- -------------------------------------------------------------------------------- SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 ---------------- FORM 10-Q QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended September 30, 1999 ------------------------------------------------- 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) Delaware 62-1147325 - ------------------------------- ------------------------------------ (State or other jurisdiction of (I.R.S. Employer Identification No.) incorporation or organization) 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 the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date. Class Outstanding at October 29, 1999 -------------------------------- -------------------------------- Common Shares, $1 par value 54,531,705 Shares Series A Common Shares, $1 par value 33,005,877 Shares - --------------------------------------------------------------------------------
UNITED STATES CELLULAR CORPORATION ---------------------------------- 3RD QUARTER REPORT ON FORM 10-Q ------------------------------- INDEX ----- Page(s) No. ------- - -- Part I. Financial Information Management's Discussion and Analysis of Results of Operations and Financial Condition 2-15 Consolidated Statements of Operations - Three Months and Nine Months Ended September 30, 1999 and 1998 16 Consolidated Statements of Cash Flows - Nine Months Ended September 30, 1999 and 1998 17 Consolidated Balance Sheets - September 30, 1999 and December 31, 1998 18-19 Notes to Consolidated Financial Statements 20-26 Part II. Other Information 27 Signatures 28
PART I. FINANCIAL INFORMATION ----------------------------- UNITED STATES CELLULAR CORPORATION AND SUBSIDIARIES --------------------------------------------------- MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS ------------------------------------------------------------- AND FINANCIAL CONDITION ----------------------- RESULTS OF OPERATIONS - --------------------- Nine Months Ended 9/30/99 Compared to Nine Months Ended 9/30/98 - --------------------------------------------------------------- United States Cellular Corporation (the "Company" - AMEX symbol: USM) owns, operates and invests in cellular markets throughout the United States. USM is an 80.9%-owned subsidiary of Telephone and Data Systems, Inc. ("TDS"). USM owned either majority or minority cellular interests in 180 markets at September 30, 1999, representing 26,211,000 population equivalents ("pops"). USM included the operations of 139 majority-owned and managed cellular markets, representing 23.9 million pops, in consolidated operations ("consolidated markets") as of September 30, 1999. Minority interests in 35 markets, representing 2.3 million pops, were accounted for using the equity method and were included in investment income at that date. All other interests were accounted for using the cost method. Following is a table of summarized operating data for USM's consolidated operations. <TABLE> <CAPTION> Nine Months Ended or At September 30, ------------------------------------- 1999 1998 ---- ---- <S> <C> <C> Total market population (in thousands) (1) 24,861 24,136 Customers 2,453,000 2,018,000 Market penetration 9.87% 8.36% Markets in operation 139 136 Total employees 4,800 4,600 Cell sites in service 2,235 1,958 Average monthly revenue per customer $ 49.06 $ 48.87 Churn rate per month 2.0% 1.8% Marketing cost per gross customer addition $ 343 $ 314 </TABLE> (1) Calculated using Claritas population estimates for 1998 and 1997, respectively. The growth in the Company's operating income in the first nine months of 1999, which includes 100% of the revenues and expenses of its consolidated markets plus its corporate office operations, primarily reflects improvements in the Company's overall operations compared to the first nine months of 1998. The improvements resulted from growth in the Company's customer base and revenues coupled with continuing economies of scale. Operating revenues, driven by both a 22% increase in customers served and a 38% increase in inbound roaming revenue, rose $210.9 million, or 25%, in 1999. Cash operating expenses rose $118.5 million, or 21%, in 1999. Operating cash flow (operating income plus depreciation and amortization expense) increased $92.4 million, or 31%, in 1999. Depreciation and amortization expense increased $18.1 million, or 12%, in 1999. Operating income increased $74.3 million, or 51%, in 1999. 2
Investment and other income increased $70.9 million to $288.3 million in 1999, due primarily to an increase of $77.0 million in gains on sales of cellular and other investments in 1999, partially offset by a $6.9 million, or 22%, reduction in investment income. Gains on sales of cellular and other investments in 1999 primarily resulted from the effect of the AirTouch Communications, Inc. ("ATI") merger with Vodafone Group plc ("VOD") in June 1999. As a result of the merger, the Company received approximately 2.0 million VOD American Depositary Receipts ("ADRs") plus $36.9 million in cash in exchange for its 4.1 million ATI shares. In 1999, the Company recognized in earnings a gain of $259.5 million on the difference between its historical basis in the ATI shares ($181.1 million) and the merger date value of the VOD ADRs plus the cash received (an aggregate of $440.6 million). Gains on sales of cellular and other investments in 1998 primarily resulted from the sale of certain minority interests to ATI. Net income totaled $279.8 million in 1999, an increase of $81.8 million, or 41%, from 1998. Diluted earnings per share totaled $3.03 in 1999, an increase of $.86, or 40%, from 1998. Net income in 1999 and 1998 was significantly affected by gains on the sales of cellular and other investments. A summary of the after-tax effects of gains on net income and diluted earnings per share in each period is shown below. Additionally, the Company restated its 1998 diluted earnings per share to conform to current period presentations. See Note 2 to the financial statements for further discussion of this restatement. <TABLE> <CAPTION> Nine Months Ended September 30, -------------------------------- 1999 1998 ------- ------- (Dollars in thousands, except per share amounts) <S> <C> <C> Net income before after-tax effects of gains $ 119,586 $ 81,865 Add: After-tax effects of gains 160,179 116,081 ------- ------- Net income as reported $ 279,765 $ 197,946 ========== ========= Earnings per share before after-tax effects of gains $ 1.34 $ 0.94 Add: After-tax effects of gains 1.69 1.23 ---------- --------- Diluted earnings per share $ 3.03 $ 2.17 ========== ========= </TABLE> Operating Revenues - ------------------ Operating revenues totaled $1,060.1 million in 1999, up $210.9 million, or 25%, over 1998. Service revenues primarily consist of: (i) charges for access, airtime and value-added services provided to the Company's local retail customers who use the local systems operated by the Company ("local retail"); (ii) charges to customers of other systems who use the Company's cellular systems when roaming ("inbound roaming"); and (iii) charges for long-distance calls made on the Company's systems. Service revenues totaled $1,023.9 million in 1999, up $202.7 million, or 25%, over 1998. The increase was primarily due to the growing number of local retail customers and also due to the increase in inbound roaming minutes of use on the Company's systems. Monthly service revenue per customer averaged $49.06 in 1999, up slightly from $48.87 in 1998. The increase in average monthly service revenue per customer resulted from increases in minutes of use on the Company's systems from both local retail customers and inbound 3
roamers. Substantial increases in inbound roaming minutes of use were partially offset by a 24% decrease in revenue per minute of use, resulting in an 11% increase in monthly roaming revenue per Company customer. The increase in average monthly local retail minutes of use was more than offset by the decline in revenue per minute of use, resulting in a 2% decrease in monthly local retail revenue per customer. Monthly local retail minutes of use per customer increased 11% in 1999, resulting from the Company's focus on stimulating overall usage. The increase in inbound roaming minutes of use was primarily driven by the introduction of certain "one rate" programs by other wireless companies since the second half of 1998. Wireless customers who sign up for these programs are given price incentives to roam, and many of those customers travel in the Company's markets, thus driving an increase in the Company's inbound roaming minutes. Management anticipates that the increase in inbound roaming minutes of use will be slower in the fourth quarter of 1999 and in 2000 as the effect of "one rate" programs becomes present in both periods of comparison. Competitive pressures and the Company's increasing use of pricing and other incentive programs to stimulate overall usage resulted in decreases in average local retail revenue per minute of use during 1999. The Company's average inbound roaming revenue per minute of use