BROOMFIELD, Colo., July 24, 2003 - Level 3 Communications, Inc. (Nasdaq:LVLT) today announced its second quarter results. Consolidated revenue was $941 million for the second quarter compared to $1.23 billion for the previous quarter, which excludes $17 million and $20 million of revenue, respectively, from Software Spectrum's contact services business which is included in discontinued operations. Consolidated revenue for the second and first quarter includes $7 million and $326 million of revenue respectively, associated with customer terminations and settlements that had no cash impact. Consolidated revenue for the current quarter includes a full quarter of revenue from the Genuity transaction, which closed on February 4, 2003.
The net loss for the second quarter was $0.95 per share, or $462 million. Included in the net loss was a $190 million expense, or $0.39 loss per share, related to the premium that was paid for the full conversion of the company's 9% Junior Convertible Subordinated Notes due 2012.
Consolidated Adjusted EBITDA (Earnings before Interest, Taxes, Depreciation and Amortization) (see attached schedule of non-GAAP metrics) was $113 million for the second quarter, versus $95 million for the previous quarter. Consolidated EBITDA (see attached schedule of non-GAAP metrics) was $114 million in the second quarter versus $403 million for the previous quarter. Consolidated EBITDA for the previous quarter included $326 million in customer settlement and termination revenue that had no associated costs or cash impact.
Overview
"We exceeded our projections for the second quarter and continue to make steady progress. We saw modest improvements in our financial and operational metrics, including sales, for the communications business," said James Crowe, CEO of Level 3. "However, sales cycles continue to be longer than we would like. Level 3 continues to be a strong financial partner for its customers given our high incremental margins and the financial strength of our balance sheet."
The company reports financial information based on three operating segments: communications; information services; and other, which consists primarily of coal mining operations.
Second Quarter Financial Results Compared to Projections (1)
Metric($ in millions) |
Second Quarter Actuals |
Second Quarter Projections (1) |
| Communications Services Revenue (excluding Termination and Settlement Revenue) (2) | $389 | $380 |
| Reciprocal Compensation | $38 | $35 |
| Termination and Settlement Revenue | $7 | $10 |
| Communications Revenue | $434 | $425 |
| Information Services Revenue (3) | $491 | $500 |
| Other Revenue | $16 | $20 |
| Consolidated Revenue (3) | $941 | $945 |
| Consolidated EBITDA (4) | $114 | $89 |
| Capital Expenditures | $65 | $65 |
| Communications Gross Margin (5) | 76% | Mid 70% range |
(1) Projections issued April 24, 2003.
(2) Communications Services Revenue is communications revenue minus reciprocal compensation revenue.
(3) Second quarter projections include Software Spectrum's contact services business, which was sold in April 2003. Actual second quarter results do not include revenue from the contact services business of $17 million.
(4) Consolidated EBITDA includes $9 million in restructuring charges and excludes $25 million in stock-based compensation expense.
(5) See attached schedule of non-GAAP metrics for definition.
Consolidated Cash Flow and Liquidity
During the second quarter, unlevered cash flow was positive $65 million, versus negative $24 million for the first quarter (see attached schedule of non-GAAP metrics). For the six months ended June 30, 2003, unlevered cash flow was $41 million. Consolidated free cash flow was negative $31 million, versus the previous quarter of negative $128 million (see attached schedule of non-GAAP metrics).
As of June 30, 2003, the company's cash and marketable securities balance was $1.3 billion, including $400 million in restricted cash held as security under the company's senior secured credit facility. The 2.875% Convertible Senior Notes issued in July 2003 increased the company's cash and marketable securities balance by approximately $362 million. Including $400 million in restricted cash held as security under the company's senior secured credit facility, the company's pro-forma cash and marketable securities balance was approximately $1.7 billion.
Communications Business
Revenue Communications revenue for the second quarter was $434 million, versus $708 million for the previous quarter. The previous quarter included $326 million in customer settlement and termination revenue. Total communications revenue for the second quarter consisted of $396 million of communications services revenue and $38 million of reciprocal compensation revenue. Included in communications services revenue for the second quarter was $7 million of settlement and termination revenue. Communications services revenue, excluding settlement and termination revenue, increased by $48 million in the second quarter as compared to the previous quarter, primarily due to a full quarter of revenue from the Genuity transaction in the second quarter, versus the first quarter, which included approximately two months of Genuity revenue.
Cost of Revenue Communications cost of revenue for the second quarter was $103 million, resulting in a 76 percent communications gross margin (see attached schedule of non-GAAP metrics), versus cost of revenue of $89 million for the previous quarter, which resulted in an 87 percent communications gross margin. Excluding termination and settlement revenue of $7 million in the second quarter and $326 million in the first quarter, communications gross margin declined by one percent from the first quarter to the second quarter.
Communications cost of revenue increased in the second quarter due to a full quarter of expenses associated with the Genuity transaction, partially offset by lower circuit expenses as a result of further optimization of the Genuity network.
