UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2009
OR
¨ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
Commission File Number 1-9712
UNITED STATES CELLULAR CORPORATION
(Exact name of registrant as specified in its charter)
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Delaware |
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62-1147325 |
(State or other jurisdiction of incorporation or organization) |
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(I.R.S. Employer Identification No.) |
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8410 West Bryn Mawr, Suite 700, Chicago, Illinois 60631 | ||
(Address of principal executive offices) (Zip Code) |
Registrant's telephone number, including area code: (773) 399-8900
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes ¨ No ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See the definitions of large accelerated filer, accelerated filer and smaller reporting company in Rule 12b‑2 of the Exchange Act.
Large accelerated filer x |
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Accelerated filer ¨ |
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Non-accelerated filer ¨ (Do not check if a smaller reporting company) |
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Smaller reporting company ¨ |
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No x
Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date.
Class |
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Outstanding at September 30, 2009 |
Common Shares, $1 par value |
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53,737,102 Shares |
Series A Common Shares, $1 par value |
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33,005,877 Shares |
Table of Contents
United States Cellular Corporation | ||||||||
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Quarterly Report on Form 10-Q | ||||||||
For the Period Ended September 30, 2009 | ||||||||
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Index | ||||||||
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Page No. |
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3 | |||||||
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Consolidated Statement of Operations |
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Three and Nine Months Ended September 30, 2009 and 2008 |
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Consolidated Statement of Cash Flows |
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Nine Months Ended September 30, 2009 and 2008 |
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Consolidated Balance Sheet |
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September 30, 2009 and December 31, 2008 |
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Consolidated Statement of Changes in Equity |
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Nine Months Ended September 30, 2009 and 2008 |
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22 | ||||||
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25 | |||
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34 | ||||||
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35 | ||||||
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36 | ||||||
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40 | ||||||
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41 | ||||||
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45 | |||||||
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Item 4. |
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47 | |||||||
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47 | |||||||
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48 | |||||||
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49 | |||||||
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50 | |||||||
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Part I. Financial Information |
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Item 1. Financial Statements |
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United States Cellular Corporation |
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Consolidated Statement of Operations |
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(Unaudited) |
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Three Months Ended |
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Nine Months Ended |
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2009 |
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2008 |
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2009 |
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2008 |
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(Dollars and shares in thousands, except per share amounts) |
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Operating revenues |
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Service | $ | 984,923 | $ | 1,013,928 | $ | 2,941,552 | $ | 2,963,374 | ||||||||||
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Equipment sales |
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73,377 |
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77,947 |
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212,062 |
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226,949 |
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Total operating revenues |
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1,058,300 |
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1,091,875 |
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3,153,614 |
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3,190,323 |
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Operating expenses |
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System operations (excluding Depreciation, amortization and accretion reported below) |
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205,458 |
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197,473 |
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600,267 |
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585,141 |
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Cost of equipment sold |
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189,354 |
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185,992 |
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531,110 |
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540,182 |
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Selling, general and administrative |
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454,839 |
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436,135 |
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1,277,357 |
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1,258,177 |
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Depreciation, amortization and accretion |
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147,586 |
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145,434 |
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423,851 |
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433,222 |
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Loss on asset disposals, net |
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3,371 |
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6,884 |
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7,648 |
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16,776 |
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Total operating expenses |
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1,000,608 |
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971,918 |
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2,840,233 |
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2,833,498 |
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Operating income |
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57,692 |
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119,957 |
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313,381 |
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356,825 |
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Investment and other income (expense) |
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Equity in earnings of unconsolidated entities |
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23,126 |
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22,319 |
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73,247 |
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66,361 |
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Interest and dividend income |
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1,420 |
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1,137 |
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2,648 |
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4,471 |
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Gain on disposition of investments |
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16,628 |
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16,628 |
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Interest expense |
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(19,358 |
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(19,722 |
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(57,767 |
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(60,611 |
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Other, net |
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905 |
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391 |
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1,183 |
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1,109 |
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Total investment and other income (expense) |
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6,093 |
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20,753 |
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19,311 |
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27,958 |
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Income before income taxes |
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63,785 |
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140,710 |
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332,692 |
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384,783 |
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Income tax expense |
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22,541 |
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45,506 |
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111,521 |
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137,062 |
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Net income |
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41,244 |
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95,204 |
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221,171 |
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247,721 |
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Less: Net income attributable to noncontrolling interests, net of tax |
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(5,606 |
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(5,255 |
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(17,583 |
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(14,613) |
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Net income attributable to U.S. Cellular |
$ |
35,638 |
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$ |
89,949 |
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$ |
203,588 |
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$ |
233,108 |
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Basic weighted average shares outstanding |
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86,848 |
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87,460 |
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87,011 |
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87,534 |
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Basic earnings per share attributable to U.S. Cellular shareholders |
$ |
0.41 |
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$ |
1.03 |
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$ |
2.34 |
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$ |
2.66 |
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Diluted weighted average shares outstanding |
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87,128 |
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87,833 |
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87,216 |
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87,908 |
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Diluted earnings per share attributable to U.S. Cellular shareholders |
$ |
0.41 |
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$ |
1.02 |
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$ |
2.33 |
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$ |
2.65 |
The accompanying notes are an integral part of these consolidated financial statements.
3 |
United States Cellular Corporation |
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Consolidated Statement of Cash Flows |
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(Unaudited) |
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Nine Months Ended |
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2009 |
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2008 |
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(Dollars in thousands) |
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Cash flows from operating activities |
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Net income |
$ |
221,171 |
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$ |
247,721 |
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Add (deduct) adjustments to reconcile net income to net cash flows from operating activities |
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Depreciation, amortization and accretion |
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423,851 |
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433,222 |
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Bad debts expense |
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73,100 |
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52,753 |
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Stock-based compensation expense |
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13,000 |
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11,293 |
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Deferred income taxes, net |
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44,429 |
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44,486 |
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Equity in earnings of unconsolidated entities |
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(73,247 |
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(66,361 |
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Distributions from unconsolidated entities |
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51,306 |
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50,859 |
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Gain on disposition of investments |
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(16,628 |
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Loss on asset disposals, net |
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7,648 |
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16,776 |
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Excess tax benefit from stock awards |
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(4 |
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(1,018 |
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Other noncash expense |
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1,828 |
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1,539 |
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Changes in assets and liabilities from operations |
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Accounts receivable |
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(101,263 |
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(71,551 |
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Inventory |
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(4,509 |
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(11,552 |
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Accounts payable - trade |
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(13,432 |
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11,383 |
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Accounts payable - affiliate |
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(980 |
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134 |
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Customer deposits and deferred revenues |
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(4,858 |
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9,534 |
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Accrued taxes |
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58,139 |
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(1,724 |
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Accrued interest |
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9,787 |
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9,787 |
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Other assets and liabilities |
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(68,272 |
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(24,073 |
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637,694 |
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696,580 |
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Cash flows from investing activities |
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Additions to property, plant and equipment |
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(357,770 |
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(395,637 |
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Proceeds from disposition of investments |
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16,690 |
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Cash received from divestitures |
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50 |
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6,838 |
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Cash paid for acquisitions and licenses |
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(12,527 |
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(314,730 |
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Other investing activities |
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1,357 |
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(1,255 |
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(368,890 |
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(688,094 |
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Cash flows from financing activities |
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Issuance of notes payable |
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100,000 |
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Repayment of notes payable |
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(100,000 |
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Common shares reissued for benefit plans, net of tax payments |
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(119 |
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(1,286 |
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Common shares repurchased |
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(24,283 |
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(23,146 |
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Excess tax benefit from stock awards |
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4 |
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1,018 |
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Payment of debt issuance costs |
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(4,416 |
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Distributions to noncontrolling interests |
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(5,856 |
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(9,146 |
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Other financing activities |
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(236 |
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(2,851 |
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(34,906 |
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(35,411 |
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Net increase (decrease) in cash and cash equivalents |
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233,898 |
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(26,925 |
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Cash and cash equivalents |
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Beginning of period |
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170,996 |
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204,533 |
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End of period |
$ |
404,894 |
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$ |
177,608 |
The accompanying notes are an integral part of these consolidated financial statements.
4
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United States Cellular Corporation | ||||||||
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Consolidated Balance Sheet Assets | ||||||||
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September 30, |
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December 31, | ||
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(Unaudited) |
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(Dollars in thousands) | ||||
Current assets |
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Cash and cash equivalents |
$ |
404,894 |
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$ |
170,996 | ||
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Accounts receivable |
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Customers, less allowances of $15,745 and $8,222, respectively |
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338,852 |
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330,390 | |
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Roaming |
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32,248 |
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34,841 | |
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Affiliated |
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198 |
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1,579 | |
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Other, less allowances of $525 and $150, respectively |
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76,660 |
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52,809 | |
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Inventory |
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121,073 |
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|
116,564 | ||
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Prepaid income taxes |
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4,793 |
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|
22,515 | ||
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Prepaid expenses |
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63,020 |
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|
51,645 | ||
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Net deferred income tax asset |
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19,481 |
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19,481 | ||
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Other current assets |
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53,101 |
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14,227 | ||
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1,114,320 |
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|
815,047 |
Investments |
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Licenses |
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1,445,501 |
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1,433,415 | ||
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Goodwill |
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494,737 |
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|
494,279 | ||
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Customer lists, net of accumulated amortization of $91,638 and $87,976, respectively |
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5,273 |
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|
8,936 | ||
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Investments in unconsolidated entities |
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177,497 |
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156,637 | ||
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Notes and interest receivable long-term |
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4,247 |
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4,297 | ||
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2,127,255 |
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|
2,097,564 |
Property, plant and equipment |
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In service and under construction |
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5,718,767 |
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|
5,884,383 | ||
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Less: accumulated depreciation |
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3,157,001 |
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|
3,264,007 | ||
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|
2,561,766 |
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|
2,620,376 |
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Other assets and deferred charges |
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38,484 |
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|
33,055 | |||
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Total assets |
$ |
5,841,825 |
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$ |
5,566,042 |
The accompanying notes are an integral part of these consolidated financial statements.
