-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, IJAgMcZOQn4InoBYLhSyOMbCesb0LRadHmJE6qRJuJp3Z8z1D+3HxUodxLkg7rnR Rz8/oLmbA1bS4YRSt+0Q2w== 0000732717-99-000020.txt : 19990809 0000732717-99-000020.hdr.sgml : 19990809 ACCESSION NUMBER: 0000732717-99-000020 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 3 CONFORMED PERIOD OF REPORT: 19990630 FILED AS OF DATE: 19990806 FILER: COMPANY DATA: COMPANY CONFORMED NAME: SBC COMMUNICATIONS INC CENTRAL INDEX KEY: 0000732717 STANDARD INDUSTRIAL CLASSIFICATION: TELEPHONE COMMUNICATIONS (NO RADIO TELEPHONE) [4813] IRS NUMBER: 431301883 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: SEC FILE NUMBER: 001-08610 FILM NUMBER: 99679138 BUSINESS ADDRESS: STREET 1: 175 E HOUSTON STREET 2: ROOM 9-4 CITY: SAN ANTONIO STATE: TX ZIP: 78205 BUSINESS PHONE: 2108214105 MAIL ADDRESS: STREET 1: 175 E HOUSTON STREET 2: ROOM 9-4 CITY: SAN ANTONIO STATE: TX ZIP: 78205 FORMER COMPANY: FORMER CONFORMED NAME: SOUTHWESTERN BELL CORP DATE OF NAME CHANGE: 19920703 10-Q 1 FORM 10-Q FORM 10-Q United States SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 (Mark One) |X| Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the quarterly period ended June 30, 1999 or |_| Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the transition period from to Commission File Number 1-8610 SBC COMMUNICATIONS INC. Incorporated under the laws of the State of Delaware I.R.S. Employer Identification Number 43-1301883 175 E. Houston, San Antonio, Texas 78205 Telephone Number: (210) 821-4105 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 At July 30, 1999, 1,967,302,612 common shares were outstanding. PART I - FINANCIAL INFORMATION Item 1. Financial Statements SBC COMMUNICATIONS INC. - ----------------------------------------------------------------------------------------- CONSOLIDATED STATEMENTS OF INCOME Dollars in millions except per share amounts (Unaudited)
- ----------------------------------------------------------------------------------------- Three months ended Six months ended June 30, June 30, ----------------------------------------- 1999 1998 1999 1998 - ----------------------------------------------------------------------------------------- Operating Revenues Landline local service $ 2,897 $ 2,777 $ 5,727 $ 5,459 Wireless subscriber 1,107 955 2,092 1,822 Network access 1,718 1,644 3,403 3,247 Long distance service 552 593 1,109 1,183 Directory advertising 419 436 991 986 Other 702 625 1,390 1,188 - ----------------------------------------------------------------------------------------- Total operating revenues 7,395 7,030 14,712 13,885 - ----------------------------------------------------------------------------------------- Operating Expenses Operations and support 4,175 3,978 8,252 7,857 Depreciation and amortization 1,273 1,235 2,520 2,436 - ----------------------------------------------------------------------------------------- Total operating expenses 5,448 5,213 10,772 10,293 - ----------------------------------------------------------------------------------------- Operating Income 1,947 1,817 3,940 3,592 - ----------------------------------------------------------------------------------------- Other Income (Expense) Interest expense (213) (260) (436) (516) Equity in net income of affiliates 92 73 154 126 Other income (expense) - net 3 (39) (80) (78) - ----------------------------------------------------------------------------------------- Total other income (expense) (118) (226) (362) (468) - ----------------------------------------------------------------------------------------- Income Before Income Taxes and Cumulative Effect of Accounting Change 1,829 1,591 3,578 3,124 - ----------------------------------------------------------------------------------------- Income Taxes 653 571 1,287 1,134 - ----------------------------------------------------------------------------------------- Income Before Cumulative Effect of Accounting Change 1,176 1,020 2,291 1,990 - ----------------------------------------------------------------------------------------- Cumulative Effect of Accounting Change, net of tax - - - 15 - ----------------------------------------------------------------------------------------- Net Income $ 1,176 $ 1,020 $ 2,291 $ 2,005 ========================================================================================= Earnings Per Common Share: Income Before Cumulative Effect of Accounting Change $ 0.60 $ 0.52 $ 1.17 $ 1.01 Net Income $ 0.60 $ 0.52 $ 1.17 $ 1.02 - ----------------------------------------------------------------------------------------- Earnings Per Common Share - Assuming Dilution: Income Before Cumulative Effect of Accounting Change $ 0.59 $ 0.51 $ 1.15 $ 1.00 Net Income $ 0.59 $ 0.51 $ 1.15 $ 1.01 - ----------------------------------------------------------------------------------------- Weighted Average Number of Common Shares Outstanding (in millions) 1,964 1,958 1,963 1,957 - ----------------------------------------------------------------------------------------- Dividends Declared Per Common Share $ 0.24375 $ 0.23375 $ 0.4875 $ 0.4675 ========================================================================================= See Notes to Consolidated Financial Statements.
SBC COMMUNICATIONS INC. - -------------------------------------------------------------------------------- CONSOLIDATED BALANCE SHEETS Dollars in millions except per share amounts
- -------------------------------------------------------------------------------- June 30, December 31, -------------- ------------- 1999 1998 - -------------------------------------------------------------------------------- Assets (Unaudited) Current Assets Cash and cash equivalents $ 848 $ 460 Accounts receivable - net of allowances for uncollectibles of $461 and $472 5,342 5,790 Prepaid expenses 678 414 Deferred income taxes 666 489 Other current assets 339 385 - -------------------------------------------------------------------------------- Total current assets 7,873 7,538 - -------------------------------------------------------------------------------- Property, Plant and Equipment - at cost 75,441 73,466 Less: Accumulated depreciation and amortization 45,083 43,546 - -------------------------------------------------------------------------------- Property, Plant and Equipment - Net 30,358 29,920 - -------------------------------------------------------------------------------- Intangible Assets - Net of Accumulated Amortization of $802 and $741 3,202 3,087 - -------------------------------------------------------------------------------- Investments in Equity Affiliates 2,430 2,514 - -------------------------------------------------------------------------------- Other Assets 2,197 2,007 - -------------------------------------------------------------------------------- Total Assets $ 46,060 $ 45,066 ================================================================================ Liabilities and Shareowners' Equity Current Liabilities Debt maturing within one year $ 1,011 $ 1,551 Accounts payable and accrued liabilities 6,095 6,774 Accrued taxes 1,790 1,206 Dividends payable 480 458 - -------------------------------------------------------------------------------- Total current liabilities 9,376 9,989 - -------------------------------------------------------------------------------- Long-Term Debt 11,350 11,612 - -------------------------------------------------------------------------------- Deferred Credits and Other Noncurrent Liabilities Deferred income taxes 2,339 1,990 Postemployment benefit obligation 5,099 5,220 Unamortized investment tax credits 327 359 Other noncurrent liabilities 2,165 2,116 - -------------------------------------------------------------------------------- Total deferred credits and other noncurrent liabilities 9,930 9,685 - -------------------------------------------------------------------------------- Corporation-obligated mandatorily redeemable preferred securities of subsidiary trusts* 1,000 1,000 - -------------------------------------------------------------------------------- Shareowners' Equity Common shares issued ($1 par value) 1,988 1,988 Capital in excess of par value 9,205 9,139 Retained earnings 4,731 3,396 Guaranteed obligations of employee stock ownership plans (109) (147) Deferred compensation - LESOP (78) (82) Treasury shares (at cost) (721) (882) Accumulated other comprehensive income (loss) (612) (632) - -------------------------------------------------------------------------------- Total shareowners' equity 14,404 12,780 - -------------------------------------------------------------------------------- Total Liabilities and Shareowners' Equity $ 46,060 $ 45,066 ================================================================================ * The trusts contain $1,030 in principal amount of the Subordinated Debentures of Pacific Telesis Group. See Notes to Consolidated Financial Statements.
