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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-Q
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(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2003
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM ________TO _________
COMMISSION FILE NUMBER: 333-77499
333-77499-01
CHARTER COMMUNICATIONS HOLDINGS, LLC
CHARTER COMMUNICATIONS HOLDINGS CAPITAL CORPORATION *
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(Exact name of registrants as specified in their charters)
DELAWARE 43-1843179
DELAWARE 43-1843177
(State or other jurisdiction of (I.R.S. Employer Identification Number)
incorporation or organization)
12405 POWERSCOURT DRIVE
ST. LOUIS, MISSOURI 63131
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(Address of principal executive offices including zip code)
(314) 965-0555
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(Registrants' telephone number, including area code)
Indicate by check mark whether the registrants (1) have 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
registrants were required to file reports), and (2) have been subject to such
filing requirements for the past 90 days. YES [X] NO [ ]
Indicate by check mark whether the registrants are accelerated filers (as
defined in Rule 12b-2 of the Exchange Act). YES [ ] NO [X]
Number of shares of common stock of Charter Communications Holdings Capital
Corporation outstanding as of October 31, 2003: 100
* Charter Communications Holdings Capital Corporation meets the conditions set
forth in General Instruction H(1)(a) and (b) to Form 10-Q and is therefore
filing with the reduced disclosure format.
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CHARTER COMMUNICATIONS HOLDINGS, LLC
CHARTER COMMUNICATIONS HOLDINGS CAPITAL CORPORATION
QUARTERLY REPORT ON FORM 10-Q FOR THE PERIOD ENDED SEPTEMBER 30, 2003
TABLE OF CONTENTS
PAGE
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PART I. FINANCIAL INFORMATION
Item 1. Independent Accountants' Review Report................................................. 4
Financial Statements - Charter Communications Holdings, LLC and Subsidiaries
Condensed Consolidated Balance Sheets as of September 30, 2003 and
December 31, 2002...................................................................... 5
Condensed Consolidated Statements of Operations for the three and
nine months ended September 30, 2003 and 2002.......................................... 6
Condensed Consolidated Statements of Cash Flows for the
nine months ended September 30, 2003 and 2002.......................................... 7
Notes to Condensed Consolidated Financial Statements................................... 8
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations.. 22
Item 3. Quantitative and Qualitative Disclosures about Market Risk............................. 45
Item 4. Controls and Procedures................................................................ 45
PART II. OTHER INFORMATION
Item 1. Legal Proceedings...................................................................... 47
Item 4. Submission of Matters to a Vote of Security Holders.................................... 49
Item 6. Exhibits and Reports on Form 8-K....................................................... 49
SIGNATURES ....................................................................................... 52
EXHIBIT INDEX ....................................................................................... 53
This Quarterly Report on Form 10-Q is for the three and nine months ended
September 30, 2003. This Quarterly Report modifies and supersedes documents
filed prior to this Quarterly Report. The SEC allows Charter Holdings to
"incorporate by reference" information that Charter Holdings files with it,
which means that Charter Holdings can disclose important information to you by
referring you directly to those documents. Information incorporated by reference
is considered to be part of this Quarterly Report. In addition, information that
Charter Holdings files with the SEC in the future will automatically update and
supersede information contained in this Quarterly Report. In this Quarterly
Report, "Charter Holdings " refers to Charter Communications Holdings, LLC and
its subsidiaries, unless the context requires otherwise.
CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS:
This Quarterly Report includes forward-looking statements within the meaning of
Section 27A of the Securities Act of 1933, as amended (the "Securities Act"),
and Section 21E of the Securities Exchange Act of 1934, as amended (the
"Exchange Act"), regarding, among other things, our plans, strategies and
prospects, both business and financial including, without limitation, the
forward-looking statements set forth in the "Results of Operations" and
"Liquidity and Capital Resources" sections under Part I, Item 2 ("Management's
Discussion and Analysis of Financial Condition and Results of Operations") in
this Quarterly Report. Although we believe that our plans, intentions and
expectations reflected in or suggested by these forward-looking statements are
reasonable, we cannot assure you that we will achieve or realize these plans,
intentions or expectations. Forward-looking statements are inherently subject to
risks, uncertainties and assumptions including, without limitation, the factors
described under "Certain Trends and Uncertainties" under Part I, Item 2
("Management's Discussion and Analysis of Financial Condition and Results of
Operations") in this Quarterly Report. Many of the forward-looking statements
contained in this Quarterly Report may be identified by the use of
forward-looking words such as "believe," "expect," "anticipate," "should,"
"planned," "will," "may," "intend," "estimated" and "potential," among others.
Important factors that could cause actual results to differ materially from the
forward-looking statements we make in this Quarterly Report are set forth in
this Quarterly Report and in other reports or documents that we file from time
to time with the United States Securities and Exchange Commission, or the "SEC",
and include, but are not limited to:
o our ability to sustain and grow revenues and cash flows from operating
activities by offering video and data services and to maintain a
stable customer base, particularly in the face of increasingly
aggressive competition from other service providers;
o our and our subsidiaries' ability to comply with all covenants in our
indentures and their credit facilities and indentures, any violation
of which would result in a violation of the applicable facility or
indenture and could trigger a default of other obligations under cross
default provisions;
o our, our parent companies' and our subsidiaries' ability to refinance
remaining debt as it becomes due;
o availability of funds to meet interest payment obligations under our
and our parent and subsidiary companies' debt and to fund our
operations and necessary capital expenditures, either through cash
flows from operating activities, further borrowings or other sources;
o any adverse consequences arising out of our and our subsidiaries'
prior restatement of the financial statements described herein;
o the results of the pending grand jury investigation by the United
States Attorney's Office for the Eastern District of Missouri, the
pending SEC Division of Enforcement investigation and the putative
class action and derivative shareholders litigation against Charter
Communications, Inc.;
o our ability to obtain programming at reasonable prices or pass cost
increases on to our customers;
o general business conditions, economic uncertainty or slowdown; and
o the effects of governmental regulation, including but not limited to
local franchise taxing authorities, on our business.
All forward-looking statements attributable to us or a person acting on our
behalf are expressly qualified in their entirety by this cautionary statement.
We undertake no duty or obligation to update any of the forward-looking
statements after the date of this Quarterly Report.
3
PART I. FINANCIAL INFORMATION.
ITEM 1. FINANCIAL STATEMENTS.
---------------------------------------------------------------
INDEPENDENT ACCOUNTANTS' REVIEW REPORT
The Board of Directors and Member
Charter Communications Holdings, LLC:
We have reviewed the accompanying interim condensed consolidated balance sheet
of Charter Communications Holdings, LLC, and subsidiaries as of September 30,
2003, and the related condensed consolidated statements of operations for the
three-month and nine-month periods ended September 30, 2003 and 2002, and the
related condensed consolidated statements of cash flows for the nine-month
periods ended September 30, 2003 and 2002. These interim condensed consolidated
financial statements are the responsibility of the Company's management.
We conducted our reviews in accordance with standards established by the
American Institute of Certified Public Accountants. A review of interim
financial information consists principally of applying analytical procedures and
making inquiries of persons responsible for financial and accounting matters. It
is substantially less in scope than an audit conducted in accordance with
generally accepted auditing standards, the objective of which is the expression
of an opinion regarding the financial statements taken as a whole. Accordingly,
we do not express such an opinion.
Based on our review, we are not aware of any material modifications that should
be made to the accompanying interim condensed consolidated financial statements
referred to above for them to be in conformity with accounting principles
generally accepted in the United States of America.
As discussed in Note 4 to the interim condensed consolidated financial
statements, effective January 1, 2002, the Company adopted Statement of
Financial Accounting Standards No. 142 "Goodwill and Other Intangible Assets."
As discussed in Note 14 to the interim condensed consolidated financial
statements, effective January 1, 2003, the Company adopted Statement of
Financial Accounting Standards No. 148, "Accounting for Stock-Based Compensation
- - Transition and Disclosure."
/s/ KPMG LLP
St. Louis, Missouri
November 7, 2003
4
CHARTER COMMUNICATIONS HOLDINGS, LLC AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(DOLLARS IN MILLIONS)
SEPTEMBER 30, DECEMBER 31,
2003 2002
---------------- ----------------
(UNAUDITED)
ASSETS
CURRENT ASSETS:
Cash and cash equivalents $ 52 $ 310
Accounts receivable, less allowance for doubtful accounts of
$17 and $19, respectively 187 253
Receivables from related party 85 50
Prepaid expenses and other current assets 28 40
-------- --------
Total current assets 352 653
-------- --------
INVESTMENT IN CABLE PROPERTIES:
Property, plant and equipment, net of accumulated
depreciation of $3,515 and $2,550, respectively 6,862 7,460
Franchises, net of accumulated amortization
of $3,458 and $3,452, respectively 13,721 13,727
-------- --------
Total investment in cable properties, net 20,583 21,187
-------- --------
OTHER NONCURRENT ASSETS 307 316
-------- --------
Total assets $ 21,242 $ 22,156
======== ========
LIABILITIES AND MEMBER'S EQUITY
CURRENT LIABILITIES:
Accounts payable and accrued expenses $ 1,128 $ 1,250
-------- --------
Total current liabilities 1,128 1,250
-------- --------
LONG-TERM DEBT 17,724 17,288
-------- --------
LOANS PAYABLE - RELATED PARTIES 37 73
-------- --------
DEFERRED MANAGEMENT FEES - RELATED PARTY 14 14
-------- --------
OTHER LONG-TERM LIABILITIES 838 932
-------- --------
MINORITY INTEREST 704 693
-------- --------
MEMBER'S EQUITY:
Member's equity 872 2,011
Accumulated other comprehensive loss (75) (105)
-------- --------
Total member's equity 797 1,906
-------- --------
Total liabilities and member's equity $ 21,242 $ 22,156
======== ========
See accompanying notes to condensed consolidated financial statements.
