Attached files
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EX-32.2 - EX-32.2 - FAIRPOINT COMMUNICATIONS INC | g28066exv32w2.htm |
EX-31.1 - EX-31.1 - FAIRPOINT COMMUNICATIONS INC | g28066exv31w1.htm |
EX-32.1 - EX-32.1 - FAIRPOINT COMMUNICATIONS INC | g28066exv32w1.htm |
EX-31.2 - EX-31.2 - FAIRPOINT COMMUNICATIONS INC | g28066exv31w2.htm |
EXCEL - IDEA: XBRL DOCUMENT - FAIRPOINT COMMUNICATIONS INC | Financial_Report.xls |
Table of Contents
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
þ | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the quarterly period ended September 30, 2011.
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 001-32408
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 500 Charlotte, North Carolina (Address of Principal Executive Offices) |
28202 (Zip Code) |
(704) 344-8150
(Registrants telephone number, including area code)
(Registrants telephone number, including area code)
Indicate by check mark whether the registrant: (1) has filed all reports required to be filed
by Section 13 or 15(d) of the Securities 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 þ No o
Indicate by check mark whether the registrant has submitted electronically and posted on its
corporate Web site, if any, every Interactive Data File required to be submitted and posted
pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months
(or for such shorter period that the registrant was required to submit and post such files). Yes
þ No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated
filer, a non-accelerated filer or a smaller reporting company. See the definitions of large
accelerated filer, accelerated filer and smaller reporting company in Rule 12b-2 of the
Exchange Act. (Check one):
Large accelerated filer o | Accelerated filer o | Non-accelerated filer þ (Do not check if a smaller reporting company) | Smaller reporting company o |
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of
the Exchange Act). Yes o No þ
Indicate by check mark whether the registrant has filed all documents and reports
required to be filed by Sections 12, 13 or 15(d) of the Securities Exchange Act of 1934 subsequent
to the distribution of securities under a plan confirmed by a court. Yes þ No o
As of October 31, 2011, there were 26,198,142 shares of the registrants common stock, par
value $0.01 per share, outstanding.
Documents incorporated by reference: None
INDEX
2
Table of Contents
CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS
Some statements in this Quarterly Report are known as forward-looking statements within the
meaning of Section 27A of the Securities Act of 1933, as amended, or the Securities Act, and
Section 21E of the Securities Exchange Act of 1934, as amended, or the Exchange Act.
Forward-looking statements may relate to, among other things:
| risks related to our ability to meet our expectations with respect to our
post-restructuring operating and financial objectives and the assumptions and
business plan associated therewith; |
||
| risks related to our reported financial information and operating results
including with respect to our adoption of fresh start accounting and our actual
results as compared to projected financial results; |
||
| future performance generally and our share price as a result thereof; | ||
| restrictions imposed by the agreements governing our indebtedness; | ||
| our ability to satisfy certain financial covenants included in the
agreements governing our indebtedness; |
||
| financing sources and availability, and future interest expense; | ||
| our ability to refinance our indebtedness on commercially reasonable terms, if at all; | ||
| anticipated business development activities and future capital expenditures; | ||
| the effects of regulation, including restrictions and obligations imposed
by federal and state regulators as a condition to the approval of the Merger (as
defined herein) and the Plan (as defined herein); |
||
| material adverse changes in economic and industry conditions, and any
resulting financial or operational impact, in the markets we serve; |
||
| labor matters, including workforce levels, our recently announced
workforce reduction and labor negotiations, and any resulting financial or
operational impact, in the markets we serve; |
||
| material technological developments and changes in the communications
industry, including disruption of our third party suppliers provisioning of
critical products or services; |
||
| the effects of competition on the markets we serve; | ||
| use by customers of alternative technologies and the loss of access lines; | ||
| availability and levels of regulatory support payments; | ||
| availability of net operating loss (NOL) carryforwards to offset anticipated tax liabilities; | ||
| our ability to meet obligations to our Company-sponsored pension plans and post-retirement healthcare plans; and | ||
| changes in accounting assumptions that regulatory agencies, including the
Securities and Exchange Commission (the SEC), may require or that result from
changes in the accounting rules or their application, which could result in an
impact on earnings. |
These forward-looking statements include, but are not limited to, statements about our plans,
objectives, expectations and intentions and other statements contained in this Quarterly Report
that are not historical facts. When used in this Quarterly 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,
3
Table of Contents
including our plans, objectives, expectations and intentions and
other factors discussed in this Quarterly Report and in Part I Item 1A. Risk Factors of our
Annual Report on Form 10-K for the year ended December 31, 2010 (the 2010
Annual Report), as amended or supplemented by Part II Item 1A. Risk Factors contained in
our Quarterly Report on Form 10-Q for the quarter ended June 30, 2011, and Part II Item 1A.
Risk Factors contained in this Quarterly Report, as applicable. 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 Quarterly Report was filed with the SEC. 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 reports filed with the SEC on Forms
10-K, 10-Q and 8-K and Schedule 14A.
Except as otherwise required by the context, references in this Quarterly Report to:
| FairPoint Communications refers to FairPoint Communications, Inc., excluding its
subsidiaries; |
||
| FairPoint, the Company, we, us or our refer to the combined business of
FairPoint Communications, Inc. and all of its subsidiaries after giving effect to the
merger on March 31, 2008 with Northern New England Spinco Inc. (Spinco), a subsidiary of
Verizon Communications Inc. (Verizon), which transaction is referred to herein as the
Merger. |
4
Table of Contents
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
FAIRPOINT COMMUNICATIONS, INC. AND SUBSIDIARIES
Condensed Consolidated Balance Sheets
September 30, 2011 and December 31, 2010
(in thousands, except share data)
Condensed Consolidated Balance Sheets
September 30, 2011 and December 31, 2010
(in thousands, except share data)
Successor Company | Predecessor Company | ||||||||
September 30, | December 31, | ||||||||
2011 | 2010 | ||||||||
(unaudited) | |||||||||
Assets |
|||||||||
Current assets: |
|||||||||
Cash |
$ | 9,852 | $ | 105,497 | |||||
Restricted cash |
27,886 | 2,420 | |||||||
Accounts receivable, net |
113,034 | 125,170 | |||||||
Materials and supplies |
904 | 22,193 | |||||||
Prepaid expenses |
14,963 | 18,841 | |||||||
Other current assets |
1,991 | 6,092 | |||||||
Deferred income tax, net |
33,972 | 31,400 | |||||||
Total current assets |
202,602 | 311,613 | |||||||
Property, plant and equipment, net |
1,718,352 | 1,859,700 | |||||||
Goodwill |
| 595,120 | |||||||
Intangible assets, net |
130,933 | 189,247 | |||||||
Prepaid pension asset |
4,296 | 2,960 | |||||||
Debt issue costs, net |
1,944 | 119 | |||||||
Restricted cash |
723 | 1,678 | |||||||
Other assets |
9,921 | 13,357 | |||||||
Total assets |
$ | 2,068,771 | $ | 2,973,794 | |||||
Liabilities and Stockholders Equity (Deficit) |
|||||||||
Liabilities not subject to compromise: |
|||||||||
Current portion of long-term debt |
$ | 7,500 | $ | | |||||
Current portion of capital lease obligations |
1,250 | 1,321 | |||||||
Accounts payable |
70,323 | 66,557 | |||||||
Claims payable and estimated claims accrual |
27,575 | | |||||||
Accrued interest payable |
183 | 3 | |||||||
Other accrued liabilities |
59,603 | 63,279 | |||||||
Total current liabilities |
166,434 | 131,160 | |||||||
Capital lease obligations |
3,004 | 3,943 | |||||||
Accrued pension obligation |
87,915 | 92,246 | |||||||
Employee benefit obligations |
360,779 | 344,463 | |||||||
Deferred income taxes |
269,912 | 67,381 | |||||||
Unamortized investment tax credits |
| 4,310 | |||||||
Other long-term liabilities |
17,821 | 12,398 | |||||||
Long-term debt, net of current portion |
992,500 | | |||||||
Total long-term liabilities |
1,731,931 | 524,741 | |||||||
Total liabilities not subject to compromise |
1,898,365 | 655,901 | |||||||
Liabilities subject to compromise |
| 2,905,311 | |||||||
Total liabilities |
1,898,365 | 3,561,212 | |||||||
Stockholders equity (deficit): |
|||||||||
Predecessor Company common stock, $0.01 par value, 200,000,000 shares
authorized, issued and outstanding 89,440,334 shares at December 31, 2010 |
| 894 | |||||||
Additional paid-in capital, Predecessor Company |
| 725,786 | |||||||
Successor Company common stock, $0.01 par value, 37,500,000 shares
authorized, 26,198,640 shares issued and outstanding at
September 30, 2011 |
262 | | |||||||
Additional paid-in capital, Successor Company |
501,105 | | |||||||
Retained deficit |
(330,961 | ) | (1,101,294 | ) | |||||
Accumulated other comprehensive loss |
| (212,804 | ) | ||||||
Total stockholders equity (deficit) |
170,406 | (587,418 | ) | ||||||
Total liabilities and stockholders equity (deficit) |
$ | 2,068,771 | $ | 2,973,794 | |||||
See accompanying notes to condensed consolidated financial statements (unaudited).
5
Table of Contents
FAIRPOINT COMMUNICATIONS, INC. AND SUBSIDIARIES
Condensed Consolidated Statements of Operations
Three Months ended September 30, 2011, 249 Days ended September 30, 2011,
24 Days ended January 24, 2011 and and Three and Nine Months ended September 30, 2010
(Unaudited)
(in thousands)
Condensed Consolidated Statements of Operations
Three Months ended September 30, 2011, 249 Days ended September 30, 2011,
24 Days ended January 24, 2011 and and Three and Nine Months ended September 30, 2010
(Unaudited)
(in thousands)
Successor | Predecessor | Successor | ||||||||||||||||||||
Company | Company | Company | Predecessor Company | |||||||||||||||||||
Three Months | Three Months | Two Hundred Forty- | Twenty-Four | Nine Months | ||||||||||||||||||
Ended | Ended | Nine Days Ended | Days Ended | Ended | ||||||||||||||||||
September 30, 2011 | September 30, 2010 | September 30, 2011 | January 24, 2011 | September 30, 2010 | ||||||||||||||||||
(Restated) | (Restated) | |||||||||||||||||||||
Revenues |
$ | 257,912 | $ | 260,630 | $ | 708,950 | $ | 66,378 | $ | 802,994 | ||||||||||||
Operating expenses: |
||||||||||||||||||||||
Cost of services and sales, excluding depreciation
and amortization |
120,149 | 118,765 | 321,790 | 38,766 | 389,445 | |||||||||||||||||
Selling, general and administrative expense, excluding
depreciation and amortization |
93,334 | 99,412 | 245,132 | 27,161 | 290,058 | |||||||||||||||||
Depreciation and amortization |
91,547 | 72,364 | 244,940 | 21,515 | 215,218 | |||||||||||||||||
Reorganization related (income) expense |
(3,735 | ) | | 1,511 | | | ||||||||||||||||
Impairment of intangible assets and goodwill |
262,019 | | 262,019 | | | |||||||||||||||||
Total operating expenses |
563,314 | 290,541 | 1,075,392 | 87,442 | 894,721 | |||||||||||||||||
Loss from operations |
(305,402 | ) | (29,911 | ) | (366,442 | ) | (21,064 | ) | (91,727 | ) | ||||||||||||
Other income (expense): |
||||||||||||||||||||||
Interest expense |
(17,147 | ) | (35,358 | ) | (46,634 | ) | (9,321 | ) | (105,709 | ) | ||||||||||||
Other |
488 | 2,207 | 1,319 | (132 | ) | 2,338 | ||||||||||||||||
Total other expense |
(16,659 | ) | (33,151 | ) | (45,315 | ) | (9,453 | ) | (103,371 | ) | ||||||||||||
Loss before reorganization items and income taxes |
(322,061 | ) | (63,062 | ) | (411,757 | ) | (30,517 | ) | (195,098 | ) | ||||||||||||
Reorganization items |
| (10,352 | ) | | 897,313 | (25,568 | ) | |||||||||||||||
(Loss) income before income taxes |
(322,061 | ) | (73,414 | ) | (411,757 | ) | 866,796 | (220,666 | ) | |||||||||||||
Income tax benefit (expense) |
42,620 | 7,330 | 80,796 | (279,889 | ) | 14,074 | ||||||||||||||||
Net (loss) income |
$ | (279,441 | ) | $ | (66,084 | ) | $ | (330,961 | ) | $ | 586,907 | $ | (206,592 | ) | ||||||||
Weighted average shares outstanding: |
||||||||||||||||||||||
Basic |
25,654 | 89,424 | 25,648 | 89,424 | 89,424 | |||||||||||||||||
Diluted |
25,654 | 89,424 | 25,648 | 89,695 | 89,424 | |||||||||||||||||
(Loss) earnings per share: |
||||||||||||||||||||||
Basic |
$ | (10.89 | ) | $ | (0.74 | ) | $ | (12.90 | ) | $ | 6.56 | $ | (2.31 | ) | ||||||||
Diluted |
$ | (10.89 | ) | $ | (0.74 | ) | $ | (12.90 | ) | $ | 6.54 | $ | (2.31 | ) | ||||||||
See accompanying notes to condensed consolidated financial statements (unaudited).
6
Table of Contents
FAIRPOINT COMMUNICATIONS, INC. AND SUBSIDIARIES
Condensed Consolidated Statements of Comprehensive (Loss) Income
Three Months ended September 30, 2011, 249 Days ended September 30, 2011,
24 Days ended January 24, 2011 and Three and Nine Months ended September 30, 2010
(Unaudited)
(in thousands)
Condensed Consolidated Statements of Comprehensive (Loss) Income
Three Months ended September 30, 2011, 249 Days ended September 30, 2011,
24 Days ended January 24, 2011 and Three and Nine Months ended September 30, 2010
(Unaudited)
(in thousands)
Successor | Predecessor | Successor | ||||||||||||||||||||
Company | Company | Company | Predecessor Company | |||||||||||||||||||
Three Months | Three Months | Two Hundred Forty- | Twenty-Four | Nine Months | ||||||||||||||||||
Ended | Ended | Nine Days Ended | Days Ended | Ended | ||||||||||||||||||
September 30, 2011 | September 30, 2010 | September 30, 2011 | January 24, 2011 | September 30, 2010 | ||||||||||||||||||
(Restated) | (Restated) | |||||||||||||||||||||
Net (loss) income |
$ | (279,441 | ) | $ | (66,084 | ) | $ | (330,961 | ) | $ | 586,907 | $ | (206,592 | ) | ||||||||
Other comprehensive
income, net of taxes: |
||||||||||||||||||||||
Defined benefit pension and
post-retirement plans
(net of $0 million,
$1.4 million, $0 million, $0.5
million and $3.4 million tax
expense, respectively) |
| 2,101 | | 493 | 5,105 | |||||||||||||||||
Total other comprehensive
income |
| 2,101 | | 493 | 5,105 | |||||||||||||||||
Comprehensive (loss) income |
$ | (279,441 | ) | $ | (63,983 | ) | $ | (330,961 | ) | $ | 587,400 | $ | (201,487 | ) | ||||||||
See accompanying notes to condensed consolidated financial statements (unaudited).
7
Table of Contents
FAIRPOINT COMMUNICATIONS, INC. AND SUBSIDIARIES
Condensed Consolidated Statement of Stockholders Equity (Deficit)
249 Days ended September 30, 2011 and 24 Days ended January 24, 2011
(Unaudited)
(in thousands)
Condensed Consolidated Statement of Stockholders Equity (Deficit)
249 Days ended September 30, 2011 and 24 Days ended January 24, 2011
(Unaudited)
(in thousands)
Accumulated | ||||||||||||||||||||||||
Additional | other | Total | ||||||||||||||||||||||
Common Stock | paid-in | Retained | comprehensive | stockholders | ||||||||||||||||||||
Shares | Amount | capital | deficit | (loss) income | equity (deficit) | |||||||||||||||||||
Balance at December 31, 2010
(Predecessor Company) |
89,440 | $ | 894 | $ | 725,786 | $ | (1,101,294 | ) | $ | (212,804 | ) | $ | (587,418 | ) | ||||||||||
Net income |
| | | 586,907 | | 586,907 | ||||||||||||||||||
Stock based compensation expense |
| | 18 | | | 18 | ||||||||||||||||||
Employee benefit adjustment to
comprehensive income |
| | | | 493 | 493 | ||||||||||||||||||
Cancellation of Predecessor Company
Common Stock |
(89,440 | ) | (894 | ) | (725,804 | ) | 726,698 | | | |||||||||||||||
Elimination of Predecessor Company
accumulated other comprehensive
loss |
| | | (212,311 | ) | 212,311 | | |||||||||||||||||
Issuance of Successor Company
Common Stock |
25,660 | 257 | 481,879 | | | 482,136 | ||||||||||||||||||
Issuance of Successor Company
warrants |
| | 16,350 | | | 16,350 | ||||||||||||||||||
Balance at January 24, 2011
(Successor Company) |
25,660 | $ | 257 | $ | 498,229 | $ | | $ | | $ | 498,486 | |||||||||||||
Net loss |
| | | (330,961 | ) | | (330,961 | ) | ||||||||||||||||
Issuance of Successor Company
Common Stock |
540 | 5 | (5 | ) | | | | |||||||||||||||||
Issuance of restricted stock |
14 | | | | | | ||||||||||||||||||
Forfeiture of restricted stock |
(15 | ) | | | | | | |||||||||||||||||
Stock based compensation expense |
| | 2,881 | | | 2,881 | ||||||||||||||||||
Balance at September 30, 2011
(Successor Company) |
26,199 | $ | 262 | $ | 501,105 | $ | (330,961 | ) | $ | | $ | 170,406 | ||||||||||||
See accompanying notes to condensed consolidated financial statements (unaudited).
8
Table of Contents
FAIRPOINT COMMUNICATIONS, INC. AND SUBSIDIARIES
Condensed Consolidated Statements of Cash Flows
249 Days ended September 30, 2011, 24 Days ended January 24, 2011
and the Nine Months ended September 30, 2010
(Unaudited)
(in thousands)
Condensed Consolidated Statements of Cash Flows
249 Days ended September 30, 2011, 24 Days ended January 24, 2011
and the Nine Months ended September 30, 2010
(Unaudited)
(in thousands)
Successor Company | Predecessor Company | ||||||||||||
Two Hundred Forty- | Twenty-Four | Nine Months | |||||||||||
Nine Days Ended | Days Ended | Ended | |||||||||||
September 30, 2011 | January 24, 2011 | September 30, 2010 | |||||||||||
(Restated) | |||||||||||||
Cash flows from operating activities: |
|||||||||||||
Net income (loss) |
$ | (330,961 | ) | $ | 586,907 | $ | (206,592 | ) | |||||
Adjustments to reconcile net income to net cash provided by
operating activities: |
|||||||||||||
Deferred income taxes |
(80,119 | ) | 276,204 | (14,375 | ) | ||||||||
Provision for uncollectible revenue |
15,713 | 3,454 | 27,524 | ||||||||||
Depreciation and amortization |
244,940 | 21,515 | 215,218 | ||||||||||
Post-retirement accruals |
25,512 | 2,654 | 24,746 | ||||||||||
Pension accruals |
1,709 | 986 | 7,509 | ||||||||||
Loss on abandoned projects |
| | 13,049 | ||||||||||
Impairment of intangible assets and goodwill |
262,019 | | | ||||||||||
Other non cash items |
(150 | ) | 130 | 1,737 | |||||||||
Changes in assets and liabilities arising from operations: |
|||||||||||||
Accounts receivable |
1,839 | (7,752 | ) | (721 | ) | ||||||||
Prepaid and other assets |
2,030 | (3,423 | ) | (13,350 | ) | ||||||||
Accounts payable and accrued liabilities |
(2,636 | ) | 30,258 | 11,488 | |||||||||
Accrued interest payable |
183 | 9,017 | 102,535 | ||||||||||
Other assets and liabilities, net |
268 | 177 | (4,457 | ) | |||||||||
Reorganization adjustments: |
|||||||||||||
Non-cash reorganization income |
(5,290 | ) | (917,358 | ) | (20,219 | ) | |||||||
Claims payable and estimated claims accrual |
(64,091 | ) | (1,096 | ) | | ||||||||
Restricted cash cash claims reserve |
56,544 | (82,764 | ) | | |||||||||
Total adjustments |
458,471 | (667,998 | ) | 350,684 | |||||||||
Net cash provided by (used in) operating activities |
127,510 | (81,091 | ) | 144,092 | |||||||||
Cash flows from investing activities: |
|||||||||||||
Net capital additions |
(128,538 | ) | (12,477 | ) | (156,927 | ) | |||||||
Distributions from investments |
636 | | 449 | ||||||||||
Net cash used in investing activities |
(127,902 | ) | (12,477 | ) | (156,478 | ) | |||||||
Cash flows from financing activities: |
|||||||||||||
Loan origination costs |
(884 | ) | (1,500 | ) | (1,100 | ) | |||||||
Proceeds from issuance of long-term debt |
| | 5,513 | ||||||||||
Restricted cash |
1,675 | 34 | (68 | ) | |||||||||
Repayment of capital lease obligations |
(809 | ) | (201 | ) | (1,608 | ) | |||||||
Net cash (used in) provided by financing activities |
(18 | ) | (1,667 | ) | 2,737 | ||||||||
Net change |
(410 | ) | (95,235 | ) | (9,649 | ) | |||||||
Cash, beginning of period |
10,262 | 105,497 | 109,355 | ||||||||||
Cash, end of period |
$ | 9,852 | $ | 10,262 | $ | 99,706 | |||||||
Supplemental disclosure of cash flow information: |
|||||||||||||
Capital additions included in accounts payable, claims
payable and estimated claims accrual or liabilities subject
to compromise at period-end |
2,777 | 1,818 | 1,250 | ||||||||||
Reorganization costs paid |
19,282 | 11,110 | 31,152 |
See accompanying notes to condensed consolidated financial statements (unaudited).
9
Table of Contents
FAIRPOINT COMMUNICATIONS, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED
FINANCIAL STATEMENTS (Unaudited)
FINANCIAL STATEMENTS (Unaudited)
(1) Organization and Basis of Financial Reporting
FairPoint is a leading provider of communications services in rural and small urban
communities, primarily in northern New England, offering an array of services, including high
speed data (HSD), Internet access, voice, television and broadband product offerings, to
residential, wholesale and business customers. FairPoint operates in 18 states with
approximately 1.4 million access line equivalents (including voice access lines and HSD, which
includes digital subscriber lines (DSL), wireless broadband, cable modem and
fiber-to-the-premises) as of September 30, 2011.
Basis of Financial Reporting in Reorganization
On October 26, 2009 (the Petition Date), the Company and substantially all of its direct
and indirect subsidiaries (collectively, the Debtors) filed voluntary petitions for relief
under chapter 11 of title 11 of the United States Code (the Bankruptcy Code or Chapter 11)
in the United States Bankruptcy Court for the Southern District of New York (the Bankruptcy
Court). The cases are being jointly administered under the caption In re FairPoint
Communications, Inc., Case No. 09-16335 (the Chapter 11 Cases). On January 13, 2011, the
bankruptcy judge confirmed the Companys Third Amended Joint Plan of Reorganization Under
Chapter 11 of the Bankruptcy Code (as confirmed, the Plan) and on January 24, 2011 (the
Effective Date) the Company emerged from Chapter 11 protection. On June 30, 2011, the
Bankruptcy Court entered a final decree closing certain of the Companys bankruptcy cases due
to the closed cases being fully administered. See note 2 for details of the remaining open
cases.
The Company has applied the Reorganizations Topic of the Financial Accounting Standards
Board (FASB) Accounting Standards Codification (ASC) effective as of the Petition Date.
See note 2.
Upon the Effective Date, the Company adopted fresh start accounting in accordance with
guidance under the applicable reorganization accounting rules, pursuant to which the Companys
reorganization value, which represented the fair value of the entity before considering
liabilities, and approximated the amount a willing buyer would pay for the assets of the entity
immediately after the reorganization, was allocated to the fair value of assets in conformity
with guidance under the applicable accounting rules for business combinations, using the
purchase method of accounting. The amount remaining after allocation of the reorganization
value to the fair value of identified tangible and intangible assets was reflected as goodwill,
which is subject to periodic evaluation for impairment. In addition to fresh start accounting,
the Companys future consolidated financial statements will reflect all effects of the
transactions contemplated by the Plan. Accordingly, the Companys future condensed
consolidated statements of financial position and condensed consolidated statements of
operations will not be comparable in many respects to the Companys condensed consolidated
statements of financial position and condensed consolidated statements of operations for
periods prior to the adoption of fresh start accounting and prior to accounting for the effects
of the reorganization. See note 2 for a presentation of the impact of emergence from
reorganization and fresh start accounting on the Companys financial position.
Restatement
In the 2010 Annual Report, the Company restated (the Restatement) its unaudited interim
condensed consolidated financial statements for the quarters ended March 31, 2010, June 30,
2010 and September 30, 2010.
The Companys previously filed Quarterly Report on Form 10-Q for the quarter ended
September 30, 2010 (the September 30, 2010 Quarterly Report), which was impacted by the
Restatement, was not amended. Accordingly, the Company cautions you that certain information
contained in the September 30, 2010 Quarterly Report should no longer be relied upon, including
the Companys previously issued and filed September 30, 2010 interim consolidated
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financial
statements and any financial information derived therefrom. In addition, the Company cautions
you that other communications or filings related to the September 30, 2010 interim consolidated
financial statements which were filed or otherwise released prior to the filing of the 2010
Annual Report with the SEC, should no longer be relied upon. All financial information in this
Quarterly Report for the three and nine months ended September 30,
2010 affected by the Restatement adjustments reflect such financial information as
restated.
The restated September 30, 2010 interim consolidated financial statements were corrected for
the following errors:
Project Abandonment Adjustment
Certain capital projects, principally a wireless broadband fixed asset project, had been
abandoned but the write-off of all of the related capitalized costs had not occurred in a
timely manner.
Costs Capitalized to Property, Plant and Equipment Adjustment
Due to a backlog of capital projects not yet closed, certain costs (principally labor
expenses) remained capitalized to property, plant and equipment rather than expensed.
Application of Overhead Costs Adjustment
An error was discovered in the application of overhead costs to capital projects.
Each of the errors noted above resulted in an understatement of operating expenses and an
overstatement of property, plant and equipment.
Other Adjustments
In addition, as part of the restatement of the September 30, 2010 interim consolidated
financial statements, the Company also adjusted other items, including certain adjustments to
revenue that were identified in connection with the preparation of the consolidated financial
statements for the year ended December 31, 2010, which individually were not considered to be
material, but were material when aggregated with the three adjustments noted above. These
adjustments are primarily related to (a) errors in the calculation of certain regulatory
penalties, and (b) errors in revenue associated with certain customer billing, special project
billings and intercompany/official lines.
The aggregate impact of these adjustments resulted in an increase to the Companys
previously reported pre-tax loss for the nine month period ended September 30, 2010 of
approximately $28.4 million and no impact to the three month period ended September 30, 2010.
