UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

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

For the quarterly period ended September 30, 2017

OR

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

Commission File Number: 001-36690

Zayo Group Holdings, Inc.

(Exact Name of Registrant as Specified in Its Charter)

 

DELAWARE		26-1398293
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification No.)

 

1805 29th Street, Suite 2050,

Boulder, CO 80301

(Address of Principal Executive Offices)

(303) 381-4683

(Registrant’s Telephone Number, Including Area Code)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.     Yes  ☒    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 (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  ☒    No  ☐

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

Large accelerated filer		☒		Accelerated filer		☐
Non-accelerated filer		☐  (Do not check if a smaller reporting company)		Smaller reporting company		☐
						
Emerging growth company		☐				

 

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ☐    No   ☒

The number of outstanding shares of common stock of Zayo Group Holdings, Inc. as of November 2, 2017, was 247,365,485 shares.

 

 

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ZAYO GROUP HOLDINGS, INC. AND SUBSIDIARIES

INDEX

 

 

 

 

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ZAYO GROUP HOLDINGS, INC. AND SUBSIDIARIES

 

PART I. FINANCIAL INFORMATION

 

ITEM 1. FINANCIAL STATEMENTS (UNAUDITED)

CONDENSED CONSOLIDATED BALANCE SHEETS (UNAUDITED)

(in millions, except share amounts)

		September 30, 2017			June 30, 2017
Assets
Current assets
Cash and cash equivalents		$	291.2		$	220.7
Trade receivables, net of allowance of $9.5 as of each of September 30, 2017 and June 30, 2017			225.7			191.6
Prepaid expenses			67.1			68.3
Other assets			26.2			34.0
Total current assets			610.2			514.6
Property and equipment, net			5,053.6			5,016.0
Intangible assets, net			1,170.8			1,188.6
Goodwill			1,844.1			1,840.2
Deferred income taxes, net			36.1			38.3
Other assets			147.6			141.7
Total assets		$	8,862.4		$	8,739.4
Liabilities and stockholders' equity
Current liabilities
Current portion of long-term debt		$	5.0		$	5.0
Accounts payable			65.2			72.4
Accrued liabilities			357.9			325.4
Accrued interest			86.0			63.5
Capital lease obligations, current			7.8			8.0
Deferred revenue, current			149.6			146.0
Total current liabilities			671.5			620.3
Long-term debt, non-current			5,537.5			5,532.7
Capital lease obligation, non-current			92.3			93.6
Deferred revenue, non-current			995.3			989.7
Deferred income taxes, net			40.5			40.2
Other long-term liabilities			45.8			52.4
Total liabilities			7,382.9			7,328.9
Commitments and contingencies (Note 10)
Stockholders' equity
Preferred stock, $0.001 par value - 50,000,000 shares authorized; no shares issued and outstanding as of September 30, 2017 and June 30, 2017, respectively			—			—
Common stock, $0.001 par value - 850,000,000 shares authorized; 247,361,267 and 246,471,551 shares issued and outstanding as of September 30, 2017 and June 30, 2017, respectively			0.2			0.2
Additional paid-in capital			1,907.7			1,884.0
Accumulated other comprehensive income			27.5			5.4
Accumulated deficit			(455.9)			(479.1)
Total stockholders' equity			1,479.5			1,410.5
Total liabilities and stockholders' equity		$	8,862.4		$	8,739.4

The accompanying notes are an integral part of these condensed consolidated financial statements.

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ZAYO GROUP HOLDINGS, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)

(in millions, except per share data)  

		Three Months Ended September 30,
		2017			2016
Revenue		$	643.5		$	504.9
Operating costs and expenses
Operating costs (excluding depreciation and amortization and including stock-based compensation—Note 8)			235.7			173.8
Selling, general and administrative expenses (including stock-based compensation—Note 8)			128.3			105.6
Depreciation and amortization			184.1			138.5
Total operating costs and expenses			548.1			417.9
Operating income			95.4			87.0
Other expenses
Interest expense			(73.6)			(53.3)
Loss on extinguishment of debt			(4.9)			—
Foreign currency gain/(loss) on intercompany loans			10.8			(11.2)
Other income/(expense), net			0.9			(0.2)
Total other expenses, net			(66.8)			(64.7)
Income from operations before income taxes			28.6			22.3
Provision for income taxes			5.4			6.6
Net income		$	23.2		$	15.7
Weighted-average shares used to compute net income per share:
Basic			246.5			242.6
Diluted			248.0			244.0
Net income per share:
Basic and diluted		$	0.09		$	0.06

 

The accompanying notes are an integral part of these condensed consolidated financial statements.

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ZAYO GROUP HOLDINGS, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (UNAUDITED)

(in millions)

		Three Months Ended September 30,
		2017			2016
Net income		$	23.2		$	15.7
Foreign currency translation adjustments			22.1			(2.1)
Defined benefit pension plan adjustments			—			(1.2)
Comprehensive income		$	45.3		$	12.4

 

The accompanying notes are an integral part of these condensed consolidated financial statements.

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ZAYO GROUP HOLDINGS, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDERS’ EQUITY (UNAUDITED)

THREE MONTHS ENDED SEPTEMBER 30, 2017

(in millions, except share data)

		Common Shares		Common Stock			Additional paid-in Capital			Accumulated Other Comprehensive Income			Accumulated Deficit			Total Stockholders' Equity
Balance at June 30, 2017		246,471,551		$	0.2		$	1,884.0		$	5.4		$	(479.1)		$	1,410.5
Stock-based compensation		889,716			—			23.7			—			—			23.7
Foreign currency translation adjustment		—			—			—			22.1			—			22.1
Net income		—			—			—			—			23.2			23.2
Balance at September 30, 2017		247,361,267		$	0.2		$	1,907.7		$	27.5		$	(455.9)		$	1,479.5

 

The accompanying notes are an integral part of these condensed consolidated financial statements.

