UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

x        QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended June 30, 2007

OR

o        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 001-14157

TELEPHONE AND DATA SYSTEMS, INC.

(Exact name of registrant as specified in its charter)

 

30 North LaSalle Street, Chicago, Illinois 60602

(Address of principal executive offices) (Zip Code)

Registrant’s telephone number, including area code: (312) 630-1900

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 o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer.  See definition of “accelerated filer and large accelerated filer” in Rule 12b 2 of the Exchange Act.  (Check one):

Large accelerated filer x

Accelerated filer o

Non-accelerated filer o

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

Yes o            No x

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

Class		Outstanding at June 30, 2007
Common Shares, $.01 par value		52,600,228 Shares
Special Common Shares, $.01 par value		59,329,405 Shares
Series A Common Shares, $.01 par value		6,443,109 Shares

 

TELEPHONE AND DATA SYSTEMS, INC.

QUARTERLY REPORT ON FORM 10-Q
FOR THE PERIOD ENDED JUNE 30, 2007

INDEX

				Page No.
Part I.	Financial Information
	Item 1.	Financial Statements (Unaudited)
		Consolidated Statements of Operations
		Three and Six Months Ended June 30, 2007 and 2006		3
		Consolidated Statements of Cash Flows
		Six Months Ended June 30, 2007 and 2006		4
		Consolidated Balance Sheets
		June 30, 2007 and December 31, 2006		5
		Notes to Consolidated Financial Statements		7
	Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations		32
		Six Months Ended June 30, 2007 and 2006		35
		U.S. Cellular Operations		37
		TDS Telecom Operations		45
		Three Months Ended June 30, 2007 and 2006		48
		Recent Accounting Pronouncements		55
		Financial Resources		56
		Liquidity and Capital Resources		58
		Application of Critical Accounting Policies and Estimates		65
		Certain Relationships and Related Transactions		66
		Safe Harbor Cautionary Statement		67
	Item 3.	Quantitative and Qualitative Disclosures About Market Risk		70
	Item 4.	Controls and Procedures		72
Part II.	Other Information
	Item 1.	Legal Proceedings		75
	Item 1A.	Risk Factors		75
	Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds		75
	Item 5.	Other Information		76
	Item 6.	Exhibits		77
Signatures

 

PART I.  FINANCIAL INFORMATION

ITEM 1.  FINANCIAL STATEMENTS

TELEPHONE AND DATA SYSTEMS, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS

UNAUDITED

		Three Months Ended June 30,						Six Months Ended June 30,
		2007			2006			2007			2006
		(Dollars in thousands, except per share amounts)
Operating Revenues		$	1,192,834		$	1,068,687		$	2,349,391		$	2,127,764
Operating Expenses
Cost of services and products (exclusive of depreciation, amortization and accretion expense shown below)		415,281			369,559			821,249			745,865
Selling, general and administrative expense		433,070			411,366			849,552			803,987
Depreciation, amortization and accretion expense		190,528			180,453			381,838			363,419
Total Operating Expenses		1,038,879			961,378			2,052,639			1,913,271
Operating Income		153,955			107,309			296,752			214,493
Investment and Other Income (Expense)
Equity in earnings of unconsolidated entities		23,875			22,491			47,571			42,296
Interest and dividend income		147,768			146,545			163,964			158,028
Interest expense		(55,245		)	(59,288		)	(113,046		)	(117,820		)
Fair value adjustment of derivative instruments		(358,119		)	(11,768		)	(102,249		)	(11,738		)
Gain on investments		137,920			91,418			137,920			91,418
Other expense		(1,868		)	(941		)	(4,092		)	(1,868		)
Total Investment and Other Income (Expense)		(105,669		)	188,457			130,068			160,316
Income Before Income Taxes and Minority Interest		48,286			295,766			426,820			374,809
Income tax expense		26,700			117,186			167,938			149,528
Income Before Minority Interest		21,586			178,580			258,882			225,281
Minority share of income		(30,213		)	(11,821		)	(48,184		)	(22,525		)
Net Income (Loss)		(8,627		)	166,759			210,698			202,756
Preferred dividend requirement		(13		)	(50		)	(26		)	(101		)
Net Income (Loss) Available To Common		$	(8,640	)	$	166,709		$	210,672		$	202,655
Basic Weighted Average Shares Outstanding (000s)		117,031			115,768			116,935			115,754
Basic Earnings (Loss) Per Share (Note 6)		$	(0.07	)	$	1.44		$	1.80		$	1.75
Diluted Weighted Average Shares Outstanding (000s)		117,031			116,640			118,432			116,576
Diluted Earnings (Loss)Per Share (Note 6)		$	(0.08	)	$	1.43		$	1.76		$	1.73
Dividends Per Share		$	0.0975		$	0.0925		$	0.195		$	0.185

 

The accompanying notes are an integral part of these consolidated financial statements.

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TELEPHONE AND DATA SYSTEMS, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

UNAUDITED

		Six Months Ended June 30,
		2007			2006
		(Dollars in thousands)
Cash Flows from Operating Activities
Net income		$	210,698		$	202,756
Add (Deduct) adjustments to reconcile net income to net cash provided by operating activities:
Depreciation, amortization and accretion		381,838			363,419
Bad debts expense		26,991			26,465
Stock-based compensation expense		10,879			14,653
Fair value adjustment of derivative instruments		102,249			11,738
Deferred income taxes		(61,814		)	(41,091		)
Equity in earnings of unconsolidated entities		(47,571		)	(42,296		)
Distributions from unconsolidated entities		43,435			37,399
Minority share of income		48,184			22,525
Gain on sale of assets		(5,000		)	—
Gain on investments		(137,920		)	(91,418		)
Noncash interest expense		10,635			10,705
Other noncash expense		2,176			3,631
Changes in assets and liabilities:
Change in accounts receivable		(43,884		)	(41,637		)
Change in materials and supplies		(731		)	10,503
Change in accounts payable		(5,792		)	(47,956		)
Change in customer deposits and deferred revenues		19,469			5,346
Change in accrued taxes		111,074			67,233
Change in accrued interest		(712		)	266
Change in other assets and liabilities		(49,077		)	(32,751		)
		615,127			479,490
Cash Flows from Investing Activities
Additions to property, plant and equipment		(305,429		)	(330,294		)
Cash paid for acquisitions		(20,569		)	(18,546		)
Cash received from divestitures		4,277			722
Proceeds from sales of investments		10,547			102,549
Other investing activities		(242		)	(2,887		)
		(311,416		)	(248,456		)
Cash Flows from Financing Activities
Issuance of notes payable		25,000			195,000
Issuance of long-term debt		2,857			560
Repayment of notes payable		(60,000		)	(225,000		)
Repayment of long-term debt		(1,679		)	(1,586		)
Repayment of medium-term notes		—			(35,000		)
TDS Common Shares and Special Common Shares issued for benefit plans		74,339			3,047
Excess tax benefit from exercise of stock awards		17,598			407
U.S. Cellular Common Shares issued for benefit plans		13,516			3,856
Repurchase of TDS Special Common Shares		(7,036		)	—
Repurchase of U.S. Cellular Common Shares		(49,057		)	—
Capital distributions to minority partners		(4,676		)	(7,613		)
Dividends paid		(22,798		)	(21,498		)
Other financing activities		(1,869		)	343
		(13,805		)	(87,484		)
Net Increase in Cash and Cash Equivalents		289,906			143,550
Cash and Cash Equivalents
Beginning of period		1,013,325			1,095,791
End of period		$	1,303,231		$	1,239,341

 

The accompanying notes are an integral part of these consolidated financial statements.

