UNITED STATES SECURITIES AND EXCHANGE COMMISSION



WASHINGTON, D.C.  20549



FORM 10-Q

(Mark One)

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



For the quarterly period ended September 30 , 2016



or



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



For the transition period from _________to__________



Commission file number:  001-11001



FRONTIER COMMUNICATIONS CORPORATION

(Exact name of registrant as specified in its charter)




Delaware		06-0619596
(State or other jurisdiction of		(I.R.S. Employer Identification No.)
incorporation or organization)

401 Merritt 7
Norwalk , Connecticut		06851
(Address of principal executive offices)		(Zip Code)




(203) 614-5600

(Registrant's telephone number, including area code)



N/A

(Former name, former address and former fiscal year, if changed since last report)



Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.



Yes  X       No ___



Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web   site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).



Yes  X       No ___



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



Large accelerated filer ☒            Accelerated filer ☐            Non-accelerated filer ☐          Smaller reporting company  ☐



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



Yes           No X   



The number of shares outstanding of the registrant’s Common Stock as of   October 28 ,   201 6   was 1 ,173,027 ,000 .

---

 











FRONTIER COMMUNICATIONS CORPORATION AND SUBSIDIARIES



Index











 

---

 





PART I.  FINANCIAL INFORMATION



Item 1. Financial Statements



FRONTIER COMMUNICATIONS CORPORATION AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

($ in millions and shares in thousands, except for per-share amounts )





		(Unaudited)
		September 30, 2016			December 31, 2015
ASSETS
Current assets:
Cash and cash equivalents		$	331		$	936
Accounts receivable, less allowances of $111 and $57 , respectively			1,004			571
Restricted cash			-			8,444
Prepaid expenses			109			100
Income taxes and other current assets			200			80
Total current assets			1,644			10,131

Property, plant and equipment, net			14,899			8,493
Goodwill			9,507			7,166
Other intangibles, net			2,872			1,143
Other assets			123			151
Total assets		$	29,045		$	27,084

LIABILITIES AND EQUITY
Current liabilities:
Long-term debt due within one year		$	509		$	384
Accounts payable			700			467
Advanced billings			312			160
Accrued other taxes			158			87
Accrued interest			240			403
Pension and other postretirement benefits			29			33
Other current liabilities			458			359
Total current liabilities			2,406			1,893

Deferred income taxes			2,552			2,666
Pension and other postretirement benefits			1,570			1,163
Other liabilities			326			240
Long-term debt			17,434			15,508

Equity:
Preferred stock, $0.01 par value ( 50,000 authorized shares,
11.125% , Series A, 19,250 shares issued and outstanding)			-			-
Common stock, $0.25 par value ( 1,750,000 authorized shares,
1,192,986 issued and 1,173,108 and 1,168,200 outstanding,
at September 30, 2016 and December 31, 2015, respectively)			298			298
Additional paid-in capital			5,456			6,034
Retained deficit			(380)			(87)
Accumulated other comprehensive loss, net of tax			(403)			(353)
Treasury stock			(214)			(278)
Total equity			4,757			5,614
Total liabilities and equity		$	29,045		$	27,084


The accompanying Notes are an integral part of these Consolidated Financial Statements.

2

 

---

 

 

 



PART I.  FINANCIAL INFORMATION (Continued)



FRONTIER COMMUNICATIONS CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS

FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2016 AND 2015

($ in millions and shares in thousands , except for per-share amounts)

(Unaudited)







		For the three months ended						For the nine months ended
		September 30,						September 30,

		2016			2015			2016			2015

Revenue		$	2,524		$	1,424		$	6,487		$	4,163
						-
Operating expenses:
Network access expenses			440			159			1,053			475
Network related expenses			527			331			1,399			969
Selling, general and administrative expenses			593			344			1,546			1,005
Depreciation and amortization			578			325			1,469			1,001
Acquisition and integration costs			122			58			387			150
Total operating expenses			2,260			1,217			5,854			3,600
						-
Operating income			264			207			633			563
						-
Investment and other income (loss), net			(4)			1			7			3
Interest expense			386			246			1,145			751
						-
Loss before income taxes			(126)			(38)			(505)			(185)
Income tax benefit			(46)			(24)			(212)			(92)
						-
Net Loss			(80)			(14)			(293)			(93)
Less: Dividends on preferred stock			54			67			161			67
Net loss attributable to
Frontier common shareholders		$	(134)		$	(81)		$	(454)		$	(160)
						0
Basic and diluted net loss per share
attributable to Frontier common shareholders		$	(0.12)		$	(0.07)		$	(0.39)		$	(0.15)

Total weighted average shares outstanding - basic and diluted			1,164,172			1,161,207			1,164,112			1,061,644












CONSOLIDATED STATEMENT S OF COMPREHENSIVE LOSS

FOR THE THREE AND NINE   MONTHS ENDED S E PTEMBER 30, 2016 AND 2015

($ in millions )

(Unaudited)







		For the three months ended						For the nine months ended
		September 30,						September 30,

		2016			2015			2016			2015

Net Loss		$	(80)		$	(14)		$	(293)		$	(93)
Other comprehensive income (loss), net of tax			(61)			5			(50)			13
						-
Comprehensive Loss		$	(141)		$	(9)		$	(343)		$	(80)





The accompanying Notes are an integral part of these Consolidated Financial Statements.