5
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United States Cellular Corporation |
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Consolidated Balance Sheet Liabilities and Shareholders Equity |
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September 30, |
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December 31, |
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(Unaudited) |
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(Dollars in thousands) |
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Current liabilities |
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Current portion of long-term debt |
$ |
10,088 |
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$ |
10,258 |
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Accounts payable |
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Affiliated |
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8,633 |
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9,613 |
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Trade |
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235,353 |
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|
248,785 |
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Customer deposits and deferred revenues |
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146,224 |
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|
151,082 |
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Accrued taxes |
|
56,500 |
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|
17,643 |
||||||
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Accrued compensation |
|
57,012 |
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|
55,969 |
||||||
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Other current liabilities |
|
102,157 |
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|
108,533 |
||||||
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|
615,967 |
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|
601,883 |
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Deferred liabilities and credits |
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|||||||
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Net deferred income tax liability |
|
518,245 |
|
|
478,106 |
||||||
|
Other deferred liabilities and credits |
|
250,762 |
|
|
233,619 |
||||||
|
|
|
|
|
|
|
769,007 |
|
|
711,725 |
||
|
|
|
|
|
|
|
|
|
|
|
||
Long-term debt |
|
997,552 |
|
|
996,636 |
|||||||
|
|
|
|
|
|
|
|
|
|
|
||
Commitments and contingencies |
|
|
|
|
|
|||||||
|
|
|
|
|
|
|
|
|
|
|
||
Noncontrolling interests with mandatory redemption features |
|
708 |
|
|
589 |
|||||||
|
|
|
|
|
|
|
|
|
|
|
||
Equity |
|
|
|
|
|
|||||||
|
U.S. Cellular shareholders' equity |
|
|
|
|
|
||||||
Common Shares, par value $1 per share; authorized 140,000,000 shares; issued 55,068,000 shares |
55,068 |
55,068 |
||||||||||
|
|
Series A Common Shares, par value $1 per share; authorized 50,000,000 shares; issued and outstanding 33,006,000 shares |
|
33,006 |
|
|
33,006 |
|||||
|
|
Additional paid-in capital |
|
1,353,544 |
|
|
1,340,146 |
|||||
|
|
Treasury shares, at cost, 1,331,000 and 794,000 Common Shares, respectively |
|
(63,912 |
) |
|
|
(50,258 |
) | |||
|
|
Retained earnings |
|
2,020,710 |
|
|
1,828,680 |
|||||
|
|
|
Total U.S. Cellular shareholders' equity |
|
3,398,416 |
|
|
3,206,642 |
||||
|
|
|
|
|
|
|
|
|
|
|
||
|
Noncontrolling interests |
|
60,175 |
|
|
48,567 |
||||||
|
|
|
|
|
|
|
|
|
|
|
||
|
|
|
|
Total equity |
|
3,458,591 |
|
|
3,255,209 |
|||
|
|
|
|
|
|
|
|
|
|
|
||
Total liabilities and equity |
$ |
5,841,825 |
|
$ |
5,566,042 |
The accompanying notes are an integral part of these consolidated financial statements.
6
|
United States Cellular Corporation |
||||||||||||||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
||||||||||||||
Consolidated Statement of Changes in Equity |
||||||||||||||||||||||||||||||
(Unaudited) |
||||||||||||||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
||||||||||||||
|
U.S. Cellular Shareholders |
|
|
|
|
|||||||||||||||||||||||||
(Dollars in thousands) |
Common Shares |
Series A Common Shares |
Additional Paid-In Capital |
Treasury Shares |
Retained Earnings |
Total Shareholders' Equity |
Noncontrolling Interests |
Total Equity |
||||||||||||||||||||||
Balance, December 31, 2008 |
$ |
55,068 |
$ |
33,006 |
$ |
1,340,146 |
$ |
(50,258 |
) |
$ |
1,828,680 |
$ |
3,206,642 |
$ |
48,567 |
$ |
3,255,209 |
|||||||||||||
Add (Deduct) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
||||||||||||||
Net income excluding portion attributable to noncontrolling interests with mandatory redemption features |
|
|
|
|
|
|
|
|
|
203,588 |
|
203,588 |
|
17,464 |
|
221,052 |
||||||||||||||
Repurchase of Common Shares |
|
|
|
|
|
|
|
(24,283 |
) |
|
|
|
(24,283 |
) |
|
|
|
(24,283 |
) | |||||||||||
Incentive and compensation plans |
|
|
|
|
|
1,391 |
|
10,629 |
|
(11,558 |
) |
|
462 |
|
|
|
462 |
|||||||||||||
Stock-based compensation awards |
|
|
|
|
|
13,000 |
|
|
|
|
|
13,000 |
|
|
|
13,000 |
||||||||||||||
Tax windfall (shortfall) from stock awards |
|
|
|
|
|
(993 |
) |
|
|
|
|
|
(993 |
) |
|
|
|
(993 |
) | |||||||||||
Distributions to noncontrolling interests |
|
|
|
|
|
|
|
|
|
|
|
(5,856 |
) |
(5,856 |
) | |||||||||||||||
Balance, September 30, 2009 |
$ |
55,068 |
$ |
33,006 |
$ |
1,353,544 |
$ |
(63,912 |
) |
$ |
2,020,710 |
$ |
3,398,416 |
$ |
60,175 |
$ |
3,458,591 |
The accompanying notes are an integral part of these consolidated financial statements.
7
|
United States Cellular Corporation |
|||||||||||||||||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||
Consolidated Statement of Changes in Equity |
|||||||||||||||||||||||||||||||||
(Unaudited) |
|||||||||||||||||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||
|
U.S. Cellular Shareholders |
|
|
|
|
||||||||||||||||||||||||||||
(Dollars in thousands) |
Common Shares |
Series A Common Shares |
Additional Paid-In Capital |
Treasury Shares |
Accumulated Other Comprehensive Income |
Retained Earnings |
Total Shareholders' Equity |
Noncontrolling Interests |
Total Equity |
||||||||||||||||||||||||
Balance, December 31, 2007 |
$ |
55,068 |
$ |
33,006 |
$ |
1,316,785 |
$ |
(41,859 |
) |
$ |
10,134 |
$ |
1,823,022 |
$ |
3,196,156 |
$ |
46,831 |
$ |
3,242,987 |
||||||||||||||
Add (Deduct) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||
Net income excluding portion attributable to noncontrolling interests with mandatory redemption features |
|
|
|
|
|
|
|
|
|
|
|
233,108 |
|
233,108 |
|
16,276 |
|
249,384 |
|||||||||||||||
Net change in marketable equity securities |
|
|
|
|
|
|
|
|
|
(10,134 |
) |
|
|
|
(10,134 |
) |
|
|
|
(10,134 |
) | ||||||||||||
Repurchase of Common Shares | | | 4,554 | (27,700 | ) | | | (23,146 | ) | | (23,146 | ) | |||||||||||||||||||||
Incentive and compensation plans |
|
|
|
|
|
1,323 |
|
18,433 |
|
|
|
(20,296 |
) |
|
(540 |
) |
|
|
|
(540 |
) | ||||||||||||
Stock-based compensation awards |
|
|
|
|
|
11,293 |
|
|
|
|
|
|
|
11,293 |
|
|
|
11,293 |
|||||||||||||||
Tax windfall (shortfall) from stock awards |
|
|
|
|
|
2,029 |
|
|
|
|
|
|
|
2,029 |
|
|
|
2,029 |
|||||||||||||||
Distributions to noncontrolling interests |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(9,146 |
) |
|
(9,146 |
) | |||||||||||||
Other |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
183 |
|
183 |
|||||||||||||||
Balance, September 30, 2008 |
$ |
55,068 |
$ |
33,006 |
$ |
1,335,984 |
$ |
(51,126 |
) |
$ |
|
$ |
2,035,834 |
$ |
3,408,766 |
$ |
54,144 |
$ |
3,462,910 |
The accompanying notes are an integral part of these consolidated financial statements.
8 |
Table of Contents
United States Cellular Corporation
Notes to Consolidated Financial Statements
1. Basis of Presentation
United States Cellular Corporation (U.S. Cellular®), a Delaware Corporation, is an 82%-owned subsidiary of Telephone and Data Systems, Inc. (TDSTM).
