ITEM 1. BUSINESS
Unless the context requires otherwise, references in this Annual Report on Form 10-K to the Company refer to Atlantic Broadband Finance, LLC and references such as “we”, “us” and “our” refer to Atlantic Broadband Finance, LLC together with its consolidated subsidiaries.
History
Our Company was formed in Delaware on August 26, 2003. We are a wholly-owned subsidiary of Atlantic Broadband Holdings I, LLC (the “Parent”). Our Company and the Parent are wholly-owned indirect subsidiaries of Atlantic Broadband Group, LLC. We currently operate certain cable systems in Pennsylvania, Florida, Maryland, West Virginia, Delaware, South Carolina and New York (the “Systems”).
We are the nation’s 14th largest cable television system operator. As of December 31, 2011, the Systems passed a total of approximately 512,000 homes and served approximately 190,000 Equivalent Basic Units (“EBUs”). The Systems are comprised of four operating clusters: the Western Pennsylvania Cluster totaling approximately 113,000 EBUs in the localities of Johnstown, Altoona, Uniontown and Bradford, Pennsylvania and Cumberland, Maryland; the Miami Beach Cluster totaling approximately 41,000 EBUs in Miami Beach, Florida; the Maryland/Delaware Cluster totaling approximately 18,000 EBUs in various communities on the Delmarva peninsula; and the Aiken Cluster in South Carolina totaling approximately 18,000 EBUs.
The Systems are comprised of approximately 7,900 miles of network plant passing approximately 512,000 homes, resulting in an average density of approximately 65 homes per mile. As of December 31, 2011, approximately 98% of the Systems’ homes passed have been upgraded to 550 MHz or higher bandwidth capacity and approximately 72% of homes passed have been upgraded to 750 MHz or higher bandwidth capacity. In addition, approximately 98% of the homes passed in the Systems currently are Internet-ready and two-way communications capable and approximately 98% of the homes passed are telephone capable.
The Systems represent a mix of stable, mature systems in Western Pennsylvania and high growth potential systems in Miami Beach, Maryland/Delaware and Aiken. In the Western Pennsylvania Cluster, the systems enjoy high basic subscriber penetration as well as basic subscriber churn levels well below the national average. In the Miami Beach, Maryland/Delaware and Aiken Clusters, we believe there is significant long-term potential for new homes growth, as well as other system specific opportunities.
We have transformed the Systems into an actively-managed, Internet-led, marketing-focused broadband service provider. We believe that the Systems have numerous favorable characteristics, including a technologically advanced cable network, a presence in several attractive market areas, above-average basic subscriber penetration levels, low historic basic subscriber churn and strong potential growth in high-speed data revenue. Our management team is pursuing a focused commitment to strict cost controls and prudent capital management which will further improve the existing strengths of the Systems. We believe that a combination of our operating approach and the Systems’ attributes will enhance our ability to acquire and retain customers and increase the Systems’ revenues and cash flow.
Business Strategy
Our strategy is to become the leading full service provider of entertainment, information and communications services for the communities served by the Systems. We believe that bundling high-speed data and voice services with new and existing multi-channel video services, such as analog, digital, high-definition and voice offerings, will provide a strong competitive product offering versus other entertainment and information service providers, particularly Direct Broadcast Satellite (“DBS”) and Digital Subscriber Line (“DSL”) providers. The key elements of our business strategy are to:
Develop Compelling Value-Driven Service Offerings Focusing on High-Speed Data and Telephony Service
We believe that our high-speed data and telephony service has the potential to provide a substantial portion of our revenue growth in the near future and will be our most effective means of enhancing our ability to acquire and retain customers. Our cable network allows us the flexibility to offer high-speed data and telephony services with a wide range of high-speed data access speeds to match our customers’ varying needs for addressable download speed in addition to unlimited local and long distance telephone service at an affordable cost. By leveraging this capability, we have developed bundled tiered high-speed data, telephony and video service offerings, which we expect will continue to expand our base of high-speed data customers and enable us to compete effectively against Direct Broadcast Satellite (“DBS”) and Direct Subscriber Line (“DSL”) providers.
We also focus on opportunities to improve the quality and attractiveness of our analog and digital video offerings to our customers. Our digital video platform already enables a significant number and variety of channels throughout the Systems, giving our customers the ability to customize their digital channel lineup with a range of content-unique digital tiers, including multiplexed premium offerings such as HBO and Showtime. We offer our expanded analog and digital offerings à la carte and on a bundled basis to create flexibility and value options for our customers.
We carry the local broadcast affiliates of the national television networks in all of our markets. Additionally, we provide locally produced and oriented programming that offers, among other things, community information, local government proceedings and local specialty interest shows. In some of our markets, we are the only broadcaster of local college and high school sporting events, which allows us to provide important programming that builds customer loyalty. We also offer local service packages, such as Hispanic programming tiers in our Miami Beach Cluster, that appeal to our customers’ ethnic and language backgrounds, either as part of a bundled package or on an à la carte basis.
Develop Innovative, Locally-Tailored Marketing Programs and Sales Initiatives
We will continue to develop and implement a variety of innovative marketing techniques to attract new customers, maintain existing customers and increase revenue per customer. We introduced marketing programs tailored to local customer preferences which are designed to educate customers about our advanced products and services and the advantages of those products and services. Our marketing efforts will continue to focus on promoting tiered bundled high-speed data and video services that provide value, choice and convenience to our customers. We market our products principally through direct mail, door-to-door sales and telemarketing, as well as through media advertising, e-marketing, consumer electronics retailers and our local customer care and bill payment centers.
Maximize Customer Satisfaction with Superior Customer Care and Technical Service
We strictly adhere to the highest level of customer service, which we continuously monitor by measuring daily call-center performance metrics, customer feedback and local market research. In addition, we are dedicated to fostering strong relations in the communities we serve. We sponsor local non-profit, education and community causes through staged events and promotional campaigns. A significant number of our customers visit their local office on a monthly basis, providing us the opportunity to interact with our customers face-to-face and improve our customer relations. Our localized customer care initiatives create substantial marketing and promotion opportunities. Our emphasis on customer service and strong community involvement leads to higher customer satisfaction, increased product sales, reduced customer churn and strong franchise relationships.
We will continue to invest additional capital in our cable network and customer care centers as necessary to maintain superior technical and customer care support and address our customers’ needs for additional broadband products and services.
The Systems
As of December 31, 2011, the Systems passed approximately 512,000 homes and served approximately 190,000 EBUs in Pennsylvania, Florida, Maryland, West Virginia, Delaware, New York and South Carolina. The table below provides the overview of selected operating and technical data for the Systems as of December 31, 2011:
(1) EBU is a reference to “equivalent basic units”, which is a term used in the cable industry to reflect an adjusted number of total basic subscribers. The total number of EBUs includes (i) non-bulk residential subscribers, each of which represents one EBU and (ii) total basic commercial service subscribers and bulk subscribers in multi-family dwelling units, which are calculated on an equivalent basic unit basis by dividing the commercial service price of bulk price charged to each subscriber by the most prevalent price charged to non-bulk residential subscribers in that market for the comparable tier of service.
(2) The number of basic subscribers includes the reported number of non-bulk basic subscribers for the Systems, the reported number of gross bulk subscribers in the Miami Beach Cluster and an estimated number of gross bulk subscribers in the Western Pennsylvania, Maryland/Delaware and Aiken Clusters.
Western Pennsylvania Cluster
Overview. The Western Pennsylvania Cluster is comprised of several separate cable and data networks that are linked together via fiber optic interconnects and other data circuits in the localities of Johnstown/Altoona, Uniontown and Bradford, Pennsylvania and Cumberland, Maryland. As of December 31, 2011, these systems passed approximately 242,000 homes and served approximately 113,000 EBUs. These systems comprise a total of approximately 4,700 miles of network plant served by 17 headends for video service and through several distinct and redundant circuits for internet and phone traffic. The Western Pennsylvania Cluster represents approximately 47.2% of the total homes passed and 59.3% of the total EBUs in the Systems as of December 31, 2011.
Through December 2011, we have completed significant capital upgrades on these systems, which primarily involved (i) activating the Uniontown system for two-way communications capability, (ii) offering internet and telephony services in virtually all systems and (iii) completing upgrades and enhancements to the region’s customer care center. After the upgrade, approximately 97% of homes passed in Western Pennsylvania are now upgraded to 550 MHz or higher bandwidth capacity, approximately 68% of homes passed are now upgraded to 750 MHz or higher bandwidth capacity, approximately 96% of homes passed are now Internet-ready and two-way communications capable and approximately 95% of homes passed are telephone capable.
Johnstown/Altoona, PA. As of December 31, 2011, we passed approximately 108,000 homes and served approximately 54,000 EBUs in the Johnstown/Altoona, PA cable system. The two largest cities served by the cable system, Johnstown and Altoona, have populations of approximately 220,000 (Johnstown MSA) and 127,000 (Blair County), respectively. The mean household income for the area is approximately $48,000 per year. Key local employers in the area include the Connemaugh Healthcare Systems, Sheetz Corporation, Lockheed Martin, Johnstown Wire Technologies, Concurrent Technologies, CSX, Ward Trucking, and the various Commonwealth of Pennsylvania agencies.
The Johnstown/Altoona cable system has been substantially upgraded with approximately 93% of homes passed by a 750 MHz cable network from eight headends. Approximately 97% of homes passed are also Internet-ready and two-way communications capable, and approximately 97% of homes passed are telephone capable. Prior to July 2003, the Johnstown and Altoona cable system was operated separately, but the two systems were interconnected by fiber and now operate as a single system with a single channel line-up.
Uniontown, PA. As of December 31, 2011, we passed approximately 61,000 homes and served approximately 25,000 EBUs in the Uniontown, PA cable system. The largest city served by the Uniontown cable system is Uniontown with a population of 12,000. The mean household income for the area is approximately $37,000 per year. Key local employers in the area include Uniontown Hospital, Teletech Holdings, Uniontown Newspapers and 84 Lumber.
Approximately 98% of homes passed in the Uniontown cable system have been upgraded to a 550 MHz or better cable network from two headends, and with the completion of our upgrade approximately 98% of homes passed are now Internet-ready and two-way communications capable and 98% of homes passed are telephone capable.
Bradford, PA. As of December 31, 2011, we passed approximately 40,000 homes and served approximately 16,000 EBUs in the Bradford, PA cable system. The two largest cities served by this system are Warren and Bradford, with populations of 9,000 and 8,000, respectively. The mean household income for the area is approximately $42,000 per year. Key local employers in the area include Bradford Hospital, Zippo, W.R.K Case Cutlery, United Refining, Blair Group, Northwest Bancorp and Whirley Industries.
All of the homes passed in the Bradford cable system have been upgraded to a 550 MHz or better cable network from four headends, and with the completion of our upgrade all homes passed are now Internet ready and 95% are telephone ready.
Cumberland, MD. As of December 31, 2011, we passed approximately 33,000 homes and served approximately 18,000 EBUs in the Cumberland, MD cable system. The largest market served by the Cumberland system are the City of Cumberland and Allegany County within which the city is located with a population of approximately 101,000 (Cumberland MSA). The mean household income for the area is approximately $47,000. Key local employers in the area include Memorial Hospital, Western Maryland Health Systems, CSX Transportation, LM Service Co. and Hunter Douglas Fabrications.
Approximately 93% of homes passed in the Cumberland cable system have been upgraded to a 550 MHz or better cable network from four headends, approximately 86% of homes passed are Internet-ready and two-way communications and telephone capable.
Miami Beach Cluster
The Miami Beach Cluster passes approximately 155,000 homes, and as of December 31, 2011, the cluster served approximately 41,000 EBUs from a single headend. Unlike our other clusters, many of our subscribers in the Miami Beach Cluster are served under multi-year “bulk” video agreements, whereby all of the residents in a Multi-Dwelling Unit (“MDU”) receive discounted basic or expanded basic cable service and typically pay subscription fees as part of monthly condominium or maintenance fees paid to the MDU. This discounting results in a disparity between the number of EBUs and the actual number of customers served. In fact, the Miami Beach Cluster actually serves approximately 87,000 basic video subscribers, for a basic penetration rate of approximately 56%. We believe it is advantageous to have a larger base of actual subscribers comprising our EBU count in Miami Beach due to the opportunity to up-sell additional high-speed data and other video services which are generally not sold on a discounted basis. We also believe other “bulk” account benefits include 100% penetration, no churn and incrementally lower connection and marketing cost per added EBU during the term of the MDU’s contract. These benefits serve as strong competitive advantages over DBS providers. We project that the Miami Beach Cluster will continue to be a high-performing system due to the combination of upgraded network plant, attractive demographics and historically strong home growth in the market area.
Miami Beach, the largest city served by the Miami Beach Cluster, has a total non-seasonal population of approximately 88,000. The mean household income in Miami Beach is approximately $68,000 per year. Historically, Miami Beach was principally a retirement community. However, during the period from 1980 to 2011, the median age of the local Miami Beach population declined from 65 to 40 years, and the community now includes a significant number of affluent young urban professionals. The Miami Beach market is also home to a large number of seasonal and part time residents who maintain homes there.
Miami Beach’s largest employers include the hotel, government, health care, entertainment and retail industries. International companies, particularly in the entertainment field, are also establishing a larger presence in Miami Beach. Key local employers include Mount Sinai Medical Center (Florida), Loews Hotels and LNR Property. The economy of Miami Beach also benefits from its location between Miami and Ft. Lauderdale, and many of Miami Beach’s residents work in these large nearby communities.
The second largest city served by the Miami Beach system is Aventura, Florida, which has a population of approximately 31,000. The mean household income in Aventura is approximately $81,000 per year. Key local employers in Aventura include Aventura Hospital and Medical Center, Turnberry Associates Corporate Headquarters, William’s Island Ocean Club and The Pritikin Longevity Center.
Miami Beach is a single headend system with approximately 431 plant miles for an average density of 361 homes per mile. The rebuild of the network was completed several years ago, and approximately 56% of the plant miles are served by a 750 MHz network, while the remaining 44% of plant miles are served by an 860 MHz network. 100% of the homes passed in the system are Internet and telephone capable.
Maryland/Delaware Cluster
As of December 31, 2011, the Maryland/Delaware Cluster passed approximately 60,000 homes and served approximately 18,000 EBUs. The largest jurisdictions in the Maryland/Delaware Cluster are unincorporated Queen Anne’s County, Maryland, unincorporated New Castle County, Delaware and Middletown, Delaware. The mean household income in the Maryland/Delaware Cluster is approximately $67,000 per year. Key local employers include: Washington College, Chester River Health System, Shore Health System, Wal-Mart Distribution Center, Allen Family Foods, S.E.W. Friel and Paul Reed Smith Guitars.
Prior to 2005, the Maryland/Delaware Cluster utilized three headends with approximately 1,400 miles of plant for an average density of 42 homes per mile. In 2005, we consolidated these headends into one to provide increased operating efficiency. Prior to our acquisition, the cluster had not been significantly upgraded with only approximately 24% of homes passed by a 550 MHz or better cable network, and none of the homes passed in the system were Internet-ready and two-way communications capable. By the end of 2005 we had completed our upgrade of these systems, with 100% of homes passed now upgraded to 550 MHz or higher bandwidth capacity and 100% of homes passed Internet-ready and two-way communications capable. Since 2006, we have further upgraded the cluster to offer cable telephony service to 100% of homes passed.
Aiken Cluster
As of December 31, 2011, the Aiken Cluster passed approximately 55,000 homes and served approximately 18,000 EBUs. The largest city served by the Aiken Cluster is the City of Aiken, SC, with a population of approximately 28,000 and mean household income of approximately $65,000. Key local employers in the area include Savannah River Nuclear Solutions, Washington Savannah River Co., Shaw AREVA MOX Services, LLC, Aiken Regional Medical Center and Kimberly-Clark Corp.
The Aiken Cluster previously utilized four headends with approximately 1,300 plant miles for an average density of 42 homes per mile. Prior to our acquisition in 2006, the cluster had been only partially upgraded, with only 75% of the system Internet-ready and two-way communications capable and no cable telephony service available. By the end of 2008 we substantially completed our upgrade, consolidating the four headends into one, with 100% of homes passed Internet-ready. Since 2008 we have further upgraded the cluster to offer cable telephony service to 100% of homes passed. We expect to continue to drive subscriber and penetration growth by aggressively promoting high-speed data, telephone and improved video services through locally-driven marketing campaigns.
Video Products and Services
We offer our customers a full array of cable television video services and programming offerings ranging from traditional analog cable offerings to full digital services and advanced services like Video-on-demand, High definition services and Digital Video Recorder services. We tailor both our basic channel line-up and our additional channel and service offerings to each of our clusters in response to demographics, programming preferences, competition and local regulation. We market analog and digital cable services to our customer base across the Systems. Premium channels, which are offered individually or in packages of several channels, are also available as add-ons to our basic and expanded basic video service. We sell our video programming services on a subscription basis, with prices and related charges that vary primarily based on the type of services selected (whether the services are sold as a “bundle” with our high-speed data service or on a stand-alone basis) and the equipment necessary to receive the services.
Our video service offerings include the following:
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Basic Service. All of our customers receive the basic level of service, which generally consists of local broadcast television and local community programming, including government and public access channels, and may include a limited number of satellite-delivered channels.
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Expanded Basic Service. This expanded level of service includes a group of satellite-delivered or non-broadcast channels such as ESPN, CNN, Discovery Channel, Lifetime, TNT, A&E and Bravo.
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Premium Channels. These channels provide unedited, commercial-free movies, sports and other special event entertainment programming such as HBO, Cinemax and Showtime. We offer subscriptions to these channels either as a single channel analog service or as a multi-channel digital service.
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Pay-Per-View. These channels allow analog and digital customers to pay to view a single showing of a recently released movie or a one-time special sporting event or music concert on an unedited, commercial-free basis.
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Video on Demand (VOD). This service allows customers with digital services to choose from a library of hundreds of movies and other programming and to view them at anytime that is convenient for them. Video on Demand is currently available in portions of the Western Pennsylvania Clusters and all of the Miami Beach, Delmar and Aiken Clusters.
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Digital Tiers. We offer digital service to our customers in several different service combination packages. All digital packages include a digital set-top terminal, an interactive electronic programming guide, multiple channels of CD-quality digital music, and an expanded menu of pay-per-view channels from additional video channels. We also offer our customers certain digital packages with one or more premium channels of their choice with “multiplexes.” Multiplexes give customers access to several different versions of the same premium channel which are varied as to time of broadcast (such as East and West coast time slots) or programming content theme (such as westerns or romance). Some digital tier packages are focused on the interests of a particular customer demographic and emphasize, for example, sports, movies, family or ethnic programming.
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High-Definition Television (HDTV). High-definition television is available as of December 31, 2011 to over 98% of our homes passed. High-definition television provides our customers who lease high definition converters or who have digital television sets with built-in high definition tuners with video services at a higher resolution than that of standard television.
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Digital Video Recorders (“DVRs”). We offer our customers digital converters that have digital video recording capability. Using the interactive program guide, our customers with DVRs can record programming in the hard drive component of the digital converter and view recorded programming using the play, pause, rewind and fast forward functions. The DVR can also pause live television, and rewind or fast-forward it, as well as record one show while watching another, or record two shows simultaneously. The customers also can choose DVRs which are HDTV-capable. We began deploying DVRs in certain of our systems in the fourth quarter of 2004, and have expanded this offering to approximately 98% of our homes passed.
High-Speed Data Service
As of December 31, 2011, the Systems had launched high-speed data service passing approximately 504,000 homes and had approximately 152,000 residential customers for a penetration of Internet-ready and two-way communications capable homes passed of approximately 30%. As of December 31, 2011, approximately 98% of the homes passed in the Systems have access to our high-speed data service.
High-speed data service is one of the fastest growing products in the cable television industry, with total U.S. subscribers having grown at an annual rate of 7.4% between 2007 and 2010. Industry analysts forecast U.S. high-speed data subscriber growth to continue at an annual rate of 5.3% between 2011 and 2014. We believe significant incremental revenue will continue to be generated by expanding the high-speed data penetration of the Systems. This growth potential exists due to the natural demand for the high-speed data product generally, as well as the relative under-penetration in the Systems versus the industry average. We believe the relative under-penetration of high-speed data services in the Systems relates to an historical lack of focus on both maximizing the number of high-speed data capable homes and the high-speed data penetration of those homes. With respect to the latter, there have not been marketing initiatives focused specifically on high-speed data service as a distinct offering from the overall suite of available services. Lastly, as access to high-speed data access becomes increasingly important for conducting business in commercial establishments, we have begun only recently to market high-speed data services to many of the commercial businesses passed by the Systems.
We offer multiple tiers of high-speed data service. Service tiers were developed to appeal to a range of potential customers based on the addressable download speeds required by different customer groups. The most affordable service is designed to appeal to those customers currently using dial-up Internet service by taking advantage of the “always on” feature of our high-speed data service. Our “premium” high-speed data service offers superior speeds to DSL and appeals to more sophisticated high-speed data services users. In 2011 we launched an initiative to further differentiate our Internet offerings by utilizing cable’s DOCSIS 3.0 platform to offer speeds of 20 Mbps, 40 Mbps and higher in certain markets. By year-end approximately 41% of HSD ready homes were enabled with these new speeds which we believe will provide us with a significant competitive advantage vs. DSL over time. We also offer our customers the option to purchase or rent a cable modem from us or purchase it directly from a retailer.
We provide all of the back office functions for the Systems’ high-speed data services including provisioning, email, domain name server and multiple e-mail addresses. In 2011 we launched a home networking equipment and support service. This service provides further value to our customers seeking to connect multiple computers and devices to our Internet offering. We plan to continue seeking out value-added service opportunities such as remote storage and backup that provide additional revenue potential.
Telephony
In the first quarter of 2006, we began the rollout of our cable telephony service in certain of our Systems. Our service uses technology that makes it possible to have a telephone conversation over a dedicated Internet Protocol (“IP”) network instead of dedicated voice transmission lines. This allows the elimination of circuit switching and the associated waste of bandwidth. Instead, packet switching is used, whereby IP packets with voice data are sent over the network only when data needs to be sent, for example when a caller is talking. IP’s advantages over traditional telephony include: lower costs per call, especially for long-distance calls; lower infrastructure costs, as once the IP infrastructure is installed, little or no additional telephony infrastructure is needed; and new advanced features.
