        Our provision of long distance services is dependent on underlying agreements with other carriers that provide us with transport and termination services. These agreements are based, in part, on our estimate of future supply and demand and may contain minimum volume commitments. If we overestimate demand, we may be forced to pay for services we do not need. If we underestimate demand, we may need to acquire additional capacity on a short-term basis at unfavorable prices, assuming additional capacity is available. If additional capacity is not available, we will not be able to meet this demand. In addition, if we cannot meet any minimum volume commitments, we may be subject to underutilization charges, termination charges, or rate increases which may adversely affect our results of operations.

        We may not be able to maintain the necessary rights-of-way for our networks.

        We are dependent on rights-of-way and other permits from railroads, utilities, state highway authorities, local governments and transit authorities to install conduit and related communications equipment for any expansion of our networks. We may need to renew current rights-of-way for our networks and cannot assure you that we would be successful in renewing these agreements on acceptable terms. Some of our agreements may be short-term, revocable at will, or subject to termination upon customary default provisions, and we may not have access to existing rights-of-way after they have expired or terminated. If any of these agreements were terminated or could not be renewed, we may be required to remove our existing facilities from under the streets or abandon our networks. Similarly, we may not be able to obtain right-of-way agreements on favorable terms, or at all, in new service areas, and, if we are unable to do so, our ability to expand our networks, if we decide to do so, could be impaired.

        Our success depends on our ability to attract and retain qualified management and other personnel.

        Our success depends upon the talents and efforts of our senior management team. With the exception of Eugene Johnson, our Chairman and Chief Executive Officer, none of these senior executives are employed by us pursuant to an employment agreement. The loss of any such management personnel, due to retirement or otherwise, and the inability to attract and retain highly qualified technical and management personnel in the future, could have a material adverse effect on our business, financial condition and results of operations.

        We may face significant future liabilities or compliance costs in connection with environmental and worker health and safety matters.

        Our operations and properties are subject to federal, state and local laws and regulations relating to protection of the environment, natural resources, and worker health and safety, including laws and regulations governing the management, storage and disposal of hazardous substances, materials and wastes. Under certain environmental laws, we could be held liable, jointly and severally and without regard to fault, for the costs of investigating and remediating any contamination at owned or operated properties; or for contamination arising from the disposal by us or our predecessors of hazardous wastes at formerly-owned properties or at third-party waste disposal sites. In addition, we could be held responsible for third-party property or personal injury claims relating to any such contamination or relating to violations of environmental laws. Changes in existing laws or regulations or future acquisitions of businesses could require us to incur substantial costs in the future relating to such matters.

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        We will be exposed to risks relating to evaluations of controls required by Section 404 of the Sarbanes-Oxley Act.

        Changing laws, regulations and standards relating to corporate governance and public disclosure, including the Sarbanes-Oxley Act and related regulations implemented by the Securities and Exchange Commission, the New York Stock Exchange and the Public Company Accounting Oversight Board, are creating uncertainty for public companies, increasing legal and financial compliance costs and making some activities more time consuming. We will be evaluating our internal controls systems to allow management to report on, and our independent auditors to attest to, our internal controls. We will be performing the system and process evaluation and testing (and any necessary remediation, including the conversion of our various billing systems into a single integrated billing platform) required to comply with the management certification and auditor attestation requirements of Section 404 of the Sarbanes-Oxley Act. While we anticipate being able to fully implement the requirements relating to internal controls and all other aspects of Section 404 by our December 31, 2005 deadline, we cannot be certain as to the timing of completion of our evaluation, testing and remediation actions or the impact of the same on our operations. If we are not able to implement the requirements of Section 404 in a timely manner or with adequate compliance (including due to our failure to successfully complete the conversion of our various billing systems into a single integrated billing platform), we might be subject to sanctions or investigation by regulatory authorities, such as the Securities and Exchange Commission, the New York Stock Exchange or the Public Company Accounting Oversight Board. Any such action could adversely affect our financial results or investors' confidence in us, and could cause our stock price to fall. In addition, the controls and procedures that we will implement may not comply with all of the relevant rules and regulations of the Securities and Exchange Commission, the New York Stock Exchange and the Public Company Accounting Oversight Board. If we fail to develop and maintain effective controls and procedures, we may be unable to provide financial information in a timely and reliable manner.

        We are subject to significant regulations that could change in a manner adverse to us.

        We operate in a heavily regulated industry, and the majority of our revenues generally have been supported by regulations, including access revenue and Universal Service Fund support for the provision of telephone services in rural areas. Laws and regulations applicable to us and our competitors may be, and have been, challenged in the courts, and could be changed by Congress or regulators. In addition, any of the following have the potential to have a significant impact on us:

        Risk of loss or reduction of network access charge revenues.    Almost 45% of our revenues come from network access charges, which are paid to us by intrastate and interstate long distance carriers for originating and terminating calls in the regions served. This 45% also includes Universal Service Fund payments for local switching support, long term support and interstate common line support. In recent years, several of these long distance carriers have declared bankruptcy. Future declarations of bankruptcy by a carrier that utilizes our access services could negatively impact our financial results. The amount of access charge revenues that we receive is based on rates set by federal and state regulatory bodies, and such rates could change. Further, from time to time federal and state regulatory bodies conduct rate cases and/or "earnings" reviews, which may result in rate changes. The Federal Communications Commission has reformed and continues to reform the federal access charge system. States often mirror these federal rules in establishing intrastate access charges. In October 2001, the Federal Communications Commission reformed the system to reduce interstate access charges and shift a portion of cost recovery, which historically have been based on minutes-of-use, to flat-rate, monthly per line charges on end-user customers rather than long distance carriers. As a result, the aggregate amount of access charges paid by long distance carriers to access providers, such as our rural local exchange carriers, has decreased and may continue to decrease. Although these changes were

66


implemented on a revenue neutral basis (with commensurate increases in other charges and Universal Service Fund support), there is no assurance that future changes in access charge rates will be implemented on a revenue neutral basis. It is unknown at this time what additional changes, if any, the Federal Communications Commission may eventually adopt. Furthermore, to the extent our rural local exchange carriers become subject to competition, such access charges could be paid to competing communications providers rather than to us. Additionally, the intrastate access charges we receive may be reduced as a result of wireless competition. Regulatory developments of this type could adversely affect our business, revenue and/or profitability.

        Risk of loss or reduction of Universal Service Fund support.    We receive Universal Service Fund revenues to support the high cost of our operations in rural markets. For the year ended December 31, 2004, approximately 9% of our revenues resulted from the high cost loop support we received from the Universal Service Fund and was based upon our average cost per loop compared to the national average cost per loop. For example, if the national average cost per loop increases and our operating costs (and average cost per loop) remain constant or decrease, the payments we receive from the Universal Service Fund would decline. Conversely, if the national average cost per loop decreases and our operating costs (and average cost per loop) remain constant or increase, the payments we receive from the Universal Service Fund would increase. Over the past year, the national average cost per loop in relation to our average cost per loop has increased and management believes the national average cost per loop may continue to increase in relation to our average cost per loop and, as a result, the payments we receive from the Universal Service Fund could decline. This support fluctuates based upon the historical costs of our operating companies. In addition to the Universal Service Fund high cost loop support, we also receive Universal Service Fund support payments, which include local switching support, long term support, and interstate common line support that used to be included in our interstate access charge revenues (the Federal Communications Commission has recently merged long term support into interstate common line support). If our rural local exchange carriers were unable to receive support from the Universal Service Fund, or if such support was reduced, many of our rural local exchange carriers would be unable to operate as profitably as they have historically, in the absence of our implementation of increases in charges for other services. Moreover, if we raise prices for services to offset loss of Universal Service Fund payments, the increased pricing of our services may disadvantage us competitively in the marketplace, resulting in additional potential revenue loss.

        The Telecommunications Act provides that eligible communications carriers, including competitors to rural local exchange carriers, may obtain the same per line support as the rural local exchange carriers receive if a state commission determines that granting such support to competitors would be in the public interest. In fact, wireless communications providers in certain of our markets have obtained matching support payments from the Universal Service Fund, but that has not led to a loss of revenues for our rural local exchange carriers under existing regulations. Any shift in universal service regulation, however, could have an adverse effect on our business, revenue and/or profitability.

        During the last four years, pursuant to recommendations made by the Multi-Association Group and the Rural Task Force, the Federal Communications Commission has made certain modifications to the universal service support system that changed the sources of support and the method for determining the level of support. These changes have been revenue neutral to our operations. It is unclear whether the changes in methodology will continue to accurately reflect the costs incurred by our rural local exchange carriers, and whether it will provide for the same amount of Universal Service Fund support that our rural local exchange carriers have received in the past. In addition, several parties have raised objections to the size of the Universal Service Fund and the types of services eligible for support. A number of issues regarding the source and amount of contributions to, and eligibility for payments from, the Universal Service Fund are pending and will likely be addressed by the Federal Communications Commission or Congress in the near future. The outcome of any

67


regulatory proceedings or legislative changes could affect the amount of Universal Service Fund support that we receive, and could have an adverse effect on our business, revenue or profitability.

        On February 28, 2005, the Federal Communications Commission issued a press release announcing additional requirements for the designation of competitive Eligible Telecommunications Carriers for receipt of high-cost support. Although the written text of the Federal Communications Commission order has not been released, the Federal Communications Commission has adopted additional mandatory requirements for Eligible Telecommunications Carriers designation in cases where it has jurisdiction, and encourages states that have jurisdiction to designate Eligible Telecommunications Carriers to adopt similar requirements. The Federal Communications Commission is still considering revisions to the methodology by which contributions to the Universal Service Fund are determined. These revisions will be part of an overall rulemaking regarding Universal Service Support which will be dealt with sometime in the next year.

        Risk of loss of statutory exemption from burdensome interconnection rules imposed on incumbent local exchange carriers. Our rural local exchange carriers are exempt from the Telecommunications Act's more burdensome requirements governing the rights of competitors to interconnect to incumbent local exchange carrier networks and to utilize discrete network elements of the incumbent's network at favorable rates. If state regulators decide that it is in the public's interest to impose these more burdensome interconnection requirements on us, we would be required to provide unbundled network elements to competitors. As a result, more competitors could enter our traditional telephone markets than are currently expected and we could incur additional administrative and regulatory expenses, and experience additional revenue losses.

        Risks posed by costs of regulatory compliance.    Regulations create significant compliance costs for us. Our subsidiaries that provide intrastate services are generally subject to certification, tariff filing and other ongoing regulatory requirements by state regulators. Our interstate access services are provided in accordance with tariffs filed with the Federal Communications Commission. Challenges to our tariffs by regulators or third parties or delays in obtaining certifications and regulatory approvals could cause us to incur substantial legal and administrative expenses, and, if successful, such challenges could adversely affect the rates that we are able to charge our customers.

        Our business also may be impacted by legislation and regulation imposing new or greater obligations related to assisting law enforcement, bolstering homeland security, minimizing environmental impacts, or addressing other issues that impact our business. For example, existing provisions of the Communications Assistance for Law Enforcement Act and Federal Communications Commission regulations implementing the Communications Assistance for Law Enforcement Act require communications carriers to ensure that their equipment, facilities, and services are able to facilitate authorized electronic surveillance. We cannot predict whether and when the Federal Communications Commission might modify its Communications Assistance for Law Enforcement Act rules or any other rules or what compliance with new rules might cost. Similarly, we cannot predict whether or when federal or state legislators or regulators might impose new security, environmental or other obligations on our business.

        For a more thorough discussion of the regulatory issues that may affect our business, see "Item 1. Business—Regulatory Environment."

        Regulatory changes in the communications industry could adversely affect our business by facilitating greater competition against us, reducing potential revenues or raising our costs.

        The Telecommunications Act provides for significant changes and increased competition in the communications industry, including the local communications and long distance industries. This statute and the Federal Communications Commission's implementing regulations remain subject to judicial review and additional rulemakings of the Federal Communications Commission, thus making it difficult

68


to predict what effect the legislation will have on us, including our operations and our revenues and expenses, and our competitors. Several regulatory and judicial proceedings have recently concluded, are underway or may soon be commenced, that address issues affecting our operations and those of our competitors. We cannot predict the outcome of these developments, nor can we assure that these changes will not have a material adverse effect on us or our industry.

        For a more thorough discussion of the regulatory issues that may affect our business, see "Item 1. Business—Regulatory Environment."

        The failure to obtain necessary regulatory approvals could impede the consummation of a potential acquisition.

        Our acquisitions likely will be subject to federal, state and local regulatory approvals. We cannot assure you that we will be able to obtain any necessary approvals, in which case a potential acquisition could be delayed or not consummated.

ITEM 7A.    QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

        During the third quarter of 2004, we impaired the value of our marketable available-for-sale equity investments due to an other-than-temporary decline in market value. At December 31, 2004, the carrying value of such investments was zero.

        At December 31, 2004, approximately 68% of our debt bore interest at fixed rates or effectively at fixed rates. Our earnings are affected by changes in interest rates as our long-term debt under our credit facility has variable interest rates based on either the prime rate or LIBOR. If interest rates on our variable rate debt increased by 10%, our interest expense would have increased, and our loss from continuing operations before taxes would have increased, by approximately $1.7 million for the year ended December 31, 2004.

        From time to time, we have entered into interest rate swaps to manage our exposure to fluctuations in interest rates on our variable rate debt. In connection with our old credit facility, we used two interest rate swap agreements, with notional amounts of $25.0 million each, to effectively convert a portion of our variable interest rate exposure to fixed rates ranging from 8.07% to 10.34%. These swap agreements expired in May 2004.

        In connection with the offering, we entered into three interest rate swap agreements which fixed the interest rate on approximately $130.0 million of the term loans under our credit facility at 6.11% until December 31, 2009, fixed the interest rate on approximately $130.0 million of the term loans under our credit facility at 5.98% until December 31, 2008 and fixed the interest rate on approximately $130.0 million of the term loans under our credit facility at 5.76% until December 31, 2007. After these interest rate swap agreements expire, our annual debt service obligations on such portion of the term loans will vary from year to year unless we enter into a new interest rate swap or purchase an interest rate cap or other interest rate hedge. An increase of ten percent in the annual interest rate applicable to borrowings under the term loan facility of our credit facility would result in an increase of approximately $0.9 million in our annual cash interest expense, and a corresponding decrease in cash available to pay dividends on our common stock. If we choose to enter into a new interest rate swap or purchase an interest rate cap or other interest rate hedge in the future, the amount of cash available to pay dividends on our common stock may decrease. However, to the extent interest rates increase in the future, we may not be able to enter into a new interest rate swap or to purchase an interest rate cap or other interest rate hedge on acceptable terms.