3

 

---

 

 

 



PART I.  FINANCIAL INFORMATION (Continued)



FRONTIER COMMUNICATIONS CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENT OF EQUITY

FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2016

($ in millions and shares in thousands)

(Unaudited)








																		Accumulated
												Additional						Other			Treasury
		Preferred Stock					Common Stock					Paid-In			Retained			Comprehensive			Common Stock					Total
		Shares		Amount			Shares		Amount			Capital			Deficit			Loss			Shares		Amount			Equity

Balance January 1, 2016		19,250		$	-		1,192,986		$	298		$	6,034		$	(87)		$	(353)		(24,786)		$	(278)		$	5,614
Stock plans		-			-		-			-			(47)			-			-		4,908			64			17
Dividends on common stock		-			-		-			-			(370)			-			-		-			-			(370)
Dividends on preferred stock		-			-		-			-			(161)			-			-		-			-			(161)
Net loss		-			-		-			-			-			(293)			-		-			-			(293)
Other comprehensive income, net
of tax		-			-		-			-			-			-			(50)		-			-			(50)
Balance September 30, 2016		19,250		$	-		1,192,986		$	298		$	5,456		$	(380)		$	(403)		(19,878)		$	(214)		$	4,757


































































The accompanying Notes are an integral part of these Consolidated Financial Statements.

4

 

---

 

 

 

PART I.  FINANCIAL INFORMATION (Continued)



FRONTIER COMMUNICATIONS CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2016 AND 2015

($ in millions )

(Unaudited)







		2016			2015

Cash flows provided from (used by) operating activities:
Net loss		$	(293)		$	(93)
Adjustments to reconcile net loss to net cash provided from (used by)
operating activities:
Depreciation and amortization			1,469			1,001
Loss on debt exchanges			7			-
Pension/OPEB costs			59			(3)
Stock based compensation expense			21			19
Amortization of deferred financing costs			38			194
Deferred income taxes			(163)			(163)
Change in accounts receivable			(56)			59
Change in accounts payable and other liabilities			(118)			(46)
Change in prepaid expenses, income taxes and other current assets			(12)			(7)
Net cash provided from operating activities			952			961

Cash flows provided from (used by) investing activities:
Cash paid for the Verizon Acquisition			(9,886)			-
Capital expenditures - Business operations			(960)			(525)
Capital expenditures - Integration activities			(99)			(101)
Network expansion funded by Connect America Fund - Phase I			-			(22)
Cash transferred from/(to) escrow			8,444			(8,440)
Cash paid for an acquisition, net of cash acquired			-			(17)
Other			-			(2)
Net cash used by investing activities			(2,501)			(9,107)

Cash flows provided from (used by) financing activities:
Proceeds from long-term debt borrowings			1,625			6,603
Financing costs paid			(38)			(119)
Long-term debt payments			(113)			(274)
Proceeds from issuance of common stock, net			-			799
Proceeds from issuance of preferred stock, net			-			1,866
Dividends paid on common stock			(370)			(333)
Dividends paid on preferred stock			(161)			(67)
Other			1			-
Net cash provided from financing activities			944			8,475

Increase/(Decrease) in cash and cash equivalents			(605)			329
Cash and cash equivalents at January 1,			936			682

Cash and cash equivalents at September 30,		$	331		$	1,011

Supplemental cash flow information:
Cash paid (received) during the period for:
Interest		$	1,277		$	553
Income taxes (refunds), net		$	(35)		$	27



The accompanying Notes are an integral part of these Consolidated Financial Statements .

---

 



(1)   Summary of Significant Accounting Policies :

(a)   Basis of Presentation and Use of Estimates :

Frontier Communications Corporation and its subsidiaries are referred to as “we,” “us,” “our,” “Frontier,” or the “Company” in this report. Our interim unaudited consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (GAAP) and should be read in conjunction with the consolidated financial statements and notes included in our Annual Report on Form 10-K for the year ended December 31, 2015.   All significant intercompany balances and transactions have been eliminated in consolidation. These interim unaudited consolidated financial statements include all adjustments (consisting of normal recurring accruals) considered necessary, in the opinion of Frontier’s management, to present fairly the results for the interim periods shown. Revenues, net loss and cash flows for any interim periods are not necessarily indicative of results that may be expected for the full year. For our interim financial statements as of and for the period ended September 30, 2016, we evaluated subsequent events and transactions for potential recognition or disclosure through the date that we filed this Form 10-Q with the Securities and Exchange Commission (SEC). 



Effective April 1, 2016, Frontier’s scope of operations and balance sheet changed materially as a result of the completion of the Verizon Acquisition, as described in Note 3 – Acquisitions. Historical financial data presented for Frontier is not indicative of the future financial position or operating results for Frontier, and includes the results of the CTF Operations, as defined in Note 3 – Acquisitions, from the date of acquisition on April 1, 2016.



The preparation of our interim financial statements in conformity with GAAP requires management to make estimates and assumptions that affect (i) the reported amounts of assets and liabilities at the date of the financial statements, (ii) the disclosure of contingent assets and liabilities, and (iii) the reported amounts of revenue and expenses during the reporting period. Actual results may differ from those estimates. Estimates and judgments are used when accounting for the allowance for doubtful accounts, asset impairments, indefinite-lived intangibles, depreciation and amortization, income taxes, business combinations, and pension and other postretirement benefits, among others.



We operate in one reportable segment. Frontier provides both regulated and unregulated voice, data and video services to residential, business and wholesale customers and is typically the incumbent voice services provider in its service areas. We have utilized the aggregation criteria to combine our seven regional operating segments because all of these regional operations share similar characteristics, in that they provide the same products and services to similar customers using comparable technologies in all of the states in which we operate. The regulatory structure is generally similar. Differences in the regulatory regime of a particular state do not significantly impact the economic characteristics or operating results of a particular region.



(b)   Revenue Recognition :

Revenue is recognized when services are provided or when products are delivered to customers. Revenue that is billed in advance includes monthly recurring network access services (including data services), special access services and monthly recurring voice, video and related charges. The unearned portion of these fees is initially deferred as a component of “Advanced billings” on our consolidated balance sheet and recognized as revenue over the period that the services are provided. Revenue that is billed in arrears includes non-recurring network access services (including data services), switched access services and non-recurring voice and video services. The earned but unbilled portion of these fees is recognized as revenue in our consolidated statements of operations and accrued in “Accounts receivable” on our consolidated balance sheet in the period that the services are provided. Excise taxes are recognized as a liability when billed. Installation fees and their related direct and incremental costs are initially deferred and recognized as revenue and expense over the average term of a customer relationship. We recognize as current period expense the portion of installation costs that exceeds installation fee revenue.



