PROSPECTUS
27,170,000 Shares
Charter Communications, Inc.
Class A Common Stock
The shares of our Class A common stock offered hereby are shares that we will loan to Citigroup Global Markets Limited, as borrower, through Citigroup Global Markets Inc., as agent, pursuant to a share lending agreement.
Our Class A common stock is quoted on the Nasdaq National Market under the symbol CHTR. The last reported sale price of our Class A common stock on the Nasdaq National Market on July 25, 2005 was $1.30 per share.
Investing in our Class A common stock involves risks. See Risk Factors beginning on page 10.
Neither the Securities and Exchange Commission nor any state securities commission has approved or disapproved of these securities or determined if this prospectus is truthful or complete. Any representation to the contrary is a criminal offense.
Per Share | Total | |||||
Public Offering Price
|
$1.25 | $33,962,500 |
Under the share lending agreement, we will receive a loan fee of $.001 for each share that we lend. We have been advised by Citigroup Global Markets Limited that it, or its affiliates, intend(s) to use the short sales of the shares of our Class A common stock offered pursuant to this prospectus to facilitate transactions by which investors in our 5.875% convertible senior notes due 2009 issued on November 22, 2004 will hedge their investments in the 5.875% convertible senior notes. See Share Lending Agreement and Underwriting on pages 173 and 178, respectively, of this prospectus. We will not receive any of the proceeds from the sale of the shares of Class A common stock in this offering.
THE SHARES OFFERED HEREBY ARE NOT BEING OFFERED TO, AND MAY NOT BE PURCHASED BY, ANY PERSON WHO HOLDS AN OPEN SHORT POSITION IN OUR CLASS A COMMON STOCK, ANY PERSON WHO IS PURCHASING THE SHARES ON BEHALF OF OR FOR THE ACCOUNT OF SUCH A PERSON OR ANY PERSON WHO HAS AN ARRANGEMENT OR UNDERSTANDING TO RESELL, LEND OR OTHERWISE TRANSFER (DIRECTLY OR INDIRECTLY) THE SHARES TO SUCH A PERSON. PURCHASERS IN THIS OFFERING WILL BE REQUIRED TO CERTIFY THE FOREGOING IN WRITING. SEE NOTICE TO INVESTORS ON PAGE ii OF THIS PROSPECTUS.
The shares of our Class A common stock are being offered on a best efforts basis. Best efforts means that Citigroup Global Markets Limited is not under any obligation to borrow and sell any of the shares offered hereby. Citigroup Global Markets Limited has informed us that it will use its best efforts to sell the shares offered pursuant to this prospectus, provided that it intends to borrow and sell the shares offered hereby only to the extent there is interest by investors in the 5.875% convertible senior notes in establishing hedge positions and there is corresponding demand by purchasers for the shares. Accordingly, there is no assurance that all or any portion of the shares offered hereby will be sold.
The offering will be at a fixed price and will not be conducted on a continuous or delayed basis. The offering will terminate on or before July 29, 2005, and the underwriter expects to deliver the shares to purchasers on or about July 29, 2005.
Citigroup
July 25, 2005
You should rely only on the information contained in this prospectus. We have not authorized anyone to provide you with information that is different from that contained in this prospectus. We are offering to sell shares of our common stock only in jurisdictions where offers and sales are permitted. The information in this prospectus is complete and accurate only as of the date of this prospectus, regardless of the time of delivery of this prospectus or of any sale of shares.
TABLE OF CONTENTS
i | ||
ii | ||
ii | ||
1 | ||
10 | ||
27 | ||
28 | ||
29 | ||
31 | ||
36 | ||
38 | ||
39 | ||
73 | ||
92 | ||
97 | ||
114 | ||
118 | ||
138 | ||
160 | ||
169 | ||
171 | ||
173 | ||
178 | ||
179 | ||
179 | ||
F-1 | ||
A-1 |
DISCLOSURE REGARDING FORWARD-LOOKING STATEMENTS
This prospectus includes forward-looking statements within the meaning of Section 27A of the Securities Act and Section 21E of the Exchange Act, regarding, among other things, our plans, strategies and prospects, both business and financial. 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. Many of the forward-looking statements contained in this prospectus 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
i
| our ability to sustain and grow revenues and cash flows from operating activities by offering video, high-speed data, telephony and other services and to maintain a stable customer base, particularly in the face of increasingly aggressive competition from other service providers; | |
| the availability of funds to meet interest payment obligations under our debt and to fund our operations and necessary capital expenditures, either through cash flows from operating activities, further borrowings or other sources; | |
| our ability to comply with all covenants in our indentures and credit facilities, 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; | |
| our ability to pay or refinance debt as it becomes due; | |
| our ability to obtain programming at reasonable prices or to pass programming cost increases on to our customers; | |
| general business conditions, economic uncertainty or slowdown; and | |
| the effects of governmental regulation, including but not limited to local franchise authorities, on our business. |
All forward-looking statements attributable to us or any person acting on our behalf are expressly qualified in their entirety by this cautionary statement.
ADDITIONAL INFORMATION
We have filed with the SEC a registration statement on Form S-1 to register the sale of the securities covered by this prospectus. This prospectus, which forms part of that registration statement, does not contain all the information included in the registration statement. For further information about us and the securities described in this prospectus, you should refer to the registration statement and its exhibits.
Our Class A common stock is quoted on the Nasdaq National Market under the symbol CHTR. We file annual, quarterly and special reports, proxy statements and other information with the SEC. You may read and copy at prescribed rates any document we file at the SECs public reference room at Room 1200, 450 Fifth Street, N.W., Washington, D.C. 20549. Please call the SEC at 1-800-SEC-0330 for further information on the public reference room. Our SEC filings are also available to the public at the SECs website at www.sec.gov.
NOTICE TO INVESTORS
The shares offered hereby are not being offered to, and may not be purchased by, any person who has an open short position in Charters Class A common stock at the time of the sale, any person who is purchasing the shares on behalf of or for the account of such a person or any person who has an arrangement or understanding to resell, lend or otherwise transfer (directly or indirectly) the shares to such a person.
Each purchaser of Charters Class A common stock in this offering must execute and deliver the Investor Acknowledgement set forth on Annex A hereto to Citigroup by facsimile to (646)-843-3922.
ii
SUMMARY
This summary contains a general discussion of our business, and summary financial information. It does not contain all the information that you should consider before making an investment decision regarding our Class A common stock. For a more complete understanding of an investment in our Class A common stock, you should read this entire prospectus. Unless otherwise noted, all business data in this summary is as of March 31, 2005.
Unless otherwise stated, the discussion in this prospectus of our business and operations includes the business and operations of Charter Communications, Inc. and its subsidiaries. Unless the context otherwise requires, the terms we, us and our refer to Charter Communications, Inc. and its direct and indirect subsidiaries on a consolidated basis. The term Charter refers to the issuer, Charter Communications, Inc.
Our Business
We are a broadband communications company operating in the United States, with approximately 6.23 million customers at March 31, 2005. Through our broadband network of coaxial and fiber optic cable, we offer our customers traditional cable video programming (analog and digital, which we refer to as video service), high-speed cable Internet access (which we refer to as high-speed data service), advanced broadband cable services (such as video on demand (VOD), high definition television service, and interactive television) and, in some of our markets, we offer telephone service (which we refer to as telephony). See Business Products and Services for further description of these terms, including customers.
At March 31, 2005, we served approximately 5.98 million analog video customers, of which approximately 2.69 million were also digital video customers. We also served approximately 1.98 million high-speed data customers (including approximately 229,400 who received only high-speed data services). We also provided telephony service to approximately 55,300 customers as of that date.
Our principal executive offices are located at Charter Plaza, 12405 Powerscourt Drive, St. Louis, Missouri 63131. Our telephone number is (314) 965-0555 and we have a website accessible at www.charter.com. The information posted or linked on our website is not part of this prospectus and you should rely solely on the information contained in this prospectus and the related documents to which we refer herein when deciding to make an investment in our Class A common stock.
Strategy
Our principal financial goal is to maximize our return on invested capital. To do so, we will focus on increasing revenues, growing our customer base, improving customer retention and enhancing customer satisfaction by providing reliable, high-quality service offerings, superior customer service and attractive bundled offerings.
Specifically, in the near term, we are focusing on:
| generating improvements in the overall customer experience in such critical areas as service delivery, customer care, and new product offerings; | |
| developing more sophisticated customer management capabilities through investment in our customer care and marketing infrastructure, including targeted marketing capabilities; | |
| executing growth strategies for new services, including digital simulcast, VOD, telephony, and digital video recorder service (DVR); | |
| managing our operating costs by exercising discipline in capital and operational spending; and | |
| identifying opportunities to continue to improve our balance sheet and liquidity. |
We have begun an internal operational improvement initiative aimed at helping us gain new customers and retain existing customers, which is focused on customer care, technical operations and sales. We intend to continue efforts to focus management attention on instilling a customer service oriented
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We believe that our high-speed data service will continue to provide a substantial portion of our revenue growth in the near future. We also plan to continue to expand our marketing of high-speed data service to the business community, which we believe has shown an increasing interest in high-speed data service and private network services. Additionally, we plan to continue to prepare additional markets for telephony launches in 2005.
We believe we offer our customers an excellent choice of services through a variety of bundled packages, particularly with respect to our digital video and high-speed data services, as well as telephony in certain markets. Our digital platform enables us to offer a significant number and variety of channels, and we offer customers the opportunity to choose among groups of channel offerings, including premium channels, and to combine selected programming with other services such as high-speed data, high definition television (in selected markets) and VOD (in selected markets).
We continue to pursue opportunities to improve our liquidity. Our efforts in this regard resulted in the completion of a number of transactions in 2004, as follows:
| the December 2004 sale by our subsidiaries, CCO Holdings, LLC and CCO Holdings Capital Corp., of $550 million of senior floating rate notes due 2010; | |
| the November 2004 sale of the $862.5 million of 5.875% convertible senior notes due 2009; | |
| the December 2004 redemption of all of our 5.75% convertible senior notes due 2005 ($588 million principal amount); | |
| the April 2004 sale of $1.5 billion of senior second lien notes by our subsidiary, Charter Communications Operating, LLC (Charter Operating), together with the concurrent refinancing of its credit facilities; and | |
| the sale in the first half of 2004 of non-core cable systems for a total of $735 million, the proceeds of which were used to reduce indebtedness. |
Recent Events
Approval and Funding of Litigation Settlement |
On June 30, 2005, the Federal District Court for the Eastern District of Missouri entered its final approval of the Stipulation of Settlement, as amended, of certain shareholder class action and derivative lawsuits filed against Charter which are more fully described in Business Legal Proceedings. On July 8, 2005, Charter delivered to the claims administrator its portion of the settlement consideration under the Stipulation in the form of 13.4 million shares of Class A common stock and approximately $63 million in cash, and Charter has paid $4.5 million to its insurance carriers to satisfy certain outstanding claims in connection with the settlement. See Business Legal Proceedings.
Issuance of Charter Operating Notes in Exchange for Charter Holdings Notes; Repurchase of Convertible Notes |
In June 2005, our subsidiary, Charter Operating, consummated exchange transactions with a small number of institutional holders of Charter Holdings 8.25% senior notes due 2007 pursuant to which Charter Operating issued, in private placements, approximately $62 million principal amount of new notes with terms identical to Charter Operatings 8.375% senior second lien notes due 2014 in exchange for approximately $62 million of the Charter Holdings 8.25% senior notes due 2007. Since March 31, 2005, we repurchased, in private transactions from a small number of institutional holders, a total of $97 million principal amount of our 4.75% convertible senior notes due 2006 leaving $25 million principal amount outstanding.
2
Principal Management Changes |
On January 17, 2005, Robert P. May was appointed as Interim President and Chief Executive Officer of Charter, replacing Carl E. Vogel who, effective on the same date, resigned his position as President, Chief Executive Officer, and a member of the board of directors of Charter and each of Charters subsidiaries for which Mr. Vogel served as a director and officer. Additionally, Mr. May was appointed to the Executive Committee of Charters board of directors and will continue to serve on the boards Strategic Planning Committee. He was also appointed as an officer and director of Charters subsidiaries for which Mr. Vogel was a director and officer.
Charters board of directors has formed an Executive Search Committee to oversee Charters search for a permanent President and Chief Executive Officer.
In April 2005, Michael J. Lovett was appointed to the position of Executive Vice President and Chief Operating Officer. Prior to that appointment, Mr. Lovett had been serving as Charters Executive Vice President, Operations and Customer Care. In April 2005, we also named Paul E. Martin Interim Chief Financial Officer. Mr. Martin had been serving as co-Interim Chief Financial Officer along with Derek Chang, our former Executive Vice President of Finance and Strategy. Mr. Chang resigned all positions with Charter effective April 15, 2005. Curtis S. Shaw, former Executive Vice President, General Counsel and Secretary, also resigned effective April 15, 2005.
Sale of 5.875% Convertible Senior Notes and Redemption of 5.75% Convertible Senior Notes |
On November 22, 2004, we issued and sold $862.5 million total principal amount of 5.875% convertible senior notes due 2009, which are convertible into shares of our Class A common stock, par value $.001 per share, at a rate of 413.2231 shares per $1,000 principal amount of notes (or approximately $2.42 per share), subject to adjustment in certain circumstances. At the time of the issuance of the notes, we agreed pursuant to a registration rights agreement to file the registration statement containing this prospectus and also file a shelf registration statement covering resales of the notes and shares of Class A common stock issuable upon conversion of the notes. Because less than the 150,000,000 shares of Class A common stock initially registered under this registration statement are now expected to be sold in this offering, the registration rights agreement obligates Charter to file, at Citigroups request, up to four additional registration statements with respect to these unsold shares until November 16, 2006.
On December 23, 2004, we used a portion of the proceeds from the sale of the 5.875% convertible senior notes to redeem all of our outstanding 5.75% convertible senior notes due 2005 (total principal amount of $588 million). We also used a portion of the proceeds from the sale of the notes to purchase certain U.S. government securities which were pledged as security for the notes and which we expect to use to fund the first six interest payments on the notes.
For additional terms of the notes and the arrangements governing the loan of shares of our Class A common stock covered by this prospectus, see Share Lending Agreement and Description of Certain Indebtedness Outstanding Notes Charter Communications, Inc. Notes 5.875% Convertible Senior Notes due 2009.
3
The Offering
Total shares of Class A common stock offered by
us hereby
|
27,170,000 shares | |
Approximate number of shares of Class A common
stock to be outstanding after the offering, assuming Citigroup
sells all shares offered hereby
|
345.5 million shares (including the shares offered hereby and 13.4 million shares issued on July 8, 2005 in connection with a litigation settlement) | |
Nasdaq National Market Symbol
|
CHTR |
The shares of our Class A common stock offered hereby are shares that we have loaned to Citigroup Global Markets Limited pursuant to a share lending agreement, dated as of November 22, 2004, which we refer to as the share lending agreement. Under the share lending agreement, we will receive a loan fee of $.001 per share. We will not receive any proceeds from this offering. See Share Lending Agreement and Underwriting.
THE SHARES OFFERED HEREBY ARE NOT BEING OFFERED TO, AND MAY NOT BE PURCHASED BY, ANY PERSON WHO HOLDS AN OPEN SHORT POSITION IN OUR CLASS A COMMON STOCK, ANY PERSON WHO IS PURCHASING THE SHARES ON BEHALF OF OR FOR THE ACCOUNT OF SUCH A PERSON OR ANY PERSON WHO HAS AN ARRANGEMENT OR UNDERSTANDING TO RESELL, LEND OR OTHERWISE TRANSFER (DIRECTLY OR INDIRECTLY) THE SHARES TO SUCH A PERSON.
PURCHASERS IN THE OFFERING WILL BE REQUIRED TO CERTIFY THE FOREGOING IN WRITING. SEE NOTICE TO INVESTORS ON PAGE ii AND FORM OF INVESTOR ACKNOWLEDGMENT ON PAGE A-1.
Risk Factors
Investing in our Class A common stock involves substantial risk. See the Risk Factors section of this prospectus for a description of certain of the risks you should consider before investing in our Class A common stock.
4
Organizational Structure
The chart below sets forth the organizational structure of Charter and its principal direct and indirect subsidiaries. The equity ownership, voting percentages and indebtedness amounts shown below are approximations as of March 31, 2005 on the pro forma basis described in Unaudited Pro Forma Consolidated Financial Statements (including giving effect to the issuance of the shares offered hereby) and do not give effect to any exercise, conversion or exchange of then outstanding options, preferred stock, convertible notes and other convertible or exchangeable securities.
(1) | Charter acts as the sole manager of Charter Holdco and its direct and indirect limited liability company subsidiaries. Charters certificate of incorporation requires that its principal assets be securities of Charter Holdco, the terms of which mirror the terms of securities issued by Charter. See Description of Capital Stock and Membership Units. Since March 31, 2005 Charter repurchased $97 million in principal amount of the convertible notes then outstanding. Also, on July 8, 2005, Charter issued 13.4 million shares of Class A common stock pursuant to a litigation settlement. See Business Legal Proceedings. |
(2) | These membership units are held by Charter Investment, Inc. and Vulcan Cable III Inc., each of which is 100% owned by Paul G. Allen, our Chairman and controlling shareholder. They are exchangeable at any time on a one-for-one basis for shares of Charter Class A common stock. |
(3) | The percentages shown in this table reflect the issuance of the 27.2 million shares of Class A common stock offered hereby and the corresponding issuance of an equal number of mirror membership units by Charter Holdco to Charter. However, for accounting purposes, Charters common equity interest in Charter Holdco will remain at 47%, and Paul G. Allens ownership of Charter Holdco will remain at 53%. These percentages exclude the 27.2 million mirror membership units issued to Charter due |
5
to the required return of the issued mirror units upon return of the shares offered hereby pursuant to the share lending agreement. See Share Lending Agreement. | |
(4) | In June 2005, Charter Operating issued approximately $62 million of additional notes in exchange for $62 million of Charter Holdings senior notes. See Recent Events. |
(5) | Represents 100% of the preferred membership interests in CC VIII, LLC, a subsidiary of CC V Holdings, LLC. An issue has arisen regarding the ultimate ownership of such CC VIII, LLC membership interests following Mr. Allens acquisition of those interests on June 6, 2003. See Certain Relationships and Related Transactions Transactions Arising out of Our Organizational Structure and Mr. Allens Investment in Charter Communications, Inc. and Its Subsidiaries Equity Put Rights CC VIII. |
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Summary Consolidated Financial Data
Charter is a holding company whose principal assets are a controlling common equity interest in Charter Communications Holding Company, LLC and mirror notes that are payable by Charter Communications Holding Company, LLC to Charter which have the same principal amount and terms as those of Charters convertible senior notes. Charter Communications Holding Company, LLC is a holding company whose primary assets are equity interests in our cable operating subsidiaries and intercompany loan receivables. Charter consolidates Charter Communications Holding Company, LLC on the basis of voting control. Charter Communications Holding Company, LLCs limited liability agreement provides that so long as Charters Class B common stock retains its special voting rights, Charter will maintain 100% voting interest in Charter Communications Holding Company, LLC. Voting control gives Charter full authority and control over the operations of Charter Communications Holding Company, LLC.
The following table presents summary financial and other data for Charter and its subsidiaries and has been derived from the audited consolidated financial statements of Charter and its subsidiaries for the three years ended December 31, 2004 and the unaudited consolidated financial statements of Charter and its subsidiaries for the three months ended March 31, 2005 and 2004. The consolidated financial statements of Charter and its subsidiaries for the years ended December 31, 2002 to 2004 have been audited by KPMG LLP, an independent registered public accounting firm. The pro forma data set forth below represent our unaudited pro forma consolidated financial statements after giving effect to the following transactions as if they occurred on January 1 of the respective period for the statement of operations data and other financial data and as of the last day of the respective period for the operating data and balance sheet data:
(1) the disposition of certain assets in March and April 2004 and the use of proceeds in each case to pay down credit facilities; | |
(2) the issuance and sale of the CCO Holdings senior floating rate notes in December 2004 and the Charter Operating senior second lien notes in April 2004; | |
(3) an increase in amounts outstanding under the Charter Operating credit facilities in April 2004 and the use of such funds, together with the proceeds from the sale of the Charter Operating senior second lien notes, to refinance amounts outstanding under the credit facilities of our subsidiaries, CC VI Operating, CC VIII Operating and Falcon; | |
(4) the repayment of $530 million of borrowings under the Charter Operating revolving credit facility with net proceeds from the issuance and sale of the CCO Holdings senior floating rate notes in December 2004, which were included in our cash balance at December 31, 2004; | |
(5) the redemption of all of CC V Holdings outstanding 11.875% senior discount notes due 2008 with cash on hand; | |
(6) the issuance and sale of $863 million of 5.875% convertible senior notes in November 2004 with proceeds used for (i) the purchase of certain U.S. government securities pledged as security for the 5.875% convertible senior notes (and which we expect to use to fund the first six interest payments thereon), (ii) redemption of the outstanding 5.75% convertible senior notes due 2005 and (iii) general corporate purposes; and | |
(7) the issuance of the shares offered hereby pursuant to a share lending agreement, the sole effect of which is to increase common shares issued and outstanding. See Share Lending Agreement. |
The following information should be read in conjunction with Selected Historical Consolidated Financial Data, Capitalization, Unaudited Pro Forma Consolidated Financial Statements, Managements Discussion and Analysis of Financial Condition and Results of Operations, Share Lending Agreement and the historical consolidated financial statements and related notes included elsewhere in this prospectus.