The accounting policies of U.S. Cellular conform to accounting principles generally accepted in the United States of America (GAAP) as set forth in the Financial Accounting Standards Board (FASB) Accounting Standards Codification. The consolidated financial statements include the accounts of U.S. Cellular, its majority-owned subsidiaries since acquisition, general partnerships in which U.S. Cellular has a majority partnership interest and any entity in which U.S. Cellular has a variable interest that requires U.S. Cellular to recognize a majority of the entitys expected gains or losses. All material intercompany accounts and transactions have been eliminated. Certain prior year amounts have been reclassified to conform to the 2009 presentation.
The consolidated financial statements included herein have been prepared by U.S. Cellular, without audit, pursuant to the rules and regulations of the Securities and Exchange Commission (SEC). Certain information and disclosures normally included in financial statements prepared in accordance with GAAP have been condensed or omitted pursuant to such rules and regulations. However, U.S. Cellular believes that the disclosures included herein are adequate to make the information presented not misleading. These consolidated financial statements should be read in conjunction with the consolidated financial statements and the notes thereto included in U.S. Cellulars Annual Report on Form 10-K for the year ended December 31, 2008.
The accompanying unaudited consolidated financial statements contain all adjustments (consisting of only normal recurring items unless otherwise disclosed) necessary to present fairly the financial position as of September 30, 2009 and December 31, 2008, the results of operations for the three and nine months ended September 30, 2009 and 2008, and cash flows and changes in equity for the nine months ended September 30, 2009 and 2008. The results of operations for the three and nine months ended September 30, 2009, and cash flows and changes in equity for the nine months ended September 30, 2009 are not necessarily indicative of the results to be expected for the full year.
2. Summary of Significant Accounting Policies
Amounts Collected from Customers and Remitted to Governmental Authorities
If the tax is assessed upon the customer and U.S. Cellular merely acts as an agent in collecting the tax on behalf of the governmental authority imposing such tax, the amounts collected from customers and remitted to governmental authorities are recorded net in Accrued taxes in the Consolidated Balance Sheet. If the tax is assessed upon U.S. Cellular, the amounts collected from customers as recovery of the tax are recorded in Service revenues and the amounts remitted to governmental authorities are recorded in Selling, general and administrative expenses in the Consolidated Statement of Operations. The amounts recorded in Service revenues that are billed to customers and remitted to governmental authorities totaled $31.9 million and $85.0 million for the three and nine months ended September 30, 2009, respectively, and $38.3 million and $107.8 million for the three and nine months ended September 30, 2008, respectively.
Implementation of Revised Business Combinations Accounting
Effective January 1, 2009, U.S. Cellular adopted new required provisions under GAAP related to business combinations. Although the revised provisions still require that all business combinations are to be accounted for at fair value in accordance with the acquisition method, they require U.S. Cellular to revise its application of the acquisition method in a number of significant aspects. Specifically, the new provisions require that transaction costs are to be expensed and that the acquirer must recognize 100% of the acquirees assets and liabilities, rather than a proportional share, for acquisitions of less than 100% of a business. In addition, the revised provisions eliminate the step acquisition model and provide that all business combinations, whether full, partial or step acquisitions, will result in all assets and liabilities of an acquired business being recorded at their fair values at the acquisition date. U.S. Cellular did not have any business combinations during the nine months ended September 30, 2009.
9
Table of Contents
Implementation of Noncontrolling Interests Accounting
See Note 3 Noncontrolling Interests for information related to U.S. Cellulars adoption of new required provisions under GAAP related to accounting for noncontrolling interests effective January 1, 2009.
Recent Accounting Pronouncements
In June 2009, the FASB issued an update to accounting standards now reflected in FASB Accounting Standards Codification No. 810, Consolidation. This revised guidance changes how U.S. Cellular will determine when an entity that is insufficiently capitalized or is not controlled through voting or similar rights should be consolidated. U.S. Cellular has several variable interest entities within the scope of these requirements (see Note 6 Variable Interest Entities). This revised guidance related to variable interest entities is effective for U.S. Cellular on January 1, 2010. U.S. Cellular has not yet determined the impact of adoption of the revised guidance, if any, on its financial position or results of operations.
3. Noncontrolling Interests
Noncontrolling Interests Accounting
Effective January 1, 2009, U.S. Cellular adopted new required provisions under GAAP related to accounting for noncontrolling interests.
Pursuant to this adoption, the following provisions were applied retrospectively to all periods presented in these financial statements:
· U.S. Cellular reclassified noncontrolling interests, formerly known as minority interests, from a separate caption between liabilities and shareholders' equity (mezzanine section) to a component of equity, with the exception of noncontrolling interests with redemption features, which continue to require mezzanine section presentation. Previously, minority interests generally were reported in the balance sheet in the mezzanine section.
· Consolidated net income and comprehensive income include amounts attributable to both U.S. Cellular and the noncontrolling interests. Previously, net income attributable to the noncontrolling interests was reported as a deduction in arriving at consolidated net income. This presentation change does not impact the calculation of basic or diluted earnings per share, which continue to be calculated based on Net income attributable to U.S. Cellular.
· Shares of U.S. Cellular held by its subsidiary are reflected as treasury shares in the consolidated financial statements. Previously, these shares were not reflected as issued shares and treasury shares in the consolidated financial statements. As a result, 22,534 Common Shares were added to both Common Shares issued and Treasury Shares in the Consolidated Balance Sheet as of September 30, 2009 and December 31, 2008.
Pursuant to this adoption, the following provisions were applied prospectively effective January 1, 2009:
· All earnings and losses of a subsidiary are attributed to the parent and the noncontrolling interest, even if the losses attributable to the noncontrolling interest result in a deficit noncontrolling interest balance. Previously, any losses exceeding the noncontrolling interests investment in the subsidiary were attributed to the parent. This change did not have a significant impact on U.S. Cellulars financial statements for the nine months ended September 30, 2009.
· Once control of a subsidiary is obtained, changes in ownership interests in that subsidiary that do not result in a loss of control are accounted for as equity transactions. Previously, decreases in ownership interest in a subsidiary were accounted for as equity transactions, while increases in ownership interests of a subsidiary were accounted for as step acquisitions. U.S. Cellular did not enter into any transactions in the nine months ended September 30, 2009 that changed its ownership interest in its consolidated subsidiaries. During the nine months ended September 30, 2008, U.S. Cellular purchased noncontrolling interests in a consolidated subsidiary. U.S. Cellular accounted for this transaction as a step acquisition. The amounts recorded in this transaction are reflected in the changes in the balances of Licenses, Goodwill and Customer lists.
10
Table of Contents
Mandatorily Redeemable Noncontrolling Interests in Finite-Lived Subsidiaries
Under GAAP, certain noncontrolling interests in consolidated entities with finite lives may meet the definition of mandatorily redeemable financial instruments. U.S. Cellulars consolidated financial statements include certain noncontrolling interests that meet this definition of mandatorily redeemable financial instruments. These mandatorily redeemable noncontrolling interests represent interests held by third parties in consolidated partnerships and limited liability companies (LLCs), where the terms of the underlying partnership or LLC agreement provide for a defined termination date at which time the assets of the subsidiary are to be sold, the liabilities are to be extinguished and the remaining net proceeds are to be distributed to the noncontrolling interest holders and U.S. Cellular in accordance with the respective partnership and LLC agreements. The termination dates of these mandatorily redeemable noncontrolling interests range from 2085 to 2094.
The settlement value of U.S. Cellulars mandatorily redeemable noncontrolling interests in finite-lived subsidiaries is estimated to be $138.2 million at September 30, 2009. This amount represents the estimate of cash that would be due and payable to settle these noncontrolling interests assuming an orderly liquidation of the finite-lived consolidated partnerships and LLCs on September 30, 2009, net of estimated liquidation costs. U.S. Cellular currently has no plans or intentions to liquidate any of the related partnerships or LLCs prior to their scheduled termination dates. The corresponding carrying value of the mandatorily redeemable noncontrolling interests in finite-lived consolidated partnerships and LLCs at September 30, 2009 was $56.5 million, and was included in Noncontrolling interests in the Consolidated Balance Sheet. The excess of the aggregate settlement value over the aggregate carrying value of these mandatorily redeemable noncontrolling interests of $81.7 million was due primarily to the unrecognized appreciation of the noncontrolling interest holders share of the underlying net assets in the consolidated partnerships and LLCs. Neither the noncontrolling interest holders share, nor U.S. Cellulars share, of the appreciation of the underlying net assets of these subsidiaries was reflected in the consolidated financial statements. The estimate of settlement value was based on certain factors and assumptions which are subjective in nature. Changes in those factors and assumptions could result in a materially larger or smaller settlement amount.
