Company Launches New Services
Level 3 Raises $374 Million In Senior Convertible Notes;
Raises $500 Million In Senior Notes;
Repays $1.125 Billion Senior Secured Credit Facility in Full
Company Achieves Positive Free Cash Flow(1)
BROOMFIELD, Colo, October 23, 2003 – Level 3 Communications, Inc. (Nasdaq:LVLT) today announced its third quarter results. Consolidated free cash flow(1) increased to positive $40 million for the third quarter compared to negative $34 million for the second quarter. Consolidated revenue was $874 million for the third quarter compared to a projection of $865 million to $900 million.
The net loss for the third quarter was $0.38 per share, or $247 million. As a result of the company’s pending sale of the Midwest Fiber Optic Network, a non-core network asset acquired in the Genuity transaction, those operating results are included in discontinued operations.
Consolidated EBITDA(1) was $116 million in the third quarter versus $111 million for the previous quarter and compared to a projection of $97 million to $102 million.
Overview
“I am pleased with our cash flow performance this quarter and think it is noteworthy that Level 3 turned free cash flow positive for the first time this quarter,” said James Q. Crowe, CEO of Level 3. “In addition, given our recent overall reductions in debt and capital markets activities, we have further strengthened our financial position and credit profile.”
The company reports financial information based on three operating segments: communications; information services; and other, which consists primarily of coal mining operations.
Third Quarter Financial Results Compared to Projections (1)
Metric |
|
Third Quarter Projections (1) |
| Communications Services Revenue (2) | $378 | $372-$382 |
| Reciprocal Compensation | $25 | $26 |
| Termination and Settlement Revenue | $10 | $7 |
| Communications Revenue | $413 | $405-$415 |
| Information Services Revenue | $437 | $440-$465 |
| Other Revenue | $24 | $20 |
| Consolidated Revenue | $874 | $865-$900 |
| Consolidated EBITDA (3) (4) | $116 | $97-$102 |
| Capital Expenditures | $52 | $60 |
| Communications Gross Margin (4) | 78% | 76%-78% |
(1) Projections issued September 22, 2003.
(2) Communications Services Revenue is GAAP communications revenue minus reciprocal compensation revenue.
(3) Consolidated EBITDA includes $14 million in restructuring charges and excludes $15 million in stock-based compensation expense.
(4) See schedule of non-GAAP metrics for definition.
Consolidated Cash Flow and Liquidity
During the third quarter, unlevered cash flow(1) was $144 million, versus $62 million for the second quarter. For the nine months ended September 30, 2003, unlevered cash flow was $180 million. Consolidated free cash flow for the third quarter was positive $40 million, versus negative $34 million for the previous quarter.
As of September 30, 2003, the company had cash and cash equivalents of approximately $1.7 billion, which included $400 million of restricted cash held as security under the company’s senior secured credit facility and excluded the issuance of $500 million aggregate principal amount of 10.75% Senior Notes due 2011 and the repayment of the company’s senior secured credit facility which occurred on October 1, 2003.
“Of significance this quarter is that the company achieved positive consolidated free cash flow for the first time,” said Sunit Patel, CFO of Level 3. “The improvement in our cash flow during the quarter is a result of our ongoing efforts to manage expenses and capital expenditures, as well as better than expected working capital performance. While we expect some quarter over quarter volatility in cash flow as a result of working capital changes and the timing of cash interest payments, we expect the positive trend seen over the past several quarters to continue.”
Communications Business
Revenue
Communications revenue for the third quarter was $413 million, versus $430 million for the previous quarter. Total communications revenue for the third quarter consisted of $388 million of communications services revenue and $25 million of reciprocal compensation revenue.
Included in communications services revenue was $10 million and $7 million of settlement and termination revenue for the third and second quarters respectively. Communications services revenue, excluding settlement and termination revenue, decreased by $7 million in the third quarter compared to the previous quarter, primarily due to declines in IP and softswitch revenue partially offset by an increase in transport and infrastructure revenue.
During the quarter, the company announced new agreements with several customers including Hughes Network Systems and SBC. Additionally, Level 3 announced that Sony Electronics had successfully transferred digital video segments over the Level 3 network using the company’s new (3)FlexSM Ethernet service.