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TELEPHONE AND DATA SYSTEMS, INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

ASSETS

UNAUDITED

		June 30, 2007			December 31, 2006
		(Dollars in thousands)
Current Assets
Cash and cash equivalents		$	1,303,231		$	1,013,325
Accounts receivable
Due from customers, less allowance of $13,444 and $15,807, respectively		368,619			357,279
Other, principally connecting companies, less allowance of $8,386 and $9,576, respectively		164,548			162,888
Marketable equity securities		2,175,667			1,205,344
Inventory		130,973			128,981
Prepaid expenses		57,252			43,529
Other current assets		19,808			61,738
		4,220,098			2,973,084
Investments
Marketable equity securities		363,426			1,585,286
Licenses		1,530,635			1,520,407
Goodwill		667,822			647,853
Customer lists, net of accumulated amortization of $75,491 and $68,110, respectively		29,759			26,196
Investments in unconsolidated entities		204,180			197,636
Other investments, less valuation allowance of $55,144 in both periods		11,077			11,073
		2,806,899			3,988,451
Property, Plant and Equipment
In service and under construction		7,937,533			7,700,746
Less accumulated depreciation		4,409,179			4,119,360
		3,528,354			3,581,386
Other Assets and Deferred Charges		53,348			56,593
		$	10,608,699		$	10,599,514

 

The accompanying notes are an integral part of these consolidated financial statements.

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TELEPHONE AND DATA SYSTEMS, INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

LIABILITIES AND STOCKHOLDERS’ EQUITY

UNAUDITED

		June 30, 2007			December 31, 2006
		(Dollars in thousands)
Current Liabilities
Current portion of long-term debt		$	2,967		$	2,917
Forward contracts		1,342,807			738,408
Notes payable		—			35,000
Accounts payable		294,709			294,932
Customer deposits and deferred revenues		160,935			141,164
Accrued interest		26,017			26,729
Accrued taxes		102,472			38,324
Accrued compensation		58,922			72,804
Derivative liability		653,334			359,970
Deferred income tax liability		439,070			236,397
Other current liabilities		121,725			138,086
		3,202,958			2,084,731
Deferred Liabilities and Credits
Net deferred income tax liability		640,789			950,348
Derivative liability		78,707			393,776
Asset retirement obligation		243,561			232,312
Other deferred liabilities and credits		138,734			136,733
		1,101,791			1,713,169
Long-Term Debt
Long-term debt, excluding current portion		1,634,765			1,633,308
Forward contracts		211,575			987,301
		1,846,340			2,620,609
Commitments and Contingencies
Minority Interest in Subsidiaries		640,542			609,722
Preferred Shares		860			863
Common Stockholders’ Equity
Common Shares, par value $.01 per share; authorized 100,000,000 shares; issued 56,560,000 and 56,558,000 shares, respectively		566			566
Special Common Shares, par value $.01 per share; authorized 165,000,000 shares, issued 62,941,000 and 62,941,000 shares, respectively		629			629
Series A Common Shares, par value $.01 per share; authorized 25,000,000 shares; issued and outstanding 6,443,000 and 6,445,000 shares; respectively		64			64
Capital in excess of par value		2,018,601			1,992,597
Treasury Shares, at cost:
Common Shares, 3,960,000 and 4,676,000 shares, respectively		(149,463		)	(187,103		)
Special Common Shares 3,612,000 and 4,676,000 shares, respectively		(135,778		)	(187,016		)
Accumulated other comprehensive income		508,668			522,113
Retained earnings		1,572,921			1,428,570
		3,816,208			3,570,420
		$	10,608,699		$	10,599,514

 

The accompanying notes are an integral part of these consolidated financial statements.

6

TELEPHONE AND DATA SYSTEMS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

1.               Basis of Presentation

The accounting policies of Telephone and Data Systems, Inc. (“TDS”) conform to accounting principles generally accepted in the United States of America (“U.S. GAAP”).  The consolidated financial statements include the accounts of TDS and its majority-owned subsidiaries, including TDS’s 80.7%-owned wireless telephone subsidiary, United States Cellular Corporation (“U.S. Cellular”), TDS’s 100%-owned wireline telephone subsidiary, TDS Telecommunications Corporation (“TDS Telecom”) and TDS’s 80%-owned printing and distribution company, Suttle Straus, Inc.  In addition, the consolidated financial statements include all entities in which TDS has a variable interest that requires TDS to absorb a majority of the entity’s expected gains or losses.  All material intercompany accounts and transactions have been eliminated.  Certain prior year amounts have been reclassified to conform to the 2007 presentation.

The consolidated financial statements included herein have been prepared by TDS, without audit, pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”).  Certain information and note disclosures normally included in financial statements prepared in accordance with U.S. GAAP have been condensed or omitted pursuant to such rules and regulations. However, TDS believes that the disclosures included herein are adequate to make the information presented not misleading.  It is suggested that these consolidated financial statements be read in conjunction with the consolidated financial statements and the notes thereto included in TDS’s Annual Report on Form 10-K for the year ended December 31, 2006 (“Form 10-K”).

The accompanying unaudited consolidated financial statements contain all adjustments (consisting of only normal recurring items unless otherwise disclosed) necessary to present fairly the financial position as of June 30, 2007, and the results of operations for the three and six months ended June 30, 2007 and 2006 and the cash flows for the six months ended June 30, 2007 and 2006.  The results of operations for the three and six months ended June 30, 2007 are not necessarily indicative of the results to be expected for the full year.

2.               Summary of Significant Accounting Policies

Pension Plan

TDS sponsors a qualified noncontributory defined contribution pension plan. The plan provides benefits for the employees of TDS Corporate, TDS Telecom and U.S. Cellular.  Under this plan, pension benefits and costs are calculated separately for each participant and are funded currently.  Pension costs were $3.6 million and $7.1 million for the three and six months ended June 30, 2007, respectively, and $4.4 million and $7.9 million for the three and six months ended June 30, 2006, respectively.

TDS also sponsors an unfunded non-qualified deferred supplemental executive retirement plan for certain employees which supplements the benefits under the qualified plan to offset the reduction of benefits caused by the limitation on annual employer contributions under the tax laws.