also decreased during 1999, in line with the ongoing industry trend toward reduced per minute prices for roaming. Management anticipates that the Company's average revenue per minute of use for both local retail and inbound roaming revenues will continue to decline in the future, reflecting the continued effect of the previously mentioned factors. Local retail revenue increased $120.5 million, or 21%, in 1999. Growth in the Company's customer base was the primary reason for the increase in local retail revenue. The number of customers increased 22% to 2,453,000 at September 30, 1999 from 2,018,000 at September 30, 1998. Management anticipates that overall growth in the Company's customer base will be slower in the future, primarily as a result of an increase in the number of competitors in its markets. Average monthly local retail revenue per customer declined 2% to $33.04 in 1999 from $33.87 in 1998. Monthly local retail minutes of use per customer was 115 in 1999 and 104 in 1998. The increase in monthly local retail minutes of use was driven by the Company's focus on designing incentive programs and rate plans to stimulate overall usage. Average revenue per minute of use decreased as a result of the pricing and other incentive programs stated previously, totaling $.29 in 1999 compared to $.33 in 1998. Inbound roaming revenue increased $67.0 million, or 38%, in 1999. The growth in inbound roaming revenue in 1999 is affected by an increase in roaming minutes used on the Company's systems and a decrease in revenue per minute. The number of minutes used by customers from other wireless systems when roaming in the Company's service areas increased substantially in 1999, while average inbound roaming revenue per minute decreased 24% in 1999, due to the downward trend in negotiated rates. Both the increase in minutes of use and the decrease in revenue per minute of use were significantly affected by certain "one rate" programs offered by other wireless companies beginning in the second half of 1998. Monthly inbound roaming revenue per Company customer averaged $11.58 in 1999 and $10.40 in 1998. The increase in monthly inbound roaming revenue per Company customer is attributable to a larger increase in inbound roaming revenue than in the Company's customer base. 4
Long-distance revenue increased $14.8 million, or 20%, in 1999 as the volume of long-distance calls billed by the Company increased, primarily from inbound roamers using the Company's systems to make long-distance calls. Growth in long-distance revenue was slowed by price reductions primarily related to long-distance charges on roaming minutes of use. These reductions, similar to the price reductions on roaming airtime charges, are a continuation of the industry trend toward reduced per minute prices. The price reductions also reduced the growth in the outbound roaming expense component of system operations expense by approximately the same amount, resulting in no material effect on the Company's operating cash flow or operating income. Monthly long-distance revenue per customer averaged $4.27 in 1999 and $4.42 in 1998. Equipment sales revenues increased $8.3 million, or 29%, in 1999. The increase in equipment sales revenues reflects the 11% increase in the number of gross customer activations, to 681,000 in 1999 from 614,000 in 1998, plus an increase in the number of higher priced dual- mode units and the volume of accessories sold. Most of the gross customer activations were produced by the Company's direct and retail distribution channels; activations from these channels usually generate sales of cellular telephone units. The increase in sales of dual-mode units is related to the Company's ongoing conversion of its systems to digital coverage, which enables the Company to offer its customers more features, better clarity and increased roaming capabilities. The increase in the volume of accessories sold reflects an increased emphasis on the sale of accessories at retail prices in the Company's retail locations. Operating Expenses - ------------------ Operating expenses totaled $840.0 million in 1999, up $136.6 million, or 19%, over 1998. System operations expenses increased $22.0 million, or 15%, in 1999 as a result of increases in customer usage expenses and costs associated with serving the Company's increased number of customers and the growing number of cell sites within the Company's systems. In total, system operations costs are expected to continue to increase as the number of customers using and the number of cell sites within the Company's systems grows. Customer usage expenses represent charges from other telecommunications service providers for the Company's customers' use of their facilities as well as for the Company's inbound roaming traffic on these facilities. Also included are costs related to local interconnection to the landline network, long-distance charges and expenses incurred by the Company when its customers use systems other than their local systems ("outbound roaming"). These expenses are offset somewhat by amounts the Company bills to its customers for outbound roaming. Customer usage expenses increased $12.8 million, or 13%, in 1999. The increase in 1999 is primarily due to the $11.2 million increase in costs related to the increase in minutes used on the Company's systems. This increase is related to the 11% increase in average monthly local minutes of use per customer on the Company's systems as well as the substantial increase in inbound roaming minutes of use. Net outbound roaming expense also increased $1.3 million, reflecting growth in minutes used by the Company's customers on other systems, mostly offset by lower costs per roaming minute of use. These lower costs are related to the lower roaming prices in the industry discussed previously. Customer usage expenses represented 11% of service revenues in 1999 and 12% in 1998. 5
Maintenance, utility and cell site expenses increased $9.2 million, or 20%, in 1999. The increase primarily reflects an increase in the number of cell sites in the Company's systems, to 2,235 in 1999 from 1,958 in 1998. Marketing and selling expenses increased $31.7 million, or 20%, in 1999. Marketing and selling expenses primarily consist of salaries, commissions and expenses of field sales and retail personnel and offices; agent expenses; corporate marketing department salaries and expenses; local advertising; and public relations expenses. The increase was primarily due to the 11% rise in the number of gross customer activations and a change in the Company's brand name and logo. The Company changed its brand name and logo from United States Cellular to U.S. Cellular during the second quarter of 1999, and incurred one-time expenses to roll out new marketing materials and signage. Marketing cost per gross customer activation, which includes marketing and selling expenses and losses on equipment sales, increased 9% to $343 in 1999 from $314 in 1998. The increase in cost per gross customer activation was primarily driven by increased commissions and additional advertising expenses incurred to promote the Company's brand and to distinguish the Company's service offerings from those of its competitors. Also contributing was an increase in losses on equipment sales in 1999. The increased equipment losses were primarily driven by the sale of more dual-mode units, which on average generate greater equipment losses than the sale of analog units. Cost of equipment sold increased $17.1 million, or 27%, in 1999. The increase reflects the growth in unit sales related to the 11% increase in gross customer activations as well as the impact of selling more higher cost dual-mode units in 1999. Also contributing to the increase was a greater volume of sales of accessories. General and administrative expenses increased $47.7 million, or 25%, in 1999. These expenses include the costs of operating the Company's local business offices and its corporate expenses other than the corporate engineering and marketing departments. The increase includes the effects of increases in expenses required to serve the growing customer base in existing markets and an expansion of both local administrative office and corporate staff, necessitated by growth in the Company's business. Also, the Company incurred additional start-up costs in 1999 related to its Communications Centers, which were created to centralize certain customer service functions; incurred costs, which were no longer capitalizable beginning in January 1999, related to its conversion to a new billing system; and incurred additional costs by providing digital phone units to customers who migrated from analog to digital rate plans. Employee- related expenses increased $21.3 million, or 24%, in 1999, primarily due to increases in the number of customer service and administrative employees. Monthly general and administrative expenses per customer increased 1% to $11.48 in 1999 from $11.41 in 1998. General and administrative expenses represented 23% of service revenues in both 1999 and 1998. Operating cash flow increased $92.4 million, or 31%, to $386.0 million in 1999. The improvement was primarily due to substantial growth in customers and service revenues and the effects of continued operational efficiencies on cash operating expenses. Operating cash flow margins (as a percent of service revenues) were 37.7% in 1999 and 35.7% in 1998. Depreciation expense increased $17.7 million, or 15%, in 1999. The increase reflects rising average fixed asset balances, which increased 17% in 1999. Increased fixed asset balances in 1999 resulted from the addition of new cell sites built to improve coverage and capacity in the Company's markets and from upgrades to provide digital service in more of the Company's service areas. 6