69

ITEM 8.    FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA


INDEX TO FINANCIAL STATEMENTS

 
   Page
FAIRPOINT COMMUNICATIONS, INC. AND SUBSIDIARIES:    
  Report of Independent Registered Public Accounting Firm   71

CONSOLIDATED FINANCIAL STATEMENTS FOR THE YEARS ENDED DECEMBER 31, 2004, 2003 AND 2002:
 
 
  Consolidated Balance Sheets as of December 31, 2004 and 2003   72
  Consolidated Statements of Operations for the Years Ended December 31, 2004, 2003, and 2002   74
  Consolidated Statements of Stockholders' Equity (Deficit) for the Years Ended December 31, 2004, 2003, and 2002   75
  Consolidated Statements of Comprehensive Income (Loss) for the Years Ended December 31, 2004, 2003, and 2002   76
  Consolidated Statements of Cash Flows for the Years Ended December 31, 2004, 2003, and 2002   77
  Notes to Consolidated Financial Statements for the Years Ended December 31, 2004, 2003, and 2002   79

70


Report of Independent Registered Public Accounting Firm

The Board of Directors
FairPoint Communications, Inc.:

        We have audited the accompanying consolidated balance sheets of FairPoint Communications, Inc. and subsidiaries (the Company) as of December 31, 2004 and 2003, and the related consolidated statements of operations, stockholders' equity (deficit), comprehensive income (loss), and cash flows for each of the years in the three-year period ended December 31, 2004. These consolidated financial statements are the responsibility of FairPoint Communications, Inc.'s management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.

        We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the consolidated financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall consolidated financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

        In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of the Company as of December 31, 2004 and 2003, and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 2004 in conformity with accounting principles generally accepted in the United States of America.

        As described in notes 1 and 8 to the consolidated financial statements, the Company adopted the provisions of Statement of Financial Accounting Standards (SFAS) No. 150, Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity, effective July 1, 2003.

                                                                         /s/ KPMG LLP

Omaha, Nebraska
March 10, 2005

71

Assets

   Pro forma
2004
(See note 2)
   2004
   2003
 
   (Unaudited)

    
    
Current assets:              
  Cash   $ —   3,595   5,603
  Accounts receivable, net     30,203   30,203   28,845
  Material and supplies     3,866   3,866   4,139
  Prepaid and other     1,878   1,878   1,517
  Notes receivable—related party     —   1,000   —
  Income tax recoverable     61   61   —
  Investments available-for-sale     —   —   1,889
  Assets of discontinued operations     102   102   105
   
 
 
      Total current assets     36,110   40,705   42,098
   
 
 
Property, plant, and equipment, net     252,262   252,262   266,706
   
 
 
Other assets:              
  Goodwill     468,508   468,508   468,845
  Investments     37,749   37,749   41,792
  Debt issue and offering costs, net of accumulated amortization     9,561   18,812   21,614
  Notes receivable — related party     —   —   1,000
  Covenants not to compete, net of accumulated amortization     29   29   151
  Other     1,071   1,071   862
   
 
 
      Total other assets     516,918   526,169   534,264
   
 
 
      Total assets   $ 805,290   819,136   843,068
   
 
 

See accompanying notes to consolidated financial statements.

72


FAIRPOINT COMMUNICATIONS, INC. AND SUBSIDIARIES

Consolidated Balance Sheets
December 31, 2004 and 2003
(Amounts in thousands, except per share data)

Liabilities and Stockholders' Equity (Deficit)

   Pro forma
2004
(See note 2)
   2004
   2003
  
 
   (Unaudited)

    
    
  
Current liabilities:                
  Accounts payable   $ 14,184   14,184   14,671  
  Other accrued liabilities     13,827   13,827   13,116  
  Accrued interest payable     531   16,582   16,739  
  Current portion of long-term debt     524   524   21,982  
  Accrued property taxes     2,045   2,045   1,968  
  Current portion of obligation for covenants not to compete     100   100   145  
  Demand notes payable     382   382   407  
  Income taxes payable     —   —   70  
  Liabilities of discontinued operations     2,262   2,262   4,461  
   
 
 
 
      Total current liabilities     33,855   49,906   73,559  
   
 
 
 
Long-term liabilities:                
  Long-term debt, net of current portion     592,810   809,908   803,578  
  Preferred shares subject to mandatory redemption     —   116,880   96,699  
  Other liabilities     4,176   12,621   12,278  
  Liabilities of discontinued operations     1,580   1,580   2,571  
  Obligation for covenants not to compete, net of current portion     —   —   100  
  Unamortized investment tax credits     46   46   85  
   
 
 
 
      Total long-term liabilities     598,612   941,035   915,311  
   
 
 
 
Minority interest     11   11   15  
Common stock subject to put options, 16 shares at December 31, 2004 and 31 shares at December 31, 2003     —   1,136   2,136  
Commitments and contingencies                
Stockholders' equity (deficit):                
  Common stock:                
    Class A voting, par value $0.01 per share. Authorized 44,757 shares; issued and outstanding 8,643 shares at December 31, 2004 and 2003     —   86   86  
    Class B nonvoting, convertible, par value $0.01 per share. Authorized 28,423 shares; issued and outstanding 0 shares     —   —   —  
    Class C nonvoting, convertible, par value $0.01 per share. Authorized 2,615 shares; issued and outstanding 809 shares at December 31, 2004 and 2003     —   8   8  
    Common stock (pro forma, unaudited)     349   —   —  
  Additional paid-in capital     641,778   198,519   198,470  
  Unearned compensation     (8,764 ) —   —  
  Accumulated other comprehensive income     —   —   1,366  
  Accumulated deficit     (460,551 ) (371,565 ) (347,883 )
   
 
 
 
      Total stockholders' equity (deficit)     172,812   (172,952 ) (147,953 )
   
 
 
 
      Total liabilities and stockholders' equity (deficit)   $ 805,290   819,136   843,068  
   
 
 
 

73


FAIRPOINT COMMUNICATIONS, INC. AND SUBSIDIARIES

Consolidated Statements of Operations
Years ended December 31, 2004, 2003 and 2002
(Dollars in thousands)

 
   2004
   2003
   2002
  
Revenues   $ 252,645   231,432   230,819  
   
 
 
 
Operating expenses:                
  Operating expenses, excluding depreciation and amortization and stock-based compensation     128,755   111,188   110,265  
  Depreciation and amortization     50,287   48,089   46,310  
  Stock-based compensation     49   15   924  
   
 
 
 
      Total operating expenses     179,091   159,292   157,499  
   
 
 
 
      Income from operations     73,554   72,140   73,320  
   
 
 
 
Other income (expense):                
  Net gain on sale of investments and other assets     104   608   34  
  Interest and dividend income     2,335   1,792   1,898  
  Interest expense     (104,315 ) (90,224 ) (69,520 )
  Impairment on investments     (349 ) —   (12,568 )
  Equity in net earnings of investees     10,899   10,092   7,798  
  Realized and unrealized losses on interest rate swaps     (112 ) (1,387 ) (9,577 )
  Other nonoperating, net     (5,951 ) (1,505 ) 441  
   
 
 
 
      Total other expense     (97,389 ) (80,624 ) (81,494 )
   
 
 
 
      Loss from continuing operations before income taxes     (23,835 ) (8,484 ) (8,174 )

Income tax benefit (expense)
 
 
(516
)
236
 
(518
)
Minority interest in income of subsidiaries     (2 ) (2 ) (2 )
   
 
 
 
      Loss from continuing operations     (24,353 ) (8,250 ) (8,694 )
   
 
 
 
Discontinued operations:                
  Income from discontinued operations     —   1,929   2,433  
  Income on disposal of assets of discontinued operations     671   7,992   19,500  
   
 
 
 
      Income from discontinued operations     671   9,921   21,933  
   
 
 
 
      Net income (loss)     (23,682 ) 1,671   13,239  
Redeemable preferred stock dividends and accretion     —   (8,892 ) (11,918 )
Gain on repurchase of redeemable preferred stock     —   2,905   —  
   
 
 
 
      Net income (loss) attributed to common shareholders   $ (23,682 ) (4,316 ) 1,321  
   
 
 
 
Weighted average shares outstanding:                
  Basic     9,468   9,483   9,498  
   
 
 
 
  Diluted     9,468   9,483   9,498  
   
 
 
 
Basic and diluted loss from continuing operations per share   $ (2.57 ) (1.50 ) (2.17 )
   
 
 
 
Basic and diluted earnings from discontinued operations per share   $ 0.07   1.04   2.31  
   
 
 
 
Basic and diluted earnings (loss) per share   $ (2.50 ) (0.46 ) 0.14  
   
 
 
 

See accompanying notes to consolidated financial statements.

74


FAIRPOINT COMMUNICATIONS, INC. AND SUBSIDIARIES

Consolidated Statements of Stockholders' Equity (Deficit)
Years ended December 31, 2004, 2003 and 2002
(Amounts in thousands)

 
   Class A
Common
   Class C
Common
    
    
    
    
  
 
    
   Accumulated
other
comprehensive
income (loss)
    
   Total
stockholders'
equity
(deficit)
  
 
   Additional
paid-in
capital
   Accumulated
deficit
  
 
   Shares
   Amount
   Shares
   Amount
  
Balance at December 31, 2001   8,643   $ 86   809   $ 8   218,341   (2,247 ) (365,698 ) (149,510 )
Net income   —     —   —     —   —   —   13,239   13,239  
Compensation expense for stock-based awards   —     —   —     —   924   —   —   924  
Other comprehensive loss from available-for-sale securities   —     —   —     —   —   (322 ) —   (322 )
Other comprehensive income from cash flow hedges   —     —   —     —   —   1,437   —   1,437  
Preferred stock accretion   —     —   —     —   (1,000 ) —   —   (1,000 )
Preferred stock dividends   —     —   —     —   (10,918 ) —   —   (10,918 )
   
 
 
 
 
 
 
 
 
Balance at December 31, 2002   8,643     86   809     8   207,347   (1,132 ) (352,459 ) (146,150 )
Net income   —     —   —     —   —   —   1,671   1,671  
Compensation expense for stock-based awards   —     —   —     —   15   —   —   15  
Other comprehensive income from available-for-sale securities   —     —   —     —   —   1,469   —   1,469  
Other comprehensive income from cash flow hedges   —     —   —     —   —   1,029   —   1,029  
Repurchase redeemable preferred stock   —     —   —     —   —   —   2,905   2,905  
Preferred stock accretion   —     —   —     —   (729 ) —   —   (729 )
Preferred stock dividends   —     —   —     —   (8,163 ) —   —   (8,163 )
   
 
 
 
 
 
 
 
 
Balance at December 31, 2003   8,643     86   809     8   198,470   1,366   (347,883 ) (147,953 )
Net income   —     —   —     —   —   —   (23,682 ) (23,682 )
Compensation expense for stock-based awards   —     —   —     —   49   —   —   49  
Other comprehensive loss from available-for-sale securities   —     —   —     —   —   (1,469 ) —   (1,469 )
Other comprehensive income from cash flow hedges   —     —   —     —   —   103   —   103  
   
 
 
 
 
 
 
 
 
Balance at December 31, 2004   8,643   $ 86   809   $ 8   198,519   —   (371,565 ) (172,952 )
   
 
 
 
 
 
 
 
 

See accompanying notes to consolidated financial statements.

75


FAIRPOINT COMMUNICATIONS, INC. AND SUBSIDIARIES

Consolidated Statements of Comprehensive Income (Loss)
Years ended December 31, 2004, 2003 and 2002
(Dollars in thousands)

 
   2004
   2003
   2002
  
Net income (loss)         $ (23,682 )     1,671       13,239  
Other comprehensive income (loss):                              
  Available-for-sale securities:                              
    Unrealized holding gains (losses)   $ (1,243 )       1,618       (8,491 )    
    Less reclassification adjustment for gain realized in net income (loss)     (226 )       (149 )     (7 )    
    Reclassification for other-than-temporary loss included in net income     —     (1,469 ) —   1,469   8,176   (322 )
   
       
     
     
  Cash flow hedges:                              
    Reclassification adjustment     103     103   1,029   1,029   1,437   1,437  
   
 
 
 
 
 
 
Other comprehensive income (loss)           (1,366 )     2,498       1,115  
         
     
     
 
Comprehensive income (loss)         $ (25,048 )     4,169       14,354  
         
     
     
 

See accompanying notes to consolidated financial statements.

