UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, DC 20549

 

FORM 10-Q/A

 

(AMENDMENT NO.1)

 

(Mark One)

ý

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

 

FOR THE QUARTERLY PERIOD ENDED September 30, 2003 OR

 

 

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   0-13721

 

HICKORY TECH CORPORATION

(Exact name of registrant as specified in its charter)

 

Minnesota

 

41-1524393

(State or other jurisdiction of
incorporation or organization)

 

(I.R.S. Employer
Identification No.)

 

 

 

221 East Hickory Street

Mankato, Minnesota 56002-3248

(Address of principal executive offices and zip code)

 

 

 

(800) 326-5789

(Registrant’s telephone number, including area code)

 

 

 

 

 

 

(Former name, former address and former fiscal year, if changed since last report)

 

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  ý      No  o

 

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

 

The total number of shares of the registrant’s common stock outstanding as of September 30, 2003: 13,997,543.

 

 



 

EXPLANATORY NOTE

 

Hickory Tech Corporation (the “Company”) is filing this Amendment No. 1 to its Quarterly Report on Form 10-Q for the quarter ended September 30, 2003, originally filed November 14, 2003 (the “Form 10-Q”), solely to amend specific items of the Form 10-Q to reflect a $7,415,000 reduction in the amount of the deferred income tax benefit related to the loss on disposal previously reported in the third quarter of fiscal 2003. This revision increased the previously reported third quarter loss from discontinued operations by $7,415,000, and correspondingly reduced long-term deferred income tax assets by $5,211,000 and increased long-term deferred income tax liabilities by $2,204,000, both at September 30, 2003. The revision increased each of the previously reported basic and diluted loss per share amounts from discontinued operations for the three and nine months ended September 30, 2003 by $0.53 and the net income per share amounts for the three and nine month periods by $0.53. However, the revision had no effect on the Company’s previously reported revenue, operating income, income from continuing operations (and related per share amounts) or cash flows. This Amendment No. 1 amends only portions of the Form 10-Q; the remainder of the Form 10-Q is unchanged and is not reproduced in this Amendment No. 1. This Amendment No. 1 does not reflect events occurring after the original filing of the Form 10-Q.

 

This Amendment No. 1 contains changes to the following disclosures:

 

      Part I - Item 1. Financial Statements (Unaudited)

 

      Part I - Item 2. Management’s Discussion and Analysis of Results of Operations and Financial Condition

 

1



 

HICKORY TECH CORPORATION

September 30, 2003

PART I. FINANCIAL INFORMATION

ITEM 1.   FINANCIAL STATEMENTS.

CONSOLIDATED STATEMENTS OF OPERATIONS

(UNAUDITED)

 

 

 

For Quarter Ended

 

For Nine Months Ended

 

(In Thousands Except Per Share Amounts)

 

9/30/2003

 

9/30/2002

 

9/30/2003

 

9/30/2002

 

 

 

Restated (Note 1)

 

 

 

Restated (Note 1)

 

 

 

OPERATING REVENUES:

 

 

 

 

 

 

 

 

 

Telecom Sector

 

$

18,810

 

$

18,100

 

$

56,058

 

$

52,857

 

Information Solutions Sector

 

702

 

981

 

2,609

 

3,064

 

Enterprise Solutions Sector

 

3,565

 

5,257

 

10,859

 

11,655

 

TOTAL OPERATING REVENUES

 

23,077

 

24,338

 

69,526

 

67,576

 

COSTS AND EXPENSES:

 

 

 

 

 

 

 

 

 

Cost of Sales, Enterprise Solutions

 

2,606

 

3,688

 

7,675

 

7,905

 

Operating Expenses, excluding Depreciation and Amortization

 

11,475

 

12,557

 

35,242

 

35,651

 

Depreciation

 

3,780

 

3,448

 

11,013

 

10,085

 

Amortization of Intangibles

 

236

 

336

 

761

 

989

 

TOTAL COSTS AND EXPENSES

 

18,097

 

20,029

 

54,691

 

54,630

 

OPERATING INCOME

 

4,980

 

4,309

 

14,835

 

12,946

 

OTHER INCOME (EXPENSE):

 

 

 

 

 

 

 

 

 

Equity in Net Income/(Loss) of Investees

 

1

 

(29

)

(4

)

(27

)

Interest and Other Income

 

10

 

66

 

35

 

138

 

Interest Expense

 

(1,579

)

(1,752

)

(4,624

)

(5,566

)

TOTAL OTHER INCOME (EXPENSE)

 

(1,568

)

(1,715

)

(4,593

)

(5,455

)

 

 

 

 

 

 

 

 

 

 

INCOME BEFORE INCOME TAXES

 

3,412

 

2,594

 

10,242

 

7,491

 

INCOME TAXES

 

1,395

 

1,060

 

4,186

 

3,061

 

INCOME FROM CONTINUING OPERATIONS

 

2,017

 

1,534

 

6,056

 

4,430

 

DISCONTINUED OPERATIONS (Note 4)

 

 

 

 

 

 

 

 

 

Income (Loss) from operations of discont. component, including loss of the disposal of $25,345,000 in 2003

 

(24,873

)

949

 

(23,487

)

2,637

 

Income Taxes (Benefit)

 

(2,783

)

389

 

(2,215

)

1,081

 

INCOME (LOSS) ON DISCONT. OPERATIONS

 

(22,090

)

560

 

(21,272

)

1,556

 

NET INCOME (LOSS)

 

$

(20,073

)

$

2,094

 

$

(15,216

)

$

5,986

 

 

 

 

 

 

 

 

 

 

 

Basic Earnings Per Share - Continuing Operations

 

$

0.14

 

$

0.11

 

$

0.43

 

$

0.32

 

Basic Earnings Per Share - Discontinued Operations

 

(1.58

)

0.04

 

(1.52

)

0.11

 

 

 

$

(1.44

)

$

0.15

 

$

(1.09

)

$

0.43

 

Dividends Per Share

 

$

0.11

 

$

0.11

 

$

0.33

 

$

0.33

 

Weighted Average Common Shares Outstanding

 

13,974

 

14,059

 

13,973

 

14,009

 

Diluted Earnings Per Share - Continuing Operations

 

$

0.14

 

$

0.11

 

$

0.43

 

$

0.32

 

Diluted Earnings Per Share - Discontinued Operations

 

(1.58

)

0.04

 

(1.52

)

0.11

 

 

 

$

(1.44

)

$

0.15

 

$

(1.09

)

$

0.43

 

Weighted Average Common and Equivalent Shares Outstanding

 

14,024

 

14,117

 

14,031

 

14,093

 

 

The accompanying notes are an integral part of the consolidated financial statements.

 

2



 

HICKORY TECH CORPORATION

September 30, 2003

CONSOLIDATED BALANCE SHEETS

(UNAUDITED)

 

(In Thousands Except Share and Per Share Amounts)

 

9/30/2003

 

12/31/2002

 

 

 

Restated (Note 1)

 

 

 

ASSETS

 

 

 

 

 

CURRENT ASSETS:

 

 

 

 

 

Cash and Cash Equivalents

 

$

880

 

$

1,874

 

Receivables, Net of Allowance for Doubtful Accounts of $1,201 and $1,358

 

10,343

 

11,056

 

Income Taxes Receivable

 

 

3,222

 

Costs in Excess of Billings on Contracts

 

839

 

2,107

 

Inventories

 

4,825

 

5,059

 

Deferred Income Taxes

 

951

 

951

 

Other

 

2,534

 

2,840

 

Assets Held for Sale

 

2,181

 

 

TOTAL CURRENT ASSETS

 

22,553

 

27,109

 

INVESTMENTS

 

6,741

 

10,517

 

PROPERTY, PLANT AND EQUIPMENT

 

224,482

 

247,375

 

Less ACCUMULATED DEPRECIATION

 

112,807

 

111,101

 

PROPERTY, PLANT AND EQUIPMENT, NET

 

111,675

 

136,274

 

OTHER ASSETS:

 

 

 

 

 

Goodwill

 

25,086

 

25,086

 

Intangible Assets, Net

 

507

 

34,669

 

Financial Derivative Instrument

 

1,961

 

 

Deferred Costs and Other

 

4,945

 

6,556

 

Assets Held for Sale

 

27,481

 

 

TOTAL OTHER ASSETS

 

59,980

 

66,311

 

TOTAL ASSETS

 

$

200,949

 

$

240,211

 

LIABILITIES & SHAREHOLDERS’ EQUITY

 

 

 

 

 

CURRENT LIABILITIES:

 

 

 

 

 

Accounts Payable

 

$

2,608

 

$

4,543

 

Accrued Expenses

 

2,495

 

3,719

 

Accrued Interest

 

60

 

512

 

Accrued Income Taxes

 

1,576

 

 

Billings in Excess of Costs on Contracts

 

275

 

80

 

Advanced Billings and Deposits

 

2,846

 

3,741

 

Liabilities Held for Sale

 

1,568

 

 

Current Maturities of Long-Term Obligations

 

1,482

 

1,441

 

TOTAL CURRENT LIABILITIES

 

12,910

 

14,036

 

LONG-TERM OBLIGATIONS, Net of Current Maturities

 

140,096

 

157,599

 

LONG-TERM LIABILITIES HELD FOR SALE

 

31

 

 

DEFERRED INCOME TAXES

 

2,204

 

4,377

 

DEFERRED REVENUE AND BENEFITS

 

5,766

 

5,604

 

TOTAL LIABILITIES

 

161,007

 

181,616

 

COMMITMENTS AND CONTINGENCIES (Note 9)

 

 

 

SHAREHOLDERS’ EQUITY:

 

 

 

 

 

Common Stock, no par value, $.10 stated value

 

 

 

 

 

Shares authorized: 100,000,000

 

 

 

 

 

Shares outstanding: 13,997,543 in 2003 and 13,983,929 in 2002

 

1,400

 

1,398

 

Additional Paid-In Capital

 

8,519

 

7,885

 

Retained Earnings

 

28,866

 

49,312

 

Accumulated Other Comprehensive Income

 

1,157

 

 

TOTAL SHAREHOLDERS’ EQUITY

 

39,942

 

58,595

 

TOTAL LIABILITIES & SHAREHOLDERS’ EQUITY

 

$

200,949

 

$

240,211

 

 

The accompanying notes are an integral part of the consolidated financial statements.

 

3



HICKORY TECH CORPORATION

September 30, 2003

 

CONSOLIDATED STATEMENTS OF CASH FLOWS

(UNAUDITED)

 

 

 

For Nine Months Ended

 

(Dollars In Thousands)

 

9/30/2003

 

9/30/2002

 

 

 

Restated (Note 1)

 

 

 

CASH FLOWS FROM OPERATING ACTIVITIES:

 

 

 

 

 

Net Income (Loss)

 

$

(15,216

)

$

5,986

 

Adjustments to Reconcile Net Income (Loss) to Net Cash Provided by Operating Activities:

 

 

 

 

 

Depreciation and Amortization

 

13,545

 

12,918

 

Intangible Asset Impairment

 

21,000

 

 

Long-Lived Asset Impairment

 

4,345

 

 

(Gain) on Sale of Assets

 

(2

)

 

Loss on Disposal of Assets

 

632

 

 

Deferred Income Taxes

 

(2,976

)

 

Stock-Based Compensation

 

234

 

701

 

Employee Retirement Benefits and Deferred Compensation

 

242

 

460

 

Accrued Patronage Refunds

 

(443

)

(589

)

Equity in Net (Income) Loss of Investees

 

4

 

27

 

Provision for Losses on Accounts Receivable

 

601

 

2,218

 

Changes in Operating Assets and Liabilities:

 

 

 

 

 

Receivables

 

3,180

 

1,365

 

Inventories

 

(69

)

(124

)

Billings and Costs on Contracts

 

1,462

 

(53

)

Accounts Payable and Accrued Expenses

 

(2,787

)

(116

)

Advance Billings and Deposits

 

(152

)

230

 

Deferred Revenue and Benefits

 

(49

)

28

 

Other

 

1,253

 

(226

)

Net Cash Provided By Operating Activities

 

24,804

 

22,825

 

 

 

 

 

 

 

CASH FLOWS FROM INVESTING ACTIVITIES:

 

 

 

 

 

Additions to Property, Plant and Equipment

 

(7,532

)

(12,222

)

Redemption of Investments

 

4,100

 

100

 

Proceeds from Sale of Assets

 

97

 

243

 

Net Cash Used In Investing Activities

 

(3,335

)

(11,879

)

 

 

 

 

 

 

CASH FLOWS FROM FINANCING ACTIVITIES:

 

 

 

 

 

Payments of Capital Lease Obligations

 

(385

)

(329

)

Repayments on Credit Facility

 

(18,500

)

(10,950

)

Borrowings on Credit Facility

 

1,250

 

2,200

 

Proceeds from Issuance of Common Stock

 

628

 

952

 

Dividends Paid

 

(4,610

)

(4,438

)

Stock Repurchase

 

(846

)

 

Net Cash Used In Financing Activities

 

(22,463

)

(12,565

)

NET DECREASE IN CASH AND CASH EQUIVALENTS

 

(994

)

(1,619

)

 

 

 

 

 

 

CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD

 

1,874

 

2,008

 

 

 

 

 

 

 

CASH AND CASH EQUIVALENTS AT END OF PERIOD

 

$

880

 

$

389

 

 

 

 

 

 

 

SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:

 

 

 

 

 

Cash Paid for Interest

 

$

5,355

 

$

5,845

 

Cash Paid for Income Taxes, Net of Tax Refunds of $1,600 and $307

 

$

150

 

$

(47

)

NON-CASH INVESTING ACTIVITIES:

 

 

 

 

 

Property, Plant and Equipment Acquired with Capital Leases

 

$

173

 

$

492

 

 

The accompanying notes are an integral part of the consolidated financial statements.

 

4



 

HICKORY TECH CORPORATION

SEPTEMBER 30, 2003

PART 1. FINANCIAL INFORMATION

 

 

ITEM 1.   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

NOTE 1. BASIS OF PRESENTATION

 

Basis of Presentation:

 

The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information necessary for a fair presentation of results of operations, financial position, and cash flows in conformity with accounting principles generally accepted in the United States of America. In the opinion of management, the condensed consolidated financial statements reflect all adjustments (consisting only of normal recurring adjustments) considered necessary for a fair presentation of Hickory Tech Corporation’s (HickoryTech) results for the periods presented. Operating results for interim periods are not necessarily indicative of results that may be expected for the fiscal year as a whole. The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues, expenses, and related disclosures at the date of the financial statements and during the reporting period. Actual results could differ from these estimates. These unaudited interim condensed consolidated financial statements should be read in conjunction with HickoryTech’s Annual Report on Form 10-K for the year ended December 31, 2002.

 

The consolidated financial statements of HickoryTech include Hickory Tech Corporation and its subsidiaries in the following three business segments: (i) Telecom Sector, (ii) Information Solutions Sector and (iii) Enterprise Solutions Sector. An investment in an unconsolidated partnership for the Information Solutions Sector is accounted for using the equity method. The operations of this partnership ended during the second quarter of 2003 with dissolution to follow later in 2003. No material wind-down costs are anticipated. All inter-company transactions have been eliminated from the consolidated financial statements.