The change for the three and nine months ended September 30, 2010 is mainly attributable to an
increase (reduction) to reported revenues of approximately $2.1 million and $(3.9) million,
respectively, an increase to the Companys previously reported operating expenses of
approximately $1.4 million and $26.8 million, respectively, an increase of expense to the
Companys previously reported reorganization items of approximately $0.7 million and $0.9
million, respectively, offset by a decrease in other expense of $0 million and $3.2 million,
respectively. The aggregate impact of the adjustments for the nine months ended September 30,
2010 resulted in an increase in net loss of approximately $28.4 million, net of taxes, and no
change in net loss, net of taxes, for the three months ended September 30, 2010, and a decrease
in the Companys reported capital expenditures of approximately $4.1 million and $15.4 million,
respectively, for the three and nine months ended September 30, 2010.
The Company expects that these adjustments will not have a material impact on the
Companys overall liquidity in the future.
(2) Reorganization Under Chapter 11
Emergence from Chapter 11 Proceedings
On the Petition Date, the Debtors filed the Chapter 11 Cases.
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On January 13, 2011, the Bankruptcy Court entered into an Order Confirming Debtors Third
Amended Joint Plan of Reorganization Under Chapter 11 of the Bankruptcy Code, dated as of
December 29, 2010 (the Confirmation Order), which confirmed the Plan.
On the Effective Date, the Company substantially consummated its reorganization through a
series of transactions contemplated by the Plan, and the Plan became effective pursuant to its
terms.
On June 30, 2011, the Bankruptcy Court entered a final decree closing certain of the
Companys bankruptcy cases due to the closed cases being fully administered. Of the 80
original bankruptcy cases, only five remain open. These
cases are FairPoint Communications, Inc. (Case No. 09-16335), Northern New England
Telephone Operations LLC (Case No. 09-16365), Telephone Operating Company of Vermont LLC (Case
No. 09-16410), MJD Services Corp. (Case No. 09-16366) and Enhanced Communications of Northern
New England Inc. (Case No. 09-16349).
Plan of Reorganization
General
The Plan provided for the cancellation and extinguishment on the Effective Date of all of
the Companys equity interests outstanding on or prior to the Effective Date, including but not
limited to all outstanding shares of the Companys common stock, par value $0.01 per share (the
Old Common Stock), options and contractual or other rights to acquire any equity interests.
The Plan provided for:
| (i) The lenders under the Credit Agreement, dated as of March 31,
2008, by and among FairPoint Communications, Spinco, Bank of America,
N.A. as syndication agent, Morgan Stanley Senior Funding, Inc. and
Deutsche Bank Securities Inc., as co-documentation agents, and Lehman
Commercial Paper Inc., as administrative agent, and the lenders party
thereto (as amended, supplemented or otherwise modified from time to
time, the Pre-Petition Credit Facility), (ii) the administrative
agent under the Pre-Petition Credit Facility (other than certain
indemnity and reimbursement rights of the administrative agent which
survived) and (iii) holders of other claims against the Company
arising under the Pre-Petition Credit Facility or ancillary agreements
(including swap agreements) (collectively, the Pre-Petition Credit
Facility Claims) to receive the following in full and complete
satisfaction of such Pre-Petition Credit Facility Claims: (i) a pro
rata share of a $1,000.0 million term loan facility (the Exit Term
Loan), (ii) a pro rata share of certain cash payments, (iii) a pro
rata share of 23,620,718 shares of our new common stock, par value
$0.01 per share (the New Common Stock or Common Stock) and (iv) a
pro rata share of a 55% interest in the FairPoint Litigation Trust
(the Litigation Trust); |
||
| Holders of allowed unsecured claims against FairPoint Communications,
including the Pre-Petition Notes (as defined below) (the FairPoint
Communications Unsecured Claims) to receive the following in full and
complete satisfaction of such FairPoint Communications Unsecured
Claims: (i) a pro rata share of 2,101,676 shares of New Common Stock,
(ii) a pro rata share of a 45% interest in the Litigation Trust and
(iii) a pro rata share of the warrants (the Warrants) issued by the
Company in connection with a Warrant Agreement (the Warrant
Agreement) that the Company entered into with The Bank of New York
Mellon, as warrant agent, on the Effective Date; and |
||
| Holders of allowed unsecured claims against the Companys subsidiaries
and holders of certain unsecured convenience claims against the
Company to receive payment in full in cash in the amount of their
allowed claims. |
In addition, the Plan also provided for:
| Certain of the Companys employees and a consultant to receive (a)
cash bonuses made pursuant to the FairPoint Communications, Inc. 2010
Success Bonus Plan (the Success Bonus Plan) and/or (b) New Common
Stock awards, consisting of restricted shares of New Common Stock
and/or options to purchase shares of New Common Stock, pursuant to the
terms of the FairPoint Communications, Inc. 2010 Long Term Incentive
Plan (the Long Term Incentive Plan); and |
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| Members of the Companys board appointed on the Effective Date (the
New Board) to receive options to purchase New Common Stock pursuant
to the terms of the Long Term Incentive Plan. |
Finally, the Plan included certain discharges, releases, exculpations and injunctions that
became effective on the Effective Date, including the following:
| Except as otherwise provided in the Plan, all existing claims against,
and equity interests in, the Company that arose prior to the Effective
Date were released, terminated, extinguished and discharged; |
||
| In consideration of the services of the Released Parties (as defined
in the Plan), the Company and all persons who held, or may have held,
claims against, or equity interests in, the Company prior to the
Effective Date released the Released Parties (as defined in the Plan)
from claims, causes of action and liabilities related to the Company; |
||
| None of the Company, the Released Parties (as defined in the Plan) or
the Litigation Trustee (as defined below) shall have or incur any
liability relating to or arising out of the Chapter 11 Cases; and |
||
| Except as otherwise provided in the Plan, all persons are permanently
enjoined from asserting claims, liabilities, causes of action,
interest or remedies that are released or discharged pursuant to the
Plan. |
Termination of Material Agreements
On the Effective Date, in accordance with the Plan, the Company terminated, among others,
the following material agreements:
| The Pre-Petition Credit Facility (except that the Pre-Petition Credit
Facility continues in effect solely for the purposes of allowing
creditors under the Pre-Petition Credit Facility to receive
distributions under the Plan and to preserve certain rights of the
administrative agent), and all notes, security agreements, swap
agreements and other agreements associated therewith; |
||
| Each of the respective indentures governing (i) the 13-1/8% Senior
Notes due April 1, 2018 (the Old Notes), which were issued pursuant
to the Indenture, dated as of March 31, 2008, by and between Spinco
and U.S. Bank National Association, as amended (the Old Indenture),
and (ii) the 13-1/8% Senior Notes due April 2, 2018 (the New Notes
and, together with the Old Notes, the Pre-Petition Notes), which
were issued pursuant to the Indenture, dated as of July 29, 2009, by
and between FairPoint Communications, Inc. and U.S. Bank National
Association (the New Indenture) (except to the extent to allow the
Company or the relevant Pre-Petition Notes indenture trustee, as
applicable, to make distributions pursuant to the Plan on account of
claims related to such Pre-Petition Notes); and |
||
| The Debtor-in-Possession Credit Agreement, dated as of October 27,
2009 (as amended, the DIP Credit Agreement), by and among FairPoint
Communications and FairPoint Logistics, Inc. (FairPoint Logistics,
and together with FairPoint Communications, the DIP Borrowers),
certain financial institutions (the DIP Lenders) and Bank of
America, N.A., as the administrative agent for the DIP Lenders (the
DIP Administrative Agent), which was terminated by its conversion
into the new $75.0 million Exit Revolving Facility (as defined
herein), and all notes, security agreements and other agreements
related to the DIP Credit Agreement. |
Exit Credit Agreement
On the Effective Date, FairPoint Communications and FairPoint Logistics (the Exit
Borrowers) entered into a $1,075.0 million senior secured credit facility with a syndicate of
lenders and Bank of America, N.A., as the administrative agent for the lenders, arranged by
Banc of America Securities LLC (the Exit Credit Agreement). The Exit Credit Agreement is
comprised of a $75.0 million revolving loan facility (the Exit Revolving Facility),
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which has
a sub-facility providing for the issuance of up to $30.0 million of letters of credit, and the
Exit Term Loan (collectively, the Exit Credit Agreement Loans). On the Effective Date, the
Company paid to the lenders providing the Exit Revolving Facility an aggregate fee equal to
$1.5 million. Interest on the Exit Credit Agreement Loans accrues at an annual rate equal to
either (a) the British Bankers Association LIBOR Rate (LIBOR) plus 4.50%, with a minimum
LIBOR floor of 2.00% for the Exit Term Loan, or (b) a base rate plus 3.50% per annum in which
base rate is equal to the highest of (x) Bank of Americas prime rate, (y) the federal funds
effective rate plus 0.50% and (z) applicable LIBOR (with minimum LIBOR floor of 2.00%) plus
1.00%. In addition, the Company is required to pay a 0.75% per annum commitment fee on the
average daily unused portion of the Exit Revolving Facility. The entire outstanding principal
amount of the Exit Credit Agreement Loans is due and payable five years after the Effective
Date (the Exit Maturity Date); provided that on the third anniversary of the Effective Date,
the Company
must elect (subject to the absence of events of default under the Exit Credit Agreement)
to continue the maturity of the Exit Revolving Facility and must pay a continuation fee of
$0.75 million and, on the fourth anniversary of the Effective Date, the Company must elect
(subject to the absence of events of default under the Exit Credit Agreement) to continue the
maturity of the Exit Revolving Facility and must pay a second continuation fee of $0.75
million. The Exit Credit Agreement requires quarterly repayments of principal of the Exit Term
Loan after the first anniversary of the Effective Date. In the second and third years following
the Effective Date, such quarterly payments shall each be in an amount equal to $2.5 million;
during the fourth year following the Effective Date, such quarterly payments shall each be in
an amount equal to $6.25 million; and for the first three quarters during the fifth year
following the Effective Date, such quarterly payments shall each be in an amount equal to $12.5
million, with all remaining outstanding amounts owed in respect of the Exit Term Loan being due
and payable on the Exit Maturity Date.
The Exit Credit Agreement Loans are guaranteed by all of the Companys current and future
direct and indirect subsidiaries, other than (x) any subsidiary that is prohibited by
applicable law from guaranteeing the obligations under the Exit Credit Agreement Loans and/or
providing any security therefor without the consent of a state public utilities commission, and
(y) any subsidiary of ours that is a controlled foreign corporation or a subsidiary that is
held directly or indirectly by a controlled foreign corporation (the guarantor subsidiaries,
together with FairPoint Communications and FairPoint Logistics, are collectively referred to as
the Exit Financing Loan Parties). The Exit Credit Agreement Loans as a whole are secured by
liens upon substantially all existing and after-acquired assets of the Exit Financing Loan
Parties, with first lien and payment waterfall priority for the Exit Revolving Facility and
second lien priority for the Exit Term Loan.
The Exit Credit Agreement contains customary representations, warranties and affirmative
covenants. In addition, the Exit Credit Agreement contains restrictive covenants that limit,
among other things, the ability of the Company to incur indebtedness, create liens, engage in
mergers, consolidations and other fundamental changes, make investments or loans, engage in
transactions with affiliates, pay dividends, make capital expenditures and repurchase capital
stock. The Exit Credit Agreement also contains minimum interest coverage and maximum total
leverage maintenance covenants, along with a maximum senior leverage covenant measured upon the
incurrence of certain types of debt. The Exit Credit Agreement contains certain events of
default, including failure to make payments, breaches of covenants and representations, cross
defaults to other material indebtedness, unpaid and uninsured judgments, changes of control and
bankruptcy events of default. The lenders commitments to fund amounts under the Exit Revolving
Facility are subject to certain customary conditions.
Certificate of Incorporation and By-laws
Pursuant to the Plan, on the Effective Date, the Company filed with the Secretary of State
of the State of Delaware the Ninth Amended and Restated Certificate of Incorporation of
FairPoint Communications and adopted the Second Amended and Restated By-laws (the By-laws).
Departure and Appointment of Directors
Pursuant to the Plan, as of the Effective Date, the following directors ceased to serve on
the Companys board of directors: Thomas F. Gilbane, Jr., Robert S. Lilien, Claude C. Lilly,
Jane E. Newman and Michael R. Tuttle.
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As of the Effective Date, the number of directors on the New Board was fixed at eight,
with Todd W. Arden, Dennis J. Austin, Edward D. Horowitz, Michael J. Mahoney, Michael K.
Robinson, David L. Treadwell and Wayne Wilson becoming members of the New Board and Mr.
Horowitz was appointed to serve as chair of the New Board. Paul H. Sunu, the Companys Chief
Executive Officer, became a director of the Company effective as of August 24, 2010 and
continues to serve as a director on the New Board.
In accordance with the By-laws, the initial members of the New Board are expected to hold
office until the first annual meeting of stockholders which will be held following the one year
anniversary of the Effective Date. Thereafter, members of the New Board are expected to have
one-year terms so that their terms will expire at each annual meeting of stockholders.
Registration Rights Agreement
On the Effective Date, the Company entered into a registration rights agreement (the
Registration Rights Agreement) with Angelo, Gordon & Co., L.P. (Angelo Gordon), on behalf
of and as investment manager of the persons set forth in the Registration Rights Agreement
(together with Angelo Gordon, the Ten Percent Holders) that hold in the aggregate at least
10% of our New Common Stock. Under the Registration Rights Agreement, the Ten Percent Holders
are entitled to request an aggregate of two registrations of the Ten Percent Holders
registrable securities; provided that no such rights shall be demanded prior to the expiration
of 180 days from the Effective Date. If the Ten Percent Holders in the aggregate hold less than
7.5% of the then outstanding New Common Stock, such holders rights under the Registration
Rights Agreement shall terminate.
Warrant Agreement
On the Effective Date, the Company entered into the Warrant Agreement with the Bank of New
York Mellon, as Warrant Agent. Pursuant to the Warrant Agreement, the Company issued or will
issue the Warrants to purchase an aggregate of 3,582,402 shares of New Common Stock. The number
of shares of New Common Stock issuable upon the exercise of the Warrants is subject to
adjustment upon the occurrence of certain events described in the Warrant Agreement. The
initial exercise price applicable to the Warrants is $48.81 per share of New Common Stock for
which the Warrants may be exercised. The exercise price applicable to the Warrants is subject
to adjustment upon the occurrence of certain events described in the Warrant Agreement. The
Warrants may be exercised at any time on or before the seventh anniversary of the Effective
Date. The Warrants, and all rights under the Warrants, are transferable as provided in the
Warrant Agreement.
Litigation Trust Agreement
On the Effective Date, the Company entered into the FairPoint Litigation Trust Agreement
(the Litigation Trust Agreement) with Mark E. Holliday, as litigation trustee (the
Litigation Trustee), and the official committee of unsecured creditors appointed in the
Chapter 11 Cases, pursuant to which the Litigation Trust was established for the benefit of
specified holders of allowed claims and for the pursuit of certain causes of action against
Verizon arising in connection with the Agreement and Plan of Merger, dated as of January 15,
2007, by and among Verizon, Spinco and FairPoint Communications, as amended (the Merger
Agreement). Pursuant to the Plan, the Company transferred such claims and causes of actions
against Verizon related to the Merger Agreement to the Litigation Trust with title to such
claims and causes of action being free and clear of all liens, charges, claims, encumbrances
and interests except for the return to FairPoint Communications of any funds deposited in the
Litigation Trust bank account. In addition, pursuant to the Plan, the Company transferred funds
to the Litigation Trust to pay the reasonable costs and expenses associated with the
administration of the Litigation Trust. Pursuant to the Litigation Trust Agreement, the
Litigation Trustee may request additional funding for the Litigation Trust from the Company
following the Effective Date; provided, that (i) any such additional funding will be subject to
the approval of the New Board in its sole discretion, (ii) after giving effect to such
additional funding, the Companys cash on hand may not be less than $20.0 million (after taking
into account the cash distributions to be made) and (iii) no proceeds of any borrowings under
the Exit Revolving Facility may be used to fund such additional funding. The Litigation Trustee
may prosecute the transferred claims and causes of action against Verizon as described in and
authorized by
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the Plan and the Litigation Trust Agreement, make timely and appropriate
distributions to the beneficiaries of the Litigation Trust and otherwise carry out the
provisions of the Litigation Trust Agreement. During June 2011, the money in the Litigation
Trust account was distributed to the Litigation Trust and is no longer held by the Company at
September 30, 2011.
Long Term Incentive Plan and Success Bonus Plan
As contemplated by the Plan, on the Effective Date, the Company was deemed to have adopted
the Long Term Incentive Plan and the Success Bonus Plan.
On the Effective Date, in accordance with the Plan, (i) certain of the Companys employees
and a consultant of the Company received (a) Success Bonuses of approximately $1.8 million in
the aggregate pursuant to the terms of
the Success Bonus Plan and/or (b) New Common Stock awards, consisting of restricted shares
of New Common Stock and/or options to purchase shares of New Common Stock, pursuant to the
terms of the Long Term Incentive Plan, and (ii) members of the New Board received restricted shares of New Common Stock and options to purchase New Common Stock pursuant to the terms of
the Long Term Incentive Plan. The Success Bonuses were earned by the Companys employees and
were primarily based upon achieving certain performance measures. 3,134,603 shares of New
Common Stock are reserved for awards under the Long Term Incentive Plan, of which stock options
and restricted share awards were granted to certain of the Companys employees, a consultant of
the Company, and members of the New Board on the Effective Date. Specifically, on the Effective
Date, (a) 460,294 shares of stock were distributed to management-level and other employees and
a consultant of the Company, with 120,000 restricted shares issued to the Companys Chief
Executive Officer, 34,000 restricted shares issued to the Companys Chief Financial Officer,
161,800 restricted shares issued to other members of the Companys senior management and 66,794
unrestricted shares issued to David L. Hauser, the Companys former Chief Executive Officer,
who was a consultant through the Effective Date, (b) 87,498 shares of restricted stock were
awarded to the members of the New Board and (c) stock options were granted with an exercise
price of $24.29 for the purchase of (1) 859,000 shares of New Common Stock by management-level
and other employees, with 125,000 options to purchase New Common Stock granted to the Companys
Chief Executive Officer, 42,000 options to purchase New Common Stock granted to the Companys
Chief Financial Officer and 236,500 options to purchase New Common Stock granted to other
members of the Companys senior management and (2) 132,012 shares of New Common Stock by
members of the New Board. Except for the unrestricted shares awarded to David L. Hauser, these
stock option and restricted share awards vested to the extent of 25% on the Effective Date, and
the remainder of these awards is expected to vest in three equal annual installments,
commencing on the first anniversary of the Effective Date, with accelerated vesting upon (x) a
change in control, or (y) a termination of an award holders employment either without cause
(but only to the extent the vesting becomes at least 50%, plus an additional 25% for each year
of the award holders employment after the first year after the Effective Date) or due to the
award holders death or disability (but, for stock options, only to the extent vesting would
have otherwise occurred within one year following such termination of employment). Mr. Hausers shares were 100% vested on the Effective Date.
Regulatory Settlements
In connection with the Chapter 11 Cases, the Company negotiated with representatives of
the state regulatory authorities in each of Maine, New Hampshire and Vermont with respect to
(i) certain regulatory approvals relating to the Chapter 11 Cases and the Plan and (ii) certain
modifications to the requirements imposed by state regulatory authorities as a condition to
approval of the Merger (each a Merger Order, and collectively, the Merger Orders). The
Company agreed to regulatory settlements with the representatives for each of Maine, New
Hampshire and Vermont regarding modification of each states Merger Order (each a Regulatory
Settlement, and collectively, the Regulatory Settlements) which have since been approved by
the regulatory authorities in these states.
Reporting Requirements
In connection with the Chapter 11 Cases, regardless of the Effective Date having occurred,
the Company is required to continue to file quarterly operating reports with the Bankruptcy
Court until the Chapter 11 Cases have
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closed. Such reports have been and will be prepared
according to requirements of federal bankruptcy law and related rules. While these reports
accurately provide then-current information required under the Bankruptcy Code, they are
nonetheless unaudited, are prepared in a format different from that used in our consolidated
financial statements filed under the securities laws and certain of this financial information
may be prepared on an unconsolidated basis. Accordingly, the Company believes that the
substance and format of these reports do not allow meaningful comparison with our regular
publicly-disclosed consolidated financial statements. Moreover, the quarterly operating reports
filed with the Bankruptcy Court are not prepared for the purpose of providing a basis for an
investment decision relating to our securities, or for comparison with other financial
information filed by the Company with the SEC.
Plan Injunction
Except as otherwise provided in the Plan, the Confirmation Order enjoined, or stayed, the
continuation of any
judicial or administrative proceedings or other actions against the Company or its
properties to recover on, collect or secure a claim arising prior to the Effective Date. Thus,
for example, creditor actions to obtain possession of property from the Company, or to create,
perfect or enforce any lien against our property, or to collect on monies owed or otherwise
exercise rights or remedies with respect to a claim arising prior to the Effective Date, are
enjoined except as provided in the Plan.
Impact on Net Operating Loss Carryforwards (NOLs)
The Companys NOLs were substantially reduced by the recognition of gains on the discharge
of certain debt pursuant to the Plan. Further, the Companys ability to utilize its NOL
carryforwards will be limited by Section 382 of the Internal Revenue Code of 1986, as amended,
as the debt restructuring resulted in an ownership change. In general, following an ownership
change, a limitation is imposed on the amount of pre-ownership change NOL carryforwards that
may be used to offset taxable income in each year following the ownership change. The Company
plans to elect, pursuant to a special rule that is applicable to ownership changes resulting
from a Chapter 11 reorganization, to calculate this annual limitation by increasing the value
attributed to the Companys stock prior to the ownership change by the amount of creditor
claims surrendered or canceled during the reorganization. Specifically, the amount of the
annual limitation would equal the long-term tax-exempt rate (published monthly by the
Internal Revenue Service (the IRS)) for the month in which the ownership change occurs, which
in the Companys case is 4.10%, multiplied by the lesser of (i) the value of the Companys
stock immediately after, rather than immediately before, the ownership change, and (ii) the
value of the Companys pre-change assets. Any increase in the value attributed to the Companys
stock resulting from the ownership change effectively would increase the annual limitation on
our NOLs.
Any portion of the annual limitation on pre-ownership change NOLs that is not used to
reduce taxable income in a particular year may be carried forward and used in subsequent years.
The annual limitation is increased by certain built-in gains recognized (or treated as
recognized) during the five years following the ownership change (up to the total amount of
built-in gain that existed at the time of the ownership change). The Company expects the
limitations on NOL carryforwards for the five years following an ownership change to be
increased by built-in gains. The Company currently projects that all available NOL
carryforwards, after giving effect to the reduction for debt discharged, will be utilized to
offset future income within the NOL carryforward periods. Therefore, the Company does not
expect to have NOL carryforwards after such time.
Financial Reporting in Reorganization
The Reorganizations Topic of the ASC, which is applicable to companies in Chapter 11,
generally does not change the manner in which financial statements are prepared. However, it
does require that the financial statements for periods subsequent to the filing of the Chapter
11 Cases distinguish transactions and events that are directly associated with the
reorganization from the ongoing operations of the business. Amounts that can be directly
associated with the reorganization and restructuring of the business must be reported
separately as reorganization items in the statements of operations beginning in the quarter
ending December 31, 2009. The balance sheet must
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distinguish pre-petition liabilities subject
to compromise from both those pre-petition liabilities that are not subject to compromise and
from post-petition liabilities. Liabilities that may be affected by a plan of reorganization
must be reported at the amounts expected to be allowed, even if they may be settled for lesser
amounts. In addition, cash provided by and used for reorganization items must be disclosed
separately.
The accompanying condensed consolidated financial statements have been prepared in
accordance with the Reorganizations Topic of the ASC through the Effective Date. All
pre-petition liabilities subject to compromise have been segregated in the condensed
consolidated balance sheets and classified as liabilities subject to compromise at the
estimated amount of the allowable claims. Liabilities not subject to compromise are separately
classified as current or noncurrent. The Companys condensed consolidated statements of
operations for the twenty-four days ended January 24, 2011 include the results of operations
during the Chapter 11 Cases. As such, any revenues, expenses, and gains and losses realized or
incurred that are directly related to the bankruptcy case are reported separately as
reorganization items due to the bankruptcy.
The Company received approval from the Bankruptcy Court to pay or otherwise honor certain
of its pre-petition obligations, including employee related obligations such as accrued
vacation and pension related benefits. As such, these obligations have been excluded from
liabilities subject to compromise as of December 31, 2010.
Upon the Effective Date, the Company adopted fresh start accounting in accordance with
guidance under the applicable reorganization accounting rules, pursuant to which the Companys
reorganization value, which represented the fair value of the entity before considering
liabilities, and approximated the amount a willing buyer would pay for the assets of the entity
immediately after the reorganization, was allocated to the fair value of assets in conformity
with guidance under the applicable accounting rules for business combinations, using the
purchase method of accounting for business combinations. The amount remaining after allocation
of the reorganization value to the fair value of identified tangible and intangible assets was
reflected as goodwill, which is subject to periodic evaluation for impairment. See note 3(i)
for more information on goodwill. In addition to fresh start accounting, the Companys future
consolidated financial statements will reflect all effects of the transactions contemplated by the
Plan. Accordingly, the Companys future consolidated statements of financial position and
consolidated statements of operations will not be comparable in many respects to the Companys
consolidated statements of financial position and consolidated statements of operations for
periods prior to the adoption of fresh start accounting and prior to accounting for the effects
of the reorganization.
Reorganization Items
Reorganization items represent expense or income amounts that have been recognized as a
direct result of the Chapter 11 Cases and are presented separately in the condensed
consolidated statements of operations pursuant to the Reorganizations Topic of the ASC. Such
items consist of the following (amounts in thousands):
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Predecessor Company | ||||||||||||
Three Months | Nine Months | |||||||||||
Twenty-Four | Ended | Ended | ||||||||||
Days Ended | September 30, | September 30, | ||||||||||
January 24, 2011 | 2010 | 2010 | ||||||||||
(Restated) | (Restated) | |||||||||||
Professional fees (a) |
$ | (13,965) | $ | (11,395) | $ | (44,922) | ||||||
Success bonus (b) |
| 1,210 | (725) | |||||||||
Non-cash allowed claim adjustments (c) |
| | (977) | |||||||||
Cancellation of debt income (d) |
1,351,057 | (167) | 21,056 | |||||||||
Goodwill adjustment (e) |
(351,931) | | | |||||||||
Intangible assets adjustment (e) |
(30,381) | | | |||||||||
Property, plant and equipment adjustment (e) |
(56,258) | | | |||||||||
Pension and post-retirement healthcare
adjustment (e) |
22,076 | | | |||||||||
Other assets and liabilities adjustment (e) |
(16,037) | | | |||||||||
Tax account adjustments (e) |
4,313 | | | |||||||||
Other (f) |
(11,561) | | | |||||||||
Total reorganization items |
$ | 897,313 | $ | (10,352) | $ | (25,568) | ||||||
(a) Professional fees relate to legal, financial advisory and other professional costs directly
associated with the reorganization process.
(b) Success bonus represents charges incurred relating to the Success Bonus Plan in accordance
with the plan of reorganization.
(c) The carrying values of certain liabilities subject to compromise were adjusted to the value
of the claim allowed by the Bankruptcy Court.
(d) Net gains and losses associated with the settlement of liabilities subject to compromise.
(e) Revaluation of long lived assets and certain assets and liabilities upon adoption of fresh
start accounting.
(f) Includes expenses associated with the Long Term Incentive Plan, the Litigation Trust and
the write-off of the predecessor companys long term incentive plan and director
and officer policy.
