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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
Annual Report Pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934
For the fiscal year ended December 31, 1999
Commission file numbers: 333-64449-02
333-64449-01
333-64449
Coaxial LLC
Coaxial Financing Corp.
Insight Communications of Central Ohio LLC
(Exact name of registrants as specified in their respective charters)
Delaware
Delaware
Delaware 13-4017803
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
c/o Insight Communications Company, Inc.
126 East 56th Street
New York, NY 10022
(212) 371-2266
(Address and telephone number of registrants' principal executive offices)
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes....X... No........
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K 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. |_| Not Applicable
State the aggregate market value of the common equity held by
non-affiliates of the registrants: Not Applicable
Indicate the number of shares outstanding of the registrants' common stock:
Not Applicable
Forward-Looking Statements
This annual report contains "forward-looking statements," including
statements containing the words "believes," "anticipates," "expects" and words
of similar import, which concern, among other things, the operations, economic
performance and financial condition of the System (as defined below). All
statements other than statements of historical fact included in this annual
report regarding Coaxial LLC, Coaxial Financing Corp. and Insight Communications
of Central Ohio, LLC ("Insight Ohio") or any of the transactions described in
this report, including the timing, financing, strategies and effects of such
transactions, are forward-looking statements. Such forward-looking statements
are based upon a number of assumptions and estimates, which are inherently
subject to significant uncertainties and contingencies, many of which are beyond
the control of Coaxial LLC, Coaxial Financing Corp. and Insight Ohio, and
reflect future business decisions which are subject to change. Although Coaxial
LLC, Coaxial Financing Corp. and Insight Ohio believe that the expectations
reflected in such forward-looking statements are reasonable, they can give no
assurance that such expectations will prove to be correct. Important factors
that could cause actual results to differ materially from expectations include,
without limitation:
. the ability of Coaxial LLC and Coaxial Financing Corp. to make
scheduled payments with respect to the Senior Discount Notes (as
defined below) will depend on the financial and operating performance
of Insight Ohio;
. a substantial portion of Insight Ohio's cash flow from operations is
required to be dedicated to the payment of principal and interest on
its indebtedness and the required distributions with respect to its
Series A Preferred Interest and its Series B Preferred Interest,
thereby reducing the funds available to Insight Ohio for its
operations and future business opportunities;
. Coaxial LLC and Coaxial Financing Corp. have no significant assets
other than the common equity of Coaxial Communications of Central
Ohio, Inc. ("Coaxial") owned by Coaxial LLC and notes issued by
Coaxial DJM LLC (an owner of 22.5% of the common equity of Coaxial)
and Coaxial DSM LLC (an owner of 10.0% of the common equity of
Coaxial) to Coaxial LLC; and
. the indenture governing the terms of the Senior Discount Notes imposes
restrictions on Coaxial LLC, Coaxial Financing Corp. and Insight Ohio
and the Senior Credit Facility of Insight Ohio imposes restrictions on
Insight Ohio.
Coaxial LLC, Coaxial Financing Corp. and Insight Ohio do not intend to update
these forward-looking statements.
2
PART I
Item 1. Business
Overview
Insight Ohio owns and operates a cable television system in the Columbus,
Ohio metropolitan area (the "System"). As of December 31, 1999, the System
passed approximately 178,300 homes and served approximately 84,200 basic
customers in the eastern portion of the City of Columbus and the surrounding
suburban communities. All of the System's customers are served from a single
headend allowing for efficient capital deployment for new services. Insight
Holdings of Ohio, LLC ("IHO"), a wholly-owned subsidiary of Insight
Communications Company, L. P. ("Insight"), serves as the manager of the System.
Insight is currently the 8th largest cable television system operator in the
United States based on customers served after giving effect to previously
announced industry acquisitions.
The System
The System is located in the eastern portion of the City of Columbus and
the surrounding suburban communities. The City of Columbus is the 34th largest
designated market area ("DMA") in the United States, is the capital of Ohio and
is the home of The Ohio State University. Besides the state government and
university, the Columbus economy is well diversified with a significant presence
of prominent companies such as The Limited, Merck, Wendy's, Nationwide
Insurance, Borden and Worthington Industries. The area's strong economy provides
for a well-paid employment base with a current unemployment rate of 2.3%. The
median household income of the System's service area is approximately $47,800
per year, while the median family income is approximately $57,000 per year. As
of December 31, 1999, the System passed approximately 178,300 homes and served
approximately 84,200 basic customers from a single headend.
The System enjoys a high level of population growth in the suburban
communities east of Columbus. Since December 31, 1996, more than 17,200 homes
passed have been added to the System through new plant extensions, primarily in
new housing developments. This represents a 3.5% compound annual growth rate of
homes passed for the System for the three years ended December 31, 1999, as
compared to the industry average of 1.0% for the same period.
Portions of the System operate in a competitive environment. Customers in
those areas have access to two wired cable television providers -- Insight Ohio
and a cable subsidiary of Ameritech Corporation, the telephone local exchange
carrier in Columbus. The System also competes with direct broadcast satellite
television systems ("DBS") and multipoint multichannel distribution systems
("MMDS"). The areas of the System served by both Insight Ohio and Ameritech pass
approximately 124,700 homes, representing 70% of the System's total homes
passed. In this competitive environment, the System's basic customers decreased
from approximately 86,000 at the end of 1995, prior to Ameritech's entry into
the marketplace, to approximately 84,200 as of December 31, 1999.
As of December 31, 1999, the System had 2,720 miles of plant, including 578
miles of 490 MHz plant, 1,675 miles of 468 MHz plant and 467 miles of 870 MHz
plant. There also were 379 miles of fiber optic cable deployed in the System,
including 214 miles of new fiber optic cable. Insight Ohio is continuing to
upgrade the technical capability of the System by increasing its bandwidth to
870 MHz and activating its
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reverse plant. The increase in bandwidth allows the System to deliver new
services such as digital cable, high-speed Internet connections, two-way data
and other telecommunications services. Insight Ohio expects to have
approximately 1,500 miles of plant, or 55% of the total plant mileage, rebuilt
by the end of 2000. Such plant shall pass approximately 166,600 homes, or 93% of
all the homes passed.
The Manager
IHO, the manager of Insight Ohio, is a wholly-owned subsidiary of Insight.
Insight is currently the 8th largest cable television system operator in the
United States based on customers served after giving effect to previously
announced industry acquisitions. Insight provided cable television services to
approximately 935,000 customers and passed approximately 1.5 million homes as of
December 31, 1999. Insight has tightly grouped clusters of cable television
systems with approximately 98% of its customers concentrated in the four
contiguous states of Indiana, Kentucky, Ohio and Illinois.
Insight was co-founded in 1985 by Sidney R. Knafel, Chairman of Insight,
and Michael S. Willner, President and Chief Executive Officer of Insight, both
of whom have been active in the cable business since the early 1970's. Kim D.
Kelly joined Insight in 1990 as Executive Vice President and Chief Financial
Officer and was named Chief Operating Officer in January 1998. In addition to
many years of conventional cable television experience, Insight's management
team has been involved in the development and deployment of full service
telecommunications networks. In 1989, through an affiliated entity, Insight
Communications Company U.K., L.P., Insight entered the U.K. cable television
market, where today modern hybrid fiber-coaxial networks are widely deployed.
Messrs. Knafel and Willner remain on the board of NTL Incorporated, the publicly
traded successor to the Insight U.K related entity. NTL is currently the largest
operator of local broadband communications systems in the United Kingdom, after
giving effect to previously announced transactions.
A series of swaps, acquisitions and joint ventures were executed in 1998
and 1999 resulting in the current composition of Insight. The largest of these
transactions were two joint ventures (now combined into a single joint venture)
entered into with affiliates of AT&T Broadband for its Indiana and Kentucky
cable television systems, with Insight as the manager of the systems. As of
December 31, 1999, Insight owned and managed cable systems serving over 935,000
customers located in six states including those in its joint venture serving
approximately 322,500 customers in Indiana and 426,300 customers in Kentucky,
and approximately 84,200 customers served in Columbus, as well as another
approximately 102,000 customers served directly by Insight.
On March 15, 2000, Insight reached an agreement in principle with AT&T
Corp. for the delivery of telephone service utilizing Insight Ohio's cable
television systems under the "AT&T" brand name. The terms of the agreement in
principle provide that Insight will market, service and bill for local telephone
service. AT&T would be required to install and maintain the necessary switching
equipment, and would be the local exchange carrier of record. AT&T would pay
Insight Ohio a fee for the use of the local telephone lines, and will also
compensate Insight Ohio for installation and maintenance services at customers'
residences. In addition, AT&T would pay Insight Ohio commissions for sales
Insight makes to its customers. Insight expects to sell the AT&T-branded local
telephone service separately and as part of bundled offerings, which would also
include the sale of AT&T long-distance telephone services. The agreement in
principle is subject to the negotiation and execution of definitive agreements.
On March 23, 2000, Insight entered into a letter of intent with AT&T
Broadband, LLC to contribute to its AT&T joint venture additional cable
television systems serving approximately 537,000 customers. Through a series of
transactions, Insight Ohio will contribute to the joint venture its interests in
systems serving approximately 187,000 customers, including the System, and AT&T
Broadband will contribute systems serving approximately 350,000 customers. As a
result, the joint venture would increase its customer base of approximately
748,800 as of December 31, 1999 to approximately 1.3 million. Upon completion of
the transactions, the joint venture would remain equally owned by Insight and
AT&T Broadband, and Insight would continue to serve as the general partner and
manage and operate the joint venture systems. The transactions are subject to
the negotiation and execution of definitive agreements.
4
Insight Business Strategy
Three years ago, Insight initiated a strategic plan designed to augment its
core business of delivering multi-channel video. The strategy calls for:
o the upgrade of plant to a minimum of 750 MHz hybrid fiber-coaxial platforms
from which to deploy new value-added services such as high-speed data
access, digital video and telephony services;
o the reconfiguration of existing systems in a series of swaps to achieve
customer clusters with a strong market presence; and
o an acquisition plan focused on markets with attractive demographics and a
high ratio of customers to headends.
The System is an integral part of Insight's long-term business strategy.
The System has a strong market presence in a state capital and academic center
with a diverse, growing economy. All of the System's customers are served from a
single headend allowing for efficient capital deployment for new services.
Moreover, management anticipates that it will pass approximately 93% of the
homes in the System by the end of the fourth quarter 2000 with plant rebuilt to
870 MHz. Insight Ohio began launching its digital service on a node-by-node
basis in November 1999, including a video-on-demand and interactive
informational service, and anticipates launching its high speed Internet service
during the second quarter 2000.