4. Fair Value Measurements
As of September 30, 2009 and December 31, 2008, U.S. Cellular did not have any financial assets or liabilities that were required, under the fair value accounting standards of GAAP, to be recorded at fair value on a recurring basis in its Consolidated Balance Sheet. However, U.S. Cellular has applied the provisions of fair value accounting for purposes of computing the fair value of financial instruments for disclosure purposes. The fair value of financial instruments was as follows:
|
|
September 30, |
|
December 31, | |||||||||
|
Book Value |
|
|
Fair Value |
|
Book Value |
|
Fair Value | |||||
|
|
(Dollars in thousands) | |||||||||||
Cash and cash equivalents |
$ |
404,894 |
|
$ |
404,894 |
|
$ |
170,996 |
|
$ |
170,996 | ||
Current portion of long-term debt (1) |
|
10,000 |
|
|
9,886 |
|
|
10,000 |
|
|
9,887 | ||
Long-term debt (1) |
|
993,088 |
|
|
940,666 |
|
|
992,748 |
|
|
663,432 |
The fair value of cash equivalents included in Cash and cash equivalents approximates their book value due to the short-term nature of these financial instruments. The fair value of U.S. Cellulars Current portion of long-term debt, excluding capital lease obligations, was estimated using a discounted cash flow analysis. The fair value of U.S. Cellulars Long-term debt, excluding capital lease obligations, was estimated using market prices for the 7.5% and 8.75% senior notes and discounted cash flow analysis for the remaining debt.
As of September 30, 2009, U.S. Cellular did not have any nonfinancial assets or liabilities that required the application of fair value accounting for purposes of reporting such amounts in its Consolidated Balance Sheet.
11
Table of Contents
5. Income Taxes
U.S. Cellular is included in a consolidated federal income tax return and in certain state income tax returns with other members of the TDS consolidated group. For financial statement purposes, U.S. Cellular and its subsidiaries compute their income tax expense as if they comprised a separate affiliated group and were not included in the TDS consolidated group.
U.S. Cellulars overall effective tax rate on Income before income taxes for the three and nine months ended September 30, 2009 was 35.3% and 33.5%, respectively, and for the three and nine months ended September 30, 2008 was 32.3% and 35.6%, respectively.
· The effective tax rate of 35.3% for the three months ended September 30, 2009 was higher than the rate of 32.3% for the three months ended September 30, 2008 primarily due to discrete income tax benefits which aggregated $1.2 million and $6.0 million for the three months ended September 30, 2009 and 2008, respectively. In the three months ended September 30, 2008, approximately $3.0 million of the discrete benefits were the result of a change in U.S. Cellulars filing position in a state for the years 2004 through 2007, which resulted in the filing of amended state tax returns for these years. Absent these benefits, the effective tax rate for the three months ended September 30, 2009 and 2008 would have been 37.2% and 36.6%, respectively.
· The effective tax rate of 33.5% for the nine months ended September 30, 2009 was lower than the rate of 35.6% for the nine months ended September 30, 2008 primarily due to discrete income tax benefits which aggregated $13.6 million and $6.7 million for the nine months ended September 30, 2009 and 2008, respectively. In the nine months ended September 30, 2009, approximately $6.9 million of the discrete benefits were the result of a state tax benefit resulting from a state tax law change. This law change is not expected to have any ongoing benefit. In the nine months ended September 30, 2008, the discrete benefits were primarily the result of the items discussed above for the three months ended September 30, 2008. Absent these benefits, the effective tax rate for the nine months ended September 30, 2009 and 2008 would have been 37.6% and 37.4%, respectively.
In 2008, upon completion of the audit of the TDS consolidated groups federal income tax returns for the years 2002 through 2005, the Internal Revenue Service (IRS) issued a proposed assessment of income tax. TDS protested the proposed assessment. A tentative resolution has been reached with the IRS, which is subject to review by the Joint Committee on Taxation. Under the tentative resolution, the IRS would concede the proposed adjustments and penalties in full. Pursuant to a provision of the Internal Revenue Code, TDS made a $38 million deposit with the IRS in order to eliminate any potential interest expense subsequent to the deposit. U.S. Cellular then paid TDS a $34 million deposit in March 2009, which represented its proportionate share of the deposit that TDS paid to the IRS. This deposit is included in Other current assets in U.S. Cellulars Consolidated Balance Sheet at September 30, 2009. Subject to Joint Committee approval of the tentative resolution with the IRS, the deposit made by TDS would be refunded to TDS by the IRS and TDS would refund U.S. Cellulars portion to U.S. Cellular.
6. Variable Interest Entities
From time to time, the Federal Communications Commission (FCC) conducts auctions through which additional spectrum is made available for the provision of wireless services. U.S. Cellular participated in spectrum auctions indirectly through its limited partnership interests in Aquinas Wireless L.P. (Aquinas Wireless), King Street Wireless L.P. (King Street Wireless), Barat Wireless L.P. (Barat Wireless) and Carroll Wireless L.P. (Carroll Wireless), collectively, the limited partnerships. Each entity qualified as a designated entity and thereby was eligible for bid credits with respect to licenses purchased in accordance with the rules defined by the FCC for each auction. In most cases, the bidding credits resulted in a 25% discount from the gross winning bid. Some licenses were closed licenses, for which no credit was received, but bidding was restricted to bidders qualifying as entrepreneurs, which are small businesses that have a limited amount of assets and revenues.
12
A summary of the auctions in which each entity participated and the auction results for each of these entities are shown in the table below.
|
FCC Auction |
Auction End Date |
Date Applications Granted by FCC |
Number of Licenses Won | ||||
Aquinas Wireless |
78 |
August 20, 2008 |
(1) |
5 (2) | ||||
King Street Wireless |
73 |
March 20, 2008 |
(1) |
152 (2) | ||||
Barat Wireless |
66 |
September 18, 2006 |
April 30, 2007 |
17 | ||||
Carroll Wireless |
58 |
February 15, 2005 |
January 6, 2006 |
16 |
(1) As of September 30, 2009 and as of the date of the filing of this Form 10-Q, the FCC had not granted licenses to Aquinas Wireless and King Street Wireless for Auctions 78 and 73, respectively.
(2) Provisionally won.
Consolidated Variable Interest Entities
As of September 30, 2009, U.S. Cellular consolidates the following entities that are variable interest entities (VIEs) under GAAP:
· Aquinas Wireless;
· King Street Wireless and King Street Wireless, Inc., the general partner of King Street Wireless;
· Barat Wireless and Barat Wireless, Inc., the general partner of Barat Wireless; and
· Carroll Wireless and Carroll PCS, Inc., the general partner of Carroll Wireless.
GAAP establishes certain criteria for consolidation of variable interest entities when voting control is not present. Specifically, for a variable interest entity, as such term is defined by GAAP, an entity, referred to as the primary beneficiary, that absorbs a majority of the variable interest entity's expected gains or losses is required to consolidate such a variable interest entity. U.S. Cellular holds a variable interest in the entities listed above due to capital contributions and/or advances it has provided to these entities. Given the significance of these contributions and/or advances in relation to the equity investment at risk, U.S. Cellular was deemed to be the primary beneficiary of these VIEs. Accordingly, these VIEs are consolidated because U.S. Cellular anticipates benefiting from or absorbing a majority of these VIEs' expected gains or losses.
Following is a summary of the capital contributions and advances made to each entity by U.S. Cellular as of September 30, 2009 (dollars in thousands). The amounts shown in the table below exclude funds provided to these entities solely from the shareholder of the general partner.
Aquinas Wireless |
$ |
2,132 | ||
King Street Wireless & King Street Wireless, Inc. |
|
300,604 | ||
Barat Wireless & Barat Wireless, Inc. |
|
127,485 | ||
Carroll Wireless & Carroll PCS, Inc. |
|
130,594 | ||
|
|
$ |
560,815 |
13
The following table presents the classification of the consolidated VIEs assets and liabilities in U.S. Cellulars Consolidated Balance Sheet.
|
|
September 30, 2009 |
|
December 31, 2008 | |||
|
| ||||||
|
|
(Dollars in thousands) | |||||
Assets |
|
|
|
|
| ||
|
Cash |
$ |
481 |
|
$ |
684 | |
|
Other current assets |
|
230 |
|
|
63 | |
|
Licenses |
|
487,962 |
|
|
487,962 | |
|
Other assets |
|
425 |
|
|
| |
|
Total assets |
$ |
489,098 |
|
$ |
488,709 | |
|
|
|
|
|
|
| |
Liabilities |
|
|
|
|
| ||
|
Customer deposits and deferred revenues |
$ |
65 |
|
$ |
63 | |
|
Total liabilities |
$ |
65 |
|
$ |
63 |
Other Related Matters
U.S. Cellular may agree to make additional capital contributions and/or advances to the VIEs discussed above and/or to their general partners to provide additional funding for the development of licenses granted in the various auctions. U.S. Cellular may finance such amounts with a combination of cash on hand, borrowings under its revolving credit agreement and/or long-term debt. There is no assurance that U.S. Cellular will be able to obtain additional financing on commercially reasonable terms or at all to provide such financial support.
The general partner of each of these VIEs has the right to manage and operate the limited partnerships; however, the general partner needs consent of the limited partner, a subsidiary of U.S. Cellular, in certain limited circumstances, such as to make certain large expenditures, admit other partners, or liquidate the limited partnerships.
See Note 13 Commitments and Contingencies for additional information related to the participation of Carroll Wireless, Barat Wireless and King Street Wireless in Auction 58, Auction 66 and Auction 73, respectively.