Our residential telephony service competes primarily with the phone service offered by the respective incumbent local telephone company. Its features include: unlimited long-distance calling throughout the U.S.; the ability to keep the customers’ existing telephone number where local number telephone portability is supported; the ability to access enhanced Emergency 911 dialing; and the ability to use existing telephones and in-house wiring.
In 2005, we entered into an agreement with Net2Phone Cable Telephony, LLC (“Net2Phone”) whereby Net2Phone assists us with provisioning capabilities and provides us with switching and termination of traffic to the public switched telephone network, delivery of enhanced Emergency 911 service, local number portability and operator and directory services. This agreement was amended and extended in February 2010.
As of December 31, 2011, approximately 502,000 of homes passed had telephone capability and we had approximately 72,000 residential subscribers for a penetration of approximately 14.3%.
Service Bundles
In addition to selling our services separately, we are focused on marketing differentiated packages of multiple services and features, or “bundles”, for a single price. Increasingly, our customers subscribe to two or three of our primary services. Customers who subscribe to a bundle receive a discount from the price of buying the services separately as well as the convenience of a single monthly bill. The discounts are generally for a finite time period, after which the services revert to full non-discounted pricing. We believe that our bundled offerings increase customer satisfaction and retention, and encourage subscription to additional features. As of December 31, 2011, approximately 54% of our customers subscribed to such bundled offerings.
Other Products and Services
Commercial Business Opportunity
We believe that there is a high level of demand for high-speed data access and voice services by the business community in the Systems. We receive numerous inquiries regarding the availability of commercial high-speed data and telephony service in areas where residential service has been launched. Our target market in the commercial sector is small to medium-sized businesses with between five and 100 employees. We currently provide “tiered” high-speed data service to the business community based on data throughput speeds. Commercial customers choose from those tiered services to best meet their requirements and budgets. Our commercial telephony service offers commercial customers multiple line capability, and is often bundled with the high-speed data service. We also opportunistically pursue large business and corporate customers located within our network footprint requiring: (i) wide area networks, (ii) point-to-point data services and (iii) virtual private networks. These services are offered where we have excess fiber or capacity on our network or where the contract with the customer provides an adequate return on investment.
Advertising
The Systems receive revenue from the sale of local advertising on satellite-delivered channels such as CNN, MTV, USA Network, ESPN, Lifetime, Nickelodeon and TBS. Advertising sales accounted for 2.7% and 2.6% of the Systems’ combined revenue for the years ended December 31, 2010 and 2011, respectively.
Technical Overview
As of December 31, 2011, the Systems were comprised of approximately 7,900 miles of network plant serving approximately 190,000 EBUs and passing approximately 512,000 homes resulting in a density of approximately 65 homes per mile. As of that date, the Systems were made up of an aggregate of 21 headends. As of December 31, 2011, approximately 98% of our homes were passed by networks with 550 MHz or higher bandwidth capacity, approximately 98% of homes passed were Internet-ready and two-way communications capable and approximately 98% of homes passed were telephone-ready.
Our network design is an analog and digital two-way active network with fiber optic cable carrying signals from the headend to the distribution point within our customers’ neighborhoods. The signals are transferred to our coaxial cable network at the node for delivery to our customers. The fiber system is capable of subdividing the nodes if traffic on the network requires additional capacity.
We believe that active use of fiber optic technology as a supplement to coaxial cable plays a major role in expanding channel capacity and improving the performance of the Systems. Fiber optic strands are capable of carrying hundreds of video, data and voice channels over extended distances without the extensive signal amplification typically required for coaxial cable. We will continue to deploy fiber optic cable as warranted to further reduce amplifier cascades which will improve picture quality and system reliability, and reduce system maintenance cost.
A direct result of this extensive use of fiber optic cable is an improvement in picture quality and a reduction of outages because system failures will be both significantly reduced and will impact far fewer customers when outages do occur. Our design allows the Systems to have the capability to run multiple separate channel line-ups from a single headend and to insert targeted advertisements into specific neighborhoods.
Sales and Marketing
We have achieved higher sales and marketing success by maximizing revenues per subscriber through the use of tiered high speed data and video bundling tactics. After building the channels of direct sales, telemarketing, web based and retail we have significantly increased subscribers in high speed data. With the introduction of sophisticated segmentation we have increased our sales rates and reduced our cost per sale.
We have developed and implemented sales focused compensation structures in our entire customer facing employee functions. With the introduction of ongoing sales and product training programs we have dramatically improved our ability to upgrade our existing base.
We have successfully implemented campaign tracking that enables us to track performance from the initial customer contact through the first full year of the customer relationship. We have successfully implemented in-house developed multimedia marketing campaigns that have an average payback of six months or less.
Programming
We believe that offering a wide variety of programming is an important factor that influences a customer’s decision to subscribe to and retain our cable services. We rely on market research, customer demographics and local programming preferences to determine channel offerings in each of our markets. We obtain the majority of our expanded basic, digital tier and premium programming from the National Cable Television Cooperative (“NCTC”), a national cooperative of cable television service operators which collectively negotiates and administers master affiliation agreements with cable television programming networks on behalf of its member companies. Through joint purchasing and negotiation, the NCTC is able to take advantage of volume discounts offered by programming networks for the purchase of these services. We also obtain basic and premium programming from a number of suppliers, usually pursuant to a written contract. Our programming contracts generally continue for a fixed period of time, usually from three to six years, and are subject to negotiated renewal. Some program suppliers offer financial incentives to support the launch of a channel and ongoing marketing support or launch fees. We also attempt to negotiate volume discount pricing structures. Programming costs are paid each month based on calculations performed by us and are subject to adjustment based on periodic audits performed by the program suppliers.
Programming is typically made available to us for a flat fee per customer with discounts available for channel placement or service penetration. Some channels may be available without cost to us for a limited period of time, after which we generally must pay for the programming. For home shopping channels, we receive a percentage of the amount spent in home shopping purchases by our customers on channels we carry.
Cable programming costs have generally increased in excess of customary inflationary and cost-of-living type increases and they are expected to continue to increase due to a variety of factors, including:
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additional programming being provided to customers as a result of system upgrades that increase channel capacity;
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increased cost to produce or purchase cable programming;
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increased cost for certain previously discounted programming; and
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inflationary or negotiated annual cost increases.
In particular, sports programming costs have increased significantly over the past several years and are expected to continue to do so in the future. In addition, contracts to purchase sports programming sometimes contain built-in cost increases for programming added during the term of the contract.
Historically, many cable television operators have been able to offset increased programming costs through increased prices to their customers. However, with the impact of competition and other marketplace factors, there is no assurance that we will be able to do so in the future. In order to maintain margins despite increasing programming costs, we plan to continue to migrate certain program services from our analog level of service to our digital tiers. We expect that this migration will result in enhanced quality of programming offered on digital tiers and provide our video customers more value and more choice. These service migrations will likely result in an expansion in the number of our digital packages, which we believe will provide more options to bundle services and cover the increased programming expenses. Additionally, as our customers migrate to the digital tier packages, the customer base upon which we pay the increased product costs will proportionately decrease. Generally, to the extent that a reduced number of customers receive a given channel, our costs of providing that channel in our line-up decreases under our programming agreements, although we may lose the benefit of certain volume discounts.
We also obtain most broadcast programming through retransmission consent agreements. Our current agreements generally run through December 2011, and many require payment of a flat per subscriber fee for retransmission of the broadcaster’s analog signal. In some cases these agreements involve the exchange of other types of consideration such as limited grants of advertising time or, when applicable, limited VOD launch fees. The value ascribed to any exchange of non-monetary services in the limited number of cases in which such an exchange may exist are not material to our financial statements, with only cash compensation recorded as revenue and expense in these instances. We expect to be subject to continuing cash demands by broadcasters in exchange for their required consent for the retransmission of broadcast programming to our subscribers. We cannot predict the impact of these negotiations or the effect on our business operations should we fail to obtain the required consents. These negotiations may result in an increase in programming expense or the loss of some broadcast programming.
Franchises
The Company operates pursuant to a total of approximately 270 franchises, permits and similar authorizations issued by local and state governmental authorities. Each franchise is awarded by a governmental authority and such governmental authority often must approve a transfer to another party. Most franchises are subject to termination proceedings in the event of a material breach. In addition, most franchises require us to pay the granting authority a franchise fee of up to 5.0% of gross revenues as defined in the various agreements, which is the maximum amount that may be charged under the applicable federal law. We generally pass these fees through to our customers.
Prior to the scheduled expiration of most franchises, we will initiate renewal proceedings with the granting authorities. When the cable operator requests renewal in accordance with the Cable Communications Policy Act of 1984 the granting authorities may not unreasonably withhold a renewal. In connection with the franchise renewal process, many governmental authorities require the cable operator to make certain commitments. Approximately 17% of our existing franchises will expire within the next three years; and franchises covering approximately 5% of our customers are expired but are in the process of being renewed. We continue to operate the franchises under the terms of the expiring agreement during the renewal negotiations. Historically, we have been able to renew the Systems’ franchises without incurring significant costs, although any particular franchise may not be renewed on commercially favorable terms or otherwise. In addition, state legislation in South Carolina and Florida has streamlined both the franchising and renewal process in those jurisdictions. Our failure to obtain renewals of our franchises, especially those in the areas where we have the most customers, could have a material adverse effect on our business, results of operations and financial condition.
Under the Telecommunications Act of 1996 (the “1996 Telecom Act”), state and local authorities are prohibited from limiting, restricting or conditioning the provision of telecommunications services through a cable franchise agreement, or taking other actions that prohibit or have the effect of prohibiting the ability of any entity to provide any interstate or intrastate telecommunications service. States may, however, impose “competitively neutral” requirements to preserve and advance universal service, protect the public safety and welfare, ensure the continued quality of telecommunications services, and safeguard the rights of consumers, and state and local governments also retain their authority to manage the public rights-of-way and may require reasonable, competitively neutral compensation for management of the public rights-of-way when cable operators provide telecommunications service. Granting authorities may not require a cable operator to provide telecommunications services or facilities, other than institutional networks, as a condition of an initial franchise grant, a franchise renewal, or a franchise transfer. The 1996 Telecom Act also limits franchise fees to an operator’s cable-related revenues and clarifies that they do not apply to revenues that a cable operator derives from providing telecommunications services.
Competition
Cable systems face increasing competition from a variety of alternative entertainment and information delivery sources and alternative methods of receiving and distributing their core video business including companies that deliver content to consumers over the Internet. Both wireline and wireless competitors have made inroads in competing against incumbent cable operators. We face competition in the areas of price, services, and service reliability. We compete with other providers of television signals and other sources of home entertainment. In addition, high-speed data Internet service faces increasing competition from wireless providers, and our telephony service is subject to increasing competition as consumers replace traditional land line phone service with various wireless and “over the top” voice solutions. We operate in a highly competitive business environment which can adversely affect our business and operations.
DBS
DBS is a significant competitor to cable systems. The DBS industry has experienced continued growth over the last several years, exceeding the subscriber growth rate of the cable television industry. According to recent government and industry reports the two established DBS providers, DIRECTV, Inc. and DISH Network Corporation, are now the second and third largest multichannel video programming distributors (“MVPDs”) in the United States. These providers have each entered into joint marketing agreements with major telecommunications companies to offer bundled packages combining phone service, DBS and DSL services. Further, these DBS providers are also attempting to expand their service offerings to include among other things high speed Internet services.
These DBS providers offer aggressive promotional pricing, some exclusive programming and video services which are comparable, in many respects, to our analog and digital video services. Further, DBS subscribers can obtain satellite receivers with digital video recorders from these providers. These providers are working to increase the number of HDTV channels they offer in an effort to differentiate their services from the services offered by cable operators. These providers are currently transmitting local broadcast signals in many of the markets we serve as well. We believe the two established major DBS competitors have been especially competitive at the lower end pricing. DBS providers have a national service and are able to establish a national image and branding with standardized offerings, which together with their ability to avoid franchise fees of up to 5% of revenues, leads to greater efficiencies and lower costs in the lower tiers of service. However, we believe that most consumers continue to prefer our stronger local presence in our markets. We also believe that our bundled premium packages are price competitive with DBS packages and that many consumers prefer our ability to economically bundle video with high-speed data and telephone services.
High Speed Internet Services
The deployment of DSL allows high-speed data access to subscribers at data transmission speeds greater than those available over conventional telephone lines. DSL service therefore is competitive with lower levels of high-speed data access over cable systems. Several telephone companies which already have plants, an existing customer base, and other operational functions in place (such as, billing, service personnel, etc.) and other companies offer DSL service. Verizon Communications, Inc. provides DSL service in the Western Pennsylvania and Maryland/Delaware Clusters. In the Miami Beach and Aiken Clusters, AT&T provides a competitive DSL service which is generally available. We believe that, in each of our clusters, our bundled offerings of data, video and, where available, telephone services, superior customer service and local presence will allow us to compete effectively for additional market share.
We believe that pricing for residential and commercial high-speed data services in our Clusters is generally comparable to that for similar DSL services and that some residential customers prefer our ability to bundle high-speed data services with video services. However, certain DSL providers offer progressive price reductions for high-speed data access together with speed increases, and DSL providers may currently be in a better position to offer high-speed data services to businesses since their networks tend to be more complete in commercial areas.
Various wireless phone companies are offering wireless high speed Internet services. In addition, in rural areas, the government makes subsidized loans and grants available to wireless broadband Internet service providers. In a growing number of commercial areas, such as malls restaurants and airports, wireless Wi-Fi and WiMAX Internet service is available. Competition from a number of municipalities that previously announced plans to deploy “Wi-Fi” networks to offer residential high speed Internet service appears to have diminished.
The American Recovery and Reinvestment Act made approximately $7.0 billion available for broadband deployment via federal grants and loans. Those stimulus funds may encourage additional competition in some of the rural or underserved areas where the Company currently provides service. In addition, the FCC recently adopted comprehensive reforms to expand access to high-speed internet services nationwide and accelerating deployment of broadband networks. The new Connect America Fund (“CAF”) has an annual budget of $4.5 billion for these purposes. It also created a new Mobility Fund to support competitive mobile broadband.
We expect competition for high-speed Internet service to remain intense, with companies competing on service availability, price, product features, customer service, transmission speeds and bundled services.
Overbuilds and Incumbent Local Exchange Carrier (“ ILEC”) Deployments
Cable television systems are operated under non-exclusive franchises granted by local authorities. More than one cable system may legally be built in the same area, and that competing franchise might contain terms and conditions more favorable than those afforded to the incumbent cable operator. A number of states have enacted legislation easing the regulatory obligations of telephone companies seeking cable franchises. In 2006, the FCC issued an order streamlining the franchising processes for new video market entrants. In addition, entities willing to establish an open video system, under which they offer unaffiliated programmers non-discriminatory access to a portion of the System’s cable system, may be able to avoid local franchising requirements. Well-financed businesses from outside the cable industry, such as local exchange telephone companies and public utilities that already possess fiber optic and other transmission lines in the areas they serve, are competitors in certain areas.
The ILECS, notably Verizon and AT&T, continue to build fiber optic networks to deploy video services in substantial portions of their service areas, in addition to their joint marketing agreements with DBS providers. The fiber technologies they are using are capable of carrying two-way video, high speed data with substantial bandwidth and telephone services, each of which is comparable to the services we offer. These companies also have the ability to bundle wireless services provided by owned or affiliated companies.
We face limited cable competition from Comcast Corporation in two communities, Aventura and the southern section of Miami-Dade County, in our Miami Beach Cluster. In each case, our cable system is the newer system which “overbuilt” the incumbent Comcast system. As of December 31, 2011, the Aventura and South Miami systems served approximately 3,000 and 3,600 EBUs, respectively. We believe that we will continue to compete effectively against Comcast in these systems. Additionally, AT&T has obtained a state issued cable franchise that overlaps portions of our Miami system and has recently increased its marketing efforts in this area.
In the Maryland/Delaware Cluster, Verizon has obtained several overlapping franchises in the Middletown, DE area where we serve approximately 3,100 video subscribers. Verizon has built a FiOS network in these areas that offers high speed Internet, voice and video services, each of which is comparable to the product we offer.
Cable Telephony
In January 2006, we began to deploy cable telephony service using Voice over Internet protocol (“VoIP”) to residential customers in certain markets and have expanded to almost all of our markets in subsequent years. Our telephony service provides local, long-distance and international calling as well as numerous popular features such as voicemail. Thus, it competes directly with the incumbent local telephone company and long-distance service providers. Other competitors include competitive local exchange carriers, which are non-incumbent local phone companies that provide local services and access to long-distance services over their own networks or over leased networks, wireless telephone carriers and other “over the top” IP-based service providers such as Vonage, Skype and Google Phone. An increasing number of consumers are replacing their traditional land-line home phone service with wireless phone service. We believe the addition of cable telephony to our video and high-speed data service bundles helps us compete with other providers of bundled services, including telephone companies that offer bundled video services on fiber networks, or bundle DBS video with their voice and data services, and the new providers of IP phone service.
Other Competitors
We face competition from broadcast television. Traditionally, cable television has provided better picture quality and more channel offerings than broadcast television. However, the licensing of digital spectrum by the FCC provides traditional over the air broadcasters with the ability to deliver high-definition television pictures and multiple digital-quality program streams, as well as advanced digital services such as subscription video and data transmission.
In addition, although video competition from telephone companies is currently quite limited, local exchange carriers do provide facilities for the transmission and distribution of voice and data services, including high-speed data services, in competition with our existing or potential interactive services ventures and businesses. We are also subject to competition from public utilities that own and control fiber optic transmission lines capable of transmitting signals with minimal signal distortion. Utilities are also developing broadband-over-power line technology, which will allow the provision of high-speed data and other broadband services to homes and offices.
Additional competition is posed by satellite master antenna television (“SMATV”) systems, which currently benefit from operating advantages not available to franchised cable systems, including fewer regulatory burdens and no requirement to service low density or economically depressed communities. These private cable systems offer local broadcast and many of the same satellite delivered programming offered by franchised cable operators. Unlike Title 6 cable operators, they may enter into exclusive agreements with MDUs that preclude operators of franchise systems from serving residents of such private complexes.
Other wireless program distribution services, such as multichannel multipoint distribution systems (“MMDS”) or “wireless cable,” generally provide many of the programming services provided by cable systems, and digital compression technology increases significantly the channel capacity of their systems. Both analog and digital MMDS services, however, require unobstructed “line of sight” transmission paths and MMDS ventures have been quite limited to date. Emerging mobile technologies also provide for the distribution and viewing of video programming.
New technologies and initiatives of Internet Service Providers (“ISPs”), program and content providers, mobile telephone companies and others increasingly enable the delivery of video programming content to computers, telephones and other devices in competition with our video and high speed Internet services. Dozens of online video services, such as Netflix, Hulu and Roku, are now offering programming that was previously available only from broadcast TV or MVPD services.
We cannot predict the likelihood of success of these or any other services offered by our competitors or the impact of such competitive ventures on our business and operations.
Regulation and Legislation
The following summary addresses the key regulatory developments and legislation affecting the cable industry.
The operation of a cable system is extensively regulated by the FCC, some state governments and most local governments. The FCC has the authority to enforce its regulations through the imposition of substantial fines, the issuance of cease and desist orders and/or the imposition of other administrative sanctions, such as the revocation of FCC licenses needed to operate certain transmission facilities used in connection with cable operations. The 1996 Telecom Act altered the regulatory structure governing the nation’s communications providers. It removed barriers to competition in both the cable television market and the local telephone market. Among other things, it reduced the scope of cable rate regulation and encouraged additional competition in the video programming industry by allowing local telephone companies to provide video programming in their own telephone service areas. Congress and the FCC have frequently revisited the subject of cable regulation. Future legislative and regulatory changes could adversely affect our operations.
Cable Rate Regulation
The Cable Television Consumer Protection and Competition Act of 1992 (the “1992 Cable Act”), imposed an extensive rate regulation regime on the cable television industry, which limited the ability of cable companies to increase subscriber fees. Under that regime, all cable systems were subject to rate regulation, unless they faced “effective competition” in their local franchise area. Federal law defines “effective competition” on a community-specific basis as requiring satisfaction of certain conditions. Historically, these conditions were not typically satisfied; hence, most cable systems potentially are subject to rate regulation. With the growth of DBS, the number of cable systems that may qualify for “effective competition” and thereby avoid further rate regulation has increased in recent years.
Although the FCC established the underlying regulatory scheme, local government units, commonly referred to as local franchising authorities, are primarily responsible for administering the regulation of the lowest level of cable service - the basic service tier, which typically contains local broadcast stations and public, educational, and government access channels. Before a local franchising authority begins basic service rate regulation, it must certify to the FCC that it will follow applicable federal rules. The great majority of our franchising authorities have declined to exercise their authority to regulate basic service rates, although it is possible that additional localities served by the Systems may choose to obtain certification and regulate basic cable rates in the future. Local franchising authorities also have primary responsibility for regulating cable equipment rates. Under federal law, charges for various types of cable equipment must be unbundled from each other and from monthly charges for programming services.
For regulated cable systems, the basic service tier, equipment and installation rate increases are governed by a complicated price cap scheme devised by the FCC that allows for the recovery of inflation and certain increased costs, as well as providing some incentive for system upgrades. Operators also have the opportunity to bypass this “benchmark” regulatory scheme in favor of traditional “cost-of-service” regulation in cases where the latter methodology appears favorable. Cost-of-service regulation is a traditional form of rate regulation, under which a utility is allowed to recover its costs of providing the regulated service, plus a reasonable profit.
Federal law requires that the basic service tier be offered to all cable subscribers and limits the ability of operators to require purchase of any cable programming service tier if a customer seeks to purchase premium services offered on a per-channel or per-program basis. The 1996 Telecom Act also relaxed existing “uniform rate” requirements by specifying that uniform rate requirements do not apply where the operator faces “effective competition,” and by exempting bulk discounts to MDUs, although complaints about predatory pricing still may be made to the FCC.