System Operating Strategy
The System fits the profile of cable television systems that Insight seeks
to own and operate. The System is large enough to have a significant market
presence and all customers are serviced from one headend. In addition, Columbus
is geographically proximate to other Insight cable systems with a customer
universe having the type of demographic profile that Insight believes will
widely accept new telecommunications offerings. IHO intends to aggressively
implement Insight's upgrade strategy in Columbus.
Insight is in the process of rebuilding the System to 870 MHz, and began
servicing customers from the rebuilt network in November 1999. IHO is currently
launching digital service, on a node-by-node basis, including a video-on-demand
service and an interactive information service. As of December 31, 1999, the
System passed 12,100 homes with its digital service and served approximately
1,100 customers with such service, representing a penetration level of 11.0%.
Management expects to increase revenues as the System upgrade is completed by
increasing the deployment of its digital cable and adding new services such as
high-speed modems and other newly developing telecommunications services.
Insight Ohio has entered into an affiliation agreement with Road Runner and a
network service agreement with High Speed Access Corp. to deploy the Road Runner
service over cable modems. This service is currently in the beta testing phase
and management expects to launch this service during the second quarter 2000.
In November 1999, IHO introduced its signature interactive Digital Gateway
service with exclusive interactive programming including Local Source, an
Internet-styled information service, and a video-on-demand service by DIVA. In
addition, the System provides exclusive sports programming under the "Central
Ohio Sport!" brand, featuring sporting events from Ohio State University.
5
Overbuild
In 1996, Ameritech obtained a citywide cable television franchise for the
City of Columbus. Ameritech has built its citywide franchise, both in our
service area and in the Time Warner service area on the west side of Columbus.
Insight Ohio and Time Warner service virtually distinct areas and therefore do
not compete with one another. The areas of the System served by both Insight
Ohio and Ameritech pass approximately 124,700 homes, representing 70% of the
System's total homes passed. Presently, Ameritech is constructing an additional
system in a franchise area with approximately 13,000 homes.
When the System was acquired by Insight Ohio in August 1999, it implemented
a strategy to end deep discounting as a defense against Ameritech. Management
believed that a relatively small customer loss, caused by discontinuing
discounts, would be preferable in exchange for achieving for increasing the
average monthly revenue per customer. As a result of this strategy, from June
30, 1998 to December 31, 1999, the average monthly revenue per customer
increased from $43.30 to $45.33 while the number of customers decreased from
91,100 to 84,200. Ameritech seems to have responded to this strategy by
announcing a $1.25 increase in the price of their standard cable service
effective March 1, 2000.
Technological Developments
Management believes that in order to achieve consistently high levels of
customer service, maintain a strong competitive posture and deploy important new
technologies, a state-of-the-art technical platform needs to be built. Presently
the System is comprised of 2,720 miles of plant passing approximately 178,300
homes resulting in a density of 66 homes per mile. Approximately 17% of the
plant has been rebuilt to 870 MHz. In addition, approximately 21% of the plant
has been expanded to 490 MHz and approximately 62% is built at 468 MHz. The
system is 100% addressable, with approximately 84% of the basic customers having
addressable converters.
Insight Ohio plans to enhance the technical platform of the System by
upgrading the plant passing 93% of the homes passed in the System by the end of
2000. The capability for high-speed data transmission, video-on-demand,
interactive digital cable, additional analog channels and telephony is intended
to be provided by further deployment of fiber optics, an increase in the
bandwidth to 870 MHz, activation of the reverse plant to allow two-way
communications and the installation of digital equipment.
All of the System's basic customers currently have access to addressable
technology and approximately 84% have addressable converters in their homes.
Addressable technology enables the System to electronically control the cable
television services being delivered to the customer's home. As a result, the
System can electronically upgrade or downgrade services to a customer
immediately, from its customer service center, without the delay or expense
associated with dispatching a technician to the customer's home. Addressable
technology also reduces premium service theft, is an effective enforcement tool
in the collection of delinquent payments and enables the System to offer
pay-per-view services, including movies and special events.
Management believes that active use of fiber optic technology as an
alternative to coaxial cable is expected to play a major role in expanding
channel capacity and improving the performance of the System. Fiber optic
strands are capable of carrying hundreds of video, data and voice channels over
extended distances without the extensive signal amplification typically required
for coaxial cable. The System will continue to deploy fiber optic cable further
reducing amplifier cascades while improving picture quality and system
reliability.
6
Recently, high-speed cable modems and set-top boxes using digital
compression technology have become commercially viable. These developments allow
for the introduction of high-speed data services and Internet access and will
increase the programming services available to customers. Digital compression
technology provides for a significant expansion of channel capacity with up to
12 digital channels to be carried in the bandwidth of one analog channel. The
upgrade of the System has given the System the ability to launch its Digital
Gateway service which includes the following:
o A digital converter box;
o An interactive navigational program guide for all analog and digital
channels;
o A local, interactive Internet-style service;
o A significant multiplexing of premium channels for customers who separately
subscribe to premium channels, such as HBO and Showtime;
o Pay-per-view video-on-demand; and
o A digital 40-channel audio music service.
Insight Ohio began launching its Digital Gateway service in the System on a
node-by-node basis in November 1999, including DIVA's video-on-demand service
and the Local Source interactive information service. Insight Ohio plans to
launch the Road Runner high-speed Internet service during the second quarter
2000.
Marketing, Programming and Rates
Marketing
The System's marketing programs and campaigns are based upon offering a
variety of cable services creatively packaged and tailored to appeal to its
different markets and to segments within its markets. The System surveys its
customer base to ensure that it is meeting the demands of its customers and
stays abreast of its competition in order to effectively counter competitors'
promotional campaigns. The System uses a coordinated array of marketing tactics
to attract and retain customers and to increase premium service penetration,
including door-to-door and direct mail solicitation, telemarketing, media
advertising, local promotional events typically sponsored by programming
services and cross-channel promotion of new services. The rebuild of the plant
allows Insight Ohio to deploy its suite of services including interactive
digital, high speed data and during the first quarter of 2001, telephony. In
November 1999, Insight Ohio began to launch its interactive digital,
video-on-demand and Local Source informational product on a node-by-node basis.
Insight Ohio plans to launch its Road Runner high-speed Internet service during
the second quarter 2000. Using a skilled team of marketing professionals, the
System has competed by supporting an innovative variety of marketing activities.
Programming
Insight has various contracts to obtain basic and premium programming for
the System from program suppliers whose compensation is typically based on a
fixed fee per customer. Through strategic alliances with other major MSOs or
through its own purchasing power, Insight has obtained programming for the
System at a low cost. Some program suppliers provide volume discount pricing
structures or offer marketing and launch support to the System. The System's
successful marketing of multiple premium service packages emphasizing customer
value enables the System to take advantage of such cost incentives. The System's
overall programming costs are expected to increase in the future due to
additional programming being provided to its customers, inflationary increases
and other factors affecting the cable television industry. The System also has
7
various retransmission consent arrangements with commercial broadcast stations
which generally have been renewed through 2003. None of these consents require
payment of fees for carriage.
The System offers a "basic service tier," consisting primarily of local
television channels (network and independent stations) available over-the-air,
and local public, governmental and educational access channels. The System also
offers, for a monthly fee, an expanded basic tier of various
satellite-delivered, non-broadcast channels (such as CNN, ESPN, MTV, TNT, and
USA). In addition to these services, the System provides premium services such
as HBO, Cinemax, Showtime, The Movie Channel and Starz!, which have unique
appeal to various segments of the viewing audience. These services are
satellite-delivered channels consisting principally of feature films, original
programming, live sports events, concerts and other special entertainment
features, usually presented without commercial interruption. Such premium
programming services are offered by the System both on a per-channel basis and
as part of premium service packages designed to enhance customer value and to
enable the System to take advantage of programming agreements offering cost
incentives based on premium service unit growth. Customers may subscribe to one
or more premium service units. A "premium service unit" is a single premium
service for which a customer must pay an additional monthly fee in order to
receive the service.
Management is upgrading the System to digital using fiber optic technology,
which has allowed the System to expand the number of multiplexed premium screens
(additional channels such as Showtime 2 and HBO Family) providing greater value
for the customer. Moreover, the upgrade has given the System the ability to
offer its Digital Gateway service including interactive television and multiple
packaging options through the addition of niche programming services. Management
believes that these additional features and options will increase basic and
premium penetration as well as revenue per basic customer. The System also
provides video-on-demand, a digital service consisting principally of feature
films, adult movies, concerts and other special events, presented without
commercial interruption. Such services are offered by the System on a "per
viewing" basis, with customers only paying for programs which they select for
viewing.
Rates
Monthly customer rates for services vary from market to market, primarily
according to the amount of programming provided. As of December 31, 1999, the
System's stated monthly basic service rate for residential customers was $11.47,
the System's monthly expanded basic service rates for residential customers
ranged from $14.93 to $18.65, and per-channel premium service rates (not
including special promotions) ranged from $5.95 to $12.95 per service.
A one-time installation fee, which the System may wholly or partially waive
during a promotional period, is charged to new customers. The System charges
monthly fees for converters and remote control devices. The System also charges
administrative fees for delinquent payments for service. Customers are free to
discontinue service at any time without additional charge and may be charged a
reconnection fee to resume service. Commercial customers, such as hotels, motels
and hospitals, are charged negotiated monthly fees and a non-recurring fee for
the installation of service. MDU accounts may be offered a bulk rate in exchange
for single-point billing and basic service to all units.
On February 11, 1997, a Petition for Determination of Effective Competition
filed by the prior owner of the System challenging the certification of the City
of Columbus was granted by the FCC. This petition effectively revoked the City
of Columbus' right to regulate the System's basic cable and equipment rates.
8
Employees
As of December 31, 1999, the System employed 191 full-time equivalent
employees, none of whom is represented by a union or covered by a collective
bargaining obligation. Management believes that its relations with its employees
are good. Approximately 50% of the full-time employees have tenure of five years
or longer. Although the Columbus area has relatively low unemployment and
competition in hiring is intense, Management believes that it will continue to
be successful in attracting and retaining highly qualified employees and
maintaining good working relationships with its current employees.
Customer Service and Community Relations
The System is dedicated to quality customer service. Plans to make
significant system improvements are designed in part to strengthen customer
service through greater system reliability and the introduction of new services.
Management seeks a high level of customer satisfaction by also employing a
well-trained staff of customer service representatives and experienced field
technicians.