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ZAYO GROUP HOLDINGS, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)

(in millions)

		Three Months Ended September 30,
		2017			2016
Cash flows from operating activities
Net income		$	23.2		$	15.7
Adjustments to reconcile net income to net cash provided by operating activities
Depreciation and amortization			184.1			138.5
Loss on extinguishment of debt			4.9			—
Non-cash interest expense			2.4			2.6
Stock-based compensation			27.8			32.0
Amortization of deferred revenue			(32.8)			(27.5)
Foreign currency (gain)/loss on intercompany loans			(10.8)			11.2
Deferred income taxes			2.7			4.8
Provision for bad debts			0.8			0.9
Non-cash loss on investments			0.1			0.3
Changes in operating assets and liabilities, net of acquisitions
Trade receivables			(32.0)			(1.9)
Accounts payable and accrued liabilities			53.4			5.6
Additions to deferred revenue			40.5			40.9
Other assets and liabilities			4.5			9.7
Net cash provided by operating activities			268.8			232.8
Cash flows from investing activities
Purchases of property and equipment			(193.4)			(208.3)
Other			—			1.5
Net cash used in investing activities			(193.4)			(206.8)
Cash flows from financing activities
Proceeds from debt			312.8			—
Principal payments on long-term debt			(311.9)			—
Principal payments on capital lease obligations			(1.7)			(1.0)
Payment of debt issue costs			(3.4)			(0.7)
Cash paid for Santa Clara acquisition financing arrangement			(1.3)			—
Net cash used in financing activities			(5.5)			(1.7)
Net cash flows			69.9			24.3
Effect of changes in foreign exchange rates on cash			0.6			(2.0)
Net increase in cash and cash equivalents			70.5			22.3
Cash and cash equivalents, beginning of year			220.7			170.7
Cash and cash equivalents, end of period		$	291.2		$	193.0
Supplemental disclosure of non-cash investing and financing activities:
Cash paid for interest, net of capitalized interest		$	54.3		$	13.2
Cash paid for income taxes		$	1.4		$	1.9
Non-cash purchases of equipment through capital leasing		$	0.1		$	3.3
Increase/(decrease) in accounts payable and accrued expenses for purchases of property and equipment		$	(18.0)		$	11.4

 

Refer to Note 2 — Acquisitions for details regarding the Company’s recent acquisitions.

 

The accompanying notes are an integral part of these condensed consolidated financial statements.

 

 

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(1) BUSINESS AND BASIS OF PRESENTATION

Business

Zayo Group Holdings, Inc., a Delaware corporation, was formed on November 13, 2007, and is the parent company of a number of subsidiaries engaged in bandwidth infrastructure services. Zayo Group Holdings, Inc. and its subsidiaries are collectively referred to as “Zayo Group Holdings” or the “Company.” The Company’s primary operating subsidiary is Zayo Group, LLC (“ZGL”). Headquartered in Boulder, Colorado, the Company operates bandwidth infrastructure assets, including fiber networks and data centers, in the United States, Canada and Europe to offer:

The Company’s shares are listed on the New York Stock Exchange (NYSE) under the ticker symbol “ZAYO”.

Basis of Presentation

The accompanying condensed consolidated financial statements include all the accounts of the Company and its wholly-owned subsidiaries. All inter-company accounts and transactions have been eliminated in consolidation. The accompanying condensed consolidated financial statements and related notes are unaudited and have been prepared in accordance with accounting principles generally accepted in the United States (“GAAP”) for interim financial reporting and pursuant to the rules and regulations of the Securities and Exchange Commission (the “SEC”) for quarterly reports on Form 10-Q, and do not include all of the note disclosures required by GAAP for complete financial statements. These condensed consolidated financial statements should, therefore, be read in conjunction with the consolidated financial statements and notes thereto for the year ended June 30, 2017 included in the Company’s Annual Report on Form 10-K for the year ended June 30, 2017. In the opinion of management, all adjustments considered necessary for a fair presentation of financial position, results of operations and cash flows of the Company have been included herein. The results of operations for the three months ended September 30, 2017 are not necessarily indicative of the operating results for any future interim period or the full year.

The Company’s fiscal year ends June 30 each year, and we refer to the fiscal year ending June 30, 2018 as “Fiscal 2018” and the fiscal year ended June 30, 2017 as “Fiscal 2017.”

Earnings per Share

Basic earnings per share attributable to the Company’s common shareholders is computed by dividing net earnings attributable to common shareholders by the weighted average number of common shares outstanding for the period. Diluted earnings per share attributable to common shareholders presents the dilutive effect, if any, on a per share basis of potential common shares (such as restricted stock units) as if they had been vested or converted during the periods presented.

The Company’s computation of diluted income per share for the three months ended September 30, 2017 and 2016 included an adjustment of 1.5 million and 1.4 million shares, respectively, to the weighted-average shares to account for the dilutive effect of the Part A and Part B units and related issuance of common shares upon vesting  (see Note 8 – Stock-based Compensation )  (calculated using the treasury method).

Significant Accounting Policies

There have been no changes to the Company’s significant accounting policies described in its Annual Report on Form 10-K for the year ended June 30, 2017.  

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Use of Estimates

The preparation of the Company’s condensed consolidated financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, and disclosures of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expense during the reporting period. Significant estimates are used when establishing allowances for doubtful accounts and accruals for billing disputes, determining useful lives for depreciation and amortization and accruals for exit activities associated with real estate leases, assessing the need for impairment charges (including those related to intangible assets and goodwill), determining the fair values of assets acquired and liabilities assumed in business combinations, accounting for income taxes and related valuation allowances against deferred tax assets, determining the defined benefit costs and defined benefit obligations related to post-employment benefits and estimating certain restricted stock unit grant fair values used to compute the stock-based compensation liability and expense. Management evaluates these estimates and judgments on an ongoing basis and makes estimates based on historical experience, current conditions, and various other assumptions that are believed to be reasonable under the circumstances. The results of these estimates form the basis for making judgments about the carrying values of assets and liabilities as well as identifying and assessing the accounting treatment with respect to commitments and contingencies. Actual results may differ from these estimates under different assumptions or conditions.