5
CHARTER COMMUNICATIONS HOLDINGS, LLC AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(DOLLARS IN MILLIONS)
UNAUDITED
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------------ ------------------------
2003 2002 2003 2002
------- ------- ------- -------
(RESTATED) (RESTATED)
REVENUES $ 1,207 $ 1,166 $ 3,602 $ 3,377
------- ------- ------- -------
COSTS AND EXPENSES:
Operating (excluding depreciation and amortization and
other items listed below) 484 457 1,457 1,330
Selling, general and administrative 235 243 702 708
Depreciation and amortization 362 374 1,118 1,061
Option compensation expense, net 1 1 1 4
Special charges, net 8 -- 18 1
------- ------- ------- -------
1,090 1,075 3,296 3,104
------- ------- ------- -------
Income from operations 117 91 306 273
------- ------- ------- -------
OTHER INCOME AND EXPENSE:
Interest expense, net (368) (359) (1,103) (1,054)
Gain (loss) on derivative instruments and hedging 31 (76) 35 (106)
activities, net
Gain on debt exchange, net 187 -- 187 --
Other, net (2) (1) (3) (5)
------- ------- ------- -------
(152) (436) (884) (1,165)
------- ------- ------- -------
Loss before minority interest, income taxes and
cumulative effect of accounting change (35) (345) (578) (892)
MINORITY INTEREST (4) (4) (11) (11)
------- ------- ------- -------
Loss before income taxes and cumulative effect of
accounting change (39) (349) (589) (903)
INCOME TAX BENEFIT (EXPENSE) (1) 13 (3) 27
------- ------- ------- -------
Loss before cumulative effect of accounting change (40) (336) (592) (876)
CUMULATIVE EFFECT OF ACCOUNTING CHANGE, NET OF TAX -- -- -- (540)
------- ------- ------- -------
Net loss $ (40) $ (336) $ (592) $(1,416)
======= ======= ======= =======
See accompanying notes to condensed consolidated financial statements.
6
CHARTER COMMUNICATIONS HOLDINGS, LLC AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(DOLLARS IN MILLIONS)
UNAUDITED
NINE MONTHS ENDED
SEPTEMBER 30,
--------------------------------
2003 2002
------------- --------------
(RESTATED)
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $ (592) $(1,416)
Adjustments to reconcile net loss to net cash flows from operating activities:
Minority interest 11 11
Depreciation and amortization 1,118 1,061
Noncash interest expense 313 285
Loss (gain) on derivative instruments and hedging activities, net (35) 106
Gain on debt exchange, net (187) --
Deferred income taxes 3 (27)
Cumulative effect of accounting change, net -- 540
Other, net 1 6
Changes in operating assets and liabilities, net of effects from acquisitions:
Accounts receivable 66 31
Prepaid expenses and other assets 6 1
Accounts payable, accrued expenses and other (50) (35)
Receivables from and payables to related party, including deferred
management fees (64) (60)
------- -------
Net cash flows from operating activities 590 503
------- -------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property, plant and equipment (481) (1,550)
Change in accounts payable and accrued expenses related to capital expenditures (102) (89)
Payments for acquisitions, net of cash acquired -- (140)
Purchases of investments (6) (5)
Other, net (3) 1
------- -------
Net cash flows from investing activities (592) (1,783)
------- -------
CASH FLOWS FROM FINANCING ACTIVITIES:
Borrowings of long-term debt 452 2,440
Repayments of long-term debt (646) (1,486)
Proceeds from issuance of debt 30 895
Payments for debt issuance costs (30) (40)
Repayments to related parties (36) (109)
Capital contributions -- 88
Distributions (26) (6)
------- -------
Net cash flows from financing activities (256) 1,782
------- -------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS (258) 502
CASH AND CASH EQUIVALENTS, beginning of period 310 2
------- -------
CASH AND CASH EQUIVALENTS, end of period $ 52 $ 504
======= =======
CASH PAID FOR INTEREST $ 710 $ 658
======= =======
NONCASH TRANSACTIONS:
Issuance of debt by CCH II, LLC $ 1,572 $ --
======= =======
Retirement of debt $ 1,257 $ --
======= =======
CCH II, LLC notes distributed to retire parent company debt $ 521 $ --
======= =======
See accompanying notes to condensed consolidated financial statements.
7
CHARTER COMMUNICATIONS HOLDINGS, LLC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. ORGANIZATION AND BASIS OF PRESENTATION
Charter Communications Holdings, LLC (Charter Holdings) is a holding company
whose principal assets at September 30, 2003 are equity interests in its cable
operating subsidiaries. Charter Holdings is a subsidiary of Charter
Communications Holding Company, LLC (Charter Holdco), which is a subsidiary of
Charter Communications, Inc. (Charter). The consolidated financial statements
include the accounts of Charter Holdings and all of its direct and indirect
subsidiaries. Charter Holdings and its subsidiaries are collectively referred to
herein as the "Company." All material intercompany transactions and balances
have been eliminated in consolidation. The Company owns and operates cable
systems that provide a full range of video, data, telephony and other advanced
broadband services. The Company also provides commercial high-speed data, video,
telephony and Internet services and sells advertising and production services.
In June 2003, the Company commenced an organizational restructuring, which
consisted of the Company first forming CCH II, LLC (CCH II) and then
contributing all of the equity interests in all of its subsidiaries (except
Charter Communications Holdings Capital Corporation, the co-issuer of the
Company's senior notes and senior discount notes, and Charter Communications
Operating, LLC) to a newly-formed subsidiary (CCO NR Holdings, LLC), and then
contributing CCO NR Holdings, LLC to Charter Communications Operating, LLC
(Charter Operating). The Company then contributed Charter Operating to a newly
formed subsidiary (CCO Holdings, LLC), which was then contributed to CCH II.
Thereafter, CCH I, LLC (CCH I) was formed as a new subsidiary of the Company,
and the Company contributed its interest in CCH II to CCH I.
The accompanying condensed consolidated financial statements of the Company have
been prepared in accordance with accounting principles generally accepted in the
United States for interim financial information and the rules and regulations of
the Securities and Exchange Commission. Accordingly, certain information and
footnote disclosures typically included in the Company's Annual Report on Form
10-K have been condensed or omitted for this Quarterly Report. The accompanying
condensed consolidated financial statements are unaudited and are subject to
review by regulatory authorities. However, in the opinion of management, such
financial statements include all adjustments, which consist of only normal
recurring adjustments, necessary for a fair presentation of the results for the
periods presented. Interim results are not necessarily indicative of results for
a full year.
The preparation of financial statements in conformity with accounting principles
generally accepted in the United States requires management to make estimates
and assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Significant judgments and estimates include capitalization of
labor and overhead costs, depreciation and amortization costs, impairments of
property, plant and equipment, franchises and goodwill, income taxes and other
contingencies. Actual results could differ from those
estimates.
Reclassifications
Certain 2002 amounts have been reclassified to conform with the 2003
presentation.
2. LIQUIDITY AND CAPITAL RESOURCES
The Company has incurred net losses of $40 million and $592 million for the
three and nine months ended September 30, 2003, respectively, and $336 million
and $1.4 billion for the three and nine months ended September 30, 2002,
respectively. The Company's net cash flows from operating activities were $590
million and $503 million for the nine months ended September 30, 2003 and 2002,
respectively. The Company has historically required significant cash to fund
capital expenditures and debt service costs. Historically, the Company has
funded these requirements through cash flows from operating activities,
borrowings under the credit facilities of the Company's subsidiaries, equity
contributions from Charter Holdco, by issuances of debt securities and cash on
hand. The mix of funding sources changes from period to period, but for the nine
months ended September 30, 2003, approximately 70% of the Company's funding
requirements were from cash flows from operating activities and 30% was from
cash on hand. For the nine months ended September 30, 2003, the Company
decreased its borrowings under its
8
CHARTER COMMUNICATIONS HOLDINGS, LLC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
subsidiaries' credit facilities by $193 million and decreased cash on hand by
$258 million.
The Company expects that cash on hand, cash flows from operating activities and
the funds available under its subsidiaries' credit facilities will be adequate
to meet its 2003 cash needs. However, these credit facilities are subject to
certain restrictive covenants, portions of which are subject to the operating
results of the Company's subsidiaries. The Company's 2003 operating plan
anticipates maintaining compliance with these covenants. If the Company's actual
operating results do not maintain compliance with these covenants, or if other
events of noncompliance occur, funding under the bank facilities may not be
available and defaults on some or potentially all debt obligations could occur.
Additionally, no assurances can be given that the Company will not experience
liquidity problems because of adverse market conditions or other unfavorable
events or if the Company does not obtain sufficient additional financing on a
timely basis. In order to improve the Company's subsidiaries' ability to satisfy
their leverage ratio covenants under their credit facilities, the Company's
subsidiary, CCO Holdings, LLC (CCO Holdings), completed a private placement of
$500 million aggregate principal amount of 8.75% senior notes, described in Note
6.