The System is dedicated to fostering strong community relations in the
communities served by the System. The System supports local charities and
community causes through staged events and promotional campaigns, including
Children's Hospital Miracle Network Telethon, the Penny-A-Day for Children
Program and Red Cross Blood Drive donations. The System also installs and
provides free cable television service and Internet access to public schools,
government buildings and not-for-profit hospitals in its franchise areas. The
System has teamed up with its neighboring cable operator Time Warner to develop
a local sports package called "Central Ohio Sport!" which features Ohio State
University sporting events on an exclusive basis to cable customers.
Management believes that its relations with the communities in which the System
operates are generally excellent.
Franchises
Cable television systems are generally operated under non-exclusive
franchises granted by local governmental authorities. These franchises typically
contain many conditions, such as:
o time limitations on commencement and completion of construction;
o conditions of service, including number of channels, types of programming
and the provision of free service to schools and certain other public
institutions; and
o the maintenance of insurance and indemnity bonds.
The provisions of local franchises are subject to federal regulation under
the Communications Act of 1934, as amended (the "Communications Act").
The System provides cable television service to residents of 42
governmental jurisdictions. Within each of these governmental jurisdictions, the
System operates under authority granted by the local community or the State of
Ohio. Actual franchise agreements are maintained with the 28 jurisdictions that
possess the legal basis to grant such franchises consistent with federal and
state law. These franchises, which are non-exclusive, provide for the payment of
fees to the issuing authority. In the System, such franchise fees are passed
through directly to the customers. The Cable Television Consumer Protection and
Competition Act of 1992 (the "1992 Cable Act") and the Cable Communication
Policy Act of 1984 (the "1984 Cable Act" and, together with the 1992 Cable Act,
the "Cable Acts") prohibit franchising authorities from imposing franchise fees
in excess of
9
5% of gross revenue and also permit the cable television system operator to seek
renegotiation and modification of franchise requirements if warranted by changed
circumstances.
The majority of the System's basic customers are in governmental
jurisdictions that require a franchise. The table below groups all of the
System's governmental jurisdictions by date of expiration of the authority to
operate and presents the approximate number and percentage of basic customers
for each group as of December 31, 1999.
Percentage of Percentage of
Number of Total Total Basic
Franchises Franchises Customers
---------- ---------- ---------
Year of Franchise Expiration
- ----------------------------
2000 through 2001................................. 6 14% 14%
2002 and thereafter............................... 36 86% 86%
-- --- ---
Total....................................... 42 100% 100%
== ==== ====
The Cable Acts provide, among other things, for an orderly franchise
renewal process in which franchise renewal will not be unreasonably withheld or,
if renewal is denied and the franchising authority acquires ownership of the
system or effects a transfer of the system to another person, the operator
generally is entitled to the "fair market value" for the system covered by such
franchise. In addition, the Cable Acts established comprehensive renewal
procedures which require that an incumbent franchisee's renewal application be
assessed on its own merits and not as part of a comparative process with
competing applications.
Management believes that it generally has good relationships with its
franchising communities. The System has never had a franchise revoked or failed
to have a franchise renewed. In addition, all of the franchises of the System
eligible for renewal have been renewed or extended at or prior to their stated
expirations, and no franchise community has refused to consent to a franchise
transfer to the System.
Competition
Cable systems face increasing competition from alternative methods of
receiving and distributing their core video business. Both wireline and wireless
competitors have made inroads in competing against incumbent cable operators.
The extent to which a cable operator is competitive depends, in part, upon its
ability to provide to customers, at a reasonable price, a greater variety of
programming and other communications services than are available off-air or
through alternative delivery sources and upon superior technical performance and
customer service.
Congress has enacted legislation and the FCC has adopted regulatory
policies providing a more favorable operating environment for new and existing
technologies, in particular direct broadcast satellite television systems
operators, that have the potential to provide increased competition to cable
systems. Recently enacted legislation permits direct broadcast satellite
companies to retransmit local television signals, eliminating one of the
objections of consumers about switching to satellites.
The 1996 Telecom Act makes it easier for local exchange telephone companies
and others to provide a wide variety of video services competitive with services
provided by cable systems. Various local exchange telephone companies currently
are providing video services within and outside their telephone service areas
through a variety of distribution methods, including the deployment of broadband
cable networks and the use
10
of wireless transmission facilities. Local exchange telephone companies in
various states have either announced plans, obtained local franchise
authorizations or are currently competing with our cable communications systems.
Local exchange telephone companies and other companies also provide facilities
for the transmission and distribution to homes and businesses of interactive
computer-based services, including the Internet, as well as data and other
non-video services. The ability of local exchange telephone companies to
cross-subsidize video, data and telecommunication services also poses some
threat to cable operators.
The major source of competition for the System is the wireline overbuild by
Ameritech. Ameritech has overbuilt approximately 124,700 homes passed in the
System's service area, or approximately 70% of the total homes in the service
territory as of December 31, 1999.
Franchised cable systems compete with private cable systems for the right
to service condominiums, apartment complexes and other multiple unit residential
developments. The operators of these private systems, known as satellite master
antenna television systems, often enter into exclusive agreements with apartment
building owners or "homeowners" associations that preclude franchised cable
television operators from serving residents of such private complexes. However,
the 1984 Cable Act gives franchised cable operators the right to use existing
compatible easements within their franchise areas on nondiscriminatory terms and
conditions. Accordingly, where there are preexisting compatible easements, cable
operators may not be unfairly denied access or discriminated against with
respect to access to the premises served by those easements. Conflicting
judicial decisions have been issued interpreting the scope of the access right
granted by the 1984 Cable Act, particularly with respect to easements located
entirely on private property.
The 1996 Telecom Act may exempt some of our competitors from regulation as
cable systems. The 1996 Telecom Act amends the definition of a "cable system"
such that providers of competitive video programming are only regulated and
franchised as "cable systems" if they use public rights-of-way. Thus, a broader
class of entities providing video programming, including operators of satellite
master antenna television systems, may be exempt from regulation as cable
television systems under the 1996 Telecom Act. This exemption may give these
entities a competitive advantage over us. The System passes approximately 440
MDU complexes within its service territory and currently has entry agreements,
either exclusive or non-exclusive, with complexes totaling approximately 62,300
MDUs. The System currently provides programming to just over 31,500 of these
MDUs, or 51% of the total MDUs passed. The ability of the System to compete for
customers in residential and commercial developments served by SMATV operators
is uncertain.
Direct broadcast television systems use digital video compression
technology to increase the channel capacity of their systems. Direct broadcast
satellite television system programming is currently available to individual
households, condominiums and apartment and office complexes through
conventional, medium and high-power satellites. High-power direct broadcast
satellite television system service is currently being provided by DIRECTV,
Inc., and EchoStar Communications Corporation, and medium-power service is being
provided by PrimeStar, Inc. DIRECTV recently acquired PrimeStar's medium-power
direct broadcast satellite business and United States Satellite Broadcasting.
These and other recently announced transactions have resulted in DIRECTV and
EchoStar obtaining additional high-power channel capacity of direct broadcast
satellite television systems through the acquisition of other direct broadcast
satellite television system facilities and channel capacity. DIRECTV and
EchoStar have thereby significantly increased the number of channels on which
they can provide programming to customers. Direct broadcast satellite television
systems have some advantages over cable systems that were not rebuilt, such as
greater channel capacity and digital picture quality. In addition, legislation
has recently been enacted which permits direct broadcast satellite television
systems to deliver television stations in their local markets. The disadvantages
of direct broadcast satellite television systems currently include expensive
up-front customer equipment and installation costs and a lack
11
of local programming and service. Management estimates that there were
approximately 7,400 DBS customers in the System's service areas as of December
31, 1999.
Several telephone companies are introducing digital subscriber line
technology, which allows Internet access over traditional phone lines at data
transmission speeds greater than those available by modem. Although these
transmission speeds are not as great as the transmission speeds of a cable
modem, we believe that the transmission speeds of digital subscriber line
technology are sufficiently high enough that such technology will compete with
cable modem technology. The FCC is currently considering its authority to
promulgate rules to facilitate the deployment of these services and regulate
areas including high-speed data and interactive Internet services. We cannot
predict the outcome of any FCC proceedings, or the impact of that outcome on the
success of our Internet access services or on our operations.
Cable operators also compete with wireless program distribution services
such as analog and digital multichannel, multipoint distribution service, which
use microwave frequencies to transmit video programming over-the-air to
customers. There are operators of multipoint multichannel distribution systems
who are authorized to provide or are providing broadcast and satellite
programming to customers in areas served by our cable systems.
Additionally, the FCC adopted regulations allocating frequencies in the 28
GHz band for a new service called local multipoint distribution service that can
be used to provide video services similar to multipoint multichannel
distribution systems. The FCC held spectrum auctions for local multipoint
distribution service licenses in 1998 and 1999.
As we expand our offerings to include local telephone services, we will be
subject to competition from existing providers, including both local exchange
telephone companies and long-distance carriers. The telecommunications industry
is highly competitive and many telephone service providers may have greater
financial resources than we have, or have established relationships with
regulatory authorities. We cannot predict the extent to which the presence of
these competitors will influence customer penetration in our local telephone
service areas.
Other new technologies may become competitive with services that cable
communications systems can offer. Advances in communications technology, as well
as changes in the marketplace and the regulatory and legislative environment are
constantly occurring. Thus, we cannot predict the effect of ongoing or future
developments on the cable communications industry or on our operations.
Legislation and Regulation
The cable television industry is regulated by the FCC, some state
governments and the applicable local governments. In addition, various
legislative and regulatory proposals under consideration from time to time by
Congress and various federal agencies have in the past, and may in the future,
materially affect us. The following is a summary of federal laws and regulations
materially affecting the growth and operation of the cable television industry
and a description of certain state and local laws. We believe that the
regulation of the cable television industry remains a matter of interest to
Congress, the FCC and other regulatory authorities. There can be no assurance as
to what, if any, future actions such legislative and regulatory authorities may
take or the effect thereof on us.
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Federal Legislation
The principal federal statute governing the cable television industry is
the Communications Act. As it affects the cable television industry, the
Communications Act has been significantly amended on three occasions, by the
1984 Cable Act, the 1992 Cable Act and the 1996 Telecom Act. The 1996 Telecom
Act altered the regulatory structure governing the nation's telecommunications
providers. It removed barriers to competition in both the cable television
market and the local telephone market. Among other things, it also reduced the
scope of cable rate regulation. In addition, the 1996 Telecom Act required the
FCC to undertake a number of rulemakings to implement the legislation, some of
which have yet to be completed.