 

Reclassifications:

 

Certain reclassifications were made to the financial statements as of and for the three and nine months ended September 30, 2002 to conform to the 2003 presentation. These reclassifications did not change previously reported net income (loss), shareholders’ equity or cash flows.

 

Operating Expenses:

 

Operating expenses include all costs related to delivery of HickoryTech’s communications services and products. These costs include all selling, general and administrative costs and all costs of performing services and providing related products, except for costs associated with the depreciation and amortization of property, plant and equipment and intangible assets, and cost of sales for the Enterprise Solutions Sector.

 

Discontinued Operations:

 

On September 18, 2003, HickoryTech executed a definitive agreement to sell the stock of its wireless business, Minnesota Southern Wireless Company (MSWC), to Western Wireless Corporation (WWC). The wireless operations are reported as part of the Telecom Sector. The results of operations of the wireless business are reported as discontinued operations for all periods presented (see Note 4).

 

5



 

Restatement of Loss from Discontinued Operations:

 

Hickory Tech has restated its unaudited consolidated financial statements to reflect a $7,415,000 reduction in the amount of the deferred income tax benefit related to the loss on disposal previously reported in the third quarter of fiscal 2003 (see Note 4). This revision increased the previously reported third quarter loss from discontinued operations by $7,415,000, and correspondingly reduced long-term deferred income tax assets by $5,211,000 and increased long-term deferred income tax liabilities by $2,204,000, both at September 30, 2003. The revision increased each of the previously reported basic and diluted loss per share amounts from discontinued operations for the three and nine months ended September 30, 2003 by $0.53 and the net income per share amounts for the three and nine month periods by $0.53. However, the revision had no effect on the Company's previously reported revenue, operating income, income from continuing operations (and related per share amounts), or cash flows. The Company has made the appropriate modifications to the balance sheet at September 30, 2003 and the statements of operations and cash flows for the three and nine month periods ended September 30, 2003 to give effect to these revisions. The table below summarizes the effect of the revisions.

 

 

 

For Quarter Ended

 

For Nine Months Ended

 

(In Thousands except per Share Amounts)

 

9/30/2003

 

9/30/2003

 

9/30/2003

 

9/30/2003

 

 

 

As Reported

 

As Restated

 

As Reported

 

As Reported

 

Discontinued Operations

 

 

 

 

 

 

 

 

 

Income(Loss) from Discontinued Operations

 

$

(24,873

)

$

(24,873

)

$

(23,487

)

$

(23,487

)

Income Tax (Benefit)

 

(10,198

)

(2,783

)

(9,630

)

(2,215

)

Income (Loss) from Discontinued Operations

 

(14,675

)

(22,090

)

(13,857

)

(21,272

)

 

 

 

 

 

 

 

 

 

 

Net Income (Loss)

 

$

(12,658

)

$

(20,073

)

$

(7,801

)

$

(15,216

)

 

 

 

 

 

 

 

 

 

 

Basic Earnings Per Share - Continuing Operations

 

$

0.14

 

$

0.14

 

$

0.43

 

$

0.43

 

Basic Earnings Per Share - Discontinued Operations

 

(1.05

)

(1.58

)

(0.99

)

(1.52

)

 

 

$

 (0.91

)

$

 (1.44

)

$

 (0.56

)

$

 (1.09

)

 

 

 

 

 

 

 

 

 

 

Diluted Earnings Per Share - Continuing Operations

 

$

0.14

 

$

0.14

 

$

0.43

 

$

0.43

 

Diluted Earnings Per Share - Discontinued Operations

 

(1.05

)

(1.58

)

(0.99

)

(1.52

)

 

 

$

(0.91

)

$

(1.44

)

$

(0.56

)

$

(1.09

)

 

 

 

 

9/30/2003

 

 

 

As Reported

 

As Restated

 

 

 

 

 

 

 

ASSETS

 

 

 

 

 

Deferred Income Taxes

 

$

5,211

 

$

 

Total Other Assets

 

$

65,191

 

$

59,980

 

Total Assets

 

$

206,160

 

$

200,949

 

 

 

 

 

 

 

LIABILITIES

 

 

 

 

 

Deferred Income Taxes

 

$

 

$

2,204

 

Total Liabilities

 

$

158,803

 

$

161,007

 

 

 

 

 

 

 

STOCKHOLDERS' EQUITY

 

 

 

 

 

Retained Earnings

 

$

36,281

 

$

28,866

 

Total Shareholders' Equity

 

$

47,357

 

$

39,942

 

Total Liabilities and Shareholders' Equity

 

$

206,160

 

$

200,949

 

 

6



 

NOTE 2. EARNINGS AND CASH DIVIDENDS PER COMMON SHARE

 

Basic earnings per share is computed by dividing net income by the weighted average number of shares of common stock outstanding during the applicable period. Shares used in the earnings per share assuming dilution calculation are based on the weighted average number of shares of common stock outstanding during the quarter increased by potentially dilutive common shares. Potentially dilutive common shares include stock options and stock subscribed under the employee stock purchase plan (ESPP).

 

 

 

For Three Months Ended

 

For Nine Months Ended

 

 

 

9/30/2003

 

9/30/2002

 

9/30/2003

 

9/30/2002

 

Weighted Average Shares Outstanding

 

13,973,920

 

14,058,750

 

13,972,741

 

14,008,985

 

Stock Options (dilutive only)

 

32,952

 

42,885

 

41,236

 

68,996

 

Weighted Average Stock Subscribed (ESPP)

 

17,347

 

15,692

 

16,885

 

14,951

 

Weighted Average Dilutive Shares Outstanding

 

14,024,219

 

14,117,327

 

14,030,862

 

14,092,932

 

 

Options to purchase 408,883 and 117,150 shares for the three months ended September 30, 2003 and 2002, respectively and 112,950 and 76,650 shares for the nine months ended September 30, 2003 and 2002, respectively, were not included in the computation of earnings per share assuming dilution calculation because their effect on earnings per share would have been antidilutive.

 

Cash dividends are based on the number of common shares outstanding at the respective record dates. Listed below is the number of shares outstanding as of the record date for the first three quarters of 2003 and 2002.

 

Shares Outstanding on Record Date

 

2003

 

2002

 

First Quarter (Feb. 15)

 

14,003,335

 

13,971,484

 

Second Quarter (May 15)

 

13,942,662

 

14,007,250

 

Third Quarter (August 15)

 

13,962,261

 

14,049,776

 

 

Dividends per share are based on the quarterly dividend per share as declared by the HickoryTech Board of Directors.

 

During the first nine months of 2003 and 2002, shareholders have elected to reinvest $202,000 and $185,000, respectively, of dividends into HickoryTech common stock pursuant to the HickoryTech Dividend Reinvestment Plan.

 

NOTE 3. COMPREHENSIVE INCOME - RESTATED (NOTE 1)

 

HickoryTech follows the provisions of SFAS No. 130, “Reporting Comprehensive Income.” This statement established rules for the reporting of comprehensive income and its components. In addition to net income (loss), HickoryTech’s comprehensive income includes changes in unrealized gains and losses on derivative instruments qualifying and designated as cash flow hedges. Comprehensive income (loss) for the three months ended September 30, 2003 and September 30, 2002 was ($19,497,000) and $2,094,000, respectively. Comprehensive income (loss) for the nine months ended September 30, 2003 and September 30, 2002 was ($14,059,000) and $5,986,000, respectively.

 

7



 

NOTE 4. DISCONTINUED OPERATIONS - RESTATED (NOTE 1)

 

On September 18, 2003, HickoryTech executed a definitive agreement to sell the stock of its wireless business, Minnesota Southern Wireless Company (MSWC), to Western Wireless Corporation (WWC), for $25,000,000, subject to working capital and construction in progress adjustments to be determined at closing. The selling price is comprised of approximately one million shares of HickoryTech common stock to be returned to HickoryTech by WWC, and  $12,800,000 in cash. The market value of these shares was approximately $12,200,000 as of September 30, 2003.  The final fair market value of this stock consideration will be measured by the Company on the closing date of the sale.  HickoryTech will retire the shares of HickoryTech stock currently owned by WWC. The transaction is expected to close in the fourth quarter of 2003, subject to approval of the Federal Communications Commission and satisfaction of various other closing conditions. The wireless operations are reported as part of the Telecom Sector. The condensed consolidated statements of operations for all periods presented have been restated to reflect wireless operations as discontinued operations.

 

In connection with the determination by management in the third quarter of 2003 that it would pursue the sale of its wireless operations and that the purchase price would likely be less than the current carrying value of the wireless net assets, the Company completed an impairment test in the third quarter of 2003 for the FCC licenses pursuant to the requirements of SFAS No. 142, “Goodwill and Other Intangible Assets.” Management estimated the fair value of the FCC licenses using a discounted cash flow technique consistent with the method used by the Company in performing its most recent impairment analysis at December 31, 2002. As a result of this assessment, management determined that the FCC licenses were impaired and recorded an impairment charge of approximately $21 million ($18,638,000 after-tax), in the third quarter of 2003. This impairment charge is recorded as a component of the loss on discontinued operations on HickoryTech’s condensed consolidated statement of operations for the quarter ended September 30, 2003. HickoryTech believes that the decline in the fair value of its FCC licenses is due principally to the rapid pace of technological change being undertaken by the major wireless service providers to adopt new protocols (i.e. GSM or CDMA) and potentially move away from HickoryTech’s current primary protocol called TDMA, which has greatly hindered HickoryTech’s position in finding a future roaming partner. Other factors include declining roaming revenues, increasing price competition, and the protracted downturn in the telecommunications market. The FCC licenses were tested for impairment on an aggregate basis, which is consistent with HickoryTech’s management of the wireless business.

 

As a result of the Company’s commitment to sell the wireless business, the Company made a determination during the third quarter of 2003 that the remaining assets of the wireless operations should be considered “held for sale” pursuant to SFAS No. 144, “Accounting for Impairment or Disposal of Long-Lived Assets,” (SFAS No. 144). Pursuant to SFAS No. 144 the Company recorded an impairment charge during the third quarter of 2003 related to the other long-lived assets of the wireless business of $4,345,000 ($3,856,000 after tax). This charge is also recorded as a component of the loss on discontinued operations on HickoryTech’s condensed consolidated statement of operations for the quarter ended September 30, 2003. As of September 30, 2003, the carrying value of the remaining net assets of the wireless business is equal to its estimated selling price less the costs to sell it. The carrying value of the wireless assets and the related loss on discontinued operations is subject to adjustment to the extent that the fair market value of the HickoryTech shares to be received upon closing of the sale is higher or lower than the September 30, 2003 fair market value of the shares, or to the extent that actual costs to sell the wireless business are higher or lower than estimated. 

 

Wireless business revenue and income before income taxes included in discontinued operations are as follows:

 

(Dollars in Thousands)

 

For Three Months Ended

 

For Nine Months Ended

 

 

 

9/30/2003

 

9/30/2002

 

9/30/2003

 

9/30/2002

 

Revenues

 

$

4,009

 

$

4,374

 

$

11,370

 

$

11,739

 

 

 

 

 

 

 

 

 

 

 

Income (Loss) Before Income Taxes

 

$

(24,873

)

$

949

 

$

(23,487

)

$

2,637

 

 

8



 

The carrying amounts and major classes of the assets and liabilities, which are presented as assets and liabilities held for sale in the accompanying balance sheet as of September 30, 2003 are as follow:

 

(Dollars in Thousands)

 

 

 

Current Assets Held for Sale:

 

 

 

Accounts Receivable

 

$

1,729

 

Inventories

 

304

 

Other

 

148

 

Total

 

$

2,181

 

Long-Term Assets Held for Sale:

 

 

 

Property, Plant and Equipment

 

$

14,449

 

Intangible Assets

 

 

 

FCC Licenses, (Net)

 

13,000

 

Other

 

32

 

Total

 

$

27,481

 

Current Liabilities Held for Sale:

 

 

 

Accounts Payable

 

$

615

 

Accrued Expenses

 

209

 

Other

 

744

 

Total

 

$

1,568

 

Long-Term Liabilities Held for Sale:

 

 

 

Deferred Revenue

 

$

31

 

 

NOTE 5. INVENTORIES

 

Inventories, which consist of equipment for resale, materials and supplies, are stated at the lower of average cost or market.

 

NOTE 6. INTANGIBLE ASSETS

 

Effective January 1, 2002, HickoryTech adopted SFAS No. 142, “Goodwill and Other Intangible Assets.” SFAS No. 142 established new standards related to how acquired goodwill and other intangible assets are to be recorded upon their acquisition as well as how they are to be accounted for after they have been initially recognized in the financial statements.

 

Effective with the adoption of this standard, HickoryTech is no longer amortizing acquired goodwill. Instead, SFAS No. 142 requires acquired goodwill to be evaluated for impairment using a two-step test based upon a fair value approach. The first step is used to identify potential impairment, while the second step calculates the amount of impairment, if any. Upon adoption of this standard, HickoryTech completed a transitional impairment test for its acquired goodwill, determining the fair value using primarily a discounted cash flow model. The determined fair value was sufficient to pass the first step impairment test, and therefore no impairment was recorded. On a prospective basis, HickoryTech is required to test acquired goodwill for impairment on an annual basis based upon a fair value approach. Additionally, goodwill shall 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 an entity below its carrying value.

 

Additionally, upon adoption of SFAS No. 142, HickoryTech was required to reassess the useful lives of its other intangible assets. HickoryTech’s other intangible assets primarily consist of wireless FCC licenses (FCC licenses). The renewal of FCC licenses is a routine matter involving a nominal fee and HickoryTech has determined that no legal, regulatory, contractual, competitive, economic or other factors currently exist that limit the useful life of its FCC licenses. As such, effective with the adoption of SFAS No. 142, HickoryTech is no longer amortizing FCC licenses as they are deemed to be intangible assets that have indefinite lives. SFAS No. 142 requires that indefinite lived intangible assets be tested for impairment by comparing the fair value of the assets to their carrying amount. Due to the pending sale of Minnesota Southern Wireless Company, HickoryTech completed an impairment test in the third quarter of 2003 for the FCC licenses, as discussed in Note 4.

 

9



 

The carrying value of HickoryTech’s goodwill is $25,086,000 as of September 30, 2003 and December 31, 2002.