Professional fees directly associated with the reorganization process that have been
incurred after the Effective Date are included in operating expenses as Reorganization related
expense in the condensed consolidated statement of operations.
Liabilities Subject to Compromise
Liabilities subject to compromise refer to liabilities incurred prior to the Petition Date
for which the Company has not received approval from the Bankruptcy Court to pay or otherwise
honor. The amounts of the various categories of liabilities that are subject to compromise are
set forth below. These amounts represent the estimates of known or potential Pre-Petition Date
claims that are likely to be resolved in connection with the Chapter 11 Cases.
At the Effective Date, all liabilities subject to compromise were either settled through
issuance of cash, shares of New Common Stock or Warrants, or were included in the Companys
claims payable and estimated claims accrual (the Claims Reserve). As such, as of the
Effective Date, no liabilities remain subject to compromise. Liabilities subject to compromise
at December 31, 2010 consisted of the following (amounts in thousands):
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Predecessor Company | ||||
December 31, 2010 | ||||
Senior secured credit facility |
$ | 1,970,963 | ||
Senior Notes |
549,996 | |||
Interest rate swap |
98,833 | |||
Accrued interest |
211,550 | |||
Accounts payable |
57,640 | |||
Other accrued liabilities |
16,129 | |||
Other long-term liabilities |
200 | |||
Liabilities subject to compromise |
$ | 2,905,311 | ||
Liabilities not subject to compromise include: (1) liabilities incurred after the Petition
Date; (2) Pre-Petition Date liabilities that the Company expects to pay in full such as medical
or retirement benefits; and (3) Pre-Petition Date
liabilities that have been approved for payment by the Bankruptcy Court and that the
Company expects to pay (in advance of a plan of reorganization) in the ordinary course of
business, including certain employee-related items such as salaries and vacation pay.
Magnitude of Potential Claims
The Company has filed with the Bankruptcy Court schedules and statements of financial
affairs setting forth, among other things, the Companys assets and liabilities, subject to the
assumptions filed in connection therewith. All of the schedules are subject to amendment or
modification.
Bankruptcy Rule 3003(c)(3) requires the Bankruptcy Court to set the time within which
proofs of claim must be filed in a Chapter 11 case. The Bankruptcy Court established March 18,
2010 at 5:00 p.m. Eastern Time (the General Bar Date) as the last date and time for all
non-governmental entities to file a proof of claim against the Debtors and April 26, 2010 at
5:00 p.m. Eastern Time (the Governmental Bar Date, and together with the General Bar Date,
the Bar Dates) as the last date and time for all governmental entities to file a proof of
claim against the Company. Subject to certain exceptions, the Bar Dates apply to all claims
against the Debtors that arose prior to the Petition Date.
As of October 31, 2011, claims totaling $4.9 billion have been filed with the Bankruptcy
Court against the Company, $2.8 billion of which have been settled and $1.1 billion of which
have been disallowed by the Bankruptcy Court. Additionally, $9.0 million of these claims have
been withdrawn by the respective creditors and $1.04 billion of these claims remain open,
pending settlement or objection, including $1.01 billion of
duplicative claims filed by one company and its affiliates. The Company expects the majority of these pending claims to
be disallowed. In light of the Companys emergence from bankruptcy on the Effective Date, the
Company does not anticipate a significant number of new and amended claims to be filed in the
future. The Company has identified, and expects to continue to identify, many claims that the
Company believes should be disallowed by the Bankruptcy Court because they are duplicative,
have been later amended or superseded, are without merit or are overstated or for other
reasons. The Company expects to continue to file objections in the future. Because the process
of analyzing and objecting to claims will be ongoing, the amount of disallowed claims may
increase significantly in the future.
On the Effective Date, the Company distributed cash, entered into the Exit Credit
Agreement, and issued shares of New Common Stock and Warrants to satisfy $2.8 billion of
claims. In addition, on the Effective Date, the Company established a cash reserve to pay
outstanding bankruptcy claims and various other bankruptcy related fees (the Cash Claims
Reserve) of $82.8 million and reserved 72,754 shares of New Common Stock and Warrants to
purchase 124,012 shares of New Common Stock for satisfaction of pending claims. Subsequent to
the Effective Date, the Company has made additional cash distributions from its Cash Claims
Reserve and issued additional shares of New Common Stock to satisfy claims as they are
resolved. As a result of these distributions, the Cash Claims Reserve as of October 31, 2011,
has been decreased to $25.5 million. As of October 31, 2011, 69,194 shares of New Common Stock
and Warrants to purchase 117,943 shares of New Common Stock remain to be distributed in
satisfaction of pending claims.
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Through the claims resolution process, differences in amounts scheduled by the Company and
claims filed by creditors are being investigated and resolved, including through the filing of
objections with the Bankruptcy Court where appropriate. In light of the substantial number and
amount of claims filed, the claims resolution process will take considerable time to complete.
Accordingly, the ultimate number and amount of allowed claims is not presently known, nor is
the exact recovery with respect to allowed claims presently known.
Fresh Start Accounting
Upon confirmation of the Plan by the Bankruptcy Court and satisfaction of the remaining
material contingencies to complete the implementation of the Plan, fresh start accounting
principles were applied on the Effective Date pursuant to the provisions of the Reorganizations
Topic of the ASC. The adoption of fresh start accounting resulted in a new reporting entity.
The financial statements as of January 24, 2011 and for subsequent periods will report the
results of a new entity with no beginning retained earnings. All periods as of and after the
Effective Date are referred to as the Successor Company, whereas all periods preceding the Effective Date are referred
to as the Predecessor Company. With the exception of deferred taxes and assets and liabilities
associated with pension and post-retirement health plans, which were recorded in accordance
with the Income Taxes Topic of the ASC and the Compensation Topic of the ASC, respectively, all
Successor Company assets and liabilities were recorded at their estimated fair values upon the
Effective Date and the Predecessor Companys retained deficit and accumulated other
comprehensive income were eliminated. Any presentation of the Successor Company represents the
financial position and results of operations of the new reporting entity and is not comparable
to prior periods.
Under the Reorganization Topic of the ASC, the Company was required to apply the
provisions of fresh start accounting to its financial statements because (i) the reorganization
value of the assets of the emerging entity immediately before the date of confirmation was less
than the total of all post-petition liabilities and allowed claims and (ii) the holders of the
existing voting shares of the predecessors common stock immediately before confirmation
received less than 50 percent of the voting shares of the emerging entity.
In accordance with fresh start accounting, which incorporated the acquisition method of
accounting for business combinations in the Business Combinations Topic of the ASC, the Company
recorded the assets and non-interest bearing liabilities at fair value, with the exception of
deferred taxes and assets and liabilities associated with pension and post-retirement health
plans, which were recorded in accordance with the Income Taxes Topic of the ASC and the
Compensation Topic of the ASC, respectively. The Company also recorded the Successor Company
debt and equity at fair value utilizing the total enterprise value of approximately $1.5
billion, which was determined in conjunction with the confirmation of the Plan in part based on
a set of financial projections for the Successor Company. The enterprise value was dependent
upon achieving the future financial results set forth in the Companys projections, as well as
the realization of certain other assumptions. There can be no assurance that the projections
will be achieved or that the assumptions will be realized.
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The implementation of the Plan and the adoption of fresh start accounting in the
Companys consolidated balance sheet as of January 24, 2011 were as follows:
FAIRPOINT COMMUNICATIONS, INC. AND SUBSIDIARIES
Reorganized Condensed Consolidated Balance Sheet
As of January 24, 2011
(Unaudited)
(in thousands, except share data)
Reorganized Condensed Consolidated Balance Sheet
As of January 24, 2011
(Unaudited)
(in thousands, except share data)
Predecessor | Reorganization | Fresh Start | ||||||||||||||
Company | Adjustments (a) | Adjustments (b) | Successor Company | |||||||||||||
Assets |
||||||||||||||||
Current assets: |
||||||||||||||||
Cash |
$ | 101,703 | (91,441) | (c) | | $ | 10,262 | |||||||||
Restricted cash |
2,386 | 82,764 | (c) | | 85,150 | |||||||||||
Accounts receivable, net |
129,308 | | | 129,308 | ||||||||||||
Materials and supplies |
24,776 | | (24,098) | (l) | 678 | |||||||||||
Prepaid expenses |
17,152 | | (2,347) | 14,805 | ||||||||||||
Other current assets |
8,620 | | (4,247) | 4,373 | ||||||||||||
Deferred income tax, net |
31,400 | | | 31,400 | ||||||||||||
Total current assets |
315,345 | (8,677) | (30,692) | 275,976 | ||||||||||||
Property, plant and equipment, net |
1,852,508 | | (28,838) | (f)(l) | 1,823,670 | |||||||||||
Goodwill |
595,120 | | (351,931) | (i) | 243,189 | |||||||||||
Intangible assets, net |
187,791 | | (30,381) | (g) | 157,410 | |||||||||||
Prepaid pension asset |
3,053 | | 363 | (h) | 3,416 | |||||||||||
Debt issue costs, net |
| 2,366 | (d) | | 2,366 | |||||||||||
Restricted cash |
1,678 | | | 1,678 | ||||||||||||
Other assets |
13,040 | | (3,874) | (l) | 9,166 | |||||||||||
Total assets |
$ | 2,968,535 | (6,311) | (445,353) | $ | 2,516,871 | ||||||||||
Liabilities and Stockholders Equity (Deficit) |
||||||||||||||||
Liabilities not subject to compromise: |
||||||||||||||||
Current portion of long-term debt |
$ | | | | $ | | ||||||||||
Current portion of capital lease obligations |
1,233 | | | 1,233 | ||||||||||||
Accounts payable |
98,674 | (23,735) | | 74,939 | ||||||||||||
Claims payable and estimated claims accrual |
| 94,292 | (c) | | 94,292 | |||||||||||
Other accrued liabilities |
61,065 | (1,800) | (c) | (4,457) | (h) | 54,808 | ||||||||||
Total current liabilities |
160,972 | 68,757 | (4,457) | 225,272 | ||||||||||||
Capital lease obligations |
3,831 | | | 3,831 | ||||||||||||
Accrued pension obligation |
93,033 | | (7,905) | (h) | 85,128 | |||||||||||
Employee benefit obligations |
346,853 | | (13,599) | (h) | 333,254 | |||||||||||
Deferred income taxes |
56,408 | 331,493 | (j) | (40,124) | (j) | 347,777 | ||||||||||
Unamortized investment tax credits |
4,313 | | (4,313) | (j) | | |||||||||||
Other long-term liabilities |
12,079 | (2,094) | (c) | 13,138 | 23,123 | |||||||||||
Long-term debt, net of current portion |
| 1,000,000 | (d) | | 1,000,000 | |||||||||||
Total long-term liabilities |
516,517 | 1,329,399 | (52,803) | 1,793,113 | ||||||||||||
Total liabilities not subject to compromise |
677,489 | 1,398,156 | (57,260) | 2,018,385 | ||||||||||||
Liabilities subject to compromise |
2,910,952 | (2,910,952) | | | ||||||||||||
Total liabilities |
3,588,441 | (1,512,796) | (57,260) | 2,018,385 | ||||||||||||
Stockholders equity (deficit): |
||||||||||||||||
Predecessor Company common stock |
894 | (894) | | | ||||||||||||
Additional paid-in capital, Predecessor
Company |
725,804 | (725,804) | | | ||||||||||||
Successor Company common stock |
| 257 | (i) | | 257 | |||||||||||
Additional paid-in capital, Successor
Company |
| 498,229 | (i) | | 498,229 | |||||||||||
Retained deficit |
(1,134,293) | 1,734,697 | (e) | (600,404) | (k) | | ||||||||||
Accumulated other comprehensive loss |
(212,311) | | 212,311 | | ||||||||||||
Total stockholders equity (deficit) |
(619,906) | 1,506,485 | (388,093) | 498,486 | ||||||||||||
Total liabilities and stockholders equity
(deficit) |
$ | 2,968,535 | (6,311) | (445,353) | $ | 2,516,871 | ||||||||||
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(a) | Represents amounts recorded for the implementation of the Plan on the Effective
Date. This included the settlement of liabilities subject to compromise, distributions of
cash, authorization and partial distribution of shares of New Common Stock and Warrants,
designation of restricted cash to satisfy allowed claims and the cancellation of
predecessor Old Common Stock resulting in a pre-tax gain of approximately $1,351.0 million
on extinguishment of obligations pursuant to the Plan and the related tax effects. The
following reflects the calculation of the pre-tax gain (in thousands, unaudited): |
Liabilities subject to compromise |
$ | 2,910,952 | ||
Less: Transfer to claims reserve |
(66,893 | ) | ||
Remaining liabilities subject to compromise |
2,844,059 | |||
Less: Issuance of debt and equity |
||||
New long-term debt |
(1,000,000 | ) | ||
Successor common stock (at par value) |
(251 | ) | ||
Successor additional paid-in capital |
(476,403 | ) | ||
Successor warrants |
(16,350 | ) | ||
Pre-tax gain from cancellation and satisfaction of
predecessor debt |
$ | 1,351,055 | ||
(b) | Represents the adjustments of assets and liabilities to fair value or other
measurement in conjunction with adoption of fresh start accounting. |
|
(c) | Records the Claims Reserve and the Cash Claims Reserve restricted for satisfaction of
the reserve. The following reflects the components of the Claims Reserve (in thousands,
unaudited): |
Liabilities subject to compromise to be satisfied in cash |
$ | 66,893 | ||
Professional and restructuring fees |
24,601 | |||
Other |
9,894 | |||
Claims Reserve before emergence date payments |
101,388 | |||
Less: Professional and restructuring fee payments |
(7,096 | ) | ||
Claims Reserve at emergence |
$ | 94,292 | ||
The decrease in cash of $91.4 million at emergence was comprised of a reclassification of
$82.8 million of operating cash to the Cash Claims Reserve within restricted cash to satisfy
the Claims Reserve, $1.5 million of fees paid relating to debt financing and cash payments of
$7.1 million for professional and restructuring fees. Tax claims were included in the Claims
Reserve but were not included in the Cash Claims Reserve, because they were not required to
be so included. |
(d) | Records the issuance of senior secured debt and related debt financing. Debt issuance
costs of $2.4 million ($1.5 million paid in cash on the Effective Date) related to the Exit
Credit Agreement Loans were recorded in Debt issue costs, net and will be amortized over
the terms of the respective agreements. |
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(e) | Reflects the cumulative impact of the reorganization adjustments (in thousands, unaudited): |
Pre-tax gain from cancellation and satisfaction of
predecessor debt |
$ | 1,351,055 | ||
Income tax impact |
(331,495) | |||
Other |
(11,561) | |||
Total impact on condensed consolidated statement of
operations |
$ | 1,007,999 | ||
Cancellation of predecessor common stock and additional paid-in capital |
726,698 | |||
Total reorganization adjustments |
$ | 1,734,697 | ||
(f) | Reflects the fair values of property, plant and equipment in connection with fresh
start accounting. Fair value estimates were based on the following valuation methods: |
| Land was valued using a combination of the market approach, which was primarily
based on pertinent local sales and listings data, and the indirect cost approach, in
which market trending indices were applied to the historical capital cost. |
||
| Other real property such as buildings, building improvements and leasehold
improvements were valued using either: (1) current market cost to construct
improvements where information regarding size, age, construction type, etc. was
available and (2) current market trending indices applied to historical capital
costs where such detailed information was not available. |
||
| Network assets (including central office and outside communications plant
equipment) were valued using a combination of the direct replacement cost approach
to value outside communications plant assets and an indirect cost approach in which
current market trending indices were applied to the historical capital cost. |
||
| Other personal property such as furniture, fixtures and other equipment were
valued using a combination of a percent of cost market approach and an indirect
cost approach based on replacement costs and current market trending indices. |
||
The indices utilized were selected from industry accepted and published cost indices
including the Bureau of Labor Statistics, Marshall Valuation Service, Consumer Price Indices,
NACREIF Property Index and AUS Telephone Plant Index. |
(g) | Reflects the fair value of identifiable intangible assets in connection with fresh
start accounting. The Company recognized a $99.0 million customer list intangible asset, a
$58.0 million trade name intangible asset related to the FairPoint Communications trade
name and a $0.4 million favorable leasehold agreement intangible asset. |
| The customer list asset was valued based on a cost method which utilized average
cost to acquire a new line multiplied by the number of existing lines within the
FairPoint network. |
||
| The trade name was valued based on the relief-from-royalty method which utilized
projected revenue (excluding wholesale revenue), the royalty rate that would be
charged by an asset licensor to an unrelated licensee, and a discount rate. |
(h) | An adjustment of $22.1 million (net) was recorded to measure the pension and other
post-retirement employee benefit obligations as of the Effective Date. This adjustment
primarily reflects the change in the weighted average |
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discount rate applied to projected
benefit obligations from the prior measurement date to the Effective Date. The discount
rates applied to projected obligations changed as follows: |
January 24, 2011 |
December 31, 2010 |
|||||||
Pension Discount Rate Management |
5.22 | % | 5.07 | % | ||||
Pension Discount Rate Associate |
5.84 | % | 5.64 | % | ||||
Post-retirement Healthcare Discount
Rate Management |
5.64 | % | 5.45 | % | ||||
Post-retirement Healthcare Discount
Rate Associate |
5.85 | % | 5.65 | % |
(i) | Reconciliation of enterprise value to the reorganization value of FairPoint assets,
determination of goodwill and reconciliation of reorganization value of FairPoint assets to
the Successor Company equity (in thousands, unaudited): |
Business Enterprise Value |
$ | 1,498,486 | ||
Plus: Non-debt liabilities |
1,018,385 | |||
Reorganization Value of FairPoint Assets |
$ | 2,516,871 | ||
Fair value of FairPoint assets (excluding goodwill) |
(2,273,682) | |||
Reorganization Value in Excess of Fair Value (Goodwill) |
$ | 243,189 | ||
During the second quarter of 2011, the Company made a reclassification adjustment to
Property, Plant and Equipment related to fresh start accounting, which reduced goodwill by
$12.8 million to $243.2 million. |
Reorganization Value of FairPoint Assets |
$ | 2,516,871 | ||
Less: Non-debt liabilities |
(1,018,385) | |||
Debt |
(1,000,000) | |||
New Common Stock ($257) and Additional Paid-in-
Capital ($498,229) |
$ | 498,486 | ||
(j) | Reflects the re-measurement of the Companys deferred tax assets and liabilities,
unrecognized tax benefits and other tax related accounts as a result of implementing the
plan of reorganization and fresh start accounting in accordance with accounting guidance. |
|
(k) | Reflects the adjustment of assets and liabilities to fair value or other measurement as
specified in accounting guidance related to business combinations as follows (in thousands,
unaudited): |
Elimination of predecessor goodwill |
$ | 595,120 | ||
Elimination of predecessor intangible assets |
187,791 | |||
Property, plant and equipment adjustment |
56,258 | |||
Successor unfavorable agreement liabilities |
13,690 | |||
Successor intangible assets |
(157,410) | |||
Successor goodwill |
(243,189) | |||
Pension and post-retirement health actuarial gain |
(22,076) | |||
Income tax impact |
(40,124) | |||
Other adjustments |
(1,967) | |||
Total impact on condensed consolidated statement of
operations |
$ | 388,093 | ||
Elimination of accumulated other comprehensive loss |
212,311 | |||
Total fair value adjustments and elimination of
predecessor accumulated other comprehensive loss |
$ | 600,404 | ||
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(l) | In conjunction with fresh start accounting, management of the Successor Company changed
its accounting policy to classify certain items relating to future use in capital projects
with property, plant and equipment. As a result of this change in policy, management
reclassified $24.1 million from materials and supplies and $3.3 million from other
long-term assets to property, plant and equipment. |
(3) Accounting Policies
In accordance with fresh start accounting, all assets and non-interest bearing liabilities
were recorded at fair value on the Effective Date. Subsequent to being recorded at fair value,
except for certain materials and supplies as noted above, these assets and liabilities
continued to be accounted for in the manner in which they were accounted for prior to the
Effective Date.
(a) Presentation and Use of Estimates
The accompanying condensed consolidated financial statements have been prepared in
accordance with U.S. generally accepted accounting principles (GAAP), which require
management to make estimates and assumptions that affect reported amounts and disclosures.
Actual results could differ from those estimates. The condensed consolidated financial
statements reflect all adjustments that are necessary for a fair presentation of results of
operations and financial condition for the interim periods shown, including normal recurring
accruals and other items.
Examples of significant estimates include the allowance for doubtful accounts, revenue
reserves, the recoverability of property, plant and equipment, valuation of intangible assets,
pension and post-retirement benefit assumptions and income taxes. In addition, estimates have
been made in determining the amounts and classification of certain liabilities subject to
compromise.
(b) Revenue Recognition
Revenues are recognized as services are rendered and are primarily derived from the usage
of the Companys networks and facilities or under revenue-sharing arrangements with other
communications carriers. Revenues are primarily derived from: access, pooling, voice services,
Universal Service Fund receipts, Internet and broadband services and other miscellaneous
services. Local access charges are billed to local end users under tariffs approved by each
states Public Utilities Commission (PUC). Access revenues are derived for the intrastate
jurisdiction by billing access charges to interexchange carriers and to other local exchange
carriers (LECs). These charges are billed based on toll or access tariffs filed with the
local states PUC. Access charges for the interstate jurisdiction are billed in accordance with
tariffs filed by the National Exchange Carrier Association or by the individual company and
filed with the Federal Communications Commission (the FCC).
Revenues are determined on a bill-and-keep basis or a pooling basis. If on a bill-and-keep
basis, the Company bills the charges to either the access provider or the end user and keeps
the revenue. If the Company participates in a pooling environment (interstate or intrastate),
the toll or access billed is contributed to a revenue pool. The revenue is then distributed to
individual companies based on their company-specific revenue requirement. This distribution is
based on individual state PUCs (intrastate) or the FCCs (interstate) approved separation
rules and rates of return. Distribution from these pools can change relative to changes made to
expenses, plant investment, or rate-of-return. Some companies participate in federal and
certain state universal service programs that are pooling in nature but are regulated by rules
separate from those described above. These rules vary by state. Revenues earned through the
various pooling arrangements are initially recorded based on the Companys estimates.
Long distance retail and wholesale services can be recurring due to coverage under an
unlimited calling plan or usage sensitive. In either case, they are billed in arrears and
recognized when earned. Internet and data services
revenues are substantially all recurring revenues and are billed one month in advance and
deferred until earned.
As of September 30, 2011 and December 31, 2010, unearned revenue of $17.8 million and
$15.3 million, respectively, was included in other accrued liabilities on the condensed
consolidated balance sheet.
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The majority of the Companys miscellaneous revenue is provided from billing and
collection and directory services. The Company earns revenue from billing and collecting
charges for toll calls on behalf of interexchange carriers. The interexchange carrier pays a
certain rate per each minute billed by the Company. The Company recognizes revenue from billing
and collection services when the services are provided.
Internet and broadband services and certain other services are recognized in the month the
service is provided.
Non-recurring customer activation fees, along with the related costs up to, but not
exceeding, the activation fees, are deferred and amortized over the customer relationship
period.
Service quality index (SQI) penalties and certain performance assurance plan (PAP)
penalties are recorded as a reduction to revenue. SQI penalties for Maine, New Hampshire and
Vermont are recorded to other accrued liabilities on the consolidated balance sheets. PAP
penalties for Maine and New Hampshire are recorded as a reduction to accounts receivable since
these penalties are paid by the Company in the form of credits applied to the Competitive Local
Exchange Carrier (CLEC) bills. PAP penalties in Vermont are recorded to other accrued
liabilities as a majority of these penalties are paid to the Vermont Universal Service Fund,
while the remaining credits assessed in Vermont are paid by the Company in the form of credits
applied to CLEC bills.
Revenue is recognized net of tax collected from customers and remitted to governmental
authorities.
Management makes estimated adjustments, as necessary, to revenue or accounts receivable
for billing errors, including certain disputed amounts.
(c) Restricted Cash
As of September 30, 2011, the Company had $26.2 million of restricted cash from which
outstanding bankruptcy claims and various other bankruptcy related fees will be paid, $1.7
million of restricted cash for removal of dual poles in Vermont and $0.7 million of cash
restricted for other purposes.
In total, the Company had $28.6 million of restricted cash at September 30, 2011 of which
$27.9 million is shown in current assets and $0.7 million is shown as a non-current asset on
the condensed consolidated balance sheet.
(d) Materials and Supplies
Prior to the Effective Date, materials and supplies included new and reusable supplies and
network equipment, which were stated principally at average original cost, except that specific
costs were used in the case of large individual items.
Materials and supplies of the Successor Company consist of finished goods and are stated
at the lower of cost or market value. Cost is determined using either an average original cost
or specific identification method of valuation.
(e) Property, Plant and Equipment
Prior to the Effective Date, property, plant and equipment of the Predecessor Company was
recorded at cost. Depreciation expense was principally based on the composite group remaining
life method and straight-line composite rates. This method provides for the recognition of the
cost of the remaining net investment in telephone plant, property and equipment less
anticipated positive net salvage value, over the remaining asset lives. This method requires
the periodic revision of depreciation rates.
When depreciable telephone plant used in the Companys wireline network is replaced or
retired, the carrying amount of such plant is deducted from the respective accounts and charged
to accumulated depreciation. No gain or loss is recognized on disposition of assets.
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Network software purchased or developed in connection with related plant assets is
capitalized. The Company also capitalizes interest associated with the acquisition or
construction of network related assets. Capitalized interest is reported as part of the cost
of the network related assets and as a reduction in interest expense.
In connection with the Companys adoption of fresh start accounting on the Effective Date,
property, plant and equipment assets were revalued to their fair value, generally their
appraised value after considering economic obsolescence, and new remaining useful lives were
established. Accumulated depreciation was reset to zero. The appraisals assigned remaining
useful lives to each asset ranging from two to twenty-three years. The revalued assets will be
depreciated over these estimated remaining useful lives under the same method utilized for the
Predecessor Company assets.
Property additions after the Effective Date are recorded and depreciated in a manner
consistent with the Predecessor Company utilizing the estimated asset lives presented in the
following table:
Category | Average Life (In Years) |
|||
Buildings |
45 | |||
Central office equipment |
5 11 | |||
Outside communications plant |
||||
Copper cable |
15 18 | |||
Fiber cable |
25 | |||
Poles and conduit |
30 50 | |||
Furniture, vehicles and other |
3 15 |
The Company believes that current estimated useful asset lives are reasonable, although
they are subject to regular review and analysis. In the evaluation of asset lives, multiple
factors are considered, including, but not limited to, the ongoing network deployment,
technology upgrades and enhancements, planned retirements and the adequacy of reserves.
(f) Long-Lived Assets
Property, plant and equipment and intangible assets subject to amortization are reviewed
for impairment as required by the Property, Plant and Equipment Topic of the ASC and the
Intangibles Topic of the ASC. These assets are tested for recoverability whenever events or
changes in circumstances indicate that their carrying amounts may not be recoverable. An
impairment charge is recognized for the amount, if any, by which the carrying value of the
asset exceeds its fair value.
As of December 31, 2010, as a result of changes to the Companys financial projections
related to the Chapter 11 Cases, the Company determined that a possible impairment of
long-lived assets was indicated. In accordance with the Property, Plant and Equipment Topic of
the ASC, the Company performed recoverability tests, based on undiscounted projected future
cash flows associated with its long-lived assets and determined that long-lived assets were not
impaired at December 31, 2010. See note 3(i) for further discussion.