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Three Months Ended | ||||||||||||||||||||||||||
Year Ended December 31, | March 31, | |||||||||||||||||||||||||
2002 | 2003 | 2004 | 2004 | 2004 | 2005 | |||||||||||||||||||||
Actual | Actual | Actual | Pro Forma(a) | Pro Forma(a) | Actual | |||||||||||||||||||||
(Dollars in millions, except per share, share and customer data) | ||||||||||||||||||||||||||
Statement of Operations Data:
|
||||||||||||||||||||||||||
Revenues:
|
||||||||||||||||||||||||||
Video
|
$ | 3,420 | $ | 3,461 | $ | 3,373 | $ | 3,352 | $ | 828 | $ | 842 | ||||||||||||||
High-speed data
|
337 | 556 | 741 | 738 | 165 | 215 | ||||||||||||||||||||
Advertising sales
|
302 | 263 | 289 | 288 | 58 | 64 | ||||||||||||||||||||
Commercial
|
161 | 204 | 238 | 236 | 54 | 65 | ||||||||||||||||||||
Other
|
346 | 335 | 336 | 334 | 80 | 85 | ||||||||||||||||||||
Total revenues
|
4,566 | 4,819 | 4,977 | 4,948 | (b) | 1,185 | 1,271 | |||||||||||||||||||
Costs and Expenses:
|
||||||||||||||||||||||||||
Operating (excluding depreciation and
amortization)
|
1,807 | 1,952 | 2,080 | 2,068 | 500 | 559 | ||||||||||||||||||||
Selling, general and administrative
|
963 | 940 | 971 | 967 | 235 | 237 | ||||||||||||||||||||
Depreciation and amortization
|
1,436 | 1,453 | 1,495 | 1,489 | 364 | 381 | ||||||||||||||||||||
Impairment of franchises
|
4,638 | | 2,433 | 2,433 | | | ||||||||||||||||||||
Asset impairment charges
|
| | | | | 31 | ||||||||||||||||||||
(Gain) loss on sale of assets, net
|
3 | 5 | (86 | ) | 19 | (1 | ) | 4 | ||||||||||||||||||
Option compensation expense (income), net
|
5 | 4 | 31 | 31 | 14 | 4 | ||||||||||||||||||||
Special charges, net
|
36 | 21 | 104 | 104 | 10 | 4 | ||||||||||||||||||||
Unfavorable contracts and other settlements
|
| (72 | ) | (5 | ) | (5 | ) | | | |||||||||||||||||
Total costs and expenses
|
8,888 | 4,303 | 7,023 | 7,106 | 1,122 | 1,220 | ||||||||||||||||||||
Income (loss) from operations
|
(4,322 | ) | 516 | (2,046 | ) | (2,158 | ) | 63 | 51 | |||||||||||||||||
Interest expense, net
|
(1,503 | ) | (1,557 | ) | (1,670 | ) | (1,709 | ) | (422 | ) | (420 | ) | ||||||||||||||
Gain (loss) on derivative instruments and hedging
activities, net
|
(115 | ) | 65 | 69 | 69 | (7 | ) | 27 | ||||||||||||||||||
Loss on debt to equity conversions
|
| | (23 | ) | (23 | ) | (8 | ) | | |||||||||||||||||
Gain (loss) on extinguishment of debt
|
| 267 | (31 | ) | | | 7 | |||||||||||||||||||
Other, net
|
(4 | ) | (16 | ) | 3 | 3 | (2 | ) | 1 | |||||||||||||||||
Loss before minority interest, income taxes and
cumulative effect of accounting change
|
(5,944 | ) | (725 | ) | (3,698 | ) | (3,818 | ) | (376 | ) | (334 | ) | ||||||||||||||
Minority interest(c)
|
3,176 | 377 | 19 | 19 | (4 | ) | (3 | ) | ||||||||||||||||||
Loss before income taxes and cumulative effect of
accounting change
|
(2,768 | ) | (348 | ) | (3,679 | ) | (3,799 | ) | (380 | ) | (337 | ) | ||||||||||||||
Income tax benefit (expense)
|
460 | 110 | 103 | 117 | (40 | ) | (15 | ) | ||||||||||||||||||
Loss before cumulative effect of accounting change
|
$ | (2,308 | ) | $ | (238 | ) | $ | (3,576 | ) | $ | (3,682 | ) | $ | (420 | ) | $ | (352 | ) | ||||||||
Loss per common share, basic and diluted(d)
|
$ | (7.85 | ) | $ | (0.82 | ) | $ | (11.92 | ) | $ | (12.27 | ) | $ | (1.43 | ) | $ | (1.16 | ) | ||||||||
Weighted-average common shares outstanding, basic
and diluted
|
294,440,261 | 294,597,519 | 300,291,877 | 300,291,877 | 295,106,077 | 303,308,880 | ||||||||||||||||||||
Other Financial Data:
|
||||||||||||||||||||||||||
Capital expenditures
|
$ | 2,167 | $ | 854 | $ | 924 | $ | 922 | $ | 188 | $ | 211 | ||||||||||||||
Deficiencies of earnings to cover fixed charges(e)
|
$ | 5,944 | $ | 725 | $ | 3,698 | $ | 3,818 | $ | 376 | $ | 334 |
December 31, | March 31, | ||||||||||||||||||||
2003 | 2003 | 2004 | 2004 | 2005 | |||||||||||||||||
Actual | Pro Forma | Actual | Actual | Actual | |||||||||||||||||
Operating Data (end of period)(f):
|
|||||||||||||||||||||
Analog video customers
|
6,431,300 | 6,200,500 | 5,991,500 | 6,192,000 | 5,984,800 | ||||||||||||||||
Digital video customers
|
2,671,900 | 2,588,600 | 2,674,700 | 2,657,400 | 2,694,600 | ||||||||||||||||
Residential high-speed data customers
|
1,565,600 | 1,527,800 | 1,884,400 | 1,653,000 | 1,978,400 | ||||||||||||||||
Telephony customers
|
24,900 | 24,900 | 45,400 | 26,300 | 55,300 |
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Actual | |||||
As of March 31, | |||||
2005 | |||||
(Dollars in millions) | |||||
Balance Sheet Data (end of period):
|
|||||
Cash and cash equivalents
|
$ | 32 | |||
Total assets
|
16,794 | ||||
Accounts payable and accrued expenses
|
1,256 | ||||
Long-term debt
|
18,929 | ||||
Other long-term liabilities
|
635 | ||||
Minority interest(c)
|
656 | ||||
Shareholders deficit
|
(4,751 | ) |
(a) | Actual revenues exceeded pro forma revenues for the year ended December 31, 2004 and the three months ended March 31, 2004 by $29 million and $29 million, respectively. Pro forma loss before cumulative effect of accounting change, net of tax exceeded actual loss before cumulative effect of accounting change, net of tax by $106 million and $127 million for the year ended December 31, 2004 and the three months ended March 31, 2004, respectively. The unaudited pro forma financial information required allocation of certain revenues and expenses and such information has been presented for comparative purposes and is not intended (a) to provide any indication of what our actual financial position or results of operations would have been had the transactions described above been completed on the dates indicated or (b) to project our results of operations for any future date. | |
(b) | Pro forma 2004 revenue by quarter is as follows: |
2004 | |||||
Pro Forma | |||||
Revenue | |||||
(In millions) | |||||
1st Quarter
|
$ | 1,185 | |||
2nd Quarter
|
1,239 | ||||
3rd Quarter
|
1,248 | ||||
4th Quarter
|
1,276 | ||||
Total pro forma revenue
|
$ | 4,948 | |||
(c) | Minority interest represents the percentage of Charter Communications Holding Company, LLC not owned by Charter, plus preferred membership interests in CC VIII, LLC, an indirect subsidiary of Charter Holdco. Paul G. Allen indirectly holds the preferred membership units in CC VIII, LLC as a result of the exercise of a put right originally granted in connection with the Bresnan transaction in 2000. An issue has arisen regarding the ultimate ownership of the CC VIII, LLC membership interests following the consummation of the Bresnan put transaction on June 6, 2003. See Certain Relationships and Related Transactions Transactions Arising Out of Our Organizational Structure and Mr. Allens Investment in Charter and Its Subsidiaries Equity Put Rights CC VIII. Effective January 1, 2005, Charter ceased recognizing minority interest in earnings or losses of CC VIII, LLC for financial reporting purposes until such time as the resolution of the issue is determinable or certain other events occur. Reported losses allocated to minority interest on the statement of operations are limited to the extent of any remaining minority interest on the balance sheet related to Charter Communications Holding Company, LLC. Because minority interest in Charter Communications Holding Company, LLC was substantially eliminated at December 31, 2003, beginning in 2004, Charter absorbs substantially all losses before income taxes that otherwise would have been allocated to minority interest. This resulted in an approximate additional $2.0 billion of loss before cumulative effect of accounting change for the year ended December 31, 2004. Under our existing capital structure, Charter will absorb substantially all future losses. | |
(d) | Loss per common share, basic and diluted, assumes none of the membership units of Charter Communications Holding Company, LLC are exchanged for Charter common stock and none of the outstanding options to purchase membership units of Charter Communications Holding Company, LLC that are automatically exchanged for Charter common stock are exercised. Basic loss per share equals loss before cumulative effect of accounting change less dividends on preferred stock-redeemable divided by weighted average shares outstanding. If the membership units were exchanged or options exercised, the effects would be antidilutive. Therefore, basic and diluted loss per common share is the same. | |
(e) | Earnings include net loss plus fixed charges. Fixed charges consist of interest expense and an estimated interest component of rent expense. | |
(f) | See Business Products and Services for definitions of the terms contained in this section. |
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RISK FACTORS
An investment in our Class A common stock entails the following risks. You should carefully consider these risk factors, as well as the other information contained in this prospectus, before making a decision to invest in our Class A common stock.
Risks Related to Significant Indebtedness of Us and Our Subsidiaries
We and our subsidiaries have a significant amount of existing debt and may incur substantial additional debt in the future, which could adversely affect our financial health and our ability to react to changes in our business. |
Charter and its subsidiaries have a significant amount of debt and may (subject to applicable restrictions in their debt instruments) incur additional debt in the future. As of March 31, 2005, our total debt was approximately $18.9 billion, and our shareholders deficit was approximately $4.8 billion. The deficiency of earnings to cover fixed charges for the three month period ended March 31, 2005 was approximately $334 million. In 2006 and beyond, significant amounts will become due under our remaining long-term debt obligations. For instance, in 2009 $5.0 billion of our debt matures. The maturities of these obligations are set forth in Description of Certain Indebtedness.
We believe that as a result of our significant levels of debt and operating performance, our access to the debt markets could be limited. If our business does not generate sufficient cash flow from operating activities, and sufficient funds are not available to us from borrowings under our credit facilities or from other sources, we may not be able to repay our debt, fund our other liquidity and capital needs, grow our business or respond to competitive challenges. Further, if we are unable to repay or refinance our debt, as it becomes due, we could be forced to restructure our obligations or seek protection under the bankruptcy laws. If we were to raise capital through the issuance of additional equity or to engage in a recapitalization or other similar transaction, our shareholders could suffer significant dilution and our noteholders might not receive principal and interest payments to which they are contractually entitled on a timely basis or at all.
Our significant amount of debt could have other important consequences to you. For example, the debt will or could:
| require us to dedicate a significant portion of our cash flow from operating activities to payments on our debt, which will reduce our funds available for working capital, capital expenditures and other general corporate expenses; | |
| limit our flexibility in planning for, or reacting to, changes in our business, the cable and telecommunications industries and the economy at large; | |
| place us at a disadvantage as compared to our competitors that have proportionately less debt; | |
| make us vulnerable to interest rate increases, because a significant amount of our borrowings are, and will continue to be, at variable rates of interest; | |
| expose us to increased interest expense as we refinance our existing lower interest rate instruments; | |
| adversely affect our relationship with customers and suppliers; | |
| limit our ability to borrow additional funds in the future, due to applicable financial and restrictive covenants in our debt; and | |
| make it more difficult for us to satisfy our obligations to the holders of our notes and for our subsidiaries to satisfy their obligations to their lenders under their credit facilities and to their bondholders. |
Due to our significant amount of debt, we did not pay dividends on our preferred stock at March 31 or June 30, 2005, because our Board of Directors was unable to conclude with sufficient certainty that we had surplus under Delaware law with which to pay such a dividend.
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A default by one of our subsidiaries under its debt obligations could result in the acceleration of those obligations, the obligations of our other subsidiaries and our obligations under our convertible notes. If current debt levels increase, the related risks that we and you now face will intensify.
The agreements and instruments governing our debt and the debt of our subsidiaries contain restrictions and limitations that could significantly affect our ability to operate our business and adversely affect you, as a shareholder. |
The Charter Operating credit facilities and the indentures governing our and our subsidiaries other debt contain a number of significant covenants that could adversely affect our ability to operate our business, and therefore could adversely affect our results of operations and the price of our Class A common stock. These covenants restrict our and our subsidiaries ability to:
| incur additional debt; | |
| repurchase or redeem equity interests and debt; | |
| issue equity; | |
| make certain investments or acquisitions; | |
| pay dividends or make other distributions; | |
| receive distributions from our subsidiaries; | |
| dispose of assets or merge; | |
| enter into related party transactions; | |
| grant liens; and | |
| pledge assets. |
Furthermore, the Charter Operating credit facilities require us to, among other things, maintain specified financial ratios, meet specified financial tests and provide audited financial statements with an unqualified opinion from our independent auditors. See Description of Certain Indebtedness for details on our debt covenants. Charter Operatings ability to comply with these provisions may be affected by events beyond our control.
The breach of any covenants or obligations in the foregoing indentures or credit facilities, not otherwise waived or amended, could result in a default under the applicable debt agreement or instrument and could trigger acceleration of the related debt, which in turn could trigger defaults under other agreements governing our long-term indebtedness. See Managements Discussion and Analysis of Financial Condition and Results of Operations Liquidity and Capital Resources. In addition, the secured lenders under the Charter Operating credit facilities and the holders of the Charter Operating senior second-lien notes could foreclose on their collateral, which includes equity interests in our subsidiaries, and exercise other rights of secured creditors. Any default under those credit facilities, the indentures governing our convertible notes or our subsidiaries debt could adversely affect our growth, our financial condition and our results of operations and our ability to make payments on our notes and Charter Operatings credit facilities and other debt of our subsidiaries. See Description of Certain Indebtedness.
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We may not generate sufficient cash flow to fund our capital expenditures, ongoing operations and debt obligations. |
Our ability to service our debt and our subsidiaries debt and to fund our and our subsidiaries planned capital expenditures and ongoing operations will depend on our and our subsidiaries ability to generate cash flow. Our ability to generate cash flow is dependent on many factors, including:
| our future operating performance; | |
| the demand for our products and services; | |
| general economic conditions and conditions affecting customer and advertiser spending; | |
| competition and our ability to stabilize customer losses; and | |
| legal and regulatory factors affecting our business. |
Some of these factors are beyond our control. If we are unable to generate sufficient cash flow, we may not be able to service and repay our debt, operate our business, respond to competitive challenges or fund our other liquidity and capital needs. Cash flows from operating activities and amounts available under our credit facilities may not be sufficient to permit us to fund our operations and satisfy our principal repayment obligations that come due in 2006 and, we believe, such amounts will not be sufficient to fund our operations and satisfy such repayment obligations thereafter.
Additionally, franchise valuations performed in accordance with the requirements of Statement of Financial Accounting Standards (SFAS) No. 142, Goodwill and Other Intangible Assets, are based on the projected cash flows derived by selling products and services to new customers in future periods. Declines in future cash flows could result in lower valuations which in turn may result in impairments to the franchise assets in our financial statements.
Charter Operating may not be able to access funds under its credit facilities if it fails to satisfy the covenant restrictions in its credit facilities, which could adversely affect our financial condition and our ability to conduct our business. |
Our subsidiaries have historically relied on access to credit facilities in order to fund operations and to service parent company debt, and we expect such reliance to continue in the future. Unused availability under the Charter Operating credit facilities was approximately $1.2 billion as of March 31, 2005. However, Charter Operatings access to these funds is subject to its satisfaction of the covenants and conditions to borrowing in those facilities.
An event of default under the credit facilities or indentures, if not waived, could result in the acceleration of those debt obligations and, consequently, other debt obligations. Such acceleration could result in the exercise of remedies by our creditors and could force us to seek the protection of the bankruptcy laws, which could materially adversely impact our ability to operate our business and to make payments under our debt instruments. In addition, an event of default under the credit facilities, such as the failure to maintain the applicable required financial ratios, would prevent additional borrowing under our subsidiary credit facilities, which could materially adversely affect our ability to operate our business and to make payments under our debt instruments.
All of our and our subsidiaries outstanding debt is subject to change of control provisions. We may not have the ability to raise the funds necessary to fulfill our obligations under our indebtedness following a change of control, which would place us in default under the applicable debt instruments. |
We may not have the ability to raise the funds necessary to fulfill our obligations under our convertible senior notes and our subsidiaries senior notes, senior discount notes, senior floating rate notes and credit facilities following a change of control. Under the indentures governing our convertible senior notes, upon the occurrence of specified change of control events, including certain specified dispositions of stock by Mr. Allen, we are required to offer to repurchase all of our outstanding convertible senior notes. However, Charter may not have sufficient funds at the time of the change of control event to make the
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Paul G. Allen and his affiliates are not obligated to purchase equity from, contribute to or loan funds to us or any of our subsidiaries in the future. |
Paul G. Allen and his affiliates have purchased equity, contributed funds and provided other financial support to Charter and Charter Communications Holding Company, LLC (Charter Holdco) in the past. However, Mr. Allen and his affiliates are not obligated to purchase equity from, contribute to or loan funds to us or any of our subsidiaries in the future.
Risks Related to Our Business
We operate in a very competitive business environment, which affects our ability to attract and retain customers and can adversely affect our business and operations. We have lost a significant number of customers to direct broadcast satellite competition, and further loss of customers could have a material negative impact on our business. |
The industry in which we operate is highly competitive and has become more so in recent years. In some instances, we compete against companies with fewer regulatory burdens, easier access to financing, greater personnel resources, greater brand name recognition and long-established relationships with regulatory authorities and customers. Increasing consolidation in the cable industry and the repeal of certain ownership rules may provide additional benefits to certain of our competitors, either through access to financing, resources or efficiencies of scale.
Our principal competitor for video services throughout our territory is direct broadcast satellite television services, also known as DBS. Competition from DBS, including intensive marketing efforts, aggressive pricing and the ability of DBS to provide certain services that we are in the process of developing, has had an adverse impact on our ability to retain customers. DBS has grown rapidly over the last several years and continues to do so. The cable industry, including Charter, has lost a significant number of subscribers to DBS competition, and we face serious challenges in this area in the future. We believe that competition from DBS service providers may present greater challenges in areas of lower population density, and that our systems service a higher concentration of such areas than those of other major cable service providers.
Local telephone companies and electric utilities can offer video and other services in competition with us and they increasingly may do so in the future. Certain telephone companies have begun more extensive deployment of fiber in their networks that will enable them to begin providing video services, as well as telephony and high-bandwidth Internet access services, to residential and business customers. Some of these telephone companies have obtained, and are now seeking, franchises or operating authorizations that are less burdensome than existing Charter franchises. The subscription television industry also faces competition from free broadcast television and from other communications and entertainment media.
Further loss of customers to DBS or other alternative video and data services could have a material negative impact on the value of our business and its performance.
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With respect to our Internet access services, we face competition, including intensive marketing efforts and aggressive pricing, from dial-up and digital subscriber line (DSL). DSL service is competitive with high-speed data service over cable systems. Telephone companies (which already have telephone lines into the household, an existing customer base and other operational functions in place) and other companies offer DSL service. In addition, DBS providers have entered into joint marketing arrangements with Internet access providers to offer bundled video and Internet service, which competes with our ability to provide bundled services to our customers.
In order to attract new customers, from time to time we make promotional offers, including offers of temporarily reduced-price or free service. These promotional programs result in significant advertising, programming and operating expenses, and also require us to make capital expenditures to acquire additional digital set-top terminals. Customers who subscribe to our services as a result of these offerings may not remain customers for any significant period of time following the end of the promotional period. A failure to retain existing customers and customers added through promotional offerings or to collect the amounts they owe us could have an adverse effect on our business and financial results.
Mergers, joint ventures and alliances among franchised, wireless or private cable operators, satellite television providers, local exchange carriers and others may provide additional benefits to some of our competitors, either through access to financing, resources or efficiencies of scale, or the ability to provide multiple services in direct competition with us.
We cannot assure you that our cable systems will allow us to compete effectively. Additionally, as we expand our offerings to include other telecommunications services, and to introduce new and enhanced services, we will be subject to competition from other providers of the services we offer. We cannot predict the extent to which competition may affect our business and operations in the future. See Business Competition.
Our dispute with Paul G. Allen concerning the ownership of an interest in CC VIII, LLC could adversely impact the value of our common stock, our ability to repay our debt and our ability to obtain future financing. |
As part of our acquisition of the cable systems owned by Bresnan Communications Company Limited Partnership in February 2000, CC VIII, LLC, our indirect limited liability company subsidiary, issued, after adjustments, 24,273,943 Class A preferred membership units (which we refer to collectively as the CC VIII interest) with a value and an initial capital account of approximately $630 million to certain sellers affiliated with AT&T Broadband, subsequently owned by Comcast Corporation (which we refer to as the Comcast sellers). Our controlling shareholder, Paul G. 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 (which we refer to as 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.
We are in a dispute with Mr. Allen as to whether he is entitled to retain the CC VIII interest, or whether he must exchange that interest for units of our subsidiary, Charter Holdco. The dispute concerns 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. The law firm that prepared the documents for the Bresnan transaction brought this matter to the attention of Charter and representatives of Mr. Allen in 2002. After subsequently conducting an investigation of the relevant facts and circumstances, a Special Committee of Charters Board of Directors determined that a scriveners error had occurred in February 2000 in connection with the preparation of the Bresnan transaction documents, resulting in the inadvertent deletion of a provision that would have required an automatic exchange of the CC VIII interest for 24,273,943 Charter Holdco membership units if the Comcast sellers exercised the Comcast put right and sold the CC VIII interest to Mr. Allen or his affiliates. Mr. Allen disagrees with the Special Committees determinations and contends that the transaction is accurately reflected in the transaction documentation and contemporaneous and subsequent company public disclosures. If the Special
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If it is determined that Mr. Allen is entitled to retain the CC VIII interest, then our indirect interest in CC VIII would continue to exclude the value of Mr. Allens interest in CC VIII, consistent with our current treatment of the CC VIII interest in our financial statements. As a result, the amounts available for repayment of our creditors, including creditors of our subsidiaries, would not include the value represented by Mr. Allens CC VIII interest, and the value of our Class A common stock similarly would not reflect any value attributable to Mr. Allens CC VIII interest. Further, such retained interest in CC VIII could reduce our borrowing capacity (due to a portion of the equity interest being held by a party other than Charter or a Charter subsidiary) or make it more difficult for us to secure financing for our CC VIII subsidiary due to concerns as to possible claims that could be asserted by Mr. Allen as the holder of a minority interest in CC VIII. In addition, if it is determined that Mr. Allen is entitled to retain the CC VIII interest, such retention could complicate efforts to sell our CC VIII subsidiary or its assets to a third party, and Mr. Allen could be entitled to receive a portion of the proceeds of such a sale, thereby reducing the amount of such proceeds that would otherwise be available to us and our security holders.
We are currently the subject of certain lawsuits and other legal matters, the unfavorable outcome of which could adversely affect our business and financial condition. |
A number of putative federal class action lawsuits, which were filed in the U.S. District Court for the Eastern District of Missouri against us and certain of our former and present officers and directors alleging violations of securities laws, and were consolidated for pretrial purposes. In addition, a number of shareholder derivative lawsuits were filed against us in the same and other jurisdictions. A shareholders derivative suit was filed in the U.S. District Court for the Eastern District of Missouri against us and our then current directors. Also, three shareholder derivative suits were filed in Missouri state court against us, our then current directors and our former independent auditor. These state court actions were consolidated. The federal shareholder derivative suit and the consolidated derivative suit each alleged that the defendants breached their fiduciary duties.
Charter entered into Stipulations of Settlement setting forth proposed terms of settlement for the above-described class actions and derivative suits. On May 23, 2005 the United States District Court for the Eastern District of Missouri conducted the final fairness hearing for the actions, and it issued its final order approving the settlement on June 30, 2005. Members of the class have 30 days from the issuance of that order to file an appeal challenging the approval. Two notices of appeal have been filed relating to the settlement, but Charter does not yet know the specific issues presented by such appeals. There can be no assurance that there will not be other appeals, or that any such appeal would not be successful. See Business Legal Proceedings.
In October 2001, two customers, Nikki Nicholls and Geraldine M. Barber, filed a class action suit against Charter Holdco in South Carolina state court purportedly on behalf of a class of Charter Holdcos customers, alleging, among other things, that Charter Holdco improperly charged them a wire maintenance fee without request or permission. They also claimed that Charter Holdco improperly required them to rent analog and/or digital set-top terminals even though their television sets were cable ready. A substantively identical case was filed in the Superior Court of Athens Clarke County, Georgia by Emma S. Tobar on March 26, 2002, alleging a nationwide class for these claims. Following mediation the parties reached a tentative settlement, subject to final documentation and court approval. On November 10, 2004, the court granted final approval of the settlement, rejecting the positions advanced by two objectors to the settlement. On December 13, 2004, the court entered a written order formally
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Furthermore, we are also a party to, or otherwise involved in, other lawsuits, claims, proceedings and legal matters that have arisen in the ordinary course of conducting our business, certain of which are described in Business Legal Proceedings. In addition, our restatement of our 2000, 2001 and 2002 financial statements could lead to additional or expanded claims or investigations.
We cannot predict with certainty the ultimate outcome of any of the lawsuits, claims, proceedings and other legal matters to which we are a party to, or otherwise involved in, due to, among other things, (i) the inherent uncertainties of litigation and legal matters generally, (ii) the remaining conditions to the finalization of the settlements and resolutions described above, (iii) the possibility of appeals and objections to the settlements described above, and (iv) the need for us to comply with, and/or otherwise implement, certain covenants, conditions, undertakings, procedures and other obligations that would be, or have been, imposed under the terms of the settlements and resolutions described above.
The termination of the settlements described above, an unfavorable outcome in any of the lawsuits pending against us, or in any other legal matter, including those described above, or our failure to comply with or properly implement the terms of the settlements described above, could result in substantial potential liabilities and otherwise have a material adverse effect on our business, consolidated financial condition and results of operations, in our liquidity, our operations, and/or our ability to comply with any debt covenants. Further, these legal matters, and our actions in response to them, could result in substantial potential liabilities, additional defense and other costs, increase our indemnification obligations, divert managements attention, and/or adversely affect our ability to execute our business and financial strategies.
See Business Legal Proceedings for additional information concerning these and other litigation matters.
We have a history of net losses and expect to continue to experience net losses. Consequently, we may not have the ability to finance future operations. |
We have had a history of net losses and expect to continue to report net losses for the foreseeable future. Our net losses are principally attributable to insufficient revenue to cover the interest costs we incur because of our high level of debt, the depreciation expenses that we incur resulting from the capital investments we have made in our cable properties, and the amortization and impairment of our franchise intangibles. We expect that these expenses (other than amortization and impairment of franchises) will remain significant, and we expect to continue to report net losses for the foreseeable future. We reported losses before cumulative effect of accounting change of $2.3 billion for 2002, $238 million for 2003 and $3.6 billion for 2004 and $293 million and $352 million for the three months ended March 31, 2004 and 2005, respectively. Continued losses would reduce our cash available from operations to service our indebtedness, as well as limit our ability to finance our operations.
We may not have the ability to pass our increasing programming costs on to our customers, which would adversely affect our cash flow and operating margins. |
Programming has been, and is expected to continue to be, our largest operating expense item. In recent years, the cable industry has experienced a rapid escalation in the cost of programming, particularly sports programming. We expect programming costs to continue to increase because of a variety of factors, including inflationary or negotiated annual increases, additional programming being provided to customers and increased costs to purchase programming. The inability to fully pass these programming cost increases
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If our required capital expenditures exceed our projections, we may not have sufficient funding, which could adversely affect our growth, financial condition and results of operations. |
During the three months ended March 31, 2005, we spent approximately $211 million on capital expenditures. During 2005, we expect capital expenditures to be approximately $1 billion. The actual amount of our capital expenditures depends on the level of growth in high-speed data customers and in the delivery of other advanced services, as well as the cost of introducing any new services. We may need additional capital if there is accelerated growth in high-speed data customers or in the delivery of other advanced services. If we cannot obtain such capital from increases in our cash flow from operating activities, additional borrowings or other sources, our growth, financial condition and results of operations could suffer materially.
Our inability to respond to technological developments and meet customer demand for new products and services could limit our ability to compete effectively. |
Our business is characterized by rapid technological change and the introduction of new products and services. We cannot assure you that we will be able to fund the capital expenditures necessary to keep pace with unanticipated technological developments, or that we will successfully anticipate the demand of our customers for products and services requiring new technology. Our inability to maintain and expand our upgraded systems and provide advanced services in a timely manner, or to anticipate the demands of the marketplace, could materially adversely affect our ability to attract and retain customers. Consequently, our growth, financial condition and results of operations could suffer materially.
We may not be able to carry out our strategy to improve operating results by standardizing and streamlining operations and procedures. |
In prior years, we experienced rapid growth through acquisitions of a number of cable operators and the rapid rebuild and rollout of advanced services. Our future success will depend in part on our ability to standardize and streamline our operations. The failure to implement a consistent corporate culture and management, operating or financial systems or procedures necessary to standardize and streamline our operations and effectively operate our enterprise could have a material adverse effect on our business, results of operations and financial condition.
Recent management changes could disrupt operations. |
Since August 2004, we have experienced a number of changes in our senior management, including changes in our Chief Executive Officer, Chief Financial Officer, Chief Operating Officer, Executive Vice President of Finance and Strategy and Interim co-Chief Financial Officer and our Executive Vice President, General Counsel and Secretary. Further, the individuals currently serving as Chief Executive Officer, Chief Financial Officer and General Counsel are serving in an interim capacity. These senior management changes could disrupt our ability to manage our business as we transition to and integrate a new management team, and any such disruption could adversely affect our operations, growth, financial condition and results of operations.