 

The components of HickoryTech’s other intangible assets are shown in the following table:

 

 

 

As of September 30, 2003

 

As of December 31, 2002

 

(Dollars in Thousands)

 

Gross Carrying
Amount

 

Accumulated
Amortization

 

Gross Carrying
Amount

 

Accumulated
Amortization

 

 

 

 

 

 

 

 

 

 

 

Definite-Lived Intangible Assets

 

 

 

 

 

 

 

 

 

Customers

 

$

821

 

$

314

 

$

821

 

$

237

 

Other Intangibles

 

100

 

100

 

185

 

100

 

Total

 

$

921

 

$

414

 

$

1,006

 

$

337

 

 

 

 

 

 

 

 

 

 

 

Indefinite-Lived Intangible Assets

 

 

 

 

 

 

 

 

 

FCC Licenses

 

$

13,000

 

 

 

$

34,000

 

 

 

 

Amortization expense related to the definite-lived intangible assets for the three months ended September 30, 2003 and 2002 was $26,000 and $124,000, respectively. Amortization expense related to the definite-lived intangible assets for the nine months ended September 30, 2003 and 2002 was $77,000 and $351,000, respectively. Total estimated amortization expense for the remaining three months of 2003 and the five years subsequent to 2003 is as follows: 2003 (October 1 through December 31) - $25,000; 2004 - $102,000; 2005 - $102,000; 2006 - $102,000; 2007 - $102,000 and 2008 - $74,000.

 

The FCC licenses are included in assets held for sale as of September 30, 2003.

 

NOTE 7. RECENT ACCOUNTING DEVELOPMENTS

 

In June 2001, the FASB issued SFAS No. 143, "Accounting for Asset Retirement Obligations." SFAS No. 143 requires entities to record the fair value of the liability for legal obligations associated with an asset retirement in the period in which the obligation is incurred. When the liability is initially recorded, the entity capitalizes the cost of the asset retirement obligation by increasing the carrying amount of the related long-lived asset. Over time, the liability is accreted to its present value each period, and the capitalized cost is depreciated over the useful life of the related asset.

 

HickoryTech’s incumbent local exchange carrier companies (ILECs) follow the provisions of SFAS No. 71, and therefore conform to the accounting principles as prescribed by the respective state public utilities commissions and other federal agencies and, where applicable, accounting principles generally accepted in the United States of America. On December 20, 2002, the Federal Communications Commission (FCC) notified carriers that they would not adopt SFAS No. 143 for regulatory accounting purposes. At January 1, 2003, HickoryTech determined the amount of asset retirement obligations required to be recorded for its ILEC companies under the provisions of SFAS No. 143 were not significant, and therefore the implementation of SFAS No. 143 on January 1, 2003 did not impact HickoryTech’s financial position or results of operations.

 

HickoryTech’s competitive local telephone companies (CLEC), Enterprise Solutions, and Information Solutions, also adopted SFAS No. 143 effective January 1, 2003. HickoryTech has determined that its competitive local telephone companies along with Enterprise Solutions and Information Solutions do not have a material legal obligation to remove long-lived assets as described by SFAS No. 143, and accordingly, adoption of SFAS No. 143 did not impact HickoryTech’s financial position or results of operations.

 

10



 

HickoryTech also adopted the provisions of SFAS No. 143 for its wireless operations as of January 1, 2003. HickoryTech performed an analysis to identify all potential Asset Retirement Obligations. The legal obligations identified consist of obligations to remediate leased property where cell sites are located. However, based upon HickoryTech's experience and expectations, there is significant uncertainty as to whether third parties that own these leased properties would enforce their remediation rights related to the sites. Furthermore, HickoryTech determined the amount of asset retirement obligations, if any, related to its wireless operations under the provisions of SFAS No. 143 were not significant, and therefore the implementation of SFAS No. 143 on January 1, 2003 did not impact HickoryTech’s financial position or results of operations. In addition, due to the pending sale of the wireless operations (see Note 4), HickoryTech does not expect to incur any asset retirement obligations related to its wireless operations.

 

In April 2002, the FASB issued SFAS No. 145, “Rescission of FASB Statements No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical Corrections.” SFAS No. 145 rescinds FASB Statement No. 4, “Reporting Gains and Losses from Extinguishment of Debt,” and an amendment of that Statement, FASB Statement No. 64, “Extinguishments of Debt Made to Satisfy Sinking-Fund Requirements.” SFAS No. 145 also rescinds FASB Statement No. 44, “Accounting for Intangible Assets of Motor Carriers,” and amends FASB Statement No. 13, “Accounting for Leases.” HickoryTech adopted the provisions of SFAS No. 145 on January 1, 2003. Adoption of this standard had no impact on the financial statements presented in this Form 10-Q/A.

 

In June 2002, the FASB issued SFAS No. 146, “Accounting for Costs Associated with Exit or Disposal Activities,” which replaces Emerging Issues Task Force (EITF) Issue No. 94-3, “Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred in a Restructuring).” SFAS No. 146 requires companies to recognize costs associated with exit or disposal activities when they are incurred rather than at the date of a commitment to an exit or disposal plan.  HickoryTech has engaged in no activities in the three or nine months ended September 30, 2003 that are subject to the provisions of SFAS No. 146. Accordingly, the adoption of SFAS No. 146 did not impact HickoryTech’s financial position or results of operations.

 

In December 2002, the FASB issued SFAS No. 148, “Accounting for Stock-Based Compensation – Transition Disclosure – an amendment of SFAS No. 123” (SFAS No. 148). This Statement amends SFAS No. 123, “Accounting for Stock-Based Compensation,” to provide alternative methods of transition for a voluntary change to the fair value based method of accounting for stock-based employee compensation. In addition, this Statement amends the disclosure requirements of SFAS No. 123 to require prominent disclosures in both annual and interim financial statements about the method of accounting for stock-based employee compensation and the effect of the method used on reported results. The provisions of SFAS No. 148 are effective for financial statements for fiscal years ending after December 15, 2002, and disclosure requirements shall be effective for interim periods beginning after December 15, 2002. The Company will continue to account for stock-based compensation to its employees and directors using the intrinsic value method prescribed by APB Opinion No. 25, and related interpretations. The Company adopted the provisions of SFAS No. 148 and has made certain disclosures required by SFAS No. 148 in the consolidated financial statements presented in this report. The adoption of SFAS No. 148 did not impact HickoryTech’s financial position or results of operations.

 

In November 2002, the FASB issued Interpretation No. 45, “Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others.” This interpretation elaborates on the disclosures required in financial statements concerning obligations under certain guarantees. It also clarifies the requirements related to the recognition of liabilities by a guarantor at the inception of certain guarantees. The disclosure requirements of this interpretation were effective for HickoryTech on December 31, 2002 but did not require any additional disclosures. The recognition provisions of the interpretation are effective for HickoryTech in 2003 and are applicable only to guarantees issued or modified after December 31, 2002. The adoption of Interpretation No. 45 did not impact the financial position, results of operations, or cash flows of HickoryTech. 

 

11



 

In April 2003, the FASB issued SFAS No. 149, “Amendment of Statement 133 on Derivative Instruments and Hedging Activities.” This statement amends and clarifies financial accounting and reporting for derivative instruments, including certain derivative instruments embedded in other contracts and for hedging activities under SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities.” SFAS No. 149 is effective for certain contracts entered into or modified after June 30, 2003. This standard did not change the accounting for HickoryTech’s interest rate swap contract and therefore had no impact on HickoryTech’s consolidated financial position, results of operations or cash flows (see Note 11).

 

12



 

NOTE 8. QUARTERLY SECTOR FINANCIAL SUMMARY

 

Business segment information for the first three quarters of 2003 and 2002 is as follows. Certain amounts in 2002 have been reclassified to conform to the 2003 presentation.

 

(In Thousands)

 

Telecom

 

Information
Solutions

 

Enterprise
Solutions

 

Corporate and
Eliminations

 

HickoryTech
Consolidated

 

Three Months Ended 9/30/03

 

 

 

 

 

 

 

 

 

 

 

Operating Revenue from Unaffiliated Customers

 

$

18,810

 

$

702

 

$

3,565

 

$

 

$

23,077

 

Intersegment Revenues

 

69

 

848

 

 

(917

)

 

Total

 

18,879

 

1,550

 

3,565

 

(917

)

23,077

 

 

 

 

 

 

 

 

 

 

 

 

 

Depreciation and Amortization

 

3,319

 

618

 

61

 

18

 

4,016

 

Operating Income (Loss)

 

5,803

 

(826

)

(369

)

372

 

4,980

 

Interest Expense

 

3

 

15

 

 

1,561

 

1,579

 

Income Taxes (Benefit)

 

2,409

 

(376

)

(154

)

(484

)

1,395

 

 

 

 

 

 

 

 

 

 

 

 

 

Income (Loss) from Continuing Operations

 

3,475

 

(540

)

(221

)

(697

)

2,017

 

Income (Loss) from Discont. Operations Including Intersegment Revenues Restated - Note 1

 

(22,286

)

139

 

 

57

 

(22,090

)

Net Income (Loss)Restated - Note 1

 

(18,811

)

(401

)

(221

)

(640

)

(20,073

)

Identifiable Assets

 

143,121

 

7,346

 

9,627

 

11,193

 

171,287

 

Property, Plant and Equip., Net

 

105,722

 

5,219

 

524

 

210

 

111,675

 

Capital Expenditures

 

1,935

 

7

 

12

 

3

 

1,957

 

 

 

 

 

 

 

 

 

 

 

 

 

Three Months Ended 9/30/02

 

 

 

 

 

 

 

 

 

 

 

Operating Revenue from Unaffiliated Customers

 

$

18,100

 

$

981

 

$

5,257

 

$

 

$

24,338

 

Intersegment Revenues

 

68

 

841

 

 

(909

)

 

Total

 

18,168

 

1,822

 

5,257

 

(909

)

24,338

 

 

 

 

 

 

 

 

 

 

 

 

 

Depreciation and Amortization

 

3,144

 

519

 

65

 

56

 

3,784

 

Operating Income (Loss)

 

5,757

 

(821

)

282

 

(909

)

4,309

 

Interest Expense

 

9

 

14

 

 

1,729

 

1,752

 

Income Taxes (Benefit)

 

2,386

 

(383

)

109

 

(1,052

)

1,060

 

 

 

 

 

 

 

 

 

 

 

 

 

Income (Loss) from Continuing Operations

 

3,446

 

(552

)

157

 

(1,517

)

1,534

 

Income (Loss) from Discont. Operations Including Intersegment Revenues

 

371

 

131

 

 

58

 

560

 

Net Income (Loss)

 

3,817

 

(421

)

157

 

(1,459

)

2,094

 

 

 

 

 

 

 

 

 

 

 

 

 

Identifiable Assets

 

152,953

 

7,086

 

9,603

 

12,877

 

182,519

 

Property, Plant and Equip., Net

 

112,266

 

5,820

 

527

 

180

 

118,793

 

Capital Expenditures

 

1,110

 

658

 

 

72

 

1,840

 

 

13



 

(In Thousands)

 

Telecom

 

Information
Solutions

 

Enterprise
Solutions

 

Corporate and
Eliminations

 

HickoryTech
Consolidated

 

Nine Months Ended 9/30/03

 

 

 

 

 

 

 

 

 

 

 

Operating Revenue from Unaffiliated Customers

 

$

56,058

 

$

2,609

 

$

10,859

 

$

 

$

69,526

 

Intersegment Revenues

 

206

 

2,379

 

 

(2,585

)

 

Total

 

56,264

 

4,988

 

10,859

 

(2,585

)

69,526

 

 

 

 

 

 

 

 

 

 

 

 

 

Depreciation and Amortization

 

9,779

 

1,743

 

182

 

70

 

11,774

 

Operating Income (Loss)

 

18,654

 

(2,510

)

(853

)

(456

)

14,835

 

Interest Expense

 

10

 

53

 

 

4,561

 

4,624

 

Income Taxes (Benefit)

 

7,675

 

(1,142

)

(359

)

(1,988

)

4,186

 

 

 

 

 

 

 

 

 

 

 

 

 

Income (Loss) from Continuing Operations

 

11,076

 

(1,643

)

(516

)

(2,861

)

6,056

 

Income (Loss) from Discont. Operations Including Intersegment Revenues Restated - Note 1

 

(21,802

)

386

 

 

144

 

(21,272

)

Net Income (Loss)Restated - Note 1

 

(10,726

)

(1,257

)

(516

)

(2,717

)

(15,216

)

 

 

 

 

 

 

 

 

 

 

 

 

Identifiable Assets

 

143,121

 

7,346

 

9,627

 

11,193

 

171,287

 

Property, Plant and Equip., Net

 

105,722

 

5,219

 

524

 

210

 

111,675

 

Capital Expenditures

 

5,091

 

151

 

201

 

156

 

5,599

 

 

 

 

 

 

 

 

 

 

 

 

 

Nine Months Ended 9/30/02

 

 

 

 

 

 

 

 

 

 

 

Operating Revenue from Unaffiliated Customers

 

$

52,857

 

$

3,064

 

$

11,655

 

$

 

$

67,576

 

Intersegment Revenues

 

205

 

2,325

 

 

(2,530

)

 

Total

 

53,062

 

5,389

 

11,655

 

(2,530

)

67,576

 

 

 

 

 

 

 

 

 

 

 

 

 

Depreciation and Amortization

 

9,156

 

1,548

 

201

 

169

 

11,074

 

Operating Income (Loss)

 

17,027

 

(2,289

)

(169

)

(1,623

)

12,946

 

Interest Expense

 

18

 

44

 

 

5,504

 

5,566

 

Income Taxes (Benefit)

 

7,008

 

(1,038

)

(90

)

(2,819

)

3,061

 

 

 

 

 

 

 

 

 

 

 

 

 

Income (Loss) from Continuing Operations

 

10,111

 

(1,495

)

(129

)

(4,057

)

4,430

 

Income (Loss) from Discont. Operations Including Intersegment Revenues

 

1,060

 

352

 

 

144

 

1,556

 

Net Income (Loss)

 

11,171

 

(1,143

)

(129

)

(3,913

)

5,986

 

 

 

 

 

 

 

 

 

 

 

 

 

Identifiable Assets

 

152,953

 

7,086

 

9,603

 

12,877

 

182,519

 

Property, Plant and Equip., Net

 

112,266

 

5,820

 

527

 

180

 

118,793

 

Capital Expenditures

 

6,462

 

1,866

 

55

 

211

 

8,594

 

 

14



 

The Telecom Segment Identifiable Assets, Property Plant and Equipment and Capital Expenditures presented above, exclude the following amounts related to the wireless business which is reported as a discontinued operation:

 

(Dollars in Thousands)

 

Three Months Ended

 

Nine Months Ended

 

 

 

9/30/2003

 

9/30/2002

 

9/30/2003

 

9/30/2002

 

Identifiable Assets

 

$

29,662

 

$

95,887

 

$

29,662

 

$

95,887

 

Property, Plant and Equip., Net

 

14,449

 

17,526

 

14,449

 

17,526

 

Capital Expenditures

 

1,116

 

1,057

 

1,934

 

3,628

 

 

 

NOTE 9. CONTINGENCIES

 

HickoryTech is involved in certain contractual disputes in the ordinary course of business. HickoryTech does not believe the ultimate resolution of any of these existing matters will have a material adverse effect on its financial position, results of operations or cash flows.

 

NOTE 10. STOCK COMPENSATION

 

At September 30, 2003, HickoryTech has four stock-based employee and director compensation plans, which are described more fully in the HickoryTech Annual Report on Form 10-K for the year ended December 31, 2002. HickoryTech has elected to account for these employee and director stock compensation plans using the intrinsic value method as permitted by Accounting Principles Board Opinion No. 25 and related interpretations.