Given the significant sustained decline in the Companys stock price since the Effective
Date which has caused the Companys market capitalization to be below its book value, and both
the September 30, 2011 impairment of goodwill and impairment of the FairPoint trade name, the
Company determined that a possible impairment of long-lived assets was present as of September
30, 2011. See note 3(i) for further discussion of the September 30, 2011 impairment to
goodwill and the FairPoint trade name. However, the Company concluded that long-lived assets
were recoverable based on the fair value of the Companys gross cash flows being greater than
the carrying value.
(g) Computer Software and Interest Costs
The Company capitalizes certain costs incurred in connection with developing or obtaining
internal use software which has a useful life in excess of one year in accordance with the
Intangibles-Goodwill and Other Topic of the
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ASC. Capitalized costs include direct development
costs associated with internal use software, including direct labor costs and external costs of
materials and services.
Subsequent additions, modifications or upgrades to internal-use software are capitalized
only to the extent that they allow the software to perform a task it previously did not
perform. Software maintenance and training costs are expensed in the period in which they are
incurred.
In addition, the Company capitalizes the interest cost associated with the period of time
over which the Companys internal use software is developed or obtained in accordance with the
Interest Topic of the ASC. The Company did not capitalize interest costs incurred during the
pendency of the Chapter 11 Cases, as payments on all interest obligations were stayed as a
result of the filing of the Chapter 11 Cases. Upon entry into the Exit Credit Agreement on the
Effective Date, the Company resumed capitalization of interest costs.
During the three months ended September 30, 2011, the 249 days ended September 30, 2011
and the 24 days ended January 24, 2011, the Company capitalized $3.1 million, $11.5 million and
$1.3 million, respectively, in software costs, $0.1 million in interest costs for the 249 days
ended September 30, 2011 and less than $0.1 million in interest costs for the three months
ended September 30, 2011. No interest costs were capitalized for the 24 days ended January 24,
2011.
(h) Debt Issue Costs
The Company entered into the DIP Credit Agreement on October 27, 2009. The Company
incurred $0.9 million of debt issue costs associated with the DIP Credit Agreement and began to
amortize these costs over the nine-month life of the DIP Credit Agreement using the effective
interest method. Concurrent with the final order of the Bankruptcy Court, dated March 11, 2010
(the Final DIP Order), the Company incurred an additional $1.1 million of debt issue costs
associated with the DIP Credit Agreement and began to amortize these costs over the remaining
life of the DIP Credit Agreement using the effective interest method. On October 22, 2010, the
Company incurred an additional $0.4 million of debt issue costs to extend the DIP Credit
Agreement through January 2011. The Company has amortized these costs over the extended life of
the DIP Credit Agreement.
On the Effective Date, the Company entered into the Exit Credit Agreement. The Company
incurred $2.4 million of debt issue costs associated with the Exit Credit Agreement and began
to amortize these costs over a weighted average life of 3.7 years using the effective interest
method.
As of September 30, 2011 and December 31, 2010, the Company had capitalized debt issue
costs of $1.9 million and $0.1 million, respectively, net of amortization.
(i) Goodwill and Other Intangible Assets
As of December 31, 2010, goodwill consisted of the difference between the purchase price
incurred in the acquisition of Legacy FairPoint (FairPoint Communications, Inc. exclusive of
the local exchange business acquired from Verizon and its subsidiaries after giving effect to
the Merger (the Northern New England operations)), using the purchase method of accounting
and the fair value of net assets acquired. Upon the Effective Date, goodwill consists of the
difference between the reorganization value of the predecessor company and the fair value of
net assets using the acquisition method of accounting for business combinations in the Business
Combinations Topic of the ASC. In accordance with the Intangibles Goodwill and Other Topic
of the ASC, goodwill is not amortized, but is assessed for impairment at least annually.
In September 2011, the FASB issued Accounting Standards Update (ASU) 2011-08 to amend
and simplify the annual testing for goodwill impairment. This amendment to Intangibles
Goodwill and Other Topic of the ASC allows an entity the option to first assess qualitative
factors to determine whether the existence of events and
circumstances leads to a determination that it is more likely than not that the fair value
of a reporting unit is less than its carrying value. If, after assessing the totality of
events and circumstances, an entity determines it not likely that the fair value of a reporting
unit is less than its carrying value, then performing the two-step impairment test is
unnecessary. However, if an entity concludes otherwise, then it is required to perform the
first step of the two-step
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impairment test. In addition, the ASU includes examples of events
and circumstances that an entity should consider in evaluating whether it is more likely than
not that the fair value of a reporting unit is less than its carrying value. These events and
circumstances should be utilized when an entity considers the need to test goodwill for
impairment between annual tests.
Goodwill impairment is determined using a two-step process. Step one compares the
estimated fair value of the Companys single reporting unit (calculated using both the market
approach and the income approach) to its carrying amount, including goodwill. The market
approach compares the fair value of the Company, as measured by its market capitalization, to
the carrying amount of the Company, which represents its stockholders equity balance. The
income approach is based upon projected future cash flows discounted to present value using
factors that consider the timing and risk associated with the future cash flows. The fair
value of the Companys single reporting unit was estimated using a probability weighted
scenario of future cash flow projections based on managements long range estimates of market
conditions over a multiple year horizon. An estimated growth rate was used to arrive at an
estimated terminal value. A discount rate was based upon a cost of capital calculated using
various inputs, such as the risk-free rate, equity risk premium, size premium, company specific
premium, etc., as of the date of the goodwill impairment test.
Effective January 1, 2011, step one of the goodwill impairment test was amended for
reporting units with zero or negative carrying amounts. Previously, for those reporting units,
an entity would not be required to perform step two of the goodwill impairment test. Now, an
entity is required to perform step two of the goodwill impairment test for reporting units with
zero or negative carrying amounts if it is more likely than not that a goodwill impairment
exists. In determining whether it is more likely than not that a goodwill impairment exists, an
entity should consider whether there are any adverse qualitative factors indicating an
impairment may exist.
Step two compares the implied fair value of the Companys goodwill (i.e., the fair value
of the Company less the fair value of the Companys assets and liabilities, including
identifiable intangible assets) to its goodwill carrying amount. If the carrying amount of the
Companys goodwill exceeds the implied fair value of the goodwill, the excess is required to be
recorded as an impairment.
During this assessment, management relies on a number of factors, including operating
results, business plans and anticipated future cash flows. The Company performed step one of
its annual goodwill impairment assessment as of October 1, 2010 and concluded that there was no
impairment at that time. At December 31, 2010, the Company had goodwill of $595.1 million.
In connection with the Companys adoption of fresh start accounting on the Effective Date,
goodwill of the Predecessor Company was eliminated. On the Effective Date, the Company
recorded $256.0 million of goodwill in connection with the Companys adoption of fresh start
accounting. During the second quarter of 2011, the Company made a $12.8 million
reclassification adjustment to Property, Plant and Equipment based on fresh start accounting
guidance which reduced the goodwill to $243.2 million.
At September 30, 2011, as a result of the significant sustained decline in the Companys
stock price since the Effective Date, which has caused the Companys market capitalization to
be below its book value, the Company determined that a possible impairment of goodwill was
indicated and concluded that an interim goodwill impairment test was necessary. In step one,
the Company calculated the discounted cash flows to arrive at a fair value, which was then
compared to the carrying value, including goodwill. A combination of expected cash flows and
higher discount rates resulted in the fair value, using the discounted cash flow method, being
less than the carrying value, at which point the company proceeded to step two, as outlined
above. Results of the impairment test required the Company to record an impairment charge
reducing the carrying value of the goodwill to zero at
September 30, 2011. This non-cash impairment
charge has no impact on the Companys compliance with the covenants contained in the
Exit Credit Agreement.
The
goodwill impairment falls within Level 3 of the fair value hierarchy (see note 12),
due to the use of significant unobservable inputs to determine fair value. The fair value
measurement was calculated using unobservable inputs, primarily using
the income approach and
specifically the discounted cash flow method.
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In connection with the Companys adoption of fresh start accounting on the Effective Date,
intangible assets and related accumulated amortization of the Predecessor Company were
eliminated. Intangible assets of the Successor Company were identified and valued at their
fair value, as determined by valuation specialists. The Companys intangible assets are as
follows (in thousands):
Successor Company | Predecessor Company | ||||||||
At | At | ||||||||
September 30, | December 31, | ||||||||
2011 | 2010 | ||||||||
Customer lists (weighted average 9.0 years and 9.7
years for Successor Company and Predecessor Company,
respectively): |
|||||||||
Gross carrying amount |
$ | 99,000 | $ | 208,504 | |||||
Less accumulated amortization |
(7,541) | (62,073) | |||||||
Net customer lists |
91,459 | 146,431 | |||||||
Trade name (indefinite life): |
|||||||||
Gross carrying amount |
39,169 | 42,816 | |||||||
Favorable leasehold agreements (weighted average 2.7
years): |
|||||||||
Gross carrying amount |
410 | | |||||||
Less accumulated amortization |
(105) | | |||||||
Net favorable leasehold agreements |
305 | | |||||||
Total intangible assets, net |
$ | 130,933 | $ | 189,247 | |||||
The Company assesses the fair value of the trade name based on the relief from royalty
method. If the carrying amount of the trade name exceeds its estimated fair value, the asset
is considered impaired. The Company performed its annual non-amortizable intangible asset
impairment assessment as of October 1, 2010 and concluded that there was no indication of
impairment at that time. As of December 31, 2010, as a result of changes to the Companys
financial projections related to the Chapter 11 Cases, the Company determined that a possible
impairment of its non-amortizable intangible assets was indicated. The Company performed an
interim non-amortizable intangible asset impairment assessment as of December 31, 2010 and
determined that the trade name was not impaired. On the Effective Date, the Company recorded a
$58.0 million non-amortizable intangible asset related to the FairPoint trade name in
connection with the Companys adoption of fresh start accounting.
At September 30, 2011, as a result of the significant sustained decline in the Companys
stock price since the Effective Date which has caused the Companys market capitalization to be
below its book value, the Company determined that a possible impairment of the FairPoint trade
name was indicated and concluded that an interim impairment test was necessary. Results of the
impairment test required the Company to record an impairment charge totaling $18.8 million at
September 30, 2011.
The
trade name impairment falls within Level 3 of the fair value hierarchy (see note 12),
due to the use of significant unobservable inputs to determine fair value. The fair value
measurement was calculated using unobservable inputs, using the relief from royalty method.
For its non-amortizable intangible asset impairment assessments of the FairPoint trade
name, the Company makes
certain assumptions including an estimated royalty rate, a long-term growth rate, an
effective tax rate and a discount rate, and applies these assumptions to projected future cash
flows, exclusive of cash flows associated with wholesale revenues as these revenues are not
generated through brand recognition. Changes in one or more of these assumptions may result in
the recognition of an impairment loss different from what was actually recorded.
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The Companys amortizable intangible assets consist of customer lists and favorable
leasehold agreements. Amortizable intangible assets must be reviewed for impairment whenever
indicators of impairment exist. See note 3(f) above.
(j) Accounting for Income Taxes
Income taxes are accounted for under the asset and liability method. Deferred tax assets
and liabilities are recognized for the future tax consequences attributable to differences
between the financial statement carrying amounts of existing assets and liabilities and their
respective tax bases and operating loss and tax credit carryforwards. Deferred tax assets and
liabilities are measured using enacted tax rates expected to apply to taxable income in the
years in which those temporary differences are expected to be recovered or settled. The effect
on deferred tax assets and liabilities of a change in tax rates is recognized in income in the
period that includes the enactment date.
FairPoint files a consolidated income tax return with its subsidiaries. FairPoint has a
tax-sharing agreement in which all subsidiaries are participants. All intercompany tax
transactions and accounts have been eliminated in consolidation.
In assessing the realizability of deferred tax assets, management considers whether it is
more likely than not that some portion or all of the deferred tax assets will not be realized.
The ultimate realization of deferred tax assets is dependent
upon the generation of future taxable income during the periods in which those temporary
differences become deductible. Management determines its estimates of future taxable income
based upon the scheduled reversal of deferred tax liabilities and tax planning strategies. The
Company establishes valuation allowances for deferred tax assets when it is estimated to be
more likely than not that the tax assets will not be realized.
(k) Stock-based Compensation Plans
The Company accounts for its stock-based compensation plans in accordance with the
Compensation-Stock Compensation Topic of the ASC, which establishes accounting for stock-based
awards granted in exchange for employee services. Accordingly, for employee awards which are
expected to vest, stock-based compensation cost is measured at the grant date, based on the
fair value of the award, and is recognized as expense on a straight-line basis over the
requisite service period, which generally begins on the date the award is granted through the
date the award vests.
On the Effective Date, the Company issued options to purchase shares of New Common Stock
to certain employees, a consultant and members of the New Board, pursuant to the terms of the
Long Term Incentive Plan. The grant date fair value of the options was determined using the
Black-Scholes model. Key assumptions used for determining the fair value of the options were as
follows: risk-free rate2.7%; expected term7 years; expected volatility45.0%.
(l) Employee Benefit Plans
The Company accounts for pensions and other post-retirement benefit plans in accordance
with the Compensation Retirement Benefits Topic of the ASC. This Topic requires the
recognition of a defined benefit post-retirement plans funded status as either an asset or
liability on the balance sheet. This Topic also requires the immediate recognition of the
unrecognized actuarial gains and losses and prior service costs and credits that arise during
the period as a component of other accumulated comprehensive income, net of applicable income
taxes. Amounts recognized through accumulated comprehensive income are amortized into current
income in accordance with the
Compensation Retirement Benefits Topic of the ASC. Additionally, a company must
determine the fair value of plan assets as of the Companys year end.
(m) Business Segments
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Management views its business of providing video, data and voice communication services to
residential, wholesale and business customers as one business segment as defined in the Segment
Reporting Topic of the ASC. The Companys services consist of retail and wholesale
telecommunications services, including voice and HSD in 18 states. The Companys chief
operating decision maker assesses operating performance and allocates resources based on the
consolidated results.
(n) Other Long-Term Liabilities
As a result of fresh-start reporting, the Company recorded $13.0 million in unfavorable
union contracts and $0.7 million in unfavorable leasehold agreements, each of which resulted
from agreements with contract rates in excess of market value rates as of the Effective Date.
Amortization is recognized on a straight-line basis over the remaining term of the agreements,
ranging from 1 to 7 years, as a reduction of employee expense and rent expense within operating
expenses.
(4) Recent Accounting Pronouncements
In September 2011, the FASB issued ASU 2011-08 to amend and simplify the annual testing
for goodwill impairment. This amendment to Intangibles Goodwill and Other Topic of the ASC
allows an entity the option to first assess qualitative factors to determine whether the
existence of events and circumstances leads to a determination that it is more likely than not
that the fair value of a reporting unit is less than its carrying value. If, after assessing
the totality of events and circumstances, an entity determines it is not likely that the fair
value of a reporting unit is less than its carrying value, then performing the two-step
impairment test is unnecessary. However, if an entity concludes otherwise, then it is required
to perform the first step of the two-step impairment test. In addition, the ASU includes
examples of events and circumstances that an entity should consider in evaluating whether it is
more likely than not that the fair value of a reporting unit is less than its carrying value.
These events and circumstances should be utilized when an entity considers the need to test
goodwill for impairment between annual tests. This new guidance is effective for annual and
interim goodwill impairment tests performed for fiscal years beginning after December 15, 2011,
with early adoption permitted. The Company elected to early adopt this ASU. The adoption of
this amendment to the ASC did not have a material impact on the Companys condensed
consolidated financial statements.
In June 2011, the FASB issued ASU 2011-05 related to the presentation of comprehensive
income which eliminates the option to present the components of other comprehensive income as
part of the statement of changes in stockholders equity. This ASU requires that all non-owner
changes in stockholders equity be presented in either a single continuous statement of
comprehensive income or in two separate but consecutive statements. This new guidance is to be
applied retrospectively, and is effective for interim and annual periods beginning after
December 15, 2011, with early adoption permitted. In October 2011, the FASB announced a
proposed deferral of the requirement set forth in this ASU that reclassification adjustments
for each component of other comprehensive (loss) income must be presented in both the condensed
consolidated statement of operations and the condensed consolidated statement of comprehensive
(loss) income with an exposure draft to be issued in the near future. The Company does not
expect this amendment to the ASC to have a material impact on its condensed consolidated
financial statements.
In May 2011, the FASB issued ASU 2011-04 related to achieving common fair value
measurements and disclosure requirements between U.S. GAAP and International Financial
Reporting Standards (IFRS). This ASU changes the wording used to describe many of the
requirements in U.S. GAAP for measuring fair value and for disclosing information about fair
value measurements to ensure consistency between U.S. GAAP and IFRS. The ASU also expands the
disclosures for fair value measurements that are estimated using significant unobservable
(Level 3) inputs. This new guidance is to be applied prospectively, and is effective for
interim and annual periods
beginning after December 15, 2011. Early adoption is not permitted. The Company does not
expect the adoption of this amendment to the ASC to have a material impact on its condensed
consolidated financial statements.
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On January 1, 2011, the Company adopted the ASU 2010-28 regarding when to perform step 2
of the goodwill impairment test for reporting units with zero or negative carrying amounts.
This ASU modifies step 1 of the goodwill impairment test for reporting units with zero or
negative carrying amounts. For those reporting units, an entity is required to perform step 2
of the goodwill impairment test if it is more likely than not that a goodwill impairment
exists. In determining whether it is more likely than not that a goodwill impairment exists, an
entity should consider whether there are any adverse qualitative factors indicating an
impairment may exist. The qualitative factors are consistent with the previously existing
guidance, which required that goodwill of a reporting unit be tested for impairment between
annual tests if an event occurs or circumstances change that would more likely than not reduce
the fair value of a reporting unit below its carrying amount. For public entities, the
amendments in this ASU are effective for fiscal year, and interim periods within those years,
beginning after December 15, 2010. The adoption of this amendment to the ASC did not have a
material impact on the Companys condensed consolidated financial statements.
In October 2009, the FASB issued ASU 2009-13 regarding revenue recognition for multiple
deliverable arrangements. This method allows a vendor to allocate revenue in an arrangement
using its best estimate of selling price if neither vendor specific objective evidence nor
third party evidence of selling price exists. Accordingly, the residual method of revenue
allocation will no longer be permissible. This ASU must be adopted no later than the beginning
of the first fiscal year beginning on or after June 15, 2010. The adoption of this
amendment to the ASC did not have a material impact on the Companys condensed
consolidated financial statements.
(5) Dividends
The Company currently does not pay a dividend on the New Common Stock and does not expect
to reinstate the payment of dividends in the foreseeable future.
(6) Income Taxes
The Company recorded an income tax benefit to its Successor Company for the three months
ended September 30, 2011 of $42.6 million, an income tax benefit to its Successor Company for
the 249 day period ended September 30, 2011 of $80.8 million and an income tax expense to its
Predecessor Company for the 24 day period ended January 24, 2011 of $279.9 million,
respectively. The Company recorded an income tax benefit of $7.3 million and $14.1 million for
the three and nine months ended September 30, 2010, respectively.
For the three months ended September 30, 2011, the Successor Companys effective tax
benefit rate on $322.1 million of pre-tax loss was 13.2%. The rate differs from the 35%
federal statutory rate primarily due to an impairment charge reducing the carrying value of the
Companys goodwill to zero and state income taxes.
For the 249 day period ended September 30, 2011, the Successor Companys effective tax
benefit rate on $411.8 million of pre-tax loss was 19.6%. The rate differs from the 35%
federal statutory rate primarily due to a prior period adjustment, an impairment charge
reducing the carrying value of the Companys goodwill to zero and state income taxes.
For the 24 day period ended January 24, 2011, the Predecessor Companys effective tax rate
on $866.8 million of pre-tax income was 32.3%. The rate differs from the 35% federal statutory
rate primarily due to the release of the valuation allowance and other miscellaneous
reorganization adjustments.
The effective tax rate for the three months ended September 30, 2010 was a 10.0% benefit.
The effective tax rate was impacted by non-deductible restructuring charges and post-petition
interest, as well as a significant increase in the Companys valuation allowance for deferred
tax assets due to its inability, by rule, to rely on future earnings to offset its NOLs during
the Chapter 11 Cases.
The effective tax rate for the nine months ended September 30, 2010 was a 6.4% benefit.
The effective tax rate was impacted by a one-time, non-cash income tax charge of $6.8 million
during the first quarter of 2010, as a result of the enactment of the Patient Protection and
Affordable Care Act and the Health Care and Education Reconciliation Act of 2010, both of which
became law in March 2010 (collectively, the Health Care Act). The
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effective tax rate for the
nine months ended September 30, 2010 was also impacted by non-deductible restructuring charges
and post-petition interest. In addition, tax benefits from the reported loss during the period
were partially offset by an increase in the valuation allowance on the Companys deferred tax
assets.
At September 30, 2011, the Company had NOL carryforwards of $240.2 million that will
expire from 2019 to 2031. At September 30, 2011, the Company had no alternative minimum tax
credits. Legacy FairPoint completed an initial public offering on February 8, 2005, which
resulted in an ownership change within the meaning of the U.S. Federal income tax laws
addressing NOL carryforwards, alternative minimum tax credits, and other similar tax
attributes. The Merger and the Companys emergence from the Chapter 11 Cases also resulted in
ownership changes. As a result of these ownership changes, there are specific limitations on
the Companys ability to use its NOL carryfowards and other tax attributes. It is the Companys
belief that it can use the NOLs even with these restrictions in place.
During the 24 days ended January 24, 2011 the Company excluded from taxable income
$1,045.4 million of income from the discharge of indebtedness as defined under Internal Revenue
Code (IRC) Section 108. There was no income from the discharge of indebtedness for the three
months ended September 30, 2011 and the 249 days ended September 30, 2011. IRC Section 108
excludes from taxable income the amount of indebtedness discharged under a Chapter 11 case.
IRC Section 108 also requires a reduction of tax attributes equal to the amount of excluded
taxable income to be made on the first day of the tax year following the emergence from
bankruptcy. We have not finalized our assessment of the tax effects of the bankruptcy
emergence and this estimate, as well as the Plans effect on all tax attributes, is subject to
revision, which could be significant.
In assessing the realizability of deferred tax assets, management considers whether it is
more likely than not that some portion or all of the deferred tax assets will not be realized.
The ultimate realization of deferred tax assets is dependent upon the generation of future
taxable income during the periods in which those temporary differences become deductible.
Management determines its estimates of future taxable income based upon the scheduled reversal
of deferred tax liabilities and tax planning strategies. The Company establishes valuation
allowances for deferred tax assets when it is estimated to be more likely than not that the tax
assets will not be realized.
At September 30, 2011 and December 31, 2010, the Company established a valuation allowance
of $29.6 million and $105.6 million, respectively, against its deferred tax assets.
The Income Taxes Topic of the ASC requires the use of a two-step approach for recognizing
and measuring tax benefits taken or expected to be taken in a tax return and disclosures
regarding uncertainties in income tax positions. The unrecognized tax benefits under the
Income Taxes Topic of the ASC are similar to the income tax reserves reflected prior to
adoption under SFAS No. 5, Accounting for Contingencies, whereby reserves were established for
probable loss contingencies that could be reasonably estimated. The Companys unrecognized tax
benefits of $5.4 million as of December 31, 2010 decreased by $4.4 million in the first quarter
of 2011 as a result of the rejection of the Tax Sharing Agreements with Verizon and increased
by $1.9 million in the third quarter of 2011 as a result of tax positions taken on the current
return. The Companys unrecognized tax benefits totaled $2.9 million as of September 30, 2011
and $5.4 million as of December 31, 2010.
The entire $2.9 million would impact the Companys effective rate, if recognized. The
unrecognized tax benefits relate to tax reserves recorded in a business combination and costs
associated with administering bankruptcy claims. Furthermore, the Company does not anticipate
any significant increase or decrease to the unrecognized tax benefits within the next twelve
months.
The Company recognizes any interest and penalties accrued related to unrecognized tax
benefits in income tax expense. For the three months ended September 30, 2011, the 249 days
ended September 30, 2011, the 24 days ended January 24, 2011 and the three and nine months
ended September 30, 2010, the Company did not make any
payment of interest and penalties. The Company had $1.0 million (after-tax) for the
payment of interest and penalties accrued in the condensed consolidated balance sheet at
December 31, 2010. There was nothing accrued in the condensed consolidated balance sheet for
the payment of interest and penalties at September 30, 2011.
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The Company or one of its subsidiaries files income tax returns in the U.S. federal
jurisdiction, and with various state and local governments. The Company is no longer subject to
U.S. federal, state and local, or non-U.S. income tax examinations by tax authorities for years
prior to 2004.
(7) Interest Rate Swap Agreements
The Company assesses interest rate cash flow risk by continually identifying and
monitoring changes in interest rate exposures that may adversely impact expected future cash
flows and by evaluating hedging opportunities. The Company maintains risk management control
systems to monitor interest rate cash flow risk attributable to both the Companys outstanding
and forecasted debt obligations. The risk management control systems involve the use of
analytical techniques, including cash flow sensitivity analysis, to estimate the expected
impact of changes in interest rates on the Companys future cash flows.
The Company uses variable-rate debt to finance its operations, capital expenditures and
acquisitions. The variable-rate debt obligations expose the Company to variability in interest
payments due to changes in interest rates. The Company believes it is prudent to limit the
variability of a portion of its interest payments. To meet this objective, from time to time,
the Company enters into interest rate swap agreements to manage fluctuations in cash flows
resulting from interest rate risk.
As of September 30, 2011, the Company was not party to any interest rate swap agreements
since the current variable to fixed swap market rates were substantially below the LIBOR floor
contained in the Exit Credit Agreement.
As of December 31, 2010, the Company was party to interest rate swap agreements under the
ISDA Master Agreement with Wachovia Bank, N.A., dated as of December 12, 2000, as amended and
restated as of February 1, 2008, and the ISDA Master Agreement with Morgan Stanley Capital
Services Inc., dated as of February 1, 2005 (collectively, the Swaps) which effectively
changed the variable rate on the debt obligations to a fixed rate. Under the terms of the
Swaps, the Company was required to make a payment if the variable rate was below the fixed
rate, or it received a payment if the variable rate was above the fixed rate. The $98.8
million carrying value of the Swaps represented the termination value of the Swaps as
determined by the respective counterparties following the filing of the Chapter 11 Cases. The
Swaps were terminated on the Effective Date.
The Company had determined that the Swaps did not meet the criteria for hedge accounting.
Therefore, changes in fair value of the Swaps were recorded as other income (expense) on the
condensed consolidated statement of operations. Following the filing of the Chapter 11 Cases,
the Swaps retained their termination value and no gain or loss on derivative instruments was
recorded to the consolidated statement of operations.
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(8) Long-Term Debt
Long term debt for the Company at September 30, 2011 and December 31, 2010 is shown below
(in thousands):
Successor | Predecessor | ||||||||
Company | Company | ||||||||
September 30, | December 31, | ||||||||
2011 | 2010 | ||||||||
Senior secured credit facility, variable rates ranging
from 6.75% to 7.00% (weighted average rate of 6.94%) at
December 31, 2010, due 2014 to 2015 |
$ | | $ | 1,970,963 | |||||
Senior secured credit facility, variable rate of 6.50%
(weighted average rate of 6.50%) at September 30, 2011, due
2016 |
1,000,000 | | |||||||
Senior notes, 13.125%, due 2018 |
| 549,996 | |||||||
Total outstanding long-term debt |
1,000,000 | 2,520,959 | |||||||
Less amounts subject to compromise |
| (2,520,959) | |||||||
Total long-term debt, net of amounts subject to compromise |
$ | 1,000,000 | $ | | |||||
Less current portion |
(7,500) | | |||||||
Total long-term debt, net of current portion |
$ | 992,500 | $ | | |||||
The estimated fair value of the Companys long-term debt at September 30, 2011 and
December 31, 2010 was approximately $787.5 million and $1,539.7 million, respectively, based on
market prices of the Companys debt securities at the respective balance sheet dates.