Other Postretirement Benefits

TDS sponsors two contributory defined benefit postretirement plans that cover most employees of TDS Corporate, TDS Telecom and the subsidiaries of TDS Telecom.  One plan provides medical benefits and the other plan provides life insurance benefits.

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Net periodic benefit costs for the defined benefit postretirement plans include the following components:

		Three Months Ended June 30,						Six Months Ended June 30,
		2007			2006			2007			2006
		(Dollars in thousands)
Service Cost		$	609		$	545		$	1,218		$	1,089
Interest on accumulated benefit obligation		858			691			1,716			1,383
Expected return on plan assets		(821		)	(649		)	(1,642		)	(1,297		)
Amortization of:
Prior service cost		(207		)	(207		)	(415		)	(415		)
Net loss		340			292			681			584
Net postretirement cost		$	779		$	672		$	1,558		$	1,344

 

TDS contributed $7.0 million to the postretirement plan assets during the second quarter of 2007.

Amounts Collected from Customers and Remitted to Governmental Authorities

TDS records amounts collected from customers and remitted to governmental authorities net within a tax liability account if the tax is assessed upon the customer and TDS merely acts as an agent in collecting the tax on behalf of the imposing governmental authority.  If the tax is assessed upon TDS, then amounts collected from customers as recovery of the tax are recorded in revenues and amounts remitted to governmental authorities are recorded in expenses. The amounts recorded gross in revenues that are billed to customers and remitted to governmental authorities totaled $38.0 million and $68.9 million for the three and six months ended June 30, 2007, respectively, and $23.0 million and $44.6 million for the three and six months ended June 30, 2006, respectively.

Recent Accounting Pronouncements

In September 2006, the FASB issued Statement of Financial Accounting Standards (“SFAS”) No. 157, Fair Value Measurements (“SFAS 157”). This Statement defines fair value as used in numerous accounting pronouncements, establishes a framework for measuring fair value in U.S. GAAP and expands disclosure related to the use of fair value measures in financial statements. SFAS 157 does not expand the use of fair value measures in financial statements, but standardizes its definition and guidance in U.S. GAAP. The Statement emphasizes that fair value is a market-based measurement and not an entity-specific measurement, based on an exchange transaction in which the entity sells an asset or transfers a liability (exit price). SFAS 157 establishes a fair value hierarchy, from observable market data as the highest level to fair value based on an entity’s own fair value assumptions as the lowest level. The Statement is effective for TDS’s 2008 financial statements. TDS is currently reviewing the requirements of SFAS 157 and has not determined the impact, if any, on its financial position or results of operations.

In September 2006, FASB ratified Emerging Issues Task Force Issue No. 06-1, Accounting for Consideration Given by a Service Provider to Manufacturers or Resellers of Equipment Necessary for an End-Customer to Receive Service from the Service Provider (“EITF 06-1”). This guidance requires the application of EITF 01-9, Accounting for Consideration Given by a Vendor to a Customer (“EITF 01-9”), when consideration is given to a reseller or manufacturer for benefit to the service provider’s end customer. EITF 01-9 requires the consideration given be recorded as a liability at the time of the sale of the equipment and also provides guidance for the classification of the expense. EITF 06-1 is effective for TDS’s 2008 financial statements. TDS is currently reviewing the requirements of EITF 06-1 and has not yet determined the impact, if any, on its financial position or results of operations.

SFAS No. 159, The Fair Value Option for Financial Assets and Financial Liabilities, Including an Amendment of FASB Statement No. 115 (“SFAS 159”), was issued in February 2007.  SFAS 159 permits entities to choose to measure many financial instruments and certain other items at fair value at specified election dates.  Unrealized gains and losses on items for which the fair value option has been elected shall be reported in earnings at each subsequent reporting date.  SFAS 159 also establishes presentation and disclosure requirements designed to facilitate comparisons between entities that choose different measurement attributes for similar types of assets and liabilities.  SFAS 159 is effective for TDS’s 2008 financial statements. TDS is currently reviewing the requirements of SFAS 159 and has not yet determined the impact, if any, on its financial position or results of operations.

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3.               Acquisitions, Divestitures and Exchanges

TDS assesses its existing wireless and wireline interests on an ongoing basis with a goal of improving competitiveness of its operations and maximizing its long-term return on investment. As part of this strategy, TDS reviews attractive opportunities to acquire additional operating markets, telecommunications companies and wireless spectrum.  In addition, TDS may seek to divest outright or include in exchanges for other wireless interests those markets and wireless interests that are not strategic to its long-term success.

In the first six months of 2007, U.S. Cellular received $4.3 million from an escrow that was set up in the fourth quarter of 2006 in conjunction with the sale of Midwest Wireless Communications to ALLTEL Corporation. U.S. Cellular had owned an interest in Midwest Wireless Communications prior to the purchase by ALLTEL.

On February 1, 2007, U.S. Cellular purchased 100% of the membership interests of Iowa 15 Wireless, LLC (“Iowa 15”) and obtained the 25 megahertz Federal Communications Commission (“FCC”) cellular license to provide wireless service in Iowa Rural Service Area (“RSA”) 15 for approximately $18.2 million in cash. This acquisition increased investments in licenses, goodwill and customer lists by $7.9 million, $5.9 million and $1.6 million, respectively.  Goodwill of $5.9 million is deductible for income tax purposes.

In addition, during the first six months of 2007, TDS Telecom and Suttle Straus each acquired a company for cash, which purchases aggregated $2.3 million. These acquisitions increased goodwill by $1.8 million of which $1.0 million is deductible for income tax purposes.

A wholly-owned subsidiary of U.S. Cellular is a limited partner in Barat Wireless, L.P. (“Barat Wireless”), an entity which participated in the auction of wireless spectrum designated by the FCC as Auction 66. Barat Wireless was qualified to receive a 25% discount available to “very small businesses” which were defined as having annual gross revenues of less than $15 million. At the conclusion of the auction on September 18, 2006, Barat Wireless was the high bidder with respect to 17 licenses and had bid $127.1 million, net of its discount. On April 30, 2007, the FCC granted Barat Wireless’ applications with respect to the 17 licenses for which it was the winning bidder.

Barat Wireless is in the process of developing its long-term business and financing plans. As of June 30, 2007, U.S. Cellular had made capital contributions and advances to Barat Wireless and/or its general partner of $127.2 million. Barat Wireless used the funding to pay the FCC an initial deposit of $79.9 million on July 14, 2006 to allow it to participate in Auction 66. On October 18, 2006, Barat Wireless paid the balance due at the conclusion of the auction for the licenses with respect to which Barat Wireless was the high bidder; such amount totaled $47.1 million. For financial statement purposes, U.S. Cellular consolidates Barat Wireless and Barat Wireless, Inc., the general partner of Barat Wireless, pursuant to the guidelines of FASB Interpretation No. 46(R), Consolidation of Variable Interest Entities—an Interpretation of ARB No. 51, (“FIN 46(R)”), as U.S. Cellular anticipates benefiting from or absorbing a majority of Barat Wireless’ expected gains or losses. Pending finalization of Barat Wireless’ permanent financing plan, and upon request by Barat Wireless, U.S. Cellular may agree to make additional capital contributions and advances to Barat Wireless and/or its general partner.