Federal Regulation
The FCC, the principal federal regulatory agency with jurisdiction over
cable television, has adopted regulations covering such areas as cross-ownership
between cable television systems and other communications businesses, carriage
of television broadcast programming, cable rates, consumer protection and
customer service, leased access, indecent programming, programmer access to
cable television systems, programming agreements, technical standards, consumer
electronics equipment compatibility, ownership of home wiring, program
exclusivity, equal employment opportunity, consumer education and lockbox
enforcement, origination cablecasting and sponsorship identification, children's
programming, signal leakage and frequency use, maintenance of various records,
and antenna structure notification, marking and lighting. The FCC has the
authority to enforce these regulations through the imposition of substantial
fines, the issuance of cease and desist orders and/or the imposition of other
administrative sanctions, such as the revocation of FCC licenses needed to
operate certain transmission facilities often used in connection with cable
operations. A brief summary of certain of these federal regulations as adopted
to date follows.
Rate Regulation
The 1984 Cable Act codified existing FCC preemption of rate regulation for
premium channels and optional non-basic program tiers. The 1984 Cable Act also
deregulated basic cable rates for cable television systems determined by the FCC
to be subject to effective competition. The 1992 Cable Act substantially changed
the previous statutory and FCC rate regulation standards. The 1992 Cable Act
replaced the FCC's old standard for determining effective competition, under
which most cable television systems were not subject to rate regulation, with a
statutory provision that resulted in nearly all cable television systems
becoming subject to rate regulation of basic service. The 1996 Telecom Act
expands the definition of effective competition to cover situations where a
local telephone company or its affiliate, or any multichannel video provider
using telephone company facilities, offers comparable video service by any means
except direct broadcast satellite television systems. Satisfaction of this test
deregulates all rates.
For cable systems not subject to effective competition, the 1992 Cable Act
required the FCC to adopt a formula for franchising authorities to assure that
basic cable rates are reasonable; allowed the FCC to review rates for cable
programming service tiers, other than per-channel or per-program services, in
response to complaints filed by franchising authorities and/or cable customers;
prohibited cable television systems from requiring basic customers to purchase
service tiers above basic service in order to purchase premium services if the
system is technically capable of compliance; required the FCC to adopt
regulations to establish, on the basis of actual costs, the price for
installation of cable service, remote controls, converter boxes and additional
outlets; and allowed the FCC to impose restrictions on the retiering and
rearrangement of cable services under certain limited circumstances. The 1996
Telecom Act limited the class of complainants regarding cable programming
service tier rates to franchising authorities only, after first receiving two
rate complaints from
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local customers, and ended FCC regulation of cable programming service tier
rates on March 31, 1999. The 1996 Telecom Act also relaxes existing uniform rate
requirements by specifying that such requirements do not apply where the
operator faces effective competition, and by exempting bulk discounts to
multiple dwelling units, although complaints about predatory pricing may be
lodged with the FCC.
The FCC's implementing regulations contain standards for the regulation of
basic service rates. Local franchising authorities and the FCC, respectively,
are empowered to order a reduction of existing rates which exceed the maximum
permitted level for basic services and associated equipment, and refunds can be
required. The FCC adopted a benchmark price cap system for measuring the
reasonableness of existing basic service rates. Alternatively, cable operators
have the opportunity to make cost-of-service showings which, in some cases, may
justify rates above the applicable benchmarks. The rules also require that
charges for cable-related equipment, converter boxes and remote control devices,
for example, and installation services be unbundled from the provision of cable
service and based upon actual costs plus a reasonable profit. The regulations
also provide that future rate increases may not exceed an inflation-indexed
amount, plus increases in certain costs beyond the cable operator's control,
such as taxes, franchise fees and increased programming costs. Cost-based
adjustments to these capped rates can also be made in the event a cable
television operator adds or deletes channels. There is also a streamlined
cost-of-service methodology available to justify a rate increase on the basic
tier for "significant" system rebuilds or upgrades.
As a further alternative, in 1995 the FCC adopted a simplified
cost-of-service methodology which can be used by "small cable systems" owned by
"small cable companies." A "small system" is defined as a cable television
system which has, on a headend basis, 15,000 or fewer basic customers. A "small
cable company" is defined as an entity serving a total of 400,000 or fewer basic
customers that is not affiliated with a larger cable television company, that is
to say that a larger cable television company does not own more than a 20
percent equity share or exercise de jure control. This small system rate-setting
methodology almost always results in rates which exceed those produced by the
cost-of-service rules applicable to larger cable television operators. Once the
initial rates are set they can be adjusted periodically for inflation and
external cost changes as described above. When an eligible "small system" grows
larger than 15,000 basic customers, it can maintain its then current rates but
it cannot increase its rates in the normal course until an increase would be
warranted under the rules applicable to systems that have more than 15,000
customers. When a "small cable company" grows larger than 400,000 basic
customers, the qualified systems it then owns will not lose their small system
eligibility. If a small cable company sells a qualified system, or if the
company itself is sold, the qualified systems retain that status even if the
acquiring company is not a small cable company. The System was "small cable
company" prior to the October 30, 1998 completion of the AT&T Broadband joint
venture relating to Insight's Indiana systems, but it no longer enjoys this
status.
Finally, there are regulations which require cable television systems to
permit customers to purchase video programming on a per channel or a per program
basis without the necessity of subscribing to any tier of service, other than
the basic service tier, unless the cable television system is technically
incapable of doing so. Generally, this exemption from compliance with the
statute for cable television systems that do not have such technical capability
is available until a cable television system obtains the capability, but not
later than December 2002.
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Carriage of Broadcast Television Signals
The 1992 Cable Act contains signal carriage requirements which allow
commercial television broadcast stations that are "local" to a cable television
system, that is to say that the system is located in the station's area of
dominant influence, to elect every three years whether to require the cable
television system to carry the station, subject to certain exceptions, or
whether the cable television system will have to negotiate for "retransmission
consent" to carry the station. The next election between must-carry and
retransmission consent will be October 1, 2002. A cable television system is
generally required to devote up to one-third of its activated channel capacity
for the carriage of local commercial television stations whether pursuant to
mandatory carriage requirements or the retransmission consent requirements of
the 1992 Cable Act. Local non-commercial television stations are also given
mandatory carriage rights, subject to certain exceptions, within the larger of:
(a) a 50 mile radius from the station's city of license; or (b) the station's
Grade B contour, a measure of signal strength. Unlike commercial stations,
noncommercial stations are not given the option to negotiate retransmission
consent for the carriage of their signal. In addition, cable television systems
have to obtain retransmission consent for the carriage of all "distant"
commercial broadcast stations, except for certain "superstations," which are
commercial satellite-delivered independent stations such as WGN. To date,
compliance with the "retransmission consent" and "must carry" provisions of the
1992 Cable Act has not had a material effect on Insight, although this result
may change in the future depending on such factors as market conditions, channel
capacity and similar matters when such arrangements are renegotiated. The FCC
has initiated a rulemaking proceeding on the carriage of television signals in
high definition and digital formats. The outcome of this proceeding could have a
material effect on the number of services that a cable operator will be required
to carry.
Deletion of Certain Programming
Cable television systems that have 1,000 or more customers must, upon the
appropriate request of a local television station, delete the simultaneous or
nonsimultaneous network programming of a distant station when such programming
has also been contracted for by the local station on an exclusive basis. FCC
regulations also enable television stations that have obtained exclusive
distribution rights for syndicated programming in their market to require a
cable television system to delete or "black out" such programming from other
television stations which are carried by the cable television system.
Franchise Fees
Although franchising authorities may impose franchise fees under the 1984
Cable Act, such payments cannot exceed 5% of a cable television system's annual
gross revenues. Under the 1996 Telecom Act, franchising authorities may not
exact franchise fees from revenues derived from telecommunications services,
although they may be able to exact some additional compensation for the use of
public rights-of-way. Franchising authorities are also empowered, in awarding
new franchises or renewing existing franchises, to require cable television
operators to provide cable-related facilities and equipment and to enforce
compliance with voluntary commitments. In the case of franchises in effect prior
to the effective date of the 1984 Cable Act, franchising authorities may enforce
requirements contained in the franchise relating to facilities, equipment and
services, whether or not cable-related. The 1984 Cable Act, under certain
limited circumstances, permits a cable operator to obtain modifications of
franchise obligations.
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Renewal of Franchises
The 1984 Cable Act and the 1992 Cable Act establish renewal procedures and
criteria designed to protect incumbent franchisees against arbitrary denials of
renewal and to provide specific grounds for franchising authorities to consider
in making renewal decisions, including a franchisee's performance under the
franchise and community needs. Even after the formal renewal procedures are
invoked, franchising authorities and cable television operators remain free to
negotiate a renewal outside the formal process. Nevertheless, renewal is by no
means assured, as the franchisee must meet certain statutory standards. Even if
a franchise is renewed, a franchising authority may impose new and more onerous
requirements such as rebuilding facilities and equipment, although the
municipality must take into account the cost of meeting such requirements.
Similarly, if a franchising authority's consent is required for the purchase or
sale of a cable television system or franchises, such authority may attempt to
impose burdensome or onerous franchise requirements in connection with a request
for such consent. Historically, franchises have been renewed for cable
television operators that have provided satisfactory services and have complied
with the terms of their franchises. At this time, we are not aware of any
current or past material failure on our part to comply with our franchise
agreements. We believe that we have generally complied with the terms of our
franchises and have provided quality levels of service.
The 1992 Cable Act makes several changes to the process under which a cable
television operator seeks to enforce its renewal rights which could make it
easier in some cases for a franchising authority to deny renewal. Franchising
authorities may consider the "level" of programming service provided by a cable
television operator in deciding whether to renew. For alleged franchise
violations occurring after December 29, 1984, franchising authorities are no
longer precluded from denying renewal based on failure to substantially comply
with the material terms of the franchise where the franchising authority has
"effectively acquiesced" to such past violations. Rather, the franchising
authority is estopped if, after giving the cable television operator notice and
opportunity to cure, it fails to respond to a written notice from the cable
television operator of its failure or inability to cure. Courts may not reverse
a denial of renewal based on procedural violations found to be "harmless error."
Channel Set-Asides
The 1984 Cable Act permits local franchising authorities to require cable
television operators to set aside certain television channels for public,
educational and governmental access programming. The 1984 Cable Act further
requires cable television systems with thirty-six or more activated channels to
designate a portion of their channel capacity for commercial leased access by
unaffiliated third parties to provide programming that may compete with services
offered by the cable television operator. The 1992 Cable Act requires leased
access rates to be set according to a formula determined by the FCC.