As of September 30, 2011, the Company had $62.6 million, net of $12.4 million outstanding
letters of credit, available for additional borrowing under the Exit Revolving Facility.
As a result of the filing of the Chapter 11 Cases (see note 1), all pre-petition debts
owed by the Company under the Pre-Petition Credit Facility and the Pre-Petition Notes were
classified as liabilities subject to compromise in the condensed consolidated balance sheet as
of December 31, 2010.
Pursuant to the Plan, the Company did not make any principal or interest payments on its
pre-petition debt during the pendency of the Chapter 11 Cases. In accordance with the
Reorganizations Topic of the ASC, as interest on the Pre-Petition Notes subsequent to the
Petition Date was not expected to be an allowed claim, the Company did not accrue interest
expense on the Pre-Petition Notes during the pendency of the Chapter 11 Cases. Accordingly,
$4.8 million, $18.0 million and $54.1 million, respectively, of interest on unsecured debts, at
the stated contractual rates, was not accrued during the 24 days ended January 24, 2011 and the
three and nine months ended September 30, 2010. The Company continued to accrue interest
expense on the Pre-Petition Credit Facility, as such interest was considered an allowed claim
per the Plan.
All pre-petition debt was terminated on the Effective Date.
The approximate aggregate maturities of long-term debt for each of the five years
subsequent to September 30, 2011 are as follows (in thousands):
Quarter ending September 30 | ||||
(Successor Company), | ||||
2012 |
$ | 7,500 | ||
2013 |
10,000 | |||
2014 |
21,250 | |||
2015 |
43,750 | |||
2016 |
917,500 | |||
$ | 1,000,000 | |||
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Exit Credit Agreement
On the Effective Date, the Exit Borrowers entered into the Exit Credit Agreement Loans. On
the Effective Date, the Company paid to the lenders providing the Exit Revolving Facility an
aggregate fee equal to $1.5 million. Interest on the Exit Credit Agreement Loans accrues at an
annual rate equal to either (a) LIBOR plus 4.50%, with a minimum LIBOR floor of 2.00% for the
Exit Term Loan, or (b) a base rate plus 3.50% per annum in which base rate is equal to the
highest of (x) Bank of Americas prime rate, (y) the federal funds effective rate plus 0.50%
and (z) applicable LIBOR (with minimum LIBOR floor of 2.00%) plus 1.00%. In addition, the
Company is required to pay a 0.75% per annum commitment fee on the average daily unused portion
of the Exit Revolving Facility. The entire outstanding principal amount of the Exit Credit
Agreement Loans is due on the Exit Maturity Date; provided that on the third anniversary of the
Effective Date, the Company must elect (subject to the absence of events of default under the
Exit Credit Agreement) to continue the maturity of the Exit Revolving Facility and must pay a
continuation fee of $0.75 million and, on the fourth anniversary of the Effective Date, the
Company must elect (subject to the absence of events of default under the Exit Credit
Agreement) to continue the maturity of the Exit Revolving Facility and must pay a second
continuation fee of $0.75 million. The Exit Credit Agreement requires quarterly repayments of
principal of the Exit Term Loan after the first anniversary of the Effective Date. In the
second and third years following the Effective Date, such quarterly payments shall each be in
an amount equal to $2.5 million; during the fourth year following the Effective Date, such
quarterly payments shall each be in an amount equal to $6.25 million; and for the first three
quarters during the fifth year following the Effective Date, such quarterly payments shall each
be in an amount equal to $12.5 million, with all remaining outstanding amounts owed in respect
of the Exit Term Loan being due and payable on the Exit Maturity Date.
The Exit Credit Agreement Loans are guaranteed by all of the Exit Financing Loan Parties.
The Exit Credit Agreement Loans as a whole are secured by liens upon substantially all existing
and after-acquired assets of the Exit Financing Loan Parties, with first lien and payment
waterfall priority for the Exit Revolving Facility and second lien priority for the Exit Term
Loan.
The Exit Credit Agreement contains customary representations, warranties and affirmative
covenants. In addition, the Exit Credit Agreement contains restrictive covenants that limit,
among other things, the ability of the Company to incur indebtedness, create liens, engage in
mergers, consolidations and other fundamental changes, make investments or loans, engage in
transactions with affiliates, pay dividends, make capital expenditures and repurchase capital
stock. The Exit Credit Agreement also contains minimum interest coverage and maximum total
leverage maintenance covenants, along with a maximum senior leverage covenant measured upon the
incurrence of certain types of debt. The Exit Credit Agreement contains certain events of
default, including failure to make payments, breaches of covenants and representations, cross
defaults to other material indebtedness, unpaid and uninsured judgments, changes of control and
bankruptcy events of default. The lenders commitments to fund amounts under the Exit Revolving
Facility are subject to certain customary conditions. As of September 30, 2011, the Exit
Borrowers were in compliance with all covenants under the Exit Credit Agreement.
Letters of credit outstanding under the DIP Credit Agreement on the Effective Date were
rolled into the Exit Revolving Facility.
Debtor-in-Possession Financing
In connection with the Chapter 11 Cases, the DIP Borrowers entered into the DIP Credit
Agreement with the DIP Lenders and the DIP Administrative Agent. The DIP Credit Agreement
provided a revolving facility in an aggregate principal amount of up to $75.0 million, of which
up to $30.0 million was also available in the form of one or more letters of credit that could
be issued to third parties for the DIP Borrowers account ( the DIP Financing). Pursuant to
the Order of the Bankruptcy Court, dated October 28, 2009 (the Interim Order), the DIP
Borrowers were authorized to enter into and immediately draw upon the DIP Credit Agreement on
an interim basis, pending a final hearing before the Bankruptcy Court, in an aggregate amount
of $20.0 million. On March 11, 2010 the Bankruptcy Court issued the Final DIP Order, permitting
the DIP Borrowers access to the total $75.0 million of the DIP Financing, subject to the terms
and conditions of the DIP Credit Agreement and related orders of the Bankruptcy
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Court, of which
up to $30.0 million was available in the form of one or more letters of credit that could be
issued to third parties for the DIP Borrowers account.
Other material provisions of the DIP Credit Agreement included the following:
Interest rates for borrowings under the DIP Credit Agreement were, at the DIP Borrowers
option, at either (i) the Eurodollar rate plus a margin of 4.5% or (ii) the base rate plus a
margin of 3.5%, payable monthly in arrears on the last business day of each month.
The DIP Credit Agreement provided for the payment to the DIP Administrative Agent, for the
pro rata benefit of the DIP Lenders, of an upfront fee in the aggregate principal amount of
$1.5 million, which upfront fee was payable in two installments: (1) the first installment of
$0.4 million was due and payable on October 28, 2009, the date on which the Interim Order was
entered by the Bankruptcy Court and (2) the remainder of the upfront fee was due and payable on
the date the Final DIP Order was entered by the Bankruptcy Court. The DIP Credit Agreement also
provided for an unused line fee of 0.50% on the unused revolving commitment, payable monthly in
arrears on the last business day of each month (or on the date of maturity, whether by
acceleration or otherwise), and a letter of credit facing fee of 0.25% per annum calculated
daily on the stated amount of all outstanding letters of credit.
As of December 31, 2010, the Company had not borrowed any amounts under the DIP Credit
Agreement; however, letters of credit had been issued under the DIP Credit Agreement for $18.7
million. Accordingly, as of December 31, 2010, the amount available under the DIP Credit
Agreement was $56.3 million.
The DIP Credit Agreement was terminated on the Effective Date. All letters of credit
outstanding under the DIP Credit Agreement were transferred to the Exit Credit Agreement on the
Effective Date.
(9) Employee Benefit Plans
The Company remeasured its pension and other post-employment benefit assets and
liabilities as of December 31, 2010, in accordance with the CompensationRetirement Benefits
Topic of the ASC. This measurement was based on a weighted average discount rate of 5.61%, as
well as certain other valuation assumption modifications. In conjunction with fresh start
accounting, the Company remeasured its pension and other post-employment benefit assets and
liabilities at the Effective Date. See note 2.
Components of the net periodic benefit cost related to the Companys pension and
post-retirement healthcare plans for the three months ended September 30, 2011, the 249 days
ended September 30, 2011, the 24 days ended January 24, 2011 and the three and nine months
ended September 30, 2010 are presented below (in thousands).
Successor Company | |||||||||||||||||
Two Hundred Forty-Nine Days | |||||||||||||||||
Three Months Ended | Ended | ||||||||||||||||
September 30, 2011 | September 30, 2011 | ||||||||||||||||
Qualified | Post- retirement |
Qualified | Post- retirement |
||||||||||||||
Pension | Health | Pension | Health | ||||||||||||||
Service cost |
$ | 3,597 | $ | 6,935 | $ | 8,892 | $ | 14,118 | |||||||||
Interest cost |
3,660 | 7,194 | 9,752 | 15,216 | |||||||||||||
Expected return on plan assets |
(3,894 | ) | (5 | ) | (9,950 | ) | (10 | ) | |||||||||
Net periodic benefit cost |
$ | 3,363 | $ | 14,124 | $ | 8,694 | $ | 29,324 | |||||||||
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Predecessor Company | ||||||||
Twenty-Four Days Ended | ||||||||
January 24, 2011 | ||||||||
Post- | ||||||||
Qualified | retirement | |||||||
Pension | Health | |||||||
Service cost |
$ | 849 | $ | 1,167 | ||||
Interest cost |
934 | 1,252 | ||||||
Expected return on plan assets |
(1,089) | (1) | ||||||
Amortization of prior service cost |
98 | 276 | ||||||
Amortization of actuarial loss |
283 | 368 | ||||||
Net periodic benefit cost |
$ | 1,075 | $ | 3,062 | ||||
Predecessor Company | |||||||||||||||||
Three Months Ended | Nine Months Ended | ||||||||||||||||
September 30, 2010 | September 30, 2010 | ||||||||||||||||
(Restated) | (Restated) | ||||||||||||||||
Post- | Post- | ||||||||||||||||
Qualified | retirement | Qualified | retirement | ||||||||||||||
Pension | Health | Pension | Health | ||||||||||||||
Service cost |
$ | 2,628 | $ | 3,835 | $ | 8,390 | $ | 10,741 | |||||||||
Interest cost |
3,699 | 4,299 | 9,722 | 12,260 | |||||||||||||
Expected return on plan assets |
(4,202) | (2) | (12,498) | (2) | |||||||||||||
Amortization of prior service cost |
381 | 1,072 | 1,143 | 3,217 | |||||||||||||
Amortization of actuarial loss |
1,008 | 1,050 | 1,566 | 2,605 | |||||||||||||
Net periodic benefit cost |
$ | 3,514 | $ | 10,254 | $ | 8,323 | $ | 28,821 | |||||||||
The Company contributed $6.8 million to its qualified pension plans during the third
quarter of 2011 and does not expect to contribute any additional funds during the remainder of
fiscal year 2011. The Companys pension plan funding requirements are based on the Pension
Protection Act of 2006 (the PPA) and subsequent funding relief passed by Congress and regulations
published by the IRS.
The Company expects to contribute approximately $2.3 million to its post-retirement
healthcare plans in 2011 for benefit payments to current retirees.
For the three and nine months ended September 30, 2011, the actual loss on the pension
plan assets was approximately 7.2% and 2.5%, respectively. Net periodic benefit cost for 2011
assumes a weighted average annualized expected return on plan assets of approximately 8.3%.
Should the Companys actual return on plan assets continue to be significantly lower than the
expected return assumption, the net periodic benefit cost may increase in future periods and
the Company may be required to contribute additional funds to its pension plans.
During the three months ended March 31, 2010, $33.3 million was transferred from Verizons
defined benefit pension plans trusts to the Companys pension plan trust. As of December 31,
2009, a disputed amount was pending final validation by a third-party actuary of the census
information and related actuarial calculations in accordance with relevant statutory and
regulatory guidelines and the Employee Matters Agreement, dated January 15, 2007 between
Verizon and the Company (the Employee Matters Agreement). The disputed amount was not
included in the Companys pension plan assets at December 31, 2009. By letter dated July 29,
2010, the third-party actuary appointed to perform the review and validation determined that an
additional $2.5 million, adjusted for gains or losses since the date of the original transfer,
should be transferred from Verizons defined benefit plans trusts to the Companys represented
employees pension plan trust. This transfer was received in the amount of $2.4 million on
September 1, 2010, at which time the Companys net pension obligation was decreased by this
amount.
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The Company and its subsidiaries sponsor four voluntary 401(k) savings plans that, in the
aggregate, cover all
eligible Legacy FairPoint employees, and two voluntary 401(k) savings plans that, in the
aggregate, cover all eligible Northern New England operations
employees (collectively, the 401(k) Plans). Each 401(k) Plan year, the Company contributes to the 401(k) Plans an amount of
matching contributions determined by the Company at its discretion for management employees and
based on the collective bargaining agreements for all other employees. For the nine months
ended September 30, 2011 and for the 401(k) Plan year ended December 31, 2010, the Company
generally matched 100% of each employees contribution up to 5% of compensation. Total Company
contributions to all 401(k) Plans were $2.7 million, $7.6 million, $0.7 million, $2.7 million
and $7.7 million for the three months ended September 30, 2011, the 249 days ended September
30, 2011, the 24 days ended January 24, 2011 and the three and nine months ended September 30,
2010, respectively.
(10) Earnings Per Share
Earnings per share has been computed in accordance with the Earnings Per Share Topic of
the ASC. On the Effective Date, the Company adopted the Long Term Incentive Plan and entered
into the Warrant Agreement. Awards pursuant to these agreements were evaluated for
qualification as participating securities for inclusion in the calculation of basic earnings
per share under the two-class method. It was determined that restricted shares of common stock
under the Long Term Incentive Plan do qualify as participating securities although holders of
these awards do not have a contractual obligation to share in losses of the Company.
Accordingly, in a loss position, basic earnings per share of the Company is computed by
dividing net loss by the weighted average number of shares of common stock outstanding for the
period. In an income position, basic earnings per share of the Company is computed by dividing
net income by the weighted average number of shares of common stock outstanding and
participating securities for the period. Except when the effect would be anti-dilutive, the
diluted earnings per share calculation calculated using the treasury stock method includes the
impact of stock units, shares of non-vested common stock and shares that could be issued under
outstanding stock options.
The following table provides a reconciliation of the common shares used for basic earnings
per share and diluted earnings per share (in thousands):
Successor | Predecessor | Successor | Predecessor | |||||||||||||||||||
Company | Company | Company | Company | |||||||||||||||||||
Two | ||||||||||||||||||||||
Hundred | Twenty- | |||||||||||||||||||||
Three Months | Three Months | Forty-Nine | Four Days | Nine Months | ||||||||||||||||||
Ended | Ended | Days Ended | Ended | Ended | ||||||||||||||||||
September 30, 2011 | September 30, 2010 | September 30, 2011 | January 24, 2011 | September 30, 2010 | ||||||||||||||||||
(Restated) | (Restated) | |||||||||||||||||||||
Weighted average number
of common shares used
for basic earnings per
share |
25,654 | 89,424 | 25,648 | 89,424 | 89,424 | |||||||||||||||||
Effect of potential dilutive
shares |
| | | 271 | | |||||||||||||||||
Weighted average number
of common shares and
potential dilutive shares
used for diluted earnings
per share |
25,654 | 89,424 | 25,648 | 89,695 | 89,424 | |||||||||||||||||
Anti-dilutive shares
excluded
from the above
reconciliation |
5,006 | 2,524 | 5,006 | 712 | 2,510 |
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Weighted average number of common shares used for basic earnings per share excludes
542,328, 544,256, 16,666, 554,878 and 561,905 shares of restricted non-vested stock as of the
three months ended September 30, 2011, the 249 days ended September 30, 2011, the 24 days ended
January 24, 2011 and the three and nine months ended September, 30, 2010, respectively. Since
the Company incurred a loss for the three months ended September 30, 2011, the 249 days ended
September 30, 2011 and the three and nine months ended September 30, 2010, all potentially
dilutive securities are anti-dilutive for these periods and are, therefore, excluded from the
determination of diluted earnings per share.
(11) Stockholders Equity (Deficit)
On the Effective Date, the Company issued 25,659,877 shares of Common Stock and 3,458,390
Warrants to purchase Common Stock and reserved 610,309 shares and 124,012 Warrants for
satisfaction of certain pending claims related to the Chapter 11 Cases. During the three
months ended September 30, 2011 the Company issued 275 shares and 468 Warrants from this
reserve. During the nine months ended September 30, 2011 the Company issued 540,013 shares and
4,191 Warrants from this reserve. At September 30, 2011, 37,500,000 shares of Common Stock
were authorized, 26,198,640 shares of Common Stock were outstanding, and 70,296 shares and
119,821 Warrants remained reserved for satisfaction of pending claims related to the Chapter 11
Cases.
(12) Fair Value Measurements
The Fair Value Measurements and Disclosures Topic of the ASC (formerly SFAS 157, Fair
Value Measurements) defines fair value, establishes a framework for measuring fair value and
establishes a hierarchy that categorizes and prioritizes the sources to be used to estimate
fair value. The Fair Value Measurements and Disclosures Topic of the ASC also expands financial
statement disclosures about fair value measurements.
In determining fair value, the Company uses a hierarchy for inputs used in measuring fair
value that maximizes the use of observable inputs and minimizes the use of unobservable inputs
by requiring that the most observable inputs be used when available. The hierarchy is broken
down into three levels based on the reliability of inputs as follows:
Level 1 Valuations based on quoted prices in active markets for identical assets or
liabilities that the Company has the ability to access.
Level 2 Valuations based on quoted prices in markets that are not active or for which
all significant inputs are observable, either directly or indirectly.
Level 3 Valuations based on inputs that are unobservable and significant to the overall
fair value measurement.
At
September 30, 2011 we had $39.2 million of goodwill and/or
indefinite intangible assets, which were accounted for at fair market
value on a non-recurring basis. The Company had determined that the fair value measurements of
these non-financial assets are Level 3 in the fair value hierarchy.
The carrying value of the Swaps at December 31, 2010 represents the termination value of
the Swaps as determined by the respective counterparties following the termination event
described herein. See note 7 for more information.
At the Effective Date, with the exception of deferred taxes and assets and liabilities
associated with pension and post-retirement health plans, all assets and liabilities were
remeasured at fair value under fresh start accounting. See note 2.
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(13) Operational Restructuring Charges
On September 8, 2011, the Company announced plans to reduce its workforce to ensure that
the Company is
staffed appropriately to serve its customers well, while prudently managing expenses. The
reduction will eliminate approximately 400 positions and is expected to be completed over the
next several months. In September 2011, notifications were provided to approximately 100
management employees affected by the workforce reduction. The Company has followed and will
follow prescribed steps in the collective bargaining agreement to notify approximately 300
union positions included in the workforce reduction. In connection with this plan, the Company
expects to recognize $7 million to $13 million in restructuring charges, consisting of
severance and one-time incentive payments. The charges that the Company expects to incur in
connection with the workforce reduction are subject to a number of assumptions and actual
amounts may differ. The Company may also incur other charges not currently contemplated due to
events that may occur as a result of, or associated with, the workforce reduction.
During the quarter ended September 30, 2011, the Company incurred severance charges of
$3.3 million associated with the workforce reduction, which are included within cost of
services and sales and selling, general and administrative expense in the condensed
consolidated statement of operations. The Company expects to have additional expenses next
quarter, but the expense cannot be reasonably estimated due to the terms of the collective
bargaining agreement.
(14) Commitments and Contingencies
(a) Leases
The Company does not have any leases with contingent rental payments or any leases with
contingency renewal, purchase options, or escalation clauses.
(b) Legal Proceedings
From time to time, the Company is involved in litigation and regulatory proceedings
arising out of its operations. With the exception of the Chapter 11 Cases, the Companys
management believes that it is not currently a party to any legal or regulatory proceedings,
the adverse outcome of which, individually or in the aggregate, would have a material adverse
effect on the Companys financial position or results of operations.
On the Petition Date, FairPoint Communications and substantially all of its direct and
indirect subsidiaries filed voluntary petitions for relief under the Chapter 11 Cases. On
January 13, 2011, the Bankruptcy Court entered the Confirmation Order, which confirmed the
Plan. On the Effective Date, the Company substantially consummated the reorganization through
a series of transactions contemplated by the Plan, and the Plan became effective pursuant to
its terms.
On June 30, 2011, the Bankruptcy Court entered a final decree closing certain of the
Companys bankruptcy cases due to the closed cases being fully administered. Of the 80
original bankruptcy cases, only five remain open. These cases are FairPoint Communications,
Inc. (Case No. 09-16335), Northern New England Telephone Operations LLC (Case No. 09-16365),
Telephone Operating Company of Vermont LLC (Case No. 09-16410), MJD Services Corp. (Case No.
09-16366) and Enhanced Communications of Northern New England Inc. (Case No. 09-16349).
(c) Service Quality Penalties
The Company is subject to certain retail service quality requirements in the states of
Maine, New Hampshire and Vermont. Failure to meet these requirements in any of these states may
result in penalties being assessed by the respective state regulatory body. The Merger Orders
provide that any penalties assessed by the states be paid by the Company in the form of credits
applied to retail customer bills.
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During February 2010, the Company entered into the Regulatory Settlements with the
representatives for each of Maine, New Hampshire and Vermont regarding modification of each
states Merger Order, which have since been approved by the regulatory authorities in these
states. The Regulatory Settlements in New Hampshire and Vermont deferred fiscal 2008 and 2009
SQI penalties, as applicable, until December 31, 2010 and included a clause whereby such
penalties would be forgiven in part or in whole if the Company met certain metrics for the
twelve-month period
ending December 31, 2010. As a result of improvements on certain SQI metrics, the Company
expects to receive waivers of 60% in New Hampshire and 80% in Vermont under this clause, and,
accordingly, reduced its accrual by $12.7 million in the three months ended December 31, 2010.
However, the Companys SQI metrics in the state of New Hampshire are currently subject to an
audit ordered by the New Hampshire Public Utilities Commission (the NHPUC). Therefore, the
amount of the waiver in New Hampshire is subject to change depending on the results of the
audit. In addition, the Regulatory Settlement for Maine deferred the Companys fiscal 2008 and
2009 SQI penalties until March 2010, at which time the Company began applying credits to
customers bills.
As of September 30, 2011 and December 31, 2010, the Company has recognized an estimated
liability for service quality penalties based on metrics defined by the state regulatory
authorities in Maine, New Hampshire and Vermont. Based on the Companys current estimate of
its service quality penalties in these states, an increase in the estimated liability was
recorded as a decrease to revenue for the three months ended September 30, 2011, of which $0.8
million is related to service outages due to Hurricane Irene. A decrease in the estimated
liability was recorded as an increase to revenue for the 249 days ended September 30, 2011 due
to an improvement in the Companys service performance, revisions to accruals and recent
changes in Maine regulation which eliminated the multiplier rebate penalties beginning in
fiscal 2011. An increase in the estimated liability was recorded as a reduction to revenue for
the 24 days ended January 24, 2011 and the three and nine months ended September 30, 2010,
respectively. Beginning in March 2010, the Company began to issue SQI rebates related to the
Maine 2008 and 2009 SQI penalties to customers over a twelve month period. The liabilities
recorded as a reduction (increase) to revenue and the SQI penalties paid out in the form of
customer rebates are as follows (in thousands):
Successor | Predecessor | Successor | Predecessor | |||||||||||||||||||
Company | Company | Company | Company | |||||||||||||||||||
Two | ||||||||||||||||||||||
Hundred | Twenty- | |||||||||||||||||||||
Three Months | Three Months | Forty-Nine | Four Days | Nine Months | ||||||||||||||||||
Ended | Ended | Days Ended | Ended | Ended | ||||||||||||||||||
September 30, 2011 | September 30, 2010 | September 30, 2011 | January 24, 2011 | September 30, 2010 | ||||||||||||||||||
(Restated) | (Restated) | |||||||||||||||||||||
Increase (decrease) in
liability recorded as a
reduction (increase) to
revenue |
$ | 2,030 | $ | 4,502 | $ | (517 | ) | $ | 401 | $ | 10,773 | |||||||||||
SQI penalties paid out in
the form of customer
rebates |
$ | (2,396 | ) | $ | (1,781 | ) | $ | (6,598 | ) | $ | (631 | ) | $ | (3,859 | ) |
The Company has recorded a total liability of $13.4 million and $20.8 million on the
consolidated balance sheets at September 30, 2011 and December 31, 2010, respectively, of which
$8.7 million and $12.5 million, respectively, are included in other accrued liabilities. The
remainder of the September 30, 2011 and December 31, 2010 liability is included in claims
payable and estimated claims accrual and liabilities subject to compromise, respectively.
(d) Performance Assurance Plan Credits
As part of the Merger Orders, the Company adopted a PAP for certain services provided on a
wholesale basis to CLECs in the states of Maine, New Hampshire and Vermont. Failure to meet
specified performance standards in any
44
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of these states may result in performance credits being
assessed in accordance with the provisions of the PAP in each state. As of September 30, 2011
and 2010, the Company has recorded a reserve for the estimated amount of PAP credits based on
metrics defined by the PAP. Credits assessed in Maine and New Hampshire are recorded as a
reduction to accounts receivable since they are paid by the Company in the form of credits
applied to CLEC bills. PAP credits for Vermont are recorded as liabilities since a majority of
these credits are paid to the Vermont
Universal Service Fund, while the remaining credits assessed in Vermont are paid by the Company
in the form of credits applied to CLEC bills. Based on the Companys current estimate of its
PAP credits in these states, reserves recorded as a reduction (increase) to revenue and the PAP
credits paid are as follows (in thousands):
Successor | Predecessor | Successor | Predecessor | |||||||||||||||||||
Company | Company | Company | Company | |||||||||||||||||||
Two | ||||||||||||||||||||||
Hundred | Twenty- | |||||||||||||||||||||
Three Months | Three Months | Forty-Nine | Four Days | Nine Months | ||||||||||||||||||
Ended | Ended | Days Ended | Ended | Ended | ||||||||||||||||||
September 30, 2011 | September 30, 2010 | September 30, 2011 | January 24, 2011 | September 30, 2010 | ||||||||||||||||||
(Restated) | (Restated) | |||||||||||||||||||||
Increase (decrease) in
estimated reserve
recorded as a reduction
(increase) to revenue |
$ | 351 | $ | 1,272 | $ | 195 | $ | 629 | $ | 5,165 | ||||||||||||
PAP credits paid out |
$ | (1,183 | ) | $ | (894 | ) | $ | (4,107 | ) | $ | (531 | ) | $ | (4,915 | ) |
The Company has recorded a total reserve of $4.7 million and $8.4 million on the
consolidated balance sheets at September 30, 2011 and December 31, 2010, respectively. At
September 30, 2011 and December 31, 2010, $4.1 million of the total reserve is recorded to the
Claims Reserve and liabilities subject to compromise, respectively.