On October 1, 2003 the Company closed on the sale of its Port Orchard,
Washington system for approximately $91 million, subject to adjustments. On
September 3, 2003, the Company signed a definitive agreement with Atlantic
Broadband Finance, LLC for the sale of various cable television systems in
Florida, Pennsylvania, Maryland, Delaware, New York and West Virginia for
approximately $765 million, subject to adjustments. The closing of this
transaction is expected to occur in the first half of 2004, but closing is
subject to the condition that revenues for the applicable systems, as reported
in the audited financial statements for the applicable systems, when issued, be
not less than 97% of amounts reported in previously-delivered unaudited
financial statements, as well as other customary closing conditions.
Charter, which is the sole manager of the Company, has a significant amount of
debt, which will mature in 2005 and 2006. Charter's ability to make interest
payments, or principal payments at maturity in 2005 and 2006, on its convertible
senior notes is dependent on its ability to obtain additional financing and on
the Company's and its other subsidiaries making distributions, loans, or
payments to Charter Holdco, and on Charter Holdco paying or distributing such
funds to Charter. Because Charter is the Company's sole manager, any financial
or liquidity problems of Charter would be likely to cause serious disruption to
the Company's business and to have a material adverse effect on the Company's
operations and results. Any such event would likely adversely impact the
Company's credit rating, and its relations with customers and suppliers, which
could in turn further impair its ability to obtain financing and operate its
business. Further, to the extent that any such event results in a change of
control of Charter (whether through a bankruptcy, receivership or other
reorganization of Charter and/or Charter Holdco, or otherwise), it could result
in an event of default under the credit facilities of the Company's subsidiaries
and require a change of control repurchase offer under the Company's outstanding
notes. As discussed in Note 6, to partially address these liquidity concerns,
the Company and its subsidiaries successfully completed a private placement of
$500 million aggregate principal amount of 8.75% senior notes due 2013 by CCO
Holdings to repay (but not to reduce permanently) principal amounts outstanding
under the Company's subsidiaries' bank credit facilities and for general
corporate purposes. Also, in September 2003, the Company and its indirect
subsidiary, CCH II completed the purchase of an aggregate of $609 million
principal amount of Charter's convertible senior notes and $1.3 billion
principal amount of the senior notes and senior discount notes issued by the
Company from institutional investors in a small number of privately negotiated
transactions. In consideration for these securities, CCH II issued an aggregate
of $1.6 billion principal amount of 10.25% notes due 2010. CCH II also issued an
additional $30 million principal amount of 10.25% notes for an equivalent amount
of cash and used the proceeds for transaction costs and for general corporate
purposes.
The indentures governing the Company's notes permit the Company to make
distributions up to its formulaic capacity to Charter Holdco for payment of
interest on Charter's convertible senior notes, only if, after giving effect to
the distribution, the Company can incur additional debt under the leverage ratio
of 8.75 to 1.0, there is no default under the indentures and other specified
tests are met. The Company did not meet the leverage ratio test at September 30,
2003, and as a result, distributions from the Company to Charter will be subject
to certain restrictions until that test is met. As of September 30, 2003,
Charter Holdco had $39 million in cash on hand and is owed $37
9
CHARTER COMMUNICATIONS HOLDINGS, LLC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
million in intercompany loans, which are available to Charter Holdco to service
interest on Charter's convertible senior notes.
The Company's long-term financing structure as of September 30, 2003 includes
$7.6 billion of credit facility debt and $10.1 billion of high-yield notes.
Approximately $108 million of this financing matures during the remainder of
2003, and the Company expects to fund this through availability under its credit
facilities. Note 6 summarizes the Company's current availability under its
credit facilities and its long-term debt.
3. RESTATEMENT OF CONSOLIDATED FINANCIAL RESULTS
As discussed in the Company's 2002 Form 10-K, the Company identified a series of
adjustments that have resulted in the restatement of previously announced
quarterly results for the first three quarters of fiscal 2002. In summary, the
adjustments are grouped into the following categories: (i) launch incentives
from programmers; (ii) customer incentives and inducements; (iii) capitalized
labor and overhead costs; (iv) customer acquisition costs; (v) rebuild and
upgrade of cable systems; (vi) deferred tax liabilities/franchise assets; and
(vii) other adjustments. These adjustments have been reflected in the
accompanying condensed consolidated financial statements and reduced revenues
for the three and nine months ended September 30, 2002 by $13 million and $38
million, respectively. The Company's consolidated net loss decreased by $125
million and increased by $105 million for the three and nine months ended
September 30, 2002, respectively. In addition, as a result of certain of these
adjustments, the Company's statement of cash flows for the nine months ended
September 30, 2002 has been restated. Cash flows from operating activities for
the nine months ended September 30, 2002 decreased by $29 million. The more
significant categories of adjustments relate to the following as outlined below.
Launch Incentives from Programmers. Amounts previously recognized as advertising
revenue in connection with the launch of new programming channels have been
deferred and recorded in other long-term liabilities in the year such launch
support was provided, and amortized as a reduction of programming costs based
upon the relevant contract term. These adjustments decreased revenue by $10
million and $30 million for the three and nine months ended September 30, 2002,
respectively. The corresponding amortization of such deferred amounts reduced
programming expenses by $12 million and $35 million for the three and nine
months ended September 30, 2002, respectively.
Customer Incentives and Inducements. Marketing inducements paid to encourage
potential customers to switch from satellite providers to Charter branded
services and enter into multi-period service agreements were previously deferred
and recorded as property, plant and equipment and recognized as depreciation and
amortization expense over the life of customer contracts. These amounts have
been restated as a reduction of revenues of $2 million and $5 million for the
three and nine months ended September 30, 2002, respectively. Substantially all
of these amounts are offset by reduced depreciation and amortization expense.
Capitalized Labor and Overhead Costs. Certain elements of labor costs and
related overhead allocations previously capitalized as property, plant and
equipment as part of the Company's rebuild activities, customer installations
and new service introductions have been expensed in the period incurred. Such
adjustments increased operating expenses by $13 million and $39 million for the
three and nine months ended September 30, 2002, respectively.
Customer Acquisition Costs. Certain customer acquisition campaigns were
conducted through third-party contractors in portions of 2002. The costs of
these campaigns were originally deferred and recorded as other assets and
recognized as amortization expense over the average customer contract life.
These amounts have been reported as marketing expense in the period incurred and
totaled $13 million and $32 million for the three and nine months ended
September 30, 2002, respectively. The Company discontinued this program in the
third quarter of 2002 as contracts for third-party vendors expired.
Substantially all of these amounts are offset by reduced depreciation and
amortization expense.
Rebuild and Upgrade of Cable Systems. In 2000, the Company initiated a
three-year program to replace and upgrade a substantial portion of its network.
In connection with this plan, the Company assessed the carrying value of, and
the associated depreciable lives of, various assets to be replaced. It was
determined that $1 billion of cable
10
CHARTER COMMUNICATIONS HOLDINGS, LLC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
distribution system assets, originally treated as subject to replacement, were
not part of the original replacement plan but were to be upgraded and have
remained in service. The Company also determined that certain assets subject to
replacement during the upgrade program were misstated in the allocation of the
purchase price of the acquisition. This adjustment reduced property, plant and
equipment and increased franchise costs by $627 million. In addition, the
depreciation period for the assets subject to replacement was adjusted to more
closely align with the intended service period of these assets rather than the
three-year straight-line life originally assigned. As a result, adjustments were
recorded to reduce depreciation expense by $115 million and $353 million for the
three and nine months ended September 30, 2002, respectively.
Deferred Tax Liabilities/Franchise Assets. Adjustments were made to record
deferred tax liabilities associated with the acquisition of various cable
television businesses. These adjustments increased amounts assigned to franchise
assets by $1.4 billion with a corresponding increase in deferred tax liabilities
of $0.6 billion and to member's equity of $0.8 billion. In addition, as
described above, a correction was made to reduce amounts assigned in purchase
accounting to assets identified for replacement over the three-year period of
the Company's rebuild and upgrade of its network. This reduced the amount
assigned to the network assets to be retained and increased the amount assigned
to franchise assets by $627 million with a resulting increase in amortization
expense for the years restated. Such adjustments increased the cumulative effect
of accounting change recorded upon adoption of Statement of Financial Accounting
Standards (SFAS) No. 142 by $199 million, before tax effects, for the nine
months ended September 30, 2002.
Other Adjustments. In addition to the items described above, other adjustments
of expenses include additional amounts charged to special charges related to the
2001 restructuring plan, certain tax reclassifications from tax expense to
operating costs and other miscellaneous adjustments. The net impact of these
adjustments to net loss is a decrease of $1 million and an increase of $4
million for the three and nine months ended September 30, 2002, respectively.
The following tables summarize the effects of the adjustments on the condensed
consolidated statements of operations and cash flows for the three and nine
month ended September 30, 2002 (dollars in millions).