SBC COMMUNICATIONS INC. - -------------------------------------------------------------------------- CONSOLIDATED STATEMENTS OF CASH FLOWS Dollars in millions, increase (decrease) in cash and cash equivalents (Unaudited)
- -------------------------------------------------------------------------- Six months ended June 30, ------------------- 1999 1998 - ------------------------------------------------------------------------- Operating Activities Net income $ 2,291 $ 2,005 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization 2,520 2,436 Undistributed earnings from investments in equity affiliates (111) (4) Provision for uncollectible accounts 226 251 Amortization of investment tax credits (32) (36) Deferred income tax expense 298 105 Cumulative effect of accounting change, net of tax - (15) Other - net (417) (991) - ------------------------------------------------------------------------- Total adjustments 2,484 1,746 - ------------------------------------------------------------------------- Net Cash Provided by Operating Activities 4,775 3,751 - ------------------------------------------------------------------------- Investing Activities Construction and capital expenditures (3,001) (2,731) Investments in affiliates (33) (21) Purchase of short-term investments - (41) Proceeds from short-term investments 5 269 Dispositions 455 109 Other 1 3 - -------------------------------------------------------------------------- Net Cash Used in Investing Activities (2,573) (2,412) - -------------------------------------------------------------------------- Financing Activities Net change in short-term borrowings with original maturities of three months or less (700) 231 Issuance of other short-term borrowings - 2 Repayment of other short-term borrowings - (8) Issuance of long-term debt 6 393 Repayment of long-term debt (328) (822) Issuance of common shares - 46 Purchase of treasury shares - (168) Issuance of treasury shares 145 99 Dividends paid (937) (895) - ------------------------------------------------------------------------- Net Cash Used in Financing Activities (1,814) (1,122) - ------------------------------------------------------------------------- Net increase in cash and cash equivalents 388 217 - ------------------------------------------------------------------------- Cash and cash equivalents beginning of year 460 410 - ------------------------------------------------------------------------- Cash and Cash Equivalents End of Period $ 848 $ 627 ========================================================================= Cash paid during the six months ended June 30 for: Interest $ 439 $ 570 Income taxes, net of refunds $ 368 $ 579 See Notes to Consolidated Financial Statements.
SBC COMMUNICATIONS INC. - ----------------------------------------------------------------------------------------------------------------------- CONSOLIDATED STATEMENT OF SHAREOWNERS' EQUITY Dollars in millions (Unaudited)
- ----------------------------------------------------------------------------------------------------------------------- Guaranteed Capital Obligations Accumulated in of Employee Other Excess Stock Deferred Comprehensive Common of Par Retained Ownership Compensation Treasury Income Shares Value Earnings Plans - LESOP Shares (Loss) - ----------------------------------------------------------------------------------------------------------------------- Balance, December 31, 1998 $ 1,988 $ 9,139 $ 3,396 $ (147) $ (82) $ (882) $ (632) Net income - - 2,291 - - - - Other comprehensive income - - - - - - 20 Dividends to shareowners - - (958) - - - - Reduction of debt associated with Employee Stock Ownership Plans - - - 38 - - - Cost of LESOP trust shares allocated to employee accounts - - - - 4 - - Issuance of treasury shares - (12) - - - 161 - Other - 78 2 - - - - - ----------------------------------------------------------------------------------------------------------------------- Balance, June 30, 1999 $ 1,988 $ 9,205 $ 4,731 $ (109) $ (78) $ (721) $ (612) ======================================================================================================================= See Notes to Consolidated Financial Statements.
SELECTED FINANCIAL AND OPERATING DATA
At June 30, or for the six months then ended: 1999 1998 ---------------------------- Debt ratio................................................. 44.52% 54.42% Network access lines in service (000)...................... 37,838 36,548 Resold lines (000)......................................... 930 677 Access minutes of use (000,000)............................ 76,550 72,806 Wireless customers (000)................................... 7,455 6,305 Number of employees........................................ 131,270 129,800
SBC COMMUNICATIONS INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) Dollars in millions except per share amounts 1. BASIS OF PRESENTATION The consolidated financial statements have been prepared by SBC Communications Inc. (SBC) pursuant to the rules and regulations of the Securities and Exchange Commission (SEC) and, in the opinion of management, include all adjustments (consisting only of normal recurring accruals) necessary to present fairly the results for the interim periods shown. Certain information and footnote disclosures, normally included in financial statements prepared in accordance with generally accepted accounting principles, have been condensed or omitted pursuant to such SEC rules and regulations. The results for the interim periods are not necessarily indicative of results for the full year. The consolidated financial statements contained herein should be read in conjunction with the consolidated financial statements and notes thereto included in SBC's 1998 Annual Report to Shareowners. 2. CONSOLIDATION The consolidated financial statements include the accounts of SBC and its majority-owned subsidiaries. SBC's principal Wireline subsidiaries are Southwestern Bell Telephone Company, Pacific Bell (which also includes Pacific Bell Information Services), The Southern New England Telephone Company and Nevada Bell. SBC's principal Wireless subsidiaries are Southwestern Bell Mobile Systems, Inc., Pacific Bell Mobile Services and SNET Cellular, Inc. SBC's principal Directory subsidiaries are Southwestern Bell Yellow Pages, Inc., Pacific Bell Directory and SNET Information Services, Inc. (see Note 9 for further discussion regarding segments). All significant intercompany transactions are eliminated in the consolidation process. Investments in partnerships, joint ventures and less than majority-owned subsidiaries are principally accounted for under the equity method. Earnings from foreign investments accounted for under the equity method are included for periods ended within three months of the date of SBC's Consolidated Statements of Income. 3. CUMULATIVE EFFECT OF CHANGE IN DIRECTORY ACCOUNTING Prior to January 1, 1998, SNET Information Services, Inc. recognized revenues and expenses related to publishing directories using the "amortization" method, under which revenues and expenses were recognized over the lives of the directories, generally one year. Effective January 1, 1998, the accounting was changed to the "issue basis" method of accounting, which recognizes the revenues and expenses at the time the related directory is published. The change in methodology was made because the issue basis method is generally followed in the publishing industry, including Southwestern Bell Yellow Pages, Inc. and Pacific Bell Directory, and better reflects the operating activity of the business. The cumulative after-tax effect of applying the change in method to prior years was recognized as of January 1, 1998 as a one-time, non-cash gain applicable to continuing operations of $15, or $0.01 per share. The gain is net of deferred taxes of $11. 4. COMPREHENSIVE INCOME The components of SBC's comprehensive income for the second quarter and six months ended June 30, 1999 and 1998 include net income and the adjustment to shareowners' equity for the foreign currency translation adjustment. Following is SBC's comprehensive income: ------------------------------------------------------------------------ Three months ended Six months ended June 30, June 30, -------------------------------------- 1999 1998 1999 1998 ------------------------------------------------------------------------ Net income $ 1,176 $ 1,020 $ 2,291 $ 2,005 Foreign currency translation adjustment 39 (68) 20 (76) ------------------------------------------------------------------------ Total comprehensive income $ 1,215 $ 952 $ 2,311 $ 1,929 ======================================================================== SBC COMMUNICATIONS INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) - Continued Dollars in millions except per share amounts 5. MERGER AGREEMENT WITH AMERITECH CORPORATION On May 11, 1998, SBC announced a definitive agreement to merge an SBC subsidiary with Ameritech Corporation (Ameritech) in a transaction in which each share of Ameritech common stock will be converted into and exchanged for 1.316 shares of SBC common stock (equivalent to approximately 1,450 million shares). After the merger, Ameritech will be a wholly-owned subsidiary of SBC. The transaction, which has been approved by the board of directors and shareowners of each company, is intended to be accounted for as a pooling of interests and to be a tax-free reorganization. The transaction is subject to certain regulatory approvals, including the Federal Communications Commission (FCC), United States Department of Justice (DOJ) and state commissions in Ohio and Illinois. The DOJ and the Public Utility Commission of Ohio have approved the merger. In July 1999, the Illinois Commerce Commission began a second round of hearings on the merger and is expected to issue a final ruling in the third quarter of 1999. In June 1999, staff members of the FCC recommended that the FCC approve the transaction, subject to certain conditions, including accelerated entry into new markets, so that SBC will offer wireline services in 30 new markets within 30 months after the merger closes. In addition, SBC will establish a separate subsidiary to provide advanced services such as Asymmetrical Digital Subscriber Line (ADSL) and will not charge residential customers minimum monthly long distance fees for at least three years after entering the long distance market. The FCC conditions require specific performance and reporting provisions and contain enforcement provisions that could potentially trigger more than $2 billion in payments if certain goals are not met. For example, failure to achieve entrance into 30 new markets within 30 months will result in a fine of $40 for each violation. The FCC is expected to issue a final order in the third quarter of 1999. In May 1999, the Indiana Utility Regulatory Commission (IURC) issued an order finding that the transaction was subject to their approval and held hearings concluding in July 1999. However, in July 1999, the Indiana Supreme Court vacated the IURC May order and ruled the IURC lacks jurisdiction, effectively nullifying IURC jurisdictional proceedings. In July 1999, the Public Utilities Commission of Nevada (PUCN) ordered SBC to show cause why it should not be required to file an application for approval of the Ameritech transaction. In August 1999, SBC and the staff of the PUCN agreed, subject to PUCN approval, to a schedule for a review of the transaction with a final decision due by September 10, 1999. The agreement also gives SBC the right to continue to pursue its right to contest PUCN jurisdiction over the transaction. SBC and Ameritech own competing cellular licenses in several markets, including, but not limited to, Chicago, Illinois, and St. Louis, Missouri (Overlapping Cellular Licenses). In order to comply with the FCC's rules and regulations and certain provisions of the merger agreement, Ameritech, in April 1999, agreed to sell 20 Midwestern cellular properties, including properties with the Overlapping Cellular Licenses. The proposed sale also addresses DOJ conditions for approval of the merger. Subject to obtaining timely regulatory approvals, the transaction is expected to close in the third quarter of 1999. 