We maintain an allowance for doubtful accounts based on an estimate of our ability to collect accounts receivables.  At September 30, 2016, our accounts receivable balances , including balances for delinquent accounts, were higher as a result of planned delays in collection efforts for new retail customers acquired in the Verizon Transaction. These delays are customary for us after large acquisitions in order to allow for resolution of any service or billing issues for new customers. Our bad debt expense for this group of customers was $20 million higher during the three months ended September 30, 2016 as compared to the three months ended June 30, 2016 .  Frontier believes that it is adequately reserved, although actual collections experience may differ materially from our estimates. 

---

 



Frontier collects various taxes from its customers and subsequently remits these taxes to governmental authorities. Substantially all of these taxes are recorded through the consolidated balance sheet and presented on a net basis in our consolidated statements of operations. We also collect Universal Service Fund (USF) surcharges from customers (primarily federal USF) that we have recorded on a gross basis in our consolidated statements of operations and included within “Revenue” and “Network related expenses” of $ 60 million and $3 8 million, and $ 161 million and $ 114 million for the three and nine months ended September 30, 2016 and 2015, respectively .



In 2015 we accepted the FCC’s Connect America Fund (CAF) Phase II offer of support, which is a successor to and augments the USF frozen high cost support that we had been receiving pursuant to a 2011 FCC order.  Upon completion of the Verizon Acquisition, Frontier assumed the CAF Phase II support and related obligations that Verizon had previously accepted with regard to California and Texas.  CAF Phase II funding is a program intended to subsidize the high cost of establishing and delivering communications services to certain unserved or underserved areas.  We are recognizing these subsidies into revenue on a straight line basis, which is consistent with how the costs related to these subsidies are being and are expected to be incurred. CAF Phase II is a multi-year program which requires us to deploy broadband to a specified number of households in each of the states where funding was accepted. Failure to meet our deployment obligations at the end of the program in 2020 will result in a return of a portion of the funding received. We regularly evaluate our ability to meet our broadband deployment obligations and adjust revenue accordingly.



We categorize our products, services and other revenues among the following five categories:











---

 



The following table provides a summary of revenues from external customers by the categories of Frontier’s products and services:





(c)   Goodwill and Other Intangibles :

Goodwill represents the excess of purchase price over the fair value of identifiable tangible and intangible net assets acquired. We undertake studies to determine the fair values of assets and liabilities acquired and allocate purchase prices to assets and liabilities, including property, plant and equipment, goodwill and other identifiable intangibles. We examine the carrying value of our goodwill and trade name annually as of December 31, or more frequently, as circumstances warrant, to determine whether there are any impairment losses. We test for goodwill impairment at the “operating segment” level, as that term is defined in GAAP .   During the second quarter of 2016, Frontier reorganized into seven regional operating segments, which are aggregated into one reportable segment.  In conjunction with the reorganization of our operating segments effective with the second quarter of 2016, we reassigned goodwill to our regional operating segments (reporting units) using a relative fair value allocation approach.  We tested for the impairment of goodwill and there was no indication of impairment at June 30, 2016.



Frontier amortizes finite-lived intangible assets over their estimated useful lives on the accelerated method of sum of the years digits. We review such intangible assets at least annually as of December 31 to assess whether any potential impairment exists and whether factors exist that would necessitate a change in useful life and a different amortization period.    





(2)   Recent Accounting Literature :



Revenue Recognition

In May 2014, the Financial Accounting Standards Board ( FASB ) issued Accounting Standards Update ( ASU ) No. 2014-09, “Revenue from Contracts with Customers.”   This standard , along with its related amendments, requires companies to recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the company expects to be entitled in exchange for those goods or services. This new standard is effective for annual and interim reporting periods beginning after December 15, 2017. Companies are also permitted to voluntarily adopt the new standard as of the original effective date that was for annual reporting periods beginning after December 15, 2016. Companies are permitted to either apply the requirements retrospectively to all prior periods presented, or apply the requirements in the year of adoption, through a cumulative adjustment. Frontier is currently evaluating the adoption of the new standard to determine the impact that it will have on Frontier’s processes, systems and internal controls , but has not yet selected a transition method or determined the impact of adoption on its consolidated financial statements.    



Employee Benefit Plans

In July 2015, the FASB issued ASU No. 2015-12, “Plan Accounting: Defined Benefit Pension Plans (Topic 960), Defined Contribution Pension Plans (Topic 962), and Health and Welfare Benefit Plans (Topic 965)”: There are three parts to the ASU that aim to simplify the accounting and presentation of plan accounting. Part I of this ASU requires fully benefit-responsive investment contracts to be measured at contract value instead of the current fair value measurement. Part II of this ASU requires investments (both participant-directed and nonparticipant-directed investments) of employee benefit plans be grouped only by general type, eliminating the need to disaggregate the investments in multiple ways. Part

---

 

III of this ASU provides a similar measurement date practical expedient for employee benefit plans as available in ASU No. 2015-04, “Compensation – Retirement Benefits (Topic 715),” which allows employers to measure defined benefit plan assets on a month-end date that is nearest to the year’s fiscal year-end when the fiscal period does not coincide with a month-end. Parts I and II of the new guidance should be applied on a retrospective basis. Part III of the new guidance should be applied on a prospective basis. Th e adoption of ASU 2015-12 will impact certain of the disclosures related to our pension plan assets, but otherwise is not expected to have a material impact on our consolidated financial statements.