The NHPUC has ordered an audit of the Companys existing PAP in the state of New
Hampshire, which commenced in October 2011. The existing PAP in Maine and Vermont may also
be subject to audit, as determined by the Maine Public Utilities Commission and the Vermont
Public Service Board, respectively.
(e) Capital Expenditure Obligations
Under regulatory settlements in each of Maine, New Hampshire and Vermont, the Company is
required to make certain capital expenditures in each of these states. Beginning from the date
of the Merger, the Company is required to spend $141.0 million through March 31, 2011 in Maine,
$350.4 million through March 31, 2015 in New Hampshire and $120.0 million through March 31,
2011 in Vermont. The Company has exceeded the expenditure requirements with a deadline of March
31, 2011 in Maine and Vermont and expects to meet the expenditure requirements with a deadline
of March 31, 2015 in New Hampshire.
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Item 2. Managements 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 Quarterly Report. The following discussion includes
certain forward-looking statements. For a discussion of important factors, which could cause actual
results to differ materially from the results referred to in the forward-looking statements, see
Part I Item 1A. Risk Factors of the 2010 Annual Report, Part II Item 1A. Risk Factors in
our quarterly report on Form 10-Q for the quarter ended June 30, 2011 and Cautionary Note
Concerning Forward-Looking Statements contained in this Quarterly Report. Our discussion and
analysis of financial condition and results of operations are
presented in 13 sections:
| Overview |
||
| Fresh Start Accounting |
||
| Restatement |
||
| Basis of Presentation |
||
| Revenues |
||
| Operating Expenses |
||
| Operational Restructuring Charges |
||
| Results of Operations |
||
| Off-Balance Sheet Arrangements |
||
| Critical Accounting Policies |
||
| New Accounting Standards |
||
| Inflation |
||
| Liquidity and Capital Resources |
Overview
We are a leading provider of communications services in rural and small urban communities,
offering an array of services, including HSD, Internet access, voice, television and broadband
product offerings. We operate in 18 states with approximately 1.4 million access line equivalents
(including voice access lines and HSD lines, which include DSL, wireless broadband, cable modem and
fiber-to-the-premises) in service as of September 30, 2011.
We were incorporated in Delaware in February 1991 for the purpose of acquiring and operating
incumbent telephone companies in rural and small urban markets. Many of our telephone companies
have served their respective communities for over 75 years.
As our primary source of revenues, access lines are an important element of our business. Over
the past several years, communications companies, including FairPoint, have experienced a decline
in access lines due to increased competition, including competition from CLECs, wireless carriers
and cable television operators, increased availability of broadband services and challenging
economic conditions. While voice access lines are expected to continue to decline, we expect to
offset a portion of this lost revenue with growth in HSD revenue as we continue to build out our
network to provide HSD products to customers who did not previously have access to such products
and to offer more competitive services to existing customers. In addition, due to issues with
transitioning certain back-office functions from Verizons integrated systems to our newly created
systems and the Chapter 11 Cases, we lost significant market share in recent years. Our strategy
is to leverage our ubiquitous network in our Northern New England operations to regain market
share, particularly in the business and wholesale markets and for data services.
We continue to offer our VantagePointSM services on our next generation network to
support more high-speed data services and extend fiber into more communities across Maine, New
Hampshire and Vermont. This fiber-optic build supplies critical infrastructure known as backhaul
for wireless traffic in the region, and will address the increasing
bandwidth needs being driven by new applications for smart phones, tablets and other wireless
devices. Today we support
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3G service on more than 1,600 towers in our Northern New England
footprint. This network expansion supports 4G service with Ethernet-over-fiber to more than half of
these towers.
We are subject to regulation primarily by federal and state governmental agencies. At the
federal level, the FCC generally exercises jurisdiction over the facilities and services of
communications common carriers, such as FairPoint, to the extent those facilities are used to
provide, originate or terminate interstate or international communications. State regulatory
commissions generally exercise jurisdiction over common carriers facilities and services to the
extent those facilities are used to provide, originate or terminate intrastate communications. In
addition, pursuant to the Telecommunications Act of 1996, which amended the Communications Act of
1934, state and federal regulators share responsibility for implementing and enforcing the domestic
pro-competitive policies introduced by that legislation.
Legacy FairPoints operations and our Northern New England operations operate under different
regulatory regimes in certain respects. For example, concerning interstate access, all of the
pre-Merger regulated interstate services of FairPoint were regulated under a rate-of-return model,
while all of the rate-regulated interstate services provided by the Verizon Northern New England
business were regulated under a price cap model. On May 10, 2010, we received FCC approval to
convert our Legacy FairPoint operations in Maine and Vermont to the price cap model. Our Legacy
FairPoint operations in Maine and Vermont converted to price cap regulation on July 1, 2010. We
have obtained permission to continue to operate our Legacy FairPoint ILECs outside of Maine and
Vermont under the rate-of-return regime until the FCC completes its general review of whether to
modify or eliminate the all-or-nothing rule. Without this permission, the all-or-nothing rule
would require that all of our regulated operations be operated under the price cap model for
federal regulatory purposes. In addition, while all of our operations generally are subject to
obligations that apply to all LECs, our non-rural operations are subject to additional requirements
concerning interconnection, non-discriminatory network access for competitive communications
providers and other matters, subject to substantial oversight by state regulatory commissions. In
addition, the FCC has ruled that our Northern New England operations must comply with the
regulations applicable to the Bell Operating Companies. Our rural and non-rural operations are also
subject to different regimes concerning universal service.
In July 2011, we joined with five other major communications companies in submitting a
proposal to the FCC to speed broadband deployment to more than four million Americans living in
rural areas. In addition, the National Telecommunications Cooperative Association, the Organization
for the Promotion and Advancement of Small Telecommunications Companies and Western
Telecommunications Alliance put forth a proposal to the FCC which establishes a framework for
reform. The two proposals, called Americas Broadband Connectivity Plan, share key goals of
modernizing the federal Universal Service Fund (USF) so that it is focused on building and
sustaining broadband networks without increasing the size of the fund and fundamentally reforming
the Intercarrier Compensation (ICC) system that governs how communications companies bill one
another for handling traffic, gradually phasing down these charges. Together, the proposals will
benefit consumers and promote the goals of the National Broadband Plan, which called for
overhauling these two complex systems to address the modern-day mission of supporting broadband
deployment as cost-efficiently as possible. On October 27, 2011,
the FCC adopted an Order and
Further Notice of Proposed Rulemaking on Universal Service and Intercarrier Compensation reform
(the FCC Order). The FCC Order has not yet been released.
Fresh Start Accounting
On October 26, 2009, we filed the Chapter 11 Cases. On January 13, 2011, the Bankruptcy Court
entered the Confirmation Order, which confirmed the Plan.
On January 24, 2011, the Effective Date, we substantially consummated our reorganization
through a series of transactions contemplated by the Plan, and the Plan became effective pursuant
to its terms.
Upon our emergence from Chapter 11 on January 24, 2011, we adopted fresh start accounting in
accordance with guidance under the applicable reorganization accounting rules, pursuant to which
our reorganization value, which represents the fair value of an entity before considering
liabilities and approximates the amount a willing buyer would pay
for the assets of the entity immediately after the reorganization, has been allocated to the fair
value of assets in conformity
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with guidance under the applicable accounting rules for business
combinations, using the purchase method of accounting for business combinations. The amount
remaining after allocation of the reorganization value to the fair value of identified tangible and
intangible assets has been reflected as goodwill, which is subject to periodic evaluation for
impairment. In addition to fresh start accounting, our future consolidated financial statements
will reflect all effects of the transactions contemplated by the Plan; therefore our future
statements of financial position and statements of operations will not be comparable in many
respects to our consolidated statements of financial position and consolidated statements of
operations for periods prior to our adoption of fresh start accounting and prior to accounting for
the effects of the reorganization, including certain of the financial statements contained herein.
Restatement
In the 2010 Annual Report, we restated our March 31, 2010, June 20, 2010 and September 30,
2010 quarterly interim consolidated financial statements.
The September 30, 2010 Quarterly Report, which was impacted by the Restatement, was not
amended. Accordingly, we caution you that certain information contained in the September 30, 2010
Quarterly Report should no longer be relied upon, including our previously issued and filed
September 30, 2010 interim consolidated financial statements and any financial information derived
therefrom (including, without limitation, information contained in Managements Discussion and
Analysis of Financial Condition and Results of Operations Results of Operations in the
September 30, 2010 Quarterly Report). In addition, we caution you that other communications or
filings related to the September 30, 2010 interim consolidated financial statements which were
filed or otherwise released prior to the filing by us of the 2010 Annual Report with the SEC should
no longer be relied upon. All financial information in this Quarterly Report for the three and nine
months ended September 30, 2010 affected by the Restatement adjustments reflect such financial
information as restated, including, without limitation, the amounts contained in Results of
Operations.
The restated September 30, 2010 interim consolidated financial statements were corrected for
the following errors:
Project Abandonment Adjustment
Certain capital projects, principally a wireless broadband fixed asset project, had been
abandoned but the write-off of all of the related capitalized costs had not occurred in a timely
manner.
Costs Capitalized to Property, Plant and Equipment Adjustment
Due to a backlog of capital projects not yet closed, certain costs (principally labor
expenses) remained capitalized to property, plant and equipment rather than expensed.
Application of Overhead Costs Adjustment
An error was discovered in the application of overhead costs to capital projects.
Each of the errors noted above resulted in an understatement of operating expenses and an
overstatement of property, plant and equipment.
Other Adjustments
In addition, as part of the restatement of the September 30, 2010 interim consolidated
financial statements, we also adjusted other items, including certain adjustments to revenue that
were identified in connection with the preparation of the consolidated financial statements for the
year ended December 31, 2010, which individually were not considered to be material, but are
material when aggregated with the three adjustments noted above. These adjustments are primarily
related to (a) errors in the calculation of certain regulatory penalties and (b) errors in revenue
associated with certain customer billing, special project billings and intercompany/official lines.
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The aggregate impact of these adjustments resulted in an increase to our previously reported
pre-tax loss for the nine month period ended September 30, 2010 of approximately $28.4 million and
no impact to the three month period ended September 30, 2010. The change for the three and nine
months ended September 30, 2010 is mainly attributable to an increase (reduction) to reported
revenues of approximately $2.1 million and $(3.9) million, respectively, an increase to our
previously reported operating expenses of approximately $1.4 million and $26.8 million,
respectively, an increase of expense to the Companys previously reported reorganization items of
approximately $0.7 million and $0.9 million, respectively, offset by a decrease in other expense of
$0 million and $3.2 million, respectively. The aggregate impact of the adjustments for the nine
months ended September 30, 2010 resulted in an increase in net loss of approximately $28.4 million,
net of taxes, and no change in net loss, net of taxes, for the three months ended September 30,
2010, and a decrease in our reported capital expenditures of approximately $4.1 million and $15.4
million, respectively, for the three and nine months ended September 30, 2010.
Basis of Presentation
We view our business of providing data, voice and communication services to residential,
wholesale and business customers as one business segment as defined in the Segment Reporting Topic
of the ASC.
Upon our emergence from Chapter 11 on January 24, 2011, we adopted fresh start accounting in
accordance with guidance under the applicable reorganization accounting rules. While the adoption
of fresh start accounting presents the results of operations of a new reporting entity, we believe
the comparison of the three and nine months ended September 30, 2011 versus the three and nine
months ended September 30, 2010 provides the best analysis of the results of operations. The only
income statement items impacted by the reorganization are depreciation, interest expense and
reorganization items. Those effects of fresh start accounting are discussed in more detail in the
respective sections below.
Revenues
We derive our revenues from:
| Voice services. We receive revenues from our telephone operations from the provision
of local exchange, long-distance, local private line, voice messaging and value-added
services. Included in long-distance services revenue are revenues received from regional
toll calls. Value-added services are a family of services that expand the utilization of
the network, including products such as caller ID, call waiting and call return. The
provision of local exchange services not only includes retail revenues but also includes
local wholesale revenues from unbundled network elements, interconnection revenues from
CLECs and wireless carriers, and some data transport revenues. Voice services revenues
also include Universal Fund payments for high-cost support, local switching support,
long-term support and Internet Common Line Support. |
||
| Access. We receive revenues for the provision of network access, including
interstate access and intrastate access. |
||
Network access revenues are earned from end-user customers and long-distance and other
competing carriers who use our local exchange facilities to provide usage services to their
customers. Special access revenues originate from carriers and end-users that buy dedicated
local and interexchange capacity to support their private networks, including wireless
carriers to backhaul voice and data traffic from cell towers to mobile telephone switching
offices. |
|||
Switched access revenues are derived from fixed and usage-based charges paid by carriers for
access to our local network. Interstate access revenues are earned on charges to
long-distance carriers and other customers for access to our networks in connection with the
origination and termination of interstate telephone calls both to and from our customers.
Interstate access charges to long-distance carriers and other customers are based on access
rates filed with the FCC. |
|||
Intrastate access revenues consist primarily of charges paid by long-distance companies and
other customers for access to our networks in connection with the origination and termination
of intrastate telephone calls both to and from our customers. Intrastate access charges to
long-distance carriers and other customers are based on access
rates filed with the state regulatory agencies. |
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| Data and Internet services. We receive revenues from monthly recurring charges for
services, including HSD, Internet and other services. |
||
| Other services. We receive revenues from other services, including video services
(including cable television and video-over-DSL), billing and collection, directory
services, public (coin) telephone and the sale and maintenance of customer premise
equipment. |
The following table summarizes revenues and the percentage of revenues from these sources (in
thousands, except for percentage of revenues data):
Successor Company | Predecessor Company | ||||||||||||||||
Three Months Ended | Three Months Ended | ||||||||||||||||
September 30, 2011 | September 30, 2010 | ||||||||||||||||
% of | % of | ||||||||||||||||
$ | Revenue | $ | Revenue | ||||||||||||||
(Restated) | |||||||||||||||||
Revenue Source: |
|||||||||||||||||
Voice services |
$ | 120,388 | 47 | % | $ | 125,598 | 48 | % | |||||||||
Access |
94,646 | 36 | % | 95,923 | 37 | % | |||||||||||
Data and Internet
services |
30,049 | 12 | % | 26,691 | 10 | % | |||||||||||
Other services |
12,829 | 5 | % | 12,418 | 5 | % | |||||||||||
Total |
$ | 257,912 | 100 | % | $ | 260,630 | 100 | % | |||||||||
Predecessor | |||||||||||||||||||||||||||||||||
Successor Company | Predecessor Company | Combined | Company | ||||||||||||||||||||||||||||||
Two Hundred Forty- | Twenty-Four Days | ||||||||||||||||||||||||||||||||
Nine Days Ended | Ended | Nine Months Ended | Nine Months Ended | ||||||||||||||||||||||||||||||
September 30, 2011 | January 24, 2011 | September 30, 2011 | September 30, 2010 | ||||||||||||||||||||||||||||||
% of | % of | % of | % of | ||||||||||||||||||||||||||||||
$ | Revenue | $ | Revenue | $ | Revenue | $ | Revenue | ||||||||||||||||||||||||||
(Restated) | |||||||||||||||||||||||||||||||||
Revenue Source: |
|||||||||||||||||||||||||||||||||
Voice services |
$ | 338,721 | 48 | % | $ | 32,977 | 50 | % | $ | 371,698 | 48 | % | $ | 394,959 | 49 | % | |||||||||||||||||
Access |
256,109 | 36 | % | 23,023 | 35 | % | 279,132 | 36 | % | 288,961 | 36 | % | |||||||||||||||||||||
Data and Internet
services |
80,856 | 11 | % | 7,537 | 11 | % | 88,393 | 11 | % | 82,719 | 10 | % | |||||||||||||||||||||
Other services |
33,264 | 5 | % | 2,841 | 4 | % | 36,105 | 5 | % | 36,355 | 5 | % | |||||||||||||||||||||
Total |
$ | 708,950 | 100 | % | $ | 66,378 | 100 | % | $ | 775,328 | 100 | % | $ | 802,994 | 100 | % | |||||||||||||||||
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The following table summarizes access line equivalents (including voice access lines and
HSD lines, which include DSL, wireless broadband, cable modem and fiber-to-the-premises) as of
September 30, 2011 and 2010:
Successor | Predecessor | ||||||||
Company | Company | ||||||||
September 30, | September 30, | ||||||||
2011 | 2010 | ||||||||
Access Line Equivalents: |
|||||||||
Residential access lines |
662,562 | 734,260 | |||||||
Business access lines |
314,290 | 335,334 | |||||||
Wholesale access lines |
80,025 | 89,035 | |||||||
Total switched access lines |
1,056,877 | 1,158,629 | |||||||
High speed data subscribers |
312,475 | 288,891 | |||||||
Total access line equivalents |
1,369,352 | 1,447,520 | |||||||
Operating Expenses
Our operating expenses consist of cost of services and sales, selling, general and
administrative expenses and depreciation and amortization.
| Cost of Services and Sales. Cost of services and sales includes the following costs
directly attributable to a service or product: salaries and wages, benefits, materials and
supplies, contracted services, network access and transport costs, customer provisioning
costs, computer systems support and cost of products sold. Aggregate customer care costs,
which include billing and service provisioning, are allocated between cost of services and
sales and selling, general and administrative expense. |
||
| Selling, General and Administrative Expense. Selling, general and administrative
expense includes salaries and wages and benefits not directly attributable to a service or
product, bad debt charges, taxes other than income, advertising and sales commission
costs, customer billing, call center and information technology costs, professional
service fees and rent for administrative space. Also included in selling, general and
administrative expenses are non-cash expenses related to stock based compensation. Stock
based compensation consists of compensation charges incurred in connection with the
employee stock options, stock units and non-vested restricted stock granted to executive
officers, other employees and directors. |
||
| Depreciation and amortization. Depreciation and amortization includes depreciation
of our communications network and equipment and amortization of intangible assets. |
Operational Restructuring Charges
On September 8, 2011, we announced plans to reduce our workforce by approximately 400
positions, beginning in September and continuing through the next several months. Workforce
reductions resulted in severance charges of $3.3 million during the three months ended September
30, 2011 and are reflected within operating expenses of the condensed consolidated statement of
operations.
For additional information about the restructuring charges see note 13.
Results of Operations
Three Months Ended September 30, 2011 Compared with Three Months Ended September 30, 2010
The following table sets forth the percentages of revenues represented by selected items
reflected in our consolidated statements of operations. The year-to-year comparisons of financial
results are not necessarily indicative of future results
(in thousands, except percentage of revenues data):
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Successor Company | Predecessor Company | ||||||||||||||||
Three Months Ended | Three Months Ended | ||||||||||||||||
September 30, 2011 | September 30, 2010 | ||||||||||||||||
% of | % of | ||||||||||||||||
$ | Revenue | $ | Revenue | ||||||||||||||
(Restated) | |||||||||||||||||
Revenues |
$ | 257,912 | 100 | % | $ | 260,630 | 100 | % | |||||||||
Operating expenses: |
|||||||||||||||||
Costs of services and
sales |
120,149 | 47 | 118,765 | 45 | |||||||||||||
Selling, general and
administrative |
93,334 | 36 | 99,412 | 38 | |||||||||||||
Depreciation and
amortization |
91,547 | 35 | 72,364 | 28 | |||||||||||||
Reorganization
related (income)
expense, net |
(3,735 | ) | (1 | ) | | | |||||||||||
Impairment of
intangible assets and
goodwill |
262,019 | 102 | | | |||||||||||||
Total operating
expenses |
563,314 | 219 | 290,541 | 111 | |||||||||||||
Loss from operations |
(305,402 | ) | (119 | ) | (29,911 | ) | (11 | ) | |||||||||
Interest expense |
(17,147 | ) | (6 | ) | (35,358 | ) | (14 | ) | |||||||||
Other income (expense) |
488 | | 2,207 | 1 | |||||||||||||
Loss before
reorganization items
and income taxes |
(322,061 | ) | (125 | ) | (63,062 | ) | (24 | ) | |||||||||
Reorganization items |
| | 10,352 | 4 | |||||||||||||
Loss before
income taxes |
(322,061 | ) | (125 | ) | (73,414 | ) | (28 | ) | |||||||||
Income tax benefit |
42,620 | 17 | 7,330 | 3 | |||||||||||||
Net loss |
$ | (279,441 | ) | (108 | )% | $ | (66,084 | ) | (25 | )% | |||||||
Revenues decreased $2.7 million to $257.9 million in the third quarter of 2011
compared to the same period in 2010. We derive our revenues from the following sources:
Voice services. Voice services revenues decreased $5.2 million to $120.4 million during the
third quarter of 2011 compared to the same period in 2010, of which $5.0 million of the decrease is
attributable to local calling services revenues and $0.2 million of the decrease is attributable to
long distance service revenues. This decrease in voice services revenues is primarily due to the
impact of an 8.8% decline in total switched access lines in service at September 30, 2011 compared
to September 30, 2010, largely offset by a $2.5 million decline in SQI penalties, despite a $0.8
million increase in SQI penalties due to service outages related to Hurricane Irene in the first
nine months of 2011, and a $0.8 million decrease in PAP credits recorded during the third quarter
of 2011 as compared to the third quarter of 2010. The decrease in the number of voice access lines
is attributable to an increase in technology substitution to wireless service and increased
competition.
Access. Access revenues decreased $1.3 million to $94.6 million during the third quarter of
2011 compared to the same period in 2010. Growth in special access revenue is being offset by
declines in switched access and end user revenues as
minutes of use decline. Special access revenue increased primarily due to revenue assurance
activities, including back-billing.
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Switched access revenues and end user revenues decreased
primarily due to an 8.8% decline in total switched access lines in service at September 30, 2011
compared to September 30, 2010.
Data and Internet services. Data and Internet services revenues increased $3.4 million to
$30.0 million in the third quarter of 2011 compared to the same period in 2010. The increase was
primarily attributable to an 8.2% increase in the number of HSD subscribers from September 30, 2010
to September 30, 2011 resulting from our expanded HSD footprint, bundling and other marketing
efforts.
Other services. Other services revenues increased $0.4 million to $12.8 million in the third
quarter of 2011 compared to the same period in 2010.
Operating
Expenses
Cost of services and sales. Cost of services and sales increased $1.4 million to $120.1
million in the third quarter of 2011 compared to the same period in 2010. During September 2011,
we sustained service outages due to equipment damage and sections of poles and cables losses
created by Hurricane Irene. We incurred approximately $3.2 million of incremental operating costs
during the three months ended September 30, 2011 associated with clean-up and repair efforts from
the hurricane. Additionally, we recorded $2.7 million of severance expense related to the
workforce reduction that occurred in September 2011. In conjunction with fresh start accounting,
on the Effective Date, the Company wrote off $4.8 million of deferred charges associated with
customer activation fees of the predecessor company and recorded a $13.0 million liability for
unfavorable union contracts. Accordingly, the increases in outside plant repairs and severance
charges were offset by a $1.8 million decrease in deferred charges related to customer activation
fees as compared to the three months ended September 30, 2010 and a $0.9 million reduction of
employee expense was recorded for the amortization of unfavorable union contracts.
Selling, general and administrative. Selling, general and administrative expenses decreased
$6.1 million to $93.3 million in the third quarter of 2011 compared to the same period in 2010.
The decrease is primarily attributable to a $5.4 million decrease in bad debt expense, decreasing
from $11.0 million for the three months ended September 30, 2010 to $5.6 million for the three
months ended September 30, 2011, and reductions in general and administrative expenses associated
with our efforts to streamline expenses. These improvements were offset by a $3.7 million increase
in pension and post-retirement healthcare plan expenses recorded during the third quarter of 2011
and $0.6 million of severance expense related to the workforce reduction that occurred in September
2011.
Depreciation and amortization. Depreciation and amortization expense increased $19.2 million
to $91.5 million in the third quarter of 2011 compared to the same period in 2010. This is
primarily attributable to the adoption of fresh start accounting upon the Effective Date whereby
the carrying value of the long-lived assets of the Company were adjusted to fair value and the
useful lives were adjusted.
Reorganization related expense. Reorganization related expense represents expense or income
amounts that have been recognized as a direct result of the Chapter 11 Cases, occurring after the
Effective Date. During the three months ended September 30, 2011, reorganization related expense
is comprised of a $3.3 million reversal of a portion of the Claims Reserve due to several favorable
settlements during the quarter and a $1.2 million credit related to a gain on reorganization
settlements, offset by $0.8 million of restructuring professional fees primarily related to fresh
start accounting and continuing work to settle outstanding claims.
Impairment of intangible assets and goodwill. Impairment of long-lived assets and goodwill
for the third quarter of 2011 is comprised of an impairment of $243.2 million to reduce the
carrying value of goodwill to zero and an impairment of $18.8 million to reduce the carrying value
of a non-amortizable intangible asset related to our trade name.
Other
Results
Interest expense. Interest expense decreased $18.2 million to $17.1 million in the third
quarter of 2011 compared to the same period in 2010 due primarily to a significant decrease in our
outstanding debt. Upon the filing of the Chapter 11
Cases, in accordance with the Reorganizations Topic of the ASC, we ceased the accrual of
interest expense on the Notes
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and the Swaps as it was unlikely that such interest expense would be
paid or would become an allowed priority secured or unsecured claim. We continued to accrue
interest expense on the Pre-Petition Credit Facility, as such interest was considered an allowed
claim pursuant to the Plan. Upon the Effective Date, we entered into the Exit Credit Agreement and
began accruing interest on the Exit Credit Agreement Loans.
Other income (expense). Other income (expense) includes non-operating gains and losses such
as those incurred on sale or disposal of equipment. Other income was $0.5 million in the third
quarter of 2011 compared with $2.2 million in the same period in 2010.
Reorganization items. Reorganization items represent expense or income amounts that have been
recognized as a direct result of the Chapter 11 Cases, prior to the Effective Date. For more
information, see note 2 to the condensed consolidated financial statements.
Income taxes. The effective income tax rate is the provision for income taxes stated as a
percentage of income before the provision for income taxes. The effective income tax rate for the
three months ended September 30, 2011 and 2010 was 13.2% benefit and 10.0% benefit, respectively.
The effective tax rate for the three months ended September 30, 2011 was primarily impacted by an
impairment charge reducing the carrying value of goodwill to zero and an impairment charge reducing
the carrying value of a non-amortizable intangible asset related to the trade name. The effective
tax rate for the three months ended September 30, 2010 was significantly impacted by non-deductible
restructuring charges and post-petition interest.
Net loss. Net loss for the three months ended September 30, 2011 was $279.4 million compared
to $66.1 million for the same period in 2010. The difference in net loss between 2011 and 2010 is
a result of the factors discussed above.