 

In 2002, HickoryTech’s Board of Directors modified the terms of the stock options of a retiring officer. The modification extended the period after retirement during which the officer can exercise his vested options. This modification resulted in HickoryTech recognizing $173,000 of compensation expense during the first quarter of 2003. During the third quarter of 2003, the Board of Directors extended the period during which this option holder can exercise his vested options to December 31, 2004. This extension will not result in any additional compensation charges.

 

If HickoryTech had elected to recognize compensation cost based on the fair value of the options and other stock compensation as prescribed by SFAS No. 123, the following operating results would have occurred using the Black-Scholes option-pricing model to determine the fair value of the options:

 

 

 

For Three Months Ended

 

For Nine Months Ended

 

(Dollars in Thousands)

 

9/30/2003

 

9/30/2002

 

9/30/2003

 

9/30/2002

 

 

 

Restated (Note 1)

 

 

 

Restated (Note 1)

 

 

 

 

 

 

 

 

 

 

 

 

 

Reported Net Income (Loss)

 

$

(20,073

)

$

2,094

 

$

(15,216

)

$

5,986

 

Add: Stock-based employee compensation expense included in reported net income (loss)

 

(168

)

358

 

234

 

701

 

Deduct: Total stock-based employee compensation expense determined under fair value based method for all awards

 

72

 

(451

)

(531

)

(1,035

)

 

 

 

 

 

 

 

 

 

 

Pro Forma Net Income (Loss)

 

$

(20,169

)

$

2,001

 

$

(15,513

)

$

5,652

 

 

 

 

 

 

 

 

 

 

 

Earnings (Loss) per share:

 

 

 

 

 

 

 

 

 

Basic - as reported

 

$

(1.44

)

$

0.15

 

$

(1.09

)

$

0.43

 

Basic - pro forma

 

$

(1.44

)

$

0.14

 

$

(1.11

)

$

0.40

 

 

 

 

 

 

 

 

 

 

 

Diluted - as reported

 

$

(1.44

)

$

0.15

 

$

(1.09

)

$

0.43

 

Diluted - pro forma

 

$

(1.44

)

$

0.14

 

$

(1.11

)

$

0.40

 

 

15



 

NOTE 11. FINANCIAL DERIVATIVE INSTRUMENTS

 

HickoryTech accounts for derivative instruments in accordance with SFAS No. 133, as amended by SFAS No. 149, “Accounting for Derivative Instruments and Hedging Activities,” which requires derivative instruments to be recorded on the balance sheet at fair value. Changes in fair value of derivative instruments must be recognized in earnings unless specific hedge accounting criteria are met, in which case the gains and losses are included in other comprehensive income rather than in earnings.

 

 

(Dollars in Thousands)

 

Interest Rate
Swap Agreement

 

 

 

 

 

Accumulated other comprehensive income balance at December 31, 2002.

 

$

 

Market value increase on interest rate swap agreement

 

1,157

 

Accumulated other comprehensive income balance at September 30, 2003.

 

$

1,157

 

 

 

HickoryTech has variable rate debt instruments, which subject the company to interest rate risk. Beginning in the second quarter of 2003, HickoryTech entered into interest rate swap agreements, with remaining maturities of nine months to fifty-seven months, to manage its exposure to interest rate movements on a portion of its variable rate debt obligations. The market value of the cumulative gain or loss on these derivative instruments is reported as a component of accumulated other comprehensive income in shareholders’ equity and is recognized in earnings when the term of the swap agreement is concluded.

 

The fair value of the HickoryTech’s derivatives at September 30, 2003 is a net asset of $1,961,000, which is included in other assets in the accompanying condensed consolidated balance sheet.

 

NOTE 12.  ABANDONED INITIATIVE

 

In September of 2003 HickoryTech abandoned a CLEC initiative. As a result, HickoryTech wrote off property, plant and equipment with a carrying value of $632,000. This $632,000 charge is included in the operating expenses of the Telecom Sector in the condensed consolidated statement of operations.

 

ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION.

 

FORWARD-LOOKING STATEMENTS

 

Statements in this Form 10-Q/A that are not historical fact are forward-looking statements that are based on management’s current expectations, estimates and projections about the industry in which HickoryTech operates and management’s beliefs and assumptions. Such forward-looking statements are subject to important risks and uncertainties that could cause HickoryTech’s future actual results to differ materially from such statements. These statements are not guarantees of future performance and involve certain risks, uncertainties and probabilities, which are difficult to predict. Therefore, actual outcomes and results may differ materially from what is expressed or forecasted in such forward-looking statements, whether as a result of new information, future events or otherwise. Factors that might cause such a difference include, but are not limited to, those contained in this “Management’s Discussion and Analysis” (Item 2) and Exhibit 99 (Cautionary Statement for Purposes of the “Safe Harbor” Provision of the Private Securities Litigation Reform Act of 1995) to HickoryTech’s Annual Report on Form 10-K for the year ended December 31, 2002, which is incorporated herein by reference. You are cautioned not to place undue reliance on these forward looking statements, which speak only as of the date on which they were made. Except as otherwise required by federal securities law, HickoryTech undertakes no obligation to update any of its forward-looking statements for any reason.

 

16



 

BUSINESSES

 

HickoryTech operates in three business segments: the Telecom, Information Solutions and Enterprise Solutions Sectors. Its largest and oldest business (since 1898) has been the operation of incumbent local exchange carriers (ILECs) or traditional wireline telephone service. The ILEC business is in HickoryTech’s Telecom Sector. In 1998, HickoryTech began its competitive local exchange carrier (CLEC) line of business, competing for the telephone dial tone, data and long distance calling business in other ILECs’ territories. The CLEC business is in HickoryTech’s Telecom Sector. Since 1964, HickoryTech’s Information Solutions Sector has provided computer data processing and software, predominantly for HickoryTech’s Telecom Sector operations and also to other telecommunications companies.  HickoryTech acquired its Enterprise Solutions Sector in 1990 and it has operated as a leading telecommunications and data equipment distributor from a base in Minneapolis/St. Paul, Minnesota. HickoryTech also began its wireless operations in 1998 by acquiring its first wholly owned wireless service license, an additional wireless service license in 1999 and two PCS licenses in 2001. In the third quarter of 2003, HickoryTech entered into a definitive agreement to sell its wireless operations.  Management expects to complete the sale of its wireless business in the fourth quarter of 2003, subject to the approval of the Federal Communications Commission. The wireless operations are reported as part of the Telecom Sector. All financial statements and schedules have been restated to reflect wireless operations as discontinued operations.

 

THE COMPANY

 

The eight subsidiaries of HickoryTech, all of which publicly operate and conduct business as HickoryTech, and the business segments in which they operate are:

 

TELECOM SECTOR

Mankato Citizens Telephone Company (MCTC)

Mid-Communications, Inc. (Mid-Comm)

Heartland Telecommunications Company of Iowa, Inc. (Heartland)

Cable Network, Inc. (CNI)

Crystal Communications, Inc. (Crystal)

Minnesota Southern Wireless Company (MSWC) – Discontinued Operation

INFORMATION SOLUTIONS SECTOR

National Independent Billing, Inc. (NIBI)

ENTERPRISE SOLUTIONS SECTOR

Collins Communications Systems Co. (Collins)

 

HickoryTech and its subsidiaries are engaged in businesses that provide services to their customers for a fee. Many of these services are repetitive and recurring, and, as a result, backlog orders and seasonality are not significant factors. Working capital requirements primarily involve the funding of the construction and maintenance of fixed assets, the payroll costs of highly skilled labor and the inventory to service its telephone equipment customers.

 

The materials and supplies that are necessary for the operation of the businesses of HickoryTech and its subsidiaries are available from a variety of sources, and no future supply problems are anticipated. All of HickoryTech’s central office switches, as well as a majority of HickoryTech’s equipment sold in its Enterprise Solutions Sector, are supplied by Nortel. Nortel is a leading supplier of communications equipment, and HickoryTech’s dependence on this brand is not viewed as a significant risk. An additional layer of network infrastructure equipment for broadband services is provided by Nextlevel. Nextlevel is a newer supplier of communications equipment and the Company is monitoring the risk level of maintaining Nextlevel as a supplier in light of its status as a wholly owned subsidiary of Motorola.

 

17



 

INDUSTRY SEGMENTS

 

TELECOM SECTOR

 

HickoryTech’s Telecom Sector provides local exchange wireline telephone service, long distance, dial-up Internet access and owns and operates fiber optic cable facilities. This sector includes three incumbent local exchange carriers (ILECs): MCTC, Mid-Comm and Heartland. MCTC and Mid-Comm provide telephone service in south central Minnesota, specifically Mankato (a regional hub) and eleven rural communities surrounding Mankato. The third ILEC, Heartland, provides telephone service for eleven rural communities in northwest Iowa.

 

The Telecom Sector also includes Crystal, a competitive local exchange carrier (CLEC). Crystal provides local telephone service, long distance and dial-up Internet access on a competitive basis. Crystal has customers in eight rural communities in Minnesota and two communities in Iowa that are not in HickoryTech’s ILEC service areas.

 

HickoryTech also owns and operates fiber optic cable facilities (CNI) in Minnesota, which are used to transport interexchange communications as a service to telephone industry customers. HickoryTech’s Minnesota ILECs and its CLEC are the primary users of the fiber optic cable facilities.

 

MCTC derives its principal revenues and income from local services charged to subscribers in its service area, access services charged to interexchange carriers and the operation of a toll tandem switching center in Mankato, Minnesota. Revenues and income for Mid-Comm are also derived from local service charges in its area of operation and by providing access to long distance services for its subscribers through the toll center in Mankato. Local and interexchange telephone access for the two companies is provided on an integrated basis. The local and interexchange telephone access for both telephone companies utilize the same facilities and equipment and is managed and maintained by a common work force. Heartland derives its principal revenues and income from local services charged to subscribers in its service area in Iowa, as well as from providing interexchange access for its subscribers. Interexchange telephone access is provided by all three of HickoryTech’s telephone subsidiaries by connecting the communications networks of interexchange and wireless carriers with the equipment and facilities of end users through its switched networks or private lines.

 

MCTC and Mid-Comm are Minnesota public utilities operating pursuant to indeterminate permits issued by the Minnesota Public Utilities Commission. Heartland is also a public utility, which operates pursuant to a certificate of public convenience and necessity issued by the Iowa Utilities Board. These state agencies regulate the services provided by MCTC, Mid-Comm and Heartland. CNI’s operations are not subject to regulation by the state regulatory authority.  Neither the Minnesota Public Utilities Commission nor the Iowa Utilities Board regulates the rate of return or profits of each of HickoryTech’s ILEC operations due to the size of these companies relative to state regulation. In Minnesota, MCTC and Mid-Comm’s price and service levels are monitored by regulators. MCTC’s and Mid-Comm’s local service rates are below those of most Minnesota ILECs. Regardless of whether a particular rate is subject to regulatory review, the ability of HickoryTech and its subsidiaries to change rates will be determined by various factors, including economic and competitive circumstances.

 

As local exchange telephone companies, MCTC, Mid-Comm and Heartland provide end office switching and dedicated circuits to long distance interexchange carriers. These relationships allow HickoryTech’s telephone subscribers to place long distance telephone calls and gain access to the telephone network. HickoryTech provides long distance access for all of the individual customers who select an alternative long distance carrier. The long distance interexchange carriers are significant customers of HickoryTech, but no carrier represents more than ten percent of HickoryTech’s consolidated revenues.

 

Alternatives to HickoryTech service include customers leasing private line switched voice and data services in or adjacent to the territories served by HickoryTech, which permits the bypassing of local telephone switching facilities. In addition, microwave transmission services, wireless communications, fiber optic and coaxial cable deployment and other services provided by other companies permit bypass of the local exchange network. These alternatives to local exchange service represent a potential threat to HickoryTech’s long-term ability to provide local exchange service at economical rates.

 

18



 

Competition in HickoryTech’s ILEC service area exists in one of Heartland’s exchanges. In the city of Hawarden, Iowa, the municipal city government overbuilt the city’s telephone service infrastructure and is providing an alternative to HickoryTech’s telephone service. The Hawarden CLEC has acquired approximately 1,000 access lines, or approximately 60%, of that community’s telephone business from HickoryTech. HickoryTech management does not believe there will be significant further impact from competition in Hawarden. HickoryTech responds to competitive changes with active programs to market products and to engineer its infrastructure for higher customer satisfaction.

 

Competition also exists for some of the services provided to interexchange carriers, such as customer billing services, dedicated private lines, network switching and network routing. This competition comes primarily from the interexchange carriers themselves. The provision of these services is either of a contractual nature or is month-to-month service out of a general tariff, but in either case is primarily controlled by the interexchange carriers. As interexchange carriers make these service decisions, changes have the potential of changing the Company’s revenue in the Telecom Sector. Other services, such as directory advertising and wireless communications, are open to competition. Competition is based primarily on service and experience.

 

In September 2003, a potential competitor filed a request to negotiate interconnection arrangements with HickoryTech’s Minnesota ILECS, MCTC & Mid-Comm. This potential competitor is an experienced company with the ability to offer bundled services. MCTC and Mid-Comm have made a filing with the Minnesota Public Utilities commission exerting their rural exemption from certain components of this request. The potential competitor has not, as yet, followed through with its competitive filings in any other jurisdiction. At this time, HickoryTech is unable to predict the outcome of this proceeding.

 

The passage of the 1996 Telecommunications Act created the opportunity for HickoryTech to offer communications service in territories served by other telephone companies, and Crystal began operations in January 1998 as a new competitive local exchange carrier (CLEC). Crystal offers local service, long distance and dial-up Internet access services on a competitive basis to customers in southern Minnesota and Iowa, which are not served by HickoryTech’s Telecom Sector service area. These service offerings provide customers alternatives to the incumbent telephone carrier in various communities and are offered under the brand name HickoryTech wireline service. These services are currently offered to customers in eight rural communities in Minnesota, as well as two communities in Iowa. Crystal’s primary strategy is to provide service by overbuilding with new telecommunications switching networks and telephone lines. Crystal also provides the long distance service and dial-up Internet access services to HickoryTech’s subscribers in both ILEC and CLEC markets.

 

CLEC activities require Crystal to file for authority to operate with the appropriate public utilities commission in each state it serves. Crystal competes directly against existing ILECs in the areas in which Crystal operates. Crystal is not dependent upon any single customer or small group of customers. No single customer in Crystal accounts for ten percent or more of HickoryTech’s consolidated revenues.

 

On September 18, 2003, HickoryTech executed a definitive agreement to sell the stock of its wireless business, Minnesota Southern Wireless Company (MSWC), to Western Wireless Corporation (WWC), for $25,000,000, subject to working capital and construction in progress adjustments to be determined at closing. The selling price is comprised of approximately one million shares of HickoryTech common stock to be returned to HickoryTech by WWC, and  $12,800,000 in cash. The market value of these shares was approximately $12,200,000 as of September 30, 2003.  The final fair market value of this stock consideration will be measured by the Company on the closing date of the sale.  HickoryTech will retire the shares of HickoryTech stock currently owned by WWC. The transaction is expected to close in the fourth quarter of 2003, subject to approval of the Federal Communications Commission and satisfaction of various other closing conditions. The wireless operations are reported as part of the Telecom Sector. All statements of operations data and schedules included herein have been restated to reflect wireless operations as discontinued operations.

