| • QUARTERLY REPORT • SECTION 302 CEO CERTIFICATION • SECTION 302 CFO CERTIFICATION • SECTION 906 CEO CERTIFICATION • SECTION 906 CFO CERTIFICATION • XBRL INSTANCE DOCUMENT • XBRL TAXONOMY EXTENSION SCHEMA DOCUMENT • XBRL TAXONOMY EXTENSION CALCULATION LINKBASE DOCUMENT • XBRL TAXONOMY EXTENSION DEFINITION LINKBASE DOCUMENT • XBRL TAXONOMY EXTENSION LABEL LINKBASE DOCUMENT • XBRL TAXONOMY EXTENSION PRESENTATION LINKBASE DOCUMENT | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q
For the Quarterly Period Ended June 30, 2012
For the transition period from to Commission File Number 1-8519 CINCINNATI BELL INC.
221 East Fourth Street, Cincinnati, Ohio 45202 (Address of principal executive offices) (Zip Code) (513) 397-9900 (Registrant’s telephone number, including area code) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No o Indicate by check mark whether the registrant has submitted electronically and posted on its corporate website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x No o Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No x At July 31, 2012, there were 197,388,041 common shares outstanding.
TABLE OF CONTENTS PART I. Financial Information
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (Dollars in millions, except per share amounts) (Unaudited)
The accompanying notes are an integral part of the condensed consolidated financial statements. 1 CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (Dollars in millions) (Unaudited)
The accompanying notes are an integral part of the condensed consolidated financial statements. 2
CONDENSED CONSOLIDATED BALANCE SHEETS (Dollars in millions, except share amounts) (Unaudited)
The accompanying notes are an integral part of the condensed consolidated financial statements. 3
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Dollars in millions) (Unaudited)
The accompanying notes are an integral part of the condensed consolidated financial statements. 4
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
Description of Business — Cincinnati Bell Inc. and its consolidated subsidiaries (the “Company” or “we” ) provide diversified telecommunications and technology services through businesses in four segments: Wireline, Wireless, Data Center Colocation, and IT Services and Hardware. Basis of Presentation — The Condensed Consolidated Financial Statements of the Company have been prepared pursuant to the rules and regulations of the U.S. Securities and Exchange Commission (“SEC”) and, in the opinion of management, include all adjustments necessary for a fair presentation of the results of operations, other comprehensive income, financial position, and cash flows for each period presented. The adjustments referred to above are of a normal and recurring nature. Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”) have been condensed or omitted pursuant to SEC rules and regulations for interim reporting. The Condensed Consolidated Balance Sheet as of December 31, 2011 was derived from audited financial statements, but does not include all disclosures required by U.S. GAAP. These Condensed Consolidated Financial Statements should be read in conjunction with the Company’s 2011 Annual Report on Form 10-K. Operating results for the three and six months ended June 30, 2012 are not necessarily indicative of the results expected for the full year or any other interim period. Use of Estimates — Preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the amounts reported. Actual results could differ from those estimates. In the normal course of business, the Company is subject to various regulatory and tax proceedings, lawsuits, claims, and other matters. The Company believes adequate provision has been made for all such asserted and unasserted claims in accordance with U.S. GAAP. Such matters are subject to many uncertainties and outcomes that are not predictable with assurance. Recently Issued Accounting Standards — In July 2012, the Financial Accounting Standards Board ("FASB") amended the guidance in Accounting Standards Codification ("ASC") 350-30 on testing indefinite-lived intangibles assets, other than goodwill, for impairment. Under the revised guidance, an entity testing an indefinite-lived intangible asset for impairment has the option of performing a qualitative assessment before performing quantitative tests. If the entity determines, on the basis of qualitative factors, that the fair value of the indefinite-lived intangible asset is not more likely than not impaired, the entity would not need to perform the quantitative tests. This guidance will be effective for our annual and interim impairment tests for the year ending December 31, 2013. Early adoption is permitted. The adoption of this guidance is not expected to have a material impact on the Company's financial statements; rather it may change management's approach to testing indefinite-lived intangible assets for impairment. In December 2011, the FASB amended the guidance in ASC 210 related to disclosures about offsetting assets and liabilities. The amendments would require an entity to disclose information about financial instruments and derivative instruments that are either offset subject to ASC 210-20-45 or ASC 815-10-45, or subject to enforceable master netting arrangements or similar arrangements. We will be required to adopt this guidance beginning with our interim financial statements for the three months ending March 31, 2013. The adoption of this accounting standard is not expected to have a material impact on our financial statements. In September 2011, the FASB amended the guidance in ASC 350-20 on testing goodwill for impairment. Under the revised guidance, entities testing