Leases

In February 2016, the FASB issued ASU No. 2016 – 02, “Leases (Topic 842).” This standard establishes the principles to report transparent and economically neutral information about the assets and liabilities that arise from leases. Upon implementation, l essees will need to recognize almost all leases on their balance sheet as a right-of-use asset and a lease liability. It will be critical to identify leases embedded in a contract to avoid misstating the lessee’s balance sheet. For income statement purposes, the FASB retained a dual model, requiring leases to be classified as either operating or finance. Classification will be based on criteria that are largely similar to those applied in current lease accounting, but without explicit bright lines. Lessor accounting is similar to the current model, but updated to align with certain changes to the lessee model and the new revenue recognition standard. Existing sale-leaseback guidance, including guidance for real estate, is replaced with a new model applicable to both lessees and lessors. The new guidance is effective for fiscal years beginning after December 15, 201 8 ,   including interim periods within those fiscal years. Early application is permitted .   Frontier is currently evaluating the impact of   adopting the new standard, but has not yet determined the impact of adoption on its consolidated financial statements.



Compensation – Stock Compensation

In March 2016 the FASB issued ASU   No.   2016-09 , “Improvements to Employee Share-Based Payment Accounting,” to amend ASC Topic 718, “Compensation – Stock Compensation.” The ASU is part of the FASB’s ongoing simplification initiative, which is designed to reduce cost and complexity while maintaining or improving the usefulness of the information provided to the users of financial statements. The proposed simplifications address a variety of areas for public entities, including the following: 1) accounting for income taxes, 2) classification of excess tax benefits on the statement of cash flows, 3) forfeitures, 4) minimum statutory tax withholding requirements, 5) classifications of employee taxes paid on the statement of cash flows when an employer withholds shares for tax withholding purposes, and 6) classification of awards with repurchase features. The new guidance is effective for fiscal years beginning after December 15, 2016, including interim periods within those fiscal years. Frontier is currently evaluating the impact of   adopting the new standard, but has not yet determined the impact of adoption on its consolidated financial statements.





Cash Flows – Classification of Certain Cash Receipts and Cash Payments

In August 2016 the FASB issued ASU No. 2016-15,” Statement of Cash Flows – Classification of Certain Cash Receipts and Cash Payments.” This ASU addresses eight specific cash flow issues with the objective of reducing the existing diversity in practice. The amendments in this ASU provide guidance on the following cash flow issues: 1) debt prepayme nt or debt extinguishment costs; 2) settlement of zero-coupon debt instruments ; 3) contingent consideration payments made after a   business combination ; 4) proceeds from the settlement of insurance claims ; 5) proceeds from the settlement of corporate-owned life insurance policies, including bank-owned life insurance policies ; 6) distributions received from equity method investees ; 7) beneficial interests in securitization transactions ; and 8) separately identifiable cash flows and application of the predominance principle. The new guidance is effective for fiscal years beginning after December 15, 2017 , including interim periods within those fiscal years. Early application is permitted. Frontier is currently evaluating the impact of adopting the new standard, but has not yet determined the impact of adoption on its consolidated financial statements.



(3)   Acquisitions :



The Verizon Acquisition

On April 1, 2016, Frontier acquired the wireline operations of Verizon Communications, Inc. in California, Texas and Florida for a purchase price of $10,540 million in cash and assumed debt (the Verizon Acquisition), pursuant to the February 5, 2015 Securities Purchase Agreement, as amended.  In addition, Frontier and Verizon settled the working capital and net debt adjustments with $15 million paid to Frontier in October 2016. As a result of the Verizon Acquisition, Frontier now operates these former Verizon properties, which included approximately   2.6 million total customers, 2.1 million broadband subscribers, and 1.2 million FiOS video subscribers as of April 1, 2016 (the CTF Operations).

---

 



Our consolidated statement of operations for the nine months ended September 30, 2016 includes $2,494   million of revenue and $45 4   million of operating income related to the six months of operating results of the CTF Operations since April 1, 2016 .  

   

The allocation of the purchase price presented below, which is preliminary and subject to change, represents the effect of recording the estimates of the fair value of assets acquired and liabilities assumed as of the date of the Verizon Acquisition, based on the total transaction cash consideration of $9,886 million at September 30, 2016, as adjusted for the $15 million settlement payment discussed above .   These current estimates will be revised in future periods for information that is currently not available to us, primarily related to certain legal and tax accruals and contingencies; accounts receivable; property, plant and equipment; customer list and other intangibles; deferred income tax assets and liabilities; pension assets and liabilities, as well as other assumed postretirement benefit obligations, pending completion of actuarial studies and the related transfer of pension assets.  The revisions may affect the presentation of our consolidated financial results. Any changes to the initial estimates of the fair value of the assets and liabilities will be recorded as adjustments to those assets and liabilities and residual amounts will be allocated to goodwill.  





The total consideration exceeded the net estimated fair value of the assets acquired and liabilities assumed by $2,341 million, which we recognized as goodwill. This goodwill is attributable to strategic benefits, including enhanced financial and operational scale, market diversification and leveraged combined networks that we expect to realize. Of this amount, goodwill associated with the Verizon Acquisition of $ 1,912 million is deductible for income tax purposes .



The fair value estimates related to the allocation of the purchase price to Property, plant & equipment and Other intangibles were revised and updated during the third quarter of 2016 from the initial estimates as of June 30, 2016.  The allocation that was reported as of June 30, 2016 for Property, plant & equipment decreased $1,378 million, from $7,693 million to $6,315 million, and for Other intangibles increased $1,029 million, from $1,160 million to $2,189 million.  These adjustments resulted in lower depreciation expense during the third quarter ( $57 million of which is attributable to the second quarter) and higher amortization expense during the third quarter ( $62 million of which is attributable to the second quarter).