76


FAIRPOINT COMMUNICATIONS, INC. AND SUBSIDIARIES

Consolidated Statements of Cash Flows
Years ended December 31, 2004, 2003 and 2002
(Dollars in thousands)

 
   2004
   2003
   2002
  
Cash flows from operating activities:                
  Net income (loss)   $ (23,682 ) 1,671   13,239  
   
 
 
 
  Adjustments to reconcile net income (loss) to net cash provided by operating activities of continuing operations:                
    Income from discontinued operations     (671 ) (9,921 ) (21,933 )
    Dividends and accretion on shares subject to mandatory redemption     20,181   9,049   —  
    Depreciation and amortization     50,287   48,089   46,310  
    Amortization of debt issue costs     4,603   4,171   3,664  
    Provision for uncollectible revenue     1,718   1,028   2,997  
    Income from equity method investments     (10,899 ) (10,092 ) (7,798 )
    Deferred patronage dividends     (84 ) (233 ) (253 )
    Minority interest in income of subsidiaries     2   2   2  
    Loss on early retirement of debt     —   1,503   —  
    Write-off of offering costs     5,951   —   —  
    Net gain on sale of investments and other assets     (104 ) (608 ) (34 )
    Impairment on investments     349   —   12,568  
    Amortization of investment tax credits     (27 ) (37 ) (85 )
    Stock-based compensation     49   15   924  
    Change in fair value of interest rate swaps and reclassification of transition adjustment recorded in comprehensive income (loss)     (772 ) (6,664 ) (698 )
    Changes in assets and liabilities arising from continuing operations, net of acquisitions:                
        Accounts receivable     (3,068 ) (3,801 ) 2,534  
        Prepaid and other assets     (89 ) (771 ) 1,266  
        Accounts payable     (390 ) (7,185 ) 900  
        Accrued interest payable     (44 ) 7,786   506  
        Other accrued liabilities     2,302   418   1,640  
        Income taxes     (138 ) (149 ) 379  
        Other assets/liabilities     501   (1,437 ) (496 )
   
 
 
 
          Total adjustments     69,657   31,163   42,393  
   
 
 
 
          Net cash provided by operating activities of continuing operations     45,975   32,834   55,632  
   
 
 
 
Cash flows from investing activities of continuing operations:                
  Acquisition of telephone properties, net of cash acquired     (225 ) (33,114 ) —  
  Acquisition of property, plant, and equipment     (36,492 ) (33,595 ) (38,803 )
  Proceeds from sale of property, plant, and equipment     531   377   377  
  Distributions from investments     15,017   10,775   9,018  
  Payment on covenants not to compete     (145 ) (536 ) (805 )
  Acquisition of investments     —   (17 ) (493 )
  Proceeds from sale of investments and other assets     328   2,100   448  
   
 
 
 
          Net cash used in investing activities of continuing operations     (20,986 ) (54,010 ) (30,258 )
   
 
 
 
                 

77

Cash flows from financing activities of continuing operations:                
  Proceeds from issuance of long-term debt     178,550   317,680   129,080  
  Repayment of long-term debt     (193,761 ) (294,414 ) (140,560 )
  Repurchase of shares of common stock subject to put options     (1,000 ) (1,000 ) (1,000 )
  Repurchase of redeemable preferred stock     —   (8,645 ) —  
  Loan origination and offering costs     (7,750 ) (15,593 ) (63 )
  Dividends paid to minority stockholders     (5 ) (4 ) (3 )
   
 
 
 
Net cash used in financing activities of continuing operations     (23,966 ) (1,976 ) (12,546 )
   
 
 
 
Net cash contributed to (from) continuing operations from (to) discontinued operations     (3,031 ) 23,361   (10,353 )
   
 
 
 
          Net increase (decrease) in cash     (2,008 ) 209   2,475  
Cash, beginning of year     5,603   5,394   2,919  
   
 
 
 
Cash, end of year   $ 3,595   5,603   5,394  
   
 
 
 
Supplemental disclosures of cash flow information:                
  Interest paid   $ 80,736   77,351   76,611  
   
 
 
 
  Income taxes paid, net of refunds   $ 1,055   701   252  
   
 
 
 
Supplemental disclosures of noncash financing activities:                
  Redeemable preferred stock issued in connection with long-term debt settlement   $ —   —   93,861  
   
 
 
 
  Long-term debt forgiveness in connection with Carrier Services' debt settlement   $ —   —   2,000  
   
 
 
 
  Redeemable preferred stock dividends paid in-kind   $ —   8,163   10,918  
   
 
 
 
  Gain on repurchase of redeemable preferred stock   $ —   2,905   —  
   
 
 
 
  Accretion of redeemable preferred stock   $ —   729   1,000  
   
 
 
 
  Long-term debt issued in connection with Carrier Services' interest rate swap settlement   $ —   —   3,003  
   
 
 
 
  Long-term debt issued in connection with Carrier Services' Tranche B interest payment   $ 115   1,548   887  
   
 
 
 

See accompanying notes to consolidated financial statements.

78


FAIRPOINT COMMUNICATIONS, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

December 31, 2004, 2003 and 2002

(1)    Organization and Summary of Significant Accounting Policies

79

80

 
   2004
   2003
   2002
  
Balance, beginning of period   $ 1,028   1,235   1,355  
Acquisition adjustments     (143 ) 202   —  
Provision charged to expense     1,718   1,028   2,997  
Amounts written off, net of recoveries     (1,348 ) (1,437 ) (3,117 )
   
 
 
 
Balance, end of period   $ 1,255   1,028   1,235  
   
 
 
 

81

82

83

84

 
   2004
   2003
   2002
  
Change in fair value of interest rate swaps   $ 874   7,693   2,135  
Reclassification of transition adjustment included in other comprehensive income (loss)     (103 ) (1,029 ) (1,437 )
Realized losses     (883 ) (8,051 ) (10,275 )
   
 
 
 
Total   $ (112 ) (1,387 ) (9,577 )
   
 
 
 

85

 
   2004
   2003
   2002
  
Net income (loss), as reported   $ (23,682 ) 1,671   13,239  
Stock-based compensation expense included in reported net income (loss)     49   15   1,260  
Stock-based compensation determined under fair value based method     (656 ) (658 ) (1,387 )
   
 
 
 
Pro forma net income (loss)   $ (24,289 ) 1,028   13,112  
   
 
 
 
Basic and diluted earnings per share, as reported   $ (2.50 ) (0.46 ) 0.14  
   
 
 
 
Basic and diluted earnings per share, pro forma   $ (2.57 ) (0.52 ) 0.13  
   
 
 
 

86

 
   Year ended December 31
 
   2004
   2003
   2002
Contingent stock options   833   833   836
Shares excluded as effect would be anti-dilutive:            
Stock options   356   416   348
Restricted stock units   26   27   —
   
 
 
    1,215   1,276   1,184
   
 
 

87

(2)    Subsequent Events

88

 
   Class A and Class C
Common
    
    
    
    
  
 
   Common
    
    
  
 
   Additional
paid-in
capital
   Unearned
compensation
  
 
   Shares
   Amount
   Shares
   Amount
  
Balance at                              
December 31, 2004   9,452   $ 94   —   $ —   198,519   —  
Conversion of Class A and Class C to a single class of common stock   (9,452 )   (94 ) 9,452     94   —   —  
Issuance of common stock, net of issuance costs   —     —   25,000     250   434,500   —  
Issuance of restricted stock   —     —   474     5   8,759   (8,764 )
   
 
 
 
 
 
 
Balance at February 8, 2005   —   $ —   34,926   $ 349   641,778   (8,764 )
   
 
 
 
 
 
 

89

 
   December 31,
2004
   Repayments
   Remaining
balance
  
Senior secured notes   $ 182,357   (182,357 ) —  
Senior subordinated notes due 2008:                
  Fixed rate notes, 9.50%     115,207   (115,207 ) —  
  Variable rate notes     75,000   (75,000 ) —  
Senior subordinated notes, 12.50%, due 2010     193,000   (173,076 ) 19,924  
Senior notes, 11.875% due 2010     225,000   (222,950 ) 2,050  
Senior notes to RTFC:                
  Fixed rate, 9.20%, due 2009     2,278   —   2,278  
  Variable rate, due 2009     3,415   (3,415 ) —  
Subordinated promissory notes, due 2005     7,000   (7,000 ) —  
First mortgage notes to Rural Utilities Service, due 2005 to 2016     6,034   (6,034 ) —  
Senior notes to RTB, due 2008 to 2014     1,141   (1,141 ) —  
   
 
 
 
    Total outstanding long-term debt     810,432   (786,180 ) 24,252  
Less current portion     (524 ) —   (524 )
   
 
 
 
    Total long-term debt, net of current portion   $ 809,908   (786,180 ) 23,728  
   
 
 
 

90

 
   Cash
   Debt issue
and offering
cost, net
   Accrued
interest
payable
   Long-term
debt
   Other
long-term
liabilities
   Accumulated
deficit
  
Balance as of December 31, 2004   $ 3,595   18,812   16,582   809,908   12,621   (371,565 )
Proceeds from new credit facility     566,000   —   —   566,000   —   —  
Credit facility issuance costs     (8,159 ) 8,159   —   —   —   —  
Proceeds of Offering, net of issuance costs     434,750   —   —   —   —   —  
Payment of existing debt     (786,180 ) —   —   (786,180 ) —   —  
Payment of preferred stock subject to mandatory redemption     (129,141 ) —   —   —   —   (12,261 )
Payment of accrued interest     (16,051 ) —   (16,051 ) —   —   —  
Payment of deferred transaction fee     (8,445 ) —   —   —   (8,445 ) —  
Payment of tender premiums and fees     (59,315 ) —   —   —   —   (59,315 )
Settlement of common stock subject to put     (136 ) —   —   —   —   —  
Draw on new revolving credit facility     3,082   —   —   3,082   —   —  
Write-off of debt issue costs     —   (17,410 ) —   —   —   (17,410 )
   
 
 
 
 
 
 
Pro forma balance as of December 31, 2004   $ —   9,561   531   592,810   4,176   (460,551 )
   
 
 
 
 
 
 

(3)    Acquisition

91

Current assets   $ 1,027  
Property, plant, and equipment     8,301  
Excess cost over fair value of net assets acquired     25,064  
Other assets     —  
Current liabilities     (1,182 )
Other liabilities     (268 )
   
 
  Total net purchase price   $ 32,942  
   
 

        The following unaudited pro forma information presents the combined results of operations of the Company as though the acquisition was made as of January 1, 2002. These results include certain adjustments, including increased interest expense on debt related to the acquisition, certain preacquisition transaction costs, and related income tax effects. The pro forma financial information does not necessarily reflect the results of operations as if the acquisition had been in effect at the beginning of the period or that may be attained in the future (dollars in thousands).

 
   Pro forma year
ended December 31
  
 
   2003
   2002
  
Revenues   $ 238,663   238,466  
Loss from continuing operations     (8,190 ) (8,321 )
Net income     1,731   13,612  
Basic and diluted loss from continuing operations per share     (1.49 ) (2.13 )
Basic and diluted earnings (loss) per share     (0.45 ) 0.18  

(4)    Goodwill and Other Intangible Assets

Balance, December 31, 2002   $ 454,306  
Disposal of South Dakota Divestiture     (10,525 )
   
 
  Balance, December 31, 2002, adjusted for discontinued operations     443,781  
Acquisition of CST and Commtel     25,064  
   
 
  Balance, December 31, 2003     468,845  
Acquisition adjustments of CST and Commtel     (337 )
   
 
  Balance, December 31, 2004   $ 468,508  
   
 

92

(5)    Property, Plant, and Equipment

 
   Estimated
life (in years)
   2004
   2003
  
Land   —   $ 3,851   3,861  
Buildings and leasehold improvements   2-40     36,339   36,331  
Telephone equipment   3-50     615,976   591,621  
Cable equipment   3-20     3,143   1,568  
Furniture and equipment   3-34     17,098   18,184  
Vehicles and equipment   3-20     22,011   20,712  
Computer software   3-5     4,577   2,277  
       
 
 
  Total property, plant, and equipment     702,995   674,554  
Accumulated depreciation     (450,733 ) (407,848 )
       
 
 
  Net property, plant, and equipment   $ 252,262   266,706  
       
 
 

93

(6)    Investments

 
   Cost
   Gross
unrealized
holding
gains
   Gross
unrealized
holding
loss
   Fair
value
December 31, 2004   $ —   —   —   —
December 31, 2003     420   1,469   —   1,889

94

 
   2004
   2003
 
   (Dollars in thousands)
Equity method investments in cellular companies and partnerships:          
    Orange County—Poughkeepsie Limited Partnership   $ 3,590   5,116
    Chouteau Cellular Telephone Company     72   2,973
    Illinois Valley Cellular RSA 2, Inc.     2,037   1,822
    Other equity method investments     1,132   1,037
Investments in securities carried at cost:          
  RTB stock     20,125   20,125
  CoBank stock and unpaid deferred CoBank patronage     5,221   5,136
  RTFC secured certificates and unpaid deferred RTFC patronage     419   478
  Cellular companies     4,552   4,552
  Other nonmarketable minority equity investments     33   42
Nonqualified deferred compensation plan assets     568   511
   
 
      Total investments   $ 37,749   41,792
   
 
 
   2004
   2003
  
Chouteau Cellular Telephone Company   33.7 % 33.7 %
ILLINET Communications, LLC   9.1 % 9.1 %
Orange County—Poughkeepsie Limited Partnership   7.5 % 7.5 %
ILLINET Communications of Central IL LLC   5.2 % 5.2 %
Syringa Networks, LLC   13.9 % 13.9 %
Illinois Valley Cellular RSA 2, Inc.   25.0 % 25.0 %

95

 
   2004
   2003
   2002
Orange County—Poughkeepsie Limited Partnership   $ 10,249   8,939   6,787
Illinois Valley Cellular RSA 2, Inc.     372   543   321
Illinois Valley Cellular RSA 2-I, RSA 2- II, and RSA 2-III Partnerships     —   35   252
Chouteau Cellular Telephone Company     2   471   332
Other, net     276   104   106
   
 
 
  Total   $ 10,899   10,092   7,798
   
 
 
 
   2004
   2003
   2002
Orange County—Poughkeepsie Limited Partnership   $ 11,775   10,125   8,250
Illinois Valley Cellular RSA 2, Inc.     375   325   300
Illinois Valley Cellular RSA 2-I, RSA 2-II, and RSA 2-III Partnerships     —   147   160
Chouteau Cellular Telephone Company     2,524   —   16
Distributions from other equity investments     343   178   292
   
 
 
Total   $ 15,017   10,775   9,018
   
 
 
 
   September 30,
2002
Current assets   $ 12,346
Property, plant, and equipment, net     65,394
Other     20,648
   
  Total assets   $ 98,388
   
Current liabilities   $ 55,070
Noncurrent liabilities     2,878
Members' equity     40,440
   
  Total liabilities and members' equity   $ 98,388
   

96

 
   Twelve months
ended
September 30,
2002
Revenues   $ 96,361
Operating income     12,407
Net income     10,402

97

(7)    Long-term Debt

 
   2004
   2003
  
Senior secured notes, variable rates ranging from 6.44% to 8.75% at December 31, 2004, due 2005 to 2007   $ 182,357   171,091  
Senior subordinated notes due 2008:            
Fixed rate notes, 9.50%     115,207   115,207  
Variable rate notes, 6.4875% at December 31, 2004     75,000   75,000  
Senior subordinated notes, 12.50%, due 2010     193,000   193,000  
Senior notes, 11.875%, due 2010     225,000   225,000  
Carrier Services' senior secured notes, 8.00%, due 2007     —   24,570  
Senior notes to RTFC:            
Fixed rate, 9.20%, due 2009     2,278   2,776  
Variable rate, 6.15% at December 31, 2004, due 2009     3,415   4,162  
Subordinated promissory notes, 7.00%, due 2005     7,000   7,000  
First mortgage notes to Rural Utilities Service, fixed rates ranging from 4.96% to 10.78%, due 2005 to 2016     6,034   6,492  
Senior notes to RTB, fixed rates ranging from 7.50% to 8.00%, due 2008 to 2014     1,141   1,262  
   
 
 