 

19



 

In connection with the determination by management in the third quarter of 2003 that it would pursue the sale of its wireless operations and that the purchase price would likely be less than the current carrying value of the wireless net assets, the Company completed an impairment test in the third quarter of 2003 for the FCC licenses pursuant to the requirements of SFAS No. 142, “Goodwill and Other Intangible Assets.” Management estimated the fair value of the FCC licenses using a discounted cash flow technique consistent with the method used by the Company in performing its most recent impairment analysis at December 31, 2002. As a result of this assessment, management determined that the FCC licenses were impaired and recorded an impairment charge of approximately $21 million ($18,638,000 after-tax), in the third quarter of 2003. This impairment charge is recorded as a component of the loss on discontinued operations on HickoryTech’s condensed consolidated statement of operations for the quarter ended September 30, 2003. HickoryTech believes that the decline in the fair value of its FCC licenses is due principally to the rapid pace of technological change being undertaken by the major wireless service providers to adopt new protocols (i.e. GSM or CDMA) and potentially move away from HickoryTech’s current primary protocol called TDMA, which has greatly hindered HickoryTech’s position in finding a future roaming partner. Other factors include declining roaming revenues, increasing price competition, and the protracted downturn in the telecommunications market. The FCC licenses were tested for impairment on an aggregate basis, which is consistent with HickoryTech’s management of the wireless business.

 

As a result of the Company’s commitment to sell the wireless business, the Company made a determination during the third quarter of 2003 that the remaining assets of the wireless operations should be considered “held for sale” pursuant to SFAS No. 144, “Accounting for Impairment or Disposal of Long-Lived Assets,” (SFAS No. 144). Pursuant to SFAS No. 144 the Company recorded an impairment charge during the third quarter of 2003 related to the other long-lived assets of the wireless business of $4,345,000 ($3,856,000 after tax). This charge is also recorded as a component of the loss on discontinued operations on HickoryTech’s condensed consolidated statement of operations for the quarter ended September 30, 2003. As of September 30, 2003, the carrying value of the remaining net assets of the wireless business is equal to its estimated selling price less the costs to sell it. This carrying value of the wireless assets and the related loss on discontinued operations is subject to adjustment to the extent that the fair market value of the HickoryTech shares to be received upon closing of the sale is higher or lower than the September 30, 2003 fair market value of the shares, or to the extent that actual costs to sell the wireless business are higher or lower than estimated.

 

The wireless telephone business consists of the “A-side” FCC wireless license to operate in Minnesota’s Rural Service Area 10 (RSA 10), the Minneapolis/St. Paul Metro A-2 (Metro A-2) wireless license and two digital personal communications services (PCS) licenses covering the Minnesota Basic Trading Areas (BTAs) of Mankato-Fairmont and Rochester-Austin-Albert Lea.

 

In south central Minnesota, MSWC provides wireless service for Minnesota’s Rural Service Area 10 (RSA 10), under the brand name of HickoryTech Wireless. MSWC owns 100% of the  “A-side” FCC wireless license to operate in seven counties in south central Minnesota. The area overlaps and is larger than HickoryTech’s Minnesota ILEC and CLEC service areas and serves a population of approximately 240,000. This business also owns the Minneapolis/St. Paul Metro A-2 (Metro A-2) wireless license, which was acquired on June 1, 1999. The Metro A-2 property surrounds the metropolitan Minneapolis/St. Paul area and is located in five Minnesota counties and in one Wisconsin county. Metro A-2 provides service to an area with a population of approximately 185,000. In addition, this business also owns the PCS licenses for the Minnesota BTAs of Mankato-Fairmont and Rochester-Austin-Albert Lea. The two BTAs are located in 16 Minnesota counties and one Iowa county and provide service to an area with a population of approximately 500,000, some of which coincide with the previously mentioned wireless RSA 10 population of 240,000.

 

MSWC, which owns all four of the Company’s FCC wireless licenses, derives its principal revenues and income from providing wireless telephone service to the retail customers in seven counties in south central Minnesota and from wireless roaming traffic. MSWC also derives roaming revenue from the six counties surrounding the metropolitan Minneapolis/St. Paul Metro A-2 area and roaming revenues from the PCS service territory that is comprised of 17 counties. MSWC directly competes against local wireless and PCS companies in southern Minnesota.

 

20



 

REGULATED INDUSTRY

 

ILEC Minnesota - HickoryTech’s two Minnesota ILEC subsidiaries continue to operate under an alternative form of regulation as defined in Minnesota Chapter 237, whereby companies with less than 50,000 customers are regulated on price and service level rather than profit. The Minnesota PUC has been considering intrastate access reform for several years. While no formal action has been concluded, the Minnesota PUC recently issued a Statement of Proposed Inquiry regarding state Access Reform and state Universal Service. Minnesota process in matters such as these, usually involve outcomes that may not by realized until the end of 2004. HickoryTech cannot estimate the impact, if any, of future potential state access revenue changes.

 

ILEC Iowa - In Iowa, companies with fewer than 15,000 access lines remain unregulated. HickoryTech’s Iowa ILEC subsidiary falls below this regulation threshold.

 

CLEC - HickoryTech’s CLEC companies operate in Minnesota and Iowa with less regulatory oversight than the HickoryTech ILEC companies.

 

Wireline InterState -The HickoryTech ILEC companies do not participate in the NECA traffic sensitive pool and set access rates according to a nationwide average cost of providing access. This biannual rate process was recently completed and established traffic sensitive interstate rates for the period from July 1, 2003 through June 30, 2005. HickoryTech ILEC companies participate in the NECA common line pool. In July of 2003, common line rates charged to interexchange carriers were reduced (to zero), and common line charges to end users were increased in accordance with an FCC October 2001 order (a/k/a MAG Plan). Funds collected are pooled, and HickoryTech revenues are based on settlements distributed from the pool. Pool settlements are adjusted from time to time. HickoryTech’s CLEC access rates are established in accordance with the FCC’s April 2001 order and no further changes are known at the present time.

 

Wireless – HickoryTech’s wireless business is subject to regulation by the FCC including rules governing the construction and operation of wireless communication systems and licensing and technical standards for provision of wireless communication services. The FCC has refrained from rate regulation of wireless communications services, but retains its statutory authority to impose such regulation. The FCC ordered wireless carriers to be able to pool telephone numbers by November 2002. Further, the FCC has ordered that wireless carriers implement Local Number Portability (LNP) by November 24, 2003. HickoryTech expects to comply with the FCC's wireless LNP mandate. The Company expects the cost of implementing wireless LNP to be approximately $50,000 for system implementation costs and approximately $2,500 per month for ongoing maintenance.

 

INFORMATION SOLUTIONS SECTOR

 

Through NIBI, HickoryTech’s Information Solutions Sector provides data processing and related services, principally for HickoryTech, other local exchange telephone companies, CLECs, interexchange network carriers, wireless companies, municipalities and utilities. The Information Solutions Sector’s principal activity is the provision of monthly batch processing of computerized data for HickoryTech as well as non-affiliated companies. Services for telephone company customers include the processing of long distance telephone calls from data sources and telephone switches, the preparation of the subscriber telephone bills, customer record keeping, carrier access bills and general accounting and payroll services. NIBI, under the brand name HickoryTech Information Solutions, also provides certain billing clearinghouse functions for interexchange carriers.

 

There are a number of companies engaged in supplying data processing services comparable to those furnished by the Information Solutions Sector. Competition is based primarily on price and service. HickoryTech’s Information Solutions Sector has developed an integrated billing and management system called SuiteSolution. SuiteSolution can provide wireline and wireless carriers the individual benefits of a billing platform or a total system solution. Management is unable to quantify what effect, if any, the pending sale of the wireless business may have on the marketplace for this product.

 

21



 

ENTERPRISE SOLUTIONS SECTOR

 

Through Collins, HickoryTech’s Enterprise Solutions Sector provides telephone and data equipment sales and services as well as the sale, installation and service of voice over Internet Protocol business systems to companies primarily based in metropolitan Minneapolis/St. Paul, Minnesota. This sector also supports the business telephone system service for HickoryTech ILEC and CLEC operations in southern Minnesota and Iowa. The customers in the Enterprise Solutions Sector’s market are the individual business end users of telecommunications service with ongoing service requirement offerings. Products consist of telecommunication platforms such as Nortel on the voice side of the Enterprise Solutions’ business, and Cisco and Bay Networks (Nortel) equipment on the data side of its business. Enterprise Solutions specializes in the quality custom installation and maintenance of data wide area networking solutions.

 

Revenues are primarily earned by the sales, installation and service of business telephone systems. Enterprise Solutions continues its commitment to service and support of its core product, Nortel, while identifying new opportunities such as call centers, computer telephone integration voice mail and interactive voice response systems.

 

HickoryTech’s Enterprise Solutions Sector is not dependent upon any single customer or small group of customers. No single customer in the Enterprise Solutions Sector accounts for ten percent or more of HickoryTech’s consolidated revenues.

 

Companies compete in equipment sales and service and voice over Internet Protocol communications products market in which Enterprise Solutions operates. Competition is based primarily on price and service. No one company is dominant in this field. Enterprise Solutions offers customer premises telephone and data equipment through well-trained and experienced market representatives with long-term customer relationships. The Enterprise Solutions Sector’s activities are focused on the sale, installation and service of business telephone systems and data communications equipment to companies based in metropolitan Minneapolis/St. Paul, Minnesota. This sector also supports the business telephone system service for HickoryTech’s ILEC and CLEC operations in Minnesota and Iowa.

 

22



 

RESULTS OF OPERATIONS

 

Restatement of loss from discontinued operations:

Hickory Tech has restated its unaudited consolidated financial statements to reflect a $7,415,000 reduction in the amount of the deferred income tax benefit related to the loss on disposal previously reported in the third quarter of fiscal 2003. This revision increased the previously reported third quarter loss from discontinued operations by $7,415,000, and correspondingly reduced long-term deferred income tax assets by $5,211,000 and increased long-term deferred income tax liabilities by $2,204,000, both at September 30, 2003. The revision increased each of the previously reported basic and diluted loss per share amounts from discontinued operations for the three and nine months ended September 30, 2003 by $0.53 and the net income per share amounts for the three and nine month periods by $0.53. However, the revision had no effect on the Company's previously reported revenue, operating income, income from continuing operations (and related per share amounts), or cash flows. See Note 1 of the accompanying notes to the consolidated financial statements for the effects of this revision on the unaudited consolidated financial statements.

 

CONSOLIDATED OPERATING RESULTS FROM CONTINUING OPERATIONS

The following is a summarized discussion of consolidated results of operations from continuing operations. More detailed discussion of operating results by segment follows this discussion.

 

OPERATING REVENUES FROM CONTINUING OPERATIONS - Consolidated operating revenues from continuing operations were $23,077,000, which is $1,261,000 or 5.2% lower in the three months ended September 30, 2003 compared to the three months ended September 30, 2002. Consolidated operating revenues from continuing operations were $69,526,000, which is $1,950,000 or 2.9% higher in the nine months ended September 30, 2003 compared to the nine months ended September 30, 2002. The decrease in revenues from continuing operations in the three months ended September 30, 2003 compared to the three months ended September 30, 2002 can be primarily attributed to a decrease in revenue in the Information Solutions Sector and a lower volume of business in the Enterprise Solutions Sector. The decrease in revenues in the Information Solutions sector can be largely attributed to a few customers who have experienced a significant decrease in volumes processed. In the third quarter of 2002, the Enterprise Solutions sector experienced an increase in installation revenues due to revenues related to a significant voice over Internet Protocol network HickoryTech was installing in the corporate offices of a large specialty retailer. This project was substantially completed by the third quarter of 2003, which resulted in the revenue decline between quarters. The increase in revenues from continuing operations in the nine months ended September 30, 2003 compared to the nine months ended September 30, 2002 was largely due to increases in revenues in the Telecom Sector resulting from increases in network access revenues, the CLEC customer base and increased broadband data service lines installed. This increase was partially offset by decreases in revenues in the Information Solutions Sector and the Enterprise Solutions Sector. The decrease in revenues in the Information Solutions sector can be largely attributed to a few customers who have experienced a significant decrease in volumes processed. In the third quarter of 2002, the Enterprise Solutions sector experienced an increase in installation revenues due to revenues related to a significant voice over Internet Protocol network HickoryTech was installing in the corporate offices of a large specialty retailer. This project has been substantially completed by the third quarter of 2003, which resulted in the revenue decline between quarters.

 

COST OF SALES, ENTERPRISE SOLUTIONS - Cost of sales, which is related to the Enterprise Solutions Sector was $2,606,000 which is $1,082,000 or 29.3% lower in the three months ended September 30, 2003 compared to the three months ended September 30, 2002. Cost of sales was $7,675,000, which is $230,000 or 2.9% lower in the nine months ended September 30, 2003 compared to the nine months ended September 30, 2002. Gross profit margin for this sector in the three and nine months ended September 30, 2003 was 26.9% and 29.3%, respectively, compared to 29.8% and 32.2% for the three and nine months ended September 30, 2002, respectively. The decrease in the cost of sales is the result of lower costs associated with volume of business in the Enterprise Solutions Sector and the decrease in the gross profit margin is the result of lower margins associated with a couple large system installations, which Enterprise Solutions performed in 2003.

 

23



 

 

OPERATING EXPENSES FROM CONTINUING OPERATIONS (excluding Depreciation and Amortization) - Operating expenses from continuing operations excluding depreciation and amortization was $11,475,000, which is $1,082,000 or 8.6% lower in the three months ended September 30, 2003 compared to the three months ended September 30, 2002. Operating expenses from continuing operations excluding depreciation and amortization was $35,242,000, which is $409,000 or 1.1 % lower in the nine months ended September 30, 2003 compared to the nine months ended September 30, 2002. In September of 2003, HickoryTech abandoned a CLEC initiative in a specific market. As a result of this operating decision, HickoryTech abandoned approximately $632,000 of property, plant and equipment which was written down to a carrying value of zero in the third quarter of 2003. The remaining decrease in operating expenses from continuing operations is primarily due to lower bad debt expense in the Telecom Sector of $499,000 for the three months ended September 30, 2003 compared to three months ended September 30, 2002. The higher bad debt expense in 2002 was due in large part to bankruptcies of interexchange carriers in the telecommunications industry. Another factor contributing to the decrease in expenses in the third quarter of 2003 compared to the third quarter of 2002 was a $859,000 reduction in compensation accruals associated with management incentives, which are tied to financial metrics and are not expected to be achieved as a result of the loss from discontinued operations recorded in the third quarter of 2003. The decrease in bad debt expense and the incentive compensation in 2003 were partially offset by increased expenses in the Telecom Sector related to the growth in CLEC customers. The Company’s initiative to maintain low operating expenses have also contributed to keeping labor and network expenses from rising significantly in 2003. Without the CLEC initiative write-off, operating expenses excluding depreciation and amortization would have been $34,610,000, which is $1,041,000 or 2.9% lower in the nine months ended September 30, 2003 compared to nine months ended September 30, 2002. The decrease in bad debt expense in 2003 was partially offset by increased expenses in the Telecom Sector related to the growth in CLEC customers. The Company’s initiative to maintain low operating expenses have also contributed to keeping labor and network expenses from rising significantly in 2003.