Although amortization of intangibles only increased $348,000, or 1%, in 1999, the Company expects amortization expense to increase substantially in the future. Beginning October 1, 1999, capitalized development costs related to the Company's new billing and information system, totaling approximately $118 million, will be amortized over a period of seven years. Annual amortization of these costs is expected to be approximately $17 million. Operating Income - ---------------- Operating income totaled $220.1 million in 1999, a 51% increase over 1998. The operating income margin was 21.5% in 1999 and 17.8% in 1998. The improvements in operating income and operating income margins in 1999 reflect increased revenues resulting from growth in the number of customers served by the Company's systems, the increased minutes of use on the Company's systems from both local customers and inbound roamers and the effect of continued operational efficiencies on total operating expenses. The Company expects service revenues to continue to grow during the remainder of 1999 and in 2000; however, management anticipates that average monthly revenue per customer will decrease for the full year of 1999 compared to 1998, despite the slight increase through nine months of 1999, as local retail and inbound roaming revenue per minute of use decline and as the Company further penetrates the consumer market. Additionally, the Company expects expenses to increase during the remainder of 1999 and in 2000 as it incurs costs associated with both customer growth and fixed assets added. Although service revenues increased 25%, the Company's customer base increased by 22% and average monthly revenue per customer increased less than 1% in the first nine months of 1999, management does not expect service revenues to continue to grow faster than the Company's customer base for the remainder of 1999 or in 2000 for the reasons stated previously. Management continues to believe there exists a seasonality in both service revenues, which tend to increase more slowly in the first and fourth quarters, and operating expenses, which tend to be higher in the fourth quarter due to increased marketing activities and customer growth, which may cause operating income to vary from quarter to quarter. Additionally, competitors licensed to provide personal communications services ("PCS") have initiated service in certain of the Company's markets over the past three years. The Company expects PCS operators to continue deployment of PCS in portions of all of the Company's clusters throughout 1999 and 2000. The Company has increased its advertising, particularly brand advertising, since 1997 to promote its brand and distinguish the Company's service from other wireless communications providers. The Company's management continues to monitor other wireless communications providers' strategies to determine how additional competition is affecting the Company's results. While the effects of additional wireless competition have slowed customer growth in certain of the Company's markets, the overall effect on the Company's total customer growth to date has not been material. However, management anticipates that customer growth will be lower in the future, primarily as a result of the increase in the number of competitors in its markets. Investment and Other Income - --------------------------- Investment and other income totaled $288.3 million in 1999 and $217.4 million in 1998. Gain on sale of cellular and other investments totaled $266.7 million in the first nine months of 1999, primarily due to the ATI-VOD merger. Gain on sale of cellular and other investments totaled $189.8 million in 1998 from sales of the Company's investment interests in ten markets, and 7
also related to cash received from TDS pursuant to an agreement between the Company and TDS. Investment income was $24.5 million in 1999 compared to $31.4 million in 1998, a 22% decrease. Investment income primarily represents the Company's share of net income from the markets managed by others that are accounted for by the equity method. The aggregate income from the markets in which the Company had interests in both 1998 and 1999 decreased in 1999, reducing investment income. Investment income in 1999 was also negatively impacted by the divestitures of certain minority interests to ATI in the first half of 1998. See "Financial Resources and Liquidity - Acquisitions and Divestitures" for further discussion of the ATI transactions. Interest and Income Taxes - ------------------------- Interest expense totaled $28.1 million in 1999 compared to $29.8 million in 1998. Interest expense in 1999 is primarily related to Liquid Yield Option Notes ("LYONs") ($13.0 million); the Company's 7.25% Notes (the "Notes") ($13.9 million); and the Company's revolving credit facility with a series of banks ("Revolving Credit Facility") ($592,000). Interest expense in 1998 was primarily related to LYONs ($12.3 million), the Notes ($13.9 million) and the Revolving Credit Facility ($1.0 million). The Company's $250 million principal amount of Notes are unsecured and become due in August 2007. Interest on the Notes is payable semi-annually on February 15 and August 15 of each year. The LYONs are zero coupon convertible debentures which accrete interest at 6% annually, but do not require current cash payments of interest. All accreted interest is added to the outstanding principal balance on June 15 and December 15 of each year. The Revolving Credit Facility is a seven-year facility which was established in 1997. Borrowings under this facility accrue interest at the London InterBank Offered Rate ("LIBOR") plus 26.5 basis points (for a rate of 5.7% at September 30, 1999). Interest and principal are due the last day of the borrowing period, as selected by the borrower, of either seven days or one, two, three or six months; any borrowings made under the facility are short-term in nature and automatically renew until they are repaid. The Company pays facility and administrative fees totaling $710,000 per year in addition to interest on any borrowings; these fees are recorded as interest expense. Any borrowings outstanding in August 2004, the termination date of the Revolving Credit Facility, are due and payable at that time along with any accrued interest. The Company borrowed and repaid amounts totaling $47 million during 1998; no borrowings were made during 1999. Income tax expense was $200.6 million in 1999 and $135.4 million in 1998. In 1999, $106.6 million of income tax expense related to gains on sales of cellular and other investments. In 1998, $73.7 million of income tax expense related to the gains on sales of cellular and other investments. The overall effective tax rates were 42% in 1999 and 41% in 1998. The increase in 1999's effective tax rate is primarily related to the nature of the gains on sales of cellular and other investments in both years, which have varying tax rates. TDS and the Company are parties to a Tax Allocation Agreement, pursuant to which the Company is included in a consolidated federal income tax return with other members of the TDS consolidated group. For financial reporting purposes, the Company computes federal income 8