Cable Entry into Title II Telecommunications
The 1996 Telecom Act created a more favorable environment for cable operators and other new entrants to provide Title II common carrier telecommunications service. It provides that no state or local laws or regulations may prohibit or have the effect of prohibiting any entity from providing any interstate or intrastate telecommunications service. States are authorized, however, to impose “competitively neutral” requirements regarding universal service, public safety and welfare, service quality, and consumer protection. State and local governments also retain their authority to manage the public rights-of-way and may require reasonable, competitively neutral compensation for management of the public rights-of-way when cable operators provide telecommunications service. The favorable pole attachment rates afforded cable operators under federal law can be gradually increased by utility companies owning the poles if the operator provides telecommunications service, as well as cable service, over its plant. The FCC clarified that a cable operator’s favorable pole rates are not endangered by the provision of high-speed data access based on the FCC’s conclusion that high-speed data access is not a “telecommunications service” and is instead an “interstate information service.” In June of 2005, the United States Supreme Court affirmed the FCC’s ruling. To date, the Company has offered its phone services as a Voice over Internet Protocol (“VoIP”) provider and is not currently required to submit to Title II regulation at the federal level or similar regulation at the state level.
Pole Attachments
The Telecom Act requires phone companies and other utilities (other than those owned by municipalities or cooperatives) to provide cable systems with nondiscriminatory access to any pole or right-of-way controlled by the utility. The rates that utilities may charge for such access are regulated by the FCC, or, alternatively, by states that certify to the FCC that they regulate such rates. Only one state in which we have cable systems has certified that it regulates pole rates. There is always the possibility that the FCC or a state could permit the increase of pole attachment rates paid by cable operators. Additionally, higher pole attachment rates apply to pole attachments that are subject to the FCC’s telecommunications services pole rates. The applicability of and method of calculating those rates for cable systems over which various phone services are transmitted remain unclear, and there is a risk that we will face higher pole attachment costs as our telephone business expands. In November, 2007, the FCC initiated a proceeding to consider whether to modify its rules regarding pole attachment rates. Among other issues, the FCC is considering the establishment of a new unified pole attachment rate that would apply to cable system attachments where the cable operator provides high speed Internet services and, potentially, phone services as well. The proposed rate would be higher than the current rate paid by cable providers but lower than the rate that applies to attachments uses to provide telecommunications services. If adopted this proposal could materially increase our costs by increasing our existing payments for pole attachments. In addition, in August 2009, a number utility companies initiated a proceeding at the FCC seeking to apply the telecommunications services pole rate to all poles over
which cable operators provide phone services using interconnected VoIP technology, which is the type of technology we use for our phones services. In May 2010, in furtherance of the recommendations made in the National Broadband Plan, the FCC issued a Further Notice of Proposed Rulemaking to refresh the record regarding the appropriate high-speed Internet service pole attachment rates and to seek comment on bringing the telecommunications rate and the cable rate closer to parity and as low as possible. In April 2011, the FCC released its Pole Attachment Report and Order on Reconsideration (the “Order”). The Order adopts several reforms, including access timelines, designed to make it easier for attachers to use poles to deploy service, and adopts a new rate formula for attachments used for telecommunications. In addition, the Order resolves multiple petitions for reconsideration of the Commission’s 2010 Pole Order.
Internet Service
Over the past several years, proposals have been advanced at the FCC and Congress that would require cable operators to provide non-discriminatory access to unaffiliated Internet service providers and online service providers. Several local franchising authorities actually adopted mandatory “open access” requirements, but various federal courts rejected each of these actions, relying on different legal theories. Recently, the FCC has taken several actions to impose “net neutrality” requirements, and the US Congress have also considered legislation in this area all of which may impose industry-wide requirements on cable operators and other network providers.
In March 2002, the FCC ruled that cable modem service (that is, the provision of high-speed data access over cable system infrastructure) is an interstate information service, rather than a cable or telecommunications service. The United States Supreme Court affirmed this ruling in June, 2005. This classification has left cable modem service exempt from many of the burdens associated with traditional cable and telecommunications regulation. For instance, the FCC held that revenue derived from cable modem service should not be added to franchise fee payments already limited by federal law to 5% of traditional cable service revenue. The FCC tentatively concluded that there was no other statutory basis for local franchise authorities to assess a fee on cable modem service. As a result of this ruling, we do not collect franchise fees for high-speed data service. However, our high speed Internet service is subject to certain regulatory obligations, including compliance with the Communications Assistance for Law Enforcement Act (“CALEA”) requirements to implement certain network capabilities to assist law enforcement in conducting surveillance.
Both Congress and the FCC continue to consider defining certain rights for users of high-speed Internet services and regulating the relationship between service providers and providers of Internet content, generally referred to as “net neutrality”. In September 2005, the FCC issued a non-binding policy statement stating four principles intended to guide its policymaking regarding high speed Internet and other related services. The FCC also made these principles binding as to certain companies as a condition to their merger. In October 2009, the FCC proposed converting these principles into binding rules and to expand them. Subsequently, in response to the April 2010 decision of the U.S. Court of Appeals for the District of Columbia, overturning the FCC’s August 2008, ruling that Comcast had violated the FCC’s Net Neutrality Policy Statement, the FCC adopted a Notice of Inquiry to explore the classification of the transmission portion of Internet services as telecommunications services, regulated under title II of the Communications Act. In September 2010, the FCC issued a public notice seeking comment on the relationship of its October 2009 proposal to codify the Net Neutrality Policy Statement and managed or specialized services provided over the same last-mile facilities as broadband Internet access service. Finally, in December 2010, the FCC adopted a net neutrality framework that prohibits wireline broadband providers from blocking lawful content, applications, services or non-harmful devices, subject to reasonable network management as defined by the rules; bars such providers from unreasonably discriminating in transmitting lawful network traffic over a consumer’s broadband Internet access service; and, requires them to disclose information about their broadband Internet access service and their network management practices. These new rules went into effect in November 2011.
As part of the American Recovery and Redevelopment Act of 2009, Congress directed the FCC to develop a National Broadband Plan, which the FCC delivered to Congress on March 16, 2010. The Plan contains over 200 recommendations, has spurred numerous inquiries, rulemakings and other proceedings at the FCC. In October 2011, the FCC announced comprehensive reforms to the Universal Service Fund (“USF”) to expand access to high-speed internet and voice services nationwide and benefit consumers by accelerating deployment of modern communications networks. The overhaul transforms universal service and intercarrier compensations systems into a new Connect America Fund (“CAF”), with the stated goal to connect all Americans to broadband. The CAF - with an annual budget up to $4.5 billion, is expected to help connect seven million Americans to high-speed internet and voice in rural America over the next six years. The Order adopted by the FCC recognizes the growing importance of mobile broadband and makes it an independent universal service objective for the first time. Dedicated support to expand mobile broadband will be provided through a new Mobility Fund. The Order also phases down the current system of regulated charges for the exchange of voice traffic among carriers - intercarrier compensation - and transitions to a “bill-and-keep” framework. All of these reforms will be phased in over the coming several years.
In addition, Congress and federal regulators have adopted a wide range of measures affecting internet use, including, for example, consumer privacy, consumer protection, copyright protection, defamation liability, taxation, obscenity and unsolicited commercial e-mail. Furthermore, Congress, the FCC and certain state and local governments are also considering proposals to impose customer service, quality of service, taxation, child safety, privacy and standard pricing regulations on high-speed Internet service providers. The adoption of new laws or the application of existing laws to the Internet could have a material adverse effect on our high-speed Internet business.
Voice over Internet Protocol (“VoIP”)
We offer telephone service using VoIP packet cable technology in partnership with third party suppliers. In November 2004, the FCC ruled that certain VoIP services are jurisdictionally interstate and not subject to state or local utility regulation, however this ruling did not determine the appropriate classification of interconnected VoIP providers. Proceedings are nevertheless underway in several states (which the company does not serve) seeking to regulate VoIP services at the state utility commission level and at both the state and federal level to treat VoIP as a telecommunications service for purposes of interconnection. Until the FCC definitively classifies VoIP services for state and federal regulatory purposes, such efforts are likely to continue. The FCC has imposed additional regulatory requirements on VoIP services, including enhanced 911 capabilities and customer disclosure, CALEA obligations, disability access, Customer Proprietary Network Information (“CPNI”), local number portability duties and benefits, and Universal Service payment obligations. Recently, the FCC and several states ruled favorably with respect to the obligations of LECs to interconnect with VoIP providers and to extend local number portability requirements and benefits to interconnected VoIP providers and their underlying competitive local exchange carrier numbering partners, although smaller rural LECs continue to resist such interconnection obligations. As part of its USF reforms, the FCC ordered comprehensive intercarrier compensation reform including the establishment of appropriate compensation applicable to VoIP interconnection on a going forward basis.
Telephone Company Entry into Cable Television
The 1996 Telecom Act allows telephone companies to compete directly with cable operators by repealing the historic telephone company/cable cross-ownership ban. Local exchange carriers can now compete with cable operators both inside and outside their telephone service areas with certain regulatory safeguards. Because of their resources, local exchange carriers could be formidable competitors to traditional cable operators. Various local exchange carriers already are providing video programming services within their telephone service areas through a variety of distribution methods.
A number of major telephone companies, including Verizon Communications and AT&T, are deploying “fiber to the home” for the purposes of offering broadband video services in addition to voice and Internet services. A number of states have enacted legislation or are currently considering legislation to ease the regulatory obligations of telephone companies seeking cable franchises. In some states, including two in which the company operates, Florida and South Carolina, the state statutes provide a process to extend the benefits of the eased state regulation to existing cable operators. In December of 2006, the FCC adopted an order ensuring “reasonable” franchise processes for new video entrants by, among other things, limiting the range of financial construction and other commitments that franchising authorities can request of new entrants, requiring franchising authorities to act on franchise applications by new entrants within 90 days and preempting certain local “level playing field” franchising requirements. The FCC subsequently adopted more modest franchising relief for existing cable operators. We could be disadvantaged if the rules continue to set out a different, less burdensome standard for our competitors than for ourselves.
Under the 1996 Telecom Act, local exchange carriers or any other cable competitor providing video programming to subscribers through broadband wire should be regulated as a traditional cable operator, subject to local franchising and federal regulatory requirements. If the local exchange carrier or other cable competitor elects to deploy its broadband plant as an open video system, the competitor must reserve two-thirds of the system’s activated channels for unaffiliated entities. Even then, the FCC revised its open video system policy to leave franchising discretion to state and local authorities. It is unclear what effect this ruling will have on the entities pursuing open video system operation.
Although local exchange carriers and cable operators can now expand their offerings across traditional service boundaries, the general prohibition remains on local exchange carrier buyouts of cable systems serving an overlapping territory. Cable operator buyouts of overlapping local exchange carrier systems, and joint ventures between cable operators and local exchange carriers in the same market, also are prohibited. The 1996 Telecom Act provides a few limited exceptions to this buyout prohibition, including a carefully circumscribed “rural exemption.” The 1996 Telecom Act also provides the FCC with the limited authority to grant waivers of the buyout prohibition.
Electric Utility Entry into Telecommunications/Cable Television
The Energy Policy Act of 2005 repealed the Public Utility Holding Company Act of 1935 effective February 8, 2006, easing the legal and regulatory obstacles to utility ownership of other businesses not functionally related to the utility business, including broadband communications. Like telephone companies, electric utilities have substantial resources at their disposal, and could be formidable competitors to traditional cable systems. Several such utilities have been granted broad authority by the FCC to engage in activities which could include the provision of video programming. A number of electric utilities have also announced various efforts to deploy broadband over Power Line (“BPL”) services and the FCC has instituted a rulemaking to address BPL radio frequency issues.
Additional Ownership Restrictions
The 1996 Telecom Act eliminated a statutory restriction on broadcast network/cable cross-ownership, but left in place existing FCC regulations prohibiting local cross-ownership between co-located television stations and cable systems. The District of Columbia Circuit Court of Appeals subsequently struck down this remaining broadcast/cable cross-ownership prohibition, and the FCC has now eliminated the prohibition.
Pursuant to the 1992 Cable Act, the FCC adopted rules precluding a cable system from devoting more than 40% of its activated channel capacity to the carriage of affiliated national video program services. Also pursuant to the 1992 Cable Act, the FCC adopted rules that preclude any cable operator from serving more than 30% of all U.S. domestic multichannel video subscribers, including cable and direct broadcast satellite subscribers. The D.C. Circuit Court of Appeals struck down these vertical and horizontal ownership limits as unconstitutional, concluding that the FCC had not adequately justified the specific rules (i.e., the 40% and 30% figures) adopted. In 2007, however, the FCC adopted an order re-establishing a 30% limit on the percentage of multichannel video subscribers that any single cable provider can serve nationwide, and the federal Appeals Court once again struck the order down in August 2009. It is unclear whether the FCC will again attempt to establish an ownership limit. The FCC has also indicated it is assessing whether it should reinstate a limit on the number of affiliated programming networks a cable operator may carry on its systems.
Must Carry/Retransmission Consent
The 1992 Cable Act contains broadcast signal carriage requirements. Broadcast signal carriage is the transmission of broadcast television signals over a cable system to cable customers. These requirements, among other things, allow local commercial television broadcast stations to elect once every three years between “must carry” status or “retransmission consent” status. Cable operators are required to carry, without compensation, the programming of local commercial television stations that elect must carry. Stations that elect retransmission consent may demand cash payments or other significant consideration (such as the carriage of and payment for other programming networks affiliated with the broadcaster) for granting permission to the cable operator to retransmit the stations local broadcast signal. Either option has a potentially adverse effect on our business. The most recent election cycle became effective in January 2012.
In March 2010 a coalition of public interest groups, industry associations and MVPDs petitioned the FCC to reform the retransmission consent rules, asserting that outdated rules have resulted in unreasonable broadcast signal blackouts and demands for compensation. In March 2011, the FCC issued a notice of proposed rulemaking (“NPRM”) requesting public comment on proposals to streamline the “retransmission consent” rules governing satellite and cable carriage of broadcast television stations. The Commission sought comment on eliminating the “network nonduplication” and syndicated exclusivity rules, which permit television stations with exclusive contractual rights to network or syndicated programming to enforce those rights at the FCC against cable operators. No action has been taken in this proceeding to date.
As part of the transition from analog to digital broadcast transmission, Congress and the FCC gave each local broadcast station a digital channel capable of carrying multiple programming streams, in addition to its current analog channel. After the broadcasters’ transition to digital, which occurred between February 17 and June 12, 2009, cable operators now carry the primary digital programming stream of local broadcast stations and also carry an analog version of the primary digital programming stream in systems that are not “all digital” through at least June 12, 2012. “Small” systems and those with an activated channel capacity of 552 MHz or less are exempted from this requirement. In addition, the FCC is considering proposals that would require cable operators to carry certain low-power television stations that, under current regulations, generally lack must-carry rights. Further proceedings or congressional legislation could produce additional carriage obligations. It is unclear whether the FCC will extend the exemptions for small systems.
Cable Equipment Issues
The FCC has adopted regulations aimed at promoting the retail sale of set-top boxes and other equipment that can be used to receive digital video services. Effective, July, 2007 cable operators were prohibited from acquiring for deployment set-top boxes that perform both channel navigation and security functions. Set-top boxes purchased after that date must rely on a separate security device known as a cableCARD, which adds substantially to the cost of set-top boxes. The FCC denied our request for waivers to exempt some limited function set-top boxes from the ban and/or to extend the deadline to accommodate newer security technology that can be downloaded to leased set-top boxes as well as retail equipment. As a result, we have been forced to incur added costs in purchasing cableCARD-enabled set-top boxes and the associated cableCARDs. In 2009, however, the FCC granted waivers of its separate security rule for certain set-top box models of one-way standard definition DTAs. This ruling permits use of the DTAs, without separable security in systems where we are undertaking all digital conversions. The FCC order that established the waiver process for the DTAs is subject to a petition for reconsideration at the FCC. We cannot predict the extent to which any FCC reconsideration or other FCC action in this area may hinder our ability to continue deploying DTAs. In addition, the FCC has adopted rules to implement an agreement between the consumer electronics and cable industries aimed at promoting the manufacture of “plug and play” TV sets that can connect directly to a cable network and receive one way digital and analog video services without the need for a set top box. In October 2010, the FCC adopted an Order to address various CableCARD issues, including requirements that cable operators provide reasonable access to switched digital programming for retail one-way devices, provide credit to customers who own their own device and to permit consumers to self-install CableCARDS. The Order granted some relief to cable operators relative to certain HD connectors, and allowing deployment of low end HD boxes that do not require CableCARD outlets.
Leased Access
The Communications Act requires a cable operator to make up to 15% of its channel capacity available for commercial leased access by third parties to provide programming that may compete with services offered directly by the cable operator. To date we have not been required to devote significant channel capacity to leased access. In 2007, the FCC adopted rules that would significantly reduce the rates that cable operators can charge for leased access channels. Although the lowered rates would not initially apply to infomercial or home shopping programmers, the FCC has issued a further notice to determine if such programming should also have the benefit of the lower rates. These rules have been stayed by a federal court and have also been blocked by the Office of Management and Budget. If ultimately implemented, they could adversely affect our business by significantly increasing the number of cable system channels occupied by leased access users and by significantly increasing the administrative cost associated with complying with such rules.
Access to Programming
To spur the development of independent cable programmers and competition to incumbent cable operators, the 1992 Cable Act imposed restrictions on the dealings between cable operators and cable programmers. Of special significance from a competitive business position, the 1992 Cable Act restricts video programmers affiliated with cable companies from discriminating in prices, terms and conditions as between multichannel video programming distributors. The 1992 Cable Act also limits the ability of vertically integrated cable programmers to enter into exclusive programming arrangements with cable companies, though this provision does not apply to DBS operators. The FCC extended the exclusivity restrictions to October 2012, although the ruling has been challenged in federal court. In January 2010, the FCC adopted rules that allow multichannel video programming distributors to file program access complaints to gain access to a terrestrially-delivered programming network. The rules are not yet in effect, and it is not yet clear whether and to what extent this will affect our access to terrestrially delivered regional sports networks and similar programming.
Several other provisions of law and FCC regulation also impact cable operators’ access to programming. Pursuant to the Satellite Home Viewer Improvement Act, and the more recent Satellite Home Viewer Reauthorization Act, the FCC has adopted regulations governing retransmission consent negotiations between broadcasters and all multichannel video programming distributors, including cable and DBS. These provisions generally require broadcasters and MVPDs to negotiate in good faith for the retransmission of broadcast signals. More recently, the FCC conditioned Comcast and Time Warner’s acquisition of Adelphia by requiring certain of the acquirers’ owned entities to enter into binding agreements when carriage negotiations fail.
MDUs and Inside Wiring
In an order dating back to 1997 and largely upheld in a 2003 reconsideration order, the FCC established rules that require an incumbent cable operator upon expiration of a MDU service contract to sell, abandon or remove “home run”
wiring that was installed by the cable operator in an MDU building. These inside wiring rules are expected to assist building owners in their attempts to replace existing cable operators with new programming providers who are willing to pay the building owner a higher fee, where such a fee is permissible. In another proceeding, the FCC has preempted restrictions on the deployment of private antennas on property within the exclusive use of a condominium owner or tenant, such as balconies and patios. This FCC ruling may limit the extent to which we, along with MDU owners, may enforce certain aspects of MDU agreements which otherwise prohibit, for example, placement of direct broadcast satellite receiver antennas in MDU areas under the exclusive occupancy of a renter. These developments may make it more difficult for us to provide service in MDUs.
In 2007, the FCC adopted an order prohibiting the enforcement of exclusive video service access agreements between cable operators and MDUs and other private real estate developments. The order also prohibits the execution of new exclusive access agreements. In May 2009, a federal appellate court upheld this order, but in March 2010, the FCC rejected further proposals to expand the scope of the rules to prohibit exclusive marketing and bulk billing agreements. Because we provide service pursuant to a number of exclusive access agreements the FCC’s order could negatively affect our business.
Other Communications Act Provisions and Regulations of the FCC
In addition to the Communications Act provisions and FCC regulations noted above, there are other cable service-related statutory provisions and regulations of the FCC covering such areas as:
•
subscriber privacy;
•
programming practices, including, among other things:
(1) blackouts of programming offered by a distant broadcast signal carried on a cable system that duplicates the programming for which a local broadcast station has secured exclusive distribution rights,
(2) local sports blackouts,
(3) indecent programming,
(4) lottery programming,
(5) political programming,
(6) sponsorship identification,
(7) children’s programming advertisements, and
(8) closed captioning;
•
registration of cable systems and facilities licensing;
•
maintenance of various records and public inspection files;
•
aeronautical frequency usage;
•
lockbox availability;
•
antenna structure notification;
•
tower marking and lighting;
•
consumer protection and customer service standards;
•
technical standards;
•
equal employment opportunity;
•
consumer electronics equipment compatibility; and
•
emergency alert systems.
Copyright Licensing
Cable television systems are subject to federal copyright licensing covering carriage of television and radio broadcast signals. In exchange for filing certain reports and contributing a percentage of their revenues to a federal copyright royalty pool that varies depending on the size of the system, the number of distant broadcast television signals carried, and the location of the cable system, cable operators can obtain blanket permission to retransmit copyrighted material included in broadcast signals. The possible modification or elimination of this compulsory copyright license is the subject of continuing legislative and administrative review and could adversely affect our ability to obtain desired broadcast programming and/or substantially increase our costs. The U.S. Copyright Office has issued a Notice of Inquiry on issues relating to the calculation of compulsory license fees that could significantly affect the amount we pay. In June 2008, the Copyright Office issued a report to Congress in which it recommended eliminating the compulsory copyright license in favor of free market negotiations between cable operators and copyright owners. If adopted, such a proposal could materially affect our ability to obtain certain programming and increase the fees we pay. Additionally, in June 2008 the Copyright Office issued a Notice of Proposed Rulemaking addressing how the compulsory license will apply to digital broadcast signals and services, including a proposal that cable operators pay fees for carriage of each digital multicast stream of programming from an out-of-market television broadcast station. Such proposals, if adopted, could increase our royalty fee for out-of-market stations. Copyright clearances for non-broadcast programming services are arranged through private negotiations.
Cable operators distribute locally originated programming and advertising that use music controlled by the several music performing rights organizations. The cable industry has had a long series of negotiations and adjudications with both organizations. Although we cannot predict the ultimate outcome of these industry proceedings or the amount of any license fees we may be required to pay for past and future use of association-controlled music, we do not believe such license fees will be significant to our business and operations.
Franchising
Cable systems generally are operated pursuant to non-exclusive franchises granted by a municipality or other state or local government entity in order to cross public rights-of-way. Federal law prohibits local franchising authorities from granting exclusive franchises or from unreasonably refusing to award additional franchises. Cable franchises generally are granted for fixed terms and in many cases include monetary penalties for non-compliance and may be terminable if the franchisee fails to comply with material provisions.