Ownership
The 1996 Telecom Act repealed the statutory ban against local exchange
carriers providing video programming directly to customers within their local
exchange telephone service areas. Consequently, the 1996 Telecom Act permits
telephone companies to compete directly with operations of cable television
systems. Under the 1996 Telecom Act and FCC rules adopted to implement the 1996
Telecom Act, local exchange carriers may provide video service as broadcasters,
common carriers, or cable operators. In addition, local exchange carriers and
others may also provide video service through "open video systems," a regulatory
regime that may give them more flexibility than traditional cable television
systems. Open video system operators, including local exchange carriers, can,
however, be required to obtain a local cable franchise, and they can be
16
required to make payments to local governmental bodies in lieu of cable
franchise fees. In general, open video system operators must make their systems
available to programming providers on rates, terms and conditions that are
reasonable and nondiscriminatory. Where carriage demand by programming providers
exceeds the channel capacity of an open video system, two-thirds of the channels
must be made available to programmers unaffiliated with the open video system
operator.
The 1996 Telecom Act generally prohibits local exchange carriers from
purchasing any ownership interest in a cable television system exceeding 10%
located within the local exchange carriers telephone service area, prohibits
cable operators from purchasing local exchange carriers whose service areas are
located within the cable operator's franchise area, and prohibits joint ventures
between operators of cable television systems and local exchange carriers
operating in overlapping markets. There are some statutory exceptions, including
a rural exemption that permits buyouts in which the purchased cable television
system or local exchange carrier serves a non-urban area with fewer than 35,000
inhabitants, and exemptions for the purchase of small cable television systems
located in non-urban areas. Also, the FCC may grant waivers of the buyout
provisions in certain circumstances.
The 1996 Telecom Act makes several other changes to relax ownership
restrictions and regulations of cable television systems. The 1996 Telecom Act
repeals the 1992 Cable Act's three-year holding requirement pertaining to sales
of cable television systems. The statutory broadcast/cable cross-ownership
restrictions imposed under the 1984 Cable Act have been eliminated, although the
FCC's regulations prohibiting broadcast/cable common-ownership currently remain
in effect. The FCC's rules also generally prohibit cable operators from offering
satellite master antenna service separate from their franchised systems in the
same franchise area, unless the cable operator is subject to "effective
competition" there.
The 1996 Telecom Act amends the definition of a "cable system" under the
Communications Act so that competitive providers of video services will be
regulated and franchised as "cable systems" only if they use public
rights-of-way. Thus, a broader class of entities providing video programming may
be exempt from regulation as cable television systems under the Communications
Act.
Pursuant to the 1992 Cable Act, the FCC has imposed limits on the number of
cable television systems which a single cable television operator can own. In
general, no cable television operator can have an attributable interest in cable
television systems which serve more than 30% of all multi-channel video
programming distributors nationwide. Attributable interests for these purposes
include voting interests of 5% or more, non-voting interests of 33% or more of
the total assets (debt plus equity), officerships, directorships and general
partnership interests The FCC has stayed the effectiveness of its horizontal
ownership rules pending the outcome of the appeal from the U.S. District Court
decision holding the multiple ownership limit provision of the 1992 Cable Act
unconstitutional.
The FCC has also adopted rules which limit the number of channels on a
cable television system which can be occupied by national video programming
services in which the entity which owns the cable television system has an
attributable interest. The limit is 40% of the first 75 activated channels.
The 1996 Telecom Act provides that registered utility holding companies and
subsidiaries may provide telecommunications services, including cable
television, notwithstanding the Public Utilities Holding Company Act of 1935, as
amended. Electric utilities must establish separate subsidiaries known as
"exempt telecommunications companies" and must apply to the FCC for operating
authority. Due to their resources, electric utilities could be formidable
competitors to traditional cable television systems.
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Access to Programming
The 1992 Cable Act imposed restrictions on the dealings between cable
operators and cable programmers. Of special significance from a competitive
business posture, the 1992 Cable Act precludes video programmers affiliated with
cable companies from favoring their affiliated cable operators over competitors
and requires such programmers to sell their programming to other multichannel
video distributors. This provision limits the ability of vertically integrated
cable programmers to offer exclusive programming arrangements to cable
companies.
Privacy
The 1984 Cable Act imposes a number of restrictions on the manner in which
cable television operators can collect and disclose data about individual system
customers. The statute also requires that the system operator periodically
provide all customers with written information about its policies regarding the
collection and handling of data about customers, their privacy rights under
federal law and their enforcement rights. In the event that a cable television
operator was found to have violated the customer privacy provisions of the 1984
Cable Act, it could be required to pay damages, attorneys' fees and other costs.
Under the 1992 Cable Act, the privacy requirements were strengthened to require
that cable television operators take such actions as are necessary to prevent
unauthorized access to personally identifiable information.
Franchise Transfers
The 1992 Cable Act requires franchising authorities to act on any franchise
transfer request submitted after December 4, 1992 within 120 days after receipt
of all information required by FCC regulations and by the franchising authority.
Approval is deemed to be granted if the franchising authority fails to act
within such period.
Technical Requirements
The FCC has imposed technical standards applicable to all classes of
channels which carry downstream National Television System Committee video
programming. The FCC also has adopted additional standards applicable to cable
television systems using frequencies in the 108 to 137 MHz and 225 to 400 MHz
bands in order to prevent harmful interference with aeronautical navigation and
safety radio services and has also established limits on cable television system
signal leakage. Periodic testing by cable television operators for compliance
with the technical standards and signal leakage limits is required and an annual
filing of the results of these measurements is required. The 1992 Cable Act
requires the FCC to periodically update its technical standards to take into
account changes in technology. Under the 1996 Telecom Act, local franchising
authorities may not prohibit, condition or restrict a cable television system's
use of any type of customer equipment or transmission technology.
The FCC has adopted regulations to implement the requirements of the 1992
Cable Act designed to improve the compatibility of cable television systems and
consumer electronics equipment. These regulations, among other things, generally
prohibit cable television operators from scrambling their basic service tier.
The 1996 Telecom Act directs the FCC to set only minimal standards to assure
compatibility between television sets, VCRs and cable television systems, and to
rely on the marketplace. Pursuant to the 1992 Cable Act, the FCC has adopted
rules to assure the competitive availability to consumers of customer premises
equipment, such as converters, used to access the services offered by cable
television systems and other multichannel video programming distributors.
Pursuant to those rules, consumers are given the right to attach compatible
18
equipment to the facilities of their multichannel video programming distributors
so long as the equipment does not harm the network, does not interfere with the
services purchased by other customers and is not used to receive unauthorized
services. As of July 1, 2000, multichannel video programming distributors, other
than operators of direct broadcast satellite television systems, are required to
separate security from non-security functions in the customer premises equipment
which they sell or lease to their customers and offer their customers the option
of using component security modules obtained from the multichannel video
programming distributors with set-top units purchased or leased from retail
outlets. As of January 1, 2005, multichannel video programming distributors will
be prohibited from distributing new set-top equipment integrating both security
and non-security functions to their customers.
Pursuant to the 1992 Cable Act, the FCC has adopted rules implementing an
emergency alert system. The rules require all cable television systems to
provide an audio and video emergency alert system message on at least one
programmed channel and a video interruption and an audio alert message on all
programmed channels. The audio alert message is required to state which channel
is carrying the full audio and video emergency alert system message. The FCC
rules permit cable television systems either to provide a separate means of
alerting persons with hearing disabilities of emergency alert system messages,
such as a terminal that displays emergency alert system messages and activates
other alerting mechanisms or lights, or to provide audio and video emergency
alert system messages on all channels. Cable television systems with 10,000 or
more basic customers per headend were required to install emergency alert system
equipment capable of providing audio and video emergency alert system messages
on all programmed channels by December 31, 1998. Cable television systems with
5,000 or more but fewer than 10,000 basic customers per headend will have until
October 1, 2002 to comply with that requirement. Cable television systems with
fewer than 5,000 basic customers per headend will have a choice of providing
either a national level emergency alert system message on all programmed
channels or installing emergency alert system equipment capable of providing
audio alert messages on all programmed channels, a video interrupt on all
channels, and an audio and video emergency alert system message on one
programmed channel. This must be accomplished by October 1, 2002.
Inside Wiring; Customer Access
In a 1997 order, the FCC established rules that require an incumbent cable
operator upon expiration of a multiple dwelling unit service contract to sell,
abandon, or remove "home run" wiring that was installed by the cable operator in
a multiple dwelling unit building. These inside wiring rules are expected to
assist building owners in their attempts to replace existing cable operators
with new programming providers who are willing to pay the building owner a
higher fee, where such a fee is permissible. Additionally, the FCC has proposed
to restrict exclusive contracts between building owners and cable operators or
other multichannel video programming distributors. The FCC has also recently
issued an order preempting state, local and private restrictions on over-the-air
reception antennas placed on rental properties in areas where a tenant has
exclusive use of the property, such as balconies or patios. However, tenants may
not install such antennas on the common areas of multiple dwelling units, such
as on roofs. This new order may limit the extent to which multiple dwelling unit
owners may enforce certain aspects of multiple dwelling unit agreements which
otherwise would prohibit, for example, placement of direct broadcast satellite
television systems television receiving antennae in multiple dwelling unit
areas, such as apartment balconies or patios, under the exclusive occupancy of a
renter.
Pole Attachments
The FCC currently regulates the rates and conditions imposed by certain
public utilities for use of their poles unless state public service commissions
are able to demonstrate that they adequately regulate the rates,
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terms and conditions of cable television pole attachments. A number of states
and the District of Columbia have certified to the FCC that they adequately
regulate the rates, terms and conditions for pole attachments. Illinois and
Kentucky, states in which we operate, have made such a certification. In the
absence of state regulation, the FCC administers such pole attachment and
conduit use rates through use of a formula which it has devised. Pursuant to the
1996 Telecom Act, the FCC has adopted a new rate formula for any attaching
party, including cable television systems, which offers telecommunications
services. This new formula will result in higher attachment rates than at
present, but they will apply only to cable television systems which elect to
offer telecommunications services. Any increases pursuant to this new formula
will not begin until 2001, and will be phased in by equal increments over the
five ensuing years. The FCC recently ruled that the provision of Internet
services will not, in and of itself, trigger use of the new formula. The FCC has
also initiated a proceeding to determine whether it should adjust certain
elements of the current rate formula. If adopted, these adjustments could
increase rates for pole attachments and conduit space.
Other FCC Matters
FCC regulation pursuant to the Communications Act also includes matters
regarding a cable television system's carriage of local sports programming;
restrictions on origination and cablecasting by cable television operators;
rules governing political broadcasts; equal employment opportunity; deletion of
syndicated programming; registration procedure and reporting requirements;
customer service; closed captioning; obscenity and indecency; program access and
exclusivity arrangements; and limitations on advertising contained in
nonbroadcast children's programming.