In April 2006, U.S. Cellular purchased the remaining ownership interest in a Tennessee wireless market, in which it had previously owned a 16.7% interest, for approximately $18.8 million in cash. This acquisition increased investments in licenses, goodwill and customer lists by $5.5 million, $4.0 million and $2.0 million, respectively. The $4.0 million of goodwill is not deductible for income tax purposes.

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A wholly-owned subsidiary of U.S. Cellular is a limited partner in Carroll Wireless, an entity which participated in the auction of wireless spectrum designated by the FCC as Auction 58. Carroll Wireless was qualified to bid on “closed licenses”-spectrum that was available only to companies included under the FCC definition of “entrepreneurs,” which are small businesses that have a limited amount of assets and revenues.  In addition, Carroll Wireless bid on “open licenses” that were not subject to restriction.  With respect to these licenses, however, Carroll Wireless was qualified to receive a 25% discount available to “very small businesses” which were defined as having average annual gross revenues of less than $15 million. Carroll Wireless was a successful bidder for 17 license areas in Auction 58, which ended on February 15, 2005. The aggregate amount paid to the FCC for the 17 licenses was $129.9 million, net of the discounts to which Carroll Wireless was entitled. These 17 license areas cover portions of 12 states and are in markets which are either adjacent to or overlap current U.S. Cellular licensed areas.

On January 6, 2006, the FCC granted Carroll Wireless’ applications with respect to 16 of the 17 licenses for which it had been the successful bidder and dismissed one application, relating to Walla Walla, Washington. Following the completion of Auction 58, the FCC determined that a portion of the Walla Walla license was already licensed to another party and should not have been included in Auction 58. Accordingly, in 2006, Carroll Wireless received a full refund of the $228,000 previously paid to the FCC with respect to the Walla Walla license.

Carroll Wireless is in the process of developing its long-term business and financing plans. As of June 30, 2007, U.S. Cellular had made capital contributions and advances to Carroll Wireless and/or its general partner of approximately $129.9 million; $129.7 million of this amount is included in Licenses in the Consolidated Balance Sheets. For financial statement purposes, U.S. Cellular consolidates Carroll Wireless and Carroll PCS, Inc., the general partner of Carroll Wireless, pursuant to the guidelines of FIN 46(R), as U.S. Cellular anticipates benefiting from or absorbing a majority of Carroll Wireless’ expected gains or losses. Pending finalization of Carroll Wireless’ permanent financing plan, and upon request by Carroll Wireless, U.S. Cellular may make additional capital contributions and advances to Carroll Wireless and/or its general partner. In November 2005, U.S. Cellular approved additional funding of $1.4 million of which $0.1 million was provided to Carroll Wireless through June 30, 2007.

4.               Fair Value Adjustments of Derivative Instruments

Fair value adjustments of derivative instruments resulted in a loss of $358.1 million and $102.2 million in the three and six months ended June 30, 2007, respectively, and a loss of $11.8 million and $11.7 million in the three and six months ended June 30, 2006, respectively.  Fair value adjustments of derivative instruments reflect the change in the fair value of the bifurcated embedded collars within the forward contracts related to the Deutsche Telekom and Vodafone marketable equity securities not designated as a hedge.  Accounting for the embedded collars as derivative instruments not designated as a hedge results in increased volatility in the results of operations, as fluctuation in the market price of the underlying Deutsche Telekom and Vodafone marketable equity securities results in changes in the fair value of the embedded collars being recorded in the Consolidated Statements of Operations.  Also included in the fair value adjustment of derivative instruments are the gains and losses related to the ineffectiveness of the VeriSign fair value hedge.

5.               Income Taxes

The overall effective tax rate on income before income taxes and minority interest for the three and six months ended June 30, 2007 was 55.3% and 39.3%, respectively, and 39.6% and 39.9% for the three and six months ended June 30, 2006, respectively. The effective tax rate for the three months ended June 30, 2007 is substantially higher than the three months ended June 30, 2006 due to the impact of discrete items, primarily relating to the fair market adjustments of derivative instruments.

Effective January 1, 2007, TDS adopted Financial Accounting Standards Board Interpretation No. 48 (“FIN 48”), Accounting for Uncertainty in Income Taxes. In accordance with FIN 48, TDS recognized a cumulative-effect adjustment of $4.4 million, decreasing its liability for unrecognized tax benefits, interest, and penalties and increasing the January 1, 2007 balance of Common Stockholders’ Equity. Of this amount, $20.7 million increases accumulated other comprehensive income and $16.3 million represents the cumulative reduction of beginning retained earnings.

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At January 1, 2007, TDS had $28.4 million in unrecognized tax benefits which, if recognized, would reduce income tax expense by $16.9 million ($14.3 million, net of the federal benefit from state income taxes). Included in the balance of unrecognized tax benefits at January 1, 2007, is an immaterial amount related to tax positions for which it is possible that the total amounts could change during the next twelve months. At June 30, 2007 TDS had $30.9 million in unrecognized tax benefits, which, if recognized, would reduce income tax expense by $16.2 million, net of the federal benefit from state income taxes.

TDS recognizes accrued interest and penalties related to unrecognized tax benefits in income tax expense. This amount totaled $0.6 million and $2.2 million for the three and six months ended June 30, 2007, respectively. Accrued interest and penalties were $1.3 million and $3.5 million as of January 1, 2007 and June 30, 2007, respectively.

TDS and its subsidiaries file federal and state income tax returns. With few exceptions, TDS is no longer subject to federal, state and local income tax examinations by tax authorities for years prior to 2002. TDS’s consolidated federal income tax returns for the years 2002 – 2005 are currently under examination by the Internal Revenue Service.  TDS and its subsidiaries are also under examination by various state taxing authorities.

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6.               Earnings Per Share

Basic earnings per share is computed by dividing net income (loss) available to common by the weighted average number of common shares outstanding during the period. Diluted earnings per share is computed using net income (loss) available to common and weighted average common shares adjusted to include the effect of potentially dilutive securities.

The amounts used in computing earnings per share and the effect of potentially dilutive securities on income and the weighted average number of Common, Special Common and Series A Common Shares are as follows:

		Three Months Ended June 30,						Six Months Ended June 30,
		2007			2006			2007			2006
		(Dollars and shares in thousands, except earnings per share)
Basic Earnings per Share:
Net income (loss)		$	(8,627	)	$	166,759		$	210,698		$	202,756
Preferred dividend requirement		(13		)	(50		)	(26		)	(101		)
Net income (loss) available to common used in basic earnings per share		$	(8,640	)	$	166,709		$	210,672		$	202,655
Diluted Earnings per Share:
Net income (loss) available to common used in basic earnings per share		$	(8,640	)	$	166,709		$	210,672		$	202,655
Minority income adjustment (1)		(1,095		)	(371		)	(1,767		)	(617		)
Preferred dividend adjustment (2)		—			50			25			100
Net income (loss) available to common used in diluted earnings per share		$	(9,735	)	$	166,388		$	208,930		$	202,138
Weighted average number of shares of common stock used in basic earnings per share:
Common Shares		52,048			51,485			52,011			51,478
Special Common Shares		58,539			57,836			58,479			57,829
Series A Common Shares		6,444			6,447			6,445			6,447
Weighted average number of shares of common stock used in basic earnings per share		117,031			115,768			116,935			115,754
Effects of Dilutive Securities:
Effects of stock options (3)		—			708			1,360			659
Effects of Restricted Stock Units(4)		—			2			86			—
Conversion of preferred shares (5)		—			162			51			163
Weighted average number of shares of common stock used in diluted earnings per share		117,031			116,640			118,432			116,576
Basic Earnings (Loss) per Share		$	(0.07	)	$	1.44		$	1.80		$	1.75
Diluted Earnings (Loss) per Share		$	(0.08	)	$	1.43		$	1.76		$	1.73

 

(1)          The minority income adjustment reflects the additional minority share of U.S. Cellular’s income computed as if all of U.S. Cellular’s issuable securities were outstanding.

(2)          The preferred dividend adjustment reflects the dividend reduction in the event any preferred series were dilutive, and therefore converted for shares.

(3)          Stock options convertible into 1,522,000 Common Shares and 2,359,000 Special Common Shares were not included in computing Diluted Earnings per Share in the three months ended June 30, 2007, because their effects were antidilutive.  Stock options convertible into 214,000 Common Shares and 214,000 Special Common Shares were not included in computing Diluted Earnings per Share in the six months ended June 30, 2007 because their effects were antidilutive. Stock options convertible into 896,000 Common Shares and 2,001,000 Special Common Shares were not included in computing Diluted Earnings per Share in the three months ended June 30, 2006, because their effects were antidilutive.  Stock options convertible into 1,293,000 Common Shares and 2,398,000 Special Common Shares were not included in computing Diluted Earnings per Share in the six months ended June 30, 2006 because their effects were antidilutive.

(4)          Restricted stock units convertible into 80,000 Common Shares and 203,000 Special Common Shares were not included in computing Diluted Earnings per Share in the three months ended June 30, 2007, because their effects were antidilutive.

(5)          Preferred shares redeemable for 51,000 Common Shares were not included in computing Diluted Earnings per Share in the three months ended June 30, 2007, because their effects were antidilutive.

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7.               Licenses and Goodwill

Changes in TDS’s licenses and goodwill are primarily the result of acquisitions, divestitures and impairment of its licenses, wireless markets and telephone companies. See Note 3 — Acquisitions, Divestitures and Exchanges for information regarding purchase and sale transactions which affected licenses and goodwill during the period.

TDS Telecom’s incumbent local exchange carriers are designated as “ILEC” in the tables and its competitive local exchange carriers are designated as “CLEC”.

(Dollars in thousands)		U.S.			TDS Telecom
Licenses		Cellular (1)			CLEC			Total
Balance December 31, 2006		$	1,517,607		$	2,800		$	1,520,407
Acquisitions		7,900			—			7,900
Impairment		(2,136		)	—			(2,136		)
Step acquisition allocation adjustment (2)		4,464			—			4,464
Balance June 30, 2007		$	1,527,835		$	2,800		$	1,530,635
Balance December 31, 2005		$	1,385,543		$	2,800		$	1,388,343
Acquisitions		5,534			—			5,534
Other		(228		)	—			(228		)
Balance June 30, 2006		$	1,390,849		$	2,800		$	1,393,649

 

(1)          U.S. Cellular’s beginning and ending balances include $23.3 million of licenses allocated from TDS.

(2)          The step acquisition allocation adjustment is the allocation of value related to U.S. Cellular’s share buyback program. See Note 15 - Common Share Repurchase Programs below for a discussion of U.S. Cellular’s purchase of 670,000 of its Common Shares from an investment banking firm in a private transaction pursuant to an accelerated share repurchase (“ASR”) agreement.

(Dollars in thousands)		U.S.			TDS Telecom
Goodwill		Cellular (1)			ILEC			Other (2)			Total
Balance December 31, 2006		$	246,920		$	398,652		$	2,281		$	647,853
Acquisitions		5,864			259			1,521			7,644
Step acquisition allocation adjustment (3)		12,325			—			—			12,325
Balance June 30, 2007		$	265,109		$	398,911		$	3,802		$	667,822
Balance December 31, 2005		$	242,703		$	398,652		$	2,281		$	643,636
Acquisitions		3,990			—			—			3,990
Other		318			—			—			318
Balance June 30, 2006		$	247,011		$	398,652		$	2,281		$	647,944

 

(1)          U.S. Cellular’s balances in each period include $(238.5) million of goodwill allocated from TDS.

(2)          Consists of goodwill related to Suttle Straus.

(3)          The step acquisition allocation adjustment is the allocation of value related to U.S. Cellular’s share buyback program. See Note 15 - Common Share Repurchase Programs below for a discussion of U.S. Cellular’s purchase of 670,000 of its Common Shares from an investment banking firm in a private transaction pursuant to the ASR agreement.

Licenses and goodwill must be reviewed for impairment annually or more frequently if events or changes in circumstances indicate that the asset might be impaired. TDS performs the annual impairment review on licenses and goodwill during the second quarter of its fiscal year. Accordingly, the annual impairment tests for licenses and goodwill for 2007 and 2006 were performed in the second quarter of 2007 and 2006. Such impairment tests indicated that there was an impairment of licenses at U.S. Cellular totaling $2.1 million in 2007; the loss is included in Depreciation, amortization and accretion expense on the Consolidated Statements of Operations. There was no impairment of licenses in 2006, and no impairment of goodwill in either 2007 or 2006.

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U.S. Cellular’s license impairments in 2007 were related to two of its six units of accounting in which operations have not yet begun. The carrying values of licenses associated with these six units of accounting are tested separately from those associated with U.S. Cellular’s operating licenses. Fair values for such units of accounting were determined by reference to values established by auctions and other market transactions involving licenses comparable to those included in each specific unit of accounting.

8.               Customer Lists

Customer lists, which are intangible assets resulting from acquisitions of wireless markets or allocation of value related to U.S. Cellular’s share buyback program, are amortized based on average customer retention periods using the double declining balance method in the first year, switching to straight-line over the remaining estimated life. The changes in the customer lists for the six months ended June 30, 2007 and 2006 were as follows:

		June 30, 2007			June 30, 2006
		(Dollars in thousands)
Customer Lists
Balance, beginning of period		$	26,196		$	47,649
Acquisitions		1,560			2,056
Amortization		(7,381		)	(11,707		)
Step acquisition allocation adjustment (1)		9,384			—
Balance, end of period		$	29,759		$	37,998

 

(1)          The step acquisition allocation adjustment is the allocation of value related to U.S. Cellular’s share buyback program. See Note 15 - Common Share Repurchase Programs below for a discussion of U.S. Cellular’s purchase of 670,000 of its Common Shares from an investment banking firm in a private transaction pursuant to an ASR agreement.

Amortization expense for the remainder of 2007 and for the years 2008 - 2012 is expected to be $6.0 million, $9.6 million, $7.1 million, $5.4 million, $1.6 million and $0.1 million, respectively.

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9.               Marketable Equity Securities and Forward Contracts

TDS and its subsidiaries hold a substantial amount of marketable equity securities that are publicly traded and can have volatile movements in share prices. TDS and its subsidiaries do not make direct investments in publicly traded companies and all of these interests were acquired as a result of sales, trades or reorganizations of other assets.

Information regarding TDS’s marketable equity securities is summarized as follows:

		June 30, 2007			December 31, 2006
		(Dollars in thousands)
Marketable Equity Securities – Current Assets
Deutsche Telekom AG – 113,492,172 and 45,492,172 Ordinary Shares, respectively		$	2,096,200		$	833,872
Vodafone Group Plc – 2,362,976 and 11,327,674 American Depositary Receipts, respectively		79,467			314,683
VeriSign, Inc. – 0 and 2,361,333 Common Shares, respectively		—			56,789
Aggregate fair value included in Current Assets		2,175,667			1,205,344
Marketable Equity Securities - Investments
Deutsche Telekom AG – 17,969,689 and 85,969,689 Ordinary Shares, respectively		331,900			1,575,824
Rural Cellular Corporation - 719,396 equivalent Common Shares		31,517			9,453
Other		9			9
Aggregate fair value included in investments		363,426			1,585,286
Total aggregate fair value		2,539,093			2,790,630
Accounting cost basis		1,355,472			1,507,477
Gross holding gains		1,183,621			1,283,153
Gross realized holding gains		—			(29,729		)
Gross unrealized holding gains		1,183,621			1,253,424
Equity method unrealized gains		387			352
Income tax expense		(433,814		)	(488,817		)
Minority share of unrealized holding gains		(1,949		)	(14,981		)
Unrealized holding gains, net of tax and minority share		748,245			749,978
Derivative instruments, net of tax and minority share		(226,997		)	(215,122		)
Retirement plans, net of tax		(12,580		)	(12,743		)
Accumulated other comprehensive income		$	508,668		$	522,113

 

The investment in Deutsche Telekom AG (“Deutsche Telekom”) resulted from TDS’s disposition of its over 80%-owned personal communication services operating subsidiary, Aerial Communications, Inc., to VoiceStream Wireless Corporation (“VoiceStream”) in exchange for stock of VoiceStream, which was then acquired by Deutsche Telekom in exchange for Deutsche Telekom stock. The investment in Vodafone Group Plc (“Vodafone”) resulted from certain dispositions of non-strategic cellular investments to, or settlements with, AirTouch Communications Inc. (“AirTouch”), in exchange for stock of AirTouch, which was then acquired by Vodafone whereby TDS and its subsidiaries received American Depositary Receipts representing Vodafone stock. The investment in VeriSign, Inc. (“VeriSign”) is the result of the acquisition by VeriSign of Illuminet, Inc., a telecommunication entity in which several TDS subsidiaries held interests. The investment in Rural Cellular Corporation (“Rural Cellular”) is the result of a consolidation of several cellular partnerships in which TDS subsidiaries held interests in Rural Cellular, and the distribution of Rural Cellular stock in exchange for these interests.

TDS has entered into a number of forward contracts related to the marketable equity securities it holds.  The economic hedge risk management objective of the forward contracts is to hedge the value of the marketable equity securities from losses due to decreases in the market prices of the securities while retaining a share of gains from increases in the market prices of such securities.  The downside risk is hedged at or above the accounting cost basis of the securities.

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The forward contracts related to TDS’s 2,361,333 VeriSign common shares and the forward contracts related to U.S. Cellular’s 8,964,698 Vodafone ADRs matured in May 2007. TDS elected to deliver the VeriSign common shares in settlement of the forward contracts, and to dispose of all remaining VeriSign common shares in connection therewith.  U.S. Cellular elected to deliver the Vodafone ADRs in settlement of the forward contracts, and to dispose of all of its remaining Vodafone ADRs in connection therewith. As a result of the settlement of these forward contracts in May 2007, TDS no longer owns any VeriSign common shares, U.S. Cellular no longer owns any Vodafone ADRs and TDS and U.S. Cellular no longer have any liability or other obligations under the related forward contracts. TDS recorded a pre-tax gain of $137.9 million in the second quarter of 2007 on the settlement of such forward contracts and the disposition of such remaining VeriSign common shares and such remaining U.S. Cellular-owned Vodafone ADRs.

See Note 12 – Long-term Debt and Forward Contracts for additional information related to forward contracts.

10.         Investments in Unconsolidated Entities

Investments in unconsolidated entities consist of amounts invested in wireless and wireline entities in which TDS and its subsidiaries hold a minority interest.  These investments are accounted for using either the equity or cost method.

TDS’s and its subsidiaries’ significant investments in unconsolidated entities include the following:

		June 30, 2007		June 30, 2006
Los Angeles SMSA Limited Partnership		5.5	%	5.5	%
Midwest Wireless Communications, L.L.C. (1)		—		14.2	%
North Carolina RSA 1 Partnership		50.0	%	50.0	%
Oklahoma City SMSA Limited Partnership		14.6	%	14.6	%

 

(1)          In addition, U.S. Cellular owns a 49% interest in an entity, which owned an interest of approximately 2.9% of Midwest Wireless Holdings, L.L.C., the parent company of Midwest Wireless Communications L.L.C. The entity’s investment in Midwest Wireless Holdings, L.L.C. was disposed of in the fourth quarter of 2006.

Based primarily on data furnished to TDS by third parties, the following summarizes the combined results of operations of all wireless and wireline entities in which TDS’s investments are accounted for by the equity method:

		Three Months Ended June 30,						Six Months Ended June 30,
		2007			2006			2007			2006
		(Dollars in thousands)
Results of operations
Revenues		$	1,109,000		$	1,025,000		$	2,206,000		$	2,018,000
Operating expenses		737,000			703,000			1,467,000			1,391,000
Operating income		372,000			322,000			739,000			627,000
Other income (expense), net		8,000			14,000			15,000			22,000
Net Income		$	380,000		$	336,000		$	754,000		$	649,000

 

11.         Revolving Credit Facilities

TDS has a $600 million revolving credit facility available for general corporate purposes.  At June 30, 2007, TDS had no outstanding notes payable and $3.4 million letters of credit were outstanding, leaving $596.6 million available for use. Borrowings under the revolving credit facility bear interest at the London InterBank Offered Rate (“LIBOR”) plus a contractual spread based on TDS’s credit rating.  At June 30, 2007, the contractual spread was 75 basis points. TDS may select borrowing periods of either seven days or one, two, three or six months (the one-month LIBOR was 5.32% at June 30, 2007). If TDS provides less than two days’ notice of intent to borrow, interest on borrowings is at the prime rate less 50 basis points (the prime rate was 8.25% at June 30, 2007). This credit facility expires in December 2009.