  Total outstanding long-term debt     810,432   825,560  
Less current portion     (524 ) (21,982 )
   
 
 
  Total long-term debt, net of current portion   $ 809,908   803,578  
   
 
 
Fiscal year:      
2005(a)   $ 27,256
2006     30,384
2007     138,384
2008     192,700
2009     1,037
Thereafter     420,671
   
    $ 810,432
   

98

99

100

101

102

(8)    Redeemable preferred stock

103

(9)    Employee Benefit Plans

104

(10)    Income Taxes

 
   2004
   2003
   2002
  
Current:                
  Federal   $ —   —   —  
  State     (543 ) 199   (603 )
   
 
 
 
    Total current income tax benefit (expense) from continuing operations     (543 ) 199   (603 )
   
 
 
 
Investment tax credits     27   37   85  
Deferred:                
  Federal     —   —   —  
  State     —   —   —  
   
 
 
 
    Total deferred income tax benefit (expense) from continuing operations     —   —   —  
   
 
 
 
    Total income tax benefit (expense) from continuing operations   $ (516 ) 236   (518 )
   
 
 
 
 
   2004
   2003
   2002
  
Computed "expected" Federal tax benefit from continuing operations   $ 8,104   2,880   1,952  
State income tax benefit (expense), net of Federal income tax expense     (358 ) 131   (398 )
Amortization of investment tax credits     27   37   85  
Dividends on preferred stock     (6,862 ) (3,077 ) —  
Dividends received deduction     103   94   —  
Change in valuation allowance     (1,858 ) —   (2,279 )
Disallowed expenses and other     328   171   122  
   
 
 
 
  Total income tax benefit (expense) from continuing operations   $ (516 ) 236   (518 )
   
 
 
 

105

 
   2004
   2003
  
Deferred tax assets:            
  Federal and state tax loss carryforwards   $ 91,929   91,527  
  Employee benefits     1,620   784  
  Restructure charges and exit liabilities     968   1,917  
  Allowance for doubtful accounts     458   375  
  Alternative minimum tax and other state credits     2,218   2,209  
   
 
 
    Total gross deferred tax assets     97,193   96,812  
Valuation allowance     (66,011 ) (64,392 )
   
 
 
    Net deferred tax assets     31,182   32,420  
   
 
 
Deferred tax liabilities:            
  Property, plant, and equipment, principally due to depreciation differences     11,527   17,244  
  Goodwill, due to amortization differences     13,496   10,654  
  Basis in investments     6,159   4,522  
   
 
 
    Total gross deferred tax liabilities     31,182   32,420  
   
 
 
    Net deferred tax assets   $ —   —  
   
 
 

106

(11)    Stockholders' Equity

107

(12)    Stock Option Plans

108

 
   2004
   2003
   2002
Outstanding at January 1:   112,265   112,265   112,265
  Granted   —   —   —
  Exercised   —   —   —
  Forfeited   —   —   —
   
 
 
Outstanding at December 31   112,265   112,265   112,265
   
 
 
Exercisable at December 31, 2004   112,265        
   
       
Stock options available to grant at December 31, 2004   53,813        
   
       

109

 
   Options
outstanding
   Weighted
average
exercise
price
Outstanding at December 31, 2001   834,952   $ 9.71
  Granted   47,372     36.94
  Exercised   —     —
  Forfeited   (42,652 )   17.31
   
     
Outstanding at December 31, 2002   839,672     10.87
  Granted   —     —
  Exercised   —     —
  Forfeited   (3,316 )   9.02
   
     
Outstanding at December 31, 2003 and 2004   836,356     10.87
   
     
Stock options available to grant at December 31, 2004   481,069      
   
     
Options outstanding
   Options exercisable
Exercise
price
   Number
outstanding at
December 31,
2004
   Remaining
contractual
life (years)
   Number
exercisable at
December 31,
2004
   Weighted
average
exercise
price
$ 9.02   756,332   3.60   —   $ —
  14.46   29,183   4.50   —     —
  17.31   3,468   5.30   3,468     17.31
  36.94   47,373   7.00   —     —
     
     
 
      836,356       3,468   $ 17.31
     
     
 

110

 
   Options
outstanding
   Weighted
average
exercise
price
Outstanding at December 31, 2001   —   $ —
  Granted   253,381     36.94
  Exercised   —     —
  Canceled or forfeited   (22,050 )   36.94
   
     
Outstanding at December 31, 2002   231,331     36.94
  Granted   90,580     36.94
  Exercised   —     —
  Canceled or forfeited   (21,177 )   36.94
   
     
Outstanding at December 31, 2003   300,734     36.94
  Granted   —     —
  Exercised   —     —
  Canceled or forfeited   (60,096 )   36.94
   
     
Outstanding at December 31, 2004   240,638     36.94
   
     
Stock options available to grant at December 31, 2004   1,631,441      
   
     

111

(13)    Discontinued Operations and Restructure Charges

112

 
   2004
   2003
  
Accounts receivable   $ 102   105  
   
 
 
  Current assets of discontinued operations   $ 102   105  
   
 
 
Accrued liabilities   $ (1,141 ) (1,516 )
Restructuring accrual     (1,071 ) (2,682 )
Accrued property taxes     (50 ) (263 )
   
 
 
  Current liabilities of discontinued operations   $ (2,262 ) (4,461 )
   
 
 
Restructuring accrual   $ (1,580 ) (2,571 )
   
 
 
  Long-term liabilities of discontinued operations   $ (1,580 ) (2,571 )
   
 
 
 
   Equipment,
occupancy,
and other
lease
terminations
  
Restructuring accrual as of December 31, 2001   $ 12,310  
Adjustments from initial estimated charges     (1,192 )
Cash payments     (3,936 )
   
 
Restructuring accrual as of December 31, 2002     7,182  
Adjustments from initial estimated charges     (246 )
Cash payments     (1,683 )
   
 
Restructuring accrual as of December 31, 2003     5,253  
Adjustments from initial estimated charges     80  
Cash payments     (2,682 )
   
 
Restructuring accrual as of December 31, 2004   $ 2,651  
   
 

113

 
   Nine months
ended
September 30,
2003
   Year ended
December 31,
2002
Revenue   $ 4,028   5,299
Income from discontinued operations     1,929   2,433

(14)    Related Party Transactions

114

(15)    Quarterly Financial Information (Unaudited)

 
   First
quarter
   Second
quarter
   Third
quarter
   Fourth
quarter
  
 
   (Dollars in thousands)

  
2004:                    
  Revenue   $ 60,985   62,416   65,437   63,807  
  Loss from continuing operations     (4,608 ) (4,765 ) (4,225 ) (10,755 )
  Net loss     (4,608 ) (4,094 ) (4,225 ) (10,755 )
  Basic and diluted loss from continuing operations per share     (0.49 ) (0.50 ) (0.45 ) (1.13 )
  Basic and diluted loss per share     (0.49 ) (0.43 ) (0.45 ) (1.13 )

2003:
 
 
 
 
 
 
 
 
 
 
  Revenue   $ 55,812   57,285   58,566   59,769  
  Income (loss) from continuing operations     668   (1,112 ) (4,209 ) (3,597 )
  Net income (loss)     1,294   (504 ) 4,283   (3,402 )
  Basic and diluted loss from continuing operations per share     (0.12 ) (0.56 ) (0.44 ) (0.38 )
  Basic and diluted earnings (loss) per share     (0.05 ) (0.50 ) 0.45   (0.36 )

(16)    Disclosures About the Fair Value of Financial Instruments

115

(17)    Revenue Concentrations

(18)    Revenue Settlements

116

(19)    Commitments and Contingencies

 
   Continuing
operations
   Discontinued
operations
  
Year ending December 31:              
  2005   $ 845     2,446  
  2006     825     1,835  
  2007     746     1,529  
  2008     688     —  
  2009     534     —  
  Thereafter     589     —  
   
 
 
    Total minimum lease payments   $ 4,227     5,810  
   
       
Less estimated rentals to be received under subleases           (3,240 )
         
 
    Estimated minimum lease payments included in liabilities of discontinued operations         $ 2,570  
         
 

117

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

        Not applicable.

ITEM 9A.    CONTROLS AND PROCEDURES

Evaluation of Disclosure Controls and Procedures

        Within 90 days prior to the filing date of this Annual Report, the Company carried out an evaluation, under the supervision and with the participation of the Company's management, including the Company's Chief Executive Officer and Chief Financial Officer, of the effectiveness of the Company's disclosure controls and procedures (as defined in rule 15d-14(c) of the Exchange Act).

        Based upon that evaluation, the Company's Chief Executive Officer and Chief Financial Officer have concluded that the Company's disclosure controls and procedures (a) are effective to ensure that information required to be disclosed by the Company in this Annual Report has been timely recorded, processed, summarized and reported and (b) include, without limitation, controls and procedures designed to ensure that information required to be disclosed by the Company in this Annual Report has been accumulated and communicated to the Company's management, including its Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosure.

Changes in Internal Controls

        There have been no significant changes in the Company's internal controls or in other factors that could significantly affect these controls subsequent to the date of the Company's evaluation.

ITEM 9B.    OTHER INFORMATION

        Not applicable.

118


PART III

ITEM 10.    DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

        Our restated certificate of incorporation requires our board of directors to have between five and eleven members. In connection with the offering, we restructured our board of directors and appointed the following three independent directors: Patricia Garrison-Corbin, David L. Hauser, and Claude C. Lilly. One additional independent director will be appointed by our board of directors in accordance with our restated bylaws within one year after the closing of the offering.

        The following table sets forth the names and positions of our current directors and executive officers and their ages.

Name
   Age
   Position

Eugene B. Johnson
 
57
 
Co-Founder, Chairman of the Board of Directors and Chief Executive Officer

Peter G. Nixon
 
52
 
Chief Operating Officer

Valeri A. Marks
 
47
 
President

Walter E. Leach, Jr.
 
53
 
Executive Vice President and Chief Financial Officer

Shirley J. Linn
 
54
 
Senior Vice President, General Counsel and Secretary

Lisa R. Hood
 
39
 
Senior Vice President and Controller

Timothy W. Henry
 
49
 
Vice President of Finance and Treasurer

Frank K. Bynum, Jr.
 
42
 
Director

Patricia Garrison-Corbin
 
57
 
Director

David L. Hauser
 
53
 
Director

Claude C. Lilly
 
58
 
Director

Kent R. Weldon
 
37
 
Director

        Eugene B. Johnson.    Mr. Johnson has served as our Chairman since January 1, 2003 and as our Chief Executive Officer since January 1, 2002. Prior to his current responsibilities, Mr. Johnson was our Chief Development Officer from May 1993 to December 2002 and Vice Chairman from August 1998 to December 2002. Mr. Johnson is a co-founder and has been a director of our company since 1991. From 1997 to 2002, Mr. Johnson served as a director of the Organization for the Promotion and Advancement of Small Telecommunications Companies the primary industry organization for small independent telephone companies. From 1987 to 1993, Mr. Johnson served as President and principal shareholder of JC&A, Inc., an investment banking and brokerage firm providing services to the cable television, telephone and related industries. From 1985 to 1987, Mr. Johnson served as the director of the mergers and acquisitions department of Cable Investments, Inc., an investment banking firm. Mr. Johnson currently is chairman of Organization for the Promotion and Advancement of Small Telecommunication Companies' Universal Service Fund committee.

        Peter G. Nixon.    Mr. Nixon has served as our Chief Operating Officer since November 2002. Previously, Mr. Nixon was our Senior Vice President of Corporate Development from February 2002 to November 2002 and President of our Telecom Group from April 2001 to February 2002. Prior to this, Mr. Nixon served as President of our Eastern Region Telecom Group from June 1999 to April 2001

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and President of Chautauqua & Erie Telephone Corporation, or C&E, from July 1997, when we acquired C&E, to June 1999. From April 1, 1989 to June 1997, Mr. Nixon served as Executive Vice President of C&E. From April 1, 1978 to March 31, 1989, Mr. Nixon served as Vice President of Operations for C&E. Mr. Nixon has served as the past Chairman of the New York State Telephone Association, in addition to his involvement in several community and regional organizations.

        Valeri A. Marks.    In October 2004, Ms. Marks was appointed our President. From 2001 to 2003, Ms. Marks served as Chairman and Chief Executive Officer of Sockeye Networks (which was acquired by Internap Network Services Corporation). From 2000 to 2001, Ms. Marks served as President and Chief Executive Officer of Digital Broadband Communications, Inc. and from 1999 to 2000, she served as President and Chief Executive Officer of the Internet division of SBC Communications, Inc. Ms. Marks is a director of Amerivault, an online data back-up and recovery company.

        Walter E. Leach, Jr.    In July 2004, Mr. Leach was appointed our Executive Vice President and Chief Financial Officer. Mr. Leach has served as our Chief Financial Officer since October 1994 and has served as our Senior Vice President from February 1998 to July 2004. From October 1994 to December 2000, Mr. Leach was our Secretary. From 1984 through September 1994, Mr. Leach served as Executive Vice President of Independent Hydro Developers, where he had responsibility for all project acquisition, financing and development activities.

        Shirley J. Linn.    In September 2004, Ms. Linn was appointed our Senior Vice President, General Counsel and Secretary. Ms. Linn has served as our General Counsel since October 2000, our Vice President since October 2000 and our Secretary since December 2000. Prior to joining us, Ms. Linn was a partner, from 1984 to 2000, in the Charlotte, North Carolina law firm of Underwood Kinsey Warren & Tucker, P.A., where she specialized in general business matters, particularly mergers and acquisitions.

        Lisa R. Hood.    In July 2004, Ms. Hood was appointed our Senior Vice President and Controller. Ms. Hood has served as our Controller since December 1993 and served as our Vice President from December 1993 to July 2004. Prior to joining our company, Ms. Hood served as manager of a local public accounting firm in Kansas. Ms. Hood is certified as a public accountant in Kansas.

        Timothy W. Henry.    Mr. Henry has served as our Vice President of Finance and Treasurer since December 1997. From 1992 to December 1997, Mr. Henry served as Vice President/Portfolio Manager at CoBank, ACB, and managed a $225 million communications loan portfolio, which included responsibility for CoBank's relationship with us.