The Securities Purchase Agreement provides for a post-closing adjustment for both pension liabilities and pension assets. Frontier and Verizon have not finalized the results of these calculations. Such calculations will be completed in accordance with the terms of the Securities Purchase Agreement.

   

The following unaudited pro forma financial information presents the combined results of operations of Frontier and the CTF Operations as if the Verizon Acquisition had occurred as of January 1, 2015. The pro forma information is not necessarily indicative of what the financial position or results of operations actually would have been had the Verizon Acquisition been completed as of January 1, 2015. In addition, the unaudited pro forma financial information is not indicative of, nor does it purport to project, the future financial position or operating results of Frontier. The unaudited pro forma financial information excludes acquisition and integration costs and does not give effect to any estimated and potential cost savings or other operating efficiencies that may result from the Verizon Acquisition.  



---

 

 

 

PART I.  FINANCIAL INFORMATION (Continued)

FRONTIER COMMUNICATIONS CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

 



		(Unaudited)
		For the three months ended					For the nine months ended September 30,
($ in millions, except per share amounts)		September 30, 2015					2016				2015
Revenue			$	2,797				$	7,846			$	8,346

Operating income			$	396				$	1,129			$	1,129

Net loss attributable to Frontier common shareholders			$	(32)				$	(164)			$	(152)

Basic and diluted net loss attributable to
Frontier common shareholders per share			$	(0.03)				$	(0.14)			$	(0.13)




During 2015, we completed our financing activities associated with the Verizon Acquisition, which included: 1) a private debt offering of $6,600 million of unsecured senior notes in September 2015, 2) the 2015 Credit Agreement (as defined below) for a senior secured delayed-draw term loan facility in August 2015 and 3) a registered offering of $2,750 million of preferred and common stock in June 2015.  Net proceeds from these debt and equity offerings together with the proceeds received from the delayed draw term loan facility and cash on hand were used to fund the Verizon Acquisition and pay related fees and expenses.



The Connecticut Acquisition  

On October 24, 2014, Frontier acquired the wireline properties of AT&T Inc. in Connecticut (the Connecticut Acquisition) for a purchase price of $2,018 million in cash, pursuant to the stock purchase agreement dated December 16, 2013, as amended.



Acquisition and Integration Costs

Acquisition costs include legal, financial advisory, accounting, regulatory and other related costs.  Integration costs include expenses incurred to integrate the network and information technology platforms and to enable other integration initiatives. 



Frontier incurred operating expenses related to the Verizon Acquisition and the Connecticut Acquisition, as follows:





We also invested $99 million and $78 million in capital expenditures related to the Verizon Acquisition during the nine months ended September 30, 2016 and 2015, respectively.  In connection with the Connecticut Acquisition, Frontier invested $23 million in capital expenditures during the nine months ended September 30, 2015. In connection with the Verizon Acquisition, we will incur additional operating expenses and capital expenditures in 2016 related to integration activities. 







---

 

(4)   Accounts Receivable :

The components of accounts receivable, net are as follows:









We maintain an allowance for doubtful accounts based on our estimate of our ability to collect accounts receivable. Bad debt expense, which is recorded as a reduction to revenue, was as follows:











(5)   Property, Plant and Equipment :

Property, plant and equipment, net is as follows:









Depreci ation expense is principally based on the composite group method. Depreciation expense was as follows:







We adopted new estimated remaining useful lives for certain plant assets as of October 1, 201 5 , as a result of an annual independent study of the estimated remaining useful lives of our plant assets, with an insignificant impact to depreciation expense. In addition, the estimated us eful lives for assets acquired in th e Verizon Acquisition were adopted for such assets based on this same study effective April 1, 2016.



(6)   Goodwill and Other Intangibles :  

The activity in our goodwill from January 1, 2016 to September 30, 2016 is as follows:  









---

 



The components of other intangibles are as follows:







Amortization expense was as follows:









Amortization expense represents the amortization of our customer list s acquired as a result of the Verizon Acquisition, the Connecticut Acquisition and the acquisition of certain Verizon properties in 2010 with each based on a useful life of 8 to 12 years on an accelerated method. 



(7)  Fair Value of Financial Instruments :

The following table summarizes the carrying amounts and estimated fair values for long-term debt at September 30, 2016 and December 31, 201 5 . For the other financial instruments including cash, accounts receivable, restricted cash, long-term debt due within one year, accounts payable and other current liabilities, the carrying amounts approximate fair value due to the relatively short maturities of those instruments.



The fair value of our long-term debt is estimated based upon quoted market prices at the reporting date for those financial instruments.









(8)













---

 

(8)   Long-Term Debt :    

       The activity in our long-term debt from January 1, 2016 through   September 30, 2016 is summarized as follows:













* Interest rate includes amortization of debt issuance costs and debt premiums or discounts. The interest rates at September 30, 2016 represent a weighted average of multiple issuances.



---

 

Additi onal information regarding our senior unsecured debt, senior secured d ebt and subsidiary debt is as follows:







*        Represents borrowings under the 2011 CoBank Credit Agreement, as defined below , that became secured as of April 1,

        2016 .

**      Represents borrowings under the 2014 CoBank Credit Agreement, as defined below , that became secured as of April 1,

        2016 .

***  Represents borrowings under the 2015 Credit Agreement, as defined below.

**** Interest rate represents a weighted average of the stated interest rates of multiple issuances.

---

 

During the third quarter of 2016, we completed non-cash debt exchanges, including related accrued interest, of  $167 million of our 8.25% Notes due April 2017 for approximately $171 million of our 10.5% Notes due September 2022 .   A pre-tax loss of approximately $7 million was recognized and included in “Investment and other income (loss), net” in our consolidated statements of operations.



In October 2016, we completed additional debt exchanges, including related accrued interest, of $84 million of our 8.25% Notes due April 2017 for approximately $66   m illion of our 8.875% Notes due September 2020 and   $17 million of our 10.5% Notes due September 2022 .