 

DEPRECIATION AND AMORTIZATION FROM CONTINUING OPERATIONS - Depreciation expense from continuing operations was $3,780,000, which is $332,000 or 9.6% higher in the three months ended September 30, 2003 compared to the three months ended September 30, 2002. Depreciation expense from continuing operations was $11,013,000, which is $928,000 or 9.2% higher in the nine months ended September 30, 2003 compared to the nine months ended September 30, 2002. Increases in the Telecom Sector’s network assets, specifically the assets associated with the CLEC business, and amortization of new billing software primarily account for the increase in depreciation expense from continuing operations. Amortization expense from continuing operations was $236,000, which is $100,000 or 29.8% lower in the three months ended September 30, 2003 compared to the three months ended September 30, 2002. Amortization expense from continuing operations was $761,000, which is $228,000 or 23.1% lower in the nine months ended September 30, 2003 compared to the nine months ended September 30, 2002. The decrease in amortization expense from continuing operations was largely due to an intangible asset in the Information Solutions Sector becoming fully amortized in the second quarter of 2003 and no amortization expense recorded for an intangible asset that was written off at the end of 2002.

 

OPERATING INCOME FROM CONTINUING OPERATIONS - Operating income from continuing operations was $4,980,000, which is $671,000 or 15.6% higher in the three months ended September 30, 2003 compared to the three months ended September 30, 2002. Operating income from continuing operations was $14,835,000, which is $1,889,000 or 14.6% higher in the nine months ended September 30, 2003 compared to the nine months ended September 30, 2002. The increase in operating income from continuing operations for the three and nine months ended September 30, 2003 was largely due to increased network access revenues, increased CLEC revenues, decreased bad debts in the Telecom Sector and the incentive compensation reversal, which were partially offset by the increase in operating expenses in the Telecom Sector and the decrease in the Information Solutions and Enterprise Solutions Sectors’ revenues, all of which are described above.

 

INTEREST EXPENSE FROM CONTINUING OPERATIONS - Interest expense from continuing operations decreased $173,000 or 9.9% to $1,579,000 in the three months ended September 30, 2003 compared to the three months ended September 30, 2002. Interest expense from continuing operations decreased $942,000 or 16.9% to $4,624,000 in the nine months ended September 30, 2003 compared to the nine months ended September 30, 2002. The decrease in interest expense from continuing operations for the period was primarily due to a decrease in total debt outstanding. The outstanding balance of the revolving credit facility was $140,750,000 at September 30, 2003 and $161,250,000 at September 30, 2002.

 

24



 

INCOME TAXES – The effective income tax rate of approximately 41% in all periods presented exceeds the federal statutory rate primarily due to state income taxes.

 

INCOME FROM CONTINUING OPERATIONS - Consolidated income from continuing operations was $2,017,000, which is $483,000 or 31.5% higher in the three months ended September 30, 2003 compared to the three months ended September 30, 2002. Consolidated income from continuing operations was $6,056,000, which is $1,626,000 or 36.7% higher in the nine months ended September 30, 2003 compared to the nine months ended September 30, 2002. The increase in operating income from continuing operations was largely due to increased network access revenues, increased CLEC revenues, and decreased bad debts in the Telecom Sector, which were partially offset by the increase in operating expenses in the Telecom Sector and the decrease in the Information Solutions and Enterprise Solutions Sectors’ revenues, as described above.

 

SECTOR RESULTS OF OPERATIONS FROM CONTINUING OPERATIONS

 

TELECOM – The following table provides a breakdown of the Telecom Sector operating results.

 

TELECOM SECTOR

 

 

 

For Three Months Ended

 

For Nine Months Ended

 

(Dollars in Thousands)

 

9/30/2003

 

9/30/2002

 

9/30/2003

 

9/30/2002

 

 

 

Restated (Note 1)

 

 

 

Restated (Note 1)

 

 

 

Revenues Before Intersegment Eliminations

 

 

 

 

 

 

 

 

 

ILEC

 

 

 

 

 

 

 

 

 

Local Service

 

$

3,780

 

$

3,760

 

$

11,349

 

$

11,319

 

Network Access

 

8,370

 

8,096

 

25,101

 

24,154

 

Intersegment

 

69

 

68

 

206

 

205

 

Other

 

2,355

 

2,231

 

6,745

 

6,889

 

Total ILEC

 

14,574

 

14,155

 

43,401

 

42,567

 

 

 

 

 

 

 

 

 

 

 

CLEC

 

 

 

 

 

 

 

 

 

Local Service

 

926

 

820

 

2,762

 

2,216

 

Other

 

1,440

 

1,247

 

4,242

 

2,703

 

Total CLEC

 

2,366

 

2,067

 

7,004

 

4,919

 

 

 

 

 

 

 

 

 

 

 

Long Distance

 

995

 

1,028

 

3,024

 

2,928

 

 

 

 

 

 

 

 

 

 

 

Internet

 

944

 

918

 

2,835

 

2,648

 

 

 

 

 

 

 

 

 

 

 

Total Telecom Revenues

 

$

18,879

 

$

18,168

 

$

56,264

 

$

53,062

 

 

 

 

 

 

 

 

 

 

 

Total Telecom Revenues Before Intersegment Eliminations

 

 

 

 

 

 

 

 

 

Unaffiliated Customers

 

$

18,810

 

$

18,100

 

$

56,058

 

$

52,857

 

Intersegment

 

69

 

68

 

206

 

205

 

 

 

18,879

 

18,168

 

56,264

 

53,062

 

 

 

 

 

 

 

 

 

 

 

Operating Expenses, excluding Depr. and Amort.

 

9,757

 

9,267

 

27,831

 

26,879

 

Depreciation and Amortization

 

3,319

 

3,144

 

9,779

 

9,156

 

Operating Income

 

$

5,803

 

$

5,757

 

$

18,654

 

$

17,027

 

 

 

 

 

 

 

 

 

 

 

Income from Continuing Operations

 

$

3,475

 

$

3,446

 

$

11,076

 

$

10,111

 

Income (Loss) from Discontinued Operations

 

(22,286

)

371

 

(21,802

)

1,060

 

Net Income (Loss)

 

$

(18,811

)

$

3,817

 

$

(10,726

)

$

11,171

 

 

25



 

 

 

For Three Months Ended

 

For Nine Months Ended

 

(Dollars in Thousands)

 

9/30/2003

 

9/30/2002

 

9/30/2003

 

9/30/2002

 

 

 

 

 

 

 

 

 

 

 

Capital Expenditures, excluding discontinued wireless business

 

$

1,935

 

$

1,110

 

$

5,091

 

$

6,462

 

 

 

 

 

 

 

 

 

 

 

ILEC Access Lines

 

63,421

 

65,360

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

CLEC Access Lines

 

 

 

 

 

 

 

 

 

Overbuild

 

9,607

 

7,385

 

 

 

 

 

Unbundled Network Element (UNE)

 

1,492

 

1,311

 

 

 

 

 

Total Service Resale (TSR)

 

2,938

 

4,736

 

 

 

 

 

Total

 

14,037

 

13,432

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Long Distance Customers

 

39,663

 

33,746

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Internet Customers

 

15,901

 

13,936

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total Telecom Customers, excluding discontinued wireless business

 

133,022

 

126,474

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

DSL Customers

 

6,694

 

3,162

 

 

 

 

 

 

Telecom Sector operating revenues before intersegment eliminations were $18,879,000, which is $711,000 or 3.9% higher in the three months ended September 30, 2003 compared to the three months ended September 30, 2002. Telecom Sector operating revenues before intersegment eliminations were $56,264,000, which is $3,202,000 or 6.0% higher in the nine months ended September 30, 2003 compared to the nine months ended September 30, 2002. The increases in 2003 compared to 2002 were primarily due to increased ILEC network access, growth in the CLEC and Internet service revenues.

 

ILEC network access revenue was $8,370,000, which is $274,000 or 3.4% higher in the three months ended September 30, 2003 compared to the three months ended September 30, 2002. ILEC network access revenue was $25,101,000, which is $947,000 or 3.9% higher in the nine months ended September 30, 2003 compared to the nine months ended September 30, 2002. The increase in network access revenue in 2003 compared to 2002 was driven by higher demand for dedicated lines and high-speed circuits. HickoryTech does not belong to any NECA traffic sensitive access revenue reimbursement pools, but instead, establishes access rates bi-annually following nationwide averages of providing access. HickoryTech’s interstate access rates were adjusted as of July 2003 and HickoryTech expects an additional revenue increase associated with transport components of access somewhere in a range of $375,000 to $500,000 for the three months ending December 31, 2003. Long-term continuation of these revenues is uncertain, however, as changes in the industry occur.

 

CLEC local service revenue was $926,000, which is $106,000 or 12.9% higher in the three months ended September 30, 2003 compared to the three months ended September 30, 2002. CLEC local service revenue was $2,762,000, which is $546,000 or 24.6% higher in the nine months ended September 30, 2003 compared to the nine months ended September 30, 2002. CLEC access lines increased by 605 lines or 4.5%, between September 30, 2002 and September 30, 2003, which was the primary reason for the increase. In addition, HickoryTech saw an increase in revenue of approximately $134,000 generated by optional calling plans in the nine months ended September 30, 2003 compared to the nine months ended September 30, 2002. In the second quarter of 2003, HickoryTech decided to exit several exchanges in its Iowa territories, which utilized a resale of services approach. As of September 30, 2003, HickoryTech has stopped providing service for 734 customers. As a result, revenues have decreased approximately $47,000 in the third quarter of 2003 compared to the second quarter of 2003. In addition, HickoryTech expects revenues to decrease approximately $131,000 in the fourth quarter of 2003 compared to the third quarter of 2003 due to this action of exiting CLEC resale in Iowa.

 

26



 

Other CLEC revenue was $1,440,000, which is $193,000 or 15.5% higher in the three months ended September 30, 2003 compared to the three months ended September 30, 2002. Other CLEC revenue was $4,242,000, which is $1,539,000 or 56.9% higher in the nine months ended September 30, 2003 compared to the nine months ended September 30, 2002. Other revenue included network access, high-speed data revenues and digital TV, which generally grew along with the increase in access lines in 2003 compared to 2002. The increase in other CLEC revenue for the nine months ended September 30, 2003 compared to the nine months ended September 30, 2002 was the additional $705,000 of revenue recognized as a result of services provided under terms of a multi-year contract awarded to HickoryTech effective July 1, 2002 to provide Internet access and video conferencing to schools and libraries in south central Minnesota served by the Project SOCRATES distance-learning network.

 

Long distance revenue was $995,000, which is $33,000 or 3.2 % lower in the three months ended September 30, 2003 compared to the three months ended September 30, 2002. Long distance revenue was $3,024,000, which is $96,000 or 3.3% higher in the nine months ended September 30, 2003 compared to the nine months ended September 30, 2002. HickoryTech experienced a 5,917 or 17.5% increase in its long distance customer base between September 30, 2002 and September 30, 2003. Although the customer base is increasing, revenue per customer is decreasing. The decrease in revenue per customer is primarily the result of optional long distance services available to customers, the increased use of Internet services and other alternatives to long distance services. Also, a competitor of HickoryTech recently received approval from the state of Minnesota to offer long-distance services in all HickoryTech territories. This competitor already offers local telephone service in HickoryTech’s CLEC territories and with this approval, has the potential to create stronger competition with HickoryTech in these markets, which could result in a reduction in long distance revenue in future periods.

 

Internet revenue was $944,000, which is $26,000 or 2.8% higher in the three months ended September 30, 2003 compared to the three months ended September 30, 2002. Internet revenue was $2,835,000, which is $187,000 or 7.1% higher in the nine months ended September 30, 2003 compared to the nine months ended September 30, 2002. The increase in revenue was caused primarily by an increase in Internet customers of 1,965 or 14.1% between September 30, 2002 and September 30, 2003.

 

Operating expenses excluding depreciation and amortization were $9,757,000, which is $490,000 or 5.3% higher in the three months ended September 30, 2003 compared to the three months ended September 30, 2002. Operating expenses excluding depreciation and amortization were $27,831,000, which is $952,000 or 3.5% higher in the nine months ended September 30, 2003 compared to the nine months ended September 30, 2002. In September of 2003, HickoryTech abandoned a CLEC initiative in a specific market. As a result of this operating decision, HickoryTech abandoned approximately $632,000 of property, plant and equipment which was written down to a carrying value of zero in the third quarter of 2003. This charge is included in the operating expenses of the Telecom Sector on the condensed consolidated statement of operations. The remaining decrease in expenses is primarily due to lower bad debt expense of $499,000 and $1,507,000 recorded in the three and nine months ended September 30, 2003 compared to the three and nine months ended September 30, 2002. The higher bad debt expense in 2002 was due in large part to bankruptcies of interexchange carriers in the telecommunications industry. Another factor contributing to the decrease in expenses in the third quarter of 2003 compared to the third quarter of 2002 was a $104,000 reduction in compensation accruals associated with management incentives, which are tied to financial metrics and are not expected to be achieved as a result of the loss from discontinued operations recorded in the third quarter of 2003. The decrease in bad debt expense and incentive compensation were partially offset by increased expenses related to customer operations in the growing CLEC business. Without the CLEC initiative write-off, operating expenses excluding depreciation and amortization would have been $27,199,000, which is $320,000 or 1.2% higher in the nine months ended September 30, 2003 compared to nine months ended September 30, 2002. The increase in operating expenses was due primarily to the costs associated with the growth in CLEC customers partially offset by the decrease in bad debt expense mentioned above. In the second quarter of 2003 and in order to align itself with the company strategy of being a facilities-based telecommunications provider, HickoryTech decided to exit several exchanges in its Iowa territories, which utilized a resale of services approach. As of September 30, 2003, HickoryTech has stopped providing service for 734 customers. Expenses have decreased approximately $91,000 in the third quarter of 2003 compared to the second quarter of 2003. In addition, HickoryTech expects expenses to decrease approximately $70,000 in the fourth quarter of 2003 compared to the third quarter of 2003, due to this action of exiting CLEC resale in Iowa.