Recently Issued Accounting Pronouncements

In August 2016, the  Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2016-15, Statement of Cash Flows (Topic 230): Classifications of Certain Cash Receipts and Cash Payments. The new standard provides guidance for eight changes with respect to how cash receipts and cash payments are classified in the statement of cash flows, with the objective of reducing diversity in practice. The standard is effective for fiscal years, and interim periods within those fiscal years, beginning after  December 31, 2017 , with early adoption permitted. The Company does not plan to early adopt, nor does it expect the adoption of this new standard to have a material impact on its condensed consolidated financial statements.

In February 2016, the FASB issued ASU 2016-02,  Leases .   The new guidance supersedes existing guidance on accounting for leases in Topic 840 and is intended to increase the transparency and comparability of accounting for lease transactions. ASU 2016-02 requires most leases to be recognized on the balance sheet. Lessees will need to recognize a right-of-use asset and a lease liability for virtually all leases. The liability will be equal to the present value of lease payments. The asset will be based on the liability, subject to adjustment, such as for initial direct costs. For income statement purposes, the FASB retained a dual model, requiring leases to be classified as either operating or finance. Lessor accounting remains similar to the current model, but updated to align with certain changes to the lessee model and the new revenue recognition standard (ASU 2014-09). The ASU will require both quantitative and qualitative disclosures regarding key information about leasing arrangements. The standard is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2018. Early adoption is permitted. The standard must be adopted using a modified retrospective transition, and provides for certain practical expedients. Transition will require application of the new guidance at the beginning of the earliest comparative period presented. The Company established a project team and commenced an initial impact assessment process. To date, the Company has reviewed a sample of lessee and lessor arrangements and made preliminary assessments of the impact this standard will have on the consolidated financial statements. Although it is still assessing the impact of this standard, the Company expects the new guidance to significantly increase the reported assets and liabilities on the consolidated balance sheets. There are currently no plans to early adopt this ASU.

In May 2014, the FASB issued ASU 2014-09,  Revenue from Contracts with Customers , which requires an entity to recognize the amount of revenue to which it expects to be entitled for the transfer of promised goods or services to customers. The ASU will replace most existing revenue recognition guidance in GAAP when it becomes effective. In July 2015, the FASB deferred the effective date to annual reporting periods and interim reporting periods within annual reporting periods beginning after   December 15, 2017.  Early adoption is permitted as of the original effective date or annual reporting periods and interim reporting periods within annual reporting periods beginning after December 15, 2016. The standard permits the use of either the retrospective or cumulative effect transition method .

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In Fiscal 2017, the Company established a project team and commenced an initial impact assessment process based on a review of a sample of contracts with its customers. Lease revenue is not included in the scope of ASU 2014-09 and as a result the revenue to which the Company must apply the new guidance is generally limited to service revenue, certain maintenance revenue not covered by lease arrangements and other fees charged to customers. Although the Company is still assessing the impact of this standard on its consolidated financial statements, it has preliminarily determined that due to changes in the timing of recognition of certain installation services, discounts and promotional credits given to customers, there may be additional contract assets and liabilities recorded in the consolidated balance sheets upon adoption. Additionally, the requirement to defer incremental costs incurred to acquire a contract including sales commissions, and recognize such costs over the contract period or expected customer life may result in additional deferred charges recognized in the consolidated balance sheets and could have the impact of deferring operating expenses. The assessment of the impact of this standard on the Company’s consolidated financial statements also includes developing new accounting policies, internal controls and procedures and possible changes to our systems to facilitate the adoption of this accounting policy. The Company plans to adopt this new standard as of July 1, 2018 and based on its initial assessment expects to apply the modified retrospective method, which may result in a cumulative effect adjustment as of the date of adoption. The Company's initial assessment of changes to the reporting of its revenue and expenses and anticipated adoption method may change depending on the results of the Company’s ongoing and final assessment of this ASU. Until the Company is further along in its assessment, it does not anticipate being able to provide reasonably accurate estimates of the impact of ASU 2014-09.

(2) ACQUISITIONS

Since inception, the Company has consummated 41 transactions accounted for as business combinations. The acquisitions were executed as part of the Company’s business strategy of expanding through acquisitions. The acquisitions of these businesses have allowed the Company to increase the scale at which it operates, which in turn affords the Company the ability to increase its operating leverage, extend its network reach, and broaden its customer base.

The accompanying condensed consolidated financial statements include the operations of the acquired entities from their respective acquisition dates.

Acquisitions Completed During Fiscal 2017

KIO Networks US Data Centers

 

On May 1, 2017, the Company completed the $11.9 million cash acquisition of Castle Access, Inc.’s (d/b/a “KIO Networks US”) San Diego data centers.   The two data centers, located at 12270 World Trade Drive and 9606 Aero Drive, total more than 100,000 square feet of space and 2 megawatts of critical, IT power, with additional power available. As of September 30, 2017, $1.2 million of the purchase consideration is being held in escrow pending the expiration of the indemnification adjustment period. The acquisition was funded with cash on hand and was considered a stock purchase for tax purposes.

Electric Lightwave Parent, Inc.

 

On March 1, 2017, the Company acquired Electric Lightwave Parent, Inc. (“Electric Lightwave”) , an infrastructure and telecom services provider serving 35 markets in the western U.S., for net purchase consideration of $1,426.6 million, net of cash acquired, subject to certain post-closing adjustments.  As of September 30, 2017, $7.0 million of the purchase consideration is being held in escrow pending the expiration of the indemnification adjustment period.  The acquisition was funded through debt (see Note 5 –  Long-Term Debt ) and cash on hand.  As of September 30, 2017, $0.2 million of the net purchase consideration remains payable by the Company.  The acquisition was considered a stock purchase for tax purposes.

The acquisition added 8,100 route miles of long haul fiber and 4,000 miles of dense metro fiber across Denver, Minneapolis, Phoenix, Portland, Seattle, Sacramento, San Francisco, San Jose, Salt Lake City, Spokane and Boise, with on-net connectivity to more than 3,100 enterprise buildings and 100 data centers. 