Cost of Revenue
Communications cost of revenue for the third quarter was $91 million, resulting in a 78 percent communications gross margin(1), versus cost of revenue of $103 million for the previous quarter, which resulted in a 76 percent communications gross margin. Communications cost of revenue decreased in the third quarter due to lower circuit expenses as a result of continued migration of Genuity customer traffic and decreases in third party network costs due primarily to a favorable settlement recognized in the third quarter. Excluding the impact of the favorable settlement in the third quarter and insignificant adjustments made to third party network costs in the second quarter, communications gross margin was flat quarter over quarter at 77 percent.
Selling, General and Administrative Expenses (SG&A)
Communications SG&A expenses were $213 million for the third quarter, versus $237 million for the previous quarter. For the same periods, communications SG&A expenses include $14 million and $24 million of non-cash stock compensation expenses. The total number of employees in the communications business decreased to approximately 3,500 at the end of the third quarter from 3,650 at the end of the previous quarter.
Communications SG&A expenses decreased in the third quarter primarily due to the reduction in costs associated with the Genuity integration, including the elimination of duplicate facilities and reduction in headcount. Communications SG&A for the third and second quarter included a $10 million and an $8 million reduction associated with property taxes respectively.
Earnings Before Interest, Taxes, Depreciation and Amortization (EBITDA)
Communications EBITDA(1) was $120 million for the third quarter, including a restructuring charge of $3 million, versus $109 million for the previous quarter, which included $5 million in restructuring charges. Communications EBITDA margin(1) was 29 percent for the third quarter versus 25 percent in the previous quarter. For the nine months ended September 30, 2003, communications EBITDA was $625 million.
“Our communications EBITDA margins are now among the best in the industry, and we believe there is still substantial room for further improvement,” said Patel.
New Service Offerings
The company continues to focus on developing new products that leverage Level 3’s existing network infrastructure and address large, established markets for communications services, particularly voice services.
Level 3 has recently launched a number of new products in keeping with that strategy, including (3)ToneSM, a business voice service designed to augment or replace legacy enterprise communications systems at substantial cost savings. (3)Tone is an advanced version of the suite of services Level 3 obtained through its recent acquisition of Telverse Communications, and it can be delivered to customers across Level 3's extensive softswitch platform. Level 3 is marketing the service to businesses through local phone companies, foreign carriers, CLECs, and value-added resellers.
Other new services include:
• (3)FlexSM Ethernet, a wide area Ethernet data networking service;
• eRASSM, a remote access service for businesses in the U.S., and;
• (3)VoIP MARKETPLACESM, an enhanced voice service aimed at conferencing providers, call center operators
and other companies requiring IP-based local-calling capability throughout North America.
“We are pleased that we have been able to accelerate product development at Level 3, and we expect to be rolling out additional products that complement these new services in coming quarters,” said Kevin O’Hara,
Level 3’s president and COO. “These recently launched services, particularly our new voice services, significantly increase Level 3’s addressable market. We expect they will begin to make a real contribution to communications revenue in 2004.”
Genuity Integration
“We now have a good deal of the integration work behind us, and we are pleased that we are realizing the synergies we set out to achieve when we purchased this business in February 2003,” said O’Hara. “Overall progress on the integration continues to exceed our expectations.
“Additionally, upon the successful completion of the pending Midwest Fiber Optic Network sale, we will have sold approximately $35 million of non-core assets acquired as part of the Genuity acquisition including the former Genuity, Inc. headquarters building, its managed Web hosting business, and MFON.”
Information Services Business
Results for the information services business include the Software Spectrum and (i)Structure subsidiaries.
“While we have seen general softness in IT spending during 2003, we are pleased with our efforts to control costs in our information services business,” said Buddy Miller, vice chairman of Level 3. “Our restructuring efforts are on track and are expected to reduce our operating expense run rate at year end relative to mid-2003 by approximately 15 percent to 20 percent.”
Revenue and EBITDA
Information services revenue was $437 million for the third quarter, versus $491 million for the previous quarter. The decline in revenue for the third quarter was primarily the result of market softness, seasonality and the continued adoption by Software Spectrum’s customers of software publishers’ new agency-type software licensing programs. New agency-type software licensing programs are expected to continue to result in a decline in information services revenue, but are not expected to have a significant impact on profitability levels of the information services business.
EBITDA(1) from the information services business was negative $8 million for the third quarter, including $11 million in restructuring charges, compared to $0.4 million for the previous quarter which included $4 million in restructuring charges. The restructuring charges recognized in the third quarter are a result of the ongoing integration and restructuring of Software Spectrum, as well as the closure of certain facilities and operations in the U.S. and Europe.