Copyright
Cable television systems are subject to federal copyright licensing
covering carriage of broadcast signals. In exchange for making semi-annual
payments to a federal copyright royalty pool and meeting certain other
obligations, cable television operators obtain a statutory license to retransmit
broadcast signals. The amount of this royalty payment varies, depending on the
amount of system revenues from certain sources, the number of distant signals
carried, and the location of the cable television system with respect to
over-the-air television stations. Any future adjustment to the copyright royalty
rates will be done through an arbitration process to be supervised by the U.S.
Copyright Office. Cable television operators are liable for interest on
underpaid and unpaid royalty fees, but are not entitled to collect interest on
refunds received for overpayment of copyright fees.
Various bills have been introduced into Congress over the past several
years that would eliminate or modify the cable television compulsory license.
Without the compulsory license, cable television operators would have to
negotiate rights from the copyright owners for all of the programming on the
broadcast stations carried by cable television systems. Such negotiated
agreements would likely increase the cost to cable television operators of
carrying broadcast signals. The 1992 Cable Act's retransmission consent
provisions expressly provide that retransmission consent agreements between
television broadcast stations and cable television operators do not obviate the
need for cable operators to obtain a copyright license for the programming
carried on each broadcaster's signal.
Copyrighted music performed in programming supplied to cable television
systems by pay cable networks, such as HBO, and basic cable networks, such as
USA Network, is licensed by the networks through private agreements with the
American Society of Composers and Publishers, generally known as ASCAP, and BMI,
Inc., the two major performing rights organizations in the United States. Both
the American Society of Composers and Publishers and BMI offer "through to the
viewer" licenses to the cable networks which cover
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the retransmission of the cable networks' programming by cable television
systems to their customers.
Licenses to perform copyrighted music by cable television systems
themselves, including on local origination channels, in advertisements inserted
locally on cable television networks, and in cross-promotional announcements,
must be obtained by the cable television operator from the American Society of
Composers and Publishers, BMI and/or SESAC, Inc.
State and Local Regulation
Cable television systems generally are operated pursuant to nonexclusive
franchises, permits or licenses granted by a municipality or other state or
local government entity. The terms and conditions of franchises vary materially
from jurisdiction to jurisdiction, and even from city to city within the same
state, historically ranging from reasonable to highly restrictive or burdensome.
Franchises generally contain provisions governing fees to be paid to the
franchising authority, length of the franchise term, renewal, sale or transfer
of the franchise, territory of the franchise, design and technical performance
of the system, use and occupancy of public streets and number and types of cable
television services provided. The terms and conditions of each franchise and the
laws and regulations under which it was granted directly affect the
profitability of the cable television system. The 1984 Cable Act places certain
limitations on a franchising authority's ability to control the operation of a
cable television system. The 1992 Cable Act prohibits exclusive franchises, and
allows franchising authorities to exercise greater control over the operation of
franchised cable television systems, especially in the area of customer service
and rate regulation. The 1992 Cable Act also allows franchising authorities to
operate their own multichannel video distribution system without having to
obtain a franchise and permits states or local franchising authorities to adopt
certain restrictions on the ownership of cable television systems. Moreover,
franchising authorities are immunized from monetary damage awards arising from
regulation of cable television systems or decisions made on franchise grants,
renewals, transfers and amendments. The 1996 Telecom Act prohibits a franchising
authority from either requiring or limiting a cable television operator's
provision of telecommunications services.
Various proposals have been introduced at the state and local levels with
regard to the regulation of cable television systems, and a number of states
have adopted legislation subjecting cable television systems to the jurisdiction
of centralized state governmental agencies, some of which impose regulation of a
character similar to that of a public utility. To date, none of the states in
which we currently operate has enacted state level regulation.
The foregoing describes all material present and proposed federal, state
and local regulations and legislation relating to the cable television industry.
Other existing federal regulations, copyright licensing and, in many
jurisdictions, state and local franchise requirements, currently are the subject
of a variety of judicial proceedings, legislative hearings and administrative
and legislative proposals which could change, in varying degrees, the manner in
which cable television systems operate. Neither the outcome of these proceedings
nor their impact upon the cable television industry or us can be predicted at
this time.
Internet Access Service
We offer a service which enables consumers to access the Internet at high
speeds via high capacity broadband transmission facilities and cable modems. We
compete with many other providers of Internet access services which are known as
Internet service providers. Internet service providers include such companies as
America Online and Mindspring Enterprises as well as major telecommunications
providers, including AT&T and local exchange telephone companies. Recently,
several Internet service providers asked the FCC as well
21
as local authorities to require cable companies offering Internet access
services over their broadband facilities to allow access to those facilities on
an unbundled basis to other Internet service providers. In a recent report on
the deployment of advanced telecommunications capability under Section 706 of
the 1996 Telecom Act, the FCC declined to convene a proceeding to consider
whether to impose such an access requirement on cable companies. However, the
FCC indicated that it would continue to monitor the issue of broadband
deployment. Also, the FCC denied requests by certain Internet service providers
that it condition its approval of the merger of AT&T and TCI, now known as AT&T
Broadband, LLC, on a requirement that those companies allow access by Internet
service providers to their broadband facilities. Several local jurisdictions
also are reviewing this issue. Recently, a U.S. District Court in Oregon upheld
a requirement, imposed by a local franchising authority in the context of a
franchise transfer, that the cable operator, if it chooses to provide Internet
service, must provide open access to its system for other Internet service
providers. That decision has been appealed. In the wake of this opinion, several
other communities have begun to consider whether to impose a similar
requirement.
There are currently few laws or regulations which specifically regulate
communications or commerce over the Internet. Section 230 of the Communications
Act, added to that act by the 1996 Telecom Act, declares it to be the policy of
the United States to promote the continued development of the Internet and other
interactive computer services and interactive media, and to preserve the vibrant
and competitive free market that presently exists for the Internet and other
interactive computer services, unfettered by federal or state regulation. One
area in which Congress did attempt to regulate content over the Internet
involved the dissemination of obscene or indecent materials. The provisions of
the 1996 Telecom Act generally referred to as the Communications Decency Act
were found to be unconstitutional by the United States Supreme Court in 1997.
Local Telecommunications Services
The 1996 Telecom Act provides that no state or local laws or regulations
may prohibit or have the effect of prohibiting any entity from providing any
interstate or intrastate telecommunications service. States are authorized,
however, to impose "competitively neutral" requirements regarding universal
service, public service, public safety and welfare, service quality and consumer
protection. State and local governments also retain their authority to manage
the public rights-of-way and may require reasonable, competitively neutral
compensation for management of the public rights-of-way when cable operators
provide telecommunications service.
We may in the future allow our cable infrastructure to be used for the
provision of local telecommunications services to residential and business
consumers. Local telecommunications service is subject to regulation by state
utility commissions. Use of local telecommunications facilities to originate and
terminate long distance services, a service commonly referred to as "exchange
access," is subject to regulation both by the FCC and by state utility
commissions. As a provider of local exchange service, we would be subject to the
requirements imposed upon local exchange carriers by the 1996 Telecom Act. These
include requirements governing resale, telephone number portability, dialing
parity, access to rights-of-way and reciprocal compensation. Our ability to
successfully offer local telecommunications service will be dependent, in part,
on the opening of local telephone networks by incumbent local telephone
companies as required of them by the 1996 Telecom Act. In January 1999, the
United States Supreme Court reversed and vacated in part an earlier decision of
a federal court of appeals striking down portions of the FCC's 1996 rules
governing local telecommunications competition. The Supreme Court held that the
FCC has authority under the Communications Act to establish rules to govern the
pricing of facilities and services provided by incumbent local exchange carriers
to open their local networks to competition. Also, as a result of that Supreme
Court
22
decision, the FCC must determine what network elements of incumbent local
exchange carriers must be made available to other providers and under what
circumstances those elements must be made available. How the FCC resolves those
questions will impact our ability to provide local telecommunications service in
competition with incumbent local exchange telephone companies.
Item 2. Properties
The System's principal physical assets consist of cable television
operating plant and equipment, including signal receiving, encoding and decoding
devices, headend and distribution systems and customer house drop equipment for
its cable television systems. The signal receiving apparatus includes a tower,
antenna, ancillary electronic equipment and earth stations for reception of
satellite signals. The headend, consisting of associated electronic equipment
necessary for the reception, amplification and modulation of signals, is located
near the receiving devices. Most basic customers of the System utilize
converters that can be addressed by sending coded signals from the headend
facility over the cable network. The System's distribution system consists
primarily of coaxial and fiber optic cables and related electronic equipment.
The System owns parcels of real property for signal reception sites (one
antenna tower and one headend). The System also leases one small office and one
hub location. Management believes that its properties, both owned and leased,
are in suitable condition adequate for the System's operations.
The System's cables generally are attached to utility poles under pole
rental agreements with local public utilities, although in some areas the
distribution cable is buried in underground ducts or trenches. The physical
components of the System require periodic upgrading to improve system
performance and capacity.
Item 3. Legal Proceedings
There are no material pending legal proceedings to which any of the
Registrants is a party or to which any of their properties are subject.
Item 4. Submission of Matters to a Vote of Security Holders
There were no matters submitted to a vote of the holders of the Senior
Discount Notes during the three months ended December 31, 1999.
23
PART II
Item 5. Market for Registrant's Common Stock and Related Stockholder Matters
There is no public trading market for the equity of Coaxial LLC, Coaxial
Financing Corp. and Insight Ohio. There are one, one and two holders of the
equity of Coaxial LLC, Coaxial Financing Corp. and Insight Ohio, respectively.
24
Item 6. Selected Financial Data
Coaxial LLC and Coaxial Financing Corp. were formed on July 24, 1998. As
such, these entities were not in existence for the historical periods presented
in the following tables. The historical information of Coaxial Communications of
Central Ohio, Inc. for the years ended December 31, 1997, 1996 and 1995 is shown
as it represents the predecessor entity which has been consolidated by Coaxial
LLC as of and for the years ended December 31, 1999 and 1998. The following
tables present selected historical financial data for Coaxial LLC as of and for
the five years ended December 31, 1999 and selected historical financial data
for Insight Ohio and Coaxial Financing Corp. as of and for the years ended
December 31, 1999 and 1998. The financial information of the Central Ohio Cable
System Operating Unit is presented as it represents the predecessor to Insight
Ohio. These tables should be read in conjunction with "Management's Discussion
and Analysis of Financial Condition and Results of Operations" and the financial
statements and the notes thereto included elsewhere in this Report.