The specific terms and conditions of franchises vary materially between jurisdictions. Each franchise generally contains provisions governing cable operations, franchise fees, system construction and maintenance obligations, system channel capacity, design and technical performance, customer service standards, and indemnification protections. A number of states subject cable systems to the jurisdiction of centralized state governmental agencies, some of which impose regulation of a character similar to that of a public utility. Although local franchising authorities have considerable discretion in establishing franchise terms, there are certain federal limitations. For example, local franchising authorities cannot insist on franchise fees exceeding 5% of the system’s gross cable-related revenues, cannot dictate the particular technology used by the system, and cannot specify video programming other than identifying broad categories of programming. Certain states, such as Florida, impose broadly applied telecommunications taxes.
Federal law contains renewal procedures designed to protect incumbent franchisees against arbitrary denials of renewal. Even if a franchise is renewed, the local franchising authority may seek to impose new and more onerous requirements such as significant improvements in service or increased franchise fees as a condition of renewal. Similarly, if a local franchising authority’s consent is required for the purchase or sale of a cable system or franchise, the local franchising authority may attempt to impose more burdensome or onerous franchise requirements as a condition for providing its consent. Historically, most franchises have been renewed for and consents granted to cable operators that have provided satisfactory services and have complied with the terms of their franchise.
There has been considerable state and federal legislative and administrative activity aimed at easing entry and franchise burdens for new cable competitors, including the ILECs. In December, 2006, the FCC adopted an order to ease the local franchising process for new competitive entrants by, among other things, limiting the range of financial, construction and other commitments that franchising authorities can request of new entrants, requiring franchising authorities to act on franchise applications by new entrants within 90 days and preempting certain local “level playing field” requirements. These rules have been appealed to federal court. The FCC has also adopted an order providing lesser franchising relief for existing cable operators. We could be materially disadvantaged if the rules continue to set different, less burdensome requirements for some of our competitors than for ourselves. Congress has from time to time considered telecommunications reform legislation which would significantly reduce the franchising burdens of competitors, but we cannot predict whether such legislation might be enacted or what affect it might have on us.
A number of states, including South Carolina and Florida, have enacted state-wide franchising laws. Both laws, while easing entry for potential competitors, also significantly reduce the franchise obligations of the incumbent cable operator and place the regulatory authority for the franchises with the State rather than with the LFA at the time of renewal. All of the Company’s Florida franchises were renewed under the state statute in late 2007. Most franchises in the Aiken Cluster have now renewed pursuant to the South Carolina statute.
Privacy and Security Regulation
In addition to privacy protections of the Communication Act relating to the protection of cable subscriber privacy and customer proprietary network information, we are also subject to state and federal laws regarding information security. Most of these rules and laws apply to information that could be used to commit identity theft. In addition, the Federal Trade Commission has issued “red flag rules” requiring “creditors” (as defined under the rules and interpreted by the Federal Trade Commission to include us) to take steps to identify, detect and respond to activities indicative of identity theft. These rules became effective in November, 2009.
Seasonality
Use and consumption of our products do not fluctuate significantly due to seasonality.
Employee and Labor Relations
Our Company has approximately 662 full time employees. Of these employees, approximately 180 are covered by collective bargaining agreements at six locations. We consider our relations with our employees to be satisfactory.
ITEM 1A.
ITEM 1A. RISK FACTORS
Risks Related to Our Business
You should carefully consider the following factors in addition to other information in this Report in evaluating our Company and our business.
Our substantial leverage may impair our financial condition and we may incur significant additional debt.
As of December 31, 2011, our total consolidated debt was $635.8 million.
Our substantial debt could have important consequences to you, including:
•
increasing our vulnerability to general adverse economic and industry conditions;
•
limiting our ability to obtain additional financing to fund future working capital requirements, capital expenditures, and other general corporate requirements;
•
requiring a substantial portion of our cash flow from operations for the payment of interest on our debt, thus reducing our ability to use our cash flow to fund working capital, capital expenditures, acquisitions and general corporate requirements;
•
limiting our flexibility in planning for, or reacting to, changes in our business and the industry in which we operate; and
•
placing us at a competitive disadvantage compared to other less-leveraged competitors.
Subject to specified limitations, we are able to borrow up to an additional $25.0 million under our senior secured credit facilities through November 29, 2014 at which time our revolving credit facility expires. Remaining term loan borrowings under our senior credit facility are payable through November 29, 2015. However, if the balance outstanding under our 9 3/8% senior subordinated notes has not been repaid or refinanced by September 17, 2013, all borrowings under our senior secured credit facilities will then be payable on that date. If new debt is added to our current debt levels, the related risks that we now face could intensify.
Servicing our debt will require a significant amount of cash, and our ability to generate sufficient cash depends upon many factors, some of which are beyond our control.
Our ability to make payments on and refinance our debt and to fund planned capital expenditures depends on our ability to generate cash flow in the future. To some extent, this is subject to general economic, financial, competitive, legislative and regulatory factors and other factors that are beyond our control. Our business may not continue to generate cash flow at current levels. If we are unable to generate sufficient cash flow from operations in the future to service our debt, we may have to refinance all or a portion of our existing debt or obtain additional financing. A refinancing of this kind may not be possible, and we may be unable to obtain additional financing. The inability to obtain additional financing could have a material adverse effect on our financial condition and on our ability to meet our obligations.
Covenant restrictions under our indebtedness may limit our ability to operate our business.
Our senior secured credit facilities, the indenture governing our 9 3/8 % senior subordinated notes (the “Notes”) and certain of our other agreements relating to our indebtedness contain, among other things, covenants that may restrict our and our restricted subsidiaries’ ability to finance future operations or capital needs or to engage in other business activities. Our senior secured credit facilities restrict and the indenture restricts, among other things, our ability and the ability of our restricted subsidiaries to:
•
incur additional indebtedness;
•
incur indebtedness senior to the notes, but junior to other debt;
•
make restricted payments;
•
create certain liens;
•
restrict payments by our subsidiaries to us;
•
enter into transactions with affiliates; and
•
merge or consolidate or transfer and sell assets.
In addition, our senior secured credit facilities require us to maintain specified financial ratios and satisfy certain financial condition tests that may require that we take action to reduce our debt or to act in a manner contrary to our business objectives. Events beyond our control, including changes in general economic and business conditions, may affect our ability to meet those financial ratios and financial condition tests. We may be unable to meet those tests, and the senior secured lenders may not waive any failure to meet those tests.
A default under the indenture governing the Notes or under our senior secured credit facilities could result in an acceleration of our indebtedness or a foreclosure on the membership interests of our operating subsidiaries, which would have a material adverse effect on our business, financial condition and results of operations.
The indenture governing the Notes and the credit agreement governing our senior secured credit facilities contain numerous financial and operating covenants. The breach of any of these covenants will result in a default under the indenture or credit agreement which could result in the indebtedness under our indenture or credit agreement becoming immediately due and payable. If this were to occur, we would be unable to adequately finance our operations. In addition, a default under our indenture or the credit agreement governing our senior secured credit facilities could result in a default or acceleration of our other indebtedness subject to cross-default provisions. If this occurs, we may not be able to pay our debts or borrow sufficient funds to refinance them. Even if new financing is available, it may not be on terms that are acceptable to us. The membership interests of our operating subsidiaries were pledged as security under our senior secured credit facilities. A default under our senior secured credit facilities could result in a foreclosure by the lenders on the membership interests pledged thereunder. Because we are dependent upon our operating subsidiaries for all of our revenues, a foreclosure by the lenders under the senior secured credit facilities would have a material adverse effect on our business, financial condition and results of operations.
If we are unsuccessful in growing our business, our financial condition and results of operations could be adversely affected.
If we are unable to grow our cash flow sufficiently, we may be unable to expand our business or to fund our other liquidity needs. We expect that a substantial portion of our future growth will be achieved through revenues from increased
penetration of our products and services. We may not be able to offer these products and services successfully to our customers, and these products and services may not generate adequate revenues. If we are unable to grow our cash flow sufficiently, our financial condition and results of operations could suffer materially.
We depend on third-party service suppliers for certain of our services.
We depend on third parties to provide certain programming and billing services, as well as capital equipment for certain of our services. In addition, we depend on third-party plant construction contractors in areas of new homes growth. If demand for these services exceeds our suppliers’ capacity or if our suppliers experience operating or financial difficulties, our ability to provide these advanced services might be adversely affected, which could negatively impact our growth, financial condition and results of operations. In addition, the inability of these vendors to provide equipment or services might result in additional costs to us, including the cost to negotiate alternative vendor relationships, the cost to develop the capacity to provide the equipment and services ourselves and the loss of customers as a result of our inability to provide such advanced services or an interruption of service following a vendor’s cessation of service. We are working to establish alternative vendors for services that we consider critical, but we may not be able to establish such relationships or obtain such equipment and services on an equally favorable basis.
We operate in a very competitive business environment which can adversely affect our business and operations.
The industry in which we operate is highly competitive. In some instances, we compete against companies with fewer regulatory burdens, easier access to financing, greater personnel resources, greater brand name recognition and long-standing relationships with regulatory authorities and customers. Our principal competitor for video services throughout our territory is DBS and, in markets where it is available, our principal competitor for high-speed data services is DSL. Competition from DBS, including intensive marketing efforts and aggressive pricing, may have an adverse impact on our ability to retain customers. Local telephone companies and electric utilities also are permitted to compete in our market areas. In addition to marketing DBS services in certain areas, ILECS have built and are continuing to build wireline, fiber optic-based networks for the delivery of video as well as high speed Internet and telephone services. We face competition from a Verizon fiber network, currently limited to the Middletown, Delaware area. The subscription television industry also faces competition from free broadcast television and from other communications and entertainment media including on-line, Internet-based and cellular video entertainment. Moreover, in recent years, Congress and various states have enacted legislation and the FCC has adopted regulatory policies that have had the effect of providing a more favorable operating environment for some of our existing and potential new competitors. An increase in the loss of customers to DBS or other alternative video and high-speed data services could have a material negative effect or our business. With respect to our high-speed data services, we face competition, including intensive marketing efforts and aggressive pricing, from telephone companies and other providers of “dial-up” and DSL. DSL service is competitive with high-speed data service over cable systems. Several telephone companies (which already have telephone lines into the household, an existing customer base and other operational functions in place) and other companies offer DSL service. Our phone service faces competition from the local ILECs, as well as other providers such as cellular and VoIP providers such as Vonage.
We face limited competition from Comcast Corporation in Aventura and southern sections of Miami-Dade County in our Miami Beach Cluster. In each case, our system is the newer “overbuilder” over the Comcast system. In each case, we may be unable to continue to compete effectively against the Comcast systems. In the Maryland/Delaware cluster, Verizon has obtained overlapping franchises in the Middletown, DE area where we serve approximately 3,100 video EBUs. Verizon has constructed a fiber network in these areas. This network will offer high speed Internet and voice services as well as video services. In addition, AT&T U-Verse has obtained a state issued video franchise that covers portions of our Miami Beach System.
We expect that future advances in communications technology and stimulus from the federal government through the new CAF fund could lead to the introduction of new competitors, products and services that may compete with the business of the Systems. For example, broadband over power lines or Wi-Fi could emerge as a competitor to our services. Additionally, if we expand and introduce new and enhanced telecommunications services, the Systems will be subject to competition from new and established telecommunications providers. We cannot predict the extent to which competition may impact the business and operations of the Systems in the future.
Our business could be adversely affected by labor disputes.
Approximately 27% of the Systems’ employees are represented by several unions under collective bargaining agreements. While we intend to negotiate in good faith with the labor unions regarding new labor contracts, any negotiations we may undertake with such unions may not result in outcomes satisfactory to us. We may also experience work stoppages, strikes or slowdowns at the Systems. A prolonged work stoppage, strike or slowdown could have a material adverse effect on our business.
The loss of any of our key executives could adversely affect our ability to manage our business.
Our success is substantially dependent upon the retention and the continued performance of our executive officers. Many of these executive officers are uniquely qualified in their areas of expertise, making it difficult to replace their services. The loss of the services of any of these officers could adversely affect our growth, financial condition and results of operations.
The interests of our equity holder may not be aligned with the interests of the holders of the Notes.
Entities associated with ABRY Partners beneficially own securities representing approximately 80% of the voting equity interests of Atlantic Broadband Group, LLC and therefore indirectly control our affairs and policies. Circumstances may occur in which the interests of our equity holder could be in conflict with the interests of the holders of the Notes. In addition, our equity holder may have an interest in pursuing acquisitions, divestitures, capital expenditures or other transactions that, in their judgment, could enhance their equity investment, even though these transactions might involve risks to the holders of the notes. See “Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters” and “Certain Relationships and Related Transactions.”
Risks Related to the Industry
Our industry is characterized by technological developments which could place significant capital expenditure requirements on us. If we cannot satisfy these requirements, our growth, results of operations and financial condition could suffer materially.
The cable television and broadband business is characterized by rapid technological change and the introduction of new products and services. We may not be able to fund the capital expenditures necessary to keep pace with technological developments, and we may not successfully anticipate the demand of our customers for products and services requiring new technology. Additionally, many developers of advanced products and services do not have a long operating history. As a result, if these developers experience financial difficulties, our ability to offer these advanced products and services could be adversely affected. Our inability to upgrade, maintain and expand the Systems and provide advanced services in a timely manner, or to anticipate the demands of the marketplace, could adversely affect our ability to compete. Consequently, our growth, financial condition and results of operations could suffer materially.
We may not have the ability to pass increases in programming costs on to our customers, which would adversely affect our cash flow and operating margins.
Programming is expected to be our largest operating expense item. In recent years, the cable industry has experienced a rapid escalation in the cost of programming, particularly sports programming and retransmission of broadcast programming. This escalation may continue, and we may not be able to pass programming cost increases on to our customers. The inability to pass these programming cost increases on to our customers would have an adverse impact on our cash flow and operating margins. In addition, as we upgrade the channel capacity of the Systems and add programming to our basic, expanded basic and digital service offerings, we may face additional market constraints on our ability to pass programming costs on to our customers. The inability to pass these costs increases on to our customers could materially adversely affect our profitability. We are also subject to increasing financial and other demands by broadcasters to obtain the required consent for the transmission of broadcast programming to our subscribers. We cannot predict the financial impact of these demands or the effect on our subscriber count should we be required to stop offering this programming.
Our business is subject to extensive governmental legislation and regulation. The applicable legislation and regulations, and changes to them, could adversely affect our business by increasing our expenses.
Federal, state and local governments extensively regulate the video services industry and may increase the regulation of the Internet services and VoIP phone industries. Regulation of the cable industry has increased the administrative and operational expenses and limited the revenues of cable systems. Cable operators are subject to, among other things:
•
subscriber privacy regulations;
•
limited rate regulation;
•
requirements that, under specified circumstances, a cable system carry a local broadcast station or obtain consent to carry a local or distant broadcast station;
•
rules for franchise renewals and transfers;
•
regulations concerning the content of programming offered to subscribers;
•
the manner in which program packages are marketed to subscribers;
•
the use of cable system facilities by local franchising authorities, the public and unrelated entities;
•
cable system ownership limitations and program access requirements;
•
payment of franchise fees to local franchising authorities;
•
payment of federal universal service assessments for any end user revenues from interstate and international telecommunications services and telecommunications provided to a third party for a fee, and other state and federal telecommunications fees; and
•
regulations governing other requirements covering a variety of operational areas such as equal employment opportunity, technical standards and customer service requirements.
In addition, despite deregulation of expanded basic cable programming packages, cable rate increases could give rise to further regulation. The FCC and the United States Congress continue to be concerned that cable rate increases are exceeding inflation. It is possible that either the FCC or the United States Congress will again restrict the ability of cable system operators to implement rate increases. Should this occur, it would impede our ability to raise our rates. If we are unable to raise our rates in response to increasing costs, our financial condition and results of operations could be materially adversely affected.
We could be materially disadvantaged if we remain subject to legal and regulatory constraints that do not apply equally to our competitors. For instance, the FCC recently adopted rules benefiting our competitors to ensure that the local franchising process does not unreasonably interfere with competitive entry, and several states have enacted legislation to ease the franchising obligations of new entrants. In addition, both the Congress and the FCC are considering various forms of “network neutrality” regulation which may have the impact of restricting our ability to manage our network efficiently.
Local franchise authorities have the ability to impose additional regulatory constraints on our business, which could further increase our expenses.
In addition to the franchise agreement, cable authorities in some jurisdictions have adopted cable regulatory ordinances that further regulate the operation of cable systems. This additional regulation increases our expenses in operating our business. Local franchising authorities may impose new and more restrictive requirements. Local franchising authorities that are certified by the FCC to regulate rates for basic cable service also have the power to reduce rates and order refunds on the rates charged for basic services.
Additionally, many aspects of these regulations are currently the subject of judicial proceedings and administrative or legislative proposals. There are also ongoing efforts to amend or expand the federal, state and local regulation of some of our cable systems, which may compound the regulatory risks we already face. Certain states and localities are considering new telecommunications taxes that could increase operating expenses. We cannot predict whether in response to these efforts any of the states or localities in which we now operate will expand regulation of our cable systems in the future or how they will do so.
The cable systems that we operate are under franchises that may be subject to non-renewal or termination. The failure to renew a franchise could adversely affect our business in a key market.
The Systems generally operate pursuant to franchises, permits or licenses granted by a municipality or other state or local government controlling the public rights-of-way. Many franchises establish comprehensive facilities and service requirements, as well as specific customer service standards and monetary penalties for non-compliance. In many cases, franchises are terminable if the franchisee fails to comply with significant provisions set forth in the franchise agreement governing system operations. Franchises are generally granted for fixed terms and must be periodically renewed. Local franchising authorities may resist granting a renewal if either past performance or the prospective operating proposal is considered inadequate. Franchise authorities often demand concessions or other commitments as a condition to renewal. In some instances, franchises have not been renewed at expiration, and we have operated under either temporary operating agreements or without a license while negotiating renewal terms with the local franchising authorities. We may be unable to comply with all significant provisions of our franchise agreements. Additionally, although historically we have renewed our franchises without incurring significant costs, we may be unable to renew, or to renew as favorably, our franchises in the future. A termination of and/or a sustained failure to renew a franchise could adversely affect our business in the affected geographic area.
The cable systems that we operate are under franchises that are non-exclusive and local franchise authorities may grant competing franchises in our markets.
Our cable systems operate under non-exclusive franchises granted by local franchising authorities. Consequently, local franchising authorities can grant additional franchises to competitors in the same geographic area. In some cases municipal utilities may legally compete with us without obtaining a franchise from the local franchising authority. The existence of more than one cable system operating in the same territory is referred to as an overbuild. Additional overbuilds could adversely affect our growth, financial condition and results of operations by increasing competition or creating competition.
Changes in channel carriage regulations could impose significant additional costs on us.
Cable operators face significant regulation of their channel carriage. They currently can be required to devote substantial capacity to the carriage of programming that they would not carry voluntarily, including certain local broadcast signals, local public, educational and government access programming, and unaffiliated commercial leased access programming. The FCC has required cable systems to carry both the analog and digital (or high-definition) versions of local broadcast signals as part of the digital transition at least through 2012. This carriage burden could increase in the future, particularly if the Congress or the FCC were to require that cable operators carry a broadcaster’s entire digital signal or imposed other restrictions on packaging and tiering of cable programming.
Offering telecommunications service will subject us to additional regulatory burdens which could cause us to incur additional costs.
We offer VoIP services to our customers. The FCC has held that for purposes of the Telecom Act such services are interstate in nature and therefore they would not be subject to state PUC regulation; however, this ruling did not determine the appropriate classification of VoIP services. It is unclear whether the FCC will ultimately treat VoIP as a “communications”, “information” or other form of service and it has not issued a comprehensive order clarifying the classification of VoIP services. In the past several years, the FCC has applied certain telecommunications requirements to VoIP services, including Enhanced 911, Universal Service Fund contribution, disability access, CPNI and CALEA requirements. If VoIP services are deemed by regulators to be telecommunications services or state-regulated telephone service, offering such services could require us to obtain federal, state and local licenses or other authorizations. If we are required to obtain such authorizations, we may not be able to do so in a timely manner or at all, and conditions could be imposed upon such licenses or authorizations that may not be favorable to us. Furthermore, telecommunications companies, potentially including Internet protocol telephony companies, could be subject to significant regulation. Changes could increase the regulatory burdens on providers of such services, and cause us to incur additional costs.
A weakening economy, especially a continued downturn in the housing market, may negatively impact our ability to attract new subscribers and generate increased subscription revenues.
Providing basic video services is an established and highly penetrated business. As a result, our ability to achieve incremental growth in basic video subscribers is dependent in part on growth in new housing in our service areas, which is influenced by various factors outside of our control, including both national and local economic conditions. If growth in new housing continues to fall or if there are population declines in our operating areas, opportunities to gain new basic subscribers will decrease. In addition, a weakening economy or recession may result in less demand for our services, especially the more expensive advanced services, and may increase the number of subscribers from whom we are unable to collect payment for its services. A decrease in opportunities to gain new basic video subscribers or in demand for our advanced services or an increase in our bad debt may have an adverse effect on our growth, business and financial results or financial condition.
ITEM 1B.
ITEM 1B. Unresolved Staff Comments
Not applicable.
ITEM 2.
ITEM 2. Properties
We operate the following facilities, all of which are owned, except as noted. All of our owned facilities are subject to liens in favor of the lenders under our senior secured credit facilities. We believe our facilities are adequate for our current and reasonably anticipated future needs.
Middletown, DE
Office
Lease
Chesapeake City, MD
Hub
Lease
Perryville, MD
Hub
Lease
Grasonville, MD
Office
Own
Grasonville, MD
Annex Office
Lease
St. Michaels, MD
OTN
Lease
Church Hill, MD
OTN
Lease
Chestertown, MD
OTN
Lease
Kent Island, MD
OTN
Lease
Trappe, MD
OTN
Lease
Miami Beach, Florida
North Bay Village, FL
Office
Own
Miami Beach, FL
Warehouse/Tech Center
Own
Miami Beach, FL
Headend
Lease
Miami, FL
South Miami Payment Center
Lease
Aiken, South Carolina
Aiken, SC
Headend
Own
Aiken, SC
Office
Own
Aiken, SC
Hub
Own
Allendale, SC
Hub
Own
Barnwell, SC
Office
Own
Denmark, SC
Hub
Own
New Ellington, SC
Hub
Own
Williston, SC
Hub
Own
ITEM 3.