CONDENSED CONSOLIDATED STATEMENT OF OPERATIONS
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, 2002 SEPTEMBER 30, 2002
--------------------------- ---------------------------
AS PREVIOUSLY AS PREVIOUSLY
REPORTED RESTATED REPORTED RESTATED
------------- -------- ------------- --------
Revenues $ 1,179 $ 1,166 $ 3,415 $ 3,377
Income (loss) from operations (17) 91 (47) 273
Minority interest (3) (3) (10) (11)
Cumulative effect of accounting change, net of tax -- -- (83) (540)
Net loss (461) (336) (1,311) (1,416)
CONDENSED CONSOLIDATED STATEMENT OF CASH FLOWS
NINE MONTHS ENDED
SEPTEMBER 30, 2002
------------------------------------
AS PREVIOUSLY
REPORTED RESTATED
---------------- ---------------
Net cash flows from operating activities $ 532 $ 503
Net cash flows from investing activities (1,807) (1,783)
Net cash flows from financing activities 1,778 1,782
11
CHARTER COMMUNICATIONS HOLDINGS, LLC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
4. FRANCHISES AND GOODWILL
On January 1, 2002, the Company adopted SFAS No. 142, which eliminates the
amortization of indefinite lived intangible assets. Accordingly, beginning
January 1, 2002, all franchises that qualify for indefinite life treatment under
SFAS No. 142 are no longer amortized against earnings but instead will be tested
for impairment annually, or more frequently as warranted by events or changes in
circumstances. During the first quarter of 2002, the Company had an independent
appraiser perform valuations of its franchises as of January 1, 2002. Based on
the guidance prescribed in Emerging Issues Task Force (EITF) Issue No. 02-7,
Unit of Accounting for Testing of Impairment of Indefinite-Lived Intangible
Assets, franchises were aggregated into essentially inseparable asset groups to
conduct the valuations. The asset groups generally represent geographic clusters
of the Company's cable systems, which management believes represents the highest
and best use of those assets. Fair value was determined based on estimated
discounted future cash flows using reasonable and appropriate assumptions that
are consistent with internal forecasts. As a result, the Company determined that
franchises were impaired and recorded the cumulative effect of a change in
accounting principle of $540 million (approximately $572 million before tax
effects of $32 million). The effect of adoption was to increase net loss by $540
million. SFAS No. 142 does not permit the recognition of the customer
relationship asset not previously recognized. Accordingly, the impairment
included approximately $373 million before tax effects attributable to customer
relationship values as of January 1, 2002.
In determining whether its franchises have an indefinite life, the Company
considered the exclusivity of the franchise, its expected costs of franchise
renewals, and the technological state of the associated cable systems with a
view to whether or not the Company is in compliance with any technology
upgrading requirements. Certain franchises did not qualify for indefinite-life
treatment due to technological or operational factors that limit their lives.
These franchise costs are amortized on a straight-line basis over 10 years.
The following table presents the Company's indefinite-lived and finite-lived
intangible assets as of September 30, 2003 and December 31, 2002 (dollars in
millions):
SEPTEMBER 30, 2003 DECEMBER 31, 2002
------------------------------------- ---------------------------------------
GROSS NET GROSS NET
CARRYING ACCUMULATED CARRYING CARRYING ACCUMULATED CARRYING
AMOUNT AMORTIZATION AMOUNT AMOUNT AMORTIZATION AMOUNT
------ ------------ ------ ------ ------------ ------
INDEFINITE-LIVED
INTANGIBLE ASSETS:
Franchise with
indefinite
lives $17,076 $ 3,428 $13,648 $17,076 $ 3,428 $13,648
Goodwill 54 -- 54 54 -- 54
------- ------- ------- ------- ------- -------
$17,130 $ 3,428 $13,702 $17,130 $ 3,428 $13,702
======= ======= ======= ======= ======= =======
FINITE-LIVED
INTANGIBLE ASSETS:
Franchises with
finite lives $ 103 $ 30 $ 73 $ 103 $ 24 $ 79
======= ======= ======= ======= ======= =======
Franchise amortization expense for the three and nine months ended September 30,
2003 and 2002 was $2 million and $6 million, respectively, which represents the
amortization relating to franchises that did not qualify for indefinite-life
treatment under SFAS No. 142, including costs associated with franchise
renewals. For each of the next five years, amortization expense relating to
these franchises is expected to be approximately $9 million. Actual amortization
expense to be reported in future periods could differ from these estimates as a
result of new intangible asset acquisitions, changes in useful lives and other
relevant factors.
12
CHARTER COMMUNICATIONS HOLDINGS, LLC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
5. ACCOUNTS PAYABLE AND ACCRUED EXPENSES
Accounts payable and accrued expenses consist of the following as of September
30, 2003 and December 31, 2002 (dollars in millions):
SEPTEMBER 30, DECEMBER 31,
2003 2002
---------------- ----------------
Accounts payable $137 $182
Capital expenditures 32 134
Accrued interest 315 234
Programming costs 254 282
Accrued general and administrative 100 91
Franchise fees 58 68
State sales tax 65 67
Other accrued expenses 167 192
---------------- ----------------
$1,128 $1,250
================ ================
6. LONG-TERM DEBT
Long-term debt consists of the following as of September 30, 2003 and December
31, 2002 (dollars in millions):
SEPTEMBER 30, 2003 DECEMBER 31, 2002
---------------------------- ----------------------------
ACCRETED ACCRETED
FACE VALUE VALUE FACE VALUE VALUE
------------ ------------ ----------- -------------
LONG-TERM DEBT
Charter Holdings:
March 1999
8.250% senior notes due 2007 451 450 600 599
8.625% senior notes due 2009 1,244 1,242 1,500 1,497
9.920% senior discount notes due 2011 1,108 1,056 1,475 1,307
January 2000
10.000% senior notes due 2009 640 640 675 675
10.250% senior notes due 2010 318 318 325 325
11.750% senior discount notes due 2010 450 388 532 421
January 2001
10.750% senior notes due 2009 874 873 900 900
11.125% senior notes due 2011 500 500 500 500
13.500% senior discount notes due 2011 675 501 675 454
May 2001
9.625% senior notes due 2009 290 290 350 350
10.000% senior notes due 2011 410 410 575 575
11.750% senior discount notes due 2011 939 696 1,018 693
January 2002
9.625% senior notes due 2009 350 348 350 348
10.000% senior notes due 2011 300 298 300 298
12.125% senior discount notes due 2012 330 224 450 280
CCH II:
10.250% senior notes due 2010 1,601 1,601 -- --
Renaissance:
10.00% senior discount notes due 2008 114 116 114 113
CC V Holdings:
13
CHARTER COMMUNICATIONS HOLDINGS, LLC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
SEPTEMBER 30, 2003 DECEMBER 31, 2002
---------------------------- ----------------------------
ACCRETED ACCRETED
FACE VALUE VALUE FACE VALUE VALUE
------------ ------------ ----------- -------------
11.875% senior discount notes due 2008 180 177 180 163
Other long-term debt -- -- 1 1
CREDIT FACILITIES
Charter Operating 4,483 4,483 4,542 4,542
CC VI 880 880 926 926
Falcon Cable 1,133 1,133 1,155 1,155
CC VIII Operating 1,100 1,100 1,166 1,166
------- ------- ------- -------
$18,370 $17,724 $18,309 $17,288
======= ======= ======= =======
Charter Operating Credit Facilities. The Charter Operating credit facilities
were amended and restated as of June 19, 2003 to allow for the insertion of
intermediate holding companies between the Company and Charter Operating. In
exchange for the lenders' consent to the organizational restructuring described
below, Charter Operating increased pricing by 50 basis points in the existing
Charter Operating pricing grid across all levels.
Obligations under the Charter Operating credit facilities are guaranteed by the
Company, CCO Holdings, LLC and by Charter Operating's subsidiaries, other than
the non-recourse subsidiaries, subsidiaries precluded from so guaranteeing by
reason of the provisions of other indebtedness to which they are subject, and
immaterial subsidiaries. The obligations under the Charter Operating credit
facilities are secured by pledges of all equity interests owned by Charter
Operating in its direct subsidiaries, all equity interests owned by its
guarantor subsidiaries in their respective subsidiaries, and intercompany
obligations owing to Charter Operating and/or its guarantor subsidiaries by
their affiliates. CCO Holdings has guaranteed Charter Operating's obligations
under the credit facilities and pledged its equity interest in all of its direct
subsidiaries, including Charter Operating, as collateral.
Exchange of Indebtedness. In September 2003, Charter, the Company and their
indirect subsidiary, CCH II, completed the purchase of an aggregate of $609
million principal amount of Charter's convertible senior notes and $1.3 billion
principal amount of the senior notes and senior discount notes issued by the
Company from institutional investors in a small number of privately negotiated
transactions. In consideration for these securities, CCH II issued an aggregate
of $1.6 billion principal amount of 10.25% notes due 2010. CCH II also issued an
additional $30 million principal amount of 10.25% notes for an equivalent amount
of cash and used the proceeds for transaction costs and general corporate
purposes. This transaction resulted in a gain on debt exchange of $187 million,
which is net of the write-off of deferred financing costs of $18 million
associated with the retired debt.
Private Placement. In November 2003, the Company completed a private placement
of $500 million aggregate principal amount of 8.75% senior notes due 2013 by CCO
Holdings. The 8.75% senior notes issued in the private placement have not been
and will not be registered under the Securities Act of 1933 and may not be
offered in the United States absent registration or an applicable exemption from
registration requirements.
Vulcan Inc. Commitment. The Company's subsidiary entered into a commitment
letter with Vulcan Inc., which is an affiliate of Paul Allen, pursuant to which
Vulcan Inc. agreed to lend, or cause an affiliate to lend to CCO Holdings, LLC
an aggregate amount of up to $300 million. As of September 30, 2003, the Company
has not drawn on the facility, and it intends to terminate the commitment as a
result of the recent private placement of $500 million aggregate principal
amount of 8.75% senior notes due 2013 by CCO Holdings.