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Malicious and abusive Internet practices could impair our high-speed data services. |
Our high-speed data customers utilize our network to access the Internet and, as a consequence, we or they may become victim to common malicious and abusive Internet activities, such as unsolicited mass advertising (or spam) and dissemination of viruses, worms and other destructive or disruptive software. These activities could have adverse consequences on our network and our customers, including degradation of service, excessive call volume to call centers and damage to our or our customers equipment and data. Significant incidents could lead to customer dissatisfaction and, ultimately, loss of customers or revenue, in addition to increased costs to us to service our customers and protect our network. Any significant loss of high-speed data customers or revenue or significant increase in costs of serving those customers could adversely affect our growth, financial condition and results of operations.
We could be deemed an investment company under the Investment Company Act of 1940. This would impose significant restrictions on us and would be likely to have a material adverse impact on our growth, financial condition and results of operation. |
Our principal assets are our equity interests in Charter Holdco and certain indebtedness of Charter Holdco. If our membership interest in Charter Holdco were to constitute less than 50% of the voting securities issued by Charter Holdco, then our interest in Charter Holdco could be deemed an investment security for purposes of the Investment Company Act. This may occur, for example, if a court determines that the Class B common stock is no longer entitled to special voting rights and, in accordance with the terms of the Charter Holdco limited liability company agreement, our membership units in Charter Holdco were to lose their special voting privileges. A determination that such interest was an investment security could cause us to be deemed to be an investment company under the Investment Company Act, unless an exemption from registration were available or we were to obtain an order of the Securities and Exchange Commission excluding or exempting us from registration under the Investment Company Act.
If anything were to happen which would cause us to be deemed an investment company, the Investment Company Act would impose significant restrictions on us, including severe limitations on our ability to borrow money, to issue additional capital stock and to transact business with affiliates. In addition, because our operations are very different from those of the typical registered investment company, regulation under the Investment Company Act could affect us in other ways that are extremely difficult to predict. In sum, if we were deemed to be an investment company it could become impractical for us to continue our business as currently conducted and our growth, our financial condition and our results of operations could suffer materially.
If a court determines that the Class B common stock is no longer entitled to special voting rights, we would lose our rights to manage Charter Holdco. In addition to the investment company risks discussed above, this could materially impact the value of the Class A common stock. |
If a court determines that the Class B common stock is no longer entitled to special voting rights, Charter would no longer have a controlling voting interest in, and would lose its right to manage, Charter Holdco. If this were to occur:
| we would retain our proportional equity interest in Charter Holdco but would lose all of our powers to direct the management and affairs of Charter Holdco and its subsidiaries; and | |
| we would become strictly a passive investment vehicle and would be treated under the Investment Company Act as an investment company. |
This result, as well as the impact of being treated under the Investment Company Act as an investment company, could materially adversely impact:
| the liquidity of the Class A common stock; | |
| how the Class A common stock trades in the marketplace; |
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| the price that purchasers would be willing to pay for the Class A common stock in a change of control transaction or otherwise; and | |
| the market price of the Class A common stock. |
Uncertainties that may arise with respect to the nature of our management role and voting power and organizational documents as a result of any challenge to the special voting rights of the Class B common stock, including legal actions or proceedings relating thereto, may also materially adversely impact the value of the Class A common stock.
Risks Related to Mr. Allens Controlling Position
The failure by Mr. Allen to maintain a minimum voting and economic interest in us could trigger a change of control default under our subsidiarys credit facilities. |
The Charter Operating credit facilities provide that the failure by Mr. Allen to maintain a 35% direct or indirect voting interest in the applicable borrower would result in a change of control default. Such a default could result in the acceleration of repayment of our and our subsidiaries indebtedness, including borrowings under the Charter Operating credit facilities. See Risks Related to Significant Indebtedness of Us and Our Subsidiaries All of our and our subsidiaries outstanding debt is subject to change of control provisions. We may not have the ability to raise the funds necessary to fulfill our obligations under our indebtedness following a change of control, which would place us in default under the applicable debt instruments.
Mr. Allen controls our stockholder voting and may have interests that conflict with your interests. |
Mr. Allen has the ability to control us. Through his control of approximately 93% of the voting power of our capital stock prior to completion of this offering, Mr. Allen, as sole Class B shareholder, is entitled to elect all but one of our board members and effectively has the voting power to elect the remaining board member as well since he controls more than the majority of the vote of the Class A and Class B shareholders voting together as a class. By virtue of Mr. Allens control of the voting power of Charter, we are a controlled company under Nasdaq rule 4350(c)(5) and are not subject to requirements that a majority of our directors be independent (as defined in Nasdaqs rules) or that there be a nominating committee of Charters board. Charter does not have a nominating committee. Mr. Allen thus has the ability to control fundamental corporate transactions requiring equity holder approval, including, but not limited to, the election of all of our directors, approval of merger transactions involving us and the sale of all or substantially all of our assets.
Mr. Allen is not restricted from investing in, and has invested and engaged in, other businesses involving or related to the operation of cable television systems, video programming, high-speed data service, telephony or business and financial transactions conducted through broadband interactivity and Internet services. Mr. Allen may also engage in other businesses that compete or may in the future compete with us.
Mr. Allens control over our management and affairs could create conflicts of interest if he is faced with decisions that could have different implications for him, us and the holders of our Class A common stock. Further, Mr. Allen could effectively cause us to enter into contracts with another entity in which he owns an interest or to decline a transaction into which he (or another entity in which he owns an interest) ultimately enters.
Current and future agreements between us and either Mr. Allen or his affiliates may not be the result of arms-length negotiations. Consequently, such agreements may be less favorable to us than agreements that we could otherwise have entered into with unaffiliated third parties. See Certain Relationships and Related Transactions.
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We are not permitted to engage in any business activity other than the cable transmission of video, audio and data unless Mr. Allen authorizes us to pursue that particular business activity, which could adversely affect our ability to offer new products and services outside of the cable transmission business and to enter into new businesses, and could adversely affect our growth, financial condition and results of operations. |
Our certificate of incorporation and Charter Holdcos limited liability company agreement provide that Charter and Charter Holdco and its subsidiaries, cannot engage in any business activity outside the cable transmission business except for specified businesses. This will be the case unless we first offer the opportunity to pursue the particular business activity to Mr. Allen, he decides not to pursue it and he consents to our engaging in the business activity. The cable transmission business means the business of transmitting video, audio (including telephone services), and data over cable television systems owned, operated or managed by us from time to time. These provisions may limit our ability to take advantage of attractive business opportunities.
The loss of Mr. Allens services could adversely affect our ability to manage our business. |
Mr. Allen is Chairman of our board of directors and provides strategic guidance and other services to us. If we were to lose his services, our growth, financial condition and results of operations could be adversely impacted.
The special tax allocation provisions of the Charter Holdco limited liability company agreement may cause us in some circumstances to pay more taxes than if the special tax allocation provisions were not in effect. |
Charter Holdcos limited liability company agreement provided that through the end of 2003, net tax losses of Charter Holdco that would otherwise have been allocated to us based generally on our percentage ownership of outstanding common membership units of Charter Holdco would instead be allocated to the membership units held by Vulcan Cable III Inc. and Charter Investment, Inc. The purpose of these special tax allocation provisions was to allow Mr. Allen to take advantage for tax purposes of the losses generated by Charter Holdco. However, beginning in 2002, due to tax capital account limitations, certain net tax losses of Charter Holdco were allocated to us and have continued to be so allocated since that time. The limited liability company agreement further provides that beginning at the time that Charter Holdco generates net tax profits (as determined under the applicable federal income tax rules for determining book profits), the net tax profits that would otherwise have been allocated to us based generally on our percentage of outstanding common membership units of Charter Holdco will instead generally be allocated to membership units held by Vulcan Cable III Inc. and Charter Investment, Inc. In some situations, the special tax allocation provisions could result in our having to pay taxes in an amount that is more or less than if Charter Holdco had allocated net tax losses and net tax profits to its members based generally on the percentage of outstanding common membership units owned by such members from the time of the completion of the offering. See Description of Capital Stock and Membership Units Special Tax Allocation Provisions. For further discussion on the details of the tax allocation provisions see Managements Discussion and Analysis of Financial Condition and Results of Operations Critical Accounting Policies and Estimates Income Taxes.
The issuance of our Class A common stock offered hereby pursuant to the share lending agreement, as well as possible future conversions of our convertible notes, significantly increase the risk that we will experience an ownership change in the future for tax purposes, resulting in a material limitation on the use of a substantial amount of our existing net operating loss carryforwards. |
As of March 31, 2005, Charter had approximately $5.4 billion of tax net operating losses (resulting in a gross deferred tax asset of approximately $2.1 billion), expiring in the years 2010 through 2025. Due to uncertainties in projected future taxable income, valuation allowances have been established against the gross deferred tax assets for book accounting purposes except for deferred benefits available to offset certain deferred tax liabilities. Currently, such tax net operating losses can accumulate and be used to
20
Risks Related to Regulatory and Legislative Matters
Our business is subject to extensive governmental legislation and regulation, which could adversely affect our business. |
Regulation of the cable industry has increased cable operators administrative and operational expenses and limited their revenues. Cable operators are subject to, among other things:
| rules governing the provision of cable equipment and compatibility with new digital technologies; | |
| rules and regulations relating to subscriber privacy; | |
| limited rate regulation; | |
| requirements governing when a cable system must carry a particular broadcast station and when it must first obtain consent to carry a broadcast station; | |
| rules for franchise renewals and transfers; and | |
| other requirements covering a variety of operational areas such as equal employment opportunity, technical standards and customer service requirements. |
Additionally, many aspects of these regulations are currently the subject of judicial proceedings and administrative or legislative proposals. There are also ongoing efforts to amend or expand the federal, state and local regulation of some of our cable systems, which may compound the regulatory risks we already face. Certain states and localities are considering new telecommunications taxes that could increase operating expenses.
Our cable systems are operated under franchises that are subject to non-renewal or termination. The failure to renew a franchise in one or more key markets could adversely affect our business. |
Our cable systems generally operate pursuant to franchises, permits and similar authorizations issued by a state or local governmental authority controlling the public rights-of-way. Many franchises establish comprehensive facilities and service requirements, as well as specific customer service standards and monetary penalties for non-compliance. In many cases, franchises are terminable if the franchisee fails to comply with significant provisions set forth in the franchise agreement governing system operations. Franchises are generally granted for fixed terms and must be periodically renewed. Local franchising authorities may resist granting a renewal if either past performance or the prospective operating proposal is considered inadequate. Franchise authorities often demand concessions or other commitments as a condition to renewal. In some instances, franchises have not been renewed at expiration, and we have operated and are operating under either temporary operating agreements or without a license while
21
We cannot assure you that we will be able to comply with all significant provisions of our franchise agreements and certain of our franchisors have from time to time alleged that we have not complied with these agreements. Additionally, although historically we have renewed our franchises without incurring significant costs, we cannot assure you that we will be able to renew, or to renew as favorably, our franchises in the future. A termination of and/or a sustained failure to renew a franchise in one or more key markets could adversely affect our business in the affected geographic area.
Our cable systems are operated under franchises that are non-exclusive. Accordingly, local franchising authorities can grant additional franchises and create competition in market areas where none existed previously, resulting in overbuilds, which could adversely affect results of operations. |
Our cable systems are operated under non-exclusive franchises granted by local franchising authorities. Consequently, local franchising authorities can grant additional franchises to competitors in the same geographic area or operate their own cable systems. In addition, certain telephone companies are seeking authority to operate in local communities without first obtaining a local franchise. As a result, competing operators may build systems in areas in which we hold franchises. In some cases municipal utilities may legally compete with us without obtaining a franchise from the local franchising authority. The existence of more than one cable system operating in the same territory is referred to as an overbuild. These overbuilds could adversely affect our growth, financial condition and results of operations by creating or increasing competition. As of March 31, 2005, we are aware of overbuild situations impacting approximately 5% of our estimated homes passed, and potential overbuild situations in areas servicing approximately 1% of our estimated homes passed. Additional overbuild situations may occur in other systems.
Local franchise authorities have the ability to impose additional regulatory constraints on our business, which could further increase our expenses. |
In addition to the franchise agreement, cable authorities in some jurisdictions have adopted cable regulatory ordinances that further regulate the operation of cable systems. This additional regulation increases the cost of operating our business. We cannot assure you that the local franchising authorities will not impose new and more restrictive requirements. Local franchising authorities also have the power to reduce rates and order refunds on the rates charged for basic services.
Further regulation of the cable industry could cause us to delay or cancel service or programming enhancements or impair our ability to raise rates to cover our increasing costs, resulting in increased losses. |
Currently, rate regulation is strictly limited to the basic service tier and associated equipment and installation activities. However, the Federal Communications Commission (or FCC) and the U.S. Congress continue to be concerned that cable rate increases are exceeding inflation. It is possible that either the FCC or the U.S. Congress will again restrict the ability of cable system operators to implement rate increases. Should this occur, it would impede our ability to raise our rates. If we are unable to raise our rates in response to increasing costs, our losses would increase.
There has been considerable legislative interest recently in requiring cable operators to offer historically bundled programming services on an á la carte basis. Although the FCC recently made a recommendation to Congress against the imposition of an á la carte mandate, it is still possible that new marketing restrictions could be adopted in the future. Such restrictions could adversely affect our operations.
22
Actions by pole owners might subject us to significantly increased pole attachment costs. |
Pole attachments are cable wires that are attached to poles. Cable system attachments to public utility poles historically have been regulated at the federal or state level, generally resulting in favorable pole attachment rates for attachments used to provide cable service. The FCC clarified that a cable operators favorable pole rates are not endangered by the provision of Internet access, and that approach ultimately was upheld by the Supreme Court of the United States. Despite the existing regulatory regime, utility pole owners in many areas are attempting to raise pole attachment fees and impose additional costs on cable operators and others. In addition, the favorable pole attachment rates afforded cable operators under federal law can be increased by utility companies if the operator provides telecommunications services, as well as cable service, over cable wires attached to utility poles. Any significant increased costs could have a material adverse impact on our profitability and discourage system upgrades and the introduction of new products and services.
We may be required to provide access to our networks to other Internet service providers, which could significantly increase our competition and adversely affect our ability to provide new products and services. |
A number of companies, including independent Internet service providers, or ISPs, have requested local authorities and the FCC to require cable operators to provide non-discriminatory access to cables broadband infrastructure, so that these companies may deliver Internet services directly to customers over cable facilities. In a June 2005 ruling, commonly referred to as Brand X, the Supreme Court upheld an FCC decision (and overruled a conflicting Ninth Circuit opinion) making it much less likely that any non-discriminatory open access requirements (which are generally associated with common carrier regulation of telecommunications services) will be imposed on the cable industry by local, state or federal authorities. The Supreme Court held that the FCC was correct in classifying cable provided Internet service as an information service, rather than a telecommunications service. This favorable regulatory classification limits the ability of various governmental authorities to impose open access requirements on cable-provided Internet service. Given the recency of the Brand X decision, however, the nature of any legislative or regulatory response remains uncertain. The imposition of open access requirements could materially affect our business.
If we were required to allocate a portion of our bandwidth capacity to other Internet service providers, we believe that it would impair our ability to use our bandwidth in ways that would generate maximum revenues.
Changes in channel carriage regulations could impose significant additional costs on us. |
Cable operators also face significant regulation of their channel carriage. They currently can be required to devote substantial capacity to the carriage of programming that they would not carry voluntarily, including certain local broadcast signals, local public, educational and government access programming, and unaffiliated commercial leased access programming. This carriage burden could increase in the future, particularly if cable systems were required to carry both the analog and digital versions of local broadcast signals (dual carriage) or to carry multiple program streams included with a single digital broadcast transmission (multicast carriage). Additional government-mandated broadcast carriage obligations could disrupt existing programming commitments, interfere with our preferred use of limited channel capacity and limit our ability to offer services that would maximize customer appeal and revenue potential. Although the FCC issued a decision in February 2005, confirming an earlier ruling against mandating either dual carriage or multicast carriage, that decision has been appealed. In addition, the FCC could reverse its own ruling or Congress could legislate additional carriage obligations.
23
Offering voice communications service may subject us to additional regulatory burdens, causing us to incur additional costs. |
In 2002, we began to offer voice communications services on a limited basis over our broadband network. We continue to explore development and deployment of VOIP services. The regulatory requirements applicable to VOIP service are unclear although the FCC has declared that certain VOIP services are not subject to traditional state public utility regulation. The full extent of the FCC preemption of VOIP services is not yet clear. Expanding our offering of these services may require us to obtain certain authorizations, including federal, state and local licenses. We may not be able to obtain such authorizations in a timely manner, or conditions could be imposed upon such licenses or authorizations that may not be favorable to us. Furthermore, telecommunications companies generally are subject to significant regulation, including payments to the Federal Universal Service Fund and the intercarrier compensation regime, and it may be difficult or costly for us to comply with such regulations, were it to be determined that they applied to VOIP offerings such as ours. In addition, pole attachment rates are higher for providers of telecommunications services than for providers of cable service. If there were to be a final legal determination by the FCC, a state Public Utility Commission, or appropriate court that VOIP services are subject to these higher rates, our pole attachment costs could increase significantly, which could adversely affect our financial condition and results of operations.
Additional Risks Related to this Offering
The market price of our Class A common stock may be volatile, which could cause the value of your investment to decline. |
It is impossible to predict whether the price of our Class A common stock will rise or fall. Trading prices of our Class A common stock will be influenced by our operating results and prospects and by economic, financial, regulatory and other factors. In addition, general market conditions, including the level of, and fluctuations in, the trading prices of stocks generally, and sales of substantial amounts of our Class A common stock by us in the market after this offering, or the perception that such sales may occur, could affect the price of our Class A common stock.
The price of our Class A common stock also could be affected by any sales of our Class A common stock by investors who view our recently issued 5.875% convertible senior notes as a more attractive means of equity participation in our company. Some investors in our Class A common stock may decide to sell some or all of their shares and purchase our 5.875% convertible senior notes instead. Such sales of our Class A common stock could cause the trading price to decline. The hedging or arbitrage trading activity that has developed and could further develop with respect to our Class A common stock as a result of the November 2004 issuance of our 5.875% convertible senior notes could also cause a decline or retard any increase in the trading price of our Class A common stock since investors in the convertible senior notes may sell short our Class A common stock in order to establish initial hedge positions, and may increase those positions, particularly as the trading price of our Class A common stock increases, in order to hedge their 5.875% convertible senior notes. See Share Lending Agreement.
We understand that many holders of our 5.875% convertible senior notes have been able to borrow shares of our Class A common stock for the purpose of establishing short positions in the stock. To the extent that those same holders seek to establish short positions with Citigroup through private hedging transactions in connection with this offering, we believe such holders are likely to seek to close out their existing share borrow arrangements using shares purchased in the open market. Such purchases could cause extreme volatility in the trading price of our Class A common stock, including temporary increases in the price as short term demand increases.
The market price of our Class A common stock could be adversely affected by the large number of additional shares of Class A common stock eligible for issuance in the future. |
As of March 31, 2005, 304,763,192 shares of Class A common stock were issued and outstanding, and 50,000 shares of Class B common stock were issued and outstanding. An additional 339,132,031 shares of
24
The failure to maintain a minimum share price of $1.00 per share of Class A common stock could result in delisting of our shares on the Nasdaq National Market, which would harm the market price of our Class A common stock. |
In order to retain our listing on the Nasdaq National Market we are required to maintain a minimum bid price of $1.00 per share. Although, as of July 25, 2005, the trading price of our Class A common stock was $1.30 per share, our stock has traded below this $1.00 minimum in the recent past. If the bid price falls below the $1.00 minimum for more than 30 consecutive trading days, we will have 180 days to satisfy the $1.00 minimum bid price for a period of at least 10 trading days. If we are unable to take action to increase the bid price per share (either by reverse stock split or otherwise), we could be subject to delisting from the Nasdaq National Market.
The failure to maintain our listing on the Nasdaq National Market would harm the liquidity of our Class A common stock and would have adverse effect on the market price of our common stock. If the stock were to trade it would likely trade on the OTC pink sheets, which provide significantly less liquidity than does Nasdaq. As a result, the liquidity of our common stock would be impaired, not only in the number of shares which could be bought and sold, but also through delays in the timing of transactions, reduction in security analysts and news medias coverage and lower prices for our common stock than might otherwise be attained. In addition, our common stock would become subject to the low-priced security or so-called penny stock rules that impose additional sales practice requirements on broker-dealers who sell such securities.
25
The effect of the issuance of our shares of Class A common stock pursuant to the share lending agreement and upon conversion of our 5.875% convertible notes, including sales of our Class A common stock in short sale transactions by the holders of the 5.875% convertible notes, may have a negative effect on the market price of our Class A common stock. |
We have agreed pursuant to a share lending agreement to lend to Citigroup Global Markets Limited up to 150 million shares of our common stock, including the 27.2 million shares that are being offered pursuant to this prospectus. In addition, in November 2004, we sold $862.5 million original aggregate principal amount of 5.875% convertible senior notes due 2009, which are currently convertible into approximately 356 million shares of our Class A common stock. We have been advised by Citigroup Global Markets Limited that it or an affiliate intends to facilitate the establishment by holders of those convertible notes of hedged positions in the convertible notes. While issuance of shares upon the conversion of the convertible notes may result in a reduction of an equal number in the outstanding borrowed shares under the share lending agreement, the increase in the number of shares of our Class A common stock issued or issuable pursuant to the share lending agreement or upon conversion of the 5.875% convertible senior notes could have a negative effect on the market price of our Class A common stock. Since there will be more shares sold or available for sale, the market price of our Class A common stock may decline or not increase as much as it might have without the availability of such shares. The market price of our Class A common stock also could decline as a result of other short sales of our Class A common stock by the purchasers of the 5.875% convertible senior notes to hedge their investment in the convertible notes. We understand that many investors in our 5.875% convertible senior notes have already hedged their investment by selling additional shares of our Class A common stock short in order to establish initial hedge positions. This offering may result in establishment of hedged positions by other holders or in replacement of existing hedged position by those holders who are already hedged. We expect that all such hedged parties may increase those positions as the market price of the Class A common stock increases, since such price increases will increase the likelihood that such holders will convert their 5.875% convertible senior notes and receive Class A common stock. Therefore, such short sales could retard any increase in the market price of our Class A common stock or cause a decline. See Business Legal Proceedings, Share Lending Agreement and Underwriting.
26
USE OF PROCEEDS
None of the proceeds from the sale of our Class A common stock offered by this prospectus will be received by us. However, pursuant to the share lending agreement, we will receive a loan fee of $0.001 for each share that we lend to Citigroup Global Markets Limited, which will be used for general corporate purposes. See Share Lending Agreement.
27
PRICE RANGE OF COMMON STOCK AND DIVIDEND POLICY
Our Class A common stock is quoted on the Nasdaq National Market under the symbol CHTR. The following table sets forth, for the periods indicated, the range of high and low last reported sale price per share of Class A common stock on the Nasdaq National Market. There is no established trading market for our Class B common stock.
2005 | High | Low | ||||||
First Quarter
|
$ | 2.30 | $ | 1.35 | ||||
Second Quarter
|
$ | 1.53 | $ | 0.90 | ||||
Third Quarter through July 25
|
$ | 1.39 | $ | 1.20 |
2004 | High | Low | ||||||
First Quarter
|
$ | 5.43 | $ | 3.99 | ||||
Second Quarter
|
$ | 4.70 | $ | 3.61 | ||||
Third Quarter
|
$ | 3.90 | $ | 2.61 | ||||
Fourth Quarter
|
$ | 3.01 | $ | 2.03 |
2003 | High | Low | ||||||
First Quarter
|
$ | 1.73 | $ | 0.76 | ||||
Second Quarter
|
$ | 4.18 | $ | 0.94 | ||||
Third Quarter
|
$ | 5.50 | $ | 3.32 | ||||
Fourth Quarter
|
$ | 4.71 | $ | 3.72 |
2002 | High | Low | ||||||
First Quarter
|
$ | 16.85 | $ | 9.10 | ||||
Second Quarter
|
$ | 11.53 | $ | 2.96 | ||||
Third Quarter
|
$ | 4.65 | $ | 1.81 | ||||
Fourth Quarter
|
$ | 2.27 | $ | 0.76 |
As of March 31, 2005, there were 3,786 holders of record of our Class A common stock, one holder of our Class B common stock, and 10 holders of record of our Series A Convertible Redeemable Preferred Stock.
The last reported sale price of our Class A common stock on the Nasdaq National Market on July 25, 2005 was $1.30 per share.
We have never paid and do not expect to pay any cash dividends on our Class A common stock in the foreseeable future. Charter Holdco is required under certain circumstances to pay distributions pro rata to all its common members to the extent necessary for any common member to pay taxes incurred with respect to its share of taxable income attributed to Charter Holdco. Covenants in the indentures and credit agreements governing the debt of our subsidiaries restrict their ability to make distributions to us and, accordingly, limit our ability to declare or pay cash dividends. We intend to cause Charter Holdco and its subsidiaries to retain future earnings, if any, to finance the operation of the business of Charter Holdco and its subsidiaries. In addition, we may only pay dividends from legally available surplus under Delaware law. Charter elected not to declare the March 31 and June 30, 2005 dividends on its Series A Convertible Redeemable Preferred Stock because it was unable to conclude with certainty that it had such surplus. Under the Certificate of Designation governing the Series A Convertible Redeemable Preferred Stock, we may not pay dividends on our common stock unless and until the full cumulative dividends on all outstanding shares of the Series A Preferred Stock have been paid for all past dividend periods and sufficient funds shall have been set aside for payment of the dividend on the Series A Convertible Redeemable Preferred Stock for the then current dividend period.
28
CAPITALIZATION
The following table sets forth as of March 31, 2005, on a consolidated basis the actual (historical) capitalization of Charter.
The following information should be read in conjunction with Selected Historical Consolidated Financial Data, Unaudited Pro Forma Consolidated Financial Statements, Managements Discussion and Analysis of Financial Condition and Results of Operations and the historical consolidated financial statements and related notes included elsewhere in this prospectus.
As of | |||||||
March 31, | |||||||
2005 | |||||||
Actual | |||||||
(Dollars | |||||||
in | |||||||
millions) | |||||||
Cash and cash equivalents
|
$ | 32 | |||||
Long-term debt:
|
|||||||
Charter Communications, Inc.:
|
|||||||
5.875% convertible senior notes due 2009(a)
|
$ | 835 | |||||
4.75% convertible senior notes due 2006
|
122 | ||||||
Charter Holdings:
|
|||||||
Senior and senior discount notes(b)
|
8,346 | ||||||
CCH II:
|
|||||||
10.250% senior notes due 2010
|
1,601 | ||||||
CCO Holdings:
|
|||||||
8 3/4% senior notes due 2013
|
500 | ||||||
Senior floating rate notes due 2010
|
550 | ||||||
Charter Operating:
|
|||||||
8.000% senior second lien notes
|
1,100 | ||||||
8.375% senior second lien notes
|
671 | ||||||
Renaissance:
|
|||||||
10.00% senior discount notes due 2008
|
116 | ||||||
Credit facilities:
|
|||||||
Charter Operating(c)
|
5,088 | ||||||
Total long-term debt
|
18,929 | ||||||
Preferred stock
redeemable(d)
|
55 | ||||||
Minority interest(e)
|
656 | ||||||
Shareholders deficit:
|
|||||||
Class A common stock; $.001 par value;
1.75 billion shares authorized; 304,763,192 shares
issued and outstanding(f)
|
| ||||||
Class B common stock; $.001 par value;
750 million shares authorized; 50,000 shares issued
and outstanding
|
| ||||||
Preferred stock; $.001 par value;
250 million shares
|
| ||||||
Additional paid-in-capital
|
4,798 | ||||||
Accumulated deficit
|
(9,549 | ) | |||||
Accumulated other comprehensive loss
|
| ||||||
Total shareholders deficit
|
(4,751 | ) | |||||
Total capitalization
|
$ | 14,889 | |||||
(a) | Represents $863 million of 5.875% convertible senior notes of which $30 million, related to certain provisions of the 5.875% convertible senior notes that for accounting purposes were derivatives which required bifurcation, was recorded as accounts payable and accrued expenses and other long-term liabilities with the resulting long-term debt of $832 million. The debt has accreted to $835 million at March 31, 2005 and will accrete to the $863 million face value over three years, the duration of our pledged securities. |
29
As of March 31, | ||||||
2005 | ||||||
Actual | ||||||
(Dollars in | ||||||
millions) | ||||||
(b)
|
Represents the following Charter Holdings notes: | |||||
8.250% senior notes due 2007 | $ | 167 | ||||
8.625% senior notes due 2009 | 1,243 | |||||
9.920% senior discount notes due 2011 | 1,108 | |||||
10.000% senior notes due 2009 | 640 | |||||
10.250% senior notes due 2010 | 318 | |||||
11.750% senior discount notes due 2010 | 450 | |||||
10.750% senior notes due 2009 | 874 | |||||
11.125% senior notes due 2011 | 500 | |||||
13.500% senior discount notes due 2011 | 608 | |||||
9.625% senior notes due 2009 | 638 | |||||
10.000% senior notes due 2011 | 708 | |||||
11.750% senior discount notes due 2011 | 825 | |||||
12.125% senior discount notes due 2012 | 267 | |||||
Total | $ | 8,346 | ||||
(c) | The amounts outstanding under the Charter Operating credit facilities as of March 31, 2005 totaled $5.1 billion. Borrowing availability under the credit facilities totaled $1.2 billion as of March 31, 2005, none of which was restricted due to covenants. | |
(d) | In connection with Charters acquisition of Cable USA, Inc. and certain cable system assets from affiliates of Cable USA, Inc., Charter issued 545,259 shares of Series A Convertible Redeemable Preferred Stock valued at and with a liquidation preference of $55 million. Holders of the preferred stock have no voting rights but are entitled to receive cumulative cash dividends at an annual rate of 5.75%, payable quarterly or 7.75% if not paid but accrued. Beginning January 1, 2005, Charter is accruing the dividend on its Series A Convertible Redeemable Preferred Stock. The preferred stock is redeemable by Charter at its option on or after August 31, 2004 and must be redeemed by Charter at any time upon a change of control, or if not previously redeemed or converted, on August 31, 2008. The preferred stock is convertible, in whole or in part, at the option of the holders from April 1, 2002 through August 31, 2008, into shares of Class A common stock at an initial conversion rate equal to a conversion price of $24.71 per share of Class A common stock, subject to certain customary adjustments. | |
(e) | Minority interest represents the percentage of Charter Communications Holding Company, LLC not owned by Charter, or approximately 53% of total members equity of Charter Communications Holding Company, LLC, plus $656 million of preferred membership interests in CC VIII, LLC, an indirect subsidiary of Charter Communications Holding Company, LLC. Paul G. Allen indirectly holds the preferred membership units in CC VIII as a result of the exercise of put rights originally granted in connection with the Bresnan transaction in 2000. An issue has arisen regarding the ultimate ownership of the CC VIII membership interests following the consummation of the Bresnan put transaction on June 6, 2003. See Certain Relationships and Related Transactions Transactions Arising Out of Our Organizational Structure and Mr. Allens Investment in Charter and its Subsidiaries Equity Put Rights CC VIII. | |
(f) | Although the shares offered by this prospectus will be considered issued and outstanding, we do not expect they will impact our earnings per share under current accounting literature. See Share Lending Agreement for further discussion related to the accounting of the share lending agreement. Pro forma for the issuance of these shares, at March 31, 2005 there were 331,933,192 shares issued and outstanding. |
30
UNAUDITED PRO FORMA CONSOLIDATED FINANCIAL STATEMENTS
The following unaudited pro forma consolidated financial statements are based on the historical consolidated financial statements of Charter, adjusted on a pro forma basis to reflect the following transactions as if they had occurred on January 1, 2004 (for the unaudited pro forma consolidated statement of operations):
(1) the disposition of certain assets in March and April 2004, with proceeds used to pay down credit facilities; | |
(2) the issuance and sale of the CCO Holdings senior floating rate notes in December 2004 and the Charter Operating senior second lien notes in April 2004; | |
(3) an increase in amounts outstanding under the Charter Operating credit facilities in April 2004 and the use of such funds, together with the proceeds from the sale of the Charter Operating senior second lien notes, to refinance amounts outstanding under the credit facilities of our subsidiaries, CC VI Operating, CC VIII Operating and Falcon; | |
(4) the repayment of $530 million of borrowings under the Charter Operating revolving credit facility with net proceeds from the issuance and sale of the CCO Holdings senior floating rate notes in December 2004, which were included in our cash balance at December 31, 2004; | |
(5) the redemption of all of CC V Holdings outstanding 11.875% senior discount notes due 2008 with cash on hand; | |
(6) the issuance and sale of $863 million of 5.875% convertible senior notes in November 2004 with proceeds used for (i) the purchase of certain U.S. government securities pledged as security for the 5.875% convertible senior notes (and which we expect to use to fund the first six interest payments thereon), (ii) redemption of outstanding 5.75% convertible senior notes due 2005 and (iii) general corporate purposes; and | |
(7) the issuance of the shares offered hereby pursuant to a share lending agreement, the sole effect of which is to increase common shares issued and outstanding. See Share Lending Agreement. |
The unaudited pro forma adjustments are based on information available to us as of the date of this prospectus and certain assumptions that we believe are reasonable under the circumstances. The Unaudited Pro Forma Consolidated Financial Statements required allocation of certain revenues and expenses and such information has been presented for comparative purposes and is not intended (a) to provide any indication of what our actual financial position or results of operations would have been had the transactions described above been completed on the dates indicated or (b) to project our results of operations for any future date.
The unaudited pro forma balance sheet as of March 31, 2005 and an unaudited pro forma statement of operations for the three months ended March 31, 2005 are not provided as pro forma adjustments are not significant for that period.
31
CHARTER COMMUNICATIONS, INC.
UNAUDITED PRO FORMA CONSOLIDATED STATEMENT OF OPERATIONS
Asset | Financing | Offering | ||||||||||||||||||||||||
Dispositions | Transactions | Adjustments | ||||||||||||||||||||||||
Historical | (Note A) | (Note B) | Subtotal | (Note C) | Pro Forma | |||||||||||||||||||||
(Dollars in millions, except per share and share amounts) | ||||||||||||||||||||||||||
Revenues
|
||||||||||||||||||||||||||
Video
|
$ | 849 | $ | (21 | ) | $ | | $ | 828 | $ | | $ | 828 | |||||||||||||
High-speed data
|
168 | (3 | ) | | 165 | | 165 | |||||||||||||||||||
Advertising
|
59 | (1 | ) | | 58 | | 58 | |||||||||||||||||||
Commercial
|
56 | (2 | ) | | 54 | | 54 | |||||||||||||||||||
Other
|
82 | (2 | ) | | 80 | | 80 | |||||||||||||||||||
Total
|
1,214 | (29 | ) | | 1,185 | | 1,185 | |||||||||||||||||||
Costs and Expenses
|
||||||||||||||||||||||||||
Operating (excluding depreciation and
amortization)
|
512 | (12 | ) | | 500 | | 500 | |||||||||||||||||||
Selling, general and administrative
|
239 | (4 | ) | | 235 | | 235 | |||||||||||||||||||
Depreciation and amortization
|
370 | (6 | ) | | 364 | | 364 | |||||||||||||||||||
Gain (loss) on sale of assets, net
|
(106 | ) | 105 | | (1 | ) | | (1 | ) | |||||||||||||||||
Option compensation expense, net
|
14 | | | 14 | | 14 | ||||||||||||||||||||
Special charges, net
|
10 | | | 10 | | 10 | ||||||||||||||||||||
1,039 | 83 | | 1,122 | | 1,122 | |||||||||||||||||||||
Income from operations
|
175 | (112 | ) | | 63 | | 63 | |||||||||||||||||||
Interest expense, net
|
(393 | ) | 4 | (29 | ) | (418 | ) | (4 | ) | (422 | ) | |||||||||||||||
Gain on derivative instruments and hedging
activities, net
|
(7 | ) | | | (7 | ) | | (7 | ) | |||||||||||||||||
Loss on debt to equity conversions
|
(8 | ) | | | (8 | ) | | (8 | ) | |||||||||||||||||
Other, net
|
(2 | ) | | | (2 | ) | | (2 | ) | |||||||||||||||||
(410 | ) | 4 | (29 | ) | (435 | ) | (4 | ) | (439 | ) | ||||||||||||||||
Loss before minority interest, income taxes, and
cumulative effect of accounting change
|
(235 | ) | (108 | ) | (29 | ) | (372 | ) | (4 | ) | (376 | ) | ||||||||||||||
Minority interest
|
(4 | ) | | | (4 | ) | | (4 | ) | |||||||||||||||||
Loss before income taxes and cumulative effect of
accounting change
|
(239 | ) | (108 | ) | (29 | ) | (376 | ) | (4 | ) | (380 | ) | ||||||||||||||
Income tax benefit
|
(54 | ) | 14 | | (40 | ) | | (40 | ) | |||||||||||||||||
Loss before cumulative effect of accounting change
|
$ | (293 | ) | $ | (94 | ) | $ | (29 | ) | $ | (416 | ) | $ | (4 | ) | $ | (420 | ) | ||||||||
Loss per common share, basic and diluted
|
$ | (1.00 | ) | $ | (1.43 | ) | ||||||||||||||||||||
Weighted average common shares outstanding, basic
and diluted (Note D)
|
295,106,077 | 295,106,077 | ||||||||||||||||||||||||
32
Note A: Represents the elimination of operating results related to the disposition of certain assets in March and April 2004 and a reduction of interest expense related to the use of the net proceeds from such sales to repay a portion of our subsidiaries credit facilities.
Note B: Represents adjustment to interest expense associated with the completion of the financing transactions discussed in pro forma assumptions two through five (in millions):
Interest on the Charter Operating senior second
lien notes and the amended and restated Charter Operating credit
facilities at a weighted average rate of 4.9%
|
$ | 89 | ||
Interest on CCO Holdings senior floating rate
notes
|
9 | |||
Amortization of deferred financing costs
|
6 | |||
Less:
|
||||
Historical interest expense for Charter Operating
credit facilities and on subsidiary credit facilities repaid
|
(65 | ) | ||
Historical interest expense for Charter
Operatings revolving credit facility repaid with cash on
hand
|
(7 | ) | ||
Historical interest expense for the CC V
Holdings 11.875% senior discount notes due 2008 repaid with cash
on hand.
|
(3 | ) | ||
Net increase in interest expense for other
financing transactions
|
$ | 29 | ||
Note C: Represents the increase in interest expense from the issuance of $863 million of convertible senior notes due 2009 with a stated interest rate of 5.875% and the amortization of deferred debt issuance cost associated with such issuance, reduced by the use of proceeds to retire $588 million of our then outstanding 5.75% convertible senior notes due 2005 and the interest on the $144 million of securities purchased and pledged as security for interest payments on such debt (in millions):
Interest on the convertible senior notes issued
in November 2004
|
$ | 13 | ||
Amortization of deferred debt issuance costs
|
1 | |||
Less interest from the pledged securities
|
(1 | ) | ||
Less interest on 5.75% convertible senior
notes retired with proceeds
|
(9 | ) | ||
Pro forma interest expense adjustment
|
$ | 4 | ||
Note D: Loss per common share, basic and diluted assumes none of the membership units of Charter Communications Holding Company, LLC are exchanged for Charter common stock and none of the outstanding options to purchase membership units of Charter Communications Holding Company, LLC that are automatically exchanged for Charter common stock are exercised. Basic loss per share equals loss before cumulative effect of accounting change less dividends on preferred stock-redeemable divided by weighted average shares outstanding. If the membership units were exchanged or options exercised, the effects would be antidilutive. Therefore, basic and diluted loss per common share is the same. Although the shares offered by this prospectus will be considered issued and outstanding, we do not expect they will impact our earnings per share under current accounting literature. See Share Lending Agreement for further discussion related to the accounting of the share lending agreement.
33
CHARTER COMMUNICATIONS, INC.
UNAUDITED PRO FORMA CONSOLIDATED STATEMENT OF OPERATIONS
Asset | Financing | Offering | ||||||||||||||||||||||||
Dispositions | Transactions | Adjustments | ||||||||||||||||||||||||
Historical | (Note A) | (Note B) | Subtotal | (Note C) | Pro Forma | |||||||||||||||||||||
(Dollars in millions, except per share and share amounts) | ||||||||||||||||||||||||||
Revenues
|
||||||||||||||||||||||||||
Video
|
$ | 3,373 | $ | (21 | ) | $ | | $ | 3,352 | $ | | $ | 3,352 | |||||||||||||
High-speed data
|
741 | (3 | ) | | 738 | | 738 | |||||||||||||||||||
Advertising
|
289 | (1 | ) | | 288 | | 288 | |||||||||||||||||||
Commercial
|
238 | (2 | ) | | 236 | | 236 | |||||||||||||||||||
Other
|
336 | (2 | ) | | 334 | | 334 | |||||||||||||||||||
Total
|
4,977 | (29 | ) | | 4,948 | | 4,948 | |||||||||||||||||||
Costs and Expenses
|
||||||||||||||||||||||||||
Operating (excluding depreciation and
amortization)
|
2,080 | (12 | ) | | 2,068 | | 2,068 | |||||||||||||||||||
Selling, general and administrative
|
971 | (4 | ) | | 967 | | 967 | |||||||||||||||||||
Depreciation and amortization
|
1,495 | (6 | ) | | 1,489 | | 1,489 | |||||||||||||||||||
Impairments of franchises
|
2,433 | | | 2,433 | | 2,433 | ||||||||||||||||||||
Gain (loss) on sale of assets, net
|
(86 | ) | 105 | | 19 | | 19 | |||||||||||||||||||
Option compensation expense, net
|
31 | | | 31 | | 31 | ||||||||||||||||||||
Special charges, net
|
104 | | | 104 | | 104 | ||||||||||||||||||||
Unfavorable contracts and other settlements
|
(5 | ) | | | (5 | ) | | (5 | ) | |||||||||||||||||
7,023 | 83 | | 7,106 | | 7,106 | |||||||||||||||||||||
Loss from operations
|
(2,046 | ) | (112 | ) | | (2,158 | ) | | (2,158 | ) | ||||||||||||||||
Interest expense, net
|
(1,670 | ) | 4 | (33 | ) | (1,699 | ) | (10 | ) | (1,709 | ) | |||||||||||||||
Gain on derivative instruments and hedging
activities, net
|
69 | | | 69 | | 69 | ||||||||||||||||||||
Loss on debt to equity conversions
|
(23 | ) | | | (23 | ) | | (23 | ) | |||||||||||||||||
Loss on extinguishment of debt
|
(31 | ) | | 21 | (10 | ) | 10 | | ||||||||||||||||||
Other, net
|
3 | | | 3 | | 3 | ||||||||||||||||||||
(1,652 | ) | 4 | (12 | ) | (1,660 | ) | | (1,660 | ) | |||||||||||||||||
Loss before minority interest, income taxes, and
cumulative effect of accounting change
|
(3,698 | ) | (108 | ) | (12 | ) | (3,818 | ) | | (3,818 | ) | |||||||||||||||
Minority interest
|
19 | | | 19 | | 19 | ||||||||||||||||||||
Loss before income taxes and cumulative effect of
accounting change
|
(3,679 | ) | (108 | ) | (12 | ) | (3,799 | ) | | (3,799 | ) | |||||||||||||||
Income tax benefit
|
103 | 14 | | 117 | | 117 | ||||||||||||||||||||
Loss before cumulative effect of accounting change
|
$ | (3,576 | ) | $ | (94 | ) | $ | (12 | ) | $ | (3,682 | ) | $ | | $ | (3,682 | ) | |||||||||
Loss per common share, basic and diluted
|
$ | (11.92 | ) | $ | (12.27 | ) | ||||||||||||||||||||
Weighted average common shares outstanding, basic
and diluted (Note D)
|
300,291,877 | 300,291,877 | ||||||||||||||||||||||||
34
Note A: Represents the elimination of operating results related to the disposition of certain assets in March and April 2004 and a reduction of interest expense related to the use of the net proceeds from such sales to repay a portion of our subsidiaries credit facilities.
Note B: Represents adjustment to interest expense associated with the completion of the financing transactions discussed in pro forma assumptions two through five (in millions):
Interest on the Charter Operating senior second
lien notes and the amended and restated Charter Operating credit
facilities at a weighted average rate of 4.9%
|
$ | 114 | ||
Interest on CCO Holdings senior floating rate
notes
|
35 | |||
Amortization of deferred financing costs
|
10 | |||
Less:
|
||||
Historical interest expense for Charter Operating
credit facilities and on subsidiary credit facilities repaid
|
(83 | ) | ||
Historical interest expense for Charter
Operatings revolving credit facility repaid with cash on
hand
|
(30 | ) | ||
Historical interest expense for the CC V
Holdings 11.875% senior discount notes due 2008 repaid with cash
on hand.
|
(13 | ) | ||
Net increase in interest expense for other
financing transactions
|
$ | 33 | ||
Adjustment to loss on extinguishment of debt represents the elimination of the write-off of deferred financing fees and third party costs related to the Charter Operating refinancing in April 2004.
Note C: Represents the increase in interest expense from the issuance of $863 million of convertible senior notes due 2009 with a stated interest rate of 5.875% and the amortization of deferred debt issuance cost associated with such issuance, reduced by the use of proceeds to retire $588 million of our then outstanding 5.75% convertible senior notes due 2005 and the interest on the $144 million of securities purchased and pledged as security for interest payments on such debt (in millions):
Interest on the convertible senior notes issued
in November 2004
|
$ | 45 | ||
Amortization of deferred debt issuance costs
|
4 | |||
Less interest from the pledged securities
|
(2 | ) | ||
Less interest on 5.75% convertible senior
notes retired with proceeds
|
(37 | ) | ||
Pro forma interest expense adjustment
|
$ | 10 | ||
Adjustment to loss on extinguishment of debt represents the elimination of the premium paid to retire the 5.75% convertible senior notes and the write-off of the related deferred financing fees.
Note D: Loss per common share, basic and diluted assumes none of the membership units of Charter Communications Holding Company, LLC are exchanged for Charter common stock and none of the outstanding options to purchase membership units of Charter Communications Holding Company, LLC that are automatically exchanged for Charter common stock are exercised. Basic loss per share equals loss before cumulative effect of accounting change less dividends on preferred stock-redeemable divided by weighted average shares outstanding. If the membership units were exchanged or options exercised, the effects would be antidilutive. Therefore, basic and diluted loss per common share is the same. Although the shares offered by this prospectus will be considered issued and outstanding, we do not expect they will impact our earnings per share under current accounting literature. See Share Lending Agreement for further discussion related to the accounting of the share lending agreement.
35
SELECTED HISTORICAL CONSOLIDATED FINANCIAL DATA
The following table presents summary financial and other data for Charter and its subsidiaries and has been derived from the audited consolidated financial statements of Charter and its subsidiaries for the five years ended December 31, 2004 and the unaudited consolidated financial statements of Charter and its subsidiaries for the three months ended March 31, 2004 and 2005. The consolidated financial statements of Charter and its subsidiaries for the years ended December 31, 2000 to 2004 have been audited by KPMG LLP, an independent registered public accounting firm. The following information should be read in conjunction with Managements Discussion and Analysis of Financial Condition and Results of Operations and the historical consolidated financial statements and related notes included elsewhere in this prospectus.
Three Months Ended | |||||||||||||||||||||||||||||
Year Ended December 31, | March 31, | ||||||||||||||||||||||||||||
2000 | 2001 | 2002 | 2003 | 2004 | 2004 | 2005 | |||||||||||||||||||||||
(Dollars in millions, except share and per share amounts) | |||||||||||||||||||||||||||||
Statement of Operations Data:
|
|||||||||||||||||||||||||||||
Revenues
|
$ | 3,141 | $ | 3,807 | $ | 4,566 | $ | 4,819 | $ | 4,977 | $ | 1,214 | $ | 1,271 | |||||||||||||||
Costs and Expenses:
|
|||||||||||||||||||||||||||||
Operating (excluding depreciation and
amortization)
|
1,187 | 1,486 | 1,807 | 1,952 | 2,080 | 512 | 559 | ||||||||||||||||||||||
Selling, general and administrative
|
606 | 826 | 963 | 940 | 971 | 239 | 237 | ||||||||||||||||||||||
Depreciation and amortization
|
2,398 | 2,683 | 1,436 | 1,453 | 1,495 | 370 | 381 | ||||||||||||||||||||||
Impairment of franchises
|
| | 4,638 | | 2,433 | | | ||||||||||||||||||||||
Asset impairment charges
|
| | | | | | 31 | ||||||||||||||||||||||
(Gain) loss on sale of assets, net
|
| 10 | 3 | 5 | (86 | ) | (106 | ) | 4 | ||||||||||||||||||||
Option compensation expense (income), net
|
38 | (5 | ) | 5 | 4 | 31 | 14 | 4 | |||||||||||||||||||||
Special charges, net
|
| 18 | 36 | 21 | 104 | 10 | 4 | ||||||||||||||||||||||
Unfavorable contracts and other settlements
|
| | | (72 | ) | (5 | ) | | | ||||||||||||||||||||
4,229 | 5,018 | 8,888 | 4,303 | 7,023 | 1,039 | 1,220 | |||||||||||||||||||||||
Income (loss) from operations
|
(1,088 | ) | (1,211 | ) | (4,322 | ) | 516 | (2,046 | ) | 175 | 51 | ||||||||||||||||||
Interest expense, net
|
(1,040 | ) | (1,310 | ) | (1,503 | ) | (1,557 | ) | (1,670 | ) | (393 | ) | (420 | ) | |||||||||||||||
Gain (loss) on derivative instruments and hedging
activities, net
|
| (50 | ) | (115 | ) | 65 | 69 | (7 | ) | 27 | |||||||||||||||||||
Loss on debt to equity conversions
|
| | | | (23 | ) | (8 | ) | | ||||||||||||||||||||
Gain (loss) on extinguishment of debt
|
| | | 267 | (31 | ) | | 7 | |||||||||||||||||||||
Other, net
|
(20 | ) | (59 | ) | (4 | ) | (16 | ) | 3 | (2 | ) | 1 | |||||||||||||||||
Loss before minority interest, income taxes and
cumulative effect of accounting change
|
(2,148 | ) | (2,630 | ) | (5,944 | ) | (725 | ) | (3,698 | ) | (235 | ) | (334 | ) | |||||||||||||||
Minority interest(a)
|
1,280 | 1,461 | 3,176 | 377 | 19 | (4 | ) | (3 | ) | ||||||||||||||||||||
Loss before income taxes and cumulative effect of
accounting change
|
(868 | ) | (1,169 | ) | (2,768 | ) | (348 | ) | (3,679 | ) | (239 | ) | (337 | ) | |||||||||||||||
Income tax benefit (expense)
|
10 | 12 | 460 | 110 | 103 | (54 | ) | (15 | ) | ||||||||||||||||||||
Loss before cumulative effect of accounting change
|
(858 | ) | (1,157 | ) | (2,308 | ) | (238 | ) | (3,576 | ) | (293 | ) | (352 | ) | |||||||||||||||
Cumulative effect of accounting change, net of tax
|
| (10 | ) | (206 | ) | | (765 | ) | | | |||||||||||||||||||
Net loss
|
(858 | ) | (1,167 | ) | (2,514 | ) | (238 | ) | (4,341 | ) | (293 | ) | (352 | ) | |||||||||||||||
Dividends on preferred stock
redeemable
|
| (1 | ) | (3 | ) | (4 | ) | (4 | ) | (1 | ) | (1 | ) | ||||||||||||||||
Net loss applicable to common stock
|
$ | (858 | ) | $ | (1,168 | ) | $ | (2,517 | ) | $ | (242 | ) | $ | (4,345 | ) | $ | (294 | ) | $ | (353 | ) | ||||||||
Loss per common share, basic and diluted
|
$ | (3.80 | ) | $ | (4.33 | ) | $ | (8.55 | ) | $ | (0.82 | ) | $ | (14.47 | ) | $ | (1.00 | ) | $ | (1.16 | ) | ||||||||
Weighted-average common shares outstanding, basic
and diluted
|
225,697,775 | 269,594,386 | 294,440,261 | 294,597,519 | 300,291,877 | 295,106,077 | 303,308,880 | ||||||||||||||||||||||
36
Three Months Ended | ||||||||||||||||||||||||||||
Year Ended December 31, | March 31, | |||||||||||||||||||||||||||
2000 | 2001 | 2002 | 2003 | 2004 | 2004 | 2005 | ||||||||||||||||||||||
(Dollars in millions, except share and per share amounts) | ||||||||||||||||||||||||||||
Other Data:
|
||||||||||||||||||||||||||||
Deficiencies of earnings to cover fixed charges(b)
|
$ | 2,148 | $ | 2,630 | $ | 5,944 | $ | 725 | $ | 3,698 | $ | 235 | $ | 334 | ||||||||||||||
Balance Sheet Data (end of period):
|
||||||||||||||||||||||||||||
Total assets
|
$ | 24,352 | $ | 26,463 | $ | 22,384 | $ | 21,364 | $ | 17,673 | $ | 20,572 | $ | 16,794 | ||||||||||||||
Long-term debt
|
13,061 | 16,343 | 18,671 | 18,647 | 19,464 | 18,108 | 18,929 | |||||||||||||||||||||
Minority interest(a)
|
4,571 | 4,434 | 1,050 | 689 | 648 | 693 | 656 | |||||||||||||||||||||
Redeemable securities
|
1,104 | | | | | | | |||||||||||||||||||||
Preferred stock redeemable
|
| 51 | 51 | 55 | 55 | 55 | 55 | |||||||||||||||||||||
Shareholders equity (deficit)
|
2,767 | 2,585 | 41 | (175 | ) | (4,406 | ) | (441 | ) | (4,751 | ) |
(a) | Minority interest represents the percentage of Charter Communications Holding Company, LLC not owned by Charter, plus preferred membership interests in CC VIII, LLC, an indirect subsidiary of Charter. Paul G. Allen indirectly holds the preferred membership units in CC VIII, LLC as a result of the exercise of a put right originally granted in connection with the Bresnan transaction in 2000. An issue has arisen regarding the ultimate ownership of the CC VIII, LLC membership interest following the consummation of the Bresnan put transaction on June 6, 2003. See Certain Relationships and Related Transactions Transactions Arising Out of Our Organizational Structure and Mr. Allens Investment in Charter and Its Subsidiaries Equity Put Rights CC VIII. Effective January 1, 2005, Charter ceased recognizing minority interest in earnings and losses of CC VIII, LLC for financial reporting purposes until such time as the resolution of the issue is determinable or other events occur. Reported losses allocated to minority interest on the statement of operations are limited to the extent of any remaining minority interest on the balance sheet related to Charter Communications Holding Company, LLC. Because minority interest in Charter Communications Holding Company, LLC was substantially eliminated at December 31, 2003, beginning in 2004, Charter began to absorb substantially all losses before income taxes that otherwise would have been allocated to minority interest. As a result of negative equity at Charter Communications Holding Company, LLC, during the year ended December 31, 2004, no additional losses were allocated to minority interest, resulting in an approximate additional $2.4 billion of net losses. Under our existing capital structure, Charter will absorb substantially all future losses. | |
(b) | Earnings include net loss plus fixed charges. Fixed charges consist of interest expense and an estimated interest component of rent expense. |
37
SUPPLEMENTARY QUARTERLY FINANCIAL DATA
The following tables present quarterly financial data for the periods presented on the consolidated statements of operations (Dollars in millions, except share and per share amounts):
Three Months Ended | ||||
March 31, 2005 | ||||
Revenues
|
$ | 1,271 | ||
Income from operations
|
51 | |||
Loss before minority interest and income taxes
|
(334 | ) | ||
Net loss applicable to common stock
|
(353 | ) | ||
Basic and diluted loss per common share
|
(1.16 | ) | ||
Weighted-average shares outstanding
|
303,308,880 |
Year Ended December 31, 2004 | ||||||||||||||||
First Quarter | Second Quarter | Third Quarter | Fourth Quarter | |||||||||||||
Revenues
|
$ | 1,214 | $ | 1,239 | $ | 1,248 | $ | 1,276 | ||||||||
Income (loss) from operations
|
175 | 15 | (2,344 | ) | 108 | |||||||||||
Loss before minority interest, income taxes and
cumulative effect of accounting change
|
(235 | ) | (366 | ) | (2,776 | ) | (321 | ) | ||||||||
Net loss applicable to common stock
|
(294 | ) | (416 | ) | (3,295 | ) | (340 | ) | ||||||||
Basic and diluted loss per common share before
cumulative effect of accounting change
|
(1.00 | ) | (1.39 | ) | (8.36 | ) | (1.12 | ) | ||||||||
Basic and diluted loss per common share
|
(1.00 | ) | (1.39 | ) | (10.89 | ) | (1.12 | ) | ||||||||
Weighted-average shares outstanding
|
295,106,077 | 300,522,815 | 302,604,978 | 302,934,348 |
Year Ended December 31, 2003 | ||||||||||||||||
First Quarter | Second Quarter | Third Quarter | Fourth Quarter | |||||||||||||
Revenues
|
$ | 1,178 | $ | 1,217 | $ | 1,207 | $ | 1,217 | ||||||||
Income from operations
|
77 | 112 | 117 | 210 | ||||||||||||
Income (loss) before minority interest and
income taxes
|
(301 | ) | (286 | ) | 23 | (161 | ) | |||||||||
Net income (loss) applicable to common stock
|
(182 | ) | (38 | ) | 36 | (58 | ) | |||||||||
Basic income (loss) per common share
|
(0.62 | ) | (0.13 | ) | 0.12 | (0.20 | ) | |||||||||
Diluted Income (loss) per common share
|
(0.62 | ) | (0.13 | ) | 0.07 | (0.20 | ) | |||||||||
Weighted-average shares outstanding, basic
|
294,466,137 | 294,474,596 | 294,566,878 | 294,875,504 | ||||||||||||
Weighted-average shares outstanding, diluted
|
294,466,137 | 294,474,596 | 637,822,843 | 294,875,504 |
38
MANAGEMENTS DISCUSSION AND ANALYSIS
Reference is made to Disclosure Regarding Forward-Looking Statements, which describes important factors that could cause actual results to differ from expectations and non-historical information contained herein. In addition, the following discussion should be read in conjunction with the audited consolidated financial statements of Charter Communications, Inc. and subsidiaries as of and for the years ended December 31, 2004, 2003 and 2002 and the unaudited consolidated financial statements of Charter Communications, Inc. and subsidiaries as of and for the three months ended March 31, 2005.
Introduction
In 2004 and the first quarter of 2005, we completed several transactions that improved our liquidity. Our efforts in this regard resulted in the completion of a number of transactions in 2004, as follows:
| the December 2004 sale by our subsidiaries, CCO Holdings, LLC and CCO Holdings Capital Corp., of $550 million of senior floating rate notes due 2010; | |
| the November 2004 sale by Charter of $862.5 million of 5.875% convertible senior notes due 2009; | |
| the December 2004 redemption of all of our 5.75% convertible senior notes due 2005 ($588 million principal amount); | |
| the April 2004 sale of $1.5 billion of senior second-lien notes by our subsidiary, Charter Operating, together with the concurrent refinancing of its credit facilities; | |
| the sale in the first half of 2004 of non-core cable systems for a total of $735 million, the proceeds of which were used to reduce indebtedness; and | |
| the March 2005 issuance of Charter Operating notes in exchange for Charter Holdings notes. |
During the years 1999 through 2001, we grew significantly, principally through acquisitions of other cable businesses financed by debt and, to a lesser extent, equity. We have no current plans to pursue any significant acquisitions. However, we may pursue exchanges of non-strategic assets or divestitures, such as the sale of cable systems to Atlantic Broadband Finance, LLC discussed under Liquidity and Capital Resources Sale of Assets, below. We therefore do not believe that our historical growth rates are accurate indicators of future growth.
The industrys and our most significant operational challenges in 2004 and 2003 included competition from DBS providers and DSL service providers. See Business Competition. We believe that competition from DBS has resulted in net analog video customer losses and decreased growth rates for digital video customers. Competition from DSL providers combined with limited opportunities to expand our customer base now that approximately 28% of our analog video customers subscribe to our high-speed data services has resulted in decreased growth rates for high-speed data customers. In the recent past, we have grown revenues by offsetting video customer losses with price increases and sales of incremental advanced services such as high-speed data, video on demand, digital video recorders and high definition television. We expect to continue to grow revenues through continued growth in high-speed data and incremental new services including VOIP telephony, high definition television, VOD and DVR service.
Historically, our ability to fund operations and investing activities has depended on our continued access to credit under our subsidiaries credit facilities. We expect we will continue to borrow under our subsidiaries credit facilities from time to time to fund cash needs. The occurrence of an event of default under our subsidiaries credit facilities could result in borrowings from these facilities being unavailable to us and could, in the event of a payment default or acceleration, trigger events of default under our notes and our subsidiaries outstanding notes and would have a material adverse effect on us. Approximately $23 million of indebtedness under our subsidiaries credit facilities is scheduled to mature during the remainder of 2005. We expect to fund payment of such indebtedness through borrowings under our subsidiaries revolving credit facilities.
39
Acquisitions
The following table sets forth information regarding our significant acquisitions from January 1, 2000 to December 31, 2002 (none in 2003, 2004 or 2005):
Purchase Price | ||||||||||||||||||||||||||
Securities | Acquired | |||||||||||||||||||||||||
Acquisition | Cash | Assumed | Issued/Other | Total | Customers | |||||||||||||||||||||
Date | Paid | Debt | Consideration | Price | (approx) | |||||||||||||||||||||
(Dollars in millions) | ||||||||||||||||||||||||||
Interlake
|
1/00 | $ | 13 | $ | | $ | | $ | 13 | 6,000 | ||||||||||||||||
Bresnan
|
2/00 | 1,100 | 963 | 1,014 | (a) | 3,077 | 695,800 | |||||||||||||||||||
Capital Cable
|
4/00 | 60 | | | 60 | 23,200 | ||||||||||||||||||||
Farmington
|
4/00 | 15 | | | 15 | 5,700 | ||||||||||||||||||||
Kalamazoo
|
9/00 | | | 171 | (b) | 171 | 50,700 | |||||||||||||||||||
Total 2000 Acquisitions
|
$ | 1,188 | $ | 963 | $ | 1,185 | $ | 3,336 | 781,400 | |||||||||||||||||
AT&T Systems
|
6/01 | $ | 1,711 | $ | | $ | 25 | $ | 1,736 | (c) | 551,100 | |||||||||||||||
Cable USA
|
8/01 | 45 | | 55 | (d) | 100 | 30,600 | |||||||||||||||||||
Total 2001 Acquisitions
|
$ | 1,756 | $ | | $ | 80 | $ | 1,836 | 581,700 | |||||||||||||||||
High Speed Access Corp.
|
2/02 | 78 | | | 78 | N/A | ||||||||||||||||||||
Enstar Limited Partnership Systems
|
4/02 | 48 | | | 48 | 21,600 | ||||||||||||||||||||
Enstar Income Program II-1, L.P.
|
9/02 | 15 | | | 15 | 6,400 | ||||||||||||||||||||
Total 2002 Acquisitions
|
$ | 141 | $ | | $ | | $ | 141 | 28,000 | |||||||||||||||||
Total 2000-2002 Acquisitions
|
$ | 3,085 | $ | 963 | $ | 1,265 | $ | 5,313 | 1,391,100 | |||||||||||||||||
(a) | Comprised of $385 million in equity in Charter Holdco and $629 million of equity in CC VIII. | |
(b) | In connection with this transaction, we acquired all of the outstanding stock of Cablevision of Michigan in exchange for 11,173,376 shares of Charter Class A common stock. | |
(c) | Comprised of approximately $1.7 billion, as adjusted, in cash and a cable system located in Florida valued at approximately $25 million, as adjusted. | |
(d) | In connection with this transaction, at the closing we and Charter Holdco acquired all of the outstanding stock of Cable USA and the assets of related affiliates in exchange for cash and 505,664 shares of Charter Series A convertible redeemable preferred stock. In the first quarter of 2003, an additional $0.34 million in cash was paid and 39,595 additional shares of Charter Series A convertible redeemable preferred stock were issued to certain sellers. |
All acquisitions were accounted for under the purchase method of accounting and results of operations were included in our consolidated financial statements from their respective dates of acquisition.
We have no current plans to pursue any significant acquisitions. However, we will continue to evaluate opportunities to consolidate our operations through the sale of cable systems to, or exchange of like-kind assets with, other cable operators as such opportunities arise, and on a very limited basis, consider strategic new acquisitions. Our primary criteria in considering these opportunities are the rationalization of our operations into geographic clusters and the potential financial benefits we expect to ultimately realize as a result of the sale, exchange, or acquisition.
40
Overview of Operations
Approximately 87% and 86% of our revenues for the three months ended March 31, 2005 and for the year ended December 31, 2004, respectively, are attributable to monthly subscription fees charged to customers for our video, high-speed data, telephone and commercial services provided by our cable systems. Generally, these customer subscriptions may be discontinued by the customer at any time. The remaining 13% and 14%, respectively, of revenue is derived primarily from advertising revenues, franchise fee revenues, which are collected by us but then paid to local franchising authorities, pay-per-view and VOD programming where users are charged a fee for individual programs viewed, installation or reconnection fees charged to customers to commence or reinstate service, and commissions related to the sale of merchandise by home shopping services. We have increased revenues during the past three years, primarily through the sale of digital video and high-speed data services to new and existing customers and price increases on video services offset in part by dispositions of systems. Going forward, our goal is to increase revenues by stabilizing our analog video customer base, implementing price increases on certain services and packages and increasing the number of our customers who purchase high-speed data services, digital video and new products and services such as VOIP telephony, VOD, high definition television and DVR service. To accomplish this, we are increasing prices for certain services and we are offering new bundling of services combining digital video and our advanced services (such as high-speed data service and high definition television) at what we believe are attractive price points. See Business Sales and Marketing for more details.
Our success in our efforts to grow revenues and improve margins will be impacted by our ability to compete against companies with often fewer regulatory burdens, easier access to financing, greater personnel resources, greater brand name recognition and long-established relationships with regulatory authorities and customers. Additionally, controlling our cost of operations is critical, particularly cable programming costs, which have historically increased at rates in excess of inflation and are expected to continue to increase. See Business Programming for more details. We are attempting to control our costs of operations by maintaining strict controls on expenses. More specifically, we are focused on managing our cost structure by renegotiating programming agreements to reduce the rate of historical increases in programming cost, managing our workforce to control increases and improve productivity, and leveraging our size in purchasing activities.
Our expenses primarily consist of operating costs, selling, general and administrative expenses, depreciation and amortization expense and interest expense. Operating costs primarily include programming costs, the cost of our workforce, cable service related expenses, advertising sales costs, franchise fees and expenses related to customer billings. Our income from operations decreased from $175 million for the three months ended March 31, 2004 to $51 million for the three months ended March 31, 2005. We had a positive operating margin (defined as income (loss) from operations divided by revenues) of 4% and 14% for the three months ended March 31, 2005 and 2004, respectively. The decline in income from operations and operating margin for the three months ended March 31, 2005 is principally due to the one-time gain as a result of the sale of certain cable systems in Florida, Pennsylvania, Maryland, Delaware and West Virginia to Atlantic Broadband Finance, LLC of approximately $108 million, recognized in the three months ended March 31, 2004 and asset impairment charges of $31 million recognized in the three months ended March 31, 2005. For the years ended December 31, 2004 and 2002, loss from operations was $2.0 billion and $4.3 billion, respectively. For the year ended December 31, 2003, income from operations was $516 million. Operating margin was 11% for the year ended December 31, 2003, whereas for the years ending December 31, 2004 and 2002, we had negative operating margin of 41% and 95%, respectively. The improvement in income from operations and operating margin from 2002 to 2003 was principally due to a $4.6 billion franchise impairment charge in the fourth quarter of 2002 which did not recur in 2003 and the recognition of gains in 2003 of $93 million related to unfavorable contracts and other settlements and gain on sale of systems. Although we do not expect charges for impairment in the future of comparable magnitude, potential charges could occur due to changes in market conditions.
We have a history of net losses. Further, we expect to continue to report net losses for the foreseeable future. Our net losses are principally attributable to insufficient revenue to cover the interest costs on our
41
Critical Accounting Policies and Estimates
Certain of our accounting policies require our management to make difficult, subjective or complex judgments. Management has discussed these policies with the Audit Committee of Charters board of directors and the Audit Committee has reviewed the following disclosure. We consider the following policies to be the most critical in understanding the estimates, assumptions and judgments that are involved in preparing our financial statements and the uncertainties that could affect our results of operations, financial condition and cash flows:
| Capitalization of labor and overhead costs; | |
| Useful lives of property, plant and equipment; | |
| Impairment of property, plant, and equipment, franchises, and goodwill; | |
| Income taxes; and | |
| Litigation. |
In addition, there are other items within our financial statements that require estimates or judgment but are not deemed critical, such as the allowance for doubtful accounts, but changes in judgment, or estimates in these other items could also have a material impact on our financial statements.
Capitalization of labor and overhead costs. The cable industry is capital intensive, and a large portion of our resources are spent on capital activities associated with extending, rebuilding, and upgrading our cable network. As of March 31, 2005 and December 31, 2004 and 2003, the net carrying amount of our property, plant and equipment (consisting primarily of cable network assets) was approximately $6.1 billion (representing 36% of total assets), $6.3 billion (representing 36% of total assets) and $7.0 billion (representing 33% of total assets), respectively. Total capital expenditures for the three months ended March 31, 2005 and the years ended December 31, 2004, 2003 and 2002 were approximately $211 million, $924 million, $854 million and $2.2 billion, respectively.
Costs associated with network construction, initial customer installations, installation refurbishments and the addition of network equipment necessary to provide advanced services are capitalized. Costs capitalized as part of initial customer installations include materials, direct labor, and certain indirect costs. These indirect costs are associated with the activities of personnel who assist in connecting and activating the new service and consist of compensation and overhead costs associated with these support functions. The costs of disconnecting service at a customers dwelling or reconnecting service to a previously installed dwelling are charged to operating expense in the period incurred. Costs for repairs and maintenance are charged to operating expense as incurred, while equipment replacement and betterments, including replacement of cable drops from the pole to the dwelling, are capitalized.
We make judgments regarding the installation and construction activities to be capitalized. We capitalize direct labor and certain indirect costs (overhead) using standards developed from actual costs and applicable operational data. We calculate standards for items such as the labor rates, overhead rates and the actual amount of time required to perform a capitalizable activity. For example, the standard
42
Labor costs directly associated with capital projects are capitalized. We capitalize direct labor costs associated with personnel based upon the specific time devoted to network construction and customer installation activities. Capitalizable activities performed in connection with customer installations include such activities as:
| Scheduling a truck roll to the customers dwelling for service connection; | |
| Verification of serviceability to the customers dwelling (i.e., determining whether the customers dwelling is capable of receiving service by our cable network and/or receiving advanced or data services); | |
| Customer premise activities performed by in-house field technicians and third-party contractors in connection with customer installations, installation of network equipment in connection with the installation of expanded services and equipment replacement and betterment; and | |
| Verifying the integrity of the customers network connection by initiating test signals downstream from the headend to the customers digital set-top terminal. |
Judgment is required to determine the extent to which overhead is incurred as a result of specific capital activities, and therefore should be capitalized. The primary costs that are included in the determination of the overhead rate are (i) employee benefits and payroll taxes associated with capitalized direct labor, (ii) direct variable costs associated with capitalizable activities, consisting primarily of installation and construction vehicle costs, (iii) the cost of support personnel, such as dispatch, that directly assist with capitalizable installation activities, and (iv) indirect costs directly attributable to capitalizable activities.
While we believe our existing capitalization policies are appropriate, a significant change in the nature or extent of our system activities could affect managements judgment about the extent to which we should capitalize direct labor or overhead in the future. We monitor the appropriateness of our capitalization policies, and perform updates to our internal studies on an ongoing basis to determine whether facts or circumstances warrant a change to our capitalization policies. We capitalized direct labor and overhead of $45 million, $164 million, $174 million and $335 million for the three months ended March 31, 2005 and the years ended December 31, 2004, 2003 and 2002, respectively. Capitalized internal direct labor and overhead costs significantly decreased in 2004 and 2003 compared to 2002 primarily due to the substantial completion of the upgrade of our systems and a decrease in the amount of capitalizable installation costs.
Useful lives of property, plant and equipment. We evaluate the appropriateness of estimated useful lives assigned to our property, plant and equipment, based on annual studies of such useful lives, and revise such lives to the extent warranted by changing facts and circumstances. Any changes in estimated useful lives as a result of these studies, which were not significant in the periods presented, will be reflected prospectively beginning in the period in which the study is completed. The effect of a one-year decrease in the weighted average remaining useful life of our property, plant and equipment would be an increase in depreciation expense for the year ended December 31, 2004 of approximately $296 million. The effect of a one-year increase in the weighted average useful life of our property, plant and equipment would be a decrease in depreciation expense for the year ended December 31, 2004 of approximately $198 million.
Depreciation expense related to property, plant and equipment totaled $379 million, $1.5 billion, $1.5 billion and $1.4 billion, representing approximately 31%, 21%, 34% and 16% of costs and expenses, for the three months ended March 31, 2005 and for the years ended December 31, 2004, 2003 and 2002,
43
Cable distribution systems
|
7-20 years | |||
Customer equipment and installations
|
3-5 years | |||
Vehicles and equipment
|
1-5 years | |||
Buildings and leasehold improvements
|
5-15 years | |||
Furniture and fixtures
|
5 years |
Impairment of property, plant and equipment, franchises and goodwill. As discussed above, the net carrying value of our property, plant and equipment is significant. We also have recorded a significant amount of cost related to franchises, pursuant to which we are granted the right to operate our cable distribution network throughout our service areas. The net carrying value of franchises as of March 31, 2005, December 31, 2004 and 2003 was approximately $9.8 billion (representing 59% of total assets), $9.9 billion (representing 56% of total assets) and $13.7 billion (representing 64% of total assets), respectively. Furthermore, our non-current assets included approximately $52 million of goodwill.
We adopted SFAS No. 142 on January 1, 2002. SFAS No. 142 requires that franchise intangible assets that meet specified indefinite-life criteria no longer be amortized against earnings, but instead must be tested for impairment annually based on valuations, or more frequently as warranted by events or changes in circumstances. In determining whether our franchises have an indefinite-life, we considered the exclusivity of the franchise, the expected costs of franchise renewals, and the technological state of the associated cable systems with a view to whether or not we are in compliance with any technology upgrading requirements. We have concluded that as of December 31, 2004, 2003 and 2002 more than 99% of our franchises qualify for indefinite-life treatment under SFAS No. 142, and that less than one percent of our franchises do not qualify for indefinite-life treatment due to technological or operational factors that limit their lives. Costs of finite-lived franchises, along with costs associated with franchise renewals, are amortized on a straight-line basis over 10 years, which represents managements best estimate of the average remaining useful lives of such franchises. Franchise amortization expense was $1 million and $4 million for the three months ended March 31, 2005 and for the year ended December 31, 2004, respectively, and $9 million for each of the years ended December 31, 2003 and 2002. We expect that amortization expense on franchise assets will be approximately $3 million annually for each of the next five years. Actual amortization expense in future periods could differ from these estimates as a result of new intangible asset acquisitions or divestitures, changes in useful lives and other relevant factors. Our goodwill is also deemed to have an indefinite life under SFAS No. 142.
SFAS No. 144, Accounting for Impairment or Disposal of Long-Lived Assets, requires that we evaluate the recoverability of our property, plant and equipment and franchise assets which did not qualify for indefinite-life treatment under SFAS No. 142 upon the occurrence of events or changes in circumstances which indicate that the carrying amount of an asset may not be recoverable. Such events or changes in circumstances could include such factors as the impairment of our indefinite life franchises under SFAS No. 142, changes in technological advances, fluctuations in the fair value of such assets, adverse changes in relationships with local franchise authorities, adverse changes in market conditions or poor operating results. Under SFAS No. 144, a long-lived asset is deemed impaired when the carrying amount of the asset exceeds the projected undiscounted future cash flows associated with the asset. No impairments of long-lived assets were recorded in the years ended December 31, 2004, 2003 or 2002. We were also required to evaluate the recoverability of our indefinite-life franchises, as well as goodwill, as of January 1, 2002 upon adoption of SFAS No. 142, and on an annual basis or more frequently as deemed necessary.