Nine Months Ended September 30, 2011 Compared with Nine Months Ended September 30, 2010
The following table sets forth the percentages of revenues represented by selected items
reflected in our consolidated statements of operations. The year-to-year comparisons of financial
results are not necessarily indicative of future results (in thousands, except percentage of
revenues data):
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Successor | |||||||||||||||||||||||||
Company | Predecessor | ||||||||||||||||||||||||
Two Hundred | Company | Combined | Predecessor Company | ||||||||||||||||||||||
Forty-Nine | Twenty-Four | Nine Months Ended | Nine Months Ended | ||||||||||||||||||||||
Days Ended | Days Ended | September 30, 2011 | September 30, 2010 | ||||||||||||||||||||||
September 30, | January 24, | % of | % of | ||||||||||||||||||||||
2011 | 2011 | $ | Revenue | $ | Revenue | ||||||||||||||||||||
(Restated) | |||||||||||||||||||||||||
Revenues |
$ | 708,950 | $ | 66,378 | $ | 775,328 | 100 | % | $ | 802,994 | 100 | % | |||||||||||||
Operating expenses: |
|||||||||||||||||||||||||
Costs of services and
sales |
321,790 | 38,766 | 360,556 | 47 | 389,445 | 48 | |||||||||||||||||||
Selling, general and
Administrative |
245,132 | 27,161 | 272,293 | 35 | 290,058 | 36 | |||||||||||||||||||
Depreciation and
amortization |
244,940 | 21,515 | 266,455 | 34 | 215,218 | 27 | |||||||||||||||||||
Reorganization
related expense |
1,511 | | 1,511 | | | | |||||||||||||||||||
Impairment of
intangible assets and
goodwill |
262,019 | | 262,019 | 34 | | | |||||||||||||||||||
Total operating
expenses |
1,075,392 | 87,442 | 1,162,834 | 150 | 894,721 | 111 | |||||||||||||||||||
Loss from operations |
(366,442 | ) | (21,064 | ) | (387,506 | ) | (50 | ) | (91,727 | ) | (11 | ) | |||||||||||||
Interest expense |
(46,634 | ) | (9,321 | ) | (55,955 | ) | (7 | ) | (105,709 | ) | (13 | ) | |||||||||||||
Other income
(expense) |
1,319 | (132 | ) | 1,187 | | 2,338 | | ||||||||||||||||||
Loss before
reorganization items
and income taxes |
(411,757 | ) | (30,517 | ) | (442,274 | ) | (57 | ) | (195,098 | ) | (24 | ) | |||||||||||||
Reorganization items |
| 897,313 | 897,313 | 116 | (25,568 | ) | (3 | ) | |||||||||||||||||
(Loss) gain before
income taxes |
(411,757 | ) | 866,796 | 455,039 | 59 | (220,666 | ) | (27 | ) | ||||||||||||||||
Income tax benefit
(expense) |
80,796 | (279,889 | ) | (199,093 | ) | (26 | ) | 14,074 | 1 | ||||||||||||||||
Net (loss) income |
$ | (330,961 | ) | $ | 586,907 | $ | 255,946 | 33 | % | $ | (206,592 | ) | (26 | )% | |||||||||||
Revenues decreased $27.7 million to $775.3 million in the first nine months of 2011
compared to the same period in 2010. We derive our revenues from the following sources:
Voice services. Voice services revenues decreased $23.3 million to $371.7 million during the
first nine months of 2011 compared to the same period in 2010, of which $20.0 million is
attributable to a decrease in local calling services revenues and $3.3 million is due to a decrease
in long distance services revenue. This decrease in voice services revenues is primarily due to
the impact of an 8.8% decline in total switched access lines in service at September 30, 2011
compared to September 30, 2010, largely offset by a $10.9 million decline in SQI penalties, despite
a $0.8 million increase in SQI penalties due to service outages related to Hurricane Irene in the
first nine months of 2011, and a $3.8 million decrease in PAP credits recorded during the first
nine months of 2011 as compared to the first nine months of 2010. The decrease in the number of
voice access lines is attributable to an increase in technology substitution and increased
competition.
Access. Access revenues decreased $9.8 million to $279.1 million during the first nine months
of 2011 compared to the same period in 2010. Growth in special access revenue is being offset by
declines in switched access and end user revenues. Special access revenue increased primarily due
to revenue assurance activities, including back-billing. Switched access revenues and end user
revenues decreased primarily due to an 8.8% decline in total switched access lines in service at
September 30, 2011 compared to September 30, 2010.
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Data and Internet services. Data and Internet services revenues increased $5.7 million to
$88.4 million in the first nine months of 2011 compared to the same period in 2010. The increase
was primarily attributable to an 8.2% increase in the number of HSD subscribers from September 30,
2010 to September 30, 2011 resulting from our bundling and other marketing efforts.
Other services. Other services revenues decreased $0.3 million to $36.1 million in the first
nine months of 2011 compared to the same period in 2010.
Operating
Expenses
Cost of services and sales. Cost of services and sales decreased $28.9 million to $360.6
million in the first nine months of 2011 compared to the same period in 2010. This decrease is
mainly attributable to $12.3 million recognized in the nine months ended September 30, 2010 for the
abandonment of certain capital projects in addition to a reduction in access expenses associated
with providing long distance and data and Internet services and certain employee expenses.
Furthermore, in conjunction with fresh start accounting, on the Effective Date, the Company wrote
off $4.8 million of deferred charges associated with customer activation fees of the predecessor
company and recorded a $13.0 million liability for unfavorable union contracts. Accordingly,
deferred charges related to customer activation fees decreased $6.4 million as compared to the nine
months ended September 30, 2010 and a $2.5 million reduction of employee expense was recorded for
the amortization of unfavorable union contracts. These reductions were offset by $2.7 million of
severance expense related to the workforce reduction that occurred in September 2011.
In addition, during September 2011, we sustained service outages due to equipment damage and
sections of poles and cables losses caused by Hurricane Irene. We incurred approximately $3.2
million of incremental operating costs during the nine months ended September 30, 2011 associated
with clean-up and repair efforts from the hurricane.
Selling, general and administrative. Selling, general and administrative expenses decreased
$17.8 million to $272.3 million in the first nine months of 2011 compared to the same period in
2010. The decrease is primarily attributable to an $8.4 million
decrease in bad debt expense,
decreasing from $27.5 million for the nine months ended September 30, 2010 to $19.2 million for the
nine months ended September 30, 2011, and reductions in general and administrative expenses
associated with our efforts to streamline expenses. These improvements were offset by a $5.0
million increase in pension and post-retirement healthcare plan expenses recorded during the first
nine months of 2011 and $0.6 million of severance expense related to the workforce reduction that
occurred in September 2011.
Depreciation and amortization. Depreciation and amortization expense increased $51.2 million
to $266.5 million in the first nine months of 2011 compared to the same period in 2010. This is
primarily attributable to the adoption of fresh start accounting upon the Effective Date whereby
the carrying value of the long-lived assets of the Company were adjusted to fair value and the
useful lives were adjusted.
Reorganization related expense. Reorganization related expense represents expense or income
amounts that have been recognized as a direct result of the Chapter 11 Cases, occurring after the
Effective Date. During the nine months ended September 30, 2011, reorganization related expense is
mostly comprised of a $3.3 million reversal of a portion of the Claims Reserve due to several
favorable settlements during the quarter and a $2.0 million credit related to a gain on
reorganization settlements, offset by $6.7 million of restructuring professional fees primarily
related to fresh start accounting and continuing work to settle outstanding claims.
Impairment of intangible assets and goodwill. Impairment of long-lived assets and goodwill
for the first nine months of 2011 is comprised of an impairment of $243.2 million to reduce the
carrying value of goodwill to zero and an impairment of $18.8 million to reduce the carrying value
of a non-amortizable intangible asset related to our trade name.
Other
Results
Interest expense. Interest expense decreased $49.8 million to $56.0 million in the first nine
months of 2011 compared to the same period in 2010 due primarily to a significant decrease in our
outstanding debt. Upon the filing of the Chapter 11 Cases, in accordance with the Reorganizations
Topic of the ASC, we ceased the accrual of interest expense on the
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Notes and the Swaps as it was unlikely that such interest expense would be paid or would
become an allowed priority secured or unsecured claim. We continued to accrue interest expense on
the Pre-Petition Credit Facility, as such interest was considered an allowed claim pursuant to the
Plan. Upon the Effective Date, we entered into the Exit Credit Agreement and began accruing
interest on the Exit Credit Agreement Loans.
Other income (expense). Other income (expense) includes non-operating gains and losses such
as those incurred on sale or disposal of equipment. Other income was $1.2 million in the first
nine months of 2011 compared with $2.3 million in the same period in 2010.
Reorganization items. Reorganization items represent expense or income amounts that have been
recognized as a direct result of the Chapter 11 Cases, prior to the Effective Date. For more
information, see note 2 to the condensed consolidated financial statements.
Income taxes. The effective income tax rate is the provision for income taxes stated as a
percentage of income before the provision for income taxes. The effective income tax rate for the
nine months ended September 30, 2011 and 2010 was 43.8% expense and 6.4% benefit, respectively.
The effective tax rate for the nine months ended September 30, 2011 was primarily impacted by an impairment charge reducing the carrying value of goodwill to zero and
an impairment charge reducing the carrying value of a non-amortizable intangible asset related to
the trade name. The effective tax rate for the nine months ended September 30, 2010 was impacted
by a one-time, non-cash income tax charge of $6.8 million as a result of the enactment of the
Health Care Act, which became law in March 2010 in addition to non-deductible restructuring charges
and post-petition interest.
Net (loss) income. Net income for the nine months ended September 30, 2011 was $255.9 million
compared to net loss of $206.6 million for the same period in 2010. The difference in net (loss)
income between 2011 and 2010 is a result of the factors discussed above.
Off-Balance Sheet Arrangements
We do not have any off-balance sheet arrangements.
Critical Accounting Policies
Our critical accounting policies are as follows:
| Revenue recognition; |
||
| Allowance for doubtful accounts; |
||
| Accounting for pension and other post-retirement benefits; |
||
| Accounting for income taxes; |
||
| Depreciation of property, plant and equipment; |
||
| Valuation of long-lived assets, including goodwill; and |
||
| Accounting for software development costs. |
Revenue Recognition. We recognize service revenues based upon usage of our local exchange
network and facilities and contract fees. Fixed fees for voice services, Internet services and
certain other services are recognized in the month the service is provided. Revenue from other
services that are not fixed fee or that exceed contracted amounts is recognized when those services
are provided. Non-recurring customer activation fees, along with the related costs up to, but not
exceeding, the activation fees, are deferred and amortized over the customer relationship period.
SQI penalties and PAP penalties are recorded as a reduction to revenue. SQI penalties for Maine,
New Hampshire and Vermont are recorded to
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other accrued liabilities on the consolidated balance sheets. PAP penalties for Maine and New
Hampshire are recorded as a reduction to accounts receivable since these penalties are paid by the
Company in the form of credits applied to the CLEC bills. PAP penalties in Vermont are recorded to
other accrued liabilities as a majority of these penalties are paid to the Vermont Universal
Service Fund, while the remaining credits assessed in Vermont are paid by the Company in the form
of credits applied to CLEC bills. All SQI and Vermont PAP penalties related to the Predecessor
Company are recorded to the Claims Reserve at September 30, 2011 and to liabilities subject to
compromise at December 31, 2010.
We make estimated adjustments, as necessary, to revenue or accounts receivable for billing
errors, including certain disputed amounts.
Allowance for Doubtful Accounts. In evaluating the collectability of our accounts receivable,
we assess a number of factors, including a specific customers or carriers 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.
On the Effective Date, the accounts receivable balances were valued at fair value using the
net realizable value approach. The net realizable value approach was determined by reducing the
gross receivable balance by our allowance for doubtful accounts. Due to the relatively short
collection period, the net realizable value approach was determined to result in a reasonable
indication of fair value of the assets.
Accounting for Pension and Other Post-retirement Benefits. Some of our employees participate
in our pension plans and other post-retirement benefit plans. In the aggregate, the pension plan
benefit obligations exceed the fair value of pension plan assets, resulting in expense. Other
post-retirement benefit plans have larger benefit obligations than plan assets, resulting in
expense. Significant pension and other post-retirement benefit plan assumptions, including the
discount rate used, the long-term rate-of-return on plan assets, and medical cost trend rates are
periodically updated and impact the amount of benefit plan income, expense, assets and obligations.
Accounting for Income Taxes. Our current and deferred income taxes are affected by events and
transactions arising in the normal course of business, as well as in connection with the adoption
of new accounting standards and non-recurring items. Assessment of the appropriate amount and
classification of income taxes is dependent on several factors, including estimates of the timing
and realization of deferred income tax assets and the timing of income tax payments. Actual
payments may differ from these estimates as a result of changes in tax laws, as well as
unanticipated future transactions affecting related income tax balances. We account for tax
benefits taken or expected to be taken in our tax returns in accordance with the Income Taxes Topic
of the ASC, which requires the use of a two step approach for recognizing and measuring tax
benefits taken or expected to be taken in a tax return and disclosures regarding uncertainties in
income tax positions.
Depreciation of Property, Plant and Equipment. We recognize depreciation on property, plant
and equipment principally on the composite group remaining life method and straight-line composite
rates over estimated useful lives ranging from three to 50 years. This method provides for the
recognition of the cost of the remaining net investment in telephone plant, less anticipated net
salvage value (if any), over the remaining asset lives. This method requires the periodic revision
of depreciation rates. Changes in the estimated useful lives of property, plant and equipment or
depreciation methods could have a material effect on our results of operations.
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. In addition, we review goodwill and non-amortizable intangible assets
for impairment on an annual basis. Several factors could trigger an impairment review such as:
| significant underperformance relative to expected historical or projected future
operating results; |
||
| significant regulatory changes that would impact future operating revenues; |
||
| significant negative industry or economic trends; and |
||
| significant changes in the overall strategy in which we operate our overall business. |
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We have recorded gross intangible assets related to customer relationships, the trade name and
favorable leasehold agreements of $138.6 million as of September 30, 2011. As of September 30,
2011, there was $7.6 million of accumulated amortization recorded. The customer relationships and
favorable leasehold agreements are being amortized over a weighted average life of approximately
9.0 years and 2.7 years, respectively. The trade name has an indefinite life and is, therefore, not
amortized. The intangible assets are included in intangible assets on our condensed consolidated
balance sheet.
In September 2011, the FASB issued Accounting Standards Update (ASU) 2011-08 to amend and
simplify the annual testing for goodwill impairment. This amendment to Intangibles Goodwill and
Other Topic of the ASC allows an entity the option to first assess qualitative factors to determine
whether the existence of events and circumstances leads to a determination that it is more likely
than not that the fair value of a reporting unit is less than its carrying value. If, after
assessing the totality of events and circumstances, an entity determines it is not likely that the
fair value of a reporting unit is less than its carrying value, then performing the two-step
impairment test is unnecessary. However, if an entity concludes otherwise, then it is required to
perform the first step of the two-step impairment test. In addition, the ASU includes examples of
events and circumstances that an entity should consider in evaluating whether it is more likely
than not that the fair value of a reporting unit is less than its carrying value. These events and
circumstances should be utilized when an entity considers the need to test goodwill for impairment
between annual tests.
Goodwill impairment is determined using a two-step process. Step one compares the estimated
fair value of our single wireline reporting unit (calculated using both the market approach and the
income approach) to its carrying amount, including goodwill. The market approach compares our fair
value, as measured by our market capitalization, to our carrying amount, which represents our
stockholders equity balance. The income approach is based upon projected future cash flows
discounted to present value using factors that consider the timing and risk associated with the
future cash flows. The fair value of the Companys single wireline reporting unit was estimated
using a probability weighted scenario of future cash flow projections based on managements long
range estimates of market conditions over a multiple year horizon. An estimated growth rate was
used to arrive at an estimated terminal value. A discount rate was based upon a cost of capital
calculated using various inputs, such as the risk-free rate, equity risk premium, size premium,
company specific premium, etc., as of the date of the goodwill impairment test.
Effective January 1, 2011, step one of the goodwill impairment test was amended for reporting
units with zero or negative carrying amounts. Previously, for those reporting units, an entity
would not be required to perform step two of the goodwill impairment test. Now, an entity is
required to perform step two of the goodwill impairment test for reporting units with zero or
negative carrying amounts if it is more likely than not that a goodwill impairment exists. In
determining whether it is more likely than not that a goodwill impairment exists, an entity should
consider whether there are any adverse qualitative factors indicating an impairment may exist.
Step two compares the implied fair value of our goodwill (i.e., our fair value less the fair
value of our assets and liabilities, including identifiable intangible assets) to our goodwill
carrying amount. If the carrying amount of our goodwill exceeds the implied fair value of our
goodwill, the excess is required to be recorded as an impairment.
At September 30, 2011, given the significant sustained decline in our stock price since the
Effective Date which has caused our market capitalization to be below our book value, we determined
that a possible impairment of goodwill was indicated and concluded that an interim goodwill
impairment test was necessary. In step one, we calculated the discounted cash flows to arrive at a
fair value, which was then compared to the carrying value, including goodwill. A combination of
expected cash flows and higher discount rates resulted in the fair value, using the discounted cash
flow method, being less than the carrying value, at which point we proceeded to step two, as
outlined above. Results of the impairment test required us to record an impairment charge reducing
the carrying value of the goodwill to zero at September 30,
2011. This non-cash impairment charge has no
impact on our compliance with the covenants contained in the Exit Credit Agreement.
Our only non-amortizable intangible asset other than goodwill is the FairPoint trade name.
Consistent with the valuation methodology used to value the trade name at the Effective Date, we
assess the fair value of the trade name based on the relief from royalty method. If the carrying
amount of our trade name exceeds its estimated fair value, the asset is
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considered impaired. We performed our annual non-amortizable intangible asset impairment assessment
as of October 1, 2010 and concluded that there was no indication of impairment at that time. As of
December 31, 2010, as a result of changes to our financial projections related to the Chapter 11
Cases, we determined that a possible impairment of our non-amortizable intangible assets was
indicated. We performed an interim non-amortizable intangible asset impairment assessment as of
December 31, 2010 and determined that our trade name was not impaired.
At September 30, 2011, given that the significant sustained decline in our stock price since
the Effective Date has caused its market capitalization to be below its book value, we determined
that a possible impairment of the FairPoint trade name was indicated and concluded that an interim
non-amortizable intangible asset impairment test on the trade name was necessary. Results of the
impairment test required us to record an impairment charge totaling $18.8 million at September 30,
2011.
For our non-amortizable intangible asset impairment assessments of the FairPoint trade name,
we made certain assumptions including an estimated royalty rate, a long-term growth rate, an
effective tax rate and a discount rate, and applied these assumptions to projected future cash
flows, exclusive of cash flows associated with wholesale revenues as these revenues are not
generated through brand recognition. Changes in one or more of these assumptions may result in the
recognition of an impairment loss different from what was actually recorded.
As of December 31, 2010, as a result of changes to our financial projections related to the
Chapter 11 Cases, we determined that a possible impairment of long-lived assets was indicated. In
accordance with the Property, Plant and Equipment Topic of the ASC, we performed recoverability
tests, based on undiscounted projected future cash flows associated with our long-lived assets, and
determined that long-lived assets were not impaired at December 31, 2010.
Given the significant sustained decline in our stock price since the Effective Date and the
September 30, 2011 impairment of goodwill and the FairPoint trade name, we determined that a
possible impairment of long-lived assets was present. However, we concluded that a recoverability
test for impairment of the long-lived assets was not necessary due to the conclusion during step
two of the September 30, 2011 interim goodwill impairment test that the carrying value of the
long-lived assets approximated fair value.
Accounting for Software Development Costs. We capitalize certain costs incurred in connection
with developing or obtaining internal use software in accordance with the Intangibles-Goodwill and
Other Topic of the ASC. Capitalized costs include direct development costs associated with internal
use software, including direct labor costs and external costs of materials and services. Costs
incurred during the preliminary project stage, as well as maintenance and training costs, are
expensed as incurred.
New Accounting Standards
In September 2011, the FASB issued ASU 2011-08 to amend and simplify the annual testing for
goodwill impairment. This amendment to Intangibles Goodwill and Other Topic of the ASC allows
an entity the option to first assess qualitative factors to determine whether the existence of
events and circumstances leads to a determination that it is more likely than not that the fair
value of a reporting unit is less than its carrying value. If, after assessing the totality of
events and circumstances, an entity determines it is not likely that the fair value of a reporting
unit is less than its carrying value, then performing the two-step impairment test is unnecessary.
However, if an entity concludes otherwise, then it is required to perform the first step of the
two-step impairment test. In addition, the ASU includes examples of events and circumstances that
an entity should consider in evaluating whether it is more likely than not that the fair value of a
reporting unit is less than its carrying value. These events and circumstances should be utilized
when an entity considers the need to test goodwill for impairment between annual tests. This new
guidance is effective for annual and interim goodwill impairment tests performed for fiscal years
beginning after December 15, 2011, with early adoption permitted. We elected to early adopt this
ASU. The adoption of this amendment to the ASC did not have a material impact on our condensed
consolidated financial statements.
In June 2011, the FASB issued ASU 2011-05 related to the presentation of comprehensive income
which eliminates the option to present the components of other comprehensive income as part of the
statement of changes in stockholders
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equity. This ASU requires that all non-owner changes in stockholders equity be presented in either
a single continuous statement of comprehensive income or in two separate but consecutive
statements. This new guidance is to be applied retrospectively, and is effective for interim and
annual periods beginning after December 15, 2011, with early adoption permitted. In October 2011,
the FASB announced a proposed deferral of the requirement set forth in this ASU that
reclassification adjustments for each component of other comprehensive (loss) income must be
presented in both the condensed consolidated statement of operations and the condensed consolidated
statement of comprehensive (loss) income with an exposure draft to be issued in the near future.
We do not expect this amendment to the ASC to have a material impact on our condensed consolidated
financial statements.
In May 2011, the FASB issued ASU 2011-04 related to achieving common fair value measurements
and disclosure requirements between U.S. GAAP and International Financial Reporting Standards
(IFRS). This ASU changes the wording used to describe many of the requirements in U.S. GAAP for
measuring fair value and for disclosing information about fair value measurements to ensure
consistency between U.S. GAAP and IFRS. The ASU also expands the disclosures for fair value
measurements that are estimated using significant unobservable (Level 3) inputs. This new guidance
is to be applied prospectively, and is effective for interim and annual periods beginning after
December 15, 2011. Early adoption is not permitted. We do not expect the adoption of this
amendment to the ASC to have a material impact on our condensed consolidated financial statements.
On January 1, 2011, we adopted the ASU 2010-28 regarding when to perform step 2 of the
goodwill impairment test for reporting units with zero or negative carrying amounts. This ASU
modifies step 1 of the goodwill impairment test for reporting units with zero or negative carrying
amounts. For those reporting units, an entity is required to perform step 2 of the goodwill
impairment test if it is more likely than not that a goodwill impairment exists. In determining
whether it is more likely than not that a goodwill impairment exists, an entity should consider
whether there are any adverse qualitative factors indicating an impairment may exist. The
qualitative factors are consistent with the previously existing guidance, which required that
goodwill of a reporting unit be tested for impairment between annual tests if an event occurs or
circumstances change that would more likely than not reduce the fair value of a reporting unit
below its carrying amount. For public entities, the amendments in this ASU are effective for fiscal
year, and interim periods within those years, beginning after December 15, 2010. The adoption of
this amendment to the ASC did not have a material impact on our condensed consolidated financial
statements.
In October 2009, the FASB issued ASU 2009-13 regarding revenue recognition for multiple
deliverable arrangements. This method allows a vendor to allocate revenue in an arrangement using
its best estimate of selling price if neither vendor specific objective evidence nor third party
evidence of selling price exists. Accordingly, the residual method of revenue allocation will no
longer be permissible. This ASU must be adopted no later than the beginning of the first fiscal
year beginning on or after June 15, 2010. The adoption of this amendment to the ASC did not have a
material impact on our condensed consolidated financial statements.
Inflation
There are cost of living adjustment clauses in certain of the collective bargaining agreements
covering our labor union employees. Considerable fluctuations in cost of living due to inflation
could result in an adverse effect on our operations.
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Liquidity and Capital Resources
Summary
Upon our emergence from Chapter 11 on January 24, 2011, we adopted fresh start accounting in
accordance with guidance under the applicable reorganization accounting rules. Accordingly, our
future and 249 days ended September 30, 2011 condensed consolidated statements of financial
position, condensed consolidated statements of operations and condensed statement of cash flows
will not be comparable in many respects to our condensed consolidated statements of financial
position, condensed consolidated statements of operations and condensed statement of cash flows for
periods prior to the adoption of fresh start accounting and prior to accounting for the effects of
the reorganization.
Our short-term and long-term liquidity needs primarily arise from: (i) interest and principal
payments on our indebtedness; (ii) capital expenditures; (iii) working capital requirements as may
be needed to support and grow our business; and (iv) payments into our qualified pension and
post-retirement health plans. Our current and future liquidity is greatly dependent upon our
operating results. We expect that our primary sources of liquidity will be cash flow from
operations, cash on hand and funds available under the Exit Revolving Facility.
Based on our current and anticipated levels of operations and conditions in our markets, we
believe that cash on hand (including amounts available under our Exit Revolving Facility) as well
as cash flow from operations will enable us to meet our working capital, capital expenditure, debt
service and other funding requirements for at least the next 12 months. We expect to be in
compliance with the maintenance covenants contained in the Exit Credit Agreement for 2011. However,
our anticipated results are subject to significant uncertainty and our ability to comply with these
covenants may be affected by events beyond our control, including prevailing economic, financial
and industry conditions. The breach of certain covenants set forth in our financing agreements
could result in an event of default thereunder. An event of default would permit the lenders under
a defaulted financing agreement to declare all indebtedness thereunder to be due and payable prior
to maturity. Moreover, the lenders under our Exit Revolving Facility would have the option to
terminate their commitments to make further extensions of revolving credit thereunder. If we are
unable to repay our obligations under our Exit Credit Agreement, the lenders could proceed against
any assets that were pledged to secure such facility.
Cash and cash equivalents at September 30, 2011 totaled $9.9 million compared to $105.5
million at December 31, 2010, excluding restricted cash of $28.6 million and $4.1 million,
respectively. On the Effective Date, we significantly reduced our cash on hand by approximately
$89.9 million to establish the Cash Claims Reserve. Tax related claims were not included in the
Cash Claims Reserve. As of the Effective Date, cash and cash equivalents totaled $10.3 million,
excluding the Cash Claims Reserve of $82.8 million, following payment of $7.1 million in claims on
the Effective Date. In accordance with the Plan, to the extent that claims are settled for amounts
lower than estimated in the Cash Claims Reserve, we could reclaim restricted cash of up to $26.2
million. There is no certainty that we will reclaim any, or all, of this amount.
Cash Flows
Net cash provided by (used in) operating activities was $127.5 million, ($81.1) million and
$144.1 million for the 249 days ended September 30, 2011, 24 days ended January 24, 2011 and nine
months ended September 30, 2010, respectively. Net cash provided by operating activities for the
249 days ended September 30, 2011 represents the operating activities of the Successor Company;
however, it includes payment of $64.1 million in claims of the Predecessor Company, of which $56.5
million of these claims were paid using funds of the Cash Claims Reserve established on the
Effective Date by the Predecessor Company. After a $7.1 million payment of claims on the Effective
Date, the Cash Claims Reserve totaled $82.8 million and is reflected in net cash used in operating
activities during the 24 days ended January 24, 2011. Upon the filing of the Chapter 11 Cases, we
continued to accrue interest expense on the Pre-Petition Credit Facility, as such interest was
considered an allowed claim pursuant to the Plan. During the 24 days ended January 24, 2011 and
nine months ended September 30, 2010, no payments of interest were made, resulting in an increase
in cash provided by operations of $9.0 million and $102.5 million, respectively. Upon our
emergence from bankruptcy, we began paying interest on our outstanding debt in the normal course
during the 249 days ended September 30, 2011.
Net cash used in investing activities was $127.9 million, $12.5 million and $156.5 million for
the 249 days ended September 30, 2011, 24 days ended January 24, 2011 and nine months ended
September 30, 2010, respectively, and is
mainly comprised of capital expenditures for all periods.