14
CHARTER COMMUNICATIONS HOLDINGS, LLC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
The table below presents the unused total potential availability under each of
the Company's credit facilities and the availability as limited by financial
covenants as of September 30, 2003, which become more restrictive over the term
of each facility before becoming fixed (dollars in millions):
UNUSED TOTAL AVAILABILITY AS
POTENTIAL LIMITED BY FINANCIAL
AVAILABILITY COVENANTS
----------------------- ------------------------
Charter Operating $666 $210
CC VI 234 75
Falcon Cable 181 133
CC VIII Operating 328 317
----------------------- ------------------------
Total $1,409 $735
======================= ========================
7. COMPREHENSIVE LOSS
Certain marketable equity securities are classified as available-for-sale and
reported at market value with unrealized gains and losses recorded as
accumulated other comprehensive loss on the accompanying condensed consolidated
balance sheets. The Company reports changes in the fair value of interest rate
agreements designated as hedging instruments of the variability of cash flows
associated with floating-rate debt obligations, that meet the effectiveness
criteria of SFAS No. 133, "Accounting for Derivative Instruments and Hedging
Activities," in accumulated other comprehensive loss. Comprehensive loss for the
three months ended September 30, 2003 and 2002 was $19 million and $394 million,
respectively. Comprehensive loss for the nine months ended September 30, 2003
and 2002 was $562 million and $1.5 billion, respectively.
8. ACCOUNTING FOR DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES
The Company uses interest rate risk management derivative instruments, such as
interest rate swap agreements and interest rate collar agreements (collectively
referred to herein as interest rate agreements) as required under the terms of
its credit facilities. The Company's policy is to manage interest costs using a
mix of fixed and variable rate debt. Using interest rate swap agreements, the
Company agrees to exchange, at specified intervals through 2007, the difference
between fixed and variable interest amounts calculated by reference to an
agreed-upon notional principal amount. Interest rate collar agreements are used
to limit the Company's exposure to and benefits from interest rate fluctuations
on variable rate debt to within a certain range of rates.
The Company does not hold or issue derivative instruments for trading purposes.
The Company does, however, have certain interest rate derivative instruments
that have been designated as cash flow hedging instruments. Such instruments are
those that effectively convert variable interest payments on certain debt
instruments into fixed payments. For qualifying hedges, SFAS No. 133 allows
derivative gains and losses to offset related results on hedged items in the
condensed consolidated statement of operations. The Company has formally
documented, designated and assessed the effectiveness of transactions that
receive hedge accounting. For the three months ended September 30, 2003 and
2002, other income and expense includes gains of $0 and $2 million,
respectively, and for the nine months ended September 30, 2003 and 2002, other
expenses includes gains of $8 million and losses of $3 million, respectively,
which represent cash flow hedge ineffectiveness on interest rate hedge
agreements arising from differences between the critical terms of the agreements
and the related hedged obligations. Changes in the fair value of interest rate
agreements designated as hedging instruments of the variability of cash flows
associated with floating-rate debt obligations are reported in accumulated other
comprehensive loss and minority interest. For the three and nine months ended
September 30, 2003 a gain of $21 million and $30 million, respectively, and for
the three and nine months ended September 30, 2002, a loss of $58 million and
$70 million, respectively, related to derivative instruments designated as cash
flow hedges was recorded in accumulated other comprehensive loss. The amounts
are subsequently reclassified into interest expense as a yield adjustment in the
same period in which the related interest on the floating-rate debt obligations
affects earnings (losses).
15
CHARTER COMMUNICATIONS HOLDINGS, LLC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
Certain interest rate derivative instruments are not designated as hedges as
they do not meet the effectiveness criteria specified by SFAS No. 133. However,
management believes such instruments are closely correlated with the respective
debt, thus managing associated risk. Interest rate derivative instruments not
designated as hedges are marked to fair value with the impact recorded as a gain
or loss on interest rate agreements. For the three months ended September 30,
2003 and 2002, the Company recorded, within other income and expense, income of
$31 million and expense of $79 million, respectively, and for the nine months
ended September 30, 2003 and 2002, recorded other income of $27 million and
other expense of $103 million, respectively, for interest rate derivative
instruments not designated as hedges.
At September 30, 2003 and December 31, 2002, the Company had outstanding $3.3
billion and $3.4 billion, respectively, and $520 million and $520 million,
respectively, in notional amounts of interest rate swaps and collars,
respectively. The notional amounts of interest rate instruments do not represent
amounts exchanged by the parties and, thus, are not a measure of exposure to
credit loss. The amounts exchanged are determined by reference to the notional
amount and the other terms of the contracts.
The Company does not hold collateral for these instruments and is therefore
subject to credit loss in the event of nonperformance by the counterparty to the
interest rate exchange agreement. However the counterparties are banks and we do
not anticipate nonperformance by any of them on any interest rate exchange
agreement.
9. REVENUES
Revenues consist of the following for the three and nine months ended September
30, 2003 and 2002 (dollars in millions):
THREE MONTHS NINE MONTHS
ENDED SEPTEMBER 30, ENDED SEPTEMBER 30,
-------------------------- -------------------------
2003 2002 2003 2002
----------- ----------- ---------- -----------
Video $866 $862 $2,607 $2,553
High-speed data 145 91 403 231
Advertising sales 64 86 188 216
Commercial 52 41 149 117
Other 80 86 255 260
----------- ----------- ---------- -----------
$1,207 $1,166 $3,602 $3,377
=========== =========== ========== ===========
10. OPERATING EXPENSES
Operating expenses consist of the following for the three and nine months ended
September 30, 2003 and 2002 (dollars in millions):
THREE MONTHS NINE MONTHS
ENDED SEPTEMBER 30, ENDED SEPTEMBER 30,
-------------------------- -------------------------
2003 2002 2003 2002
----------- ----------- ---------- -----------
Programming costs $307 $296 $934 $873
Advertising sales 21 23 65 63
Service costs 156 138 458 394
---------- ----------- ---------- -----------
$484 $457 $1,457 $1,330
========== =========== ========== ===========
The Company has various contracts and other arrangements to obtain basic,
premium and digital programming from program suppliers that receive compensation
typically based on a monthly flat fee per customer. The cost of the
16
CHARTER COMMUNICATIONS HOLDINGS, LLC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
right to exhibit network programming under such arrangements is recorded in the
month the programming is available for exhibition.
11. SPECIAL CHARGES
In the fourth quarter of 2002, the Company recorded a special charge of $35
million, of which $31 million was associated with its workforce reduction
program and the consolidation of its operations from three divisions and ten
regions into five operating divisions, elimination of redundant practices and
streamlining its management structure. The remaining $4 million related to legal
and other costs associated with Charter's ongoing grand jury investigation,
shareholder lawsuits and SEC investigation. The $31 million charge related to
realignment activities, included severance costs of $28 million related to
approximately 1,400 employees identified for termination as of December 31, 2002
and lease termination costs of $3 million. During the three and nine months
ended September 30, 2003, an additional 400 and 1,100 employees, respectively,
were identified for termination, and additional severance costs of $8 million
and $23 million, respectively, were recorded in special charges. In total,
approximately 400 and 2,300 employees were terminated during the three and nine
months ended September 30, 2003, respectively. Severance payments are generally
made over a period of up to twelve months with approximately $11 million and $34
million, respectively, paid during the three and nine months ended September 30,
2003. As of September 30, 2003 and December 31, 2002, a liability of
approximately $19 million and $31 million, respectively, is recorded on the
accompanying condensed consolidated balance sheets related to the realignment
activities. For the nine months ended September 30, 2003, the additional
severance costs were offset by a $5 million settlement from the Internet service
provider Excite@Home related to the conversion of approximately 145,000
high-speed data customers to Charter Pipeline service in 2001, for which costs
of $15 million were recorded in the fourth quarter of 2001.
In December 2001, Charter implemented a restructuring plan to reduce its
workforce in certain markets and reorganize its operating divisions from two to
three and operating regions from twelve to ten. The restructuring plan was
completed during the first quarter of 2002, resulting in the termination of
approximately 320 employees and severance costs of $4 million, of which $1
million was recorded during the nine months ended September 30, 2002.
12. INCOME TAXES
The Company is a single member limited liability company not subject to income
tax. The Company holds all operations through indirect subsidiaries. The
majority of these indirect subsidiaries are limited liability companies that are
not subject to income tax. However, certain of the Company's indirect
subsidiaries are corporations and are subject to income tax.
As of September 30, 2003 and December 31, 2002, the Company has net deferred
income tax liabilities of approximately $238 million and $232 million,
respectively. These relate to certain of the Company's indirect subsidiaries,
which file separate income tax returns. During the three months ended September
30, 2003 and 2002, the Company recorded $1 million of income tax expense and $13
million of income tax benefit, respectively. During the nine months ended
September 30, 2003 and 2002, the Company recorded $3 million of income tax
expense and $27 million of income tax benefit, respectively. The income tax
expense recorded for the three and nine months ended September 30, 2003 is the
result of changes in the deferred tax liabilities and federal and state income
taxes payable of certain of the Company's indirect subsidiaries. The income tax
benefit recorded for the three and nine months ended September 30, 2002 was the
result of changes in deferred taxes related to the differences in accounting for
franchises.