These VIEs are in the process of developing long-term business and financing plans. These entities were formed to participate in FCC auctions of wireless spectrum and to fund, establish and provide wireless service with respect to any FCC licenses won in the auctions. As such, these entities have risks similar to those described in the "Risk Factors" in U.S. Cellular's Form 10-K for the year ended December 31, 2008.
14
Table of Contents
7. Earnings Per Share
Basic earnings per share is computed by dividing Net income attributable to U.S. Cellular by the weighted average number of common shares outstanding during the period. Diluted earnings per share is computed by dividing Net income attributable to U.S. Cellular by the weighted average number of common shares adjusted to include the effects of potentially dilutive securities. Potentially dilutive securities include incremental shares issuable upon exercise of outstanding stock options and the vesting of restricted stock units.
The amounts used in computing Earnings per Common and Series A Common Share and the effects of potentially dilutive securities on the weighted average number of Common and Series A Common Shares are as follows:
|
|
|
|
Three Months Ended September 30, |
|
Nine Months Ended September 30, | ||||||||
|
|
|
|
| ||||||||||
|
|
|
|
2009 |
|
2008 |
|
2009 |
|
2008 | ||||
|
|
|
|
(Dollars and shares in thousands, except per share amounts) | ||||||||||
Net income attributable to U.S. Cellular |
$ |
35,638 |
|
$ |
89,949 |
|
$ |
203,588 |
|
$ |
233,108 | |||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted average number of shares used in basic earnings per share |
|
86,848 |
|
|
87,460 |
|
|
87,011 |
|
87,534 | ||||
Effect of dilutive securities: |
|
|
|
|
|
|
|
|
|
|
| |||
|
Stock options (1) |
|
36 |
|
|
136 |
|
|
20 |
|
|
195 | ||
|
Restricted stock units (2) |
|
244 |
|
|
237 |
|
|
185 |
|
|
179 | ||
Weighted average number of shares used in diluted earnings per share |
|
87,128 |
|
|
87,833 |
|
|
87,216 |
|
|
87,908 | |||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic earnings per share attributable to U.S. Cellular shareholders |
$ |
0.41 |
|
$ |
1.03 |
|
$ |
2.34 |
|
$ |
2.66 | |||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Diluted earnings per share attributable to U.S. Cellular shareholders |
$ |
0.41 |
|
$ |
1.02 |
|
$ |
2.33 |
|
$ |
2.65 |
(1) Stock options exercisable into 2,072,338 and 2,023,926 Common Shares in the three and nine months ended September 30, 2009, respectively, and 1,265,139 and 794,429 Common Shares in the three and nine months ended September 30, 2008, respectively, were not included in computing Diluted Earnings per Share because their effects were antidilutive.
(2) Restricted stock units issuable upon vesting into 306 and 175,109 Common Shares in the three and nine months ended September 30, 2009, respectively, and 930 and 151,310 Common Shares in the three and nine months ended September 30, 2008, respectively, were not included in computing Diluted Earnings per Share because their effects were antidilutive.
8. Acquisitions, Divestitures and Exchanges
U.S. Cellular assesses its existing wireless interests on an ongoing basis with a goal of improving the competitiveness of its operations and maximizing its long-term return on investment. As part of this strategy, U.S. Cellular reviews attractive opportunities to acquire additional operating markets and wireless spectrum. In addition, U.S. Cellular may seek to divest outright or include in exchanges for other wireless interests those markets and wireless interests that are not strategic to its long-term success.
Significant transactions pending as of September 30, 2009
The FCC auction of spectrum in the PCS and AWS-1 bands, designated by the FCC as Auction 78, closed on August 20, 2008. U.S. Cellular participated in Auction 78 indirectly through its limited partnership interest in Aquinas Wireless. Aquinas Wireless paid $2.1 million to the FCC in 2008 for five licenses for which it was the provisional winning bidder in the auction.
U.S. Cellular also participated in the FCC auction of spectrum in the 700 megahertz band, designated as Auction 73, which closed on March 20, 2008. U.S. Cellular participated in Auction 73 indirectly through its limited partnership interest in King Street Wireless. King Street Wireless paid $300.5 million to the FCC in 2008 for 152 licenses for which it was the provisional winning bidder in the auction.
There is no prescribed timeframe for the FCC to review the qualifications of the various winning bidders and grant licenses related to Auctions 78 and 73. As of September 30, 2009 and as of the date of the filing of this Form 10-Q, the FCC had not granted the licenses to Aquinas Wireless or King Street Wireless. See Note 6Variable Interest Entities, for further details on Aquinas Wireless and King Street Wireless.
15
9. Gain on Disposition of Investments
Prior to August 7, 2008, U.S. Cellular held 370,882 common shares of Rural Cellular Corporation (RCC). On August 7, 2008, RCC was acquired by Verizon Wireless, with shareholders of RCC receiving cash of $45 per share in exchange for each RCC share owned. As a result of this exchange, U.S. Cellular received total cash proceeds of $16.7 million and recognized a pre-tax gain of $16.4 million in August 2008.
10. Licenses and Goodwill
Changes in U.S. Cellulars licenses and goodwill for the nine months ended September 30, 2009 and 2008 are presented below.
|
|
|
September 30, 2009 |
|
September 30, 2008 | ||||
|
|
| |||||||
|
|
|
(Dollars in thousands) | ||||||
Licenses |
|
|
|
|
| ||||
Balance, beginning of period |
$ |
1,433,415 |
|
$ |
1,482,446 | ||||
|
Acquisitions |
|
12,250 |
|
|
312,397 | |||
|
Other |
|
(164 |
) |
|
|
| ||
Balance, end of period |
$ |
1,445,501 |
|
$ |
1,794,843 |
|
|
|
September 30, 2009 |
|
September 30, 2008 | |||
|
|
|
| |||||
|
|
|
(Dollars in thousands) | |||||
Goodwill |
|
|
|
|
| |||
Balance, beginning of period |
$ |
494,279 |
|
$ |
491,316 | |||
|
Acquisitions |
|
|
|
|
2,602 | ||
|
Other |
|
458 |
|
|
| ||
Balance, end of period |
$ |
494,737 |
|
$ |
493,918 |
Licenses and goodwill must be reviewed for impairment annually or more frequently if events or changes in circumstances indicate that the asset might be impaired. Historically, U.S. Cellular completed the required annual impairment assessment of its licenses and goodwill as of April 1 of each year.
As a result of the deterioration in the credit and financial markets and the decline of the overall economy in the fourth quarter of 2008, U.S. Cellular performed an interim impairment assessment of licenses and goodwill as of December 31, 2008. The assessment resulted in an impairment loss of $386.7 million on licenses, which was recognized in December 2008, and no impairment of goodwill.
As noted above, U.S. Cellulars annual impairment review of goodwill and indefinite-lived intangible assets was completed as of April 1 of each year. Effective April 1, 2009, U.S. Cellular adopted a new accounting policy whereby its annual impairment review of goodwill and indefinite-lived intangible assets will be performed as of November 1 instead of April 1 of each year. As indicated above, an impairment analysis of goodwill and indefinite-lived intangible assets was last completed as of December 31, 2008. The change in the annual goodwill and indefinite-lived intangible asset impairment testing date was made to better align the annual impairment test with the timing of U.S. Cellulars annual strategic planning process, which allows for a better estimate of the future cash flows used in discounted cash flow models to test for impairment. This change in accounting policy does not delay, accelerate or avoid an impairment charge. Accordingly, U.S. Cellular management believes that this accounting change is preferable under the circumstances.
16
11. Investment in Unconsolidated Entities
Investments in unconsolidated entities consist of amounts invested in wireless entities in which U.S. Cellular holds a noncontrolling interest. These investments are accounted for using either the equity or cost method.
Equity in earnings of unconsolidated entities totaled $23.1 million and $22.3 million in the three months ended September 30, 2009 and 2008, respectively, and $73.2 million and $66.4 million in the nine month periods then ended, respectively. Of those amounts, U.S. Cellulars investment in the Los Angeles SMSA Partnership (LA Partnership) contributed $15.5 million and $15.3 million in the three months ended September 30, 2009 and 2008, respectively, and $49.5 million and $49.2 million in the nine months ended September 30, 2009 and 2008, respectively. U.S. Cellular held a 5.5% ownership interest in the LA Partnership during these periods.