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Net cash (used in) provided by financing activities was ($1.7) million and $2.7 million for
the 24 days ended January 24, 2011 and nine months ended September 30, 2010, respectively. Net
cash used in financing activities was immaterial for the 249 days ended September 30, 2011. We
paid $2.4 million of loan origination costs on the Exit Credit Agreement, of which $0.9 million and
$1.5 million were paid during the 249 days ended September 30, 2011 and the 24 days ended January
24, 2011, respectively. During the nine months ended September 30, 2010, additional proceeds of
$5.5 million were borrowed on the Pre-Petition Credit Facility related to outstanding letters of
credit that were drawn upon by the holders and we paid $1.1 million of loan origination costs
related to the DIP Credit Facility.
We expect contributions to our Company sponsored employee pension plans and post-retirement
health plans will be approximately $6.8 million and $2.3 million, respectively, in 2011, of which
$6.8 million and $1.4 million have been contributed, respectively, during the nine months ended
September 30, 2011. In addition, we expect to contribute approximately $20.0 million to our
Company sponsored pension plans, as required by the PPA, and approximately $3.0 to $5.0 million to our
post-retirement health plans in 2012.
Capital Expenditures
We expect our capital expenditures will be approximately $180 million to $200 million in 2011.
We anticipate that we will fund these expenditures through cash flows from operations, cash on hand
and funds available under the Exit Revolving Facility.
We have a five year contract with our primary IT vendor, which was executed in 2009. In the
nine months ended September 30, 2011 and 2010, we spent approximately $17.7 million and $22.0
million, respectively, for services under such contract, of which approximately $8.9 million and
$10.4 million, respectively, was capitalized in accordance with the Intangibles Goodwill and
Other Topic and the Interest Topic of the ASC and approximately $8.8 million and $11.6 million,
respectively, was included in operating expenses. Our contract includes a baseline spend in 2011
with this vendor of approximately $22.1 million, which will be allocated between capital
expenditures and operating expenses depending on the type of activities performed. While the
contract term is five years, we have the ability to reduce the amount we spend with this vendor
below the baseline amount by either in-sourcing certain work functions or finding alternate
vendors. In order to reduce our spend below the contractual amount, we are required to provide six
months notice to the vendor for the work functions we wish to move or eliminate.
On May 31, 2011 we provided notice to this vendor of our intent to in-source or alternatively
source certain functions which we expect will result in a reduction of the baseline amount by
approximately fifty percent on a go-forward basis commencing on December 1, 2011. On October 11,
2011 we provided a second notice to the vendor of our intent to further in-source or alternatively
source certain functions which we expect will result in a future reduction of the baseline amount
on a go-forward basis commencing on April 11, 2012. We expect that savings will be largely offset
in the near term by an increase in internal information technology (IT) employees and by other
vendors for these functions and other IT initiatives.
Debt
Exit Credit Agreement
On the Effective Date, the Exit Borrowers entered into the Exit Credit Agreement. The Exit
Credit Agreement is comprised of the Exit Revolving Facility and the Exit Credit Agreement Loans.
On the Effective Date, we paid to the lenders providing the Exit Revolving Facility an aggregate
fee equal to $1.5 million. Interest on the Exit Credit Agreement Loans accrues at an annual rate
equal to either (a) LIBOR plus 4.50%, with a minimum LIBOR floor of 2.00% for the Exit Term Loan,
or (b) a base rate plus 3.50% per annum in which base rate is equal to the highest of (x) Bank of
Americas prime rate, (y) the federal funds effective rate plus 0.50% and (z) LIBOR (with minimum
LIBOR floor of 2.00%) plus 1.00%. In addition, we are required to pay a 0.75% per annum commitment
fee on the average daily unused portion of the Exit Revolving Facility. The entire outstanding
principal amount of the Exit Credit Agreement Loans is due
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on the Exit Maturity Date; provided that on the third anniversary of the Effective Date, we must
elect (subject to the absence of events of default under the Exit Credit Agreement) to continue the
maturity of the Exit Revolving Facility and must pay a continuation fee of $0.75 million and, on
the fourth anniversary of the Effective Date, we must elect (subject to the absence of events of
default under the Exit Credit Agreement) to continue the maturity of the Exit Revolving Facility
and must pay a second continuation fee of $0.75 million. The Exit Credit Agreement requires
quarterly repayments of principal of the Exit Term Loan after the first anniversary of the
Effective Date. In the second and third years following the Effective Date, such quarterly payments
shall each be in an amount equal to $2.5 million; during the fourth year following the Effective
Date, such quarterly payments shall each be in an amount equal to $6.25 million; and for the first
three quarters during the fifth year following the Effective Date, such quarterly payments shall
each be in an amount equal to $12.5 million, with all remaining outstanding amounts owed in respect
of the Exit Credit Agreement being due and payable on the Exit Maturity Date.
The Exit Credit Agreement Loans are guaranteed by all of our current and future direct and
indirect subsidiaries, other than any subsidiary that is prohibited by applicable law from
guaranteeing the obligations under the Exit Credit Agreement Loans and/or providing any security
therefor without the consent of a state public utilities commission. The Exit Credit Agreement
Loans as a whole are secured by liens upon substantially all existing and after-acquired assets of
the Exit Financing Loan Parties, with first lien and payment waterfall priority for the Exit
Revolving Facility and second lien priority for the Exit Term Loan.
The Exit Credit Agreement contains customary representations, warranties and affirmative
covenants. In addition, the Exit Credit Agreement contains restrictive covenants that limit, among
other things, the ability of the Exit Financing Loan Parties to incur indebtedness, create liens,
engage in mergers, consolidations and other fundamental changes, make investments or loans, engage
in transactions with affiliates, pay dividends, make capital expenditures and repurchase capital
stock. The Exit Credit Agreement also contains minimum interest coverage and maximum total leverage
maintenance covenants, along with a maximum senior leverage covenant measured upon the incurrence
of certain types of debt. The Exit Credit Agreement contains certain events of default, including
failure to make payments, breaches of covenants and representations, cross defaults to other
material indebtedness, unpaid and uninsured judgments, changes of control and bankruptcy events of
default. The lenders commitments to fund amounts under the Exit Revolving Facility are subject to
certain customary conditions. As of September 30, 2011, the Exit Borrowers were in compliance with
all covenants under the Exit Credit Agreement.
The above summary of the material terms of the Exit Credit Agreement Loans does not purport to
be complete and is qualified in its entirety by reference to the text of (i) the Exit Credit
Agreement, (ii) the Pledge Agreement, dated as of the Effective Date, made by the pledgors party
thereto in favor of Bank of America, N.A., as administrative agent, for the benefit of certain
secured parties, (iii) the Security Agreement, dated as of the Effective Date, by and among
FairPoint Communications, FairPoint Logistics, our subsidiaries party thereto and Bank of America,
N.A., as administrative agent, for the benefit of certain secured parties and (iv) the Continuing
Guaranty Agreement, dated as of the Effective Date, made by and among the guarantors party thereto
in favor of Bank of America, N.A., as administrative agent, for the benefit of certain secured
parties.
Our DIP Facility
In connection with the Chapter 11 Cases, on October 27, 2009, the DIP Borrowers entered into
the DIP Credit Agreement with the DIP Lenders and the DIP Administrative Agent. The DIP Credit
Agreement provided the DIP Financing. Pursuant to the Interim Order, the DIP Borrowers were
authorized to enter into and immediately draw upon the DIP Credit Agreement on an interim basis in
an aggregate amount of $20.0 million, pending a final hearing before the Bankruptcy Court. Pursuant
to the Final DIP Order, the DIP Borrowers were permitted access to the total $75.0 million of the
DIP Financing, subject to the terms and conditions of the DIP Credit Agreement and related orders
of the Bankruptcy Court of which up to $30.0 million was available in the form of one or more
letters of credit that could be issued to third parties for our account. As of December 31, 2010,
we had not borrowed any amounts under the DIP Credit Agreement other than letters of credit
totaling $18.7 million that had been issued and were outstanding under the DIP Credit Agreement.
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On the Effective Date, the DIP Credit Agreement was converted into the new $75.0 million Exit
Revolving Facility with a five-year term. All letters of credit outstanding under the DIP Credit
Agreement were transferred to the Exit Credit Agreement on the Effective Date.
Our Pre-Petition Credit Facility
Our $2,030.0 million Pre-Petition Credit Facility consisted of a non-amortizing revolving
facility in an aggregate principal amount of $200.0 million, a senior secured term loan A facility
in an aggregate principal amount of $500.0 million (the Term Loan A Facility), a senior secured
term loan B facility in the aggregate principal amount of $1,130.0 million (the Term Loan B
Facility and, together with the Term Loan A Facility, the Term Loan) and a delayed draw term
loan facility in an aggregate principal amount of $200.0 million (the Delayed Draw Term Loan).
Spinco drew $1,160.0 million under the Term Loan immediately prior to being spun off by Verizon,
and then FairPoint drew $470.0 million under the Term Loan and $5.5 million under the Delayed Draw
Term Loan concurrently with the closing of the Merger.
Subsequent to the Merger, we borrowed the remaining $194.5 million available under the Delayed
Draw Term Loan. These funds were used for certain capital expenditures and other expenses
associated with the Merger.
As of December 31, 2010, we had borrowed $155.5 million under the Revolving Credit Facility
and there were no outstanding letters of credit. Upon the event of default under the Pre-Petition
Credit Facility relating to the Chapter 11 Cases, the commitments under the Revolving Credit
Facility were automatically terminated. Accordingly, as of December 31, 2010, no funds remained
available under the Revolving Credit Facility.
On the Effective Date, the Pre-Petition Credit Facility and all obligations thereunder (except
that the Pre-Petition Credit Facility continues in effect solely for the purposes of allowing
creditors under the Pre-Petition Credit Facility to receive distributions under the Plan and to
preserve certain rights of the administrative agent) were terminated.
Our Pre-Petition Notes
Spinco issued, and we assumed in the Merger, $551.0 million aggregate principal amount of the
Old Notes. The Old Notes were to mature on April 1, 2018 and were not redeemable at our option
prior to April 1, 2013. The Old Notes were issued at a discount and, accordingly, at the date of
their distribution, the Old Notes had a carrying value of $539.8 million (principal amount at
maturity of $551.0 million less discount of $11.2 million). Following the filing of the Chapter 11
Cases, $9.9 million of discount on the Pre-Petition Notes was written off in order to adjust the
carrying amount of our pre-petition debt to the Bankruptcy Court approved amount of the allowed
claims for our pre-petition debt.
Pursuant to the Old Notes exchanged in connection with our offer to exchange the Old Notes for
the New Notes (the Exchange Offer), on July 29, 2009, we exchanged $439.6 million in aggregate
principal amount of the Old Notes (which amount was equal to approximately 83% of the then
outstanding Old Notes) for $458.5 million in aggregate principal amount of the New Notes (which
amount included New Notes issued to tendering noteholders as payment for accrued and unpaid
interest on the exchanged Old Notes up to, but not including, the Settlement Date).
Upon the consummation of the Exchange Offer and the corresponding consent solicitation,
substantially all of the restrictive covenants in the indenture governing the Old Notes were
deleted or eliminated and certain of the events of default and various other provisions contained
therein were modified.
The filing of the Chapter 11 Cases constituted an event of default under the New Notes.
On the Effective Date, all outstanding obligations under the Pre-Petition Notes and the
indentures governing the Pre-Petition Notes were terminated.
Other Pre-Petition Agreements
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As a condition to the approval of the Merger and related transactions by state regulatory
authorities we agreed to make
certain capital expenditures following the completion of the Merger. The Merger Orders have been
modified by Regulatory Settlements agreed to with representatives for each of Maine, New Hampshire
and Vermont, and approved by the applicable regulatory authorities in Maine, New Hampshire and
Vermont, and approved by the Bankruptcy Court as part of the Plan.
We are required to make certain capital expenditures pursuant to the Regulatory Settlements.
See note 15.
Item 3. Quantitative and Qualitative Disclosures about Market Risk.
As of September 30, 2011, we had total debt of $1,000.0 million, consisting of variable rate
debt with an interest rate of 6.50% per annum, including applicable margins, as of September 30,
2011. As of September 30, 2011, the fair value of our debt was approximately $787.5 million based
on the market prices of our debt at that date. Our Exit Credit Agreement Loans mature in 2016,
provided that on the third anniversary of the Effective Date, we must elect (subject to the absence
of events of default under the Exit Credit Agreement) to continue the maturity of the Exit
Revolving Facility and must pay a continuation fee of $0.75 million and, on the fourth anniversary
of the Effective Date, we must elect (subject to the absence of events of default under the Exit
Credit Agreement) to continue the maturity of the Exit Revolving Facility and must pay a second
continuation fee of $0.75 million.
As of September 30, 2011, we had $62.6 million, net of $12.4 million outstanding letters of
credit, available for additional borrowing under our Exit Revolving Facility. Interest payments on
the Exit Term Loan are subject to a LIBOR floor of 2.00%. While LIBOR remains below 2.00% we will
incur interest costs above market rates.
We use variable rate debt to finance our operations, capital expenditures and acquisitions.
The variable rate debt obligations expose us to variability in interest payments due to changes in
interest rates. We believe it is prudent to limit the variability of a portion of our interest
payments. To meet this objective, from time to time, we may enter into interest rate swap
agreements to manage fluctuations in cash flows resulting from interest rate risk.
We do not hold or issue derivative financial instruments for trading or speculative purposes.
We are also exposed to market risk from changes in the fair value of our pension plan assets
and from changes to rates at which benefit payments are discounted. For the nine months ended
September 30, 2011, the actual loss on the pension plan assets has been approximately 2.5%. Net
periodic benefit cost for 2011 assumes a weighted average annualized expected return on plan assets
of approximately 8.3%. Lower returns on plan assets and lower discount rates could negatively
impact the funded status of the plan and we may be required to contribute additional funds to the
pension plan.
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Item 4. Controls and Procedures.
Evaluation of Disclosure Controls and Procedures
As of the end of the period covered by this Quarterly Report, we carried out an evaluation
under the supervision and with the participation of our management, including our principal
executive officer and principal financial officer, of the effectiveness of our disclosure controls
and procedures (as defined in Rule 13a-15(e) of the Exchange Act). Disclosure controls and
procedures are controls and other procedures of an issuer that are designed to ensure that
information required to be disclosed by the issuer in the reports that it files or submits under
the Exchange Act is recorded, processed, summarized and reported within the time periods specified
in the rules and forms of the SEC.
Based upon this evaluation, our principal executive officer and principal financial officer
have concluded that our disclosure controls and procedures were not effective due to the following
material weakness which was identified in our 2010 Annual Report and which remains in existence as
of the date of this report:
Our management oversight and review procedures designed to monitor the accuracy of period-end
accounting activities were ineffective. Specifically, project accounting controls were not
adequate to ensure charges to capital projects were appropriate or that projects were closed
in a timely manner. Furthermore, procedures for the review of our income tax provision and
supporting schedules were not adequate to identify and correct errors in a timely manner.
Our management has completed a number of steps designed to remediate this issue as discussed
below. Management expects that the actions taken to date and additional actions planned will
remediate the above referenced material weakness.
We are committed to continuing to improve our internal control processes and will continue to
review our financial reporting controls and procedures. As we continue to evaluate and work to
improve our internal control over financial reporting, we may identify additional measures to
address this material weakness or other deficiencies. Our management, with the oversight of the
audit committee of our board of directors, will continue to assess and take steps to enhance the
overall design and capability of our control environment in the future.
Changes in Internal Control Over Financial Reporting
Our management is responsible for establishing and maintaining adequate internal control over
financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) of the Exchange Act). Internal
control over financial reporting is a process designed by, or under the supervision of, our
principal executive officer and principal financial officer, and effected by our board of
directors, management and other personnel, to provide reasonable assurance regarding the
reliability of financial reporting and the preparation of financial statements for external
purposes in accordance with GAAP.
The material weakness identified in our 2010 Annual Report relating to information technology
general controls has been remediated. To resolve that issue, the following improvements were
implemented:
| Implemented formal change management processes governing approval, testing and
implementation of system and application changes; |
||
| Restricted access to the privileged system account for our retail billing system; |
||
| Restricted access to shared administrator accounts to individuals with a valid business
need for accessing those accounts; and |
||
| Revised access to human resource, general ledger, accounts receivable, accounts payable,
enterprise asset management, fixed assets, inventory, purchase order and payroll functions
within the Oracle system to eliminate certain segregation of duties issues. |
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Steps
taken during 2011 to remediate the remaining material weakness described above, and further described
in our 2010 Annual Report, include:
| Enhancing the reconciliation procedures for various accounts, including the
wholesale and retail accounts receivable reconciliations; |
||
| Implementing an account reconciliation software application to facilitate execution and
management monitoring of account reconciliations; |
||
| Implementing upfront system edits and automated feed of project data between the
engineering project management system used for outside plant projects and the Oracle project
accounting system; and |
||
| Streamlining the process for preparation of the quarterly income tax provision. |
We continue to refine our processes to improve control and process effectiveness and
efficiency. Such process refinements have been applied to virtually all processes for the Northern
New England operations, including information technology, order provisioning, customer billing,
payment processing, credit and collections, inventory management, accounts payable, payroll, human
resource administration, tax and general ledger accounting.
With the exception of the foregoing, there have been no changes in our internal control over
financial reporting during the quarter ended September 30, 2011 that have materially affected or
are reasonably likely to materially affect our internal control over financial reporting.
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PART IIOTHER INFORMATION
Item 1. Legal Proceedings.
From time to time, we are involved in litigation and regulatory proceedings arising out of our
operations. With the exception of the Chapter 11 Cases, management believes that we are not
currently a party to any legal or regulatory proceedings, the adverse outcome of which,
individually or in the aggregate, would have a material adverse effect on our financial position or
results of operations.
Item 1A. Risk Factors.
During the quarter ended September 30, 2011, there were no material changes to the risk
factors disclosed in Item 1A. Risk Factors of the 2010 Annual Report and in Item 1A. Risk
Factors of our Quarterly Report on Form 10-Q for the quarter ended June 30, 2011.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.
During the quarter ended September 30, 2011, pursuant to the Plan, the Company issued (i) 275
shares of New Common Stock in the aggregate to holders of FairPoint Communications Unsecured
Claims, and (ii) Warrants to purchase an aggregate of 468 shares of New Common Stock, subject to
adjustment upon the occurrence of certain events described in the Warrant Agreement.
Based on the Confirmation Order, the Company relied on Section 1145(a)(1) of the Bankruptcy
Code to issue the new securities described above.
Item 3. Defaults Upon Senior Securities.
Not applicable.
Item 4. (Removed and Reserved).
Item 5. Other Information.
Not applicable.
Item 6. Exhibits.
The exhibits filed as part of this Quarterly 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 Quarterly Report to be signed on its behalf by the
undersigned, thereunto duly authorized, and the undersigned also has signed this Quarterly
Report in his capacity as the Registrants Executive Vice President and Chief Financial Officer
(Principal Financial Officer).
FairPoint Communications, Inc. |
||||
Date: November 7, 2011 | By: | /s/ Ajay Sabherwal | ||
Name: | Ajay Sabherwal | |||
Title: | Executive Vice President and Chief Financial Officer |
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Exhibit Index
Exhibit No. | Description | |
2.1
|
Third Amended Joint Plan of Reorganization Under Chapter 11 of the Bankruptcy Code.(1) |
|
3.1
|
Ninth Amended and Restated Certificate of Incorporation of FairPoint.(2) |
|
3.2
|
Second Amended and Restated By Laws of FairPoint.(2) |
|
4.1
|
Warrant Agreement, dated as of January 24, 2011, by and between FairPoint and The Bank
of New York Mellon.(3) |
|
4.2
|
Specimen Stock Certificate.(2) |
|
4.3
|
Specimen Warrant Certificate.(3) |
|
10.1
|
Credit Agreement, dated as of January 24, 2011, by and among FairPoint, FairPoint
Logistics, Bank of America, N.A., as administrative agent, the other lenders party
thereto and Banc of America Securities LLC, as sole lead arranger and sole book
manager.(3) |
|
10.2
|
Pledge Agreement, dated as of January 24, 2011, made by the pledgors party thereto in
favor of Bank of America, N.A. as administrative agent, for the benefit of certain
secured parties.(3) |
|
10.3
|
Security Agreement, dated as of January 24, 2011, by and among FairPoint, FairPoint
Logistics, the subsidiaries of FairPoint party thereto and Bank of America, N.A., as
administrative agent.(3) |
|
10.4
|
Continuing Guaranty Agreement, dated as of January 24, 2011, made by and among the
guarantors party thereto in favor of Bank of America, N.A., as administrative agent, for
the benefit of certain secured parties.(3) |
|
10.5
|
Registration Rights Agreement, dated as of January 24, 2011, by and between FairPoint
Communications, Inc. and Angelo, Gordon & Co., L.P.(3) |
|
10.6
|
FairPoint Litigation Trust Agreement, dated as of January 24, 2011.(3) |
|
10.7
|
Form of Director Indemnity Agreement.(4) |
|
10.8
|
Amended and Restated Tax Sharing Agreement, dated as of November 9, 2000, by and among
FairPoint and its Subsidiaries.(5) |
|
10.9
|
Employment Agreement, dated as of August 16, 2010, by and between FairPoint and Paul H.
Sunu.(6) |
|
10.10
|
Consulting Agreement, dated as of August 16, 2010, by and between FairPoint and David L.
Hauser.(6) |
|
10.11
|
Change in Control and Severance Agreement, dated as of March 14, 2007, by and between
FairPoint and Peter G. Nixon.(7) |
|
10.12
|
Change in Control and Severance Agreement, dated as of March 14, 2007, by and between
FairPoint and Shirley J. Linn.(7) |
|
10.13
|
Change in Control and Severance Agreement, dated as of September 3, 2008, by and between
FairPoint and Ajay Sabherwal.(6) |
|
10.14
|
FairPoint Communications, Inc. 2010 Long Term Incentive Plan.(1) |
|
10.15
|
FairPoint Communications, Inc. 2010 Success Bonus Plan.(1) |
|
10.16
|
Form of Restricted Share Award AgreementFairPoint Communications, Inc. 2010 Long Term
Incentive Plan.(1) |
|
10.17
|
Stipulation filed with the Maine Public Utilities Commission, dated December 12, 2007.(8) |
|
10.18
|
Amended Stipulation filed with the Maine Public Utilities Commission dated December 21,
2007(9) |
|
10.19
|
Stipulation filed with the Vermont Public Service Board, dated January 8, 2008.(10) |
|
10.20
|
Stipulation filed with the New Hampshire Public Utilities Commission, dated January 23,
2008.(11) |
|
10.21
|
Letter Agreement, dated as of March 30, 2008, by and between the Staff of the New
Hampshire Public Utilities Commission and Verizon Communications Inc.(9) |
|
10.22
|
Letter, dated as of May 12, 2009, from the Staff of the New Hampshire Public Utilities
Commission to FairPoint.(12) |
|
10.23
|
Post Filing Regulatory SettlementNew Hampshire, dated as of February 5, 2010, by and
between FairPoint and New Hampshire Public Utilities Commission Staff Advocates.(1) |
|
10.24
|
Post Filing Regulatory SettlementMaine, dated as of February 9, 2010, by and among
FairPoint, Maine Public Utilities Commission and Maine Office of the Public Advocate.(1) |
|
10.25
|
Post Filing Regulatory SettlementVermont, dated as of February 5, 2010, by and between
FairPoint and Vermont Department of Public Service.(1) |
|
10.26
|
Employment Agreement, dated as of July 1, 2011, by and between FairPoint and Kathleen
McLean.(16) |
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Exhibit No. | Description | |
10.27
|
Employment Agreement, dated as of July 1, 2011, by and between FairPoint and Kenneth W.
Amburn. (16) |
|
11
|
Statement Regarding Computation of Per Share Earnings (included in the financial
statements contained in this Quarterly Report). |
|
21
|
Subsidiaries of
FairPoint.(16) |
|
31.1
|
Certification as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.* |
|
31.2
|
Certification as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.* |
|
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
|
Order Confirming Debtors Third Amended Joint Plan of Reorganization Under Chapter 11 of
the Bankruptcy Code, dated as of December 29, 2010.(1) |
|
99.2
|
Order of the Maine Public Utilities Commission, dated February 1, 2008.(13) |
|
99.3
|
Order of the Vermont Public Service Board, dated February 15, 2008.(14) |
|
99.4
|
Order of the New Hampshire Public Utilities Commission, dated February 25, 2008.(15) |
|
101.INS
|
XBRL Instance Document.** |
|
101.SCH
|
XBRL Taxonomy Extension Schema Document.** |
|
101.CAL
|
XBRL Taxonomy Extension Calculation Linkbase Document.** |
|
101.DEF
|
XBRL Taxonomy Extension Definition Linkbase Document.** |
|
101.LAB
|
XBRL Taxonomy Extension Label Linkbase Document.** |
|
101.PRE
|
XBRL Taxonomy Extension Presentation Linkbase Document.** |
* | Filed herewith. |
Indicates a management contract or compensatory plan or arrangement.
Pursuant to SEC Release No. 33-8238, this certification will be treated as accompanying this
Quarterly Report on Form 10-Q and not filed as part of such report for purposes of Section 18 of
the Exchange Act, or otherwise subject to the liability of Section 18 of the Exchange Act and this
certification will not be deemed to be incorporated by reference into any filing under the
Securities Act or the Exchange Act, except to the extent that the registrant specifically
incorporates it by reference.
** Pursuant to Rule 406T of Regulation S-T, this interactive data file is deemed not filed or part
of a registration statement or prospectus for purposes of Sections 11 or 12 of the Securities Act
of 1933, is deemed not filed for purposes of section 18 of the Securities Exchange Act of 1934, and
otherwise is not subject to liability under these sections.
(1) Incorporated by reference to the Current Report on Form 8-K of FairPoint filed on January 14,
2011.
(2) Incorporated by reference to the Registration Statement on Form 8-A of FairPoint filed on
January 24, 2011.
(3) Incorporated by reference to the Current Report on Form 8-K of FairPoint filed on January 25,
2011, Film Number 11544980.
(4) Incorporated by reference to the Current Report on Form 8-K of FairPoint filed on January 25,
2011, Film Number 11544991.
(5) Incorporated by reference to the Quarterly Report on Form 10-Q of FairPoint for the period ended
September 30, 2000.
(6) Incorporated by reference to the Quarterly Report on Form 10-Q of FairPoint for the period ended
September 30, 2010.
(7) Incorporated by reference to the Current Report on Form 8-K of FairPoint filed on March 19,
2007.
(8) Incorporated by reference to the Current Report on Form 8-K of FairPoint filed on December 13,
2007.
(9) Incorporated by reference to the Current Report on Form 8-K of FairPoint filed on April 3, 2008.
(10) Incorporated by reference to the Current Report on Form 8-K of FairPoint filed on January 8,
2008.
(11) Incorporated by reference to the Current Report on Form 8-K of FairPoint filed on January 24,
2008.
(12) Incorporated by reference to the Quarterly Report on Form 10-Q of FairPoint for the period
ended June 30, 2009.
(13) Incorporated by reference to the Current Report on Form 8-K of FairPoint filed on February 6,
2008.
(14) Incorporated by reference to the Current Report on Form 8-K of FairPoint filed on February 21,
2008.
(15) Incorporated by reference to the Current Report on Form 8-K of FairPoint filed on February 25,
2008.
(16) Incorporated by reference to the Quarterly Report on Form 10-Q of FairPoint for the period
ended June 30, 2011.
72