Under both SFAS No. 144 and SFAS No. 142, if an asset is determined to be impaired, it is required to be written down to its estimated fair market value. We determine fair market value based on estimated discounted future cash flows, using reasonable and appropriate assumptions that are consistent with internal forecasts. Our assumptions include these and other factors: penetration rates for analog and
44
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 clustering of our cable systems into groups by which such systems are managed. Management believes such groupings represent the highest and best use of those assets. We determined that our franchises were impaired upon adoption of SFAS No. 142 on January 1, 2002 and as a result recorded the cumulative effect of a change in accounting principle of $206 million (approximately $572 million before minority interest effects of $306 million and tax effects of $60 million). As required by SFAS No. 142, the standard has not been retroactively applied to results for the period prior to adoption.
Our valuations, which are based on the present value of projected after tax cash flows, result in a value of property, plant and equipment, franchises, customer relationships and our total entity value. The value of goodwill is the difference between the total entity value and amounts assigned to the other assets. The use of different valuation assumptions or definitions of franchises or customer relationships, such as our inclusion of the value of selling additional services to our current customers within customer relationships versus franchises, could significantly impact our valuations and any resulting impairment.
Franchises, for valuation purposes, are defined as the future economic benefits of the right to solicit and service potential customers (customer marketing rights), and the right to deploy and market new services such as interactivity and telephony to the potential customers (service marketing rights). Fair value is determined based on estimated discounted future cash flows using assumptions consistent with internal forecasts. The franchise after-tax cash flow is calculated as the after-tax cash flow generated by the potential customers obtained and the new services added to those customers in future periods. The sum of the present value of the franchises after-tax cash flow in years 1 through 10 and the continuing value of the after-tax cash flow beyond year 10 yields the fair value of the franchise. Prior to the adoption of EITF Topic D-108, Use of the Residual Method to Value Acquired Assets Other than Goodwill, discussed below, we followed a residual method of valuing our franchise assets, which had the effect of including goodwill with the franchise assets.
We follow the guidance of EITF Issue 02-17, Recognition of Customer Relationship Intangible Assets Acquired in a Business Combination, in valuing customer relationships. Customer relationships, for valuation purposes, represent the value of the business relationship with our existing customers and are calculated by projecting future after-tax cash flows from these customers including the right to deploy and market additional services such as interactivity and telephony to these customers. The present value of these after-tax cash flows yields the fair value of the customer relationships. Substantially all our acquisitions occurred prior to January 1, 2002. We did not record any value associated with the customer relationship intangibles related to those acquisitions. For acquisitions subsequent to January 1, 2002, we did assign a value to the customer relationship intangible, which is amortized over its estimated useful life.
In September 2004, EITF Topic D-108, Use of the Residual Method to Value Acquired Assets Other than Goodwill, was issued, which requires the direct method of separately valuing all intangible assets and does not permit goodwill to be included in franchise assets. We performed an impairment assessment as of September 30, 2004, and adopted Topic D-108 in that assessment resulting in a total franchise impairment of approximately $3.3 billion. We recorded a cumulative effect of accounting change of $765 million (approximately $875 million before tax effects of $91 million and minority interest effects of $19 million) for the year ended December 31, 2004 representing the portion of our total franchise impairment attributable to no longer including goodwill with franchise assets. The effect of the adoption was to increase net loss and loss per share by $765 million and $2.55 for the year ended December 31, 2004. The remaining $2.4 billion of the total franchise impairment was attributable to the use of lower projected growth rates and the resulting revised estimates of future cash flows in our valuation and was recorded as
45
The valuation completed at October 1, 2003 showed franchise values in excess of book value and thus resulted in no impairment. Our annual impairment assessment as of October 1, 2002, based on revised estimates from January 1, 2002 of future cash flows and projected long-term growth rates in our valuation, led to the recognition of a $4.6 billion impairment charge in the fourth quarter of 2002.
The valuations used in our impairment assessments involve numerous assumptions as noted above. While economic conditions, applicable at the time of the valuation, indicate the combination of assumptions utilized in the valuations are reasonable, as market conditions change so will the assumptions with a resulting impact on the valuation and consequently the potential impairment charge.
Sensitivity Analysis. The effect on the impairment charge recognized in the third quarter of 2004 of the indicated increase/decrease in the selected assumptions is shown below:
Percentage/ | ||||||||
Percentage Point | Impairment Charge | |||||||
Assumption | Change | Increase/(Decrease) | ||||||
(Dollars in millions) | ||||||||
Annual Operating Cash Flow(1)
|
+/- 5% | $ | (890)/$921 | |||||
Long-Term Growth Rate(2)
|
+/- 1 pts | (3) | (1,579)/1,232 | |||||
Discount Rate
|
+/- 0.5 pts | (3) | 1,336/(1,528) |
(1) | Operating Cash Flow is defined as revenues less operating expenses and selling general and administrative expenses. |
(2) | Long-Term Growth Rate is the rate of cash flow growth beyond year ten. |
(3) | A percentage point change of one point equates to 100 basis points. |
Income Taxes. All operations are held through Charter Holdco and its direct and indirect subsidiaries. Charter Holdco and the majority of its subsidiaries are not subject to income tax. However, certain of these subsidiaries are corporations and are subject to income tax. All of the taxable income, gains, losses, deductions and credits of Charter Holdco are passed through to its members: Charter, Charter Investment, Inc. and Vulcan Cable III Inc. Charter is responsible for its share of taxable income or loss of Charter Holdco allocated to it in accordance with the Charter Holdco limited liability company agreement (LLC Agreement) and partnership tax rules and regulations.
The LLC Agreement provided for certain special allocations of net tax profits and net tax losses (such net tax profits and net tax losses being determined under the applicable federal income tax rules for determining capital accounts). Under the LLC Agreement, through the end of 2003, net tax losses of Charter Holdco that would otherwise have been allocated to Charter based generally on its percentage ownership of outstanding common units were allocated instead to membership units held by Vulcan Cable III Inc. and Charter Investment, Inc. (the Special Loss Allocations) to the extent of their respective capital account balances. After 2003, under the LLC Agreement, net tax losses of Charter Holdco are allocated to Charter, Vulcan Cable III Inc. and Charter Investment, Inc. based generally on their respective percentage ownership of outstanding common units to the extent of their respective capital account balances. The LLC Agreement further provides that, beginning at the time Charter Holdco generates net tax profits, the net tax profits that would otherwise have been allocated to Charter based generally on its percentage ownership of outstanding common membership units will instead generally be allocated to Vulcan Cable III Inc. and Charter Investment, Inc. (the Special Profit Allocations). The Special Profit Allocations to Vulcan Cable III Inc. and Charter Investment, Inc. will generally continue until the cumulative amount of the Special Profit Allocations offsets the cumulative amount of the Special
46
Because the respective capital account balance of each of Vulcan Cable III Inc. and Charter Investment, Inc. was reduced to zero by December 31, 2002, certain net tax losses of Charter Holdco that were to be allocated for 2002, 2003, 2004 and possibly later years, subject to resolution of the issue described in Certain Relationships and Related Transactions Transactions Arising out of Our Organizational Structure and Mr. Allens Investment in Charter Communications, Inc. and Its Subsidiaries Equity Put Rights CC VIII, to Vulcan Cable III Inc. and Charter Investment, Inc. instead have been and will be allocated to Charter (the Regulatory Allocations). The LLC Agreement further provides that, to the extent possible, the effect of the Regulatory Allocations is to be offset over time pursuant to certain curative allocation provisions (the Curative Allocation Provisions) so that, after certain offsetting adjustments are made, each members capital account balance is equal to the capital account balance such member would have had if the Regulatory Allocations had not been part of the LLC Agreement. The cumulative amount of the actual tax losses allocated to Charter as a result of the Regulatory Allocations through the year ended December 31, 2004 is approximately $4.0 billion.
As a result of the Special Loss Allocations and the Regulatory Allocations referred to above, the cumulative amount of losses of Charter Holdco allocated to Vulcan Cable III Inc. and Charter Investment, Inc. is in excess of the amount that would have been allocated to such entities if the losses of Charter Holdco had been allocated among its members in proportion to their respective percentage ownership of Charter Holdco common membership units. The cumulative amount of such excess losses was approximately $2.1 billion through December 31, 2003 and $1.0 billion through December 31, 2004.
In certain situations, the Special Loss Allocations, Special Profit Allocations, Regulatory Allocations and Curative Allocation Provisions described above could result in Charter paying taxes in an amount that is more or less than if Charter Holdco had allocated net tax profits and net tax losses among its members based generally on the number of common membership units owned by such members. This could occur due to differences in (i) the character of the allocated income (e.g., ordinary versus capital), (ii) the allocated amount and timing of tax depreciation and tax amortization expense due to the application of section 704(c) under the Internal Revenue Code, (iii) the potential interaction between the Special Profit Allocations and the Curative Allocation Provisions, (iv) the amount and timing of alternative minimum taxes paid by Charter, if any, (v) the apportionment of the allocated income or loss among the states in which Charter Holdco does business, and (vi) future federal and state tax laws. Further, in the event of new capital contributions to Charter Holdco, it is possible that the tax effects of the Special Profit Allocations, Special Loss Allocations, Regulatory Allocations and Curative Allocation Provisions will change significantly pursuant to the provisions of the income tax regulations or the terms of a contribution agreement with respect to such contributions. Such change could defer the actual tax benefits to be derived by Charter with respect to the net tax losses allocated to it or accelerate the actual taxable income to Charter with respect to the net tax profits allocated to it. As a result, it is possible under certain circumstances, that Charter could receive future allocations of taxable income in excess of its currently allocated tax deductions and available tax loss carryforwards. The ability to utilize net operating loss carryforwards is potentially subject to certain limitations as discussed below.
In addition, under their exchange agreement with Charter, Vulcan Cable III Inc. and Charter Investment, Inc. may exchange some or all of their membership units in Charter Holdco for Charters Class B common stock, be merged with Charter, or be acquired by Charter in a non-taxable reorganization. If such an exchange were to take place prior to the date that the Special Profit Allocation provisions had fully offset the Special Loss Allocations, Vulcan Cable III Inc. and Charter Investment, Inc. could elect to cause Charter Holdco to make the remaining Special Profit Allocations to Vulcan Cable III Inc. and Charter Investment, Inc. immediately prior to the consummation of the exchange. In the event Vulcan Cable III Inc. and Charter Investment, Inc. choose not to make such election or to the
47
As of March 31, 2005 and December 31, 2004 and 2003, we have recorded net deferred income tax liabilities of $230 million, $216 million and $417 million, respectively. Additionally, as of March 31, 2005, December 31, 2004 and 2003, we have deferred tax assets of $3.7 billion, $3.5 billion and $1.7 billion, respectively, which primarily relate to financial and tax losses allocated to Charter from Charter Holdco. We are required to record a valuation allowance when it is more likely than not that some portion or all of the deferred income tax assets will not be realized. Given the uncertainty surrounding our ability to utilize our deferred tax assets, these items have been offset with a corresponding valuation allowance of $3.3 billion, $3.2 billion and $1.3 billion at March 31, 2005, December 31, 2004 and 2003, respectively.
Charter Holdco is currently under examination by the Internal Revenue Service for the tax years ending December 31, 2000, 2002 and 2003. Our results (excluding Charter and our indirect corporate subsidiaries) for these years are subject to this examination. Management does not expect the results of this examination to have a material adverse effect on our consolidated financial condition, results of operations or our liquidity, including our ability to comply with our debt covenants.
Litigation. Legal contingencies have a high degree of uncertainty. When a loss from a contingency becomes estimable and probable, a reserve is established. The reserve reflects managements best estimate of the probable cost of ultimate resolution of the matter and is revised accordingly as facts and circumstances change and, ultimately when the matter is brought to closure. We have established reserves for certain matters including those described in Business Legal Proceedings. If any of the litigation matters described in Business Legal Proceedings is resolved unfavorably resulting in payment obligations in excess of managements best estimate of the outcome, such resolution could have a material adverse effect on our consolidated financial condition, results of operations or our liquidity.
48
Results of Operations
Three Months Ended March 31, 2005 Compared to Three Months Ended March 31, 2004
The following table sets forth the percentages of revenues that items in the accompanying condensed consolidated statements of operations constituted for the periods presented (dollars in millions, except per share and share data):
Three Months Ended March 31, | ||||||||||||||||||
2005 | 2004 | |||||||||||||||||
Revenues
|
$ | 1,271 | 100 | % | $ | 1,214 | 100 | % | ||||||||||
Costs and expenses:
|
||||||||||||||||||
Operating (excluding depreciation and
amortization)
|
559 | 44 | % | 512 | 42 | % | ||||||||||||
Selling, general and administrative
|
237 | 19 | % | 239 | 20 | % | ||||||||||||
Depreciation and amortization
|
381 | 30 | % | 370 | 31 | % | ||||||||||||
Asset impairment charges
|
31 | 3 | % | | | |||||||||||||
(Gain) loss on sale of assets, net
|
4 | | (106 | ) | (9 | )% | ||||||||||||
Option compensation expense, net
|
4 | | 14 | 1 | % | |||||||||||||
Special charges, net
|
4 | | 10 | 1 | % | |||||||||||||
1,220 | 96 | % | 1,039 | 86 | % | |||||||||||||
Income from operations
|
51 | 4 | % | 175 | 14 | % | ||||||||||||
Interest expense, net
|
(420 | ) | (393 | ) | ||||||||||||||
Gain (loss) on derivative instruments and hedging
activities, net
|
27 | (7 | ) | |||||||||||||||
Loss on debt to equity conversions
|
| (8 | ) | |||||||||||||||
Gain on extinguishment of debt
|
7 | | ||||||||||||||||
Other, net
|
1 | (2 | ) | |||||||||||||||
(385 | ) | (410 | ) | |||||||||||||||
Loss before minority interest and income taxes
|
(334 | ) | (235 | ) | ||||||||||||||
Minority interest
|
(3 | ) | (4 | ) | ||||||||||||||
Loss before income taxes
|
(337 | ) | (239 | ) | ||||||||||||||
Income tax expense
|
(15 | ) | (54 | ) | ||||||||||||||
Net loss
|
(352 | ) | (293 | ) | ||||||||||||||
Dividends on preferred stock
redeemable
|
(1 | ) | (1 | ) | ||||||||||||||
Net loss applicable to common stock
|
$ | (353 | ) | $ | (294 | ) | ||||||||||||
Loss per common share, basic and diluted
|
$ | (1.16 | ) | $ | (1.00 | ) | ||||||||||||
Weighted average common shares outstanding, basic
and diluted
|
303,308,880 | 295,106,077 | ||||||||||||||||
Revenues. Revenues increased by $57 million, or 5%, from $1.2 billion for the three months ended March 31, 2004 to $1.3 billion for the three months ended March 31, 2005. This increase is principally the result of an increase of 325,400 and 37,200 high-speed data and digital video customers, respectively, as well as price increases for video and high-speed data services, and is offset partially by a decrease of 207,200 analog video customers. The cable system sales to Atlantic Broadband Finance, LLC, which closed in March and April 2004 (referred to in this section as the System Sales) reduced the increase in revenues by $29 million. Our goal is to increase revenues by improving customer service which we believe will stabilize our analog video
49
Average monthly revenue per analog video customer increased to $70.75 for the three months ended March 31, 2005 from $65.31 for the three months ended March 31, 2004 primarily as a result of incremental revenues from advanced services and price increases. Average monthly revenue per analog video customer represents total annual revenue, divided by twelve, divided by the average number of analog video customers during the respective period.
Revenues by service offering were as follows (dollars in millions):
Three Months Ended March 31, | ||||||||||||||||||||||||
2005 | 2004 | 2005 over 2004 | ||||||||||||||||||||||
% of | % of | % | ||||||||||||||||||||||
Revenues | Revenues | Revenues | Revenues | Change | Change | |||||||||||||||||||
Video
|
$ | 842 | 66% | $ | 849 | 70% | $ | (7 | ) | (1 | )% | |||||||||||||
High-speed data
|
215 | 17% | 168 | 14% | 47 | 28 | % | |||||||||||||||||
Advertising sales
|
64 | 5% | 59 | 5% | 5 | 8 | % | |||||||||||||||||
Commercial
|
65 | 5% | 56 | 4% | 9 | 16 | % | |||||||||||||||||
Other
|
85 | 7% | 82 | 7% | 3 | 4 | % | |||||||||||||||||
$ | 1,271 | 100% | $ | 1,214 | 100% | $ | 57 | 5 | % | |||||||||||||||
Video revenues consist primarily of revenues from analog and digital video services provided to our non-commercial customers. Video revenues decreased by $7 million, or 1%, from $849 million for the three months ended March 31, 2004 to $842 million for the three months ended March 31, 2005. Approximately $21 million of the decrease was the result of the System Sales and approximately an additional $24 million related to a decline in analog video customers. The decreases were offset by increases of approximately $33 million resulting from price increases and incremental video revenues from existing customers and approximately $5 million resulting from an increase in digital video customers.
Revenues from high-speed data services provided to our non-commercial customers increased $47 million, or 28%, from $168 million for the three months ended March 31, 2004 to $215 million for the three months ended March 31, 2005. Approximately $35 million of the increase related to the increase in the average number of customers receiving high-speed data services, whereas approximately $15 million related to the increase in average price of the service. The increase in high-speed data revenues was reduced by approximately $3 million as a result of the System Sales.
Advertising sales revenues consist primarily of revenues from commercial advertising customers, programmers and other vendors. Advertising sales increased $5 million, or 8%, from $59 million for the three months ended March 31, 2004 to $64 million for the three months ended March 31, 2005, primarily as a result of an increase in new advertising sales customers and in advertising rates. The increase was offset by a decrease of $1 million as a result of the System Sales. For each of the three months ended March 31, 2005 and 2004, we received $3 million in advertising sales revenues from vendors.
Commercial revenues consist primarily of revenues from cable video and high-speed data services to our commercial customers. Commercial revenues increased $9 million, or 16%, from $56 million for the three months ended March 31, 2004 to $65 million for the three months ended March 31, 2005, primarily as a result of an increase in commercial high-speed data revenues. The increase was reduced by approximately $2 million as a result of the System Sales.
Other revenues consist of revenues from franchise fees, telephony revenue, equipment rental, customer installations, home shopping, dial-up Internet service, late payment fees, wire maintenance fees and other miscellaneous revenues. Other revenues increased $3 million, or 4%, from $82 million for the three months ended March 31, 2004 to $85 million for the three months ended March 31, 2005. The increase was
50
Operating Expenses. Operating expenses increased $47 million, or 9%, from $512 million for the three months ended March 31, 2004 to $559 million for the three months ended March 31, 2005. The increase in operating expenses was reduced by approximately $12 million as a result of the System Sales. Programming costs included in the accompanying condensed consolidated statements of operations were $358 million and $334 million, representing 29% and 32% of total costs and expenses for the three months ended March 31, 2005 and 2004, respectively. Key expense components as a percentage of revenues were as follows (dollars in millions):
Three Months Ended March 31, | ||||||||||||||||||||||||
2005 | 2004 | 2005 over 2004 | ||||||||||||||||||||||
% of | % of | % | ||||||||||||||||||||||
Expenses | Revenues | Expenses | Revenues | Change | Change | |||||||||||||||||||
Programming
|
$ | 358 | 28% | $ | 334 | 27% | $ | 24 | 7% | |||||||||||||||
Advertising sales
|
25 | 2% | 23 | 2% | 2 | 9% | ||||||||||||||||||
Service
|
176 | 14% | 155 | 13% | 21 | 14% | ||||||||||||||||||
$ | 559 | 44% | $ | 512 | 42% | $ | 47 | 9% | ||||||||||||||||
Programming costs consist primarily of costs paid to programmers for analog, premium, digital channels, VOD and pay-per-view programming. The increase in programming costs of $24 million, or 7%, for the three months ended March 31, 2005 over the three months ended March 31, 2004, was a result of price increases, particularly in sports programming, an increased number of channels carried on our systems, and an increase in digital video customers, partially offset by a decrease in analog video customers. Additionally, the increase in programming costs was reduced by $9 million as a result of the System Sales. Programming costs were offset by the amortization of payments received from programmers in support of launches of new channels of $9 million and $14 million for the three months ended March 31, 2005 and 2004, respectively.
Our cable programming costs have increased in every year we have operated in excess of U.S. inflation and cost-of-living increases, and we expect them to continue to increase because of a variety of factors, including inflationary or negotiated annual increases, additional programming being provided to customers and increased costs to purchase programming. In 2005, we expect programming costs to increase at a higher rate than in 2004. These costs will be determined in part on the outcome of programming negotiations in 2005 and will likely be subject to offsetting events or otherwise affected by factors similar to the ones mentioned in the preceding paragraph. Our increasing programming costs will result in declining operating margins for our video services to the extent we are unable to pass on cost increases to our customers. We expect to partially offset any resulting margin compression from our traditional video services with revenue from advanced video services, increased high-speed data revenues, advertising revenues and commercial service revenues.
Advertising sales expenses consist of costs related to traditional advertising services provided to advertising customers, including salaries, benefits and commissions. Advertising sales expenses increased $2 million, or 9%, primarily as a result of increased salary, benefit and commission costs. Service costs consist primarily of service personnel salaries and benefits, franchise fees, system utilities, Internet service provider fees, maintenance and pole rent expense. The increase in service costs of $21 million, or 14%, resulted primarily from increased labor costs to support our infrastructure, increased equipment maintenance and higher fuel prices. The increase in service costs was reduced by $3 million as a result of the System Sales.
Selling, General and Administrative Expenses. Selling, general and administrative expenses decreased by $2 million, or 1%, from $239 million for the three months ended March 31, 2004 to $237 million for the three months ended March 31, 2005. Included in the decrease in selling, general and
51
Three Months Ended March 31, | ||||||||||||||||||||||||
2005 | 2004 | 2005 over 2004 | ||||||||||||||||||||||
% of | % of | % | ||||||||||||||||||||||
Expenses | Revenues | Expenses | Revenues | Change | Change | |||||||||||||||||||
General and administrative
|
$ | 202 | 16% | $ | 208 | 17% | $ | (6 | ) | (3 | )% | |||||||||||||
Marketing
|
35 | 3% | 31 | 3% | 4 | 13 | % | |||||||||||||||||
$ | 237 | 19% | $ | 239 | 20% | $ | (2 | ) | (1 | )% | ||||||||||||||
General and administrative expenses consist primarily of salaries and benefits, rent expense, billing costs, call center costs, internal network costs, bad debt expense and property taxes. The decrease in general and administrative expenses of $6 million, or 3%, resulted primarily from the System Sales of $4 million, decreases in bad debt expense of $5 million, property taxes of $6 million and salaries and benefits of $4 million offset by increases in costs associated with our commercial business of $3 million and professional fees of $6 million.
Marketing expenses increased $4 million, or 13%, as a result of an increased investment in targeted marketing and branding campaigns.
Depreciation and Amortization. Depreciation and amortization expense increased by $11 million, or 3%, from $370 million for the three months ended March 31, 2004 to $381 million for the three months ended March 31, 2005. The increase in depreciation related to an increase in capital expenditures, which was offset by lower depreciation as the result of the System Sales.
Asset Impairment Charges. Asset impairment charges for the three months ended March 31, 2005 represent the write-down of assets related to two pending cable asset sales to fair value less costs to sell. See Note 3 to the condensed consolidated financial statements included elsewhere in this prospectus.
(Gain) Loss on Sale of Assets, Net. The loss on sale of assets of $4 million for the three months ended March 31, 2005 represents the loss recognized on the disposition of plant and equipment. Gain on sale of assets of $106 million for the three months ended March 31, 2004 primarily represents the pretax gain realized on the sale of cable systems to Atlantic Broadband Finance, LLC which closed in March 2004.
Option Compensation Expense, Net. Option compensation expense of $4 million for the three months ended March 31, 2005 primarily represents options expensed in accordance with Statement of Financial Accounting Standards (SFAS) No. 123, Accounting for Stock-Based Compensation. Option compensation expense of $14 million for the three months ended March 31, 2004 includes the expense of approximately $6 million related to a stock option exchange program, under which our employees were offered the right to exchange all stock options (vested and unvested) issued under the 1999 Charter Communications Option Plan and 2001 Stock Incentive Plan that had an exercise price over $10 per share for shares of restricted Charter Class A common stock or, in some instances, cash. The exchange offer closed in February 2004. Additionally, during the three months ended March 31, 2004, we recognized approximately $3 million related to the options granted under the Charter Long-Term Incentive Program and approximately $5 million related to options granted and expensed in accordance with SFAS No. 123.
Special Charges, Net. Special charges of $4 million for the three months ended March 31, 2005 represents $4 million of severance and related costs of our management realignment. Special charges of $10 million for the three months ended March 31, 2004 represents approximately $9 million of litigation costs related to the tentative settlement of the South Carolina national class action suit subject to final documentation and court approval and approximately $1 million of severance and related costs of our workforce reduction.
52
Interest Expense, Net. Net interest expense increased by $27 million, or 7%, from $393 million for the three months ended March 31, 2004 to $420 million for the three months ended March 31, 2005. The increase in net interest expense was a result of an increase in our average borrowing rate from 8.22% in the first quarter of 2004 to 8.86% in the first quarter of 2005 coupled with an increase of $848 million in average debt outstanding from $18.4 billion for the first quarter of 2004 compared to $19.2 billion for the first quarter of 2005 and was offset partially by $19 million in gains related to embedded derivatives in Charters 5.875% convertible senior notes issued in November 2004. See Note 9 to the condensed consolidated financial statements included elsewhere in this prospectus.
Gain (Loss) on Derivative Instruments and Hedging Activities, Net. Net gain on derivative instruments and hedging activities increased $34 million from a loss of $7 million for the three months ended March 31, 2004 to a gain of $27 million for the three months ended March 31, 2005. The increase is primarily the result of an increase in gains on interest rate agreements that do not qualify for hedge accounting under SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities, which increased from a loss of $6 million for the three months ended March 31, 2004 to a gain of $26 million for the three months ended March 31, 2005.
Loss on Debt to Equity Conversions. Loss on debt to equity conversions of $8 million for the three months ended March 31, 2004 represents the loss recognized from a privately negotiated exchange of $10 million principal amount of Charters 5.75% convertible senior notes held by a single unrelated party for shares of Charter Class A common stock, which resulted in the issuance of more shares in the exchange transaction than would have been issued pursuant to the original terms of the convertible senior notes.
Gain on Extinguishment of Debt. Gain on extinguishment of debt of $7 million for the three months ended March 31, 2005 represents approximately $11 million related to the issuance of Charter Operating notes in exchange for Charter Holdings notes and approximately $1 million related to the repurchase of $34 million principal amount of our 4.75% convertible senior notes due 2006. These gains were offset by approximately $5 million of losses related to the redemption of our subsidiarys, CC V Holdings, LLC, 11.875% notes due 2008. See Note 6 to the condensed consolidated financial statements included elsewhere in this prospectus.
Other, Net. Net other income of $1 million and net other expense of $2 million for the three months ended March 31, 2005 and 2004, respectively, primarily represents gains and losses on equity investments.
Minority Interest. Minority interest represents the 2% accretion of the preferred membership interests in our indirect subsidiary, CC VIII, LLC, and in the first quarter of 2004, the pro rata share of the profits and losses of CC VIII, LLC. Effective January 1, 2005, we ceased recognizing minority interest in earnings or losses of CC VIII, LLC for financial reporting purposes until such time as the resolution of the dispute between Charter and Mr. Allen regarding the preferred membership interests in CC VIII, LLC is determinable or certain other events occur. See Note 7 to the condensed consolidated financial statements included elsewhere in this prospectus. Reported losses allocated to minority interest on the statement of operations are limited to the extent of any remaining minority interest on the balance sheet related to Charter Holdco. Because minority interest in Charter Holdco is substantially eliminated, Charter absorbs substantially all losses before income taxes that otherwise would be allocated to minority interest. Subject to any changes in Charter Holdcos capital structure, future losses will continue to be substantially absorbed by Charter.
Income Tax Expense. Income tax expense of $15 million and $54 million was recognized for the three months ended March 31, 2005 and 2004, respectively. The income tax expense is recognized through increases in deferred tax liabilities related to our investment in Charter Holdco, as well as through current federal and state income tax expense and increases in the deferred tax liabilities of certain of our indirect corporate subsidiaries. Additionally, the sale of certain systems to Atlantic Broadband Finance, LLC on March 1, 2004 resulted in income tax expense of $14 million for the three months ended March 31, 2004.
53
Net Loss. Net loss increased by $59 million, or 20%, from $293 million for the three months ended March 31, 2004 to $352 million for the three months ended March 31, 2005 as a result of the factors described above.
Preferred Stock Dividends. On August 31, 2001, Charter issued 505,664 shares (and on February 28, 2003 issued an additional 39,595 shares) of Series A Convertible Redeemable Preferred Stock in connection with the Cable USA acquisition, on which Charter pays or accrues a quarterly cumulative cash dividend at an annual rate of 5.75% if paid or 7.75% if accrued on a liquidation preference of $100 per share. Beginning January 1, 2005, Charter is accruing the dividend on its Series A Convertible Redeemable Preferred Stock.
Loss Per Common Share. The loss per common share increased by $0.16 from $1.00 per common share for the three months ended March 31, 2004 to $1.16 per common share for the three months ended March 31, 2005 as a result of the factors described above.
Year Ended December 31, 2004, December 31, 2003 and December 31, 2002
The following table sets forth the percentages of revenues that items in the accompanying consolidated statements of operations constitute for the indicated periods (dollars in millions, except per share and share data):
Year Ended December 31, | |||||||||||||||||||||||||
2004 | 2003 | 2002 | |||||||||||||||||||||||
Revenues
|
$ | 4,977 | 100 | % | $ | 4,819 | 100 | % | $ | 4,566 | 100 | % | |||||||||||||
Costs and Expenses:
|
|||||||||||||||||||||||||
Operating (excluding depreciation and
amortization)
|
2,080 | 42 | % | 1,952 | 40 | % | 1,807 | 40 | % | ||||||||||||||||
Selling, general and administrative
|
971 | 19 | % | 940 | 20 | % | 963 | 21 | % | ||||||||||||||||
Depreciation and amortization
|
1,495 | 30 | % | 1,453 | 30 | % | 1,436 | 31 | % | ||||||||||||||||
Impairment of franchises
|
2,433 | 49 | % | | | 4,638 | 102 | % | |||||||||||||||||
(Gain) loss on sale of assets, net
|
(86 | ) | (2 | )% | 5 | | 3 | | |||||||||||||||||
Option compensation expense, net
|
31 | 1 | % | 4 | | 5 | | ||||||||||||||||||
Special charges, net
|
104 | 2 | % | 21 | | 36 | 1 | % | |||||||||||||||||
Unfavorable contracts and other settlements
|
(5 | ) | | (72 | ) | (1 | )% | | | ||||||||||||||||
7,023 | 141 | % | 4,303 | 89 | % | 8,888 | 195 | % | |||||||||||||||||
Income (loss) from operations
|
(2,046 | ) | (41 | )% | 516 | 11 | % | (4,322 | ) | (95 | )% | ||||||||||||||
Interest expense, net
|
(1,670 | ) | (1,557 | ) | (1,503 | ) | |||||||||||||||||||
Gain (loss) on derivative instruments and hedging
activities, net
|
69 | 65 | (115 | ) | |||||||||||||||||||||
Loss on debt to equity conversions
|
(23 | ) | | | |||||||||||||||||||||
Gain (loss) on extinguishment of debt
|
(31 | ) | 267 | | |||||||||||||||||||||
Other, net
|
3 | (16 | ) | (4 | ) | ||||||||||||||||||||
Loss before minority interest, income taxes and
cumulative effect of accounting change
|
(3,698 | ) | (725 | ) | (5,944 | ) | |||||||||||||||||||
Minority interest
|
19 | 377 | 3,176 | ||||||||||||||||||||||
Loss before income taxes and cumulative effect of
accounting change
|
(3,679 | ) | (348 | ) | (2,768 | ) | |||||||||||||||||||
Income tax benefit
|
103 | 110 | 460 | ||||||||||||||||||||||
Loss before cumulative effect of accounting change
|
(3,576 | ) | (238 | ) | (2,308 | ) | |||||||||||||||||||
Cumulative effect of accounting change, net of tax
|
(765 | ) | | (206 | ) | ||||||||||||||||||||
Net loss
|
(4,341 | ) | (238 | ) | (2,514 | ) | |||||||||||||||||||
Dividends on preferred stock
redeemable
|
(4 | ) | (4 | ) | (3 | ) | |||||||||||||||||||
54
Year Ended December 31, | ||||||||||||||||||||||||
2004 | 2003 | 2002 | ||||||||||||||||||||||
Net loss applicable to common stock
|
$ | (4,345 | ) | $ | (242 | ) | $ | (2,517 | ) | |||||||||||||||
Loss per common share, basic and diluted
|
$ | (14.47 | ) | $ | (0.82 | ) | $ | (8.55 | ) | |||||||||||||||
Weighted average common shares outstanding
|
300,291,877 | 294,597,519 | 294,440,261 | |||||||||||||||||||||
Year Ended December 31, 2004 Compared to Year Ended December 31, 2003
Revenues. Revenues increased by $158 million, or 3%, from $4.8 billion for the year ended December 31, 2003 to $5.0 billion for the year ended December 31, 2004. This increase is principally the result of an increase of 318,800 and 2,800 high-speed data customers and digital video customers, respectively, as well as price increases for video and high-speed data services, and is offset partially by a decrease of 439,800 analog video customers. Included in the reduction in analog video customers and reducing the increase in digital video and high-speed data customers are 230,800 analog video customers, 83,300 digital video customers and 37,800 high-speed data customers sold in the cable system sales to Atlantic Broadband Finance, LLC, which closed in March and April 2004 (collectively, with the cable system sale to WaveDivision Holdings, LLC in October 2003, referred to in this section as the System Sales). The System Sales reduced the increase in revenues by $160 million.
Average monthly revenue per analog video customer increased from $61.92 for the year ended December 31, 2003 to $68.02 for the year ended December 31, 2004 primarily as a result of price increases and incremental revenues from advanced services. Average monthly revenue per analog video customer represents total annual revenue, divided by twelve, divided by the average number of analog video customers during the respective period.
Revenues by service offering were as follows (dollars in millions):
Year Ended December 31, | ||||||||||||||||||||||||
2004 | 2003 | 2004 over 2003 | ||||||||||||||||||||||
% of | % of | % | ||||||||||||||||||||||
Revenues | Revenues | Revenues | Revenues | Change | Change | |||||||||||||||||||
Video
|
$ | 3,373 | 68 | % | $ | 3,461 | 72 | % | $ | (88 | ) | (3 | )% | |||||||||||
High-speed data
|
741 | 15 | % | 556 | 12 | % | 185 | 33 | % | |||||||||||||||
Advertising sales
|
289 | 6 | % | 263 | 5 | % | 26 | 10 | % | |||||||||||||||
Commercial
|
238 | 4 | % | 204 | 4 | % | 34 | 17 | % | |||||||||||||||
Other
|
336 | 7 | % | 335 | 7 | % | 1 | | ||||||||||||||||
$ | 4,977 | 100 | % | $ | 4,819 | 100 | % | $ | 158 | 3 | % | |||||||||||||
Video revenues consist primarily of revenues from analog and digital video services provided to our non-commercial customers. Video revenues decreased by $88 million, or 3%, from $3.5 billion for the year ended December 31, 2003 to $3.4 billion for the year ended December 31, 2004. Approximately $116 million of the decrease was the result of the System Sales and approximately an additional $65 million related to a decline in analog video customers. These decreases were offset by increases of approximately $66 million resulting from price increases and incremental video revenues from existing customers and approximately $27 million resulting from an increase in digital video customers.
Revenues from high-speed data services provided to our non-commercial customers increased $185 million, or 33%, from $556 million for the year ended December 31, 2003 to $741 million for the year ended December 31, 2004. Approximately $163 million of the increase related to the increase in the average number of customers receiving high-speed data services, whereas approximately $35 million related to the increase in average price of the service. The increase in high-speed data revenues was reduced by approximately $12 million as a result of the System Sales.
55
Advertising sales revenues consist primarily of revenues from commercial advertising customers, programmers and other vendors. Advertising sales increased $26 million, or 10%, from $263 million for the year ended December 31, 2003 to $289 million for the year ended December 31, 2004 primarily as a result of an increase in national advertising campaigns and election related advertising. The increase was offset by a decrease of $7 million as a result of the System Sales. For the years ended December 31, 2004 and 2003, we received $16 million and $15 million, respectively, in advertising revenue from vendors.
Commercial revenues consist primarily of revenues from cable video and high-speed data services to our commercial customers. Commercial revenues increased $34 million, or 17%, from $204 million for the year ended December 31, 2003, to $238 million for the year ended December 31, 2004, primarily as a result of an increase in commercial high-speed data revenues. The increase was reduced by approximately $14 million as a result of the System Sales.
Other revenues consist of revenues from franchise fees, telephony revenue, equipment rental, customer installations, home shopping, dial-up Internet service, late payment fees, wire maintenance fees and other miscellaneous revenues. For the year ended December 31, 2004 and 2003, franchise fees represented approximately 49% and 48%, respectively, of total other revenues. Other revenues increased $1 million from $335 million for the year ended December 31, 2003 to $336 million for the year ended December 31, 2004. The increase was primarily the result of an increase in home shopping and infomercial revenue and was partially offset by approximately $11 million as a result of the System Sales.
Operating expenses. Operating expenses increased $128 million, or 7%, from $2.0 billion for the year ended December 31, 2003 to $2.1 billion for the year ended December 31, 2004. The increase in operating expenses was reduced by approximately $59 million as a result of the System Sales. Programming costs included in the accompanying consolidated statements of operations were $1.3 billion and $1.2 billion, representing 63% and 64% of total operating expenses for the years ended December 31, 2004 and 2003, respectively. Key expense components as a percentage of revenues were as follows (dollars in millions):
Year Ended December 31, | ||||||||||||||||||||||||
2004 | 2003 | 2004 over 2003 | ||||||||||||||||||||||
% of | % of | % | ||||||||||||||||||||||
Expenses | Revenues | Expenses | Revenues | Change | Change | |||||||||||||||||||
Programming
|
$ | 1,319 | 27 | % | $ | 1,249 | 26 | % | $ | 70 | 6 | % | ||||||||||||
Advertising sales
|
98 | 2 | % | 88 | 2 | % | 10 | 11 | % | |||||||||||||||
Service
|
663 | 13 | % | 615 | 12 | % | 48 | 8 | % | |||||||||||||||
$ | 2,080 | 42 | % | $ | 1,952 | 40 | % | $ | 128 | 7 | % | |||||||||||||
Programming costs consist primarily of costs paid to programmers for analog, premium and digital channels and pay-per-view programming. The increase in programming costs of $70 million, or 6%, for the year ended December 31, 2004 over the year ended December 31, 2003 was a result of price increases, particularly in sports programming, an increased number of channels carried on our systems, and an increase in digital video customers, partially offset by a decrease in analog video customers. Additionally, the increase in programming costs was reduced by $42 million as a result of the System Sales. Programming costs were offset by the amortization of payments received from programmers in support of launches of new channels of $59 million and $62 million for the years ended December 31, 2004 and 2003, respectively. Programming costs for the year ended December 31, 2004 also include a $5 million reduction related to the settlement of a dispute with TechTV, Inc., a related party. See Note 22 to the consolidated financial statements included elsewhere in this prospectus.
Advertising sales expenses consist of costs related to traditional advertising services provided to advertising customers, including salaries, benefits and commissions. Advertising sales expenses increased $10 million, or 11%, primarily as a result of increased salary, benefit and commission costs. The increase in advertising sales expenses was reduced by $2 million as a result of the System Sales. Service costs consist primarily of service personnel salaries and benefits, franchise fees, system utilities, Internet service provider fees, maintenance and pole rental expense. The increase in service costs of $48 million, or 8%, resulted
56
Selling, general and administrative expenses. Selling, general and administrative expenses increased by $31 million, or 3%, from $940 million for the year ended December 31, 2003 to $971 million for the year ended December 31, 2004. The increase in selling, general and administrative expenses was reduced by $22 million as a result of the System Sales. Key components of expense as a percentage of revenues were as follows (dollars in millions):
Year Ended December 31, | ||||||||||||||||||||||||
2004 | 2003 | 2004 over 2003 | ||||||||||||||||||||||
% of | % of | % | ||||||||||||||||||||||
Expenses | Revenues | Expenses | Revenues | Change | Change | |||||||||||||||||||
General and administrative
|
$ | 849 | 17 | % | $ | 833 | 18 | % | $ | 16 | 2 | % | ||||||||||||
Marketing
|
122 | 2 | % | 107 | 2 | % | 15 | 14 | % | |||||||||||||||
$ | 971 | 19 | % | $ | 940 | 20 | % | $ | 31 | 3 | % | |||||||||||||
General and administrative expenses consist primarily of salaries and benefits, rent expense, billing costs, call center costs, internal network costs, bad debt expense and property taxes. The increase in general and administrative expenses of $16 million, or 2%, resulted primarily from increases in costs associated with our commercial business of $21 million, third party call center costs resulting from increased emphasis on customer service of $10 million and bad debt expense of $10 million offset by decreases in costs associated with salaries and benefits of $21 million and rent expense of $3 million.
Marketing expenses increased $15 million, or 14%, as a result of an increased investment in marketing and branding campaigns.
Depreciation and amortization. Depreciation and amortization expense increased by $42 million, or 3%, to $1.5 billion in 2004. The increase in depreciation related to an increase in capital expenditures, which was partially offset by lower depreciation as the result of the System Sales.
Impairment of franchises. We performed an impairment assessment during the third quarter of 2004. The use of lower projected growth rates and the resulting revised estimates of future cash flows in our valuation, primarily as a result of increased competition, led to the recognition of a $2.4 billion impairment charge for the year ended December 31, 2004.
(Gain) loss on sale of assets, net. Gain on sale of assets of $86 million for the year ended December 31, 2004 primarily represents the pretax gain of $104 million realized on the sale of systems to Atlantic Broadband Finance, LLC which closed in March and April 2004 offset by losses recognized on the disposition of plant and equipment. Loss on sale of assets of $5 million for the year ended December 31, 2003 represents the loss recognized on the disposition of plant and equipment offset by a gain of $21 million recognized on the sale of cable systems in Port Orchard, Washington which closed on October 1, 2003.
Option compensation expense, net. Option compensation expense of $31 million for the year ended December 31, 2004 primarily represents $22 million related to options granted and expensed in accordance with SFAS No. 123, Accounting for Stock-Based Compensation. Additionally, during the year ended December 31, 2004, we expensed approximately $8 million related to a stock option exchange program, under which our employees were offered the right to exchange all stock options (vested and unvested) issued under the 1999 Charter Communications Option Plan and 2001 Stock Incentive Plan that had an exercise price over $10 per share for shares of restricted Charter Class A common stock or, in some instances, cash. The exchange offer closed in February 2004. Option compensation expense of $4 million for the year ended December 31, 2003 primarily represents options expensed in accordance with SFAS No. 123, Accounting for Stock-Based Compensation. See Note 19 to our consolidated financial statements included elsewhere in this prospectus for more information regarding our option compensation plans.
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Special charges, net. Special charges of $104 million for the year ended December 31, 2004 represents approximately $85 million of aggregate value of the Charter Class A common stock and warrants to purchase Charter Class A common stock contemplated to be issued as part of a settlement of the consolidated federal class actions, state derivative actions and federal derivative action lawsuits, approximately $10 million of litigation costs related to the tentative settlement of a South Carolina national class action suit, all of which settlements are subject to final documentation and court approval and approximately $12 million of severance and related costs of our workforce reduction and realignment. Special charges for the year ended December 31, 2004 were offset by $3 million received from a third party in settlement of a dispute. Special charges of $21 million for the year ended December 31, 2003 represents approximately $26 million of severance and related costs of our workforce reduction partially offset by a $5 million credit from a settlement from the Internet service provider Excite@Home related to the conversion of about 145,000 high-speed data customers to our Charter Pipeline service in 2001.
Unfavorable contracts and other settlements. Unfavorable contracts and other settlements of $5 million for the year ended December 31, 2004 relates to changes in estimated legal reserves established in connection with prior business combinations, which based on an evaluation of current facts and circumstances, are no longer required.
Unfavorable contracts and other settlements of $72 million for the year ended December 31, 2003 represents the settlement of estimated liabilities recorded in connection with prior business combinations. The majority of this benefit (approximately $52 million) is due to the renegotiation in 2003 of a major programming contract, for which a liability had been recorded for the above market portion of that agreement in connection with a 1999 and a 2000 acquisition. The remaining benefit relates to the reversal of previously recorded liabilities, which are no longer required.
Interest expense, net. Net interest expense increased by $113 million, or 7%, from $1.6 billion for the year ended December 31, 2003 to $1.7 billion for the year ended December 31, 2004. The increase in net interest expense was a result of an increase in our average borrowing rate from 7.99% in the year ended December 31, 2003 to 8.66% in the year ended December 31, 2004 partially offset by a decrease of $306 million in average debt outstanding from $18.9 billion in 2003 to $18.6 billion in 2004.
Gain (loss) on derivative instruments and hedging activities, net. Net gain on derivative instruments and hedging activities increased $4 million from a gain of $65 million for the year ended December 31, 2003 to a gain of $69 million for the year ended December 31, 2004. The increase is primarily the result of an increase in gains on interest rate agreements that do not qualify for hedge accounting under SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities, which increased from a gain of $57 million for the year ended December 31, 2003 to a gain of $65 million for the year ended December 31, 2004. This was coupled with a decrease in gains on interest rate agreements, as a result of hedge ineffectiveness on designated hedges, which decreased from $8 million for the year ended December 31, 2003 to $4 million for the year ended December 31, 2004.
Loss on debt to equity conversions. Loss on debt to equity conversions of $23 million for the year ended December 31, 2004 represents the loss recognized from privately negotiated exchanges of a total of $30 million principal amount of Charters 5.75% convertible senior notes held by two unrelated parties for shares of Charter Class A common stock. The exchange resulted in the issuance of more shares in the exchange transaction than would have been issuable under the original terms of the convertible senior notes.
Gain (loss) on extinguishment of debt. Loss on extinguishment of debt of $31 million for the year ended December 31, 2004 represents the write-off of deferred financing fees and third party costs related to the Charter Communications Operating refinancing in April 2004 and the redemption of our 5.75% convertible senior notes due 2005 in December 2004. Gain on extinguishment of debt of $267 million for the year ended December 31, 2003 represents the gain realized on the purchase of an aggregate $609 million principal amount of our outstanding convertible senior notes and $1.3 billion principal amount of Charter Holdings senior notes and senior discount notes in consideration for an aggregate of $1.6 billion principal amount of 10.25% notes due
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Other, net. Net other expense decreased by $19 million from $16 million in 2003 to income of $3 million in 2004. Other expense in 2003 included $11 million associated with amending a revolving credit facility of our subsidiaries and costs associated with terminated debt transactions that did not recur in 2004. In addition, gains on equity investments increased $7 million in 2004 over 2003.
Minority interest. Minority interest represents the 2% accretion of the preferred membership interests in our indirect subsidiary, CC VIII, LLC, and since June 6, 2003, the pro rata share of the profits and losses of CC VIII, LLC. See Certain Relationships and Related Transactions Transactions Arising out of Our Organizational Structure and Mr. Allens Investment in Charter Communications, Inc. and Its Subsidiaries Equity Put Rights CC VIII. Reported losses allocated to minority interest on the statement of operations are limited to the extent of any remaining minority interest on the balance sheet related to Charter Holdco. Because minority interest in Charter Holdco was substantially eliminated at December 31, 2003, beginning in the first quarter of 2004, Charter began to absorb substantially all future losses before income taxes that otherwise would have been allocated to minority interest. For the year ended December 31, 2003, 53.5% of our losses were allocated to minority interest. As a result of negative equity at Charter Holdco during the year ended December 31, 2004, no additional losses were allocated to minority interest, resulting in an additional $2.4 billion of net losses. Under our existing capital structure, future losses will be substantially absorbed by Charter.
Income tax benefit. Income tax benefit of $103 million and $110 million was recognized for the years ended December 31, 2004 and 2003, respectively. The income tax benefits were realized as a result of decreases in certain deferred tax liabilities related to our investment in Charter Holdco as well as decreases in the deferred tax liabilities of certain of our indirect corporate subsidiaries.
The income tax benefit recognized in the year ended December 31, 2004 was directly related to the impairment of franchises as discussed above. The deferred tax liabilities decreased as a result of the write-down of franchise assets for financial statement purposes, but not for tax purposes. We do not expect to recognize a similar benefit associated with the impairment of franchises in future periods. However, the actual tax provision calculations in future periods will be the result of current and future temporary differences, as well as future operating results.
The income tax benefit recognized in the year ended December 31, 2003 was directly related to the tax losses allocated to Charter from Charter Holdco. In the second quarter of 2003, Charter started receiving tax loss allocations from Charter Holdco. Previously, the tax losses had been allocated to Vulcan Cable III Inc. and Charter Investment, Inc. in accordance with the Special Loss Allocations provided under the Charter Holdco limited liability company agreement. We do not expect to recognize a similar benefit related to our investment in Charter Holdco after 2003 related to tax loss allocations received from Charter Holdco, due to limitations associated with our ability to offset future tax benefits against the remaining deferred tax liabilities. However, the actual tax provision calculations in future periods will be the result of current and future temporary differences, as well as future operating results.
Cumulative effect of accounting change, net of tax. Cumulative effect of accounting change of $765 million (net of minority interest effects of $19 million and tax effects of $91 million) in 2004 represents the impairment charge recorded as a result of our adoption of EITF Topic D-108.
Net loss. Net loss increased by $4.1 billion from $238 million in 2003 to $4.3 billion in 2004 as a result of the factors described above. The impact to net loss in 2004 of the impairment of franchises, cumulative effect of accounting change and the reduction in losses allocated to minority interest was to increase net loss by approximately $3.7 billion. The impact to net loss in 2003 of the gain on the sale of systems, unfavorable contracts and settlements and gain on debt exchange, net of income tax impact, was to decrease net loss by $168 million.
Preferred stock dividends. On August 31, 2001, in connection with the Cable USA acquisition, Charter issued 505,664 shares (and on February 28, 2003 issued an additional 39,595 shares) of Series A
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Loss per common share. The loss per common share increased by $13.65, from $0.82 per common share for the year ended December 31, 2003 to $14.47 per common share for the year ended December 31, 2004 as a result of the factors described above.
Year Ended December 31, 2003 Compared to Year Ended December 31, 2002
Revenues. Revenues increased by $253 million, or 6%, from $4.6 billion for the year ended December 31, 2002 to $4.8 billion for the year ended December 31, 2003. This increase is principally the result of an increase of 427,500 high-speed data customers, as well as price increases for video and high-speed data services, and is offset partially by a decrease of 147,500 and 10,900 in analog and digital video customers, respectively. Included within the decrease of analog and digital video customers and reducing the increase of high-speed data customers are 25,500 analog video customers, 12,500 digital video customers and 12,200 high-speed data customers sold in the Port Orchard, Washington sale on October 1, 2003.
Average monthly revenue per analog video customer increased from $56.91 for the year ended December 31, 2002 to $61.92 for the year ended December 31, 2003 primarily as a result of price increases and incremental revenues from advanced services. Average monthly revenue per analog video customer represents total annual revenue, divided by twelve, divided by the average number of analog video customers during the respective period.