The total number of employees in the information services business decreased to approximately 1,420 at the end of the third quarter from approximately 1,800 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(1) from other businesses were $24 million and $4 million for the third quarter versus $16 million and $2 million, respectively, from the previous quarter.
Corporate Transactions
Capital Structure Changes
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 approximately $361 million.
In October 2003, Level 3 Financing, Inc. completed an offering of $500 million aggregate principal amount of its 10.75% Senior Notes due 2011 in a private offering. Net cash proceeds from the offering were approximately $486 million, which combined with $643 million of cash and restricted cash on hand, were used to repay purchase money indebtedness and related expenses under the company’s $1.125 billion senior secured credit facility in full.
During the third quarter 2003, the company retired $57 million aggregate principal amount through debt-for-equity transactions.
The company has entered into an agreement to exchange approximately $352 million of book value of debt outstanding, as of September 30, 2003, including accrued interest, for approximately 20 million shares of common stock and $208 million of book value of 9% Convertible Senior Discount Notes due 2013. Interest will accrue for one year, and at the company’s option, interest may continue to accrue during years two through four. The Notes are convertible at $9.99 per share and the total number of shares issued upon conversion will range from approximately 22 million shares to approximately 30 million shares, depending upon the total accretion prior to conversion. This transaction is expected to close in October and will reduce the company’s cash interest expense by approximately $39 million through 2004.
“I am pleased with the results of our recent capital market activities and the overall reduction in our debt. These actions have further strengthened our financial position and credit profile,” said Patel. “With the successful completion of our capital market and debt reduction activities year to date, the company will have reduced its debt by approximately $780 million to approximately $5.3 billion and will not have any material debt principal payments until 2008. Additionally, we have significantly reduced our cash interest expense and eliminated financial covenants contained in the senior secured credit facility.”
Business Outlook
“While revenue growth for Level 3 and others in the industry remains challenging in the near-term, we have completed a series of steps over the past few quarters that positions us well,” Crowe said. “We are not only able to take advantage of future growth from increases in spending on communications services, but more importantly, we are significantly increasing the size of Level 3’s addressable market from our new product launches, largely the voice market. As evidenced by our results and activities this quarter, we are very focused on future growth and current cash flow generation. I believe we have built a solid financial and operational foundation upon which we can create significant value.”
Quarterly and Full Year Projections
Sunit Patel said, “Our fourth quarter communications services revenue projection reflects a continuation of recent revenue trends. Excluding a $10 million benefit to SG&A in the third quarter, we expect to see an improvement in our Consolidated EBITDA. Additionally, given the improvement in our cash flow performance in the third quarter, we are projecting unlevered cash flow for the full year 2003 of $125 million to $150 million, an increase of $25 million relative to previous projections.”
“In future quarters, we will not be issuing revenue projections for our information services business given the continuing adoption of agency-type licensing programs that make revenue trends less relevant in evaluating the performance of this business. Now that the majority of our restructuring efforts are completed, our overall focus in this business is on improving its EBITDA performance,” Patel continued.
“Additionally, we will be providing financial projections which emphasize GAAP metrics in keeping with industry practice that has resulted from recently enacted legislation.”
($ in millions) |
Fourth Quarter Projections |
Full Year 2003 (1) |
| Communications Services Revenue | $378-$388 | $1,479-$1,489 |
| Reciprocal Compensation | $28-$32 | $132-$136 |
| Termination and Settlement Revenue | $10-$16 | $353-$359 |
| Communications Revenue | $416-$436 | $1,964-$1,984 |
| Information Services Revenue | $450-$550 | $1,884-$1,984 |
| Other Revenue | $20 | $76 |
| Consolidated Revenue | $886-$1,006 | $3,924-$4,044 |
| Consolidated EBITDA | $110-$120 | $738-$748 |
| Capital Expenditures | $55 | $197 |
| Unlevered Cash Flow | ($30)-($55) | $125-$150 |
| Communications Gross Margin | 77%-79% | 80%-82% |
(1) Full year is the sum of actual results through September 30, 2003, plus fourth quarter projections.
Summary
“I am pleased with the continued improvement in our cash flows in the third quarter,” said Crowe. “I believe the new services we have launched and our quarterly financial results demonstrate the competitive advantages inherent in our network and the valuable service proposition we offer to our customer base.”
Conference Call Information
Level 3 will hold a conference call to discuss the company’s third 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 on the company’s Web site or by dialing 320-365-3844; access code 696685.
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.