The following table summarizes the combined results of operations of U.S. Cellulars equity method investments:
|
Three Months Ended September 30, |
|
Nine Months Ended September 30, | |||||||||
|
| |||||||||||
|
2009 |
|
2008 |
|
2009 |
|
2008 | |||||
|
(Dollars in thousands) | |||||||||||
|
|
|
|
|
|
|
|
|
|
|
| |
Revenues |
$ |
1,211,000 |
|
$ |
1,235,000 |
|
$ |
3,580,000 |
|
$ |
3,580,000 | |
Operating expenses |
|
870,000 |
|
|
875,000 |
|
|
2,518,000 |
|
|
2,504,000 | |
Operating income |
|
341,000 |
|
|
360,000 |
|
|
1,062,000 |
|
|
1,076,000 | |
Other income (expense) |
|
8,000 |
|
|
5,000 |
|
|
29,000 |
|
|
16,000 | |
Net income |
$ |
349,000 |
|
$ |
365,000 |
|
$ |
1,091,000 |
|
$ |
1,092,000 |
12. Notes Payable
Prior to June 30, 2009, U.S. Cellular had a $700 million revolving credit facility available for general corporate purposes. On June 30, 2009, U.S. Cellular entered into a new $300 million revolving credit agreement with certain lenders and other parties. As a result, U.S. Cellulars $700 million revolving credit agreement, which was due to expire in December 2009, was terminated on June 30, 2009 as a condition of entering into the new agreement. The new revolving credit agreement provides U.S. Cellular with a $300 million senior revolving credit facility for working capital, acquisitions and other corporate purposes and to refinance any existing debt of U.S. Cellular. Amounts under the new revolving credit facility may be borrowed, repaid and reborrowed from time to time from and after June 30, 2009 until maturity in June 2012.
At September 30, 2009, there were no outstanding borrowings and $0.3 million of outstanding letters of credit, leaving $299.7 million available for use. Borrowings under the new revolving credit facility bear interest at the London InterBank Offered Rate (LIBOR) (or, at U.S. Cellulars option, an alternate Base Rate as defined in the new revolving credit agreement) plus a contractual spread based on U.S. Cellulars credit rating. U.S. Cellular may select borrowing periods of either one, two, three or six months (or other period of twelve months or less requested by U.S. Cellular if approved by the lenders). At September 30, 2009, the one-month LIBOR was 0.25% and the contractual spread was 300 basis points. If U.S. Cellular provides less than three business days notice of intent to borrow, interest on borrowings is the Base Rate plus the contractual spread (the Base Rate was 3.25% at September 30, 2009).
U.S. Cellulars interest cost on its new revolving credit facility is subject to increase if its current credit rating from Standard & Poors Rating Service, Moodys Investors Service and/or Fitch Ratings is lowered, and is subject to decrease if the rating is raised. The new credit facility would not cease to be available nor would the maturity date accelerate solely as a result of a downgrade in U.S. Cellulars credit rating. However, a downgrade in U.S. Cellulars credit rating could adversely affect its ability to renew the new credit facility or obtain access to other credit facilities in the future.
The new revolving credit facility has a commitment fee based on the senior unsecured debt rating assigned to U.S. Cellular by certain rating agencies. The range of the commitment fee is 0.25% to 0.75% of the unused portion of the new revolving credit facility.
U.S. Cellular incurred debt issuance costs of $4.4 million in conjunction with obtaining the new credit facility, and such costs will be amortized on a straight line basis over the three year term of the facility.
The maturity date of any borrowings under U.S. Cellulars new revolving credit facility would accelerate in the event of a change in control.
17
The continued availability of the new revolving credit facility requires U.S. Cellular to comply with certain negative and affirmative covenants, maintain certain financial ratios and make representations regarding certain matters at the time of each borrowing. U.S. Cellular believes it was in compliance as of September 30, 2009 with all covenants and other requirements set forth in its new revolving credit facility.
In connection with U.S. Cellulars new revolving credit facility, TDS and U.S. Cellular entered into a subordination agreement dated June 30, 2009 together with the administrative agent for the lenders under U.S. Cellulars new revolving credit agreement. Pursuant to this subordination agreement, (a) any consolidated funded indebtedness from U.S. Cellular to TDS will be unsecured and (b) any (i) consolidated funded indebtedness (other than refinancing indebtedness as defined in the subordination agreement) in excess of $105,000,000, and (ii) refinancing indebtedness in excess of $250,000,000, will be subordinated and made junior in right of payment to the prior payment in full of obligations to the lenders under U.S. Cellulars new revolving credit agreement. As of September 30, 2009, U.S. Cellular had no outstanding consolidated funded indebtedness or refinancing indebtedness that was subordinated to the revolving credit agreement pursuant to the subordination agreement.
13. Commitments and Contingencies
Indemnifications
U.S. Cellular enters into agreements in the normal course of business that provide for indemnification of counterparties. These agreements include certain asset sales and financings with other parties. The terms of the indemnification vary by agreement. The events or circumstances that would require U.S. Cellular to perform under these indemnities are transaction specific; however, these agreements may require U.S. Cellular to indemnify the counterparty for costs and losses incurred from any litigation or claims arising from the underlying transaction. U.S. Cellular is unable to estimate the maximum potential liability for these types of indemnifications as the amounts are dependent on the outcome of future events, the nature and likelihood of which cannot be determined at this time. Historically, U.S. Cellular has not made any significant indemnification payments under such agreements.
Legal Proceedings
In February 2009, the United States Department of Justice ("DOJ") notified U.S. Cellular and its parent, TDS, that each is a named defendant in a civil action brought by a private party in the U.S. District Court for the District of Columbia under the "qui tam" provisions of the federal False Claims Act. TDS and U.S. Cellular were advised that the complaint seeks return of approximately $165 million of bid credits from certain FCC auctions and requests treble damages. The complaint was under seal while the DOJ considered whether to intervene in the proceeding. On October 13, 2009, TDS and U.S. Cellular were advised that the DOJ had determined not to intervene in the proceeding. As a result of the complaint, the DOJ had investigated TDS' and U.S. Cellular's participation in certain spectrum auctions conducted by the FCC between 2005 and 2008, through Carroll Wireless, L.P., Barat Wireless, L.P., and King Street Wireless, L.P. Carroll Wireless, L.P. and Barat Wireless, L.P. were winning bidders in Auction 58, and Auction 66, respectively, and King Street Wireless, L.P. was a provisional winning bidder in Auction 73. These limited partnerships received a 25% bid credit in the applicable auction price under FCC rules. The DOJ investigated whether these limited partnerships qualified for the 25% bid credit in auction price considering their arrangements with TDS and U.S. Cellular. In addition, on October 13, 2009, the District Court unsealed the complaint. If the private party plaintiff decides to pursue the matter, it must serve the complaint on TDS and U.S. Cellular within 120 days. As of the date of filing of this Form 10-Q, the plaintiff has not served a complaint on TDS and U.S. Cellular and it is unknown if and when it may do so. TDS and U.S. Cellular believe that U.S. Cellular's arrangements with these limited partnerships and the limited partnerships' participation in the FCC auctions complied with applicable law and FCC rules and each of TDS and U.S. Cellular intends to vigorously defend itself against any claim that it violated applicable law or FCC rules. At this time, U.S. Cellular cannot predict the outcome of any proceeding. The FCC sent a letter to King Street Wireless, L.P. requesting that it submit to the FCC a written response to the allegations in the complaint. King Street Wireless, L.P. made this submission as requested by the FCC on May 8, 2009. The FCC has not taken any formal action on the matter as of the date of the filing of this Form 10-Q.
18
U.S. Cellular is involved or may be involved from time to time in legal proceedings before the FCC, other regulatory authorities, and/or various state and federal courts. If U.S. Cellular believes that a loss arising from such legal proceedings is probable and can be reasonably estimated, an amount is accrued in the financial statements for the estimated loss. If only a range of loss can be determined, the best estimate within that range is accrued; if none of the estimates within that range is better than another, the low end of the range is accrued. The assessment of the expected outcomes of legal proceedings is a highly subjective process that requires judgments about future events. The legal proceedings are reviewed at least quarterly to determine the adequacy of accruals and related financial statement disclosures. The ultimate outcomes of legal proceedings could differ materially from amounts accrued in the financial statements.
14. Common Share Repurchases
Prior to November 18, 2008, the Board of Directors of U.S. Cellular had authorized the repurchase of up to 1% of the outstanding U.S. Cellular Common Shares held by non-affiliates in each three-month period, primarily for use in employee benefit plans (the "Limited Authorization"). On November 18, 2008, the Board of Directors of U.S. Cellular amended the Limited Authorization to permit the repurchase of up to 5% of the outstanding U.S. Cellular Common Shares held by persons other than TDS affiliates in each twelve-month period. This authorization does not have an expiration date.
During the nine months ended September 30, 2009, U.S. Cellular repurchased 647,000 Common Shares for $24.3 million, or an average of $37.53 per Common Share. As of September 30, 2009, U.S. Cellular could have repurchased an additional 1,000 Common Shares for the twelve months then ended under the Limited Authorization. During the nine months ended September 30, 2008, U.S. Cellular repurchased 450,000 Common Shares for $27.7 million, or an average of $61.56 per Common Share. In addition, U.S. Cellular received $4.6 million in cash during the nine months ended September 30, 2008 as a final settlement payment of 2007 Common Share repurchases executed through accelerated share repurchase agreements with an investment banking firm.