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Santa Clara Data Center Acquisition

On October 3, 2016, the Company acquired a data center in Santa Clara, California (the “Santa Clara Data Center”), for net purchase consideration of $11.3 million. The net purchase consideration represents the net present value of ten quarterly payments of approximately $1.3 million beginning in the December 2016 quarter. As of September 30, 2017, the remaining cash consideration to be paid was $7.7 million. The acquisition was considered an asset purchase for tax purposes and a business combination for accounting purposes. Payments made to the previous owners of the Santa Clara Data Center during the three months ended September 30, 2017 of $1.3 million, representing the principal portion of the financing arrangement, are included in the consolidated statement of cash flows within financing activities.

The Santa Clara Data Center, located at 5101 Lafayette Street, includes 26,900 total square feet and three megawatts (MW) of critical power. The facility also includes high-efficiency power and cooling infrastructure, seismic reinforcement and proximity to Zayo’s long haul dark fiber routes between San Francisco and Los Angeles.

Acquisition Method Accounting Estimates

The Company initially recognizes the assets and liabilities acquired from the aforementioned acquisitions based on its preliminary estimates of their acquisition date fair values. As additional information becomes known concerning the acquired assets and assumed liabilities, management may make adjustments to the opening balance sheet of the acquired company up to the end of the measurement period, which is no longer than a one year period following the acquisition date. The determination of the fair values of the acquired assets and liabilities assumed (and the related determination of estimated lives of depreciable tangible and identifiable intangible assets) requires significant judgment. As of September 30, 2017 , for the KIO Networks US Data Centers and Electric Lightwave acquisitions, the Company has not completed its fair value analysis and calculations in sufficient detail necessary to arrive at the final estimates of the fair value of certain working capital and non-working capital acquired assets and assumed liabilities, including the allocations to goodwill and intangible assets, property and equipment, deferred revenue and resulting deferred taxes. All information presented with respect to certain working capital and non-working capital acquired assets and liabilities assumed as it relates to these acquisitions is preliminary and subject to revision pending the final fair value analysis.

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The table below reflects the Company's estimates of the acquisition date fair values of the assets and liabilities assumed from its Fiscal 2017 acquisitions:

 

 

The goodwill arising from the Company’s acquisitions results from synergies, anticipated incremental sales to the acquired company customer base and economies-of-scale expected from the acquisitions. The Company has allocated the goodwill to the reporting units (in existence on the respective acquisition dates) that were expected to benefit from the acquired goodwill. The allocation was determined based on the excess of the estimated fair value of the reporting unit over the estimated fair value of the individual assets acquired and liabilities assumed that were assigned to the reporting units. See Note 3 –  Goodwill  for the allocation of the Company's acquired goodwill to each of its reporting units.

In the Company’s acquisitions, the Company acquired certain customer relationships. These relationships represent a valuable intangible asset, as the Company anticipates continued business from the acquired customer bases. The Company’s estimate of the fair value of the acquired customer relationships is generally based on a multi-period excess earnings valuation technique that utilizes Level 3 inputs .

Transaction Costs

Transaction costs include expenses associated with professional services (i.e., legal, accounting, regulatory, etc.) rendered in connection with signed and/or closed acquisitions or disposals, travel expense, severance expense incurred associated with acquisitions or disposals, and other direct expenses incurred that are associated with signed and/or closed acquisitions or disposals and unsuccessful acquisitions. The Company incurred transaction costs of $8.3 million and $3.0 million for the three months ended September 30, 2017 and 2016, respectively. Transaction costs have been included in selling, general and administrative expenses in the condensed consolidated statements of operations and in cash flows from operating activities in the condensed consolidated statements of cash flows during these periods.

 

 

 

 

 

 

 

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(3) GOODWILL

The Company’s goodwill balance was $1,844.1  million and $1,840.2 million as of September 30, 2017 and June 30, 2017, respectively.

The Company’s reporting units are comprised of its strategic product groups (“SPG” or “SPGs”). Effective January 1, 2017, the Company implemented organizational changes which had an impact on the composition of the Company’s SPGs .  The change in structure had the impact of consolidating and/or regrouping existing SPGs, disaggregating the legacy Zayo Canada SPG among the existing SPGs and a creating a new Allstream and IP Transit SPG (See Note 12 – Segment Reporting ). In connection with the organizational change, goodwill was re-allocated to the Company’s SPG’s on a relative fair value basis. The Company completed an assessment immediately prior to and after the organizational change at the SPG level and determined that it is more likely than not that the fair value of the Company’s reporting units is greater than their carrying amounts.          

As of September 30, 2017, the Company’s SPGs were comprised of the following: Fiber Solutions, Zayo Wavelength Services (“Waves”), Zayo IP Transit Services (“IP Transit”), Zayo SONET Services (“SONET”), Zayo Ethernet Services (“Ethernet”), Enterprise Private and Connectivity (“EPIC”), Zayo Cloud Services (“Cloud”),  Zayo Colocation (“zColo"), Allstream and Other (primarily Zayo Professional Services).

The following reflects the changes in the carrying amount of goodwill during the three months ended September 30, 2017:  

 

Product Group		As of June 30, 2017			Adjustments to Fiscal 2017 Acquisitions			Foreign Currency Translation and Other			As of September 30, 2017
		(in millions)
Fiber Solutions		$	633.9		$	0.2		$	2.5		$	636.6
Waves			247.4			—			1.3			248.7
Sonet			52.0			—			—			52.0
Ethernet			359.5			—			0.2			359.7
EPIC			89.5			—			0.2			89.7
zColo			256.3			(3.1)			0.9			254.1
Cloud			69.5			—			—			69.5
Allstream			116.5			—			—			116.5
Other			15.6			1.7			—			17.3
Total		$	1,840.2		$	(1.2)		$	5.1		$	1,844.1

 

 

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(4) INTANGIBLE ASSETS

Identifiable intangible assets as of September 30, 2017 and June 30, 2017 were as follows:

 

 

(5) LONG-TERM DEBT

As of September 30, 2017 and June 30, 2017, long-term debt was as follows:

 