The Company is currently under examination by the Internal Revenue Service for
the tax years ending December 31, 2000 and 1999. Management does not expect the
results of this examination to have a material adverse effect on the Company's
consolidated financial position or results of operations.
13. CONTINGENCIES
Fourteen putative federal class action lawsuits (the "Federal Class Actions")
have been filed against Charter and
17
CHARTER COMMUNICATIONS HOLDINGS, LLC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
certain of its former and present officers and directors in various
jurisdictions allegedly on behalf of all purchasers of Charter's securities
during the period from either November 8 or November 9, 1999 through July 17 or
July 18, 2002. Unspecified damages are sought by the plaintiffs. In general, the
lawsuits allege that Charter utilized misleading accounting practices and failed
to disclose these accounting practices and/or issued false and misleading
financial statements and press releases concerning Charter's operations and
prospects.
In October 2002, Charter filed a motion with the Judicial Panel on Multidistrict
Litigation (the "Panel") to transfer the Federal Class Actions to the Eastern
District of Missouri. On March 12, 2003, the Panel transferred the six Federal
Class Actions not filed in the Eastern District of Missouri to that district for
coordinated or consolidated pretrial proceedings with the eight Federal Class
Actions already pending there. The Panel's transfer order assigned the Federal
Class Actions to Judge Charles A. Shaw. By virtue of a prior court order,
StoneRidge Investment Partners LLC became lead plaintiff upon entry of the
Panel's transfer order. StoneRidge subsequently filed a Consolidated Amended
Complaint. The Court subsequently consolidated the Federal Class Actions for
pretrial purposes. On June 19, 2003, following a pretrial conference with the
parties, the Court issued a Case Management Order setting forth a schedule for
the pretrial phase of the consolidated class action. Motions to dismiss the
Consolidated Amended Complaint have been filed.
On September 12, 2002, a shareholders derivative suit (the "State Derivative
Action") was filed in Missouri state court against Charter and its then current
directors, as well as its former auditors. A substantively identical derivative
action was later filed and consolidated into the State Derivative Action. The
plaintiffs allege that the individual defendants breached their fiduciary duties
by failing to establish and maintain adequate internal controls and procedures.
Unspecified damages, allegedly on Charter's behalf, are sought by the
plaintiffs.
Separately, on February 12, 2003, a shareholders derivative suit (the "Federal
Derivative Action"), was filed against Charter and its then current directors in
the United States District Court for the Eastern District of Missouri. The
plaintiff alleges that the individual defendants breached their fiduciary duties
and grossly mismanaged Charter by failing to establish and maintain adequate
internal controls and procedures. Unspecified damages, allegedly on Charter's
behalf, are sought by the plaintiffs.
In addition to the Federal Class Actions, the State Derivative Action and the
Federal Derivative Action, six putative class action lawsuits have been filed
against Charter and certain of its then current directors and officers in the
Court of Chancery of the State of Delaware (the "Delaware Class Actions"). The
Delaware Class Actions are substantively identical and generally allege that the
defendants breached their fiduciary duties by participating or acquiescing in a
purported and threatened attempt by Defendant Paul Allen to purchase shares and
assets of Charter at an unfair price. The lawsuits were brought on behalf of
Charter's securities holders as of July 29, 2002, and seek unspecified damages
and possible injunctive relief. No such proposed transaction by Mr. Allen has
been presented.
The lawsuits discussed above are each in preliminary stages. No reserves have
been established for those matters because the Company believes they are either
not estimable or not probable. Charter has advised the Company that it intends
to vigorously defend the lawsuits.
In August 2002, Charter became aware of a grand jury investigation being
conducted by the United States Attorney's Office for the Eastern District of
Missouri into certain of its accounting and reporting practices, focusing on how
Charter reported customer numbers and its reporting of amounts received from
digital set-top terminal suppliers for advertising. The U.S. Attorney's Office
has publicly stated that Charter is not currently a target of the investigation.
Charter has also been advised by the U.S. Attorney's Office that no member of
its board of directors, including its Chief Executive Officer, is a target of
the investigation. On July 24, 2003, a federal grand jury charged four former
officers of Charter with conspiracy and mail and wire fraud, alleging improper
accounting and reporting practices focusing on revenue from digital set-top
terminal suppliers and inflated subscriber account numbers. On July 25, 2003,
one of the former officers who was indicted entered a guilty plea. Charter has
advised the Company that it is fully cooperating with the investigation.
On November 4, 2002, Charter received an informal, non-public inquiry from the
Staff of the Securities and
18
CHARTER COMMUNICATIONS HOLDINGS, LLC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
Exchange Commission (SEC). The SEC has subsequently issued a formal order of
investigation dated January 23, 2003, and subsequent document and testimony
subpoenas. The investigation and subpoenas generally concern Charter's prior
reports with respect to its determination of the number of customers, and
various of its other accounting policies and practices including its
capitalization of certain expenses and dealings with certain vendors, including
programmers and digital set-top terminal suppliers. Charter has advised the
Company that it is fully cooperating with the SEC Staff.
Charter has advised us that they are unable to predict the outcome of the
lawsuits and the government investigations described above. An unfavorable
outcome in the lawsuits or the government investigations described above could
have a material adverse effect on Charter's and the Company's results of
operations and financial condition.
Charter is generally required to indemnify each of the named individual
defendants in connection with these matters pursuant to the terms of its Bylaws
and (where applicable) such individual defendants' employment agreements.
Pursuant to the terms of certain employment agreements and in accordance with
the Bylaws of Charter, in connection with the pending grand jury investigation,
SEC investigation and the above described lawsuits, Charter's current directors
and its current and former officers have been advanced certain costs and
expenses incurred in connection with their defense.
In addition to the matters set forth above, Charter and the Company are also
party to other lawsuits and claims that arose in the ordinary course of
conducting its business. In the opinion of management, after taking into account
recorded liabilities, the outcome of these other lawsuits and claims will not
have a material adverse effect on the Company's consolidated financial position
or results of operations.
Charter has directors' and officers' liability insurance coverage that it
believes is available for these matters, where applicable, and subject to the
terms, conditions and limitations of the respective policies.
14. STOCK COMPENSATION PLANS
The Company has historically accounted for stock-based compensation in
accordance with Accounting Principles Board (APB) Opinion No. 25, "Accounting
for Stock Issued to Employees," and related interpretations, as permitted by
SFAS No. 123, "Accounting for Stock-Based Compensation." On January 1, 2003, the
Company adopted the fair value measurement provisions of SFAS No. 123 using the
prospective method under which the Company recognizes compensation expense of a
stock-based award to an employee over the vesting period based on the fair value
of the award on the grant date consistent with the method described in Financial
Accounting Standards Board Interpretation No. 28 (FIN 28), Accounting for Stock
Appreciation Rights and Other Variable Stock Option or Award Plans. Adoption of
these provisions resulted in utilizing a preferable accounting method, as the
consolidated financial statements presents the estimated fair value of
stock-based compensation in expense consistently with other forms of
compensation and other expense associated with goods and services received for
equity instruments. In accordance with SFAS No. 148, the fair value method is
applied only to awards granted or modified after January 1, 2003, whereas awards
granted prior to such date continue to be accounted for under APB No. 25, unless
they are modified or settled in cash. The adoption of these provisions did not
have a material impact on the consolidated results of operations or financial
position of the Company. The ongoing effect on consolidated results of
operations or financial position will be dependent upon future stock based
compensation awards granted by Charter. Had the Company adopted SFAS No. 123 as
of January 1, 2002, using the prospective method, option compensation expense
for the three and nine months ended September 30, 2002 would have been
approximately $7 million and $10 million, respectively.
19
CHARTER COMMUNICATIONS HOLDINGS, LLC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
SFAS No. 123 requires pro forma disclosure of the impact on earnings as if the
compensation expense for these plans had been determined using the fair value
method. The following table presents the Company's net loss as reported and the
pro forma amount that would have been reported using the fair value method under
SFAS 123 for the years presented (dollars in millions):
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
----------------------------- -------------------------------
2003 2002 2003 2002
------------ ------------- ------------- --------------
Net loss $(40) $(336) $(592) $(1,416)
Pro forma (46) (362) (614) (1,497)
In July 2003, Charter's shareholders approved an amendment to Charter's 2001
Stock Incentive Plan to increase by 30,000,000 shares the number of Class A
common stock authorized for issuance under the Plan as well as amendments to the
1999 Option Plan and the 2001 Stock Incentive Plan to authorize the repricing of
outstanding options.