On August 12, 2015, Frontier entered into a credit agreement with JPMorgan Chase Bank, N.A., as administrative agent, and the lenders party thereto, for a $1,500 million senior secured delayed-draw term loan facility (the 2015 Credit Agreement). Frontier exercised its right under the 2015 Credit Agreement to obtain additional commitments and increased the size of the facility to $1,625 million. On April 1, 2016, in connection with the closing of the Verizon A cquisition, Frontier drew $1,550 million under that facility, with the additional $75 million drawn subsequently.   The final maturity date is March 31, 2021 .  Repayment of the outstanding principal balance will be made in quarterly installments, initially in the amount of $ 20 million per installment, which commenced on June 30, 2016 .  The quarterly installments will increase to $41 million, beginning with the 13th quarterly installment.  The remaining outstanding principal balance will be repaid on the final maturity date.  Borrowings under the term loan will bear interest based on margins over the Base Rate (as defined in the 2015 Credit Agreement) or LIBOR, at the election of Frontier.  Interest rate margins under the facility (ranging from 0.75% to 1.75% for Base Rate borrowings and 1.75% to 2.75% for LIBOR borrowings) are subject to adjustment based on Frontier’s Total Leverage Ratio (as defined in the 2015 Credit Agreement).  Borrowings under the 2015 Credit Agreement are secured by a pledge of the stock of Frontier North Inc., a wholly owned subsidiary , primarily representing Frontier operations in the states of Illinois, Indiana, Michigan, Ohio and Wisconsin.



Upon completion of the Verizon Acquisition on April 1, 2016, we also assumed additional debt of $600 million, including $200 million aggregate principal amount of 6.75% Senior Notes due May 15, 2027 ,   $300 million aggregate principal amount of 6.86% Senior Notes due February 1, 2028 and $100 million aggregate principal amount of 8.50% Senior Notes due November 15, 2031 .



On September 25, 2015, Frontier completed a private offering of $6,600 million aggregate principal amount of unsecured Senior Notes, as follows: $1,000 million of 8.875% Senior Notes due 2020 ;   $2,000 million of 10.500% Senior Notes due 2022 ; and $3,600 million of 11.000% Senior Notes due 2025 . Each was issued at a price equal to 100% of its princ ipal amount. Frontier use d the net proceeds from the offering (after deducting underwriting fees)   to finance a portion of the cash consideration pa id in connection with the Verizon Acquisition and to pay related fees and expenses. In June 2016 , we completed an exchange offer of registered senior notes for the privately placed senior notes. 



On February 5, 2015, we entered into a commitment for a bridge loan facility (the Verizon Bridge Facility) and recognized related interest expense of $10   million and $184 million during the nine months ended September 30 , 2016 and 2015, respectively. The accrued liabilities related to the Verizon Bridge Facility of $184 million were paid after the closing of the Verizon Acquisition and are included in “Other current liabilities” in the consolidated balance sheet as of December 31, 2015 .  The Verizon Bridge Facility terminated, in accordance with its terms, on September 25, 2015.



Frontier has two senior secured credit agreements with CoBank, ACB, as administrative agent, lead arranger and a lender, and the other lenders party thereto: the first, drawn in 2011 (the 2011 CoBank Credit Agreement), was refinanced in October 2016 with a similar facility for $315 million, maturing on October 12, 2021 (the 2016 CoBank Credit Agreement), and the second, drawn in 2014 (the 2014 CoBank Credit Agreement), matures on October 24, 2019. We refer to the 2011 CoBank Credit Agreement, the 2014 CoBank Credit Agreement and the 2016 CoBank Credit Agreement collectively as the CoBank Credit Agreements. Borrowings under the CoBank Credit Agreements are secured by a pledge of the stock of Frontier North, Inc.



Repayment of the outstanding principal balance for the 2016 CoBank Credit Agreement will be made in quarterly installments of approximately $8 million beginning December 31, 2016. The remaining outstanding principal balance will be repaid on the final maturity date. Borrowings under the term loan will bear interest based on margins over the Base Rate (as defined in the 2016 CoBank Credit Agreement) or LIBOR, at the election of Frontier. Interest rate margins under the facility (ranging from 0.875% to 2.875% for Base Rate borrowings and 1.875% to 3.875% for LIBOR borrowings)  

---

 

a re subject to adjustment based on Frontier’s Total Leverage Ratio (as defined in the 2016 CoBank Credit Agreement).  The term loan under the 2016 CoBank Credit Agreement is secured by a pledge of the stock of Frontier North Inc.



Frontier has a revolving credit agreement with JPMorgan Chase Bank, N.A., as administrative agent, the lenders party thereto and the other parties named therein (the Revolving Credit Agreement), for a $750 million revolving credit facility (the Revolving Credit Facility) with a scheduled termination date of May 31, 2018. As of September 30, 2016, the Revolving Credit Facility was fully available and no borrowings had been made thereunder. The Revolving Credit Facility is available for general corporate purposes but may not be used to fund dividend payments. Any borrowings under the Revolving Credit Agreement will be secured by a pledge of the stock of Frontier North, Inc.



As of September 30, 2016 , we were in compliance with all of our debt and credit facility covenants .



Our scheduled principal payments are as follows as of September 30, 2016 :  









As a result of the October debt exchanges and the 2016 CoBank Credit Agreement refinancing described above, we reclassified $354 million to “Long-term debt” that would otherwise have been classified as “Long-term debt due within one year.”  T h e maturities of the new debt instruments are reflected in the above table as of September 30, 2016.



(9) Investment and Other Income (Loss) , Net:

    The components of investment and other income (loss) , net are as follows:



---

 

For the nine months ended September 30, 2016 we received interest and dividend income of $ 12 million, primarily due to interest earned on restricted cash during the first quarter of 2016.