 

27



 

Depreciation and amortization were $3,319,000, which is $175,000 or 5.6% higher in the three months ended September 30, 2003 and $9,779,000, which is $623,000 or 6.8% higher in the nine months ended September 30, 2003 compared to the same periods in 2002. Depreciation expense was $3,293,000, which is $191,000 or 6.2% higher in the three months ended September 30, 2003 and $9,728,000, which is $677,000 or 7.5% higher in the nine months ended September 30, 2003 compared to the same periods in 2002. The increase in depreciation expense can be largely attributed to increased network infrastructure. Amortization expense was $26,000, which is $16,000 or 38.1% lower in the three months ended September 30, 2003 compared to the three months ended September 30, 2002. Amortization expense was $51,000, which is $54,000 or 51.4% lower in the nine months ended September 30, 2003 compared to the nine months ended September 30, 2002. The decrease in amortization expense was largely due to no amortization expense recorded for an intangible asset that was written off at the end of 2002.

 

Total operating expenses were $13,076,000, which is $665,000 or 5.4% higher in the three months ended September 30, 2003 compared to the three months ended September 30, 2002. Total operating expenses were $37,610,000, which is $1,575,000 or 4.4% higher in the nine months ended September 30, 2003 compared to the nine months ended September 30, 2002. These expenses increased for the reasons described in the preceding two paragraphs.

 

Operating income was $5,803,000, which is $46,000 or 0.8% higher in the three months ended September 30, 2003 compared to the three months ended September 30, 2002. Operating income was $18,654,000, which is $1,627,000 or 9.6% higher in the nine months ended September 30, 2003 compared to the nine months ended September 30, 2002. Net income was $3,475,000, which is $29,000 or 0.8% higher in the three months ended September 30, 2003 compared to the three months ended September 30, 2002. Net income was $11,076,000, which is $965,000 or 9.5% higher in the nine months ended September 30, 2003 compared to the nine months ended September 30, 2002. These increases were for the reasons described above.

 

On September 18, 2003, HickoryTech executed a definitive agreement to sell the stock of its wireless business, Minnesota Southern Wireless Company (MSWC), to Western Wireless Corporation (WWC), for $25,000,000, subject to working capital and construction in progress adjustments to be determined at closing. The selling price is comprised of approximately one million shares of HickoryTech common stock to be returned to HickoryTech by WWC, and  $12,800,000 in cash. The market value of these shares was approximately $12,200,000 as of September 30, 2003.  The final fair market value of this stock consideration will be measured by the Company on the closing date of the sale.  HickoryTech will retire the shares of HickoryTech stock currently owned by WWC.  The transaction is expected to close in the fourth quarter of 2003, subject to approval of the Federal Communications Commission and satisfaction of various other closing conditions. The wireless operations are reported as part of the Telecom Sector. All statements of operations data included herein has been restated to reflect wireless operations as discontinued operations.

 

In connection with the determination by management in the third quarter of 2003 that it would pursue the sale of its wireless operations and that the purchase price would likely be less than the current carrying value of the wireless net assets, the Company completed an impairment test in the third quarter of 2003 for the FCC licenses pursuant to the requirements of SFAS No. 142, “Goodwill and Other Intangible Assets.” Management estimated the fair value of the FCC licenses using a discounted cash flow technique consistent with the method used by the Company in performing its most recent impairment analysis at December 31, 2002. As a result of this assessment, management determined that the FCC licenses were impaired and recorded an impairment charge of approximately $21 million ($18,638,000 after-tax), in the third quarter of 2003. This impairment charge is recorded as a component of the loss on discontinued operations on HickoryTech’s condensed consolidated statement of operations for the quarter ended September 30, 2003. HickoryTech believes that the decline in the fair value of its FCC licenses is due principally to the rapid pace of technological change being undertaken by the major wireless service providers to adopt new protocols (i.e. GSM or CDMA) and potentially move away from HickoryTech’s current primary protocol called TDMA, which has greatly hindered HickoryTech’s position in finding a future roaming partner. Other factors include declining roaming revenues, increasing price competition, and the protracted downturn in the telecommunications market. The FCC licenses were tested for impairment on an aggregate basis, which is consistent with HickoryTech’s management of the wireless business.

 

28



 

As a result of the Company’s commitment to sell the wireless business, the Company made a determination during the third quarter of 2003 that the remaining assets of the wireless operations should be considered “held for sale” pursuant to SFAS No. 144, “Accounting for Impairment or Disposal of Long-Lived Assets,” (SFAS No. 144). Pursuant to SFAS No. 144 the Company recorded an impairment charge during the third quarter of 2003 related to the other long-lived assets of the wireless business of $4,345,000 ($3,856,000 after tax). This charge is also recorded as a component of the loss on discontinued operations on HickoryTech’s condensed consolidated statement of operations for the quarter ended September 30, 2003. As of September 30, 2003, the carrying value of the remaining net assets of the wireless business is equal to its estimated selling price less the costs to sell it. This carrying value of the wireless assets and the related loss on discontinued operations is subject to adjustment to the extent that the fair market value of the HickoryTech shares to be received upon closing of the sale is higher or lower than the September 30, 2003 fair market value of the shares, or to the extent that actual costs to sell the wireless business are higher or lower than estimated.

 

Revenue from wireless discontinued operations was $4,009,000 for the three months ended September 30, 2003, which is $365,000 or 8.3% lower than the three months ended September 30, 2002. Revenue from wireless discontinued operations was$11,370,000 for the nine months ended September 30, 2003, which is $369,000 or 3.1% lower than the nine months ended September 30, 2002. The decrease in revenue from wireless discontinued operations for the three months ended September 30, 2003, compared to the three months ended September 30, 2002 was the result of a decrease in roaming revenues.  The decrease in revenue from wireless discontinued operations for the nine months ended September 30, 2003 compared to the nine months ended September 30, 2002 was the result of a decrease in roaming revenues, partially offset by an increase in equipment sales.

 

The loss before taxes from wireless discontinued operations was $24,873,000 for the three months ended September 30, 2003, compared to income of $949,000 for the three months ended September 30, 2002. The loss before taxes from wireless discontinued operations was $23,487,000 for the nine months ended September 30, 2003 compared to income of $2,637,000 for the nine months ended September 30, 2002. The decrease for the three and nine months ended September 30, 2003 compared to the three and nine months ended September 30, 2002 is mainly due to the $21,000,000 intangible asset impairment and the $4,345,000 long-lived asset impairment that was recorded in the third quarter of 2003, which are described above.

 

INFORMATION SOLUTIONS – The following table provides a breakdown of the Information Solutions Sector operating results.

 

INFORMATION SOLUTIONS SECTOR

 

 

 

For Three Months Ended

 

For Nine Months Ended

 

(Dollars in Thousands)

 

9/30/2003

 

9/30/2002

 

9/30/2003

 

9/30/2002

 

Revenues Before Eliminations

 

 

 

 

 

 

 

 

 

Unaffiliated Customers

 

$

702

 

$

981

 

$

2,609

 

$

3,064

 

Intersegment

 

848

 

841

 

2,379

 

2,325

 

 

 

1,550

 

1,822

 

4,988

 

5,389

 

Operating Expenses, excluding Depr. and Amort.

 

1,758

 

2,124

 

5,755

 

6,130

 

Depreciation and Amortization

 

618

 

519

 

1,743

 

1,548

 

 

 

 

 

 

 

 

 

 

 

Operating Loss

 

$

(826

)

$

(821

)

$

(2,510

)

$

(2,289

)

Net Loss

 

$

(540

)

$

(552

)

$

(1,643

)

$

(1,495

)

 

 

 

 

 

 

 

 

 

 

Capital Expenditures

 

$

7

 

$

658

 

$

151

 

$

1,866

 

 

29



 

Operating revenues from unaffiliated customers decreased $279,000 or 28.4% to $702,000 in the three months ended September 30, 2003 compared to the three months ended September 30, 2002. Operating revenues from unaffiliated customers decreased $455,000 or 14.8% to $2,609,000 in the nine months ended September 30, 2003 compared to the nine months ended September 30, 2002. The decrease in operating revenues in the three and nine months ended September 30, 2003 compared to the three and nine months ended September 30, 2002 can be largely attributed to the loss of a couple customers in 2003.

 

Operating expenses excluding depreciation and amortization decreased $366,000 or 17.2% to $1,758,000 in the three months ended September 30, 2003 compared to the three months ended September 30, 2002. Operating expenses excluding depreciation and amortization decreased $375,000 or 6.1% to $5,755,000 in the nine months ended September 30, 2003 compared to the nine months ended September 30, 2002. The decreases in operating expenses primarily reflect cost control measures initiated by management. In addition, shipping and other pass-through costs have declined due to the loss of a couple customers in 2003.

 

Depreciation and amortization expense increased $99,000 or 19.1% to $618,000 in the three months ended September 30, 2003 compared to the three months ended September 30, 2002. Depreciation and amortization expense increased $195,000 or 12.6% to $1,743,000 in the nine months ended September 30, 2003 compared to the nine months ended September 30, 2002. These net increases primarily relate to amortization of costs of new billing software developed during 2002.

 

Total operating expenses decreased $267,000 to $2,376,000 in the three months ended September 30, 2003 compared to the three months ended September 30, 2002 and decreased $180,000 to $7,498,000 in the nine months ended September 30, 2003 compared to the nine months ended September 30, 2002. These decreases were for the reasons described in the preceding two paragraphs.

 

Operating loss increased $5,000 or 0.6% in the three months ended September 30, 2003 compared to the three months ended September 30, 2002 and increased $221,000 or 9.7% in the nine months ended September 30, 2003 compared to the nine months ended September 30, 2002. Net loss decreased $12,000 or 2.2% in the three months ended September 30, 2003 compared to the three months ended September 30, 2002 and increased $148,000 or 9.9% in the nine months ended September 30, 2003 compared to the nine months ended September 30, 2002. The decrease in operating loss and net loss for the three months ended September 30, 2003 compared to the three months ended September 30, 2002 was due to the decrease in operating expenses. The increase in operating loss and net loss for the nine months ended September 30, 2003 compared to the nine months ended September 30, 2002 was primarily attributable to the decline in revenues combined with the increase in depreciation and amortization discussed above.

 

ENTERPRISE SOLUTIONS – The following table provides a breakdown of the Enterprise Solutions Sector operating results.

 

ENTERPRISE SOLUTIONS SECTOR

 

 

 

For Three Months Ended

 

For Nine Months Ended

 

(Dollars in Thousands)

 

9/30/2003

 

9/30/2002

 

9/30/2003

 

9/30/2002

 

 

 

 

 

 

 

 

 

 

 

Revenues Before Intersegment Eliminations

 

 

 

 

 

 

 

 

 

Installation

 

$

1,698

 

$

3,352

 

$

5,333

 

$

6,008

 

Service

 

1,867

 

1,905

 

5,526

 

5,647

 

 

 

3,565

 

5,257

 

10,859

 

11,655

 

Cost of Sales

 

2,606

 

3,688

 

7,675

 

7,905

 

Operating Expenses, excluding Depr. and Amort.

 

1,267

 

1,222

 

3,855

 

3,718

 

Depreciation and Amortization

 

61

 

65

 

182

 

201

 

 

 

 

 

 

 

 

 

 

 

Operating Income/(Loss)

 

$

(369

)

$

282

 

$

(853

)

$

(169

)

Net Income/(Loss)

 

$

(221

)

$

157

 

$

(516

)

$

(129

)

 

 

 

 

 

 

 

 

 

 

Capital Expenditures

 

$

12

 

$

 

$

201

 

$

55

 

 

30



 

Operating revenues decreased $1,692,000 or 32.2% to $3,565,000 in the three months ended September 30, 2003 compared to the three months ended September 30, 2002 and decreased $796,000 or 6.8% to $10,859,000 in the nine months ended September 30, 2003 compared to the nine months ended September 30, 2002. Installation revenue was $1,654,000 or 49.3% lower in the three months ended September 30, 2003 compared to the three months ended September 30, 2002 and $675,000 or 11.2% lower in the nine months ended September 30, 2003 compared the nine months ended September 30, 2002. The decrease in installation revenues in the three months ended September 30, 2003 was primarily a result of a decrease in sales and installations of PBX systems of $1,904,000 while the decrease in installation revenues in the nine months ended September 30, 2003 was also primarily a result of a decrease in sales and installations of PBX systems of $1,162,000. Installation of a voice over Internet Protocol network was being performed in a corporate office during the three months ended September 30, 2002 and was substantially complete by the three months ended September 30, 2003, thus the PBX sales and installations are lower in that timeframe. Service revenue decreased $38,000 or 2.0% to $1,867,000 in the three months ended September 30, 2003 compared to the three months ended September 30, 2002 and $121,000 or 2.1% to $5,526,000 in the nine months ended September 30, 2003 compared to the nine months ended September 30, 2002.

 

Cost of sales decreased $1,082,000 or 29.3% to $2,606,000 in the three months ended September 30, 2003 compared to the three months ended September 30, 2002 and decreased $230,000 or 2.9% to $7,675,000 in the nine months ended September 30, 2003 compared to the nine months ended September 30, 2002. Gross profit margin for this sector in the three and nine months ended September 30, 2003 was 26.9% and 29.3%, respectively compared to 29.8% and 32.2% for the three and nine months ended September 30, 2002, respectively. The decrease in cost of sales was the result of the decreased installation work described above and the decrease in the gross profit margin is the result of lower margins associated with a couple large system installations performed in 2003.

 

Operating expenses excluding depreciation and amortization increased $45,000 or 3.7% to $1,267,000 in the three months ended September 30, 2003 compared to the three months ended September 30, 2002 and increased $137,000 or 3.7% to $3,855,000 in the nine months ended September 30, 2003 compared to the nine months ended September 30, 2002. Depreciation and amortization decreased $4,000 or 6.2% in the three months ended September 30, 2003 compared to the three months ended September 30, 2003 and decreased $19,000 or 9.5% in the nine months ended September 30, 2003 compared to the nine months ended September 30, 2002.

 

Total operating expenses increased $41,000 to $1,328,000 in the three months ended September 30, 2003 compared to the three months ended September 30, 2002 and increased $118,000 to $4,037,000 in the nine months ended September 30, 2003 compared to the nine months ended September 30, 2002. The increases were for the reasons described in the preceding two paragraphs.

 

Operating loss was $369,000 in the three months ended September 30, 2003 compared to operating income of $282,000 in the three months ended September 30, 2002. Operating loss was $853,000 in the nine months ended September 30, 2003 compared to an operating loss of $169,000 in the nine months ended September 30, 2002. Net loss in the three months ended September 30, 2003 was $221,000 compared to net income of $157,000 in the three months ended September 30, 2002. Net loss in the nine months ended September 30, 2003 was $516,000 compared to a net loss of $129,000 in the nine months ended September 30, 2002. The operating and net losses generated in the three and nine months ended September 30, 2003 compared to the three and nine months ended September 30, 2002 occurred for the reasons described above.

 

LIQUIDITY AND CAPITAL RESOURCES

 

CASH FLOWS – Cash provided by operations was $24,804,000 in the first nine months of 2003 compared to $22,825,000 in the first nine months of 2002. Cash flows from operations in the first nine months of 2003 were primarily attributable to net income plus non-cash expenses for asset impairment, depreciation and amortization, partially offset by an increase in deferred income taxes receivable and the impact of the discontinued operations.  Cash flows from operations in the first nine months of 2002 were primarily attributable to net income plus non-cash expenses for asset impairment, depreciation and amortization and the provision for losses in accounts receivable.

