UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
(cid:95) ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2012
(cid:134) 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 000-51446
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC.
(Exact name of registrant as specified in its charter)
Delaware
(State or other jurisdiction
of incorporation or organization)
121 South 17th Street, Mattoon, Illinois
(Address of principal executive offices)
02-0636095
(I.R.S. Employer
Identification No.)
61938-3987
(Zip Code)
Registrant’s telephone number, including area code (217) 235-3311
Securities registered pursuant to Section 12(b) of the Act:
Title of each class
Common Stock—$0.01 par value
Name of each exchange on which registered
The NASDAQ Global Select Market
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.
Securities registered pursuant to Section 12(g) of the Act: None
Yes (cid:134) No (cid:95)
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.
Yes (cid:134) No (cid:95)
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 (cid:95) No (cid:134)
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File
required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such
shorter period that the registrant was required to submit and post such files).
Yes (cid:95) No (cid:134)
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§229.405 of this chapter) is not contained herein,
and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III
of this Form 10-K or any amendment to this Form 10-K. (cid:134)
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a small reporting company.
See definitions of “large accelerated filer” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer (cid:134)
Smaller reporting company(cid:134)
Accelerated filer (cid:95)
Non-accelerated filer (cid:134)
(Do not check if a smaller
reporting company)
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).
Yes (cid:134) No (cid:95)
As of June 30, 2012, the aggregate market value of the shares held by non-affiliates of the registrant’s common stock was $406,292,900 based on
the closing price as reported on the NASDAQ Global Select Market. The market value calculations exclude shares held on the stated date by
registrant’s directors and officers on the assumption such shares may be shares owned by affiliates. Exclusion from these public market value
calculations does not necessarily conclude affiliate status for any other purpose.
On February 15, 2013, the registrant had 39,877,998 shares of Common Stock outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the registrant’s Proxy Statement for the 2013 Annual Meeting of Shareholders are incorporated herein by reference in Part III of this
Annual Report on Form 10-K to the extent stated herein. Such proxy statement will be filed with the Securities and Exchange Commission within
120 days of the registrant’s fiscal year ended December 31, 2012.
TABLE OF CONTENTS
PART I
Item 1.
Business . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Item 1A.
Risk Factors . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Item 1B.
Unresolved Staff Comments . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Item 2.
Properties . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Item 3.
Legal Proceedings . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Item 4.
Mine Safety Disclosures . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
PART II
Item 5.
Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer
Purchases of Equity Securities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Item 6.
Selected Financial Data . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Item 7.
Management’s Discussion and Analysis of Financial Condition and Results of Operations
Item 7A.
Quantitative and Qualitative Disclosures About Market Risk . . . . . . . . . . . . . . . . . . . . . . . .
Item 8.
Financial Statements and Supplementary Data . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Item 9.
Changes in and Disagreements With Accountants on Accounting and Financial Disclosure
Item 9A.
Controls and Procedures . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Item 9B.
Other Information . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
PART III
Item 10.
Directors, Executive Officers and Corporate Governance . . . . . . . . . . . . . . . . . . . . . . . . . . .
Item 11.
Executive Compensation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Item 12.
Security Ownership of Certain Beneficial Owners and Management and Related
Stockholder Matters. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Item 13.
Certain Relationships and Related Transactions, and Director Independence . . . . . . . . . . .
Item 14.
Principal Accountant Fees and Services. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
PART IV
Item 15.
Exhibits and Financial Statement Schedules . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
SIGNATURES. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
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Note About Forward-Looking Statements
PART I
Certain statements in this report, including that which relates to the impact on future revenue sources and potential
sharing obligations of pending and future regulatory orders, continued expansion of the telecommunications network
and expected changes in the sources of our revenue and cost structure resulting from our entrance into new
communications markets, are forward-looking statements and are made pursuant to the safe harbor provisions of the
Securities Litigation Reform Act of 1995. Forward-looking statements reflect, among other things, our current
expectations, plans, strategies, and anticipated financial results. There are a number of risks, uncertainties, and
conditions that may cause our actual results to differ materially from those expressed or implied by these forward-
looking statements. Many of these circumstances are beyond our ability to control or predict. Moreover, forward
looking statements necessarily involve assumptions on our part. These forward looking statements generally are
identified by the words “believe”, “expect”, “anticipate”, “estimate”, “project”, “intend”, “plan”, “should”, “may”,
“will”, “would”, “will be”, “will continue” or similar expressions. Such forward looking statements involve known
and unknown risks, uncertainties and other factors that may cause actual results, performance or achievements of
Consolidated Communications Holdings, Inc. and its subsidiaries to be different from those expressed or implied in
the forward-looking statements. All forward-looking statements attributable to us or persons acting on our behalf
are expressly qualified in their entirety by the cautionary statements that appear throughout this report. A detailed
discussion of these and other risks and uncertainties that could cause actual results and events to differ materially
from such forward–looking statements is included in the section entitled “Risk Factors” (refer to Part I, Item 1A).
Furthermore, forward-looking statements speak only as of the date they are made. Except as required under the
federal securities laws or the rules and regulations of the Securities and Exchange Commission, we disclaim any
intention or obligation to update or revise publicly any forward-looking statements. You should not place undue
reliance on forward-looking statements.
Item 1.
Business.
Consolidated Communications Holdings, Inc. (the “Company”, “we” or “our”) is a Delaware holding company with
operating subsidiaries (collectively “Consolidated”) providing a wide range of communications services to
residential and business customers in Illinois, Texas, Pennsylvania, California, Kansas and Missouri. We were
founded in 1894 as the Mattoon Telephone Company by the great-grandfather of our current Chairman, Richard A.
Lumpkin. After several acquisitions, the Mattoon Telephone Company was incorporated as the Illinois Consolidated
Telephone Company (“ICTC”) on April 10, 1924. We were incorporated under the laws of Delaware in 2002, and
through our predecessors we have provided telecommunications services for more than a century. Through strategic
acquisitions over the last eight years, we have grown our business, diversified our revenue and cash flow streams
and created a strong platform for future growth. Our acquisitions strategy includes creating operating synergies
associated with each acquisition. These operating synergies are created through the use of consistent platforms,
convergence of processes and functional management of the combined entities. We measure our synergies during
the first two years following an acquisition. For example, the acquisition of our Texas properties in 2004 tripled the
size of our business and gave us the requisite scale to make systems and platform decisions that would facilitate
future acquisitions. For the acquisition of our Pennsylvania properties, we achieved synergies in excess of $12.0
million in annualized savings, which at the time, represented about 20% of their operating expense. We have
positioned our business to provide services in both rural and suburban markets with service territories spanning the
country.
We offer a wide range of telecommunications services, including local and long-distance service, high-speed
broadband Internet access, video services, digital telephone service (“VOIP”), custom calling features, private line
services, carrier grade access services, network capacity services over our regional fiber optic networks, directory
publishing and Competitive Local Exchange Carrier (“CLEC”) services. We also operate two non-core
complementary businesses, prison services and equipment sales. We classify our operations into two reportable
business segments: Telephone Operations and Other Operations.
Recent Developments in Our Business during 2012
SureWest Merger
On July 2, 2012, we completed the merger with SureWest Communications (“SureWest”), which resulted in the
acquisition of 100% of all the outstanding shares of SureWest for $23.00 per share in a cash and stock transaction.
The acquisition of SureWest provides additional diversification of the Company’s revenues and cash flows both
1
geographically and by service type, which offers a platform for future growth and is expected to generate
operational and capital cost synergies. SureWest provides a wide range of telecommunications, digital video,
Internet, data and other facilities-based communications services in Northern California, primarily in the greater
Sacramento region, and in the greater Kansas City, Kansas and Missouri areas. For the year ended December 31,
2011, SureWest reported $248.1 million in total operating revenues. For the six months ended June 30, 2012,
SureWest generated $127.9 million in operating revenues. The total purchase price of $550.8 million, consisted of
cash and assumed debt of $402.4 million and 9,965,983 shares of the Company’s common stock valued at the
Company’s opening stock price on July 2, 2012 of $14.89, which totaled $148.4 million. The cash portion of the
merger consideration and the funds required to repay SureWest outstanding debt was financed with the sale of
$300.0 million in aggregate principal amount of 10.875% Senior Notes due 2020 (“Senior Notes”). The Company
also used cash on hand and approximately $35.0 million in borrowings from its revolving credit facility. Because
the acquisition closed on July 2, 2012, the Company’s financial information does not include any of the results of
operations from SureWest prior to the acquisition date. The financial results of SureWest are included in the
Telephone Operations segment as of the date of the acquisition.
As part of the acquisition of SureWest, we expect to generate annual operating synergies of approximately $25.0
million, which will be phased in over the first two years after the closing as integration projects are completed.
Prison Services Contract
We currently provide telephone service to inmates incarcerated at facilities operated by the Illinois Department of
Corrections through our Prison Services business. On June 27, 2012, the Illinois Department of Central
Management Services announced its intent to replace us as the provider of those services with a competitor. We
have challenged our competitor’s bid and the State’s decision to accept that bid in a variety of different forums.
Although we will continue to seek legal recourse to the State’s decision, our business plans and projections assume
that our contract with the State of Illinois will end during 2013. During 2012, the prison services contract comprised
82% of the operating revenues in our Other Operations segment, 5% of consolidated operating revenues and
approximately 2% of consolidated operating income, excluding financing and other transaction fees. For a more
detailed discussion regarding the legal actions we have taken with regards to the prison services contract, see Part I –
Item 3 – “Legal Proceedings”.
Available Information
Our Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and
amendments to reports filed or furnished pursuant to Sections 13(a) or 15(d) of the Securities Exchange Act of 1934,
as amended, are available free of charge on our web site at www.consolidated.com, as soon as reasonably practicable
after we electronically file such material with, or furnish it to, the Securities and Exchange Commission (“SEC”).
Copies are also available free of charge upon request to Consolidated Communications, 121 S. 17th St, Mattoon, IL
61938, Attn: Vice President Investor Relations and Treasurer. Our website also contains copies of our Corporate
Governance Guidelines, Code of Business Conduct and Ethics and charter of each committee of our Board of
Directors. The information found on our web site is not part of this or any other report we file with or furnish to the
SEC. The public may read and copy any materials we file with the SEC at the SEC’s Public Reference Room at 100
F Street, NE, Washington, DC 20549. The public may obtain information on the operation of the Public Reference
Room by calling the SEC at 1-800-SEC-0330. The SEC maintains an Internet site that contains reports, proxy and
information statements, and other information regarding our filings at http://www.sec.gov.
Description of Our Business
We derive our revenue principally from the sale of advanced telecommunication services to residential and business
customers in six states, including local and long-distance telephone service, high-speed broadband Internet, VOIP,
video services, carrier grade access services and telephone directory publishing, primarily in our Telephone
Operations segment. We also derive revenues from two complementary non-core businesses, prison services and
equipment sales. Prison services provides local and long-distance telephone service and automated calling service
to inmates incarcerated at facilities operated by the Illinois Department of Corrections. Business systems sells and
supports telecommunications equipment to business customers in Texas and Illinois. Prison services and business
systems are included in our Other Operations segment.
2
Our Telephone Operations segment generates the substantial majority of our revenue and operating income and
substantially all of our cash flow from operations. In 2012, the Telephone Operations segment generated 94% of
our consolidated revenue and substantially all of our operating income before depreciation and amortization.
A summary of net operating revenues, operating income, total assets and capital expenditures for each of the
business segments can be found in Note 13 in the Notes to Consolidated Financial Statements, in Item 8, which is
incorporated herein by reference. A discussion of factors potentially affecting our operations is set forth in “Risk
Factors” in Item 1A, which is incorporated herein by reference.
Sources of Revenue
The following table summarizes our sources of revenue for each of our two business segments for the last three
fiscal years:
(In millions, except for percentages)
Telephone operations:
Local calling services
Network access services
Subsidies
Long-distance services
Video, data and Internet services
Other services
Total telephone operations
Other operations
Total operating revenue
2012
2011
2010
$
93.5
98.6
49.3
17.3
176.7
36.7
472.1
31.4
503.5
% of
Revenues
18.6
19.6
9.8
3.4
35.1
7.3
93.8
6.2
100.0
$
84.2
80.5
45.4
15.9
83.0
33.6
342.6
31.7
374.3
% of
Revenues
22.5
21.5
12.1
4.2
22.2
9.0
91.5
8.5
100.0
$
91.0
81.7
48.7
18.0
76.1
34.1
349.6
33.8
383.4
% of
Revenues
23.7
21.3
12.7
4.7
19.8
8.9
91.2
8.8
100.0
All telecommunications providers continue to face increased competition as a result of technology changes and
industry legislative and regulatory developments. In recent years, changes in the legislative and regulatory
environment and our recent acquisition of SureWest have provided us with significant growth opportunities for our
video, data and Internet services. As indicated by the table above, the percentage of operating revenues we receive
from our video, data and Internet services has nearly doubled since 2010. We anticipate that video, data and Internet
revenues will continue to increase as a total percentage of operating revenues and offset the anticipated decline in
traditional telephone services, which continue to be impacted by the industry-wide decline in access lines.
Telephone Operations
The following table provides the key operating statistics of our Telephone Operations segment as of December 31,
2012:
ILEC access lines
Residential
Business
Total
Voice connections (1)
Residential
Business
Total
Data and internet connections (2)
Video connections (2)
Total connections
2012
2011
2010
153,855
114,742
268,597
78,811
50,918
129,729
247,633
106,137
752,096
137,179
90,813
227,992
2,388
52,424
54,812
134,129
34,356
451,289
140,660
96,481
237,141
2,957
53,671
56,628
125,678
29,236
448,683
(1)Voice connections include voice lines outside the Incumbent Local Exchange Carrier (“ILEC”) service areas and
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Voice-over-IP inside the ILEC service areas.
(2)These connections include both residential and business (excluding SureWest business metrics) for services both
inside and outside the ILEC service areas.
Local calling services
Local calling services include traditional wireline telephone service and other basic services. Our service plans
include options for voicemail and other enhanced custom calling features including caller ID, call forwarding and
call waiting. Services are charged at a fixed monthly rate or can be bundled with selected services at a discounted
rate.
We offer private lines that provide direct connections between two or more local locations at flat monthly rates. We
provide a hosted VOIP package, which utilizes a soft switch and allows the customer the flexibility of utilizing new
telephone technology and features without investing in a new telephone system. The package bundles local service,
calling features, Internet protocol (“IP”) business telephones and unified messaging, which integrates multiple
messaging technologies into a single system, which allows the customer to receive and listen to voice messages
through email.
Network access services
Network access service revenues include interstate and intrastate switched access revenue and network special
access services. Revenue from network access charges are received from long-distance and other carriers for
customer’s originating or terminating calls from/to our local exchanges. These services allow customers to make or
receive calls in our service area. Our long-distance customers typically pay a monthly flat-rate fee for this service.
In addition, other carriers pay network access charges for their originating or terminating calls within our service
areas. These charges also apply to private lines that connect a customer in one of our service areas to a location
outside of our service areas. Through these dedicated lines customers can transmit data and access external data
networks. We also provide cell site backhaul services to wireless carriers. The demand for backhaul services
continues to grow as wireless carriers are faced with escalating consumer and business demands for wireless data.
Certain of our network access revenues are based on rates set or approved by federal and state regulatory
commissions or as directed by law that are subject to change at any time.
Subsidies
Subsidies consist of federal and state subsidies designed to promote widely available, quality telephone service at
affordable prices in rural areas. Subsidies come from pools to which we and other telecommunications providers,
including local, long-distance and wireless carriers, contribute on a monthly basis. Subsidies are allocated and
distributed to participating carriers monthly based upon their respective costs for providing local service. Like
access charges, subsidies are regulated by federal and state regulatory commissions. See Part I – Item 1 -
“Regulatory Environment” below and Item 1A – “Risk Factors – Regulatory Risks”.
Long-distance services
Long-distance services include traditional domestic and international long distance which enables customers to
make calls that terminate outside their local calling area. These services also include calling cards, toll free calls and
conference calling. We offer a variety of long-distance plans, including unlimited flat-rate calling plans and offer a
combination of subscription and usage fees.
Video, Data and Internet services
Video, data and Internet services include revenue from residential and business customers for subscriptions to our
video and data products. Our data service can provide high-speed Internet access at various symmetrical speeds of
up to 50 megabits per second (“Mbps”), depending on the nature of the network facilities that are available, the level
of service selected and the geographic market availability. We also offer a variety of data connectivity services in
select markets, including Ethernet services capable of connecting multiple connections over our copper and fiber-
based networks, virtual hosting services, Wi-Fi and collocation services.
Depending on geographic market availability, our video services range from limited basic service to advanced
digital television, which includes several plans each with hundreds of local, national and music channels including
premium and pay-per-view channels as well as video on demand service. Certain subscribers may also subscribe to
our advanced video services, which consist of high-definition television, digital video recorders (“DVR”) and/or a
4
whole home DVR. Our Whole Home DVR allows customers the ability to watch recorded shows on any television
in the house, record multiple shows at one time and utilize an intuitive on-screen guide and user interface.
Our digital phone service, including VOIP, is also available in certain markets as an alternative to the traditional
telephone line. We offer multiple voice service plans that provide for either usage based or unlimited calling plans,
including options for long distance, voice mail and other calling features such as caller ID, call forwarding, call
blocking, abbreviated dialing and conferencing.
Although we expect our revenues from video, data and Internet services to grow substantially, these products
typically generate lower margins than our traditional wireline business. As a result, as we replace traditional
wireline revenue with revenue from video, data and Internet services, our margins may decline.
Other services
Other services include revenues from telephone directory publishing, wholesale transport services on our fiber-optic
network in Texas, billing and collection services, inside wiring service and maintenance.
Other Operations
The Other Operations segment consists of two complementary non-core businesses:
(cid:120) Prison Services provides local and long-distance services and automated calling services for
correctional facilities. In 2012, we lost our bid on continuing to provide service to the state of Illinois
correctional facilities. We are continuing to determine if a legal recourse to the decision and selection
of another provider is available. However, we believe that it is likely that, by the end of 2013, we will
no longer be providing these services in Illinois.
(cid:120) Business Systems sells and supports telecommunications equipment, such as key, private branch
exchange (“PBX”) and IP-based telephone systems, to business customers. We are an Avaya and
ShoreTel distributor.
Prior to 2010, our Other Operations segment also included Market Response (telemarketing and order fulfillment)
(“CMR”) and Operator Services. We sold both our CMR and Operator Services businesses during 2010.
Wireless partnerships
In addition to our core business, we also derive a significant portion of our cash flow and earnings from investments
in five wireless partnerships. Wireless partnership investment income is included as a component of other income in
the consolidated statements of income. Our wireless partnership investment consisted of five cellular partnerships:
GTE Mobilnet of South Texas, GTE Mobilnet of Texas RSA #17, Pittsburgh SMSA, Pennsylvania RSA 6(I) and
Pennsylvania RSA 6(II).
We own 2.34% of GTE Mobilnet of South Texas Limited Partnership (“Mobilnet South Partnership”). The
principal activity of the Mobilnet South Partnership is providing cellular service in the Houston, Galveston and
Beaumont, Texas metropolitan areas. Because we have a minor ownership interest and cannot influence operations,
we account for this investment using the cost basis. Income is recognized only upon cash distributions of our
proportionate earnings in the partnership.
We own 20.51% of GTE Mobilnet of Texas RSA #17, which serves areas in and around Conroe, Texas. In
December 2012, we purchased additional ownership interest for $6.7 million which increased our ownership from
17.02% to 20.51%. Because we have some influence over the operating and financial policies of this partnership,
we account for the investment under the equity method, recognizing income on our proportionate share of earnings.
Cash distributions are recorded as a reduction in our investment.
San Antonio MTA, L.P., a wholly owned partnership of Cellco Partnership (doing business as Verizon Wireless), is
the general partner for both GTE Mobilnet of South Texas and GTE Mobilnet of Texas RSA #17.
We own 3.6% of Pittsburgh SMSA, 16.6725% of Pennsylvania RSA 6(I) and 23.67% of Pennsylvania RSA 6(II)
wireless partnerships, all of which are majority owned and operated by Verizon Wireless. These partnerships cover
territories that almost entirely overlap the markets served by our Pennsylvania ILEC and CLEC operations. Because
of our limited influence over Pittsburgh SMSA, we account for the investment using the cost basis. The
Pennsylvania RSA 6(I) and RSA 6(II) partnerships are accounted for under the equity method.
5
For the years ended December 31, 2012, 2011 and 2010, we recognized income of $30.2 million, $27.1 million and
$27.4 million, respectively, and received cash distributions of $29.1 million, $28.3 million and $27.3 million,
respectively, from these wireless partnerships.
Employees
At December 31, 2012, we employed approximately 1,632 employees, including part-time employees. We also use
temporary employees in the normal course of our business. As of December 31, 2012 we had an approximate 71%
increase in the number of employees compared to December 31, 2011 which was primarily the result of the
acquisition of SureWest in 2012.
Approximately 28% of our employees were covered by collective bargaining agreements as of December 31, 2012.
We have approximately 184 employees covered under a collective bargaining agreement with the International
Brotherhood of Electrical Workers (“IBEW”) that have been working without a contract since November 2012.
Employees continue to work without a contract and we remain in contract negotiations with the IBEW. For a more
detailed discussion regarding how the collective bargaining agreements could affect our business, see Part I - Item
1A – “Risk Factors – Risks Relating to Our Business”.
Customers and Markets
We operate as the ILEC in four states: Illinois, Texas, Pennsylvania, and California. We also operate as CLECs in
each of these markets as well as Kansas and Missouri. The geographic areas we serve are characterized by a
balanced mix of growing suburban areas and stable, rural territories. The acquisition of SureWest in 2012 further
diversifies our operating revenues and cash flows across multiple business lines and markets.
Our Illinois local telephone markets consist of 35 geographically contiguous exchanges serving predominantly small
towns and rural areas. We cover an area of 2,681 square miles, primarily in five central Illinois counties: Coles,
Christian, Montgomery, Effingham and Shelby. As of December 31, 2012, we had total connections of 102,870,
which included 58,579 local access lines (averaging 21.8 lines per square mile). Approximately 60.1% of our
Illinois local access lines serve residential customers, with the remainder serving business customers. Our Illinois
business customers are predominantly small retail, commercial, light manufacturing and service industry businesses,
as well as universities and hospitals.
Our 21 exchanges in Texas serve three principal geographic markets—Lufkin, Conroe and Katy—in a 2,054 square
mile area. This territory had 116,961 local access lines (averaging 56.9 lines per square mile) as of December 31,
2012. Approximately 66.3% of our Texas local access lines serve residential customers, with the remainder serving
business customers. Our Texas business customers predominately operate in the manufacturing and retail industries;
our largest business customers are hospitals, local governments and school districts.
The Lufkin market is centered primarily in Angelina County in east Texas, approximately 120 miles northeast of
Houston, and extends into three neighboring counties. The Conroe market is located primarily in Montgomery
County and is centered approximately 40 miles north of Houston. Parts of the Conroe operating territory extend
south to within 28 miles of downtown Houston, including parts of the affluent suburb of The Woodlands. The Katy
market is located in parts of Fort Bend, Harris, Waller and Brazoria Counties and is centered approximately 30 miles
west of downtown Houston along the busy and expanding I-10 corridor. Most of the Katy market is considered part
of metropolitan Houston.
Our Lufkin, Texas and central Illinois markets have experienced only nominal population growth over the past
decade. These low growth, low customer density markets, along with the predominantly rural residential character
of these areas, have limited the number of, and product offerings, from potential competitors in these areas. The
Conroe and Katy markets have experienced above-average population and business employment growth over the
past decade as compared to the remainder of Texas and the United States as a whole.
The Pennsylvania ILEC territory consists of nine exchanges and covers 285 square miles, serving portions of
Allegheny, Armstrong, Butler and Westmorland Counties in western Pennsylvania. The southernmost point of the
ILEC territory is 12 miles north of the city of Pittsburgh. As of December 31, 2012, we had 46,498 local access
lines in this territory (averaging 163.2 lines per square mile). The local access lines in this territory consist of
approximately 53.2% business customers and 46.8% residential customers. The CLEC operations expand south to
serve the city of Pittsburgh and north to serve the city of Butler and surrounding areas. Our Pennsylvania territory
has benefited from favorable market demographics and growth in suburban communities. Business customers
consist primarily of small to mid-sized businesses, educational institutions, and healthcare facilities.
6
Our California ILEC territory consists of approximately 83 square miles, covering Roseville and Citrus Heights,
California and adjacent areas in Placer and Sacramento Counties. As of December 31, 2012, we had 46,559 local
access lines (averaging 561.0 lines per square mile), of which 58.5% consisted of business customers and 41.5%
residential customers. Our CLEC operations expand both north and south to serve primarily the greater Sacramento
region. The California territory has experienced rapid growth during the past two decades, but the pace of growth
has slowed in recent years as the area has become more developed. The rapid growth also attracted new competitors
to the area. In this market, our business customers primarily include financial institutions, healthcare, manufacturing,
local governments and school districts.
We also serve as a competitive provider to residential and business customers in the greater Kansas City, Kansas and
Missouri areas. A significant portion of the market area is in Johnson County, Kansas, which includes the cities of
Lenexa, Overland Park and Shawnee. The Kansas City market has favorable market demographics and has
experienced growth in its metropolitan and suburban communities in recent years which has resulted in tremendous
business opportunities in this market. Business customers consist primarily of small to medium sized businesses
and local government entities. As of December 31, 2012, the Kansas City territory had 113,737 connections, or
15% of the Company’s total connections.
Sales and Marketing
The key components of our overall marketing strategy include:
(cid:120) Organizing our sales and marketing activities around our consumer, enterprise, and carrier customers;
(cid:120) Positioning ourselves as a single point of contact for our customers’ communications needs;
(cid:120) Providing customers with a broad array of voice, data and video services and bundling these services
whenever possible;
(cid:120) Providing excellent customer service, including 24/7 centralized customer support to coordinate
installation of new services, repair and maintenance functions;
(cid:120) Developing and delivering new services to meet evolving customer needs and market demands; and
(cid:120) Leveraging history and brand recognition across all market areas.
We currently offer our services through call centers, our website, communication centers and commissioned sales
representatives. Our customer service call centers and dedicated sales teams serve as the primary sales channels for
consumer, business enterprise customers and carrier services. Our sales efforts are supported by direct mail, bill
inserts, newspaper, radio and television advertising, public relations activities, community events and website
promotions.
We market our services both individually and as bundled services, including our triple-play offering of voice, data
and video services. By bundling our service offerings, we are able to offer and sell a more complete and
competitive package of services, which we believe simultaneously increases our average revenue per user (“ARPU”)
and adds value for the consumer. We also believe that bundling leads to increased customer loyalty and retention.
Network Architecture and Technology
We have made significant investments in our technologically advanced telecommunications networks. As a result,
we are able to deliver high-quality, reliable video, data and voice services in all markets we serve. Our wide-
ranging network and extensive use of fiber provide an easy reach into existing and new areas. By bringing the fiber
network closer to the customer premises, we can increase our service offerings, quality and bandwidth services. Our
existing network enables us to efficiently respond and adapt to changes in technology and is capable of supporting
the rising customer demand for bandwidth in order to support the growing amount of wireless data devices in the
home.
Our networks are supported by advanced 100% digital switches, with a fiber network connecting in all but one of
our exchanges. These switches provide all of our local telephone customers with access to custom calling features,
value-added services and dial-up Internet access. We continue to enhance our copper network to increase bandwidth
in order to provide additional products and services to our marketable homes. In addition to our copper plant
enhancements, we have deployed fiber-optic cable extensively throughout our network, resulting in a 100% fiber
backbone network that supports all of the inter-office and host-remote links, as well as the majority of business
parks within our ILEC and CLEC service areas. In addition, this fiber infrastructure provides the connectivity
7
required to provide video service, Internet and long-distance services to all Consolidated residential and enterprise
customers. Our fiber network utilizes fiber-to-the-home (“FTTH”) and fiber-to-the-node (“FTTN”) networks to
offer bundled residential and commercial services.
As a result of our advanced networks, we provide data and video service in the markets we serve. We leverage our
high definition head-end equipment to distribute content across our network allowing the Company to better manage
costs of future channel additions and upgrades. As of December 31, 2012, video service was available to
approximately 524,019 homes in our markets up from 508,366 at December 31, 2011, which includes SureWest
markets. Our video subscriber base continues to grow and now totals 106,137 connections at December 31, 2012 as
compared to 100,753 at December 31, 2011, which includes the SureWest subscribers. We do not anticipate having
to make any material capital upgrades to our network infrastructure in connection with the continued growth of our
video product except for providing set-top boxes to future subscribers and additional high definition channel
equipment. Our network provides 100% of our video marketable homes with bandwidth of at least 17 Mbps and
approximately 56% with above 50 Mbps of bandwidth.
In our CLEC markets, we operate fiber networks which we own or have entered into long-term leases for fiber
network access. Our CLEC’s operate approximately 3,000 route-miles of fiber, which includes approximately 2,000
miles of fiber network in Texas, approximately 600 route-miles of fiber-optic facilities in the Pittsburgh
metropolitan area, approximately 350 route-miles of fiber optic facilities in California that cover large parts of the
greater Sacramento metropolitan area and over 60 route-miles of fiber optic facilities in Kansas City that service the
greater Kansas City area including both Kansas and Missouri. Our CLEC operations provide both residential and
commercial services. Residential service includes VOIP, data and video service. For commercial services, we sell
competitive wholesale capacity on our fiber network to other carriers, wireless providers, CLECs and large
commercial customers. We also provide carrier hotel space and data center space in the various markets we serve.
In all the markets we serve, we have launched initiatives to support fiber backhaul services to cell sites. As of
December 31, 2012, we had 694 cell sites under contract with 488 connected and 206 scheduled for completion in
2013.
Business Strategies
Diversify revenues and increase revenues per customer
We continue to transform our business and diversify our revenue streams as we adapt to changes in the regulatory
environment and advances in technology. As a result of acquisitions, our wireless partnerships and increases in the
consumer and commercial demand for data services, we continue to reduce our reliance on subsidies and access
revenue. Utilizing our existing network, we are able to acquire and serve a more diversified business customer base
and create new long-term revenue streams such as wireless carrier backhaul services.
We also continue to focus on increasing our revenue per customer, primarily by improving our data and video
market penetration, by increasing the sale of other value-added services and by encouraging customers to subscribe
to our service bundles.
Improve operating efficiency
We continue to seek to improve operating efficiency through technology, better practices and procedures and
through cost containment measures. Our current focus is on the integration of SureWest into our existing operations
and creating operating synergies for the combined company. In recent years, we have made significant operational
improvements in our business through the centralization of work groups, processes and systems, which has resulted
in significant cost savings and reductions in headcount. Because of these efficiencies, we are better able to deliver a
consistent customer experience, service our customers in a more cost-effective manner and lower our cost structure.
We continue to evaluate our operations in order to align our cost structure with operating revenues while continuing
to launch new products and improve the overall customer experience.
Maintain capital expenditure discipline
Across all of our service territories, we have successfully managed capital expenditures to optimize returns through
disciplined planning and targeted investment of capital. For example, investments in our networks allows
significant flexibility to expand new service offerings and provide services in a cost-efficient manner while
maintaining our reputation as a high-quality service provider.
Pursue selective acquisitions
8
We have in the past taken, and expect to continue to take in the future, a disciplined approach in pursuing company
acquisitions. When we evaluate potential transactions, important factor include:
(cid:120) The market;
(cid:120) The quality of the network;
(cid:120) The ability to integrate the acquired company efficiently;
(cid:120) Significant potential operating synergies exist; and
(cid:120) The transaction will be cash flow accretive from day one.
We believe all of the above criteria were met in connection with our acquisition of SureWest Communications in
2012. In the long term, we believe that this transaction gives us additional scale and better positions us financially,
strategically and competitively to pursue additional acquisitions.
Competition
The telecommunications industry is subject to extensive competition and has increased significantly in recent years.
Technological advances have expanded the types and uses of services and products available. In addition,
differences in the regulatory environment applicable to comparable alternative services have lowered costs for these
competitors. As a result, we face heightened competition but also have new opportunities to grow our broadband
business. Our competitors include other incumbent and competitive local telephone companies, cable operators
offering video, data and VOIP products, wireless carriers, long distance providers, satellite companies, Internet
service providers and in some cases by new forms of providers who are able to offer competitive services through
software applications, requiring a small initial investment. We expect competition to remain a significant factor
affecting our operating results and that the nature and extent of that competition will continue to increase. See Part I
- Item 1A – “Risk Factors – Risks Relating to Our Business”.
Voice, data and video service
In recent years, competition in our incumbent service areas has increased significantly. Except for the traditional
multichannel video delivery business, which requires significant capital investment to serve customers, the barriers
to entry are not high, and technology changes force rapid competitive adjustments. We compete against AT&T and
a number of other carriers, as well as Comcast, Time Warner, Mediacom, Armstrong, Suddenlink and NewWave
communications, in both the business and residential markets. Our competitors offer traditional telecommunications
services as well as IP-based services and other emerging data-based services. Our competitors continue to add
features and adopt aggressive pricing and packaging for services comparable to the services we offer.
We continue to face significant competition from wireless providers as the demand for substitute communication
services, such as wireless phones and data devices, continues to increase. Customers are increasingly foregoing
traditional telephone services and land-based Internet service and relying exclusively on wireless service. In
addition, the expanded availability for free or lower cost services, such as video over the Internet and complimentary
Wi-Fi service in an increasing number of commercial venues has increased competition among other providers for
our video and data services.
In most cases, we have entered the cable television service markets as the operator of a second (or subsequent) cable
system. Therefore, we face the challenge of drawing customers away from the incumbent cable service provider.
Similarly, the possession of comparatively greater size and scale can give an incumbent cable competitor an
advantage in both access to and pricing of the program content needed to operate a cable television business. Our
competitors, in some cases, possess significantly greater size and scale than we do.
In order to meet the competition, we have responded in part by introducing new services and service bundles,
offering services in convenient groupings with package discounts and billing advantages, providing excellent
customer service and by continuing to invest in our network and business operations.
In our rural markets, services are more costly to provide than service in urban areas as a lower customer density
necessitates higher capital expenditures on a per-customer basis. As a result, it generally is not economically viable
for new entrants to overlap existing networks in rural territories. Despite the barriers to entry, rural telephone
companies still face significant competition from wireless providers, cable providers and, to a lesser extent,
competitive telephone companies.
9
Other competition
Our other lines of business are subject to substantial competition from local, regional and national competitors. In
particular, our directory publishing and transport businesses operate in competitive markets. We expect that
competition in all of our businesses will continue to intensify as new technologies and new services are offered.
Regulatory Environment
The following summary does not describe all existing and proposed legislation and regulations affecting the
telecommunications industry. Regulation can change rapidly, and ongoing proceedings and hearings could alter
the manner in which the telecommunications industry operates. We cannot predict the outcome of any of these
developments, nor their potential impact on us. See Part I —Item 1A—“Risk Factors—Regulatory Risks”.
Overview
The telecommunications industry is subject to extensive federal, state and local regulation. Under the
Telecommunications Act of 1996 (“Telecommunications Act”), federal and state regulators share responsibility for
implementing and enforcing statutes and regulations designed to encourage competition and to preserve and advance
widely available, quality telephone service at affordable prices.
At the federal level, the Federal Communications Commission (“FCC”) generally exercises jurisdiction over
facilities and services of local exchange carriers, such as our rural telephone companies, to the extent they are used
to provide, originate, or terminate interstate or international communications. The FCC has the authority to
condition, modify, cancel, terminate, or revoke our operating authority for failure to comply with applicable federal
laws or FCC rules, regulations and policies. Fines or penalties also may be imposed for any of these violations.
State regulatory commissions generally exercise jurisdiction over carriers’ facilities and services to the extent they
are used to provide, originate, or terminate intrastate communications. In particular, state regulatory agencies have
substantial oversight over interconnection and network access by competitors of our rural telephone companies. In
addition, municipalities and other local government agencies regulate the public rights-of-way necessary to install
and operate networks. State regulators can sanction our rural telephone companies or revoke our certifications if we
violate relevant laws or regulations.
Federal regulation
Our rural telephone companies and competitive local exchange companies must comply with the Communications
Act of 1934, which requires, among other things, that telecommunications carriers offer services at just and
reasonable rates and on non-discriminatory terms and conditions. The 1996 amendments to the Communications
Act (contained in the Telecommunications Act discussed below) dramatically changed, and likely will continue to
change, the landscape of the industry.
Removal of Entry Barriers
The central aim of the Telecommunications Act is to open local telecommunications markets to competition while
enhancing universal service. Before the Telecommunications Act was enacted, many states limited the services that
could be offered by a company competing with an incumbent telephone company. The Telecommunications Act
preempts these state and local laws.
The Telecommunications Act imposes a number of interconnection and other requirements on all local
communications providers. All telecommunications carriers have a duty to interconnect directly or indirectly with
the facilities and equipment of other telecommunications carriers. Local exchange carriers, including our rural
telephone companies, are required to:
(cid:120) Allow other carriers to resell their services;
(cid:120) Provide number portability where feasible;
(cid:120) Ensure dialing parity, meaning that consumers can choose their default local or long-distance
telephone company without having to dial additional digits;
(cid:120) Ensure that competitors’ customers receive non-discriminatory access to telephone numbers, operator
service, directory assistance and directory listings;
(cid:120) Afford competitors access to telephone poles, ducts, conduits, and rights-of-way; and
10
(cid:120) Establish reciprocal compensation arrangements with other carriers for the transport and termination of
telecommunications traffic.
Furthermore, the Telecommunications Act imposes on incumbent telephone companies (other than rural telephone
companies that maintain their so-called “rural exemption” as our subsidiaries do) additional obligations to:
(cid:120) Negotiate interconnection agreements with other carriers in good faith;
(cid:120)
Interconnect their facilities and equipment with any requesting telecommunications carrier, at any
technically feasible point, at non-discriminatory rates and on non-discriminatory terms and conditions;
(cid:120) Offer their retail services to other carriers for resale at discounted wholesale rates;
(cid:120) Provide reasonable notice of changes in the information necessary for transmission and routing of
services over the incumbent telephone company’s facilities or in the information necessary for
interoperability; and
(cid:120) Provide, at rates, terms, and conditions that are just, reasonable, and non-discriminatory, for the
physical collocation of other carriers’ equipment necessary for interconnection or access to UNEs at
the premises of the incumbent telephone company.
Access Charges
On November 18, 2011, the FCC released its comprehensive order on intercarrier compensation and universal
service reform. For detailed discussion on the FCC order, see Part 1 – Item 1 - Regulatory Environment – FCC
Access Charge and Universal Service Reform Order below.
A significant portion of our rural telephone companies’ revenues come from network access charges paid by long-
distance and other carriers for using our companies’ local telephone facilities for originating or terminating calls
within our service areas. The amount of network access revenues our rural telephone companies receive is based on
rates set or approved by federal and state regulatory commissions, and these rates are subject to change at any time.
Intrastate network access charges are regulated by state commissions. Network access charges in our Illinois market
currently mirror interstate charges for everything except local switching. Illinois law requires that our intrastate
access charges may not exceed our interstate access charges established by the Illinois Commerce Commission
(“ICC”). Interstate and intrastate network access charges in our Pennsylvania market are also very similar. In
contrast, as required by Texas regulators, our Texas rural telephone companies impose significantly higher network
access charges for intrastate calls than for interstate calls.
The FCC regulates the prices we may charge for the use of our local telephone facilities to originate or terminate
interstate and international calls. The FCC has structured these prices as a combination of flat monthly charges paid
by customers and both usage-sensitive (per-minute) charges and flat monthly charges paid by long-distance or other
carriers.
The FCC regulates interstate network access charges by imposing price caps on Regional Bell Operating
Companies, referred to as RBOC’s, and other large incumbent telephone companies. These price caps can be
adjusted based on various formulas, such as inflation and productivity, and otherwise through regulatory
proceedings. Incumbent telephone companies, such as our local telephone companies, may elect to base network
access charges on price caps, but are not required to do so.
Historically, all of our rural telephone companies had elected not to apply federal price caps. Instead, they
employed a rate-of-return regulation for their network interstate access charges, whereby they earned a fixed return
on their investment over and above operating costs. In December 2007, we filed a petition with the FCC seeking to
permit our Illinois and Texas companies to convert to price cap regulation. Our petition was approved on May 6,
2008, and became effective on July 1, 2008. The conversion to price cap regulation gives us greater pricing
flexibility for interstate services, especially the increasingly competitive special access segment. It also provides us
with the potential to increase our net earnings by becoming more productive and introducing new services. On the
other hand, we were required to reduce our interstate access charges in Illinois significantly, and because our Illinois
intrastate access charges mirror interstate rates, this conversion also resulted in lower intrastate revenues in Illinois.
In addition, we now receive somewhat reduced subsidies from the interstate Universal Service Fund program.
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Our Pennsylvania rural telephone company was an average schedule rate-of-return company. On March 1, 2012 we
filed a petition for waiver to exit the National Exchange Carrier Association (“NECA”) settlement pools & tariff and
become a price cap company. The FCC approved our waiver request on December 13, 2012. The exit of the NECA
settlement pools and tariff was retroactive to July 1, 2012 and the price cap waiver was effective January 1, 2013.
Our California rural telephone company is a cost based rate of return company. We are in the NECA Common Line
pool for ICLS purposes and we file our own end user, switched access and special access tariff and rates. Under
current federal rules, we will be required to convert our California property by July 1, 2013.
Traditionally, regulators have allowed network access rates for rural areas to be set higher than the actual cost of
terminating or originating long-distance calls as an implicit means of subsidizing the high cost of providing local
service in rural areas. Following a series of federal court decisions ruling that subsidies must be explicit rather than
implicit, the FCC adopted reforms in 2001 that reduced per-minute network access charges and shifted a portion of
cost recovery, which historically was imposed on long-distance carriers, to flat-rate, monthly subscriber line charges
imposed on end-user customers. While the FCC also increased explicit subsidies to rural telephone companies
through the Universal Service Fund, the aggregate amount of interstate network access charges paid by long-
distance carriers to access providers, such as our rural telephone companies, has decreased and may continue to
decrease.
Unlike the federal system, California and Illinois do not provide an explicit subsidy in the form of a universal
service fund. Therefore, while subsidies from the Federal Universal Service Fund offset the decrease in revenues
resulting from the reduction in interstate network access rates, there was no corresponding offset for the decrease in
revenues from the reduction in California or Illinois intrastate network access rates. In Pennsylvania and Texas, the
intrastate network access rate regime applicable to our rural telephone companies does not mirror the FCC regime,
so the impact of the reforms was revenue neutral.
In recent years, carriers have become more aggressive in disputing the FCC’s interstate access charge rates and the
application of access charges to their telecommunications traffic. We believe these disputes have increased in part
because advances in technology have made it more difficult to determine the identity and jurisdiction of traffic,
giving carriers an increased opportunity to challenge access costs for their traffic. For example, in September 2003,
Vonage Holdings Corporation filed a petition with the FCC to preempt an order of the Minnesota Public Utilities
Commission asserting jurisdiction over Vonage. The FCC determined that it was impossible to divide Vonage’s
VOIP service into interstate and intrastate components without negating federal rules and policies. Accordingly, the
FCC found it was an interstate service not subject to traditional state telephone regulation. While the FCC order did
not specifically address whether intrastate access charges were applicable to Vonage’s VOIP service, the fact that
the service was found to be solely interstate raises that concern. We cannot predict what other actions other long-
distance carriers may take before the FCC or with their local exchange carriers, including our rural telephone
companies, to challenge the applicability of access charges. Due to the increasing deployment of VOIP services and
other technological changes, we believe these types of disputes and claims are likely to increase.
Unbundled Network Element Rules
The unbundling requirements have been some of the most controversial provisions of the Telecommunications Act.
In its initial implementation of the law, the FCC generally required incumbent telephone companies to lease a wide
range of UNE’s to CLECs. Those rules were designed to enable competitors to deliver services to their customers in
combination with their existing networks or as recombined service offerings on an unbundled network element
platform, commonly known as UNE-P, which allowed competitors with no facilities of their own to purchase all the
elements of local telephone service from the incumbent and resell them to customers. These unbundling
requirements, and the duty to offer UNEs to competitors, imposed substantial costs on the incumbent telephone
companies and made it easier for customers to shift their business to other carriers. After a court challenge and a
decision vacating portions of the UNE rules, the FCC issued revised rules in February 2005 that reinstated some
unbundling requirements for incumbent telephone companies that are not protected by the rural exemption, but
eliminated the UNE-P option and certain other unbundling requirements.
Each of the subsidiaries through which we operate our local telephone businesses is an incumbent telephone
company and provides service in rural areas. As discussed above, the Telecommunications Act exempts rural
telephone companies from certain of the more burdensome interconnection requirements. However, the
Telecommunications Act provides that the rural exemption will cease to apply as to competing cable companies if
and when the rural carrier introduces video services in a service area. In that event, a competing cable operator
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providing video programming and seeking to provide telecommunications services in the area may interconnect.
Since each of our subsidiaries now provides video services in their major service areas, the rural exemption no
longer applies to cable company competitors in those service areas. Additionally, in Texas, the Public Utilities
Commission of Texas (“PUCT”) has removed the rural exemption for our Texas subsidiaries with respect to
telecommunications services furnished by Sprint Communications, L.P. on behalf of cable companies. We believe
the benefits of providing video services outweigh the loss of the rural exemptions to cable operators.
Under its current rules, the FCC has eliminated unbundling requirements for ILECs providing broadband services
over fiber facilities, but continues to require unbundled access to mass-market narrowband loops. ILECs are no
longer required to unbundle packet switching services. In addition, the FCC found that CLECs generally are not at a
disadvantage at certain wire center locations in regard to high bandwidth (DS-1 and DS-3) loops, dark fiber loops
and dedicated interoffice transport facilities. However, where a disadvantage persists, ILECs continue to be
required to unbundle loops and transport facilities.