		September 30,			June 30,
		2017			2017
		(in millions)
Term Loan Facility due 2021		$	497.5		$	498.8
Term Loan Facility due 2024			1,119.3			1,429.9
6.00% Senior Unsecured Notes due 2023			1,430.0			1,430.0
6.375% Senior Unsecured Notes due 2025			900.0			900.0
5.75% Senior Unsecured Notes due 2027			1,650.0			1,350.0
Total debt obligations			5,596.8			5,608.7
Unamortized discount on Term Loan Facility			(13.6)			(16.0)
Unamortized premium on 6.00% Senior Unsecured Notes due 2023			5.3			5.5
Unamortized discount on 6.375% Senior Unsecured Notes due 2025			(13.9)			(14.3)
Unamortized premium on 5.75% Senior Unsecured Notes due 2027			33.6			21.6
Unamortized debt issuance costs			(65.7)			(67.8)
Carrying value of debt			5,542.5			5,537.7
Less current portion			(5.0)			(5.0)
Long-term debt, less current portion		$	5,537.5		$	5,532.7

 

Term Loan Facility and Revolving Credit Facility

On May 6, 2015, ZGL and Zayo Capital, Inc. (“Zayo Capital”) entered into an Amendment and Restatement Agreement whereby the Credit Agreement (the “Credit Agreement”) governing their senior secured term loan facility (the “Term Loan Facility”) and $450.0 million senior secured revolving credit facility (the “Revolver”) was amended and restated in its entirety. The amended and restated Credit Agreement extended the maturity date of a portion of the

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outstanding term loans under the Term Loan Facility from July 2, 2019 to May 6, 2021. The interest rate margins applicable to the portion of the Term Loan Facility due in 2021 were decreased by 25 basis points to LIBOR plus 2.75% with a minimum LIBOR of 1.0%.  The terms of the Term Loan Facility required the Company to make quarterly principal payments of $5.1 million plus an annual payment of up to 50% of excess cash flow, as determined in accordance with the Credit Agreement (no such annual payment was required during Fiscal 2017 or Fiscal 2016).

Under the amended and restated Credit Agreement, the Revolver matures at the earliest of (i) April 17, 2020, and (ii) six months prior to the earliest maturity date of the Term Loan Facility, subject to amendment thereof.  The Credit Agreement also allows for letter of credit commitments of up to $50.0 million.  The Revolver is subject to a fee per annum of 0.25% to 0.375% (based on ZGL’s current leverage ratio) of the weighted-average unused capacity, and the undrawn amount of outstanding letters of credit backed by the Revolver are subject to a 0.25% fee per annum. Outstanding letters of credit backed by the Revolver accrue interest at a rate ranging from LIBOR plus 2.0% to LIBOR plus 3.0% per annum based upon ZGL’s leverage ratio.

On January 15, 2016, ZGL and Zayo Capital entered into an Incremental Amendment (the “Amendment”) to the Credit Agreement. Under the terms of the Amendment, the portion of the Term Loan Facility due 2021 was increased by $400.0 million (the “Incremental Term Loan”). The additional amounts borrowed bear interest at LIBOR plus 3.5% with a minimum LIBOR rate of 1.0%. The $400.0 million add-on was priced at 99.0%. No other terms of the Credit Agreement were amended.  The Incremental Term Loan proceeds were used to fund the Allstream acquisition and for general corporate purposes.

On July 22, 2016, ZGL and Zayo Capital entered into a Repricing Amendment (the “Repricing Amendment”) to the Credit Agreement.  Per the terms of the Repricing Amendment, the Incremental Term Loan was repriced at par and will bear interest at a rate of LIBOR plus 2.75%, with a minimum LIBOR rate of 1.0%, which represented a downward adjustment of 75 basis points. No other terms of the Credit Agreement were amended.

On January 19, 2017, ZGL and Zayo Capital entered into an Incremental Amendment No. 2 (the “Incremental Amendment”) to the Company’s Credit Agreement. Per the terms of the Incremental Amendment, the existing $1.85 billion of term loans under the Credit Agreement were repriced at 99.75% with one $500.0 million tranche that bears interest at a rate of LIBOR plus 2.0%, with a minimum LIBOR rate of 0.0% and a maturity date of four years from incurrence, which represents a downward adjustment of 75 basis points along with the lowering of the previous LIBOR floor, and a second $1.35 billion tranche (the “B-2 Term Loan” and along with the $500.0 million tranche, the “Refinancing Term Loans”) that bears interest at a rate of LIBOR plus 2.5%, with a minimum LIBOR rate of 1.0% and a maturity of seven years from incurrence, which represents a downward adjustment of 25 basis points.  In addition, per the terms of the Incremental Amendment, ZGL and Zayo Capital added a new $650.0 million term loan tranche under the Credit Agreement (the “Electric Lightwave Incremental Term Loan”) that bears interest at LIBOR plus 2.5%, with a minimum LIBOR rate of 1.0%, with a maturity of seven years from the closing date of the Incremental Amendment. In connection with the Incremental Amendment the full $2,500.0 million Term Loan Facility, including the Refinancing Term Loans and the Electric Lightwave Incremental Term Loan, was re-issued at a price of 99.75%.  Per the terms of the Incremental Amendment, the Revolver matures on April 17, 2020. No other material terms of the Credit Agreement were amended. On April 10, 2017, $570.1 million of the B-2 Term Loan and the Electric Lightwave Incremental Term Loan was repaid from proceeds of issuance of senior unsecured notes as further discussed below.

On July 20, 2017, ZGL and Zayo Capital entered into a second repricing (the “Repricing Amendment No. 2”) to the Credit Agreement. Per the terms of the Repricing Amendment No. 2, the outstanding balances of the B-2 Term Loan and Electric Lightwave Incremental Term Loan were repriced at par and will bear interest at a rate of LIBOR plus 2.25%, with a minimum LIBOR rate of 1.0%, which represented a downward adjustment of 25 basis points. No other terms of the Credit Agreement were amended.  