6. COMPLETION OF MERGERS On April 1, 1997, SBC and Pacific Telesis Group (PAC) completed the merger of an SBC subsidiary with PAC, in a transaction in which each outstanding share of PAC common stock was exchanged for 1.4629 shares of SBC common stock (equivalent to approximately 626 million shares). With the merger, PAC became a wholly-owned subsidiary of SBC. The transaction has been accounted for as a pooling of interests and a tax-free reorganization. On October 26, 1998, SBC and Southern New England Telecommunications Corporation (SNET) completed the merger of an SBC subsidiary with SNET, in a transaction in which each share of SNET common stock was exchanged for 1.7568 shares of SBC common stock (equivalent to approximately SBC COMMUNICATIONS INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) - Continued Dollars in millions except per share amounts 120 million shares). SNET became a wholly-owned subsidiary of SBC effective with the merger and the transaction has been accounted for as a pooling of interests and a tax-free reorganization. Post-merger initiatives During the second quarter of 1997, SBC announced after-tax charges of $1.6 billion related to several strategic decisions resulting from the merger integration process that began with the April 1, 1997 closing of its merger with PAC, which included $165 ($101 after tax) of charges related to several regulatory rulings during the second quarter of 1997 and $281 ($176 after tax) for merger approval costs. The decisions resulted from an extensive review of operations throughout the merged company and include significant integration of operations and consolidation of some administrative and support functions. During the fourth quarter of 1998, SBC again performed a complete review of all operations affected by the merger with SNET to determine the impact on ongoing merger integration processes. Review teams examined operational functions and evaluated all strategic initiatives. As a result of this review, SBC announced net after-tax charges of $268 related to strategic decisions arising from the review and expensing of merger-related costs incurred by SNET. One-time charges related to the strategic decisions reached by the review teams totaled $403 ($249 after tax) in the fourth quarter of 1998 and $2 billion ($1.3 billion after tax) in the second quarter of 1997. Remaining accruals for anticipated cash expenditures related to these decisions were approximately $229 at June 30, 1999 and $323 at December 31, 1998. It is expected that SBC and Ameritech will form review teams subsequent to the completion of the merger to perform comprehensive reviews of the combined companies' operations and strategic initiatives. During this review, the strategic initiatives from the PAC and SNET mergers will be incorporated. The results of any such reviews cannot be determined at this time, material accounting charges could occur. SBC COMMUNICATIONS INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) - Continued Dollars in millions except per share amounts 7. PACIFIC TELESIS GROUP FINANCIAL INFORMATION The following tables present summarized financial information for PAC: -------------------------------------------------------------------- June 30, December 31, 1999 1998 -------------------------------------------------------------------- Balance Sheets Current assets $ 3,403 $ 3,037 Noncurrent assets $ 15,726 $ 15,428 Current liabilities $ 5,321 $ 5,278 Noncurrent liabilities $ 10,563 $ 10,482 ==================================================================== -------------------------------------------------------------------- Six months ended June 30, 1999 1998 -------------------------------------------------------------------- Income Statements Operating revenues $ 5,922 $ 5,520 Operating income $ 1,520 $ 1,306 Net income $ 811 $ 628 ==================================================================== SBC has not provided separate financial statements and other disclosures for PAC as management has determined that such information is not material to the holders of the Trust Originated Preferred Securities, which have been guaranteed by SBC. SBC COMMUNICATIONS INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) - Continued Dollars in millions except per share amounts 8. EARNINGS PER SHARE A reconciliation of the numerators and denominators of basic earnings per share and diluted earnings per share for income before cumulative effect of accounting change for the second quarter and six months ended June 30, 1999 and 1998 are shown in the table below.
------------------------------------------------------------------------------------- Three months ended Six months ended June 30, June 30, ----------------------------------------- 1999 1998 1999 1998 ------------------------------------------------------------------------------------- Numerators Numerator for basic earnings per share: Income before cumulative effect of accounting change $ 1,176 $ 1,020 $ 2,291 $ 1,990 ------------------------------------------------------------------------------------- Dilutive potential common shares: Other stock-based compensation 1 1 2 2 ------------------------------------------------------------------------------------- Numerator for diluted earnings per share $ 1,177 $ 1,021 $ 2,293 $ 1,992 ===================================================================================== Denominators Denominator for basic earnings per share: Weighted average number of common shares outstanding (000) 1,964,383 1,958,208 1,963,042 1,957,455 ------------------------------------------------------------------------------------- Dilutive potential common shares (000): Stock options 25,140 21,143 25,161 21,182 Other stock-based compensation 6,205 5,577 6,119 5,405 ------------------------------------------------------------------------------------- Denominator for diluted earnings per share 1,995,728 1,984,928 1,994,322 1,984,042 ===================================================================================== Basic earnings per share: Income before cumulative effect of accounting change $ 0.60 $ 0.52 $ 1.17 $ 1.01 Cumulative effect of accounting change - - - 0.01 ------------------------------------------------------------------------------------- Net income $ 0.60 $ 0.52 $ 1.17 $ 1.02 ===================================================================================== Diluted earnings per share: Income before cumulative effect of accounting change $ 0.59 $ 0.51 $ 1.15 $ 1.00 Cumulative effect of accounting change - - - 0.01 ------------------------------------------------------------------------------------- Net income $ 0.59 $ 0.51 $ 1.15 $ 1.01 =====================================================================================
9. SEGMENT INFORMATION SBC has four reportable segments: Wireline, Wireless, Directory and Other. The Wireline segment provides landline telecommunications services, including local, network access and long distance services, messaging and Internet services and sells customer premise and private business exchange equipment. The Wireless segment provides wireless telecommunications services, including local and long distance services, and sells wireless equipment. The Directory segment sells advertising for and publication of yellow pages and white pages directories and electronic publishing. The Other segment includes SBC's international investments and other domestic operating subsidiaries. SBC evaluates performance of these segments based on income before income taxes, adjusted for normalizing items. There were no normalizing items for the quarters and first six months ended June 30, 1999 and 1998. SBC COMMUNICATIONS INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) - Continued Dollars in millions except per share amounts The following tables present segment information for SBC. -------------------------------------------------------------- Revenues Income from before For the three months external Intersegment income ended June 30, 1999 customers revenues taxes -------------------------------------------------------------- Wireline $ 5,728 $ 37 $ 1,300 Wireless 1,232 - 232 Directory 404 23 156 Other 22 - 174 Corporate, Adjustments & Eliminations 9 (60) (33) -------------------------------------------------------------- Total $ 7,395 $ - $ 1,829 ============================================================== -------------------------------------------------------------- Revenues Income from before For the three months external Intersegment income ended June 30, 1998 customers revenues taxes -------------------------------------------------------------- Wireline $ 5,444 $ 79 $ 1,197 Wireless 1,045 1 148 Directory 420 21 166 Other 21 - 54 Corporate, Adjustments & Eliminations 100 (101) 26 -------------------------------------------------------------- Total $ 7,030 $ - $ 1,591 ============================================================== ----------------------------------------------------------------------- Revenues Income from before At June 30, 1999 or for external Intersegment income Segment the six months ended customers revenues taxes assets ----------------------------------------------------------------------- Wireline $ 11,363 $ 69 $ 2,598 $ 34,220 Wireless 2,325 - 365 7,220 Directory 961 50 426 1,115 Other 45 - 236 2,836 Corporate, Adjustments & Eliminations 18 (119) (47) 669 ----------------------------------------------------------------------- Total $ 14,712 $ - $ 3,578 $ 46,060 ======================================================================= ----------------------------------------------------------------------- Revenues Income from before At June 30, 1998 or for external Intersegment income Segment the six months ended customers revenues taxes assets ----------------------------------------------------------------------- Wireline $ 10,758 $ 135 $ 2,290 $ 32,955 Wireless 1,991 2 243 7,038 Directory 948 47 413 1,105 Other 39 - 196 3,188 Corporate, Adjustments & Eliminations 149 (184) (18) 1,138 ----------------------------------------------------------------------- Total $ 13,885 $ - $ 3,124 $ 45,424 ======================================================================= 10.SOFTWARE COSTS The American Institute of Certified Public Accountants issued a Statement of Position (SOP) that requires capitalization of certain computer software expenditures beginning in 1999. The SOP, which has been adopted prospectively as of January 1, 1999, requires the capitalization of certain costs incurred in connection with developing or obtaining internal use software. Prior to the adoption of the SOP, the costs of computer software purchased or developed for internal use were expensed as incurred. However, initial operating system software costs were, and continue to be, capitalized. SBC COMMUNICATIONS INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) - Continued Dollars in millions except per share amounts With comparable levels of software expenditures, the SOP would tend to increase net income in comparison with SBC's former method of accounting for software costs. However, the increases would be largest in the year of adoption with diminishing levels of increases compared with current accounting throughout the amortization period. Consequently, given otherwise comparable income levels excluding software, and otherwise comparable software expenditures, the effect of the SOP would be to increase income in the first year and decrease income in each subsequent year until the number of years affected by the SOP equals the amortization period. The effect of adopting the SOP was to increase net income by approximately $58, or $0.03 per share assuming dilution, for the second quarter of 1999, and by $86, or $0.04 per share assuming dilution, for the first six months of 1999. 11.WIRELESS ACQUISITION On July 8, 1999, SBC completed the acquisition of Comcast Cellular Corporation (Comcast), the wireless subsidiary of Comcast Corporation, in a transaction valued at $1.8 billion including assumption of $1.4 billion in debt. The transaction will be accounted for under the purchase method of accounting. Results of operations will be included in the consolidated financial statements from the date of the acquisition. With the acquisition, SBC will add more than 850,000 subscribers in Pennsylvania, Delaware, New Jersey and Illinois. In July 1999, subsequent to the completion of the acquisition, SBC retired virtually all of Comcast's outstanding Senior Notes. SBC COMMUNICATIONS INC. Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations Dollars in millions except per share amounts RESULTS OF OPERATIONS Overview Financial results for SBC Communications Inc. (SBC) for the second quarter and first six months of 1999 and 1998 are summarized as follows: - -----------------------------------------------------------------------------------------
Second Quarter Six-Month Period --------------------------- -------------------------- Percent Percent 1999 1998 Change 1999 1998 Change - ----------------------------------------------------------------------------------------- Operating revenues $ 7,395 $ 7,030 5.2% $ 14,712 $ 13,885 6.0% Operating expenses $ 5,448 $ 5,213 4.5% $ 10,772 $ 10,293 4.7% Operating income $ 1,947 $ 1,817 7.2% $ 3,940 $ 3,592 9.7% Income before income taxes and cumulative effect of accounting change $ 1,829 $ 1,591 15.0% $ 3,578 $ 3,124 14.5% Income before cumulative effect of accounting change $ 1,176 $ 1,020 15.3% $ 2,291 $ 1,990 15.1% Cumulative effect of accounting change - - - - $ 15 - Net income $ 1,176 $ 1,020 15.3% $ 2,291 $ 2,005 14.3% =========================================================================================
SBC reported net income for the second quarter of 1999 of $1,176, or $0.59 per share assuming dilution, and for the six months ended of $2,291, or $1.15 per share assuming dilution, compared to $1,020, or $0.51 per share assuming dilution, in the second quarter of 1998 and $2,005, or $1.01 per share assuming dilution, for the first six months of 1998. In the first quarter of 1998, SBC reflected a cumulative effect of accounting change related to accounting for directory revenues and expenses (see Note 3 of Notes to Consolidated Financial Statements). The primary factors contributing to this increase were growth in demand for services and products in SBC's wireline telephone, cellular and Personal Communication Services (PCS) operations and a reduction in operating expenses due to merger related initiatives and benefits. Segment Results SBC has four reportable segments: Wireline, Wireless, Directory and Other. The Wireline segment provides landline telecommunications services, including local, network access and long distance services, messaging and Internet services and sells customer premise and private business exchange equipment. The Wireless segment provides wireless telecommunications services, including local and long distance services, and sells wireless equipment. The Directory segment sells advertising for and publication of yellow pages and white pages directories and electronic publishing. The Other segment includes SBC's international investments and other domestic operating subsidiaries. SBC COMMUNICATIONS INC. Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations Dollars in millions except per share amounts RESULTS OF OPERATIONS - Continued SBC evaluates performance of these segments based on income before income taxes, adjusted for normalizing items (see Note 9 of Notes to Consolidated Financial Statements). Income before income taxes includes operating income, interest expense, equity in net income of affiliates and other income (expense) - net. Operating income includes operating revenues, operations and support and depreciation and amortization expense. There were no normalizing items for the quarters and first six months ended June 30, 1999 or 1998. Components of income before income taxes by segment for the second quarter and first six months of 1999 and 1998 are as follows: - ---------------------------------------------------------------------------------------
Second Quarter Six-Month Period ------------------------------ ---------------------------- Percent Percent 1999 1998 Change 1999 1998 Change - --------------------------------------------------------------------------------------- Wireline $ 1,300 $ 1,197 8.6% $ 2,598 $ 2,290 13.4% Wireless 232 148 56.8 365 243 50.2 Directory 156 166 (6.0) 426 413 3.1 Other 174 54 - 236 196 20.4 Corporate, adjustments & eliminations (33) 26 - (47) (18) - - ------------------------------------------------ ------------------- Total Income Before Income Taxes $ 1,829 $ 1,591 15.0% $ 3,578 $ 3,124 14.5% =======================================================================================
Changes in income before income taxes in the Wireline, Wireless and Directory segments primarily reflect increases in operating income discussed below. Changes in income before income taxes for the operations included in the Other segment result primarily from the changes in equity in net income of affiliates and other income (expense) - net discussed below; changes in this line also impacted the Wireline segment. Operating Income Components of operating income by segment for the second quarter and first six months of 1999 and 1998 are as follows: - ---------------------------------------------------------------------------------------
Second Quarter Six-Month Period ------------------------------ ---------------------------- Percent Percent 1999 1998 Change 1999 1998 Change - --------------------------------------------------------------------------------------- Wireline $ 1,501 $ 1,411 6.4% $ 2,982 $ 2,726 9.4% Wireless 304 224 35.7 509 398 27.9 Directory 159 169 (5.9) 431 416 3.6 Other (11) (6) 83.3 (22) (12) 83.3 Corporate, adjustments & eliminations (6) 19 - 40 64 (37.5) - ------------------------------------------------ ------------------- Total Operating Income $ 1,947 $ 1,817 7.2% $ 3,940 $ 3,592 9.7% =======================================================================================
Components of segment operating revenues and expenses and discussion of the segment results for the second quarter and first six months of 1999 and 1998 follow. SBC COMMUNICATIONS INC. Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations Dollars in millions except per share amounts RESULTS OF OPERATIONS - Continued Operating Revenues SBC's operating revenues increased $365, or 5.2%, in the second quarter of 1999 and $827, or 6.0%, for the first six months of 1999. Components of operating revenues by segment for the second quarter and first six months of 1999 and 1998 are as follows: - -----------------------------------------------------------------------------------
Second Quarter Six-Month Period ----------------------------- ---------------------------- Percent Percent 1999 1998 Change 1999 1998 Change - ----------------------------------------------------------------------------------- Wireline $ 5,765 $ 5,523 4.4% $ 11,432 $ 10,893 4.9% Wireless 1,232 1,046 17.8 2,325 1,993 16.7 Directory 427 441 (3.2) 1,011 995 1.6 Other 22 21 4.8 45 39 15.4 Corporate, adjustments & eliminations (51) (1) - (101) (35) - - -------------------------------------------- ------------------- Total Operating Revenues $ 7,395 $ 7,030 5.2% $ 14,712 $ 13,885 6.0% ===================================================================================
Wireline Wireline operating revenues increased $242, or 4.4%, in the second quarter of 1999 and $539, or 4.9%, for the first six months of 1999. Components of Wireline operating revenues for the second quarter and first six months of 1999 and 1998 are as follows: - -----------------------------------------------------------------------------------