ITEM 3. Legal Proceedings
We are a defendant in a lawsuit claiming infringement of various patents. Other industry participants are also defendants. We believe the claims in this action are without merit and intend to defend the action vigorously.
We are party to various lawsuits arising from time to time in the normal course of business. We are not currently party to any material legal proceedings. Although the outcome of these matters cannot be predicted with certainty and the impact of the final resolution of these matters on our results of operations in a particular subsequent reporting period is not known, management does not believe that the resolution of these lawsuits will have a material adverse effect on financial position or liquidity of our Company.
ITEM 4.
ITEM 4. Mine Safety Disclosures
Not applicable.
PART II
ITEM 5.
ITEM 5. Market for the Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
We are a wholly-owned subsidiary of Atlantic Broadband Holdings I, LLC. There is currently no established public trading market for our membership interests.
ITEM 6.
ITEM 6. Selected Financial Data
The following table sets forth the selected historical financial data of the Systems as of the dates and for the periods indicated. We derived the summary historical consolidated statement of operations data for the years ended December 31, 2011, 2010, 2009, 2008 and 2007 and the summary consolidated balance sheet data as of December 31, 2011, 2010, 2009, 2008 and 2007 from the Company’s financial statements appearing elsewhere in this Annual Report on Form 10-K or previously filed on prior Form 10-Ks which have been audited by PricewaterhouseCoopers LLP, independent registered public accounting firm.
The selected historical financial data presented below should be read in conjunction with “Item 7.
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
The following discussion of our financial condition and results of operations should be read in conjunction with the audited consolidated financial statements and the accompanying notes included elsewhere in this document. This discussion contains forward-looking statements about our markets, the demand for our products, and our future results. We based these statements on assumptions that we consider reasonable. Actual results may differ materially from those suggested by our forward-looking statements for various reasons including those discussed in the “Forward Looking Statements” section of this document.
Terms used herein such as “we”, “us”, and “our” are references to Atlantic Broadband Finance, LLC and its subsidiaries (collectively the “Company”), as the context requires.
Our Company was formed in Delaware on August 26, 2003. We are a wholly-owned subsidiary of Atlantic Broadband Holdings I, LLC (the “Parent”). Our Company and the Parent are wholly-owned indirect subsidiaries of Atlantic Broadband Group, LLC.
On September 3, 2003, we entered into a definitive asset purchase agreement with affiliates of Charter Communications, Inc. to purchase certain cable systems in Pennsylvania, Florida, Maryland, West Virginia, Delaware and New York (together with the Aiken, South Carolina system referred to below, the “Systems”) for approximately $738.1 million, subject to closing adjustments (the “Acquisition”). We obtained equity and debt financing to fund the Acquisition, which was consummated on March 1, 2004.
On July 13, 2006, we entered into a definitive asset purchase agreement to purchase substantially all of the assets of G Force LLC, owner of certain cable systems in Aiken, South Carolina for approximately $62.0 million. We obtained additional debt financing and issued a note payable to the seller of the assets to fund this transaction which was consummated on November 1, 2006.
The following discussion and analysis is based upon our audited consolidated financial statements and our review of the business and operations of each of the systems.
Overview of Operations
Our operating revenue is derived primarily from monthly subscription fees charged to customers for video, data and telephony services, equipment rental and ancillary services provided by the systems. In addition, we derive revenue from installation and reconnection fees charged to customers to commence and reinstate service, pay-per-view programming where users are charged a fee for individual programs viewed, advertising revenues and franchise fee revenues, which are collected by the systems and then paid to local franchising authorities.
Expenses consist primarily of operating costs, selling, general and administrative expenses, depreciation and amortization expenses and interest expense. Operating costs primarily include programming costs, the cost of the system’s workforce, cable service related expenses, franchise fees and expenses related to customer billings.
Critical Accounting Policies and Estimates
Our discussion and analysis of our financial condition and results of operations are based upon financial statements which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires us to make estimates, assumptions and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosures of contingent liabilities. On an ongoing basis, we evaluate our estimates, including those related to the recoverability of long-term assets such as franchises and intangible assets, the useful lives of property, plant and equipment and other finite-lived assets, commitments and contingencies. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. We believe that the following critical accounting policies affect our more significant judgments and estimates used in the preparation of the financial statements.
Basis of Presentation
The financial statements presented herein include the consolidated accounts of our Company and its subsidiaries. Intercompany accounts and transactions have been eliminated in consolidation.
Capitalization of Labor and Overhead Costs
The cable industry is capital intensive, and a large portion of our resources are spent on capital activities associated with extending, building and upgrading the cable network. Costs associated with network construction, initial customer installations, installation refurbishments and the addition of network equipment necessary to enable advanced services are capitalized. Costs capitalized as part of initial customer installations include materials, direct labor costs associated with capital projects and certain indirect costs. We capitalize direct labor costs associated with personnel based upon the specific time devoted to construction and customer installation activities. Indirect costs are associated with the activities of personnel who assist in connecting and activating the new service and consist of compensation and overhead costs associated with these support functions. The costs of disconnecting service at a customer’s dwelling or reconnecting service to a previously installed dwelling are charged to operating expense in the period incurred. Costs for repairs and maintenance are charged to operating expense as incurred, while equipment replacement and betterments, including replacement of cable drops from the pole to dwelling, are capitalized.
We amortize the capitalized labor and overhead costs over the life of the related equipment which ranges from 4-15 years. The vast majority of these capitalized costs relate to customer installation activity and related equipment additions. Accordingly, such assets are amortized over the same five year period as the fixed assets acquired as part of the installation.
Judgment is required to determine the extent to which indirect costs, or overhead, are incurred as a result of specific capital activities and, therefore, should be capitalized. We capitalize overhead based upon an allocation of the portion of indirect costs that contribute to capitalizable activities using an overhead rate applied to the amount of direct labor capitalized. We have established overhead rates based on an analysis of the nature of costs incurred in support of capitalizable activities and a determination of the portion of costs which is directly attributable to capitalizable activities. The primary costs that are included in the determination of overhead rates are (i) employee benefits and payroll taxes associated with capitalized direct labor, (ii) direct variable costs associated with capitalizable activities, consisting primarily of installation and construction vehicle costs, (iii) the cost of support personnel, such as dispatch that directly assist with capitalizable installation activities, and (iv) indirect costs directly attributable to capitalizable activities.
Valuation of Franchises and Intangible Assets
We have significant intangible assets on our balance sheet. If the value of these assets was impaired by some factor, such as the loss of a franchise or an adverse change in the marketplace, we may be required to record an impairment charge.
In determining whether our franchises have an indefinite life, we considered the exclusivity of the franchise, the expected costs of franchise renewals, and the technological state of the associated cable systems to determine whether we are in compliance with any technologically required upgrades. We have concluded that our franchise rights qualify for indefinite life treatment under the current accounting guidance.
Goodwill impairment is determined using a two-step process. The first step involves a comparison of the estimated fair value of each of the Company’s four reporting units to its carrying amount, including goodwill. In performing the first step, the Company determines the fair value of a reporting unit using a combination of a discounted cash flow (“DCF”) analysis and a market-based approach. Determining fair value requires the exercise of significant judgment, including judgment about appropriate discount rates, perpetual growth rates, the amount and timing of expected future cash flows, as well as relevant comparable company earnings multiples for the market-based approach. The cash flows employed in the DCF analyses are based on the Company’s most recent budget and, for years beyond the budget, the Company’s estimates, which are based on assumed growth rates. The discount rates used in the DCF analyses are intended to reflect the risks inherent in the future cash flows of the respective reporting units. In addition, the market-based approach utilizes comparable company public trading values, research analyst estimates and, where available, values observed in private market transactions. If the estimated fair value of a reporting unit exceeds its carrying amount, goodwill of the reporting unit is not impaired and the second step of the impairment test is not necessary. If the carrying amount of a reporting unit exceeds its estimated fair value, then the second step of the goodwill impairment test must be performed. The second step of the goodwill impairment test compares the implied fair value of the reporting unit’s goodwill with its carrying amount to measure the amount of impairment, if any. The implied fair value of goodwill is determined in the same manner as the amount of goodwill recognized in a business combination. In other words, the estimated fair value of the reporting unit is allocated to all of the assets and liabilities of that unit (including any unrecognized intangible assets) as if the reporting unit had been acquired in a business combination and the fair value of the reporting unit was the purchase price paid. If the carrying amount of the reporting unit’s goodwill exceeds the implied fair value of that goodwill, an impairment is recognized in an amount equal to that excess.
The impairment test for other intangible assets not subject to amortization involves a comparison of the estimated fair value of the intangible asset with its carrying value. If the carrying value of the intangible asset exceeds its fair value, an impairment loss is recognized in an amount equal to that excess. The estimates of fair value of intangible assets not subject to amortization are determined using a DCF valuation analysis. The DCF methodology used to value cable franchise rights entails identifying the projected discrete cash flows related to such cable franchise rights and discounting them back to the valuation date. Significant judgments inherent in this analysis include the selection of appropriate discount rates, estimating the amount and timing of estimated future cash flows attributable to cable franchise rights and identification of appropriate terminal growth rate assumptions. The discount rates used in the DCF analyses are intended to reflect the risk inherent in the projected future cash flows generated by the respective intangible assets.
Goodwill and the Company’s cable franchise rights are tested annually for impairment during the first quarter or earlier upon the occurrence of certain events or substantive changes in circumstances. The Company determined that the adverse business climate experienced during the end of the fiscal year ended December 31, 2008 was a significant event that indicated that the carrying amount of the goodwill and cable franchise rights might not be recoverable. An interim impairment test as of December 31, 2008 did not result in any goodwill impairments, but did result in an impairment on its cable franchise rights of $23.4 million. The Company completed its annual impairment evaluation on March 1, 2011 and did not identify any impairment. No significant revisions to the underlying operating results or forecasts, which would impact these annual impairment results, were noted as of December 31, 2011.
The impairment charge on the cable franchise rights was primarily attributable to the use of higher discount rates, which accounted for all of the decline in fair value as compared to the impairment test performed in March 1, 2008. The higher discount rates (on average approximately 11.4% as compared to approximately 10.0% used in the March 2008 valuation) reflected an increase in the risks inherent in the estimated future cash flows attributable to the individual cable franchise rights; this increase in risk was due to economic volatility, which became more pronounced during the fourth quarter of 2008. The discount rates used in both the March 2008 and December 2008 analyses include significant risk premiums of up to 500 basis points to the Company’s weighted-average cost of capital to reflect the greater uncertainty in the cash flows attributable to the Company’s cable franchise rights. Furthermore, had the Company used a discount rate in assessing the impairment of its cable franchise rights that was 1% higher across all units of accounting (holding all other assumptions unchanged) the Company would have recorded an additional impairment charge of approximately $5.5 million.
As a result of the cable franchise rights impairment taken in 2008, the carrying values of the Company’s impaired cable franchise rights (which represented two of the Company’s four operating systems) were re-set to their estimated fair values as of December 31, 2008. Consequently, any further decline in the estimated fair values of these cable franchise rights could result in additional cable franchise rights impairments. Management has no reason to believe that any one system is more likely than any other to incur further impairments of its cable franchise rights. It is possible that such impairments, if required, could be material and may need to be recorded during an interim period if the Company’s results of operations or other factors require such assets to be tested for impairment at an interim date.
Historical Performance
Operating Data
Results of Operations
The following tables set forth a summary of the Systems’ operations for the periods indicated and their percentages of total revenue (in thousands):
Year Ended December 31, 2011 Compared to Year Ended December 31, 2010
Revenue for the year ended December 31, 2011 was $329.1 million as compared to $317.0 million for the year ended December 31, 2010, an increase of $12.1 million or 3.8%. This increase was mainly the result of a (i) a $4.9 million or 8.1% increase in high-speed data revenue resulting from continued marketing focus for this service offering driving HSD subscriber growth; (ii) a $2.3 million or 8.5% increase in telephone revenue generated by this service offering and (iii) a $4.8 million or 14.4% increase in commercial revenue as we continue to expand our non-residential customer base through targeted marketing efforts. We expect that revenue trends will continue to be positive as we continue to experience increased residential and commercial subscriber levels in our high speed data and telephone offerings through targeted marketing efforts and the increased utility of a broadband connection to our available video subscriber base.
Operating expenses for the year ended December 31, 2011 were $143.8 million as compared to $141.3 million for the same period in 2010, an increase of $2.5 million or 1.8%. This increase was mainly the result of increased programming costs in conjunction with annual contractual increases, coupled with the incurrence of higher levels of direct costs associated with our continued expansion of high speed data and cable telephony services. We expect that operating expenses will continue to rise as a result of annual programming contract increases and growth in total revenue generating units which will result in increased direct expenses as we service a larger customer base.
Selling, general and administrative expenses for the year ended December 31, 2011 were $40.3 million as compared to $42.7 million for the year ended December 31, 2010, a decrease of $2.4 million or 5.6%. This decrease is mainly the result of a reduction in the incurrence of fees associated with the Company’s refinancing of its senior credit facility from $4.2 million with the November 2010 refinancing to $2.8 million with the March 2011 refinancing, a net reduction of $1.4 million; coupled with a decrease of $0.3 million in marketing expenses as we continue to improve the efficiencies of our total advertising spending through more targeted promotions. We expect selling, general and administrative expenses to increase at a slower rate than revenue growth due to the more fixed nature of these costs as compared to direct costs.
Depreciation of plant, property and equipment and amortization expense was $44.3 million for the year ended December 31, 2011, compared with $42.6 million for the same period in 2010, an increase of $1.7 million. This increase was mainly the result of slightly higher levels of capital spending in recent years.
Income from operations for the year ended December 31, 2011 was $100.7 million as compared to $90.4 million for the comparable period in 2010 for the reasons described above.
The Company recognized a loss of $1.2 million in 2010 related to costs incurred in conjunction with the November 2010 refinancing of its senior debt.
Interest expense, including amortization of debt financing costs, for the year ended December 31, 2011 was $40.9 million, as compared to $43.0 million for the year ended December 31, 2010. This $2.1 million decrease was primarily attributable to the lower interest rates on senior debt resulting from our March 2011 refinancing, coupled with decreasing overall debt levels as we use free cash flow to reduce our debt balances.
As a result of the factors described above, our net income was $59.8 million for the year ended December 31, 2011 as compared to $46.3 million for the year ended December 31, 2010.
Year Ended December 31, 2010 Compared to Year Ended December 31, 2009
Revenue for the year ended December 31, 2010 was $317.0 million as compared to $301.7 million for the year ended December 31, 2009, an increase of $15.3 million or 5.1%. This increase was mainly the result of a (i) a $7.3 million or 13.8% increase in high-speed data revenue resulting from continued marketing focus for this service offering driving HSD subscriber growth; (ii) a $3.5 million or 14.6% increase in telephone revenue generated by this service offering and (iii) a $3.9 million or 13.2% increase in commercial revenue as we continue to expand our non-residential customer base through targeted marketing efforts. We expect that revenue trends will continue to be positive as we continue to experience increased residential and commercial subscriber levels in our high speed data and telephone offerings through targeted marketing efforts and the increased utility of a broadband connection to our available video subscriber base.
Operating expenses for the year ended December 31, 2010 were $141.3 million as compared to $135.5 million for the same period in 2009, an increase of $5.8 million or 4.3%. This increase was mainly the result of increased programming costs in conjunction with annual contractual increases, coupled with the incurrence of higher levels of direct costs associated with our continued expansion of high speed data and cable telephony services totaling $4.7 million, coupled with a $0.5 million increase in salaries and related costs associated with higher staffing levels required to service our expanding
residential and commercial customer base. We expect that operating expenses will continue to rise as a result of annual programming contract increases and growth in total revenue generating units which will result in increased direct expenses as we service a larger customer base.
Selling, general and administrative expenses for the year ended December 31, 2010 were $42.7 million as compared to $41.5 million for the year ended December 31, 2009, an increase of $1.2 million or 2.9%. This increase is mainly the result of the incurrence of $4.4 million in fees associated with the Company’s November 2010 refinancing of its senior credit facility, offset by a decrease of $1.1 million in marketing expenses as we continue to improve the efficiencies of our total advertising spending through more targeted promotions and a $1.3 million reduction in expense associated with the fee charged to Grande Communications Networks, LLC for management services provided during the year. As this management service arrangement began during the fourth quarter of 2009, there was a full year of charges in 2010 as compared to only three months in 2009. We expect selling, general and administrative expenses to increase at a slower rate than revenue growth due to the more fixed nature of these costs as compared to direct costs.
Depreciation of plant, property and equipment and amortization expense was $42.6 million for the year ended December 31, 2010, compared with $41.8 million for the same period in 2009, an increase of $0.8 million. This increase was mainly the result of slightly higher levels of capital spending in 2010.
Income from operations for the year ended December 31, 2010 was $90.4 million as compared to $82.9 million for the comparable period in 2009 for the reasons described above.
The marking-to-market of the Company’s interest rate swap agreements resulted in the recognition of $1.8 million in other income for the year ended December 31, 2009. As no swaps were in place during 2010, there was no charge during this year.
The Company recognized a loss of $1.2 million related to costs incurred in conjunction with the November 2010 refinancing of its senior debt.
Interest expense, including amortization of debt financing costs, for the year ended December 31, 2010 was $43.0 million, as compared to $40.7 million for the year ended December 31, 2009. This $2.3 million increase was primarily attributable to the interest on the increased senior debt issued in conjunction with our November 2010 refinancing.
As a result of the factors described above, our net income was $46.3 million for the year ended December 31, 2010 as compared to $39.4 million for the year ended December 31, 2009.
Liquidity and Capital Resources
The Company’s primary source of liquidity is cash flow from operations. We also have available funds under our revolving credit facility, subject to certain conditions. Our primary liquidity requirements will be for debt service, capital expenditures and working capital.
In connection with the system acquisition we incurred substantial amounts of debt, including amounts outstanding under our senior credit facility and our 9 3/8% Senior Subordinated Notes. Interest payments on this indebtedness will significantly reduce our cash flows from operations. As of December 31, 2011, the Company had total debt outstanding of $635.8 million.
Our senior credit facility is a $510.8 million Senior Credit Facility, consisting of a $25.0 million revolving credit facility (the “Revolver”) and a $485.8 million term loan. At December 31, 2011, there were no borrowings outstanding under the Revolver, with $25.0 million of unused commitments available to be drawn in compliance with the financial covenants under the Senior Credit Facility. The Revolver commitment shall be paid in full on the termination date of November 29, 2014. We will be able to prepay revolving credit loans and reborrow amounts that are repaid, up to the amount of the revolving credit commitment then in effect, subject to customary conditions. The term loan matures in March 2016. In the event that the 9 3/8% Senior Subordinated Notes have not been repaid or refinanced by September 17, 2013, all borrowings under our senior secured credit facilities will then be payable on that date.
The Senior Credit Facility contains certain restrictive covenants which require us to comply with certain financial ratios, capital expenditures and other limits. We were in compliance with all such covenants at December 31, 2011, and foresee no issues in remaining in compliance during 2012.
The Company can make no assurances that it will be able to satisfy and comply with the covenants under the Senior Credit Facility. The Company’s ability to maintain its liquidity and maintain compliance with its covenants under the Senior Credit Facility is dependent upon its ability to successfully execute its current business plan. The Company believes that the cash generated from operations will be sufficient to meet its debt service, capital expenditures and working capital requirements for at least the next twelve months.
The Company provided dividends to its members totaling $0.4 million in 2011, $165.4 million in 2010 and $15.3 million in 2009.
We expect to incur capital expenditures in 2012 at a level consistent with that of 2011 as we have substantially completed the deployment of all major product offerings, including high-speed data, telephone and video on demand services to the majority of our systems. We expect subsequent year capital expenditure levels also to remain at a relatively consistent level, reflecting more maintenance and discretionary capital spending.
We believe that the cash generated from operations will be sufficient to meet our debt service, capital expenditures and working capital requirements for at least the next twelve months.
On March 20, 2012, Atlantic Broadband Finance, LLC (the “Company”) announced its intention to replace its existing $25,000,000 revolving credit facility due in 2015, and $485,837,500 term loan facility due in 2016 (together, the “Existing Credit Facility”) with a new $1,060,000,000 senior secured credit facility (the “New Credit Facility”) comprised of a new $50,000,000 revolving credit facility (the “New Revolving Facility”), a new $660,000,000 first lien term loan facility (the “New First Lien Term Facility”) and a new $350,000,000 second lien term loan facility (the “New Second Lien Term Facility”), the proceeds of which will be used (a) to repay in full all indebtedness and other amounts due or outstanding under its Existing Credit Facility, (b) to repay in full the Company’s 9.375% senior subordinated notes due 2014, and (c) to consummate a cash dividend payment of approximately $345,000,000 to the shareholders of Atlantic Broadband Holdings I, LLC. The New First Lien Term Facility is expected to have a seven-year maturity, the New Second Lien Term Facility is expected to have a seven and one-half year maturity and the New Revolving Facility is expected to have a five-year maturity.
The entry into the New Credit Facility will be contingent upon, among other things, a successful syndication and the satisfaction of conditions precedent to the definitive documentation therefor. The material terms of the New Credit Facility, including those described above, could change materially between the date hereof and the effectiveness of the New Credit Facility.
Contractual Obligations
The following table sets forth our long-term contractual cash obligations as of December 31, 2011 (dollars in thousands):
Off-Balance Sheet Arrangements
We do not have any relationships with unconsolidated entities or financial partnerships, such as entities often referred to as structured finance or special purpose entities, which would have been established for the purpose of facilitating off-balance sheet arrangements or other contractually narrow or limited purposes.
Recently Issued Accounting Standards
In May 2011, the Financial Accounting Standards Board (“FASB”) FASB issued amended guidance on fair value measurement and related disclosures. The new guidance clarifies the concepts applicable for fair value measurement of non-financial assets and requires the disclosure of quantitative information about the unobservable inputs used in a fair value measurement. This guidance will be effective for reporting periods beginning after December 15, 2011, and will be applied prospectively. The Company does not anticipate a material impact on its consolidated financial statements as a result of the adoption of this amended guidance.