        Frank K. Bynum, Jr.    Mr. Bynum has served as a director of our company since July 1997. He is also a Managing Director of Kelso & Company. Mr. Bynum joined Kelso & Company in 1987 and has held positions of increasing responsibility at Kelso & Company prior to becoming a Managing Director. Mr. Bynum is a director of Cambridge Display Technology, Inc., Citation Corporation, Endurance Business Media, Inc. and eMarkets, Inc. He is also a Trustee of Prep for Prep and a member of the Board of Trustees of the College Foundation of the University of Virginia. Mr. Bynum has been designated to the board of directors by Kelso Investment Associates V, L.P., or Kelso Investment Associates, and Kelso Equity Partners V, L.P., or Kelso Equity Partners, pursuant to their designation rights under our nominating agreement.

        Patricia Garrison-Corbin.    Ms. Corbin has served as a director of our company since February 2005. She has served as President of P.G. Corbin & Company, Inc., Financial Advisory Services, Municipal Finance, since 1986. Ms. Corbin has also served as President and Chief Information Officer of P.G. Corbin Asset Management, Inc., Fixed Income Investment Management, since 1987. Ms. Corbin has served as Chairman of the Board of Directors of Delancey Capital Group, LP, Equity Investment Management since 1996, and Chairman of the Board of Directors of P.G. Corbin

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Group, Inc., Investment and Financial Advisory Services since 1996. Ms. Corbin has also served as a director for the Erie Insurance Company since 1999.

        David L. Hauser.    Mr. Hauser has served as a director of our company since February 2005. He is currently the CFO and Group Vice President of Duke Energy Corp., where he has been employed for 30 years. Mr. Hauser is a certified public accountant and a certified purchasing manager. He is a board member of the Blumenthal Performing Arts Center and is a member of the planning board of the Business Advisory Council for the University of North Carolina at Charlotte, the planning committee for the Motorsports Testing and Research Complex Project, the North Carolina Association of Certified Public Accountants and the American Institute of Certified Public Accountants.

        Claude C. Lilly.    Dr. Lilly has served as a director of our company since February 2005. Dr. Lilly is currently dean and James J. Harris Chair of Risk Management and Insurance in The Belk College of Business Administration at The University of North Carolina at Charlotte. Dr. Lilly has served as Assistant Deputy Insurance Commissioner for the State of Georgia and as a director of several corporations. Mr. Lilly currently serves as a director of Erie Insurance Company. He holds the Chartered Property Casualty Underwriters and Chartered Life Underwriter designations and is a member of numerous professional associations.

        Kent R. Weldon.    Mr. Weldon has served as a director of our company since January 2000. He is currently a Managing Director of Thomas H. Lee Partners, L.P. Mr. Weldon worked at the firm from 1991 to 1993 and rejoined it in 1995. Prior to 1991, Mr. Weldon worked at Morgan Stanley & Co. Incorporated in the Corporate Finance Department. Mr. Weldon is a director of Michael Foods, Inc., Nortek, Inc. and Syratech Corporation. Mr. Weldon has been designated to the board of directors by Thomas H. Lee Equity Fund IV, L.P., which we refer to as THL Equity Fund, pursuant to its designation rights under our nominating agreement.

        Pursuant to our restated certificate of incorporation, our board of directors is divided into three classes. The members of each class, other than the members initially serving as Class I directors or Class II directors, will serve for a staggered three-year term. Upon the expiration of the term of a class of directors, directors in that class will be elected for a three-year term at the annual meeting of stockholders in the year in which their term expires. The classes are comprised as follows:

        Any additional directorships resulting from an increase in the number of directors will be distributed among the three classes so that, as nearly as possible, each class will consist of one-third of our directors. This classification of our board of directors may have the effect of delaying or preventing changes in control of the company.

        In connection with the offering, we entered into a nominating agreement with THL Equity Fund, Kelso Investment Associates and Kelso Equity Partners pursuant to which we, acting through our corporate governance committee, agreed, subject to the requirements of our directors' fiduciary duties, that (i) THL Equity Fund will be entitled to designate one Class III director to be nominated for election to our board of directors and Kelso Investment Associates and Kelso Equity Partners will be entitled to designate one Class II director to be nominated for election to our board of directors as

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long as THL Equity Fund and its affiliates, Kelso Investment Associates and Kelso Equity Partners own in the aggregate at least 40% of the shares of our common stock which they owned immediately prior to the closing of the offering or (ii) THL Equity Fund will be entitled to designate one Class III director to be nominated for election to our board of directors as long as THL Equity Fund and its affiliates, Kelso Investment Associates and Kelso Equity Partners own in the aggregate less than 40% and at least 20% of the shares of our common stock which they owned immediately prior to the closing of the offering. In addition, at any time after Kelso Investment Associates and Kelso Equity Partners no longer own any of our common stock, as long as THL Equity Fund and its affiliates own at least 40% of the shares of our common stock which THL Equity Fund and its affiliates, Kelso Investment Associates and Kelso Equity Partners owned immediately prior to the closing of the offering, THL Equity Fund will be entitled to designate one Class II director to be nominated for election to our board of directors in addition to its right to designate one Class III director to be nominated for election to our board of directors.

Committees of the Board of Directors

        Our board of directors has standing audit, compensation and corporate governance committees.

        Our audit committee consists of Claude C. Lilly and David L. Hauser. Claude C. Lilly is the chair of the audit committee and David L. Hauser is the audit committee financial expert serving on the audit committee for purposes of the Exchange Act. One additional independent director will be appointed to the audit committee within one year of the closing of the offering. Among other functions, the principal duties and responsibilities of our audit committee are to:

        The audit committee is required to report regularly to our board of directors to discuss any issues that arise with respect to the quality or integrity of our financial statements, our compliance with legal or regulatory requirements, the performance and independence of our independent auditors, or the performance of the internal audit function.

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        Our compensation committee consists of David L. Hauser, Patricia Garrison-Corbin and Kent R. Weldon. David L. Hauser is the chair of the compensation committee. Among other functions, the principal duties and responsibilities of our compensation committee are to:

        For the fiscal year ended December 31, 2004, our compensation committee consisted of Anthony J. DiNovi and George E. Matelich. Mr. DiNovi and Mr. Matelich resigned from our board of directors in connection with the offering. None of our executive officers has served as a member of the compensation committee (or other committee serving an equivalent function) of any other entity, whose executive officers served as a director of our company or member of our compensation committee.

        Our corporate governance committee consists of Patricia Garrison-Corbin, Claude C. Lilly and Frank K. Bynum, Jr. Patricia Garrison-Corbin is the chair of the corporate governance committee. Among other functions, the principal duties and responsibilities of our corporate governance committee are to:

Codes of Ethics

        The Company has adopted a Code of Business Conduct and Ethics, which we refer to as the Code of Conduct, to help the Company achieve the highest business and personal ethical standards as well as compliance with the laws and regulations that apply to the business. The Code of Conduct sets forth basic guiding principles and standards of conduct for all employees, directors and officers of the Company and its subsidiaries and controlled affiliates.

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        The Company has adopted a Code of Ethics for Financial Professionals, which we refer to as the Code for Financial Professionals, as required by the Securities and Exchange Commission under Section 406 of the Sarbanes-Oxley Act. The Code for Financial Professionals sets forth written standards that are designed to deter wrongdoing and to promote honest and ethical conduct by the Company's senior financial officers, including its Chief Executive Officer, and is a supplement to the Company's Code of Conduct. In addition to applying to the Company's Chief Executive Officer, Chief Financial Officer, Vice President of Finance and Treasurer, Controller and regional controllers, this Code for Financial Professionals applies to all of the other persons employed by the Company who have significant responsibility for preparing or overseeing the preparation of the Company's financial statements and the other financial data included in the Company's periodic reports to the Securities and Exchange Commission and in other public communications made by the Company that are designated from time to time by the Chief Financial Officer as senior financial professionals.

        Copies of the Code of Conduct and the Code for Financial Professionals are available on our web site, www.fairpoint.com, and are also filed as exhibits to this Annual Report.

ITEM 11.    EXECUTIVE COMPENSATION

        The following table sets forth information concerning compensation paid to our Chief Executive Officer and our other four most highly compensated executive officers serving as executive officers at the end of fiscal year 2004 (and an additional executive officer who was no longer serving as an executive officer at the end of fiscal year 2004) in the years indicated.


Summary Compensation Table

 
    
    
    
    
   Long-term
Compensation Awards
    
 
    
   Annual Compensation
    
   Awards of
Restricted
Stock
Units
   Number of
Securities
Underlying
Options/SARs
    
Name and Principal Position
    
   Other Annual
Compensation(2)
   All Other
Compensation(3)
  Year
   Salary
   Bonus(1)
Eugene B. Johnson
    Chairman and Chief Executive Officer		   2004
2003
2002		   $

 350,000
341,923
256,500		   $

 178,500
166,450
69,543		   $

 43,372
45,353
46,093		   —
—
—		   —
—
67,863		   $

 17,249
13,252
11,038

Peter G. Nixon.
    Chief Operating Officer
 
2004
2003
2002
 
$
209,692
198,789
155,000
 
$
78,750
95,200
47,024
 
$
4,360
—
—
 
—
5,947
—
 
—
23,786
8,419
 
$
10,115
9,690
9,690

Walter E. Leach, Jr.
    Executive Vice President
    and Chief Financial Officer
 
2004
2003
2002
 
$
204,846
199,219
171,074
 
$
153,750
95,200
45,752
 
$
33,895
36,130
20,077
 
—
4,738
—
 
—
—
77,364
 
$
10,727
11,661
9,822

John P. Duda
    President(4)
 
2004
2003
2002
 
$
202,085
189,000
189,081
 
$
50,000
61,625
50,568
 
$
22,921
31,127
37,431
 
—
—
—
 
—
—
54,125
 
$
7,719
10,435
10,435

Shirley J. Linn
    Senior Vice President,
    General Counsel and
    Secretary
 
2004
2003
2002
 
$
193,846
188,758
180,000
 
$
116,400
76,700
40,157
 
 
—
—
—
 
—
3,553
—
 
—
14,212
9,209
 
$
9,622
11,379
9,898

Lisa R. Hood
    Senior Vice President
    and Controller
 
2004
2003
2002
 
$
137,069
120,595
114,942
 
$
60,000
30,388
19,208
 
$
4,267
3,772
3,648
 
—
1,659
—
 
—
6,633
8,791
 
$
6,724
7,132
6,372
(1)
For the year ended December 31, 2004, represents bonuses which were earned during 2004 and paid in February 2005.

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(2)
Reflects the value of certain benefits provided pursuant to employment arrangements.

(3)
Reflects matching contributions made under our 401(k) plan and the value of group term life insurance coverage.

(4)
Mr. Duda served as our President from April 2001 until September 2004. Mr. Duda's employment with us ended effective as of September 30, 2004.

1995 Stock Option Plan

        The FairPoint Communications Inc. (formerly MJD Communications, Inc.) 1995 Stock Option Plan, which we refer to as the 1995 plan, was adopted in February 1995. The 1995 plan provides for the grant of options to purchase up to an aggregate of 215,410 shares of our common stock. The 1995 plan is administered by our compensation committee, which has made discretionary grants of options to our officers, directors and employees. As of December 31, 2004, a total of 112,265 options to purchase shares of our common stock were outstanding under the 1995 plan. Such options all have an exercise price equal to $1.32 per share, and are vested and exercisable.

        The options outstanding under the 1995 plan are vested and exercisable and may be exercised in accordance with the terms of the 1995 plan.

1998 Stock Incentive Plan

        The FairPoint Communications, Inc. (formerly MJD Communications, Inc.) Stock Incentive Plan, which we refer to as the 1998 plan, was adopted in August 1998. The 1998 plan provides for grants to members of management of up to 1,317,425 nonqualified options to purchase our common stock, at the discretion of the compensation committee. As of December 31, 2004, a total of 836,356 options to purchase shares of our common stock were outstanding under the 1998 plan. 756,332 of these options have an exercise price equal to $9.02 per share and are vested, 29,183 have an exercise price equal to $14.46 per share and are vested, 3,468 have an exercise price equal to $17.31 per share and are vested and exercisable and 47,373 of these options have an exercise price equal to $36.94 per share and are vested.

        While all of the options granted under the 1998 plan are vested, these options generally will only become exercisable if there is an exit event (as defined in the 1998 plan) and certain specified thresholds are met. An exit event will occur if (i) Kelso Investment Associates V, L.P. and Kelso Equity Partners V, L.P. sell all of the shares of common stock they own to one or more third parties or (ii) all or substantially all of our assets are sold. Upon an exit event, options granted under the 1998 plan will become exercisable only if Kelso Investment Associates V, L.P. and Kelso Equity Partners V, L.P. receive a certain internal rate of return, compounded annually, and determined after giving effect to any exercisable options granted under any of our equity incentive plans. The number of options, if any, that become exercisable upon such an exit event will be based on the price per share of common stock received in the transaction, with the percentage of each option grant becoming exercisable increasing as the price per share increases. Any options that do not become exercisable in connection with an exit event will be cancelled in connection with the exit event.

2000 Employee Stock Incentive Plan

        The FairPoint Communications, Inc. 2000 Employee Stock Incentive Plan, which we refer to as the 2000 plan, was adopted in May 2000. The 2000 plan provides for grants to members of our management and other key employees of up to 1,898,521 options to purchase shares of our common stock, at the discretion of the compensation committee. During 2002, the Company amended the 2000 plan to limit the number of shares available for grant to 448,236. As of December 31, 2004, 240,638 options to purchase shares of our common stock were outstanding under the 2000 plan. Such options have an exercise price of $36.94 per share.

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        Options granted under the 2000 plan generally become vested based upon the participant's completion of a minimum period of continued employment with us, with 10% of each option grant becoming vested on the first anniversary of grant, 15% of each option grant becoming vested on the second anniversary of grant and 25% of each option grant becoming vested on each of the third, fourth and fifth anniversaries of grant. Unless otherwise determined by our compensation committee, any options that are not vested upon a participant's termination of employment will be cancelled.

        Any options outstanding under the 2000 plan that are vested and exercisable may continue to be exercised in accordance with the terms of the 2000 plan. Any unvested options under the 2000 plan will continue to become vested and exercisable in accordance with the terms of the 2000 plan.

        In December 2003, we amended the 2000 plan to allow for the grant to members of our management of restricted stock units in addition to stock options. As a result, the 2000 plan provides for the grant to members of management of up to 1,898,521 shares of our common stock represented by restricted stock units and/or options to purchase our common stock, at the discretion of the compensation committee. As of December 31, 2004, 26,442 restricted stock units were outstanding.