Coaxial LLC
(dollars in thousands, except subscriber data)
Year ended December 31,
-----------------------------------------------------------------------
1999 1998 1997 1996 1995
--------- --------- --------- --------- ---------
Statement of Operations Data:
Revenues .............................................. $ 46,747 $ 47,956 $ 48,229 $ 50,418 $ 46,831
Operating expenses:
Service and administrative ......................... 26,184 27,832 27,391 25,236 21,920
Severance and transaction structure costs........... -- 4,822 -- -- --
Management fee...................................... 1,435 493 -- -- --
Home office......................................... -- 1,370 1,498 1,697 1,695
Depreciation and amortization....................... 7,403 5,311 5,256 5,350 4,837
--------- --------- --------- --------- ---------
Total operating expenses ..................... 35,022 39,828 34,145 32,283 28,452
Operating income ...................................... $ 11,725 $ 8,128 $ 14,084 $ 18,135 $ 18,379
Interest expense, net .............................. 6,412 2,678 1,230 426 1,033
Other expense (income) ............................. (92) 421 271 248 251
--------- --------- --------- --------- ---------
Net income before
Extraordinary item ................................. $ 5,405 $ 5,029 $ 12,583 $ 17,461 $ 17,095
Extraordinary item - loss on debt retirement........ -- (847) -- -- --
--------- --------- --------- --------- ---------
Net income ............................................ $ 5,405 $ 4,182 $ 12,583 $ 17,461 $ 17,095
========= ========= ========= ========= =========
Financial Ratios and Other Data:
System Cash Flow (1) .................................. $ 20,563 $ 20,124 $ 20,838 $ 25,182 $ 24,911
System Cash Flow margin ............................... 43.9% 42.0% 43.2% 49.9% 53.2%
Operating Cash Flow (2) ............................... 19,128 18,261 19,340 23,485 23,216
Capital expenditures .................................. 26,656 7,369 5,570 5,998 5,724
Net cash provided by operating activities ............. 19,043 13,052 18,622 24,369 21,895
Net cash used in investing activities ................. 26,754 3,470 15,242 19,551 19,914
Net cash used in financing activities ................. 116 1,446 3,712 4,582 1,623
Operating Data: (at end of period, except
average and annualized data)
Homes passed (3) ...................................... 178,310 171,753 166,306 161,018 156,613
Basic subscribers (4) ................................. 84,236 87,637 91,873 88,056 86,041
Basic penetration (5) ................................. 47.2% 51.0% 55.2% 54.7% 54.9%
Premium service units (6) ............................. 98,202 90,032 80,013 68,720 74,087
Premium penetration (7) ............................... 116.6% 102.7% 87.1% 78.0% 86.1%
Average monthly revenue per basic subscriber (8)....... $ 45.33 $ 44.52 $ 44.67 $ 48.27 $ 46.40
System Cash Flow per basic subscriber (9) ............. $ 239.28 $ 224.21 $ 231.62 $ 289.28 $ 296.20
Balance Sheet Data: (at the end of the period)
Total assets .......................................... $ 70,861 $ 56,532 $ 109,655 $ 102,099 $ 87,946
Total debt ............................................ 81,108 67,204 47,236 50,442 40,375
Total liabilities ..................................... 96,949 77,233 55,328 59,767 50,927
Total member's equity (deficit) ....................... (26,088) (20,701) 54,327 42,332 37,019
25
Coaxial Financing Corp.
(dollars in thousands)
December 31, 1999 December 31, 1998
----------------- -----------------
Balance Sheet Data:
Total assets $ 1 $ 1
Total debt (to be paid by Coaxial LLC) -- --
Total liabilities -- --
Total shareholders' equity 1 1
26
Insight Communications of Central Ohio, LLC
(dollars in thousands, except subscriber data)
Insight Communications of
Central Ohio, LLC Central Ohio Cable System Operating Unit
----------------- ----------------------------------------
Year Ended December 31,
---------------------------------------------------------------------
1999 1998 1997 1996 1995
---- ---- ---- ---- ----
Statement of Operations Data:
Revenues $ 46,747 $ 47,956 $ 48,229 $ 50,418 $ 46,831
Operating expenses:
Service and administrative 26,184 27,831 27,391 25,236 21,920
Severance and transaction structure costs -- 4,822 -- -- --
Management fee 1,435 493 -- -- --
Home office -- 1,371 1,498 1,697 1,695
Depreciation and amortization 7,148 5,311 5,238 5,334 4,823
-------- -------- -------- -------- --------
Total operating expenses 34,767 39,828 34,127 32,267 28,438
-------- -------- -------- -------- --------
Operating income 11,980 8,128 14,102 18,151 18,393
Interest expense (income), net 297 (59) (70) (29) (38)
Other expense (92) 422 271 248 251
-------- -------- -------- -------- --------
Net income $ 11,775 $ 7,765 $ 13,901 $ 17,932 $ 18,180
======== ======== ======== ======== ========
Financial Ratios and Other Data:
System Cash Flow (1) $ 20,563 $ 20,125 $ 20,838 $ 25,182 $ 24,911
System Cash Flow margin 43.9% 42.0% 43.2% 49.9% 53.2%
Operating Cash Flow (2) 19,128 18,261 19,340 23,485 23,216
Capital expenditures 26,656 7,369 5,529 5,992 5,702
Net cash provided by operating activities 22,425 14,399 19,454 21,975 22,192
Net cash used in investing activities 26,754 6,679 5,554 5,711 5,955
Net cash used in financing activities 1,498 1,585 14,232 16,028 15,879
Operating Data: (at end of period, except
average and annualized data)
Homes passed (3) 178,310 171,753 166,306 161,018 156,613
Basic subscribers (4) 84,236 87,637 91,873 88,056 86,041
Basic penetration (5) 47.2% 51.0% 55.2% 54.7% 54.9%
Premium service units (6) 98,202 90,032 80,013 68,720 74,087
Premium penetration (7) 116.6% 102.7% 87.1% 78.0% 86.1%
Average monthly revenue per basic subscriber (8) $ 45.33 $ 44.52 $ 44.67 $ 48.27 $ 46.40
System Cash Flow per basic subscriber (9) $ 239.28 $ 224.22 $ 231.62 $ 289.28 $ 296.18
Balance Sheet Data: (at end of the period)
Total assets $ 56,964 $ 41,967 $ 33,553 $ 34,062 $ 33,226
Total debt 11,117 228 407 615 651
Total liabilities 30,899 15,248 7,982 8,425 9,728
Total preferred interests 175,556 171,438 -- -- --
Total liabilities and preferred interests 206,455 186,686 -- -- --
Total member's deficit (149,491) (144,719) -- -- --
Net assets to be contributed -- -- 25,571 25,637 23,499
27
Notes To Selected Financial and Operating Data
(1) Represents Operating Cash Flow (as defined below in Note 2) plus home office
expense for periods prior to the acquisition of the System, and Operating Cash
Flow plus management fees for periods after or which give effect to the
acquisition of the System. Management believes that System Cash Flow is a
meaningful measure of performance because it is commonly used in the cable
television industry to analyze and compare cable television companies on the
basis of operating performance, leverage and liquidity. However, System Cash
Flow is not intended to be a performance measure that should be regarded as an
alternative to, or more meaningful than, either operating income or net income
as an indicator of operating performance or cash flows as a measure of
liquidity, as determined in accordance with generally accepted accounting
principles. System Cash Flow, as computed by management, is not necessarily
comparable to similarly titled amounts of other companies. See the financial
statements, including the Statements of Cash Flows, included elsewhere in this
Report.
(2) Represents earnings before depreciation, amortization, severance and
transaction structure costs, interest expense, other expenses, and extraordinary
item. Management believes that Operating Cash Flow is a meaningful measure of
performance because it is commonly used in the cable television industry to
analyze and compare cable television companies on the basis of operating
performance, leverage and liquidity. However, Operating Cash Flow is not
intended to be a performance measure that should be regarded as an alternative
to, or more meaningful than, either operating income or net income as an
indicator of operating performance or cash flows as a measure of liquidity, as
determined in accordance with generally accepted accounting principles.
Operating Cash Flow, as computed by management, is not necessarily comparable to
similarly titled amounts of other companies. See the financial statements,
including the Statements of Cash Flows included elsewhere in this Report.
(3) Refers to estimates by management of the approximate number of dwelling
units in a particular community that can be connected to the System.
(4) A home with one or more television sets connected to a cable system is
counted as one basic subscriber. Bulk accounts are included on an equivalent
basic unit basis in which the total monthly bill for the account is divided by
the basic monthly charge for a single outlet in the area.
(5) Calculated as basic subscribers as a percentage of homes passed.
(6) Includes only single channel services offered for a monthly fee per channel
and does not include tiers of channels offered as a package for a single monthly
fee. A subscriber may purchase more than one premium service, each of which is
counted as a separate premium service unit.
(7) Calculated as premium service units as a percentage of basic subscribers.
(8) Represents revenues of the System during the respective period divided by
the months in the period divided by the average number of basic subscribers
(beginning of period plus end of period divided by two) for such respective
period.
(9) Represents Annualized System Cash Flow during the respective period divided
by the average number of basic subscribers (beginning of period plus end of
period divided by two) for such respective period.
28
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations
The following discussion should be read in conjunction with the financial
statements and related notes which are included elsewhere in this report.
Private Offering of Senior Discount Notes and Senior Notes and Acquisition of
System by Insight Ohio
Coaxial LLC and Coaxial Financing Corp. completed on August 21, 1998 a
private offering (the "Senior Discount Notes Offering") of $55,869,000 aggregate
principal amount at maturity of their 12 7/8% Senior Discount Notes due in 2008
(the "Senior Discount Notes"), in connection with the Financing Plan discussed
under "Liquidity and Capital Resources," which included the contribution of
Coaxial's cable television system (the "System") to Insight Ohio. On February
16, 1999, Coaxial LLC and Coaxial Financing Corp. consummated an exchange of
registered Senior Discount Notes for their privately issued Senior Discount
Notes. Coaxial LLC and Coaxial Financing Corp. have only nominal assets except
for Coaxial LLC's ownership of 67.5% of the common stock of Coaxial and notes of
Coaxial DJM LLC and Coaxial DSM LLC (the other two owners of Coaxial), which
notes are secured by the remaining 32.5% of the common stock of Coaxial. The
Senior Discount Notes are guaranteed on a conditional basis by Insight Ohio.