In September 2011, the FASB issued updated guidance on the periodic testing of goodwill for impairment. The updated guidance gives companies the option to perform a qualitative assessment to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying amount. The amendment is intended to reduce the cost and complexity of the annual goodwill impairment test by providing entities an option to perform a qualitative assessment to determine whether further impairment testing is necessary. The updated accounting guidance is effective for fiscal years beginning after December 15, 2011, with early adoption permitted. The Company does not anticipate that its adoption of this guidance will have a material impact on its consolidated results.
Inflation and Changing Prices
Our costs and expenses are subject to inflation and price fluctuations. We do not expect such changes to have a material effect on our results of operations.
Item 7A.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
We are exposed to certain market risks as part of our ongoing business operations. Primary exposure include changes in interest rates as borrowings under our senior secured credit facilities bear interest at floating rates based on LIBOR or the base rate, in each case plus an applicable borrowing margin. We manage our interest rate risk by balancing the amount of fixed-rate and floating-rate debt. For fixed-rate debt, interest rate changes do not affect earnings or cash flows. Conversely, for floating-rate debt, interest rate changes generally impact our earnings and cash flows, assuming other factors are held constant.
The following table estimates the changes to cash flow from operations if interest rates were to fluctuate by 100 or 50 basis points, or BPS (where 100 basis points represents one percentage point), for a twelve-month period after giving effect to the interest rate swap agreements described below:
We use derivative instruments to manage our exposure to interest rate risks. Our objective for holding derivatives is to minimize the risks using the most effective methods to eliminate or reduce the impacts of these exposures. We use interest rate swap agreements, not designated as hedging instruments under the authoritative guidance associated with accounting for derivative instruments and hedging activities, in connection with our variable rate senior credit facility. We do not use derivative financial instruments for speculative or trading purposes. There were no derivative instruments in place at December 31, 2011.
ITEM 8.
ITEM 8. Financial Statements and Supplementary Data
The Financial Statements required by this Item are listed in Part IV, Item 15 of this Annual Report on Form 10-K.
ITEM 9.
ITEM 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
None.
ITEM 9A.
ITEM 9A. Controls and Procedures
Managements’ Evaluation of our Disclosure Controls and Procedures.
Our principal executive officer and principal financial officer, after evaluating the effectiveness of our “disclosure controls and procedures” (as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act of 1934), with the participation of our management, has concluded that, as of the end of the period covered by the Annual Report on Form 10-K, our disclosure controls and procedures were effective and were designed to ensure that information we are required to disclose in the reports that we file or submit under the Exchange Act of 1934 is accumulated and communicated to management, including our principal executive officer and principal financial officer, as appropriate to allow timely decisions regarding required disclosure, and is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms. It should be noted that any system of controls is designed to provide reasonable, but not absolute, assurances that the system will achieve its stated goals under reasonably foreseeable future circumstances. Our principal executive officer and principal financial officer have concluded that, as of such date, the Company’s disclosure controls and procedures are effective at a level that provides such reasonable assurances.
Management’s Annual Report on Internal Control over Financial Reporting
Management is responsible for establishing and maintaining adequate internal controls over financial reporting, as such term is defined in Rule 13a-15(f) under the Securities and Exchange Act of 1934, as amended. All internal controls over financial reporting, no matter how well designed, have inherent limitations. As a result of these inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Therefore, even those internal controls determined to be effective can provide only reasonable assurance with respect to reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles.
Under the supervision and with the participation of management, including our principal executive officer and principal financial officer, we conducted an evaluation of the effectiveness of our internal control over financial reporting based on the framework in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on our evaluation under the framework in Internal Control - Integrated Framework, management concluded our internal control over financial reporting was effective as of December 31, 2011.
Changes in Internal Control Over Financial Reporting.
There was no change in the internal control over financial reporting that occurred during the fourth quarter of the year ended December 31, 2011 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
ITEM 9B.
ITEM 9B. Other Information
None.
PART III
ITEM 10.
ITEM 10. Directors, Executive Officers and Corporate Governance
The following table sets forth the names, ages, and positions for each of our directors and executive officers as of March 21, 2011.
David J. Keefe joined us on September 5, 2003 as Chief Executive Officer with more than thirty years experience building and managing cable systems in the United States, Asia, Europe and South America. Prior to joining us and since 1999, Mr. Keefe served as Chief Operating Officer of Horizon Telecom International. Prior to that he served as Chief Executive Officer for PTK Poland. From 1995 to 1998, Mr. Keefe served as Chief Executive Officer of Kabelkom Hungary. Additionally, Mr. Keefe spent over twenty years in senior management positions with Wharf Cable, Continental Cablevision and American Cablesystems.
Mr. Keefe brings to the board his experience in corporate management, operations, financial compliance and governance matters, including his extensive experience in the cable industry. Mr. Keefe has over 35 years of experience with cable system operations, and has served in senior management or as an executive officer for over 25 years.
Edward T. Holleran joined us on September 5, 2003 as Chief Operating Officer with more than twenty years of general management experience with major U.S. cable companies. Most recently, in 1999 Mr. Holleran co-founded and served as President and CEO of American Broadband. From 1995 to 1998, Mr. Holleran served as Vice President of Broadband Data Services and Vice President of New Product Development for MediaOne and its predecessor company,
Continental Cablevision. Additionally, Mr. Holleran spent thirteen years in senior management positions with Continental Cablevision and American Cablesystems. Mr. Holleran currently serves on the Board of Directors of the National Cable Television Cooperative.
Mr. Holleran brings to the board his experience in corporate management, operations, financial compliance and governance matters, including his extensive experience in the cable industry. Mr. Holleran has over 25 years of experience with cable system operations, and has served in senior management or as an executive officer for over 20 years. As Chairman of the board of the National Cable Television Cooperative, Mr. Holleran is also positioned to serve as a bridge between this industry leading organization and the Company.
Patrick Bratton joined us on October 27, 2003 with over ten years of senior financial management experience. Prior to joining us and since 1998, Mr. Bratton served as Chief Financial Officer for Quorum Broadcast Holdings, LLC. From 1995 to 1998 Mr. Bratton served as Chief Financial Officer for Sullivan Broadcast Holdings, Inc. Additionally, Mr. Bratton spent seven years in various roles with DMC Services, Inc. and Price Waterhouse LLP.
Almis Kuolas joined us on October 16, 2003 as Chief Technology Officer with over 25 years of technical operations experience. Prior to joining us and since 2001, Mr. Kuolas served as Senior Director of Engineering and Development for Philips Electronics wireless products division. From 2000 to 2001, Mr. Kuolas served as Chief Technology Officer of American Broadband. Prior to that, he served as Vice President of Systems and Technology for MCI’s TeleTV operations in California. Additionally, Mr. Kuolas spent fourteen years in management positions with Continental Cablevision and American Cablesystems.
Richard Shea joined us on October 16, 2003 as our Chief Information Officer with over twenty years of information technology management experience. Prior to joining us and since 2002, Mr. Shea served as Chief Technology Officer for AltiComm, Inc. From 2000 to 2002, Mr. Shea served as the Chief Information Officer for Carolina Broadband, Inc. Prior to that he served as Chief Technology Officer for Zvia Corporation. Additionally, Mr. Shea spent eleven years in management positions with MediaOne, Inc. and General Electric Aerospace.
Blake R. Battaglia has served as a director since September 5, 2003. Mr. Battaglia is a Principal at ABRY, which he joined in 1998. Prior to joining ABRY, he was an investment banker at Morgan Stanley & Co. Mr. Battaglia currently serves as a director of Nexstar Broadcasting Group, Inc., Hometown Broadband, LLC and Cast & Crew Entertainment Services, LLC.
Mr. Battaglia brings to the board his years of experience in the media and entertainment industry and his extensive experience as a director of numerous companies in this field. Mr. Battaglia’s breadth of knowledge in directorship and corporate management positions him to provide the board with a variety of perspectives on corporate governance and other issues.
John Hunt has served as a director since February 14, 2005. Mr. Hunt has been a Partner of ABRY since 2004. Prior to joining ABRY, Mr. Hunt was a General Partner at Boston Ventures Management a media and communications focused private equity fund. Mr. Hunt currently serves as a director of V12 Group, Inc., Navtech, Inc., Triple Point Technology, Inc., JAB Broadband, Inc. and Verticalscope, Inc. In the past, Mr. Hunt served on the board of Charleston Newspapers, L.P, Legendary Pictures, LLC and Softbrands, Inc.
Mr. Hunt brings to the board his years of experience in the media and entertainment industry and his extensive experience as a director of numerous companies in this field. Mr. Hunt’s breadth of knowledge in directorship and corporate management positions him to provide the board with a variety of perspectives on corporate governance and other issues.
Benjamin Diesbach has served as a director since September 5, 2003. Mr. Diesbach has been a Partner of Oak Hill Capital Management, LLC since July, 2005. Prior to joining Oak Hill Capital Management, LLC, Mr. Diesbach served as the President of Midwest Research, Inc. a consulting company. Prior to forming Midwest Research, Mr. Diesbach was Chief Executive Officer of Continental Broadcasting, Ltd. Before joining Continental Broadcasting, Mr. Diesbach served as a Vice President of the Crisler Company. Prior to Crisler, he served as Chief Executive Officer of Taft Cable Partners, Executive Vice President of Wometco Cable and Executive Vice President and General Manager of Fabricon Automotive Products. Mr. Diesbach currently serves as a director of Local TV Finance, LLC and Local TV LLC. In the past, Mr. Diesbach has served on the board of Lattice Communications.
Mr. Diesbach has a distinguished career as a leader in management consulting and private equity. Mr. Diesbach brings his extensive knowledge of operational and business process and years of experience in developing corporate strategy across a broad range of industries. Mr. Diesbach’s experience serving on numerous boards of directors allows him to provide the board with a variety of perspectives on corporate governance and other critical decision-making issues.
Jay M. Grossman has served as a director since September 5, 2003. Mr. Grossman has been a Partner of ABRY since 1996. Prior to joining ABRY, Mr. Grossman was an investment banker specializing in media and entertainment at Kidder Peabody and at Prudential Securities. Mr. Grossman currently serves as director (or the equivalent) of several companies including Monitronics International, Inc., Nexstar Broadcasting Group, Inc., Caprock Communications, LLC, Hometown Broadband, LLC, CyrusOne, LLC, Executive Health Resource, Inc. and Healthport, Inc. In the past, Mr. Grossman has served on the board of Consolidated Theaters, LLC and Country Road Communications, Inc..
Mr. Grossman has a distinguished career as a leader in management consulting and private equity. Mr. Grossman brings his extensive knowledge of operational and business process and years of experience in developing corporate strategy across a broad range of industries. Mr. Grossman’s experience serving on numerous boards of directors allows him to provide the board with a variety of perspectives on corporate governance and other critical decision-making issues.
Jack Langer has served as a director since March 1, 2004. Mr. Langer has extensive experience in equity, bank, subordinated debt and mergers and acquisitions transactions in the cable and other media industries. From 1997 to 2002, Mr. Langer served as a Managing Director and Global Co-Head of the Media Group at Lehman Brothers, Inc. From 1995 until 1997, he served as the managing director and head of the media group at Bankers Trust & Company. From 1990 until 1994, he served as managing director and head of the media group at Kidder Peabody and Company. Mr. Langer currently serves as a director of SBA Communications Corp.
Mr. Langer brings to the board his years of experience in corporate finance and the media and entertainment industry and his extensive experience as a director of a wide array of companies in different industries. Mr. Langer’s breadth of knowledge in directorship and corporate management positions him to provide the board with a variety of perspectives on corporate governance, management and other strategic issues.
There are no family relationships among the foregoing persons.
Audit Committee
Given the ownership structure of the Company and the financial experience and business acumen of the directors serving on our board of directors, our board of directors has determined (i) not to establish an audit committee in accordance with Section 3(a)(58)(A) of the Exchange Act or a committee performing similar functions, and (ii) not to designate a director that meets the qualifications of an “audit committee financial expert” as defined under Item 401(d)(5) of Regulation S-K.
Compensation Committee Interlocks and Insider Participation
None of our executive officers currently serves, or in the past has served, as a member of the board of directors of the compensation committee of any entity that has one or more executive officers serving on our Board or compensation committee.
Code of Business Conduct and Ethics
Our Company has adopted a Code of Business Conduct and Ethics (the “Code”) applicable to our Company’s directors, officers (including the Chief Executive Officer and Chief Financial Officer and persons performing similar functions), employees, agents and consultants. Our Code satisfies the requirements of a “code of ethics” within the meaning of Section 406 of the Sarbanes-Oxley Act of 2002 and the rules issued by the Securities and Exchange Commission thereunder. Amendments to, or waivers from, a provision of our Code that apply to our Company’s directors or executive officers, including the Chief Executive Officer and Chief Financial Officer and persons performing similar functions, may be made only by the Company’s board of directors. Our Company has not amended the Code and has filed the Code as an exhibit to this Annual Report on Form 10-K.
Other Matters
Given the ownership structure of the Company, it has not adopted any procedures by which security holders may recommend nominees to our board of directors.
ITEM 11.
ITEM 11. Executive Compensation
Compensation Committee Report
Because affiliates of ABRY own more than 50% of the voting common stock of Atlantic Broadband Group, LLC, we would be a “controlled company” within the meaning of Rule 5615(c) of the Nasdaq Marketplace rules, which would qualify us for exemptions from certain corporate governance rules of the Nasdaq Stock Market LLC, including the requirement that compensation be determined by a majority of independent directors, or a compensation committee comprised solely of independent directors. As such, we do not have a standing compensation committee. However, decisions regarding compensation of the individuals named in the Summary Compensation Table (the “named executive officers”) and directors are made by certain of our non-employee directors, Jay Grossman and Blake Battaglia, with Jay Grossman acting as the chairperson. These individuals are referred to herein as the Compensation Committee.
The Compensation Committee has reviewed and discussed the Compensation Discussion and Analysis with management and, based on its review and discussions, the Compensation Committee recommended to the board of directors that the Compensation Discussion and Analysis be included in this Annual Report on Form 10-K.
This report has been provided by the Compensation Committee of the Board of Directors of the Company.
Jay Grossman, Director, Chairperson of the Compensation Committee
Blake Battaglia, Director
Compensation Discussion and Analysis
Our Compensation Committee is responsible for reviewing and approving the compensation of our named executive officers as well as reviewing and approving our incentive plans, all presented by our chief executive officer. Review and approval of compensation and incentives by the Compensation Committee is done annually as part of the Company’s budget review as well as on an as-needed basis, with the Board of Directors either approving or rejecting the Compensation Committee recommendations.
Compensation Objectives
We believe that our compensation program must support our strategy, be competitive, and provide significant rewards for outstanding performance and clear financial consequences for underperformance. We also believe that a significant portion of the named executive officers’ compensation should be discretionary in the form of annual bonus awards that are paid, if at all, based on company accomplishment and, to a lesser degree, individual performance. The compensation awarded to our named executive officers for fiscal 2011, as well as prior years, was intended:
•
To encourage and reward strong performance; and
•
To motivate our named executive officers by providing them with a meaningful equity stake in the company.
Accounting and cost implications of compensation programs are considered in program design; however, the main driver of design is alignment without business needs.
Role of the Compensation Committee and Executive Officers
The Compensation Committee of the Board of Directors approves and then recommends that the Board of Directors approve their recommendations for all compensation and awards to named executive officers, which include the chief executive officer, chief financial officer and the president/chief operating officer. For the remaining executive officers, the chief executive officer makes recommendations to the Compensation Committee that generally, with minor adjustments, are approved.
Elements of our Compensation Program
Base Salary
Base salary is intended to provide fixed compensation to the named executive officers for their performance of core duties that contributed to our success as measured by the element of corporate performance mentioned above. The Compensation Committee reviews and approves base salary recommendations as presented by the chief executive officer for non-named executive officers. Base salary recommendations are intended to approximate the market value of a position, based on analysis of similar positions with essentially the same job responsibilities. Market data is provided to the Company by nationally recognized compensation consulting firms and executive search firms. Annual base salary increases for the chief executive officer and chief operating officer are stipulated within their respective employment agreements.
Annual Incentives
Annual incentives in the form of the Company’s “Bonus Plan” are intended to tie a significant portion of each of the named executive officer’s compensation to our annual performance. Additionally, the annual incentive allows us to recognize and individual’s performance in relation to special or strategic projects. The annual incentives paid in 2012 for 2011 performance were based primarily upon the performance of the Company. The Bonus Plan is tied to both revenue and EBITDA growth over the prior year and, to a lesser degree, to individual performance. The targeted incentive for the named executive officers is 30% of their base salary, which is determined annually based upon the Company’s achieving annual budgeted levels. For 2011, budgeted revenue and EBITDA levels were $337.0 million and $148.3 million, respectively
Outside of the Company’s “Bonus Plan”, there is no other non-equity incentive compensation plan.
Compensation Determination
In determining compensation amounts awarded, the Compensation Committee focused primarily on both revenue and EBITDA growth during 2011 in addition to adjusting base salaries as deemed appropriate in connection with each executive’s employment agreement. Annual base salary increases typically vary from 3% to 5% based upon the Company’s performance against annual budgeted revenue and EBITDA levels.
Supplemental Benefits, Deferred Compensation and Perquisites
We do not provide supplemental benefits and perquisites for executives. None of our named executive officers have deferred any portion of their compensation, except for 401(K) contributions and medical benefits paid.
Our Benefit Plans
We maintain a 401(k) plan, under which employees may elect to make tax deferred contributions to a maximum established annually by the IRS. For employees meeting a three month service requirement, we match 50% of the employees’ contributions up to a maximum of 5.0% of the employees’ compensation. Our contributions vest after five years of service. Company contributions were approximately $415,000, $493,000 and $486,000 for the years ended December 31, 2009, 2010 and 2011, respectively.
We also provide a variety of standard welfare benefits to our employees, such as medical, dental, vision, short-term and long-term disability, and life insurance and accidental death and dismemberment benefits. A flexible spending plan, an employee assistance program and incentive compensation is also provided to employees.
Summary Compensation Table
The following table contains a summary of the annual, long-term and other compensation paid or accrued during the fiscal years ended December 31, 2011, 2010 and 2009 to those persons who were the Chief Executive Officer, the Chief Financial Officer and our three other most highly compensated executive officers of our Company in these years.
(1) Amounts included in this column represent the annual incentive compensation (bonus) earned but payable in the following year.
(2) Represents the following items: (1) officer group term life insurance coverage; (2) the amount of the Company’s match under the 401(k) saving plan in which the employees of the Company are eligible participants and (3) a one-time payment made on behalf of Grande Communications Networks, LLC for management services provided reimbursed in full. The amounts included in this column include the following:
Employment Agreements
We currently have employment agreements with Messrs. Keefe, Holleran, Bratton, Kuolas and Shea dated September 1, 2009.
Each employment agreement provides for a term of three years unless otherwise terminated earlier. Under the current employment agreements, Mr. Keefe is paid a base salary of $480,173 per year, Mr. Holleran is paid a base salary of $480,173 per year, Mr. Bratton is paid a base salary of $291,723 per year, Mr. Kuolas is paid a base salary of $251,835 per year and Mr. Shea is paid a base salary of $238,374 per year. In each case, the employment agreement provides for the payment of bonuses equal to a specified percentage of the executive’s base salary if we achieve specific performance goals. In addition, Mr. Keefe’s and Mr. Holleran’s agreements stipulate annual base salary increases. If the executive’s employment is terminated by reason of disability or resignation or in connection with a sale of the company, the executive is not entitled to receive any base compensation, fringe benefits or bonus after the date of the termination of employment. The employment agreement provides for the subject executive to receive, in the event that we terminate the subject executive’s employment without cause, severance payments in an amount equal to six months’ base salary and certain benefits for a period of six months from the date of such termination.
Each employment agreement also contains a “non-compete” provision prohibiting the executive from owning, managing, controlling, participating in or operating a competing business for a period of two years following termination of employment.
Potential Payments Upon Termination
The information below describes and quantifies certain compensation that would become payable under the executive employment agreements if, as of December 31, 2011, the subject executive’s employment had been terminated by us without cause. The employment agreements provides for the subject executive to receive, in the event that we terminate the subject executive’s employment without cause, severance payments in an amount equal to six months’ base salary and certain benefits for a period of six months from the date of such termination. All executives will be required to sign a release as a condition to receiving any severance payments. We believe these severance benefits are essential elements of our executive compensation package and assist us in recruiting and retaining talented individuals.
For purposes of the employment agreements, “cause” is defined as (i) the executive’s neglect or refusal to perform his duties hereunder or the executive’s noncompliance (except where due to disability) with directives or other instructions issued to executive from time to time by the Board or the Company’s chief executive officer, which neglect, refusal or noncompliance will not have been corrected by the executive within 30 days following receipt by the executive of written notice from the Company of such neglect, refusal or noncompliance, which notice will specifically set forth the nature of said neglect, refusal or noncompliance and the actions required to correct the same, (ii) any willful or intentional act of the executive that has the intended effect of injuring the reputation or business of Atlantic Broadband Group, LLC or any of its subsidiaries or affiliates in any material respect; (iii) any continued or repeated absence from the Company, unless such absence is (A) in compliance with Company policy or approved or excused by the Board or (B) is the result of the executive’s permitted vacation, illness, disability or incapacity, (iv) use of illegal drugs by the executive or repeated public drunkenness, (v) conviction of, or a plea of guilty or no contest or similar plea with respect to, a felony or (vi) the commission by the executive of an act of fraud or embezzlement.
Compensation Risk Management
Subject to certain limitations, the board of directors has the authority to review and approve all labor practices of the Company recommended by senior management, including with respect to wage and salary rates and terms, fringe benefits, retirement, bonus and employee benefit plans and collective bargaining agreements. The employment, termination and compensation of the executive staff of the Company (including our named executives) is also determined by the board. We believe that the compensation programs we have implemented and which have been approved by the board appropriately balance risk and the achievement of long-term and short-term goals, and that they are not reasonably likely to have a material adverse effect on our business.
Equity Compensation
In connection with the consummation of the Acquisition in 2004, stock grants were awarded to the named executive officers. These stock holdings are reflected in Item 12
ITEM 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholders Matters
Atlantic Broadband Group, LLC indirectly owns all of the membership units of our Company. The following table sets forth information regarding the beneficial ownership of the equity interests of Atlantic Broadband Group, LLC as of December 31, 2011, by:
•
holders having beneficial ownership of more than 5% of the voting equity interest of Atlantic Broadband Group;
•
each director of Atlantic Broadband Group;
•
each of our executive officers shown in the summary compensation table; and
•
all directors and executive officers as a group.