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TDS also has $75 million of direct bank lines of credit at June 30, 2007, all of which were unused. The terms of the direct lines of credit bear negotiated interest rates up to the prime rate (the prime rate was 8.25% at June 30, 2007).

U.S. Cellular has a $700 million revolving credit facility available for general corporate purposes.  At June 30, 2007, U.S. Cellular had no outstanding notes payable and $0.2 million letters of credit were outstanding, leaving $699.8 million available for use. Borrowings under the revolving credit facility bear interest at LIBOR plus a contractual spread based on U.S. Cellular’s credit rating.  At June 30, 2007, the contractual spread was 75 basis points.  U.S. Cellular may select borrowing periods of either seven days or one, two, three or six months (the one-month LIBOR was 5.32% at June 30, 2007). If U.S. Cellular provides less than two days’ notice of intent to borrow, interest on borrowings is the prime rate less 50 basis points (the prime rate was 8.25% at June 30, 2007).  This credit facility expires in December 2009.

TDS’s and U.S. Cellular’s interest cost on their revolving credit facilities would increase if their current credit ratings from Moody’s Investor Service (“Moody’s”) were lowered. However, the credit facilities would not cease to be available or accelerate solely as a result of a decline in TDS’s or U.S. Cellular’s credit rating. A downgrade in TDS’s or U.S. Cellular’s credit rating could adversely affect their ability to renew existing, or obtain access to new credit facilities in the future. TDS’s and U.S. Cellular’s credit ratings are as follows:

Moody’s (Issued November 10, 2005)		Baa3		– under review for possible further downgrade
Standard & Poor’s (Issued June 21, 2007)		BB+		– with developing outlook
Fitch (Issued November 10, 2005)		BBB+		– on ratings watch negative

 

On February 13, 2007, Standard & Poor’s lowered its credit ratings on TDS and U.S. Cellular to BBB- from BBB. The ratings remained on credit watch with negative implications.  On April 23, 2007, Standard & Poor’s lowered its credit rating on TDS and U.S. Cellular to BB+ from BBB-. The ratings remained on credit watch with negative implications. On June 21, 2007, Standard & Poor’s affirmed the BB+ rating, and removed TDS and U.S. Cellular from Credit Watch. The outlook is developing.

The maturity dates of borrowings under TDS’s and U.S. Cellular’s revolving credit facilities would accelerate in the event of a change in control.

The continued availability of the revolving credit facilities requires TDS and U.S. Cellular to comply with certain negative and affirmative covenants, maintain certain financial ratios and represent certain matters at the time of each borrowing. On November 6, 2006, TDS and U.S. Cellular announced that they would restate certain financial statements which caused TDS and U.S. Cellular to be late with certain filings. In addition, on April 23, 2007, TDS announced another restatement that caused a further delay in TDS’s SEC filings. The restatements and late filings resulted in defaults under the revolving credit agreements and one line of credit agreement.  TDS and U.S. Cellular were not in violation of any covenants that require TDS and U.S. Cellular to maintain certain financial ratios.  TDS and U.S. Cellular did not fail to make any scheduled payments under such credit agreements.  TDS and U.S. Cellular received waivers from the lenders associated with the credit agreements, under which the lenders agreed to waive any defaults that may have occurred as a result of the restatements and late filings. TDS and U.S. Cellular believe they were in compliance as of June 30, 2007 with all covenants and other requirements set forth in the revolving credit facilities.

12.         Long-Term Debt and Forward Contracts

TDS’s long-term debt does not contain any provisions resulting in acceleration of the maturities of outstanding debt in the event of a change in TDS’s credit rating. However, a downgrade in TDS’s credit rating could adversely affect TDS’s ability to obtain long-term debt financing in the future. TDS believes it was in compliance as of June 30, 2007 with all covenants and other requirements set forth in its long-term debt indenture.

TDS redeemed $35.0 million of medium-term notes in January and February of 2006 which carried an interest rate of 10.0%.

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Forward Contracts

TDS and its subsidiaries maintain a portfolio of available-for-sale marketable equity securities, the majority of which are the result of sales or trades of non-strategic assets. Subsidiaries of TDS have prepaid forward contracts with counterparties in connection with its Deutsche Telekom, and Vodafone marketable equity securities and until May 2007 TDS had such contracts in connection with its VeriSign marketable equity securities and U.S. Cellular had such contracts in connection with its Vodafone marketable equity securities. The principal amount of the prepaid forward contracts was accounted for as a loan. The collar portions of the forward contracts are accounted for as derivative instruments. The prepaid forward contracts contain embedded collars that are bifurcated and receive separate accounting treatment in accordance with SFAS No. 133, Accounting for Derivatives and Hedging Activities.

The Deutsche Telekom forward contracts mature from July 2007 to September 2008. A majority of the contracts require quarterly interest payments at the LIBOR rate plus 50 basis points (the three-month LIBOR rate was 5.36% at June 30, 2007). The remaining contracts are structured as zero coupon obligations with a weighted average effective interest rate of 4.4% per year. No interest payments are required for the zero coupon obligations during the contract period.

U.S. Cellular’s Vodafone forward contracts matured in May 2007 and TDS Telecom’s Vodafone contracts mature in October 2007. The Vodafone forward contracts require quarterly interest payments at the LIBOR rate plus 50 basis points (the three-month LIBOR rate was 5.36% at June 30, 2007).

The VeriSign forward contract matured in May 2007 and was structured as a zero coupon obligation with an effective interest rate of 5.00% per year. TDS was not required to make interest payments during the contract period.

The economic hedge risk management objective of the forward contracts is to hedge the value of the marketable equity securities from losses due to decreases in the market prices of the securities (“downside limit”) while retaining a share of gains from increases in the market prices of such securities (“upside potential”). The downside limit is hedged at or above the accounting cost basis of the securities.

Under the terms of the remaining forward contracts related to Deutsche Telekom and Vodafone marketable equity securities, subsidiaries of TDS will continue to own the contracted shares and will receive dividends paid on such contracted shares, if any. The forward contracts, at TDS’s option, may be settled in shares of the respective security or in cash, pursuant to formulas that “collar” the price of the shares. The collars effectively reduce downside risk and upside potential on the contracted shares. The collars are typically contractually adjusted for any changes in dividends on the underlying shares. If the dividend increases, the collar’s upside potential is typically reduced. If the dividend decreases, the collar’s upside potential is typically increased. If TDS elects to settle in shares, it will be required to deliver the number of shares of the contracted security determined pursuant to the formula. If shares are delivered in the settlement of the forward contract, TDS would incur a current tax liability at the time of delivery. If TDS elects to settle in cash, it will be required to pay an amount in cash equal to the fair market value of the number of shares determined pursuant to the formula. TDS provides and U.S. Cellular provided guarantees to the counterparties which provide assurance that all principal and interest amounts will be paid by its consolidated subsidiaries upon settlement of the contracts.