(10 )   Income Taxes:  

The following is a reconciliation of income taxes computed at the federal statutory rate to income taxes computed at the effective rate:  







Income taxes for the nine months ended September 30, 201 6 and 2015 include the impact of $ 16   million and $ 11 million , respectively,   of benefit s resulting from the adjustment of deferred tax balances due to the Verizon Acquisition i n 2016, and state tax law changes an d state filing method change s in 2015.   Income taxes for the nine months ended September  30, 2016 and 201 5 also include the impact of $6 million and $2 million , respectively, in benefits from the adjustment of Federal r esearch and development credits, along with a $12 million reversal of benefits and a $7 million benefit, respectively, related to the domestic production activities deduction.  



Amounts pertaining to income tax related accounts of $ 149   million and $50 million are included in “Income taxes and other current assets” in the consolidated balance sheets as of September 30, 2016 and December 31, 2015, respectively.



In February 2016, we received a Federal income tax refund of $32 million.  In October 2016, we received additional Federal income tax refunds of $81 million.





---

 

(11 )   Net Loss Per Share :

The reconciliation of the net loss per share calculation is as follows:







In calculating diluted net loss per share for the three and nine months ended September 30 , 2016 and 2015, the effect of all common stock equivalents is excluded from the computation as the effect would be antidilutive .



Stock Options

For the three and nine months ended September 30, 2016 and 2015 , options to purchase 40,000   and 68,000   shares, respectively, issuable under employee compensation plans were excluded from the computation of diluted earnings (loss) per share (EPS) for those periods because the exercise prices were greater than the average market price of our common stock and, therefore, the effect would be antidilutive. In calculating diluted EPS, we apply the treasury stock method and include future unearned compensation as part of the assumed proceeds.



Stock Units

At September 30, 2016 and 201 5 , we had 1,743,345 and 1,334,633 stock uni ts, respectively, issued under the Non-Employee Directors’ Deferred Fee Equity Plan (Deferred Fee Plan) , the Non-Employee Directors’ Equity Incentive Plan (Directors’ Equity Plan) and the 2013 Equity Incentive Plan . These securities have not been included in the diluted EPS calculation because their inclusion would have an antidilutive effect. There were no compensation costs associated with the issuance of stock units for the nine months ended September 30, 2016 and ($1) million for the nine months ended September 30, 201 5.



Mandatory Convertible Preferred Stock

The impact of the common share equivalents associated with the 19,250,000 shares of Series A Preferred stock were no t included in the diluted EPS calculation as of September 30 , 2016 and 2015, as their impact was anti dilutive.  

 



---

 

(12 )   Stock Plans :

At September 30, 2016 , we ha d   six  s tock-based compensation plans under which grants were made and awards remained outstanding. No further awards may be granted under five of the plans: the 1996 Equity Incentive Plan (the 1996 EIP), the Amended and Restated 2000 Equity Incentive Plan (the 2000 EIP), the 2009 Equity Incentive Plan (the 2009 EIP) , the Deferred Fee Plan and the Directors’ Equity Plan . At September 30, 2016 , there were 20,000,000 shares authorized for grant and 6,460,000 shares available for grant under the 2013 Equity Incentive Plan (the 2013 EIP and together with the 1996 EIP, the 2000 EIP and the 2009 EIP, the EIPs). Our general policy is to issue shares from treasury upon the grant of restricted shares and the exercise of options.



Performance Shares

On February 11 , 201 6 , the Compensation Committee of our Board of Directors granted approximately 1,6 69,000 performance shares under the Frontier Long Term Incentive Plan (the LTIP) and set the operating cash flow performance goal for 201 6 , which applies to the first year in the 201 6 -201 8 measurement period, the second year of the 201 5 -201 7 measurement period and the third year of the 201 4 -201 6 measurement period.



The following summary presents information regarding LTIP target performance shares as of September 30, 2016 and changes during the nine months then ended with regard to LTIP shares awarded under the 2009 EIP and the 2013 EIP:







For purposes of determining compensation expense, the fair value of each performance share is measured at the end of each reporting period and, therefore, will fluctuate based on the price of Frontier common stock as well as performance relative to the targets. For the nine months ended September 30, 2016 and 201 5 ,   we recognized compensation expense , reflected in “Selling, general and administrative expenses,”   of $4   million and $6   million , respectively, for the LTIP.



Restricted Stock

The following summary presents information regarding unvested restricted stock as of September 30, 2016 and changes during the nine months then ended with regard to restricted stock under the 2009 EIP and the 2013 EIP:







For purposes of determining compensation expense, the fair value of each restricted stock grant is estimated based on the average of the high and low market price of a share of our common stock on the date of grant. Total remaining unrecognized compensation cost associated with unvested restricted stock awards that is deferred at September 30, 2016 was $33   million , and the weighted average vesting period over which this cost is expected to be recognized is approximately 2 years.



---

 

Shares granted during the first nine months of 201 5   totaled 2,814,000 . The total fair value of shares of restricted stock granted and vested at September 30, 2015 was approximately $13 million and $15 million, respectively. The total fair value of unvested restricted stock at September 30, 2015 was $ 34 million. The weighted average grant date fair value of restricted shares granted during the nine months ended September 30, 2015 was $7.9 2 per share .



We have granted restricted stock awards to employees in the form of our common stock. None of the restricted stock awards may be sold, assigned, pledged or otherwise transferred, voluntarily or involuntarily, by the employees until the restrictions lapse, subject to limited exceptions. The restrictions are time-based. Compensation expense, recognized in “Selling, general and administrative expenses , ”   of $14 million and $13 million for the nine months ended September 30, 2016 and 201 5 , respectively, has been recorded in connection with these grants.



(1 3 )   Comprehensive Income (Loss) :

Comprehensive income (loss) consists of net income (loss) and other gains and losses affecting shareholders’ investment and pension/postretirement benefit (OPEB) liabilities that, under GAAP, are excluded from net loss.