As part of the Financing Plan, Coaxial and Phoenix Associates, an
affiliated general partnership, completed a private offering (the "Senior Notes
Offering") of $140,000,000 aggregate principal amount of their 10% Senior Notes
due in 2006 (the "Senior Notes"). On February 16, 1999, Coaxial and Phoenix
Associates consummated an exchange of registered Senior Notes for their
privately issued Senior Notes. The Senior Notes are also guaranteed on a
conditional basis by Insight Ohio. The conditional guarantee of the Senior
Discount Notes is subordinated to the conditional guarantee of the Senior Notes.
As a result of the Financing Plan, Coaxial has only nominal assets except for
its ownership of 25% of the non-voting common membership interests in Insight
Ohio and 100% of the voting Series A Preferred Interest and the Series B
Preferred Interest of Insight Ohio (together the "Preferred Interests"). IHO, a
wholly-owned subsidiary of Insight Communications Company L.P. ("Insight") holds
the remaining 75% non-voting common membership interests in Insight Ohio.
The Preferred Interests have distribution priorities that provide for
distributions to Coaxial. The distributions from the Series B Preferred Interest
will be used to pay dividends to the Individual LLCs, which dividends will be
used to pay interest and principal on the Senior Discount Notes and the
distributions from the Series A Preferred Interest will be used to pay interest
and principal on the Senior Notes. Distributions by Insight Ohio will be subject
to certain financial covenants and other conditions set forth in its Senior
Credit Facility.
Coaxial LLC and Coaxial Financing Corp. do not conduct any business and are
dependent upon the cash flow of Insight Ohio to meet their obligations under the
Senior Discount Notes. Coaxial and Phoenix do not conduct any business and are
dependent upon the cash flow of Insight Ohio to meet their obligations under the
Senior Notes. IHO serves as the manager of the System.
The following discussion relates to the historical operations of Coaxial
LLC for the years ended December 31, 1999 and 1998 compared to the historical
operations of Coaxial for the year ended December 31, 1997. On August 21, 1998,
all of the assets and liabilities comprising the System (predecessor company to
Insight Ohio) were contributed to Insight Ohio. Subsequent to the consummation
of the Financing Plan, (i) Insight Ohio is deemed to be a subsidiary of Coaxial
and, as such, the financial statements of Insight Ohio
29
are consolidated into the financial statements of Coaxial and (ii) Coaxial was
deemed to be a subsidiary of Coaxial LLC and, as such, the financial statements
of Coaxial are consolidated into the financial statements of Coaxial LLC.
Financial results related to historical information reflect the operation and
management of the System by Coaxial through August 21, 1998 and by IHO for the
period from August 21, 1998 to December 31, 1998 and for the year ended December
31, 1999. The historical operating results of Coaxial LLC presented below
reflect the actual results of the System in addition to certain financing
activities unrelated to the operation of the System. These financing activities
relate primarily to the offering of the Senior Discount Notes and Senior Notes
discussed above as well as certain borrowings and repayments of debt with
affiliated companies. These activities resulted in related financing and
interest costs. The historical results of Coaxial LLC presented below appear
elsewhere in this report under the heading "Coaxial LLC."
Overview
Revenues generated by the System are primarily attributable to monthly
subscription fees charged to basic customers for basic and premium cable
television programming services. Basic revenues consist of monthly subscription
fees for all services (other than premium programming) as well as monthly
charges for customer equipment rental. Premium revenues primarily consist of
monthly subscription fees for programming provided on a per channel basis. In
addition, other revenues are derived from installation and reconnection fees
charged to basic customers to commence or discontinue service, pay-per-view
charges, late payment fees, advertising revenues and commissions related to the
sale of goods by home shopping services.
System operating expenses consist of service and administrative expenses,
home office expenses and depreciation and amortization. Service and
administrative expenses include direct costs, such as fees paid to programming
suppliers, expenses related to copyright fees, bad debt expense and use fees.
Programming fees have historically increased at rates in excess of inflation due
to increases in the number of programming services offered by the System and
improvements in the quality of programming. Service and administrative expenses
also include costs attributable to the operation of the System, including wages
and salaries and other expenses related to plant operating activities, customer
service operations, marketing, billing, advertising sales and video production.
Prior to August 21, 1998, service and administrative expenses also included
costs attributable to finance and accounting, human resources and other
administrative functions. Upon consummation of the Financing Plan, such expenses
were replaced by the management fee arrangement with IHO.
The System relies on IHO for all of its strategic, managerial, financial
and operational oversight and advice. Insight also centrally purchases
programming and equipment and provides the associated discount to the System. In
exchange for all such services provided to the System and subject to certain
restrictions contained in the covenants with respect to Insight Ohio's Senior
Credit Facility, the Senior Discount Notes and the Senior Notes, IHO is entitled
to receive management fees of 3.0% of gross operating revenues of the System.
Such management fee is payable only after distributions have been made in
respect of the Preferred Interests and only to the extent that such payment
would be permitted by an exception to the restricted payments covenants of the
Senior Discount Notes and the Senior Notes as well as Insight Ohio's Senior
Credit Facility. Such management fee is included in service and administrative
expenses.
30
Results of Operations
Year Ended December 31, 1999 Compared to Year Ended December 31, 1998
Revenues for the year ended December 31, 1999 were $46.7 million, compared
to $48.0 million for the year ended December 31, 1998. For the year ended
December 31, 1999, customers served averaged 85,937, as compared with 89,755 in
1998. Effective August 21, 1998, the date of the contribution of assets to
Insight Ohio, Insight Ohio no longer included franchise fees in revenue due to a
change in financial reporting which caused 1998 revenue to be higher by
approximately $770,000. On a pro forma basis, excluding franchise fees, revenue
for the year ended December 31, 1999 was 0.9% lower than the previous year
despite a 4.3% decrease in customers served on average as Insight Ohio ended
previous management's program of deeply discounting its rates.
On a pro forma basis excluding franchise fees, average revenue per customer
for the year ended December 31, 1999 totaled $45.33 versus $43.81 for the year
ended December 31, 1998. Average revenue per customer for Insight Ohio's basic
and classic service increased from $25.88 for the year ended December 31, 1998
to $26.54 for the year ended December 31, 1999 on a pro forma basis excluding
franchise fees. This increase is primarily attributable to the discontinuance of
prior management's discounting structure.
Effective November 1, 1999, the System began activating nodes in rebuilt
areas, increasing the rate for classic service by $1.75 from $14.93 to $16.68.
As of December 31, 1999, there were approximately 10,800 customers receiving
this enhanced service which offers six more channels on the classic service
tier. In addition, customers in rebuilt areas have the opportunity to receive
new products including Insight's digital gateway service, video on demand and
high speed data access. As of December 31, 1999, Insight has realized revenues
of approximately $24.00 per digital home and approximately $34.00 per high speed
data customer in other markets where these products have been launched during
the past year.
Service and administrative expenses, excluding management fees and home
office expenses decreased to $26.2 million for the year ended December 31, 1999,
compared to $27.8 million in 1998, a decrease of $1.6 million or 5.8%.
Programming expenses decreased by 6.5%, from $12.1 million in 1998 to $11.3
million in 1999, primarily reflecting savings realized through Insight's
purchasing discounts and fewer customers served. In particular, programming fees
were approximately 2.2% less on a per customer basis due to discounts available
to Insight Ohio. Personnel expenses decreased by approximately 14.8% or $1.0
million due to the elimination of duplicative administrative personnel. In
addition, franchise fees of approximately $770,000 were included in service and
administrative expenses for the year ended December 31, 1998. Effective August
21, 1998, Insight Ohio no longer included franchise fees in expense due to a
change in financial reporting.
Severance and transaction structure costs of $4.8 million were incurred for
the year ended December 31, 1998 as a result of the Financing Plan and the
related contribution of the System to Insight Ohio. These costs consisted of
severance costs of $960,000 and professional fees of $3.8 million.
Until August 21, 1998, the System was charged home office expenses that
include costs incurred by the owners of Coaxial and their direct employees
relating to the System including salaries, benefits, legal fees, travel and
entertainment, accounting fees and other office expenses. Through August 21,
1998, such expenses totaled $1.4 million. Upon consummation of the Financing
Plan, IHO commenced management services to the System for which it received a
management fee totaling $493,000 for the period from August 21 through December
31, 1998 and $1.4 million for the year ended December 31, 1999.
31
Depreciation and amortization increased by approximately $2.1 million or
39.4% from $5.3 million for the year ended December 31, 1998 to $7.4 million for
the year ended December 31, 1999 reflecting capital expenditures associated with
the System's rebuild.
Net interest expense increased by approximately $3.7 million to $6.4
million for the year ended December 31, 1999 primarily resulting from higher
interest expense associated with the accretion of the discount on the Senior
Discount Notes as well as a net decrease in interest income from related parties
during 1999 as compared to 1998.
In 1998, an extraordinary loss of approximately $847,000 was recognized due
to the refinancing of Coaxial's bank debt that existed prior to August 21, 1998.
Net income increased to $5.4 million for the year ended December 31, 1999
from net income of $4.2 million for the year ended December 31, 1998 for the
reasons set forth above.
Year Ended December 31, 1998 Compared to Year Ended December 31, 1997
Revenues for the year ended December 31, 1998 were $48.0 million, compared
to $48.2 million for the year ended December 31, 1997. For the year ended
December 31, 1998, subscribers served averaged 89,755, as compared with 89,965
in 1997. Revenues were depressed by the former owner's program of deeply
discounting its service by more than 55% of the System's rate card. The program
was initiated in late July 1997 and continued through June 1998. Therefore, the
full impact of the approximately 16,000 subscribers billed at promotional rates
is not fully evident until fiscal 1999. The revenue decrease was partially
offset by a 22.9% increase in advertising revenue, which includes production
revenue.
Service and administrative expenses, including home office and management
fees, increased to $29.7 million for the year ended December 31, 1998, compared
to $28.9 million in 1997, an increase of $800,000, or 2.8%. Programming expenses
increased by 15.4%, from $10.4 million in 1997 to $12.0 million in 1998,
reflecting additional channels provided in the competitive areas, an increase in
customers and annual increases in programming rates offset by savings realized
through Insight's purchasing discounts. The System was charged home office
expenses that include costs incurred by the owners of Coaxial and their direct
employees relating to the System including salaries, benefits, legal fees,
travel and entertainment, accounting fees and other office expenses. For the
year ended December 31, 1998, such expenses totaled $1.4 million, an increase of
$100,000, or 7.7%, from 1997. Upon consummation of the Financing Plan, IHO
commenced management services to the System for which it receives a management
fee. Service and administrative expenses, which accounted for 66.1% of total
revenue for