* Less than 1%
(a) “Beneficial ownership” generally means any person who, directly or indirectly, has or shares voting or investment power with respect to a security or has the right to acquire such power within 60 days. Unless otherwise indicated, we believe that each holder has sole voting and investment power with regard to the equity interests listed as beneficially owned. The total equity interests shown for ABRY Partners IV, L.P., ABRY Mezzanine Partners, L.P. and Oak Hill will equate to approximately 71.7%, 8.6%, and 16.1%, respectively, of the total voting equity interests of Atlantic Broadband Group, LLC.
(b) Royce Yudkoff exercises voting and investment control of the equity interests held by ABRY Partners IV, L.P. and ABRY Mezzanine Partners, L.P. The address of both is 111 Huntington Avenue, 30th Floor, Boston, MA 02199.
(c) Royce Yudkoff is the sole member of ABRY Capital Partners, LLC which is the sole general partner of ABRY Capital Partners, L.P. which is the sole general partner of ABRY Partners IV, L.P.
(d) Royce Yudkoff is the sole member of ABRY Mezzanine Holdings, LLC which is the sole general partner of ABRY Mezzanine Investors, L.P. which is the sole general partner of ABRY Mezzanine Partners, L.P.
(e) Represents 26,114,688 owned by Oak Hill Capital Partners, L.P. and 635,312 owned by Oak Hill Capital Management Partners, L.P. The sole general partner of both entities is OHCP Gen Par, L.P. whose sole general partner is OHCP MGP, LLC. The address of these entities is 201 Main Street, Suite 2415, Fort Worth, TX 76102.
(f) Mr. Battaglia is a limited partner of ABRY Capital Partners, L.P., the sole general partner of ABRY Partners IV, L.P., and ABRY Mezzanine Investors, L.P., the sole general partner of ABRY Mezzanine Partners, L.P., and disclaims beneficial ownership of any equity interests held by either entity. Mr. Battaglia’s address is c/o ABRY Partners IV, L.P., 111 Huntington Avenue, 30th Floor, Boston, MA 02199.
(g) Mr. Hunt is a limited partner of ABRY Mezzanine Investors, L.P., the sole general partner of ABRY Mezzanine Partners, L.P., and disclaims beneficial ownership of any equity interests held by such entity. Mr. Hunt’s address is c/o ABRY Mezzanine Partners, L.P., 111 Huntington Avenue, 30th Floor, Boston, MA 02199.
(h) Mr. Grossman is a limited partner of ABRY Capital Partners, L.P., the sole general partner of ABRY Partners IV, L.P., and ABRY Mezzanine Investors, L.P., the sole general partner of ABRY Mezzanine Partners, L.P. and disclaims beneficial ownership of any equity interests held by either entity. Mr. Grossman’s address is c/o ABRY Partners IV, L.P., 111 Huntington Avenue, 30th Floor, Boston, MA 02199.
ITEM 13.
ITEM 13. Certain Relationships and Related Transactions and Director Independence
Members Agreement
The members of Atlantic Broadband Group, LLC entered into a Members Agreement on March 1, 2004. Pursuant to the Members Agreement, such members have agreed to vote their equity interests in Atlantic Broadband Group, LLC so that the following directors are elected to the board of managers of Atlantic Broadband Group, LLC: (i) three directors designated by ABRY Partners IV, L.P., (ii) one director designated by Oak Hill Capital Partners, L.P., (iii) the then current chief executive officer of Atlantic Broadband Group, LLC, who shall initially be David Keefe, (iv) the then current chief operating officer of Atlantic Broadband Group, LLC, who shall initially be Edward Holleran and (v) one independent director designated by a majority vote of the other directors on such board. The Members Agreement also contains:
•
“tag-along” sale rights exercisable by non-ABRY investors in the event of sales of equity interests by ABRY to unaffiliated third parties;
•
“drag-along” sale rights exercisable by the board of managers of Atlantic Broadband Group, LLC and holders of a majority of the then outstanding Class A units in the event of an Approved Sale, as defined in the Members Agreement;
•
preemptive rights;
•
restrictions on transfers of membership interests by management and other key employees absent written authorization of the Board of Directors, except in certain circumstances; and
•
right of first offer exercisable by ABRY in the event of proposed transfers of membership interests by non-ABRY investors.
The voting restrictions and tag-along, drag-along, transfer restrictions and right of first offer will terminate upon consummation of the first to occur of a Qualified Public Offering or an Approved Sale, as defined in the Members Agreement.
Indemnification
The Parent’s Amended and Restated Limited Liability Company Agreement, dated as of March 1, 2004, provides for indemnification of directors and officers, including advancement of reasonable attorney’s fees and other expenses, in connection with all claims, liabilities and expenses arising out of the management of the Parent’s affairs. Such indemnification obligations are limited to the extent that the Parent’s assets are sufficient to cover such obligations. The Parent carries directors and officers insurance that covers such exposure for indemnification up to certain limits. While the Parent may be subject to various proceedings in the ordinary course of business that involve claims against directors and officers, we believe that such claims are routine in nature and incidental to the conduct of the Parent’s business. None of such
claims, if determined adversely against such directors and officers, would have a material adverse effect on the Parent’s consolidated financial condition or results of operations. As of the closing of the Acquisition, the Parent had not accrued any amounts to cover indemnification obligations arising from such claims.
Registration Rights Agreement
The members of Atlantic Broadband Group, LLC entered into a Registration Rights Agreement on March 1, 2004. Pursuant to the Registration Rights Agreement, the holders of a majority of the Investor Units have the ability to cause the Company to register securities of the Company held by parties to the Registration Rights Agreement and to participate in registrations by the Company of its equity securities. All holders of equity securities are subject to customary lock-up arrangements in connection with public offerings.
Reimbursement Agreement
We entered into a Reimbursement Agreement on March 1, 2004. Pursuant to the Reimbursement Agreement, we agreed to reimburse ABRY for all out-of-pocket expenses incurred in connection with the offering of the Notes, the Acquisition and related transactions or their ownership of equity interest of the Parent.
Procedures for Related Party Transactions
Our board has adopted a written code of conduct and ethics for our company. Under our code of business conduct and ethics, our employees, officers and directors are discouraged from entering into any transaction that may cause a conflict of interest for us.
Board of Directors
The board is currently composed of 7 directors, none of whom is likely to qualify as an independent director based on the definition of independent director set forth in Rule 5605(a)(2) of the Nasdaq Marketplace rules. Because affiliates of ABRY own more than 50% of the voting common stock of Atlantic Broadband Group, LLC we would be a “controlled company” within the meaning of Rule 5615(c) of the Nasdaq Marketplace rules, which would qualify us for exemptions from certain governance rules of The Nasdaq Stock Market LLC, including the requirements that the board of directors be composed of a majority of independent directors.
ITEM 14.
ITEM 14. Principal Accountant Fees and Services
During the fiscal years ended December 31, 2010 and 2011, fees for services provided by PricewaterhouseCoopers LLP were as follows (in thousands):
“Audit Fees” consisted of fees billed for services rendered for the audit of the Company’s financial statements, review of financial statements included in the Company’s quarterly reports on Form 10-Q, and other services normally provided in connection with statutory and regulatory filings.
“Audit Related Fees” consisted of fees billed for services rendered for a preliminary review of the Company’s internal controls and debt modifications.
“Tax Fees” consisted of fees billed for tax payment planning and property tax consultation services.
“All Other Fees” consisted of an annual software license for accounting related updates.
PART IV
ITEM 15.
ITEM 15. Exhibits and Financial Statement Schedules
(a) The following documents are filed as part of this report.
1. The financial statements as indicated in the index set forth on page 57.
Schedules other than that listed above have been omitted, since they are either not applicable, not required or the information is included elsewhere herein.
2. Exhibits
EXHIBIT
NUMBER
EXHIBIT
1.1
Purchase Agreement dated as of January 27, 2004 by and among Atlantic Broadband Finance, LLC, Atlantic Broadband Finance, Inc., Merrill Lynch & Co., Merrill Lynch, Pierce, Fenner & Smith Incorporated and SG Cowen Securities Corporation.***
2.1
Asset Purchase Agreement dated as of September 3, 2003 by and among Charter Communications VI, LLC, The Helicon Group, L.P., Hornell Television Service, Inc., Interlink Communications Partners, LLC, Charter Communications, LLC, Charter Communications Holdings, LLC and Atlantic Broadband Finance, LLC.***
2.1a
First Amendment to the Asset Purchase Agreement, dated as of October 31, 2003 by and among Charter Communications VI, LLC, The Helicon Group, L.P., Interlink Communications Partners, LLC, Charter Communications, LLC, Hornell Television Service, Inc., Charter Communications Holdings, LLC and Atlantic Broadband Finance, LLC.***
2.1b
Second Amendment to the Asset Purchase Agreement, dated as of December 3, 2003 by and among Charter Communications VI, LLC, The Helicon Group, L.P., Interlink Communications Partners, LLC, Charter Communications, LLC, Hornell Television Service, Inc., Charter Communications Holdings, LLC and Atlantic Broadband Finance, LLC.***
2.1c
Third Amendment to the Asset Purchase Agreement, dated as of February 27, 2004 by and among Charter Communications VI, LLC, The Helicon Group, L.P., Interlink Communications Partners, LLC, Charter Communications, LLC, Hornell Television Service, Inc., Falcon Telecable, Charter Communications Holdings, LLC and Atlantic Broadband Finance, LLC.***
3.1
Certificate of Formation of Atlantic Broadband Finance, LLC.***
3.2
Certificate of Incorporation of Atlantic Broadband Finance, Inc.***
3.3
Certificate of Formation of Atlantic Broadband Management, LLC.***
3.4
Certificate of Formation of Atlantic Broadband (Miami), LLC.***
3.5
Certificate of Formation of Atlantic Broadband (Penn), LLC.***
3.6
Certificate of Formation Atlantic Broadband (Delmar), LLC.***
3.7a
Limited Liability Company Agreement of Atlantic Broadband Finance, LLC.***
3.7b
Amended and Restated Limited Liability Company Agreement of Atlantic Broadband Finance, LLC.***
3.8
By-laws of Atlantic Broadband Finance, Inc.***
3.9a
Limited Liability Company Agreement of Atlantic Broadband Management, LLC.***
3.9b
Amended and Restated Limited Liability Company Agreement of Atlantic Broadband Management, LLC.***
3.10a
Limited Liability Company Agreement of Atlantic Broadband (Miami), LLC.***
3.10b
Amended and Restated Limited Liability Company Agreement of Atlantic Broadband (Miami), LLC.***
* XBRL (Extensible Business Reporting Language) information is furnished and not filed or a part of a registration statement or prospectus for purposes of sections 11 or 12 of the Securities Act of 1933, as amended, is deemed not filed for purposes of section 18 of the Securities Exchange Act of 1934, as amended, and otherwise is not subject to liability under these sections.
** Incorporated by reference to the corresponding Exhibit to Amendment No. 1 to the Registration Statement on Form S-4/A (File No. 333-11504) as filed on July 29, 2005.
*** Incorporated by reference to the corresponding Exhibit to the Registration Statement on Form S-4 (File No. 333-11504) as filed on May 14, 2004.
SIGNATURES
Pursuant to the requirements of Section 13 or 15 (d) of the Securities Exchange Act of 1934, as amended, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
Dated: March 26, 2012.
ATLANTIC BROADBAND FINANCE, LLC
By: /s/ David J. Keefe
David Keefe
CHIEF EXECUTIVE OFICER
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities indicated on March 26, 2012
SIGNATURE
CAPACITY
/s/ David J. Keefe
Chief Executive Officer and Director (Principal Executive Officer)
David J. Keefe
/s/ Patrick Bratton
Chief Financial Officer (Principal Financial and Accounting Officer)
Patrick Bratton
/s/ Edward T. Holleran
Chief Operating Officer and Director
Edward T. Holleran
/s/ Jay M. Grossman
Director
Jay M. Grossman
/s/ Benjamin Diesbach
Director
Benjamin Diesbach
/s/ Blake Battaglia
Director
Blake Battaglia
/s/ John Hunt
Director
John Hunt
/s/ Jack Langer
Director
Jack Langer
INDEX TO FINANCIAL STATEMENTS
Report of Independent Registered Public Accounting Firm
To the Board of Directors and Members of
Atlantic Broadband Finance, LLC:
In our opinion, the accompanying consolidated balance sheets and the related consolidated statements of operations, of changes in member’s equity and of cash flows present fairly, in all material respects, the financial position of Atlantic Broadband Finance, LLC and its subsidiaries at December 31, 2011 and 2010, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2011 in conformity with accounting principles generally accepted in the United States of America. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits of these statements in accordance with standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
/s/ PricewaterhouseCoopers LLP
Boston, Massachusetts
March 26, 2012
ATLANTIC BROADBAND FINANCE, LLC
Consolidated Balance Sheets
December 31, 2011 and 2010
(in thousands)
The accompanying notes are an integral part of these consolidated financial statements.
ATLANTIC BROADBAND FINANCE, LLC
Consolidated Statements of Operations
(in thousands)
The accompanying notes are an integral part of these consolidated financial statements.
ATLANTIC BROADBAND FINANCE, LLC
Consolidated Statements of Changes in Members’ Equity
Years Ended December 31, 2011, 2010 and 2009
(in thousands)
The accompanying notes are an integral part of these consolidated financial statements.
ATLANTIC BROADBAND FINANCE, LLC
Consolidated Statements of Cash Flows
(in thousands)
The accompanying notes are an integral part of these consolidated financial statements.
ATLANTIC BROADBAND FINANCE, LLC
Notes to Consolidated Financial Statements
(Dollars in thousands, except where indicated)
1. Description of Business
Atlantic Broadband Finance, LLC (the “Company”) was formed in Delaware on August 26, 2003. The Company is a wholly-owned subsidiary of Atlantic Broadband Holdings I, LLC (the “Parent”). The Company and the Parent are wholly-owned indirect subsidiaries of Atlantic Broadband Group, LLC.
On September 3, 2003, the Company entered into a definitive asset purchase agreement with affiliates of Charter Communications, Inc. (“Charter”) to purchase certain cable systems in Pennsylvania, Florida, Maryland, West Virginia, Delaware and New York (the “Systems”) for approximately $738.1 million, subject to closing adjustments. The Company obtained equity and debt financing to fund the acquisition, which was consummated on March 1, 2004.
On July 13, 2006, we entered into a definitive asset purchase agreement to purchase substantially all of the assets of G Force LLC, owner of certain cable systems in Aiken, South Carolina for approximately $62.0 million. We obtained additional debt financing and issued a note payable to the seller of the assets to fund this transaction which was consummated on November 1, 2006.
The Systems offer their customers traditional cable video programming as well as high-speed data and telephony services and other advanced video related broadband services such as high definition television. The Systems sell their video programming, high-speed data and advanced broadband cable services on a subscription basis.
The Company was capitalized during 2003 through equity contributions totaling $1,709 to fund general and administrative expenses in advance of the Systems acquisition. These activities were mainly associated with obtaining the required consents from the related cable television franchise authorities and raising debt and equity to fund the Systems acquisition. In 2004, the Company obtained additional funding totaling $260,791.
The Company has 5 subsidiaries which operate the Systems: Atlantic Broadband (Penn), LLC, Atlantic Broadband (Delmar), LLC, Atlantic Broadband (Miami), LLC, Atlantic Broadband (SC), LLC and Atlantic Broadband Management, LLC (collectively, the “Subsidiaries”).
2. Risks and Uncertainties
The Company’s future operations involve a number of risks and uncertainties. Factors that could affect future operating results and cause actual results to vary from historical results include, but are not limited to, growth of its subscriber base and the Company’s ability to service its debt and operations with existing cash flows.
The Company plans to continue the expansion of its existing subscriber base through existing and new services, such as: digital cable, high speed Internet, high-definition television, and telephony services. The Company anticipates additional capital expenditures to facilitate this growth. Under current plans and operations, additional financing in excess of existing facilities is not expected to be required to fund operations or capital expenditures. Operating cash flow is expected to be sufficient to repay current obligations and outstanding debt as they become due through at least the next twelve months. Should the Company fail to meet its expectations, the Company would look to draw down against it’s existing revolving credit facility, obtain additional financing, refinance existing agreements, and/or reduce capital expenditures.
3. Summary of Significant Accounting Policies
Basis of Presentation
The financial statements presented herein include the consolidated accounts of Atlantic Broadband Finance, LLC and its Subsidiaries. Intercompany accounts and transactions have been eliminated in consolidation.
Use of Estimates
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make assumptions and estimates that affect the reported amounts of assets and liabilities, derivative financial instruments and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. The most significant estimates relate to useful lives of property, plant and equipment and finite-lived intangible assets and the recoverability of the carrying values of goodwill, other intangible assets and fixed assets (which include capitalized labor and overhead costs) and commitments and contingencies. Actual results could differ from those estimates.
Segments
The Financial Accounting Standards Board (“FASB”) established authoritative guidance for reporting information about operating segments in annual financial statements and in interim financial reports issued to shareholders. Operating segments are defined as components of an enterprise about which separate financial information is available that is evaluated on a regular basis by the chief operating decision maker, or decision making group, in deciding how to allocate resources to an individual segment and in assessing performance of the segment.
The Company manages the Systems’ operations on the basis of geographic divisional operating segments. The Company has evaluated the criteria for aggregation of the geographic operating segments using the FASB guidance. In light of the Systems’ similar services, means for delivery, similarity in type of customers, the use of a unified network, similar economic characteristics and other considerations across its geographic divisional operating structure, management has determined that the Systems have one reportable segment, broadband services.
Cash and Cash Equivalents
The Company considers all short-term investments with a remaining maturity of three months or less at the date of purchase to be cash equivalents. Cash and cash equivalents represent short-term investments consisting of commercial paper carried at cost plus accrued interest, which approximates market value.
Bad Debts
Bad debt expense and the allowance for doubtful accounts is based on historical trends and analysis. The Company’s policy to reserve against potential bad debts is based on the aging of the individual receivables. The Company manages credit risk by disconnecting services to customers who are delinquent. The practice to write-off the individual receivables is performed after all resources to collect the funds have been exhausted. Actual bad debt expense may differ from the amounts reserved.
Plant, Property and Equipment
Plant, property and equipment are recorded at cost. Initial customer installation costs are capitalized. Sales and marketing costs, as well as costs of subsequent disconnection and reconnection of a given household are charged to expense. Capitalized costs include materials, labor, and certain indirect costs attributable to the capitalization activity. Maintenance and repairs are charged to expense when incurred. Upon sale or retirement, the cost and related depreciation are removed from the related accounts and resulting gains or losses are reflected in operating results.
Plant and equipment are depreciated over the estimated useful life upon being placed into service. Depreciation of plant and equipment is provided on a straight-line basis, over the following estimated useful lives:
Goodwill and Intangible Assets
Intangible assets consist primarily of acquired franchise operating rights and subscriber relationships. Franchise operating rights represent the value attributable to agreements with local franchising authorities, which allows access to homes in the public right of way acquired through a business combination. Subscriber relationships represent the value to the Company of the benefit of acquiring the existing cable television subscriber base. The Company considers franchise operating rights to have an indefinite life. The Company reached its conclusion regarding the indefinite useful life of its
franchise operating rights principally because (i) there are no legal, regulatory, contractual, competitive, economic, or other factors limiting the period over which these rights will continue to contribute to the Company’s cash flows (ii) as an incumbent franchisee, the Company’s renewal applications are granted by the local franchising authority on their own merits and not as part of a comparative process with competing applications and (iii) under the 1984 Cable Act, a local franchising authority may not unreasonably withhold the renewal of a cable system franchise. The Company will reevaluate the expected life of its cable franchise rights each reporting period to determine whether events and circumstances continue to support an indefinite useful life. The subscriber relationships are being amortized over the estimated useful life of the subscriber base. The useful lives for the subscriber relationships is estimated to be approximately three years and at the end of each reporting period, or earlier if circumstances warrant, the Company reassesses the estimated useful life of the relationships.
Goodwill impairment is determined using a two-step process. The first step involves a comparison of the estimated fair value of each of the Company’s four reporting units to its carrying amount, including goodwill. In performing the first step, the Company determines the fair value of a reporting unit using a combination of a discounted cash flow (“DCF”) analysis and a market-based approach. Determining fair value requires the exercise of significant judgment, including judgment about appropriate discount rates, perpetual growth rates, the amount and timing of expected future cash flows, as well as relevant comparable company earnings multiples for the market-based approach. The cash flows employed in the DCF analyses are based on the Company’s most recent budget and, for years beyond the budget, the Company’s estimates, which are based on assumed growth rates. The discount rates used in the DCF analyses are intended to reflect the risks inherent in the future cash flows of the respective reporting units. In addition, the market-based approach utilizes comparable company public trading values, research analyst estimates and, where available, values observed in private market transactions. If the estimated fair value of a reporting unit exceeds its carrying amount, goodwill of the reporting unit is not impaired and the second step of the impairment test is not necessary. If the carrying amount of a reporting unit exceeds its estimated fair value, then the second step of the goodwill impairment test must be performed. The second step of the goodwill impairment test compares the implied fair value of the reporting unit’s goodwill with its carrying amount to measure the amount of impairment, if any. The implied fair value of goodwill is determined in the same manner as the amount of goodwill recognized in a business combination. In other words, the estimated fair value of the reporting unit is allocated to all of the assets and liabilities of that unit (including any unrecognized intangible assets) as if the reporting unit had been acquired in a business combination and the fair value of the reporting unit was the purchase price paid. If the carrying amount of the reporting unit’s goodwill exceeds the implied fair value of that goodwill, an impairment is recognized in an amount equal to that excess.
The impairment test for other intangible assets not subject to amortization involves a comparison of the estimated fair value of the intangible asset with its carrying value. If the carrying value of the intangible asset exceeds its fair value, an impairment loss is recognized in an amount equal to that excess. The estimates of fair value of intangible assets not subject to amortization are determined using a DCF valuation analysis. The DCF methodology used to value cable franchise rights entails identifying the projected discrete cash flows related to such cable franchise rights and discounting them back to the valuation date. Significant judgments inherent in this analysis include the selection of appropriate discount rates, estimating the amount and timing of estimated future cash flows attributable to cable franchise rights and identification of appropriate terminal growth rate assumptions. The discount rates used in the DCF analyses are intended to reflect the risk inherent in the projected future cash flows generated by the respective intangible assets.