Second Quarter Six-Month Period ----------------------------- ---------------------------- Percent Percent 1999 1998 Change 1999 1998 Change - ----------------------------------------------------------------------------------- Local service $ 2,913 $ 2,801 4.0% $ 5,758 $ 5,508 4.5% Network access: Interstate 1,258 1,162 8.3 2,487 2,299 8.2 Intrastate 464 482 (3.7) 923 948 (2.6) Long distance service 554 592 (6.4) 1,111 1,181 (5.9) Other 576 486 18.5 1,153 957 20.5 - -------------------------------------------- ------------------- Total Wireline $ 5,765 $ 5,523 4.4% $ 11,432 $ 10,893 4.9% ===================================================================================
Local service revenues increased $112, or 4.0%, in the second quarter and $250, or 4.5%, in the first six months of 1999 due primarily to increases in demand which totaled approximately $158 for the second quarter and $327 for the first six months of 1999, including increases in access lines, vertical services and data-related services revenues. The number of access lines increased by 3.5% since June 30, 1998. Approximately 39% of access line growth was due to sales of additional access lines to existing residential customers. Approximately 45% of the access line growth was in California and 30% was in Texas. Access lines in Texas and California account for approximately 75% of SBC's access lines. Vertical services revenues, which include custom calling services, such as Caller ID, Call Waiting, voice mail and other enhanced services, increased by approximately 16% and totaled more than $1.0 billion for the first six months of 1999. This increase in demand was partially offset by a decline in the public telephone business totaling nearly $50 for the second quarter and approximately $95 for the first six months of 1999. SBC COMMUNICATIONS INC. Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations Dollars in millions except per share amounts RESULTS OF OPERATIONS - Continued Local service revenues also increased as a result of regulatory actions that decreased one or more other types of operating revenues. In 1999, the introduction of extended area service plans and the introduction of the California High Cost Fund (CHCFB) collectively increased local service revenues by approximately $37 for the second quarter and $71 for the first six months and decreased long distance revenues by approximately $27 for the second quarter and $57 for the first six months and intrastate network access revenues by approximately $12 for the second quarter and $25 for the first six months. The net effect on Wireline operating revenues was a reduction of approximately $2 for the second quarter and $11 for the first six months of 1999. The California Public Utilities Commission (CPUC) has stated that the CHCFB is intended to directly subsidize the provision of service to high cost areas and allow Pacific Bell (PacBell) to set competitive rates for other services. The increases in local services revenues were partially offset by decreases due to rate reductions under CPUC price cap orders of approximately $35 for the second quarter and $59 for the first six months of 1999. Network access Interstate network access revenues increased $96, or 8.3%, in the second quarter and $188, or 8.2%, in the first six months of 1999 due largely to increases in demand for access services by interexchange carriers, special access, and growth in revenues from end-user charges attributable to an increasing access line base, which collectively resulted in an increase of approximately $125 for the second quarter and $234 for the first six months of 1999. In addition, customer number portability cost recovery, net of a Federal Communications Commission (FCC) retroactive rate decrease in the second quarter of 1999, effective February 1999, contributed approximately $21 for the second quarter and $50 to the increase for the first six months of 1999. Partially offsetting these increases were the effects of rate reductions related to the FCC's productivity factor adjustment, access reform and other changes totaling approximately $53 for the second quarter and $101 for the first six months of 1999. Intrastate network access revenues decreased $18, or 3.7%, in the second quarter and $25, or 2.6%, in the first six months of 1999. Increases in demand at Southwestern Bell Telephone Company (SWBell), PacBell, The Southern New England Telephone Company (SNET) and Nevada Bell (collectively referred to as the Telephone Companies) totaled approximately $25 for the second quarter and $53 for the first six months of 1999, including usage by alternative intraLATA toll carriers. These increases were offset by state regulatory rate reductions totaling approximately $22 for the second quarter and $42 for the first six months of 1999 and the effects of the CHCFB described above in local service totaling approximately $12 for the second quarter and $25 for the first six months of 1999. SBC COMMUNICATIONS INC. Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations Dollars in millions except per share amounts RESULTS OF OPERATIONS - Continued Long distance service revenues decreased $38, or 6.4%, in the second quarter and $70, or 5.9%, in the first six months of 1999. Long distance service revenues decreased due to the effects of regulatory shifts of approximately $28 in the second quarter and $57 for the first six months of 1999, discussed above in local service, related to CHCFB and the introduction of extended area service; price competition from alternative intraLATA toll carriers of approximately $12 in the second quarter and $26 in the first six months of 1999. Also contributing to the decrease were regulatory rate orders of approximately $11 in the second quarter and $12 in the first six months of 1999. Partially offsetting these decreases were increased revenues related to the net effect of local exchange carrier billing settlements of approximately $12 in the second quarter and $20 in the first six months of 1999 and increased demand at PacBell and increased customer migration to SNET All Distance totaling approximately $7 in the second quarter and $16 in the first six months of 1999. Other operating revenues increased $90, or 18.5%, in the second quarter and $196, or 20.5%, in the first six months of 1999 due to increased equipment sales, primarily consumer equipment, at the Telephone Companies of approximately $30 in the second quarter and $71 in the first six months of 1999, increased sales from other nonregulated products and services at the Telephone Companies of approximately $18 in the second quarter and $66 in the first six months of 1999, revenues from new business initiatives, primarily Internet services, of approximately $24 in the second quarter and $45 for the six months of 1999 and the deregulation of 911 revenues shifted to other revenues from local service of approximately $11 in the second quarter and $23 in the first six months of 1999. Wireless Wireless operating revenues increased $186, or 17.8%, in the second quarter of 1999 and $332, or 16.7%, for the first six months of 1999. Components of Wireless operating revenues for the second quarter and first six months of 1999 and 1998 are as follows: - -------------------------------------------------------------------------------------
Second Quarter Six-Month Period ------------------------------ ---------------------------- Percent Percent 1999 1998 Change 1999 1998 Change - -------------------------------------------------------------------------------------- Subscriber $ 1,107 $ 956 15.8% $ 2,092 $ 1,823 14.8% Other 125 90 38.9 233 170 37.1 - ---------------------------------------------- -------------------- Total Wireless $ 1,232 $ 1,046 17.8% $ 2,325 $ 1,993 16.7% ======================================================================================
Subscriber revenues consist of local service and wireless long distance. Wireless subscriber revenues increased $151, or 15.8%, in the second quarter and $269, or 14.8%, for the first six months of 1999 due primarily to growth in the number of customers of 18.2% and an increase in long distance roaming charges. These increases were partially offset by declines in average revenue per customer. At June 30, 1999, SBC had 6,275,000 traditional cellular customers, including resale customers and 1,180,000 PCS customers. Other wireless revenues relate primarily to equipment sales and increased $35, or 38.9%, in the second quarter and $63, or 37.1%, for the first six months of 1999. The increase was attributable to growth in the number of customers and conversion to digital equipment. SBC COMMUNICATIONS INC. Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations Dollars in millions except per share amounts RESULTS OF OPERATIONS - Continued Directory Directory operating revenues decreased $14, or 3.2%, in the second quarter and increased $16, or 1.6%, for the first six months of 1999. Directory operating revenues for the second quarter and first six months of 1999 and 1998 are as follows: - -------------------------------------------------------------------------------------
Second Quarter Six-Month Period ------------------------------ ---------------------------- Percent Percent 1999 1998 Change 1999 1998 Change - ------------------------------------------------------------------------------------- Total Directory $ 427 $ 441 (3.2)% $ 1,011 $ 995 1.6% ======================================================================================
Directory operating revenues decreased in the second quarter of 1999 due mainly to a net change in directories published of approximately $41, as compared to the second quarter of 1998. Because of the change in the timing of the publication of directories, revenues in the third quarter of 1999 are expected to be higher than the third quarter of 1998. Partially offsetting the decrease was increased demand, including benefits from sales initiatives developed in the merger integration process. Directory operating revenues increased in the first six months of 1999 due primarily to increased demand, partially offset by approximately $49 related to a net change in directories published, as compared to the first six months of 1998. SBC COMMUNICATIONS INC. Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations Dollars in millions except per share amounts RESULTS OF OPERATIONS - Continued Operating Expenses SBC's operating expenses increased $235, or 4.5%, in the second quarter and $479, or 4.7%, for the first six months of 1999. Components of operating expenses by segment for the second quarter and first six months of 1999 and 1998 are as follows: - -----------------------------------------------------------------------------------
