VERIZON SOUTH INC - 10-Q Quarterly Report

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No ¨

	Three Months Ended September 30,						Nine Months Ended September 30,
(Dollars in Millions) (Unaudited)	2002			2001			2002			2001
OPERATING REVENUES (including $13.9, $16.6, $46.5 and $55.8 from affiliates)	$	318.9		$	400.9		$	1,104.1		$	1,223.2

Operations and support expense (exclusive of items shown below) (including $46.0, $53.2, $157.3 and $141.0 to affiliates)		198.3			175.6			537.9			522.7
Depreciation and amortization		51.1			52.4			150.5			204.7
Gain on sales of assets		(1,665.6	)		—			(1,665.6	)		—

		(1,416.2	)		228.0			(977.2	)		727.4

OPERATING INCOME		1,735.1			172.9			2,081.3			495.8
OTHER INCOME AND (EXPENSE), NET (including $9.2, $(.4), $11.9, and $(2.8) from affiliates)		9.4			(.3	)		12.3			(2.7	)
INTEREST EXPENSE (including $.2, $.2, $.5 and $2.9 to affiliate)		17.2			19.6			56.3			54.1

INCOME BEFORE PROVISION FOR INCOME TAXES AND EXTRAORDINARY ITEM		1,727.3			153.0			2,037.3			439.0
PROVISION FOR INCOME TAXES		669.1			60.6			791.0			174.8

INCOME BEFORE EXTRAORDINARY ITEM		1,058.2			92.4			1,246.3			264.2
EXTRAORDINARY ITEM Early extinguishment of debt, net of tax		(.4	)		—			(.4	)		(.3	)

NET INCOME	$	1,057.8		$	92.4		$	1,245.9		$	263.9

(Dollars in Millions)	September 30, 2002		December 31, 2001
	(Unaudited)
ASSETS
CURRENT ASSETS
Cash	$	—	$	.1
Short-term investments		.8		37.8
Note receivable from affiliate		855.0		274.6
Accounts receivable:
Trade and other, net of allowances for uncollectibles of $40.6 and $29.1		140.9		247.2
Affiliates		53.4		22.5
Material and supplies		7.0		9.7
Prepaid expenses		1.4		18.7
Net assets held for sale		—		703.8
Other		22.8		32.1

		1,081.3		1,346.5

PLANT, PROPERTY AND EQUIPMENT		3,226.7		3,147.6
Less accumulated depreciation		1,966.6		1,883.1

		1,260.1		1,264.5

PREPAID PENSION ASSET		402.1		389.6

OTHER ASSETS		34.5		56.4

TOTAL ASSETS	$	2,778.0	$	3,057.0

(Dollars in Millions, Except Per Share Amount)	September 30, 2002			December 31, 2001
	(Unaudited)
LIABILITIES AND SHAREOWNER’S INVESTMENT
CURRENT LIABILITIES
Debt maturing within one year
Note payable to affiliate	$	.4		$	—
Other		—			152.4
Accounts payable and accrued liabilities:
Affiliates		79.1			61.5
Other		809.7			194.2
Other liabilities		119.8			357.4

		1,009.0			765.5

LONG-TERM DEBT		899.6			913.3

EMPLOYEE BENEFIT OBLIGATIONS		200.6			202.0

DEFERRED CREDITS AND OTHER LIABILITIES
Deferred income taxes		220.4			259.4
Unamortized investment tax credits		—			.2
Other		78.8			65.1

		299.2			324.7

SHAREOWNER’S INVESTMENT
Common stock (one share, without par value, at September 30, 2002;		525.0			525.0
$25 par value, authorized 25,000,000 shares, outstanding 21,000,000 shares at December 31, 2001)
Contributed capital		—			71.8
(Accumulated deficit)/Reinvested earnings		(155.4	)		254.7

		369.6			851.5

TOTAL LIABILITIES AND SHAREOWNER’S INVESTMENT	$	2,778.0		$	3,057.0

	Nine Months Ended September 30,
(Dollars in Millions) (Unaudited)	2002			2001
NET CASH PROVIDED BY OPERATING ACTIVITIES	$	345.9		$	311.0

CASH FLOWS FROM INVESTING ACTIVITIES
Net change in short-term investments		37.0			22.3
Capital expenditures		(196.5	)		(274.6	)
Change in note receivable from affiliate		(580.4	)		(73.8	)
Investment in unconsolidated business		(2.1	)		—
Proceeds from sale of business assets		2,282.7			—
Other, net		7.3			(.2	)

Net cash (used in)/provided by investing activities		1,548.0			(326.3	)

CASH FLOWS FROM FINANCING ACTIVITIES
Proceeds from borrowings		—			290.6
Early extinguishment of debt		(16.5	)		—
Principal repayments of borrowings and capital lease obligations		(149.6	)		(12.4	)
Change in note payable to affiliate		—			(87.1	)
Dividends paid		(1,656.0	)		(201.0	)
Capital contribution from parent		2.1			—
Return of capital to parent		(74.0	)		—

Net cash used in financing activities		(1,894.0	)		(9.9	)