15. RELATED PARTIES
Comcast Put Right. As part of the acquisition of the cable television systems
owned by Bresnan Communications Company Limited Partnership in February 2000, CC
VIII, LLC (CC VIII), the Company's indirect limited liability company
subsidiary, issued Class A Preferred Membership Interests (collectively, the "CC
VIII Interest") with a value and an initial capital account of approximately
$630 million to certain sellers affiliated with AT&T Broadband, now owned by
Comcast Corporation (the "Comcast Sellers"). While held by the Comcast Sellers,
the CC VIII Interest was entitled to a 2% priority return on its initial capital
amount and such priority return was entitled to preferential distributions from
available cash and upon liquidation of CC VIII. While held by the Comcast
Sellers, the CC VIII Interest generally did not share in the profits and losses
of CC VIII. Paul Allen granted the Comcast Sellers the right to sell to him the
CC VIII Interest for approximately $630 million plus 4.5% interest annually from
February 2000 (the "Comcast Put Right"). In April 2002, the Comcast Sellers
exercised the Comcast Put Right in full, and this transaction was consummated on
June 6, 2003. Accordingly, Mr. Allen has become the holder of the CC VIII
Interest indirectly through an affiliate. Consequently, subject to the matters
referenced in the next paragraph, Mr. Allen generally thereafter will be
allocated his pro rata share (based on the number of membership interests
outstanding) of profits or losses of CC VIII. In the event of a liquidation of
CC VIII, Mr. Allen will not be entitled to any priority distributions (except
with respect to the 2% priority return, as to which such priority will continue
to accrete), and Mr. Allen's share of any remaining distributions in liquidation
will be equal to the initial capital account of the Comcast Sellers of
approximately $630 million, increased or decreased by Mr. Allen's pro rata share
of CC VIII's profits or losses (as computed for capital account purposes) after
June 6, 2003. At September 30, 2003, Mr. Allen's CC VIII Interest was $678
million. The limited liability company agreement of CC VIII does not provide for
a mandatory redemption of the CC VIII Interest.
An issue has arisen as to whether the documentation for the Bresnan transaction
was correct and complete with regard to the ultimate ownership of the CC VIII
Interest following consummation of the Comcast Put Right. Charter's Board of
Directors formed a Special Committee initially comprised of Messrs. Tory,
Wangberg and Nelson to investigate and take any other appropriate action on its
behalf with respect to this matter. Charter's Board of Directors recently
appointed David Merritt to the Special Committee to take the place of Mr.
Nelson, who is no longer a director of Charter. After conducting an
investigation of the facts and circumstances relating to this matter, the
Special Committee has reached a preliminary determination that, due to a mistake
that occurred in preparing the Bresnan transaction documents, Charter should
seek the reformation of certain contractual provisions in such documents and has
notified Mr. Allen of this conclusion. The Special Committee also has
preliminarily determined that, as part of such contract reformation, Mr. Allen
should be required to contribute the CC VIII Interest to Charter Holdco in
exchange for Charter Holdco membership units. The Special Committee also has
recommended to the Board of Directors that, to the extent the contract
reformation is achieved, the Board should consider whether the CC VIII Interest
should ultimately be held by Charter Holdco, the Company or another entity owned
directly or
20
CHARTER COMMUNICATIONS HOLDINGS, LLC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
indirectly by them. Mr. Allen has notified the Special Committee that he
disagrees with the Special Committee's preliminary determinations. The parties
engaged in a process of non-binding mediation to seek to resolve this matter,
without success. The Special Committee is evaluating what further actions or
processes it may undertake to resolve this dispute, which may include
alternative dispute resolution proceedings or the initiation of judicial
proceedings in the Delaware Court of Chancery.
Debt Held by Affiliates. Certain related parties, including members of Charter's
Board of Directors and management, hold interests in the Company's senior notes
and discount notes of approximately $56 million of face value at September 30,
2003.
21
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
GENERAL
Charter Communications Holdings, LLC ("Charter Holdings") is a holding company
whose principal assets as of September 30, 2003 are equity interests in its
cable operating subsidiaries. Charter Holdings is a subsidiary of Charter
Communications Holding Company, LLC ("Charter Holdco"), which is a subsidiary of
Charter Communications, Inc. ("Charter"). "We," "us" and "our" refer to Charter
Holdings and its subsidiaries. We own and operate cable systems that provide a
full range of video, data, telephony and other advanced broadband services. We
also provide commercial high-speed data, video and telephony services and sell
advertising and production services.
The following table summarizes our approximate customer statistics for analog
and digital video, high-speed data, telephony, and advanced services as of
September 30, 2003, June 30, 2003 and September 30, 2002:
APPROXIMATE AS OF
--------------------------------------------------
SEPTEMBER 30, JUNE 30, SEPTEMBER 30,
2003 (A) 2003 (A) 2002 (A)
---------- ---------- ----------
CUSTOMER SUMMARY:
CUSTOMER RELATIONSHIPS:
Video customers (b)(c) 6,498,100 6,486,900 6,647,600
Non-video customers (b) 54,800 52,000 50,300
---------- ---------- ----------
Total customer relationships (d) 6,552,900 6,538,900 6,697,900
========== ========== ==========
Average monthly revenue per customer relationship (e) $ 61.46 $ 61.82 $ 57.66
Bundled customers (f) 1,434,900 1,297,000 919,600
REVENUE GENERATING UNITS:
Analog video customers (b)(c) 6,498,100 6,486,900 6,647,600
Digital video customers (g) 2,664,800 2,603,900 2,527,700
High-speed data customers (h)(i) 1,489,700 1,349,000 969,900
Telephony customers (j) 24,100 23,700 19,700
---------- ---------- ----------
Total revenue generating units (k) 10,676,700 10,463,500 10,164,900
========== ========== ==========
VIDEO SERVICES:
ANALOG VIDEO:
Estimated homes passed (l) 12,403,400 12,189,400 11,972,600
Analog video customers (b)(c) 6,498,100 6,486,900 6,647,600
Estimated penetration of analog video homes passed (b)(c)(l)(m) 52% 53% 56%
Average monthly analog revenue per analog video customer (n) $ 36.66 $ 36.98 $ 35.75
DIGITAL VIDEO:
Estimated digital homes passed (l) 12,243,300 11,958,200 11,492,800
Digital video customers (g) 2,664,800 2,603,900 2,527,700
Estimated penetration of digital homes passed (g)(l)(m) 22% 22% 22%
Digital percentage of analog video customers (b)(c)(g)(o) 41% 40% 38%
Digital set-top terminals deployed 3,749,200 3,680,000 3,537,800
Average incremental monthly digital revenue per
digital video customer (n) $ 23.41 $ 23.47 $ 23.77
Estimated video on demand homes passed (l) 3,948,700 3,371,900 1,994,700
22
NON-VIDEO SERVICES:
HIGH-SPEED DATA SERVICES:
Estimated high-speed data homes passed (l) 10,496,900 10,013,100 8,973,200
Residential high-speed data customers (h) (i) 1,489,700 1,349,000 969,900
Estimated penetration of high-speed data homes passed (h)(i)(l)(m) 14% 13% 11%
Average incremental monthly high-speed data revenue per
high-speed data customer (n) $ 34.05 $ 34.59 $ 33.70
Dial-up customers 10,900 11,700 15,800
Telephony customers (j) 24,100 23,700 19,700
(a) "Customers" include all persons corporate billing records show as
receiving service, regardless of their payment status, except for
complimentary accounts (such as our employees).
(b) Analog video customers include all customers who purchase video
services (including those who also purchase high-speed data and
telephony services), but excludes approximately 54,800, 52,000 and
50,300 customer relationships, respectively, who pay for high-speed
data service only and who are only counted as high-speed data customers
(and therefore are shown as "non-video" customers). This represents a
change in our methodology from prior reports through September 30,
2002, in which high-speed data service only customers were included
within our analog video customers. We made this change because we
determined that most of these customers were unable to receive our most
basic level of analog video service because this service was physically
secured or blocked, was unavailable in certain areas or the customers
were unaware that this service was available to them. However, this
year through an ongoing study, we have determined that 13,400 of these
high-speed data customers have been receiving or were otherwise
upgraded to receive, analog video services. This resulted in 11,100
customers being added to the June 30, 2003 analog video customers and
an additional 2,300 being added to the September 30, 2003 analog video
customers. Additionally, 135,200 of our analog video customers have
been added during this quarter pursuant to promotional programs, which
include the initial two months of service for free. There is no
assurance that they will remain as customers once the period of free
service expires.
(c) Included within video customers are those in commercial and
multi-dwelling structures, which are calculated on an equivalent bulk
unit ("EBU") basis. EBU is calculated for a system by dividing the bulk
price charged to accounts in an area by the most prevalent price
charged to non-bulk residential customers in that market for the
comparable tier of service. The EBU method of estimating analog video
customers is consistent with the methodology used in determining costs
paid to programmers and has been consistently applied year over year.
As we increase our effective analog prices to residential customers
without a corresponding increase in the prices charged to commercial
service or multi-dwelling customers, our EBU count will decline even if
there is no real loss in commercial service or multi-dwelling
customers. Our policy is not to count complimentary accounts (such as
our employees) as customers.
(d) Customer relationships include the number of customers that receive at
least one level of service encompassing video and data services,
without regard to which service(s) such customers purchase. This
statistic is computed in accordance with the guidelines of the National
Cable & Telecommunications Association (NCTA) that have been adopted by
eleven publicly traded cable operators (including Charter) as an
industry standard.
(e) Average monthly revenue per customer relationship is calculated as
total quarterly revenue divided by three divided by the average number
of customer relationships during the respective quarter.
(f) Bundled customers include customers subscribing to Charter's video
service and data service. Bundled customers do not include customers
who only subscribe to video service.
23
(g) Digital video customers include all households that have one or more
digital set-top terminals. Included in digital video customers at
September 30, 2003, June 30, 2003 and September 30, 2002 are
approximately 12,600, 13,300 and 13,400 customers, respectively, that
receive digital video service directly through satellite transmission.
Additionally, 121,000 of our digital video customers have been added
during this quarter pursuant to promotional programs which include the
initial two months of service for free. There is no assurance that they
will remain as customers once the period of free service expires.