Second Quarter Six-Month Period ---------------------------------------------------------- Percent Percent 1999 1998 Change 1999 1998 Change - ----------------------------------------------------------------------------------- Wireline $ 4,264 $ 4,112 3.7% $ 8,450 $ 8,167 3.5% Wireless 928 822 12.9 1,816 1,595 13.9 Directory 268 272 (1.5) 580 579 0.2 Other 33 27 22.2 67 51 31.4 Corporate, adjustments & eliminations (45) (20) - (141) (99) 42.4 - -------------------------------------------- ------------------- Total Operating Expenses $ 5,448 $ 5,213 4.5% $ 10,772 $ 10,293 4.7% ===================================================================================
Operations and support SBC's operations and support increased $197 or 5.0%, in the second quarter and $395, or 5.0%, for the first six months of 1999. Components of operations and support expenses by segment for the second quarter and first six months of 1999 and 1998 are as follows: -------------------------------------------------------------------------------
Second Quarter Six-Month Period ----------------------------- --------------------------- Percent Percent 1999 1998 Change 1999 1998 Change ------------------------------------------------------------------------------- Wireline $ 3,161 $ 3,057 3.4% $ 6,270 $ 6,083 3.1% Wireless 774 676 14.5 1,510 1,310 15.3 Directory 261 264 (1.1) 565 562 0.5 Other 33 27 22.2 67 51 31.4 Corporate, adjustments & eliminations (54) (46) 17.4 (160) (149) 7.4 ---------------------------------------- ------------------ Total operations and support $ 4,175 $ 3,978 5.0% $ 8,252 $ 7,857 5.0% ===============================================================================
Wireline operations and support increased $104, or 3.4%, in the second quarter and $187, or 3.1%, in the first six months of 1999. The increase includes costs of approximately $90 in the second quarter and $145 in the first six months of 1999 associated with business initiatives and other products, primarily Asymmetrical Digital Subscriber Lines (ADSL), Internet and voice mail. Additionally, operations and support increased approximately $59 in the second quarter and $137 in the first six months of 1999 as a result of increased wages and salaries and materials. Operations and support also increased approximately $45 in the second quarter and $77 in first six months of 1999 as a result of costs associated with reciprocal compensation for the termination of Internet traffic at the Telephone Companies. In addition, the increase in operations and support includes costs of approximately $5 in the second quarter and $48 in the first six months of 1999 related to centralizing support functions and other merger initiatives at SWBell and PacBell. Partially offsetting these increased costs were reductions of approximately $41 in the second quarter and $72 in first six months of 1999 primarily the result of lower contract labor costs, costs associated with customer number portability and benefit costs. These reductions primarily resulted from the realization of merger initiative benefits, partially offset by normal growth in operations and SBC COMMUNICATIONS INC. Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations Dollars in millions except per share amounts RESULTS OF OPERATIONS - Continued support expenses. Also partially offsetting the increases in operations and support was the change in accounting for software costs (see Note 10 of Notes to the Consolidated Financial Statements) which resulted in approximately $63 in the second quarter and $89 in the first six months of 1999 being capitalized rather than expensed and lower costs of approximately $14 in the second quarter and $33 in the first six months of 1999 for interconnection and regulatory mandated network enhancements. Wireless expenses increased $98, or 14.5%, in the second quarter and $200, or 15.3%, for the first six months of 1999 due primarily to growth in the number of customers. These increases were partially offset by decreased customer acquisition costs of 5% and 8% in the second quarter and first six months of 1999 and lower uncollectible expense. Directory expenses decreased $3, or 1.1%, in the second quarter and increased $3, or 0.5%, for the first six months of 1999. The second quarter decrease is primarily due to a net change in directories published as discussed in directory operating revenues above and decreased product-related costs due to benefits from merger initiatives, partially offset by additional expenses associated with increased demand. Directory expenses increased in the first six months of 1999 as employee-related costs increased due to increased demand, partially offset by a net change in directories published and decreased product-related costs due to benefits from merger initiatives. Depreciation and amortization SBC's depreciation and amortization expense increased $38, or 3.1%, in the second quarter and $84, or 3.4%, for the first six months of 1999. Components of depreciation and amortization expense by segment for the second quarter and first six months of 1999 and 1998 are as follows: -------------------------------------------------------------------------------
Second Quarter Six-Month Period ---------------------------- -------------------------- Percent Percent 1999 1998 Change 1999 1998 Change ------------------------------------------------------------------------------- Wireline $ 1,103 $ 1,055 4.5% $ 2,180 $ 2,084 4.6% Wireless 154 146 5.5 306 285 7.4 Directory 7 8 (12.5) 15 17 (11.8) Other - - - - - - Corporate, adjustments & eliminations 9 26 (65.4) 19 50 (62.0) ------------------------------------------- ------------------- Total depreciation and amortization $ 1,273 $ 1,235 3.1% $ 2,520 $ 2,436 3.4% ===============================================================================
Depreciation and amortization expense is primarily in the Wireline and Wireless segments. Depreciation and amortization increased due primarily to increased depreciation expense of approximately $56 in the second quarter and $106 in the first six months in the Wireline segment and approximately $10 in the second quarter and $22 in the first six months in the Wireless segment. These increases resulted from overall higher plant levels. The increases were partially offset by reduced depreciation expense of approximately $7 at SNET in the second quarter and $15 in the first six months related to lower levels of analog switching equipment. In addition, the third quarter 1998 sale of SBC Media Ventures reduced depreciation expense by approximately $14 in the second quarter and $28 in the first six months of 1999. SBC COMMUNICATIONS INC. Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations Dollars in millions except per share amounts RESULTS OF OPERATIONS - Continued Interest expense decreased $47, or 18.1%, for the second quarter of 1999 and $80, or 15.5%, for the first six months of 1999. This decrease was due primarily to reductions in interest expense resulting from lower debt levels. Equity in net income of affiliates increased $19, or 26.0%, in the second quarter of 1999 due primarily to increases from SBC's investment in Telefonos de Mexico, S.A. de C.V. (Telmex) and SBC's investments in French telecommunications totaling approximately $22. These increases were partially offset by reduced equity in net income from SBC's investment in Telkom SA Limited (Telkom) in South Africa. Equity in net income of affiliates increased $28, or 22.2%, in the first six months of 1999 due primarily to increased equity in net income of approximately $40 from SBC's investment in Telmex and in France, as well as SBC's certain domestic wireless operations. These increases were partially offset by a lower contribution from SBC's investment in Telkom, resulting from the impact of the decline in the value of the rand and higher maintenance expenses, including weather-related expenses. Also offsetting the increase were higher expenditures on wireless activities in Switzerland. Other income (expense) - net for the second quarter of 1999 and 1998 was income of $3 and net expense of $39 and net expense of $80 and $78 for the first six months of 1999 and 1998. In the second quarter and first six months of 1999 SBC recognized a gain from the sale of a portion of one of SBC's international investments, Amdocs Limited (Amdocs) by approximately $92 in a secondary offering as well as gains of $52 representing market adjustments on Amdocs shares used for contributions to the SBC Foundation and deferred compensation. Results for the second quarter and first six months of 1999 also included a gain of approximately $59 recognized from the sale of SBC's investment in an international investment. The first six months of 1999 also included a gain of approximately $24 recognized from the sale of certain discontinued plant related to Advanced Communications Network. Offsetting these gains were increased expenses related to higher appreciation in the market value of Telmex L shares underlying certain SBC debt redeemable either in cash or Telmex L shares than in the comparable periods of 1998, net of gains recognized from the sale of certain Telmex L shares, of approximately $156 for the second quarter and $212 for the first six months of 1999. Also affecting comparisons in the first six months of 1998 was receipt of a special dividend of approximately $158 from Amdocs, approximately $133 of other expense related to the impairment of an international investment and investments in certain wireless technologies, primarily wireless video and approximately $14 in expense for the write off of call premiums and unamortized discounts on early retirement of debt at SWBell. Income Taxes increased $82, or 14.4%, in the second quarter and $153, or 13.5%, in the first six months of 1999 due primarily to higher income before income taxes. COMPETITIVE AND REGULATORY ENVIRONMENT Texas Legislation In May 1999, the Texas legislature adopted Senate Bill 560, as amended. The bill, which will become law on September 1, 1999, extends incentive regulation indefinitely, provides more pricing flexibility on certain products offered by SWBell, such as Caller ID, operator service and directory assistance, and allows SWBell to package some services in ways attractive to customers. The bill also requires SWBell to reduce the intrastate switched access rate it charges to long distance carriers by 1 cent on September 1, 1999 and by 2 additional cents on the earlier of SWBell's entry into the long distance market or July 1, 2000. The 1 cent reduction in intrastate access rates taking effect on September 1, 1999 is expected to result in a reduction of intrastate network access revenues of approximately $25 for the remainder of 1999. SBC COMMUNICATIONS INC. Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations Dollars in millions except per share amounts COMPETITIVE AND REGULATORY ENVIRONMENT - Continued Reciprocal Compensation is billed to SBC's subsidiaries by Competitive Local Exchange Carriers (CLECs) for the termination of certain local exchange traffic to CLEC customers. SBC believes that under the Telecommunications Act of 1996 (Telecom Act) the state commissions have authority to order reciprocal compensation only for intrastate or local traffic, while the FCC has authority over interstate and interexchange traffic. SBC believes most Internet traffic is interexchange and interstate. Several state commissions have taken the position that Internet communications is intrastate or local traffic and ordered SBC to pay reciprocal compensation to certain CLECs pursuant to existing contracts. In February 1999, the FCC declared that Internet traffic is not intrastate or local traffic but instead is primarily interstate, subject to interstate jurisdiction. However, the FCC added that state commissions, interpreting existing contracts and consistent with federal law, might nevertheless order payment of reciprocal compensation for Internet traffic in certain circumstances. In March 1999, MCI WorldCom filed an appeal of the FCC ruling and certain local exchange carriers also appealed; the outcome of these appeals is pending. In June 1999, the California Public Utilities Commission (CPUC) in arbitration between PacBell and a CLEC customer voted to treat Internet traffic as local pending a further CPUC proceeding to examine the issue. The CPUC also approved a reduction in the reciprocal compensation rate between PacBell and the CLEC customer beginning June 29, 1999. In July 1999, the CPUC issued a draft decision in another arbitration between PacBell and a CLEC customer upholding reciprocal compensation fees. The final decision is expected to result in a reduction of the reciprocal compensation rate paid by PacBell to the CLEC customer beginning in the fourth quarter of 1999. In July 1999, the CPUC also affirmed an order that had concluded that Internet traffic is local. SBC is currently evaluating the impact of this order. SBC has been recording expense for amounts sought by certain CLECs for the termination of Internet traffic to Internet Service Providers. Customer Local Number Portability Long-term customer local number portability (LNP) allows customers to change local exchange carriers while maintaining their existing telephone numbers. In December 1998, the FCC issued an order on recovery of costs incurred for LNP by local exchange carriers. This order provides for the levying of federally tariffed LNP monthly end-user charges for a five-year period, beginning in February 1999. SBC began recovering LNP costs at the rates of 48 cents to 50 cents per access line per month. In July 1999, the FCC issued an order on SBC's rates, revising the rates to 33 cents and 34 cents, with a refund obligation for the period of February through July 1999. SBC recorded $23 in the second quarter of 1999 related to the rate reduction. Federal Access Rates In May 1999, the United States Court of Appeals for the District of Columbia Circuit (Court of Appeals) ruled that the FCC failed to adequately explain certain changes to part of the formula used to calculate the access rates local carriers, such as SBC's subsidiaries, charge long distance carriers. Specifically, the Court of Appeals disagreed with the FCC's rationale for making certain changes to the "X factor" adjustment, the purpose of which is to ensure that access rates decrease as local phone company productivity increases, and ordered the FCC to reevaluate the formula. The Court of Appeals did not state whether the FCC should have made specific adjustments that would have resulted in either higher or lower access rates. In a subsequent order, the Court of Appeals stayed the mandate of this decision until April 1, 2000. The effect of the Court of Appeal's decision on SBC's results of operations and financial position cannot be determined at this time. SBC COMMUNICATIONS INC. Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations Dollars in millions except per share amounts COMPETITIVE AND REGULATORY ENVIRONMENT - Continued Shared Transport In June 1999, the United States Supreme Court (Supreme Court) set aside an August 1998 United States Court of Appeals for the Eighth Circuit (8th Circuit) ruling that major carriers, such as SBC's subsidiaries, could be forced to lease, at a discount, shared transport service for carrying phone calls among telephone company central switching offices. The 8th Circuit had held that such shared transport was subject to mandatory leasing under the Telecom Act. The Supreme Court previously ruled that the FCC ignored some limits in the Telecom Act when it drew up rules for mandatory leasing and in light of that prior ruling, ordered the 8th Circuit to reconsider the shared transport ruling. The effect of this ruling on SBC cannot be determined at this time. California Rate Ruling In June 1999, the CPUC issued a ruling recategorizing certain of PacBell's services, including the maintenance of inside wiring, collect, calling card and person to person calls and the provisioning of directory assistance to interexchange carriers, as competitive products. In its ruling, the CPUC approved an increase in the ceiling price for both inside wire repair services and interexchange directory assistance. Although the effect of this ruling on SBC's results of operations and financial position cannot be determined at this time, it is expected to be favorable. OTHER BUSINESS MATTERS Cumulative Effect of Change in Accounting See Note 3 of Notes to Consolidated Financial Statements for a discussion of the change in directory accounting at SNET Information Services, Inc. in the first quarter of 1998. Pending Merger See Note 5 of Notes to Consolidated Financial Statements for a discussion of the merger agreement with Ameritech Corporation. New Accounting Standards In June 1998, the Financial Accounting Standards Board (FASB) issued Statement No. 133, "Accounting for Derivative Instruments and Hedging Activities" (FAS 133), which will require all derivatives to be recorded on the balance sheet at fair value and changes in the fair value of the derivatives to be recorded in net income or comprehensive income. In June 1999, the FASB issued Statement No. 137, "Accounting for Derivative Instruments and Hedging Activities-Deferral of the Effective Date of the FASB Statement No. 133" (FAS 137) that among other items, defers the date that FAS 133 must be adopted to years beginning after June 15, 2000. Earlier adoption is permitted. SBC is currently evaluating the impact of the change in accounting required by FAS 133 and FAS 137, but is not able to quantify the effect at this time. See Note 10 of Notes to Consolidated Financial Statements for a discussion of the new accounting standard on software costs. Acquisition On May 3, 1999, SBC and Telmex announced they have agreed to acquire Cellular Communications of Puerto Rico Inc. (Cellular Communications) in a transaction valued at $814. Under the terms of the agreement, SBC and Telmex will pay approximately $464 in cash and assume Cellular Communications' long-term debt of $350. The transaction will be accounted for through the purchase accounting method. SBC is expected to eventually own a direct 50% interest in Cellular Communications. Cellular Communications offers wireless services under the Cellular One brand name to more than 330,000 subscribers in Puerto Rico and the U.S. Virgin Islands. The company also offers paging and long distance service in Puerto Rico and will offer wireline phone service in San Juan. The transaction was approved by shareholders in July 1999 and approval by regulators is pending. The acquisition is expected to be approved in the third quarter of 1999. SBC COMMUNICATIONS INC. Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations Dollars in millions except per share amounts OTHER BUSINESS MATTERS - Continued Wireless Acquisition See Note 11 of Notes to Consolidated Financial Statements for a discussion of the acquisition of Comcast Cellular Corporation (Comcast). Marketing Agreement In July 1999, SBC entered into a strategic marketing and distribution agreement with DIRECTV, Inc., that will make high-quality digital satellite television service available to SBC's residential customers. SBC, through DIRECTV, Inc. will offer customers a digital video entertainment service. SBC's Year 2000 Project SBC operates numerous date-sensitive computer applications and systems throughout its businesses. Since 1996, SBC has been working to upgrade its networks and computer systems to properly recognize the Year 2000 and continue to process critical operational and financial information. Company-wide teams are in place to address and resolve Year 2000 issues and processes are under way to evaluate and manage the risks and costs associated with preparing SBC's date-impacted systems and networks for the new century. SBC is using a four-step methodology to address the issue. The methodology consists of inventory and assessment, hardware and software fixes, testing and deployment. SBC measures its progress by tracking the number of completed hardware and software applications, network components, personal computers and building facilities that can correctly process Year 2000 dates. The inventory and assessment phase was estimated to require 20% of the overall effort and included the identification and prioritization of items that could be impacted by the Year 2000 and the determination of the work effort required to ensure compliance. The inventory and assessment phase was completed in 1998. This process involved reviewing over 340 million lines of software code, 1,200 central office switches, 7,000 company buildings, conducting an inventory and assessment of 124,000 personal computers and coordinating with 1,500 suppliers. SBC must obtain adequate assurance that the 15,000 products they provide will be Year 2000 compliant or determine and address any appropriate contingency plans or backup systems. Making the hardware and software fixes was the second phase of the process and was estimated to require 25% of the overall effort. This activity involved modifying program code, upgrading computer software and upgrading or replacing hardware. The hardware and software fixes were completed as of June 30, 1999. Testing involves ensuring that hardware and software fixes will work properly in 1999 and beyond and occurs both before and after deployment. Testing is estimated to comprise 45% of the overall effort. Testing began early in 1998 and is substantially complete. Contingency plans have been written and will be finalized by August 31, 1999. Deployment involves placing the "fixed" systems into a live environment to ensure they are working properly. Additional testing is done after deployment as well. Deployment is estimated to require 10% of the overall effort. Ninety eight percent of the deployment phase was completed as of June 30, 1999. SBC has budgeted $265 on the entire project, with approximately $197 spent through June 30, 1999. The activities involved in SBC's Year 2000 project require estimates and projections, as described above, of activities and resources that will be required in the future. These estimates and projections could change as work progresses on the project. SBC COMMUNICATIONS INC. Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations Dollars in millions except per share amounts LIQUIDITY AND CAPITAL RESOURCES SBC had $848 in cash and cash equivalents available at June 30, 1999. During the first six months of 1999, as in 1998, SBC's primary source of funds continued to be cash provided by operating activities. SBC has agreements in place with several banks for lines of credit totaling $1,460, all of which may be used to support commercial paper borrowings. SBC had no borrowings outstanding under these lines of credit at June 30, 1999. Commercial paper borrowings as of June 30, 1999 totaled $345. SBC's investing activities are primarily related to construction and capital expenditures. During the first six months of 1999, SBC invested $3,001 for construction and capital expenditures, primarily in the Wireline and Wireless segments. Investing activities during the first six months of 1999 also included asset dispositions of $455, primarily related to foreign operations. Capital expenditures for 1999 are estimated to be approximately $6,400 to $6,800. In February 1998, SBC retired $630 of long-term debt, including $175 at PacBell and $425 at SWBell, and issued approximately $200 in debentures at PacBell due February 2008 and approximately $200 in debentures at SWBell due March 2048. Cash paid for dividends in the first six months of 1999 was $937, or $4.7% higher than in the first six months of 1998 due to an increase in dividends paid per share to $0.4875 from $0.4675. In July 1999, subsequent to the completion of the acquisition, SBC retired virtually all of Comcast's outstanding Senior Notes. SBC COMMUNICATIONS INC. Item 3. Quantitative and Qualitative Disclosures About Market Risk Dollars in millions except per share amounts In May 1999, SBC entered agreements to participate in several interest rate swaps (Swaps) with notional values totaling $795. The Swaps have terms to pay variable rates of interest based upon Three Month LIBOR plus or minus a spread, and to receive fixed rates of interest designed to match certain low-coupon debt liabilities on SBC's balance sheet. The Swaps mature 2002 through 2006. SBC will record interest rate settlements as adjustments to interest expense in the consolidated statements of income when paid or received. SBC currently does not recognize the fair value of these derivative financial instruments or their changes in its financial statements. Any gains or losses on the Swaps are deferred until each instrument is terminated. At June 30, 1999, the Swaps fair values totaled ($13). Effective June 30, 1999, as a result of Vodafone Group PLC merging with AirTouch Communications, Inc. (AirTouch), forming Vodafone AirTouch PLC (Vodafone AirTouch), the outstanding AirTouch stock options held by SBC employees were converted to Vodafone AirTouch options. For each option for a share of AirTouch common stock, the option holders received an option in 0.5 ADR's of Vodafone AirTouch and the grant price of the options were reduced for the value of cash received by AirTouch shareowners. The last option grant expires January 2003, and as of June 30, 1999 approximately 99,000 options were still outstanding. CAUTIONARY LANGUAGE CONCERNING FORWARD-LOOKING STATEMENTS Information set forth in this form contains forward-looking statements that are subject to risks and uncertainties. SBC claims the protection of the safe harbor for forward-looking statements provided by the Private Securities Litigation Reform Act of 1995. The following factors could cause SBC's future results to differ materially from those expressed in the forward-looking statements: (1) adverse economic changes in the markets served by SBC or changes in available technology; (2) the final outcome of various FCC rulemakings and judicial review, if any, of such rulemakings; (3) the final outcome of various state regulatory proceedings in SBC's eight-state area, and judicial review, if any, of such proceedings; (4) the timing of entry and the extent of competition in the local and intraLATA toll markets in SBC's eight-state area; and (5) the impact of the Ameritech transaction, including regulatory requirements and merger integration efforts. Readers are cautioned that other factors discussed in this form, although not enumerated here, also could materially impact SBC's future earnings. SBC COMMUNICATIONS INC. PART II - OTHER INFORMATION Item 2. Changes in Securities and Use of Proceeds During the second quarter of 1999, the Company sold shares of common stock to non-employee directors pursuant to the Company's Non-Employee Director Stock and Deferral Plan. Under the plan, a director may make an annual election to receive all or part of his annual retainer or fees in the form of SBC shares or deferred stock units (DSUs) that are convertible into SBC shares. During this period, an aggregate of 10,242 SBC shares and DSUs were purchased by non-employee directors at prices ranging from $49.75 to $55.75, in each case the fair market value of the shares on the date of purchase. The issuances of shares and DSUs were exempt from registration pursuant to Section 4(2) of the Securities Act. Item 4. Submission of Matters to a Vote of Security Holders Annual Meeting of Shareowners (a) The annual meeting of the shareowners of SBC Communications Inc. (SBC) was held on April 30, 1999, in San Antonio, Texas. Shareowners representing 1,526,347,075 shares of common stock as of the March 2, 1999 record date were present in person or were represented at the meeting by proxy. (b) At the meeting, holders of common shares voted as indicated below to elect the following persons to the Board of Directors for a three-year term: SHARES SHARES DIRECTOR FOR WITHHELD* James E. Barnes 1,503,417,735 22,929,340 August A. Busch III 1,504,106,879 22,240,196 William P. Clark 1,503,955,402 22,391,673 Mary S. Metz 1,504,242,297 22,104,778 Patricia P. Upton 1,504,232,417 22,114,658 Edward E. Whitacre, Jr. 1,504,375,910 21,971,165 *Includes shares represented at the meeting by proxy where the shareowner withheld authority to vote for the indicated director or directors, as well as shares present at the meeting which were not voted for such director or directors. (a) Shareowners ratified the appointment of Ernst & Young LLP as independent auditors of SBC for the year ended December 31, 1999. The vote was 1,508,688,584 FOR and 7,973,976 AGAINST, with 9,684,515 shares ABSTAINING. (d) Shareowners voted not to adopt a shareowner proposal to limit certain existing pension benefits for outside directors. The vote was 406,936,269 FOR and 872,532,305 AGAINST, with 46,774,271 shares ABSTAINING. SBC COMMUNICATIONS INC. PART II - OTHER INFORMATION - Continued Item 6. Exhibits and Reports on Form 8-K (a) Exhibits Exhibit 12 Computation of Ratios of Earnings to Fixed Charges. Exhibit 27 Financial Data Schedule. (b) Reports on Form 8-K On June 17, 1999, SBC filed a Form 8-K, reporting on Item 5. Other Events and Item 7. Financial Statements and Exhibits. In the report, SBC disclosed a press release announcing that it had commenced an offer to purchase and consent solicitation for all of the outstanding 9.5% Senior Notes due May 1, 2007 issued by Comcast Cellular Corporation (Comcast Cellular), in connection with the closing of SBC's purchase of all stock of Comcast Cellular. SIGNATURE Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. SBC Communications Inc. August 6, 1999 /s/ Donald E. Kiernan ------------------------ Donald E. Kiernan Senior Vice President, Treasurer and Chief Financial Officer EX-12 2 RATIO OF EARNINGS TO FIXED CHARGES SBC COMMUNICATIONS INC. EXHIBIT 12 COMPUTATION OF RATIOS OF EARNINGS TO FIXED CHARGES Dollars in Millions
SIX MONTHS ENDED JUNE 30, YEAR ENDED DECEMBER 31, --------------------- ---------------------------------------------------- 1999 1998 1998 1997 1996 1995 1994 ---------- --------- -------- -------- --------- -------- --------- Income Before Income Taxes, Extraordinary Loss and Cumulative Effect of Accounting Changes* $ 3,467 $ 3,120 $ 6,318 $ 2,558 $ 5,283 $ 4,670 $ 4,403 Add: Interest Expense 436 516 993 1,043 901 1,043 1,010 Dividends on Preferred Securities 40 40 80 80 60 - - 1/3 Rental Expense 75 70 147 129 115 85 93 ---------- --------- -------- --------- --------- -------- --------- Adjusted Earnings $ 4,018 $ 3,746 $ 7,538 $ 3,810 $ 6,359 $ 5,798 $ 5,506 ========== ========= ======== ========= ========= ======== ========= Total Interest Charges $ 467 $ 549 $ 1,052 $ 1,168 $ 1,043 $ 1,048 $ 1,010 Dividends on Preferred Securities 40 40 80 80 60 - - 1/3 Rental Expense 75 70 147 129 115 85 93 ---------- --------- -------- --------- --------- -------- --------- Adjusted Fixed Charges $ 582 $ 659 $ 1,279 $ 1,377 $ 1,218 $ 1,133 $ 1,103 ========== ========= ======== ========= ========= ======== ========= Ratio of Earnings to Fixed Charges 6.90 5.68 5.89 2.77 5.22 5.12 4.99 *Undistributed earnings on investments accounted for under the equity method have been excluded
EX-27 3 EXHIBIT 27: FINANCIAL DATA SCHEDULE, 6/30/99
5 THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM SBC COMMUNICATIONS INC.'S JUNE 30, 1999 CONSOLIDATED FINANCIAL STATEMENTS AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS. 1,000,000 6-MOS DEC-31-1999 JUN-30-1999 848 1 5,803 461 0 7,873 75,441 45,083 46,060 9,376 11,350 0 0 1,988 12,416 46,060 0 14,712 0 8,252 2,520 226 436 3,578 1,287 2,291 0 0 0 2,291 1.17 1.15 THIS AMOUNT IS IMMATERIAL. NET SALES OF TANGIBLE PRODUCTS IS NOT MORE THAN 10% OF TOTAL OPERATING REVENUES AND THEREFORE HAS NOT BEEN STATED SEPARATELY IN THE FINANCIAL STATEMENTS PURSUANT TO REGULATION S-X, RULE 5-03(B). THIS AMOUNT IS INCLUDED IN THE "TOTAL REVENUES" TAG. COST OF TANGIBLE GOODS SOLD IS INCLUDED IN OPERATIONS AND SUPPORT IN THE FINANCIAL STATEMENTS AND THE "TOTAL COST" TAG, PURSUANT TO REGULATION S-X, RULE 5-03(B).
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