NET CHANGE IN CASH		(.1	)		(25.2	)
CASH, BEGINNING OF PERIOD		.1			25.6

CASH, END OF PERIOD	$	—		$	.4

Verizon South Inc. is a wholly owned subsidiary of GTE Corporation (GTE), which is a wholly owned subsidiary of Verizon Communications Inc. (Verizon Communications). The accompanying unaudited condensed financial statements have been prepared based upon Securities and Exchange Commission rules that permit reduced disclosure for interim periods. These financial statements reflect all adjustments that are necessary for a fair presentation of results of operations and financial position for the interim periods shown including normal recurring accruals. The results for the interim periods are not necessarily indicative of results for the full year. The balance sheet at December 31, 2001 has been derived from the audited financial statements at that date but does not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. For a more complete discussion of significant accounting policies and certain other information, you should refer to the financial statements included in our 2001 Annual Report on Form 10-K.

In October 2001, we agreed to sell all 170,000 of our switched access lines in Alabama to CenturyTel Inc. and all 600,000 of our switched access lines in Kentucky to ALLTEL Corporation. During the third quarter of 2002, we completed the sales of these access lines for $2,282.7 million in cash proceeds (excluding $190.7 million which was received in 2001). We recorded a pre-tax gain of $1,665.6 million ($1,018.8 million after-tax) related to these sales.

The net assets pertaining to the Alabama and Kentucky operations, principally plant, property and equipment, were classified in our balance sheet at December 31, 2001 as “Net assets held for sale.” Given the decision to sell, no depreciation was recorded for these assets during the period July 1, 2001 through the dates of the sales, in accordance with Statement of Financial Accounting Standards (SFAS) No. 121, “Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of,” and SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets.” Depreciation expense on these assets would have been $60.9 million for the nine months ended September 30, 2002.

Effective January 1, 2002, we adopted SFAS No. 142, “Goodwill and Other Intangible Assets.” SFAS No. 142 no longer permits the amortization of goodwill and indefinite-lived intangible assets. Instead, these assets must be reviewed annually (or more frequently under prescribed conditions) for impairment in accordance with this statement. This impairment test uses a fair value approach rather than the undiscounted cash flows approach previously required by SFAS No. 121. The goodwill impairment test under SFAS No. 142 requires a two-step approach, which is performed at the reporting unit level, as defined in SFAS No. 142. Step one identifies potential impairments by comparing the fair value of the reporting unit to its carrying amount. Step two, which is only performed if there is a potential impairment, compares the carrying amount of the reporting unit’s goodwill to its implied value, as defined in SFAS No. 142. If the carrying amount of the reporting unit’s goodwill exceeds the implied fair value of that goodwill, an impairment loss is recognized for an amount equal to that excess. Intangible assets that do not have indefinite lives are amortized over their useful lives and reviewed for impairment in accordance with SFAS No. 144. The adoption of SFAS No. 142 did not impact our results of operations or financial position because we had no goodwill or other intangible assets at December 31, 2001 and 2000.

Effective January 1, 2002, we adopted SFAS No. 144. This standard supersedes SFAS No. 121 and the provisions of Accounting Principles Board (APB) Opinion No. 30, “Reporting the Results of Operations-Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring Events and Transactions,” with regard to reporting the effects of a disposal of a segment of a business. SFAS No. 144 establishes a single accounting model for assets to be disposed of by sale and addresses several SFAS No. 121 implementation issues. The adoption of SFAS No. 144 did not have a material effect on our results of operations or financial position.

In June 2001, the Financial Accounting Standards Board (FASB) issued SFAS No. 143, “Accounting for Asset Retirement Obligations.” This standard provides the accounting for the cost of legal obligations associated with the retirement of long-lived assets. SFAS No. 143 requires that companies recognize the fair value of a liability for asset retirement obligations in the period in which the obligations are incurred and capitalize that amount as a part of the book value of the long-lived asset. That cost is then depreciated over the remaining life of the underlying long-lived asset. We are required to adopt SFAS No. 143 effective January 1, 2003. We are currently evaluating the impact this new standard will have on our future results of operations or financial position.

In April 2002, the FASB issued SFAS No. 145, “Rescission of FASB Statements No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical Corrections.” SFAS No. 145, among other things, eliminates the requirement that all gains and losses on the extinguishment of debt must be classified as extraordinary items on the income statement, thereby permitting the classification of such gains and losses as extraordinary items only if the criteria of APB No. 30 are met. We are required to adopt this provision of SFAS No. 145 effective January 1, 2003 and, upon adoption, we will reclassify in our statements of income previously reported extraordinary charges for the early extinguishment of debt to income from continuing operations.

In June 2002, the FASB issued SFAS No. 146, “Accounting for Costs Associated with Exit or Disposal Activities.” This standard addresses financial accounting and reporting for costs associated with exit or disposal activities and nullifies Emerging Issues Task Force (EITF) Issue No. 94-3, “Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred in a Restructuring).” EITF Issue No. 94-3 required accrual of liabilities related to exit and disposal activities at a plan (commitment) date. SFAS No. 146 requires that a liability for a cost associated with an exit or disposal activity be recognized when the liability is incurred. The provisions of this standard are effective for exit or disposal activities that are initiated after December 31, 2002.