taxes as if it were filing a separate return as its own affiliated group and was not included in the TDS group. Net Income - ---------- Net income totaled $279.8 million in 1999 and $198.0 million in 1998. Diluted earnings per share was $3.03 in 1999 and $2.17 in 1998. Net income and earnings per share in 1999 and 1998 included significant after-tax gains on the sales of cellular and other investments, representing $160.2 million and $1.69 per share and $116.1 million and $1.23 per share, respectively. Excluding the after-tax effect of these gains, net income would have been $119.6 million, or $1.34 per share, in 1999 and $81.9 million, or $.94 per share, in 1998. Three Months Ended 9/30/99 Compared to Three Months Ended 9/30/98 - ----------------------------------------------------------------- Operating revenues totaled $373.2 million in the third quarter of 1999, up $59.3 million, or 19%, over 1998. Average monthly service revenue per customer decreased 3% to $49.73 in 1999 from $51.40 in 1998. The decrease in average monthly service revenue per customer resulted from the continued decline in average revenue per minute of use from both local retail customers and inbound roamers. This effect was partially offset by the increases in minutes of use on the Company's systems from both local retail customers and inbound roamers. Revenue from local customers' usage of the Company's system increased $40.8 million, or 20%, in 1999 primarily due to the increased number of customers served. Average monthly local retail minutes of use per customer increased to 124 in the third quarter of 1999 compared to 112 in 1998. Also, as the number of customers and amount of revenue earned continued to grow, average revenue per minute of use continued to decline. As a result, average monthly local retail revenue per customer declined 2% to $33.37 in the third quarter of 1999 compared to $33.97 in 1998. Inbound roaming revenue increased $19.8 million, or 28%, in 1999. Monthly inbound roaming revenue per Company customer averaged $12.66 in 1999 compared to $12.16 in 1998. Long-distance revenue decreased $4.8 million, or 16%, in 1999, reflecting the lower prices on roaming long-distance minutes of use. Monthly long-distance revenue per customer averaged $3.51 in 1999 and $5.11 in 1998. Equipment sales revenue increased $3.0 million, or 30%, in 1999. The increase reflects an 8% increase in the number of gross customer activations, to 228,000 in 1999 compared to 211,000 in 1998, plus increases in the number of dual-mode units sold and in the volume of accessories sold. Operating expenses totaled $277.6 million in the third quarter of 1999, up $26.2 million, or 10%, over 1998. System operations expenses decreased $9.0 million, or 17%, in 1999, driven by lower costs for minutes used by the Company's customers when roaming. The cost related to minutes used on the Company's systems increased $5.3 million, or 45%, in the third quarter of 1999. Overall, customer usage expenses decreased $12.4 million in 1999 and maintenance, utility and cell site expense increased $3.4 million. 9
Marketing and selling expenses increased $11.3 million, or 20%, in 1999. The increase was primarily due to the 8% rise in the number of gross customer activations. Cost per gross customer activation increased 10% to $358 in 1999 from $324 in 1998. Cost of equipment sold increased $5.1 million, or 23%, in 1999. The increase reflects a rise in the number of dual-mode units sold in 1999, plus an increase in the volume of accessories sold. General and administrative expenses increased $13.4 million, or 20%, in 1999, primarily related to the increase in customers served. Operating cash flow increased $38.5 million, or 34%, to $153.0 million in 1999; operating cash flow margins were 42.5% in 1999 and 37.7% in 1998. Depreciation expense increased $6.2 million, or 15%, in 1999 reflecting an 18% increase in average fixed asset balances. Operating income totaled $95.6 million in 1999 compared to $62.5 million in 1998, a 53% increase. The operating income margin was 26.5% in 1999 and 20.6% in 1998. Investment income increased $176,000, or 2%, in 1999 as the aggregate income from the markets in which the Company had interests in both 1998 and 1999 was relatively flat. Gain on sale of cellular and other investments totaled $6.0 million in 1999. There were no gains recorded in 1998. Total interest expense decreased $440,000, or 4%, in 1999. Income tax expense totaled $44.1 million in 1999 and $26.7 million in 1998. In 1999, $2.2 million of income tax expense related to gains on sales of cellular and other investments. Net income totaled $57.1 million in 1999, an increase of $21.7 million, or 61%, from 1998. Both net income and earnings per share in 1999 were significantly affected by gains on the sales of cellular interests. A summary of the after-tax effects of gains on net income and diluted earnings per share in each period is shown below. Additionally, the Company restated its 1998 diluted earnings per share to conform to current period presentation. See Note 2 to the financial statements for further discussion of this restatement. <TABLE> <CAPTION> Three Months Ended September 30, -------------------------------- 1999 1998 ---- ---- (Dollars in thousands, except per share amounts) <S> <C> <C> Net income before after-tax effects of gains $ 53,265 $ 35,409 Add: After-tax effects of gains 3,798 -- ---------- ---------- Net income as reported $ 57,063 $ 35,409 ========== ========== Earnings per share before after-tax effects of gains $ .59 $ .40 Add: After-tax effects of gains .04 -- --------- ----------- Diluted earnings per share $ .63 $ .40 ========== ========== </TABLE> 10
FINANCIAL RESOURCES AND LIQUIDITY - --------------------------------- The Company operates a capital and marketing-intensive business. In recent years, the Company has generated operating cash flow and received cash proceeds from divestitures to fund most of its construction costs and substantially all of its operating expenses. The Company anticipates further increases in cellular units in service, revenues, operating cash flow and fixed asset additions as it continues its growth strategy. Operating cash flow may fluctuate from quarter to quarter depending on the seasonality of each of these growth factors. Cash flows from operating activities provided $287.1 million in 1999 and $197.3 million in 1998. Operating cash flow provided $386.0 million in 1999 and $293.5 million in 1998. Cash flows from other operating activities (investment and other income, interest expense, income taxes, changes in working capital and changes in other assets and liabilities) required $98.9 million in 1999 and $96.2 million in 1998. Income taxes and interest paid totaled $74.1 million in 1999 and $103.0 million in 1998. Cash flows from financing activities required $554,000 in 1999 and $1.7 million in 1998. In 1998, the Company borrowed and repaid $47 million under the Revolving Credit Facility. Cash flows from investing activities required $154.6 million in 1999 and $182.4 million in 1998. Cash required for property, plant and equipment and system development expenditures totaled $242.7 million in 1999 and $231.0 million in 1998. In both periods, these expenditures were financed primarily with internally generated cash. These expenditures primarily represent the construction of 160 and 196 cell sites in 1999 and 1998, respectively, plus other plant additions and costs related to the development of the Company's office systems. In both periods, other plant additions included significant amounts related to the replacement of retired assets and the changeout of analog radio equipment for digital radio equipment. Acquisitions required $27.0 million in 1999 and $86.2 million in 1998. The Company received net cash proceeds totaling $96.0 million in 1999 and $120.2 million in 1998 related to sales of cellular and other investments. Cash distributions from cellular entities in which the Company has an interest provided $17.9 million in 1999 and $19.1 million in 1998. Anticipated capital requirements for 1999 primarily reflect the Company's construction and system expansion program. The Company's construction and system expansion budget for 1999 is approximately $300 million, to expand and enhance the Company's coverage in its service areas, including the addition of digital service capabilities to its systems, and to enhance the Company's office systems. Acquisitions and Divestitures - ----------------------------- The Company assesses its cellular holdings on an ongoing basis in order to maximize the benefits derived from clustering its markets. As the Company's clusters have grown, the Company's focus has shifted toward exchanges and divestitures of managed and investment interests along with the outright purchases of controlling interests which helped build the Company's clusters since its inception. Over the past few years, the Company has completed exchanges of controlling interests in its less strategic markets for controlling interests in markets which better complement its clusters. The Company has also completed outright sales of other less strategic markets, and has purchased controlling interests in markets which enhance its clusters. The proceeds from any sales have been used to further the Company's growth. 11