In connection with the Repricing Amendment No. 2, the Company recognized an expense of $4.9 million during the three months ended September 30, 2017 associated with debt extinguishment costs.  The $4.9 million loss on extinguishment of debt primarily represents non-cash expenses associated with the write-off of unamortized debt issuance costs and the issuance discounts on the portion of the Credit Agreement, as further amended.  The loss on extinguishment of debt also includes certain fees paid to third parties involved in the Repricing Amendment No. 2.

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Additionally, in April 2017, $310.7 million of the B-2 Term Loan was repaid from the proceeds of issuance of senior unsecured notes as further discussed below.

The weighted average interest rate (including margin) on the Term Loan Facility was approximately 3.4%  at each of September 30, 2017 and June 30, 2017. Interest rates on the Revolver as of September 30, 2017 and June 30, 2017 were approximately 4.0% and 3.8%, respectively.

As of September 30, 2017, no amounts were outstanding under the Revolver and $1,616.8 million in aggregate principal amount was outstanding under the Term Loan Facility. Standby letters of credit were outstanding in the amount of $7.8 million as of September 30, 2017, leaving $442.2 million available under the Revolver.

Senior Unsecured Notes

6.00% Senior Unsecured Notes due 2023

On January 23, 2015 and March 9, 2015, ZGL and Zayo Capital completed private offerings of aggregate principal amounts of $700.0 million and $730.0 million, respectively, of 6.00% senior unsecured notes due in 2023 (the “2023 Unsecured Notes”).  The 2023 Unsecured Notes bear interest at the rate of 6.00% per year, which is payable on April 1 and October 1 of each year. The 2023 Unsecured Notes will mature on April 1, 2023.  

6.375% Senior Unsecured Notes due 2025

On April 14, 2016, ZGL and Zayo Capital completed a private offering of $550.0 million aggregate principal amount of 2025 Unsecured Notes (the “Incremental 2025 Notes”). The Incremental 2025 Notes were priced at 97.76% and were an additional issuance of the $350.0 million 6.375% senior unsecured notes due in 2025 that were originally issued on May 6, 2015 (the “2025 Notes” and together with the Incremental 2025 Notes, the “2025 Unsecured Notes”). The net proceeds from the Incremental 2025 Notes, plus cash on hand, were used to (i) redeem the then outstanding $325.6 million 10.125% senior unsecured notes due 2020, including the required $20.3 million make-whole premium and accrued interest, and (ii) repay $196.0 million of borrowings under the then outstanding secured Term Loan Facility. The 2025 Unsecured Notes bear interest at the rate of 6.375% per year, which is payable on May 15 and November 15 of each year. The 2025 Unsecured Notes will mature on May 15, 2025.

5.75% Senior Unsecured Notes due 2027

On January 27, 2017, ZGL and Zayo Capital completed a private offering of $800.0 million aggregate principal amount of 5.75% senior unsecured notes due 2027 (the “January 2027 Notes”), which were issued at par. T he net proceeds from the offering, along with the Electric Lightwave Incremental Term Loan discussed above, were used to fund the Electric Lightwave acquisition (see Note 2 – Acquisitions ), which closed on March 1, 2017.

On April 10, 2017, the Company completed a private offering of $550.0 million aggregate principal amount of 5.75% senior unsecured notes due 2027 (the “Incremental 2027 Notes”). The Incremental 2027 Notes were an additional issuance of the January 2027 Notes and were priced at 104.0%. The net proceeds from the Incremental 2027 Notes were used to repay certain outstanding balances on the Company’s B-2 Term Loan.

On July 5, 2017, the Company completed a private offering of $300.0 million aggregate principal amount of 5.75% senior notes due 2027 (the “July Incremental 2027 Notes” and together with the Incremental 2027 Notes and the January 2027 Notes, the “2027 Unsecured Notes”). The July Incremental 2027 Notes were an additional issuance of the January 2027 Notes and Incremental 2027 Notes and were priced at 104.25%. The net proceeds of $310.7 million from the offering were used to further repay certain outstanding balances on the Company’s B-2 Term Loan. The 2027 Unsecured Notes bear interest at the rate of 5.75% per year, which is payable on January 15 and July 15 of each year. The 2027 Unsecured Notes will mature on January 15, 2027.

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Debt covenants

The indentures (the “Indentures”) governing the 2023 Unsecured Notes, the 2025 Unsecured Notes and the 2027 Unsecured Notes (collectively the “Notes”) contain covenants that, among other things, restrict the ability of ZGL and its subsidiaries to incur additional indebtedness and issue preferred stock, pay dividends or make other distributions with respect to any equity interests, make certain investments or other restricted payments, create liens, sell assets, incur restrictions on the ability of ZGL’s restricted subsidiaries to pay dividends or make other payments to ZGL, consolidate or merge with or into other companies or transfer all or substantially all of their assets, engage in transactions with affiliates, and enter into sale and leaseback transactions.  The terms of the Indentures include customary events of default.

The Credit Agreement contains customary events of default, including among others, non-payment of principal, interest, or other amounts when due, inaccuracy of representations and warranties, breach of covenants, cross default to certain other indebtedness, insolvency or inability to pay debts, bankruptcy, or a change of control. The Credit Agreement also contains a covenant, applicable only to the Revolver, that ZGL maintain a senior secured leverage ratio below 5.25:1.00 at any time when the aggregate principal amount of loans outstanding under the Revolver is greater than 35% of the commitments under the Revolver. The Credit Agreement also requires ZGL and its subsidiaries to comply with customary affirmative and negative covenants, including covenants restricting the ability of ZGL and its subsidiaries, subject to specified exceptions, to incur additional indebtedness, make additional guaranties, incur additional liens on assets, or dispose of assets, pay dividends, or make other distributions, voluntarily prepay certain other indebtedness, enter into transactions with affiliated persons, make investments and amend the terms of certain other indebtedness.

The Indentures limit any increase in ZGL’s secured indebtedness (other than certain forms of secured indebtedness expressly permitted under such indentures) to a pro forma secured debt ratio of 4.50 times ZGL’s previous quarter’s annualized modified EBITDA (as defined in the indentures), and limit ZGL’s incurrence of additional indebtedness to a total indebtedness ratio of 6.00 times the previous quarter’s annualized modified EBITDA.