goodwill for impairment have the option of performing a qualitative assessment before calculating the fair value of the reporting unit. If entities determine, on the basis of qualitative factors, that the fair value of the reporting unit is more likely than not less than the carrying amount, the two-step impairment test would be required. The Company adopted this guidance beginning with its interim financial statements for the three months ended March 31, 2012. The adoption of this accounting standard did not have a material impact on the Company's financial statements; but rather it may change the Company's approach for annual goodwill testing. In June 2011, the FASB issued new guidance under ASC 220 regarding the presentation of comprehensive income in financial statements. An entity has the option to present the components of net income and other comprehensive income either in a single continuous statement or in two separate but consecutive statements. The Company adopted this guidance beginning with its interim financial statements for the three months ended March 31, 2012. The adoption of this new standard did not have a material impact on the Company's financial statements, but rather it prescribes the presentation of other comprehensive income in our financial statements. Separately, in December 2011, the FASB amended a portion of this guidance to defer proposed changes to the presentation of reclassification adjustments. 5
Income Taxes — The Company’s income tax provision for interim periods is determined through the use of an estimated annual effective tax rate applied to year-to-date ordinary income, as well as the tax effects associated with discrete items. 2. Earnings Per Common Share Basic earnings per common share (“EPS”) is based upon the weighted average number of common shares outstanding during the period. Diluted EPS reflects the potential dilution that would occur upon issuance of common shares for awards under stock-based compensation plans, exercise of warrants or conversion of preferred stock, but only to the extent that they are considered dilutive. The following table shows the computation of basic and diluted EPS:
For the three and six months ended June 30, 2012, awards under the Company’s stock-based compensation plans for common shares of 7.2 million and 7.1 million, respectively, were excluded from the computation of diluted EPS as the inclusion would have been anti-dilutive. For the three and six months ended June 30, 2011, awards for common shares of 11.7 million and 11.8 million, respectively, were excluded from the computation of diluted EPS as the inclusion would have been anti-dilutive. For all periods, preferred stock convertible into 4.5 million common shares was excluded as the inclusion would have been anti-dilutive. 3. Long-Lived and Intangible Assets In the three and six months ended June 30, 2012, asset impairment losses of $13.0 million were recognized on certain data center long-lived and intangible assets. During the second quarter of 2012, management identified impairment indicators for a customer relationship intangible associated with the GramTel acquisition and fixed assets at two data centers. Once we determined the results of the step one analysis indicated an impairment loss may exist, management engaged a third party valuation specialist to assist in estimating the fair value of these assets. A preliminary estimate of the impairment loss, which is subject to change upon completion of the third party valuation specialist's report, was recognized in the accompanying statement of operations and the Data Center Colocation segment. Remaining net book value of the affected assets after the impairment charge totaled $5.5 million at June 30, 2012. In the six months ended June 30, 2011, asset impairment losses of $1.6 million were recognized. In the first quarter of 2011, the Wireless segment had certain capital projects canceled or abandoned resulting in an asset impairment of $1.1 million, which represents the full carrying value of the canceled and abandoned projects. In the second quarter of 2011, a $0.5 million asset impairment charge was recorded on certain properties held for sale in the Wireline segment which were impaired as their estimated fair value was lower than their carrying value. 6
4. Debt The Company’s debt consists of the following:
* The face amount of these notes has been adjusted for the unamortized called amounts received on terminated interest rate swaps. As of June 30, 2012, the Company had no outstanding borrowings on its revolving credit facility, leaving $210.0 million available for borrowings. This revolving credit facility expires in June 2014. As of June 30, 2012, the Company had $19.0 million of borrowings and $23.2 million of letters of credit outstanding under the accounts receivable securitization facility (“Receivables Facility”), leaving $62.8 million remaining on the available borrowings of $105.0 million. The Receivables Facility is subject to renewal every 364 days. On June 4, 2012, the Company amended its Receivables Facility to extend its term to June 3, 2013. In the event the Receivables Facility is not renewed, the Company has the ability to refinance any outstanding borrowings with borrowings under its revolving credit facility. The permitted borrowings vary depending on the level of eligible receivables and other factors. Under the Receivables Facility, certain subsidiaries, or originators, sell their respective trade receivables on a continuous basis to Cincinnati Bell Funding LLC (“CBF”). Although CBF is a wholly-owned consolidated subsidiary of the Company, CBF is legally separate from the Company and each of the Company’s other subsidiaries. Upon and after the sale or contribution of the accounts receivable to CBF, such accounts receivable are legally assets of CBF and, as such, are not available to creditors of other subsidiaries or the Company. 5. Financial Instruments and Fair Value Measurements Fair Value of Financial Instruments The carrying values of the Company's financial instruments approximate the estimated fair values as of June 30, 2012 and December 31, 2011, except for the Company's debt and other financing arrangements. The carrying value and fair value of the Company’s long-term debt and other financing arrangements are as follows:
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The fair value of debt instruments was based on closing or estimated market prices of the Company’s debt at June 30, 2012 and December 31, 2011, which is considered Level 2 of the fair value hierarchy. The fair value of other financing arrangements was calculated using a discounted cash flow model that incorporates current borrowing rates for obligations of similar duration, which is considered Level 3 of the fair value hierarchy. Non-Recurring Fair Value Measurements Certain long-lived assets, intangibles, and goodwill are required to be measured at fair value on a non-recurring basis subsequent to their initial measurement. These non-recurring fair value measurements generally occur when evidence of impairment has occurred. As of June 30, 2012, the following assets were measured at fair value:
In the second quarter of 2012, the customer relationship intangible obtained in the Gramtel acquisition was deemed impaired. The fair value of this asset was estimated at zero, resulting in an impairment loss of $4.3 million. The fair value of this asset was estimated by management using a third party valuation specialist. The fair value was estimated using the income approach, which discounted the expected future earnings attributable to the acquired customer contracts. This fair value measurement is considered a Level 3 measurement due to the significance of its unobservable inputs. In addition, leasehold improvements and other property at two data centers were deemed impaired. Prior to recognizing the impairment, these assets had a net book value of $14.2 million as of June 30, 2012. The fair value of the assets was written down to the estimated fair value of $5.5 million, resulting in an impairment loss of $8.7 million. The fair value of these assets was estimated by management using a third party valuation specialist. Fair value was estimated using either a cost approach or the market approach. This fair value measurement is considered a Level 3 measurement due to the significance of its unobservable inputs. 6. Restructuring Charges Restructuring liabilities have been established for employee separation obligations, lease abandonments and contract terminations. A summary of the activity in these liabilities is presented below:
For the three months ended March 31, 2012, a restructuring charge of $0.5 million was recognized for the remaining lease obligations associated with the exit of three retail stores. In addition, a restructuring charge of $0.4 million was recognized for severance associated with employee separation contracts. For the three months ended June 30, 2012, a restructuring charge of $1.2 million was recognized for severance associated with employee separations and remaining lease obligations associated with the exit of an out-of-territory sales office. 8
A summary of restructuring activity by business segment is presented below:
Employee separation costs consist of severance to be paid pursuant to the Company's written severance plan, certain management contracts and a voluntary termination program offered to certain Wireline call center employees in the second quarter of 2012. Severance payments are expected to be paid through 2013. Lease abandonment costs represent future minimum lease obligations, net of expected sublease income, for abandoned facilities. Lease payments on abandoned facilities will continue through 2018. Contract terminations consist of amounts due to distributors to terminate their contractual agreements and to telecommunication carriers to cancel circuits. All contract termination expenses are expected to be paid in 2012. At June 30, 2012 and December 31, 2011, $10.0 million and $12.6 million, respectively, of the restructuring liabilities were included in “Other current liabilities,” and $9.8 million and $11.4 million, respectively, were included in “Other noncurrent liabilities,” in the Condensed Consolidated Balance Sheets. 7. Pension and Postretirement Plans The Company sponsors three noncontributory defined benefit plans and a postretirement health and life insurance plan. A portion of these costs is capitalized as a component of internal labor costs incurred for network construction in the Wireline segment, historically averaging approximately 8%. Effective January 1, 2012 and pursuant to a new labor agreement ratified in 2011, pension credits have been curtailed for certain bargained employees. 9
Pension and postretirement benefit costs are as follows:
Contributions in 2012 to the Company’s pension and postretirement plans are expected to be approximately $32 million and $22 million, respectively. For the six months ended June 30, 2012, contributions to the pension plans were $12.6 million and contributions to the postretirement plan were $11.4 million. 8. Stock-Based and Other Compensation Plans The Company grants stock options, stock appreciation rights (“SARs”), performance-based awards, and time-based restricted shares, some of which are cash-payment awards, with the final award payment indexed to the percentage change in the Company’s stock price from the date of grant. The Company recognized stock-based compensation expense of $1.3 million and $4.8 million for the three and six months ended June 30, 2012, respectively. For the three and six months ended June 30, 2011, the Company recognized stock-based compensation expense of $2.3 million and $3.7 million, respectively. As of June 30, 2012, there was $8.6 million of unrecognized compensation expense related to these awards. The remaining compensation expense for the stock options, SARs and restricted awards is expected to be recognized over a weighted-average period of approximately two years, and the remaining expense for performance-based awards will be recognized within approximately one year. The Company also has deferred compensation plans for its Board of Directors and certain executives. Under these plans, participants can elect to invest their deferrals in the Company’s common stock. At June 30, 2012 and 2011, there were 0.7 million common shares deferred. As these awards can be settled in cash, the Company records compensation costs each period based on the change in the Company’s stock price. The Company recognized a gain of $0.2 million and expense of $0.5 million for the three and six months ended June 30, 2012, respectively. For the three and six months ended June 30, 2011, the Company recognized expense of $0.4 million and $0.3 million, respectively. In 2010, the Company's Board of Directors approved a new long-term incentive program for certain members of management. Payment is contingent upon the completion of a qualifying transaction and attainment of an increase in the equity value of the data center business, as defined in the plans. As of June 30, 2012, the Compensation Committee of the Company's Board of 10 Directors has approved grants that could result in a maximum payout up to $90 million assuming the equity value created is $1.0 billion. For the quarter ended June 30, 2012, no compensation expense was recorded for these awards. 9. Share Repurchases In 2010, the Board of Directors approved a plan for the repurchase of the Company's outstanding common stock in an amount up to $150.0 million. Prior to 2011, the Company repurchased and retired shares with a total cost of $10.0 million. In late 2011, the Company purchased 3.4 million shares at a cost of $10.8 million and retired 3.3 million shares. During the six months ended June 30, 2012, the Company cash settled $0.3 million and retired the remaining 0.1 million shares. As of June 30, 2012, the Company has the authority to repurchase $129.2 million of its common stock. 10. Business Segment Information The Company operates in four segments: Wireline, Wireless, Data Center Colocation, and IT Services and Hardware. The Company’s segments are strategic business units that offer distinct products and services and are aligned with its internal management structure and reporting. The Wireline segment provides local voice, data, long distance, entertainment, voice over internet protocol (“VoIP”), and other services over its owned and other wireline networks. The Wireless segment provides advanced digital voice and data communications services and sales of related handset equipment to customers in the Greater Cincinnati and Dayton, Ohio operating areas. The Data Center Colocation segment provides data center colocation services primarily to large businesses. The Company owns or maintains 21 data centers in Texas, Ohio, Kentucky, Indiana, Illinois, England and Singapore. The IT Services and Hardware segment provides a range of fully managed and outsourced information technology (“IT”) and telecommunications services along with the sale, installation, and maintenance of major branded IT and telephony equipment. Certain corporate administrative expenses have been allocated to the segments based upon the nature of the expense and the relative size of the segment. Intercompany transactions between segments have been eliminated. 11
Selected financial data for the Company’s business segment information is as follows:
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11. Supplemental Guarantor Information Cincinnati Bell Telephone Notes Cincinnati Bell Telephone Company LLC (“CBT”), a wholly-owned subsidiary of Cincinnati Bell Inc. (the “Parent Company”), had $207.5 million in notes outstanding at June 30, 2012, that are guaranteed by the Parent Company and no other subsidiaries of the Parent Company. The guarantee is full and unconditional. The Parent Company’s subsidiaries generate substantially all of its income and cash flow and generally distribute or advance the funds necessary to meet the Parent Company’s debt service obligations. As of December 31, 2011, management completed a restructuring of certain of its legal entities. Cincinnati Bell Complete Protection Inc. was merged into Cincinnati Bell Inc. (the Parent and guarantor). The following information sets forth the Condensed Consolidating Statements of Operations and Comprehensive Income for the three and six months ended June 30, 2012 and 2011, Condensed Consolidating Balance Sheets as of June 30, 2012 and December 31, 2011, and Condensed Consolidating Statements of Cash Flows for the six months ended June 30, 2012 and 2011, of (1) the Parent Company, as the guarantor, (2) CBT, as the issuer, and (3) the non-guarantor subsidiaries on a combined basis. The condensed consolidating financial statements shown below have been retroactively restated to reflect the merger of Cincinnati Bell Complete Protection Inc. into Cincinnati Bell Inc. (the Parent and guarantor) for all periods. 13
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