In the first nine months of 1999, the Company acquired a majority interest in one market and minority interests in several markets in which the Company currently owns a majority interest, representing 243,000 pops, for a total of $30.1 million, consisting primarily of cash. In the first nine months of 1998, the Company acquired majority interests in three markets and minority interests in several markets, representing 866,000 pops, for a total consideration of $106.5 million, consisting of cash and approximately 46,000 USM Common Shares. The minority interests were in markets in which the Company currently owns both majority and minority interests. In the first nine months of 1999, the Company divested a majority interest in one market and minority interests in three markets, representing 606,000 pops, for a total consideration of $59.7 million. The majority interest was sold to BellSouth Corporation as part of a transaction which was substantially completed in November 1997; therefore, no gain or loss was recorded on this sale. In the first nine months of 1998, the Company divested minority interests in 12 markets, representing approximately 936,000 pops. In exchange, the Company received approximately 4.1 million shares of ATI stock and cash totaling $120.5 million. Approximately $28.7 million of the total cash received was pursuant to a contract right termination agreement entered into between the Company and TDS. This agreement was related to two interests which were sold directly by TDS to ATI and which were to be acquired by the Company as part of a June 1996 agreement between the Company and TDS. The contract right termination agreement enabled the Company to receive cash equal to the value of the gain the Company would have realized had it purchased the interests from TDS and sold them to ATI under terms similar to those in the agreement between TDS and ATI. As of September 30, 1999, the Company had an agreement pending to acquire a majority interest in one market, representing 128,000 pops, for $23.0 million in cash. Liquidity - --------- The Company anticipates that the aggregate resources required for the remainder of 1999 will include approximately $57 million for capital spending and $23 million for an acquisition. The Company is generating substantial cash from its operations and anticipates financing these expenditures primarily with internally generated cash and short-term borrowings. The Company had $184 million of cash and cash equivalents at September 30, 1999. Additionally, the entire balance of $500 million under the Company's Revolving Credit Facility is unused and remains available to meet any short-term borrowing requirements. Management believes that the Company's operating cash flows and sources of external financing, including the above-referenced Revolving Credit Facility, provide substantial financial flexibility for the Company to meet both its short- and long-term needs. The Company also currently has access to public and private capital markets to help meet its long-term financing needs. The Company anticipates issuing debt and equity securities only when capital requirements (including acquisitions), financial market conditions and other factors warrant. 12
Market Risk - ----------- The Company is subject to market rate risks due to fluctuations in interest rates and equity markets. All of the Company' existing debt is in the form of long-term fixed-rate notes with original maturities ranging from seven to 20 years. Accordingly, fluctuations in interest rates can lead to fluctuations in the fair value of such instruments. The Company has not entered into financial derivatives to reduce its exposure to interest rate risks. There have been no material changes to the Company's outstanding debt instruments since December 31, 1998. The Company maintains a portfolio of available for sale marketable equity securities which resulted from acquisitions and the sale of non-strategic investments. The market value of these investments, principally VOD ADRs, amounted to $504.2 million at September 30, 1999. A hypothetical 10% decrease in the share prices of these investments would result in a $50.4 million decline in the market value of the investments. Year 2000 Issue - --------------- The Year 2000 Issue exists because many computer systems and applications abbreviate dates using only two digits rather than four digits, e.g., "98" rather than "1998". Unless corrected, this shortcut may cause problems when the century date "2000" occurs. On that date, some computer operating systems and applications and embedded technology may recognize the date as January 1, 1900 instead of January 1, 2000. If the Company fails to correct any critical Year 2000 processing problems prior to January 1, 2000, the affected systems may either cease to function or produce erroneous data, which could have material adverse operational and financial consequences. The Company's management established a project team to address Year 2000 issues. The Company's plan to address the Year 2000 Issue consists of five general phases: (i) Awareness, (ii) Assessment, (iii) Renovation, (iv) Validation and (v) Implementation. The awareness phase consisted of establishing a Year 2000 project team, that reports periodically to the Company's Audit Committee, and developing an overall strategy. TDS management established a Year 2000 Program Office at the corporate level to coordinate activities of the Year 2000 project team, to monitor the current status of individual projects, to report periodically to the TDS Audit Committee and to promote the exchange of information between all TDS business units to share knowledge and solution techniques. On an ongoing basis, the project teams continue to provide Year 2000 information and updates to customers, employees and business partners. Management has made the Year 2000 Issue a top priority. The Year 2000 effort covers the network and supporting infrastructure for the provision of cellular services; the operational and financial information technology ("IT") systems and applications, including computer systems that support key business functions such as billing, finance, customer service, procurement and supply; and a review of the Year 2000 readiness efforts of the Company's critical vendors. The assessment phase included the identification of core business areas and processes, analysis of systems and hardware supporting the core business areas and the prioritization of renovation or replacement of the systems and hardware that were determined not to be Year 2000 ready. Included in the assessment phase was an analysis of risk management factors such as contingency plans and legal matters. Except for the contingency plans as discussed herein, the assessment phase was completed in the first quarter of 1999. 13
The Year 2000 project team has identified those mission critical hardware, systems and applications that were not Year 2000 ready. These critical hardware, systems and applications that were not Year 2000 ready have undergone renovation. The renovation phase consisted of the remediation or replacement of mission critical systems, applications and hardware. The renovation of these mission critical hardware, systems and applications has been completed. The renovated mission critical hardware, systems and applications have undergone Year 2000 validation testing. The validation phase included testing, verifying and validating the renovated or replaced platforms, applications, databases and utilities. The validation phase consisted of independent verification testing of mission critical systems, applications and hardware as well as network and system component upgrades received from suppliers. In addition, selected Year 2000 upgrades were tested in a controlled environment that replicated the current environment and was equipped to simulate the turn of the century and leap year dates. The Company will rely on the Cellular Telecommunications Industry Association ("CTIA"), Alliance for Telecommunications Industry Solutions ("ATIS") and TELCO Forum, which formed working groups to coordinate efforts of various carriers and manufacturers to facilitate inter-network Year 2000 testing. These programs have concluded and, generally, the findings indicate that there are no known network inter-operability defects related to Year 2000 associated with the available Year 2000 ready upgrades for the networks. The Company has analyzed the findings and has installed upgrades appropriate to its network. Validation of mission critical hardware, systems and applications was substantially completed as of October 31, 1999. The implementation phase involves migrating the converted, renovated and validated mission critical systems, applications and hardware into production. This phase is expected to be completed during the fourth quarter of 1999. As with other telecommunications services providers, there exists a worst case scenario possibility that a failure to correct a Year 2000 problem in one or more of the mission critical network elements or IT applications could cause a significant disruption of, or interruption in, certain normal business functions. Management believes it has assembled the proper staffing and tools and put in place procedures to identify and prepare all mission critical systems for the Year 2000 and believes the necessary programs are in place for a smooth Year 2000 transition. Based on the assessments and work performed to date by the project teams, management believes that any such material disruption to the operations due to failure of an internal system is unlikely. However, management cannot provide assurance that its plan to address Year 2000 readiness will be successful as the Company is subject to various risks and uncertainties. Like most other telecommunications operators, the Company is highly dependent on the telecommunications network vendors to develop and provide Year 2000 ready hardware, systems and applications and on other third parties, including vendors, other telecommunications service providers, government agencies and financial institutions, to deliver reliable services and timely upgrades. The Company has contacted critical vendors, requesting information about their Year 2000 readiness. The responses have been used to make its renovations and are being used in developing the Company's overall contingency plans. The Company cannot assess with certainty the magnitude of any such potential adverse impact. However, based upon risk assessment work conducted thus far, management believes that the most reasonably likely worst case scenario of the failure by the Company, its suppliers or other telecommunications carriers with which the Company interconnects to resolve Year 2000 issues would be an inability by the Company to (i) provide telecommunications services to the Company's customers, (ii) route and deliver telephone calls originating from or terminating with 14