19
15. Accumulated Other Comprehensive Income
The cumulative balance of gains on marketable equity securities and related income tax effects included in Accumulated other comprehensive income are as follows:
|
|
|
|
Nine Months Ended |
||||||
|
|
| ||||||||
|
|
|
|
2009 |
|
2008 |
||||
|
|
|
|
(Dollars in thousands) |
||||||
Balance, beginning of period |
$ |
|
|
$ |
10,134 |
|||||
Add (deduct): |
|
|
|
|
|
|||||
|
Unrealized gain |
|
|
|
|
338 |
||||
|
Deferred income tax expense |
|
|
|
|
(124 |
) | |||
|
|
Net change in unrealized gains in comprehensive income |
|
|
|
|
214 |
|||
|
|
|
|
|
|
|
|
|
||
|
Recognized gain (1) |
|
|
|
|
(16,356 |
) | |||
|
Income tax expense |
|
|
|
|
6,008 |
||||
|
|
Net recognized gain in comprehensive income |
|
|
|
|
(10,348 |
) | ||
Net change in comprehensive income |
|
|
|
|
(10,134 |
) | ||||
Balance, end of period |
$ |
|
|
$ |
|
Comprehensive income for the nine months ended September 30, 2009 and 2008 was as follows: |
|
|
|
|
|
Nine Months Ended |
|||||||
|
|
|
| ||||||||
|
|
|
|
2009 |
|
2008 |
|||||
|
|
|
|
(Dollars in thousands) |
|||||||
Comprehensive Income |
|
|
|
|
|
||||||
|
Net income |
$ |
221,171 |
|
$ |
247,721 |
|||||
|
Net change in accumulated other comprehensive income |
|
|
|
|
(10,134 |
) | ||||
|
Comprehensive income |
|
221,171 |
|
|
237,587 |
|||||
|
Less: Comprehensive income attributable to the noncontrolling interests |
|
(17,583 |
) |
|
|
(14,613 |
) | |||
|
Comprehensive income attributable to U.S. Cellular |
$ |
203,588 |
|
$ |
222,974 |
(1) See Note 9 Gain on Disposition of Investments for additional details on the disposition of marketable equity securities.
20
16. Supplemental Cash Flow Disclosures
The following represents cash flow information related to the issuance of Common Shares pursuant to stock-based compensation awards:
|
|
|
Nine Months Ended |
|||||||
|
|
| ||||||||
|
|
|
2009 |
|
2008 |
|||||
|
|
|
(Dollars in thousands) |
|||||||
Common Shares withheld (1) |
|
34,418 |
|
|
287,609 |
|||||
|
|
|
|
|
|
|
|
|||
Aggregate value of Common Shares withheld |
$ |
1,245 |
|
$ |
16,875 |
|||||
|
|
|
|
|
|
|
|
|||
Cash receipts upon exercise of stock options |
$ |
1,126 |
|
$ |
3,266 |
|||||
Cash disbursements for payment of taxes (2) |
|
(1,245 |
) |
|
|
(4,552 |
) | |||
Net cash disbursements from exercise of stock options and vesting of other stock awards |
$ |
(119 |
) |
|
$ |
(1,286 |
) |
(1) Such shares were withheld to cover the exercise price of stock options, if applicable, and required tax withholdings.
(2) In certain situations, U.S. Cellular withholds shares that are issuable upon the exercise of stock options or the vesting of restricted shares to cover, and with a value equivalent to, the exercise price and/or the amount of taxes required to be withheld from the stock award holder at the time of the exercise or vesting. U.S. Cellular then pays the amount of the required tax withholdings to the taxing authorities in cash.
17. Subsequent Events
U.S. Cellular evaluated subsequent events from September 30, 2009 through November 5, 2009, the issuance date of these financial statements. During this period, there have been no significant subsequent events that require adjustment to or disclosure in the financial statements as of September 30, 2009 and for the nine months then ended.
21
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations
United States Cellular Corporation (U.S. Cellular®) owns, operates and invests in wireless markets throughout the United States. U.S. Cellular is an 82%-owned subsidiary of Telephone and Data Systems, Inc. (TDS) as of September 30, 2009.
The following discussion and analysis should be read in conjunction with U.S. Cellulars interim consolidated financial statements included in Item 1 above, and with its audited consolidated financial statements and Management's Discussion and Analysis of Financial Condition and Results of Operations included in its Annual Report on Form 10-K (Form 10-K) for the year ended December 31, 2008.
OVERVIEW
The following is a summary of certain selected information contained in the comprehensive Managements Discussion and Analysis of Financial Condition and Results of Operations that follows. The overview does not contain all of the information that may be important. You should carefully read the entire Managements Discussion and Analysis of Financial Condition and Results of Operations and not rely solely on the overview.
U.S. Cellular provides wireless telecommunications services to approximately 6.1 million customers in five geographic market areas in 26 states. As of September 30, 2009, U.S. Cellulars average penetration rate in its consolidated operating markets, calculated by dividing U.S. Cellulars total customers by the total population of 46.3 million in such markets, was 13.2%. U.S. Cellular operates on a customer satisfaction strategy, meeting customer needs by providing a comprehensive range of wireless products and services, excellent customer support, and a high-quality network. U.S. Cellulars business development strategy is to operate controlling interests in wireless licenses in areas adjacent to or in proximity to its other wireless licenses, thereby building contiguous operating market areas. U.S. Cellular believes that operating in contiguous market areas will continue to provide it with certain economies in its capital and operating costs. Financial and operating highlights in the first nine months of 2009 included the following:
· Total customers were 6,131,000 at September 30, 2009, including 5,705,000 retail customers.
· Retail customer net losses were 2,000 in the first nine months of 2009 compared to 116,000 net additions in 2008. The decrease year-over-year reflected higher churn rates, due to the weak economy and very competitive industry conditions including the increased impacts of unlimited prepay service providers in certain of U.S. Cellulars markets.
· Postpay customers comprised approximately 96% of U.S. Cellulars retail customer base as of September 30, 2009. Postpay net additions were 36,000 in the first nine months of 2009 compared to 117,000 in 2008. The postpay churn rate was 1.6% in 2009.
· Service revenues of $2,941.6 million decreased $21.8 million year-over-year, due primarily to a decrease of $59.4 million (24%) in inbound roaming revenues. Retail service revenue grew by $25.9 million (1%) due to increases in the average number of customers and the average monthly retail service revenue per customer.
· Cash flows from operating activities were $637.7 million. At September 30, 2009, Cash and cash equivalents totaled $404.9 million and there were no outstanding borrowings under the revolving credit facility.
· On June 30, 2009, U.S. Cellular entered into a new $300 million revolving credit agreement with certain lenders and other parties. As a result, U.S. Cellulars $700 million revolving credit agreement, which was due to expire in December 2009, was terminated on June 30, 2009 as a condition of entering into the new agreement. The new revolving credit agreement provides U.S. Cellular with a $300 million senior revolving credit facility for working capital, acquisitions and other corporate purposes and to refinance any existing debt of U.S. Cellular.
· Additions to property, plant and equipment totaled $357.8 million, including expenditures to construct cell sites, increase capacity in existing cell sites and switches, expand mobile broadband services based on third generation Evolution Data Optimized technology (3G) to additional markets, outfit new and remodel existing retail stores and continue the development and enhancement of U.S. Cellulars office systems. Total cell sites in service increased 7% year-over-year to 7,161.
22
Table of Contents
· As a proof point of its customer satisfaction strategy and Believe in Something BetterTM brand message, U.S. Cellular launched its new Battery Swap program in May 2009. Under this program, a customer can exchange a battery that is dead or dying for one that is fully charged, at no cost to the customer. U.S. Cellular is the first wireless company to offer this service in the United States, and hundreds of thousands of customers have taken advantage of it.
· U.S. Cellular began efforts on a number of multi-year initiatives including the development of: a new point-of-sale system to consolidate billing on one platform; an Electronic Data Warehouse/Customer Relationship Management System to collect and analyze information more efficiently to build and improve customer relationships; and a new Internet/Web platform to enable customers to complete a wide range of transactions and, eventually, to manage their accounts online.
· Operating income decreased $43.4 million, or 12%, to $313.4 million in 2009 from $356.8 million in 2008.
U.S. Cellular anticipates that future growth in its operating income will be affected by the following factors:
- Overall demand for U.S. Cellulars products and services, including potential growth in revenues from data products and services;
- Increasing penetration in the wireless industry;
- Increased competition in the wireless industry, including potential reductions in pricing for products and services overall and impacts associated with the expanding presence of carriers offering low-priced, unlimited prepay service;
- Uncertainty related to current economic conditions and their impact on customer purchasing and payment behaviors;
- Costs of customer acquisition and retention, such as equipment subsidies and advertising;
- Industry consolidation and the resultant effects on roaming revenues, service and equipment pricing and other effects of competition;
- Providing service in recently launched areas or potential new market areas;
- Potential increases or decreases in prepay and reseller customers as a percentage of U.S. Cellulars customer base;
- Costs of developing and introducing new products and services;
- Costs of developing and enhancing office and customer support systems, including costs and risks associated with the completion of important multi-year initiatives such as those described above;
- Continued enhancements to its wireless networks, including expansion of 3G services and potential deployments of new technology;
- Increasing costs of regulatory compliance; and
- Uncertainty in future eligible telecommunication carrier (ETC) funding.
· Net income attributable to U.S. Cellular decreased $29.5 million, or 13%, to $203.6 million in 2009 compared to $233.1 million in 2008, due primarily to lower operating income. Basic earnings per share was $2.34 in 2009, which was $0.32 lower than in 2008, and Diluted earnings per share was $2.33, which was $0.32 lower than in 2008.