Revenues by service offering were as follows (dollars in millions):
Year Ended December 31, | ||||||||||||||||||||||||
2003 | 2002 | 2003 over 2002 | ||||||||||||||||||||||
Revenues | % of Revenues | Revenues | % of Revenues | Change | % Change | |||||||||||||||||||
Video
|
$ | 3,461 | 72 | % | $ | 3,420 | 75 | % | $ | 41 | 1 | % | ||||||||||||
High-speed data
|
556 | 12 | % | 337 | 7 | % | 219 | 65 | % | |||||||||||||||
Advertising sales
|
263 | 5 | % | 302 | 7 | % | (39 | ) | (13 | )% | ||||||||||||||
Commercial
|
204 | 4 | % | 161 | 3 | % | 43 | 27 | % | |||||||||||||||
Other
|
335 | 7 | % | 346 | 8 | % | (11 | ) | (3 | )% | ||||||||||||||
$ | 4,819 | 100 | % | $ | 4,566 | 100 | % | $ | 253 | 6 | % | |||||||||||||
Video revenues consist primarily of revenues from analog and digital video services provided to our non-commercial customers. Video revenues increased by $41 million, or 1%, for the year ended December 31, 2003 compared to the year ended December 31, 2002. Video revenues increased approximately $65 million due to price increases and incremental video revenues from existing customers and $82 million as a result of increases in the average number of digital video customers, which were partially offset by a decrease of approximately $106 million as a result of a decline in analog video customers.
Revenues from high-speed data services provided to our non-commercial customers increased $219 million, or 65%, from $337 million for the year ended December 31, 2002 to $556 million for the year ended December 31, 2003. Approximately $206 million of the increase related to the increase in the average number of customers, whereas approximately $13 million related to the increase in the average price of the service. The increase in customers was primarily due to the addition of high-speed data customers in our existing service areas. We were also able to offer this service to more of our customers, as the estimated percentage of homes passed that could receive high-speed data service increased from 82% as of December 31, 2002 to 87% as of December 31, 2003 as a result of our system upgrades.
Advertising sales revenues consist primarily of revenues from commercial advertising customers, programmers and other vendors. Advertising sales decreased $39 million, or 13%, from $302 million for the year ended December 31, 2002, to $263 million for the year ended December 31, 2003, primarily as a
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Commercial revenues consist primarily of revenues from video and high-speed data services to our commercial customers. Commercial revenues increased $43 million, or 27%, from $161 million for the year ended December 31, 2002, to $204 million for the year ended December 31, 2003, primarily due to an increase in commercial high-speed data revenues.
Other revenues consist of revenues from franchise fees, equipment rental, customer installations, home shopping, dial-up Internet service, late payment fees, wire maintenance fees and other miscellaneous revenues. For the years ended December 31, 2003 and 2002, franchise fees represented approximately 48% and 46%, respectively, of total other revenues. Other revenues decreased $11 million, or 3%, from $346 million for the year ended December 31, 2002 to $335 million for the year ended December 31, 2003. The decrease was due primarily to a decrease in franchise fees after an FCC ruling in March 2002, no longer requiring the collection of franchise fees for high-speed data services. Franchise fee revenues are collected from customers and remitted to franchise authorities.
The decrease in accounts receivable of 27% compared to the increase in revenues of 6% is primarily due to the timing of collection of receivables from programmers for fees associated with the launching of their networks coupled with our tightened credit and collections policy. These fees from programmers are not recorded as revenue but, rather, are recorded as reductions of programming expense on a straight-line basis over the term of the contract. Programmer receivables decreased $40 million, or 57%, from $70 million as of December 31, 2002 to $30 million as of December 31, 2003.
Operating expenses. Operating expenses increased $145 million, or 8%, from $1.8 billion for the year ended December 31, 2002 to $2.0 billion for the year ended December 31, 2003. Programming costs included in the accompanying consolidated statements of operations were $1.2 billion and $1.2 billion, representing 64% and 65% of total operating expenses for the years ended December 31, 2003 and 2002, respectively. Key expense components as a percentage of revenues were as follows (dollars in millions):
Year Ended December 31, | ||||||||||||||||||||||||
2003 | 2002 | 2003 over 2002 | ||||||||||||||||||||||
% of | % of | % | ||||||||||||||||||||||
Expenses | Revenues | Expenses | Revenues | Change | Change | |||||||||||||||||||
Programming
|
$ | 1,249 | 26 | % | $ | 1,166 | 26 | % | $ | 83 | 7 | % | ||||||||||||
Advertising sales
|
88 | 2 | % | 87 | 2 | % | 1 | 1 | % | |||||||||||||||
Service
|
615 | 12 | % | 554 | 12 | % | 61 | 11 | % | |||||||||||||||
$ | 1,952 | 40 | % | $ | 1,807 | 40 | % | $ | 145 | 8 | % | |||||||||||||
Programming costs consist primarily of costs paid to programmers for analog, premium and digital channels and pay-per-view programs. The increase in programming costs of $83 million, or 7%, was due to price increases, particularly in sports programming, and due to an increased number of channels carried on our systems, partially offset by decreases in analog and digital video customers. Programming costs were offset by the amortization of payments received from programmers in support of launches of new channels against programming costs of $62 million and $57 million for the years ended December 31, 2003 and 2002, respectively.
Advertising sales expenses consist of costs related to traditional advertising services provided to advertising customers, including salaries and benefits and commissions. Advertising sales expenses increased $1 million, or 1%, primarily due to increased sales commissions, taxes and benefits. Service costs consist primarily of service personnel salaries and benefits, franchise fees, system utilities, Internet service provider fees, maintenance and pole rental expense. The increase in service costs of $61 million, or 11%, resulted primarily from additional activity associated with ongoing infrastructure maintenance and customer service, including activities associated with our promotional programs.
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Selling, general and administrative expenses. Selling, general and administrative expenses decreased by $23 million, or 2%, from $963 million for the year ended December 31, 2002 to $940 million for the year ended December 31, 2003. Key components of expense as a percentage of revenues were as follows (dollars in millions):
Year Ended December 31, | ||||||||||||||||||||||||
2003 | 2002 | 2003 over 2002 | ||||||||||||||||||||||
% of | % of | % | ||||||||||||||||||||||
Expenses | Revenues | Expenses | Revenues | Change | Change | |||||||||||||||||||
General and administrative
|
$ | 833 | 18 | % | $ | 810 | 18 | % | $ | 23 | 3 | % | ||||||||||||
Marketing
|
107 | 2 | % | 153 | 3 | % | (46 | ) | (30 | )% | ||||||||||||||
$ | 940 | 20 | % | $ | 963 | 21 | % | $ | (23 | ) | (2 | )% | ||||||||||||
General and administrative expenses consist primarily of salaries and benefits, rent expense, billing costs, call center costs, internal network costs, bad debt expense and property taxes. The increase in general and administrative expenses of $23 million, or 3%, resulted primarily from increases in salaries and benefits of $4 million, call center costs of $25 million and internal network costs of $16 million. These increases were partially offset by a decrease in bad debt and collection expense of $27 million as a result of our strengthened credit policies.
Marketing expenses decreased $46 million, or 30%, due to reduced promotional activity related to our service offerings including reductions in advertising, telemarketing and direct sales activities.
Depreciation and amortization. Depreciation and amortization expense increased by $17 million, or 1%, from $1.4 billion in 2002 to $1.5 billion in 2003 due primarily to an increase in depreciation expense related to additional capital expenditures in 2003 and 2002.
Impairment of franchises. We performed our annual impairment assessments as of October 1, 2002 and 2003. Revised estimates of future cash flows and the use of a lower projected long-term growth rate in our valuation led to a $4.6 billion impairment charge in the fourth quarter of 2002. Our 2003 assessment performed on October 1, 2003 did not result in an impairment.
Loss on sale of assets, net. Loss on sale of assets for the year ended December 31, 2003 represents $26 million of losses related to the disposition of fixed assets offset by the $21 million gain recognized on the sale of cable systems in Port Orchard, Washington on October 1, 2003. Loss on sale of assets for the year ended December 31, 2002 represents losses related to the disposition of fixed assets.
Option compensation expense, net. Option compensation expense decreased by $1 million for the year ended December 31, 2003 compared to the year ended December 31, 2002. Option compensation expense includes expense related to exercise prices on certain options that were issued prior to our initial public offering in 1999 that were less than the estimated fair values of our common stock at the time of grant. Compensation expense was recognized over the vesting period of such options and was recorded until the last vesting period lapsed in April 2004. On January 1, 2003, we adopted SFAS No. 123, Accounting for Stock-Based Compensation, using the prospective method under which we will recognize 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.
Special charges, net. Special charges of $21 million for the year ended December 31, 2003 represent approximately $26 million of severance and related costs of our ongoing initiative to reduce our workforce partially offset by a $5 million credit from a settlement from the Internet service provider Excite@Home related to the conversion of about 145,000 high-speed data customers to our Charter Pipeline service in 2001. In the fourth quarter of 2002, we recorded a special charge of $35 million, of which $31 million was associated with our workforce reduction program. The remaining $4 million is related to legal and other costs associated with our shareholder lawsuits and governmental investigations.
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Unfavorable contracts and other settlements. Unfavorable contracts and other settlements of $72 million for the year ended December 31, 2003 represents the settlement of estimated liabilities recorded in connection with prior business combinations. The majority of this benefit (approximately $52 million) is due to the renegotiation in 2003 of a major programming contract, for which a liability had been recorded for the above market portion of that agreement in connection with a 1999 and a 2000 acquisition. The remaining benefit relates to the reversal of previously recorded liabilities, which, based on an evaluation of current facts and circumstances, are no longer required.
Interest expense, net. Net interest expense increased by $54 million, or 4%, from $1.5 billion for the year ended December 31, 2002 to $1.6 billion for the year ended December 31, 2003. The increase in net interest expense was a result of increased average debt outstanding in 2003 of $18.9 billion compared to $17.8 billion in 2002, partially offset by a decrease in our average borrowing rate from 8.02% in 2002 to 7.99% in 2003. The increased debt was primarily used for capital expenditures.
Gain (loss) on derivative instruments and hedging activities, net. Net gain on derivative instruments and hedging activities increased $180 million from a loss of $115 million for the year ended December 31, 2002 to a gain of $65 million for the year ended December 31, 2003. The increase is primarily due to an increase in gains on interest rate agreements, which do not qualify for hedge accounting under SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities, which increased from a loss of $101 million for the year ended December 31, 2002 to a gain of $57 million for the year ended December 31, 2003.
Gain (loss) on extinguishment of debt. Net gain on extinguishment of debt of $267 million for the year ended December 31, 2003 represents the gain realized on the purchase, in a non-monetary transaction, of a total of $609 million principal amount of our outstanding convertible senior notes and $1.3 billion principal amount of Charter Holdings senior notes and senior discount notes in consideration for a total of $1.6 billion principal amount of 10.25% notes due 2010 issued by our indirect subsidiary, CCH II. The gain is net of the write-off of deferred financing costs associated with the retired debt of $27 million.
Other expense, net. Other expense increased by $12 million from $4 million in 2002 to $16 million in 2003. This increase is primarily due to increases in costs associated with amending a revolving credit facility of our subsidiaries and costs associated with terminated debt transactions.
Minority interest. Minority interest represents the allocation of losses to the minority interest based on ownership of Charter Holdco, the 10% dividend on preferred membership units in our indirect subsidiary, Charter Helicon, LLC and the 2% accretion of the preferred membership interests in our indirect subsidiary, CC VIII, LLC, and since June 6, 2003, the pro rata share of the profits of CC VIII, LLC. See Certain Relationships and Related Transactions Transactions Arising Out of Our Organizational Structure and Mr. Allens Investment in Charter Communications, Inc. and Its Subsidiaries Equity Put Rights CC VIII.
Income tax benefit. Income tax benefit of $110 million and $460 million was recognized for the years ended December 31, 2003 and 2002, respectively. The income tax benefits were realized as a result of decreases in certain deferred tax liabilities related to our investment in Charter Holdco as well as decreases in the deferred tax liabilities of certain of our indirect corporate subsidiaries.
The income tax benefit recognized in the year ended December 31, 2003 was directly related to the tax losses allocated to Charter from Charter Holdco. In the second quarter of 2003, Charter started receiving tax loss allocations from Charter Holdco. Previously, the tax losses had been allocated to Vulcan Cable III Inc. and Charter Investment, Inc. in accordance with the Special Loss Allocations provided under the Charter Holdco limited liability company agreement. We do not expect to recognize a similar benefit after 2003 related to tax loss allocations received from Charter Holdco, due to limitations associated with our ability to offset future tax benefits against the remaining deferred tax liabilities. However, the actual tax provision calculations in future periods will be the result of current and future temporary differences, as well as future operating results.
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The income tax benefit recognized in the year ended December 31, 2002 was directly related to the impairment of franchises associated with the adoption of SFAS No. 142.
Cumulative effect of accounting change, net of tax. Cumulative effect of accounting change in 2002 represents the impairment charge recorded as a result of adopting SFAS No. 142.
Net loss. Net loss decreased by $2.3 billion, or 91%, from $2.5 billion in 2002 to $238 million in 2003 as a result of the factors described above. The impact of the gain on sale of system, unfavorable contracts and settlements and gain on debt exchange, net of minority interest and income tax impacts, was to decrease net loss by $168 million in 2003. The impact of the impairment of franchises and the cumulative effect of accounting change, net of minority interest and income tax impacts, was to increase net loss by $1.6 billion in 2002.
Preferred stock dividends. On August 31, 2001, in connection with the Cable USA acquisition, Charter issued 505,664 shares (and on February 28, 2003 issued an additional 39,595 shares) of Series A Convertible Redeemable Preferred Stock on which it pays or accrues a quarterly cumulative cash dividend at an annual rate of 5.75% if paid or 7.75% if accrued on a liquidation preference of $100 per share.
Loss per common share. Loss per common share decreased by $7.73, from $8.55 per common share for the year ended December 31, 2002 to $0.82 per common share for the year ended December 31, 2003 as a result of the factors described above.
Liquidity and Capital Resources
Introduction
This section contains a discussion of our liquidity and capital resources, including a discussion of our cash position, sources and uses of cash, access to credit facilities and other financing sources, historical financing activities, cash needs, capital expenditures and outstanding debt.
Overview
We have a significant level of debt. For the remainder of 2005, $23 million of our debt matures, and in 2006, an additional $152 million matures. In 2007 and beyond, significant additional amounts will become due under our remaining long-term debt obligations.
Our business requires significant cash to fund debt service costs, capital expenditures and ongoing operations. We have historically funded our debt service costs, operating activities and capital requirements through cash flows from operating activities, borrowings under the credit facilities of our subsidiaries, sales of assets, issuances of debt and equity securities and cash on hand. However, the mix of funding sources changes from period to period. For the three months ended March 31, 2005, we generated $153 million of net cash flows from operating activities after paying cash interest of $249 million. In addition, we used approximately $211 million for purchases of property, plant and equipment. Finally, we had net cash flows used in financing activities of $578 million, which included, among other things, approximately $628 million in repayment of outstanding borrowings under the Charter Operating revolving credit facility through a series of transactions in February 2005. We expect that our mix of sources of funds will continue to change in the future based on overall needs relative to our cash flow and on the availability of funds under the credit facilities of our subsidiaries, our access to the debt and equity markets, the timing of possible asset sales and our ability to generate cash flows from operating activities. We continue to explore asset dispositions as one of several possible actions that we could take in the future to improve our liquidity, but we do not presently consider future asset sales as a significant source of liquidity.
We expect that cash on hand, cash flows from operating activities and the amounts available under our credit facilities will be adequate to meet our cash needs in 2005. Cash flows from operating activities and amounts available under our credit facilities may not be sufficient to permit us to fund our operations and satisfy our principal repayment obligations that come due in 2006 and, we believe, such amounts will not be sufficient to fund our operations and satisfy such repayment obligations thereafter.
It is likely that we will require additional funding to repay debt maturing after 2006. We are working with our financial advisors to address such funding requirements. However, there can be no assurance that
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Credit Facilities and Covenants
Our ability to operate depends upon, among other things, our continued access to capital, including credit under the Charter Operating credit facilities. These credit facilities, along with our and our subsidiaries indentures, contain certain restrictive covenants, some of which require us to maintain specified financial ratios and meet financial tests and to provide audited financial statements with an unqualified opinion from our independent auditors. We are in compliance with the covenants under our indentures and credit facilities and the indentures of our subsidiaries, and we expect to remain in compliance with those covenants for the next twelve months. As of March 31, 2005, we had borrowing availability under our credit facilities of $1.2 billion, none of which was restricted due to covenants. Continued access to our credit facilities is subject to our remaining in compliance with the covenants of these credit facilities, including covenants tied to our operating performance. If our operating performance results in non-compliance with these covenants, or if any of certain other events of non-compliance under these credit facilities or indentures governing our debt occurs, funding under the credit facilities may not be available and defaults on some or potentially all of our debt obligations could occur. An event of default under the covenants governing any of our debt instruments could result in the acceleration of our payment obligations under that debt and, under certain circumstances, in cross-defaults under our other debt obligations, which could have a material adverse effect on our consolidated financial condition and results of operations.
The Charter Operating credit facilities required us to redeem the CC V Holdings, LLC notes as a result of the Charter Holdings leverage ratio becoming less than 8.75 to 1.0. In satisfaction of this requirement, in March 2005, CC V Holdings, LLC redeemed all of its outstanding notes, at 103.958% of principal amount, plus accrued and unpaid interest to the date of redemption. The total cost of the redemption including accrued and unpaid interest was approximately $122 million and was funded with borrowings under the Charter Operating credit facilities.
Specific Limitations
Our ability to make interest payments on our convertible senior notes, and, in 2006 and 2009, to repay the outstanding principal of our convertible senior notes of $122 million and $863 million, respectively, as of March 31, 2005, will depend on our ability to raise additional capital and/or on receipt of payments or distributions from Charter Holdco or its subsidiaries, including CCH II, CCO Holdings and Charter Operating. During the three months ended March 31, 2005, Charter Holdings distributed $60 million to Charter Holdco. As of March 31, 2005, Charter Holdco was owed $161 million in intercompany loans from its subsidiaries, which amount was available to pay interest and principal on Charters convertible senior notes. In addition, Charter has $145 million of governmental securities pledged as security for the first six interest payments on Charters 5.875% convertible senior notes.
Distributions by Charters subsidiaries to a parent company (including Charter and Charter Holdco) for payment of principal on Charters convertible senior notes, however, are restricted by the indentures governing the CCH II notes, CCO Holdings notes, and Charter Operating notes, unless under their respective indentures there is no default and a specified leverage ratio test is met at the time of such event.
The indentures governing the Charter Holdings notes permit Charter Holdings to make distributions to Charter Holdco for payment of interest or principal on the convertible senior notes, only if, after giving effect to the distribution, Charter Holdings can incur additional debt under the leverage ratio of 8.75 to 1.0, there is no default under the Charter Holdings indentures and other specified tests are met. For the quarter ended March 31, 2005, there was no default under Charter Holdings indentures and other specified tests were met. However, Charter Holdings did not meet the leverage ratio of 8.75 to 1.0 based on March 31, 2005 financial results. As a result, distributions from Charter Holdings to Charter or Charter Holdco are currently restricted and will continue to be restricted until that test is met. During this restriction period, the indentures governing the Charter Holdings notes permit Charter Holdings and its
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We were required to register for resale by April 21, 2005 our 5.875% convertible senior notes due 2009 issued in November 2004. Since these convertible notes were not registered by that date, we have incurred liquidated damages since that date at a rate of 0.25% per annum of the accreted principal amount of the notes through July 14, 2005, the day prior to the effective date of the registration statement. The liquidated damages were or will be paid by Charter in cash. In addition, we were required to have effective the registration statement of which this prospectus forms a part by April 1, 2005. Such registration was not declared effective by that date, and we incurred liquidated damages from April 2, 2005 through July 17, 2005, the day before the effective date of the registration statement containing this prospectus. These liquidated damages were payable in cash. These liquidated damages accrued at a rate of 0.25% per month of the accreted principal amount of the convertible notes for the first 60 days after April 1, 2005 and 0.50% per month of the accreted principal amount of the convertible notes thereafter. In April, May, June and July 2005, the liquidated damage payments were made in cash.
Our significant amount of debt could negatively affect our ability to access additional capital in the future. No assurances can be given that we will not experience liquidity problems if we do not obtain sufficient additional financing on a timely basis as our debt becomes due or because of adverse market conditions, increased competition or other unfavorable events. If, at any time, additional capital or borrowing capacity is required beyond amounts internally generated or available under our credit facilities or through additional debt or equity financings, we would consider:
| issuing equity that would significantly dilute existing shareholders; | |
| issuing convertible debt or some other securities that may have structural or other priorities over our existing notes and may also significantly dilute Charters existing shareholders; | |
| further reducing our expenses and capital expenditures, which may impair our ability to increase revenue; | |
| selling assets; or | |
| requesting waivers or amendments with respect to our credit facilities, the availability and terms of which would be subject to market conditions. |
If the above strategies are not successful, we could be forced to restructure our obligations or seek protection under the bankruptcy laws. In addition, if we need to raise additional capital through the issuance of equity or find it necessary to engage in a recapitalization or other similar transaction, our shareholders could suffer significant dilution and our noteholders might not receive principal and interest payments to which they are contractually entitled.
Issuance of Charter Operating Notes in Exchange for Charter Holdings Notes; Repurchase of Convertible Notes
In March and June 2005, our subsidiary, Charter Operating, consummated exchange transactions with a small number of institutional holders of Charter Holdings 8.25% senior notes due 2007 pursuant to which Charter Operating issued, in private placement transactions, approximately $271 million and $62 million, respectively, principal amount of new notes with terms identical to Charter Operatings 8.375% senior second lien notes due 2014 in exchange for approximately $284 million and $62 million, respectively, of the Charter Holdings 8.25% senior notes due 2007. In addition, in March 2005, we repurchased from a single holder $34 million principal amount of our 4.75% convertible senior notes due 2006 for a price equal to 98% of the principal amount plus accrued and unpaid interest. Since March 31, 2005, we repurchased, in private transactions, from a small number of institutional holders, a total of
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Sale of Assets
In March 2004, we closed the sale of certain cable systems in Florida, Pennsylvania, Maryland, Delaware and West Virginia to Atlantic Broadband Finance, LLC. We closed the sale of an additional cable system in New York to Atlantic Broadband Finance, LLC in April 2004. The total net proceeds from the sale of all of these systems were approximately $735 million. The proceeds were used to repay a portion of our revolving credit facilities.
Summary of Outstanding Contractual Obligations |
The following table summarizes our payment obligations as of December 31, 2004 under our long-term debt and certain other contractual obligations and commitments (dollars in millions).
Payments by Period | |||||||||||||||||||||
Less than | 1-3 | 3-5 | More than | ||||||||||||||||||
Total | 1 Year | Years | Years | 5 Years | |||||||||||||||||
Contractual Obligations
|
|||||||||||||||||||||
Long-Term Debt Principal Payments(1)
|
$ | 19,791 | $ | 30 | $ | 917 | $ | 5,898 | $ | 12,946 | |||||||||||
Long-Term Debt Interest Payments(2)
|
10,109 | 1,454 | 3,348 | 3,332 | 1,975 | ||||||||||||||||
Payments on Interest Rate Instruments(3)
|
81 | 50 | 31 | | | ||||||||||||||||
Capital and Operating Lease Obligations(1)
|
88 | 23 | 30 | 17 | 18 | ||||||||||||||||
Programming Minimum Commitments(4)
|
1,579 | 318 | 719 | 542 | | ||||||||||||||||
Other(5)
|
272 | 62 | 97 | 46 | 67 | ||||||||||||||||
Total
|
$ | 31,920 | $ | 1,937 | $ | 5,142 | $ | 9,835 | $ | 15,006 | |||||||||||
(1) | The table presents maturities of long-term debt outstanding as of December 31, 2004 and does not reflect the effects of the March 2005 redemption of the CC V Holdings, LLC notes. Refer to Description of Certain Indebtedness and Notes 9 and 23 to our December 31, 2004 consolidated financial statements included in this prospectus for a description of our long-term debt and other contractual obligations and commitments. |
(2) | Interest payments on variable debt are estimated using amounts outstanding at December 31, 2004 and the average implied forward London Interbank Offering Rate (LIBOR) rates applicable for the quarter during the interest rate reset based on the yield curve in effect at December 31, 2004. Actual interest payments will differ based on actual LIBOR rates and actual amounts outstanding for applicable periods. |
(3) | Represents amounts we will be required to pay under our interest rate hedge agreements estimated using the average implied forward LIBOR rates applicable for the quarter during the interest rate reset based on the yield curve in effect at December 31, 2004. |
(4) | We pay programming fees under multi-year contracts ranging generally from three to six years typically based on a flat fee per customer, which may be fixed for the term or may in some cases, escalate over the term. Programming costs included in the accompanying statements of operations were $1.3 billion, $1.2 billion and $1.2 billion for the years ended December 31, 2004, 2003 and 2002, respectively. Certain of our programming agreements are based on a flat fee per month or have guaranteed minimum payments. The table sets forth the aggregate guaranteed minimum commitments under our programming contracts. |
(5) | Other represents other guaranteed minimum commitments, which consist primarily of commitments to our billing services vendors. |
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The following items are not included in the contractual obligations table because the obligations are not fixed and/ or determinable due to various factors discussed below. However, we incur these costs as part of our operations:
| We also rent utility poles used in our operations. Generally, pole rentals are cancelable on short notice, but we anticipate that such rentals will recur. Rent expense incurred for pole rental attachments for the years ended December 31, 2004, 2003 and 2002, was $43 million, $40 million and $41 million, respectively. | |
| We pay franchise fees under multi-year franchise agreements based on a percentage of revenues earned from video service per year. We also pay other franchise related costs, such as public education grants under multi-year agreements. Franchise fees and other franchise-related costs included in the accompanying statements of operations were $164 million, $162 million and $160 million for the years ended December 31, 2004, 2003 and 2002, respectively. | |
|