other telecommunications carriers, (iii) timely and accurately process service requests and (iv) timely and accurately bill its customers. In addition to lost earnings, these failures could also result in loss of customers due to service interruptions and billing errors, substantial claims by customers and increased expenses associated with stabilizing operations and executing contingency plans. The Company's contingency plan initiatives include business recovery planning and establishing command centers and critical support teams. Project teams are developing alternate processes to support critical customer functions in the event information systems or mechanized processes experience Year 2000 disruptions; as well as for repair or replacement of any affected systems or processes. The teams are also developing alternate plans for critical suppliers of products/services that fail to meet established service levels due to Year 2000 disruptions. Retention and backup procedures for customer and critical business data are being developed to provide the Company with pre-rollover recovery capabilities. The Company anticipates completing the balance of its contingency planning in the fourth quarter of 1999. The Company estimates that the total direct costs related to the Year 2000 project will be approximately $4 million to $5 million. Through September 30, 1999, the total direct costs associated with the Year 2000 Issue were approximately $3.5 million. In recent years, the Company has made capital expenditures, primarily related to the ongoing upgrade of its network to provide digital capabilities as well as certain financial and customer information systems, which are by design thought to be Year 2000 ready. These expenditures are not considered to be directly related to the Year 2000 project because they are in conjunction with the Company's overall operating strategies to add digital capabilities for competitive purposes and to improve financial systems and customer service. Though Year 2000 project costs will directly impact the reported level of net income, the Company intends to manage its total cost structure, including deferral of non-critical projects, in an effort to mitigate the impact of Year 2000 project costs. PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995 SAFE HARBOR CAUTIONARY STATEMENT This Management's Discussion and Analysis of Results of Operations and Financial Condition and other sections of this Quarterly Report on Form 10-Q contain "forward-looking" statements as defined in the Private Securities Litigation Reform Act of 1995, that are based on current expectations, estimates and projections. Statements that are not historical facts, including statements about the Company's beliefs and expectations, are forward-looking statements. These statements contain potential risks and uncertainties; therefore, actual results may differ materially. The Company undertakes no obligation to update publicly any forward-looking statements whether as a result of new information, future events or otherwise. Important factors that may affect these projections or expectations include, but are not limited to: changes in the overall economy; changes in competition in markets in which the Company operates; advances in telecommunications technology; changes in the telecommunications regulatory environment; pending and future litigation; availability of future financing; start-up of PCS operations; unanticipated changes in growth in cellular customers, penetration rates, churn rates and the mix of products and services offered in the Company's markets; and unanticipated problems with the Year 2000 Issue. Readers should evaluate any statements in light of these important factors. 15
<TABLE> <CAPTION> UNITED STATES CELLULAR CORPORATION AND SUBSIDIARIES --------------------------------------------------- CONSOLIDATED STATEMENTS OF OPERATIONS ------------------------------------- Unaudited --------- Three Months Ended Nine Months Ended September 30, September 30, ------------------------------------- ------------------------------ 1999 1998 1999 1998 ------ ------ ------ ------ (Dollars in thousands, except per share amounts) <S> <C> <C> <C> <C> OPERATING REVENUES Service $ 360,140 $ 303,921 $ 1,023,857 $ 821,196 Equipment sales 13,061 10,026 36,281 28,016 ------------- ------------- ------------- ------------ Total Operating Revenues 373,201 313,947 1,060,138 849,212 ------------- ------------- ------------- ------------ OPERATING EXPENSES System operations 44,807 53,817 165,139 143,127 Marketing and selling 66,848 55,546 188,533 156,875 Cost of equipment sold 27,915 22,776 81,015 63,881 General and administrative 80,627 67,265 239,500 191,785 Depreciation 47,031 40,795 135,332 117,593 Amortization of intangibles 10,413 11,233 30,493 30,144 ------------- ------------- ------------- ------------ Total Operating Expenses 277,641 251,432 840,012 703,405 ------------- ------------- ------------- ------------ OPERATING INCOME 95,560 62,515 220,126 145,807 ------------- ------------- ------------- ------------ INVESTMENT AND OTHER INCOME Investment income 10,696 10,520 24,530 31,410 Amortization of licenses related to investments (363) (256) (933) (815) Interest income 1,833 1,294 4,590 4,561 Other income (expense), net 19 (303) (452) (3,109) Minority share of income (3,077) (1,707) (6,156) (4,402) Gain on sale of cellular and other investments 6,046 -- 266,744 189,759 ------------- ------------- ------------- ------------ Total Investment and Other Income 15,154 9,548 288,323 217,404 ------------- ------------- ------------- ------------ INCOME BEFORE INTEREST AND INCOME TAXES 110,714 72,063 508,449 363,211 Interest expense 9,508 9,948 28,116 29,836 ------------- ------------- ------------- ------------ INCOME BEFORE INCOME TAXES 101,206 62,115 480,333 333,375 Income tax expense 44,143 26,706 200,568 135,429 ------------- ------------- ------------- ------------ NET INCOME $ 57,063 $ 35,409 $ 279,765 $ 197,946 ============= ============= ============= ============ WEIGHTED AVERAGE COMMON AND SERIES A COMMON SHARES (000s) 87,484 87,353 87,445 87,311 BASIC EARNINGS PER COMMON AND SERIES A COMMON SHARE $ .65 $ .41 $ 3.20 $ 2.27 ============= ============= ============= ============ DILUTED EARNINGS PER COMMON AND SERIES A COMMON SHARE $ .63 $ .40 $ 3.03 $ 2.17 ============= ============= ============= ============ The accompanying notes to consolidated financial statements are an integral part of these statements. </TABLE> 16
<TABLE> <CAPTION> UNITED STATES CELLULAR CORPORATION AND SUBSIDIARIES ---------------------------------------------------- CONSOLIDATED STATEMENTS OF CASH FLOWS ------------------------------------- Unaudited ---------- Nine Months Ended September 30, --------------------------------------- 1999 1998 ------------- --------------- (Dollars in thousands) <S> <C> <C> CASH FLOWS FROM OPERATING ACTIVITIES Net income $ 279,765 $ 197,946 Add (Deduct) adjustments to reconcile net income to net cash provided by operating activities Depreciation and amortization 165,825 147,737 Deferred income tax provision 119,354 76,170 Investment income (24,530) (31,410) Minority share of income 6,156 4,402 Gain on sale of cellular and other investments (266,744) (189,759) Other noncash expense 20,266 18,074 Change in accounts receivable (42,082) (30,704) Change in accounts payable 1,466 20,027 Change in accrued interest (4,533) (4,221) Change in accrued taxes 30,838 (13,526) Change in customer deposits and deferred revenues 3,875 3,549 Change in other assets and liabilities (2,536) (1,030) ------------- --------------- 287,120 197,255 ------------- --------------- CASH FLOWS FROM FINANCING ACTIVITIES Repayment of long-term debt (267) -- Borrowings from Revolving Credit Facility -- 47,000 Repayment of Revolving Credit Facility -- (47,000) Change in notes payable -- (1,302) Common Shares issued 3,507 2,131 Capital distributions to minority partners (3,794) (2,546) ------------- --------------- (554) (1,717) ------------- --------------- CASH FLOWS FROM INVESTING ACTIVITIES Additions to property, plant and equipment (217,485) (199,754) System development costs (25,260) (31,214) Investments in and advances to minority interests in cellular entities 724 (6,356) Distributions from minority interests in cellular entities 17,891 19,073 Proceeds from sale of cellular and other investments 95,987 120,244 Acquisitions, excluding cash acquired (26,967) (86,190) Other investing activities 491 773 Change in temporary cash and marketable non-equity securities 57 1,037 ------------- --------------- (154,562) (182,387) ------------- --------------- NET INCREASE IN CASH AND CASH EQUIVALENTS 132,004 13,151 CASH AND CASH EQUIVALENTS- Beginning of period 51,975 13,851 ------------- --------------- End of period $ 183,979 $ 27,002 ============= =============== The accompanying notes to consolidated financial statements are an integral part of these statements. </TABLE> 17
<TABLE> <CAPTION> UNITED STATES CELLULAR CORPORATION AND SUBSIDIARIES --------------------------------------------------- CONSOLIDATED BALANCE SHEETS --------------------------- ASSETS ------ (Unaudited) September 30, December 31, 1999 1998 ------------ ----------- (Dollars in thousands) <S> <C> <C> CURRENT ASSETS Cash and cash equivalents General funds $ 53,215 $ 15,576 Affiliated cash equivalents 130,764 36,399 ---------- ---------- 183,979 51,975 Temporary investments 233 284 Accounts receivable Customers, net of allowance 118,795 99,931 Roaming 69,499 46,634 Affiliates 171 26 Other 11,358 13,671 Inventory 24,568 16,673 Prepaid expenses 9,542 10,506 Other current assets 3,805 3,105 ---------- ---------- 421,950 242,805 ---------- ---------- INVESTMENTS Licenses, net of accumulated amortization 1,161,538 1,200,653 Minority interests in cellular entities 127,577 140,286 Notes and interest receivable 10,940 11,530 Marketable equity securities 504,182 296,860 Marketable non-equity securities 309 336 ---------- ---------- 1,804,546 1,649,665 ---------- ---------- PROPERTY, PLANT AND EQUIPMENT In service and under construction 1,556,863 1,400,597 Less accumulated depreciation 477,409 389,754 ---------- ---------- 1,079,454 1,010,843 ---------- ---------- DEFERRED CHARGES System development costs, net of accumulated amortization 138,164 127,742 Other, net of accumulated amortization 12,807 16,581 ---------- ---------- 150,971 144,323 ---------- ---------- Total Assets $ 3,456,921 $ 3,047,636 ========== ========== </TABLE> The accompanying notes to consolidated financial statements are an integral part of these statements. 18
UNITED STATES CELLULAR CORPORATION AND SUBSIDIARIES --------------------------------------------------- CONSOLIDATED BALANCE SHEETS --------------------------- LIABILITIES AND SHAREHOLDERS' EQUITY ------------------------------------ <TABLE> <CAPTION> (Unaudited) September 30, December 31, 1999 1998 ------------ ----------- (Dollars in thousands) <S> <C> <C> CURRENT LIABILITIES Accounts payable Affiliates $ 1,605 $ 11,508 Other 156,585 172,568 Customer deposits and deferred revenues 31,690 27,575 Accrued interest 2,536 7,069 Accrued taxes 44,899 13,928 Accrued compensation 16,048 13,263 Other current liabilities 13,983 12,362 ---------- ---------- 267,346 258,273 ---------- ---------- LONG-TERM DEBT 6% zero coupon convertible debentures 293,949 281,487 7.25% notes 250,000 250,000 ---------- ---------- 543,949 531,487 ---------- ---------- DEFERRED LIABILITIES AND CREDITS Net deferred income tax liability 370,626 258,123 Other 9,162 5,914 ---------- ---------- 379,788 264,037 ---------- ---------- MINORITY INTEREST 42,305 43,609 ---------- ---------- COMMON SHAREHOLDERS' EQUITY Common Shares, par value $1 per share 54,511 54,365 Series A Common Shares, par value $1 per share 33,006 33,006 Additional paid-in capital 1,323,279 1,319,895 Accumulated other comprehensive income 59,472 69,465 Retained earnings 753,265 473,499 ---------- ---------- 2,223,533 1,950,230 ---------- ---------- Total Liabilities and Shareholders' Equity $ 3,456,921 $ 3,047,636 ========== ========== </TABLE> The accompanying notes to consolidated financial statements are an integral part of these statements. 19
UNITED STATES CELLULAR CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) 1. The consolidated financial statements included herein have been prepared by the Company, without audit, pursuant to the rules and regulations of the Securities and Exchange Commission. Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to such rules and regulations, although the Company believes that the disclosures are adequate to make the information presented not misleading. It is suggested that these consolidated financial statements be read in conjunction with the consolidated financial statements and the notes thereto included in the Company's latest annual report on Form 10-K. The accompanying unaudited consolidated financial statements contain all adjustments (consisting of only normal recurring items) necessary to present fairly the financial position as of September 30, 1999 and December 31, 1998, and the results of operations and cash flows for the nine months ended September 30, 1999 and 1998. The results of operations for the nine months ended September 30, 1999 and 1998, are not necessarily indicative of the results to be expected for the full year. 2. Net Income used in computing Earnings per Common Share and the effect on income and the weighted average number of Common and Series A Common Shares of dilutive potential common stock are as follows: <TABLE> <CAPTION> Three Months Ended Nine Months Ended September 30, September 30, ----------------------- ------------------- 1999 1998 1999 1998 ---- ---- ---- ---- (Dollars in thousands) <S> <C> <C> <C> <C> Net Income used in Basic Earnings Per Share 57,063 35,409 279,765 197,946 Interest expense eliminated as a result of the pro forma conversion of Convertible Debentures 2,419 2,330 7,415 7,155 -------- ------- ------- ------- Net Income used in Diluted Earnings per Share $ 59,482 $ 37,739 $ 287,180 $ 205,101 ========= ======= ======== ========= Weighted average number of Common Shares used in Basic Earnings Per Share 87,484 87,353 87,445 87,311 Effect of Dilutive Securities: Stock Options and Stock Appreciation Rights 483 34 241 42 Conversion of Convertible Debentures 7,054 7,059 7,057 7,059 --------- ------- ------- ------- Weighted Average Number of Common Shares used in Diluted Earnings Per Share 95,021 94,446 94,743 94,412 ========= ======= ======= ======= </TABLE> 20
UNITED STATES CELLULAR CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) Earnings per Common and Series A Common Share for the nine months ended September 30, 1999 and 1998, contain significant income amounts related to gains on the sale of cellular and other investments. Excluding the after-tax effect of these gains, basic and diluted earnings per share were $1.37 and $1.34, respectively, for the nine months ended September 30, 1999 and $.94 for the nine months ended September 30, 1998. Pro forma earnings per Common Share for the three months ended and nine months ended September 30, 1998 are reported in this Form 10-Q to reflect current period presentation. Current period presentation includes the conversion of LYONs into USM Common Shares as dilutive potential common stock and also includes the effect of adding after-tax interest accreted on the LYONs to net income for each period. The amounts used in computing pro forma earnings per Common Share for all periods which were not originally reported in a format comparable to current period presentation are as follows: <TABLE> <CAPTION> June 30, 1999 March 31, 1999 ------------- -------------- 3 Months 6 Months 3 Months -------- -------- -------- (Dollars in thousands) <S> <C> <C> <C> Net Income used in Basic Earnings Per Share $ 194,876 $ 222,702 $ 27,826 Interest expense eliminated as a result of the pro forma conversion of Convertible Debentures 2,497 4,960 2,400 ------------ ----------- ----------- Net Income used in Diluted Earnings Per Share $ 197,373 $ 227,662 $ 30,226 ============ =========== =========== Weighted average number of Common Shares used in Basic Earnings Per Share 87,461 87,426 87,390 Effect of Dilutive Securities: Stock Options and Stock Appreciation Rights 133 120 107 Conversion of Convertible Debentures 7,059 7,059 7,059 ------------ ----------- ----------- Weighted Average Number of Common Shares used in Diluted Earnings Per Share 94,653 94,605 94,556 ============ =========== =========== Diluted Earnings per Common Share as restated $ 2.09 $ 2.41 $ 0.32 ============ =========== =========== Diluted Earnings per Common Share as previously reported $ 2.22 $ 2.54 $ 0.32 ============ =========== =========== </TABLE> 21
<TABLE> <CAPTION> UNITED STATES CELLULAR CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) December 31, 1998 September 30, 1998 ----------------- ------------------ 3 Months 12 Months 3 Months 9 Months -------- --------- -------- -------- (Dollars in thousands) <S> <C> <C> <C> <C> Net Income used in Basic Earnings Per Share $ 19,001 $ 216,947 $ 35,409 $ 197,946 Interest expense eliminated as a result of the pro forma conversion of Convertible Debentures 1,426 9,032 2,331 7,155 ------------ ----------- ----------- ------------ Net Income used in Diluted Earnings Per Share $ 20,428 $ 225,979 $ 37,740 $ 205,101 ============ =========== =========== ============ Weighted average number of Common Shares used in Basic Earnings Per Share 87,358 87,323 87,353 87,311 Effect of Dilutive Securities: Stock Options and Stock Appreciation Rights 65 48 33 42 Conversion of Convertible Debentures 7,059 7,059 7,059 7,059 ------------ ----------- ----------- ------------ Weighted Average Number of Common Shares used in Diluted Earnings Per Share 94,482 94,430 94,445 94,412 ============ =========== =========== ============ Diluted Earnings per Common Share as restated $ 0.22 $ 2.39 $ 0.40 $ 2.17 ============ =========== =========== ============ Diluted Earnings per Common Share as previously reported $ 0.22 $ 2.48 $ 0.41 $ 2.27 ============ =========== =========== ============ </TABLE> <TABLE> <CAPTION> March 31, June 30, 1998 1998 ------------- ---- 3 Months 6 Months 3 Months -------- -------- -------- (Dollars in thousands) <S> <C> <C> <C> Net Income used in Basic Earnings Per Share $ 32,785 $ 162,537 $ 129,752 Interest expense eliminated as a result of the pro forma conversion of Convertible Debentures 2,294 4,770 2,404 ------------- ------------- ------------- Net Income used in Diluted Earnings Per Share $ 35,079 $ 167,307 $ 132,156 ============= ============= ============= Weighted average number of Common Shares used in Basic Earnings Per Share 87,342 87,290 87,239 Effect of Dilutive Securities: Stock Options and Stock Appreciation Rights 40 39 38 Conversion of Convertible Debentures 7,059 7,059 7,059 ------------- ------------- ------------- Weighted Average Number of Common Shares used in Diluted Earnings Per Share 94,441 94,388 94,336 ============= ============= ============= Diluted Earnings per Common Share as restated $ 0.37 $ 1.77 $ 1.40 ============= ============= ============= Diluted Earnings per Common Share as previously reported $ 0.38 $ 1.86 $ 1.49 ============= ============= ============= </TABLE> 22
UNITED STATES CELLULAR CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) <TABLE> <CAPTION> December 31, 1997 ---- 3 Months 12 Months -------- --------- (Dollars in thousands) <S> <C> <C> Net Income used in Basic Earnings Per Share $ 25,157 $ 111,539 Interest expense eliminated as a result of the pro forma conversion of Convertible Debentures 2,267 8,691 -------- -------- Net Income used in Diluted Earnings Per Share $ 27,424 $ 120,230 ======== ======== Weighted average number of Common Shares used in Basic Earnings Per Share 86,858 86,346 Effect of Dilutive Securities: Stock Options and Stock Appreciation Rights 52 52 Conversion of Convertible Debentures 7,059 7,059 -------- -------- Weighted Average Number of Common Shares used in Diluted Earnings Per Share 93,969 93,457 ======== ======== Diluted Earnings per Common Share as restated $ 0.29 $ 1.29 ======== ======== Diluted Earnings per Common Share as previously reported $ 0.29 $ 1.29 ======== ======== </TABLE> 3. Assuming that acquisitions accounted for as purchases during the period January 1, 1998, to September 30, 1999, had taken place on January 1, 1998, pro forma results of operations would have been as follows: <TABLE> <CAPTION> Nine Months Ended September 30, -------------------- 1999 1998 ---- ---- (Dollars in thousands, except per share amounts) <S> <C> <C> Service Revenues $ 1,030,867 $ 839,157 Equipment Sales 36,346 28,448 Interest Expense (including cost to finance acquisitions) 28,116 29,836 Net Income 281,333 200,537 Earnings per Common and Series A Common Share-Basic 3.22 2.30 Earnings per Common and Series A Common Share-Diluted 3.05 2.20 </TABLE> 23
UNITED STATES CELLULAR CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) 4. Supplemental Cash Flow Information The Company acquired certain cellular licenses and interests during the first nine months of 1999 and 1998. In conjunction with these acquisitions, the following assets were acquired, liabilities assumed and Common Shares issued. <TABLE> <CAPTION> Nine Months Ended September 30, ----------------------- 1999 1998 ---- ---- (Dollars in thousands) <S> <C> <C> Property, plant and equipment $ 3,444 $ 5,447 Cellular licenses 19,879 68,695 Decrease in equity-method investment in cellular interests (748) (2,317) Decrease in minority investments 3,682 13,168 Other assets and liabilities, excluding cash acquired 710 2,500 Common Shares issued -- (1,303) -------- -------- Decrease in cash due to acquisitions $ 26,967 $ 86,190 ======== ======== </TABLE> The following summarizes certain noncash transactions and interest and income taxes paid. <TABLE> <CAPTION> Nine Months Ended September 30, ----------------- 1999 1998 ---- ---- (Dollars in thousands) <S> <C> <C> Interest paid $ 19,254 $ 18,688 Income taxes paid 54,837 84,263 Noncash interest expense 12,781 12,048 </TABLE> 5. Gain on sale of cellular and other investments in 1999 primarily related to the merger between AirTouch Communications, Inc. and Vodafone Group plc. In accordance with current accounting rules, the Company was required to recognize in earnings as a gain the difference between its historical basis in the ATI shares and the June 30, 1999 value of the Vodafone ADRs plus the cash to be received as a result of this merger. Gain on sale of cellular and other investments in 1998 primarily reflects gains recorded on the sale of the Company's minority interests in twelve markets and on cash received from TDS pursuant to an agreement between the Company and TDS. 24
UNITED STATES CELLULAR CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) 6. Other Comprehensive Income The Company's Comprehensive Income includes Net Income and Unrealized Gains from Marketable Equity Securities that are classified as "available-for-sale". The following table summarizes the Company's Comprehensive Income: <TABLE> <CAPTION> Nine Months Ended September 30, 1999 1998 ---- ---- (Dollars in thousands) <S> <C> <C> Accumulated Other Comprehensive Income Balance, beginning of period $ 69,465 $ -- Add: Unrealized gains on securities 242,811 52,507 Income tax effect (97,126) (18,377) --------- --------- Net unrealized gains 145,685 34,130 --------- --------- Deduct: Gain on reclassification of securities 259,464 -- Income tax effect (103,786) -- --------- --------- Net unrealized gains reclassified to Net Income 155,678 -- --------- --------- Net unrealized gains included in comprehensive income (9,993) -- --------- --------- Balance, end of period $ 59,472 $ 34,130 ========= ========= </TABLE> <TABLE> <CAPTION> Three Months Ended Nine Months Ended September 30, September 30, ---------------------- --------------------- 1999 1998 1999 1998 ---- ---- ---- ---- (Dollars in thousands) <S> <C> <C> <C> <C> Comprehensive Income Net Income $ 57,063 $ 35,409 $ 279,765 $ 197,946 Net unrealized gains on securities 55,857 (3,756) 59,472 34,130 --------- --------- --------- --------- $ 112,920 $ 31,653 $ 339,237 $ 232,076 ========= ========= ========= ========= </TABLE> 25
UNITED STATES CELLULAR CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) 7. Marketable Equity Securities Marketable equity securities include the Company's investments in equity securities, primarily Vodafone AirTouch plc American Depository Receipts ("VOD ADRs"). These securities are classified as available-for-sale and stated at fair market value. Information regarding the Company's marketable equity securities is summarized below. <TABLE> <CAPTION> September 30, December 31, 1999 1998 -------------------------------------- (Dollars in thousands) <S> <C> <C> Available-for-sale Equity Securities Aggregate Fair Value $ 504,182 $ 296,860 Adjusted Basis 405,061 181,087 --------- --------- Gross Unrealized Holding Gains 99,121 115,773 Tax Effect (39,649) (46,308) --------- --------- Net Unrealized Holding Gains, net of tax $ 59,472 $ 69,465 ========= ========= </TABLE> 26
PART II. OTHER INFORMATION -------------------------- Item 6. Exhibits and Reports on Form 8-K. - ----------------------------------------- (a) Exhibits: Exhibit 11 - Statement regarding computation of per share earnings is included herein as footnote 2 to the financial statements. Exhibit 12 - Statement regarding computation of ratios. Exhibit 27 - Financial Data Schedule. (b) Reports on Form 8-K filed during the quarter ended September 30, 1999: No reports on Form 8-K were filed during the quarter ended September 30, 1999. 27
SIGNATURES ---------- Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. UNITED STATES CELLULAR CORPORATION ---------------------------------- (Registrant) Date November 12, 1999 H. DONALD NELSON ---------------------------------------------- H. Donald Nelson President (Chief Executive Officer) Date November 12, 1999 KENNETH R. MEYERS ---------------------------------------------- Kenneth R. Meyers Executive Vice President-Finance and Treasurer (Chief Financial Officer) Date November 12, 1999 JOHN T. QUILLE ---------------------------------------------- John T. Quille Vice President and Controller (Principal Accounting Officer) 28