        Restricted stock units granted under the 2000 plan generally become vested based upon the participant's completion of a minimum period of continued employment with us, with 331/3% of each grant becoming vested on each of the third, fourth and fifth anniversaries of grant. Unless otherwise determined by our compensation committee, if the participant's employment terminates because of the participant's death, disability (as defined in the 2000 plan) or retirement (as defined in the 2000 plan), all of the participant's restricted stock units will become immediately vested. If the participant's employment terminates for any other reason, all unvested restricted stock units will be forfeited and cancelled.

        All of the restricted stock units granted under the 2000 plan are currently unvested. These restricted stock units will continue to become vested in accordance with the terms of the 2000 plan.

        The 2000 plan contains a change in control provision that, if triggered, will potentially accelerate the vesting of options and restricted stock units granted under the 2000 plan. In the event of a change in control (as defined in the 2000 plan), each outstanding option will be canceled in exchange for a payment in cash equal to the product of (i) the excess of the change in control price over the option exercise price and (ii) the number of shares of common stock covered by such stock option. All restricted stock units granted under the 2000 plan will become vested and shall be immediately deliverable. Notwithstanding the foregoing, if the compensation committee determines before the change in control either that all outstanding awards will be honored or assumed by the acquirer, or alternative awards with equal or better terms will be made available, such outstanding awards will not be canceled, their vesting and exercisability will not be accelerated, and there will be no payment in exchange for such awards. Any alternative awards offered must generally:


2005 Stock Incentive Plan

        The FairPoint Communications, Inc. 2005 Stock Incentive Plan, which we refer to as the 2005 stock incentive plan, was adopted in February 2005. The 2005 stock incentive plan provides for the

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award to eligible participants of (i) restricted stock and restricted units; (ii) stock options, including incentive stock options (within the meaning of Section 422 of the Internal Revenue Code); (iii) stock appreciation rights; (iv) incentive stock and incentive units; and/or (v) deferred shares and supplemental units.

        A total of 947,441 shares of our common stock are available for award under the 2005 stock incentive plan. The maximum number of shares with respect to which options or stock appreciation rights may be granted to any one participant in any calendar year is 500,000. The maximum number of shares that may be issued under the plan through tax-qualified incentive stock options is 947,441. Shares subject to awards that are forfeited, canceled or otherwise terminated without the issuance of our common stock under the 2005 stock incentive plan will again be available for future awards under the 2005 stock incentive plan. If we undergo a stock dividend, stock split, share combination, extraordinary cash dividend, recapitalization, reorganization, merger, consolidation, split-up, spin-off, combination, exchange of shares or other similar event affecting our common stock, our compensation committee will equitably adjust the number and kind of shares that are available under the 2005 stock incentive plan and that are subject to outstanding options or other awards. Unless our compensation committee determines otherwise, participants will not be entitled to dividends or dividend equivalents with respect to unvested restricted stock awards. Awards may be made to any of our current or prospective directors, officers, employees or consultants. The number of individuals participating in the 2005 stock incentive plan will vary from year to year.

        On February 15, 2005, we awarded 473,716 shares of restricted stock in the aggregate to nine of our employees.

        Our compensation committee will determine the terms for vesting of awards, which may include vesting based on a period of continuous employment, or vesting based on the attainment of one or more of the performance criteria specified in the 2005 stock incentive plan. The shares of restricted stock awarded on the closing date of the offering will generally become vested in four equal annual installments commencing on April 1, 2006 (three equal annual installments for our chief executive officer) and will not be entitled to receive dividends for any period prior to April 1, 2006.

        A participant's termination of employment will have the important consequences described below on outstanding awards under the 2005 stock incentive plan, unless our compensation committee determines otherwise at or after the date of grant. Participants will become vested in a pro-rata portion (based on the number of days employed during the vesting period) of any outstanding restricted stock and restricted units if their employment terminates because of their disability (as defined in the 2005 stock incentive plan), normal retirement (as defined in the 2005 stock incentive plan) or early retirement with the consent of our compensation committee, and will vest in full in the event of death (these terminations are referred to as qualifying terminations). If a participant's employment is terminated for any reason other than a qualifying termination, outstanding unvested restricted stock and restricted units will be forfeited and cancelled unless our compensation committee determines otherwise (or, in the case of our chief executive officer, if he fails to comply with applicable post-employment non-competition restrictions).

        Participants will become vested in any outstanding stock options and stock appreciation rights if their employment terminates as a result of a qualifying termination, and will forfeit any unvested stock options and stock appreciation rights if their employment terminates for any reason other than a qualifying termination. Participants will become vested in a pro-rata portion (based on the number of days employed during the performance period) of any outstanding incentive stock and incentive units that are actually earned based on our performance if their employment terminates as a result of a qualifying termination (with full vesting in the event of death), and will forfeit any outstanding unvested incentive stock and incentive units if their employment terminates for any reason other than a qualifying termination.

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        In the event of a change in control (as defined in the 2005 stock incentive plan), all awards other than stock options and stock appreciation rights granted under the 2005 stock incentive plan will become vested and shall be immediately transferable or payable. All outstanding stock options and stock appreciation rights shall, at the discretion of the compensation committee, become fully exercisable or be canceled in exchange for a payment in cash equal to the product of (i) the excess of the change in control price over the option exercise price or stock appreciation right base price, as applicable, and (ii) the number of shares of common stock covered by such stock option or stock appreciation right. Notwithstanding the foregoing, if the compensation committee determines before the change in control either that all outstanding awards will be honored or assumed by the acquirer, or alternative awards with equal or better terms will be made available, such outstanding awards will not be canceled, their vesting and exercisability will not be accelerated, and there will be no payment in exchange for such awards. Any alternative awards offered must generally:

        Awards under the 2005 stock incentive plan will generally not be assignable or transferable other than by will or by the laws of descent and distribution, except that the compensation committee may permit certain transfers to the participant's family members or to certain entities controlled by the participant or his or her family members.

        The 2005 stock incentive plan will expire on the day prior to the first meeting of our stockholders in 2009 at which directors will be elected. However, the board of directors or our compensation committee may at any time, and from time to time, amend, modify or terminate the 2005 stock incentive plan. The expiration of the term of the 2005 stock incentive plan, or any amendment, suspension or termination, will not adversely affect any outstanding award held by a participant without the consent of the participant. However, our compensation committee may, in its absolute discretion, alter or amend any of the provisions of the 2005 stock incentive plan if such alteration or amendment would be required to comply with Section 409A of the Internal Revenue Code or any regulations promulgated thereunder.

        The following table sets forth the awards of restricted stock under our 2005 stock incentive plan which were granted to the executive officers named in our management table on February 15, 2005:

Name
   Number of
Shares of Common Stock
Underlying Awards
Under our 2005 Stock Incentive Plan
Eugene B. Johnson   189,488
Peter G. Nixon   56,846
Valeri A. Marks   44,213
Walter E. Leach, Jr.   94,744
Shirley J. Linn   44,213
Lisa R. Hood   18,948
Timothy W. Henry   9,474

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Annual Incentive Plan

        In February 2005, the Company adopted the FairPoint Communications, Inc. Annual Incentive Plan, or the annual incentive plan, that provides for the award of incentive bonuses to our named executive officers and certain of our other officers and employees. Each year our compensation committee will establish target incentive bonuses for participants in the annual incentive plan and will select the eligible participants and performance criteria for that year for a participant or group of participants.

        The actual bonus payable to a participant, which may equal, exceed or be less than the target bonus, will be determined based on whether the applicable performance targets are met, exceeded or not met. Performance targets may be based on one or more of the following criteria: (i) revenue growth; (ii) earnings before interest, taxes, depreciation and amortization; (iii) operating income; (iv) pre- or after-tax income; (v) cash flow; (vi) cash flow per share; (vii) net earnings; (viii) earnings per share; (ix) return on equity; (x) return on invested capital; (xi) return on assets; (xii) economic value added (or an equivalent metric); (xiii) share price performance; (xiv) total shareholder return; (xv) improvement in or attainment of expense levels; (xvi) improvement in or attainment of working capital levels; (xvii) debt reduction; or (xviii) any other criteria our compensation committee in its sole discretion deems appropriate. The maximum bonus payable to a participant in any plan year is $1,000,000.

        Bonuses will generally be payable as soon as practicable after our compensation committee certifies that the applicable performance criteria have been obtained, and will generally be payable only if the participant remains employed with us through the end of the plan year, subject to the discretion of our compensation committee to allow payment after a participant's termination of employment.

        If a participant in the plan dies, becomes disabled or retires prior to the end of any plan year, our compensation committee may award to the participant (or his or her estate or legal representative) a partial bonus as it determines appropriate based on the portion of the year the participant worked. In addition, our compensation committee may require that a portion of a participant's annual incentive bonus be payable in shares of common stock, options or other stock-based awards granted under our 2005 stock incentive plan described above, which awards may also be subject to additional vesting or other restrictions determined by our compensation committee.

        The annual incentive plan will be administered by our compensation committee, which may delegate its authority except to the extent that it relates to the compensation of our named executive officers or any other individual whose compensation the board of directors or the compensation committee reasonably believes may become subject to Section 162(m) of the Internal Revenue Code. The annual incentive plan will expire one day prior to the date of the first meeting of our stockholders in 2009 at which directors will be elected. However, our compensation committee may at any time amend, suspend, discontinue or terminate the annual incentive plan, provided that any such amendment, suspension, discontinuance or termination does not adversely affect participants' rights without their consent. The determination of our compensation committee on all matters relating to the annual incentive plan will be final and binding on us, participants and all other interested parties.

        Section 162(m) of the Internal Revenue Code generally limits the ability of a public corporation to deduct compensation greater than $1,000,000 paid with respect to a particular year to an individual who is, on the last day of that year, the corporation's chief executive officer or one of its four other most highly compensated executive officers, other than compensation that is "performance based" within the meaning of Section 162(m). Under a special rule that applies to corporations that become public through an initial public offering, this limitation generally will not apply to compensation that is paid pursuant to the plans described above before the first meeting of our stockholders in 2009 at which directors will be elected.

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Option/SAR Grants in Last Fiscal Year

        There were no options or SARs granted during fiscal year 2004.

Aggregated Option/SAR Exercises in Last Fiscal Year and Fiscal Year End Option/SAR Values

        The following table sets forth the information with respect to the named executive officers set forth in the Summary Compensation Table concerning the exercise of options during fiscal year 2004, the number of securities underlying options as of December 31, 2004 and the year-end value of all unexercised in-the-money options held by such individuals.

Name
   Shares
Acquired on
Exercise (#)
   Value
Realized ($)
   Numbers of Securities
Underlying Unexercised
Options/SARs At Fiscal
Year End (#)
Exercisable/Unexercisable
   Value of Unexercised In The
Money Options/SARs at
Fiscal Year End ($)
Exercisable/Unexercisable(1)
Eugene B. Johnson   0   0   55,767/278,934   $694,055/$2,146,642
Peter G. Nixon   0   0   6,423/50,678   — /$279,347
Walter E. Leach, Jr.   0   0   58,023/139,553   — /$1,379,410
John P. Duda(2)   0   0   18,013/77,691   $309,463/$933,574
Shirley J. Linn   0   0   7,116/19,858   — /$65,731
Lisa R. Hood   0   0   3,831/35,991   — /$254,456
(1)
Represents the difference between the exercise price and $18.50 per share of our common stock (the price to the public in the offering).

(2)
Mr. Duda's employment with the Company ended effective as of September 30, 2004.

Director Compensation

        During fiscal 2004, we provided Daniel G. Bergstein, a director of the Company during fiscal 2004, and his immediate family with certain medical benefits and provided Mr. Bergstein with a leased automobile as compensation for his services as a director. For fiscal 2005, our non-employee directors will receive an annual fee of $45,000 for serving as directors and an annual fee of $5,000 for serving as the chair of our compensation committee or corporate governance committee and an annual fee of $10,000 for serving as the chair of our audit committee.

Compensation Committee Policies

        Our compensation committee, as chartered by our board of directors, annually evaluates the performance of Eugene B. Johnson as our Chairman of the Board and Chief Executive Officer and reports the results of its evaluation to our board of directors. The evaluation is based principally upon objective criteria, including business performance, accomplishment of strategic and financial objectives, development of management and other matters relevant to our short-term and long-term success and the maximization of shareholder return. The results of the compensation committee's evaluation are communicated to Mr. Johnson and are considered by the committee in its deliberations with respect to Mr. Johnson's compensation. All determinations regarding Mr. Johnson's compensation are made by the compensation committee and thereupon reported to our board of directors. The compensation committee similarly determines the compensation of the Company's other executive officers, after discussions with Mr. Johnson, taking into account such executives' annual goals and performance.

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Employment Agreements

        In December 2002, we entered into an employment agreement with Mr. Johnson, pursuant to which we named Mr. Johnson Chief Executive Officer of the Company and/or Chairman of the Company's Board of Directors from December 31, 2002 to December 31, 2006. The employment agreement provides that Mr. Johnson will receive an annual base salary of $350,000 and an annual discretionary bonus, and Mr. Johnson shall be entitled to participate in all incentive, savings, stock option and retirement plans, practices, policies and programs applicable generally to other senior management. The employment agreement also provides that upon (i) the expiration of Mr. Johnson's employment period, or (ii) the termination of Mr. Johnson's employment as Chief Executive Officer without cause, Mr. Johnson is entitled to receive certain benefits. These benefits include continued medical coverage for Mr. Johnson and his wife until each has reached age 65, the accelerated vesting of all options granted to Mr. Johnson under the Company's 1998 plan and 2000 plan and extension of Mr. Johnson's right to exercise all of his vested options under the 1995 plan and the 2000 plan within certain time periods. If we terminate Mr. Johnson for cause or he voluntarily resigns he is not entitled to any benefits under the employment agreement. If Mr. Johnson's employment is terminated without cause during the term of his employment agreement he is entitled to receive payment of his salary as of the termination event for two years, subject to suspension for a breach of Mr. Johnson's covenant not to compete with us. Upon the expiration of the term of Mr. Johnson's employment agreement at December 31, 2006, unless extended, he is entitled to receive payment of his salary as of such expiration date for one year thereafter, subject to suspension for a breach of Mr. Johnson's covenant not to compete with us. The employment agreement supersedes and terminates all prior employment agreements and severance arrangements between Mr. Johnson and us.