(h) As noted above, all of these customers also receive video service and
are included in the video statistics above, except that the video
statistics do not include approximately 54,800, 52,000 and 50,300 of
these customers at September 30, 2003, June 30, 2003 and September 30,
2002, respectively, who were high-speed data only customers.
Additionally, 103,800 of our high-speed data customers have been added
during this quarter pursuant to promotional programs, which include the
initial two months of service for free. There is no assurance that they
will remain as customers once the period of free service expires.
(i) During the first three quarters of 2002, commercial high-speed data
customers were calculated on an Equivalent Modem Unit or EMU basis,
which involves converting commercial revenues to residential customer
counts. Given the growth plans for our commercial data business, we do
not believe that converting commercial revenues to residential customer
counts is the most meaningful way to disclose or describe this growing
business. We, therefore, excluded 85,500 EMUs that were previously
reported in our September 30, 2002 customer totals for comparative
purposes.
(j) Telephony customers include all households purchasing telephone
service.
(k) Revenue generating units represent the sum total of all primary analog
video, digital video, high-speed data and telephony customers
(including those under promotional pricing programs that may not
generate cash revenues initially or at all), not counting additional
outlets within one household. For example, a customer who receives two
types of services (such as analog video and digital video) would be
treated as two revenue generating units, and if that customer added on
high-speed data service, the customer would be treated as three revenue
generating units. This statistic is computed in accordance with the
guidelines of the NCTA that have been adopted by eleven publicly traded
cable operators (including Charter) as an industry standard.
(l) Homes passed represents our estimate of the number of living units,
such as single family homes, apartment units and condominium units
passed by the cable distribution network in the areas in which we offer
the service indicated. Homes passed excludes commercial units passed by
the cable distribution network. The figures in this table reflect an
increase at September 30, 2003 in our estimated homes passed from that
previously reported for June 30, 2003. This increase is in part due to
a refinement of methods used to estimate homes passed and in part due
to line mileage within our network that was not previously reflected.
(m) Penetration represents customers as a percentage of homes passed.
(n) Average monthly revenue represents quarterly revenue for the service
indicated divided by three divided by average number of customers for
the service indicated during the respective quarter.
(o) Represents the number of digital video customers as a percentage of
analog video customers.
RESTATEMENT OF CONSOLIDATED FINANCIAL RESULTS
As discussed in our 2002 Form 10-K, we identified a series of adjustments that
have resulted in the restatement of previously announced quarterly results for
the first three quarters of fiscal 2002. In summary, the adjustments are grouped
into the following categories: (i) launch incentives from programmers; (ii)
customer incentives and inducements; (iii) capitalized labor and overhead costs;
(iv) customer acquisition costs; (v) rebuild and upgrade of cable systems; (vi)
deferred tax liabilities/franchise assets; and (vii) other adjustments. These
adjustments have been reflected in the accompanying condensed consolidated
financial statements and reduced revenues for the three and nine months ended
September 30, 2002 by $13 million and $38 million, respectively. Our
consolidated net loss
24
decreased by $125 million and increased by $105 million for the three and nine
months ended September 30, 2002, respectively. In addition, as a result of
certain of these adjustments, our statement of cash flows for the nine months
ended September 30, 2002 has been restated. Cash flows from operating activities
for the nine months ended September 30, 2002 decreased by $29 million. The more
significant categories of adjustments relate to the following as outlined below.
Launch Incentives from Programmers. Amounts previously recognized as advertising
revenue in connection with the launch of new programming channels have been
deferred and recorded in other long-term liabilities in the year such launch
support was provided, and amortized as a reduction of programming costs based
upon the relevant contract term. These adjustments decreased revenue by $10
million and $30 million for the three and nine months ended September 30, 2002,
respectively. The corresponding amortization of such deferred amounts reduced
programming expenses by $12 million and $35 million for the three and nine
months ended September 30, 2002.
Customer Incentives and Inducements. Marketing inducements paid to encourage
potential customers to switch from satellite providers to Charter branded
services and enter into multi-period service agreements were previously deferred
and recorded as property, plant and equipment and recognized as depreciation and
amortization expense over the life of customer contracts. These amounts have
been restated as a reduction of revenues of $2 million and $5 million for the
three and nine months ended September 30, 2002. Substantially all of these
amounts are offset by reduced depreciation and amortization expense.
Capitalized Labor and Overhead Costs. Certain elements of labor costs and
related overhead allocations previously capitalized as property, plant and
equipment as part of our rebuild activities, customer installations and new
service introductions have been expensed in the period incurred. Such
adjustments increased operating expenses by $13 million and $39 million for the
three and nine months ended September 30, 2002.
Customer Acquisition Costs. Certain customer acquisition campaigns were
conducted through third-party contractors in portions of 2002. The costs of
these campaigns were originally deferred and recorded as other assets and
recognized as amortization expense over the average customer contract life.
These amounts have been reported as marketing expense in the period incurred and
totaled $13 million and $32 million for the three and nine months ended
September 30, 2002. We discontinued this program in the third quarter of 2002 as
contracts for third-party vendors expired. Substantially all of these amounts
are offset by reduced depreciation and amortization expense.
Rebuild and Upgrade of Cable Systems. In 2000, we initiated a three-year program
to replace and upgrade a substantial portion of our network. In connection with
this plan, we assessed the carrying value of, and the associated depreciable
lives of, various assets to be replaced. It was determined that $1 billion of
cable distribution system assets, originally treated as subject to replacement,
were not part of the original replacement plan but were to be upgraded and have
remained in service. We also determined that certain assets subject to
replacement during the upgrade program were misstated in the allocation of the
purchase price of the acquisition. This adjustment reduced property, plant and
equipment and increased franchise costs by $627 million. In addition, the
depreciation period for the assets subject to replacement was adjusted to more
closely align with the intended service period of these assets rather than the
three-year straight-line life originally assigned. As a result, adjustments were
recorded to reduce depreciation expense by $115 million and $353 million for the
three and nine months ended September 30, 2002.
Deferred Tax Liabilities/Franchise Assets. Adjustments were made to record
deferred tax liabilities associated with the acquisition of various cable
television businesses. These adjustments increased amounts assigned to franchise
assets by $1.4 billion with a corresponding increase in deferred tax liabilities
of $0.6 billion and to member's equity of $0.8 billion. In addition, as
described above, a correction was made to reduce amounts assigned in purchase
accounting to assets identified for replacement over the three-year period of
our rebuild and upgrade of its network. This reduced the amount assigned to the
network assets to be retained and increased the amount assigned to franchise
assets by $627 million with a resulting increase in amortization expense for the
years restated. Such adjustments increased the cumulative effect of accounting
change recorded upon adoption of Statement of Financial Accounting Standards No.
142 by $199 million, before tax effects, for the nine months ended September 30,
2002.
Other Adjustments. In addition to the items described above, other adjustments
of expenses include additional amounts charged to special charges related to the
2001 restructuring plan, certain tax reclassifications from tax
25
expense to operating costs and other miscellaneous adjustments. The net impact
of these adjustments to net loss is a decrease of $1 million and an increase of
$4 million for the three and nine months ended September 30, 2002. The following
tables summarize the effects of the adjustments on the condensed consolidated
statements of operations and cash flows for the three and nine months ended
September 30, 2002 (dollars in millions).
CONDENSED CONSOLIDATED STATEMENT OF OPERATIONS
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, 2002 SEPTEMBER 30, 2002
------------------------- ------------------------
AS PREVIOUSLY AS PREVIOUSLY
REPORTED RESTATED REPORTED RESTATED
-------- -------- -------- --------
Revenues $ 1,179 $ 1,166 $ 3,415 $ 3,377
Income (loss) from operations (17) 91 (47) 273
Minority interest (3) (3) (10) (11)
Cumulative effect of accounting change, net of tax -- -- (83) (540)
Net loss (461) (336) (1,311) (1,416)
CONDENSED CONSOLIDATED STATEMENT OF CASH FLOWS
NINE MONTHS ENDED
SEPTEMBER 30, 2002
------------------------------
AS PREVIOUSLY
REPORTED RESTATED
------------ ----------
Net cash flows from operating activities $532 $503
Net cash flows from investing activities (1,807) (1,783)
Net cash flows from financing activities 1,778 1,782
OVERVIEW
We have had a history of net losses. Further, we expect to continue to report
net losses for the foreseeable future. The principal reasons for our prior net
losses include our depreciation and amortization expenses and interest costs,
which decreased in the aggregate by $3 million for the three months ended
September 30, 2003, as compared to the same prior year period and increased in
the aggregate by $106 million for the nine months ended September 30, 2003 as
compared to the same prior year period. Continued net losses could have a
material adverse impact on our ability to access necessary capital and to fund
ongoing operations.
For the three months ended September 30, 2003 and 2002, our income from
operations, which includes depreciation and amortization expense but excludes
interest expense, was $117 million and $91 million, respectively. For the nine
months ended September 30, 2003 and 2002, our income from operations was $306
million and $273 million, respectively. These operating margins increased from
8% for the three months ended September 30, 2002 to 10% for the three months
ended September 30, 2003, and remained constant at 8% for the nine months ended
September 30, 2003 and 2002.
Historically, our ability to conduct operations has been dependent on our
continued access to credit pursuant to our subsidiaries' credit facilities.
While our use of cash has migrated over time such that the substantial majority<