Selling, General and Administrative Expenses (SG&A) Communications SG&A expenses were $238 million for the second quarter, versus $231 million for the previous quarter. For the same periods, communications SG&A expenses include $24 million and $21 million of non-cash stock compensation expenses. The total number of employees in the communications business decreased to approximately 3,650 at the end of the second quarter from approximately 4,000 at the end of the previous quarter.
Communications SG&A expenses increased in the second quarter due to a full quarter of expenses associated with the Genuity transaction, partially offset by a reduction in costs associated with the Genuity integration, such as the elimination of duplicate facilities and reduction in headcount, and an $8 million reduction in property tax expense.
Earnings Before Interest, Taxes, Depreciation and Amortization (EBITDA)
Communications EBITDA (see attached schedule of non-GAAP metrics) was $112 million for the second quarter, including a restructuring charge of $5 million, versus $398 million for the previous quarter, which included $326 million of customer termination and settlement revenue and $11 million in restructuring charges. Communications EBITDA margin (see attached schedule of non-GAAP metrics) was 26 percent for the second quarter. For the six months ended June 30, 2003, communications EBITDA was $510 million.
Genuity Integration
"We have made good progress on the integration of the acquired Genuity operations into Level 3," said Kevin O'Hara, president and COO of Level 3. "With five months of integration behind us, we are increasingly confident about our integration timeline. We continue to eliminate duplicative network capacity and facilities, combine our network operating centers, and migrate customer traffic onto the Level 3 network."
Information Services Business
Results for the information services business include the Software Spectrum and (i)Structure subsidiaries. During the second quarter, the company sold Software Spectrum's contact services business, and the results for this business are reflected as discontinued operations in the statement of operations. For the first six months of 2003, the contact services business generated approximately $37 million in revenue.
"Given the softness in sales we began to experience at the beginning of the year, we have taken steps to reduce overall expenses through ongoing cost cutting and restructuring activities," said Charles Miller, vice chairman of Level 3. "We expect to be able to reduce our operating expense run rate by approximately 15 percent to 20 percent by the end of the year."
Revenue and EBITDA Information services revenue was $491 million for the second quarter, versus $506 million for the previous quarter. The decline in revenue for the second quarter was primarily the result of softness in sales and the continued adoption by Software Spectrum customers of Microsoft's new software licensing program. Microsoft's new software licensing program continues to result in a decline in revenue, but has no significant impact to profitability levels.
EBITDA (see attached schedule of non-GAAP metrics) from the information services business was $0.4 million for the second quarter, including $4 million in restructuring charges, compared to $3 million for the previous quarter. The restructuring charges recognized in the second quarter are a result of the ongoing integration and restructuring of Software Spectrum, as well as the closure of (i)Structure's operations in Ireland.
Primarily as a result of the sale of the contact services business, the total number of employees in the information services business decreased to approximately 1,800 at the end of the second quarter from approximately 3,500 at the end of the previous quarter.
Other Businesses The company's other businesses consist primarily of coal mining operations.
Revenue and EBITDA
Revenue and EBITDA from other businesses were $16 million and $2 million for the second quarter, unchanged from the previous quarter.
Corporate Transactions
Capital Structure Changes
During the second quarter, Level 3 reduced its outstanding debt by $580 million. The company converted $480 million of its 9% Junior Convertible Subordinated Notes due 2012 into approximately 168 million shares of Level 3 common stock and retired $100 million of 9.125% senior notes for approximately 13 million shares of Level 3 common stock. Level 3 had approximately 641.5 million outstanding shares of common stock as of June 30, 2003.
In July 2003, Level 3 completed an offering of approximately $374 million aggregate principal amount of its 2.875% Convertible Senior Notes due 2010 in an underwritten public offering. Net cash proceeds from the offering were $362 million.
"We're pleased with the improvement in our balance sheet," said Sunit Patel, CFO of Level 3. "We converted $580 million of high-coupon debt into equity and accessed the capital markets for the first time in over three years to issue low-coupon convertible debt."
Business Transactions
In May 2003, Level 3 exited the managed web hosting business it acquired in the Genuity transaction through an agreement with Computer Sciences Corporation (CSC). As part of the transaction, CSC agreed to use Level 3's network services to serve hosting customers.
In June 2003, Level 3 announced the sale of Software Spectrum's contact services business to H.I.G Capital, a Miami-based private equity firm. This business had revenue of approximately $37 million for the six months ended June 30, 2003. Historical results for this business, including the second quarter, are reflected as discontinued operations in the statement of operations.
Subsequent to the end of the second quarter, the company acquired Telverse Communications Inc., a provider of IP-based voice and data services headquartered in Dulles, VA. Consideration for the acquisition was approximately $30 million in Level 3 common stock.
"Telverse is an important building block in our ongoing effort to build a more significant presence in the voice-over-IP market," said Jack Waters, group vice president and president of softswitch services.
Subsequent to the end of the second quarter, Level 3 sold the former Genuity, Inc. headquarters building for approximately $20 million in cash.
Business Outlook
"We are realizing cost benefits as a result of our ongoing integration of the Genuity business," said James Crowe. "We expect to see further improvements in cash flow, particularly as we look toward the fourth quarter 2003. We are focused on long-term value creation by improving consolidated free cash flow through recurring revenue growth and new product development, as well as opportunistic acquisition activity."
Quarterly and Full Year Projections
Sunit Patel said, "For the full year 2003, we are tightening our range for communications revenue from $1.94 billion - $2.04 billion to $1.98 billion - $2.0 billion. We are comfortable with our previously issued full year projections for information services revenue and other revenue, communications gross margin, and unlevered cash flow, and we are increasing our projection for consolidated EBITDA by $20 million."
"Our third quarter projections show a decrease in communications revenue. This decrease is primarily a result of lower reciprocal compensation revenue, which decreases from $38 million in the second quarter to $25 million in the third quarter. The decrease is being driven by the expiration of existing interconnection agreements, which have either been renegotiated or by the adoption of the Federal Communication Commission's (FCC) mandated rates for dial-up traffic," said Patel. "Our recurring communications revenue continues to show modest growth. Our projected Consolidated EBITDA for the third quarter decreases due to the reduction in reciprocal compensation, restructuring charges in the information services business and the benefit of a reduction in property tax expenses in the second quarter, which increased Consolidated EBITDA by approximately $8 million."
Metric($ in millions) |
Third Quarter Projections |
Full Year 2003 Projections |
| Communications Services Revenue (excluding Termination and Settlement Revenue) | $390 | Not Provided |
| Reciprocal Compensation | $25 | Not Provided |
| Termination and Settlement Revenue | $5 | Not Provided |
| Communications Revenue | $420 | $1,980-$2,000 |
| Information Services Revenue | $490 | $2,000-$2,200 |
| Other Revenue | $20 | $70-$80 |
| Consolidated Revenue | $930 | $4,050-$4,280 |
| Consolidated EBITDA | $100 | $725-$775 |
| Capital Expenditures | $70 | Not Provided |
| Unlevered Cash Flow | Not Provided | $100-$125 |
| Communications Gross Margin | 76%-78% | high 70% range |
The company expects cash and marketable securities, including $400 million in restricted cash held as security under the company's senior secured credit facility, of approximately $1.6 billion at year-end.
The company continues to expect to turn Consolidated Free Cash Flow positive during the second quarter of 2004.
Summary
"I am encouraged by Level 3's ability to execute in this environment," said Crowe. "I believe that our ability to successfully integrate the Genuity transaction - coupled with our consistent financial and operating performance and our industry-leading provisioning times and quality of service - will enable Level 3 to continue to differentiate itself in the marketplace during 2003."
Conference Call Today
Level 3 will hold a conference call to discuss the company's second quarter results at 11 a.m. Eastern Time today. To join the call, please dial 612-326-1003. A live broadcast of the call can also be heard on Level 3's web site at www.level3.com. An audio replay of the call will be accessible through the web site or by dialing 320-365-3844; access code 687821.
Statement of Operations
Balance Sheets
Consolidated Cash Flow
View Schedule to Reconcile to non-GAAP Financial Metrics
About Level 3 Communications
Level 3 Communications, Inc. (NASDAQ: LVLT), an international communications company, operates one of the largest Internet backbones in the world, connecting 180 markets in 18 countries. The company serves a broad range of wholesale, enterprise and content customers with a comprehensive suite of services including: Internet Protocol (IP) services, broadband transport and infrastructure services, colocation services, voice and voice over IP services, content delivery and media distribution services. These services provide the building blocks to enable Level 3’s customers to meet their growing demands for advanced communications solutions. The company’s Web address is www.Level3.com.
"Level 3 Communications,” "Level 3," the red 3D brackets and the Level 3 Communications logo are registered service marks of Level 3 Communications, LLC in the United States and/or other countries. Level 3 services are provided by wholly owned subsidiaries of Level 3 Communications, Inc. Any other service, product or company names recited herein may be trademarks or service marks of their respective owners.
Forward-Looking Statement
Some of the statements that we make in this press release are forward looking in nature. These statements are based on management’s current expectations or beliefs. These forward looking statements are not a guarantee of performance and are subject to a number of uncertainties and other factors, many of which are outside our control, which could cause actual events to differ materially from those expressed or implied by the statements. The most important factors that could prevent us from achieving our stated goals include, but are not limited to our ability to: successfully integrate acquisitions; increase the volume of traffic on our network; defend our intellectual property and proprietary rights; develop new products and services that meet customer demands and generate acceptable margins; successfully complete commercial testing of new technology and information systems to support new products and services; attract and retain qualified management and other personnel; and meet all of the terms and conditions of our debt obligations. Additional information concerning these and other important factors can be found within Level 3’s filings with the Securities and Exchange Commission. Statements in this press release should be evaluated in light of these important factors. Level 3 is under no obligation to, and expressly disclaims any such obligation to, update or alter its forward-looking statements, whether as a result of new information, future events, or otherwise.