        In October 2004, we entered into a letter agreement with Mr. Johnson pursuant to which we extended his right to exercise the options granted to him under the 1995 plan until May 21, 2008, subject to the terms of the 1995 plan. In addition, Mr. Johnson agreed that in connection with any public offering of equity securities by us prior to May 21, 2008, Mr. Johnson will be offered the same rights and will be subject to the same obligations in connection with any such offering as our executive officers then in office.

        In January 2000, we entered into an employment agreement with Walter E. Leach, Jr., which agreement expired on December 31, 2003. In December 2003, we entered into a letter agreement with Mr. Leach, supplementing and modifying his employment agreement. The letter agreement provides that following the expiration of his employment agreement, Mr. Leach shall continue as an employee at will. During this period, Mr. Leach is entitled to receive certain benefits. The letter agreement also provides that upon termination of Mr. Leach's employment by us without cause (including upon a change of control), Mr. Leach is entitled to receive from us in a lump sum payment an amount equal to his base salary as of the date of termination for a period of twelve months, plus all accrued and unpaid base salary and benefits as of the date of termination. In addition, Mr. Leach is also entitled to receive continued long term disability, term life insurance and medical benefits following his termination for twelve months following such date of termination.

        In November 2002, we entered into a letter agreement with each of Mr. Nixon and Ms. Linn, and in October 2004, we entered into a letter agreement with Ms. Marks. The letter agreements provide that upon the termination of each person's respective employment with us without cause, each person is entitled to receive from us in a lump sum payment an amount equal to twelve months of such executive's base salary as of the date of termination, plus the continuation of certain benefits, including medical benefits, for twelve months.

131

        In October 2004, we entered into an agreement with Mr. Duda. The agreement provides that Mr. Duda's last day of employment with us was September 30, 2004 and that we will provide Mr. Duda with certain benefits, including a separation payment equivalent to fifty-two weeks of base salary, medical and disability benefits through September 30, 2005 and eligibility for a discretionary bonus and any discretionary 401(k) corporate performance awards for the year ended December 31, 2004 on a pro rata basis. In addition, the letter agreement provides that (i) Mr. Duda's right to exercise the options granted to him under the 1995 plan will be extended until May 21, 2008, subject to the terms of the 1995 plan, (ii) the options granted to him under the 1998 plan will remain in effect pursuant to the agreements governing such options, (iii) the vested options granted to him under the 2000 plan will terminate unless exercised within 60 days of his last day of employment and any unvested options thereunder will terminate on his last day of employment and (iv) in connection with any public offering of equity securities by us prior to May 21, 2008, Mr. Duda will be offered the same rights and will be subject to the same obligations in connection with any such offering as our executive officers then in office.

ITEM 12.    SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS

        The following table sets forth information regarding beneficial ownership of our common stock as of February 28, 2005 for (i) each executive officer named in the "Summary Compensation Table", (ii) each director, (iii) all executive officers and directors as a group and (iv) each person who beneficially owns 5% or more of the outstanding shares of our common stock.

        The amounts and percentages of common stock beneficially owned are reported on the basis of regulations of the Securities and Exchange Commission governing the determination of beneficial ownership of securities. Under the rules of the Securities and Exchange Commission, a person is deemed to be a "beneficial owner" of a security if that person has or shares "voting power," which includes the power to vote or to direct the voting of such security, or "investment power," which includes the power to dispose of or direct the disposition of such security. A person is also deemed to be a beneficial owner of any securities of which that person has a right to acquire beneficial ownership within 60 days. All persons listed have sole voting and investment power with respect to their shares unless otherwise indicated.

 
   Shares Beneficially
Owned(1)
  
 
   Number
   %
  
Executive Officers and Directors:          
Eugene B. Johnson(2)   137,712   0.4 %
Peter G. Nixon(3)   10,270   *  
Walter E. Leach, Jr.(4)   77,364   0.2 %
John P. Duda(5)   18,013   *  
Shirley J. Linn(6)   7,722   *  
Lisa R. Hood(7)   7,449   *  
Frank K. Bynum, Jr.(8)   3,448,590   10.0 %
Patricia Garrison-Corbin   0   —  
David L. Hauser   0   —  
Claude C. Lilly   0   —  
Kent R. Weldon(9)   4,066,731   11.8 %
All Executive Officers and Directors as a group (13 persons)(10)   7,777,223   22.5 %
           

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5% Stockholders:
 
 
 
 
 
Kelso Investment Associates V, L.P. and Kelso Equity Partners V, L.P.(8)
320 Park Avenue, 24th Floor
New York, New York 10022		  
3,448,590		  
10.0
%
Thomas H. Lee Equity Fund IV, L.P. and affiliates(11)
100 Federal Street, 35th Floor
Boston, Massachusetts 02110		   4,066,731   11.8 %
*
Less than .1%.

(1)
Unless otherwise indicated below, the persons and entities named in the table have sole voting and sole investment power with respect to all shares beneficially owned by them, subject to community property laws where applicable. The percentage of beneficial ownership is based on 34,452,716 shares of our common stock outstanding as of February 28, 2005 (which does not include 473,716 shares of restricted stock awarded under our 2005 stock incentive plan on February 15, 2005, which shares are subject to certain vesting requirements).

(2)
With respect to shares beneficially owned: (i) includes 55,767 shares of our common stock issuable upon exercise of stock options that are either currently exercisable or become exercisable during the next 60 days, (ii) does not include 278,934 shares of our common stock issuable upon exercise of stock options that are not currently exercisable or do not become exercisable during the next 60 days and (iii) does not include 189,488 shares of restricted stock awarded under our 2005 stock incentive plan on February 15, 2005, which shares are subject to certain vesting requirements.

(3)
With respect to shares beneficially owned: (i) includes 8,527 shares of our common stock issuable upon exercise of stock options that are either currently exercisable or become exercisable during the next 60 days, (ii) does not include 42,627 shares of our common stock issuable upon exercise of stock options that are not currently exercisable or do not become exercisable during the next 60 days, (iii) does not include 5,947 shares of our common stock underlying unvested restricted stock units and (iv) does not include 56,846 shares of restricted stock awarded under our 2005 stock incentive plan on February 15, 2005, which shares are subject to certain vesting requirements.

(4)
With respect to shares beneficially owned: (i) includes 77,364 shares of our common stock issuable upon exercise of stock options that are either currently exercisable or become exercisable during the next 60 days, (ii) does not include 115,474 shares of our common stock issuable upon exercise of stock options that are not currently exercisable or do not become exercisable during the next 60 days, (iii) does not include 4,738 shares of our common stock underlying unvested restricted stock units and (iv) does not include 94,744 shares of restricted stock awarded under our 2005 stock incentive plan on February 15, 2005, which shares are subject to certain vesting requirements.

(5)
With respect to shares beneficially owned: (i) includes 18,013 shares of our common stock issuable upon exercise of stock options that are either currently exercisable or become exercisable during the next 60 days and (ii) does not include 77,691 shares of our common stock issuable upon exercise of stock options that are not currently exercisable or do not become exercisable during the next 60 days.

(6)
With respect to shares beneficially owned: (i) includes 7,722 shares of our common stock issuable upon exercise of stock options that are either currently exercisable or become exercisable during the next 60 days, (ii) does not include 15,699 shares of our common stock issuable upon exercise of stock options that are not currently exercisable or do not become exercisable during the next 60 days, (iii) does not include 3,553 shares of our common stock underlying unvested restricted

133

(7)
With respect to shares beneficially owned: (i) includes 6,028 shares of common stock issuable upon exercise of stock options that are either currently exercisable or become exercisable during the next 60 days, (ii) does not include 32,135 shares of our common stock issuable upon exercise of stock options that are not currently exercisable or do not become exercisable during the next 60 days, (iii) does not include 1,659 shares of our common stock underlying unvested restricted stock units and (iv) does not include 18,948 shares of restricted stock awarded under our 2005 stock incentive plan on February 15, 2005, which shares are subject to certain vesting requirements.

(8)
Share amounts include 3,112,861 shares of our common stock owned by Kelso Investment Associates and 335,729 shares of our common stock owned by Kelso Equity Partners V, L.P. Kelso Investment Associates V, L.P. and Kelso Equity Partners V, L.P., due to their common control, could be deemed to beneficially own each other's shares, but each disclaims such beneficial ownership. Joseph S. Schuchert, Frank T. Nickell, Thomas R. Wall, IV, George E. Matelich, Michael B. Goldberg, David I. Wahrhaftig, Frank K. Bynum, Jr., Philip E. Berney, Frank J. Loverro and Michael B. Lazar may be deemed to share beneficial ownership of shares of our common stock owned of record by Kelso Investment Associates V, L.P. and Kelso Equity Partners V, L.P., by virtue of their status as general partners of the general partner of Kelso Investment Associates V, L.P. and as general partners of Kelso Equity Partners V, L.P. Messrs. Schuchert, Nickell, Wall, Matelich, Goldberg, Wahrhaftig, Bynum, Berney, Loverro and Lazar share investment and voting power with respect to securities owned by Kelso Investment Associates V, L.P. and Kelso Equity Partners V, L.P., but disclaim beneficial ownership of such securities.

(9)
Shares beneficially owned include 3,397,096 shares owned by Thomas H. Lee Equity Fund IV, L.P., 116,258 shares owned by Thomas H. Lee Foreign Fund IV, L.P., 329,936 shares owned by Thomas H. Lee Foreign Fund IV-B, L.P. and 1,193 shares owned by Thomas H. Lee Investors Limited Partnership. Due to his position as a Managing Director of Thomas H. Lee Partners, L.P., Mr. Weldon may be deemed to share voting and investment power with other investors with respect to the shares beneficially owned by such entities. Mr. Weldon disclaims beneficial ownership of such shares except to the extent of his pecuniary interest therein. In addition, Mr. Weldon owns 2,777 shares of common stock.

(10)
With respect to shares beneficially owned: (i) includes 173,421 shares of our common stock issuable upon exercise of stock options that are either currently exercisable or become exercisable during the next 60 days, (ii) does not include 595,721 shares of our common stock issuable upon exercise of stock options that are not currently exercisable or do not become exercisable during the next 60 days, (iii) does not include 15,897 shares of our common stock underlying unvested restricted stock units and (iv) does not include 457,926 shares of restricted stock awarded under our 2005 stock incentive plan on February 15, 2005, which shares are subject to certain vesting requirements.

(11)
Shares beneficially owned include 3,397,096 shares owned by Thomas H. Lee Equity Fund IV, L.P., 116,258 shares owned by Thomas H. Lee Foreign Fund IV, L.P., 329,936 shares owned by Thomas H. Lee Foreign Fund IV-B, L.P., 22,086 shares owned by Thomas H. Lee Charitable Investment, L.P., 1,196 shares owned by Thomas H. Lee Investors Limited Partnership and 200,162 shares owned by certain individuals affiliated with Thomas H. Lee Partners, L.P. Thomas H. Lee Advisors, LLC, the general partner of Thomas H. Lee Partners, L.P., which is the sole member of THL Equity Advisors IV, LLC, which in turn is the general partner of each of Thomas H. Lee Equity Fund IV, L.P., Thomas H. Lee Foreign Fund IV, L.P. and Thomas H. Lee Foreign Fund IV-B, L.P., is controlled by a managing group comprised of C. Hunter Boll, Anthony J. DiNovi, Thomas M. Hagerty, David V. Harkins, Thomas H. Lee, Scott A. Schoen and Scott M. Sperling.

134

        See "Item 5. Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities—Equity Compensation Plan Information" for a table detailing securities authorized for issuance under our equity compensation plans.

ITEM 13.    CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

Financial Advisory Agreements

        We entered into a Management Services Agreement with THL Equity Advisors IV, LLC, dated as of January 20, 2000, and an Amended and Restated Financial Advisory Agreement, dated as of January 20, 2000, with Kelso & Company, pursuant to which THL Equity Advisors IV, LLC and Kelso & Company provided us certain consulting and advisory services related, but not limited to, equity financings and strategic planning. In the year ended December 31, 2004, we paid advisory fees and out of pocket expenses of approximately $1,122,755 in the aggregate to THL Equity Advisors IV, LLC and Kelso & Company. In connection with the offering, we terminated these agreements and paid a transaction fee of $8.4 million to Kelso & Company. However, our obligations with respect to the indemnification of Kelso & Company against certain liabilities incurred in connection with the provision of advisory services survive.

Legal Services

        Daniel G. Bergstein, a director of the Company during fiscal 2004, is a senior partner of Paul, Hastings, Janofsky & Walker LLP, a law firm which provides legal services to us. In the year ended December 31, 2004, we paid Paul Hastings approximately $3,511,782 for legal services and expenses.

Stockholders Agreements, Nominating Agreement and Registration Rights Agreements

        In connection with our January 2000 equity financing and recapitalization, we entered into a stockholders agreement with our stockholders, dated as of January 20, 2000, pursuant to which, among other things, THL Equity Fund, Kelso Investment Associates and Kelso Equity Partners had the right to designate members to our board of directors. We also entered into a registration rights agreement with certain of our stockholders, dated as of January 20, 2000, pursuant to which such stockholders had the right in certain circumstances, and subject to certain conditions, to require us to register shares of our common stock held by them under the Securities Act.

        In connection with the offering, we terminated our existing stockholders agreement and entered into a nominating agreement with THL Equity Fund, Kelso Investment Associates and Kelso Equity Partners pursuant to which we, acting through our corporate governance committee, agreed, subject to the requirements of our directors' fiduciary duties, that (i) THL Equity Fund will be entitled to designate one Class III director to be nominated for election to our board of directors and Kelso Investment Associates and Kelso Equity Partners will be entitled to designate one Class II director to be nominated for election to our board of directors as long as THL Equity Fund and its affiliates, Kelso Investment Associates and Kelso Equity Partners own in the aggregate at least 40% of the shares of our common stock which they owned immediately prior to the closing of the offering or (ii) THL Equity Fund will be entitled to designate one Class III director to be nominated for election to our board of directors as long as THL Equity Fund and its affiliates, Kelso Investment Associates and Kelso Equity Partners own in the aggregate less than 40% and at least 20% of the shares of our common stock which they owned immediately prior to the closing of the offering. In addition, at any time after Kelso Investment Associates and Kelso Equity Partners no longer owns any of our common stock, as long as THL Equity Fund and its affiliates own at least 40% of the shares of our common

135


stock which THL Equity Fund and its affiliates, Kelso Investment Associates and Kelso Equity Partners owned immediately prior to the closing of the offering, THL Equity Fund will be entitled to designate one Class II director to be nominated for election to our board of directors in addition to its right to designate one Class III director to be nominated for election to our board of directors.