 

31



 

 

Cash flows used in investing activities were $3,335,000 in the first nine months of 2003 compared to cash flows used of $11,879,000 for the same period in 2002. Capital expenditures relating to ongoing businesses were $7,532,000 during the first nine months of 2003 as compared to $12,222,000 for the same period in 2002. In 2002, capital expenditures were incurred primarily to construct additional network facilities to provide CLEC services and continued buildout of the PCS network in the Telecom Sector. Management expects capital expenditures in the fourth quarter of 2003 to be approximately $6,500,000. There were $4,100,000 redemptions of investments in the first nine months of 2003, compared to $100,000 in the first nine months of 2002. The first nine months of 2003 redemption reflects the amount by which HickoryTech was permitted to reduce its equity investment in one of its lenders, through conditions of its debt agreements.

 

Cash flows used in financing activities were $22,463,000 for the first nine months of 2003 compared to $12,565,000 for the first nine months of 2002. Included in cash flows used in financing activities are debt repayments and dividend payments. HickoryTech made payments on its revolving credit facility of $18,500,000 during the first nine months of 2003, and $10,950,000 during the first nine months of 2002. HickoryTech borrowed $1,250,000 on its revolving credit facility during the first nine months of 2003, and $2,200,000 during the first nine months of 2002. Dividend payments for the first nine months of 2003 were $4,610,000 compared to $4,438,000 for the same period in 2002. During the first nine months of 2003, HickoryTech also repurchased 66,600 common shares for $661,000. In addition, HickoryTech used $185,000 of cash in connection of the retirement of 18,370 common shares from a stock compensation plan in the second quarter of 2003.

 

WORKING CAPITAL – Working capital (i.e. current assets minus current liabilities) was $9,643,000 as of September 30, 2003, compared to working capital of $13,073,000 as of December 31, 2002. The ratio of current assets to current liabilities was 1.7:1.0 as of September 30, 2003 and 1.9:1.0 as of December 31, 2002. Management believes adequate internal and external resources are available to finance ongoing operating requirements, including capital expenditures, business development, debt service and the payment of dividends for at least the next twelve months.

 

LONG-TERM CONTRACTS, COMMITMENTS AND OFF-BALANCE SHEET OBLIGATIONS - HickoryTech’s long-term obligations as of September 30, 2003 were $140,096,000, excluding current maturities of $1,482,000. As of September 30, 2003, HickoryTech had a $182,250,000 credit facility with a syndicate of banks. The credit facility is comprised of a $125,000,000 revolving credit component and a $57,250,000 term loan component. The available line of credit on the $125,000,000 revolving credit component decreases in increments beginning in March 2004 with a final maturity date in September 2008. The term loan component requires equal quarterly principal payments of $250,000 during the period of March 2001 to December 2008, and $23,000,000 of principal payments per quarter for the first two quarters in 2009 and $6,000,000 in the third quarter of 2009. The weighted average interest rate associated with this credit facility and related instruments, varies with LIBOR and certain other rates and was 4.5% at September 30, 2003. HickoryTech has implemented fixed interest terms on various portions of the overall debt outstanding for varying terms. The longest fixed interest term, on $60,000,000 of the debt, is fixed until June 2008. As of September 30, 2003, HickoryTech had drawn $140,750,000 on this credit facility and had $41,500,000 of available credit. Management believes the remaining available credit is sufficient to cover future cash requirements.

 

HickoryTech’s Information Solutions Sector leases certain computer equipment under capital lease arrangements. During the first three quarters of 2003, this sector recorded additions to property, plant and equipment of $173,000 related to these capital lease arrangements.

 

32



 

The following table sets forth HickoryTech’s contractual obligations, along with the cash payments due each period. Interest on Long-term Debt is estimated using the interest rate as of September 30, 2003.

 

 

 

Payments Due by Year
(Dollars in Thousands)

 

 

 

Total

 

Remainder
of 2003

 

2004 to
2006

 

2007 to
2008

 

2009 and
after

 

Contractual Obligations

 

 

 

 

 

 

 

 

 

 

 

Long-term Debt

 

$

140,750

 

$

250

 

$

25,563

 

$

62,937

 

$

52,000

 

Interest on Long-term Debt

 

31,653

 

1,631

 

19,042

 

9,749

 

1,231

 

Capital Lease Obligations

 

828

 

115

 

713

 

 

 

Interest on Capital Leases

 

50

 

11

 

39

 

 

 

Operating Leases

 

1,220

 

364

 

511

 

45

 

300

 

Total Contractual Cash Obligations

 

$

174,501

 

$

2,371

 

$

45,868

 

$

72,731

 

$

53,531

 

 

The operating lease obligations for the remainder of 2003 include $103,000 of lease obligations related to the wireless operations.

 

The total commitment to HickoryTech on its revolving credit facility expires as follows:

 

 

 

Amount of Commitment Expiration per Year

 

(Dollars in Thousands)

 

Total

 

Remainder
of 2003

 

2004 to
2006

 

2007 to
2008

 

2009 and
after

 

Revolving Credit Component

 

$

125,000

 

$

 

$

64,063

 

$

60,937

 

$

 

 

HickoryTech has variable rate debt instruments, which subject the company to interest rate risk. Beginning in the second quarter of 2003, HickoryTech entered into interest rate swap agreements, with remaining maturities of nine months to fifty-seven months, to manage its exposure to interest rate movements on a portion of its variable rate debt obligations. The market value of the cumulative gain or loss on these derivative instruments is reported as a component of accumulated other comprehensive income in shareholders’ equity and is recognized in earnings when the term of the swap agreement is concluded.

 

HickoryTech accounts for derivative instruments in accordance with SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities,” as amended by SFAS No. 149, which requires derivative instruments to be recorded on the balance sheet at fair value. Changes in fair value of derivative instruments must be recognized in earnings unless specific hedge accounting criteria are met. HickoryTech has met those criteria with its cash flow hedge and SFAS. No. 133 states that they must recognize gains and losses in other comprehensive income rather than in earnings. These interest rate swap contracts resulted in a reduction in income of $217,000, and $234,000, reported as interest expense for the three and nine months ended September 30, 2003, respectively. These interest rate swaps also resulted in an increase in other comprehensive income of approximately $576,000, and $1,157,000, net of tax, for the three and nine months ended September 30, 2003, respectively.

 

HickoryTech still has some variable interest rate debt as of September 30, 2003. HickoryTech continually monitors the interest rates on its bank loans and has implemented fixed interest terms on various portions of the overall debt outstanding for varying terms. A lower level of interest expense is likely to occur because of a trend of declining levels of debt.

 

OTHER - HickoryTech operates with original equity capital, retained earnings and recent additions to indebtedness in the form of bank term and revolving lines of credit. HickoryTech believes its current level of debt to total capital is acceptable for ongoing operations.

 

33



 

In November 2002, HickoryTech began repurchasing its stock in over-the-counter trading under a previously announced repurchase plan. HickoryTech funds the repurchase of its stock from cash flows from operations. During the three months ended September 30, 2003, HickoryTech purchased 13,300 common shares for $142,000. During the nine months ended September 30, 2003, HickoryTech purchased 66,600 common shares for $661,000.

 

CRITICAL ACCOUNTING POLICIES

 

This Form 10-Q/A is based upon HickoryTech’s consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America (see Note 1 of the notes to the financial statements included in this Form 10-Q/A) and, where applicable, conform to the accounting principles as prescribed by federal and state telephone utility regulatory authorities. A description of the critical accounting policies adhered to by HickoryTech is contained in the Management’s Discussion and Analysis of Financial Condition and Results of Operations in HickoryTech’s Annual Report on Form 10-K for the year ended December 31, 2002. There were no significant changes to these critical accounting policies during the quarter ended September 30, 2003. During 2003, HickoryTech purchased an interest rate swap contract, which is accounted for pursuant to the provisions of SFAS No. 133 as described in Note 11 of the notes to the accompanying financial statements.

 

RECENT ACCOUNTING DEVELOPMENTS

 

In June 2001, the FASB issued SFAS No. 143, “Accounting for Asset Retirement Obligations.” SFAS No. 143 requires entities to record the fair value of the liability for legal obligations associated with an asset retirement in the period in which the obligation is incurred. When the liability is initially recorded, the entity capitalizes the cost of the asset retirement obligation by increasing the carrying amount of the related long-lived asset. Over time, the liability is accreted to its present value each period, and the capitalized cost is depreciated over the useful life of the related asset.

 

HickoryTech’s incumbent local exchange carrier companies (ILECs) follow the provisions of SFAS No. 71, and therefore conform to the accounting principles as prescribed by the respective state public utilities commissions and other federal agencies and, where applicable, accounting principles generally accepted in the United States of America. On December 20, 2002, the Federal Communications Commission (FCC) notified carriers that they would not adopt SFAS No. 143 for regulatory accounting purposes. At January 1, 2003, HickoryTech determined the amount of asset retirement obligations required to be recorded for its ILEC companies under the provisions of SFAS No. 143 were not significant, and therefore the implementation of SFAS No. 143 on January 1, 2003 did not impact HickoryTech’s financial position or results of operations.

 

HickoryTech’s competitive local telephone companies (CLEC), Enterprise Solutions, and Information Solutions also adopted SFAS No. 143 effective January 1, 2003. HickoryTech has determined that these companies do not have a material legal obligation to remove long-lived assets as described by SFAS No. 143, and accordingly, adoption of SFAS No. 143 did not impact HickoryTech’s financial position or results of operations.

 

HickoryTech also adopted the provisions of SFAS No. 143 for its wireless operations as of January 1, 2003. HickoryTech performed an analysis to identify all potential Asset Retirement Obligations. The legal obligations identified consist of obligations to remediate leased property where cell sites are located. However, based upon HickoryTech’s experience and expectations, there is significant uncertainty as to whether third parties that own these leased properties would enforce their remediation rights related to the sites. Furthermore, HickoryTech determined the amount of asset retirement obligations, if any, related to its wireless operations under the provisions of SFAS No. 143 were not significant, and therefore the implementation of SFAS No. 143 on January 1, 2003 did not impact HickoryTech’s financial position or results of operations. In addition, due to the pending sale of the wireless operations (see Note 4), HickoryTech does not expect to incur any asset retirement obligations related to its wireless operations.

 

34



 

In April 2002, the FASB issued SFAS No. 145, “Rescission of FASB Statements No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical Corrections.” SFAS No. 145 rescinds FASB Statement No. 4, “Reporting Gains and Losses from Extinguishment of Debt,” and an amendment of that Statement, FASB Statement No. 64, “Extinguishments of Debt Made to Satisfy Sinking-Fund Requirements.” SFAS No. 145 also rescinds FASB Statement No. 44, “Accounting for Intangible Assets of Motor Carriers,” and amends FASB Statement No. 13, “Accounting for Leases.” HickoryTech adopted the provisions of SFAS No. 145 on January 1, 2003. Adoption of this standard had no impact on the financial statements presented in this Form 10-Q/A.

 

In June 2002, the FASB issued SFAS No. 146, “Accounting for Costs Associated with Exit or Disposal Activities,” which replaces Emerging Issues Task Force (EITF) Issue No. 94-3, “Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred in a Restructuring).” SFAS No. 146 requires companies to recognize costs associated with exit or disposal activities when they are incurred rather than at the date of a commitment to an exit or disposal plan.  HickoryTech has engaged in no activities in the three or nine months ended September 30, 2003 that are subject to the provisions of SFAS No. 146. Accordingly, the adoption of SFAS No. 146 did not impact HickoryTech’s financial position or results of operations.

 

In December 2002, the FASB issued SFAS No. 148, “Accounting for Stock-Based Compensation – Transition Disclosure – an amendment of SFAS No. 123” (SFAS No. 148). This Statement amends SFAS No. 123, “Accounting for Stock-Based Compensation,” to provide alternative methods of transition for a voluntary change to the fair value based method of accounting for stock-based employee compensation. In addition, this Statement amends the disclosure requirements of SFAS No. 123 to require prominent disclosures in both annual and interim financial statements about the method of accounting for stock-based employee compensation and the effect of the method used on reported results. The provisions of SFAS No. 148 are effective for financial statements for fiscal years ending after December 15, 2002, and disclosure requirements shall be effective for interim periods beginning after December 15, 2002. The Company will continue to account for stock-based compensation to its employees and directors using the intrinsic value method prescribed by APB Opinion No. 25, and related interpretations. The Company adopted the provisions of SFAS No. 148 and has made certain disclosures required by SFAS No. 148 in the consolidated financial statements presented in this report. The adoption of SFAS No. 148 did not impact HickoryTech’s financial position or results of operations.

 

In November 2002, the FASB issued Interpretation No. 45, “Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others.” This interpretation elaborates on the disclosures required in financial statements concerning obligations under certain guarantees. It also clarifies the requirements related to the recognition of liabilities by a guarantor at the inception of certain guarantees. The disclosure requirements of this interpretation were effective for HickoryTech on December 31, 2002 but did not require any additional disclosures. The recognition provisions of the interpretation are effective for HickoryTech in 2003 and are applicable only to guarantees issued or modified after December 31, 2002. The adoption of Interpretation No. 45 did not impact the financial position, results of operations or cash flows of HickoryTech.

 

In April 2003, the FASB issued SFAS No. 149, “Amendment of Statement 133 on Derivative Instruments and Hedging Activities.” This statement amends and clarifies financial accounting and reporting for derivative instruments, including certain derivative instruments embedded in other contracts and for hedging activities under SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities.” SFAS No. 149 is effective for certain contracts entered into or modified after June 30, 2003. This standard did not change the accounting for HickoryTech’s interest rate swap contract and therefore had no impact on HickoryTech’s consolidated financial position, results of operations or cash flows (see Note 11).

 

35



 

Item 6.

Exhibits and Reports of Form 8-K.

 

 

 

 

(a)

Exhibits

 

 

Exhibit 31(a) Certification pursuant to rule 13a-14(a) under the Exchange Act, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

 

 

Exhibit 31(b) Certification pursuant to rule 13a-14(a) under the Exchange Act, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

 

 

Exhibit 32(a) Certification pursuant to 18 U.S.C. 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

 

 

Exhibit 32(b) Certification pursuant to 18 U.S.C. 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

 

 

 

 

(b)

HickoryTech furnished a Form 8-K on July 28, 2003 containing a press release announcing its second quarter consolidated operating results.

 

 

 

 

 

HickoryTech filed a Form 8-K on September 18, 2003 announcing that it signed a definitive agreement to sell all of its wireless business to Western Wireless Corporation.

 

36



 

SIGNATURES

 

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

 

Dated:

March 3, 2004

 

HICKORY TECH CORPORATION

 

 

 

 

 

 

 

By:

 /s/ John E. Duffy.

 

 

 

John E. Duffy, Chief Executive Officer

 

 

 

 

 

 

 

By:

 /s/ David A. Christensen

 

 

 

David A. Christensen, Chief Financial Officer

 

37