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The forward contracts related to the VeriSign common shares held by TDS and the Vodafone ADRs held by U.S. Cellular matured in May 2007. The loan amounts associated with the forward contracts related to the VeriSign common shares held by TDS and the Vodafone ADRs held by U.S. Cellular were $20.8 million and $159.9 million, respectively. TDS elected to deliver the VeriSign common shares in settlement of the forward contracts, and to dispose of all of its remaining VeriSign common shares in connection therewith. U.S. Cellular elected to deliver the Vodafone ADRs in settlement of the forward contracts, and to dispose of all of its remaining Vodafone ADRs in connection therewith.   TDS recognized a pre-tax gain of $137.9 million at the time of the delivery of the VeriSign common shares and Vodafone ADRs. Since shares were delivered in the settlement of the forward contract, TDS incurred a current tax liability in the amount of $43.4 million at the time of the delivery. After these forward contracts were settled in May 2007, TDS no longer owns any VeriSign common shares, U.S. Cellular no longer owns any Vodafone ADRs and TDS and U.S. Cellular no longer have any liability or other obligations under such forward contracts.

The following table details the outstanding forward contracts, related marketable equity securities, and maturity dates of the contracts as of June 30, 2007, all of which relate to TDS:

Marketable Equity Security		Shares		Loan Amounts (000’s)			Maturity Date
Deutsche Telekom AG		45,492,172		$	516,891		Third Quarter 2007
Vodafone Group Plc		2,362,976		41,183			Fourth Quarter 2007
Deutsche Telekom AG		30,000,000		340,963			First Quarter 2008
Deutsche Telekom AG		38,000,000		452,104			Second Quarter 2008
Unamortized Discount				(8,334		)
				443,770
Deutsche Telekom AG		17,969,689		222,298			Third Quarter 2008
Unamortized Discount				(10,723		)
				211,575
				$	1,554,382

 

TDS has elected to deliver a substantial majority of the 45,492,172 Deutsche Telekom ordinary shares in settlement of the forward contracts relating to such Deutsche Telekom ordinary shares, with a loan value of $516.9 million, maturing in the third quarter of 2007, and to dispose of the remaining Deutsche Telekom ordinary shares in connection with such forward contracts. As a result, following such settlement and disposition, TDS will no longer own 45,492,172 of the Deutsche Telekom ordinary shares.  As previously disclosed, TDS had forecasted that it will deliver shares upon settlement of its forward contracts.  TDS will determine whether to settle the remaining forward contracts in shares or in cash at a time closer to the maturity dates.

TDS is and until May 2007 U.S. Cellular was required to comply with certain covenants under the forward contracts. On November 6, 2005, TDS and U.S. Cellular announced that they would restate certain financial statements which caused TDS and U.S. Cellular to be late with certain SEC filings. In addition, on April 23, 2007, TDS announced another restatement that caused a further delay in TDS’s SEC filings. The restatements and late filings resulted in defaults under the forward contracts.  TDS and U.S. Cellular were not in violation of any covenants that require TDS and U.S. Cellular to maintain certain financial ratios.  TDS and U.S. Cellular did not fail to make any scheduled payments under such forward contracts.  TDS and U.S. Cellular received waivers from the counterparty to such forward contracts, under which the counterparty agreed to waive any defaults that may have occurred as a result of the restatements and late filings. TDS believes that it was in compliance as of June 30, 2007 with all covenants and other requirements set forth in its forward contracts.  U.S. Cellular did not have any forward contracts as of June 30, 2007.

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13.         Commitments and Contingencies

Indemnity Agreements

TDS enters into agreements in the normal course of business that provide for indemnification of counterparties. These agreements include certain asset sales and financings with other parties. The terms of the indemnifications vary by agreement. The events or circumstances that would require TDS to perform under these indemnities are transaction specific; however, these agreements may require TDS to indemnify the counterparty for costs and losses incurred from litigation or claims arising from the underlying transaction. TDS is unable to estimate the maximum potential liability for these types of indemnifications as the amounts are dependent on the outcome of future events, the nature and likelihood of which cannot be determined at this time. Historically, TDS has not made any significant indemnification payments under such agreements.

TDS is party to an indemnity agreement with T-Mobile USA Inc., (“T-Mobile”) regarding certain contingent liabilities at Aerial Communications, Inc. (“Aerial”) for the period prior to Aerial’s merger into VoiceStream Wireless.  As of June 30, 2007, TDS has recorded liabilities of $0.9 million relating to this indemnity, which represents its best estimate of its probable liability.

Legal Proceedings

TDS is involved in a number of legal proceedings before the FCC, other regulatory authorities, and various state and federal courts. In accordance with SFAS No. 5, Accounting for Contingencies, if TDS believes that a loss arising from such legal proceedings is probable and can be reasonably estimated, an amount is accrued in the financial statements for the estimated loss.  If only a range of loss can be determined, the best estimate within that range is accrued; if none of the estimates within that range is better than another, the low end of the range is accrued.  The assessment of the expected outcomes of legal proceedings is a highly subjective process that requires judgments about future events.  The legal proceedings are reviewed at least quarterly to determine the adequacy of accruals and related financial statement disclosures. The ultimate outcomes of legal proceedings could differ materially from amounts accrued in the financial statements.

Regulatory Environment

Changes in the telecommunications regulatory environment, including the effects of potential changes in the rules governing universal service funding and potential changes in the amounts or methods of intercarrier compensation, could have a material adverse effect on TDS Telecom’s financial condition, results of operations and cash flows.

14.         Minority Interest in Subsidiaries

Under SFAS No. 150, Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity, certain minority interests in consolidated entities with finite lives may meet the standard’s definition of a mandatorily redeemable financial instrument and thus require reclassification as liabilities and remeasurement at the estimated amount of cash that would be due and payable to settle such minority interests under the applicable entity’s organization agreement assuming an orderly liquidation of the finite-lived entity, net of estimated liquidation costs (the “settlement value”). TDS’s consolidated financial statements include certain minority interests that meet the standard’s definition of mandatorily redeemable financial instruments. These mandatorily redeemable minority interests represent interests held by third parties in consolidated partnerships and limited liability companies (“L.L.C.s”), where the terms of the underlying partnership or L.L.C. agreement provide for a defined termination date at which time the assets of the subsidiary are to be sold, the liabilities are to be extinguished and the remaining net proceeds are to be distributed to the minority interest holders and TDS in accordance with the respective partnership and L.L.C. agreements. The termination dates of TDS’s mandatorily redeemable minority interests range from 2042 to 2105.

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