        In connection with the offering, we terminated our existing registration rights agreement and entered into a new registration rights agreement with THL Equity Fund, certain affiliates of THL Equity Fund, Kelso Investment Associates and Kelso Equity Partners, certain other significant stockholders and certain members of our management, which we refer to as the affiliate registration rights agreement. The affiliate registration rights agreement requires us to use our commercially reasonable efforts to file with the Securities and Exchange Commission on the 181st day following the closing of the offering a shelf registration statement covering the shares of our common stock held by such parties and to use our commercially reasonable efforts to have such shelf registration statement declared effective by the Securities and Exchange Commission as soon as reasonably practicable thereafter.

Founder Compensation Arrangements

        Daniel G. Bergstein, Jack H. Thomas, Meyer Haberman and Eugene B. Johnson, our founding stockholders, have entered into an arrangement with Walter E. Leach, Jr. and John P. Duda pursuant to which such stockholders have agreed to provide compensation to Mr. Leach and Mr. Duda upon the occurrence of certain specified liquidation events with respect to us, based on our value at the time of any such liquidation event. In connection with the offering, our founding stockholders will satisfy their obligations to Mr. Leach and Mr. Duda pursuant to this arrangement.

ITEM 14.    PRINCIPAL ACCOUNTING FEES AND SERVICES

        The following table sets forth the aggregate fees paid or payable to KPMG LLP, which we refer to as KPMG, relating to the audit of the Company's 2004 consolidated financial statements and the fees billed to the Company in 2004 by KPMG for other professional services:

Audit Fees   $ 528,995
Audit-Related Fees     1,712,549
Tax Fees     304,910
All Other Fees     0

        Audit-Related Fees consist of fees for assurance and related services that are reasonable related to the performance of the audit or review of the Company's financial statements. This category includes services associated with the offering, including the related registration statements, research and consultation related to our implementation of the Sarbanes-Oxley Act, due diligence related to acquisitions and divestitures and consulting related to financial accounting and reporting standards.

        Tax Fees consist of fees for professional services for tax compliance, tax advice and tax planning. These services include assistance regarding federal and state tax compliance, return preparation and tax audits.

        Our audit committee has considered whether the provision of non-audit services is compatible with maintaining the independence of KPMG and has concluded that it is.

        Our audit committee's pre-approval policy provides that our independent auditor shall not provide services that have the potential to impair or appear to impair the independence of the audit role. The pre-approval policy requires our independent auditor to provide an annual engagement letter to our audit committee outlining the scope of the audit services proposed to be performed during the fiscal year. Upon the audit committee's acceptance of and agreement with such engagement letter, the

136


services within the scope of the proposed audit services shall be deemed pre-approved pursuant to the policy.

        The pre-approval policy provides for categorical pre-approval of specified audit and permissible non-audit services and requires the specific pre-approval by the audit committee, prior to engagement, of such services, other than audit services covered by the annual engagement letter. In addition, services to be provided by our independent auditor that are not within the category of pre-approved services must be approved by the audit committee prior to engagement, regardless of the service being requested or the dollar amount involved.

        Requests or applications for services that require specific separate approval by the audit committee are required to be submitted to the audit committee by both management and the independent auditors, and must include a detailed description of the services to be provided and a joint statement confirming that the provision of the proposed services does not impair the independence of the independent auditors.

        The audit committee may delegate pre-approval authority to one or more of its members. The member or members to whom such authority is delegated shall report any pre-approval decisions to the audit committee at its next scheduled meeting. The audit committee is prohibited from delegating to management its responsibilities to pre-approve services to be performed by our independent auditor.

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PART IV

ITEM 15.    EXHIBITS, FINANCIAL STATEMENT SCHEDULES

Financial Statements

        The financial statements filed as part of this Annual Report are listed in the index to the financial statements under "Item 8. Financial Statements and Supplementary Information", which index to the financial statements is incorporated herein by reference. In addition, certain financial statements of equity method investments owned by us are included as exhibits 99.1, 99.2 and 99.3 to this Annual Report.

Exhibits

        The exhibits filed as part of this Annual Report are listed in the index to exhibits immediately preceding such exhibits, which index to exhibits is incorporated herein by reference.

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SIGNATURES

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

    FAIRPOINT COMMUNICATIONS, INC.

Date: March 24, 2005
 
By:
/s/  EUGENE B. JOHNSON      
Name: Eugene B. Johnson
Title: Chairman of the Board of Directors and
Chief Executive Officer

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

Signatures
   Title
   Date

 
 
 
 
 
/s/  EUGENE B. JOHNSON      
Eugene B. Johnson		   Chairman of the Board of Directors and Chief Executive Officer (Principal Executive Officer)   March 24, 2005

/s/  WALTER E. LEACH, JR.      
Walter E. Leach, Jr.
 
Executive Vice President and Chief Financial Officer (Principal Financial Officer)
 
March 24, 2005

/s/  LISA R. HOOD      
Lisa R. Hood
 
Senior Vice President and Controller (Principal Accounting Officer)
 
March 24, 2005

/s/  FRANK K. BYNUM, JR.      
Frank K. Bynum, Jr.
 
Director
 
March 24, 2005

/s/  PATRICIA GARRISON-CORBIN      
Patricia Garrison-Corbin
 
Director
 
March 24, 2005

/s/  DAVID L. HAUSER      
David L. Hauser
 
Director
 
March 24, 2005

/s/  CLAUDE C. LILLY      
Claude C. Lilly
 
Director
 
March 24, 2005

/s/  KENT R. WELDON      
Kent R. Weldon
 
Director
 
March 24, 2005

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Exhibit Index

Exhibit No.
   Description

2.1
 
Stock Purchase Agreement, dated as of April 18, 2003 and as amended June 20, 2003, by and among FairPoint, Community Service Communications, Inc., Community Service Telephone Co. and Commtel Communications, Inc.(1)

2.2
 
Stock Purchase Agreement, dated as of May 9, 2003, by and among Golden West Telephone Properties, Inc., MJD Services Corp., Union Telephone Company of Hartford, Armour Independent Telephone Co., WMW Cable TV Co. and Kadoka Telephone Co.(2)

2.3
 
Agreement and Plan of Merger, dated as of June 18, 2003, by and among FairPoint, MJD Ventures, Inc., FairPoint Berkshire Corporation and Berkshire Telephone Corporation.(1)

3.1
 
Eighth Amended and Restated Certificate of Incorporation of FairPoint.*

3.2
 
Amended and Restated By-Laws of FairPoint.*

4.1
 
Indenture, dated as of May 24, 2000, by and between FairPoint and United States Trust Company of New York, relating to FairPoint's $200,000,000 121/2% Senior Subordinated Notes due 2010.(3)

4.2
 
Indenture, dated as of March 6, 2003, by and between FairPoint and The Bank of New York, relating to FairPoint's $225,000,000 117/8% Senior Notes due 2010.(4)

4.3
 
Supplemental Indenture, dated as of January 20, 2005, by and between FairPoint and The Bank of New York, amending the Indenture dated as of May 24, 2000 between FairPoint and the United States Trust Company of New York.*

4.4
 
Supplemental Indenture, dated as of January 20, 2005, by and between FairPoint and The Bank of New York, amending the Indenture dated as of March 6, 2003 between FairPoint and The Bank of New York.*

4.5
 
Form of 144A Senior Subordinated Note due 2010.(3)

4.6
 
Form of Regulation S Senior Subordinated Note due 2010.(3)

4.7
 
Form of Initial Senior Note due 2010.(4)

4.8
 
Form of Exchange Senior Note due 2010.(4)

10.1
 
Credit Agreement, dated as of February 8, 2005, by and among FairPoint, various lending institutions, Bank of America, N.A., CoBank ACB, General Electric Capital Corporation and Deutsche Bank Trust Company Americas.*

10.2
 
Pledge Agreement, dated as of February 8, 2005, by FairPoint, ST Enterprises, Ltd., FairPoint Broadband, Inc., MJD Services Corp., MJD Ventures, Inc., C-R Communications, Inc., Comerco, Inc., GTC Communications, Inc., Ravenswood Communications, Inc., Utilities, Inc., FairPoint Carrier Services, Inc. and St. Joe Communications, Inc.*

10.3
 
Subsidiary Guaranty, dated as of February 8, 2005, by FairPoint Broadband, Inc., MJD Ventures, Inc., MJD Services Corp., ST Enterprises, Ltd. and FairPoint Carrier Services, Inc.*

10.4
 
Amended and Restated Credit Agreement, dated as of March 11, 2005, among FairPoint, various lending institutions, Bank of America, N.A., CoBank ACB, General Electric Capital Corporation and Deutsche Bank Trust Company Americas.*
     

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10.5
 
Form of Swingline Note.*

10.6
 
Form of RF Note.*

10.7
 
Form of B Term Note.*

10.8
 
Amended and Restated Tax Sharing Agreement, dated November 9, 2000, by and among FairPoint and its Subsidiaries.(5)

10.9
 
Nominating Agreement, dated as of February 8, 2005.*

10.10
 
Affiliate Registration Rights Agreement, dated as of February 8, 2005.*

10.11
 
Employment Agreement, dated as of December 31, 2002, by and between FairPoint and Eugene B. Johnson.(4)

10.12
 
Letter Agreement, dated as of October 1, 2004, by and between FairPoint and
Eugene B. Johnson.(6)

10.13
 
Letter Agreement, dated as of October 1, 2004, by and between FairPoint and
John P. Duda.(6)

10.14
 
Employment Agreement, dated as of January 20, 2000, by and between FairPoint and
Walter E. Leach, Jr.(7)

10.15
 
Letter Agreement, dated as of November 11, 2002, by and between FairPoint and
Peter G. Nixon.(4)

10.16
 
Letter Agreement, dated as of October 25, 2004, by and between FairPoint and
Valeri A. Marks.(6)

10.17
 
Letter Agreement, dated as of November 13, 2002, by and between FairPoint and
Shirley J. Linn.(4)

10.18
 
FairPoint 1995 Stock Option Plan.(3)

10.19
 
FairPoint Amended and Restated 1998 Stock Incentive Plan.(3)

10.20
 
FairPoint Amended and Restated 2000 Employee Stock Incentive Plan.(8)

10.21
 
FairPoint 2005 Stock Incentive Plan.*

10.22
 
FairPoint Annual Incentive Plan.(6)

10.23
 
Form of Restricted Stock Agreement.*

14.1
 
FairPoint Code of Business Conduct and Ethics.*

14.2
 
FairPoint Code of Ethics for Financial Professionals.*

23.1
 
Consent of KPMG LLP.*

23.2
 
Consent of Deloitte & Touche LLP.*

23.3
 
Consent of Kiesling Associates LLP.*

31.1
 
Certification required by 18 United States Code Section 1350, as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.*

31.2
 
Certification required by 18 United States Code Section 1350, as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.*
     

141


32.1
 
Certification required by 18 United States Code Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. *†

32.2
 
Certification required by 18 United States Code Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. *†

99.1
 
Audited financial statements for the Orange County-Poughkeepsie Limited Partnership for the years ended December 31, 2004, 2003 and 2002.*

99.2
 
Audited financial statements for the Illinois Valley Cellular RSA 2-I Partnership for the years ended December 31, 2002 and 2001 and unaudited financial statements for the six months ended June 30, 2003.*

99.3
 
Audited financial statements for the Illinois Valley Cellular RSA 2-III Partnership for the years ended December 31, 2002 and 2001 and unaudited financial statements for the six months ended June 30, 2003.*
*
Filed herewith.

†
Pursuant to Securities and Exchange Commission Release No. 33-8238, this certification will be treated as "accompanying" this Annual Report on Form 10-K and not "filed" as part of such report for purposes of Section 18 of the Securities Exchange Act of 1934, or otherwise subject to the liability of Section 18 of the Securities Exchange Act of 1934 and this certification will not be deemed to be incorporated by reference into any filing under the Securities Act of 1933 or the Securities Exchange Act 1934, except to the extent that the registrant specifically incorporates it by reference.

(1)
Incorporated by reference to the registration statement on Form S-4 of FairPoint, declared effective as of July 22, 2003.

(2)
Incorporated by reference to the quarterly report of FairPoint for the period ended March 31, 2003, filed on Form 10-Q.

(3)
Incorporated by reference to the registration statement on Form S-4 of FairPoint, declared effective as of August 9, 2000.

(4)
Incorporated by reference to the annual report of FairPoint for the year ended 2002, filed on Form 10-K.

(5)
Incorporated by reference to the quarterly report of FairPoint for the period ended September 30, 2000, filed on Form 10-Q.

(6)
Incorporated by reference to the registration statement on Form S-1 of FairPoint, declared effective as of February 3, 2005.

(7)
Incorporated by reference to the annual report of FairPoint for the year ended 1999, filed on Form 10-K.

(8)
Incorporated by reference to the annual report of FairPoint for the year ended 2003, filed on Form 10-K.

142



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FAIRPOINT COMMUNICATIONS, INC. ANNUAL REPORT ON FORM 10-K FOR THE FISCAL YEAR ENDED DECEMBER 31, 2004
PART I CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS
PART II
INDEX TO FINANCIAL STATEMENTS
Report of Independent Registered Public Accounting Firm
FAIRPOINT COMMUNICATIONS, INC. AND SUBSIDIARIES Consolidated Balance Sheets December 31, 2004 and 2003 (Amounts in thousands, except per share data)
FAIRPOINT COMMUNICATIONS, INC. AND SUBSIDIARIES Consolidated Statements of Operations Years ended December 31, 2004, 2003 and 2002 (Dollars in thousands)
FAIRPOINT COMMUNICATIONS, INC. AND SUBSIDIARIES Consolidated Statements of Stockholders' Equity (Deficit) Years ended December 31, 2004, 2003 and 2002 (Amounts in thousands)
FAIRPOINT COMMUNICATIONS, INC. AND SUBSIDIARIES Consolidated Statements of Comprehensive Income (Loss) Years ended December 31, 2004, 2003 and 2002 (Dollars in thousands)
FAIRPOINT COMMUNICATIONS, INC. AND SUBSIDIARIES Consolidated Statements of Cash Flows Years ended December 31, 2004, 2003 and 2002 (Dollars in thousands)
FAIRPOINT COMMUNICATIONS, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements December 31, 2004, 2003 and 2002
PART III
Summary Compensation Table
PART IV
SIGNATURES
Exhibit Index