23
Cash Flows and Investments
U.S. Cellular believes that cash on hand, expected future cash flows from operating activities and sources of external financing provide substantial liquidity and financial flexibility and are sufficient to permit U.S. Cellular to finance its contractual obligations and anticipated capital expenditures for the foreseeable future. U.S. Cellular continues to seek to maintain a strong balance sheet and an investment grade credit rating.
See Financial Resources and Liquidity and Capital Resources below for additional information related to cash flows and investments, including information related to U.S. Cellulars new revolving agreement and the impacts of recent economic events.
Recent Developments
Congress recently enacted the American Recovery and Reinvestment Act of 2009, or the Recovery Act, which provides, among other things, for an aggregate appropriation of $7.2 billion to fund grants and loans to provide broadband infrastructure, access and equipment to consumers residing in rural, unserved or underserved areas of the United States. The application deadline for the first round of funding was August 24, 2009. U.S. Cellular submitted applications for grants. There is no assurance that U.S. Cellular will receive any grants of Recovery Act funds. The distribution of Recovery Act funds to other telecommunications service providers could impact competition in certain of U.S. Cellulars service areas.
2009 Estimates
U.S. Cellular expects the factors described above to impact revenues and operating income for the next several quarters. Any changes in the above factors, as well as the effects of other drivers of U.S. Cellulars operating results, may cause revenues and operating income to fluctuate over the next several quarters.
U.S. Cellulars estimates of full-year 2009 results are shown below. Such estimates represent U.S. Cellulars views as of the date of filing of U.S. Cellulars Form 10-Q for the nine months ended September 30, 2009. Such forward‑looking statements should not be assumed to be accurate as of any future date. U.S. Cellular undertakes no duty to update such information whether as a result of new information, future events or otherwise. There can be no assurance that final results will not differ materially from such estimated results.
|
2009 |
2008 | ||
|
||||
Service revenues |
$3,900-$3,950 million |
$3,940.3 million | ||
Operating income (1) (2) |
$300-$375 million |
$27.7 million | ||
Depreciation, amortization and accretion expenses (1) (2) |
Approx. $600 million |
$987.0 million | ||
Capital expenditures |
Approx. $575 million |
$585.6 million |
(1) 2008 Actual Results include losses on disposals of $23.4 million and impairment of assets of $386.7 million. The 2009 Estimated Results include only the estimate for Depreciation, amortization and accretion expenses and losses on disposals of assets, and do not include any estimate for losses on impairment of assets since these cannot be predicted.
(2) The 2008 loss on impairment of assets of $386.7 million is not expected to have an impact on future operating results and liquidity. In addition, historical operating results, including the 2008 impairment, are not necessarily indicative of future operating results.
U.S. Cellular management currently believes that the foregoing estimates represent a reasonable view of what is achievable considering actions that U.S. Cellular has taken and will be taking. However, the current general economic conditions have created a challenging business environment that could significantly impact actual results. U.S. Cellular expects to continue its focus on customer satisfaction by delivering a high quality network, attractively priced service plans, a broad line of handsets and other products, and outstanding customer service in its company-owned and agent retail stores and customer care centers. U.S. Cellular believes that future growth in its revenues will result primarily from selling additional products and services to its existing customers, increasing the number of multi‑device users among its existing customers, and attracting wireless users switching from other wireless carriers, rather than by adding users that are new to wireless service. U.S. Cellular is focusing on opportunities to increase revenues, pursuing cost reduction initiatives in various areas and implementing a number of initiatives to enable future growth. The initiatives are intended, among other things, to allow U.S. Cellular to accelerate its introduction of new products and services, better segment its customers for new services and retention, sell additional services such as data, expand its Internet sales and customer service capabilities, and improve its prepay products and services.
24
RESULTS OF OPERATIONS
Nine Months Ended September 30, 2009 Compared to Nine Months Ended September 30, 2008
Following is a table of summarized operating data for U.S. Cellulars consolidated operations.
As of September 30, (1) |
2009 |
2008 |
|||||||
Total market population of consolidated operating markets (2) |
|
46,306,000 |
|
45,493,000 |
|||||
Customers (3) |
|
6,131,000 |
|
6,176,000 |
|||||
Market penetration (2) |
|
13.2 |
% |
|
13.6 |
% | |||
Total full-time equivalent employees (4) |
|
8,735 |
|
8,414 |
|||||
Cell sites in service |
|
7,161 |
|
6,716 |
For the Nine Months Ended September 30, (5) |
2009 |
2008 |
|||||||
Net retail customer additions (losses) (6) |
|
(2,000 |
) |
|
116,000 |
||||
Net customer additions (losses) (6) |
|
(65,000 |
) |
|
72,000 |
||||
Average monthly service revenue per customer (7) |
$ |
52.83 |
$ |
53.40 |
|||||
Postpay churn rate (8) |
|
1.6 |
% |
|
1.4 |
% |
(1) Amounts include results for U.S. Cellulars consolidated operating markets as of September 30.
(2) Calculated using 2008 and 2007 Claritas population estimates for 2009 and 2008, respectively. Total market population of consolidated operating markets is used only for the purposes of calculating market penetration of consolidated operating markets, which is calculated by dividing customers by the total market population (without duplication of population in overlapping markets).
The total market population and penetration measures for consolidated operating markets apply to markets in which U.S. Cellular provides wireless service to customers. For comparison purposes, total market population and penetration related to all consolidated markets in which U.S. Cellular owns an interest were 85,118,000 and 7.2%, and 82,875,000 and 7.5%, as of September 30, 2009 and 2008, respectively.
As a result of exchange transactions with AT&T that closed in August 2003, U.S. Cellular obtained rights to acquire additional licenses, a majority of which licenses have been acquired and are reflected in the total market population of consolidated markets as of September 30, 2009. During the first nine months of 2009, U.S. Cellular acquired all but one of the remaining licenses pursuant to this exchange agreement which increased total market population of consolidated markets by 1,392,000, but had no impact on the population of consolidated operating markets. The acquisition of these licenses did not require U.S. Cellular to provide any consideration to AT&T beyond that already provided in conjunction with the August 2003 exchange transaction and, thus, did not cause a change in U.S. Cellulars Licenses balance in 2009. U.S. Cellular continues to have a right under the August 2003 exchange agreement to acquire a majority interest in one additional license; that right does not have a stated expiration date.
(3) U.S. Cellulars customer base consists of the following types of customers:
|
|
|
September 30, | |||
|
|
|
2009 |
|
2008 | |
Customers on postpay service plans in which the end user is a customer of U.S. Cellular (postpay customers) |
5,456,000 |
|
5,379,000 | |||
Customers on prepay service plans in which the end user is a customer of U.S. Cellular (prepay customers) |
249,000 |
|
295,000 | |||
Total retail customers |
5,705,000 |
|
5,674,000 | |||
End user customers acquired through U.S. Cellulars agreements with third parties (reseller customers) |
426,000 |
|
502,000 | |||
Total customers |
6,131,000 |
|
6,176,000 |
(4) Part-time employees are calculated at 70% of full-time employees in 2009 and at 50% of full-time employees in 2008. Total full-time equivalent employees would have been 8,653 in 2008 if calculated using the current year percentage.
(5) Amounts include results for U.S. Cellulars consolidated operating markets for the period January 1 through September 30; operating markets acquired during a particular period are included as of the acquisition date.
(6) Net retail customer additions (losses) represents the number of net customers added to (or deducted from) U.S. Cellulars retail customer base through its marketing distribution channels; this measure excludes activity related to reseller customers and customers transferred through acquisitions, divestitures or exchanges. Net customer additions (losses) represents the number of net customers added to (or deducted from) U.S. Cellulars overall customer base through its marketing distribution channels; this measure includes activity related to reseller customers but excludes activity related to customers transferred through acquisitions, divestitures or exchanges.
(7) Management uses this measurement to assess the amount of service revenue that U.S. Cellular generates each month on a per customer basis. Variances in this measurement are monitored and compared to variances in expenses on a per customer basis. Average monthly service revenue per customer is calculated as follows:
25
|
|
Nine Months Ended | ||||
|
2009 |
|
2008 | |||
Service revenues per Consolidated Statements of Operations (000s) |
$ |
2,941,552 |
|
$ |
2,963,374 | |
Divided by average customers during period (000s)* |
|
6,187 |
|
|
6,166 | |
Divided by number of months in each period |
|
9 |
|
|
9 | |
Average monthly service revenue per customer |
$ |
52.83 |
|
$ |
53.40 |
* Average customers during period is calculated by adding the number of total customers, including reseller customers, at the beginning of the first month of the period and at the end of each month in the period and dividing by the number of months in the period plus one. Acquired and divested customers are included in the calculation on a prorated basis for the amount of time U.S. Cellular included such customers during each period.
(8) Postpay churn rate represents the percentage of the postpay customer base that disconnects service each month.
Components of Operating Income
Nine Months Ended September 30, |
|
2009 |
|
2008 |
|
Increase/ (Decrease) |