The Company was in compliance with all covenants associated with its debt agreements as of September 30, 2017.

Guarantees

The Notes are fully and unconditionally guaranteed, jointly and severally, on a senior unsecured basis by all of ZGL’s current and future domestic restricted subsidiaries. The Notes were co-issued with Zayo Capital, which does not have independent assets or operations.

The Term Loan Facility and Revolver are fully and unconditionally guaranteed, jointly and severally, on a senior secured basis by all of ZGL’s current and future domestic restricted subsidiaries.

Debt issuance costs

In connection with the Credit Agreement (and subsequent amendments thereto), and the various Notes offerings, the Company incurred debt issuance costs of $113.1 million (net of extinguishments). These costs are being amortized to interest expense over the respective terms of the underlying debt instruments using the effective interest method, unless extinguished earlier, at which time the related unamortized costs are to be immediately expensed.

The balance of debt issuance costs as of September 30, 2017 and June 30, 2017 was $65.7 million and $67.8 million, net of accumulated amortization of $47.4 million and $45.1 million, respectively. The amortization of debt issuance costs is included on the condensed consolidated statements of cash flows within the caption “Non-cash interest expense” along with the amortization or accretion of the premium and discount on the Company’s indebtedness.  Interest expense associated with the amortization of debt issuance costs was $2.3 million and $2.2 million for the three months ended September 30, 2017 and 2016, respectively. 

Debt issuance costs are presented in the condensed consolidated balance sheets as a reduction to “Long-term debt, non-current.”

 

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(6) INCOME TAXES

A reconciliation of the actual income tax provision and the tax computed by applying the U.S. federal rate to the earnings before income taxes during the three month periods ended September 30, 2017 and 2016 is as follows:

 

 

The interim period effective tax rate is driven from year-to-date and anticipated pre-tax book income for the full fiscal year adjusted for anticipated items that are deductible/non-deductible for tax purposes only (i.e., permanent items). Additionally, the tax expense or benefit related to discrete permanent differences in an interim period are recorded in the period in which they occur.

 

The interim effective tax rate for the three months ended September 30, 2017 was positively impacted by lower tax rates on foreign earnings and foreign tax expense not recognized due to full valuation allowances recorded on certain foreign entities as well as reversing valuation allowances on deferred tax assets that are expected to be realized. The effective tax rate was negatively impacted by the smaller allowable deduction for stock-based compensation for tax purposes as compared to the book expense related to the Company’s Restricted Stock Unit plan (See Note 8 – Stock-based Compensation ).

 

The interim effective tax rate for the three months ended September 30, 2016 was positively impacted by the United Kingdom (“UK”) tax rate decrease as well as foreign tax expense not recognized due to full valuation allowances recorded on certain foreign entities. The effective tax rate was negatively impacted by pre-IPO non-deductible stock-based compensation and the excess of GAAP stock compensation expense, related to the Company’s Restricted Stock Unit plan, over what is deductible for income tax purposes.

 

The Company files income tax returns in various federal, state, and local jurisdictions including the United States, Canada, United Kingdom and France. In the normal course of business, the Company is subject to examination by taxing authorities throughout the world. With few exceptions, the Company is no longer subject to income tax examinations by tax authorities in major tax jurisdictions for years before 2012.

 

As of September 30, 2017, the Company has a $0.2 million current liability for uncertain tax positions related to state taxing jurisdictions, including $0.1 million of accrued interest and penalties. The Company recognizes interest and penalties related to uncertain tax positions in income tax expense. The entire balance is expected to be settled within the next year and would impact the effective tax rate if recognized.

 

As of September 30, 2017, the Company has removed the indefinite reinvestment assertion on several newly-operational foreign entities because it intends to remit the earnings. The Company has recorded an immaterial deferred tax liability in the quarterly tax provision. The indefinite reinvestment assertion remains for all other foreign subsidiaries.

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(7) EQUITY

During the three months ended September 30, 2017, the Company recorded a $23.7 million increase in additional paid-in capital associated with stock-based compensation expense related to the Company’s equity classified stock-based compensation awards (See Note 8 – Stock-based Compensation ).

(8) STOCK-BASED COMPENSATION

The following tables summarize the Company’s stock-based compensation expense for liability and equity classified awards included in the condensed consolidated statements of operations.

 

		Three Months Ended September 30,
		2017			2016
		(in millions)
Included in:
Operating costs		$	3.2		$	3.3
Selling, general and administrative expenses			24.6			28.7
Total stock-based compensation expense		$	27.8		$	32.0
CII common units		$	—		$	4.2
Part A restricted stock units			22.2			21.3
Part B restricted stock units			5.1			6.2
Part C restricted stock units			0.5			0.3
Total stock-based compensation expense		$	27.8		$	32.0

 

CII Common Units

During the three months ended September 30, 2016, the Company recognized $4.2 million of stock-based compensation expense related to vesting of common units of Communications Infrastructure Investments, LLC (“CII”).     On December 31, 2016, the CII common units became fully vested and as such there is no unrecognized compensation cost associated with CII common units for the three months ended September 30, 2017.

Performance Compensation Incentive Program

During October 2014, the Company adopted the 2014 Performance Compensation Incentive Program (“PCIP”).  The PCIP includes incentive cash compensation and equity (in the form of restricted stock units or “RSUs”).  Grants under the PCIP RSU plans are made quarterly for all participants. The PCIP was effective on October 16, 2014 and will remain in effect for a period of 10 years (or through October 16, 2024) unless it is earlier terminated by the Company’s Board of Directors.

The PCIP has the following components:

Part A

Under Part A of the PCIP, certain full-time employees, including the Company’s executives, are eligible to earn quarterly awards of RSUs. Each participant in Part A of the PCIP will have a RSU annual award target value, which will be allocated to each fiscal quarter. The final Part A value awarded to a participant for any fiscal quarter is determined by the Compensation Committee subsequent to the end of the respective performance period taking into account the Company’s measured value creation for the quarter, as well as such other subjective factors that it deems relevant (including group and individual level performance factors). The number of Part A RSUs granted will be calculated based on the final award value determined by the Compensation Committee divided by the average closing price of the Company’s common stock over the last ten trading days of the respective performance period. Part A RSUs will vest assuming continuous employment fifteen months subsequent to the end of the performance period. Upon vesting, the RSUs convert to an equal number of shares of the Company’s common stock.  Additionally, under Part A of the PCIP, awards may be granted to certain employees upon commencement of their employment with the Company.

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During the three months ended September 30, 2017 and 2016, the Company recognized $22.2 million and $21.3 million, respectively, of compensation expense associated with the vested portion of the Part A awards. The September 2017 and June 2017 quarterly awards were recorded as liabilities totaling $6.9 million and $5.5 million, as of September 30, 2017 and June 30, 2017, respectively, as the awards represent an obligation denominated in a fixed dollar amount to be settled in a variable number of shares during the subsequent quarter.  The quarterly stock-based compensation liability is included in “Accrued liabilities” in the accompanying condensed consolidated balance sheets. Upon the issuance of the RSUs, the liability is re-measured and then reclassified to additional paid-in capital, with a corresponding charge (or credit) to stock based compensation expense. The value of the remaining unvested RSUs is expensed ratably through the vesting date. At September 30, 2017, the remaining unrecognized compensation cost to be expensed over the remaining vesting period for Part A awards is $30.8 million.

The following table summarizes the Company’s Part A RSU activity for the three months ended September 30, 2017:

 

			Number of Part A RSUs		Weighted average grant-date fair value per share				Weighted average remaining contractual term in months
Outstanding at July 1, 2017			2,364,386		$	31.63			7.1
Granted			579,601			34.23
Vested			(771,519)			29.01
Forfeited			(142,880)			n/a
Outstanding at September 30, 2017			2,029,588		$	32.72			7.4

 

Part B

Under Part B of the PCIP, participants, including the Company’s executives, are awarded quarterly grants of RSUs. The number of the RSUs earned by the participants is based on the Company’s stock price performance over a performance period of one year with the starting price being the average closing price over the last ten trading days of the quarter immediately prior to the grant and vest. The RSU’s vest assuming continuous employment through the end of the measurement period. The existence of a vesting provision that is associated with the performance of the Company’s stock price is a market condition, which affects the determination of the grant date fair value.  Upon vesting, RSUs earned convert to an equal number of shares of the Company’s common stock.

The following table summarizes the Company’s Part B RSU activity for the three months ended September 30, 2017:

 

			Number of Part B RSUs		Weighted average grant-date fair value per unit				Weighted average remaining contractual term in months
Outstanding at July 1, 2017			411,973		$	42.86			6.1
Granted			163,960			19.06
Vested			(131,575)			75.56
Forfeited			(6,636)			n/a
Outstanding at September 30, 2017			437,722		$	23.97			6.3

 

 

The table below reflects the total Part B RSUs granted during Fiscal 2018 and 2017, the maximum eligible shares of the Company’s stock that the respective Part B RSU grant could be converted into shares of the Company’s common stock, and the grant date fair value per Part B RSU during the period indicated. The table below also reflects the units

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converted to the Company’s common stock at a vesting date that is subsequent to the period indicated for those RSUs granted during the period indicated:

 

 

		During the three months ended
		June 30, 2017			March 31, 2017			December 31, 2016			September 30, 2016
Part B RSUs granted			152,808			171,316			191,015			200,425
Maximum eligible shares of the Company's common stock			550,109			880,564			981,817			1,030,185
Grant date fair value per Part B RSU		$	26.52		$	27.39		$	75.56		$	47.00
Units converted to Company's common stock at vesting date			n/a			n/a			102,511			99,508

 

During the three months ended September 30, 2017 and 2016, the Company recognized stock-based compensation expense of $5.1 million and $6.2 million, respectively, related to Part B awards.

 

The grant date fair value of Part B RSU grants is estimated utilizing a Monte Carlo simulation.  This simulation estimates the ten-day average closing stock price ending on the vesting date, the stock price performance over the performance period, and the number of common shares to be issued at the vesting date. Various assumptions are utilized in the valuation method, including the target stock price performance ranges and respective share payout percentages, the Company’s historical stock price performance and volatility, peer companies’ historical volatility and an appropriate risk-free rate. The aggregate future value of the grant under each simulation is calculated using the estimated per share value of the common stock at the end of the vesting period multiplied by the number of common shares projected to be granted at the vesting date. The present value of the aggregate grant is then calculated under each of the simulations, resulting in a distribution of potential present values. The fair value of the grant is then calculated based on the average of the potential present values. The remaining unrecognized compensation cost associated with Part B RSU grants is $5.6 million at September 30, 2017.

Part C

Under Part C of the PCIP, independent directors of the Company are eligible to receive quarterly awards of RSUs.  Independent directors electing to receive a portion of their annual director fees in the form of RSUs are granted a set dollar amount of Part C RSUs each quarter.  The quantity of Part C RSUs granted is based on the average closing price of the Company’s common stock over the last ten trading days of the quarter ended immediately prior to the grant date and vest at the end of each quarter for which the grant was made.  During the three months ended September 30, 2017 and 2016, the Company’s independent directors were granted 15,686 and 10,611 Part C RSUs, respectively. During the three months ended September 30, 2017 and 2016, the Company recognized $0.5 million and $0.3 million, respectively, of stock-based compensation expense associated with the Part C awards.  

(9) FAIR VALUE MEASUREMENTS

The Company’s financial instruments consist of cash and cash equivalents, restricted cash, trade receivables, accounts payable, interest rate swaps, long-term debt, certain post-employment plans and stock-based compensation liability. The carrying values of cash and cash equivalents, restricted cash, trade receivables and accounts payable approximated their fair values at September 30, 2017 and June 30, 2017 due to the short maturity of these instruments.

The carrying value of the Company’s Notes, excluding debt issuance costs, reflects the original amounts borrowed, inclusive of net unamortized premium, and was $4,005.0 million and $3,692.8 million as of September 30, 2017 and