The components of accumulated other comprehensive loss, net of tax at September 30, 2016 and 2015, and changes for the nine months then ended, are as follows:





As a resu lt of the Verizon Acquisition , the Frontier Communications Pension Plan (the Plan) was remeasured.  This remeasurement resulted in a   decrease in the discount rate from 4.5% at December 31, 2015 to 4.0% at the date of the Verizon Acquisition .  This change in the discount rate resulted in  a remeasurement charge to Other comprehensive i ncome (loss) of $10 5   million during the third quarter of 2016.



---

 

The significant items reclassified from each component of accumulated other comprehensive loss for the three and nine months ended September 30, 2016 and 2015 are as follows:





(a) Amounts in parentheses indicate losses.

(b) These accumulated other comprehensive loss components are included in the computation of net periodic pension and OPEB costs (see Note 1 4 - Retirement Plans for additional details).



















---

 

(1 4 )   Retirement Plans : 

The following tables provide the components of net periodic benefit cost:











During the first nine months of 2 01 6 and 201 5 , we capitalized $18 million and $15 million, respectively, of pension and OPEB expense into the cost of our capital expenditures, as the costs relate to our engineering and plant constructio n activities.



In connection with the completion of the Verizon Acquisition, certain employees were transferred to the Plan effective April 1, 2016. Our pension plan assets increased from $1,572 million at December 31, 2015 to $2,858 million at September 30, 2016, an increase of $1,286 million, or 82% . This increase was a result of cash transfers and accounts receivable from Verizon and the Verizon pension plan trusts of $1,127 million related to the Verizon Acquisition, positive investment returns of $235 million, net of investment management and administrative fees, and Frontier contributions of $25 million, partially offset by benefit payments of $101 million during the first nine months of 2016.



During the third quarter of 2016, Frontier contributed a real estate property with an aggregate fair value of $15 million for the purpose of funding a portion of its contribution obligations to the Plan. We have entered into a long-term lease arrangement with the Plan. The property is managed on behalf of the Plan by an independent fiduciary, and the terms of the lease were negotiated with the fiduciary on an arm’s-length basis. 



We made total contributions to our pension plan during the nine months ended September 30, 2016 of $25 million, consisting of cash payments of $10 million and the contribution of real property with a fair value of $15 million.  An additional cash contribution of $3 million was made on October 15, 2016, for total contributions of $28 million in 2016. Frontier estimates that there are no further contributions required for 2016.

   







---

 

(1 5 )   Commitments and Contingencies :

Although from time to time we make short-term purchasing commitments to vendors with respect to capital expenditures, we generally do not enter into firm, written contracts for such activities.



In June 2015, Frontier accepted the Federal Communications Commission’s (FCC) offer of support to price cap carriers under the Connect America Fund (CAF) Phase II program, which is intended to provide long-term support for broadband in high cost unserved or underserved areas . This program provides $332 million in annual support, including $49 million in annual support related to the properties acquired in the Verizon Acquisition ,   through 2020 to make available 10 Mbps downstream/1 Mbps upstream broadband service to approximately 774,000 households across certain of the 29 states where we now operate . To the extent we do not enable the required number of households with 10 Mbps downstream/1 Mbps upstream broadband service by the end of the CAF Phase II term, we will be required to return a portion of the funds previously received.



On April 28, 2016, the FCC completed its inquiry into whether certain terms and conditions contained in specifically identified special access tariff pricing plans offered by four carriers, including Fron tier, are just and reasonable. The FCC held that certain of the tariff terms for business data TDM services, specifically DS1s and DS3s, were unreasonable. Specifically, the FCC struck down “ excessive” early termination fees and “all-or-nothing” provisions. Frontier has revised its tariffs in ac cordance with the FCC’s Order. The FCC’s decision has no retroactive effect, and we anticipate no material impact to Frontier from it. 

 

The FCC deferred the issue of how its ruling will affect customers currently purchasing services from these tariffs to a Notice of Proposed Rulemaking. It is seeking comment on proposed changes to the way the FCC regulates traditional special access services and on a proposal to adopt pricing rules for Ethernet services in markets that are found to be “noncompetitive.”   The potential impact to Frontier of this proceeding is unknown, though any pending initiative could adversely affect our operations or financial results. 



During the first nine months of 2016, we increased our outstanding performance letters of credit from $50 million at December 31, 2015 to $125   million as of September 30, 2016.



We are party to various legal proceedings (including individual, class and putative class actions) arising in the normal course of our business covering a wide range of matters and types of claims including, but not limited to, general contracts, billing disputes, rights of access, taxes and surcharges, consumer protection, trademark and patent infringement, employment, regulatory, tort, claims of competitors and disputes with other carriers. 



In October 2013, the California Attorney General’s Office notified certain Verizon companies, including one of the subsidiaries that we acquired in the Verizon Acquisition, of potential violations of California state hazardous waste statutes primarily arising from the disposal of electronic components, batteries and aerosol cans at certain California facilities. We are cooperating with this investigation. While penalties relating to the alleged violations could exceed $100,000 , we do not expect that any penalties ultimately incurred will be material.



We accrue an expense for pending litigation when we determine that an unfavorable outcome is probable and the amount of the loss can be reasonably estimated. Legal defense costs are expensed as incurred.  None of our existing accruals for pending matters, after considering insurance coverage, is material. We monitor our pending litigation for the purpose of adjusting our accruals and revising our disclosures accordingly, when required. Litigation is, however, subject to uncertainty, and the outcome of any particular matter is not predictable. We will vigorously defend our interests in pending litigation, and as of this date, we believe that the ultimate resolution of all such matters, after considering insurance coverage or other indemnities to which we are entitled, will not have a material adverse effect on our consolidated financial position, results of operations, or our cash flows.