The FCC rules regarding the unbundling of network elements did not have an impact on our Illinois and
Pennsylvania ILEC operations because these ILECs have rural exemptions. Our Pennsylvania CLEC operations
were not significantly affected by the 2005 changes to the UNE rules because they use their own switching for
business customers that are served by high capacity loops. In July 2011, our Pennsylvania CLEC renewed, for a
three-year term, a commercial agreement with Verizon that sets the terms of the pricing and provisioning of lines
previously served utilizing UNE-P, including Verizon switching service. Less than 5% of our Pennsylvania CLEC
access lines are provisioned utilizing this commercial arrangement. Although the costs for this arrangement will
increase over time pursuant to the terms of the agreement, our relatively low use of Verizon’s switching and our
ability to migrate some of the lines to alternative provisioning sources will limit the overall impact on our current
cost structure. The CLEC has experienced moderate increases in the overall cost to provision high-capacity loops,
interoffice transport facilities and dark fiber as a result of the FCC’s changes to unbundling requirements for those
facilities.
In 2006, Verizon filed a petition requesting that the FCC refrain from applying a number of regulations to the
Verizon operations in six major metropolitan markets, including the Pittsburgh market area. Among other things,
Verizon urged the FCC to forbear from applying loop and transport unbundling regulations, claiming there was
sufficient competition in the Pittsburgh market to mitigate the need for these rules. The FCC denied Verizon’s
petition in December 2007, but a federal court of appeals remanded this decision to the FCC for further analysis in
2009. If the FCC grants this remanded petition or any similar forbearance petitions in markets in which our CLEC
operates, our cost to obtain access to loop and transport facilities would increase substantially for the 5%, or less, of
the lines provisioned under the commercial agreement discussed above.
Promotion of Universal Service
In general, telecommunications service in rural areas is more costly to provide than service in urban areas. The
lower customer density means that switching and other facilities serve fewer customers and loops are typically
longer, requiring greater expenditures per customer to build and maintain. By supporting the high cost of operations
in rural markets, Federal Universal Service Fund subsidies promote widely available, quality telephone service at
affordable prices in rural areas. We received $50.8 million and $46.2 million from the Federal Universal Service
Fund, the Pennsylvania Universal Service Fund and the Texas Universal Service Fund in 2012 and 2011,
respectively.
Federal Universal Service Fund subsidies are paid only to carriers that are designated eligible telecommunications
carriers (“ETCs”), by a state commission. Each of our rural telephone companies have been designated an ETC.
However, under FCC rules prior to 2008, competitors could obtain the same level of Federal Universal Service Fund
subsidies as we do, per line served, if the applicable state regulator determined that granting such Federal Universal
Service Fund subsidies to competitors would be in the public interest and the competitors offered and advertised
certain services as required by the Telecommunications Act and the FCC. The ICC has granted several petitions for
ETC designations, but to date no other ETCs are operating in our Illinois service area. We are not aware that any
carriers have filed petitions to be designated an ETC in our Pennsylvania or Texas service areas. In May 2008, the
FCC adopted an interim cap on payments to ETCs that are not incumbent telephone companies, based on the
payments received by such companies in March 2008, which reduces (but does not eliminate) the incentive for
ETCs to seek to compete against our rural telephone companies.
13
FCC Access Charge and Universal Service Reform Order
In November 2011, the FCC released its comprehensive order on Access Charge and Universal Service Reform (the
order”). The access charge portion of the order systematically reduces minute of use based interstate access,
intrastate access and reciprocal compensation rates over a six to nine year period to an end state of Bill and Keep, in
which each carrier recovers the costs of its network through charges to its own subscribers, not through intercarrier
compensation. The reductions apply to terminating access rates and usage, while originating access will be
addressed by the FCC in a later proceeding. To help with the transition to Bill and Keep, the FCC created two
mechanisms. The first is an Access Recovery Mechanism (“ARM”) which is funded from the Connect America
Fund, and the second is an Access Recovery Charge (“ARC”) which is recovered from the end users. The universal
service portion of the order shifts the national policy goal from voice service to broadband and is now called the
Connect America Fund (“CAF”). In order to receive CAF funding, carriers must agree to provide broadband
capability to 100% of their customer base at a minimum speed of 4 Mbps downstream and 1Mbps upstream. The
current high cost funding program is frozen at 2011 levels and will be eliminated upon development and
implementation of a CAF census block model.
The order has already been appealed by state commissions and carriers including Consolidated. We filed our
petition for review on January 18, 2012 and raised issues with the order pertaining to access rates, universal service
and transition provisions. In addition, several other carriers and associations have filed petitions for reconsideration
at the FCC. The timeframe and results of these appeals and petitions for reconsideration are not known at this time.
In the FCC order, holding companies with price cap study areas and rate of return study areas are mandated to move
all their interstate rate of return study areas to price cap for universal service purposes only. The intercarrier
compensation rules will keep rate of return study areas under the rate of return intercarrier compensation transitions
plan and the price cap study areas under the price cap intercarrier compensation transition.
Step 1 of the FCC’s intercarrier compensation and universal service reform order was implemented on July 1, 2012
with the annual interstate tariff filing as well as intrastate filings, which reduced intrastate switched access rates
toward the interstate rate, eliminated wireless reciprocal compensation charges and introduced the ARC which is
assessed to end users. Step 2 will occur on July 1, 2013 which will bring intrastate switched access charges in parity
with interstate and increase the ARC charges assessed to end users.
State Regulation
California
The California Public Utilities Commission (“CPUC”) has the power, among other things, to establish rates, terms
and conditions for intrastate service, to prescribe uniform systems of accounts and to regulate the mortgaging or
disposition of public utility properties.
In an ongoing proceeding relating to the New Regulatory Framework, the CPUC adopted Decision 06-08-030 in
2006, which grants carriers broader pricing freedom in the provision of telecommunications services, bundling of
services, promotions and customer contracts. This decision adopted a new regulatory framework, the Uniform
Regulatory Framework (“URF”), which among other things (i) eliminates price regulation and allows full pricing
flexibility for all new and retail services, (ii) allows new forms of bundles and promotional packages of
telecommunication services, (iii) allocates all gains and losses from the sale of assets to shareholders and (iv)
eliminates almost all elements of rate of return regulation, including the calculation of shareable earnings. On
December 31, 2010, the CPUC issued a ruling to initiate a new proceeding to assess whether, or to what extent, the
level of competition in the telecommunications industry is sufficient to control prices for the four largest ILECs in
the state. Subsequently, the CPUC issued a ruling temporarily deferring the proceeding. The status on when the
CPUC may open this proceeding is unclear and on hold at this time. The CPUC’s actions in this and future
proceedings could lead to new rules and an increase in government regulation. The Company will continue to
monitor this matter.
Illinois
Our Illinois Telephone Operations’ long-distance and payphone services subsidiary holds the necessary
certifications in Illinois (and the other states in which it operates). This subsidiary is required to file tariffs with the
ICC, but generally can change the prices, terms, and conditions stated in its tariffs on one day’s notice, with prior
notice of price increases to affected customers. Our Illinois Telephone Operations’ other services are not subject to
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any significant state regulations in Illinois, and our Other Illinois Operations are not subject to any significant state
regulation outside of any specific contractually imposed obligations.
Our Illinois rural telephone company is certified by the ICC to provide local telephone services. This entity operates
as a distinct company from a regulatory standpoint and is regulated under a rate of return system for intrastate
revenues. Although, as explained above, the FCC has preempted certain state regulations pursuant to the
Telecommunications Act, Illinois retains the authority to impose requirements on our Illinois rural telephone
company to preserve universal service, protect public safety and welfare, ensure quality of service and protect
consumers. For instance, our Illinois rural telephone company must file tariffs setting forth the terms, conditions,
and prices for its intrastate services; these tariffs may be challenged by third parties. Our Illinois rural telephone
company has not had a general rate proceeding before the ICC since 1983.
The ICC has broad authority to impose service quality and service offering requirements on our Illinois rural
telephone company, including credit and collection policies and practices, and can require our Illinois rural
telephone company to take actions to ensure that it meets its statutory obligation to provide reliable local exchange
service. For example, as part of its approval of the reorganization we implemented in connection with our 2005
initial public offering, the ICC imposed various conditions, including (1) prohibitions on payment of dividends or
other cash transfers from ICTC to us if ICTC fails to meet or exceed agreed benchmarks for a majority of seven
service quality metrics, and (2) the requirement that ICTC have access to $5.0 million or its currently approved
capital expenditure budget (whichever is higher) for each calendar year through a combination of available cash and
credit facilities. During 2012, we satisfied each of the applicable Illinois regulatory requirements necessary to
permit ICTC to pay dividends to us.
The Illinois General Assembly has made major revisions and added significant new provisions to the portions of the
Illinois Public Utilities Act governing the regulation and obligations of telecommunications carriers on a number of
occasions since 1985. In 2007, the Illinois legislature addressed competition for cable and video services and
authorized statewide licensing by the ICC to replace the existing system of individual town franchises. This
legislation also imposed substantial state-mandated consumer service and consumer protection requirements on
providers of cable and video services. The requirements generally became applicable to us on January 1, 2008, and
we are operating in compliance with the new law. Although we have franchise agreements for cable and video
services in all the towns we serve, this statewide franchising authority will simplify the process in the future. In
2010, the Illinois General Assembly passed Public Act 96-0927, which updates the telecommunications statute,
allowing ILECs, beginning January 1, 2011, to elect deregulation of local services. To date, ICTC has not made an
election to deregulate its local services. Under this option, an ILECs rates for local services would become
“competitive” and no longer subject to rate of return regulation, and certain other service quality obligations would
be reduced. The electing ILECs would have obligations to make certain basic local exchange service packages
available to customers. Public Act 96-0927 also specified that local exchange carriers may not charge intrastate
access rates at levels higher than their interstate access rates. The Governor of Illinois signed the bill into law on
June 15, 2010. The Illinois telecommunications statute is scheduled to sunset in 2013. In the past, such sunset dates
in telecommunication legislation have led to further amendments to reflect changing industry technological and
competitive conditions.
Texas
Our Texas rural telephone companies are each certified by the PUCT to provide local telephone services in their
respective territories. In addition, our Texas long-distance and transport subsidiaries are registered with the PUCT
as interexchange carriers. The transport subsidiary also has obtained a service provider certificate of operating
authority (“SPCOA”) to better assist the transport subsidiary with its operations in municipal areas. Recently, to
assist with expanding services offerings, Consolidated Communications Enterprise Services, Inc. also obtained a
SPCOA from the PUCT. While our Texas rural telephone company services are extensively regulated, our other
services, such as long-distance and transport services, are not subject to any significant state regulation.
Our Texas rural telephone companies operate as distinct companies from a regulatory standpoint. Each is separately
regulated by the PUCT in order to preserve universal service, protect public safety and welfare, ensure quality of
service and protect consumers. Each Texas rural telephone company must file and maintain tariffs setting forth the
terms, conditions and prices for its intrastate services.
Currently, both of our Texas rural telephone companies have immunity from adjustments to their rates, including
their intrastate network access rates, because they elected “incentive regulation” under the Texas Public Utilities
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Regulatory Act (“PURA”). In order to qualify for incentive regulation, our rural telephone companies agreed to
fulfill certain infrastructure requirements. In exchange, they are not subject to challenge by the PUCT regarding
their rates, overall revenues, return on invested capital, or net income.
PURA prescribes two different forms of incentive regulation in Chapter 58 and Chapter 59. Under either election,
the rates, including network access rates, an incumbent telephone company may charge for basic local services
generally cannot be increased from the amount(s) on the date of election without PUCT approval. Even with PUCT
approval, increases can only occur in very specific situations. Pricing flexibility under Chapter 59 is extremely
limited. In contrast, Chapter 58 allows greater pricing flexibility on non-basic network services, customer-specific
contracts and new services.
Initially, both of our Texas rural telephone companies elected incentive regulation under Chapter 59 and fulfilled the
applicable infrastructure requirements, but they changed their election status to Chapter 58 in 2003, which gives
them some pricing flexibility for basic services, subject to PUCT approval. The PUCT could impose additional
infrastructure requirements or other restrictions in the future. Any requirements or restrictions could limit the
amount of cash that is available to be transferred from our rural telephone companies to the parent entities, and
could adversely affect our ability to meet our debt service requirements and repayment obligations.
In September 2005, the Texas legislature adopted significant additional telecommunications legislation. Among
other things, this legislation created a statewide video franchise for telecommunications carriers, established a
framework to deregulate the retail telecommunications services offered by incumbent local telecommunications
carriers, imposed concurrent requirements to reduce intrastate access charges and directed the PUCT to initiate a
study of the Texas Universal Service Fund. The PUCT study submitted to the legislature in 2007 recommended that
the Small Company Area High-Cost Program, which covers our Texas telephone companies, should be reviewed by
the PUCT from a policy perspective regarding basic local telephone service rates and lines eligible for support. The
PUCT has only addressed the large company fund and has no immediate plans to conduct a small company review.
Texas Universal Service
The Texas Universal Service Fund is administered by NECA. PURA, the governing law, directs the PUCT to adopt
and enforce rules requiring local exchange carriers to contribute to a state universal service fund that helps
telecommunications providers offer basic local telecommunications service at reasonable rates in high cost rural
areas. The Texas Universal Service Fund is also used to reimburse telecommunications providers for revenues lost
by providing Tel-Assistance and to reimburse carriers for providing lifeline service. Our Texas rural telephone
companies receive disbursements from this fund.
In 2011, the Texas legislature passed Senate Bill 985 which requires the PUCT to review the large and small
company Texas Universal Service Funds in 2012 and report back to the legislature by January 2013. The PUCT
began a series of dockets in 2012 reviewing the Texas universal service high cost fund programs, for both large and
small companies. The large company dockets were settled in late 2012. The small company dockets will not be
reviewed until after the 2013 legislative session has been completed. We expect that any impact from these
proceedings will most likely occur in 2014.
Pennsylvania
The Pennsylvania Public Utilities Commission (“PAPUC”) regulates the rates, the system of financial accounts for
reporting purposes, and certain aspects of service quality, billing procedures and universal service funding, among
other things, related to our rural telephone company and CLEC’s provision of intrastate services. In addition, the
PAPUC sets the rates and terms for interconnection between carriers within the guidelines ordered by the FCC.
Pennsylvania intrastate rates are regulated under a statutory framework referred to as Act 183. Under this statute,
rates for non-competitive intrastate services are allowed to increase based on an index that measures economy-wide
price increases. In return, we committed to continue to upgrade our network to ensure that all our customers would
have access to broadband services, and to deploy a ubiquitous broadband (defined as 1.544 mbps) network
throughout our entire service area by December 31, 2008, which we did.
Pennsylvania Universal Service and Access Charges
On September 30, 1999, as part of a proceeding that resolved a number of pending issues, the PAPUC ordered
ILECs, including our Pennsylvania property, to rebalance and reduce intrastate toll and switched access rates. In
that same order, the PAPUC also created a Pennsylvania Universal Service Fund (“PAUSF”) to help offset the
resulting loss of ILEC revenues. In 2003, the PAPUC ordered ILECs to further rebalance and reduce intrastate
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access charges and left the PAUSF in place pending further review. In 2008, our Pennsylvania ILECs annual
receipts from and contributions to the PAUSF total $5.2 million and $0.3 million, respectively. Our Pennsylvania
CLEC receives no funding from the PAUSF but currently contributes $0.2 million annually. Since Act 183 was
adopted in 2004, the PAPUC may not require a local exchange carrier to reduce intrastate access rates except on a
revenue neutral basis.
In 2011, the PAPUC issued an intrastate access reform order reducing intrastate access rates to interstate levels in a
three step process, beginning in March 2012. With the release of the FCC order in October 2011, the PAPUC
temporarily issued a stay. A final stay was issued in 2012 to implement the FCC ordered intrastate access rate
changes. The PAPUC has indicated that it will address state universal funding in 2013 pending any state legislative
activity that may occur in the 2013 legislative session.
Local Government Authorizations
In Illinois, we historically have been required to obtain franchises from each incorporated municipality in which our
rural telephone company operates. An Illinois state statute prescribes the fees that a municipality may impose for
the privilege of originating and terminating messages and placing facilities within the municipality. Our Illinois
Telephone Operations may also be required to obtain permits for street opening and construction, or for operating
franchises to install and expand fiber optic facilities. These permits or other licenses or agreements typically require
the payment of fees.
Similarly, Texas incumbent telephone companies had historically been required to obtain franchises from each
incorporated municipality in which they operated. Texas law now provides that incumbent telephone companies do
not need to obtain franchises or other licenses to use municipal rights-of-way for delivering services. Instead,
payments to municipalities for rights-of-way are administered through the PUCT and through a reporting process by
each telecommunications provider. Incumbent telephone companies are still required to obtain permits from
municipal authorities for street opening and construction, but most burdens of obtaining municipal authorizations for
access to rights-of-way have been streamlined or removed.
Our Texas rural telephone companies still operate pursuant to the terms of municipal franchise agreements in some
territories served by Consolidated Communications of Fort Bend Company. As the franchises expire, they are not
being renewed.
Like Illinois, California and Pennsylvania operates under a structure in which each municipality may impose various
fees.
Regulation of Broadband and Internet Services
Video Services
Our cable television subsidiaries each require a state or local franchise or other authorization in order to provide
cable service to customers. Each of these subsidiaries is subject to regulation under a framework that exists in Title
VI of the Communications Act.
Under this framework, the responsibilities and obligations of franchising bodies and cable operators have been
carefully defined. The law addresses such issues as the use of local streets and rights of way; the carriage of public,
educational and governmental channels; the provision of channel space for leased commercial access; the amount
and payment of franchise fees; consumer protection; and similar issues. In addition, Federal laws place limits on the
common ownership of cable systems and competing multichannel video distribution systems, and on the common
ownership of cable systems and local telephone systems in the same geographic area. Many provisions of the
Federal law have been implemented through FCC regulations. The FCC has expanded its oversight and regulation
of the cable television-related matters recently. In some cases, it has acted to assure that new competitors in the
cable television business are able to gain access to potential customers and can also obtain licenses to carry certain
types of video programming.
The Communications Act also authorizes the licensing and operation of open video systems (“OVS”). An OVS is a
form of multichannel video delivery that was initially intended to accommodate unaffiliated providers of video
programming on the same network. The OVS regulatory structure also offered a means for a single provider to
serve less than an entire community. Our Kansas City operations in Missouri utilize an OVS that allows us to
operate in only a part of Kansas City.
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A number of state and local provisions also affect the operation of our cable systems. The California legislature
adopted the Digital Infrastructure and Video Competition Act of 2006 (“DIVCA”) to encourage further entrance of
telephone companies and other new cable operators to compete against the large incumbent cable operators. DIVCA
changed preexisting California law to require new franchise applicants to obtain franchise authorizations on the state
level. In addition, DIVCA established a general set of state-defined terms and conditions to replace numerous terms
and conditions that had applied uniquely in local municipalities, and it repealed a state law that had prohibited local
governments from adopting terms for new competitive franchises that differed in any material way from the
incumbent’s franchise, even if competitive circumstances were very different. Some portions of this law are also
available to incumbent cable operators with existing local franchises who compete against us.
A state franchising law also has been enacted in Kansas. While these laws have reduced franchise burdens on our
subsidiaries and have made it easier for them to seek out and enter new markets, they also have reduced the entry
barriers for others who may want to enter our cable television markets.
Federal law and regulation also affects numerous issues related to video programming and other content.
Under Federal law, certain local television broadcast stations (both commercial and non-commercial) can elect,
every three years, to take advantage of rules that require a cable operator to distribute the station’s content to the
cable system’s customers without charge, or to forego this “must-carry” obligation and to negotiate for carriage on
an arm’s length contractual basis, which typically involves the payment of a fee by the cable operator, and
sometimes involves other consideration as well. The current three year cycle began on January 1, 2012. The
company has successfully negotiated agreements with all of the local television broadcast stations that would have
been eligible for “must carry” treatment in each of its markets. As anticipated, fees under retransmission consent
agreements generally underwent marked increases for the 2012-2014 period.
Federal law and regulation regulate access to certain programming content that is delivered by satellite. The FCC
has provisions in place to ban certain discriminatory practices and unfair acts, and include a presumption that the
withholding of regional sports programming by content affiliates of incumbent cable operators is presumptively
unlawful. The existing FCC complaint process for program access for both satellite and terrestrially-delivered
content is governed on a case-by-case basis. The FCC currently is considering adopting rules that could make it less
burdensome for competing multichannel video programming providers who are denied access to cable-affiliated
satellite programming on reasonable terms and conditions to pursue and meet evidentiary standards with respect to
program access complaints. That proceeding remains pending before the FCC.
The FCC recently adopted an order banning exclusive contracts between affiliates where the programming is sent
via terrestrial media, and banning certain other unfair acts, making it clear that the withholding of regional sports
programming and high definition television programming by content affiliates of incumbent cable operators would
receive special attention. Unlike the satellite provisions, the new rules will not expire. The FCC’s order was upheld
in an appeals court decision issued on March 12, 2010.
In connection with the FCC’s approval of a cable transaction involving Comcast and Time Warner in July 2006, the
parties’ regional sports networks were subject to certain program access rules until July 2012. The FCC did not
extend these obligations beyond July 2012. This does not change the existing Comcast/NBC Universal merger
conditions which expire in 2018, as described below. It is unknown what, if any, impact this decision will have on
us.
In early 2010, Comcast proposed to enter into a joint venture with NBC Universal, through which it would acquire
control of numerous NBC properties, including both broadcast and cable television programming operations of
NBC. In early 2011, the FCC and the Department of Justice (“DOJ”) approved the transaction, with a significant
number of conditions designed to promote programming diversity, to limit the ability of the combined entity to
affect competition adversely, and to protect newly emerging markets such as independent on-line (“over-the-top”)
video. These conditions include requirements for program access and carriage, non-discrimination in making
programming available, limits on bundling that would affect competition, and the relationship of the joint venture to
emerging on-line competition. In addition, conditions were imposed to maintain independence within the NBC unit
in dealing with competing cable operators. The parties agreed to the conditions and the transaction was completed
during 2011. Most of the conditions will have a duration of seven years.
The contractual relationships between cable operators and most providers of content who are not television
broadcast stations generally are not subject to FCC oversight or other regulation. The majority of providers of
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content to our subsidiaries, including content providers affiliated with incumbent cable operators such as Comcast,
but who are not subject to any FCC or DOJ conditions, do so through arm’s length contracts where the parties have
mutually agreed upon the terms of carriage and the applicable fees.
The transition to digital television (“DTV”) has led the FCC to adopt and implement new rules designed to ease the
shift. These rules also can be expected to make broadcast content more accessible over the air to smartphones,
personal computers and other non-television devices. Local television broadcast stations will also be able to offer
more content over their assigned digital spectrum after the DTV transition, including additional channels.
The Company continues to monitor the emergence of video content options for customers that have become
available over the Internet, and that may be made available free, by individual subscription or in conjunction with a
separate cable service agreement. In some cases, this involves the ability to watch episodes of desirable network
television programming and to procure additional content related to programs carried on linear cable channels.
These options have increased significantly, and can lead cable television customers to terminate or reduce their level
of services. At this time, “over-the-top” programming options cannot duplicate the nature or extent of desirable
programming carried by cable systems, and the market is still comparatively nascent, but in light of changing
technology and events such as the Comcast-NBC transaction, the “over-the-top” market will continue to grow and
evolve rapidly.
Cable operators depend to some degree upon their ability to utilize the poles (and conduit) of electric and telephone
utilities. The terms and conditions under which such attachments can be made were established in the Federal Pole
Attachment Act of 1978, as amended. The Pole Attachment Act outlined the formula for calculating the fee to be
charged for the use of utility poles, a formula that assesses fees based on the proportionate amount of space assigned
for use and an allocation of certain qualified costs of the pole owner. The FCC has put in place a structure for pole
attachment regulation that has covered cable operators and other types of providers. The FCC has adopted new rules
that apply a single rate to all providers who use poles, whether they are cable operators, telecommunications
providers, or Internet providers, even if they use the attachment to offer more than one service. These rules only
affect attachments in states where the Federal rules apply. States have the option to opt out of the Federal formula
and to regulate pole attachments independently. Kansas, Missouri, Texas, Pennsylvania and Illinois follow the FCC
pole attachment framework. California has elected to separately regulate pole attachments and pole attachment
rates. The FCC decision has been appealed, and the ultimate outcome of the appeal cannot be predicted.
Cable operators are subject to longstanding cable copyright obligations where they pay copyright fees for some
types of programming that are considered secondary retransmissions. The copyright fees are updated from time to
time, and are paid into a pool administered by the United States Copyright Office for distribution to qualifying
recipients.
The FCC has so far declined to require that cable operators allow unaffiliated Internet service providers to gain
access to customers by using the network of the operator’s cable system. The FCC also has considered the benefits
of a requirement that cable operators offer programming on their systems on an a la carte or themed basis, but to
date has not adopted regulations requiring such action. These matters may resurface in the future, particularly as the
“over-the-top” market grows. In light of the fact that programming is increasingly being made available through
Internet connections, some cable operators have considered their own a la carte alternatives. Content owners with
linear channels also are moving toward greater “on demand” programming, offerings that maintain the value of their
linear channels for customers.
The outcome of pending matters cannot be determined at this time but can lead to increased costs for the Company
in connection with our provision of cable services, and can affect our ability to compete in the markets we serve.
Internet Services
The provision of Internet access services is not significantly regulated by either the FCC or the state commissions.
However, the FCC has been moving toward the imposition of some controls on the provision of Internet access. In
2002, in part to place cable modem service and Digital Subscriber Line (“DSL”) service on an equal competitive
footing, the FCC asserted jurisdiction over these services as “information services” under Title I of the
Communications Act, and removed them from treatment under Title II of the Act, but to date it has not determined
what regulatory framework, if any, is appropriate for Internet services under Title I.
The FCC has also adopted policy principles to signal its objectives with respect to high speed Internet and related
services. These principles are intended to encourage broad customer access to the content and applications of their
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choice, to promote the unrestricted use of lawful equipment by users of Internet services and to promote competition
among providers.
In 2009, the FCC proposed to enact rules related to Internet access services, relying in part on the policy principles
that it had earlier adopted, but expanding their reach and adding additional provisions. The adoption of the rules as
they have been proposed would prohibit discrimination with respect to applications providers, among other things,
subject to reasonable network management by an Internet access service provider.
While this initiative was getting underway, a Federal appeals court decision in April 2010 assessed the FCC’s
authority over Internet services under the Communications Act, and invalidated action taken by the FCC that was
based on authority that the FCC thought it possessed. The FCC continues to assert that it has jurisdictional authority
in some areas related to the promotion of an open Internet. Notwithstanding the court setback, the FCC elected to
adopt rules in this regard in December 2010. That action also has been appealed to a Federal appeals court. The
extent of the FCC’s jurisdiction in connection with the Internet will not be resolved for some time. We are unable to
predict the outcome of current proceedings.
The Federal Trade Commission (“FTC”) is currently assessing certain advertising and marketing practices of
Internet-related companies, as well as the use of the Internet in connection with other businesses. FTC action can
affect the manner of operation of some of our businesses. The outcome of pending matters cannot be determined at
this time but can lead to increased costs for the Company in connection with our provision of Internet services, and
can affect our ability to compete in the markets we serve.
Item 1A. Risk Factors.
Our operations and financial results are subject to various risks and uncertainties, including but not limited to those
described below, that could adversely affect our business, financial condition, results of operations, cash flows and
the trading price of our common stock.
Risks Relating to Current Economic Conditions
Unfavorable changes in financial markets could adversely affect pension plan investments resulting in material
funding requirements to meet our pension obligations. We expect that we will continue to make future cash
contributions to our pension plans, the amount and timing of which will depend on various factors including funding
regulations, future investment performance, changes in future discount rates and changes in participant
demographics. Our pension plans have investments in marketable securities, including marketable debt and equity
securities, whose values are exposed to changes in the financial markets. Returns generated on plan assets have
historically funded a large portion of the benefits paid under these plans. If the financial markets experience a
downturn and returns fall below our the estimated long-term rate of return, as seen in recent years, our future
funding requirements could increase significantly, which could adversely affect cash flows from operations.
Weak economic conditions may have a negative impact on our business, results of operations and financial
condition. Downturns in the economic conditions in the markets and industries we serve could adversely affect
demand for our products and services and have a negative impact on our results of operations. Economic weakness
or uncertainty may make it difficult for us to obtain new customers and may cause our existing customers to reduce
or discontinue their services to which they subscribe. This risk may be worsened by the expanded availability of
free or lower cost services, such as video over the Internet, or substitute services, such as wireless phones and data
devices. Weak economic conditions may also impact the ability of third parties to satisfy their obligations to us. If
weak economic conditions were to continue or further deteriorate, the growth of our business, results of operations
and financial condition may be adversely affected.
Risks Relating to Our Common Stock and Payment of Dividends
Our Board of Directors could, in its discretion, depart from or change our dividend policy at any time. Our Board
of Directors maintains a current dividend practice for the payment of quarterly dividends at an annual rate of
approximately $1.55 per share of common stock. We are not required to pay dividends and our stockholders do not
have contractual or other legal rights to receive them. Our Board of Directors may decide at any time, in its
discretion, to decrease the amount of dividends, change or revoke the dividend policy, or discontinue paying
dividends entirely. Our ability to pay dividends is dependent on our earnings, capital requirements, financial
condition, expected cash needs, debt covenant compliance and other factors considered relevant by our Board of
Directors. If we do not pay dividends, for whatever reason, shares of our common stock could become less liquid
and the market price of our common stock could decline.
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We might not have sufficient cash to maintain current dividend levels. Our debt agreements, applicable state, legal
and corporate law, regulatory requirements and other risk factors described in this section, could materially reduce
the cash available from operations or significantly increase our capital expenditure requirements, and these
outcomes could cause funds not to be available when needed in amount sufficient to support our current dividend
practice.
If we continue to pay dividends at the level currently anticipated under our dividend policy, our ability to pursue
growth opportunities may be limited. We believe that our dividend practice could limit, but not preclude, our ability
to grow. If we continue paying dividends at the level currently anticipated, we may not retain a sufficient amount of
cash to fund a material expansion of our business, including any acquisitions or growth opportunities requiring
significant and unexpected capital expenditures. For that reason, our ability to pursue any material expansion of our
business may depend on our ability to obtain third-party financing. We cannot guarantee that such financing will be
available to us on reasonable terms or at all, particularly in the current economic environment.
Our organizational documents could limit or delay another party’s ability to acquire us and, therefore, could
deprive our investors of a possible takeover premium for their shares. A number of provisions in our amended and
restated certificate of incorporation and bylaws will make it difficult for another company to acquire us. Among
other things, these provisions:
(cid:120) Divide our Board of Directors into three classes, which results in roughly one-third of our directors
being elected each year;
(cid:120) Provide that directors may only be removed for cause and then only upon the affirmative vote of
holders of two-thirds or more of the voting power of our outstanding common stock;
(cid:120) Require the affirmative vote of holders of two-thirds or more of the voting power of our outstanding
common stock to amend, alter, change, or repeal specified provisions of our amended and restated
certificate of incorporation and bylaws;
(cid:120) Require stockholders to provide us with advance notice if they wish to nominate any candidates for
election to our Board of Directors or if they intend to propose any matters for consideration at an
annual stockholders meeting; and
(cid:120) Authorize the issuance of so-called “blank check” preferred stock without stockholder approval upon
such terms as the Board of Directors may determine.
We also are subject to laws that may have a similar effect. For example, federal, Illinois, and Pennsylvania
telecommunications laws and regulations generally prohibit a direct or indirect transfer of control over our business
without prior regulatory approval. Similarly, Section 203 of the Delaware General Corporation Law restricts our
ability to engage in a business combination with an “interested stockholder”. These laws and regulations make it
difficult for another company to acquire us, and therefore could limit the price that investors might be willing to pay
in the future for shares of our common stock. In addition, the rights of our common stockholders will be subject to,
and may be adversely affected by, the rights of holders of any class or series of preferred stock that we may issue in
the future.
Risks Relating to Our Indebtedness and Our Capital Structure
We have a substantial amount of debt outstanding and may incur additional indebtedness in the future, which
could restrict our ability to pay dividends and fund working capital and planned capital expenditures. As of
December 31, 2012, we had $1,217.8 million of debt outstanding. Our substantial level of indebtedness could
adversely impact our business, including:
(cid:120) We may be required to use a substantial portion of our cash flow from operations to make principal
and interest payments on our debt, which will reduce funds available for operations, future business
opportunities and dividends;
(cid:120) We may have limited flexibility to react to changes in our business and our industry;
(cid:120)
It may be more difficult for us to satisfy our other obligations;
(cid:120) We may have a limited ability to borrow additional funds or to sell assets to raise funds if needed for
working capital, capital expenditures, acquisitions, or other purposes;
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(cid:120) We may become more vulnerable to general adverse economic and industry conditions, including
changes in interest rates; and
(cid:120) We may be at a disadvantage compared to our competitors that have less debt.
We cannot guarantee that we will generate sufficient revenues to service our debt and have adequate funds left over
to achieve or sustain profitability in our operations, meet our working capital and capital expenditure needs, compete
successfully in our markets, or pay dividends to our stockholders.
Our credit agreement and the indenture governing the Senior Notes contain covenants that limit management’s
discretion in operating our business and could prevent us from capitalizing on opportunities and taking other
corporate actions. Among other things, our credit agreement limits or restricts our ability (and the ability of certain
of our subsidiaries), and the indenture governing the Senior Notes limits the ability of our subsidiary, Consolidated
Communications, Inc., and its restricted subsidiaries, to:
(cid:120)
Incur additional debt and issue preferred stock;
(cid:120) Make restricted payments, including paying dividends on, redeeming, repurchasing, or retiring our
capital stock;
(cid:120) Make investments and prepay or redeem debt;
(cid:120) Enter into agreements restricting our subsidiaries’ ability to pay dividends, make loans, or transfer
assets to us;
(cid:120) Create liens;
(cid:120) Sell or otherwise dispose of assets, including capital stock of, or other ownership interests in,
subsidiaries;
(cid:120) Engage in transactions with affiliates;
(cid:120) Engage in sale and leaseback transactions;
(cid:120) Engage in a business other than telecommunications; and
(cid:120) Consolidate or merge.
In addition, our credit agreement requires us to comply with specified financial ratios, including ratios regarding
total leverage and interest coverage. Our ability to comply with these ratios may be affected by events beyond our
control. These restrictions limit our ability to plan for or react to market conditions, meet capital needs, or otherwise
constrain our activities or business plans. They also may adversely affect our ability to finance our operations, enter
into acquisitions, or engage in other business activities that would be in our interest.
A breach of any of the covenants contained in our credit agreement, in any future credit agreement, or in the
indenture governing the Senior Notes, or our inability to comply with the financial ratios could result in an event of
default, which would allow the lenders to declare all borrowings outstanding to be due and payable. If the amounts
outstanding under our credit facilities were to be accelerated, we cannot assure that our assets would be sufficient to
repay in full the money owed. In such a situation, the lenders could foreclose on the assets and capital stock pledged
to them.
We may not be able to refinance our existing debt if necessary, or we may only be able to do so at a higher
interest expense. We may be unable to refinance or renew our credit facilities and our failure to repay all amounts
due on the maturity dates would cause a default under the credit agreement. Alternatively, any renewal or
refinancing may occur on less favorable terms. If we refinance our credit facilities on terms that are less favorable
to us than the terms of our existing debt, our interest expense may increase significantly, which could impact our
results of operations and impair our ability to use our funds for other purposes, such as to pay dividends.
Our variable-rate debt subjects us to interest rate risk, which could impact our cost of borrowing and operating
results. Certain of our debt obligations are at variable rates of interest and expose us to interest rate risk. Increases
in interest rates could negatively impact our results of operations and operating cash flows. To mitigate the risk of
rising interest rates, we have entered into interest rate swap agreements that convert a portion of our variable-rate
debt to a fixed-rate basis. However, we do not maintain interest rate hedging agreements for all of our variable-rate
debt and our existing hedging agreements may not fully mitigate our interest rate risk, may prove disadvantageous
or may create additional risks. Changes in fair value of cash flow hedges that have been determined to be ineffective
are recognized in earnings. Significant increases or decreases in the fair value of ineffective cash flow hedges could
22
cause favorable or adverse fluctuations in our results of operations.
Risks Relating to Our Business
We expect to continue to face significant competition in all parts of our business and the level of competition
could intensify. The telecommunications, Internet and digital video businesses are highly competitive. We face
actual or potential competition from many existing and emerging companies, including other incumbent and
competitive local telephone companies, long-distance carriers and resellers, wireless companies, Internet service
providers, satellite companies, cable television companies and in some cases by new forms of providers who are
able to offer competitive services through software applications, requiring a comparatively small initial investment.
Due to consolidation and strategic alliances within the industry, we cannot predict the number of competitors we
will face at any given time.
The wireless business has expanded significantly and has caused many subscribers to traditional telephone services
and land-based Internet access services to give up those services and to rely exclusively on wireless service.
Consumers are finding individual television shows of interest to them through the Internet and are watching content
that is downloaded to their computers. Some providers, including television and cable television content owners,
have initiated what are called “over-the-top” services that deliver video content to televisions and computers over
the Internet. Over-the-top services can include episodes of highly-rated television series in their current broadcast
seasons. They also can include content that is related to broadcast or sports content that we carry, but that is distinct
and may be available only through the alternative source. Finally, the transition to digital broadcast television has
allowed many consumers to obtain high definition local broadcast television signals (including many network
affiliates) over-the-air, using a simple antenna. Consumers can pursue each of these options without foregoing any
of the other options. We may not be able to successfully anticipate and respond to many of these various
competitive factors affecting the industry, including regulatory changes that may affect our competitors and us
differently, new technologies, services and applications that may be introduced, changes in consumer preferences,
demographic trends and discount or bundled pricing strategies by competitors. The incumbent telephone carrier in
the markets we serve enjoys certain business advantages, including size, financial resources, favorable regulatory
position, a more diverse product mix, brand recognition and connection to virtually all of our customers and
potential customers. The largest cable operators also enjoy certain business advantages, including size, financial
resources, ownership of or superior access to desirable programming and other content, a more diverse product mix,
brand recognition and first-in-the-field advantages with a customer base that generates positive cash flow for its
operations. Our competitors continue to add features and adopt aggressive pricing and packaging for services
comparable to the services we offer. Their success in selling some services competitive with ours can lead to
revenue erosion in other related areas. We face intense competition in our markets for long-distance, Internet access
and other ancillary services that are important to our business and to our growth strategy. If we do not compete
effectively we could lose customers, revenue and market share; customers may reduce their usage of our services or
switch to a less profitable service; and we may need to lower our prices or increase our marketing efforts to remain
competitive.
We must adapt to rapid technological change. If we are unable to take advantage of technological developments,
or if we adopt and implement them more slowly than our competitors, we may experience a decline in the demand
for our services. The telecommunications industry operates in a technologically complex environment. New
technologies are continually developed and products and services undergo constant improvement. These offer
consumers a variety of choices for their communication needs. To remain competitive, we will need to adapt to
future changes in technology to enhance our existing offerings and to introduce new or improved offerings that
anticipate and respond to the varied and continually changing demands of our customers. If we are unable to match
the benefits offered by competing technologies on a timely basis or at an acceptable cost, if we fail to employ
technologies desired by our customers before our competitors do so, or if we do not successfully execute on our
technology initiatives, our business and results of operations could be adversely affected.
In addition, evolving technologies can reduce the costs of entry for others, resulting in greater competition and give
competitors significant new advantages. Technological developments could require us to make a significant new
capital investment in order to remain competitive with other service providers. If we do not replace or upgrade our
network and its technology once it becomes obsolete, we will be unable to compete effectively and will likely lose
customers. We also may be placed at a cost disadvantage in offering our services. Technology changes are also
allowing individuals to bypass telephone companies and cable operators entirely to make and receive calls, and to
provide for the distribution and viewing of video programming without the need to subscribe to traditional voice and
23
video products and services. Increasingly, this can be done over wireless facilities and other emerging mobile
technologies as well as traditional wired networks. Wireless companies are aggressively developing networks using
next-generation data technologies, which are capable of delivering high-speed Internet service via wireless
technology to a large geographic footprint. As these technologies continue to expand in availability and reliability,
they could become an effective alternative to our high-speed Internet services. Although we use fiber optics in parts
of our networks, including in some residential areas, we continue to rely on coaxial cable and copper transport
media to serve customers in many areas. The facilities we use to offer our video services, including the interfaces
with customers, are undergoing a rapid evolution, and depend in part on the products, expertise and capabilities of
third parties. If we cannot develop new services and products to keep pace with technological advances, or if such
services and products are not widely embraced by our customer, our results of operations could be adversely
impacted.
Transport and content costs are substantial and continue to increase. We expect the cost of video transport and
content costs to continue to be one of our largest operating costs associated with providing video service. Video
programming content includes cable-oriented programming designed to be shown in linear channels, as well as the
programming of local over-the-air television stations that we retransmit. In addition, on-demand programming is
being made available in response to customer demand. In recent years, the cable industry has experienced rapid
increases in the cost of programming, especially the costs for sports programming and for local broadcast station
retransmission consent. Programming costs are generally assessed on a per-subscriber basis, and therefore are
related directly to the number of subscribers to which the programming is provided. Our relatively small base of
subscribers limits our ability to negotiate lower per-subscriber programming costs. Larger providers often can
qualify for discounts based on the number of their subscribers. This cost difference can cause us to experience
reduced operating margins, while our competitors with a larger subscriber base may not experience similar margin
compression. In addition, escalators in existing content agreements cause cost increases that are out of line with
general inflation. While we expect these increases to continue we may not be able to pass our programming cost
increases on to our customers, particularly as an increasing amount of programming content becomes available via
the Internet at little or no cost. Also, some competitors (or their affiliates) own programming in their own right and
we may be unable to secure license rights to that programming. As our programming contracts with content
providers expire, there can be no assurance that they will be renewed on acceptable terms or that they will be
renewed at all, in which case we may be unable to provide such programming as part of our video services packages
and our business and results of operations may be adversely affected.
A disruption in our networks and infrastructure could cause delays or interruptions of service, which could cause
us to lose customers and incur additional expenses. Our customers depend on reliable service over our network.
The primary risks to our network infrastructure include physical damage to lines, security breaches, capacity
limitations, power surges or outages, software defects and disruptions beyond our control, such as natural disasters
and acts of terrorism. From time to time in the ordinary course of business, we will experience short disruptions in
our service due to factors such as physical damage, inclement weather and service failures of our third party service
providers. We could experience more significant disruptions in the future. Disruptions may cause interruptions in
service or reduced capacity for customers, either of which could cause us to lose customers and incur unexpected
expenses.
We have employees who are covered by collective bargaining agreements. If we are unable to enter into new
agreements or renew existing agreements before they expire, we could have a work stoppage or other labor
actions that could materially disrupt our ability to provide services to our customers. At December 31, 2012,
approximately 28% of our employees were covered by collective bargaining agreements. These employees are
hourly workers located in Texas, Pennsylvania and Illinois service territories and are represented by various unions
and locals. Our relationship with these unions generally has been satisfactory, but occasional work stoppages can
occur, including a four day work stoppage that did occur in December 2012. Our collective bargaining agreement
with International Brotherhood of Electrical Workers (“IBEW”) for our Illinois Incumbent Local Exchange Carrier
(“ILEC”) expired on November 14, 2012. Employees continue to work without a contract and we remain in
negotiations with the IBEW on a new collective bargaining agreement. All the other existing collective bargaining
agreements expire between 2013 through 2015.
We cannot predict the outcome of negotiations of the collective bargaining agreements covering our employees. If
we are unable to reach new agreements or renew existing agreements, employees subject to collective bargaining
agreements may engage in strikes, work stoppages or slowdowns, or other labor actions, which could materially
disrupt our ability to provide services. New labor agreements or the renewal of existing agreements may impose
24
significant new costs on us, which could adversely affect our financial condition and result of operations. While we
believe our relations with the unions representing these employees are good, any protracted labor disputes or labor
disruptions by any of our employees could have a significant negative effect on our financial results and operations.
We may be unable to obtain necessary hardware, software and operational support from third party vendors. We
depend on third party vendors to supply us with a significant amount of hardware, software and operational support
necessary to provide certain of our services and to maintain, upgrade and enhance our network facilities and
operations and to support our information and billing systems. Some of our third-party vendors are our primary
source of supply for products and services for which there are few substitutes. If any of these vendors should
experience financial difficulties, have demand that exceeds their capacity or they cannot otherwise meet our
specifications, our ability to provide some services may be materially adversely affected in which case our business,
results of operations and financial condition may be adversely affected.
If we cannot obtain and maintain necessary rights-of-way for our network, our operations may be interrupted
and we would likely face increased costs. We are dependent on easements, franchises and licenses from various
private parties such as established telephone companies and other utilities, railroads, long-distance companies and
from state highway authorities, local governments and transit authorities for access to aerial pole space, underground
conduits and other rights-of-way in order to construct and operate our networks. Some agreements relating to rights-
of-way may be short-term or revocable at will, and we cannot be certain that we will continue to have access to
existing rights-of-way after the governing agreements are terminated or expire. If any of our right-of-way
agreements were terminated or could not be renewed, we may be forced to remove our network facilities from the
affected areas, relocate or abandon our networks which would interrupt our operations and force us to find
alternative rights-of-way and make unexpected capital expenditures.
Our ability to retain certain key management personnel and attract and retain highly qualified management and
other personnel in the future could have an adverse effect on our business. We rely on the talents and efforts of
key management personnel, many of whom have been with our company and in our industry for decades. While we
maintain long-term and emergency transition plans for key management personnel and believe we could either
identify internal candidates or attract outside candidates to fill any vacancy created by the loss of any key
management personnel, the loss of one or more of our key management personnel and the ability to attract and retain
highly qualified technical and management personnel in the future could have a negative impact on our business,
financial condition and results of operations.
Future acquisitions could be expensive and may not be successful. From time to time we make acquisitions and
investments and enter into other strategic transactions. In connections with these types of transactions we may incur
unanticipated expenses, fail to realize anticipated benefits, have difficulty incorporating the acquired businesses,
disrupt relationships with current and new employees, customers and vendors, incur significant indebtedness, or
have to delay or not proceed with announced transactions. The occurrence of any of the foregoing events could
have a material adverse effect on our business, results of operations, cash flows and financial condition.
Risks Relating to Our Acquisition of SureWest
The integration of the Company and SureWest following the merger may present significant challenges. We may
face significant challenges in combining SureWest’s operations into our operations in a timely and efficient manner
and in retaining key SureWest personnel. The failure to successfully integrate the Company and SureWest and to
manage successfully the challenges presented by the integration process may result in our not achieving the
anticipated benefits of the merger, including operational and financial synergies.
We will incur transaction, integration and restructuring costs in connection with the merger. We have incurred
significant transaction costs in connection with the merger, including fees of our attorneys, accountants and financial
advisors. We expect to continue to incur additional integration and restructuring costs as we continue to integrate the
businesses of SureWest with those of the Company. Although we expect that the realization of efficiencies related to
the integration of the businesses will offset incremental transaction, integration and restructuring costs over time, we
cannot give any assurance that this net benefit will be achieved in the near term.
Risks Related to the Regulation of Our Business
We are subject to a complex and uncertain regulatory environment, and we face compliance costs and
restrictions greater than those of many of our competitors. Our businesses are subject to regulation by the Federal
Communications Commission (“FCC”) and other Federal, state and local entities. Rapid changes in technology and
25
market conditions have required corresponding changes in how government addresses telecommunications, video
programming and Internet services. Many businesses that compete with our ILEC and Non-ILEC subsidiaries are
comparatively less regulated. Some of our competitors are either completely free from utilities regulation, or are
regulated on a significantly less burdensome basis. Further, in comparison to our subsidiaries regulated as cable
operators, satellite video providers, on-demand and over-the-top video providers, and motion picture and DVD firms
have almost no regulation of their video activities. Recently, Federal and state authorities have become far more
active in seeking to address critical issues in each of our product and service markets. The adoption of new laws or
regulations or changes to the existing regulatory framework at the federal or state levels could require significant
and costly adjustments, and adversely affect our business plans. New regulations could impose additional costs or
capital requirements, require new reporting, impair revenue opportunities, potentially impede our ability to provide
services in a manner that would be attractive to our customers and us and potentially create barriers to enter new
markets or acquire new lines of business. We face continued uncertainty in the regulatory area for the immediate
future. Not only are these governmental entities continuing to move forward on these matters, their actions remain
subject to reconsideration, appeal and legislative modification over an extended period of time, and it is unclear how
their actions ultimately will impact our markets. We cannot predict future developments or changes to the regulatory
environment or the impact such developments or changes may have on us.
We receive support from various funds established under federal and state law and the continued receipt of that
support is not assured. A significant portion of our ILECs’ revenues come from network access and subsidies. An
order adopted by the FCC in 2011 (the “Order”) may significantly impact the amount of support revenue we receive
from Universal Service Fund (“USF”)/Connect America Fund (“CAF”) and intercarrier compensation (“ICC”). The
Order reformed core parts of the USF, broadly recast the existing ICC scheme and established the CAF to replace
support revenues provided by the current USF and redirects support from voice services to broadband services. In
2012, the first phase of the CAF was implemented freezing USF support to a price cap holding company until the
FCC implements a broadband cost model to shift support from voice service to broadband, which could be as early
as July 2013. We anticipate that our revenues will be significantly impacted when the broadband cost model is
implemented. The order also modifies the methodology used for ICC traffic exchanged between carriers. The
initial phase of ICC reform was effective on July 1, 2012, beginning the transition of our terminating switched
access rates to bill-and-keep over a seven year period. As a result of implementing the provisions of the Order, our
2012 network access revenues decreased approximately $972 thousand. We anticipate network access revenues will
continue to decline as a result of the Order through 2018 and could be as much as $1.9 million, $805 thousand, $936
thousand, $1.0 million, $2.5 million and $618 thousand in 2013, 2014, 2015, 2016, 2017 and 2018, respectively.
The Order is currently subject to both reconsideration and appeal. Further regulatory actions on these issues may
have a material impact on our consolidated financial position and our results of operations in future periods. The
impact cannot be fully determined at this time.
We receive subsidy payments from various federal or state universal service support programs. These include high
cost support, Lifeline, Schools and Libraries programs within the Federal universal service program. In addition,
our Pennsylvania and Texas ILEC’s receive state universal service funding. The Pennsylvania PUC (“PAPUC”)
issued an order in 2012 addressing state ICC and USF, but rescinded the order in early 2012 due to the FCC order
usurping the PAPUC rules. In the future the PAPUC may reintroduce a universal service proceeding. In Texas, the
Public Utilities Commission of Texas (“PUCT”) has initiated a proceeding to review the large company and small
company high cost funds. The proceedings will undertake a comprehensive review of high cost funds and provided
recommended changes to the legislature. Any legislative or PUCT action would not occur until September 1, 2013.
The total cost of all of the various Federal universal service programs has increased greatly in recent years, putting
pressure on regulators to reform them, and to limit both eligibility and support flows. We cannot predict when or
how these matters will be decided or the effect on our subsidy revenues. However, future reductions in the subsidies
we receive may directly affect our profitability and cash flows.
We are subject to extensive laws and regulations relating to the protection of the environment, natural resources,
and worker health and safety. Our operations and properties are subject to federal, state, and local laws and
regulations relating to protection of the environment, natural resources, and worker health and safety, including laws
and regulations governing and creating liability in connection with the management, storage, and disposal of
hazardous materials, asbestos and petroleum products. We also are subject to laws and regulations governing air
emissions from our fleets of vehicles. As a result, we face several risks, including:
26
(cid:120) Hazardous materials may have been released at properties that we currently own or formerly owned
(perhaps through our predecessors). Under certain environmental laws, we could be held liable,
without regard to fault, for the costs of investigating and remediating any actual or threatened
contamination at these properties and for contamination associated with disposal by us or our
predecessors of hazardous materials at third-party disposal sites.
(cid:120) We could incur substantial costs in the future if we acquire businesses or properties subject to
environmental requirements or affected by environmental contamination. In particular, environmental
laws regulating wetlands, endangered species, and other land use and natural resource issues may
increase costs associated with future business or expansion opportunities or delay, alter, or interfere
with such plans.
(cid:120) The presence of contamination can adversely affect the value of our properties and make it difficult to
sell any affected property or to use it as collateral.
(cid:120) We could be held responsible for third-party property damage claims, personal injury claims, or natural
resource damage claims relating to contamination found at any of our current or past properties.
The cost of complying with environmental requirements could be significant. Similarly, the adoption of new
environmental laws or regulations or changes in existing laws or regulations or their interpretations could result in
significant compliance costs or unanticipated environmental liabilities.
Item 1B. Unresolved Staff Comments.
None.
Item 2. Properties.
Our corporate headquarters are located at 121 S. 17th St., Mattoon, Illinois, a leased facility. We also own and lease
office facilities and related equipment for administrative personnel, central office buildings, and operations in
Illinois, Pennsylvania, Texas, California, Kansas and Missouri utilized primarily by our Telephone Operations
segment. We own approximately 21 acres of undeveloped land in Roseville, California. Our Other Operations
segment shares certain facilities with the Telephone Operations segment in Illinois.
In addition to land and structures, our property consists of equipment necessary for the provision of communication
services including central office equipment, customer premises equipment and connections, pole lines, video head-
end, remote terminals, aerial and underground cable and wire facilities, vehicles, furniture and fixtures, computers
and other equipment. We also own certain other communications equipment held as inventory for sale or lease.
In addition to plant and equipment that we wholly-own, we utilize poles, towers and cable and conduit systems
jointly-owned with other entities, and lease space on facilities to other entities. These arrangements are in
accordance with written agreements customary in the industry.
We have appropriate easements, rights of way and other arrangements for the accommodation of our pole lines,
underground conduits, aerial and underground cables and wires. See Note 11 in the Notes to Consolidated Financial
Statements and Part II, Item 7 – “Management’s Discussion and Analysis of Financial Condition and Results of
Operations” for information regarding our lease obligations.
As a result of efficiencies realized through cost controls and efficiencies gained through our acquisition of SureWest
Communications in February 2012, certain of our owned and leased facilities are not being utilized to their full
capacity. We are actively reviewing all of our holdings to determine if we have excess properties. As of December
31, 2012, we are actively marketing 21 acres of undeveloped land, an office campus in Roseville, California and an
office building in Cranbury, Pennsylvania.
Item 3. Legal Proceedings.
Prior to the completion of the SureWest Merger on July 2, 2012, six putative class action lawsuits were filed by
alleged SureWest shareholders challenging the Company’s proposed merger with SureWest in which the Company,
WH Acquisition Corp. and WH Acquisition II Corp, SureWest and members of the SureWest board of directors
have been named as defendants. Five shareholder actions were filed in the Superior Court of California, Placer
County, and one shareholder action was filed in the United States District Court for the Eastern District of
California. The actions are called Needles v. SureWest Communications, et al., filed February 17, 2012, Errecart v.
27
Oldham, et al., filed February 24, 2012, Springer v. SureWest Communications, et al., filed March 9, 2012, Aievoli
v. Oldham, et al., filed March 15, 2012, and Waterbury v. SureWest Communications, et al., filed March 26, 2012,
and the federal action is called Broering v. Oldham, et al., filed April 18, 2012. The actions generally allege, among
other things, that each member of the SureWest board of directors breached fiduciary duties to SureWest and its
shareholders by authorizing the sale of SureWest to the Company for consideration that allegedly was unfair to the
SureWest shareholders and agreed to terms that allegedly unduly restrict other bidders from making a competing
offer. The complaints also allege that the Company and SureWest aided and abetted the breaches of fiduciary duties
allegedly committed by the members of the SureWest board of directors. The Broering complaint also alleges,
among other things, that the joint proxy statement/prospectus filed with the SEC on March 28, 2012 did not make
sufficient disclosures regarding the merger, that SureWest’s board should have appointed an independent committee
to negotiate the transaction and that SureWest should have gone back to another bidder to create a competitive bid
process. The lawsuits seek equitable relief, including an order to prevent the defendants from consummating the
merger on the agreed-upon terms and/or an award of unspecified monetary damages. On March 14, 2012, the Placer
County Superior Court entered an order consolidating the Needles, Errecart and Springer actions into a single action
under the caption In re SureWest Communications Shareholder Litigation. Under the terms of this order, all cases
subsequently filed in the Superior Court for the State of California, County of Placer, that relate to the same subject
matter and involve similar questions of law or fact were to be consolidated with these cases as well. This included
the Aievoli and Waterbury cases. On April 10, 2012, the plaintiff in Waterbury filed a request for voluntary
dismissal of her complaint without prejudice. On May 18, 2012, pursuant to the parties’ stipulation, the federal
Court entered an order staying the Broering action for 90 days. The federal Court subsequently extended the stay of
the Broering action until June 1, 2013. On June 1, 2012, the parties entered into a proposed settlement of all of the
shareholder actions without any admission of liability by the Company or the other defendants. Pursuant to the
proposed settlement, SureWest agreed to make, and subsequently made, certain additional disclosures in a Current
Report on Form 8-K filed with the SEC in advance of the special meeting of SureWest shareholders held on June 12,
2012. The proposed settlement also provided that plaintiffs’ counsel collectively are to receive attorneys’ fees of
$0.525 million, of which the Company is to pay $36.25 thousand, with the balance to be paid by SureWest and its
insurer. The proposed settlement is subject to approval by the Placer County Superior Court. On December 20,
2012, the court issued a ruling preliminarily approving the proposed settlement. The court set a hearing for March
28, 2013 at which it will consider final approval of the proposed settlement. Upon final approval by the court, the
consolidated state court actions and the federal action will be dismissed with prejudice.
On April 15, 2008, Salsgiver Inc., a Pennsylvania-based telecommunications company, and certain of its affiliates
filed a lawsuit against us and our subsidiaries North Pittsburgh Telephone Company and North Pittsburgh Systems
Inc. in the Court of Common Pleas of Allegheny County, Pennsylvania alleging that we have prevented Salsgiver
from connecting their fiber optic cables to our utility poles. Salsgiver seeks compensatory and punitive damages as
the result of alleged lost projected profits, damage to its business reputation, and other costs. Salsgiver originally
claimed to have sustained losses of approximately $125 million and did not request a specific dollar amount in
damages. We believe that these claims are without merit and that the alleged damages are completely unfounded.
We intend to defend against these claims vigorously. Discovery concluded and Consolidated filed a motion for
summary judgment on June 18, 2012 and the court heard oral arguments on August 30, 2012. On February 12,
2013, the court granted, in part, Consolidated’s motion. The court ruled that Salsgiver could not recover
prejudgment interest and could not use as a basis of liability any actions prior to April 14, 2006. We anticipate a
status conference being held in late March 2013, at which time the court will set a briefing and trial schedule.
In addition, we have asked the Federal Communications Commission (“FCC”) Enforcement Bureau to address
Salsgiver's unauthorized pole attachments and safety violations on those attachments. We believe that these are
violations of an FCC order regarding Salsgiver's complaint against us. We do not believe that these claims will have
a material adverse impact on our financial results.
Two of our subsidiaries, Consolidated Communications of Pennsylvania Company LLC (“CCPA”) and
Consolidated Communications Enterprise Services Inc. (“CCES”), received assessment notices from the
Commonwealth of Pennsylvania Department of Revenue increasing the amounts owed for Pennsylvania Gross
Receipt Taxes for the tax period ending December 31, 2009. These two assessments adjusted the subsidiaries’
combined total outstanding taxable gross receipts liability (with interest) to approximately $2.3 million. In addition,
based upon recently completed audits of CCES for 2008, 2009 and 2010, we believe the Commonwealth of
Pennsylvania may issue additional assessments totaling approximately $1.7 million for Gross Receipt Taxes
allegedly owed. Our CCPA subsidiary has also been notified by the Commonwealth of Pennsylvania that they will
28
conduct a gross receipts audit for the calendar year 2008. An appeal challenging the 2009 CCPA assessment was
filed with the Department of Revenue’s Board of Appeals on September 15, 2011, and we filed a similar appeal for
CCES with the Board of Appeals on November 11, 2011 challenging the 2009 CCES assessment. The Board of
Appeals denied CCPA and CCES’s appeals. On November 13, 2012, CCPA and CCES filed appeals with the
Commonwealth’s Board of Finance and Revenue. These have been stayed pending the outcome of present litigation
in the Commonwealth Court between Verizon Pennsylvania, Inc. and the Commonwealth of Pennsylvania (Verizon
Pennsylvania, Inc. v. Commonwealth, Docket No. 266 F.R. 2008). The Gross Receipts Tax issues in the Verizon
Pennsylvania case are substantially the same as those presently facing CCPA and CCES. In addition, there are
numerous telecommunications carriers with Gross Receipts Tax matters dealing with the same issues that are in
various stages of appeal before the Board of Finance and Revenue and the Commonwealth Court. Those appeals by
other similarly situated telecommunications carriers have been continued until resolution of the Verizon
Pennsylvania case. We believe that these assessments and the positions taken by the Commonwealth of
Pennsylvania are without substantial merit. We do not believe that the outcome of these claims will have a material
adverse impact on our financial results or cash flows.
We currently provide telephone service to inmates incarcerated at facilities operated by the Illinois Department of
Corrections. On June 27, 2012, the Illinois Department of Central Management Services announced its intent to
replace the Company as the provider of those services with a competitor, Securus Technologies, Inc. We have
challenged Securus’ bid, and the State’s decision to accept that bid, in a variety of different forums including: (i)
protests with the Chief Procurement Officer of the Illinois Executive Ethics Commission, which were denied, (ii) a
lawsuit filed in the Circuit Court of Sangamon County, Illinois that was dismissed, but is now under appeal in the
Illinois Appellate Court Fourth District, (iii) a declaratory ruling request filed with the Illinois Commerce
Commission and (iv) a complaint filed with the Illinois Procurement Policy Board. In each of those challenges, we
claimed either that Securus was not a responsible vendor, as defined by the State’s bid solicitation document, and/or
that rates for the services Securus proposes to provide are subject to regulatory limits below those Securus has
proposed to charge. Although we will continue to pursue legal recourse to the State’s decision, our business plans
and projections assume that our contract with the State of Illinois will end during 2013.
On January 18, 2012, we filed a petition with the U.S. Court of Appeals for the District of Columbia Circuit to
review the FCC’s Order issued November 18, 2011 that reformed intercarrier compensation and core parts of the
Universal Service Fund. We are appealing five core issues in the November 18, 2011 FCC order. The U.S. Court of
Appeals for the tenth circuit will hear oral arguments on November 19, 2013.
We are from time to time involved in various other legal proceedings and regulatory actions arising out of our
operations. We do not believe that any of these, individually or in the aggregate, will have a material adverse effect
upon our business, operating results or financial condition.
Item 4. Mine Safety Disclosures.
Not Applicable.
29
PART II
Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of
Equity Securities.
Our common stock is traded on The NASDAQ Global Select Market (“NASDAQ”) under the symbol “CNSL”. As
of February 15, 2013, there were approximately 3,751 stockholders of record of the Company’s common stock. The
following table indicates the range of stock closing prices of the Company’s common stock as reported on the
NASDAQ, for each of the quarters ending on the dates indicated:
Period
First quarter
Second quarter
Third quarter
Fourth quarter
2012
2011
High
Low
High
Low
19.80
19.63
17.79
17.40
18.08
13.95
15.21
13.48
19.50
19.50
20.02
19.39
17.25
17.94
16.77
16.83
Dividend Policy and Restrictions
Our Board of Directors declared dividends of approximately $0.38738 per share in each of the periods listed above.
Our Board of Directors adopted a dividend policy that reflects its judgment that our stockholders are better served if
we distribute a substantial portion of the cash generated by our business in excess of our expected cash needs rather
than retaining the cash or using it for investments, acquisitions, or other purposes. We expect to continue to pay
quarterly dividends at an annual rate of approximately $1.55 per share during 2013. Future dividend payments are
at the discretion of our Board of Directors. Changes in our dividend program will depend on our earnings, capital
requirements, financial condition, debt covenant compliance, expected cash needs and other factors considered
relevant by our Board of Directors. Dividends on our common stock are not cumulative.
See Part II, Item 7–“Management’s Discussion and Analysis of Financial Condition and Results of Operations –
Liquidity and Capital Resources” for a discussion regarding restrictions on the payment of dividends. See Part I –
Item 1A – “Risk Factors” of this report, which sets forth several factors that could prevent stockholders from
receiving dividends in the future. Additional information concerning dividends may be found in “Selected Financial
Data” in Item 6, which is incorporated herein by reference.
Share Repurchases
During the quarter ended December 31, 2012, we repurchased 36,914 common shares surrendered by employees in
the administration of employee share-based compensation plans. The following table summarizes the share
repurchase activity:
Purchase period
October 1-October 31, 2012
November 1-Novermber 30, 2012
December 1-December 31, 2012
Total number of
shares purchased
-
-
36,914
Average price
paid per share
n/a
n/a
$ 15.14
Total number of
shares purchased
as part of publicly
announced plans
n/a
n/a
n/a
Performance Graph
The following graph shows a five-year comparison of cumulative total shareholder return of our common stock
(assuming dividend reinvestment) with the S&P 500 index, the Dow Jones US Fixed-Line Telecommunications
index and a customized peer group of four companies that includes: Alaska Communications Systems Group, Inc.,
Consolidated Communications Holdings, Inc., Otelco, Inc. and Shenandoah Telecommunications Company. The
comparison of total return on investment (change in year-end stock price plus reinvested dividends) for each of the
periods assumes that $100 was invested on December 31, 2007 respectively in each index, and in the peer group.
The stock performance shown on the graphs below is not necessarily indicative of future price performance.
30
COMPARISON OF 5 YEAR CUMULATIVE TOTAL RETURN*
Among Consolidated Communications Holdings, the S&P 500 Index,
the Dow Jones US Fixed-Line Telecommunications Index, and a Peer Group
$180
$160
$140
$120
$100
$80
$60
$40
$20
$0
12/07
12/08
12/09
12/10
12/11
12/12
Consolidated Communications Holdings
S&P 500
Dow Jones US Fixed-Line Telecommunications
Peer Group
*$100 invested on 12/31/07 in stock or index, including reinvestment of dividends.
Fiscal year ending December 31.
Copyright© 2013 S&P, a division of The McGraw-Hill Companies Inc. All rights reserved.
Copyright© 2013 Dow Jones & Co. All rights reserved.
(In dollars)
Consolidated Communications Holdings, Inc.
S&P 500
Dow Jones US Fixed-Line Telecommunications
Peer group
2007
$
100
$
100
$
100
$
100
2008
$
67
$
63
$
73
$
82
2009
$
111
$
80
$
79
$
90
2010
$
134
$
92
$
94
$
108
2011
$
143
$
94
$
100
$
74
2012
$
131
$
109
$
115
$
66
At December 31,
During the year ended December 31, 2012, we did not sell any equity securities of the Company, which were not
registered under the Securities Act of 1933, as amended.
31
Item 6. Selected Financial Data.
The selected financial data set forth below should be read in conjunction with Item 7—“Management’s Discussion
and Analysis of Financial Condition and Results of Operations”, our consolidated financial statements and the
related notes, and other financial data included elsewhere in this annual report. Historical results are not necessarily
indicative of the results to be expected in future periods.
(In millions, except per share amounts)
2012 (1)
2011
2010
2009
2008
Year Ended December 31,
Telephone operations revenues
Other operations revenues
Total operating revenues
$
472.1
31.4
503.5
$
342.6
31.7
374.3
$
349.6
33.8
383.4
$
364.6
41.6
406.2
$
379.0
39.4
418.4
Cost of products and services (exclusive of depreciation
and amortization)
Selling, general and administrative expense
Financing and other transaction costs (2)
Intangible asset impairment
Depreciation and amortization
Income from operations
Interest expense, net and loss on extinguishment of debt (3)
Other income, net
Income before income taxes and extraordinary item
Income tax expense
Income before extraordinary item
Extraordinary item, net of tax
Net income
Net income of noncontrolling interest (4)
Net income attributable to common shareholders
(5)
(4)
Income per common share - basic and diluted:
Income per common share before extraordinary item
Extraordinary item per share
Net income per common share - basic and diluted
193.7
111.7
20.8
2.9
121.0
53.4
(77.1)
31.2
7.5
1.4
6.1
–
6.1
0.5
139.3
81.1
2.6
–
88.7
62.6
(49.4)
28.6
41.8
14.8
27.0
–
27.0
0.6
142.3
88.0
–
–
87.2
65.9
(50.7)
27.0
42.2
9.0
33.2
–
33.2
0.6
145.5
104.8
–
–
85.2
70.7
(57.9)
25.5
38.3
12.4
25.9
–
25.9
1.0
143.5
108.8
–
6.1
91.7
68.3
(66.3)
10.8
12.8
6.6
6.2
7.2
13.4
0.9
$
5.6
$
26.4
$
32.6
$
24.9
$
12.5
$
$
$
$
$
0.88
–
0.88
1.09
–
1.09
0.84
–
0.84
0.18
0.24
0.42
$
$
$
$
$
0.15
–
0.15
Weighted-average number of shares - basic and diluted
34,652
29,600
29,490
29,396
29,321
Cash dividends per common share
$
1.55
$
1.55
$
1.55
$
1.55
$
1.55
Consolidated cash flow data:
Cash flows from operating activities
Cash flows used for investing activities
Cash flows used for financing activities
Capital expenditures
Consolidated Balance Sheet:
Cash and cash equivalents
Total current assets
Net property, plant and equipment
Total assets
Total debt (including current portion)
Stockholders' equity
Other financial data (unaudited):
Adjusted EBITDA
(6)
$
123.2
(468.6)
257.5
77.1
$
129.5
(40.8)
(50.7)
41.9
$
116.1
(41.8)
(49.4)
42.9
$
115.7
(41.0)
(47.4)
41.8
$
93.4
(49.0)
(63.3)
49.0
$
17.9
108.5
908.2
1,794.8
1,217.8
136.1
$
105.7
161.9
338.4
1,194.1
884.7
47.8
$
67.7
129.2
363.2
1,209.5
884.1
71.9
$
42.8
102.0
383.1
1,226.6
880.3
80.7
$
15.5
72.1
406.8
1,241.6
881.3
75.3
$
236.2
$
189.5
$
185.6
$
188.8
$
189.8
32
(1) In July 2012, we acquired 100% of the outstanding shares of SureWest Communications (“SureWest”) in a cash
and stock transaction. SureWest results of operations have been included in our consolidated financial
statements as of the acquisition date of July 2, 2012.
(2) Financing and other transaction costs includes costs incurred related to the acquisition of SureWest including
severance costs.
(3) In 2012, we entered into a $350.0 million Senior Unsecured Bridge Loan Facility (“Bridge Facility”) to fund the
SureWest acquisition. During 2012, we incurred $4.2 million of amortization related to the financing costs and
$1.5 million of interest related to ticking fees associated with the Bridge Facility. In addition, in 2012 we
entered into a Second Amendment and Incremental Facility Agreement to amend our term loan facility. As a
result, we incurred a loss on the extinguishment of debt of $4.5 million related to the repayment of our
outstanding term loan.
(4) We adopted the Financial Accounting Standards Board’s (“FASB”) authoritative guidance on the presentation of
noncontrolling interests in consolidated financial statements effective January 1, 2009. This presentation has
been retrospectively applied to all periods presented.
(5) We adopted the FASB’s authoritative guidance on the treatment of participating securities in the calculation of
earnings per share on January 1, 2009. This presentation has been retrospectively applied to all periods
presented.
(6) In addition to the results reported in accordance with accounting principles generally accepted in the United
States (“US GAAP” or “GAAP”), we also use certain non-GAAP measures such as EBITDA and adjusted
EBITDA to evaluate operating performance and to facilitate the comparison of our historical results and trends.
These financial measures are not a measure of financial performance under US GAAP and should not be
considered in isolation or as a substitute for net income (loss) as a measure of performance and net cash provided
by operating activities as a measure of liquidity. They are not, on their own, necessarily indicative of cash
available to fund cash needs as determined in accordance with GAAP. The calculation of these non-GAAP
measures may not be comparable to similarly titled measures used by other companies. Reconciliations of these
non-GAAP measures to the most directly comparable financial measures presented in accordance with GAAP
are provided below.
EBITDA is defined as net earnings before interest expense, income taxes, and depreciation and amortization.
Adjusted EBITDA is comprised of EBITDA, adjusted for certain items as permitted or required under our credit
facility as described in the reconciliations below. These measures are a common measure of operating
performance in the telecommunications industry and are useful, with other data, as a means to evaluate our
ability to fund our estimated uses of cash.
33
The following tables are a reconciliation of net cash provided by operating activities to Adjusted EBITDA:
(In millions, unaudited)
Net cash provided by operating activities
Adjustments:
Non-cash, stock-based compensation
Other adjustments, net
Changes in operating assets and liabilities
Interest expense, net
Income taxes
EBITDA
Adjustments to EBITDA:
Other, net (a)
Investment distributions (b)
Loss on extinguishment of debt (c)
Intangible asset impairment (d)
Extraordinary item (e)
Non-cash, stock-based compensation (f)
2012
Year Ended December 31,
2010
2011
2009
2008
$
123.2
$
129.5
$
116.1
$
115.7
$
93.4
(2.3)
(11.3)
17.6
72.6
1.4
201.2
(3.9)
29.2
4.5
2.9
–
2.3
(2.1)
(11.0)
(0.6)
49.4
14.8
180.0
(21.0)
28.4
–
–
–
2.1
(2.4)
4.2
2.4
50.7
9.0
(1.9)
(1.0)
(1.6)
57.9
12.4
(1.9)
3.8
8.9
66.3
6.6
180.0
181.5
177.1
(24.3)
27.5
–
–
–
2.4
(17.0)
22.4
–
–
–
1.9
(15.1)
17.8
9.2
6.1
(7.2)
1.9
Adjusted EBITDA
$
236.2
$
189.5
$
185.6
$
188.8
$
189.8
(a) Other, net includes the equity earnings from our investments, dividend income, income attributable to
noncontrolling interests in subsidiaries, transaction related costs including severance and certain other
miscellaneous items related to the acquisition of SureWest. 2009 and 2008 also includes expenses associated
with Sarbanes-Oxley maintenance costs, costs to integrate our technology, administrative and customer service
functions and billing systems in connection with the acquisition of North Pittsburgh.
(b) Includes all cash dividends and other cash distributions received from our investments.
(c) Represents the redemption premium and write-off of unamortized debt issuance costs in connection with the
redemption or retirement of our debt obligations.
(d) Represents intangible asset impairment charges recognized during the period.
(e) Upon making the election to discontinue the applicable accounting guidance for regulated enterprises in
accounting for the effects of certain types of regulation, we recognized an extraordinary non-cash gain and began
to apply the authoritative guidance required for the discontinuance of the application of regulatory accounting.
(f) Represents compensation expenses in connection with the issuance of stock awards, which because of their non-
cash nature, these expenses are excluded from Adjusted EBITDA.
34
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations.
Reference is made to Part I, Item 1 “Note About Forward Looking Statements” and Item 1A “Risk Factors” which
describes important factors that could cause actual results to differ from expectations and non-historical information
contained herein. In addition, the following Management’s Discussion and Analysis (“MD&A”) is intended to help
the reader understand the results of operations and financial condition of Consolidated Communications Holdings,
Inc. (“Consolidated”, “the Company”, “we” or “our”). MD&A should be read in conjunction with our audited
consolidated financial statements and accompanying notes to the consolidated financial statements (“Notes”) as of
and for each of the three years in the period ended December 31, 2012 included elsewhere in this Annual Report on
Form 10-K.
Throughout MD&A, we refer to measures that are not a measure of financial performance in accordance with
United States generally accepted accounting principles (“US GAAP” or “GAAP”). We believe the use of these non-
GAAP measures on a consolidated and segment basis provides the reader with additional information that is useful
in understanding our operating results and trends. These measures should be viewed in addition to, rather than as a
substitute for, those measures prepared in accordance with GAAP. See the Non-GAAP Measures section below for a
more detailed discussion on the use and calculation of these measures.
Significant Recent Development
On July 2, 2012, we completed the merger with SureWest Communications (“SureWest”), which resulted in the
acquisition of 100% of all the outstanding shares of SureWest for $23.00 per share in a cash and stock transaction.
The acquisition of SureWest provides additional diversification of the Company’s revenues and cash flows both
geographically and by service type, which offers a platform for future growth and is expected to generate
operational and capital cost synergies. SureWest provides a wide range of telecommunications, digital video,
Internet, data and other facilities-based communications services in Northern California, primarily in the greater
Sacramento region, and in the greater Kansas City, Kansas and Missouri areas. For the year ended December 31,
2011, SureWest reported $248.1 million in total operating revenues. For the six months ended June 30, 2012,
SureWest generated $127.9 million in operating revenues. The total purchase price of $550.8 million consisted of
cash and assumed debt of $402.4 million and 9,965,983 shares of the Company’s common stock valued at the
Company’s opening stock price on July 2, 2012 of $14.89, which totaled $148.4 million. The cash portion of the
merger consideration and the funds required to repay SureWest outstanding debt was financed with the sale of
$300.0 million in aggregate principal amount of 10.875% Senior Notes due 2020 (“Senior Notes”). The Company
also used cash on hand and approximately $35.0 million in borrowings from its revolving credit facility. Because
the acquisition closed on July 2, 2012, the Company’s financial information does not include any of the results of
operations from SureWest prior to the acquisition date. The financial results of SureWest are included in the
Telephone Operations segment as of the date of the acquisition.
Overview
We are an established telecommunications services company providing a wide range of services to residential and
business customers in Illinois, Texas, Pennsylvania, California, Kansas and Missouri. We offer a wide range of
telecommunications services, including local and long-distance service, high-speed broadband Internet access, video
services, digital telephone service (“VOIP”), custom calling features, private line services, carrier grade access
services, network capacity services over our regional fiber optic networks, directory publishing and Competitive
Local Exchange Carrier (“CLEC”) services. We also operate two non-core complementary businesses, prison
services and equipment sales. We classify our operations into two reportable business segments: Telephone
Operations and Other Operations.
Telephone Operations Segment
Our Telephone Operations segment generated approximately 94% of our consolidated operating revenues during
2012, primarily from subscriptions to our voice, video and data services (“broadband services”) to residential and
business customers. Revenues in the Telephone Operations segment increased $129.5 million during 2012 compared
to 2011, primarily from the SureWest acquisition and growth in data, video and Internet connections. We expect our
broadband service revenues to continue to grow as consumer and business demands for data based services increase.
We market our services to residential and business customers, either individually or as a bundled package. Our
“triple play” bundle includes our voice, video and data services. As of December 31, 2012, our video service was
available to approximately 524,000 homes in Illinois, Texas, Pennsylvania, California, Kansas and Missouri
35
markets. As of December 31, 2012, approximately 20% of the homes in the areas we serve subscribe to our video
service. Data and Internet connections continue to increase as a result of enhanced product and service offerings,
such as our VOIP service and data speeds of up to 50 megabits per second, depending on the geographic market
availability.
The increase in Telephone Operations revenues during 2012 was offset in part by an anticipated industry wide trend
of a decline in access lines and related use of services. Many consumers are choosing to subscribe to alternative
communications services and competition for these subscribers continues to increase. Progressively, consumers are
utilizing over-the-top services to download and watch television shows of interest to them on their computers.
Competition from wireless providers, competitive local exchange carriers and in some cases cable television
providers has increased in recent years in the markets we serve. We have been able to mitigate some of the access
line losses through marketing initiatives and product offerings, such as our VOIP service.
Other Operations Segment
Our Other Operations segment is comprised of non-core business activities including prison services and business
systems. Prison services, which operates primarily in Illinois, provides local and long-distance telephone service
and automated calling service to inmates incarcerated at facilities operated by the Illinois Department of
Corrections. On June 27, 2012, the Illinois Department of Central Management Services announced its intent to
replace us as the provider of those services with a competitor. We have challenged our competitor’s bid and the
State’s decision to accept that bid in a variety of different forums. Although we will continue to seek legal recourse
to the State’s decision, our business plans and projections assume that our contract with the State of Illinois will end
during 2013. During 2012, the prison services contract comprised 82% of the operating revenues in our Other
Operations, 5% of consolidated operating revenues and approximately 2% of consolidated operating income,
excluding financing and other transaction fees. Business systems sells and supports telecommunications equipment
to business customers in Texas and Illinois.
Consolidated Results of Operations
The following tables reflect our financial results on a consolidated basis and key operating statistics as of and for the
years ended December 31, 2012, 2011 and 2010.
Financial Data
(In millions, except for percentages)
Revenue
Telephone operations
Other operations
Total operating revenue
Expenses
Telephone operations
Other operations
Transaction/Debt refinancing costs
Impairment of intangible assets
Depreciation and amortization
Total operating expense
Income from operations
Interest expense, net
Loss on extinguishment of debt
Other income
Income tax expense
Net income
Net income attributable to noncontrolling interest
Net income attributable to common stockholders
2012
2011
2010
% Change
2012 vs.
2011
2011 vs.
2010
$
472.1
31.4
503.5
$
342.6
31.7
374.3
$
349.6
33.8
383.4
38 %
(1)
35
(2) %
(6)
(2)
277.4
28.0
20.8
2.9
121.0
450.1
53.4
192.0
28.4
2.6
–
88.7
311.7
62.6
199.1
31.2
–
–
87.2
317.5
65.9
(72.6)
(49.4)
(50.7)
(4.5)
31.2
1.4
6.1
0.5
5.6
$
–
28.6
14.8
27.0
0.6
26.4
$
–
27.0
9.0
33.2
0.6
32.6
$
44
(1)
700
100
36
44
(15)
47
100
9
(91)
(77)
(17)
(79)
(4)
(9)
–
100
2
(2)
(5)
(3)
100
6
64
(19)
0
(19)
Adjusted EBITDA (1)
$
236.2
$
189.5
$
185.6
25 %
2 %
36
(1)A non-GAAP measure. See the Non-GAAP Measures section below for additional information and reconciliation
to the most directly comparable GAAP measure.
Key Operating Statistics
2012
2011
2010
153,855
114,742
268,597
78,811
50,918
129,729
247,633
106,137
752,096
137,179
90,813
227,992
2,388
52,424
54,812
134,129
34,356
451,289
140,660
96,481
237,141
2,957
53,671
56,628
125,678
29,236
448,683
% Change
2012 vs.
2011
2011 vs.
2010
12 %
26
18
(2) %
(6)
(4)
3200
(3)
137
85
209
67
(19)
(2)
(3)
7
18
1
ILEC access lines
Residential
Business
Total
Voice connections (1)
Residential
Business
Total
Data and internet connections (2)
Video connections (2)
Total connections
(1)Voice connections include voice lines outside the Incumbent Local Exchange Carrier (“ILEC”) service areas and
Voice-over-IP inside the ILEC service areas.
(2)These connections include both residential and business (excluding SureWest business metrics) for services both
inside and outside the ILEC service areas.
Consolidated Overview
The comparability of our consolidated results of operations and key operating statistics was impacted by the
SureWest acquisition, which closed on July 2, 2012, as described above. SureWest’s results are included in our
consolidated financial statements as of the date of the acquisition. We also incurred transaction costs directly related
to the SureWest acquisition in 2012. During 2012, we incurred $20.8 million in expense related to the acquisition,
which included change-in-control payments to former members of the SureWest management team of $9.4 million
of which $8.6 million were accrued for at December 31, 2012 and are expected to be paid during the six months
ended June 30, 2013. We also incurred additional interest costs of $24.9 million, which included $19.2 million of
interest incurred on the Senior Notes obtained for the SureWest acquisition, $4.2 million of amortization of fees
related to securing the bridge loan commitment to finance the SureWest acquisition, and $1.5 million of interest
related to ticking fees associated with the bridge loan financing.
Consolidated operating revenue increased $129.2 million during 2012 due to the SureWest acquisition. The
SureWest operations accounted for $133.1 million of the annual increase in operating revenues. The acquisition of
SureWest provides additional diversification of the Company’s revenues and cash flows both geographically and by
service type. Excluding the addition of the operations for SureWest, consolidated operating revenues decreased $3.9
million during 2012. Revenues related to our traditional wireline telephone business decreased due to the continued
decline in access lines, but were partially offset by an increase in video, data and Internet revenue as we continue to
grow our broadband services. The SureWest operations accounted for 296,459 of the total connections at December
31, 2012.
Our operating revenues are also impacted by legislative or regulatory changes at the federal and state levels, which
could reduce or eliminate the current subsidies revenue we receive. A number of proceedings and recent orders
relate to universal service reform, intercarrier compensation and network access charges. There are various ongoing
legal challenges to the orders that have been issued. As a result, it is not yet possible to determine fully the impact
of the regulatory changes on our operations.
Operating expenses increased $138.4 million due to the acquisition of SureWest and the transaction costs directly
related to the acquisition as described above. During 2012, the SureWest operations accounted for $119.5 million of
the year-to-date increases in operating expenses and transaction costs increased $18.2 million.
37
Operating revenues and expenses by segment are discussed below.
Reclassifications
Certain amounts in our 2011 and 2010 consolidated financial statements have been reclassified to conform to the
presentation of our 2012 consolidated financial statements. These reclassifications had no effect on total
shareholders’ equity, total revenue, income from operations or net income.
During 2012, inventories and the related activity were reclassified from current assets to property, plant and
equipment on the consolidated balance sheets and statements of cash flows. Inventories consist primarily of
network construction materials and supplies that when issued are capitalized as part of new customer installations
and the construction of the network. The change in classification of inventories impacts the calculation of certain
financial ratios. Prior period calculations have been revised to conform to the current year presentation.
In addition, the calculation of certain key operating statistics was revised during 2012 to reflect a new methodology
for the Company following the acquisition of SureWest. Accordingly, prior period operating statistics have been
revised to conform to the current practice.
2012 versus 2011
Segment Results of Operations
Telephone Operations
(In millions, except for percentages)
Revenue
Local calling services
Network access services
Subsidies
Long-distance services
Video, data and Internet services
Other services
Total operating revenue
Expenses
Cost of services and products
Selling, general and administrative costs
Financing and other transaction costs
Depreciation and amortization
Total operating expense
Income from operations
2012
2011
$
Change
%
Change
$
93.5
98.6
49.3
17.3
176.7
36.7
472.1
$
84.2
80.5
45.4
15.9
83.0
33.6
342.6
$
9.3
18.1
3.9
1.4
93.7
3.1
129.5
171.4
106.0
20.8
120.2
418.4
53.7
$
116.9
75.1
2.6
87.9
282.5
60.1
$
54.5
30.9
18.2
32.3
135.9
(6.4)
$
11 %
22
9
9
113
9
38
47
41
700
37
48
(11)
Local Calling Services
Telephone Operations Operating Revenue
We offer several different basic local phone service packages for residential and business customers. The plans
include options for voicemail and other custom calling features such as caller ID, call forwarding and call waiting.
Local calling services revenue increased $9.3 million during 2012 compared to 2011 primarily due to the acquisition
of SureWest. Excluding the addition of SureWest revenues, local calling services decreased $8.1 million during
2012 compared to 2011 primarily due to a 3% decline in local access lines. The number of local access lines in
service directly affects the recurring revenue we generate from end users and continues to be impacted by the
industry-wide decline in access lines. We expect to continue to experience modest erosion in access lines due to
market forces and through our own competing VOIP product.
Network Access Services
Network access service revenues include interstate and intrastate switched access revenue, network special access
services and wireless backhaul services. Network access services revenue increased $18.1 million during 2012
compared to 2011 primarily as a result of the acquisition of SureWest, which accounted for $21.3 million of the
annual increase. Excluding the addition of the SureWest revenues, network access services decreased $3.2 million
38
during 2012 compared to 2011 primarily due to a decline in switched access minutes of use and special access
revenue. These decreases were partially offset by an increase in end user and access recovery revenues.
Subsidies
Subsidies consist of federal and state subsidies designed to promote widely available, quality telephone service at
affordable prices in rural areas. Subsidy revenues increased $3.9 million during 2012 compared to 2011 primarily as
a result of the acquisition of SureWest, an increase in high cost fund support and the addition of revenues from the
Connect America Fund in 2012.
Long-Distance Services
We offer a variety of long-distance calling plans, including unlimited flat-rate calling plans, to residential and
business customers. Long-distance services revenue increased $1.4 million during 2012 compared to 2011 primarily
due to the acquisition of SureWest. Excluding the addition of SureWest revenues, long distance services decreased
$2.4 million during 2012 compared to 2011 primarily due to the decline in access lines as described above and the
shift in customers moving to unlimited long-distance plans.
Video, Data and Internet Services
Video, data and Internet services include revenue from residential and business customers for subscriptions to our
voice, video and data products. We offer high speed Internet access at speeds of up to 50 Mbps, depending on the
nature of the network facilities that are available, the level of service selected and the location. We also offer a
variety of data connectivity services in select markets, including Ethernet services over our copper and fiber-based
networks, virtual hosting services and collocation services. Our VOIP digital phone service is also available in
certain markets as an alternative to the traditional telephone line. Depending on geographic market availability, our
video services range from limited basic service to advanced digital television, which includes several plans each
with hundreds of local, national and music channels including premium and pay-per-view channels as well as video
on demand service. Certain subscribers may also subscribe to our advanced video services, which consist of high-
definition television, digital video recorders (“DVR”) and/or a whole home DVR.
Video, data and Internet revenue increased $93.7 million during 2012 compared to 2011 primarily as a result of the
acquisition of SureWest, which accounted for $84.9 million of the annual increase. The increase in revenue was
also due to the continued growth in data and video connections, which increased 7% and 9%, respectively, as of
December 31, 2012. Video, data and Internet revenue comprised 35% of our consolidated revenues in 2012
compared to 22% in 2011. We expect video, data and Internet service revenue to continue to grow as the consumer
and business demand for data based services continues to increase.
Other Services
Other services include revenues from telephone directory publishing, wholesale transport services, billing and
collection services and inside wiring service and maintenance. Other services revenue increased $3.1 million during
2012 compared to 2011. The increase in other services revenue was primarily due to the acquisition of SureWest
and an increase in transport services, which was offset in part by a decline in directory publishing revenues.
Cost of Services and Products
Telephone Operations Operating Expenses
Cost of services and products increased $54.5 million during 2012 compared to 2011 primarily as a result of the
addition of the SureWest operations of $53.0 million as well as higher costs associated with video programming.
Video programming costs continue to increase due to the growth in video connections and an increase in costs per
program channel. During 2012, the increase in video programming costs was offset in part by a reduction in access
costs due to the decline in access lines and usage.
Selling, General and Administrative Costs
Selling, general and administrative costs increased $30.9 million during 2012 compared to 2011 primarily as a result
of the addition of the operations for SureWest, which accounted for $30.1 million of the annual increase. The
remaining increase in selling, general and administrative costs was due to an increase in insurance costs and stock
compensation expense, which were largely offset by a reduction in bad debt expense, utility costs and legal
expenses.
39
Transaction/Debt refinancing costs
In connection with the acquisition of SureWest, we incurred $20.8 million of transaction related fees which were
recognized as a financing and other transaction costs during 2012. In 2011, we amended our credit agreement and
incurred fees of $2.6 million, which were recognized as a financing cost during 2011.
Depreciation and Amortization
Depreciation and amortization expense increased $32.3 million during 2012 compared to 2011, primarily as a result
of the acquisition of SureWest. Excluding the addition of the operations for SureWest, which accounted for $36.4
million of the current year increase, depreciation and amortization expense decreased $4.1 million in 2012 as a result
of circuit equipment and other assets becoming fully depreciated during the year.
Other Operations
(In millions, except for percentages)
Revenue
Expenses
Cost of services and products
Selling, general and administrative costs
Impairment of intangible assets
Depreciation and amortization
Total operating expense
Income (loss) from operations
2012
$
31.4
2011
$
31.7
22.3
5.7
2.9
0.8
31.7
(0.3)
$
22.4
6.0
-
0.8
29.2
2.5
$
$
Change
%
Change
$
(0.3)
(1) %
(0.1)
(0.3)
2.9
-
2.5
(2.8)
$
(0)
(5)
100
0
9
(112)
Other Operations Revenue
Other Operations revenue decreased $0.3 million during 2012 compared to 2011. Declines in revenue from our
equipment system sales and installation business were offset slightly by an in increase in our prison systems
business in the current year.
Other Operations Operating Expenses
Operating expenses for Other Operations increased $2.5 million in 2012 compared to 2011. As discussed in the
Overview section above, our contract as service provider to the Illinois Department of Corrections was not renewed.
Although we will continue to seek legal recourse to the State’s decision, our business plans and projections assume
that our contract with the State of Illinois will end during 2013. As a result, in 2012 as part of our annual
impairment test, we recognized an impairment charge of $2.9 million on our goodwill and tradenames associated
with the Other Operations reporting units.
Non-Operating Items
Other Income and Expense, Net
Interest expense, net of interest income, increased $23.2 million during 2012 compared to 2011. In February 2012,
we entered into a temporary $350.0 million Senior Unsecured Bridge Loan Facility (“Bridge Facility”) to fund the
SureWest acquisition. During 2012 we incurred $4.2 million of amortization related to the financing costs and $1.5
million of interest related to ticking fees associated with the Bridge Facility. In May 2012, we finalized the
financing for the SureWest acquisition and entered into a Senior Note offering (“Senior Notes”), effectively
replacing our Bridge Facility. Interest expense in 2012 included $19.2 million of interest expense related to the
Senior Notes.
In December 2012, we entered into a Second Amendment and Incremental Facility Agreement (the “Second
Amendment”) to amend our term loan facility. Under the terms of the Second Amendment, we issued incremental
term loans in the aggregate amount of $515.0 million and used the proceeds in part to pay off the outstanding term
loan debt that was due to mature December 31, 2014. As a result, we incurred a loss on the extinguishment of debt
of $4.5 million related to the repayment of our outstanding term loan.
Investment income increased by $2.8 million during 2012 compared to 2011 primarily due to higher earnings from
our wireless partnership interests.
40
Income Taxes
Income taxes decreased $13.4 million in 2012 compared to 2011. Our effective rate was 18.9% for 2012 compared
to 35.5% for 2011. The acquisition of SureWest on July 2, 2012 resulted in changes to our unitary state filings and
correspondingly our state deferred income taxes. These changes resulted in a net decrease of $1.1 million to our net
state deferred tax liabilities and a corresponding decrease to our state tax. In addition, we incurred non-deductible
transaction costs in relation to the acquisition that resulted in an increase to our tax provision of $0.8 million.
2011 versus 2010
Segment Results of Operations
Telephone Operations
(In millions, except for percentages)
Revenue
Local calling services
Network access services
Subsidies
Long-distance services
Video, data and Internet services
Other services
Total operating revenue
Expenses
Cost of services and products
Selling, general and administrative costs
Financing and other transaction costs
Depreciation and amortization
Total operating expense
Income from operations
2011
2010
$
Change
%
Change
$
84.2
80.5
45.4
15.9
83.0
33.6
342.6
$
91.0
81.7
48.7
18.0
76.1
34.1
349.6
116.9
75.1
2.6
87.9
282.5
60.1
$
119.0
80.1
-
86.3
285.4
64.2
$
$
(6.8)
(1.2)
(3.3)
(2.1)
6.9
(0.5)
(7.0)
(2.1)
(5.0)
2.6
1.6
(2.9)
(4.1)
$
(7) %
(1)
(7)
(12)
9
(1)
(2)
(2)
(6)
100
2
(1)
(6)
Local Calling Services
Telephone Operations Operating Revenue
Local calling services revenue decreased $6.8 million in 2011 compared to 2010 primarily due to a 4% decline in
local access lines. The number of local access lines in service directly affects the recurring revenue we generate
from end users and continues to be impacted by the industry-wide decline in access lines. We expect to continue to
experience modest erosion in access lines due to market forces and through our own competing VOIP product.
Network Access Services
Network access services revenue decreased $1.2 million in 2011 compared to 2010 primarily due to a decline in
switched access minutes of use as a result of the decline in access lines. These decreases were partially offset by
higher special access revenue.
Subsidies
Subsidy revenues decreased $3.3 million in 2011 compared to 2010 primarily as a result of a reduction in the
amount of Federal Interstate High Cost Fund support we received, and to a lesser extent, a decrease in Federal
interstate common line revenue.
Long-Distance Services
Long-distance services revenue decreased $2.1 million in 2011 compared to 2010 primarily due to the decline in
access lines as described above and the shift in customers moving to unlimited long-distance plans.
Video, Data and Internet Services
Video, data and Internet revenue increased $6.9 million in 2011 compared to 2010. The increase in revenue was due
to the continued growth in data and video connections, which increased 7% and 18%, respectively, as of December
41
31, 2011 compared to 2010.
Other Services
Other services revenue decreased $0.5 million during 2011 compared to 2010. The decrease in other services
revenue was primarily due to a decline in directory publishing revenues, which was offset in part by an increase in
transport services.
Cost of Services and Products
Telephone Operations Operating Expenses
Cost of services and products decreased $2.1 million during 2011 compared to 2010 as higher costs associated with
video programming were offset by declines in network access costs, pension expense and labor costs due to a
reduction in headcount.
Selling, General and Administrative Costs
Selling, general and administrative costs decreased $5.0 million during 2011 compared to 2010 primarily due to a
decrease in employee labor and benefit expenses. In 2011, we completed a reorganization that resulted in a reduction
in headcount and cost reductions gained through the implementation of operational efficiencies. The decrease in
selling, general and administrative costs was also due to lower pension and bad debt expenses as well as a decrease
in rent expense due the renegotiated terms on our leases.
Debt refinancing costs
In 2011, we amended our credit agreement and incurred fees of $2.6 million, which were recognized as a financing
cost during 2011.
Depreciation and Amortization
Depreciation and amortization expense increased $1.6 million during 2011 compared to 2010 primarily due to an
increase in lease expense related to our buildings.
Other Operations
(In millions, except for percentages)
Revenue
Expenses
Cost of services and products
Selling, general and administrative costs
Depreciation and amortization
Total operating expense
Income from operations
2011
$
31.7
2010
$
33.8
$
Change
%
Change
$
(2.1)
(6) %
22.4
6.0
0.8
29.2
2.5
$
23.3
7.9
0.9
32.1
1.7
$
(0.9)
(1.9)
(0.1)
(2.9)
0.8
$
(4)
(24)
(11)
(9)
47
Other Operations Operating Revenue
Other Operations revenue decreased $2.1 million in 2011 compared to 2010. In 2010, we sold our CMR and
Operator Services business units, which accounted for $4.9 of the annual decline in revenues. The decrease in
revenues was offset in part from an increase in our prison systems business in the 2011.
Other Operations operating expenses decreased $2.9 million in 2011 compared to 2010. The decrease was primarily
the result of cost savings realized through the sale of our CMR and Operator Services business units in 2010.
Other Operations Operating Expenses
Non-Operating Items
Other Income and Expense, Net
Interest expense, net of interest income, decreased $1.3 million in 2011 compared to 2010. The decrease in interest
in 2011 was due in part to the expiration of $200 million of fixed interest rate swaps as the fixed rates paid on the
swaps were at a significantly higher rate than the rates we received in return, as well as lower overall interest rates in
42
general. Interest expense in 2010 benefited from the reversal of $1.4 million of interest expense related to uncertain
tax positions for which the statute of limitations expired on September 15, 2010. Had this reversal in 2010 not
occurred, our 2011 interest expense would have shown a larger decrease when comparing 2011 to 2010.
Investment income increased by $1.6 million in 2011 compared to 2010. The increase in the current year periods
was due primarily to higher earnings from our wireless partnership interests and $0.6 million of net proceeds from a
key-man life insurance policy.
Income Taxes
Income taxes increased $5.8 million in 2011 compared to 2010. Our effective rate was 35.5% for 2011 and 21.3%
for 2010. During 2011 and 2010, we recorded a decrease of $0.3 million and a net decrease of $4.6 million to our
unrecognized tax benefits, respectively, which reduced our tax expense by a corresponding amount. The 2011
decrease related to the expiration of a federal statute of limitations and the 2010 net decrease included a $5.4 million
decrease due to the expiration of a federal statute of limitations and an increase of $1.2 million related to 2009 state
income tax filings with a corresponding $0.4 million of related federal deferred tax asset.
Non-GAAP Measures
In addition to the results reported in accordance with US GAAP, we also use certain non-GAAP measures such as
EBITDA and adjusted EBITDA to evaluate operating performance and to facilitate the comparison of our historical
results and trends. These financial measures are not a measure of financial performance under US GAAP and should
not be considered in isolation or as a substitute for net income as a measure of performance and net cash provided by
operating activities as a measure of liquidity. They are not, on their own, necessarily indicative of cash available to
fund cash needs as determined in accordance with GAAP. The calculation of these non-GAAP measures may not be
comparable to similarly titled measures used by other companies. Reconciliations of these non-GAAP measures to
the most directly comparable financial measures presented in accordance with GAAP are provided below.
EBITDA is defined as net earnings before interest expense, income taxes, and depreciation and amortization.
Adjusted EBITDA is comprised of EBITDA, adjusted for certain items as permitted or required under our credit
facility as described in the reconciliations below. These measures are a common measure of operating performance
in the telecommunications industry and are useful, with other data, as a means to evaluate our ability to fund our
estimated uses of cash.
43
The following tables are a reconciliation of net cash provided by operating activities to adjusted EBITDA for the
years ended December 31, 2012, 2011 and 2010:
(In thousands, unaudited)
Net cash provided by operating activities
Adjustments:
Non-cash, stock-based compensation
Other adjustments, net
Changes in operating assets and liabilities
Interest expense, net
Income taxes
EBITDA
Adjustments to EBITDA:
Other, net (1)
Investment distributions
Loss on extinguishment of debt
Impairment of intangible assets
Non-cash, stock-based compensation (3)
(2)
Year Ended December 31,
2011
2012
2010
$
123,215
$
129,504
$
116,142
(2,348)
(11,340)
17,620
72,604
1,436
201,187
(3,884)
29,217
4,455
2,923
2,348
(2,132)
(11,010)
(635)
49,394
14,845
179,966
(2,363)
4,193
2,322
50,740
8,991
180,025
(21,052)
(24,247)
28,410
-
-
2,132
27,479
-
-
2,363
Adjusted EBITDA
$
236,246
$
189,456
$
185,620
(1) Other, net includes the equity earnings from our investments, dividend income, income attributable to
noncontrolling interests in subsidiaries, transaction related costs including severance and certain other
miscellaneous items.
Includes all cash dividends and other cash distributions received from our investments.
(2)
(3) Represents compensation expenses in connection with issuance of stock awards, which because of the non-
cash nature of these expenses are excluded from adjusted EBITDA.
Outlook and Overview
Liquidity and Capital Resources
Our operating requirements have historically been funded from cash flows generated from our business and
borrowings under our credit facilities. We expect that our future operating requirements will continue to be funded
from cash flows from operating activities, existing cash and cash equivalents, and, if needed, from borrowings under
our revolving credit facility and our ability to obtain future external financing. We anticipate that we will continue
to use a substantial portion of our cash flow to fund capital expenditures, meet scheduled payments of long-term
debt, make dividend payments and to invest in future business opportunities.
The following table summarizes our cash flows:
Cash flows provided by (used in):
Operating activities:
Investing activities
Financing activities
Years Ended December 31,
2011
2012
2010
$
123,215
$
129,504
$
116,142
(468,559)
257,494
(40,801)
(50,653)
(41,817)
(49,429)
Increase (decrease) in cash and cash equivalents
$
(87,850)
$
38,050
$
24,896
Cash Flows Provided by Operating Activities
Net cash provided by operating activities was $123.2 million in 2012, a decrease of $6.3 million as compared to
2011. Cash provided by operating activities decreased as the additional cash flows provided by the addition of the
SureWest operations were more than offset by payments of $12.6 million for transaction costs incurred related to
44
acquisition of SureWest and an increase in interest payments of $16.5 million due to an increase in our outstanding
debt.
Cash Flows Used In Investing Activities
Net cash used in investing activities was $468.6 million during 2012 and consisted primarily of cash used for
acquisitions, capital expenditures and investments.
Acquisition of SureWest
In 2012, we acquired 100% of the outstanding shares of SureWest for $23.00 per share in a cash and stock
transaction. The purchase price consisted of cash and assumed debt of $385.3 million, net of cash acquired, and the
issuance of shares of the Company’s common stock valued at $148.4 million. The cash portion of the purchase price
and the funds required to repay SureWest’s outstanding debt was financed with the sale of $300.0 million in
aggregate principal amount of 10.875% Senior Notes due 2020 (“Senior Notes”), as described below. The Company
also used cash on hand and approximately $35.0 million in borrowings from its revolving credit facility.
Capital Expenditures
Capital expenditures continue to be our primary recurring investing activity and were $77.1 million in 2012, an
increase of $35.2 million compared to 2011. The increase in capital expenditures was due to the addition of the
SureWest operations, increased investment in business services and growth in residential customers. We plan to
continue our capital investment in business services in order to optimize new long-term revenue opportunities and
support the growth in wireless backhaul services. Capital expenditures for 2013 are expected to be $100.0 million to
$110.0 million of which 62% is planned for success-based capital projects for residential and commercial initiatives.
Investments
In addition to our core business, we also derive a significant portion of our cash flow and earnings from investments
in five wireless partnerships. In 2012, we purchased an additional ownership interest in our equity investment of
GTE Mobilnet of Texas RSA #17 Limited Partnership for $6.7 million which increased our ownership from 17.02%
to 20.51%.
Cash Flows Provided by Financing Activities
Net cash provided by financing activities consists primarily of our proceeds and principal payments on long-term
borrowings and the payment of dividends.
Long-term Debt
The following table summarizes our indebtedness as of December 31, 2012:
(In thousands)
Senior Notes, net of discount
Term loan 2
Term loan 3, net of discount
Capital leases
Balance
$ 298,127
404,961
509,912
Maturity Date
June 1, 2020
December 31, 2017
December 31, 2018
4,844 May 31, 2021
$ 1,217,844
Rate(1)
10.875%
LIBOR plus 4.00%
LIBOR plus 4.00%
(2)
13.32%
(1) At December 31, 2012, the 1-month London Interbank Offered Rate (“LIBOR”) in effect on our
borrowings was 0.22%. The Term 3 loan is also subject to a 1.25% LIBOR floor.
(2) Weighted-average rate.
Credit Facilities
The Company, through certain of its wholly owned subsidiaries, has an outstanding credit agreement with several
financial institutions, which consists of a $50.0 million revolving credit facility and outstanding term loans of $914.9
million at December 31, 2012. The credit facility also includes an incremental term loan facility which provides the
ability to borrow up to $300.0 million of incremental term loans. As of December 31, 2012 and 2011, no amounts
were outstanding under the revolving credit facility. Borrowings under the senior secured credit facility are secured
by substantially all of the assets of the Company, with the exception of Illinois Consolidated Telephone Company
and our majority-owned subsidiary, East Texas Fiber Line Incorporated.
45
Our term loans under the credit facility, as amended, were issued in three separate tranches, resulting in different
maturity dates and interest rate margins for each term loan. Prior to being refinanced in December 2012, the first
term loan (“Term 1”) consisted of an original aggregate principal amount of $470.9 million maturing on December
31, 2014 and had an applicable margin (at our election) equal to either 2.50% for a LIBOR-based term loan or
1.50% for an alternative base rate loan. The Term 1 loan required quarterly principal payments of $1.2 million
which began on March 31, 2012. The second term loan (“Term 2”) consists of an original aggregate principal
amount $409.1 million, matures on December 31, 2017 and currently has an applicable margin (at our election)
equal to either 4.00% for a LIBOR-based term loan or 3.00% for an alternative base rate term loan. The Term 2
loan also requires $1.0 million in quarterly principal payments which began on March 31, 2012.
In December 2012, we entered into the Second Amendment to amend our credit agreement. Under the terms of the
Second Amendment, we issued incremental term loans (“Term 3”) in the aggregate amount of $515.0 million, with a
maturity date of December 31, 2018, and used the proceeds in part to repay the outstanding Term 1 loan debt of
$467.4 and to repay the amounts outstanding under our revolving loan in the amount of $35.0 million. The Term 3
loan requires quarterly principal payments of $1.3 million commencing March 31, 2013 and has an applicable
margin (at our election) equal to either 4.00% for a LIBOR-based term loan or 3.00% for an alternative base rate
term loan subject to 1.25% LIBOR floor. The Term 3 loan contains an original issuance discount of $5.2 million,
which will be amortized over the term of the loan. In connection with entering into the Second Amendment, fees of
$4.2 million were capitalized as deferred debt issuance costs. We also incurred a loss on the extinguishment of debt
of $4.5 million related to the repayment of our outstanding Term 1loan during the year ended December 31, 2012.
Our revolving credit facility has a maturity date of June 8, 2016 and an applicable margin (at our election) of
between 2.75% and 3.50% for LIBOR-based borrowings and between 1.75% and 2.50% for alternative base rate
borrowings, depending on our leverage ratio. Based on our leverage ratio at December 31, 2012, the borrowing
margin for the next three month period ending March 31, 2013 will be at a weighted-average margin of 3.25% for a
LIBOR-based loan or 2.25% for an alternative base rate loan. The applicable borrowing margin for the revolving
credit facility is adjusted quarterly to reflect the leverage ratio from the prior quarter-end. During the year ended
December 31, 2012, we borrowed $35.0 million of the revolving credit facility in connection with the acquisition of
SureWest, which was repaid with the proceeds from the issuance of the incremental Term 3 loan in December 2012
as described above. There were no borrowings or letters of credit outstanding under the revolving credit facility as
of December 31, 2012 and 2011.
The weighted-average interest rate on outstanding borrowings under our credit agreement was 4.79% and 3.38% at
December 31, 2012 and 2011, respectively. Interest is payable at least quarterly.
Net proceeds from asset sales exceeding certain thresholds, to the extent not reinvested, are required to be used to
repay loans outstanding under the credit agreement.
Covenant Compliance
The credit agreement contains various provisions and covenants, including, among other items, restrictions on the
ability to pay dividends, incur additional indebtedness, and issue capital stock. We have agreed to maintain certain
financial ratios, including interest coverage, and total net leverage ratios, all as defined in the credit agreement. As
of December 31, 2012, we were in compliance with the credit agreement covenants.
Effective February 17, 2012, we amended our credit facility to provide us with the ability to incur indebtedness
necessary to finance the acquisition of SureWest, which enabled us to issue the Senior Notes described below. In
connection with the amendment, fees of $3.5 million were recognized as financing and other transaction costs
during the quarter ended March 31, 2012.
In general, our credit agreement restricts our ability to pay dividends to the amount of our Available Cash (as
defined in our credit agreement) accumulated after October 1, 2005, plus $23.7 million and minus the aggregate
amount of dividends paid after July 27, 2005. Based on the results of operations from October 1, 2005 through
December 31, 2012, and after taking into consideration dividend payments (including the $15.4 million dividend
declared in November 2012 and paid on February 1, 2013), we continue to have $192.8 million in dividend
availability under the credit facility covenant.
Under our credit agreement, if our total net leverage ratio (as defined in the credit agreement), as of the end of any
fiscal quarter, is greater than 5.10:1.00, we will be required to suspend dividends on our common stock unless
otherwise permitted by an exception for dividends that may be paid from the portion of proceeds of any sale of
46
equity not used to fund acquisitions, or make other investments. During any dividend suspension period, we will be
required to repay debt in an amount equal to 50.0% of any increase in Available Cash, among other things. In
addition, we will not be permitted to pay dividends if an event of default under the credit agreement has occurred
and is continuing. Among other things, it will be an event of default if our interest coverage ratio as of the end of
any fiscal quarter is below 2.25:1.00. As of December 31, 2012, our total net leverage ratio was 4.34:1.00, and our
interest coverage ratio was 3.77:1.00.
Senior Notes
On May 30, 2012, we completed an offering of $300.0 million aggregate principal amount of 10.875% Senior Notes
due 2020 through our wholly-owned subsidiary, Consolidated Communications Finance Co. (“Finance Co.”). The
Senior Notes were sold in the United States to qualified institutional buyers pursuant to Rule 144A under the
Securities Act of 1933 (the “Securities Act”) and outside the Unites States in compliance with Regulation S under
the Securities Act. In addition, some of the Senior Notes were sold to certain “accredited investors” (as defined in
Rule 501 under the Securities Act). The Senior Notes were sold to investors at a price equal to 99.345% of the
principal amount thereof, for a yield to maturity of 11.00%. Upon closing of the SureWest acquisition on July 2,
2012, Finance Co. merged with and into our wholly-owned subsidiary Consolidated Communications, Inc., which
assumed the Senior Notes, and we and certain of our subsidiaries also fully and unconditionally guaranteed the
Senior Notes. On August 3, 2012, SureWest and its subsidiaries guaranteed the Senior Notes. The net proceeds of
the Senior Notes were used to finance the acquisition of SureWest. The Senior Notes will mature on June 1, 2020.
Interest is payable on the Senior Notes at a rate of 10.875% per year, payable semi-annually in arrears on June 1 and
December 1 of each year, commencing on December 1, 2012. The indenture governing the Senior Notes contains
customary covenants for high yield notes, which limits Consolidated Communications, Inc.’s and its restricted
subsidiaries’ ability to:
(cid:120)
(cid:120)
(cid:120)
incur debt or issue certain preferred stock;
pay dividends or make other distributions on capital stock or prepay subordinated indebtedness;
purchase or redeem any equity interests;
(cid:120) make investments;
(cid:120)
(cid:120)
(cid:120)
(cid:120)
(cid:120)
(cid:120)
create liens;
sell assets;
enter into agreements that restrict dividends or other payments by restricted subsidiaries;
consolidate, merger or transfer all or substantially all of its assets;
engage in transactions with its affiliates; or
enter into any sale and leaseback transactions.
Capital Leases
As of December 31, 2012, we had five capital leases, of which four expire in 2021 and one will expire in 2015. As
of December 31, 2012, the present value of the minimum remaining lease commitments was $4.8 million, of which
$0.4 million was due and payable within the next twelve months. The leases require total remaining rental payments
of approximately $8.1 million over the remaining term of the leases.
Dividends
We paid $54.1 million and $46.3 million for dividend payments to shareholders during 2012 and 2011, respectively.
On March 1, 2013, our board of directors declared its next quarterly dividend of $0.38738 per common share, which
is payable on May 1, 2013 to stockholders of record at the close of business on April 15, 2013. Our current annual
dividend rate is approximately $1.55 per share.
The cash required to fund dividend payments is in addition to our other expected cash needs, which we expect to
fund with cash flows from our operations. In addition, we expect we will have sufficient availability under our
revolving credit facility to fund dividend payments in addition to any expected fluctuations in working capital and
other cash needs, although we do not intend to borrow under this facility to pay dividends.
We believe that our dividend policy will limit, but not preclude, our ability to grow. If we continue paying
dividends at the level currently anticipated under our dividend policy, we may not retain a sufficient amount of cash,
47
and may need to seek refinancing, to fund a material expansion of our business, including any significant
acquisitions or to pursue growth opportunities requiring capital expenditures significantly beyond our current
expectations. In addition, because we expect a significant portion of cash available will be distributed to holders of
common stock under our dividend policy, our ability to pursue any material expansion of our business will depend
more than it otherwise would on our ability to obtain third-party financing.
Sufficiency of Cash Resources
The following table sets forth selected information regarding our financial condition.
(In thousands, except for ratio)
Cash and cash equivalents
Working capital (deficit)
Current ratio
December 31,
2012
2011
$
$
17,854
(35,653)
0.75
105,704
76,660
1.90
Our net working capital position decreased $112.3 million at December 31, 2012 compared to December 31, 2011.
Our decreased working capital position in 2012 was principally the result of the decrease in cash and cash
equivalents of $87.9 million primarily as a result of cash used to fund the acquisition of SureWest and the additional
financing and transaction costs incurred related to the acquisition. The remainder of the decrease in our working
capital position for 2012 was related to an increase in accounts payable and accrued expenses, which included
accrued change-in-control payments to former members of the SureWest management team of $8.6 million and are
expected to be paid during the six months ended June 30, 2013.
Our most significant use of funds in 2013 is expected to be for: (i) dividend payments of between $62.0 million and
$64.0 million; (ii) interest payments on our indebtedness of between $80.0 million and $85.0 million and principal
payments on debt of $9.2 million; (iii) capital expenditures of between $100.0 million and $110.0 million and (iv)
pension and other post-retirement obligations of $14.0 million. However, in the future our ability to use cash may
be limited by our other expected uses of cash, including our dividend policy, and our ability to incur additional debt
will be limited by our existing and future debt agreements.
While we expect the SureWest acquisition to be de-leveraging, it was necessary for us to take on additional debt to
fund the transaction. We believe that cash flows from operating activities, together with our existing cash and
borrowings available under our revolving credit facility will be sufficient for at least the next twelve months to fund
our current anticipated uses of cash. After that, our ability to fund these expected uses of cash and to comply with
the financial covenants under our debt agreements will depend on the results of future operations, performance and
cash flow. Our ability to fund these expected uses from the results of future operations will be subject to prevailing
economic conditions and to financial, business, regulatory, legislative and other factors, many of which are beyond
our control.
We may be unable to access the cash flows of our subsidiaries since certain of our subsidiaries are parties to credit
or other borrowing agreements, or subject to statutory or regulatory restrictions, that restrict the payment of
dividends or making intercompany loans and investments, and those subsidiaries are likely to continue to be subject
to such restrictions and prohibitions for the foreseeable future. In addition, future agreements that our subsidiaries
may enter into governing the terms of indebtedness may restrict our subsidiaries’ ability to pay dividends or advance
cash in any other manner to us.
To the extent that our business plans or projections change or prove to be inaccurate, we may require additional
financing or require financing sooner than we currently anticipate. Sources of additional financing may include
commercial bank borrowings, other strategic debt financing, sales of nonstrategic assets, vendor financing or the
private or public sales of equity and debt securities. There can be no assurance that we will be able to generate
sufficient cash flows from operations in the future, that anticipated revenue growth will be realized, or that future
borrowings or equity issuances will be available in amounts sufficient to provide adequate sources of cash to fund
our expected uses of cash. Failure to obtain adequate financing, if necessary, could require us to significantly reduce
our operations or level of capital expenditures which could have a material adverse effect on our financial condition
and the results of operations.
Surety Bonds
In the ordinary course of business, we enter into surety, performance, and similar bonds as required by certain
jurisdictions in which we provide services. As of December 31, 2012, we had approximately $2.9 million of these
48
bonds outstanding.
Contractual Obligations
As of December 31, 2012, our contractual obligations were as follows:
(In thousands)
Long-term debt
Interest on long-term debt (1)
Interest rate swaps (2)
Capital leases
Operating leases
Unconditional purchase obligations:
Unrecorded (3)
Recorded (4)
Pension funding
Less than
1 Year
1 - 3
Years
$
9,240
$
18,481
3 - 5
Years
402,990
$
Thereafter
$
789,250
Total
1,219,961
$
76,656
151,984
150,212
107,532
486,384
4,840
983
2,375
18,764
47,786
13,992
2,243
1,985
3,243
–
1,850
830
19,628
18,000
–
–
–
–
–
3,322
1,233
–
–
–
7,083
8,140
7,681
56,392
47,786
13,992
(1)Interest on long-term debt includes amounts due on fixed and variable rate debt. As the rates on our variable
debt are subject to change, the rates in effect at December 31, 2012 were used in determining our future
interest obligations.
(2)Scheduled based on settlements estimated using yield curves in effect at December 31, 2012.
(3) Unrecorded purchase obligations include binding commitments for future capital expenditures and service
and maintenance agreements to support various computer hardware and software applications and certain
equipment. If we terminate any of the contracts prior to their expiration date, we would be liable for
minimum commitment payments as defined in by the contractual terms of the contracts.
(4) Recorded obligations include amounts in accounts payable and accrued expenses for external goods and
services received as of December 31, 2012 and expected to be settled in cash.
Defined Benefit Pension Plans
As required, we contribute to qualified defined pension plans and non-qualified supplemental retirement plans
(collectively the “Pension Plans”) and other post-retirement benefit plans, which provide retirement benefits to
certain eligible employees. Contributions are intended to provide for benefits attributed to service to date. Our
funding policy is to contribute annually an actuarially determined amount consistent with applicable federal income
tax regulations.
The cost to maintain our Pension Plans and future funding requirements are affected by several factors including the
expected return on investment of the assets held by the Pension Plan, changes in the discount rate used to calculate
pension expense and the amortization of unrecognized gains and losses. Returns generated on Plan assets have
historically funded a significant portion of the benefits paid under the Pension Plans. For 2012, the estimated long-
term rate of return of Plan assets was 7.7%. As of January 1, 2013, we estimate the long-term rate of return of Plan
assets will be 8.0%. However, the significant decline in the equity markets precipitated by the credit crisis in recent
years has negatively affected the value of our Pension Plan assets. The Pension Plans invest in marketable equity
securities which are exposed to changes in the financial markets. If the financial markets experience a downturn and
returns fall below our estimate, as seen in recent years, we could be required to make a material contribution to the
Pension Plan, which could adversely affect our cash flows from operations.
Net pension and post-retirement costs were $4.6 million, $4.0 million and $5.6 million for the years ended
December 31, 2012, 2011 and 2010, respectively. We contributed $15.2 million and $9.5 million in 2012 and 2011,
respectively to our pension plans and did not make a contribution in 2010. For our other post-retirement plans, we
contributed $3.2 million and $3.6 million in 2012 and 2011, respectively. In July of 2012, the Moving Ahead for
Progress in the 21st Century Act (“MAP-21”), which includes pension funding stabilization provisions, was signed
into law. These provisions establish an interest rate corridor which is designed to stabilize the segment rates used to
determine minimum funding requirements from the effects of interest rate volatility, which is may reduce the
Company’s minimum required pension contributions in the near-term. In 2013, we expect to make contributions
totaling approximately $11.5 million to our pension plans and $2.5 million to our other post-retirement plans. Our
49
contribution amounts meet the minimum funding requirements as set forth in employee benefit and tax laws. See
Note 9 for a more detailed discussion regarding our pension and other post-retirement plans.
Income Taxes
The timing of cash payments for income taxes, which is governed by the Internal Revenue Service and other taxing
jurisdictions, will differ from the timing of recording tax expense and deferred income taxes, which are reported in
accordance with GAAP. For example, tax laws in effect regarding accelerated or “bonus” depreciation for tax
reporting resulted in less cash payments than the GAAP tax expense. Acceleration of tax deductions could
eventually result in situations where cash payments will exceed GAAP tax expense.
It is more likely than not that the benefit from approximately $1.5 million in federal NOL carryforwards that are
subject to separate return limitation year restrictions will not be realized. This loss carryover can only be used
against consolidated taxable income to the extent of a single member's contribution to consolidated taxable income.
The amount considered realizable, however, could be adjusted if estimates of future taxable income for the single
member during the carryforward period are increased.
Historically, pre-tax earnings for financial reporting purposes have exceeded the amount of taxable income reported
for income tax purposes. This has primarily occurred due to the acceleration of depreciation deductions for income
tax reporting purposes.
Related Party Transactions
A portion of the Senior Notes was sold to certain accredited investors consisting of the Company’s Chairman of the
BOD and certain other members of the BOD, including the Company’s Chief Executive Officer (collectively
“related parties”). The related parties purchased $10.8 million of the Senior Notes on same terms available to other
investors, except that the related parties were not entitled to registration rights. During 2012, the Company paid $0.6
million in interest in the aggregate to the related parties for the Senior Notes.
In December 2010, we entered into new lease agreements with LATEL for the occupancy of three building on a
triple net lease basis with maturity date of May 31, 2021 which we accounted as capital leases. Each of the three
lease agreements have two five-year options to extend the terms of the lease after the expiration date. The Chairman
of the Company, Richard A. Lumpkin, and his immediate family have a beneficial ownership interest of 70.7% in
2012 and 2011 of LATEL, directly or through Agracel, Inc. (“Agracel”). Agracel is real estate investment company
of which Mr. Lumpkin, together with his family, have a beneficial interest of 41.3% in 2012 and 2011. Agracel is
the sole managing member and 50% owner of LATEL. In addition, Mr. Lumpkin is a director of Agracel. The three
leases require total rental payments to LATEL of approximately $7.9 million over the term of the leases. The
carrying value of the capital leases at December 31, 2012 and 2011 was approximately $3.8 million and $4.0
million, respectively. In 2012 and 2011, we recognized $0.5 million in interest expense and $0.4 million and $0.1
million in amortization expense, respectively, related to the capitalized leases.
Regulatory Matters
An order adopted by the Federal Communications Commission (“FCC”) in 2011 (the “Order”) may significantly
impact the amount of support revenue we receive from Universal Service Fund (“USF”)/Connect America Fund
(“CAF”) and intercarrier compensation (“ICC”). The Order reformed core parts of the USF, broadly recast the
existing ICC scheme and established the CAF to replace support revenues provided by the current USF and redirects
support from voice services to broadband services. In 2012, the first phase of the CAF was implemented freezing
USF support to a price cap holding company until the FCC implements a broadband cost model to shift support from
voice service to broadband, which could be as early as July, 2013. We anticipate that our revenues will be
significantly impacted when the broadband cost model is implemented. The order also modifies the methodology
used for ICC traffic exchanged between carriers. The initial phase of ICC reform was effective on July 1, 2012,
beginning the transition of our terminating switched access rates to bill-and-keep over a seven year period. As a
result of implementing the provisions of the Order, our 2012 network access revenues decreased approximately
$972 thousand. We anticipate network access revenues will continue to decline as a result of the Order through
2018 and could be as much as $1.9 million, $805 thousand, $936 thousand, $1.0 million, $2.5 million and $618
thousand in 2013, 2014, 2015, 2016, 2017 and 2018, respectively.
50
Critical Accounting Estimates
Our significant accounting policies and estimates are discussed in the Notes to our Consolidated Financial
Statements. We prepare our consolidated financial statements in accordance with generally accepted accounting
principles in the United States. The preparation of financial statements requires management to make estimates and
assumptions that affect reported amounts of assets, liabilities, revenues and expenses. These estimates and
assumptions are affected by management’s application of our accounting policies. Our judgments are based on
historical experience and various other assumptions that are believed to be reasonable under the circumstances, the
results of which form the basis for making estimates about the carrying values of assets and liabilities that are not
readily apparent from other sources. However, because future events and the related effects cannot be determined
with certainty, actual results may differ from our estimates and assumptions and such differences could be material.
Management believes that the following accounting estimates are the most critical to understanding and evaluating
our reported financial results.
Indefinite-Lived Intangibles Assets
Goodwill and tradenames are intangible assets that are not subject to amortization and are tested for impairment
annually or more frequently when events or changes in circumstances indicate that the asset might be impaired. We
evaluate the carrying value of our indefinite-lived assets, tradenames and goodwill, as of November 30 of each year.
Goodwill
As discussed more fully in Note 1, goodwill is not amortized but instead evaluated annually, or more frequently if an
event occurs or circumstances change that would indicate potential impairment, for impairment using a preliminary
qualitative assessment and two-step process, if deemed necessary. In 2012, we adopted Accounting Standards
Update No. 2011-08 – Intangibles-Goodwill and Other (Topic 350) Testing Goodwill for Impairment, that allows an
entity to consider qualitative indicators to determine if the current two-step test is necessary. Under the provisions
of the amended guidance, the step-one test of estimating the fair value of a reporting unit is not required unless, as a
result of the qualitative assessment, it is more likely than not (a likelihood of more than 50%) that the fair value of
the reporting unit is less than its carrying amount. Events and circumstances integrated into the qualitative
assessment process include a combination of macroeconomic conditions affecting equity and credit markets,
significant changes to the cost structure, overall financial performance and other relevant events affecting the
reporting unit. A company is permitted to skip the qualitative assessment at its election, and proceed to Step 1 of the
quantitative test, which we choose to do in 2012.
Functional management within the organization evaluates the operations of the Telephone Operations segment on a
consolidated basis rather than at a geographic level or on any other component basis. In general, product managers
and cost managers are responsible for managing costs and services across territories rather than treating the
territories as separate business units. The operations of our Illinois, Texas, Pennsylvania, California, Kansas and
Missouri properties share network operations monitoring call routing and research and development costs. The
operations of our Illinois, Texas and Pennsylvania properties share remittance, customer service and billing
systems. We are in the process of integrating the California, Kansas and Missouri cash remittance, customer service
and billing system into the systems and process used by the Illinois, Texas and Pennsylvania properties, which is
expected to be completed by June 30, 2014. All of the properties are managed at a functional level. In addition, the
Pennsylvania territories receive their video programming from a video head-end located in the Illinois territory, and
all of the networks provide redundancy. As a result the Telephone Operations of our Illinois, Texas and
Pennsylvania, California territories and our Pennsylvania, California, Kansas and Missouri CLEC operations are
included in a single reporting unit, Telephone Operations (“TORU”).
The only reporting units in the Other Operations segment that had a goodwill intangible balance as of our valuation
date were our Prison Services and Business Systems entities.
At our November 30, 2012 assessment date, the carrying value of goodwill allocated to TORU, Prison Services and
Business Systems was $605.0 million, $0.2 million and $0.8 million, respectively.
Telephone Operations Reporting Unit
The estimated fair value of the TORU is determined using a combination of market-based approaches and a
discounted cash flow (“DCF”) model. The assumptions used in the estimate of fair value are based upon a
combination of historical results and trends, new industry developments, future cash flow projections, as well as
relevant comparable company earnings multiples for the market-based approaches. Such assumptions are subject to
51
change as a result of changing economic and competitive conditions. The market-based approaches used in the
valuation effort includes the publicly-traded market capitalization, guideline public companies, and guideline
transaction methods. We use a weighting of the results derived from the valuation approaches to estimate the fair
value of the TORU. Key assumptions used in the DCF model include the following:
(cid:120) cash flow assumptions regarding investment in network facilities, distribution channels and customer
base (the assumptions underlying these inputs are based upon a combination of historical results and
trends, new industry developments and the Company’s business plans);
(cid:120) 7.6% weighted average cost of capital based on comparable public companies and adjusting for risks
unique to the TORU and the cash flow assumptions utilized in the analysis; and
(cid:120) 2.0% terminal growth rate.
At November 30, 2012 the fair value of the TORU’s total equity was estimated at approximately $806.0 million on a
control basis, and the associated carrying value of its equity was $156.7 million. For all valuation methods used,
TORU’s fair value of equity exceeds its carrying value. The use of different estimates or assumptions in the DCF
model could result in a different fair value conclusion. As a sensitivity calculation, if the discount rate in our DCF
model was increased 1.0 percentage point from 7.6% to 8.6%, the fair value would decrease from approximately
$806.0 million to approximately $702.7 million, which would not result in an impairment of goodwill recorded at
the TORU, assuming there are no changes to the market-based approaches used in the valuation. Assuming the
discount rate in our DCF model was increased 2.0 percentage points, the terminal growth rate decreased by 1.0
percentage point, and each of the market-based valuation approaches decreased in value by 5%, the fair value of
approximately $806.0 million would decrease by approximately $238.4 million to approximately $567.5 million,
which would not result in an impairment of goodwill recorded at the TORU. As discussed above, the other market-
based approaches are subject to change as a result of changing economic and competitive conditions. Negative
changes relating to the Telephone Operations could result in potential impairment of goodwill recorded at the
TORU. Changes in the overall weighting of the DCF model and the market-based approach valuation models may
also impact the resulting fair value and could result in potential impairment of goodwill recorded at the TORU.
Prison Services Reporting Unit
We used a DCF model to estimate the fair value of the Prison Services reporting unit’s total equity on a control basis
as of November 30, 2012. The DCF model and the determination of the reporting units fair value was negatively
impacted by the cancellation of the state of Illinois Prison Services contract which is expected to be fully terminated
during the year ending December 31, 2013. Based on this analysis, the carrying value of the Prison Services
reporting unit exceeded its fair value indicating that a potential impairment of goodwill may exist.
The second step of the goodwill impairment testing compares the implied fair value of the reporting unit goodwill
with the carrying amount of that goodwill. The implied fair value is determined by allocating the fair value of the
reporting unit to all of the assets and liabilities other than goodwill in a manner similar to a purchase price
allocation. The excess of the fair value of a reporting unit over the amounts assigned to its assets and liabilities is the
implied fair value of goodwill. If the carrying amount of goodwill is greater than the implied fair value of that
goodwill, then an impairment charge would be recorded equal to the difference between the implied fair value and
the carrying value. Based on this analysis, we determined that the implied fair value of the Prison Services reporting
unit’s goodwill was reasonably estimated at approximately zero as of November 30, 2012, and that the carrying
value of approximately $0.2 million was fully impaired. We therefore recorded an impairment charge of $0.2
million during the quarter ended December 31, 2012 related to the Prison Services reporting unit’s goodwill amount,
resulting in a zero goodwill balance for the Prison Services reporting unit as of December 31, 2012.
Business Systems Reporting Unit
We used a DCF model to estimate the fair value of the Business Systems reporting unit’s total equity on a control
basis as of November 30, 2012. The DCF model forecasted break-even operating results which negatively impacted
the estimated fair value. Based on this analysis, the carrying value of the Business Systems reporting unit exceeded
its fair value indicating that a potential impairment of goodwill may exist.
The second step of the goodwill impairment testing compares the implied fair value of the reporting unit goodwill
with the carrying amount of that goodwill. The implied fair value is determined by allocating the fair value of the
reporting unit to all of the assets and liabilities other than goodwill in a manner similar to a purchase price
allocation. The excess of the fair value of a reporting unit over the amounts assigned to its assets and liabilities is the
52
implied fair value of goodwill. If the carrying amount of goodwill is greater than the implied fair value of that
goodwill, then an impairment charge would be recorded equal to the difference between the implied fair value and
the carrying value. Based on this analysis, we determined that the implied fair value of the Business Systems
reporting unit’s goodwill was reasonably estimated at approximately zero as of November 30, 2012, and that the
carrying value of approximately $0.8 million was fully impaired. We therefore recorded an impairment charge of
$0.8 million during the quarter ended December 31, 2012 related to the Business Systems reporting unit’s goodwill
amount.
The cumulative impact of the goodwill impairment charges for the Prison Services and Business Systems reporting
units which totaled $1.0 million reduces the goodwill balance for the Other Operations segment as of December 31,
2012 to zero.
Tradenames
As discussed more fully in Note 1, tradenames are not amortized but instead evaluated annually, or more frequently
if an event occurs or circumstances change that would indicate potential impairment, for impairment using a
preliminary qualitative assessment and two-step process, if deemed necessary. We estimate the fair value of our
tradenames using DCFs based on a relief from royalty method. If the fair value of our tradenames was less than the
carrying amount, we would recognize an impairment charge for the difference between the estimated fair value and
the carrying value of the tradename. In accordance with Accounting Codification Standard 350 Intangibles –
Goodwill and Other (“ASC 350”) separately recorded indefinite-lived intangible assets, whether acquired or
internally developed, shall be combined into a single unit of accounting for purposes of testing impairment if they
are operated as a single asset and, as such, are essentially inseparable from one another. An indefinite-lived
intangible asset may need to be removed from the accounting unit if it is disposed of, the accounting unit is
reconsidered or one or more of the separate indefinite-lived intangible asset(s) within the accounting unit is now
considered finite-lived rather than indefinite-lived. We perform our impairment testing of our tradenames as single
units of accounting based on their use in the reporting units, TORU, Prison Services and Business Systems.
The carrying value of the TORU tradenames was $11.5 million and $10.6 million at December 31, 2012 and 2011,
respectively. For the years ended December 31, 2012 and 2011, we completed our annual impairment test using a
DCF methodology based on a relief from royalty method and determined that there was no impairment of our
tradenames included in the TORU.
The carrying value of the tradenames associated with the Prison Services and Business Systems reporting units
included in the Other Operations segment had an aggregate carrying value of $1.8 million as of December 31, 2011.
We performed our annual impairment test of the tradenames associated with the Prison Services and Business
Systems using a DCF methodology based on a relief from royalty method. The DCF models were negatively
impacted by the cancellation of the state of Illinois Prison Services contract, which is expected to be fully terminated
during the year ending December 31, 2013 and forecasted break-even operating results of the Business Systems.
Based on the relief from royalty method we determined that the tradenames associated the Prison Services and
Business Systems reporting unit’s carrying value exceeded the estimated fair value and were impaired. During the
quarter ended December 31, 2012, we recorded an impairment charge of $1.8 million to write off the tradenames
associated with the Prison Services and Business Systems reporting units included in the Other Operations segment.
Revenue recognition
We recognize certain revenues pursuant to various cost recovery programs from federal and state USF and from
revenue sharing arrangements with other local exchange carriers administered by the National Exchange Carrier
Association. Revenues are calculated based on our estimates and assumptions regarding various financial data
including operating expenses, taxes and investment in property, plant and equipment. Non-financial data estimates
are also utilized including projected demand usage and detailed network information. We must also make estimates
of the jurisdictional separation of this data to assign current financial and operating data to the interstate or intrastate
jurisdiction. These estimates are finalized in future periods as actual data becomes available to complete the
separation studies. We have historically collected revenues recognized through these programs; however,
adjustments to estimated revenues in future periods are possible. These adjustments could be necessitated by
adverse regulatory developments with respect to these subsidies and revenue sharing arrangements, changes in
allowable rates of return and the determination of recoverable costs, or decreases in the availability of funds in the
programs due to increased participation by other carriers.
53
Derivatives
We have designated derivative contracts as cash flow hedges which will convert a portion of future cash flows
associated with the interest to be paid on our credit facility from a floating rate to a fixed rate. The change in the
market value of these derivative contracts is highly effective at offsetting changes in interest rate movements of our
hedged item. Gains and losses arising from the change in fair value of the hedging transactions are deferred in other
comprehensive income, net of applicable income taxes, and recognized as a component of interest expense in the
period in which the hedged item affects earnings. Any ineffectiveness is recognized immediately in earnings. If the
derivative instruments used would no longer be effective at offsetting changes in the price of the hedged item, then
the changes in the market value of these instruments would be recorded in the statement of operations as a
component of interest expense.
Our interest rate swaps are measured using an internal valuation model which relies on an expected LIBOR-based
yield curve and estimates of counterparty and our non-performance risk as the most significant inputs. Because each
of these inputs are directly observable or can be corroborated by observable market data, we have considered these
interest rate swaps to be within Level 2 in the fair value hierarchy.
Income taxes
Our current and deferred income taxes and associated valuation allowances are impacted by events and transactions
arising in the normal course of business as well as in connection with the adoption of new accounting standards,
acquisitions of businesses and non-recurring items. Assessment of the appropriate amount and classification of
income taxes is dependent on several factors, including estimates of the timing and realization of deferred income
tax assets and the timing of income tax payments. Actual amounts may materially differ from these estimates as a
result of changes in tax laws as well as unanticipated future transactions impacting related income tax balances. We
account for tax benefits taken or expected to be taken in our tax returns in accordance with the accounting guidance
applicable for uncertainty in income taxes, which requires the use of a two-step approach for recognizing and
measuring tax benefits taken or expected to be taken in a tax return.
Pension and postretirement benefits
The amounts recognized in our financial statements for pension and postretirement benefits are determined on an
actuarial basis utilizing several critical assumptions.
We make significant assumptions in regards to our pension and postretirement plans, including the expected long-
term rate of return on plan assets and the discount rate used to value the periodic pension expense and liabilities.
Our pension investment strategy is to maximize long-term returns on invested plan assets while minimizing the risk
of volatility. Accordingly, we target our allocation percentage at 55% -65% in equity funds, with the remainder in
fixed income and cash equivalents. Our assumed rate considers this investment mix as well as past trends. We used
a weighted-average expected long-term rate of return of 7.7% and 7.5% in 2012 and 2011, respectively. As of
January 1, 2013, we estimate the long-term rate of return of pension plan assets will be 8.0%.
In determining the appropriate discount rate, we consider the current yields on high-quality corporate fixed-income
investments with maturities that correspond to the expected duration of our pension and postretirement benefit plan
obligations. For our 2012 and 2011 projected benefit obligations, we used a weighted-average discount rate of
4.20% and 5.35%, respectively, for our pension plans and 3.90% and 5.22%, respectively, for our other
postretirement plans. A one percentage-point increase or decrease in the discount rate would have the following
effects on net periodic benefit cost:
1-Percentage-
Point Increase
1-Percentage-
Point Decrease
$ (811)
$ 892
Accounting for the SureWest Acquisition
Acquisitions of businesses are accounted for using the purchase method of accounting. The purchase method of
accounting requires that the purchase price paid for an acquisition be allocated to the assets acquired and liabilities
assumed based on their estimated fair values as of the effective date of the acquisition, with the excess of the
purchase price over the net assets acquired being recorded as goodwill. These estimates are revised during the
allocation period, not to exceed one year from the date of acquisition, when the information necessary to finalize the
fair value estimates is received and analyzed, or if information regarding contingencies becomes available to further
define the quantify of the assets and liabilities acquired. Our consolidated financial statements include the operating
54
results of SureWest from the date of the acquisition, July 2, 2012, and are not retroactively restated to include the
historical position or the results of operations of SureWest.
We have not yet completed the valuation of all the assets and liabilities assumed in the SureWest acquisition.
Adjustments, if necessary during the allocation period, will be reflected as adjustments to the acquired opening
balance sheet and could impact our reported results. If we are unable to complete the purchase accounting relating
the SureWest acquisition prior to the end of the allocation period, any required adjustment to the estimated fair
values would be reflected in our consolidated statement of income.
Recent Accounting Pronouncements
For information regarding the impact of certain recent accounting pronouncements, see Note 1 “Business
Description & Summary of Significant Accounting Policies” to the Consolidated Financial Statements, included in
this report in Item 8, Part II “Financial Statements and Supplementary Data”.
Item 7A. Quantitative and Qualitative Disclosures about Market Risk
Our exposure to market risk is primarily related to the impact of interest rate fluctuations on our debt obligations.
Market risk is the potential loss arising from adverse changes in market interest rates on our variable rate
obligations. In order to manage the volatility relating to changes in interest rates, we utilize derivative financial
instruments such as interest rate swaps to maintain a mix of fixed and variable rate debt. We do not use derivatives
for trading or speculative purposes. Our interest rate swap agreements effectively convert a portion of our floating-
rate debt to a fixed-rate basis, thereby reducing the impact of interest rate changes on future cash interest payments.
We calculate the potential change in interest expense caused by changes in market interest rates by determining the
effect of the hypothetical rate increase on the portion of our variable rate debt that is not hedged through the interest
rate swap agreements.
As of December 31, 2012, the interest rate on approximately $284.9 million of our floating rate debt was not fixed
through the use of interest rate swaps, thereby subjecting this portion of our debt to potential changes in interest
rates. Based on variable rate debt outstanding at December 31, 2012, if market interest rates changed by 1.0%,
annual interest expense would have increased or decreased by approximately $2.8 million.
As of December 31, 2012, the fair value of our interest rate swap agreements amounted to a net liability of $7.1
million. Pretax deferred losses related to our interest rate swap agreements included in accumulated other
comprehensive loss (“AOCI”) was $7.9 million at December 31, 2012.
On December 4, 2012, $660,000 million notional interest rate swaps designated as a cash flow hedge were de-
designated in connection with the amendment to our credit agreement. Prior to the de-designation, the effective
portion of the change in fair value of these interest rate swaps were recognized in AOCI. The balance of the
unrealized loss included in AOCI as of the date the swaps were de-designated is being amortized to earnings over
the remaining term of the swap agreements. On December 31, 2012, $200,000 million notional interest rate swap
agreements expired and the remainder will expire on March 31, 2013. Subsequent to December 4, 2012, changes in
fair value of the de-designated swaps are recognized in earnings.
Item 8. Financial Statements and Supplementary Data
For information pertaining to our Financial Statements and Supplementary Data, refer to pages F-1 to F-62 of this
report, which are incorporated herein by reference.
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
Not applicable.
Item 9A. Controls and Procedures
Evaluation of disclosure controls and procedures
We maintain disclosure controls and procedures as defined in Rules 13a-15(e) and 15d-15(e) under the Securities
Exchange Act of 1934 (“Exchange Act”) that are designed to ensure that information required to be disclosed by us
in reports that we file or submit under the Exchange Act is (i) recorded, processed, summarized and reported within
the time periods specified in SEC rules and forms; and (ii) accumulated and communicated to our management,
including our Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions
regarding required disclosure. There are inherent limitations to the effectiveness of any system of disclosure controls
55
and procedures, including the possibility of human error and the circumvention or overriding of the controls and
procedures. Accordingly, even effective disclosure controls and procedures can only provide reasonable assurance
of achieving their control objectives. In connection with the filing of this Form 10-K, management evaluated, under
the supervision and with the participation of our Chief Executive Officer and Chief Financial Officer, the
effectiveness of the design to provide reasonable assurance of achieving their objectives and operation of our
disclosure controls and procedures as of December 31, 2012. Based upon that evaluation and subject to the
foregoing, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and
procedures are effective as of December 31, 2012.
Our assessment of the internal control structure excluded SureWest, which was acquired on July 2, 2012. The
SureWest results since July 2, 2012 are included in our consolidated results. Management’s assessment of and
conclusion on the effectiveness of internal control over financial reporting did not include the internal controls of
SureWest Communications, which is included in our 2012 consolidated financial statements and constituted $725.1
million and $552.3 million of total and net assets, respectively, as of December 31, 2012 and $133.1 million and
$2.5 million of revenues and net income, respectively, for the year then ended. Under guidance issued by the SEC,
companies are allowed to exclude acquisitions from their assessment of internal control over financial reporting
during the first year of an acquisition.
Changes in Internal Control over Financial Reporting
Based upon the evaluation performed by our management, which was conducted with the participation of our Chief
Executive Officer and Chief Financial Officer, there has been no change in our internal control over financial
reporting during the quarter ended December 31, 2012 that has materially affected, or is reasonably likely to
materially affect, our internal control over financial reporting.
Inherent Limitation of the Effectiveness of Internal Control
A control system, no matter how well conceived and operated, can only provide reasonable, not absolute, assurance
that the objectives of the internal control system are met. Because of the inherent limitations of any internal control
system, no evaluation of controls can provide absolute assurance that all control issues, if any, within a company
have been detected.
MANAGEMENT’S REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING
Our management is responsible for establishing and maintaining adequate internal control over financial reporting as
such term is defined in Exchange Act Rule 13a–15(f). Management, with the participation of our Chief Executive
Officer and Chief Financial Officer, assessed the effectiveness of our internal control over financial reporting as of
December 31, 2012. In making this assessment, management used the framework set forth in Internal Control-
Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based
upon this assessment, our management concluded that, as of December 31, 2012, our internal control over financial
reporting was effective to provide reasonable assurance that the desired control objectives were achieved.
We acquired SureWest on July 2, 2012. The SureWest results since July 2, 2012 are included in our consolidated
results. Management’s assessment of and conclusion on the effectiveness of internal control over financial reporting
did not include the internal controls of SureWest Communications, which is included in our 2012 consolidated
financial statements and constituted $725.1 million and $552.3 million of total and net assets, respectively, as of
December 31, 2012 and $133.1 million and $2.5 million of revenues and net income, respectively, for the year then
ended. As the acquisition occurred during the last twelve months, the scope of our assessment of the effectiveness
of internal control over financial reporting does not include SureWest. This exclusion is in accordance with the
Securities Exchange Commission’s general guidance that an assessment of a recently acquired business may be
omitted from our scope in the year of acquisition.
The effectiveness of internal control on financial reporting has been audited by Ernst & Young LLP, independent
registered public accounting firm, as stated in their report which is included elsewhere in this Annual Report on
Form 10-K.
56
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
The Board of Directors and Shareholders
Consolidated Communications Holdings, Inc.
We have audited Consolidated Communications Holdings, Inc. and subsidiaries’ (the Company’s) internal control
over financial reporting as of December 31, 2012, based on criteria established in Internal Control—Integrated
Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (the COSO
criteria). The Company’s management is responsible for maintaining effective internal control over financial
reporting, and for its assessment of the effectiveness of internal control over financial reporting included in the
accompanying Management’s Report on Internal Control Over Financial Reporting. Our responsibility is to express
an opinion on the company’s internal control over financial reporting based on our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board
(United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about
whether effective internal control over financial reporting was maintained in all material respects. Our audit
included obtaining an understanding of internal control over financial reporting, assessing the risk that a material
weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the
assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe
that our audit provides a reasonable basis for our opinion.
A company’s internal control over financial reporting is a process designed to provide reasonable assurance
regarding the reliability of financial reporting and the preparation of financial statements for external purposes in
accordance with generally accepted accounting principles. A company’s internal control over financial reporting
includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail,
accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable
assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance
with generally accepted accounting principles, and that receipts and expenditures of the company are being made
only in accordance with authorizations of management and directors of the company; and (3) provide reasonable
assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of the company’s
assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements.
Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become
inadequate because of changes in conditions or that the degree of compliance with the policies or procedures may
deteriorate.
As indicated in the accompanying Management’s Report on Internal Control Over Financial Reporting,
management’s assessment of and conclusion on the effectiveness of internal control over financial reporting did not
include the internal controls of SureWest Communications Inc., which is included in the 2012 consolidated financial
statements of Consolidated Communications Holdings Inc. and subsidiaries and constituted $725.1 million and
$552.3 million of total and net assets, respectively, as of December 31, 2012 and $133.1 million and $2.5 million of
revenues and net income, respectively, for the year then ended. Our audit of internal control over financial reporting
of Consolidated Communications Holdings Inc. and subsidiaries also did not include an evaluation of the internal
control over financial reporting of SureWest Communications Inc.
In our opinion, Consolidated Communications Holdings Inc. and subsidiaries maintained, in all material respects,
effective internal control over financial reporting as of December 31, 2012, based on the COSO criteria.
We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United
States), the consolidated balance sheets of Consolidated Communications Holdings, Inc. and subsidiaries as of
December 31, 2012 and 2011, and the related consolidated statements of income, comprehensive income, changes in
Shareholders’ equity, and cash flows for each of the three years in the period ended December 31, 2012, and our
report dated March 12, 2013, expressed an unqualified opinion thereon.
St. Louis, Missouri
March 12, 2013
/s/ Ernst & Young LLP
57
Item 9B. Other Information
None.
58
Item 10. Directors, Executive Officers and Corporate Governance
PART III
Our Board of Directors adopted a Code of Business Conduct and Ethics (“the code”) that applies to all of our
employees, officers, and directors, including its principal executive officer, principal financial officer, and principal
accounting officer. A copy of the code is posted on our investor relations website at www.Consolidated.com.
Information contained on the website in not incorporated by reference in, or considered to be a part of, this
document.
Additional information required by this Item is incorporated herein by reference to our proxy statement for the
annual meeting of our shareholders to be filed pursuant to Regulation 14A within 120 days after our fiscal year-end
of December 31, 2012.
Item 11. Executive Compensation
Incorporated herein by reference from the proxy statement for the annual meeting of our shareholders to be filed
pursuant to Regulation 14A within 120 days after our fiscal year-end of December 31, 2012.
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder
Matters
Incorporated herein by reference from the proxy statement for the annual meeting of our shareholders to be filed
pursuant to Regulation 14A within 120 days after our fiscal year-end of December 31, 2012.
Item 13. Certain Relationships and Related Transactions, and Director Independence
Incorporated herein by reference from the proxy statement for the annual meeting of our shareholders to be filed
pursuant to Regulation 14A within 120 days after our fiscal year-end of December 31, 2012.
Item 14. Principal Accountant Fees and Services
Incorporated herein by reference from the proxy statement for the annual meeting of our shareholders to be filed
pursuant to Regulation 14A within 120 days after our fiscal year-end of December 31, 2012.
59
Item 15. Exhibits and Financial Statement Schedules.
(a)
(1) All Financial Statements
PART IV
The following consolidating financial statements and independent auditors’ reports are filed as part of this
report on Form 10-K in Item 8–“Financial Statements and Supplementary Data”:
Management’s Report on Internal Control Over Financial Reporting
Reports of Independent Registered Public Accounting Firm
Consolidated Statements of Income for each of the three years in the period ended December 31, 2012
Consolidated Statements of Comprehensive Income for each of the three years in the period ended
December 31, 2012
Consolidated Balance Sheets as of December 31, 2012 and 2011
Consolidated Statements of Shareholders’ Equity for each of the three years in the period ended
December 31, 2012
Consolidated Statements of Cash Flows for each of the three years in the period ended December 31,
2012
Notes to Consolidated Financial Statements
Independent Auditors’ Report
Pennsylvania RSA No. 6 (II) Limited Partnership Balance Sheets - As of December 31, 2012 and
2011
Pennsylvania RSA No. 6 (II) Limited Partnership Statements of Operations – Years Ended December
31, 2012, 2011 and 2010
Pennsylvania RSA No. 6 (II) Limited Partnership Statements of Changes in Partners’ Capital – Years
Ended December 31, 2012, 2011 and 2010
Pennsylvania RSA No. 6 (II) Limited Partnership Statements of Cash Flows – Years Ended December
31, 2012, 2011 and 2010
Pennsylvania RSA No. 6 (II) Limited Partnership - Notes to Financial Statements
(2) Financial Statement Schedules
Financial statement schedules have been omitted because they are not required, not applicable or the
information is otherwise included in the notes to the consolidated financial statements.
(3) Exhibits
The exhibits listed below on the accompanying Index to Exhibits are filed or furnished as part of this
report.
Exhibit
No.
2.1*
3.1
3.2
3.3
Description
Agreement and Plan of Merger, dated as of February 5, 2012, by and among the Company, SureWest
Communications, WH Acquisition Corp. and WH Acquisition II Corp. (incorporated by reference to
Exhibit 2.1 to Current Report on Form 8-K dated February 5, 2012)
Form of Amended and Restated Certificate of Incorporation (incorporated by reference to Exhibit 3.1 to
Amendment No. 7 to Form S-1 dated July 19, 2005, file no. 333-121086)
Certificate of Amendment of the Amended and Restated Certificate of Incorporation of Consolidated
Communications Holdings, Inc., as filed with the Secretary of State of the State of Delaware on May 3,
2011 (incorporated by reference to Exhibit 3.1 to our Current Report on Form 8-K dated May 4, 2011)
Form of Amended and Restated Bylaws, as amended (incorporated by reference to Exhibit 3.1 to our
Quarterly Report on Form 10-Q for the quarter ended September 30, 2009)
60
4.1
4.2
4.3
4.4
4.5
4.6
4.7
4.8
4.9
10.1
10.2
Specimen Common Stock Certificate (incorporated by reference to Exhibit 4.1 to Amendment No. 7 to
Form S-1 dated July 19, 2005, file no. 333-121086)
Indenture, dated as of May 30, 2012, between Consolidated Communications, Inc. (“CCI”) (as successor
to Consolidated Communications Finance Co. (“CCFC”)) and Wells Fargo Bank, National Association,
as trustee (incorporated by reference to Exhibit 4.1 to our Current Report on Form 8-K dated May 30,
2012)
First Supplemental Indenture, dated as of July 2, 2012, among the Company, CCI, Consolidated
Communications Enterprise Services, Inc. (“CCES”), Consolidated Communications Services Company
(“CCSC”), Consolidated Communications of Fort Bend Company (“CCFBC”), Consolidated
Communications of Texas Company (“CCTC”), and Consolidated Communications of Pennsylvania
Company, LLC (“CCPC”), and Wells Fargo Bank, National Association (incorporated by reference to
Exhibit 4.1 to our Current Report on Form 8-K dated June 29, 2012)
Second Supplemental Indenture, dated as of August 3, 2012, among SureWest Communications,
SureWest Long Distance, SureWest Communications, Inc., SureWest Broadband, SureWest TeleVideo,
SureWest Kansas, Inc., SureWest Telephone, SureWest Kansas Holdings, Inc., SureWest Kansas
Connections, LLC, SureWest Kansas Licenses, LLC, SureWest Kansas Operations, LLC, SureWest
Kansas Purchasing, LLC and SureWest Fiber Ventures LLC (collectively, the “SureWest Subsidiaries”),
CCI, and Wells Fargo Bank, National Association (incorporated by reference to our Current Report on
Form 8-K dated August 3, 2012)
Form of 10.875% Senior Note due 2020 (incorporated by reference to Exhibit A to Exhibit 4.1 to our
Current Report on Form 8-K dated June 29, 2012)
Registration Rights Agreement, dated as of May 30, 2012, between CCFC and Morgan Stanley & Co.
LLC (incorporated by reference to Exhibit 4.4 to our Current Report on Form 8-K dated May 30, 2012)
Joinder to Registration Rights Agreement, dated as of July 2, 2012, by the Company, CCI, CCES, CCSC,
CCFBC, CCTC, and CCPC (incorporated by reference to our Current Report on Form 8-K dated June 29,
2012)
Joinder to Registration Rights Agreement, dated as of August 3, 2012, by each of the SureWest
Subsidiaries (incorporated by reference to our Current Report on Form 8-K dated August 3, 2012)
Joinder Agreement, dated as of August 3, 2012, among each of the SureWest Subsidiaries, the Company,
CCI, and Wells Fargo Bank, National Association, a national banking association, as Administrative
Agent for the Lenders under the Credit Agreement (incorporated by reference to our Current Report on
Form 8-K dated August 3, 2012)
Amendment Agreement dated June 8, 2011 among the Company, the subsidiaries of the Company
named therein, the lenders named therein, and Wells Fargo Bank, National Association, as administrative
agent (incorporated by reference to Exhibit 10.1 to our Current Report on Form 8-K dated June 13, 2011)
Amended and Restated Credit Agreement, dated June 8, 2011, among the Company, as Parent
Guarantor, CCI, as Borrower, the lenders referred to therein, Wells Fargo Bank, National Association, as
administrative agent, issuing bank and swingline lender, CoBank, ACB, as syndication agent, General
Electric Capital Corporation, as documentation agent, The Royal Bank of Scotland PLC, as
documentation agent, and Wells Fargo Securities, LLC, as sole lead arranger and sole bookrunner
(incorporated by reference to Exhibit 10.1 to our Current Report on Form 8-K dated June 13, 2011), as
amended by the First Amendment to Amended and Restated Credit Agreement, dated as of February 17,
2012, by and among the Company, CCI, the Subsidiary Loan Parties identified therein, the lenders
referred to therein and Wells Fargo Bank, National Association, as administrative agent (incorporated by
reference to Exhibit 10.1 to our Current Report on Form 8-K dated February 17, 2012), as amended by
the Second Amendment and Incremental Facility Agreement, dated as of December 4, 2012, by and
among the Company, CCI, the Subsidiary Loan Parties identified therein, the lenders referred to therein
and Wells Fargo Bank, National Association, as administrative agent and certain other lenders
(incorporated by reference to Exhibit 10.1 to our Current Report on Form 8-K dated December 4, 2012)
10.3
Revolving Extension Agreement, dated July 7, 2011, among the Company, CCCI, the Revolving-1
Lenders referred therein and Wells Fargo Bank, National Association (successor by merger to Wachovia
Bank, National Association), as administrative agent (incorporated by reference to Exhibit 10.3 to our
61
10.4
10.5
10.6
10.7
10.8
10.9
10.10
10.11
10.12
10.13
10.14
Quarterly Report on Form 10-Q for the quarterly period ended June 30, 2011)
Form of Collateral Agreement, dated December 31, 2007, by and among the Company, CCI,
Consolidated Communications Acquisition Texas, Inc., Fort Pitt Acquisition Sub Inc., certain
subsidiaries of the Company identified on the signature pages thereto, in favor of Wells Fargo Bank,
National Association (successor by merger to Wachovia Bank, National Association), as Administrative
Agent (incorporated by reference to Exhibit 10.2 to our Annual Report on Form 10-K for the period
ended December 31, 2007, file no. 000-51446)
Form of Guaranty Agreement, dated December 31, 2007, made by the Company and certain subsidiaries
of the Company identified on the signature pages thereto, in favor of Wells Fargo Bank, National
Association (successor by merger to Wachovia Bank, National Association), as Administrative Agent
(incorporated by reference to Exhibit 10.3 to our Annual Report on Form 10-K for the period ended
December 31, 2007, file no. 000-51446)
Letter Agreement, dated March 31, 2008, by Wells Fargo Bank, National Association (successor by
merger to Wachovia Bank, National Association), and agreed to and acknowledged by the Company,
CCI, Consolidated Communications Acquisition Texas, Inc. and North Pittsburgh Systems, Inc.
(formerly known as Fort Pitt Acquisition Sub Inc.) (incorporated by reference to Exhibit 10.1 to our
Current Report on Form 8-K dated March 31, 2008)
Letter Agreement dated August 6, 2008 by Wells Fargo Bank, National Association (successor by
merger to Wachovia Bank, National Association), and agreed to and acknowledged by the Company,
CCI, Consolidated Communications Acquisition Texas, Inc. and North Pittsburgh Systems, Inc.
(formerly known as Fort Pitt Acquisition Sub Inc.) (incorporated by reference to Exhibit 10.1 to our
Quarterly Report on Form 10-Q for the period ended June 30, 2008)
Lease Agreement, dated December 31, 2002, between LATEL, LLC and Illinois Consolidated
Telephone Company (incorporated by reference to Exhibit 10.12 to Form S-4 dated October 26, 2004,
file no. 333-119968)
Lease Agreement, dated December 22, 2010, between LATEL, LLC and Consolidated Communications
Services Company (incorporated by reference to Exhibit 10.1 to our Current Report on Form 8-K dated
December 22, 2010)
Lease Agreement, dated December 22, 2010, between LATEL, LLC and Illinois Consolidated
Telephone Company (incorporated by reference to Exhibit 10.2 to our Current Report on Form 8-K
dated December 22, 2010)
Lease Agreement, dated December 22, 2010, between LATEL, LLC and Illinois Consolidated
Telephone Company (incorporated by reference to Exhibit 10.3 to our Current Report on Form 8-K
dated December 22, 2010)
Master Lease Agreement, dated February 25, 2002, between General Electric Capital Corporation and
TXU Communications Ventures Company (incorporated by reference to Exhibit 10.13 to Form S-4
dated October 26, 2004, file no. 333-119968)
Amendment No. 1 to Master Lease Agreement, dated February 25, 2002, between General Electric
Capital Corporation and TXU Communications Ventures Company, dated March 18, 2002
(incorporated by reference to Exhibit 10.14 to Form S-4 dated October 26, 2004, file no. 333-119968)
Amended and Restated Consolidated Communications Holdings, Inc. Restricted Share Plan
(incorporated by reference to Exhibit 10.11 to Amendment No. 7 to Form S-1 dated July 19, 2005, file
no. 333-121086)
10.15** Amended and Restated Consolidated Communications Holdings, Inc. 2005 Long-Term Incentive Plan
(As Amended and Restated Effective May 4, 2010) (incorporated by reference to Exhibit 10.1 to our
Current Report on Form 8-K dated May 10, 2010)
10.16** Form of Employment Security Agreement with certain of the Company’s employees (incorporated by
reference to Exhibit 10.1 to our Quarterly Report on Form 10-Q for the quarter ended September 30,
2012)
10.17** Form of Employment Security Agreement with Robert J. Currey (incorporated by reference to
Exhibit 10.1 to our Current Report on Form 8-K dated December 4, 2009)
62
10.18** Form of Employment Security Agreement with certain of the Company’s other executive officers
(incorporated by reference to Exhibit 10.2 to our Current Report on Form 8-K dated December 4, 2009)
10.19** Form of Employment Security Agreement with the Company’s and its subsidiaries vice president and
director level employees (incorporated by reference to Exhibit 10.12 to our Annual Report on Form 10-
K for the period ended December 31, 2007, file no. 000-51446)
10.20** Executive Long-Term Incentive Program, as revised March 12, 2007 (incorporated by reference to
Exhibit 10.1 to our Current Report on Form 8-K dated March 12, 2007, file no. 000-51446)
10.21** Form of 2005 Long-Term Incentive Plan Performance Stock Grant Certificate (incorporated by
reference to Exhibit 10.2 to our Current Report on Form 8-K dated March 12, 2007, file no. 000-51446)
10.22** Form of 2005 Long-Term Incentive Plan Restricted Stock Grant Certificate (incorporated by reference
to Exhibit 10.3 to our Current Report on Form 8-K dated March 12, 2007, file no. 000-51446)
10.23** Form of 2005 Long-Term Incentive Plan Restricted Stock Grant Certificate for Directors (incorporated
by reference to Exhibit 10.4 to our Current Report on Form 8-K dated March 12, 2007, file no. 000-
51446)
10.24** Description of the Consolidated Communications Holdings, Inc. Bonus Plan (incorporated by reference
to Exhibit 10.5 to our Current Report on Form 8-K dated March 12, 2007, file no. 000-51446)
10.25** Separation Agreement dated May 3, 2011 between the Company and Joseph R. Dively (incorporated by
reference to Exhibit 10.1 to our Current Report on Form 8-K dated May 4, 2011)
10.26
21.1
23.1
23.2
31.1
31.2
32.1
101***
Commitment Letter, dated February 5, 2012, from Morgan Stanley Senior Funding, Inc. and agreed to
and accepted by CCI (incorporated by reference to Exhibit 10.1 to our Current Report on Form 8-K
dated February 5, 2012)
List of subsidiaries of the Registrant
Consent of Ernst & Young LLP
Consent of Deloitte & Touche LLP
Certificate of Chief Executive Officer of Consolidated Communications Holdings, Inc. pursuant to Rule
13(a)-14(a) under the Securities Exchange Act of 1934
Certificate of Chief Financial Officer of Consolidated Communications Holdings, Inc. pursuant to Rule
13(a)-14(a) under the Securities Exchange Act of 1934
Certification of the Chief Executive Officer and Chief Financial Officer pursuant to 18 U.S.C.
Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
The following financial information from Consolidated Communications Holdings, Inc. Annual Report
on Form 10-K for the year ended December 31, 2012, formatted in XBRL (eXtensible Business
Reporting Language): (i) Consolidated Statements of Income, (ii) Consolidated Statements of
Comprehensive Income, (iii) Consolidated Balance Sheets, (iv) Consolidated Statements of Changes in
Shareholders’ Equity, (v) Consolidated Statements of Cash Flows, and (vi) Notes to Consolidated
Financial Statements.
*Schedules and other attachments to the Agreement and Plan of Merger, which are listed in the exhibit, are omitted.
The Company agrees to furnish a supplemental copy of any schedule or other attachment to the Securities and
Exchange Commission upon request.
**Compensatory plan or arrangement.
***Pursuant to Rule 406T of Regulation S-T, the Interactive Data Files in Exhibit 101 hereto are not deemed filed or
part of a registration statement or prospectus for purposes of Sections 11 or 12 of the Securities Act of 1933, as
amended, are not deemed filed for purposes of Section 18 of the Securities and Exchange Act of 1934, as
amended, and otherwise are not subject to liability under those sections.
63
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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, in Mattoon, Illinois on
March 12, 2013.
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC.
By: /s/ ROBERT J. CURREY
Robert J. Currey
President and Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the
following persons on behalf of the registrant and in the capacities and on the dates indicated.
Signature
Title
Date
By: /s/ ROBERT J. CURREY
Robert J. Currey
By: /s/ STEVEN L. CHILDERS
Steven L. Childers
By: /s/ RICHARD A. LUMPKIN
Richard A. Lumpkin
By: /s/ ROGER H. MOORE
Roger H. Moore
By: /s/ MARIBETH S. RAHE
Maribeth S. Rahe
By: /s/ TIMOTHY D. TARON
Timothy D. Taron
By: /s/ THOMAS A. GERKE
Thomas A. Gerke
President and Chief Executive
Officer and Director
(Principal Executive Officer)
Senior Vice President and
Chief Financial Officer (Principal
Financial and Accounting Officer)
Chairman of the Board
and Director
Director
Director
Director
Director
March 12, 2013
March 12, 2013
March 12, 2013
March 12, 2013
March 12, 2013
March 12, 2013
March 12, 2013
64
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
The Board of Directors and Shareholders
Consolidated Communications Holdings, Inc.
We have audited the accompanying consolidated balance sheets of Consolidated Communications Holdings, Inc. and
subsidiaries (the Company) as of December 31, 2012 and 2011, and the related consolidated statements of income,
comprehensive income, changes in shareholders’ equity, and cash flows for each of the three years in the period
ended December 31, 2012. These consolidated financial statements are the responsibility of the Company’s
management. Our responsibility is to express an opinion on these consolidated financial statements based on our
audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board
(United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about
whether the consolidated financial statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the consolidated financial statements. An audit also
includes assessing the accounting principles used and the significant estimates made by management, as well as
evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our
opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the
consolidated financial position of Consolidated Communications Holdings, Inc. at December 31, 2012 and 2011, and
the consolidated results of their operations and their cash flows for each of the three years in the period ended
December 31, 2012, in conformity with U.S. generally accepted accounting principles.
We also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United
States), Consolidated Communications Holdings, Inc.’s internal control over financial reporting as of December 31,
2012, based on criteria established in Internal Control – Integrated Framework, issued by the Committee of
Sponsoring Organizations of the Treadway Commission, and our report dated March 12, 2013, expressed an
unqualified opinion thereon.
St. Louis, Missouri
March 12, 2013
/s/ Ernst & Young LLP
F-1
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(amounts in thousands except per share amounts)
Year Ended December 31,
2011
2010
2012
Net revenues
$
503,457
$
374,263
$
383,366
Operating expense:
Cost of services and products (exclusive of depreciation
and amortization)
Selling, general and administrative expenses
Financing and other transaction costs
Impairment of intangible assets
Depreciation and amortization
Operating income
Other income (expense):
Interest expense, net of interest income
Loss on extinguishment of debt
Investment income
Other, net
Income before income taxes
Income tax expense
Net income
Less: net income attributable to noncontrolling interest
Net income attributable to common shareholders
Net income per common share - basic and diluted
Dividends declared per common share
$
$
$
193,743
111,617
20,800
2,923
120,976
53,398
(72,604)
(4,455)
30,667
601
7,607
1,436
6,171
531
5,640
0.15
1.55
$
$
$
139,264
81,050
2,649
-
88,745
62,555
(49,394)
-
27,843
823
41,827
14,845
26,982
572
26,410
0.88
1.55
$
$
$
142,302
88,025
-
-
87,142
65,897
(50,740)
-
27,744
(758)
42,143
8,991
33,152
557
32,595
1.09
1.55
See accompanying notes.
F-2
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)
(amounts in thousands)
Year Ended December 31,
2011
2012
2010
Net income
$
6,171
$
26,982
$
33,152
Change in prior service cost and net actuarial loss, net of tax benefit
(expense) of $8,159, $8,434 and $(948) in 2012, 2011 and 2010, respectively
(12,929)
(13,959)
1,572
Change in fair value of cash flow hedges, net of tax expense of $3,055, $4,434
and $1,430 in 2012, 2011 and 2010, respectively
Comprehensive income (loss)
Less: comprehensive income attributable to
noncontrolling interest
4,978
(1,780)
7,597
20,620
2,497
37,221
531
572
557
Total comprehensive income (loss) attributable to common shareholders
$
(2,311)
$
20,048
$
36,664
See accompanying notes.
F-3
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(amounts in thousands, except share and per share amounts)
December 31,
2012
2011
ASSETS
Current assets:
Cash and cash equivalents
Accounts receivable, net of allowance for doubtful accounts
Income tax receivable
Deferred income taxes
Prepaid expenses and other current assets
Total current assets
Property, plant and equipment, net
Investments
Goodwill
Other intangible assets
Deferred debt issuance costs, net and other assets
Total assets
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable
Advance billings and customer deposits
Dividends payable
Accrued compensation
Accrued expense
Current portion of long-term debt and capital lease obligations
Current portion of derivative liability
Total current liabilities
Long-term debt and capital lease obligations
Deferred income taxes
Pension and other postretirement obligations
Other long-term liabilities
Total liabilities
Commitments and contingencies
Shareholders' equity:
Common stock, par value $0.01 per share; 100,000,000 shares
authorized, 39,877,998 and 29,869,512, shares outstanding as of
December 31, 2012 and 2011, respectively
Additional paid-in capital
Retained earnings
Accumulated other comprehensive loss, net
Noncontrolling interest
Total shareholders' equity
Total liabilities and shareholders' equity
$
$
$
$
17,854
58,582
11,819
9,000
11,269
108,524
908,236
109,750
604,988
49,530
13,800
1,794,828
19,162
28,592
15,463
21,968
46,232
9,596
3,164
144,177
1,208,248
138,842
156,710
10,746
1,658,723
399
177,315
–
(45,784)
4,175
136,105
1,794,828
$
$
$
$
105,704
35,492
8,988
4,825
6,941
161,950
338,426
98,069
520,562
70,158
4,904
1,194,069
6,651
20,324
11,571
12,814
21,358
8,992
3,580
85,290
875,719
77,327
93,754
14,167
1,146,257
299
79,852
–
(37,833)
5,494
47,812
1,194,069
See accompanying notes.
F-4
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY
(amounts in thousands)
Balance at January 1, 2010
Cash dividends on common stock
Shares issued under employee plan,
net of forfeitures
Non-cash, stock-based compensation
Purchase and retirement of common stock
Tax on restricted stock vesting
Distributions to non-controlling interests
Other comprehensive income (loss)
Net income
Balance at December 31, 2010
Cash dividends on common stock
Shares issued under employee plan,
net of forfeitures
Non-cash, stock-based compensation
Purchase and retirement of common stock
Tax on restricted stock vesting
Other comprehensive income (loss)
Net income
Balance at December 31, 2011
Cash dividends on common stock
Shares issued upon acquisition of SureWest
Shares issued under employee plan,
net of forfeitures
Non-cash, stock-based compensation
Purchase and retirement of common stock
Tax on restricted stock vesting
Distributions to non-controlling interests
Other comprehensive income (loss)
Other
Net income
Balance at December 31, 2012
Common Stock
Share s
Amount
Additional
Paid-in
Capital
Re taine d
Earnings
Accumulate d
O the r
Compre he nsive
Loss, ne t
Non-
controlling
Inte re st
Total
29,609
–
$
296
–
$
109,746
(13,584)
$
-
(32,595)
$
(35,540)
–
$
6,215
–
$
80,717
(46,179)
208
–
(54)
–
–
–
–
29,763
–
145
–
(39)
–
–
–
29,870
–
9,966
79
–
(37)
–
–
–
–
–
39,878
2
–
–
–
–
–
–
298
–
$
1
–
–
–
–
–
299
–
100
$
–
–
–
–
–
–
–
–
399
$
–
2,363
(1,001)
602
–
–
–
98,126
(19,938)
$
–
2,132
(726)
258
–
–
79,852
(52,352)
148,293
$
–
2,348
(559)
47
–
–
(314)
–
177,315
$
–
–
–
–
–
–
32,595
$
-
(26,410)
–
–
–
–
–
26,410
-
$
(5,640)
–
–
–
–
–
–
–
–
5,640
$
-
–
–
–
–
–
4,069
–
(31,471)
–
$
–
–
–
–
(6,362)
–
(37,833)
–
–
$
–
–
–
–
–
(7,951)
–
–
(45,784)
$
–
–
–
–
(1,850)
–
557
4,922
–
$
–
–
–
–
–
572
5,494
–
–
$
–
–
–
–
(1,850)
–
–
531
4,175
$
2
2,363
(1,001)
602
(1,850)
4,069
33,152
71,875
(46,348)
$
1
2,132
(726)
258
(6,362)
26,982
47,812
(57,992)
148,393
$
-
2,348
(559)
47
(1,850)
(7,951)
(314)
6,171
136,105
$
See accompanying notes.
F-5
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(amounts in thousands)
2012
Year Ended December 31,
2011
2010
$
6,171
$
26,982
$
33,152
Cash flows from operating activities:
Net income
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization
Impairment of intangible assets
Deferred income taxes
Cash distributions from wireless partnerships
in excess of/(less than) current earnings
Stock-based compensation expense
Amortization of deferred financing costs
Loss on extinguishment of debt
Other, net
Changes in operating assets and liabilities:
Accounts receivable, net
Income tax receivable
Other assets
Accounts payable
Accrued expenses and other liabilities
Net cash provided by operating activities
Cash flows from investing activities:
Business acquisition, net of cash acquired
Purchases of property, plant and equipment, net
Purchase of investments
Proceeds from sale of assets
Other
Net cash used for investing activities
Cash flows from financing activities:
Proceeds on bond offering
Proceeds from issuance of long-term debt
Payment of capital lease obligation
Payment on long-term debt
Payment of financing costs
Distributions to noncontrolling interest
Repurchase and retirement of common stock
Dividends on common stock
Net cash provided by (used in) financing activities
(Decrease)/increase in cash and cash equivalents
Cash and cash equivalents at beginning of period
120,976
2,923
(757)
(1,309)
2,348
6,360
4,455
(332)
(1,512)
(2,846)
(803)
4,504
(16,963)
123,215
(385,346)
(77,095)
(6,728)
924
(314)
(468,559)
298,035
544,850
(228)
(510,038)
(18,616)
(1,850)
(559)
(54,100)
257,494
(87,850)
105,704
88,745
–
8,546
945
2,132
1,411
–
108
6,520
(2,498)
421
2,179
(5,987)
129,504
–
(41,913)
–
840
272
(40,801)
–
–
(149)
-
(3,471)
–
(726)
(46,307)
(50,653)
38,050
67,654
87,142
–
(2,390)
16
2,363
1,293
–
(3,112)
113
(3,699)
317
(2,501)
3,448
116,142
–
(42,917)
–
1,065
35
(41,817)
–
–
(399)
–
–
(1,850)
(1,001)
(46,179)
(49,429)
24,896
42,758
67,654
Cash and cash equivalents at end of period
$
17,854
$
105,704
$
See accompanying notes.
F-6
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2012, 2011 AND 2010
1. BUSINESS DESCRIPTION & SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Business and Basis of Accounting
Consolidated Communications Holdings, Inc. (the “Company”, “we” or “our”) is a holding company with operating
subsidiaries (collectively “Consolidated”) that provide communications services to residential and business
customers in Illinois, Texas, Pennsylvania, California, Kansas and Missouri. We classify our operations into two
reportable segments: Telephone Operations and Other Operations.
Our Telephone Operations segment primarily consists of the delivery of a wide range of telecommunications
services to residential and business customers. Our telecommunications services include local and long-distance
service, high-speed broadband Internet access, video services, digital telephone service (“VOIP”), custom calling
features, private line services, carrier grade access services, network capacity services over our regional fiber optic
networks, directory publishing and Competitive Local Exchange Carrier (“CLEC”) services. As of December 31,
2012, we had approximately 269 thousand access lines, 130 thousand voice connections, 248 thousand data and
Internet connections and 106 thousand video connections.
Our Other Operations segment consists primarily of two non-core businesses, including telephone services to
correctional facilities (“prison services”) and equipment sales. See the “Recent Business Developments” section
below for information regarding our prison services business.
We completed the acquisition of SureWest Communications on July 2, 2012. SureWest Communications results of
operations are included within our results following the acquisition date. For a more complete discussion of the
transaction, refer to Note 3.
Use of Estimates
Preparation of the financial statements in conformity with accounting principles generally accepted in the United
States and pursuant to the rules and regulations of the Securities and Exchange Commission (the “SEC”) requires
management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date
of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual
results may differ materially from those estimates. Our critical accounting estimates include (i) impairment
evaluations associated with indefinite-lived intangible assets (Note 1), (ii) revenue recognition (Note 1),
(iii) derivatives (Notes 1 and 7), (iv) the determination of deferred tax asset and liability balances (Notes 1 and 10),
(v) pension plan and other post-retirement costs and obligations (Notes 1 and 9) and (vi) accounting for the
SureWest acquisition (Note 3). Events subsequent to the balance sheet date have been evaluated for inclusion in the
accompanying consolidated financial statements through the date of issuance.
Principles of Consolidation
Our consolidated financial statements include the accounts of the Company and our wholly-owned subsidiaries and
subsidiaries in which we have a controlling financial interest. All significant intercompany transactions have been
eliminated.
Recent Business Developments
We currently provide telephone service to inmates incarcerated at facilities operated by the Illinois Department of
Corrections. On June 27, 2012, the Illinois Department of Central Management Services announced its intent to
replace us as the provider of those services with a competitor. We have challenged our competitors bid and the
State’s decision to accept that bid in a variety of different forums. Although we will continue to seek legal recourse
to the State’s decision, our business plans and projections assume that our contract with the State of Illinois will end
during 2013. All related assets have been assessed for recoverability in light of this change. During 2012, the prison
services contract comprised 82% of the operating revenues in our Other Operations segment, 5% of consolidated
operating revenues and approximately 2% of consolidated operating income, excluding financing and other
transaction fees.
Cash and Cash Equivalents
We consider all highly liquid investments with an original maturity of three months or less to be cash equivalents.
Our cash equivalents consist primarily of money market funds. The carrying amounts of our cash equivalents
approximate their fair value.
F-7
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
YEARS ENDED DECEMBER 31, 2012, 2011 AND 2010
Allowance for Doubtful Accounts
We maintain an allowance for doubtful accounts for estimated losses, which result from the inability of our
customers to make required payments. Such allowance is based on the likelihood of recoverability of accounts
receivable based on past experience and management’s best estimates of current bad debt exposures. We perform
ongoing credit evaluations of our customers’ financial condition and management believes that adequate allowances
for doubtful accounts have been provided. Accounts are determined to be past due if customer payments have not
been received in accordance with the payment terms. Uncollectible accounts are charged against the allowance for
doubtful accounts and removed from the accounts receivable balances when internal collection efforts have been
unsuccessful in collecting the amount due. The following table summarizes the activity in our accounts receivable
allowance account for the years ended December 31, 2012, 2011 and 2010:
(In thousands)
Balance at beginning of year
Provision charged to expense
Write-offs, less recoveries
Balance at end of year
Year Ended December 31,
2012
2011
2010
$
$
$
2,547
5,615
(4,137)
4,025
2,694
4,104
(4,251)
2,547
$
$
$
1,796
5,963
(5,065)
2,694
Investments
If we have the ability to exercise significant influence over the operations and financial policies of an affiliated
company, the investment in the affiliated company is accounted for using the equity method. If we do not have
control and also cannot exercise significant influence, the investment in the affiliated company is accounted for
using the cost method.
We review our investment portfolio each reporting period to determine whether there are identified events or
circumstances that would indicate there is a decline in the fair value that is considered to be other than temporary. If
we believe the decline is other than temporary, we evaluate the financial performance of the business and compare
the carrying value of the investment to quoted market prices (if available) or the fair value of similar investments. In
certain circumstances, fair value is based on traditional valuation models utilizing a multiple of cash flows. If an
investment is deemed to have experienced an impairment, we reduce the carrying amount of the investment to its
quoted or estimated fair value, as applicable, and establish a new cost basis for the investment. For cost method
investments, we record the impairment to investment income (loss), net. For our equity method investments, we
record the impairment to other income (expense).
Fair Value of Financial Instruments
We account for certain assets and liabilities at fair value. Fair value is an exit price, representing the amount that
would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants.
As such, fair value is a market-based measurement that should be determined based on assumptions that market
participants would use in pricing an asset or a liability. A financial asset or liability’s classification within a three-
tiered value hierarchy is determined based on the lowest level input that is significant to the fair value measurement.
The hierarchy prioritizes the inputs to valuation techniques into three broad levels in order to maximize the use of
observable inputs and minimize the use of unobservable inputs. The levels of the fair value hierarchy are as follows:
Level 1 – Observable inputs that reflect quoted prices (unadjusted) for identical assets or liabilities in active
markets.
Level 2 – Inputs that reflect quoted prices in active markets for similar assets or liabilities, quoted prices for
identical or similar assets or liabilities in inactive markets and inputs other than quoted prices that
are directly or indirectly observable in the marketplace.
Level 3 – Unobservable inputs which are supported by little or no market activity.
F-8
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
YEARS ENDED DECEMBER 31, 2012, 2011 AND 2010
Property, Plant and Equipment
Property, plant and equipment are recorded at cost. We capitalize additions and substantial improvements and
expense repairs and maintenance costs as incurred.
We capitalize the cost of internal-use network and non-network software which has a useful life in excess of one
year. Subsequent additions, modifications or upgrades to internal-use network and non-network software are
capitalized only to the extent that they allow the software to perform a task it previously did not perform. Software
maintenance and training costs are expensed in the period in which they are incurred. Also, we capitalize interest
associated with the development of internal-use network and non-network software.
Property, plant and equipment consisted of the following as of December 31, 2012 and 2011:
December 31,
2012
December 31,
2011
Estimated
Useful Lives
$
$
18-40 years
3-50 years
3-15 years
11 years
(In thousands)
Land and buildings
Network and outside plant facilities
Furniture, fixtures and equipment
Assets under capital lease
Total plant in service
Less: accumulated depreciation and amortization
Plant in service
Construction in progress
Construction inventory
Totals
94,929
1,469,418
95,710
10,375
1,670,432
(785,502)
884,930
12,922
10,384
908,236
66,704
897,140
73,185
10,014
1,047,043
(721,527)
325,516
6,530
6,380
338,426
$
$
Construction inventory, which is stated at weighted average cost, consists primarily of network construction
materials and supplies that when issued are predominately capitalized as part of new customer installations and the
construction of the network.
We record depreciation using the straight line method over estimated useful lives using either the group or unit
method. The useful lives are estimated at the time the assets are acquired and are based on historical experience with
similar assets, anticipated technological changes and the expected impact of our strategic operating plan on our
network infrastructure. The group method is used for depreciable assets dedicated to providing regulated
telecommunication services, including the majority of the network and outside plant facilities. A depreciation rate
for each asset group is developed based on the average useful life of the group. The group method requires periodic
revision of depreciation rates. When an individual asset is sold or retired, the difference between the proceeds, if
any, and the cost of the asset is charged or credited to accumulated depreciation, without recognition of a gain or
loss.
The unit method is primarily used for buildings, furniture, fixtures and other support assets. Each asset is
depreciated on the straight-line basis over its estimated useful life. When an individual asset is sold or retired, the
cost basis of the asset and related accumulated depreciation are removed from the accounts and any associated gain
or loss is recognized.
Depreciation and amortization expense was $98.6 million, $66.6 million and $65.0 million in 2012, 2011 and 2010,
respectively. Amortization of assets under capital leases is included in depreciation and amortization expense.
We evaluate the recoverability of our property, plant and equipment whenever events or substantive changes in
circumstances indicate that the carrying amount of an asset group may not be recoverable. Recoverability is
measured by a comparison of the carrying amount of an asset group to estimated undiscounted future cash flows
expected to be generated by the asset group. If the total of the expected future undiscounted cash flows were less
than the carrying amount of the asset group, we would recognize an impairment charge for the difference between
the estimated fair value and the carrying value of the asset group.
F-9
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
YEARS ENDED DECEMBER 31, 2012, 2011 AND 2010
Intangible Assets
Indefinite-Lived Intangibles
Goodwill and tradenames are evaluated for impairment annually or more frequently when events or changes in
circumstances indicate that the asset might be impaired. We evaluate the carrying value of our indefinite-lived
assets, tradenames and goodwill, as of November 30 of each year.
Tradenames
Our most valuable tradename is the federally registered mark CONSOLIDATED, which is used in association with
our telephone communication services and is a design of interlocking circles. The Company’s corporate branding
strategy leverages a CONSOLIDATED naming structure. With the acquisition of SureWest on July 2, 2012, we
also own the tradenames associated with SureWest. All of the Company’s business units and several of our products
and services incorporate the CONSOLIDATED name, except for the SureWest business units. We do not amortize
our tradenames, as we have determined that they have an indefinite life. If facts and circumstances change relating
to a tradenames continued use in the branding of our products and services, it may be treated as a finite-lived asset
and begin to be amortized over its estimated remaining life. We estimate the fair value of our tradenames using
discounted cash flows (“DCF”) based on a relief from royalty method. If the fair value of our tradenames was less
than the carrying amount, we would recognize an impairment charge for the difference between the estimated fair
value and the carrying value of the assets. We perform our impairment testing of our tradenames as single units of
accounting based on their use in the reporting units, Telephone Operations reporting unit (“TORU”), Prison Services
and Business Systems.
The carrying value of the TORU tradenames was $11.5 million and $10.6 million at December 31, 2012 and 2011,
respectively. For the years ended December 31, 2012 and 2011, we completed our annual impairment test using a
DCF methodology based on a relief from royalty method and determined that there was no impairment of our
tradenames included in the TORU.
The tradenames associated with the Prison Services and Business Systems reporting units included in the Other
Operations segment had a carrying value of $1.8 million as of December 31, 2011. We performed our annual
impairment test of the tradenames associated with the Prison Services and Business Systems as of November 30,
2012 using a DCF based on a relief from royalty method. The DCF models were negatively impacted by the
cancellation of the state of Illinois Prison Services contract, which is expected to be fully terminated during the year
ending December 31, 2013 and forecasted break-even operating results of Business Systems. Based on the relief
from royalty method we determined that the carrying value the tradenames associated with the Prison Services and
Business Systems exceeded the estimated fair value and were impaired. During the quarter ended December 31,
2012, we recorded an impairment charge of $1.8 million to write off the tradenames associated with the Prison
Services and Business Systems reporting units included in the Other Operations segment.
Goodwill
Goodwill is the excess of the acquisition cost of a business over the fair value of the identifiable net assets acquired.
As noted above, goodwill is not amortized but instead evaluated annually for impairment using a preliminary
qualitative assessment and two-step process, if deemed necessary. In 2012, we adopted an Accounting Standards
Update No. 2011-08 – Intangibles-Goodwill and Other (Topic 350) Testing Goodwill for Impairment, that allows an
entity to consider qualitative indicators to determine if the current two-step test is necessary. Under the provisions
of the amended guidance, the step-one test of a reporting unit’s fair value is not required unless, as a result of the
qualitative assessment, it is more likely than not (a likelihood of more than 50%) that fair value of the reporting unit
is less than its carrying amount. Events and circumstances integrated into the qualitative assessment process include
a combination of macroeconomic conditions affecting equity and credit markets, significant changes to the cost
structure, overall financial performance and other relevant events affecting the reporting unit. A company is
permitted to skip the qualitative assessment at its election, and proceed to Step 1 of the quantitative test, which we
chose to do in 2012. In the first step of the impairment test, the fair value of each of our two reporting units is
compared to its carrying amount, including goodwill.
The estimated fair value of the reporting unit is determined using a combination of market-based approaches and a
DCF model. The assumptions used in the estimate of fair value are based upon a combination of historical results
and trends, new industry developments and future cash flow projections, as well as relevant comparable company
earnings multiples for the market-based approaches. Such assumptions are subject to change as a result of changing
economic and competitive conditions. We use a weighting of the results derived from the valuation approaches to
F-10
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
YEARS ENDED DECEMBER 31, 2012, 2011 AND 2010
estimate the fair value of the TORU. We used a DCF model to estimate the fair value of the Prison Services and
Business Systems reporting units. The fair value of the TORU exceeded the carrying value at December 31, 2012.
For the Prison Services and Business Systems reporting units, the carrying values exceeded the fair value indicating
a potential impairment existed.
If the carrying value of the reporting unit exceeds its fair value, the second step of the impairment test is performed
to measure the amount of impairment loss. In measuring the fair value of our reporting units as previously
described, we consider the combined carrying and fair values of our reporting units in relation to our overall
enterprise value, measured as the publicly traded stock price multiplied by the fully diluted shares outstanding plus
the value of outstanding debt. Our reporting unit fair value models are consistent with a range in value indicated by
both the preceding three month average stock price and the stock price on the valuation date, plus an estimated
acquisition premium which is based on observable transactions of comparable companies, if applicable.
The second step compares the implied fair value of the reporting unit goodwill with the carrying amount of that
goodwill. The implied fair value is determined by allocating the fair value of the reporting unit to all of the assets
and liabilities other than goodwill in a manner similar to a purchase price allocation. The excess of the fair value of a
reporting unit over the amounts assigned to its assets and liabilities is the implied fair value of goodwill. If the
carrying amount of goodwill is greater than the implied fair value of that goodwill, then an impairment charge would
be recorded equal to the difference between the implied fair value and the carrying value. We determined that the
based on the allocation of the fair value of the reporting unit to assets and liabilities in second step of the impairment
testing that the goodwill recorded at the Prison Services and Business Systems reporting units included in the Other
Operations segment were impaired and recorded an impairment charge of $1.0 million during the quarter ended
December 31, 2012.
The following table summarizes the carrying amount of goodwill recorded for the Telephone Operations and Other
Operations segments at December 31, 2012 and 2011:
(In thousands)
Telephone operations
Other operations
Total
2012
2011
$
$
604,988
–
604,988
$
$
519,542
1,020
520,562
Finite-Lived Intangible Assets
Customer Lists
Finite lived intangible assets subject to amortization consist primarily of our customer lists of an established base of
customers that subscribe to our services. Customer lists are amortized on a straight-line basis over their estimated
useful lives (ranging from 3 to 13 years) based upon our historical experience with customer attrition. In accordance
with the applicable guidance relating to the impairment or disposal of long-lived assets, we evaluate the potential
impairment of finite-lived intangible assets when impairment indicators exist. If the carrying value is no longer
recoverable based upon the undiscounted future cash flows of the asset, an impairment equal to the difference
between the carrying amount and the fair value of the asset is recognized. In 2012, we removed the fully amortized
customer list balances of $0.2 million and $4.4 million included in the Telephone Operations and Other Operations,
respectively.
The following is the carrying amount of customer lists at December 31, 2012 and 2011:
(In thousands)
Gross carrying amount
Less: accumulated amortization
Net carrying amount
Telephone Operations
2012
2011
193,124
(135,754)
57,370
195,651
(157,579)
38,072
$
$
$
$
Other Operations
2012
–
–
$
-
2011
$
4,405
(3,964)
441
$
F-11
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
YEARS ENDED DECEMBER 31, 2012, 2011 AND 2010
Amortization expense for the years ended December 31, 2012, 2011 and 2010 was $22.4 million and $22.1 million
and $22.1 million, respectively. The weighted-average remaining period over which customer lists are being
amortized is 2.63 years. Expected amortization expense for the years 2013 through 2017 is as follows:
(In thousands)
2013
2014
2015
2016
2017
Total
$
8,921
8,921
8,848
8,776
2,606
38,072
$
Derivative Financial Instruments
We use derivative financial instruments to manage our exposure to the risks associated with fluctuations in interest
rates. Our interest rate swap agreements effectively convert a portion of our floating-rate debt to a fixed-rate basis,
thereby reducing the impact of interest rate changes on future cash interest payments. At the inception of a hedge
transaction, we formally document the relationship between the hedging instruments including our objective and
strategy for establishing the hedge. In addition, the effectiveness of the derivative instrument is assessed at
inception and on an ongoing basis throughout the hedging period. Counterparties to derivative instruments expose
us to credit-related losses in the event of nonperformance. We execute agreements only with financial institutions
we believe to be creditworthy and regularly assess the credit worthiness of each of the counterparties. We do not
use derivative instruments for trading or speculative purposes.
Derivative financial instruments are recorded at fair value in our consolidated balance sheet. Certain of our interest
rate swaps are designated as cash flow hedges of our expected future interest payments. Fair value is determined
based on publicly available interest rate yield curves and an estimate of our nonperformance risk or our
counterparty’s nonperformance credit risk, as applicable. We do not anticipate any nonperformance by any
counterparty.
For derivative instruments designated as a cash flow hedges, the effective portion of the change in the fair value is
recognized as a component of accumulated other comprehensive income (loss) (“AOCI”) and is recognized as an
adjustment to earnings over the period in which the hedged item impacts earnings. When an interest rate swap
agreement terminates, any resulting gain or loss is recognized over the shorter of the remaining original term of the
hedging instrument or the remaining life of the underlying debt obligation. The ineffective portion of the change in
fair value of any hedging derivative is recognized immediately in earnings. If a derivative instrument is de-
designated, the remaining gain or loss in AOCI on the date of de-designation is amortized to earnings over the
remaining term of the hedging instrument. For derivative financial instruments that are not designated as a hedge,
changes in fair value are recognized on a current basis in earnings. Cash flows from hedging activities are classified
under the same category as the cash flows from the hedged items in our consolidated statement of cash flows. See
Note 7 for further discussion of our derivative financial instruments.
Share-based Compensation
Our share-based compensation consists of the issuance of restricted stock awards (“RSAs”) and performance share
awards (“PSAs”) (collectively “stock awards”). Associated costs are based on a stock award’s estimated fair value
at the date of the grant and are recognized over a period in which any related services are provided. We recognize
the cost of RSAs and PSAs on a straight-line basis over the requisite service period, generally from immediate vest
to a four-year vesting period. See Note 8 for further details regarding share-based compensation.
Pension Plan and Other Post-Retirement Benefits
We maintain noncontributory defined benefit pension plans and provide certain post-retirement benefits other than
pensions to certain eligible employees. We also maintain unfunded supplemental retirement plans to provide
incremental pension payments to certain former employees.
We recognize pension expense during the current period in the consolidated income statement using certain
assumptions, including the expected long-term rate of return on plan assets, interest cost implied by the discount rate
and the amortization of unrecognized gains and losses. Refer to Note 9 for further details regarding the
determination of these assumptions.
F-12
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
YEARS ENDED DECEMBER 31, 2012, 2011 AND 2010
We recognize the overfunded or underfunded status of our defined benefit pension and post-retirement plans as
either an asset or liability in the consolidated balance sheet. We recognize changes in the funded status in the year
in which the changes occur through comprehensive income, net of applicable income taxes, including unrecognized
actuarial gains and losses and prior service costs and credits.
Income Taxes
We base our provision for income taxes on our current period income, changes in our deferred income tax assets and
liabilities, income tax rates, changes in estimates of our uncertain tax positions and tax planning opportunities
available in the jurisdictions in which we operate. We recognize deferred tax assets and liabilities when there are
temporary differences between the financial reporting basis and tax basis of our assets and liabilities and for the
expected benefits of using net operating loss and tax credit loss carryforwards. When a change in the tax rate or tax
law has an impact on deferred taxes, we apply the change based on the years in which the temporary differences are
expected to reverse. As we operate in more than one state, changes in our state apportionment factors, based on
operational results, may affect our future effective tax rates and the value of our deferred tax assets and liabilities.
We record a change in tax rates in our consolidated financial statements in the period of enactment.
Income tax consequences that arise in connection with a business combination include identifying the tax basis of
assets and liabilities acquired and any contingencies associated with uncertain tax positions assumed or resulting
from the business combination. Deferred tax assets and liabilities related to temporary differences of an acquired
entity are recorded as of the date of the business combination and are based on our estimate of the ultimate tax basis
that will be accepted by the various taxing authorities.
We classify interest and penalties, if any, associated with our uncertain tax positions as a component of interest
expense and general and administrative expense, respectively. See Note 10 for additional information on income
taxes.
Revenue Recognition
We recognize revenue when (i) persuasive evidence of an arrangement exists between us and the customer,
(ii) delivery of the product to the customer has occurred or service has been provided to the customer, (iii) the price
to the customer is fixed or determinable and (iv) collectability of the sales price is reasonably assured. Revenues
based on a flat fee, derived principally from local telephone, dedicated network access, data communications,
Internet access service and residential/business broadband service are billed in advance and recognized in
subsequent periods when the services are provided. Revenues for usage-based services, such as per-minute long-
distance service and access charges billed to other telephone carriers for originating and terminating long-distance
calls on our network, are billed in arrears. We recognize revenue from these services in the period the services are
rendered rather than billed. Earned but unbilled usage-based services are recorded in accounts receivable.
When required as part of providing service, revenues related to nonrefundable, upfront service activation and setup
fees are deferred and recognized over the estimated customer life.
Incremental direct costs of telecommunications service activation are charged to expense in the period in which they
are incurred, except when we maintain ownership of wiring installed during the activation process. In such cases the
cost is capitalized and charged to expense over the estimated useful life of the asset.
revenues generated
the point of sale.
Telephone equipment
Telecommunications systems and structured cabling project revenues are recognized when the project is completed.
Maintenance services are provided on both a contract and time and material basis and are recorded when the service
is provided. Print advertising and publishing revenues are recognized ratably over the life of the related directory,
generally 12 months.
retail channels are
recorded at
from
Subsidies, including universal service revenues, are government-sponsored support mechanisms to assist in funding
services in mostly rural, high-cost areas. These revenues typically are based on information we provide and are
calculated by the administering government agency. Subsidies are recognized in the period the service is provided.
There is a reasonable possibility that out of period subsidy adjustments may be recorded in the future, but they are
anticipated to be immaterial to our results of operation, financial position and cash flow.
We collect and remit Federal Universal Service contributions on a gross basis, which resulted in recorded revenue of
$11.0 million for the year ended December 31, 2012. We account for all other taxes collected from customers and
remitted to the respective government agencies on a net basis.
F-13
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
YEARS ENDED DECEMBER 31, 2012, 2011 AND 2010
Advertising Costs
Advertising costs are expensed as incurred. Advertising expense was $5.1 million, $2.4 million and $2.5 million in
2012, 2011 and 2010 respectively.
Statement of Cash Flows Information
During 2012, 2011 and 2010, we made payments for interest and income taxes as follows:
(In thousands)
Interest, net of amounts capitalized ($515, $144 and $173
in 2012, 2011 and 2010, respectively)
Income taxes paid, net
2012
2011
2010
$
$
63,541
4,991
$
$
47,071
8,788
$
$
50,032
18,706
Noncash investing and financing activities:
As described in Note 3, we issued $148.4 million in shares of the Company’s common stock in connection with the
acquisition of SureWest in 2012.
In 2012, we acquired equipment of $0.4 million through a capital lease agreement.
Noncontrolling Interest
We have a majority-owned subsidiary, East Texas Fiber Line Incorporated (“ETFL”) which is a joint venture owned
63% by the Company and 37% by Eastex Telecom Investments, LLC. ETFL provides connectivity over a fiber
optic transport network to certain customers residing in Texas.
Recent Accounting Pronouncements
In July 2012, Financial Accounting Standards Board (“FASB”) issued the Accounting Standards Update No. 2012-
02 (“ASU 2012-02”), Testing Indefinite-Lived Intangible Assets for Impairment. ASU 2012-02 permits an entity to
perform an initial assessment of qualitative factors to determine whether it is more likely than not that a non-
goodwill indefinite-lived intangible asset is impaired and thus whether it is necessary to calculate the asset's fair
value for the purpose of comparing it with the asset's carrying amount. The amended guidance is effective for annual
and interim impairment tests performed for fiscal years beginning after September 15, 2012, with early adoption
permitted. We are currently evaluating the impact this update will have on our condensed consolidated financial
statements.
Effective January 1, 2012, we adopted Accounting Standards Update No. 2011-04 (“ASU 2011-04”), Amendments
to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and International
Financial Reporting Standards (“IFRS”). This pronouncement was issued to provide a consistent definition of fair
value and ensure that the fair value measurement and disclosure requirements are similar between U.S. GAAP and
IFRS. ASU 2011-04 changes certain fair value measurement principles and enhances the disclosure requirements
particularly for Level 3 fair value measurements. The adoption of this standard did not have a material impact on
our consolidated financial statements.
Effective January 1, 2012, we adopted Accounting Standards Update No. 2011-05 (“ASU 2011-05”), Presentation
of Comprehensive Income. ASU 2011-05 requires an entity to either present components of net income and other
comprehensive income in one continuous statement or in two separate but consecutive statements. Accordingly, we
have presented net income and other comprehensive income in two consecutive statements.
Effective January 1, 2012, we adopted Accounting Standards Update No. 2011-08 (“ASU 2011-08”), Intangibles-
Goodwill and Other (Topic 350) Testing Goodwill for Impairment. ASU 2011-08 provides entities an option to
perform a qualitative assessment to determine whether further impairment testing on goodwill is necessary.
Specifically, an entity has the option to first assess qualitative factors to determine whether it is necessary to perform
the current two-step test. If an entity believes, as a result of its qualitative assessment, that it is more likely than not
that the fair value of a reporting unit is less than its carrying amount, the quantitative impairment test is required.
Otherwise, no further testing is required. Our adoption of this guidance did not impact our consolidated financial
position or results of operations. For a more detailed discussion of the effects of applying the provisions of this
guidance, refer to the Intangible Assets-Goodwill section above in Note 1.
F-14
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
YEARS ENDED DECEMBER 31, 2012, 2011 AND 2010
Reclassifications
Certain amounts in our 2011 and 2010 consolidated financial statements have been reclassified to conform to the
presentation of our 2012 consolidated financial statements. Inventories and the related activity have been
reclassified from current assets to property, plant and equipment on the consolidated balance sheets and statements
of cash flows. Inventories consist primarily of network construction materials and supplies that when issued are
capitalized as part of new customer installations and the construction of the network. The proportion of the items
included in inventories that are capitalized to property, plant and equipment continues to increase as a result of the
growth in the broadband services offered by the Company.
2. EARNINGS PER SHARE
We compute net income per share using the two-class method. The two-class method is an earnings allocation
formula that determines income per share for each class of common stock and participating security according to
dividends declared and participation rights in undistributed earnings. Basic net income per share is computed using
the weighted-average number of common shares outstanding during the period. Diluted net income attributable to
our shareholders is computed using the weighted-average number of common shares and the effect of potentially
dilutive securities outstanding during the period. Potentially dilutive shares consist of restricted shares, and shares
subject to repurchase and cancellation.
The computation of basic and diluted earnings per share attributable to common shareholders is as follows:
(In thousands, except per share amounts)
2012
2011
2010
Basic and Diluted Earnings Per Share using Two-class Method:
Net income
Less: net income attributable to noncontrolling interest
Net income attributable to common shareholders before
allocation of earnings to participating securities
Less: earnings allocated to participating securities
Net income attributable to common shareholders
$
$
6,171
531
5,640
351
5,289
$
$
26,982
572
26,410
429
25,981
$
$
33,152
557
32,595
439
32,156
Weighted-average number of common shares outstanding
34,652
29,600
29,490
Net income per common share attributable to common
shareholders - basic and diluted
$
0.15
$
0.88
$
1.09
An additional 0.3 million shares were not included in the computation of potentially dilutive securities at December
31, 2012, 2011 and 2010, because they were anti-dilutive.
3. MERGER WITH SUREWEST COMMUNICATIONS
On July 2, 2012, we completed the merger with SureWest Communications (“SureWest”), which resulted in the
acquisition of 100% of all the outstanding shares of SureWest for $23.00 per share in a cash and stock transaction.
SureWest provides telecommunication services in Northern California, primarily in the greater Sacramento region,
and in the greater Kansas City, Kansas and Missouri areas. The total purchase price of $550.8 million consisted of
cash and assumed debt of $402.4 million and 9,965,983 shares of the Company’s common stock valued at the
Company’s opening stock price on July 2, 2012 of $14.89, which totaled $148.4 million. We acquired SureWest to
provide additional diversification of our revenues and cash flows.
Subsequent to the merger, the financial results of SureWest operations have been included in our consolidated
statement of operations within the Telephone Operations segment. SureWest contributed $133.1 million in net
revenues and recorded net income of $2.5 million for the period of July 2, 2012 through December 31, 2012, which
includes $9.5 million in acquisition related costs. As of December 31, 2012, we recognized change-in-control
payments to former members of the SureWest management team of $8.6 million, which is expected to be paid
during the six months ended June 30, 2013. These payments were recognized in financing and other transaction
costs in the consolidated statement of operations during the year ended December 31, 2012 due to the close of the
acquisition and the change or elimination of job duties.
F-15
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
YEARS ENDED DECEMBER 31, 2012, 2011 AND 2010
The acquisition of SureWest has been accounted for using the acquisition method in accordance with the FASB’s
Accounting Standards Codification Topic 805, Business Combinations. Accordingly, the net assets acquired are
recorded at their estimated fair values at July 2, 2012. These values are derived from a preliminary purchase price
allocation, which is subject to change based on the completed tax analysis. The Company expects to complete the
tax analysis by June 30, 2013, which may impact the fair values of the net assets acquired at the acquisition date
during the measurement period.
The following table summarizes the preliminary purchase price allocation:
Current assets
Property, plant and equipment
Goodwill
Other intangible assets
Other long-term assets
Total assets acquired
Current liabilities
Pension and other post-retirement obligations
Deferred income taxes
Other long-term liabilities
Total liabilities assumed
Net assets acquired
(In thousands)
$ 46,872
591,818
85,559
3,600
4,860
732,709
53,566
55,916
68,317
4,114
181,913
$ 550,796
The acquired current assets include cash of $17.1 million and trade receivables with a fair value of approximately
$21.6 million and a gross value of approximately $23.4 million. We believe that the estimated fair value of the trade
receivables approximates the amount to be eventually collected. The acquired other intangible assets of
approximately $3.6 million consists of the estimated fair values assigned to customer lists of $2.7 million and
tradenames of $0.9 million. The customer list intangible asset is being amortized over the estimated useful life of 3
or 5 years, depending on customer type. During the period ending December 31, 2012, we recorded amortization
expense of approximately $0.3 million relating to the customer lists. Goodwill of $85.6 million and the tradenames
of $0.9 million are indefinite-lived assets which are not subject to amortization; however, they are tested annually
for impairment or more frequently when events or changes in circumstances indicate that the asset might be
impaired. We evaluate our goodwill for impairment annually as of November 30, as described in Note 1 above.
Goodwill recognized from the acquisition primarily relates to the expected contributions of the entity to the overall
corporate strategy in addition to synergies and acquired workforce, which are not separable from goodwill.
Goodwill is not deductible for income tax purposes.
During the quarter ended December 31, 2012, the Company adjusted its preliminary purchase price allocation due to
the finalization of amounts recorded based on estimates and the reclassification of $2.2 million previously included
in other long term liabilities to current liabilities. We also updated our valuation of the real and personal property
and intangible assets, which resulted in an increase to property, plant and equipment of $40.5 million, a decrease to
other intangible assets relating to customer lists of $6.9 million and an increase to deferred tax liabilities of $10.0
million due to the increase in value assigned to the property, plant and equipment. Goodwill was reduced by $23.8
million due to the changes in valuation of assets and liabilities. These adjustments to the preliminary purchase price
allocation have been recorded retrospectively as of the acquisition date.
Unaudited Pro Forma Results
The following unaudited pro forma information presents our results of operations as if the acquisition of SureWest
occurred on January 1, 2011. The adjustments to arrive at the pro forma information below included additional
depreciation and amortization expense for the fair value increases to property plant and equipment, software and
customer relationships. Interest expense was increased to reflect the additional debt entered into to finance a portion
of the acquisition price. Shares used to calculate the basic and diluted earnings per share were adjusted to reflect the
additional shares of common stock issued to fund a portion of the acquisition price. The pro forma information
below does not purport to present the actual results that would have resulted if the acquisition had in fact occurred at
the beginning of the fiscal periods presented, nor does the information project results for any future period.
F-16
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
YEARS ENDED DECEMBER 31, 2012, 2011 AND 2010
(Unaudited; in thousands, except share amounts)
Operating revenues
Income from operations
Net income
Less: income attributable to noncontrolling interest
Net income attributable to common stockholders
Basic and diluted earnings per common share:
Year Ended December 31,
2012
2011
$
$
$
631,359
71,862
10,465
531
9,934
$
$
$
$
623,590
70,411
9,969
572
9,397
$
Net income
$
0.29
$
0.24
4. INVESTMENTS
Our investments are as follows:
(In thousands)
Cash surrender value of life insurance policies
Cost method investments:
GTE Mobilnet of South Texas Limited Partnership (2.34% interest)
Pittsburgh SMSA Limited Partnership (3.60% interest)
CoBank, ACB Stock
Other
Equity method investments:
GTE Mobilnet of Texas RSA #17 Limited Partnership (20.51% interest)
Pennsylvania RSA 6(I) Limited Partnership (16.6725% interest)
Pennsylvania RSA 6(II) Limited Partnership (23.67% interest)
CVIN, LLC (13.61% interest)
Totals
2012
2011
$
2,045
$
1,978
21,450
22,950
5,023
430
25,695
7,286
23,338
1,533
109,750
$
21,450
22,950
3,394
15
19,422
7,063
21,797
–
98,069
$
Cost Method
We own 2.34% of GTE Mobilnet of South Texas Limited Partnership (the “Mobilnet South Partnership”). The
principal activity of the Mobilnet South Partnership is providing cellular service in the Houston, Galveston, and
Beaumont, Texas metropolitan areas. We also own 3.60% of Pittsburgh SMSA Limited Partnership (“Pittsburgh
SMSA”), which provides cellular service in and around the Pittsburgh metropolitan area. Because of our limited
influence over these partnerships, we use the cost method to account for both of these investments. It is not
practicable to estimate fair value of these investments. We did not evaluate any of the investments for impairment
as no factors indicating impairment existed during the year. In 2012, 2011 and 2010, we received cash distributions
from these partnerships totaling $14.1 million, $11.1 million and $11.7 million, respectively.
CoBank, ACB (“CoBank”) is a cooperative bank owned by its customers. Annually, CoBank distributes patronage
in the form of cash and stock in the cooperative based on the Company’s outstanding loan balance with CoBank,
which has traditionally been a significant lender in the Company’s credit facility. The investment in CoBank
represents the accumulation of the equity patronage paid by CoBank to the Company.
Equity Method
We own 20.51% of GTE Mobilnet of Texas RSA #17 Limited Partnership (“RSA #17”), 16.6725% of Pennsylvania
RSA 6(I) Limited Partnership (“RSA 6(I)”) and 23.67% of Pennsylvania RSA 6(II) Limited Partnership (“RSA
6(II)”). RSA #17 provides cellular service to a limited rural area in Texas. In December 2012, we purchased
additional ownership interest in RSA #17 for $6.7 million which increased our ownership from 17.02% to 20.51%.
RSA 6(I) and RSA 6(II) provide cellular service in and around our Pennsylvania service territory. Because we have
significant influence over the operating and financial policies of these three entities, we account for the investments
using the equity method. In 2012, 2011 and 2010, we received cash distributions from these partnerships totaling
$15.0 million, $17.2 million and $15.6 million, respectively. The carrying value of the investments exceeds the
underlying equity in net assets of the partnerships by $33.0 million. In 2011, we disposed of our 50% ownership
interest in Boulevard Communications, LLP, a competitive access provider in western Pennsylvania and recognized
a loss of $22 thousand.
F-17
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
YEARS ENDED DECEMBER 31, 2012, 2011 AND 2010
We have a 13.61% interest in Central Valley Independent Network, LLC (“CVIN”), a joint enterprise comprised of
affiliates of several independent telephone companies located in central and northern California. CVIN provides
network services and oversees a broadband infrastructure project designed to expand and improve the availability of
network services to counties in central California. We did not receive any distributions from this partnership in
2012.
The combined unaudited results of operations and financial position of our three equity investments in the cellular
limited partnerships are summarized below:
(In thousands)
Total revenues
Income from operations
Net income before taxes
Net income
Current assets
Non-current assets
Current liabilities
Non-current liabilities
Partnership equity
$
$
2012
2011
$
$
299,389
83,577
83,633
83,283
49,982
79,529
15,417
1,351
112,734
305,965
84,803
84,844
84,483
44,739
79,432
14,523
1,096
108,552
$
$
2010
258,249
77,830
79,473
78,973
48,802
78,262
12,916
874
113,293
5. FAIR VALUE MEASUREMENTS
Financial Instruments
The Company’s derivative instruments related to interest rate swap agreements are required to be measured at fair
value on a recurring basis. The fair values of the interest rate swaps are determined using an internal valuation
model which relies on the expected London Interbank Offered Rate (“LIBOR”) based yield curve and estimates of
counterparty and Consolidated’s non-performance risk as the most significant inputs. Because each of these inputs
are directly observable or can be corroborated by observable market data, we have categorized these interest rate
swaps as Level 2 within the fair value hierarchy. See Note 7 for further discussion regarding our interest rate swap
agreements.
Our interest rate swap liabilities measured at fair value on a recurring basis and subject to disclosure requirements at
December 31, 2012 and 2011 were as follows:
As of December 31, 2012
Quoted Prices
In Active
Markets for
Identical Assets
(Level 1)
S ignificant
Other
Observable
Inputs
(Level 2)
S ignificant
Unobservable
Inputs
(Level 3)
–
–
–
$
$
(3,164)
(3,919)
(7,083)
$
–
–
–
$
As of December 31, 2011
Quoted Prices
In Active
Markets for
Identical Assets
(Level 1)
S ignificant
Other
Observable
Inputs
(Level 2)
S ignificant
Unobservable
Inputs
(Level 3)
–
–
–
$
$
(3,580)
(12,401)
(15,981)
$
–
–
–
$
(In thousands)
Current interest rate swap liabilities
Long-term interest rate swap liabilities
Totals
Total
$ (3,164)
(3,919)
(7,083)
$
(In thousands)
Current interest rate swap liabilities
Long-term interest rate swap liabilities
Totals
Total
$ (3,580)
(12,401)
(15,981)
$
F-18
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
YEARS ENDED DECEMBER 31, 2012, 2011 AND 2010
The change in the fair value of the derivatives is primarily a result of a change in market expectations for future
interest rates.
We have not elected the fair value option for any of our financial assets or liabilities. The carrying value of other
financial instruments, including cash, accounts receivable, accounts payable and accrued liabilities approximate fair
value due to their short maturities or variable-rate nature of the respective balances. The following table presents the
other financial instruments that are not carried at fair value but which require fair value disclosure as of December
31, 2012 and 2011.
(In thousands)
Investments, equity basis
Investments, at cost
Long-term debt
As of December 31, 2012
As of December 31, 2011
Carrying Value
$
57,852
$
49,853
$
1,213,000
Fair Value
n/a
n/a
1,231,355
$
Carrying Value
$
48,282
$
47,809
$
880,000
Fair Value
n/a
n/a
880,000
$
Cost & Equity Method Investments
The Company’s investments at December 31, 2012 and 2011 accounted for under both the equity and cost methods
consists primarily of minority positions in various cellular telephone limited partnerships and our investment in
CoBank. These investments are recorded using either the equity or cost methods. It is impracticable to determine
fair value of these investments.
Long-term Debt
The fair value of our long-term debt was estimated using a discounted cash flow analyses based on incremental
borrowing rates for similar types of borrowing arrangements. We have categorized the long-term debt as Level 2
within the fair value hierarchy.
6. LONG-TERM DEBT
Long-term debt, presented net of unamortized discounts, consisted of the following:
(In thousands)
Senior secured credit facility:
Term loan 1
Term loan 2
Term loan 3, net of discount of $5,088
Senior notes, net of discount of $1,873
Capital leases
Less: current portion of long-term debt and capital leases
Total long-term debt
2012
2011
$ -
404,961
509,912
298,127
4,844
1,217,844
(9,596)
$ 1,208,248
470,948
$
409,052
–
–
4,711
884,711
(8,992)
$ 875,719
Credit Agreement
The Company, through certain of its wholly owned subsidiaries, has an outstanding credit agreement with several
financial institutions, which consists of a $50.0 million revolving credit facility and outstanding term loans of $914.9
million at December 31, 2012. The credit facility also includes an incremental term loan facility which provides the
ability to borrow up to $300.0 million of incremental term loans. As of December 31, 2012 and 2011, no amounts
were outstanding under the revolving credit facility. Borrowings under the senior secured credit facility are secured
by substantially all of the assets of the Company, with the exception of Illinois Consolidated Telephone Company
and our majority-owned subsidiary, East Texas Fiber Line Incorporated.
Our term loans under the credit facility, as amended, were issued in three separate tranches, resulting in different
maturity dates and interest rate margins for each term loan. Prior to being refinanced in December 2012, the first
term loan (“Term 1”) consisted of an original aggregate principal amount of $470.9 million maturing on December
31, 2014 and had an applicable margin (at our election) equal to either 2.50% for a LIBOR-based term loan or
1.50% for an alternative base rate loan. The Term 1 loan required quarterly principal payments of $1.2 million
which began on March 31, 2012. The second term loan (“Term 2”) consists of an original aggregate principal
amount $409.1 million, matures on December 31, 2017 and currently has an applicable margin (at our election)
F-19
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
YEARS ENDED DECEMBER 31, 2012, 2011 AND 2010
equal to either 4.00% for a LIBOR-based term loan or 3.00% for an alternative base rate term loan. The Term 2
loan also requires $1.0 million in quarterly principal payments which began on March 31, 2012.
In December 2012, we entered into a Second Amendment and Incremental Facility Agreement (the “Second
Amendment”) to amend our credit agreement. Under the terms of the Second Amendment, we issued incremental
term loans (“Term 3”) in the aggregate amount of $515.0 million, with a maturity date of December 31, 2018, and
used the proceeds in part to repay the outstanding Term 1 loan debt of $467.4 that was due to mature December 31,
2014 and to repay outstanding revolving loan in the amount of $35.0 million. The Term 3 loan requires quarterly
principal payments of $1.3 million commencing March 31, 2013 and has an applicable margin (at our election)
equal to either 4.00% for a LIBOR-based term loan or 3.00% for an alternative base rate term loan subject to a
1.25% LIBOR floor. The Term 3 loan contains an original issuance discount of $5.2 million, which will be
amortized over the term of the loan. In connection with entering into the Second Amendment, fees of $4.2 million
were capitalized as deferred debt issuance costs. We also incurred a loss on the extinguishment of debt of $4.5
million related to the repayment of our outstanding Term 1 loan during the year ended December 31, 2012.
Our revolving credit facility has a maturity date of June 8, 2016 and an applicable margin (at our election) of
between 2.75% and 3.50% for LIBOR-based borrowings and between 1.75% and 2.50% for alternative base rate
borrowings, depending on our leverage ratio. Based on our leverage ratio at December 31, 2012, the borrowing
margin for the next three month period ending March 31, 2013 will be at a weighted-average margin of 3.25% for a
LIBOR-based loan or 2.25% for an alternative base rate loan. The applicable borrowing margin for the revolving
credit facility is adjusted quarterly to reflect the leverage ratio from the prior quarter-end. During the year ended
December 31, 2012, we borrowed $35.0 million of the revolving credit facility in connection with the acquisition of
SureWest as described in Note 3. As described above, the outstanding balance of the revolving credit facility was
repaid with the proceeds from the issuance of the incremental Term 3 loan in December 2012. There were no
borrowings or letters of credit outstanding under the revolving credit facility as of December 31, 2012 and 2011.
The weighted-average interest rate on outstanding borrowings under our credit agreement was 4.79% and 3.38% at
December 31, 2012 and 2011, respectively. Interest is payable at least quarterly.
Net proceeds from asset sales exceeding certain thresholds, to the extent not reinvested, are required to be used to
repay loans outstanding under the credit agreement.
Covenant Compliance
The credit agreement contains various provisions and covenants, including, among other items, restrictions on the
ability to pay dividends, incur additional indebtedness, and issue capital stock. We have agreed to maintain certain
financial ratios, including interest coverage, and total net leverage ratios, all as defined in the credit agreement. As
of December 31, 2012, we were in compliance with the credit agreement covenants.
Effective February 17, 2012, we amended our credit facility to provide us with the ability to incur indebtedness
necessary to finance the acquisition of SureWest, which enabled us to issue the Senior Notes described below. In
connection with the amendment, fees of $3.5 million were recognized as financing and other transaction costs
during the quarter ended March 31, 2012.
In general, our credit agreement restricts our ability to pay dividends to the amount of our available cash (as defined
in our credit agreement) accumulated after October 1, 2005, plus $23.7 million and minus the aggregate amount of
dividends paid after July 27, 2005. Based on the results of operations from October 1, 2005 through December 31,
2012, and after taking into consideration dividend payments (including the $15.4 million dividend declared in
November 2012 and paid on February 1, 2013), we continue to have $192.8 million in dividend availability under
the credit facility covenant.
Under our credit agreement, if our total net leverage ratio (as defined in the credit agreement), as of the end of any
fiscal quarter, is greater than 5.10:1.00, we will be required to suspend dividends on our common stock unless
otherwise permitted by an exception for dividends that may be paid from the portion of proceeds of any sale of
equity not used to fund acquisitions, or make other investments. During any dividend suspension period, we will be
required to repay debt in an amount equal to 50.0% of any increase in Available Cash, among other things. In
addition, we will not be permitted to pay dividends if an event of default under the credit agreement has occurred
and is continuing. Among other things, it will be an event of default if our interest coverage ratio as of the end of
any fiscal quarter is below 2.25:1.00. As of December 31, 2012, our total net leverage ratio was 4.34:1.00, and our
interest coverage ratio was 3.77:1.00.
F-20
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
YEARS ENDED DECEMBER 31, 2012, 2011 AND 2010
Senior Notes
On May 30, 2012, we completed an offering of $300.0 million aggregate principal amount of 10.875% unsecured
Senior Notes, due 2020 through our wholly-owned subsidiary, Consolidated Communications Finance Co.
(“Finance Co.”) for the acquisition of SureWest. The Senior Notes will mature on June 1, 2020 and earn interest at
a rate of 10.875% per year, payable semi-annually in arrears on June 1 and December 1 of each year, commencing
on December 1, 2012. The Senior Notes were sold in the United States to qualified institutional buyers pursuant to
Rule 144A under the Securities Act of 1933 (the “Securities Act”) and outside the Unites States in compliance with
Regulation S under the Securities Act. In addition, some of the Senior Notes were sold to certain “accredited
investors” (as defined in Rule 501 under the Securities Act). The Senior Notes were sold to investors at a price
equal to 99.345% of the principal amount thereof, for a yield to maturity of 11.00%. This discount will be
amortized over the term of the Senior Notes. The proceeds of the sale of the Senior Notes were held in an escrow
account prior to the closing of the SureWest transaction. Upon closing of the SureWest acquisition on July 2, 2012,
Finance Co. merged with and into our wholly-owned subsidiary Consolidated Communications, Inc., which
assumed the Senior Notes, and we and certain of our subsidiaries fully and unconditionally guaranteed the Senior
Notes. On August 3, 2012, SureWest and its subsidiaries guaranteed the Senior Notes. Deferred debt issuance costs
of $7.8 million incurred in connection with the issuance of the Senior Notes will be amortized using the effective
interest method over the term of the Senior Notes through June 2020. The indenture governing the Senior Notes
contains customary covenants for high yield notes, which limits Consolidated Communications, Inc.’s and its
restricted subsidiaries’ ability to:
(cid:120)
(cid:120)
(cid:120)
incur debt or issue certain preferred stock;
pay dividends or make other distributions on capital stock or prepay subordinated indebtedness;
purchase or redeem any equity interests;
(cid:120) make investments;
(cid:120)
(cid:120)
(cid:120)
(cid:120)
(cid:120)
(cid:120)
create liens;
sell assets;
enter into agreements that restrict dividends or other payments by restricted subsidiaries;
consolidate, merger or transfer all or substantially all of its assets;
engage in transactions with its affiliates; or
enter into any sale and leaseback transactions.
Bridge Loan Facility
In connection with the acquisition of SureWest, on February 5, 2012 the Company received committed financing for
a total of $350.0 million to fund the cash portion of the anticipated transaction, to refinance SureWest’s debt and to
pay for certain transaction costs. The financing package included a $350.0 million Senior Unsecured Bridge Loan
Facility (“Bridge Facility”). As anticipated, permanent financing for the SureWest acquisition was funded by our
Senior Note offering, as described above. As a result, the $4.2 million commitment fee incurred for the Bridge
Facility was capitalized as deferred debt issuance costs and was amortized over the expected life of the Bridge
Facility, which was four months.
Future Maturities of Debt
At December 31, 2012, the aggregate maturities of our long-term debt excluding capital leases were as follows:
(In thousands)
2013
2014
2015
2016
2017
Thereafter
Total maturities
Less: Unamortized discount
F-21
$ 9,240
9,240
9,240
9,240
393,751
789,250
1,219,961
(6,961)
$ 1,213,000
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
YEARS ENDED DECEMBER 31, 2012, 2011 AND 2010
As of December 31, 2012, we had five capital leases with maturities ranging from 2015 to 2021. See Note 11
regarding the future maturities of our obligations for capital leases.
7. DERIVATIVE FINANCIAL INSTRUMENTS
The following interest rate swaps were outstanding at December 31, 2012:
(In thousands)
Cash Flow Hedges:
Fixed to 1-month floating LIBOR
Fixed to 1-month floating LIBOR
Forward starting fixed to
1-month floating LIBOR
De-designated Hedges:
Fixed to 3-month floating LIBOR
3-month floating LIBOR minus
spread to 1-month floating LIBOR
Fixed to 1-month floating LIBOR
Total Fair Values
Notional
Amount
2012 Balance S heet Location
Fair Value
$
200,000
100,000
Other long-term liabilities
Current portion of derivative liability
$
(2,758)
(1,069)
75,000
Other long-term liabilities
(1,161)
130,000
Current portion of derivative liability
(1,300)
130,000
200,000
Current portion of derivative liability
Current portion of derivative liability
(16)
(779)
(7,083)
$
The following interest rate swaps, all designated as cash flow hedges, were outstanding at December 31, 2011:
(In thousands)
Cash Flow Hedges:
Fixed to 3-month floating LIBOR
Fixed to 3-month floating LIBOR
3-month floating LIBOR minus
spread to 1-month floating LIBOR
3-month floating LIBOR minus
spread to 1-month floating LIBOR
Fixed to 1-month floating LIBOR
Forward starting fixed to
1- month floating LIBOR
Total Fair Values
Notional
Amount
2011 Balance S heet Location
Fair Value
$
100,000
130,000
Current portion of derivative liability
Other long-term liabilities
$
(3,401)
(6,053)
100,000
Current portion of derivative liability
(179)
130,000
300,000
Other long-term liabilities
Other long-term liabilities
200,000
Other long-term liabilities
(269)
(5,343)
(736)
(15,981)
$
At December 31, 2012 and 2011, the interest rate on approximately 69% and 60%, respectively, of our outstanding
debt under the term loan credit facility was fixed through the use of interest rate swaps.
The counterparties to our various swaps are six major U.S. and European banks. None of the swap agreements
provide for either us or the counterparties to post collateral nor do the agreements include any covenants related to
the financial condition of Consolidated or the counterparties. The swaps of any counterparty that is a “Lender” as
defined in our credit facility are secured along with the other creditors under the credit facility. Each of the swap
agreements provides that in the event of a bankruptcy filing by either Consolidated or the counterparty, any amounts
owed between the two parties would be offset in order to determine the net amount due between parties. This
provision allows us to partially mitigate the risk of non-performance by a counterparty.
At December 31, 2012 and 2011, the pretax deferred losses related to our interest rate swap agreements included in
AOCI totaled $7.9 million and $15.9 million, respectively. The change in fair value of any ineffective portion of the
hedging derivative is recognized immediately in earnings.
On December 4, 2012, $660,000 million notional interest rate swaps designated as a cash flow hedge were de-
designated in connection with the amendment to our credit agreement as described in Note 6. Prior to the de-
designation, the effective portion of the change in fair value of these interest rate swaps were recognized in AOCI.
The balance of the unrealized loss included in AOCI as of the date the swaps were de-designated is being amortized
to earnings over the remaining term of the swap agreements. On December 31, 2012, $200,000 million notional
F-22
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
YEARS ENDED DECEMBER 31, 2012, 2011 AND 2010
interest rate swap agreements expired and the remainder will expire on March 31, 2013. Subsequent to December 4,
2012, changes in fair value of the de-designated swaps are recognized in earnings. During the year ended December
31, 2012, a gain of $2.8 million was recognized as a reduction to interest expense for the change in fair value of the
de-designated swaps.
Information regarding our cash flow hedge transactions is as follows:
(In thousands)
(Gain)/loss recognized in AOCI, pretax
Gain arising from ineffectiveness reducing interest expense
Deferred losses reclassed from AOCI to interest expense
2012
$
$
$
(6,041)
(47)
1,992
2011
(10,781)
(93)
1,250
$
$
$
2010
$
$
$
815
(146)
4,742
(In thousands, except months)
Aggregate notional value of current derivatives outstanding
Aggregate notional value of forward derivatives outstanding
Period through which derivative positions currently exist
Fair value of derivatives
Deferred losses included in AOCI (pretax)
Losses included in AOCI to be recognized in the next 12 months
Number of months over which loss in OCI is to be recognized
8. EQUITY
Share-Based Compensation
December 31,
2012
2011
$
$
630,000
75,000
March 2016
7,083
7,899
2,912
3
$
$
$
$
$
530,000
200,000
June 2015
15,981
15,932
65
15
$
$
$
Our Board of Directors may grant share-based awards from our shareholder approved Amended and Restated
Consolidated Communications Holdings, Inc. 2005 Long-term Incentive Plan (the “Plan”). The Plan permits the
issuance of awards in the form of stock options, stock appreciation rights, stock grants, stock unit grants and other
equity-based awards to eligible directors and employees at the discretion of the Compensation Committee of the
Board of Directors. Under the Plan, approximately 1,650,000 shares of our common stock are authorized for
issuance, provided that no more than 300,000 shares may be granted in the form of stock options or stock
appreciation rights to any eligible employee or director in any calendar year. Unless terminated sooner, the Plan
will continue in effect until May 5, 2019.
We measure the fair value of time-based RSAs based on the market price of the underlying common stock as of the
date of the grant. RSAs are amortized over their respective vesting periods, generally from immediate vest up to a
four year vesting period using the straight line method.
We implemented an ongoing performance-based incentive program under the Plan. The performance-based
incentive program provides for annual grants of PSAs. PSAs are restricted stock that is issued, to the extent earned,
at the end of each performance cycle. Under the performance-based incentive program, each participant is given a
target award expressed as a number of shares, with a payout opportunity ranging from 0% to 120% of the target,
depending on performance relative to predetermined goals. In accordance with the applicable accounting guidance,
an accounting estimate of the number of these shares that are expected to vest is made, and these shares are then
expensed utilizing the grant-date fair value of the shares from the grant date through the end of the vesting period.
The following table summarizes the grants of RSAs and PSAs under the Plan during the years ended December 31,
2012, 2011 and 2010:
Years Ended December 31,
2012
Grant Date
Fair Value
2011
Grant Date
Fair Value
2010
Grant Date
Fair Value
RSAs Granted
PSAs Granted
Total
$
$
14,732
68,540
83,272
19.30
19.30
127,377 $
50,440 $
177,817
17.92
17.92
115,949
98,002
213,951
$
$
18.65
18.65
The total fair value of the RSAs and PSAs that vested during the years ended December 31, 2012, 2011 and 2010
was $2.4 million, $1.6 million and $1.8 million, respectively.
F-23
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
YEARS ENDED DECEMBER 31, 2012, 2011 AND 2010
The following table summarizes the RSA and PSA activity during the year ended December 31, 2012:
Non-vested shares outstanding - January 1, 2012
Shares granted
Shares vested
Shares forfeited, cancelled or retired
Non-vested shares outstanding - December 31, 2012
Share-Based Compensation Expense
RS As
PS As
Weighted
Average Grant
Date Fair Value
17.79
$
19.30
17.63
15.74
18.33
$
S hares
129,203
14,732
(75,762)
(3,855)
64,318
Weighted
Average Grant
Date Fair Value
17.04
$
19.30
17.85
–
18.85
$
S hares
50,879
68,540
(61,198)
–
58,221
The following table summarizes total compensation costs recognized for share-based payments during the years
ended December 31, 2012, 2011 and 2010:
(In millions)
Restricted stock
Performance shares
Total
$
$
Year Ended December 31,
2011
2010
2012
1.3
1.0
2.3
$
$
1.3
0.8
2.1
$
$
1.4
1.0
2.4
Income tax benefits related to stock-based compensation of approximately $0.4 million, $0.8 million and $0.5
million was recorded for the years ended December 31, 2012, 2011 and 2010, respectively. Stock-based
compensation expense is included in “selling, general and administrative expenses” in the accompanying statements
of operations.
As of December 31, 2012, total unrecognized compensation costs related to nonvested RSAs and PSAs was $2.1
million and will be recognized over a weighted-average period of approximately 0.68 years.
Accumulated Other Comprehensive Loss
As of December 31, 2012 and 2011, accumulated other comprehensive loss, net of tax, consisted of the following:
(In thousands)
Fair value of cash flow hedges
Pension and post-retirement obligations
Deferred taxes
Totals
2012
2011
(7,899)
(65,190)
(73,089)
27,305
(45,784)
$
$
(15,932)
(44,102)
(60,034)
22,201
(37,833)
$
$
9. PENSION PLANS AND OTHER POST-RETIREMENT BENEFITS
Defined Benefit Plans
We sponsor a qualified defined benefit pension plan (“Retirement Plan”) that is non-contributory covering certain of
our hourly employees who fulfill minimum age and service requirements. Certain salaried employees are also
covered by the Retirement Plan, although these benefits have previously been frozen. In connection with the
acquisition of SureWest, we assumed sponsorship in 2012 of a frozen non-contributory defined benefit pension plan
(the “SureWest Plan”). The SureWest Plan covers certain eligible employees and benefits are based on years of
service and the employee’s average compensation during the five highest consecutive years of the last ten years of
credited service. This plan has previously been frozen so that no person is eligible to become a new participant and
all future benefit accruals for existing participants have ceased.
F-24
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
YEARS ENDED DECEMBER 31, 2012, 2011 AND 2010
The Company also has two non-qualified supplemental retirement plans (“Supplemental Plans”): the Restoration
Plan, which we acquired as part of our North Pittsburgh Systems, Inc. (“North Pittsburgh”) and TXU
Communications Venture Company (“TXUCV”) acquisitions, and a Supplemental Executive Retirement Plan
(“SERP”), which we acquired as part of our acquisition of SureWest. The Supplemental Plans provide supplemental
retirement benefits to certain former employees by providing for incremental pension payments to partially offset
the reduction that would have been payable under the qualified defined benefit pension plans if it were not for
limitations imposed by federal income tax regulations. Both plans have previously been frozen so that no person is
eligible to become a new participant in the Supplemental Plans. These plans are unfunded and have no assets. The
benefits paid under the Supplemental Plans are paid from the general operating funds of the Company.
The following tables summarize the change in benefit obligation, plan assets and funded status of the Retirement
Plan, SureWest Plan and Supplemental Plans (collectively the “Pension Plans”) as of December 31, 2012 and 2011.
(In thousands)
Change in benefit obligation
Benefit obligation at the beginning of the year
Service cost
Interest cost
Actuarial loss
Benefits paid
Acquisition of SureWest Plans
Plan change
Benefit obligation at the end of the year
(In thousands)
Change in plan assets
Fair value of plan assets at the beginning of the year
Employer contributions
Actual return (loss) on plan assets
Benefits paid
Acquisition of SureWest Plans
Fair value of plan assets at the end of the year
Funded status at year end
2012
2011
$
$
$
$
$
203,413
1,184
13,620
32,274
(16,529)
146,688
(1,122)
379,528
2012
142,736
15,222
27,935
(16,529)
93,414
262,778
(116,750)
$
$
$
$
$
194,101
1,277
10,960
9,583
(12,508)
–
–
203,413
2011
146,965
9,503
(1,224)
(12,508)
–
142,736
(60,677)
Amounts recognized in the consolidated balance sheets at December 31, 2012 and 2011 consisted of:
(In thousands)
Current liabilities
Long-term liabilities
2012
2011
$
$
(254)
(116,496)
$
$
(52)
(60,624)
Amounts recognized in accumulated other comprehensive loss for the years ended December 31, 2012 and 2011
consisted of:
(In thousands)
Unamortized prior service credit
Unamortized net actuarial loss
2012
2011
$
$
(2,523)
67,104
64,581
$
$
(1,683)
50,556
48,873
F-25
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
YEARS ENDED DECEMBER 31, 2012, 2011 AND 2010
The following table summarizes the components of net periodic pension cost recognized in the consolidated
statements of income for the plans for the years ended December 31, 2012, 2011 and 2010:
(In thousands)
Service cost
Interest cost
Expected return on plan assets
Amortization of:
Net actuarial loss
Prior service credit
Net periodic pension cost
2012
2011
2010
1,184
13,620
(14,728)
2,518
(282)
2,312
$
$
1,277
10,960
(10,893)
786
(166)
1,964
$
$
1,900
11,255
(10,178)
875
(43)
3,809
$
$
The following table summarizes other changes in plan assets and benefit obligations recognized in other
comprehensive loss, before tax effects, during 2012 and 2011.
(In thousands)
Actuarial loss, net
Recognized actuarial loss
Prior service credit
Recognized prior service credit
Total amount recognized in other comprehensive
loss, before tax effects
2012
2011
$
19,066
(2,518)
(1,122)
282
21,701
(786)
–
166
15,708
$
21,081
$
$
The estimated net loss and net prior service credit for the defined benefit pension plans that will be amortized from
accumulated other comprehensive loss in net periodic benefit cost in 2013 are $3.6 million, and $(0.3) million,
respectively.
The weighted-average assumptions used to determine the projected benefit obligations and net periodic benefit cost
for the years ended December 31, 2012, 2011 and 2010 were as follows:
Discount rate - net periodic benefit cost
Discount rate - benefit obligation
Expected long-term rate of return on plan assets
Rate of compensation/salary increase
2012
2011
2010
5.00%
4.20%
7.70%
1.50%
5.86%
5.35%
7.50%
3.06%
6.23%
5.86%
7.50%
3.06%
Other Non-qualified Deferred Compensation Agreements
We also are liable for deferred compensation agreements with former members of the board of directors and certain
other former employees of a subsidiary of TXUCV, which was acquired in 2004. The benefits are payable for up to
the life of the participant and may begin as early as age 65 or upon the death of the participant. Participants accrue
no new benefits as these plans had previously been frozen by TXUCV’s predecessor company prior to our
acquisition of TXUCV. Payments related to the deferred compensation agreements totaled approximately $0.6
million for the years ended December 31, 2012 and 2011, respectively. The net present value of the remaining
obligations was approximately $2.2 million and $2.5 million at December 31, 2012 and 2011, respectively, and is
included in pension and post-retirement benefit obligations in the accompanying balance sheets.
We also maintain 37 life insurance policies on certain of the participating former directors and employees. We
recognized $0.4 million and $0.6 million in life insurance proceeds as other non-operating income in 2012 and 2011,
respectively. The excess of the cash surrender value of the remaining life insurance policies over the notes payable
balances related to these policies is determined by an independent consultant, and totaled $2.0 million at December
31, 2012 and 2011, respectively. These amounts are included in investments in the accompanying balance sheets.
Cash principal payments for the policies and any proceeds from the policies are classified as operating activities in
the statements of cash flows. The aggregate death benefit payment payable under these policies totaled $7.5 million
and $7.8 million as of December 31, 2012 and 2011, respectively.
F-26
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
YEARS ENDED DECEMBER 31, 2012, 2011 AND 2010
Post-retirement Benefit Obligations
We sponsor a healthcare and life insurance plan (“Post-retirement Plan”) that provides post-retirement medical
benefits and life insurance to certain groups of retired employees. Retirees share in the cost of healthcare benefits,
making contributions that are adjusted periodically—either based upon collective bargaining agreements or because
total costs of the program have changed. Covered expenses for retiree health benefits are paid as they are incurred.
Post-retirement life insurance benefits are fully insured. The Post-retirement Plan is unfunded and has no assets, and
benefits are paid from the general operating funds of the Company.
In connection with the acquisition of SureWest, we acquired its post-retirement benefit plan which provides life
insurance benefits and a stated reimbursement for Medicare supplemental insurance to certain eligible retired
participants. This plan has previously been frozen so that no person is eligible to become a new participant.
Employer contributions for retiree medical benefits are separately designated within the SureWest Plan pension trust
for the sole purpose of providing payments of retiree medical benefits. The nature of the assets used to provide
payment of retiree medical benefits is the same as that of the SureWest Plan.
The following tables summarize the change in benefit obligation, plan assets and funded status of the post-retirement
benefit obligations as of December 31, 2012 and 2011.
(In thousands)
Change in benefit obligation
Benefit obligation at the beginning of the year
Service cost
Interest cost
Plan participant contributions
Actuarial loss
Benefits paid
Acquisition
Benefit obligation at the end of the year
(In thousands)
Change in plan assets
Fair value of plan assets at the beginning of the year
Employer contributions
Plan participant's contributions
Actual return on plan assets
Benefits paid
Acquisition
Fair value of plan assets at the end of the year
Funded status at year end
2012
2011
$
$
$
$
$
33,184
811
1,756
614
5,282
(4,011)
6,270
43,906
2012
–
3,189
614
197
(4,011)
3,421
3,410
(40,496)
$
$
$
$
$
33,476
749
1,690
480
911
(4,122)
-
33,184
2011
–
3,643
479
–
(4,122)
–
–
(33,184)
Amounts recognized in the consolidated balance sheets at December 31, 2012 and 2011 consist of:
(In thousands)
Current liabilities
Long-term liabilities
2012
2011
$
$
(2,467)
(38,029)
$
$
(2,527)
(30,657)
Amounts recognized in accumulated other comprehensive loss for the years ended December 31, 2012 and 2011
consist of:
(In thousands)
Unamortized prior service credit
Unamortized net actuarial loss (gain)
2012
2011
$
$
(1,446)
2,055
609
$
$
(1,635)
(3,136)
(4,771)
F-27
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
YEARS ENDED DECEMBER 31, 2012, 2011 AND 2010
The following table summarizes the components of the net periodic costs for post-retirement benefits for the years
ended December 31, 2012 and 2011:
(In thousands)
Service cost
Interest cost
Expected return on plan assets
Amortization of:
Net actuarial loss
Prior service credit
Net periodic postretirement benefit cost
2012
2011
2010
$
$
811
1,756
(105)
–
(189)
2,273
$
$
749
1,690
–
(212)
(189)
2,038
$
$
668
1,835
–
(234)
(447)
1,822
The following table summarizes other changes in plan assets and benefit obligations recognized in other
comprehensive loss, before tax effects, during 2012 and 2011:
(In thousands)
Actuarial loss , net
Recognized actuarial gain
Recognized prior service credit
Total amount recognized in other comprehensive
loss, before tax effects
2012
2011
$
5,191
–
189
911
213
189
5,380
$
1,313
$
$
The estimated net prior service credit that will be amortized from accumulated other comprehensive loss in net
periodic postretirement cost in 2013 is approximately $0.2 million. In 2013, there is not an expected unamortized net
actuarial gain to reduce the net periodic postretirement cost.
The weighted-average discount rate assumptions utilized for the years ended December 31 were as follows:
Net periodic benefit cost
Benefit obligation
2012
2011
2010
5.00%
3.90%
5.58%
5.22%
6.10%
5.58%
For purposes of determining the cost and obligation for pre-Medicare postretirement medical benefits, an 8% annual
rate of increase in the per capita cost of covered benefits (i.e., healthcare trend rate) was assumed for the plan in
2013, declining to a rate of 5.00% in 2019. Assumed healthcare cost trend rates have a significant effect on the
amounts reported for healthcare plans. A one percent change in the assumed healthcare cost trend rate would have
had the following effects:
(In thousands)
Effect on total of service and interest cost
Effect on postretirement benefit obligation
1% Increase
267
3,417
$
$
$
$
1% Decrease
(226)
(2,953)
Plan Assets
Our investment strategy is designed to provide a stable environment to earn a rate of return over time to satisfy the
benefit obligations and minimize the reliance on contributions as a source of benefit security. The objectives are
based on a long-term (5 to 15 year) investment horizon, so that interim fluctuations should be viewed with
appropriate perspective. The assets of the fund are to be invested to achieve the greatest return for the pension plans
consistent with a prudent level of risk.
The asset return objective is to achieve, as a minimum over time, the passively managed return earned by managed
index funds, weighted in the proportions outlined by the asset class exposures identified in the pension plan’s
strategic allocation. We update our long-term, strategic asset allocations every few years to ensure they are in line
with our fund objectives. The target allocation of the Pension Plan assets is approximately 55% - 65% equities with
the remainder in fixed income funds and cash equivalents. Fixed income funds include corporate and municipal
bonds, U.S. Treasury and Government Agency securities, mutual funds and mortgage-backed securities. Currently,
we believe that there are no significant concentrations of risk associated with the pension plan assets.
F-28
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
YEARS ENDED DECEMBER 31, 2012, 2011 AND 2010
The following is a description of the valuation methodologies for assets measured at fair value utilizing the fair
value hierarchy discussed in Note 1, which prioritizes the inputs used in the valuation methodologies in measuring
fair value. The fair value measurements used to value our plan assets as of December 31, 2012 were generated by
using market transactions involving identical or comparable assets. There were no changes in the valuation
techniques used during 2012.
Common and International Stocks: Includes domestic and international common and preferred stocks and are
valued at the closing price as of the measurement date as reported on the active market on which the individual
securities are traded multiplied by the number of shares owned.
Mutual Funds: Valued at the closing net asset value as of the measurement date as reported on the active market on
which the funds are traded multiplied by the number of shares owned or the percentage of ownership in the fund.
Common Collective Trust: Valued as determined by the fund manager based on the underlying net asset values
multiplied by the ownership percentage and supported by the value of the underlying securities as of the financial
statement date.
Fixed Income Funds: Includes U.S. Treasury and Government Agency securities, corporate and municipal bonds,
and mortgage-backed securities. U.S. Treasury and Government Agency securities are valued at the closing net
asset value as of the measurement date as reported on the active market on which the funds are traded multiplied by
the number of shares owned or the percentage of ownership in the fund. Corporate and municipal bonds and
mortgage-backed securities are valued based on yields currently available on comparable securities of issuers with
similar credit ratings.
The fair values of our assets for our defined benefit pension plans at December 31, 2012 and 2011, by asset category
were as follows:
(In thousands)
Total
As of December 31, 2012
Quoted Prices
In Active
Markets for
Identical Assets
(Level 1)
S ignificant
Other
Observable
Inputs
(Level 2)
S ignificant
Unobservable
Inputs
(Level 3)
Cash equivalents:
Short-term investments(1)
Equities:
U.S. common stocks
International stocks
Mutual funds
Common Collective Trust
$ 4,262 $
1,036
$
3,226
$
36,620
9,589
62,818
55,152
36,620
9,589
62,818
–
–
–
–
–
–
–
–
–
–
–
–
–
–
55,152
–
9,238
10,669
–
78,285
$
Fixed Income:
U.S. treasury and government agency securities
Corporate and municipal bonds
Mortgage/asset-backed securities
Mutual funds
Total
22,937
9,238
10,669
51,493
262,778
$
$
22,937
–
–
51,493
184,493
$
(1) Short-term investments includes cash and cash equivalents and an investment in a common collective trust which is
principally comprised of certificates of deposit, commercial paper and U.S. Treasury bills with maturities less than one year.
F-29
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
YEARS ENDED DECEMBER 31, 2012, 2011 AND 2010
(In thousands)
Total
As of December 31, 2011
Quoted Prices
In Active
Markets for
Identical Assets
(Level 1)
S ignificant
Other
Observable
Inputs
(Level 2)
S ignificant
Unobservable
Inputs
(Level 3)
Cash equivalents:
Short-term investments(1)
Equities:
U.S. common stocks
International stocks
Mutual funds
Common Collective Trust
Fixed Income:
Mutual funds
Total
$ 2,991 $
191
$
2,800
$
22,090
9,245
42,999
15,695
22,090
9,245
42,999
–
–
–
–
15,695
49,716
142,736
$
$
49,716
124,241
$
–
18,495
$
–
–
–
–
–
–
–
(1) Short-term investments includes cash and cash equivalents and an investment in a common collective trust which is
principally comprised of certificates of deposit, commercial paper and U.S. Treasury bills with maturities less than one year.
The fair values of our assets for our post-retirement benefit plans at December 31, 2012 were as follows:
Quoted Prices
(Level 1)
As of December 31, 2012
S ignificant
(Level 2)
S ignificant
(Level 3)
Total
$ 30
$
30
$
–
$
(In thousands)
Cash equivalents:
Short-term investments (1)
Equities:
U.S. common stocks
Mutual funds
Common Collective Trust
–
–
–
–
–
–
–
–
Fixed Income:
U.S. treasury and government agency securities
Corporate and municipal bonds
Mortgage/asset-backed securities
Total
776
312
361
3,410
$
$
545
289
1,097
545
289
–
776
–
–
1,640
$
–
–
1,097
–
312
361
1,770
$
(1) Short-term investments includes cash and cash equivalents and an investment in a common collective trust which is principally
comprised of certificates of deposit, commercial paper and U.S. Treasury bills with maturities less than one year.
Cash Flows
Contributions
Our funding policy is to contribute annually an actuarially determined amount necessary to meet the minimum
funding requirements as set forth in employee benefit and tax laws. In July of 2012, the Moving Ahead for Progress
in the 21st Century Act (“MAP-21”), which includes pension funding stabilization provisions, was signed into law.
These provisions establish an interest rate corridor that is designed to stabilize the segment rates used to determine
minimum funding requirements from the effects of interest rate volatility, which is expected to reduce the
Company’s minimum required pension contributions in the near-term. We expect to contribute approximately $11.5
F-30
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
YEARS ENDED DECEMBER 31, 2012, 2011 AND 2010
to our pension plans and $2.5 million to our other post-retirement plans in 2013.
Estimated Future Benefit Payments
As of December 31, 2012, benefit payments expected to be paid over the next ten years are outlined in the following
table:
(In thousands)
2013
2014
2015
2016
2017
2018 - 2022
Pension
Plans
Other
Post-retirement
Plans
$
$
21,628
21,952
22,345
22,634
22,819
116,146
3,579
3,536
3,607
3,614
2,842
14,211
Defined Contribution Plans
We offer defined contribution 401(k) plans to substantially all of our employees. Contributions made under the
defined contribution plans include a match, at the Company’s discretion, of employee contributions to the plans. We
recognized expense with respect to these plans of $3.9 million in 2012, $2.5 million in 2011 and $2.4 million in
2010. The increase in 2012 is attributable to the acquisition of SureWest which accounted for $1.4 million of the
total expense.
10. INCOME TAXES
Income tax expense consists of the following components:
(In thousands)
Current:
Federal
State
Total current expense (benefit)
Deferred:
Federal
State
Total deferred expense (benefit)
Total income tax expense
2012
For the Year Ended
2011
2010
$
$
1,033
1,160
2,193
1,998
(2,755)
(757)
1,436
$
$
5,657
642
6,299
8,209
337
8,546
14,845
$
$
9,904
2,251
12,155
(1,796)
(1,368)
(3,164)
8,991
The following is a reconciliation of the federal statutory tax rate to the effective tax rate for the years ended
December 31, 2012, 2011 and 2010:
(In percentages)
Statutory federal income tax rate
State income taxes, net of federal benefit
Transaction costs
Other permanent differences
Change in tax reserves
Change in deferred tax rate
Other
Year Ended December 31,
2011
2012
2010
35.0
(8.4)
11.0
(0.8)
–
(14.6)
(3.3)
18.9
35.0
0.8
–
(0.8)
(0.6)
0.9
0.2
35.5
35.0
(0.1)
–
(0.3)
(10.9)
(1.4)
(1.0)
21.3
F-31
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
YEARS ENDED DECEMBER 31, 2012, 2011 AND 2010
Deferred Taxes
The components of the net deferred tax liability are as follows:
(In thousands)
Current deferred tax assets:
Reserve for uncollectible accounts
Accrued vacation pay deducted when paid
Accrued expenses and deferred revenue
Non-current deferred tax assets:
Net operating loss carryforwards
Pension and postretirement obligations
Stock-based compensation
Derivative instruments
Financing costs
State tax credit carryforwards
Other
Valuation allowance
Net non-current deferred tax assets
Non-current deferred tax liabilities:
Goodwill and other intangibles
Basis in investment
Partnership investments
Property, plant and equipment
Net non-current deferred taxes
Net deferred income tax liabilities
Year Ended December 31,
2012
2011
$
$
$
1,815
1,727
5,458
9,000
31,763
60,252
450
3,004
567
2,437
305
98,778
(535)
98,243
964
1,153
2,708
4,825
2,216
34,303
427
5,872
-
2,216
427
45,461
–
45,461
(27,376)
(120)
(26,413)
(183,176)
(237,085)
(138,842)
(129,842)
$
(31,106)
-
(26,985)
(64,697)
(122,788)
(77,327)
(72,502)
Deferred income taxes are provided for the temporary differences between assets and liabilities recognized for
financial reporting purposes and assets and liabilities recognized for tax purposes. The ultimate realization of
deferred tax assets depends upon taxable income during the future periods in which those temporary differences
become deductible. To determine whether deferred tax assets can be realized, management assesses whether it is
more likely than not that some portion or all of the deferred tax assets will not be realized, taking into consideration
the scheduled reversal of deferred tax liabilities, projected future taxable income and tax-planning strategies.
Based upon historical taxable income, tax planning strategies and projections for future taxable income over the
periods that the deferred tax assets are deductible, management believes it is more likely than not that the Company
will realize the benefits of these temporary differences. However, management may reduce the amount of deferred
tax assets it considers realizable in the near term if estimates of future taxable income during the carryforward
period are reduced. The amount of projected future taxable income is expected to allow for the full utilization of the
net operating loss (“NOL”) carryforwards, as described below.
Consolidated and its wholly owned subsidiaries, which file a consolidated federal income tax return, estimates it has
available federal NOL carryforwards at December 31, 2012, of $80.8 million and related deferred tax assets of
$28.3 million. The federal NOL carryforwards expire from 2026 to 2032. Management believes that the future
utilization of $1.5 million and related deferred tax asset of $0.5 million subject to Separate Return Limitation Year is
uncertain and has placed a full valuation allowance on this amount of the available federal NOL carryforwards. The
related NOL carryforward expires in 2026. The valuation allowance was recorded as a result of the acquisition of
SureWest during 2012. If or when recognized, the tax benefits related to any reversal of the valuation allowance
will be accounted for as a reduction of income tax expense.
ETFL, a nonconsolidated subsidiary for federal income tax return purposes, estimates it has available NOL
carryforwards at December 31, 2012, of $2.5 million and related deferred tax assets of $0.8 million. ETFL’s federal
F-32
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
YEARS ENDED DECEMBER 31, 2012, 2011 AND 2010
NOL carryforwards expire from 2020 to 2024.
We estimate that we have available state NOL carryforwards at December 31, 2012, of $50.2 million and related
deferred tax assets of $2.6 million. The state NOL carryforwards expire from 2016 to 2032.
We estimate that we have available state tax credit carryforwards at December 31, 2012, of $3.9 million and related
deferred tax assets of $2.4 million. The state tax credit carryforward are limited annually and expire from 2016 to
2027.
Unrecognized Tax Benefits
We adopted the accounting guidance applicable to uncertainty in income taxes effective January 1, 2007 with no
impact on our results of operations or financial condition, and have analyzed filing positions in all of the federal and
state jurisdictions where we are required to file income tax returns as well as all open tax years in these jurisdictions.
This accounting guidance clarifies the accounting for uncertainty in income taxes recognized in a company’s
financial statements; prescribes a recognition threshold and measurement attribute for the financial statement
recognition and measurement of a tax position taken or expected to be taken in a tax return; and provides guidance
on description, classification, interest and penalties, accounting in interim periods, disclosure, and transition.
As of December 31, 2012 and 2011, the amount of unrecognized tax benefits was $1.2 million. The net amount of
unrecognized benefits that, if recognized, would result in an impact to the effective tax rate is $0.8 million.
Our practice is to recognize interest and penalties related to income tax matters in interest expense and general and
administrative expense, respectively. We had no material interest or penalty expense in 2012 or 2011 and have no
material remaining liability for interest or penalties.
The only periods subject to examination for our federal return are years 2009 through 2011. The periods subject to
examination for our state returns are years 2005 through 2011. We are currently under examination by federal and
state taxing authorities. We do not expect any settlement or payment that may result from the audit to have a
material effect on our results of operations or cash flows.
We do not expect that the total unrecognized tax benefits and related accrued interest will significantly change due
to the settlement of audits or the expiration of statute of limitations in the next twelve months. There were no
material changes to these amounts during 2012 and there were no effects on the Company’s effective tax rate.
The following is a reconciliation of the unrecognized tax benefits for the years ended December 31, 2012 and 2011:
(In thousands)
Liability for
Unrecognized
Tax Benefits
2012
2011
Balance at January 1
Additions for tax positions in the current year
Additions for tax positions of prior years
Settlements with taxing authorities
Reduction for lapse of federal statute of limitations
Reduction for lapse of state statute of limitations
Balance at December 31
$
$
1,224
–
–
–
–
–
1,224
$
$
1,496
–
–
–
(272)
–
1,224
11. COMMITMENTS AND CONTINGENCIES
We have certain other obligations for various contractual agreements to secure future rights to goods and services to
be used in the normal course of our operations. These include purchase commitments for planned capital
expenditures, agreements securing dedicated access and transport services, and service and support agreements.
Additionally, we have procured transport resale arrangements with several interexchange carriers for our long
distance services.
F-33
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
YEARS ENDED DECEMBER 31, 2012, 2011 AND 2010
As of December 31, 2012, future minimum contractual obligations, including capital and operating leases, and the
estimated timing and effect the obligations will have on our liquidity and cash flows in future periods are as follows:
(in thousands)
Operating lease agreements
Capital lease agreements
Capital expenditures
(1)
Service and support agreements
Transport and data connectivity
(2)
Total
2013
2014
2015
$
2,375
983
$
1,831
1,004
$
1,412
981
2016
$
431
914
2017
$
399
936
Thereafter
1,233
$
3,322
Total
$
7,681
8,140
7,223
2,211
9,330
22,122
$
–
–
–
–
–
7,223
1,209
9,000
13,044
$
419
9,000
11,812
$
–
9,000
10,345
$
–
9,000
10,335
$
–
–
4,555
$
3,839
45,330
72,213
$
(1) We have binding commitments with numerous suppliers for future capital expenditures.
(2) We have entered into service and maintenance agreements to support various computer hardware and software
applications and certain equipment. If we terminate any of the contracts prior to their expiration date, we would
be liable for minimum commitment payments as defined in by the contractual terms of the contracts.
Leases
Operating
We have entered into various non-cancelable operating leases with terms greater than one year for certain facilities
and equipment used in our operations. The facility leases generally require us to pay operating costs: including
property taxes, insurance and maintenance, and certain of them contain scheduled rent increases and renewal
options. Leasehold improvements are amortized over their estimated useful lives or lease period, whichever is
shorter. We recognize rent expense on a straight-line basis over the term of each lease.
We incurred rent expense of $2.9 million, $2.1 million and $3.4 million for the years ended December 31, 2012,
2011, and 2010, respectively.
Capital Leases
As of December 31, 2012, we had five capital leases, of which four expire in 2021 and one will expire in 2015. As
of December 31, 2012, the present value of the minimum remaining lease commitments was approximately $4.8
million, of which $0.4 million was due and payable within the next twelve months. The carrying amount of our
capital lease obligations, net of imputed interest of $3.3 million, was $4.8 million as of December 31, 2012. See
Note 12 for information regarding the capital leases we have entered into with related parties.
Litigation, Regulatory Proceedings and Other Contingencies
Prior to the completion of the SureWest Merger on July 2, 2012, six putative class action lawsuits were filed by
alleged SureWest shareholders challenging the Company’s proposed merger with SureWest in which the Company,
WH Acquisition Corp. and WH Acquisition II Corp, SureWest and members of the SureWest board of directors
have been named as defendants. Five shareholder actions were filed in the Superior Court of California, Placer
County, and one shareholder action was filed in the United States District Court for the Eastern District of
California. The actions are called Needles v. SureWest Communications, et al., filed February 17, 2012, Errecart v.
Oldham, et al., filed February 24, 2012, Springer v. SureWest Communications, et al., filed March 9, 2012, Aievoli
v. Oldham, et al., filed March 15, 2012, and Waterbury v. SureWest Communications, et al., filed March 26, 2012,
and the federal action is called Broering v. Oldham, et al., filed April 18, 2012. The actions generally allege, among
other things, that each member of the SureWest board of directors breached fiduciary duties to SureWest and its
shareholders by authorizing the sale of SureWest to the Company for consideration that allegedly was unfair to the
SureWest shareholders and agreed to terms that allegedly unduly restrict other bidders from making a competing
offer. The complaints also allege that the Company and SureWest aided and abetted the breaches of fiduciary duties
allegedly committed by the members of the SureWest board of directors. The Broering complaint also alleges,
among other things, that the joint proxy statement/prospectus filed with the SEC on March 28, 2012 did not make
sufficient disclosures regarding the merger, that SureWest’s board should have appointed an independent committee
to negotiate the transaction and that SureWest should have gone back to another bidder to create a competitive bid
process. The lawsuits seek equitable relief, including an order to prevent the defendants from consummating the
merger on the agreed-upon terms and/or an award of unspecified monetary damages. On March 14, 2012, the Placer
County Superior Court entered an order consolidating the Needles, Errecart and Springer actions into a single action
under the caption In re SureWest Communications Shareholder Litigation. Under the terms of this order, all cases
F-34
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
YEARS ENDED DECEMBER 31, 2012, 2011 AND 2010
subsequently filed in the Superior Court for the State of California, County of Placer, that relate to the same subject
matter and involve similar questions of law or fact were to be consolidated with these cases as well. This included
the Aievoli and Waterbury cases. On April 10, 2012, the plaintiff in Waterbury filed a request for voluntary
dismissal of her complaint without prejudice. On May 18, 2012, pursuant to the parties’ stipulation, the federal
Court entered an order staying the Broering action for 90 days. The federal Court subsequently extended the stay of
the Broering action until June 1, 2013. On June 1, 2012, the parties entered into a proposed settlement of all of the
shareholder actions without any admission of liability by the Company or the other defendants. Pursuant to the
proposed settlement, SureWest agreed to make, and subsequently made, certain additional disclosures in a Current
Report on Form 8-K filed with the SEC in advance of the special meeting of SureWest shareholders held on June 12,
2012. The proposed settlement also provided that plaintiffs’ counsel collectively are to receive attorneys’ fees of
$0.525 million, of which the Company is to pay $36.25 thousand, with the balance to be paid by SureWest and its
insurer. The proposed settlement is subject to approval by the Placer County Superior Court. On December 20,
2012, the court issued a ruling preliminarily approving the proposed settlement. The court set a hearing for March
28, 2013 at which it will consider final approval of the proposed settlement. Upon final approval by the court, the
consolidated state court actions and the federal action will be dismissed with prejudice.
On April 15, 2008, Salsgiver Inc., a Pennsylvania-based telecommunications company, and certain of its affiliates
filed a lawsuit against us and our subsidiaries North Pittsburgh Telephone Company and North Pittsburgh Systems
Inc. in the Court of Common Pleas of Allegheny County, Pennsylvania alleging that we have prevented Salsgiver
from connecting their fiber optic cables to our utility poles. Salsgiver seeks compensatory and punitive damages as
the result of alleged lost projected profits, damage to its business reputation, and other costs. Salsgiver originally
claimed to have sustained losses of approximately $125 million and did not request a specific dollar amount in
damages. We believe that these claims are without merit and that the alleged damages are completely unfounded.
We intend to defend against these claims vigorously. Discovery concluded and Consolidated filed a motion for
summary judgment on June 18, 2012 and the court heard oral arguments on August 30, 2012. On February 12,
2013, the court granted, in part, Consolidated’s motion. The court ruled that Salsgiver could not recover
prejudgment interest and could not use as a basis of liability any actions prior to April 14, 2006. We anticipate a
status conference being held in late March 2013, at which time the court will set a briefing and trial schedule.
In addition, we have asked the Federal Communications Commission (“FCC”) Enforcement Bureau to address
Salsgiver's unauthorized pole attachments and safety violations on those attachments. We believe that these are
violations of an FCC order regarding Salsgiver's complaint against us. We do not believe that these claims will have
a material adverse impact on our financial results.
Two of our subsidiaries, Consolidated Communications of Pennsylvania Company LLC (“CCPA”) and
Consolidated Communications Enterprise Services Inc. (“CCES”), received assessment notices from the
Commonwealth of Pennsylvania Department of Revenue increasing the amounts owed for Pennsylvania Gross
Receipt Taxes for the tax period ending December 31, 2009. These two assessments adjusted the subsidiaries’
combined total outstanding taxable gross receipts liability (with interest) to approximately $2.3 million. In addition,
based upon recently completed audits of CCES for 2008, 2009 and 2010, we believe the Commonwealth of
Pennsylvania may issue additional assessments totaling approximately $1.7 million for Gross Receipt Taxes
allegedly owed. Our CCPA subsidiary has also been notified by the Commonwealth of Pennsylvania that they will
conduct a gross receipts audit for the calendar year 2008. An appeal challenging the 2009 CCPA assessment was
filed with the Department of Revenue’s Board of Appeals on September 15, 2011, and we filed a similar appeal for
CCES with the Board of Appeals on November 11, 2011 challenging the 2009 CCES assessment. The Board of
Appeals denied CCPA and CCES’s appeals. On November 13, 2012, CCPA and CCES filed appeals with the
Commonwealth’s Board of Finance and Revenue. These have been stayed pending the outcome of present litigation
in the Commonwealth Court between Verizon Pennsylvania, Inc. and the Commonwealth of Pennsylvania (Verizon
Pennsylvania, Inc. v. Commonwealth, Docket No. 266 F.R. 2008). The Gross Receipts Tax issues in the Verizon
Pennsylvania case are substantially the same as those presently facing CCPA and CCES. In addition, there are
numerous telecommunications carriers with Gross Receipts Tax matters dealing with the same issues that are in
various stages of appeal before the Board of Finance and Revenue and the Commonwealth Court. Those appeals by
other similarly situated telecommunications carriers have been continued until resolution of the Verizon
Pennsylvania case. We believe that these assessments and the positions taken by the Commonwealth of
Pennsylvania are without substantial merit. We do not believe that the outcome of these claims will have a material
adverse impact on our financial results or cash flows.
F-35
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
YEARS ENDED DECEMBER 31, 2012, 2011 AND 2010
We currently provide telephone service to inmates incarcerated at facilities operated by the Illinois Department of
Corrections. On June 27, 2012, the Illinois Department of Central Management Services announced its intent to
replace the Company as the provider of those services with a competitor, Securus Technologies, Inc. We have
challenged Securus’ bid, and the State’s decision to accept that bid, in a variety of different forums including: (i)
protests with the Chief Procurement Officer of the Illinois Executive Ethics Commission, which were denied, (ii) a
lawsuit filed in the Circuit Court of Sangamon County, Illinois that was dismissed, but is now under appeal in the
Illinois Appellate Court Fourth District, (iii) a declaratory request ruling filed with the Illinois Commerce
Commission and (iv) a complaint filed with the Illinois Procurement Policy Board. In each of those challenges, we
claimed either that Securus was not a responsible vendor, as defined by the State’s bid solicitation document, and/or
that rates for the services Securus proposes to provide are subject to regulatory limits below those Securus has
proposed to charge. Although we will continue to pursue legal recourse to the State’s decision, our business plans
and projections assume that our contract with the State of Illinois will end during 2013.
On January 18, 2012, we filed a petition with the U.S. Court of Appeals for the District of Columbia Circuit to
review the FCC’s Order issued November 18, 2011 that reformed intercarrier compensation and core parts of the
Universal Service Fund. We are appealing five core issues in the November 18, 2011 FCC order. The U.S. Court of
Appeals for the tenth circuit will hear oral arguments on November 19, 2013.
We are from time to time involved in various other legal proceedings and regulatory actions arising out of our
operations. We do not believe that any of these, individually or in the aggregate, will have a material adverse effect
upon our business, operating results or financial condition.
12. RELATED PARTY TRANSACTIONS
Capital Leases
Richard A. Lumpkin, Chairman of the Board, together with his family, beneficially owned 41.3% of Agracel, Inc.
(“Agracel”), a real estate investment company, at December 31, 2012 and 2011. Mr. Lumpkin also is a director of
Agracel.
Agracel is the sole managing member and 50% owner of LATEL LLC (“LATEL”). Mr. Lumpkin and his
immediate family had a 70.7% beneficial ownership of LATEL at December 31, 2012 and 2011. In December
2010, we entered into new lease agreements with LATEL for the occupancy of three previously leased buildings on
a triple net lease basis. Prior to the new lease agreements, we leased five properties from LATEL which were used
as office and warehouse space and were accounted for as operating leases. In 2010, we assigned one of the five
leased buildings to the purchaser of our Marketing Response business upon closing. On June 30, 2011 we vacated
one of the leased buildings at the end of the lease term. In accordance with the Company’s related person
transactions policy, the new leases were approved by our Audit Committee and Board of Directors (“BOD”).
In accordance with Accounting Standards Codification (“ASC”) Topic 840, Leases, we have accounted for the three
leases as capital leases, and have capitalized the lower of the present value of the future minimum lease payments or
their fair value. The capital lease agreements require us to pay substantially all expenses associated with general
maintenance and repair, utilities, insurance, and taxes. Each of the three lease agreements have a maturity date of
May 31, 2021 and each have two five-year options to extend the terms of the lease after the initial expiration date.
We are required to pay LATEL approximately $7.9 million over the terms of the lease agreements. The carrying
value of the capital leases at December 31, 2012 and 2011 was approximately $3.8 million and $4.0 million,
respectively. We recognized $0.5 million in interest expense in 2012 and 2011 and $0.4 million and $0.1 million in
amortization expense in 2012 and 2011, respectively, related to the capitalized leases.
We recognized rent expense of $0.2 million and $1.2 million in 2011 and 2010, respectively, with regard to the
operating leases.
F-36
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
YEARS ENDED DECEMBER 31, 2012, 2011 AND 2010
Banking Services
Mr. Lumpkin also has a minority ownership interest in First Mid-Illinois Bancshares, Inc. (“First Mid-Illinois”),
which provides us with general banking services, including depository, disbursement, and payroll accounts and
retirement plan administrative services. We provide telecommunication products and services to First Mid-Illinois
at pricing which is similar to other strategic business customers. Following is a summary of the transactions
between us and First Mid-Illinois for the years ended December 31:
(In thousands)
Fees charged from First Mid-Illinois for:
Banking services
401(k) plan administration
Interest income earned on deposits at First Mid-Illinois
Fees charged to First Mid-Illinois for telecommunication services
$
2012
2011
2010
$
16
1
3
642
$
4
14
8
532
8
14
8
455
Long-Term Debt
A portion of the Senior Notes was sold to certain accredited investors consisting of the Company’s Chairman of the
BOD and certain other members of the BOD, including the Company’s Chief Executive Officer (collectively
“related parties”). The related parties purchased $10.8 million of the Senior Notes on same terms available to other
investors, except that the related parties were not entitled to registration rights. During 2012, the Company paid $0.6
million in interest in the aggregate to the related parties for the Senior Notes.
F-37
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
YEARS ENDED DECEMBER 31, 2012, 2011 AND 2010
13. BUSINESS SEGMENTS
The Company is viewed and managed as two separate, but highly integrated, reportable business segments:
Telephone Operations consists of a wide range of
“Telephone Operations” and “Other Operations”.
telecommunications services, including local and long-distance service, high-speed broadband Internet access, video
services, VOIP, custom calling features, private line services, carrier access services, network capacity services over
a regional fiber optic network, mobile services and directory publishing. The financial results of SureWest are
included in the Telephone Operations segment as of the date acquisition. The Company also operates two
complementary non-core businesses that comprise “Other Operations”, including telephone services to correctional
facilities and equipment sales. Management evaluates the performance of these business segments based upon net
revenue and operating income.
(In thousands)
Telephone operations
Other operations
Total net revenue
Operating expense - telephone operations
Operating expense - other operations
Total operating expense
Depreciation and amortization - telephone operations
Depreciation and amortization - other operations
Total depreciation expense
Operating income - telephone operations
Operating income - other operations
Total operating income
Interest expense, net of interest income
Loss on extinguishment of debt
Investment income
Other, net
Income before taxes
Capital expenditures:
Telephone operations
Other operations
Total
Goodwill:
Telephone operations
Other operations
Total
Total assets:
Telephone operations (1)
Other operations
Total
2012
2011
2010
$
$
$
$
$
$
$
$
472,060
31,397
503,457
298,205
30,878
329,083
120,152
824
120,976
53,703
(305)
53,398
(72,604)
(4,455)
30,667
601
7,607
76,983
112
77,095
604,988
-
604,988
1,792,585
2,243
1,794,828
$
$
$
$
$
$
$
$
342,598
31,665
374,263
194,580
28,383
222,963
87,907
838
88,745
60,111
2,444
62,555
(49,394)
–
27,843
823
41,827
41,697
216
41,913
519,542
1,020
520,562
1,187,708
6,361
1,194,069
$
$
$
$
$
$
$
$
349,612
33,754
383,366
199,077
31,250
230,327
86,270
872
87,142
64,265
1,632
65,897
(50,740)
–
27,744
(758)
42,143
42,748
169
42,917
519,542
1,020
520,562
1,201,545
8,001
1,209,546
(1)
Included within the telephone operations segment assets are our equity method investments totaling $57.9
million, $48.3 million and $49.6 million at December 31, 2012, December 31, 2011 and December 31,
2010, respectively.
F-38
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
YEARS ENDED DECEMBER 31, 2012, 2011 AND 2010
14. QUARTERLY FINANCIAL INFORMATION (UNAUDITED)
2012
Net revenues
Operating income
Net income (loss) attributable to common stockholders
Basic and diluted earnings (loss) per share
2011
Net revenues
Operating income
Net income attributable to common stockholders
Basic and diluted earnings per share
Quarter Ended
March 31
June 30
S eptember 30
December 31
(In thousands, except per share amounts)
$
$
$
$
$
$
$
$
Quarter Ended
March 31
June 30
S eptember 30
December 31
(In thousands, except per share amounts)
$
$
$
$
93,005
14,052
2,786
0.09
92,623
14,682
5,351
0.18
157,012
9,030
(965)
(0.02)
92,548
15,217
5,818
0.19
160,076
19,303
2,060
0.05
93,651
15,756
7,876
0.26
93,364
11,013
1,759
0.06
95,441
16,900
7,365
0.25
$
$
$
$
As described in Note 3, during the third quarter of 2012, we acquired 100% of the outstanding shares of SureWest in
a cash and stock transaction. SureWest results of operations have been included in our consolidated financial
statements as of the acquisition date of July 2, 2012. During the quarter ended December 31, 2012, we adjusted the
preliminary purchase price allocation and updated our valuation of the real and personal property and intangible
assets acquired. These adjustments to the preliminary purchase price accounting have been recorded retrospectively
as of the acquisition date. As a result of the retrospective adjustments, amounts previously reported for the quarter
ended September 30, 2012 have been restated as reconciled in the following table:
Net revenues
Operating income
Net loss attributable to common stockholders
Basic and diluted loss per share
As Reported
157,012
$
10,078
(311)
(0.01)
$
Adjustments
-
$
(1,048)
(654)
(0.01)
$
As Restated
157,012
$
9,030
(965)
(0.02)
$
15. CONDENSED CONSOLIDATING FINANCIAL INFORMATION
Consolidated Communications, Inc. is the primary obligor under the unsecured Senior Notes it issued on May 30,
2012. We and the following of our subsidiaries: Consolidated Communications Enterprise Services, Inc.,
Consolidated Communications Services Company, Consolidated Communications of Fort Bend Company,
Consolidated Communications of Texas Company, Consolidated Communications of Pennsylvania Company, LLC,
SureWest Communications, Inc., SureWest Broadband, SureWest Communications, SureWest Long Distance,
SureWest Telephone, SureWest TeleVideo, SureWest Kansas, Inc., SureWest Kansas Holdings, Inc., SureWest
Fiber Ventures, LLC, SureWest Kansas Connections, LLC, SureWest Kansas Licenses, LLC, SureWest Kansas
Operations, LLC and SureWest Kansas Purchasing, LLC, have jointly and severally guaranteed the Senior Notes.
All of the subsidiary guarantors are 100% direct or indirect wholly owned subsidiaries of the parent, and all
guarantees are full, unconditional and joint and several with respect to principal, interest and liquidated damages, if
any. As such, we present condensed consolidating balance sheets as of December 31, 2012 and 2011, and
condensed consolidating statements of operations and cash flows for the years ended December 31, 2012, 2011 and
2010 for each of Consolidated Communications Holdings, Inc. (Parent), Consolidated Communications, Inc.
(Subsidiary Issuer), guarantor subsidiaries and other non-guarantor subsidiaries with any consolidating adjustments.
See Note 6 for more information regarding our Senior Notes.
F-39
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
YEARS ENDED DECEMBER 31, 2012, 2011 AND 2010
Condensed Consolidating Balance Sheets
(amounts in thousands)
ASSETS
Current assets:
Cash and cash equivalents
Accounts receivable, net
Income taxes receivable
Deferred income taxes
Prepaid expenses and other current assets
Total current assets
Parent
Subsidiary
Issuer
Guarantors
Non-Guarantors
Eliminations
Consolidated
December 31, 2012
-
$
19
4,258
(51)
-
4,226
$
6,577
457
-
(310)
-
6,724
$
8,530
50,108
7,685
8,985
10,855
86,163
$
2,747
7,998
(124)
376
414
11,411
-
$
-
-
-
-
-
$
17,854
58,582
11,819
9,000
11,269
108,524
Property, plant and equipment, net
-
-
855,722
52,514
-
908,236
Intangibles and other assets:
Investments
Goodwill
Other intangible assets
Deferred debt issuance costs, net and other assets
Total assets
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable
Advance billings and customer deposits
Dividends payable
Accrued compensation
Accrued expense
Current portion of long term debt and capital
lease obligations
Current portion of derivative liability
Total current liabilities
Long-term debt and capital lease obligations
Advances due to/from affiliates, net
Deferred income taxes
Pension and postretirement benefit obligations
Other long-term liabilities
Total liabilities
Shareholders' equity:
Common Stock
Other shareholders' equity
Total Consolidated Communications Holdings, Inc.
shareholders' equity
Noncontrolling interest
Total shareholders' equity
Total liabilities and shareholders' equity
1,459,656
-
-
-
1,463,882
$
372,735
-
-
12,788
392,247
$
109,735
538,807
40,443
1,012
1,631,882
$
15
66,181
9,087
-
139,208
$
(1,832,391)
-
-
-
(1,832,391)
$
109,750
604,988
49,530
13,800
1,794,828
$
$
223
-
15,463
36
12
$
430
-
-
-
2,943
$
16,411
26,069
-
19,919
41,431
$
2,098
2,523
-
2,013
1,846
$
-
-
15,734
-
1,367,914
(2,357)
-
-
1,381,291
9,242
3,164
15,779
1,203,760
(1,760,026)
(3,571)
-
3,919
(540,139)
399
82,192
-
932,386
300
-
104,130
3,611
411,411
135,891
125,706
6,587
787,336
568,960
271,411
54
-
8,534
877
(19,299)
8,879
31,004
240
30,235
30,000
78,973
-
-
-
-
-
-
-
-
-
-
-
-
-
-
$
19,162
28,592
15,463
21,968
46,232
9,596
3,164
144,177
1,208,248
-
138,842
156,710
10,746
1,658,723
399
131,531
(598,960)
(1,233,431)
82,591
-
82,591
1,463,882
$
932,386
-
932,386
392,247
$
840,371
4,175
844,546
1,631,882
$
108,973
-
108,973
139,208
$
(1,832,391)
-
(1,832,391)
(1,832,391)
$
131,930
4,175
136,105
1,794,828
$
F-40
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
YEARS ENDED DECEMBER 31, 2012, 2011 AND 2010
ASSETS
Current assets:
Cash and cash equivalents
Accounts receivable, net
Income taxes receivable
Deferred income taxes
Prepaid expenses and other current assets
Total current assets
Property, plant and equipment, net
Intangibles and other assets:
Investments
Goodwill
Other intangible assets
Deferred debt issuance costs, net and other assets
Total assets
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable
Advance billings and customer deposits
Dividends payable
Accrued compensation
Accrued expense
Current portion of long term debt and capital
lease obligations
Current portion of derivative liability
Total current liabilities
Long-term debt and capital lease obligations
Advances due to/from affiliates, net
Deferred income taxes
Pension and postretirement benefit obligations
Other long-term liabilities
Total liabilities
Shareholders' equity:
Common Stock
Other shareholders' equity
Total Consolidated Communications Holdings, Inc.
shareholders' equity
Noncontrolling interest
Total shareholders' equity
Total liabilities and shareholders' equity
Parent
Subsidiary
Issuer
Guarantors
Non-Guarantors
Eliminations
Consolidated
December 31, 2011
-
$
19
7,329
(39)
-
7,309
$
103,369
457
-
18
-
103,844
$
80
27,014
1,387
4,315
6,481
39,277
$
2,255
8,002
272
531
460
11,520
-
$
-
-
-
-
-
$
105,704
35,492
8,988
4,825
6,941
161,950
-
-
281,633
56,793
-
338,426
917,208
-
-
-
924,517
$
362,957
-
-
4,833
471,634
$
98,054
454,381
58,178
71
931,594
$
15
66,181
11,980
-
146,489
$
(1,280,165)
-
-
-
(1,280,165)
$
98,069
520,562
70,158
4,904
1,194,069
$
-
$
-
11,571
38
-
$
-
-
-
-
215
$
5,790
17,797
-
10,734
19,155
$
861
2,527
-
2,042
1,988
$
-
-
11,609
-
872,537
(1,948)
-
-
882,198
299
42,020
8,800
3,580
12,595
871,200
(1,335,897)
(5,872)
-
12,401
(445,573)
-
917,207
147
-
53,623
3,588
465,854
74,697
65,899
1,494
665,155
18,163
242,782
45
-
7,463
931
(2,494)
10,450
27,855
272
44,477
30,000
72,012
-
-
-
-
-
-
-
-
-
-
-
-
$
6,651
20,324
11,571
12,814
21,358
8,992
3,580
85,290
875,719
-
77,327
93,754
14,167
1,146,257
299
42,019
(48,163)
(1,232,002)
42,319
-
42,319
924,517
$
917,207
-
917,207
471,634
$
260,945
5,494
266,439
931,594
$
102,012
-
102,012
146,489
$
(1,280,165)
-
(1,280,165)
(1,280,165)
$
42,318
5,494
47,812
1,194,069
$
F-41
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
YEARS ENDED DECEMBER 31, 2012, 2011 AND 2010
Condensed Consolidating Statements of Operations
(amounts in thousands)
Year Ended December 31, 2012
Net revenues
Operating expenses:
Cost of services and products (exclusive of
depreciation and amortization)
Selling, general and administrative expenses
Financing and other transaction costs
Impairment of intangible assets
Depreciation and amortization
Operating income (loss)
Other income (expense):
Interest expense, net of interest income
Intercompany interest income (expense)
Loss on extinguishment of debt
Investment income
Other, net
Income (loss) before income taxes
Income tax expense (benefit)
Net income (loss)
Less: net income attributable to noncontrolling interest
Net income (loss) attributable to Consolidated
Communications Holdings, Inc.
Total comprehensive income (loss) attributable to
common shareholders
Net revenues
Operating expenses:
Cost of services and products (exclusive of
depreciation and amortization)
Selling, general and administrative expenses
Financing and other transaction costs
Depreciation and amortization
Operating income (loss)
Other income (expense):
Interest expense, net of interest income
Intercompany interest income (expense)
Investment income
Other, net
Income (loss) before income taxes
Income tax expense (benefit)
Net income (loss)
Less: net income attributable to noncontrolling interest
Net income (loss) attributable to Consolidated
Communications Holdings, Inc.
Total comprehensive income (loss) attributable to
common shareholders
Parent
$
-
Subsidiary
Issuer
$
(15)
Guarantors Non-Guarantors
68,774
$
$
448,883
Eliminations
$
(14,185)
Consolidated
$
503,457
-
13,800
11,269
-
-
(25,069)
(20)
(50,126)
-
-
-
(75,215)
(20,643)
(54,572)
-
-
385
9,531
-
-
(9,931)
(71,704)
87,717
(4,455)
246
1
1,874
1,204
670
-
193,573
80,848
-
2,923
107,708
63,831
(816)
(37,509)
-
30,421
617
56,544
12,014
44,530
531
14,355
16,584
-
-
13,268
24,567
(64)
(82)
-
-
(17)
24,404
8,861
15,543
-
(14,185)
-
-
-
-
-
-
-
-
-
-
-
-
-
193,743
111,617
20,800
2,923
120,976
53,398
(72,604)
-
(4,455)
30,667
601
7,607
1,436
6,171
531
$
(54,572)
$
670
$
43,999
$
15,543
$
-
$
5,640
$
(54,572)
$
5,648
$
34,651
$
11,962
$
-
$
(2,311)
Year Ended December 31, 2011
Parent
$
-
Subsidiary
Issuer
$
25
Guarantors Non-Guarantors
71,249
$
$
316,760
Eliminations
$
(13,771)
Consolidated
$
374,263
-
2,249
-
-
(2,249)
-
(40,283)
-
-
(42,532)
(15,725)
(26,807)
-
-
2,724
-
-
(2,699)
(48,095)
80,142
246
-
29,594
10,776
18,818
-
138,303
60,003
2,649
73,654
42,151
(1,133)
(39,407)
27,597
2,097
31,305
10,923
20,382
572
14,732
16,074
-
15,091
25,352
(166)
(452)
-
(1,274)
23,460
8,871
14,589
-
(13,771)
-
-
-
-
-
-
-
-
-
-
-
139,264
81,050
2,649
88,745
62,555
(49,394)
-
27,843
823
41,827
14,845
26,982
572
$
(26,807)
$
18,818
$
19,810
$
14,589
$
-
$
26,410
$
(26,807)
$
26,415
$
10,288
$
10,152
$
-
$
20,048
F-42
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
YEARS ENDED DECEMBER 31, 2012, 2011 AND 2010
Year Ended December 31, 2010
Net revenues
Operating expenses:
Cost of services and products (exclusive of
depreciation and amortization)
Selling, general and administrative expenses
Depreciation and amortization
Operating income (loss)
Other income (expense):
Interest expense, net of interest income
Intercompany interest income (expense)
Investment income
Other, net
Income (loss) before income taxes
Income tax expense (benefit)
Net income (loss)
Less: net income attributable to noncontrolling interest
Net income (loss) attributable to Consolidated
Communications Holdings, Inc.
Total comprehensive income (loss) attributable to
common shareholders
Parent
$
-
Subsidiary
Issuer
$
4
Guarantors Non-Guarantors
74,531
$
$
322,764
Eliminations
$
(13,933)
Consolidated
$
383,366
-
2,699
-
(2,699)
973
(39,878)
-
-
(41,604)
(20,814)
(20,790)
-
-
119
-
(115)
(50,804)
82,364
246
3
31,694
11,641
20,053
-
139,610
65,289
71,522
46,343
(949)
(41,074)
27,498
(974)
30,844
10,853
19,991
557
16,625
19,918
15,620
22,368
40
(1,412)
-
213
21,209
7,311
13,898
-
(13,933)
-
-
-
-
-
-
-
-
-
-
142,302
88,025
87,142
65,897
(50,740)
-
27,744
(758)
42,143
8,991
33,152
557
$
(20,790)
$
20,053
$
19,434
$
13,898
$
-
$
32,595
$
(20,790)
$
22,550
$
20,919
$
13,985
$
-
$
36,664
F-43
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
YEARS ENDED DECEMBER 31, 2012, 2011 AND 2010
Condensed Consolidating Statements of Cash Flows
(amounts in thousands)
Year Ended December 31, 2012
Net cash provided by (used in) operating activates
$
(52,318)
$
13,106
Parent
Subsidiary
Issuer
Guarantors
$
140,869
Non-Guarantors
$
21,558
Consolidated
$
123,215
Cash flows from investing activities:
Business acquisition, net of cash acquired
Purchases of property, plant and equipment
Purchase of investments
Proceeds from sale of assets
Other
Net cash used in investing activities
Cash flows from financing activities:
Proceeds from bond offering
Proceeds from issuance of long-term debt
Payment of capital lease obligation
Payment on long-term debt
Payment of financing costs
Distribution to noncontrolling interest
Repurchase and retirement of common stock
Dividends on common stock
Transactions with affiliates, net
Net cash provided by (used in) financing activities
(Decrease)/increase in cash and cash equivalents
Cash and cash equivalents at beginning of period
Cash and cash equivalents at end of period
(385,346)
-
-
-
(314)
(385,660)
-
-
-
-
-
-
(559)
(54,100)
492,637
437,978
-
-
$
-
-
-
-
-
-
-
-
(71,045)
(6,728)
882
-
(76,891)
-
(6,050)
42
(6,008)
(385,346)
(77,095)
(6,728)
924
(314)
(468,559)
298,035
544,850
-
(510,038)
(18,616)
-
-
-
(424,129)
(109,898)
(96,792)
103,369
6,577
$
-
-
(183)
-
-
3,150
-
-
(58,495)
(55,528)
8,450
80
8,530
$
-
-
(45)
-
-
(5,000)
-
-
(10,013)
(15,058)
492
2,255
2,747
$
298,035
544,850
(228)
(510,038)
(18,616)
(1,850)
(559)
(54,100)
-
257,494
(87,850)
105,704
17,854
$
F-44
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
YEARS ENDED DECEMBER 31, 2012, 2011 AND 2010
Net cash provided by (used in) operating activates
$
(27,033)
$
22,335
Parent
Subsidiary
Issuer
Guarantors
$
103,966
Non-Guarantors
$
30,236
Consolidated
$
129,504
Year Ended December 31, 2011
Cash flows from investing activities:
Purchases of property, plant and equipment
Proceeds from sale of assets
Other
Net cash used in investing activities
Cash flows from financing activities:
Payment of capital lease obligation
Payment of financing costs
Repurchase and retirement of common stock
Dividends on common stock
Transactions with affiliates, net
Net cash provided by (used in) financing activities
Increase in cash and cash equivalents
Cash and cash equivalents at beginning of period
Cash and cash equivalents at end of period
-
-
-
-
-
-
-
-
(35,331)
511
272
(34,548)
(6,582)
329
-
(6,253)
(41,913)
840
272
(40,801)
-
-
(726)
(46,307)
74,066
27,033
-
-
$
-
-
(3,471)
-
-
19,107
15,636
37,971
65,398
103,369
$
(113)
-
-
-
(69,277)
(69,390)
28
52
80
$
(36)
-
-
-
(23,896)
(23,932)
51
2,204
2,255
$
(149)
(3,471)
(726)
(46,307)
-
(50,653)
38,050
67,654
105,704
$
F-45
CONSOLIDATED COMMUNICATIONS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
YEARS ENDED DECEMBER 31, 2012, 2011 AND 2010
Year Ended December 31, 2010
Net cash provided by (used in) operating activates
$
(26,981)
$
21,010
Parent
Subsidiary
Issuer
Guarantors
$
90,955
Non-Guarantors Consolidated
116,142
$
31,158
$
Cash flows from investing activities:
Purchases of property, plant and equipment
Proceeds from sale of assets
Proceeds from sale of investments
Net cash used in provided by investing activities
Cash flows from financing activities:
Payment of capital lease obligation
Distribution to noncontrolling interest
Repurchase and retirement of common stock
Dividends on common stock
Transactions with affiliates, net
Net cash provided by (used in) financing activities
Increase in cash and cash equivalents
Cash and cash equivalents at beginning of period
Cash and cash equivalents at end of period
-
-
-
-
-
-
-
-
(36,078)
1,035
35
(35,008)
(6,839)
30
-
(6,809)
(42,917)
1,065
35
(41,817)
-
-
(1,001)
(46,179)
74,161
26,981
-
-
$
-
-
-
-
-
2,875
2,875
23,885
41,513
65,398
$
(386)
3,150
-
-
(58,893)
(56,129)
(182)
234
52
$
(13)
(5,000)
-
-
(18,143)
(23,156)
1,193
1,011
2,204
$
(399)
(1,850)
(1,001)
(46,179)
-
(49,429)
24,896
42,758
67,654
$
F-46
INDEPENDENT AUDITORS REPORT
To the Partners of Pennsylvania RSA No. 6 (II) Limited Partnership:
We have audited the accompanying financial statements of Pennsylvania RSA No. 6 (II) Limited Partnership (the
"Partnership") which comprise the balance sheets as of December 31, 2012 and 2011, and the related statements of
operations, changes in partners’ capital, and cash flows for each of the three years in the period ended December 31,
2012, and the related notes to the financial statements.
Management's Responsibility for the Financial Statements
Management is responsible for the preparation and fair presentation of these financial statements in accordance with
accounting principles generally accepted in the United States of America; this includes the design, implementation,
and maintenance of internal control relevant to the preparation and fair presentation of financial statements that are
free from material misstatement, whether due to fraud or error.
Auditors' Responsibility
Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our
audits in accordance with auditing standards generally accepted in the United States of America. Those standards
require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are
free from material misstatement.
An audit involves performing procedures to obtain audit evidence about the amounts and disclosures in the financial
statements. The procedures selected depend on the auditor's judgment, including the assessment of the risks of
material misstatement of the financial statements, whether due to fraud or error. In making those risk assessments,
the auditor considers internal control relevant to the Partnership's preparation and fair presentation of the financial
statements in order to design audit procedures that are appropriate in the circumstances, but not for the purpose of
expressing an opinion on the effectiveness of the Partnership's internal control. Accordingly, we express no such
opinion. An audit also includes evaluating the appropriateness of accounting policies used and the reasonableness of
significant accounting estimates made by management, as well as evaluating the overall presentation of the financial
statements.
We believe that the audit evidence we have obtained is sufficient and appropriate to provide a basis for our audit
opinion.
Opinion
In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position
of Pennsylvania RSA No. 6 (II) Limited Partnership as of December 31, 2012 and 2011, and the results of its
operations and its cash flows for each of the three years in the period ended December 31, 2012 in accordance with
accounting principles generally accepted in the United States of America.
/s/ Deloitte & Touche LLP
Atlanta, GA
March 12, 2013
F-47
Pennsylvania RSA No. 6 (II) Limited Partnership
Balance Sheets - As of December 31, 2012 and 2011
(Dollars in Thousands)
ASSETS
2012
2011
CURRENT ASSETS:
Accounts receivable, net of allowance of $143 and $366
Unbilled revenue
Due from affiliate
Prepaid expenses and other current assets
Total current assets
PROPERTY, PLANT AND EQUIPMENT(cid:650)Net
OTHER ASSETS
TOTAL ASSETS
LIABILITIES AND PARTNERS' CAPITAL
CURRENT LIABILITIES:
Accounts payable and accrued liabilities
Advance billings and customer deposits
Total current liabilities
LONG TERM LIABILITIES
Total liabilities
PARTNERS' CAPITAL
$
14,750
890
7,374
-
$
9,005
1,091
6,117
22
23,014
12,412
27
16,235
11,448
54
$
35,453
$
27,737
$
3,804
3,648
$
3,326
3,382
7,452
411
7,863
6,708
355
7,063
27,590
20,674
TOTAL LIABILITIES AND PARTNERS' CAPITAL
$
35,453
$
27,737
See notes to financial statements.
F-48
Pennsylvania RSA No. 6 (II) Limited Partnership
Statements of Operations - Years Ended December 31, 2012, 2011 and 2010
(Dollars in Thousands)
OPERATING REVENUE:
Service revenue
Equipment and other
Total operating revenue
2012
2011
2010
$
112,987
22,699
$
112,822
22,758
$
101,143
18,986
135,686
135,580
120,129
OPERATING COSTS AND EXPENSES:
Cost of service (exclusive of depreciation and amortization)
Cost of equipment
Selling, general and administrative
Depreciation and amortization
38,665
25,416
35,758
2,446
45,726
25,347
33,139
2,619
Total operating costs and expenses
102,285
106,831
37,846
16,385
30,384
2,445
87,060
OPERATING INCOME
33,401
28,749
33,069
INTEREST INCOME, NET
15
26
552
NET INCOME
$
33,416
$
28,775
$
33,621
Allocation of Net Income:
Limited Partners
General Partner
See notes to financial statements.
$
$
16,330
17,086
$
$
14,062
14,713
$
$
16,431
17,190
F-49
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Pennsylvania RSA No. 6 (II) Limited Partnership
Statements of Cash Flows - Years Ended December 31, 2012, 2011 and 2010
(Dollars in Thousands)
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income
Adjustments to reconcile net income to net cash provided by
operating activities:
Depreciation and amortization
Provision for losses on accounts receivable
Changes in certain assets and liabilities:
Accounts receivable
Unbilled revenue
Prepaid expenses and other current assets
Accounts payable and accrued liabilities
Advance billings and customer deposits
Long term liabilities
2012
2011
2010
$
33,416
$
28,775
$
33,621
2,446
270
(6,015)
201
22
85
266
56
2,619
722
(1,644)
(53)
-
564
263
81
2,445
584
(40)
(165)
(2)
386
610
71
Net cash provided by operating activities
30,747
31,327
37,510
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures, net
Change in due from affiliate, net
Net cash provided by (used in) investing activities
CASH FLOWS FROM FINANCING ACTIVITIES:
Distributions to partners
(2,990)
(1,257)
(4,247)
(2,151)
4,824
2,673
(2,310)
(1,200)
(3,510)
(26,500)
(34,000)
(34,000)
Net cash used in financing activities
(26,500)
(34,000)
(34,000)
CHANGE IN CASH
CASH(cid:650)Beginning of year
CASH(cid:650)End of year
NONCASH TRANSACTIONS FROM INVESTING ACTIVITIES:
Accruals for Capital Expenditures
See notes to financial statements.
-
-
-
-
-
-
$
-
$
-
$
-
$
400
$
7
$
25
F-51
Pennsylvania RSA No. 6 (II) Limited Partnership
Notes to Financial Statements
(Dollars in Thousands)
1. ORGANIZATION AND MANAGEMENT
Pennsylvania RSA No. 6 (II) Limited Partnership – Pennsylvania RSA No. 6 (II)
Limited Partnership (the “Partnership”) was formed in 1991. The principal activity of the
Partnership is providing cellular service in the Pennsylvania 6 (II) rural service area.
Under the terms of the partnership agreement, the partnership expires on January 1, 2091.
The partners and their respective ownership percentages as of December 31, 2012, 2011
and 2010 are as follows:
General Partner:
Cellco Partnership* ("General Partner")
51.13 %
Limited Partners:
8.53 %
Cellco Partnership*
Consolidated Communications Enterprise Services, Inc. ** 23.67 %
16.67 %
Venus Cellular Telephone Company, Inc.
*Cellco Partnership (“Cellco”) doing business as Verizon Wireless.
**Consolidated Communications Enterprise Services, Inc. (CCES) is a wholly-owned
subsidiary of Consolidated Communications, Inc.
In accordance with the partnership agreement, Cellco is responsible for managing the
operations of the partnership (See Note 5).
In 2012, management determined that Cellco Partnership’s ownership percentage should
have separately reflected the General and Limited Partnership interests, in accordance
with the partnership agreement. Net income, distributions and capital should have
reflected the same separation. The financial statements should have disclosed that Cellco
Partnership had a 51.13% General Partnership interest and an 8.53% Limited Partnership
interest. Accordingly, the Statements of Changes in Partners’ Capital for 2011 and 2010
have been revised to allocate Cellco’s capital, net income and distributions between
General Partner and Limited Partner interest. The net income for 2011 and 2010
presented below the Statements of Operations previously allocated $17,166 and $20,058,
respectively, to the General Partner. The allocation should have been $14,713 and
$17,190, respectively. Additionally, the net income for 2011 and 2010 previously
allocated to the Limiter Partner was $11,609 and $13,563, respectively. The allocation
should have been $14,062 and $16,431, respectively.
F-52
2. SIGNIFICANT ACCOUNTING POLICIES
Use of Estimates – The preparation of financial statements in accordance with accounting
principles generally accepted in the United States of America requires management to
make estimates and assumptions that affect reported amounts and disclosures. Actual
results could differ from those estimates. Estimates are used for, but are not limited to, the
accounting for: allocations, allowance for uncollectible accounts receivable, unbilled
revenue, depreciation and amortization, useful lives and impairment of assets, accrued
expenses, and contingencies.
Revenue Recognition – The Partnership offers products and services to our customers
through bundled arrangements. These arrangements involve multiple deliverables which
may include products, services, or a combination of products and services.
On January 1, 2011, the Partnership prospectively adopted the accounting standard
updates regarding revenue recognition for multiple deliverable arrangements, and
arrangements that include software elements. These updates require a vendor to allocate
revenue in an arrangement using its best estimate of selling price if neither vendor
specific objective evidence nor third party evidence of selling price exists. The residual
method of revenue allocation is no longer permissible. These accounting standard updates
do not change our units of accounting for bundled arrangements, nor do they materially
change how we allocate arrangement consideration to our various products and services.
Accordingly, the adoption of these standard updates did not have a significant impact on
the financial statements. Additionally, we do not currently foresee any changes to our
products, services or pricing practices that will have a significant effect on the financial
statements in periods after the initial adoption, although this could change.
The Partnership earns revenue by providing access to its network (access revenue) and
usage of its network (usage revenue), which includes voice and data revenue. Customers
are associated with the Partnership based upon mobile identification number. In general,
access revenue is billed one month in advance and is recognized when earned; the
unearned portion is classified in Advance billings in the balance sheet. Usage revenue is
recognized when service is rendered and included in unbilled revenue until billed.
Equipment sales revenue associated with the sale of wireless devices and related
equipment costs are recognized when the products are delivered to and accepted by the
customer, as this is considered to be a separate earnings process from the sale of wireless
services. Customer activation fees charged to customers are considered additional
consideration and are recorded in Equipment and other revenue, generally, at the time of
customer acceptance. For agreements involving the resale of third-party services in which
the Partnership is considered the primary obligor in the arrangements, the Partnership
records revenue gross at the time of sale. The roaming rates charged by the Partnership to
Cellco do not necessarily reflect current market rates. The Partnership will continue to re-
evaluate the rates on a periodic basis (See Note 5).
Wireless bundled service plans primarily consist of wireless voice and data services. The
bundling of a voice plan with a text messaging plan (“Talk & Text”), for example, creates
a multiple deliverable arrangement consisting of a voice component and a data
F-53
component in the form of text messaging. For these arrangements, revenue is allocated to
each deliverable using a relative selling price method. Under this method, arrangement
consideration is allocated to each separate deliverable based on our standalone selling
price for each product or service, up to the amount that is not contingent upon providing
additional services. For equipment sales, the Partnership currently subsidizes the cost of
wireless devices. The amount of this subsidy is generally contingent on the arrangement
and terms selected by the customer. The equipment revenue is recognized up to the
amount collected when the wireless device is sold.
The Partnership reports taxes imposed by governmental authorities on revenue-producing
transactions between us and our customers on a net basis.
Cellular service revenues resulting from a cellsite agreement with Cellco are recognized
based upon a rate per minute of use (See Note 5).
Operating Costs and Expenses – Operating expenses include expenses incurred directly
by the Partnership, as well as an allocation of selling, general and administrative, and
operating costs incurred by Cellco or its affiliates on behalf of the Partnership. Employees
of Cellco provide services performed on behalf of the Partnership. These employees are
not employees of the Partnership, therefore operating expenses include direct and
allocated charges of salary and employee benefit costs for the services provided to the
Partnership. Cellco believes such allocations, principally based on the Partnership’s
percentage of total customers, customer gross additions or minutes-of-use, are in
accordance with the Partnership Agreement. The roaming rates charged to the Partnership
by Cellco do not necessarily reflect current market rates. The Partnership will continue to
re-evaluate the rates on a periodic basis (see Note 5).
Retail Stores– The daily operations of all retail stores owned by the Partnership are
managed by Cellco. All fixed assets, liabilities, income and expenses related to these
retail stores are recorded in the financial statements of the Partnership.
Income Taxes – The Partnership is not a taxable entity for federal and state income tax
purposes. Any taxable income or loss is apportioned to the partners based on their
respective partnership interests and is reported by them individually.
Inventory – Inventory is owned by Cellco and is not recorded on the Partnership’s
financial statements. Upon sale, the related cost of the inventory is transferred to the
Partnership at Cellco’s cost basis and included in the accompanying statements of
operations.
Allowance for Doubtful Accounts – The Partnership maintains allowances for
uncollectible accounts receivable for estimated losses resulting from the inability of
customers to make required payments. Estimates are based on the aging of the accounts
receivable balances and the historical write-off experience, net of recoveries.
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Property, Plant and Equipment – Property, plant and equipment primarily represents
costs incurred to construct and expand capacity and network coverage on mobile
telephone switching offices and cell sites. The cost of property, plant and equipment is
depreciated over its estimated useful life using the straight-line method of accounting.
Leasehold improvements are amortized over the shorter of their estimated useful lives or
the term of the related lease. Major improvements to existing plant and equipment are
capitalized. Routine maintenance and repairs that do not extend the life of the plant and
equipment are charged to expense as incurred.
Upon the sale or retirement of property, plant and equipment, the cost and related
accumulated depreciation or amortization are eliminated and any related gain or loss is
reflected in the statements of operations. All property, plant and equipment purchases are
made through an affiliate of Cellco. Transfers of property, plant and equipment between
Cellco and affiliates are recorded at net book value.
Interest expense and network engineering costs incurred during the construction phase of
the Partnership’s network and real estate properties under development are capitalized as
part of property, plant and equipment and recorded as construction in progress until the
projects are completed and placed into service.
Other Assets – Other assets consist of a customer list acquired in 2008. The Partnership
amortizes the customer list over its expected useful life of 6 years using a method
consistent with historical customer turnover rates. As of December 31, 2012, the gross
carrying value is $182 and the accumulated amortization is $155. As of December 31,
2012, the scheduled amortization of the customer list for 2013 is $27.
FCC Licenses – The Federal Communications Commission (“FCC”) issues licenses that
authorize cellular carriers to provide service in specific cellular geographic service areas.
The FCC grants licenses for terms of up to ten years. In 1993 the FCC adopted specific
standards to apply to cellular renewals, concluding it will award a license renewal to a
cellular licensee that meets certain standards of past performance. Historically, the FCC
has granted license renewals routinely and at nominal costs, which are expensed as
incurred. All wireless licenses issued by the FCC that authorize the Partnership to provide
cellular services are recorded on the books of Cellco. The current term of the
Partnership’s FCC license expires in October 2020. Cellco believes it will be able to meet
all requirements necessary to secure renewal of the Partnership’s cellular license.
Valuation of Assets – Long-lived assets, including property, plant and equipment and
intangible assets with finite lives, are reviewed for impairment whenever events or
changes in circumstances indicate that the carrying amount of the asset may not be
recoverable. The carrying amount of a long-lived asset is not recoverable if it exceeds the
sum of the undiscounted cash flows expected to result from the use and eventual
disposition of the asset. The impairment loss would be measured as the amount by which
the carrying amount of the asset exceeds the fair value of the asset.
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Cellco re-evaluates the useful life determination for wireless licenses at least annually to
determine whether events and circumstances continue to support an indefinite useful life.
Moreover, Cellco has determined that there are currently no legal, regulatory, contractual,
competitive, economic or other factors that limit the useful life of the Partnership’s
wireless licenses.
Cellco tests its wireless licenses for potential impairment annually, and more frequently if
indications of impairment exist. Cellco evaluates its licenses on an aggregate basis, using
a direct value approach. This approach estimates fair value using a discounted cash flow
analysis to estimate what a marketplace participant would be willing to pay to purchase
the aggregated wireless licenses as of the valuation date. If the fair value of the
aggregated wireless licenses is less than the aggregated carrying amount of the wireless
licenses, an impairment is recognized. In addition, Cellco believes that under the
Partnership agreement it has the right to allocate, based on a reasonable methodology,
any impairment loss recognized by Cellco for all licenses included in Cellco’s national
footprint. Cellco does not charge the Partnership for the use of any FCC license recorded
on its books (except for the annual cost of $317 related to the spectrum leases). Cellco
evaluated its wireless licenses for potential impairment as of December 15, 2012 and
December 15, 2011. These evaluations resulted in no impairment of wireless licenses.
Concentrations – The Partnership maintains allowances for uncollectible accounts
receivable for estimated losses resulting from the inability of customers to make required
payments. Estimates are based on historical net write-off experience. No single customer
receivable is large enough to present a significant financial risk to the partnership.
Cellco and the Partnership rely on local and long-distance telephone companies, some of
which are related parties (See Note 5), and other companies to provide certain
communication services. Although management believes alternative telecommunications
facilities could be found in a timely manner, any disruption of these services could
potentially have a material adverse impact on the Partnership’s operating results.
Although Cellco attempts to maintain multiple vendors for its network assets and
inventory, which are important components of its operations, they are currently acquired
from only a few sources. Certain of these products are in turn utilized by the Partnership
and are important components of the Partnership’s operations. If the suppliers are unable
to meet Cellco’s needs as it builds out its network infrastructure and sells service and
equipment, delays and increased costs in the expansion of the Partnership’s network
infrastructure or losses of potential customers could result, which would adversely affect
operating results.
Financial Instruments – The Partnership’s trade receivables and payables are short-term
in nature, and accordingly, their carrying value approximates fair value.
Due from affiliate – Due from affiliate principally represents the Partnership’s cash
position with Cellco. Cellco manages, on behalf of the Partnership, all cash, inventory,
investing and financing activities of the Partnership. As such, the change in due from
F-56
affiliate is reflected as an investing activity or a financing activity in the statements of
cash flows depending on whether it represents a net asset or net liability for the
Partnership.
Additionally, administrative and operating costs incurred by Cellco on behalf of the
Partnership, as well as property, plant and equipment transactions with affiliates, are
charged to the Partnership through this account. Starting in 2011, interest income is based
on the Applicable Federal Rate which was approximately .2% and .4% for the years
ended December 31, 2012 and 2011, respectively. Interest expense is calculated by
applying Cellco’s average cost of borrowing from Verizon Communications, Inc, which
was approximately 7.3% and 6.8% for the years ended December 31, 2012 and 2011,
respectively. For 2010, interest income or interest expense was based on the average
monthly outstanding balance in this account and was calculated by applying Cellco’s
average cost of borrowing from Verizon Communications, Inc., which was approximately
5.8% for the year ended December 31, 2010. Included in net interest income is interest
income of $15, $31 and $556 for the years ended December 31, 2012, 2011 and 2010,
respectively, related to due from affiliate.
Distributions - The Partnership is required to make distributions to its partners based
upon the Partnership’s operating results, cash availability and financing needs as
determined by the General Partner at the date of the distribution.
Recently Adopted Accounting Standards - During the first quarter of 2012, we adopted
the accounting standard update regarding fair value measurement. This update was issued
to provide a consistent definition of fair value and ensure that the fair value measurement
and disclosure requirements are similar between U.S. generally accepted accounting
principles and International Financial Reporting Standards. This standard update also
changes certain fair value measurement principles and enhances the disclosure
requirements particularly for Level 3 fair value measurements. The adoption of this
standard update did not have a significant impact on the financial statements.
During the first quarter of 2012, we adopted the accounting standard update regarding
testing of goodwill for impairment. This standard update gives companies the option to
perform a qualitative assessment to first assess whether the fair value of a reporting unit
is less than its carrying amount. If an entity determines it is not more likely than not that
the fair value of the reporting unit is less than its carrying amount, then performing the
two-step impairment test is unnecessary. The adoption of this standard did not have a
significant impact on the financial statements.
Recent Accounting Standards - In July 2012, the accounting standard update regarding
testing of intangible assets for impairment was issued. This standard update allows
companies the option to perform a qualitative assessment to determine whether it is more
likely than not that an indefinite-lived intangible asset is impaired. An entity is not
required to calculate the fair value of an indefinite-lived intangible asset and perform the
quantitative impairment test unless the entity determines that it is more likely than not the
asset is impaired. We will adopt this standard update during the first quarter of 2013.
F-57
The adoption of this standard is not expected to have a significant impact on the financial
statements.
Subsequent Events – Events subsequent to December 31, 2012 have been evaluated
through March 12, 2013, the date the financial statements were issued.
3. PROPERTY, PLANT AND EQUIPMENT, NET
Property, plant and equipment consist of the following as of December 31, 2012 and
2011:
Buildings and improvements (15-40 years)
Wireless plant and equipment (3-15 years)
Furniture, fixtures and equipment (3-10 years)
Leasehold improvements (5 years)
Less: accumulated depreciation
2012
2011
$
7,807
21,421
509
1,138
$
6,603
22,732
554
1,501
30,875
18,463
31,390
19,942
Property, plant and equipment, net
$
12,412
$
11,448
Depreciation expense
$
2,419
$
2,592
Capitalized network engineering costs of $224 and $89 were recorded during the years
ended December 31, 2012 and 2011, respectively. Construction in progress included in
certain classifications shown above, principally wireless plant and equipment, amounted
to $556 and $828 as of December 31, 2012 and 2011, respectively.
4. CURRENT LIABILITIES
Accounts payable and accrued liabilities consist of the following as of December 31,
2012 and 2011:
Accounts payable
Accrued liabilities
Accounts payable and accrued libilities
2012
2011
$
3,578
226
$
3,103
223
$
3,804
$
3,326
Advance billings and customer deposits consist of the following as of December 31, 2012
and 2011:
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Advance billings
Customer deposits
Advance billings and customer deposits
2012
2011
$
3,565
83
$
3,300
82
$
3,648
$
3,382
5. TRANSACTIONS WITH AFFILIATES AND RELATED PARTIES
In addition to fixed asset purchases (see Note 2), substantially all of service revenues,
equipment and other revenues, cost of service, cost of equipment, and selling, general and
administrative expenses represent transactions processed by affiliates (Cellco and its
related parties) on behalf of the Partnership or represent transactions with affiliates.
These transactions consist of revenues and expenses that pertain to the Partnership which
are processed by Cellco and directly attributed to or directly charged to the Partnership.
They also include certain revenues and expenses that are processed or incurred by Cellco
which are allocated to the Partnership based on factors such as the Partnership’s
percentage of customers, gross customer additions, or minutes of use. These transactions
do not necessarily represent arm’s length transactions and may not represent all revenues
and costs if the Partnership operated on a standalone basis.
Service revenues - Service revenues include monthly customer billings processed by
Cellco on behalf of the Partnership and roaming revenues relating to customers of other
affiliated markets that are specifically identified to the Partnership. Service revenue also
includes long distance, data, and certain revenue reductions including revenue
concessions that are processed by Cellco and allocated to the Partnership based on certain
factors deemed appropriate by Cellco.
Equipment and other revenues - Equipment revenue includes equipment sales processed
by Cellco and specifically identified to the Partnership, as well as certain handset and
accessory revenues, contra-revenues including equipment concessions, and coupon
rebates that are processed by Cellco and allocated to the Partnership based on certain
factors deemed appropriate by Cellco. Other revenues include cell sharing revenue and
other fees and surcharges charged to the customer that are specifically identified to the
Partnership.
Cost of Service - Cost of service includes roaming costs relating to customers roaming in
other affiliated markets, cell sharing costs and switch costs that are specifically identified
to the Partnership. Cost of service also includes cost of telecom, long distance and
application content that are incurred by Cellco and allocated to the Partnership based on
certain factors deemed appropriate by Cellco. The Partnership has also entered into a
lease agreement for the right to use additional spectrum owned by Cellco. See Note 6 for
further information regarding this arrangement.
Cost of equipment - Cost of equipment includes the cost of inventory specifically
identified and transferred to the Partnership (see Note 2). Cost of equipment also includes
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certain costs related to handsets, accessories and other costs incurred by Cellco and
allocated to the Partnership based on certain factors deemed appropriate by Cellco.
Selling, general and administrative - Selling, general and administrative expenses include
commissions, customer billing, office telecom, customer care, salaries, sales and
marketing and advertising expenses that are specifically identified to the Partnership as
well as incurred by Cellco and allocated to the Partnership based on certain factors
deemed appropriate by Cellco.
6. COMMITMENTS
Cellco, on behalf of the Partnership, and the Partnership itself have entered into operating
leases for facilities, equipment and spectrum used in its operations. Lease contracts
include renewal options that include rent expense adjustments based on the Consumer
Price Index as well as annual and end-of-lease term adjustments. Rent expense is
recorded on a straight-line basis. The noncancellable lease term used to calculate the
amount of the straight-line rent expense is generally determined to be the initial lease
term, including any optional renewal terms that are reasonably assured. Leasehold
improvements related to these operating leases are amortized over the shorter of their
estimated useful lives or the noncancellable lease term. For the years ended December 31,
2012, 2011 and 2010, the Partnership incurred a total of $1,604, $1,562 and $1,265,
respectively, as rent expense related to these operating leases, which was included in cost
of service and general and administrative expenses in the accompanying statements of
operations. Aggregate future minimum rental commitments under noncancellable
operating leases, excluding renewal options that are not reasonably assured, for the years
shown are as follows:
Years
2013
2014
2015
2016
2017
2018 and thereafter
Amount
$
1,160
1,013
992
947
833
5,767
Total minimum payments
$
10,712
On January 1, 2011, the Partnership entered into a 700 MHz upper band spectrum lease
with Cellco. The lease includes an initial term extending through June 13, 2019 and a
renewal option through June 13, 2029. The license, held by Cellco, is considered an
indefinite-lived intangible as Cellco believes it will be able to meet all requirements
necessary to secure renewal of this license. The Partnership accounts for this spectrum
lease as an executory contract which is similar to an operating lease.
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Based on the terms of the spectrum license lease as of December 31, 2012, future
spectrum lease obligations, including the renewal period, are expected to be as follows:
Years
2013
2014
2015
2016
2017
2018 and thereafter
Amount
$
285
285
285
285
285
3,256
Total minimum payments
$
4,681
The General Partner currently expects that the renewal option in the lease will be
exercised.
From time to time Cellco enters into purchase commitments, primarily for network
equipment, on behalf of the Partnership. These represent legal obligations of Cellco.
7. CONTINGENCIES
Cellco and the Partnership are subject to lawsuits and other claims including class
actions, product liability, patent infringement, intellectual property, antitrust, partnership
disputes, and claims involving relations with resellers and agents. Cellco is also currently
defending lawsuits filed against it and other participants in the wireless industry alleging
various adverse effects as a result of wireless phone usage. Various consumer class action
lawsuits allege that Cellco violated certain state consumer protection laws and other
statutes and defrauded customers through misleading billing practices or statements.
These matters may involve indemnification obligations by third parties and/or affiliated
parties covering all or part of any potential damage awards against Cellco and the
Partnership and/or insurance coverage. All of the above matters are subject to many
uncertainties, and the outcomes are not currently predictable.
The Partnership may be allocated a portion of the damages that may result upon
adjudication of these matters if the claimants prevail in their actions. In none of the
currently pending matters is the amount of accrual material. An estimate of the
reasonably possible loss or range of loss in excess of the amounts already accrued to
either Cellco or the Partnership with respect to these matters as of December 31, 2012
cannot be made at this time due to various factors typical in contested proceedings,
including (1) uncertain damage theories and demands; (2) a less than complete factual
record; (3) uncertainty concerning legal theories and their resolution by courts or
regulators; and (4) the unpredictable nature of the opposing party and its demands. We
continuously monitor these proceedings as they develop and adjust any accrual or
disclosure as needed. We do not expect that the ultimate resolution of any pending
F-61
regulatory or legal matter in future periods will have a material effect on the financial
condition of the Partnership, but it could have a material effect on our results of
operations for a given reporting period.
8. RECONCILIATION OF ALLOWANCE FOR DOUBTFUL ACCOUNTS
Balance at
Beginning
of the Year
Additions
Charged to
Operations
Write-offs
Net of
Recoveries
Balance at
End
of the Year
Accounts Receivable Allowances:
2012
2011
2010
$
366
245
184
$
270
722
584
$
(493)
(601)
(523)
$
143
366
245
******
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