The Company tests for impairment of its goodwill and franchise operating rights annually or whenever events or changes in circumstances indicate that these assets might be impaired. An impairment assessment of goodwill and franchise operating rights could be triggered by a significant reduction in operating results or cash flows at one or more of the Company’s systems, or a forecast of such reductions, a significant adverse change in the locations in which the Company’s systems operate, or by adverse changes to ownership rules, among others. The Company determined that the adverse business climate experienced during the end of the fiscal year ended December 31, 2008 was a significant event that indicated that the carrying amount of the goodwill and cable franchise rights might not be recoverable. An interim impairment test as of December 31, 2008 did not result in any goodwill impairments, but did result in a noncash pretax impairment on its cable franchise rights of $23.4 million. The Company completed its annual impairment evaluation on March 1, 2011 and did not identify any impairment. No significant revisions to the underlying operating results or forecasts, which would impact these annual impairment results, were noted as of December 31, 2011.
As a result of the cable franchise rights impairment taken in 2008, the carrying values of the Company’s impaired cable franchise rights (which represented two of the Company’s four operating systems) were re-set to their estimated fair values as of December 31, 2008. Consequently, any further decline in the estimated fair values of these cable franchise rights could result in additional cable franchise rights impairments. Management has no reason to believe that any one reporting unit is more likely than any other to incur further impairments of its cable franchise rights. It is possible that such impairments, if required, could be material and may need to be recorded during the first quarter of 2012 (i.e., during an interim period) if the Company’s results of operations or other factors require such assets to be tested for impairment at an interim date.
Realizability of Long-Lived Assets
The carrying values of long-lived assets, which include construction material, property, plant and equipment, and other intangible assets with finite lives, are evaluated for impairment whenever events or changes in circumstances indicate the carrying amount may not be recoverable. An impairment loss is recognized if the carrying amount exceeds its fair value. The carrying amount is not recoverable if it exceeds the sum of undiscounted cash flows expected to result from the use and eventual disposition of the assets. Any impairment loss would be measured as the amount by which the carrying amount exceeded the fair value, most likely determined by future discounted cash flows. Management believes that there have been no impairments as of December 31, 2011.
Debt Issuance Costs
Certain costs associated with issuance of the Company’s debt have been capitalized. These debt issuance costs are amortized over the life of the Credit Facility using the effective interest method. Amortization expense related to debt issuance costs charged to interest expense in 2011, 2010 and 2009 was $2,860, $2,573 and $2,418, respectively.
Deferred Credits
Deferred credits consist primarily of deferred launch incentives. The Company receives launch incentive payments from programmers. These incentive payments are deferred and recognized over the life of the related programming agreements as an offset to programming costs in direct expenses. Through December 31, 2011, these amounts have not been material.
Revenue Recognition
Revenues are generally recognized when evidence of an arrangement exists, services are rendered, the selling price is determinable and collectability is reasonably assured. Revenues from video, Internet access and telephony services are recognized based upon monthly service fees or fees per event. Revenue for customer fees, equipment rental, advertising and pay-per-view programming is recognized in the period that the services are delivered. Video and non-video installation revenue is recognized in the period the installation services are provided to the extent of direct selling costs. Direct selling costs have exceeded installation revenue for the years ended December 31, 2011, 2010 and 2009, requiring no deferral of such revenue. Any programming incentive revenue received is deferred and recognized over the life of the underlying contract. Under the terms of the Company’s non-exclusive franchise agreements, the Company is generally required to pay up to 5% of its gross revenues derived from providing cable service to the local franchise authority. The Company normally passes these fees through to its cable subscribers and records these fees in revenue with a corresponding amount included in direct expenses.
Marketing Costs
The cost of marketing, advertising, and selling is expensed as incurred and is included in sales, general and administrative expenses. Marketing, advertising, and selling expense in 2011, 2010 and 2009 was $11,183, $11,497 and $12,596, respectively.
Income Taxes
The Company is a limited liability corporation that is treated as a disregarded entity for income tax purposes. The taxable income and expenses of Atlantic Broadband Finance, LLC are ultimately reported on the partnership return of Atlantic Broadband Holdings II, LLC which is a partnership for income tax purposes. No provision for federal income taxes is required by Atlantic Broadband Finance, LLC as its income and expenses are taxable to or deductible by the members of Atlantic Broadband Holdings II, LLC.
Derivative Financial Instruments
The Company uses derivative financial instruments to manage its exposure to fluctuations in interest rates by entering into interest rate exchange agreements (“Swaps”). The accounting standard requires that all derivative instruments, whether designated in hedging relationships or not, be recorded on the balance sheet at their fair values. At December 31, 2008, derivative instruments consist solely of Swaps which are used to reduce the Company’s exposure to interest rate fluctuations
on its variable rate debt (see Note 9). At December 31, 2008, the Swaps were recorded at fair value as a liability of $1,821. These agreements ended in March 2009, resulting in no assets or liabilities recorded at December 31, 2011 or 2010. In February 2011, the Company entered into five interest rate cap agreements (see Note 15).
The interest rate swap agreements are not designated as hedging instruments, accordingly, changes in fair values are recognized currently in earnings. The Company recorded a gain of $1,821 for the year ended December 31, 2009.
Concentrations of Risk
Certain financial instruments potentially subject the Company to concentrations of credit risk. These financial instruments consist primarily of trade receivables and cash and cash equivalents. The Company places its cash and cash equivalents with high credit quality financial institutions and limits the amount of credit exposure to any one financial institution. The Company periodically assesses the creditworthiness of the institutions with which it invests. The Company does, however, maintain invested balances in excess of federally insured limits. The Company periodically assesses the creditworthiness of its customers. Concentrations of credit risk are limited as no single customer accounts for a significant portion of the balance.
Capitalization of Labor and Overhead Costs
The cable industry is capital intensive, and a large portion of our resources are spent on capital activities associated with extending, building and upgrading the cable network. Costs associated with network construction, initial customer installations, installation refurbishments and the addition of network equipment necessary to enable advanced services are capitalized. Costs capitalized as part of initial customer installations include materials, direct labor costs associated with capital projects and certain indirect costs. The Company capitalizes direct labor costs associated with personnel based upon the specific time devoted to construction and customer installation activities. Indirect costs are associated with the activities of personnel who assist in connecting and activating the new service and consist of compensation and overhead costs associated with these support functions. The costs of disconnecting service at a customer’s dwelling or reconnecting service to a previously installed dwelling are charged to operating expense in the period incurred. Costs for repairs and maintenance are charged to operating expense as incurred, while equipment replacement and betterments, including replacement of cable drops from the pole to dwelling, are capitalized.
We amortize the capitalized labor and overhead costs over the life of the related equipment which ranges from 4-15 years. The vast majority of these capitalized costs relate to customer installation activity and related equipment additions. Accordingly, such assets are amortized over the same five year period as the fixed assets acquired as part of the installation.
Judgment is required to determine the extent to which indirect costs, or overhead, are incurred as a result of specific capital activities and, therefore, should be capitalized. The Company capitalizes overhead based upon an allocation of the portion of indirect costs that contribute to capitalizable activities using an overhead rate applied to the amount of direct labor capitalized. The Company has established overhead rates based on an analysis of the nature of costs incurred in support of capitalizable activities and a determination of the portion of costs which is directly attributable to capitalizable activities. The primary costs that are included in the determination of overhead rates are (i) employee benefits and payroll taxes associated with capitalized direct labor, (ii) direct variable costs associated with capitalizable activities, consisting primarily of installation and construction vehicle costs, (iii) the cost of support personnel, such as dispatch that directly assist with capitalizable installation activities, and (iv) other costs directly attributable to capitalizable activities.
Recently Issued Accounting Standards
In May 2011, the Financial Accounting Standards Board (“FASB”) FASB issued amended guidance on fair value measurement and related disclosures. The new guidance clarifies the concepts applicable for fair value measurement of non-financial assets and requires the disclosure of quantitative information about the unobservable inputs used in a fair value measurement. This guidance will be effective for reporting periods beginning after December 15, 2011, and will be applied prospectively. The Company does not anticipate a material impact on its consolidated financial statements as a result of the adoption of this amended guidance.
In September 2011, the FASB issued updated guidance on the periodic testing of goodwill for impairment. The updated guidance gives companies the option to perform a qualitative assessment to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying amount. The amendment is intended to reduce the cost and complexity of the annual goodwill impairment test by providing entities an option to perform a qualitative assessment to determine whether further impairment testing is necessary. The updated accounting guidance is effective for fiscal years beginning after December 15, 2011, with early adoption permitted. The Company does not anticipate that its adoption of this guidance will have a material impact on its consolidated results.
4. Acquisitions
During 2009, the Company made one small acquisition of a dial-up internet provider for a total purchase price, excluding liabilities assumed, of $1,626, consisting mainly of subscriber relationships.
5. Plant, Property and Equipment
Plant, property and equipment consist of the following:
Depreciation expense for the years ended December 31, 2011, 2010 and 2009 was $43,680, $42,010 and $41,501, respectively.
6. Goodwill and Intangible Assets
The carrying value of goodwill at December 31, 2011 and 2010 was $35,905. For the fiscal years ended December 31, 2011 and 2010, there were no historical impairments and no additional goodwill recognized.
The carrying value of franchise rights at December 31, 2011 and 2010 was $524,400. For the fiscal years ended December 31, 2011 and 2010, there was no additional franchise rights recognized. There was no impairment charge on the franchise rights for the years ended December 31, 2011, 2010 and 2009.
Intangible assets consist of the following as of December 31, 2011:
Intangible assets consist of the following as of December 31, 2010:
Amortization expense for the years ended December 31, 2011, 2010 and 2009 was $614, $614 and $283, respectively. Amortization expense on intangible assets with a definite life for the next five years as of December 31, 2011 is as follows:
7. Accrued Expenses
Accrued expenses consist of the following:
8. Fair Value Measurements
On January 1, 2008, the Company adopted a newly issued authoritative guidance for fair value measurements of all financial assets and liabilities. Our adoption of this guidance did not impact our financial position, results of operations or liquidity. In accordance with the guidance, we elected to defer until January 1, 2009 the application of the authoritative guidance to fair value nonfinancial assets and liabilities that are not recognized or disclosed at fair value in the financial statements on a recurring basis. The adoption of this guidance for nonfinancial assets and liabilities did not have a material impact on our financial position, results of operations or liquidity.
The accounting standard for fair value measurement provides a framework for measuring fair value and requires expanded disclosures regarding fair value measurements. Fair value is defined as the price that would be received for an asset or the exit price that would be paid to transfer a liability in the principal or most advantageous market in an orderly transaction between market participants on the measurement date. The guidance also establishes a fair value hierarchy which requires an entity to maximize the use of observable inputs, where available. The following summarizes the three levels of inputs required by the standard that we use to measure fair value, as well as the assets and liabilities that we value using those levels of inputs.
Level 1:
Quoted prices in active markets for identical assets or liabilities.
Level 2:
Observable inputs other than Level 1 prices, such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the related assets or liabilities. In the past, our Level 2 assets have included interest rate swaps whose fair value we determine using a pricing model predicated upon observable market inputs. The Company’s derivative instruments have been pay-fixed, receive-variable interest rate swaps based on LIBOR swap rate. The LIBOR swap rate is observable at commonly quoted intervals for the full term of the swaps and therefore is considered a level 2 item.
Level 3:
Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities.
In September 2006, the Company entered into four swap agreements with a forward start date of March 19, 2007 for a total notional value of $225,000 with a term of two years at a fixed rate of 5.08%. These agreements ended in March 2009. Therefore, there are no financial assets or liabilities as of December 31, 2011 and 2010 that we measured at fair value on a recurring basis.
9. Debt
On February 10, 2004, the Company entered into $305.0 million of term loans (the “Old Term Loans”) and a $90.0 million revolving credit facility (the “Old Revolver”) with a group of banks and institutional investors led by Merrill Lynch & Company, General Electric Capital Corporation, Societe Generale and Calyon Corporate and Investment Bank. These two facilities are governed by a single credit agreement dated as of February 10, 2004 (collectively, the “Old Senior Credit Facility”).
The net proceeds from the Old Senior Credit Facility were primarily used to acquire and operate the Systems.
On August 23, 2006, the Company amended its Old Senior Credit Facility to increase the Old Term Loan commitment by $50.0 million in anticipation of the pending acquisition of G Force LLC. The acquisition closed and the additional borrowings occurred on November 1, 2006. The additional borrowings were made under the same conditions as the original Old Term Loans.
On March 6, 2007, the Company amended its Old Senior Credit Facility and increased the Old Term Loan commitment and borrowings by $104.5 million. The proceeds of the additional Old Term Loans were used to provide a dividend to its members of $77.6 million and to reduce outstanding Old Revolver borrowings by $23.0 million. The balance of the proceeds were used for working capital purposes. The additional borrowings were made under substantially the same conditions as the original Old Term Loans.
On June 8, 2009, the Company amended its Old Senior Credit Facility to extend the maturity date of $325.0 million in Old Term Loan principal from September 2011 to June 2013. The remaining outstanding Old Term Loan debt of $118.8 million remained unchanged and matured in September 2011. As a result of the modification to the Old Senior Credit Facility, the Company incurred $5.9 million of debt financing costs, $4.6 million of which was expensed as a loss on extinguishment of debt and the remaining $1.3 million is being amortized to interest expense over the remaining life of the Old Senior Credit Facility.
On November 29, 2010. the Company entered into a new $575.0 million term loan facility (the “New Term Loan Facility”) and a $25.0 million revolving credit facility (the “New Revolver Facility” and, together with the New Term Loan Facility, collectively the “New Senior Credit Facility”) with a group of banks and institutional investors led by Credit Suisse Securities (USA) LLC and SunTrust Robinson Humphrey, Inc. The New Senior Credit Facility is governed by a single credit agreement dated November 29, 2010. The proceeds of the New Term Loan Facility were used (a) to repay in full all indebtedness and other amounts due or outstanding under the Old Senior Credit Facility, (b) to consummate a cash dividend payment of approximately $110.7 million to the shareholders of Atlantic Broadband Holdings I, LLC and (c) to pay approximately $39.3 million in aggregate amount to Atlantic Broadband Holdings I, LLC to facilitate the redemption of certain of its preferred stock. As a result of the issuance of the New Senior Credit Facility, the Company incurred $5.4 million of debt financing costs, $1.2 million of which was expensed as a loss on extinguishment of debt and the remaining $4.2 million is being amortized to interest expense over the remaining life of the Old Senior Credit Facility.
On March 8, 2011, the Company amended its New Senior Credit Facility to reduce the interest rate margins by 0.5% and the “LIBOR Floor” by 0.5%. In addition, the maturity dates for the New Term Loan and New Revolver were reset to the fifth and fourth anniversary dates from the March 8, 2011 amendment date in each case subject to an earlier maturity in the event that the Company’s 9.375% senior subordinated notes due 2014 remain outstanding on or prior to September 17, 2013. The Company expensed all costs incurred with the amendment.
The New Senior Credit Facility contains certain restrictive financial covenants that, among other things, require the Company to maintain certain debt service coverage, interest coverage, fixed charge coverage, leverage ratios and a certain level of EBITDA and places certain limitations on additional debt and investments. The New Senior Credit Facility contains conditions precedent to borrowing, events of default (including change of control) and covenants customary for facilities of this nature. The New Senior Credit Facility is collateralized by substantially all of the assets of the Company and its subsidiaries.
At December 31, 2011, there was $485,838 outstanding under the New Term Loans and no borrowings under the New Revolver. At December 31, 2010, there was $555,000 outstanding under the Old Term Loans and no borrowings under the Old Revolver. The carrying value of the New Senior Credit Facilities at December 31, 2011 and 2010 approximates fair value. The New Term Loans have quarterly principal payments of 1.0% per annum with a LIBOR margin of 3.00% and a “LIBOR floor” of 1.0%. The weighted average interest rate for 2011, 2010 and 2009 on the New and Old Term Notes and Revolver was 4.25%, 5.68% and 4.82%, respectively.
As of December 31, 2011, there was approximately $25,000 of unused commitments under the New Revolver all of which could be drawn in compliance with the financial covenants under the New Senior Credit Facility. In order to maintain the revolving lines of credit, the Company is obligated to pay certain commitment fees at nominal interest rates on the unused portions of the loans.
The Company can make no assurances that it will be able to satisfy and comply with the covenants under the New Senior Credit Facility. The Company’s ability to maintain its liquidity and maintain compliance with its covenants under the New Senior Credit Facility is dependent upon its ability to successfully execute its current business plan. The Company believes that the cash generated from operations will be sufficient to meet its debt service, capital expenditures and working capital requirements for at least the next twelve months.
Term loan installments began on June 30, 2011. The New Term Loan Facility has a five-year maturity and the New Revolver Facility has a four-year maturity, in each case subject to an earlier maturity in the event that the Company’s 9.375% senior subordinated notes due 2014 remain outstanding on or prior to September 17, 2013. Principal payments under the New Senior Credit Facility for each year ending December 31, 2011 through maturity are as follows:
Senior Subordinated Notes
On February 10, 2004, the Company and Atlantic Broadband Finance, Inc., a 100% owned finance subsidiary of the Company, co-issued $150,000 of 9 3/8% senior subordinated notes (the “Notes”). The Notes mature on January 15, 2014. Interest is payable every six months in arrears on January 15 and July 15. The Notes are guaranteed by each of the Company’s existing and future domestic subsidiaries on a senior subordinated basis to the Senior Credit Facility. The guarantees are full and unconditional and joint and several. Each of the subsidiary guarantors are 100% owned by the Company and the Company has no independent assets or operations other than those of its Subsidiaries. The proceeds of the offering were used to finance the acquisition of the Systems. The carrying value of the Notes at December 31, 2011 and 2010 approximates fair value.
Debt Issuance Costs
In 2004, the Company capitalized $15,019 of debt issuance costs related to the Old Senior Credit Facility and the Notes. In 2006 the Company capitalized $1,200 of debt issuance costs related to the increased borrowings under the Old Senior Credit Facility to fund the acquisition of the G Force LLC assets. In 2007 the Company capitalized $917 of debt issuance costs related to the amendment to the Old Senior Credit Facility and increased Term Loan commitment. In 2009, the Company paid $5,965 of debt issuance costs related to the amendment to the Old Senior Credit Facility and extended revolver commitment. In 2010, the Company paid $5,355 of debt issuance costs related to the New Senior Credit Facility. Debt issuance costs are amortized using the effective interest method over the term of the Senior Credit Facility.
Interest Rate Swap Agreements
The Company is exposed to the market risk of adverse changes in interest rates. To manage the volatility related to these changes, in September 2006 the Company entered into four swap agreements with a forward start date of March 19, 2007 for
a total notional value of $225,000 with a term of two years and a rate of 5.08%. These agreements ended in March 2009. The marking-to-market of the interest rate swap agreements resulted in the recognition of $1,821 in other income for the year ended December 31, 2009.
Interest Rate Cap Agreements
In February 2011, the Company entered into four interest rate cap contracts for a total notional value of $180.0 million with a 2 year term and a rate of 5.0% and one interest rate cap contract for a notional value of $25.0 million with a 1 year term and a rate of 5.0%.
Debt Covenants
The New and Old Senior Credit Agreements and the Notes described above contain covenants which require the Company to comply with certain financial ratios, capital expenditures and other limits. The Company was in compliance with all such covenants at December 31, 2011, 2010 and 2009.
10. Member’s Equity
The Parent owns all 1,000 units issued by the Company. The Parent contributed $1,709 in 2003 to effect its formation. In 2004, the Parent contributed $260.8 million which the Company used to acquire the Systems. The Company provided dividends totaling $87.7 million during 2007, $10.1 million during 2008, $15.3 million during 2009, $165.4 million during 2010 and $0.4 million during 2011.
11. Management Services Agreement
On September 14, 2009, a majority investor of the Company acquired a majority interest in Grande Communications Networks, LLC (“Grande”), a retail and wholesale provider of cable video programming, high speed data, telephony and other advanced broadband services. Concurrent with this acquisition, the Company entered into a Management Services Agreement (the “Agreement”) with Grande and Grande Manager LLC to provide management and other services to Grande. Under the terms of the Agreement, designated personnel of the Company will provide general managerial oversight and such management services as mutually agreed upon by and between the Company and Grande with respect to the business and operations of Grande, subject to the authority of Grande’s board of directors. In consideration for the Company providing such services, Grande agreed to pay to the Company on a quarterly basis a fee equal to the lesser of 50% of the quarterly expenses associated with the designated Company personnel providing managerial services to Grande, or 5.5% of Grande’s total quarterly revenue less certain expenses as further described in the Agreement (the “Management Fee”). The Management Fee contemplates the recovery of costs to provide managerial services and may not be indicative of the service fee charged by an independent party. The Agreement commenced upon execution and will terminate upon certain events specified within the Agreement, or as mutually agreed upon by the Company and Grande. Any Management Fee earned by the Company will reduce the related selling, general and administrative expense during the period recognized. $1,783 and $1,705 in Management Fees were recorded during the years ended December 31, 2011 and 2010, respectively. Additionally, the Company had a receivable from Grande of $566, $593 and $556 as of December 31, 2011, 2010 and 2009, respectively.
12. Employee Benefits
401(k) Savings Plan
During 2004, the Company adopted a defined contribution retirement plan which complies with Section 401(k) of the Internal Revenue Code. Substantially all employees are eligible to participate in the plan. The Company matches 50% of each participant’s voluntary contributions subject to a limit of the first 5% of the participant’s compensation. During 2011, 2010 and 2009, the Company recorded $486, $493 and $415, respectively, of expense related to the 401(k) plan.
13. Commitments and contingencies
The Company currently leases office and warehouse space and equipment under both cancelable and non-cancelable operating leases. Rental expense under operating lease agreements for the years 2011, 2010 and 2009 was $841, $840 and $793, respectively.
Future minimum lease commitments under non-cancelable leases and service agreements as of December 31, 2011 are as follows:
In the normal course of business, there are various legal proceedings outstanding. In the opinion of management, these proceedings will not have a material adverse effect on the financial position or results of operations or liquidity of the Company.
14. Valuation and Qualifying Accounts
Allowance for doubtful accounts roll forward: